UNITED
      STATES


SECURITIES
      AND EXCHANGE COMMISSION


Washington,
      DC 20549





**FORM
      10-Q**





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





For
      the
      Quarterly Period Ended September 30, 2008





OR





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




For
      the
      transition period from  to





Commission
      file number  0-19214





**UNION
      NATIONAL FINANCIAL CORPORATION**


(Exact
      Name of Registrant as Specified in its Charter)





Pennsylvania
            
            23-2415179(State
                or Other Jurisdiction of
              Incorporation
                or Organization)
            
            (I.R.S.
                Employer Identification Number)570
                Lausch Lane, Suite 300
              Lancaster,
                Pennsylvania
            
            17601(Address
                of Principal Executive Offices)
            
            (Zip
                Code)





(717)
      492-2222


(Registrant's
      Telephone Number, Including Area Code)





Indicate
      by check mark whether the registrant: (1) has filed all reports required to
      be
      filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
      the
      preceding 12 months (or for such shorter period that the registrant was required
      to file such reports), and (2) has been subject to such filing requirements
      for
      the past 90 days.


Yes x  No  ̈





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





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





Indicate
      by check mark whether the registrant is a shell company (as defined in Rule
      12b-2 of the Act).


Yes  ̈  No x





Indicate
      the number of shares outstanding of each of the issuer’s classes of common
      stock, as of the latest practicable date.





2,720,076
      shares of $.25 (par) common stock were outstanding as of November 13,
      2008.





**UNION
      NATIONAL FINANCIAL CORPORATION**


**FORM
      10-Q**


**INDEX**





PAGE
                NO.**PART
                I –****FINANCIAL
                INFORMATION**Item
                1 -
            Financial
                Statements (Unaudited)Consolidated
                Statements of Financial ConditionAs
                of September 30, 2008 and December 31, 2007
            1Consolidated
                Statements of IncomeFor
                the Three and Nine Months Ended September 30, 2008 and
                2007
            2Consolidated
                Statements of Changes in Stockholders’ EquityFor
                the Nine Months Ended September 30, 2008 and 2007
            3Consolidated
                Statements of Cash FlowsFor
                the Nine Months Ended September 30, 2008 and 2007
            4Notes
                to Consolidated Financial Statements
            5
                -
                17Item
                2 -
            Management’s
                Discussion and Analysis ofFinancial
                Condition and Results of Operations
            18
                - 34Item
                3 -
            Quantitative
                and Qualitative Disclosures about Market Risk
            35Item
                4 -
            Controls
                and Procedures
            36Item
                4T -
            Controls
                and Procedures
            36**PART
                II –****OTHER
                INFORMATION**Item
                1 -
            Legal
                Proceedings
            36Item
                1A -
            Risk
                Factors
            37Item
                2 -
            Unregistered
                Sales of Equity Securities and Use of Proceeds
            37Item
                3 -
            Defaults
                upon Senior Securities
            38Item
                4 -
            Submission
                of Matters to a Vote of Security Holders
            38Item
                5 -
            Other
                Information
            38Item
                6 -
            Exhibits
            39Signatures
            40





*Unless
      the context otherwise requires, the terms “Union National,” “we,” “us,” and
“our” refer to Union National Financial Corporation and its consolidated
      subsidiary.*








**PART
      I – FINANCIAL INFORMATION**





**ITEM
      1 – FINANCIAL STATEMENTS**





**Union
      National Financial Corporation**


**Consolidated
      Statements of Financial Condition (Unaudited)**





(Dollars
                in thousands, except share data)
            
            September 30,
              2008
            
            December 31,
              2007**ASSETS**Cash
                and Due from Banks
            
            $
            17,509
            
            $
            16,700Interest-Bearing
                Deposits in Other Banks
            
            
            92
            
            
            227Federal
                Funds Sold
            
            
            ─
            
            
            20,955Total
                Cash and Cash Equivalents
            
            
            17,601
            
            
            37,882Interest-Bearing
                Time Deposits in Other Banks
            
            
            1,874
            
            
            ─Investment
                Securities Available-for-Sale
            
            
            74,280
            
            
            74,176Loans
                and Leases, Net of Unearned Income
            
            
            370,549
            
            
            364,337Less:
                Allowance for Loan and Lease Losses
            
            
            (3,886
            )
            
            (3,675
            )Net
                Loans and Leases
            
            
            366,663
            
            
            360,662Premises
                and Equipment, Net
            
            
            12,282
            
            
            9,038Restricted
                Investment in Bank Stocks
            
            
            3,779
            
            
            3,652Bank-Owned
                Life Insurance
            
            
            10,999
            
            
            10,669Other
                Assets
            
            
            6,036
            
            
            5,697**TOTAL
                ASSETS**
            
            $
            493,514
            
            $
            501,776**LIABILITIES**Deposits:Noninterest-Bearing
            
            $
            46,735
            
            $
            46,624Interest-Bearing
            
            
            322,644
            
            
            329,687Total
                Deposits
            
            
            369,379
            
            
            376,311Short-Term
                Borrowings
            
            
            21,429
            
            
            6,629Long-Term
                Debt
            
            
            51,334
            
            
            68,816Junior
                Subordinated Debentures
            
            
            17,341
            
            
            17,341Other
                Liabilities
            
            
            2,956
            
            
            3,879**TOTAL
                LIABILITIES**
            
            
            462,439
            
            
            472,976**STOCKHOLDERS'
                EQUITY**Common
                Stock, par value $0.25 per shareShares
                authorized - 20,000,000; Issued – 3,138,265 and 2,964,738 at September 30,
                2008 and December 31, 2007, respectively; Outstanding - 2,720,076
                and
                2,546,549 at September 30, 2008 and December 31, 2007,
                respectively
            
            
            785
            
            
            741Surplus
            
            
            14,872
            
            
            13,313Retained
                Earnings
            
            
            24,333
            
            
            23,063Accumulated
                Other Comprehensive (Loss) Income
            
            
            (586
            )
            
            12Treasury
                Stock, 418,189 shares, at cost
            
            
            (8,329
            )
            
            (8,329
            )**TOTAL
                STOCKHOLDERS' EQUITY**
            
            
            31,075
            
            
            28,800**TOTAL
                LIABILITIES and STOCKHOLDERS' EQUITY**
            
            $
            493,514
            
            $
            501,776





*See
      accompanying notes to unaudited consolidated financial
      statements.*


1





**Union
      National Financial Corporation**


**Consolidated
      Statements of Income (Unaudited)**





Three Months Ended September 30,
            
            Nine Months Ended September 30,(Dollars in thousands,
                except per share data)
            
            2008
            
            2007
            
            2008
            
            2007**INTEREST
                INCOME**Interest
                and Fees on Loans and Leases
            
            $
            6,158
            
            $
            6,864
            
            $
            18,665
            
            $
            20,078Investment
                Securities:Taxable
                Interest
            
            
            823
            
            
            908
            
            
            2,395
            
            
            2,526Tax-Exempt
                Interest
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            404Dividends
            
            
            39
            
            
            65
            
            
            107
            
            
            216Other
            
            
            17
            
            
            199
            
            
            239
            
            
            316Total
                Interest Income
            
            
            7,037
            
            
            8,036
            
            
            21,406
            
            
            23,540**INTEREST
                EXPENSE**Deposits
            
            
            2,139
            
            
            2,901
            
            
            7,293
            
            
            7,871Short-Term
                Borrowings
            
            
            123
            
            
            66
            
            
            188
            
            
            229Long-Term
                Debt
            
            
            671
            
            
            867
            
            
            2,130
            
            
            2,789Junior
                Subordinated Debentures
            
            
            264
            
            
            315
            
            
            830
            
            
            954Total
                Interest Expense
            
            
            3,197
            
            
            4,149
            
            
            10,441
            
            
            11,843Net
                Interest Income
            
            
            3,840
            
            
            3,887
            
            
            10,965
            
            
            11,697**PROVISION
                for LOAN and LEASE LOSSES**
            
            
            47
            
            
            230
            
            
            326
            
            
            707**NET
                INTEREST INCOME after PROVISION****for
                LOAN and LEASE LOSSES**
            
            
            3,793
            
            
            3,657
            
            
            10,639
            
            
            10,990**NON-INTEREST
                INCOME**Income
                from Fiduciary Activities
            
            
            42
            
            
            59
            
            
            200
            
            
            269Service
                Charges on Deposit Accounts
            
            
            504
            
            
            478
            
            
            1,450
            
            
            1,344Other
                Service Charges, Commissions, Fees
            
            
            288
            
            
            253
            
            
            822
            
            
            789Alternative
                Investment Sales Commissions
            
            
            231
            
            
            226
            
            
            638
            
            
            642Impairment
                Charge on Investment Security
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (450
            )Net
                Investment Securities (Losses) Gains
            
            
            (42
            )
            
            ─
            
            
            159
            
            
            78Mortgage
                Banking/Brokerage Activities
            
            
            31
            
            
            452
            
            
            67
            
            
            1,857Title
                Insurance/Settlement Income
            
            
            ─
            
            
            78
            
            
            ─
            
            
            301Earnings
                from Bank-Owned Life Insurance
            
            
            112
            
            
            108
            
            
            330
            
            
            317Other
                Income
            
            
            22
            
            
            94
            
            
            168
            
            
            379Total
                Non-Interest Income
            
            
            1,188
            
            
            1,748
            
            
            3,834
            
            
            5,526**NON-INTEREST
                EXPENSE**Salaries
                and Wages
            
            
            1,538
            
            
            1,839
            
            
            4,602
            
            
            6,090Retirement
                Plan and Other Employee Benefits
            
            
            370
            
            
            436
            
            
            1,114
            
            
            1,549Net
                Occupancy
            
            
            370
            
            
            452
            
            
            1,238
            
            
            1,743Furniture
                and Equipment
            
            
            273
            
            
            256
            
            
            749
            
            
            788Professional
                Fees
            
            
            71
            
            
            308
            
            
            544
            
            
            1,176Data
                Processing Services
            
            
            226
            
            
            222
            
            
            663
            
            
            661Pennsylvania
                Shares Tax
            
            
            53
            
            
            ─
            
            
            228
            
            
            156Advertising
                and Marketing
            
            
            179
            
            
            143
            
            
            366
            
            
            578ATM
                Processing
            
            
            80
            
            
            90
            
            
            226
            
            
            263Minority
                Interests in Earnings of Subsidiaries
            
            
            ─
            
            
            (140
            )
            
            ─
            
            
            (207
            )Restructuring
                Charge
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            717Other
                Expenses
            
            
            981
            
            
            1,289
            
            
            3,027
            
            
            2,895Total
                Non-Interest Expense
            
            
            4,141
            
            
            4,895
            
            
            12,757
            
            
            16,409Income
                Before Income Taxes (Benefit)
            
            
            840
            
            
            510
            
            
            1,716
            
            
            107**PROVISION
                for (BENEFIT from) INCOME TAXES**
            
            
            214
            
            
            117
            
            
            373
            
            
            (267
            )**NET
                INCOME**
            
            $
            626
            
            $
            393
            
            $
            1,343
            
            $
            374**EARNINGS
                PER SHARE**Basic
            
            $
            0.23
            
            $
            0.15
            
            $
            0.51
            
            $
            0.15Diluted
            
            
            0.23
            
            
            0.15
            
            
            0.51
            
            
            0.15Cash
                Dividends Paid
            
            
            ─
            
            
            0.06
            
            
            ─
            
            
            0.22





*See
      accompanying notes to unaudited consolidated financial
      statements.*


2


**Union
      National Financial Corporation**


**Consolidated
      Statements of Changes in Stockholders’ Equity (Unaudited)**





Nine Months Ended September 30, 2008(Dollars in thousands, except share data)
            
            Shares of
              Common
              Stock
              Outstanding
            
            Common
              Stock
            
            Surplus
            
            Retained
              Earnings
            
            Accumulated
              Other
              Comprehensive
              Income (Loss)
            
            Treasury
              Stock
            
            Total**Balance
                at December 31, 2007**
            
            
            2,546,549
            
            $
            741
            
            $
            13,313
            
            $
            23,063
            
            $
            12
            
            $
            (8,329
            )
            $
            28,800Comprehensive
                Income:Net
                Income
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            1,343
            
            
            ─
            
            
            ─
            
            
            1,343Net
                Change in Unrealized Gains (Losses) on Available-for-Sale Securities,
                Net
                of Tax
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (598
            )
            
            ─
            
            
            (598
            )Total
                Comprehensive Income
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            745Issuance
                of Common Stock under:Private
                Placement Stock Offering, Net of Costs
            
            
            172,132
            
            
            44
            
            
            1,546
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            1,590Dividend
                Reinvestment and Stock Purchase Plan
            
            
            745
            
            
            ─
            
            
            8
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            8Employee
                Plans
            
            
            650
            
            
            ─
            
            
            5
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            5Split
                Dollar Life Prior Period Adjustment
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (73
            )
            
            ─
            
            
            ─
            
            
            (73
            )**Balance
                at September 30, 2008**
            
            
            2,720,076
            
            $
            785
            
            $
            14,872
            
            $
            24,333
            
            $
            (586
            )
            $
            (8,329
            )
            $
            31,075





Nine
                Months Ended September 30, 2007Shares of
              Common
              Stock
              Outstanding
            
            Common
              Stock
            
            Surplus
            
            Retained
              Earnings
            
            Accumulated
              Other
              Comprehensive
              Loss
            
            Treasury
              Stock
            
            Total**Balance
                at December 31, 2006**
            
            
            2,523,983
            
            $
            735
            
            $
            12,918
            
            $
            23,460
            
            $
            (242
            )
            $
            (8,323
            )
            $
            28,548Comprehensive
                Loss:Net
                Income
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            374
            
            
            ─
            
            
            ─
            
            
            374Net
                Change in Unrealized Gains (Losses) on Available-for-Sale Securities,
                Net
                of Tax
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (98
            )
            
            ─
            
            
            (98
            )Net
                Change in Unrealized Gains (Losses) on Cash Flow Hedges, Net of
                Tax
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            56
            
            
            ─
            
            
            56Total
                Comprehensive Loss
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            332Acquisition
                of Treasury Stock
            
            
            (364
            )
            
            ─
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (6
            )
            
            (6
            )Share-based
                Compensation Expense
            
            
            ─
            
            
            ─
            
            
            81
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            81Issuance
                of Common Stock under:Dividend
                Reinvestment and Stock Purchase Plan
            
            
            7,482
            
            
            3
            
            
            114
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            117Employee
                Plans
            
            
            13,272
            
            
            3
            
            
            171
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            174Cash
                Dividends
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (556
            )
            
            ─
            
            
            ─
            
            
            (556
            )**Balance
                at September 30, 2007**
            
            
            2,544,373
            
            $
            741
            
            $
            13,284
            
            $
            23,278
            
            $
            (284
            )
            $
            (8,329
            )
            $
            28,690





*See
      accompanying notes to unaudited consolidated financial
      statements.*


3


**Union
      National Financial Corporation**


**Consolidated
      Statements of Cash Flows (Unaudited)** ****


Nine Months Ended September 30,(Dollars in thousands)
              
              2008
              
              2007CASH FLOWS
                  from OPERATING ACTIVITIESNet
                  Income
              
              $
              1,343
              
              $
              374Adjustments
                  to Reconcile Net Income to Net Cash Provided by Operating
                  Activities:Depreciation
                  and Amortization
              
              
              969
              
              
              797Provision
                  for Loan and Lease Losses
              
              
              326
              
              
              707Restructuring
                  Charge
              
              
              ─
              
              
              717Cash
                  Payments Related to Restructuring Charge
              
              
              (214
              )
              
              (370
              )Impairment
                  Charge on Investment Security
              
              
              ─
              
              
              450Stock-Based
                  Compensation Expense
              
              
              ─
              
              
              81Net
                  (Accretion) Amortization of Investment Securities’ (Discounts)
                  Premiums
              
              
              (69
              )
              
              224Net
                  Investment Securities Gains
              
              
              (159
              )
              
              (78
              )Benefit
                  From Deferred Income Taxes
              
              
              (77
              )
              
              (59
              )Decrease
                  in Minority Interest in Consolidated Subsidiaries
              
              
              ─
              
              
              (70
              )Earnings
                  from Bank-Owned Life Insurance
              
              
              (330
              )
              
              (317
              )Gains
                  on Loans Sold
              
              
              ─
              
              
              (1,338
              )Net
                  Gain on Sale of Foreclosed Real Estate
              
              
              ─
              
              
              (128
              )Proceeds
                  from Sale of Loans
              
              
              ─
              
              
              51,885Loans
                  Originated for Sale
              
              
              ─
              
              
              (49,416
              )Decrease
                  in Accrued Interest Receivable
              
              
              234
              
              
              171(Increase)
                  Decrease in Other Assets
              
              
              (353
              )
              
              67(Decrease)
                  Increase in Other Liabilities
              
              
              (781
              )
              
              211Net
                  Cash Provided by Operating Activities
              
              
              889
              
              
              3,908CASH
                  FLOWS from INVESTING ACTIVITIESProceeds
                  from Sales of Available-for-Sale Securities
              
              
              35,808
              
              
              81,885Proceeds
                  from Maturities of Available-for-Sale Securities
              
              
              35,190
              
              
              6,597Purchases
                  of Available-for-Sale Securities
              
              
              (71,780
              )
              
              (30,227
              )Purchases
                  of Time Deposits in Other Banks
              
              
              (1,874
              )
              
              ─(Purchases)
                  Sales of Restricted Investments in Bank Stocks, net
              
              
              (127
              )
              
              2,373Proceeds
                  from Sale of Foreclosed Real Estate
              
              
              ─
              
              
              314Net
                  Loans and Leases Made to Customers
              
              
              (6,327
              )
              
              (21,980
              )Purchases
                  of Premises, Equipment and Software
              
              
              (4,049
              )
              
              (535
              )Net
                  Cash (Used In) Provided by Investing Activities
              
              
              (13,159
              )
              
              38,427CASH
                  FLOWS from FINANCING ACTIVITIESNet
                  Decrease in Demand Deposits and Savings Accounts
              
              
              (4,168
              )
              
              (3,133
              )Net
                  (Decrease) Increase in Time Deposits
              
              
              (2,764
              )
              
              30,293Net
                  Increase (Decrease) in Short-Term Borrowings
              
              
              14,800
              
              
              (3,950
              )Proceeds
                  from Issuance of Long-Term Debt
              
              
              ─
              
              
              4,254Payments
                  on Long-Term Debt
              
              
              (17,482
              )
              
              (53,009
              )Acquisition
                  of Treasury Stock
              
              
              ─
              
              
              (6
              )Issuance
                  of Common Stock
              
              
              1,603
              
              
              291Cash
                  Dividends Paid
              
              
              ─
              
              
              (556
              )Net
                  Cash Used in Financing Activities
              
              
              (8,011
              )
              
              (25,816
              )Net
                  (Decrease) Increase in Cash and Cash Equivalents
              
              
              (20,281
              )
              
              16,519CASH
                  and CASH EQUIVALENTS - Beginning of Period
              
              
              37,882
              
              
              15,462CASH
                  and CASH EQUIVALENTS - End of Period
              
              $
              17,601
              
              $
              31,981**Supplemental
                  Disclosures of Cash Flow Information**Cash
                  Payments (Refunds) for:Interest
              
              $
              11,277
              
              $
              11,894Income
                  Taxes
              
              
              ─
              
              
              (200
              )Noncash
                  Transactions:Impairment
                  of Goodwill and Minority Interest
              
              
              ─
              
              
              326





*See
      accompanying notes to unaudited consolidated financial
      statements.*


4


**Union
      National Financial Corporation**


**Notes
      to Consolidated Financial Statements (Unaudited)**





***1.
      Basis of Presentation***





The
      consolidated financial statements for 2008 and 2007 include the accounts of
      Union National Financial Corporation (“Union National”), its subsidiary Union
      National Community Bank (the “Bank”), and Bank subsidiary Union National
      Insurance Agency. The consolidated financial statements for 2007 also include
      the accounts of the Bank subsidiary Home Team Financial, LLC and its subsidiary
      TA of Lancaster, LLC (together, “Home Team”), which ceased operations in October
      2007. All material intercompany accounts and transactions have been eliminated
      in consolidation. Union National’s trust subsidiaries, Union National Capital
      Trust I and Union National Capital Trust II, which were established for the
      purpose of issuing $11,000,000 of trust capital securities during 2003 and
      2004,
      are not consolidated.





Certain
      information and footnote disclosures normally included in consolidated financial
      statements prepared in accordance with generally accepted accounting principles
      in the United States of America (“GAAP”) have been condensed or omitted pursuant
      to the rules and regulations of the Securities and Exchange Commission (“SEC”).
      We believe the information presented is not misleading and the disclosures
      are
      adequate. In our opinion, the consolidated financial statements contain all
      adjustments (consisting only of normal recurring accruals and adjustments)
      necessary to present fairly our financial position as of September 30, 2008
      and
      December 31, 2007, and the related consolidated statements of income, changes
      in
      stockholders’ equity and cash flows for each of the periods ended September 30,
      2008 and 2007. The results of operations for interim periods are not necessarily
      indicative of operating results expected for the full year. These interim
      consolidated financial statements should be read in conjunction with the audited
      financial statements and notes thereto included in Union National’s Annual
      Report on Form 10-K for the year ended December 31, 2007, and with Union
      National’s Forms 8-K and previous quarters’ Forms 10-Q, that were filed during
      2008 with the SEC.





***2.
      Use of Estimates***





The
      process of preparing consolidated financial statements in conformity with GAAP
      requires the use of estimates and assumptions that affect the reported amounts
      of certain types of assets, liabilities, revenues and expenses. Accordingly,
      actual results may differ from estimated amounts. Material estimates that are
      particularly susceptible to significant change in the near term relate to the
      determination of the allowance for loan and lease losses and the assessment
      of
      other-than-temporary impairment of investment securities.





***3.
      Earnings per Share***





Basic
      earnings per share is computed by dividing net income by the weighted-average
      number of common shares outstanding during the three and nine months ended
      September 30, 2008 and 2007. Diluted earnings per share reflects the potential
      dilution that could occur if options to issue stock were exercised.





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





**Three Months Ended September 30**
            
            **Nine Months Ended September 30****2008**
            
            **2007**
            
            **2008**
            
            **2007**Net
                Income:
            
            $
            626,000
            
            $
            393,000
            
            $
            1,343,000
            
            $
            374,000Weighted-average
                number of common shares outstanding
            
            
            2,717,430
            
            
            2,543,141
            
            
            2,616,784
            
            
            2,532,499**Basic
                earnings per share**
            
            $
            0.23
            
            $
            0.15
            
            $
            0.51
            
            $
            0.15Weighted-average
                number of common shares outstanding
            
            
            2,717,430
            
            
            2,543,141
            
            
            2,616,784
            
            
            2,532,499Common
                stock equivalents due to effect of stock options
            
            
            ─
            
            
            20,315
            
            
            ─
            
            
            20,315Total
                weighted-average common shares and equivalents
            
            
            2,717,430
            
            
            2,563,456
            
            
            2,616,784
            
            
            2,552,814**Diluted
                earnings per share**
            
            $
            0.23
            
            $
            0.15
            
            $
            0.51
            
            $
            0.15





Stock
      options outstanding which had no intrinsic value, and therefore, would not
      be
      included in a diluted earnings per share computation, were 105,686 and 117,288
      as of September 30, 2008 and 2007, respectively.


5


***4.
      Stock-Based Compensation***





Union
      National had two stock option plans outstanding as of September 30, 2008: (i)
      the Employee Stock Incentive Plan (“SIP”); and, (ii) the Independent Directors’
Stock Option Plan (“IDSOP”). Neither of these plans had remaining options
      available for grant as of September 30, 2008. It is Union National’s policy to
      issue new shares upon the exercise of stock options.





Options
      granted under the SIP are incentive stock options with terms up to 10 years
      and
      option prices equal to the fair value of the shares on the date of the grant.
      SIP options vest over six months, become exercisable nine months after the
      grant
      date, and generally lapse 90 days after termination of employment. The IDSOP
      consists of non-qualified stock options with terms up to 10 years. These options
      have exercise prices equal to the fair value of the shares on the date of the
      grant and expire one year after departure from the board of
      directors.





Prior
      to
      March 1, 2008, Union National had an Employee Stock Purchase Plan (“ESPP”);
      options granted under the ESPP had a five-year term and could be exercised
      at
      85% of the fair market value of the stock on the date of exercise.





In
      accordance with Statement of Financial Accounting Standards No. 123(R),
“Share-Based Payments”, Union National recognizes compensation expense for
      share-based awards based upon an assessment of the grant date fair value. The
      fair value of each option is estimated on the date of grant using the
      Black-Scholes option-pricing model. Union National recognizes share-based
      compensation expense for share-based awards on a straight-line basis over the
      vesting period of the award.





No
      options were granted or vested during the nine months ended September 30, 2008.
      Union National did not have any share-based compensation expense for the three
      months and nine months ended September 30, 2008 as all previously granted
      options are fully vested. The per-share weighted-average fair value of the
      31,900 stock options granted during the nine months ended September 30, 2007
      (7,200 of which were forfeited during the second quarter of 2007 due to employee
      terminations) was $3.41 computed using the following assumptions:





Expected Dividend Yield:
            3.45%
            Expected Life (Years):
            8.0Risk-Free Interest Rate:
            5.02%
            Expected Volatility:
            17.11%





Share-based compensation
      expense was $14,000 and $81,000 for the three and nine months ended September
      30, 2007, respectively. Since no options were granted or vested during the
      nine
      months ended September 30, 2008, there was no stock option expense. Stock option
      transactions for the nine months ended September 30, 2008, are summarized below:





Shares
            
            Weighted-
              Average Exercise
              PriceOutstanding at December 31, 2007 (Prices
                range from $9.31 to $22.14)
            
            
            124,439
            
            $
            18.32Granted
            
            
            ─
            
            
            ─Exercised
                (under the ESPP)
            
            
            (650
            )
            
            8.70Forfeited
            
            
            (15,078
            )
            
            18.03Expired
            
            
            (3,025
            )
            
            8.93Outstanding
                at September 30, 2008 (Prices range from $11.52 to $22.14)
            
            
            105,686
            
            $
            18.67





The
      following table presents information regarding options outstanding (all
      exercisable) at September 30, 2008:




Number
                of options
            
            
            105,686Weighted-average
                contractual remaining term
            
            
            4.6
                YearsWeighted-average
                exercise price
            
            $
            18.67Aggregate
                intrinsic value
            
            $
            -0-





During
      the nine months ended September 30, 2008 and 2007, Union National received
      proceeds of $5,000 and $174,000, respectively, for the exercise of options
      with
      an intrinsic value of $1,000 and $25,000, respectively. Intrinsic value
      represents the amount by which the market price of the stock on the measurement
      date exceeded the exercise price of the option.


6


***5.
      Commitments and Guarantees***





In
      the
      ordinary course of business, Union National makes commitments to extend credit
      to its customers through letters of credit, loan commitments and lines of
      credit. As of September 30, 2008, the Bank had $98,934,000 outstanding in loan
      commitments and other unused lines of credit extended to its customers, as
      compared to $117,742,000 at December 31, 2007.





The
      Bank
      does not issue any guarantees that would require liability recognition or
      disclosure, other than its standby letters of credit. Standby letters of credit
      written are conditional commitments issued by Union National to guarantee the
      performance of a customer to a third party. Generally, all letters of credit,
      when issued, have expiration dates within one year. The credit risk involved
      in
      issuing letters of credit is essentially the same as that involved in extending
      loan facilities to customers. The Bank generally holds collateral and/or
      personal guarantees supporting these commitments. There were $5,778,000 and
      $6,239,000 of standby letters of credit outstanding as of September 30, 2008
      and
      December 31, 2007, respectively. Management believes that the proceeds obtained
      through a liquidation of collateral and the enforcement of guarantees would
      be
      sufficient to cover the potential amount of future payments required under
      the
      corresponding standby letters of credit. The current amount of the liability
      at
      September 30, 2008 and December 31, 2007, for Bank guarantees under standby
      letters of credit issued is not considered to be material.





***6.
      Residential Mortgage Business Venture***





Effective
      October 31, 2007, Union National management decided to cease operations at
      Home
      Team, a residential mortgage brokerage subsidiary of the Bank, due to a
      weakening housing market and the related reduction in brokered residential
      mortgage loan volume. Accordingly, consolidated operating results for the three
      months and nine months ended September 30, 2008 reflected no mortgage brokerage
      and title insurance income, and no operating expenses, related to Home Team.
      Consolidated operating results for the three months and nine months ended
      September 30, 2007 included $436,000 and $1,807,000, respectively, of mortgage
      brokerage income, $78,000 and $301,000, respectively, of title
      insurance/settlement income, and $747,000 and $2,026,000, respectively, of
      non-interest expenses, related to Home Team. Included in other non-interest
      expenses for the three and nine months ended September 30, 2007 was $326,000
      related to the impairment of previously recorded goodwill and minority interest
      assets associated with Union National’s ownership of Home Team.





***7.
      De-Leveraging and Restructuring Initiatives***





In
      January 2007, Union National began to de-leverage its Balance Sheet and
      reposition its investment portfolio in order to strengthen the Bank’s capital
      position, enhance its income tax effectiveness, facilitate its future core
      banking growth strategies for loans and deposits, and improve its interest
      rate
      profile. In conjunction with the de-leveraging activities, Union National sold
      $64,345,000 of available-for-sale securities, and liquidated $2,039,000 of
      restricted FHLB stock, using the majority of the proceeds to pay down
      $48,755,000 of FHLB debt and $6,550,000 of other short-term borrowings, and
      incurring pre-tax debt prepayment penalties of $31,000 (included in Other
      Non-Interest Expenses). Union National realized pre-tax losses of $519,000
      on
      the sale of the securities. Subsequently, in June 2007, net security gains
      of
      $597,000 were realized by liquidating $81,885,000 of tax-free municipal
      securities. The proceeds were substantially reinvested into U.S. Agency
      securities. Net security gains of $78,000 were realized for the nine months
      ended September 30, 2007 as a result of the de-leveraging and investment
      portfolio repositioning activities discussed above.





Also,
      Union National incurred restructuring charges, consisting of severance and
      related costs, totaling $717,000 for the nine months ended September 30, 2007.
      There were no restructuring charges for the three months ended September 30,
      2007. For the nine months ended September 30, 2008 and 2007, Union National
      made
      cash payments related to the 2007 severance liability of $214,000 and $370,000,
      respectively.





In
      the
      first nine months of 2008, Union National continued with certain cost-reducing
      de-leveraging activities by using funds from low-interest earning assets and
      low-interest cost short-term borrowings to pay down higher interest cost
      long-term borrowings. The Bank prepaid a total of $17,482,000 of FHLB long-term
      advances, reducing total FHLB long-term borrowings outstanding to $51,334,000.
      The FHLB long-term debt that was prepaid had a weighted average interest cost
      of
      4.18%, and in conjunction with the prepayments, the Bank incurred $68,000 of
      prepayment penalties, which were included in Other Non-Interest Expenses.
      Additionally, through September 30, 2008, the Bank called a net outstanding
      amount of $16,411,000 of brokered CD’s which had a fixed weighted average
      interest cost of 4.91%.


7





***8.
      Other-Than-Temporary Impairment of Investment
      Securities***





In
      order
      to determine whether unrealized losses in the fair value of investment
      securities are other than temporary, management regularly reviews the entire
      portfolio of investment securities for possible impairment, analyzing factors
      including but not limited to the underlying creditworthiness of the issuing
      organization, the length of time for which the fair value of the investment
      securities has been less than cost, independent analysts’ opinions about
      circumstances that could affect the performance of the investment securities,
      and management’s intention and ability to hold the investment securities to the
      earlier of recovery of losses or maturity.





During
      2007, Union National recorded $800,000 in other-than-temporary impairment
      charges (including $450,000 recorded through the nine month period ended
      September 30, 2007) related to declines in the value of three available-for-sale
      corporate debt investment securities with an original amortized cost of
      $3,000,000. Scheduled income payments on the securities received from the time
      of impairment through the first nine months of 2008 were fully applied to
      principal, further reducing the combined book value of the three investments
      to
      $1,961,000 at September 30, 2008. Management determined the fair value of the
      three corporate securities to be, in aggregate, $1,825,000. As discussed more
      thoroughly in Note 12 to the consolidated financial statements, the fair value
      of the corporate investment securities as of September 30, 2008, was determined
      by management by calculating the net present value of the expected future cash
      flows of each security, with qualitative risk-adjusted discounting for potential
      credit risks and nonperformance in the underlying issuers, and market sector
      illiquidity concerns (in accordance with FSP SFAS No. 157-3, “ Determining
      the Fair Value of a Financial Asset When The Market for That Asset Is Not
      Active ” (FSP
      157-3)). Under FSP 157-3, when an active market for a security does not exist,
      the use of management estimates that incorporate current market participant
      expectations of future cash flows, and include appropriate risk premiums, is
      acceptable. Management’s judgment was that, as of September 30, 2008, the facts
      and circumstances indicated significant illiquidity and an inactive market
      for
      these types of investments when other relevant observable inputs were not
      available; therefore, expected cash flows were a reasonable basis in determining
      the fair value of the corporate investment securities. Prior to September 30,
      2008, management used other observable inputs to determine the fair value of
      the
      corporate investment securities including broker indicated prices and quoted
      prices in limited trading activity of the issuances. The three securities remain
      rated as investment grade as of September 30, 2008, as they have been since
      the
      time of purchase.





Management
      determined the additional declines in fair value from December 31, 2007 to
      September 30, 2008 to be recorded and treated as temporary based upon the
      following considerations:





·
            The
                financial condition and near-term prospects of the issuers do not
                reflect
                any defaults or other specific events which may have influenced the
                operations of the issuers, such as changes in technology that may
                have
                impaired the earnings potential of the investments, or the discontinuance
                of a segment of the business that may affect the future earnings
                potential. The three investment securities were current, as of September
                30, 2008, for scheduled investment interest payments since
                issuance.


·
            The
                securities experienced very limited trading activity in the first
                nine
                months of 2008 as the securities are in a market sector with a high
                degree
                of illiquidity.


·
            The
                recent unrealized losses have been for a short period of time (less
                than
                nine months).


·
            Management
                has both the ability and intention to hold the securities until a
                reasonable recovery towards the carrying
                value.





***9.
      Private Placement Stock Offering***





On
      May
      19, 2008, Union National commenced the sale of up to 526,315 unregistered shares
      of Union National’s common stock, par value $0.25 per share, at $9.50 per share
      for a maximum aggregate offering price of $4,999,993. There is no minimum
      offering amount. Upon receipt of proceeds from the sale of the shares, Union
      National will immediately contribute such amounts to the general corporate
      purposes of Union National including, but not limited to, continuing to meet
      regulatory capital requirements and increasing the regulatory lending ability
      of
      the Bank.





The
      shares are being offered pursuant to an exemption from registration under
      Section 3(b) of the Securities Act of 1933 and Rule 505 of SEC Regulation D.
      The
      shares sold will be restricted securities for purposes of the United States
      securities laws and cannot be transferred except under these laws.





Although
      Union National can withdraw or terminate the offering of the shares at any
      time,
      it intends to offer the shares for a period of six months commencing May 19,
      2008. The offering period may be extended at the discretion of Union National
      to
      a date not exceeding 90 days from the end of the six month period. (Subsequent
      to September 30, 2008, the Board of Directors of Union National elected on
      October 23, 2008, to extend the offering period for the shares until February
      17, 2009.)


8






The
      following table summarizes the shares that have been sold and the gross proceeds
      received through the private placement stock offering as of September 30, 2008
      (dollars in thousands):




**Period**
            
            **No.********of**
              **Shares********Sold**
            
            **Gross**
              **Proceeds**May
                19, 2008 – June 30, 2008
            
            
            163,690
            
            $
            1,555July
                1, 2008 – September 30, 2008
            
            
            8,442
            
            
            80Total
            
            
            172,132
            
            $
            1,635


9


***10.
      Split Dollar Life Insurance Postretirement Benefits***





Effective
      January 1, 2008, Union National adopted the provisions of Emerging Issues Task
      Force (“EITF”) Issue No. 06-4, “Accounting for Deferred Compensation and
      Postretirement Benefit Aspects of Endorsement Split Dollar Life Insurance
      Arrangements” (“EITF 06-4”). EITF 06-4 requires the recognition of a liability
      related to the postretirement benefits covered by an endorsement split-dollar
      life insurance arrangement, and the liability for the future death benefit
      should be recognized by following the guidance in SFAS No. 106 or Accounting
      Principles Board Opinion No. 12, as appropriate. Union National has certain
      split-dollar life insurance arrangements as part of Union National’s bank-owned
      life insurance program, and recognized its liability and related compensation
      expense in accordance with SFAS No. 106. In adopting EITF 06-4, Union National
      recorded a cumulative effect adjustment to the balance of retained earnings
      of
      $73,000 as of January 1, 2008. An additional $4,000 and $12,000 of related
      net
      periodic postretirement benefit expense was recorded for the three month and
      nine month periods ended September 30, 2008, respectively. ****





***11.
      Memorandum of Understanding***





On
      June
      20, 2007, the Bank entered into a Memorandum of Understanding (“MOU”) with the
      Comptroller of the Currency (“OCC”). Specifically, the MOU requires the Bank to
      (1) implement a three-year strategic plan in accordance with specific guidelines
      set forth in the MOU, (2) develop and implement a three-year capital plan,
      in
      accordance with specific guidelines set forth in the MOU, including a dividend
      policy for the payment of dividends provided the Bank is in compliance with
      the
      capital plan, and applicable laws and regulations, (3) review and revise a
      written program to improve the Bank’s loan portfolio management, (4) review and
      revise the Bank’s funds management reports to ensure that they reflect current
      and projected funding needs, (5) develop and implement a risk based audit
      program to determine weaknesses or deficiencies in the Bank’s consumer
      compliance program, (6) ensure the Bank’s interest rate risk (“IRR”) measurement
      tool or model conforms to OCC guidelines and, if necessary, develop an action
      plan to address the need for a more acceptable IRR measurement model, and (7)
      furnish written quarterly progress reports to the OCC detailing the form and
      manner of actions taken to comply with the MOU. Each provision of the MOU is
      subject to OCC approval, non-objection and/or review.





Included
      in the response to the MOU, Union National has established target capital rates
      for the Bank of 8% for Tier I Capital to Average Total Assets, 9% for Tier
      I
      Capital to Risk-Based Assets, and 12% for Total Capital to Risk-Based Assets.
      The OCC has accepted management’s capital targets and established June 30, 2008
      as the target achievement date. Union National met these capital targets by
      reducing borrowings, generating capital from net earnings, and by raising
      additional capital through the private placement stock offering (see related
      discussion in Note 9 to the consolidated financial statements).





The
      following table summarizes the Bank’s regulatory capital ratios as of September
      30, 2008:





Actual
            
            Target Requiredbythe MOU
            
            To Be Well CapitalizedUnderPrompt CorrectiveActionProvisionsTier
                1 (leverage) capital
            
            
            8.47
            %
            
            8.00
            %
            
            5.00
            %Tier
                1 risk-based capital
            
            
            10.10
            
            
            9.00
            
            
            6.00Total
                risk-based capital
            
            
            12.51
            
            
            12.00
            
            
            10.00





Additionally,
      as of September 30, 2008, management believes that the Bank has fully complied
      with the terms of the MOU and has sent to the OCC the documentation and progress
      reports as required under the MOU.


10


***12.
      Fair Value Measurement of Assets and Liabilities***





Effective
      January 1, 2008, Union National adopted SFAS No. 157, "Fair Value Measurements",
      for financial assets and financial liabilities. In accordance with Financial
      Accounting Standards Board Staff Position (FSP) No. 157-2, “Effective Date of
      FASB Statement No. 157,” Union National will delay application of SFAS No. 157
      for non-financial assets and non-financial liabilities, until January 1, 2009.
      SFAS 157 defines fair value, establishes a framework for measuring fair value
      in
      accordance with generally accepted accounting principles, and expands
      disclosures about fair value measurements.





SFAS
      157
      defines fair value as the price that would be received to sell an asset or
      paid
      to transfer a liability in an orderly transaction between market participants.
      A
      fair value measurement assumes that the transaction to sell the asset or
      transfer the liability occurs in the principal market for the asset or liability
      or, in the absence of a principal market, the most advantageous market for
      the
      asset or liability. The price in the principal (or most advantageous) market
      used to measure the fair value of the asset or liability shall not be adjusted
      for transaction costs. An orderly transaction is a transaction that assumes
      exposure to the market for a period prior to the measurement date to allow
      for
      marketing activities that are usual and customary for transactions involving
      such assets and liabilities; it is not a forced transaction. Market participants
      are buyers and sellers in the principal market that are (i) independent, (ii)
      knowledgeable, (iii) able to transact, and (iv) willing to
      transact.





SFAS
      157
      requires the use of valuation techniques that are consistent with the market
      approach, the income approach and/or the cost approach. The market approach
      uses
      prices and other relevant information generated by market transactions involving
      identical or comparable assets and liabilities. The income approach uses
      valuation techniques to convert future amounts such as cash flows or earnings,
      to a single present amount on a discounted basis. The cost approach is based
      on
      the amount that currently would be required to replace the service capacity
      of
      an asset (replacement cost). Valuation techniques should be consistently
      applied. Inputs to valuation techniques refer to the assumptions that market
      participants would use in pricing the asset or liability. Inputs may be
      observable, meaning those that reflect the assumptions market participants
      would
      use in pricing the asset or liability developed based on market data obtained
      from independent sources, or unobservable, meaning those that reflect the
      reporting entity’s own assumptions about the assumptions market participants
      would use in pricing the asset or liability based upon the best information
      available in the circumstances. In that regard, SFAS 157 establishes a fair
      value hierarchy for valuation inputs that gives the highest priority to quoted
      prices in active markets for identical assets or liabilities and the lowest
      priority to unobservable inputs. The fair value hierarchy is as
      follows:





**Level
                1 Inputs**-
            Unadjusted
                quoted prices in active markets that are accessible at the measurement
                date for****identical,
                unrestricted assets or liabilities;**Level
                2 Inputs**-
            Quoted
                prices in markets that are not active, or inputs that are observable
                either directly or indirectly, for substantially the full term of
                the
                asset or liability;**Level
                3 Inputs**-
            Prices
                or valuation techniques that require inputs that are both significant
                to
                the fair value measurement and unobservable (i.e., supported by little
                or
                no market activity).





A
      description of the valuation methodologies used for instruments measured at
      fair
      value, as well as the general classification of such instruments pursuant to
      the
      valuation hierarchy, is set forth below. These valuation methodologies were
      applied to all of Union National’s financial assets and financial liabilities
      carried at fair value effective January 1, 2008.


11





Securities
      Available for Sale





Securities
      classified as available for sale are generally reported at fair value utilizing
      Level 2 inputs. For these securities, we obtain fair value measurements from
      an
      independent pricing service. The fair value measurements consider observable
      data that may include dealer quotes, market spreads, cash flows, the U.S.
      Treasury yield curve, live trading levels, trade execution data, market
      consensus prepayment speeds, credit information and the bond’s terms and
      conditions, among other things.





Level
      3
      inputs are for certain corporate investment security positions that are not
      traded in active markets or are subject to transfer restrictions, and/or where
      valuations are adjusted to reflect illiquidity and/or non-transferability.
      Such
      adjustments are generally based on available market evidence. In the absence
      of
      such evidence, management’s best estimate is used. Management’s best estimate
      consists of both internal and external support on certain Level 3 investments.
      Management only changes Level 3 inputs and assumptions when corroborated by
      evidence such as transactions in similar instruments, completed or pending
      third-party transactions in the underlying investment or comparable entities,
      subsequent rounds of financing, recapitalizations and other transactions across
      the capital structure, offerings in the equity or debt markets, and changes
      in
      financial ratios or cash flows.





As
      of
      September 30, 2008, the fair value of securities valued using Level 3 inputs
      was
      determined by management by calculating the net present value of the expected
      future cash flows of each security, with qualitative risk-adjusted discounting
      for potential credit risks and nonperformance in the underlying issuers, and
      market sector illiquidity concerns (in accordance with FSP
      SFAS No. 157-3, “Determining the Fair Value of a Financial Asset When
      The Market for That Asset Is Not Active”). Prior to September 30, 2008,
      management used market pricing based upon quoted prices from very limited
      trading activity of the issuances.





Impaired
      Loans





Certain
      impaired loans are reported at the fair value of the underlying collateral
      if
      repayment is expected solely from the collateral. Collateral values are
      estimated using Level 3 inputs based upon customized discounting
      criteria.





The
      following table summarizes financial assets and financial liabilities measured
      at fair value on a recurring basis as of September 30, 2008, segregated by
      the
      level of the valuation inputs within the fair value hierarchy utilized to
      measure fair value (in thousands):





Level 1
              Inputs
            
            Level 2
              Inputs
            
            Level 3
              Inputs
            
            Total Fair
              ValueInvestment
                Securities Available-For-Sale
            
            $
            ─
            
            $
            72,455
            
            $
            1,825
            
            $
            74,280Impaired
                Loans
            
            
            ─
            
            
            ─
            
            $
            7,042
            
            $
            7,042





The
      following is a reconciliation of the beginning and ending balances of recurring
      fair value measurements of certain available-for sale securities using
      significant unobservable (Level 3) inputs (in thousands):





Available
              For-Sale
              SecuritiesBeginning
                Balance at December 31, 2007
            
            $
            2,172Payments
                received and applied to principal
            
            
            (193
            )Total
                realized and unrealized gains (losses)Included
                in net income
            
            
            ─Included
                in other comprehensive income (loss)
            
            
            (154
            )Ending
                Balance at September 30, 2008
            
            $
            1,825


12


The
      following is a reconciliation of the beginning and ending balances of recurring
      fair value measurements of impaired loans using significant unobservable (Level
      3) inputs (in thousands):





Impaired
              LoansBeginning
                Balance at December 31, 2007
            
            $
            2,636Loans
                added to impaired classification
            
            
            5,056Payments
                received and applied to principal
            
            
            (220
            )Repossessed
                assets
            
            
            (375
            )Charge-off
                of impaired loans
            
            
            (55
            )Ending
                Balance at September 30, 2008
            
            $
            7,042





The
      valuation allowance on impaired loans was $706,000 at September 30, 2008
      compared to $380,000 at December 31, 2007. During the nine-month period ended
      September 30, 2008, the valuation allowance on impaired loans was increased
      by
      $326,000.





Certain
      financial assets and financial liabilities are measured at fair value on a
      nonrecurring basis; that is, the instruments are not measured at fair value
      on
      an ongoing basis, but are subject to fair value adjustments in certain
      circumstances (for example, when there is evidence of impairment). Financial
      assets and financial liabilities measured at fair value on a non-recurring
      basis
      were not significant as of September 30, 2008.





Effective
      January 1, 2008, Union National adopted the provisions of SFAS No. 159, "The
      Fair Value Option for Financial Assets and Financial Liabilities-Including
      an
      amendment of FASB Statement No. 115", ("SFAS 159"). SFAS 159 expands the use
      of
      fair value accounting but does not affect existing standards which require
      assets and liabilities to be carried at fair value. Under SFAS 159, a company
      may elect to use fair value to measure accounts and loans receivable,
      available-for-sale and held-to-maturity securities, accounts payable,
      guarantees, issued debt and other eligible financial instruments. SFAS 159
      permits Union National to measure eligible items at fair value at specified
      election dates. Unrealized gains and losses on items for which the fair value
      measurement option has been elected are reported in earnings at each subsequent
      reporting date. The fair value option (i) may be applied instrument by
      instrument, with certain exceptions, thus Union National may record identical
      assets and liabilities at fair value or by another measurement basis permitted
      under generally accepted accounting principles, (ii) is irrevocable (unless
      a
      new election date occurs) and (iii) is applied only to entire instruments and
      not to portions of instruments. Adoption of SFAS 159 on January 1, 2008, did
      not
      have a significant impact on Union National’s consolidated financial
      statements.





***13.
      Junior Subordinated Debentures***





Union
      National has three issuances of junior subordinated debentures. On July 28,
      2006, the Bank issued $6,000,000 of subordinated debentures with a five-year
      initial fixed rate of 7.17%, and then an annual coupon rate, reset quarterly,
      based on three-month LIBOR plus 1.65%. Other subordinated debentures issued
      by
      Union National are:





Union
      National Capital Trust I


In
      December 2003, $8,000,000 of net funding was obtained through the issuance
      of
      floating-rate debentures that provide for quarterly distributions at a variable
      annual coupon rate that is reset quarterly, based on three-month London
      Interbank Offered Rate (“LIBOR”) plus 2.85%. The coupon rate was 7.83% and 5.65%
      at December 31, 2007 and September 30, 2008, respectively.





Union
      National Capital Trust II


In
      October 2004, $3,000,000 of net funding was obtained through the issuance of
      debentures at a fixed rate of 5.28% for an initial period of approximately
      three
      years and then at an annual coupon rate, reset quarterly, based on three-month
      LIBOR plus 2.00%. The coupon rate remained at 5.28% through December 31, 2007
      but reset to 4.81% as of September 30, 2008.





All
      of
      the above debentures are callable at our option five years after issuance.
      These
      issuances of junior subordinated debentures qualify as a component of capital
      for regulatory purposes.


13


***14.
      Comprehensive Income***





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





The
      components of comprehensive income and related tax effects are as follows (in
      thousands):





Three Months Ended September 30, 2008
            
            Three Months Ended September 30, 2007Before
              Tax
              Amount
            
            Tax
              Expense
              (Benefit)
            
            Net-of-TaxAmount
            
            BeforeTax
              Amount
            
            Tax
              Expense
              (Benefit)
            
            Net-of-TaxAmount**Net
                Income**
            
            $
            840
            
            $
            214
            
            $
            626
            
            $
            510
            
            $
            117
            
            $
            393**Other
                Comprehensive Income:******Unrealized
                Gains on Available-for-Sale Securities Arising During the
                Period
            
            
            800
            
            
            272
            
            
            528
            
            
            45
            
            
            15
            
            
            29Reclassification
                Adjustment for Losses included in Net Income
            
            
            (42
            )
            
            (14
            )
            
            (28
            )
            
            ─
            
            
            ─
            
            
            ─Reclassification
                Adjustment for Hedging Losses included in Net Income
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (3
            )
            
            (1
            )
            
            (2
            )**Total
                Other Comprehensive Income**
            
            
            758
            
            
            258
            
            
            500
            
            
            42
            
            
            14
            
            
            28**TOTAL
                COMPREHENSIVE INCOME**
            
            $
            1,598
            
            $
            472
            
            $
            1,126
            
            $
            552
            
            $
            131
            
            $
            421





Nine
                Months Ended September 30, 2008
            
            Nine
                Months Ended September 30, 2007Before
              Tax
              Amount
            
            Tax
              Expense
              (Benefit)
            
            Net-of-Tax
              Amount
            
            BeforeTax
              Amount
            
            Tax
              Expense
              (Benefit)
            
            Net-of-TaxAmount**Net
                Income**
            
            $
            1,716
            
            $
            373
            
            $
            1,343
            
            $
            107
            
            $
            (267
            )
            $
            374**Other
                Comprehensive Loss:******Unrealized
                (Losses) Gains on Available-for-Sale Securities Arising During the
                Period
            
            
            (1,064
            )
            
            (361
            )
            
            (703
            )
            
            226
            
            
            78
            
            
            148Reclassification
                Adjustment for Gains included in Net Income
            
            
            159
            
            
            54
            
            
            105
            
            
            78
            
            
            27
            
            
            51Reclassification
                Adjustment for Impairment Charges on Investment Securities
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (450
            )
            
            (153
            )
            
            (297
            )Reclassification
                Adjustment for Hedging Losses included in Net Income
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            (85
            )
            
            (29
            )
            
            (56
            )**Total
                Other Comprehensive Loss**
            
            
            (905
            )
            
            (307
            )
            
            (598
            )
            
            (61
            )
            
            (19
            )
            
            (42
            )**TOTAL
                COMPREHENSIVE INCOME (LOSS)**
            
            $
            811
            
            $
            66
            
            $
            745
            
            $
            (46
            )
            $
            (286
            )
            $
            332





***15.
      Recent Accounting Pronouncements***





On
      January 1, 2008, Union National adopted SFAS No. 157, "Fair Value Measurements."
      SFAS No. 157 defines fair value, establishes a framework for measuring fair
      value in generally accepted accounting principles, and expands disclosures
      about
      fair value measurements (see related discussion in Note 12 to the consolidated
      financial statements).





On
      January 1, 2008, Union National adopted the provisions of the Emerging Issues
      Task Force (“EITF”) Issue No. 06-4, “Accounting for Deferred Compensation and
      Postretirement Benefit Aspects of Endorsement Split Dollar Life Insurance
      Arrangements” (“EITF 06-4”). EITF 06-4 requires the recognition of a liability
      related to the postretirement benefits covered by an endorsement split-dollar
      life insurance arrangement. Union National has split-dollar life insurance
      arrangements and has recorded the impact the adoption of the standard had on
      the
      Consolidated Statements of Income and the Consolidated Statement of Financial
      Condition (See Note 10 - *Split
      Dollar Life Insurance Postretirement Benefits* ).


14




On
      January 1, 2008, Union National adopted the provisions of SFAS No. 159, "The
      Fair Value Option for Financial Assets and Financial Liabilities-Including
      an
      amendment of FASB Statement No. 115" ("SFAS 159"). SFAS 159 expands the use
      of
      fair value accounting but does not affect existing standards which require
      assets and liabilities to be carried at fair value. Under SFAS 159, Union
      National may elect to use fair value to measure accounts and loans receivable,
      available-for-sale and held-to-maturity securities, accounts payable,
      guarantees, issued debt and other eligible financial instruments. (See Note
      12 - *Fair
      Value Measurements of Assets and Liabilities* ).





In
      June
      2007, the Emerging Issues Task Force (EITF) reached a consensus on Issue
      No. 06-11, “Accounting for Income Tax Benefits of Dividends on Share-Based
      Payment Awards” (“EITF 06-11”). EITF 06-11 states that an entity should
      recognize a realized tax benefit associated with dividends on nonvested equity
      shares, nonvested equity share units and outstanding equity share options
      charged to retained earnings as an increase in additional paid in
      capital. The amount recognized in additional paid in capital should be
      included in the pool of excess tax benefits available to absorb potential future
      tax deficiencies on share-based payment awards. EITF 06-11 should be
      applied prospectively to income tax benefits of dividends on equity-classified
      share-based payment awards that are declared in fiscal years beginning after
      December 15, 2007.  The adoption of EITF 06-11 did not have a
      significant impact on Union National’s consolidated financial position and
      results of operations.





In
      December 2007, the FASB issued SFAS No. 141 (R) “Business Combinations” (“SFAS
      141(R)”). SFAS 141(R) establishes principles and requirements for how the
      acquirer of a business recognizes and measures in its financial statements
      the
      identifiable assets acquired, the liabilities assumed, and any noncontrolling
      interest in the acquiree. SFAS 141(R) also provides guidance for recognizing
      and
      measuring the goodwill acquired in the business combination and determines
      what
      information to disclose to enable users of the financial statements to evaluate
      the nature and financial effects of the business combination. The guidance
      will
      become effective as of the beginning of a corporation’s fiscal year beginning
      after December 15, 2008. SFAS 141(R) will impact Union National’s accounting for
      business combinations beginning January 1, 2009.





In
      December 2007, the FASB issued SFAS No. 160 “Noncontrolling Interests in
      Consolidated Financial Statements—an amendment of ARB No. 51” (“SFAS 160”). SFAS
      160 establishes accounting and reporting standards for the noncontrolling
      interest in a subsidiary and for the deconsolidation of a subsidiary. The
      guidance will become effective as of the beginning of a corporation’s fiscal
      year beginning after December 15, 2008. Management does not believe that SFAS
      160 will have a material impact on Union National’s consolidated financial
      position and results of operations.





The
      SEC
      has issued Staff Accounting Bulletin No. 109, "Written Loan Commitments Recorded
      at Fair Value Through Earnings" (“SAB 109”), which expresses the views of the
      staff regarding written loan commitments that are accounted for at fair value
      through earnings under generally accepted accounting principles. To make the
      staff's views consistent with current authoritative accounting guidance, the
      SAB
      revises and rescinds portions of SAB No. 105, "Application of Accounting
      Principles to Loan Commitments."  Specifically, the SAB revises the
      SEC staff's views on incorporating expected net future cash flows related to
      loan servicing activities in the fair value measurement of a written loan
      commitment. The SAB retains the staff's views on incorporating expected net
      future cash flows related to internally-developed intangible assets in the
      fair
      value measurement of a written loan commitment. The staff expects registrants
      to
      apply the views in Question 1 of SAB 109 on a prospective basis to derivative
      loan commitments issued or modified in fiscal quarters beginning after December
      15, 2007. Adoption and consideration of SAB 109 did not have a significant
      impact on Union National’s consolidated financial position and results of
      operations.





The
      SEC
      has issued Staff Accounting Bulletin No. 110 (“SAB 110”), which amends and
      replaces Question 6 of Section D.2 of Topic 14, “Share-Based Payment,” of the
      Staff Accounting Bulletin series. Question 6 of Section D.2 of Topic 14
      expresses the views of the staff regarding the use of the “simplified” method in
      developing an estimate of expected term of “plain vanilla” share options and
      allows usage of the “simplified” method for share option grants prior to
      December 31, 2007. SAB 110 allows public companies which do not have
      historically sufficient experience to provide a reasonable estimate to continue
      use of the “simplified” method for estimating the expected term of “plain
      vanilla” share option grants after December 31, 2007. Adoption and
      consideration of SAB 110 did not have a significant impact on Union National’s
      consolidated financial statements.


15





In
      February 2008, the FASB issued FASB Staff Position (FSP) FAS 140-3, “Accounting
      for Transfers of Financial Assets and Repurchase Financing Transactions.” This
      FSP addresses the issue of whether or not these transactions should be viewed
      as
      two separate transactions or as one "linked" transaction. The FSP includes
      a
      "rebuttable presumption" that presumes linkage of the two transactions unless
      the presumption can be overcome by meeting certain criteria. The FSP will be
      effective for fiscal years beginning after November 15, 2008 and will apply
      only
      to original transfers made after that date; early adoption will not be allowed.
      Management is currently evaluating the potential impact the new pronouncement
      will have on its consolidated financial statements.





In
      March
      2008, the FASB issued Statement No. 161, “Disclosures about Derivative
      Instruments and Hedging Activities—an amendment of FASB Statement No. 133”
(Statement 161).  Statement 161 requires entities that utilize
      derivative instruments to provide qualitative disclosures about their objectives
      and strategies for using such instruments, as well as any details of
      credit-risk-related contingent features contained within
      derivatives.  Statement 161 also requires entities to disclose
      additional information about the amounts and location of derivatives located
      within the financial statements, how the provisions of SFAS 133 has been
      applied, and the impact that hedges have on an entity’s financial position,
      financial performance, and cash flows.  Statement 161 is effective for
      fiscal years and interim periods beginning after November 15, 2008, with early
      application encouraged.  Management is currently evaluating the
      potential impact the new pronouncement will have on its consolidated financial
      statements.





In
      April
      2008, the FASB issued FASB Staff Position (“FSP”) FAS 142-3, “Determination of
      the Useful Life of Intangible Assets.” This FSP amends the factors that should
      be considered in developing renewal or extension assumptions used to determine
      the useful life of a recognized intangible asset under FASB Statement
      No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”). The intent of
      this FSP is to improve the consistency between the useful life of a recognized
      intangible asset under SFAS 142 and the period of expected cash flows used
      to measure the fair value of the asset under SFAS 141(R), and other GAAP. This
      FSP is effective for financial statements issued for fiscal years beginning
      after December 15, 2008, and interim periods within those fiscal years.
      Early adoption is prohibited. Management is currently evaluating the potential
      impact the new pronouncement will have on its consolidated financial
      statements.





In
      May
      2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted
      Accounting Principles.” This Statement identifies the sources of accounting
      principles and the framework for selecting the principles used in the
      preparation of financial statements. This Statement is effective 60 days
      following the SEC’s approval of the Public Company Accounting Oversight Board
      amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with
      Generally Accepted Accounting Principles.” Management is currently evaluating
      the potential impact the new pronouncement will have on its consolidated
      financial statements.





In
      May
      2008, the FASB issued FASB Staff Position (FSP) APB 14-1, "Accounting for
      Convertible Debt Instruments That May Be Settled in Cash upon Conversion
      (Including Partial Cash Settlement)" which clarifies the accounting for
      convertible debt instruments that may be settled in cash (including partial
      cash
      settlement) upon conversion. The FSP requires issuers to account separately
      for
      the liability and equity components of certain convertible debt instruments
      in a
      manner that reflects the issuer's nonconvertible debt borrowing rate when
      interest cost is recognized. The FSP requires bifurcation of a component of
      the
      debt, classification of that component in equity and the accretion of the
      resulting discount on the debt to be recognized as part of interest expense.
      The
      FSP requires retrospective application to the terms of instruments as they
      existed for all periods presented. The FSP is effective for fiscal years
      beginning after December 15, 2008, and interim periods within those years.
      Early
      adoption is not permitted. Management is currently evaluating the potential
      impact the new pronouncement will have on its consolidated financial
      statements.




In
      June
      2008, the FASB issued FASB Staff Position (FSP) EITF 03-6-1, “Determining
      Whether Instruments Granted in Share-Based Payment Transactions Are
      Participating Securities.” This FSP clarifies that all outstanding unvested
      share-based payment awards that contain rights to nonforfeitable dividends
      participate in undistributed earnings with common shareholders. Awards of this
      nature are considered participating securities and the two-class method of
      computing basic and diluted earnings per share must be applied. This FSP is
      effective for fiscal years beginning after December 15, 2008. Management is
      currently evaluating the potential impact the new pronouncement will have on
      its
      consolidated financial statements.


16





In
      June
      2008, the FASB ratified EITF Issue No. 07-5, “Determining Whether an Instrument
      (or an Embedded Feature) Is Indexed to an Entity’s Own Stock” (EITF 07-5). EITF
      07-5 provides that an entity should use a two step approach to evaluate whether
      an equity-linked financial instrument (or embedded feature) is indexed to its
      own stock, including evaluating the instrument’s contingent exercise and
      settlement provisions. It also clarifies the impact of foreign currency
      denominated strike prices and market-based employee stock option valuation
      instruments on the evaluation. EITF 07-5 is effective for fiscal years beginning
      after December 15, 2008. Management is currently evaluating the potential impact
      the new pronouncement will have on its consolidated financial
      statements.





In
      June
      2008, the FASB ratified EITF Issue No. 08-3, “Accounting for Lessees for
      Maintenance Deposits Under Lease Arrangements” (EITF 08-3). EITF 08-3 provides
      guidance for accounting for nonrefundable maintenance deposits. It also provides
      revenue recognition accounting guidance for the lessor. EITF 08-3 is effective
      for fiscal years beginning after December 15, 2008. Management is currently
      evaluating the potential impact the new pronouncement will have on its
      consolidated financial statements.





In
      October 2008, the FASB issued FSP SFAS No. 157-3, “Determining the
      Fair Value of a Financial Asset When The Market for That Asset Is Not Active”
(FSP 157-3), to clarify the application of the provisions of SFAS 157
      in an inactive market and how an entity would determine fair value in an
      inactive market. FSP 157-3 is effective immediately and applies to our
      September 30, 2008 financial statements. The application of the provisions
      of FSP 157-3 did not materially affect our results of operations or
      financial condition as of and for the periods ended September 30,
      2008.





In
      September 2008, the FASB issued FSP 133-1 and FIN 45-4, “Disclosures about
      Credit Derivatives and Certain Guarantees: An Amendment of FASB Statement No.
      133 and FASB Interpretation No. 45; and Clarification of the Effective Date
      of
      FASB Statement No. 161” (FSP 133-1 and FIN 45-4). FSP 133-1 and FIN 45-4 amends
      and enhances disclosure requirements for sellers of credit derivatives and
      financial guarantees. It also clarifies that the disclosure requirements of
      SFAS
      No. 161 are effective for quarterly periods beginning after November 15, 2008,
      and fiscal years that include those periods. FSP 133-1 and FIN 45-4 is effective
      for reporting periods (annual or interim) ending after November 15, 2008. The
      implementation of this standard will not have a material impact on our
      consolidated financial position and results of operations.





In
      September 2008, the FASB ratified EITF Issue No. 08-5, “Issuer’s Accounting for
      Liabilities Measured at Fair Value With a Third-Party Credit Enhancement” (EITF
      08-5). EITF 08-5 provides guidance for measuring liabilities issued with an
      attached third-party credit enhancement (such as a guarantee). It clarifies
      that
      the issuer of a liability with a third-party credit enhancement should not
      include the effect of the credit enhancement in the fair value measurement
      of
      the liability. EITF 08-5 is effective for the first reporting period beginning
      after December 15, 2008. Management is currently assessing the impact of EITF
      08-5 on its consolidated financial position and results of
      operations.


17





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





Management’s
      discussion and analysis represents an overview of the results of operations
      and
      financial condition, and highlights the significant changes in the results
      of
      operations and financial condition, as presented in the accompanying
      consolidated financial statements for Union National Financial Corporation
      (“Union National”), a bank holding company, and its wholly-owned subsidiary,
      Union National Community Bank (the “Bank”) for the three-month and nine month
      periods ended September 30, 2008 and 2007. Union National’s consolidated
      financial condition and results of operations consist primarily of the Bank’s
      financial condition and results of operations. Union National’s trust
      subsidiaries, Union National Capital Trust I and Union National Capital Trust
      II, were established for the purpose of issuing $11,000,000 of trust capital
      securities during 2003 and 2004. Home Team Financial, LLC, a subsidiary of
      the
      Bank, and its subsidiary, TA of Lancaster, LLC (together, “Home Team”) began
      operations in July 2005, but ceased operations in October 2007. Home Team
      operated a mortgage banking and brokerage business and also offered title
      insurance and settlement services.





This
      discussion should be read in conjunction with the financial tables, statistics,
      and the audited financial statements and notes thereto included in Union
      National’s Annual Report on Form 10-K for the year ended December 31, 2007, and
      with Union National’s Forms 8-K and 10-Q, that were filed during 2008 with the
      SEC. The results of operations for interim periods are not necessarily
      indicative of operating results expected for the full year.





We
      have
      made forward-looking statements in this document, and in documents that we
      incorporate by reference, that are subject to risks and uncertainties.
      Forward-looking statements include information concerning possible or assumed
      future results of operations of Union National, the Bank or the combined
      company. When we use words such as “believes,” “expects,” “anticipates” or
      similar expressions, we are making forward-looking statements.





Stockholders
      should note that many factors, some of which are discussed elsewhere in this
      document, the Annual Report on Form 10-K for the year ended December 31, 2007,
      Union National’s Forms 8-K and 10-Q, and in the documents that are incorporated
      by reference, could affect the future financial results of Union National,
      the
      Bank or the combined company and could cause those results to differ materially
      from those expressed in the forward-looking statements contained or incorporated
      by reference in this document. These factors include but are not limited to
      the
      following:





•
            Operating,
                legal and regulatory risks;


•
            Economic,
                political and competitive forces;


•
            Rapidly
                changing technology; and


•
            The
                risk that our analyses of these risks and forces could be incorrect
                and/or
                that the strategies developedto
                address them could be unsuccessful.





Union
      National undertakes no obligation to publicly revise or update these
      forward-looking statements to reflect events or circumstances that arise after
      the date of this report. Readers should carefully review the risk factors
      described in the Annual Report and other documents that we periodically file
      with the Securities and Exchange Commission, including Union National’s Annual
      Report on Form 10-K for the year ended December 31, 2007.





***Critical
      Accounting Policies***





The
      reporting of our financial condition and results of operations is impacted
      by
      the application of accounting policies by management, some of which are
      particularly sensitive and require significant judgments, estimates and
      assumptions to be made in matters that are inherently uncertain.





The
      provision for loan and lease losses and the level of the allowance for loan
      and
      lease losses involve significant estimates by management in evaluating the
      adequacy of the allowance for loan losses based on our past loan loss
      experience, known and inherent risks in the portfolio, adverse situations that
      may affect the borrower’s ability to repay (including the timing of future
      payments), the estimated value of any underlying collateral, composition of
      the
      loan portfolio, current economic conditions and other relevant factors. Loans
      and lease financing receivables are, throughout the remainder of Management’s
      Discussion and Analysis, collectively referred to as “loans”. While we use
      available information to make such evaluations, future adjustments to the
      allowance and the provision for loan and lease losses may be necessary if
      economic conditions or loan credit quality differ substantially from the
      assumptions we used in making the evaluation.


18


Investments
      are carried at fair value with any unrealized gains, as well as losses that
      we
      consider to be temporary, reported net of tax as an adjustment to stockholders’
equity. If we determine that impairment in the value of an investment security
      is “other than temporary,” the related loss is recorded in the consolidated
      income statement. In order to determine whether such unrealized losses are
      other
      than temporary, management regularly reviews investment securities for possible
      impairment, analyzing factors including but not limited to the underlying
      creditworthiness of the issuing organization, the length of time for which
      the
      market value has been less than cost, and independent analysts’ opinions about
      circumstances that could affect the performance of the investment. After
      considering such factors, it is a matter of judgment on the part of management
      to make the determination of whether or not a decline in market value is other
      than temporary.





***Financial
      Condition***





As
      of
      September 30, 2008, total assets decreased to $493,514,000 as compared to
      $501,776,000 at December 31, 2007. This decrease was generally attributable
      to
      further de-leveraging activities as Union National used lower yielding Federal
      Funds Sold assets to pay down wholesale funding liabilities including long-term
      FHLB debt and certain brokered CD deposits.





Investment
      Securities





Investment
      securities at September 30, 2008 were $74,280,000 as compared to $74,176,000
      at
      December 31, 2007. All of Union National’s investment securities are classified
      as available for sale. Securities classified as available for sale are those
      debt securities that we intend to hold for an indefinite period of time, but
      not
      necessarily to maturity, and marketable equity securities. We possess the
      ability and intent to hold securities with temporary impairment to maturity
      or
      recovery; however, we recognize that the investment portfolio serves other
      functions including an ultimate source of liquidity and a tool to manage
      interest rate risk. In order to acknowledge these functions, we have designated
      our entire portfolio of investment securities as being available for sale.
      Any
      decision to sell a security classified as available for sale would be based
      on
      various factors, including significant movements in interest rates, changes
      in
      maturity mix of our assets and liabilities, liquidity needs, regulatory capital
      considerations, changes in the creditworthiness of the issuing entity, and
      other
      similar factors. Changes in unrealized gains or losses on available-for-sale
      securities, net of taxes, are recorded as Other Comprehensive Income (Loss),
      a
      component of Stockholders' Equity (see related discussion in Note 14 to the
      consolidated financial statements).





Union
      National purchases certain types of mortgage-backed securities to better
      position our investment portfolio for a subsequent increase or decrease in
      interest rates, as aligned with our interest rate risk position. These
      securities may be purchased at premiums or discounts, with short-, mid-, or
      long-term average expected lives or maturities. Overall yields on these
      securities will increase or decrease based on changes in prepayment speeds
      and
      subsequent cash flow reinvestments. The weighted-average yield on
      mortgage-backed securities was 4.75% and 4.95% at September 30, 2008 and
      December 31, 2007, respectively. Cash flows from these securities and changes
      in
      market interest rates are considered in our net interest income simulation
      model. See other sections of Management’s Discussion and Analysis titled *Liquidity* and *Market
      Risk - Interest Rate Risk* for
      further discussion.





As
      of
      September 30, 2008 and December 31, 2007, Union National had a portfolio of
      investment securities as follows:





September 30, 2008
            
            December 31, 2007Market
                Value of Debt Securities
            
            $
            74,054,000
            
            $
            73,729,000Market
                Value of Equity Securities
            
            
            226,000
            
            
            447,000Total
                Market Value of Investment Securities
            
            $
            74,280,000
            
            $
            74,176,000





Equity
      securities held are comprised primarily of common stock holdings in other
      financial institutions. The market values include aggregate unrealized losses
      of
      $2,000 as of September 30, 2008 and aggregate unrealized gains of $88,000 as
      of
      December 31, 2007, respectively.





Debt
      securities include government agencies, mortgage-backed securities,
      collateralized mortgage obligations and corporate securities. The market value
      of these debt securities included aggregated pre-tax unrealized losses of
      $886,000 and $70,000 as of September 30, 2008 and December 31, 2007,
      respectively, which amounted to 1.2% and 0.1% of the amortized cost basis of
      the
      debt securities as of September 30, 2008 and December 31, 2007,
      respectively.


19





As
      of
      September 30, 2008, $72,455,000 or 97.5% of the fair value of total investment
      securities were measured using Level 2 inputs as defined by SFAS 157, and
      $1,825,000 or 2.5% were measured using Level 3 inputs as defined by SFAS 157
      (see definitions and related discussion in Note 12 to the consolidated financial
      statements).





The
      fair
      value of Level 3 investment securities decreased to $1,825,000 at September
      30,
      2008 from $2,172,000 at December 31, 2007. $193,000 of the decrease in value
      related to interest payments received, which were fully applied to principal
      throughout 2008. The remaining $154,000 of the decrease in value between
      September 30, 2008 and December 31, 2007 were unrealized losses which management
      determined to be temporary (with a corresponding after-tax reduction of
      stockholders’ equity of $102,000 recorded as an other comprehensive loss). The
      reduction in stockholders’ equity did not materially impact Union National’s
      capital position, as net income substantially offset the impact of the other
      comprehensive losses. Additionally, because the securities have a higher degree
      of illiquidity, they are not viewed by management as a primary and relied upon
      source of Union National’s liquidity and funds management
      processes.





In
      October 2008, the FASB issued FSP SFAS No. 157-3, “Determining the Fair Value of
      a Financial Asset in a Market that is not Active” (FSP 157-3), which amended
      SFAS No. 157. The FSP clarifies how the fair value of a financial instrument
      is
      determined when the market for that financial asset is inactive. FSP No. 157-3
      was adopted effective as of September 30, 2008.





Included
      in the Level 3 securities are three corporate debt obligations (see related
      discussion in Note 8 to the consolidated financial statements) with underlying
      positions being primarily trust preferred instruments. Market pricing for these
      securities vary widely from one pricing service to another based on a lack
      of
      trading so they were considered to no longer have readily observable market
      data. The fair values as of September 30, 2008, were determined by discounting
      the expected cash flows over the life of the security. Prior to September 30,
      2008, management’s valuation and assessment of these Level 3 investments was
      based primarily upon indicative exit pricing and analyses obtained from
      broker/dealers who are market makers for these specific types of securities.
      Additional support for the valuation included internal analyses of investment
      performance and ratings. The temporarily reduced market prices as of September
      30, 2008 were not a result of a default in the underlying issuers. The three
      securities remain rated as investment grade as of September 30, 2008, as they
      have been since the time of purchase, and all three securities were current,
      as
      of September 30, 2008, for scheduled investment interest payments since
      origination. Management determined the declines in market value to be recorded
      and treated as temporary based upon the following considerations:





·
            The
                financial condition and near-term prospects of the issuers do not
                reflect
                any defaults or other specific events which may have influenced the
                operations of the issuers, such as changes in technology that may
                have
                impaired the earnings potential of the investments, or the discontinuance
                of a segment of the business that may affect the future earnings
                potential. The three investment securities were current, as of September
                30, 2008, for scheduled investment interest payments since
                issuance.


·
            The
                reduced market value of the securities was based upon limited trading
                activity in the first nine months of 2008 as the securities reflect
                a
                higher degree of illiquidity.


·
            The
                recent unrealized losses have been for a short period of time (less
                than
                nine months).


·
            Management
                has both the ability and intention to hold the securities until a
                reasonable recovery towards the carrying
                value.





Loans,
      Credit Quality and Credit Risk





Management
      does not believe there are any significant trends, events or uncertainties
      that
      are reasonably expected to have a material impact on future results of
      operations, liquidity or capital resources. However, we recognize that the
      effects of current and past economic conditions and other unfavorable business
      conditions may impact certain borrowers’ abilities to comply with their
      repayment terms. Management continues to closely monitor economic and business
      conditions and the impact on borrowers' financial strength.


20


At
      September 30, 2008, total nonperforming loans amounted to $3,309,000, or 0.9%
      of
      net loans, as compared to a level of $3,039,000, or 0.8%, at December 31, 2007.
      Historically, the percentage of nonperforming loans to net loans for the
      five-year period ending December 31, 2007, was an average of 0.7%.





Schedule
      of Nonperforming Assets (dollars in thousands):





September 30, 2008
            
            December 31, 2007Nonaccruing
                Loans
            
            $
            2,838
            
            $
            2,919Accruing
                Loans – 90 days or more past due
            
            
            471
            
            
            120Total
                Nonperforming Loans
            
            
            3,309
            
            
            3,039Repossessed
                Assets
            
            
            514
            
            
            156Total
                Nonperforming Assets
            
            $
            3,823
            
            $
            3,195Nonperforming
                Loans as a % of Net Loans
            
            
            0.90
            %
            
            0.83
            %Allowance
                for Loan Losses as a % of Nonperforming Loans
            
            
            117.4
            %
            
            120.9
            %





Union
      National considers a loan or lease to be impaired when, based upon current
      information and events, it is probable that all interest and principal payments
      due according to the contractual terms of the loan or lease agreement will
      not
      be collected. An insignificant delay or shortfall in the amounts of payments
      would not cause a loan or lease to be considered impaired. Management determines
      the significance of payment delays and payment shortfalls on a case-by-case
      basis, taking into consideration all of the circumstances surrounding the loan
      or lease and the borrower, including the length of the delay, the reasons for
      the delay, the borrower’s prior payment record and the amount of the shortfall
      in relation to the principal and interest owed. Larger groups of small-balance
      loans, such as residential mortgages and consumer installment loans, are
      collectively evaluated for impairment. Accordingly, Union National does not
      separately identify individual consumer and residential loans for impairment
      disclosures unless such loans are the subject of a restructuring agreement.





As
      of
      September 30, 2008, Union National had impaired loans totaling $7,042,000 or
      1.9% of total loans and leases (before the allowance for loan and lease losses),
      a net increase of $4,406,000 as compared to December 31, 2007, when the total
      value of impaired loans was $2,636,000 or 0.7% of total loans and leases. The
      increase in impaired loans relates to certain larger commercial credits which
      were rated as classified as of December 31, 2007; however, during the first
      quarter of 2008, management determined that the loans further met the criteria
      as impaired.





As
      previously discussed in Note 12 to the consolidated financial statements, Union
      National determines the fair value of impaired loans on a loan-by-loan basis
      based primarily upon the fair value of the underlying collateral using Level
      3
      inputs comprised of customized collateral value discounting
      analyses.





Allowance
      for Loan and Lease Losses





We
      maintain the allowance for loan losses at a level that we believe adequate
      to
      absorb estimated probable loan losses. We are responsible for the adequacy
      of
      the allowance for loan losses, which is reviewed monthly and formally evaluated
      on a quarterly basis. The allowance is increased by provisions charged to
      expense and reduced by net charge-offs. Our evaluation of the adequacy of the
      allowance is based on our past loan loss experience, known and inherent risks
      in
      the portfolio, adverse situations that may affect the borrower's ability to
      repay (including the timing of future payments), the estimated value of any
      underlying collateral, composition of the loan portfolio, current economic
      conditions and other relevant factors. While we use available information to
      make such evaluations, future adjustments to the allowance may be necessary
      if
      economic conditions differ substantially from the assumptions we used in making
      the evaluation. In addition, various regulatory agencies, as an integral part
      of
      their examination process, review the Bank's allowance for loan losses. Such
      agencies may require us to recognize additions to the allowance based on their
      judgment of information available to them at the time of their examination.
      We
      determined that no adjustment to the allowance for loan losses was necessary
      as
      a result of the Office of the Comptroller of the Currency’s (“OCC”) most recent
      examination.


21


Despite
      lower net charge-offs and relatively stable nonperforming loan rates in 2008
      as
      compared to 2007, Union National prudently increased its allowance for loan
      and
      lease losses from $3,651,000 or 1.01% of total loans and leases at September
      30,
      2007, to $3,886,000 or 1.05% of total loans and leases as of September 30,
      2008.
      The increased allowance for loan and lease losses reflected Union National’s
      continued emphasis on conservatively and diligently monitoring its existing
      portfolio, including identifying credit concerns and risks resulting from the
      weakening economy and housing market. We believe, based on information currently
      available, that the current allowance for loan and lease losses of $3,886,000
      is
      adequate to meet potential loan and lease losses. A summary of the transactions
      in the Allowance for Loan and Lease Losses for the three and nine months ended
      September 30, 2008 and 2007 are presented below (dollars in
      thousands):





Three Months Ended
              September 30,
            
            Nine Months Ended
              September 30,2008
            
            2007
            
            2008
            
            2007Average
                Total Loans Outstanding (Net of Unearned Income)
            
            $
            376,415
            
            $
            362,508
            
            $
            370,380
            
            $
            354,008Allowance
                for Loan and Lease Losses, Beginning of Period
            
            $
            3,831
            
            $
            3,449
            
            $
            3,675
            
            $
            3,070Charge-Offs
            
            
            ─
            
            
            (29
            )
            
            (134
            )
            
            (128
            )Recoveries
            
            
            8
            
            
            1
            
            
            19
            
            
            2Net
                Recoveries (Charge-Offs)
            
            
            8
            
            
            (28
            )
            
            (115
            )
            
            (126
            )Addition
                to Provision for Loan and Lease Losses
            
            
            47
            
            
            230
            
            
            326
            
            
            707Allowance
                for Loan and Lease Losses, End of Period
            
            $
            3,886
            
            $
            3,651
            
            $
            3,886
            
            $
            3,651Ratio
                of Net Loans and Leases Charged Off to Average Loans Outstanding
                (Annualized)
            
            
            0.00
            %
            
            0.03
            %
            
            0.05
            %
            
            0.05
            %Ratio
                of Allowance for Loan and Lease Losses to Loans at End of
                Period
            
            
            
            
            
            
            
            
            1.05
            %
            
            1.01
            %





The
      portion of the allowance for loan and lease losses which related to Level 3
      valued impaired loans was $706,000 at September 30, 2008 as compared to $380,000
      at December 31, 2007. During the three and nine month period ended September
      30,
      2008, the allowance for loan and lease losses related to impaired loans was
      increased by $388,000 and $326,000, respectively.





Stockholders'
      Equity





Stockholders’
      equity increased to $31,075,000 at September 30, 2008 compared to $28,800,000
      at
      December 31, 2007. The increase in stockholders’ equity was primarily a result
      of gross cash proceeds received from a private placement stock offering in
      the
      amount of $1,635,000 (see related discussion in Note 9 to the consolidated
      financial statements) and increases to retained earnings from year-to-date
      earnings, offset by other comprehensive losses arising during the period. Union
      National's common equity position at September 30, 2008 exceeds the regulatory
      required minimums as disclosed on page 31.





***Results
      of Operations for the Three Months Ended September 30, 2008 and
      2007*** ******





Overview





Net
      income for the third quarter of 2008 was $626,000 or $0.23 diluted earnings
      per
      share as compared to net income of $393,000 or $0.15 diluted earnings per share
      for the third quarter of 2007. Annualized return on average equity for the
      third
      quarter of 2008 was 8.27% as compared to 5.41% for the same period in 2007.
      Annualized return on average assets for the third quarter of 2008 was 0.51%
      as
      compared to 0.32% for the same period in 2007. The discussion that follows
      further explains the changes in the components of net income when comparing
      the
      third quarter of 2008 to the third quarter of 2007.


22


Net
      Interest Income





Net
      interest income is the amount by which interest income on loans and investments
      exceeds interest incurred on deposits and borrowings. Net interest income is
      our
      primary source of revenue. The amount of net interest income is affected by
      changes in interest rates and by changes in the volume and mix of
      interest-sensitive assets and liabilities. Net interest income and corresponding
      yields are presented in the discussion and analysis below on a
      taxable-equivalent basis. Income from tax-exempt assets, primarily loans to
      or
      securities issued by state and local governments, is adjusted by an amount
      equivalent to the federal income taxes which would have been paid if the income
      received on these assets was taxable at the statutory rate of 34%.





Although
      the effective interest rate impact on earning assets and funding sources can
      be
      reasonably estimated at current interest rate levels, the options selected
      by
      customers, and the future mix of the loan, investment and deposit products
      in
      the Bank's portfolios, may significantly change the estimates used in the
      simulation models. In addition, our net interest income may be impacted by
      further interest rate actions of the Federal Reserve Bank.





Net
      interest income was $3,840,000 for the third quarter of 2008, as compared to
      $3,887,000 for the same quarter in 2007. Rapid and significant interest rate
      cuts from late 2007 through the first half of 2008 caused certain interest
      yields on loans and investments to re-price lower at a faster pace than
      interest-bearing deposits and fund sources, resulting in lower net interest
      margins in 2008 versus 2007. However, net interest margins have steadily
      improved through 2008 as prepayments of certain higher-cost wholesale funds,
      and
      renewing and opening of retail deposits, have resulted in decreasing interest
      expenses. The taxable-equivalent net interest margin percentage for the third
      quarter of 2008 was 3.44%, as compared to 3.34% for the third quarter of 2007.





Interest
      and fees on loans decreased $706,000 in the third quarter of 2008 as compared
      to
      the same period in 2007. A decrease in average yield of approximately 100 basis
      points due to interest rate cuts in the past year more than offset additional
      earnings from a $13,907,000 increase in the average balance of the loan
      portfolio.





Interest
      and dividends earned on investment securities decreased $111,000 in the third
      quarter of 2008 as compared to the same period in 2007. A decrease in the
      average yield of 83 basis points due to both market rate reductions and
      generally lower risk, lower yielding investments more than offset additional
      earnings from a $4,572,000 increase in the average balance of the investment
      portfolio which resulted in less interest earned on investment securities in
      comparison to the 2007 period.





Interest
      expense was $3,197,000 for the third quarter of 2008, as compared to $4,149,000
      for the same quarter in 2007. Union National’s overall cost of funds declined to
      3.08% for the third quarter of 2008 as compared to 4.05% for the third quarter
      of 2007. This reduction was attributable to both market interest rate decreases
      and the de-leveraging of higher cost wholesale liabilities (see related
      discussion in Note 7 to the consolidated financial statements).





Provision
      for Loan and Lease Losses





The
      provision for loan and lease losses is an estimated expense charged to earnings
      to provide for losses attributable to uncollectible loans and leases, based
      on
      our analysis of the adequacy of the allowance for loan and lease losses. The
      provision was $47,000 for the third quarter of 2008 as compared to $230,000
      for
      the same period in 2007. The higher provision for the third quarter of 2007,
      increased the allowance relative to loan growth and certain higher 2007
      estimates of potential losses. Future adjustments to the allowance, and the
      provision for loan and lease losses, may be needed if economic conditions or
      loan credit quality differ substantially from the assumptions we used in making
      our evaluation of the level of the allowance for loan and lease losses as
      compared to the balance of outstanding loans. See additional discussion on *Loans,
      Credit Quality and Credit Risk* ,
      and the *Allowance
      for Loan and Lease Losses* in the
      Financial Condition section of this Management Discussion and
      Analysis.


23


Non-Interest
      Income





Non-interest
      income decreased by $560,000 or 32.0% during the third quarter of 2008 versus
      the same quarter of 2007. The decrease was a result of net increases (decreases)
      in the following components of non-interest income (in thousands):





Three Months EndedNon-Interest
                Income
            
            September 30, 2008 vs.
              2007Income
                from Fiduciary Activities
            
            $
            (17
            )Service
                Charges on Deposit Accounts
            
            
            26Other
                Service Charges, Commissions, and Fees
            
            
            35Alternative
                Investment Sales Commissions
            
            
            5Net
                Investment Securities Gains (Losses)
            
            
            (42
            )Mortgage
                Banking/Brokerage Activities
            
            
            (421
            )Title
                Insurance/Settlement Income
            
            
            (78
            )Earnings
                from Bank-Owned Life Insurance
            
            
            4Other
            
            
            (72
            )Total
                Decrease in Other Operating Income
            
            $
            (560
            )





Much
      of
      the decrease in non-interest income was primarily due to reductions in mortgage
      banking income related to the closure in the fourth quarter of 2007 of Union
      National’s mortgage brokerage subsidiary, Home Team (see related discussion in
      Note 6 of the consolidated financial statements). For the three months ended
      September 30, 2008, consolidated operating results reflected no mortgage
      banking/brokerage and title insurance/settlement income related to Home Team,
      as
      compared to the three months ended September 30, 2007, whereby non-interest
      income included $436,000 of mortgage brokerage income and $78,000 of title
      insurance/settlement income related to Home Team.





During
      the third quarter of 2008, losses of $42,000 were associated with investment
      sales activity related to continued repositioning of Union National’s investment
      portfolio to a lower-risk profile that more effectively supports liquidity
      and
      capital management. There was no investment sales activity for the same period
      in 2007.





Non-Interest
      Expense





Non-interest
      expense decreased by $754,000 or 15.4% during the third quarter of 2008 versus
      the third quarter of 2007. Increases (decreases) in the components of
      non-interest expense when comparing the three-month period ended September
      30,
      2008 and 2007 are as follows (in thousands):





Three Months EndedNon-Interest
                Expense
            
            September 30, 2008 vs.
              2007Salaries
                and Wages
            
            $
            (301
            )Employee
                Benefit Costs
            
            
            (66
            )Net
                Occupancy
            
            
            (82
            )Furniture
                and Equipment
            
            
            17Professional
                Fees
            
            
            (237
            )Data
                Processing Services
            
            
            4Pennsylvania
                Shares Tax
            
            
            53Advertising
                and Marketing
            
            
            36ATM
                Processing
            
            
            (10
            )Minority
                Interest in Earnings of Subsidiaries
            
            
            140Other
                Expenses
            
            
            (308
            )Total
                Decrease in Other Operating Expenses
            
            $
            (754
            )


24


The
      decrease in Salaries and Wages, and Employee Benefit Costs, reflect the positive
      impact realized from the staff restructuring, as well as the cessation of
      operations of Home Team during the fourth quarter of 2007. The decrease in
      Net
      Occupancy costs was the result of subleasing a portion of Union National’s
      corporate office facility. Professional fees decreased primarily due to 2007
      expenses including fees for a nonrecurring profit improvement consulting
      engagement. The change in Minority Interest in Earnings of Subsidiaries reflects
      the impact of the Home Team shutdown during the fourth quarter of 2007. The
      decrease in Other Expenses was also related to the closure of Home Team. Union
      National recorded $326,000 related to the impairment of goodwill and minority
      interest assets associated with Union National’s ownership of Home Team in the
      third quarter of 2007.





Income
      Taxes





Income
      tax expense was $214,000 for the three months ended September 30, 2008, as
      compared to $117,000 for the same period in 2007. The effective tax rate for
      the
      three months ended September 30, 2008 was 25.5%. Generally, Union National’s
      effective tax rate is below the statutory rate due to tax-exempt earnings on
      loans, investments, and bank-owned life insurance, and the impact of tax
      credits. The realization of deferred tax assets is dependent on future earnings.
      As a result of Union National’s adoption of FIN 48 and FIN 48-1 effective
      January 1, 2007, no significant income tax uncertainties were identified,
      therefore, Union National recognized no adjustment for unrecognized income
      tax
      benefits for the periods ended September 30, 2008 and 2007. We currently
      anticipate that future earnings will be adequate to fully utilize deferred
      tax
      assets.





***Results
      of Operations for the Nine Months Ended September 30, 2008 and
      2007*** ******





Overview





For
      the
      nine months ended September 30, 2008, net income was $1,343,000 or $0.51 diluted
      earnings per share, compared to $374,000 or $0.15 diluted earnings per share
      for
      the same period in 2007. Annualized return on average equity for the nine month
      period in 2008 was 6.06% compared to the prior year’s ratio for the same period
      of 1.75%. Annualized return on average assets for the nine month period in
      2008
      was 0.37% versus 0.10% in 2007. The discussion that follows further explains
      the
      changes in the components of net income when comparing the nine month period
      of
      2008 to the same period in 2007.





Net
      Interest Income





For
      the
      nine months ended September 30, 2008, net interest income was $10,965,000
      compared to $11,697,000 for the same period in 2007. The decrease in net
      interest income was primarily the result of net interest margin compression.
      Rapid and significant interest rate cuts from late 2007 through the first half
      of 2008 caused certain interest yields on loans and investments to re-price
      lower at a faster pace than interest-bearing deposits and fund sources,
      resulting in lower net interest margins in 2008 versus 2007. **** Union
      National’s net interest margin was 3.27% for the nine month period of 2008
      compared to 3.62% for the same period of 2007.





Interest
      and fees on loans decreased by $1,413,000 for the nine months ended September
      30, 2008, as compared to the same period in 2007. A decrease in average yield
      of
      82 basis points due to market interest rate reductions more than offset earnings
      from a $14,835,000 increase in the average balance of the loan portfolio.





Interest
      and dividends earned on investment securities decreased $644,000 for the nine
      months ended September 30, 2008, as compared to the same period in 2007. A
      decrease in the average yield of approximately 112 basis points coupled with
      a
      $3,784,000 decrease in the average balance of the investment portfolio resulted
      in less interest earned on investment securities in comparison to the 2007
      period.





Interest
      expense was $10,441,000 for the nine months ended September 30, 2008, as
      compared to $11,843,000 for the same period in 2007. Union National’s overall
      cost of funds decreased to 3.39% for the nine months ended September 30, 2008,
      as compared to 3.99% for the same period in 2007 (see related discussion of
      de-leveraging and interest rate reductions in Note 7 to the consolidated
      financial statements).


25


Provision
      for Loan and Lease Losses





For
      the
      nine months ended September 30, 2008, the provision for loan and lease losses
      was $326,000 as compared to $707,000 for the same period in 2007. The provision
      for the nine months ended September 30, 2007, increased the allowance relative
      to loan growth and certain higher 2007 estimates of potential losses. Despite
      the lower provision in 2008, Union National increased its allowance for loan
      and
      lease losses by 6.4% from $3,651,000 or 1.01% of total loans and leases at
      September 30, 2007, to $3,886,000 or 1.05% of total loans and leases at
      September 30, 2008. Future adjustments to the allowance, and the provision
      for
      loan and lease losses, may be needed if economic conditions or loan credit
      quality differ substantially from the assumptions we used in making our
      evaluation of the level of the allowance for loan and lease losses as compared
      to the balance of outstanding loans. See additional discussion on *Loans,
      Credit Quality and Credit Risk* ,
      and the *Allowance
      for Loan and Lease Losses* in the
      Financial Condition section of this Management Discussion and
      Analysis.





Non-Interest
      Income





For
      the
      nine months ended September 30, 2008, non-interest income decreased by
      $1,692,000 or 30.6% as compared to the same period of 2007. The decrease was
      a
      result of net increases (decreases) in the following components of non-interest
      income (in thousands):





Nine Months EndedNon-Interest
                Income
            
            September 30, 2008 vs.
              2007Income
                from Fiduciary Activities
            
            $
            (69
            )Service
                Charges on Deposit Accounts
            
            
            106Other
                Service Charges, Commissions, and Fees
            
            
            33Alternative
                Investment Sales Commissions
            
            
            (4
            )Impairment
                Charge on Investment Security
            
            
            450Net
                Investment Securities Gains (Losses)
            
            
            81Mortgage
                Banking/Brokerage Activities
            
            
            (1,790
            )Title
                Insurance/Settlement Income
            
            
            (301
            )Earnings
                from Bank-Owned Life Insurance
            
            
            13Other
                Income
            
            
            (211
            )Total
                Decrease in Other Operating Income
            
            $
            (1,692
            )





Much
      of
      the decrease in non-interest income was primarily due to reductions in mortgage
      banking income related to the closure in the fourth quarter of 2007 of Union
      National’s mortgage brokerage subsidiary, Home Team (see related discussion in
      Note 6 to the consolidated financial statements). For the nine months ended
      September 30, 2008, consolidated operating results reflected no mortgage
      banking/brokerage and title insurance/settlement income related to Home Team,
      as
      compared to the nine months ended September 30, 2007 when non-interest income
      included $1,807,000 of mortgage brokerage income and $301,000 of title
      insurance/settlement income related to Home Team.





For
      the
      nine months ended September 30, 2008, Union National realized gains on sales
      of
      investment securities of $159,000 as compared to $78,000 for the same period
      in
      2007. The 2007 investment sales activity related to securities sold as part
      of
      2007 de-leveraging activities, while the 2008 investment sales activity related
      to continued repositioning of the Corporation’s investment portfolio to a
      lower-risk profile that more effectively supports liquidity and capital
      management. The results for the nine months ended September 30, 2007 included
      $450,000 of other-than-temporary investment impairment charges related to
      certain corporate debt securities as described in Note 8 to the Consolidated
      Financial Statements. There were no further other-than-temporary impairment
      charges recorded against the carrying value of corporate debt securities during
      the first nine months of 2008. Union National did not own any Fannie Mae or
      Freddie Mac preferred or common stock holdings.





The
      decrease in Other Income was related to income generated from a cash bailment
      agreement on a network of ATM machines. This agreement was terminated during
      the
      first quarter of 2008. Accordingly, operating results for the nine months ended
      September 30, 2008 reflect income generated only from the first quarter of
      2008.
      For the nine months ended September 30, 2007, operating results reflect income
      for the full nine months.


26


Non-Interest
      Expense





For
      the
      nine months ended September 30, 2008, non-interest expense decreased $3,652,000
      or 22% as compared to the same period in 2007. Increases (decreases) in the
      components of non-interest expense when comparing the nine month period ended
      September 30, 2008 and 2007 are as follows (in thousands):




Nine Months EndedNon-Interest
                Expense
            
            September 30, 2008 vs.
              2007Salaries
                and Wages
            
            $
            (1,488
            )Employee
                Benefit Costs
            
            
            (435
            )Net
                Occupancy
            
            
            (505
            )Furniture
                and Equipment
            
            
            (39
            )Professional
                Fees
            
            
            (632
            )Data
                Processing Services
            
            
            2Pennsylvania
                Shares Tax
            
            
            72Advertising
                and Marketing
            
            
            (212
            )ATM
                Processing
            
            
            (37
            )Minority
                Interest in Earnings of Subsidiaries
            
            
            207Restructuring
                Charge
            
            
            (717
            )Other
                Expenses
            
            
            132Total
                Decrease in Other Operating Expenses
            
            $
            (3,652
            )





The
      decrease in Salaries and Wages, and Employee Benefit Costs, reflect the positive
      impact realized from the staff restructuring, as well as the closure of
      operations of Home Team during the fourth quarter of 2007.





Net
      Occupancy costs decreased primarily due to the second quarter of 2007 including
      a charge of $259,000 for a commitment on a parcel of real estate which was
      to be
      used for a future retail branch site. Additionally, Union National has reduced
      its net occupancy expense through subleasing a portion of its corporate office
      facility. This facility was first occupied during the third quarter of 2007.
      As
      a result, there was no benefit recognized for the six-months ended June 30,
      2007. However, the benefit was recognized for the entire nine months ended
      September 30, 2008.





Professional
      Fees decreased primarily due to 2007 expenses related to a nonrecurring profit
      improvement consulting engagement. Advertising and Marketing costs were higher
      in 2007 due to branding costs related to the Gold Café launch and marketing
      charges related to the now closed Home Team subsidiary. Minority Interest in
      Earnings of Subsidiaries reflects the impact of the Home Team shutdown during
      the fourth quarter of 2007. The Restructuring Charge, as previously described
      in
      Note 7 to the consolidated financial statements, consisted of staff
      reorganization severance and related costs incurred in the first and second
      quarters of 2007.





Included
      in other non-interest expenses for 2008 was a one-time charge of $370,000 that
      occurred in the second quarter, related to certain fraudulent loans made by
      one
      employee who has since been terminated. Based upon Union National’s
      investigation of the matter, there does not appear to be any additional losses
      or the involvement of other employees. Union National has evaluated the impact
      of this incident on its current internal controls and procedures and has
      implemented changes necessary to strengthen control processes and address the
      issues raised by this isolated event. The appropriate governmental authorities
      have been notified and Union National is cooperating fully with respect to
      the
      authorities’ investigation. Union National is pursuing available avenues for
      collection of the loss including insurance recovery and legal restitution from
      the former employee.





Also
      included in other non-interest expenses for 2008, was increased expenses related
      to FDIC insurance premiums of $262,000 as compared to the same period in 2007.
      Union National received a one-time assessment credit which reduced the 2007
      expense. Union National also prepaid $17,482,000 of FHLB advances during the
      first half of 2008 which resulted in $68,000 in prepayment penalties which
      were
      recorded in other non-interest expenses.





Included
      in other non-interest expenses for 2007 **** was
      $326,000 related to the impairment of previously recorded goodwill and minority
      interest assets associated with Union National’s ownership of Home Team. There
      was also $192,000 of additional expenses associated with Home Team included
      in
      2007 as well.





27





Income
      Taxes





Income
      tax expense was $373,000 for the nine months ended September 30, 2008, as
      compared to a benefit of $267,000 for the same period in 2007. The effective
      tax
      rate for the nine months ended September 30, 2008 was 21.7%. Generally, Union
      National’s effective tax rate is below the statutory rate due to tax-exempt
      earnings on loans, investments, and bank-owned life insurance, and the impact
      of
      tax credits. The realization of deferred tax assets is dependent on future
      earnings. As a result of Union National’s adoption of FIN 48 and FIN 48-1
      effective January 1, 2007, no significant income tax uncertainties were
      identified, therefore, Union National recognized no adjustment for unrecognized
      income tax benefits for the periods ended September 30, 2008 and 2007. We
      currently anticipate that future earnings will be adequate to fully utilize
      deferred tax assets.





***Recent
      Developments***





The
      global and U.S. economies are experiencing significantly reduced business
      activity as a result of, among other factors, disruptions in the financial
      system during the past year. Dramatic declines in the housing market during
      the
      past year, with falling home prices and increasing foreclosures and
      unemployment, have resulted in significant write-downs of asset values by
      financial institutions, including government-sponsored entities and major
      commercial and investment banks. These write-downs, initially of mortgage-backed
      securities but spreading to credit default swaps and other derivative securities
      have caused many financial institutions to seek additional capital, to merge
      with larger and stronger institutions and, in some cases, to fail.





Reflecting
      concern about the stability of the financial markets generally and the strength
      of counterparties, many lenders and institutional investors have reduced, and
      in
      some cases, ceased to provide funding to borrowers, including other financial
      institutions. The availability of credit, confidence in the financial sector,
      and level of volatility in the financial markets have been significantly
      adversely affected as a result. In recent weeks, volatility and disruption
      in
      the capital and credit markets has reached unprecedented levels. In some cases,
      the markets have produced downward pressure on stock prices and credit capacity
      for certain issuers without regard to those issuers’ underlying financial
      strength.





In
      response to the financial crises affecting the banking system and financial
      markets and going concern threats to investment banks and other financial
      institutions, on October 3, 2008, the Emergency Economic Stabilization Act
      of
      2008 (the “EESA”) was signed into law. Pursuant to the EESA, the U.S. Treasury
      will have the authority to, among other things, purchase up to $700 billion
      of
      mortgages, mortgage-backed securities and certain other financial instruments
      from financial institutions for the purpose of stabilizing and providing
      liquidity to the U.S. financial markets. The EESA included a provision for
      a
      temporary increase in FDIC insurance from $100,000 to $250,000 per depositor
      through December 31, 2009.





On
      October 14, 2008, Secretary Paulson, after consulting with the Federal Reserve
      and the FDIC, announced that the Department of the Treasury will purchase equity
      stakes in a wide variety of banks and thrifts. Under this program, known as
      the
      Troubled Asset Relief Program (“TARP”) Capital Purchase Program, from the $700
      billion authorized by the EESA, the Treasury will make $250 billion of capital
      available to U.S. financial institutions in the form of preferred stock. In
      conjunction with the purchase of preferred stock, the Treasury will receive
      warrants to purchase common stock with an aggregate market price equal to 15%
      of
      the preferred investment. Participating financial institutions will be required
      to adopt the Treasury’s standards for executive compensation and corporate
      governance for the period during which the Treasury holds equity issued under
      TARP Capital Purchase Program.





Also
      on
      October 14, 2008, after receiving a recommendation from the boards of the FDIC
      and the Federal Reserve, and consulting with the President, Secretary Paulson
      signed the systemic risk exception to the FDIC Act, enabling the FDIC to
      temporarily provide a 100% guarantee of the senior debt of all FDIC-insured
      institutions and their holding companies, as well as deposits in non-interest
      bearing transaction deposit accounts under a Temporary Liquidity Guarantee
      Program. Coverage under the Temporary Liquidity Guarantee Program is available
      until November 12, 2008 without charge and thereafter at a cost of 75 basis
      points per annum for senior unsecured debt and 10 basis points per annum for
      non-interest bearing transaction deposits.





It
      is not
      clear at this time what impact the EESA, TARP Capital Purchase Program, the
      Temporary Liquidity Guarantee Program, other liquidity and funding initiatives
      of the Federal Reserve and other agencies that have been previously announced,
      and any additional programs that may be initiated in the future will have on
      the
      financial markets and the other difficulties described above, including the
      extreme levels of volatility and limited credit availability currently being
      experienced, or on the U.S. banking and financial industries and the broader
      U.S. and global economies. Further adverse effects could have an adverse effect
      on the Corporation and its business.


28




***Outlook***





The
      economy in the Bank’s market for the remainder of 2008 and into 2009 may be
      negatively impacted by recent national economic events and overall national
      economic trends including the lessening of certain borrowers' financial
      strength, a decline in the housing market and residential mortgage activity,
      and
      the recent significant decline in interest rates. Management is monitoring
      these
      general and specific trends closely. We are closely monitoring our commercial
      and consumer credit relationships, and both loans and investment holdings
      collateralized by residential mortgages, which are potentially impacted by
      the
      health of the housing market.





We
      are
      also closely monitoring and managing the significant decline in interest rates
      that began at the end of 2007 and continued into 2008. Though the decline in
      interest rates experienced in the past year has compressed our net interest
      margin and net interest income in the past year, we began to see improvements
      in
      our net interest spread during the second quarter of 2008, which continued
      through the third quarter of 2008, as we continued to grow our lower-cost retail
      deposit base and pay down our higher-cost wholesale borrowings and brokered
      deposits. We regularly assess our interest rate sensitivity, and have taken
      measures to reduce our core funding costs to mitigate the potential negative
      impacts of these significant rate shifts on our core net interest
      income.





Despite
      these challenging economic conditions, **** Union
      National has reported improved financial results for the third quarter and
      the
      first nine months of 2008. By implementing and building on our back-to-basics
      banking strategy, Union National emphasized its traditional conservative banking
      values and positioned itself safely and soundly, which is particularly important
      given the weakening economy and turbulent markets. Though significant interest
      rate cuts have lowered our interest income, we have generated savings in our
      funding costs by growing our lower-cost retail deposit base and paying down
      higher-cost borrowings. In the past year, we have substantially lowered our
      operating costs, allowing us to be more efficient in a difficult market when
      income growth is challenging. We believed it prudent for Union National to
      fully
      maintain its strong, well-capitalized position in these uncertain economic
      times. Accordingly, the Board did not declare a dividend payment to shareholders
      for the fourth quarter. Union National remains committed to safely growing
      our
      earnings and enhancing shareholder value by expanding the number and depth
      of
      our customer relationships, increasing net interest income, operating with
      greater efficiencies, and maintaining our strong, **** well-capitalized
      position.





Further,
      the restructuring changes we made in the past year have substantially lowered
      our operating costs. With the closure of our Home Team subsidiary in 2007,
      we
      expect overall non-interest income and non-interest expenses to decrease
      significantly in 2008 compared to 2007 due to the substantial elimination of
      mortgage brokerage income and costs. Further, we expect continued substantial
      non-interest expense savings from efficiencies due to the 2007 restructuring
      activities.


29





***Capital
      Adequacy***





Union
      National and the Bank maintain capital ratios that are above the minimum total
      capital levels required by federal regulatory authorities.





On
      June
      20, 2007, the Bank entered into an MOU with the OCC as previously described
      in
      Note 11 of the consolidated financial statements. Included in the MOU is a
      requirement that the Bank develop and implement a three-year capital plan,
      in
      accordance with specific guidelines set forth in the MOU, including a dividend
      policy for the payment of dividends provided the Bank is in compliance with
      the
      capital plan, and applicable laws and regulations. In response to the MOU,
      the
      Bank has established target capital ratios of 8% for Tier I Capital to Average
      Total Assets, 9% for Tier I Capital to Risk-Based Assets, and 12% for Total
      Capital to Risk-Based Assets. The OCC has accepted management’s capital targets
      and established June 30, 2008 as the target achievement date. As of June 30,
      2008, Union National met these capital targets by reducing borrowings,
      generating capital from net earnings, and by raising additional capital through
      a private placement stock offering (see related discussion in Note 9 to the
      consolidated financial statements).





Except
      as
      discussed in the “Outlook” section above and below, there are no other known
      trends, events or uncertainties, including regulatory matters that are expected
      to have a material adverse impact on the capital resources of Union National
      for
      2008.





Union
      National is subject to restrictions on the payment of dividends to its
      stockholders pursuant to the Pennsylvania Business Corporation Law of 1988,
      as
      amended (the BCL).  The BCL operates generally to preclude dividend
      payments if the effect thereof would render us insolvent.  Our payment of
      dividends is contingent upon our ability to obtain funding in the form of
      dividends from the Bank.  Payment of dividends to Union National by the
      Bank is subject to the restrictions set forth in the National Bank Act. 
Generally, the National Bank Act would permit the Bank to declare dividends
      in
      2008 of approximately $884,000, plus an amount equal to the net profits of
      the
      Bank in 2008 up to the date of any such dividend declaration. Through September
      30, 2008, the Bank paid $382,500 of dividends to Union National in compliance
      with the regulatory restrictions, which was used to pay holding company interest
      expense and operational costs.





Union
      National and the Bank are subject to various regulatory capital requirements
      administered by the federal banking agencies. Failure to meet the minimum
      capital requirements can initiate certain mandatory and possibly additional
      discretionary actions by regulators that, if undertaken, could have a direct
      material effect on our financial statements. Under capital adequacy guidelines
      and the regulatory framework for prompt corrective action, Union National and
      the Bank must meet specific capital guidelines that involve quantitative
      measures of their assets, liabilities and certain off-balance sheet items as
      calculated under regulatory accounting practices. The capital amounts and
      classification are also subject to qualitative judgments by the regulators
      about
      components, risk weightings and other factors.




Quantitative
      measures established by regulation to ensure capital adequacy require Union
      National and the Bank to maintain minimum amounts and ratios (set forth below)
      of Tier 1 capital to average assets and of total capital (as defined in the
      regulations) to risk-weighted assets.




As
      of
      September 30, 2008 and December 31, 2007, Union National and the Bank met all
      capital adequacy requirements to which they are subject, and the Bank is
      considered “well-capitalized” under the regulatory framework for prompt
      corrective action. There are no conditions or events since that notification
      that management believes have changed the Bank’s category.


30


Union
      National and the Bank maintained the following regulatory capital levels and
      leverage and risk-based capital ratios as of September 30, 2008, and December
      31, 2007, as follows (dollars in thousands):




Actual
            
            Minimum Required
              For Capital Adequacy
              Purposes
            
            To Be Well Capitalized
              Under Prompt
              Corrective Action
              ProvisionsAmount
            
            Ratio
            
            Amount
            
            Ratio
            
            Amount
            
            Ratio**Union
                National Financial Corporation**September
                30, 2008:Tier
                1 (leverage) capital
            
            $
            42,204
            
            
            8.62
            %
            $
            19,582
            
            
            4.00
            %
            
            N/A
            
            
            N/ATier
                1 risk-based capital
            
            
            42,204
            
            
            10.25
            
            
            16,468
            
            
            4.00
            
            
            N/A
            
            
            N/ATotal
                risk-based capital
            
            
            52,536
            
            
            12.76
            
            
            32,936
            
            
            8.00
            
            
            N/A
            
            
            N/ADecember
                31, 2007:Tier
                1 (leverage) capital
            
            $
            38,370
            
            
            7.79
            %
            $
            19,705
            
            
            4.00
            %
            
            N/A
            
            
            N/ATier
                1 risk-based capital
            
            
            38,370
            
            
            9.08
            
            
            16,905
            
            
            4.00
            
            
            N/A
            
            
            N/ATotal
                risk-based capital
            
            
            49,487
            
            
            11.71
            
            
            33,810
            
            
            8.00
            
            
            N/A
            
            
            N/A**Union
                National Community Bank**September
                30, 2008:Tier
                1 (leverage) capital
            
            $
            41,487
            
            
            8.47
            %
            $
            19,582
            
            
            4.00
            %
            $
            24,477
            
            
            5.00
            %Tier
                1 risk-based capital
            
            
            41,487
            
            
            10.10
            
            
            16,429
            
            
            4.00
            
            
            24,644
            
            
            6.00Total
                risk-based capital
            
            
            51,373
            
            
            12.51
            
            
            32,858
            
            
            8.00
            
            
            41,073
            
            
            10.00December
                31, 2007:Tier
                1 (leverage) capital
            
            $
            38,633
            
            
            7.84
            %
            $
            19,705
            
            
            4.00
            %
            $
            24,631
            
            
            5.00
            %Tier
                1 risk-based capital
            
            
            38,633
            
            
            9.17
            
            
            16,845
            
            
            4.00
            
            
            25,268
            
            
            6.00Total
                risk-based capital
            
            
            48,308
            
            
            11.47
            
            
            33,691
            
            
            8.00
            
            
            42,114
            
            
            10.00





Additionally,
      banking regulations limit the amount of investments, loans, extensions of credit
      and advances the Bank can make to Union National at any time to 10% of the
      Bank’s total regulatory capital. At September 30, 2008, this limitation amounted
      to approximately $5,137,000. These regulations also require that any such
      investment, loan, extension of credit or advance be secured by securities having
      a market value in excess of the amount thereof.





Included
      in Tier 1 regulatory capital of Union National is $9,714,000 of trust capital
      securities issued through Union National Capital Trust I and Union National
      Capital Trust II, wholly-owned subsidiaries of Union National. The balance
      of
      the trust capital securities, $1,286,000, is included in Tier II regulatory
      capital of Union National Financial Corporation above. Additionally, included
      in
      Tier II regulatory capital of the Bank and Union National Financial Corporation
      is $6,000,000 of junior subordinated debentures issued by the Bank. These
      securities would become callable if the Federal Reserve makes a determination
      that trust capital securities can no longer be considered in regulatory capital.





On
      May
      19, 2008, Union National commenced a private placement stock offering sale
      of up
      to 526,315 shares of its common stock, par value $0.25 per share, at $9.50
      per
      share for a maximum aggregate offering price of $4,999,993 (see related
      discussion in Note 9 to the consolidated financial statements). As of September
      30, 2008, Union National sold 172,132 shares representing gross proceeds of
      $1,635,000, which have been invested into the Bank to increase the Bank’s
      capital levels.


31





***Liquidity***





Our
      objective is to maintain adequate liquidity to meet funding needs at a
      reasonable cost and to provide contingency plans to meet unanticipated funding
      needs or a loss of funding sources, while minimizing interest rate risk.
      Adequate liquidity provides resources for credit needs of borrowers, for
      depositor withdrawals and for funding corporate operations. Sources of liquidity
      are as follows:





·
            A
                growing core retail deposit base;


·
            Proceeds
                from the sale or maturity of investment
                securities;


·
            Payments
                received on loans and mortgage-backed securities; and,


·
            Overnight
                correspondent bank borrowings on various credit lines, and borrowing
                capacity available from the FHLB and the Federal
                Reserve.





Based
      upon our retail deposit retention and growth, we believe that our core deposits
      are generally stable even in periods of changing interest rates like we are
      currently experiencing. Liquidity and funds management is governed by policies
      and is measured on a monthly basis. These measurements indicate that liquidity
      and contingent liquidity resources, generally remain stable. Other than the
      trends of continued competitive pressures and volatile interest rates, there
      are
      no known demands, commitments, events or uncertainties that will result in,
      or
      that are reasonably likely to result in, liquidity increasing or decreasing
      in
      any material way. We have obtained funding through FHLB advances and through
      the
      use of brokered CDs, as well as the issuance of junior subordinated debentures
      as previously described in Note 13 to the consolidated financial statements.





***Off-Balance
      Sheet Commitments***





In
      the
      normal course of business, we are party to financial instruments with
      off-balance sheet risk to meet the financing needs of our customers. These
      financial instruments include commitments to extend credit and standby letters
      of credit. Total commitments to extend credit amounted to $98,934,000 at
      September 30, 2008 as compared to $117,742,000 at December 31, 2007. Total
      standby letters of credit amounted to $5,778,000 at September 30, 2008 as
      compared to $6,239,000 at December 31, 2007.





In
      addition, in the conduct of business operations, we routinely enter into
      contracts for services. These contracts may require payment for services to
      be
      provided in the future and may also contain penalty clauses for the early
      termination of the contracts. In January 2007, the contract with our core data
      processor was renegotiated, resulting in a new maturity date of November 2013.
      Any early termination will require the payment of a substantial penalty. The
      renegotiation and extension of this contract resulted in annual savings of
      approximately $100,000 in data processing and ATM processing expenses as
      compared to the costs we would have incurred without the renegotiation. There
      has been no material change in contracts for services since December 31, 2007
      through September 30, 2008.





***Regulatory
      Matters***





From
      time
      to time, various types of federal and state legislation have been proposed
      that
      could result in additional regulation of, and restrictions on, the business
      of
      Union National and the Bank. As a consequence of the extensive regulation of
      commercial banking activities in the United States, Union National's and the
      Bank's business is particularly susceptible to being affected by federal and
      state legislation and regulations that may increase the cost of doing business.
      Specifically, Union National is susceptible to changes in tax law that may
      increase the cost of doing business or impact Union National’s ability to
      realize the value of deferred tax assets.





On
      June
      20, 2007, the Bank entered into an MOU with the OCC as previously described
      in
      Note 11 of the consolidated financial statements. Management believes that
      the
      Bank has fully complied with the terms of the MOU and has sent to the OCC the
      documentation and progress reports as required under the MOU to be submitted
      through the end of the third quarter of 2008. We believe that the MOU will
      have
      no material, adverse impact on our operating results or financial condition
      and
      that the MOU will not constrain our business. We believe we have already made
      substantial progress in satisfying the MOU, and we are committed to addressing
      and resolving the issues.


32





The
      Sarbanes-Oxley Act, enacted in July 2002, represents a comprehensive revision
      of
      laws affecting corporate governance, accounting obligations and corporate
      reporting. Many of the provisions of this act had already been implemented
      by
      Union National, and Union National has complied with the provisions of Section
      404 of the Sarbanes-Oxley Act as required during 2007, including providing
      a
      report on our internal control over financial reporting as of December 31,
      2007.
      To support our report on the internal control over financial reporting, we
      used
      contracted, independent internal audit services to identify, document and test
      key controls over the financial reporting process.





The
      Federal Deposit Insurance Reform Act of 2005 (“the Act”) allows eligible insured
      depository institutions to share in a one-time assessment credit, which was
      approximately $228,000 for the Bank. Through the year ended December 31, 2007,
      the Bank used $150,000 of this credit. The remaining $78,000 of the credit
      was
      used during the nine months ended September 30, 2008.





The
      last
      Community Reinvestment Act performance evaluation by the OCC resulted in a
      “satisfactory” rating of the Bank’s record of meeting the credit needs of its
      entire community.





***Emergency
      Economic Stabilization Act of 2008***





The
      Emergency Economic Stabilization Act (“EESA”) was enacted on October 3, 2008, in
      response to recent unprecedented market turmoil. EESA creates a Troubled Asset
      Relief Program (“TARP”) which authorizes the Secretary of the Treasury to
      purchase up to $700 billion in troubled assets from financial institutions.
      Troubled assets include residential or commercial mortgages and related
      instruments originated prior to March 14, 2008 and any other financial
      instrument that the Secretary determines, after consultation with the Chairman
      of the Board of Governors of the Federal Reserve System, the purchase of which
      is necessary to promote financial stability.





Pursuant
      to his authority under EESA, the Secretary of the Treasury has created the
      TARP
      Capital Purchase Plan (“CPP”) under which the Treasury Department may invest up
      to $250 billion in senior preferred stock of U.S. banks and savings associations
      or their holding companies. Under the CPP, qualifying financial institutions
      may
      apply to the Treasury for capital funding, in the form of senior preferred
      stock
      issued to the Treasury, with a value equal to not less that 1% of risk-weighted
      assets and not more than the lesser of $25 billion or 3% of risk-weighted
      assets. The senior preferred stock will pay dividends at the rate of 5% per
      annum until the fifth anniversary of the investment and thereafter at the rate
      of 9% per annum. The senior preferred stock may not be redeemed for three years
      except with the proceeds from an offering of common stock or preferred stock
      qualifying as Tier 1 capital in an amount equal to not less than 25% of the
      amount of the senior preferred. After three years, the senior preferred may
      be
      redeemed at any time in whole or in part by the financial institution. No
      dividends may be paid on common stock unless dividends have been paid on the
      senior preferred stock. Until the third anniversary of the issuance of the
      senior preferred, the consent of the U.S. Treasury will be required for any
      increase in the dividends on the common stock or for any stock repurchases
      unless the senior preferred has been redeemed in its entirety or the Treasury
      has transferred the senior preferred to third parties. The senior preferred
      will
      not have voting rights other than the right to vote as a class on the issuance
      of any preferred stock ranking senior, any change in its terms or any merger,
      exchange or similar transaction that would adversely affect its rights. The
      senior preferred will also have the right to elect two directors if dividends
      have not been paid for six periods. The senior preferred will be freely
      transferable and participating institutions will be required to file a shelf
      registration statement covering the senior preferred. The issuing institution
      must grant the Treasury piggyback registration rights. Prior to issuance, the
      financial institution and its senior executive officers must modify or terminate
      all benefit plans and arrangements to comply with EESA. Senior executives must
      also waive any claims against the Department of Treasury. In connection with
      the
      issuance of the senior preferred, participating institutions must issue to
      the
      Secretary immediately exercisable 10-year warrants to purchase common stock
      with
      an aggregate market price equal to 15% of the amount of senior preferred. The
      exercise price of the warrants will equal the market price of the common stock
      on the date of the investment. The Secretary may only exercise or transfer
      one-half of the warrants prior to the earlier of December 31, 2009 or the date
      the issuing financial institution has received proceeds equal to the senior
      preferred investment from one or more offerings of common or preferred stock
      qualifying as Tier 1 capital. The Secretary will not exercise voting rights
      with
      respect to any shares of common stock acquired through exercise of the warrants.
      The financial institution must file a shelf registration statement covering
      the
      warrants and underlying common stock as soon as practicable after issuance
      and
      grant piggyback registration rights. The number of warrants will be reduced
      by
      one-half if the financial institution raises capital equal to the amount of
      the
      senior preferred through one or more offerings of common stock or preferred
      stock qualifying as Tier 1 capital. If the financial institution does not have
      sufficient authorized shares of common stock available to satisfy the warrants
      or their issuance otherwise requires shareholder approval, the financial
      institution must call a meeting of shareholders for that purpose as soon as
      practicable after the date of investment. The exercise price of the warrants
      will be reduced by 15% for each six months that lapse before shareholder
      approval subject to a maximum deduction of 45%.


33





Union
      National has a filing deadline of November 14, 2008 to participate in the
      Capital Purchase Plan. Union National’s management and Board of Directors have
      evaluated the considerations regarding participation in the CPP and have opted
      not to apply for CPP funding.





The
      FDIC
      has increased the dollar limit on insured deposit accounts from $100,000 to
      $250,000 effective October 3, 2008 through December 31, 2009.





The
      FDIC
      has also established a program under which all non-interest-bearing accounts
      at
      FDIC insured institutions (including Union National) will be fully insured,
      regardless of dollar amount, until December 31, 2009, unless an eligible
      institution formally opts out of this program. Under the terms of the program,
      a
      10 basis point surcharge will be applied to the balances of non-interest-bearing
      deposit accounts not otherwise covered by the increased deposit insurance limit
      of $250,000. The surcharge will be added to the participating bank’s existing
      risk-based deposit insurance premium paid on those deposits. Union National
      has
      opted to participate in this program to ensure its current and prospective
      deposit customers are provided the maximum amount of insurance coverage provided
      by the FDIC.


34


**ITEM
      3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK**





***Market
      Risk - Interest Rate Risk***





As
      a
      financial institution, our primary component of market risk is interest rate
      volatility. Fluctuations in interest rates will ultimately impact the level
      of
      income and expense recorded on a large portion of our assets and liabilities.
      The nature of our current operations is such that we are not subject to foreign
      currency exchange or commodity price risk. We do not own any trading assets.


The
      objectives of interest rate risk management are to maintain or increase net
      interest income over a broad range of market interest rate movements. The Asset
      and Liability Management Committee is responsible for managing interest rate
      risk using policies approved by Union National’s Board of Directors. We manage
      interest rate risk by changing the mix or repricing characteristics of our
      investment securities portfolio and borrowings from the FHLB and by the
      promotion or development of specific loan and deposit products. We retain an
      outside consulting group to assist in monitoring our interest rate risk using
      a
      net interest income simulation model on a quarterly basis. The simulation model
      measures the sensitivity of future net interest income to hypothetical changes
      in market interest rates.





In
      an
      effort to assess market risk, we utilize a simulation model to determine the
      effect of gradual increases or decreases in market interest rates on net
      interest income and net income. The aforementioned assumptions are revised
      based
      on defined scenarios of assumed speed and direction changes of market interest
      rates. These assumptions are inherently uncertain due to the timing, magnitude
      and frequency of rate changes and changes in market conditions, as well as
      management strategies, among other factors. Because it is difficult to
      accurately quantify into assumptions the reaction of depositors and borrowers
      to
      market interest rate changes, the actual net interest income and net income
      results may differ from simulated results. While assumptions are developed
      based
      upon current economic and local market conditions, management cannot make any
      assurances as to the predictive nature of these assumptions.





The
      simulation model assumes a hypothetical gradual shift in market interest rates
      over a twelve-month period. This is based on a review of historical changes
      in
      market interest rates and the level and curve of current interest rates. The
      simulated results represent the hypothetical effects to our net interest income
      and net income. Projections for loan and deposit growth were ignored in the
      simulation model. The simulation model includes all of our earning assets and
      interest-bearing liabilities and assumes a parallel and prorated shift in
      interest rates over a twelve-month period. The results of the simulation model
      could change significantly if there was not a parallel shift in interest rates,
      therefore causing a change in the assumed shape of the interest rate yield
      curve.


35





The
      simulation model currently indicates that a hypothetical two-percent general
      decline in prevailing market interest rates over a one-year period would cause
      the Bank's net interest income over the next twelve months to decrease
      approximately 13.6% as compared to the constant rate scenario. In addition,
      a
      hypothetical two-percent general rise in rates would cause the Bank's net
      interest income over the next twelve months to increase approximately 8.1%.
      These computations do not contemplate any actions management or the Asset
      Liability Management Committee could undertake in response to changes in market
      conditions or market interest rates.




We
      are
      managing our interest rate risk position in 2008 by the following:





·
            De-leveraging
                with repayment of higher-cost, fixed rate FHLB long-term debt and
                brokered
                CDs.


·
            Managing
                the use of adjustable- and floating-rate loans, and hybrid loans
                with
                initial fixed-rates converting to variable-rates, in comparison to
                totally
                fixed-rate loans for new or refinanced commercial and agricultural
                loans;


·
            Repositioning
                of our investment security portfolio mix by purchasing lower-risk
                shorter
                term U.S. government agencies, and seasoned, shorter duration
                mortgage-back securities, to maintain liquidity and minimize significant
                changes in value due to declining interest rates;
                and


·
            Managing
                and expanding the Bank's core retail deposit base including deposits
                obtained in our commercial cash management programs, premium money
                market
                accounts, and retail time deposits.





The
      above
      strategies and actions impact interest rate risk and are all included in our
      quarterly simulation models in order to determine future asset and liability
      management strategies.




**ITEM
      4 – CONTROLS AND PROCEDURES**





***Evaluation
      of Disclosure Controls and Procedures***





Union
      National maintains controls and procedures designed to ensure that information
      required to be disclosed in the reports that Union National files or submits
      under the Securities Exchange Act of 1934 is recorded, processed, summarized
      and
      reported within the time periods specified in the rules and forms of the
      Securities and Exchange Commission. Based upon their evaluation of those
      controls and procedures as of September 30, 2008, Union National’s Chief
      Executive Officer and Chief Financial Officer concluded that the disclosure
      controls and procedures were adequate.





***Changes
      in Internal Controls***





There
      were no changes since December 31, 2007 in our internal controls over financial
      reporting that have materially affected, or are reasonable likely to materially
      affect, these controls.





**ITEM
      4T – CONTROLS AND PROCEDURES**





The
      information set forth in Item 4 is incorporated herein by
      reference.





**PART
      II - OTHER INFORMATION**





**ITEM
      1 - LEGAL PROCEEDINGS**





Management
      is not aware of any litigation that would have a material adverse effect on
      the
      consolidated financial position of Union National. There are no proceedings
      pending other than the ordinary routine litigation incident to the business
      of
      Union National and its subsidiary, Union National Community Bank. Other than
      the
      Memorandum of Understanding with the OCC and the effects thereof, as discussed
      earlier on pages 10 and 32 of this report, no material proceedings are pending
      or are known to be threatened or contemplated against Union National and the
      Bank by government authorities.


36





**ITEM
      1A – RISK FACTORS**





During
      the nine months ended September 30, 2008, and through the date of this report
      other than those noted below, there have been no known material changes to
      the
      risk factors described in our Annual Report on Form 10-K for the year ended
      December 31, 2007.





***The
      soundness of other financial institutions may adversely affect us.***





Financial
      services institutions are interrelated as a result of trading, clearing,
      counterparty, or other relationships. The Corporation has exposure to many
      different industries and counterparties, and routinely executes transactions
      with counterparties in the financial services industry, including commercial
      banks, brokers and dealers, investment banks, and other institutional clients.
      Many of these transactions expose the Corporation to credit risk in the event
      of
      a default by a counterparty or client. In addition, the Corporation’s credit
      risk may be exacerbated when the collateral held by the Corporation cannot
      be
      realized upon or is liquidated at prices not sufficient to recover the full
      amount of the credit or derivative exposure due to the Corporation. Any such
      losses could have a material adverse affect on the Corporation’s financial
      condition and results of operations.





***Current
      levels of market volatility are unprecedented and may have materially adverse
      effects on our liquidity and financial condition.***





The
      capital and credit markets have been experiencing extreme volatility and
      disruption for more than 12 months. In recent weeks, the volatility and
      disruption have reached unprecedented levels. In some cases, the markets have
      exerted downward pressure on stock prices, security prices and credit capacity
      for certain issuers without regard to those issuers’ underlying financial
      strength. If the current levels of market disruption and volatility continue
      or
      worsen, there can be no assurance that we will not experience adverse effects,
      which may be material, on our liquidity, financial condition and
      profitability.





**ITEM
      2 - UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
      PROCEEDS**





On
      May
      19, 2008, Union National commenced the sale of up to 526,315 shares of Union
      National’s common stock, par value $0.25 per share, at $9.50 per share for a
      maximum aggregate offering price of $4,999,993. There is no minimum offering
      amount. Upon receipt of proceeds from the sale of the shares, Union National
      will immediately contribute such amounts to the general corporate purposes
      of
      Union National including, but not limited to, continuing to meet regulatory
      capital requirements and increasing the regulatory lending ability of the
      Bank.





The
      shares are being offered pursuant to an exemption from registration under
      Section 3(b) of the Securities Act of 1933 and Rule 505 of SEC Regulation D.
      Under Rule 505 of SEC Regulation D, Union National may sell Shares to no more
      than 35 persons who are not Accredited Investors and to an unlimited number
      of
      persons who qualify as Accredited Investors. The shares sold will be restricted
      securities for purposes of the United States securities laws and cannot be
      transferred except under these laws.





Although
      Union National can withdraw or terminate the offering of the shares at any
      time,
      it intends to offer the shares for a period of six months commencing May 19,
      2008. The offering period may be extended at the discretion of Union National
      to
      a date not exceeding 90 days from the end of the six month period.





Subsequent
      to September 30, 2008, the Board of Directors of Union National elected on
      October 23, 2008, to extend the offering period for the Shares until February
      17, 2009.





The
      following table summarizes the shares that have been sold and the gross proceeds
      received through the private placement stock offering as of September 30, 2008
      (dollars in thousands):





**Period**
            
            **No.
                of**
              **Shares
                Sold**
            
            **Gross**
              **Proceeds**May
                19, 2008 – June 30, 2008
            
            
            163,690
            
            $
            1,555July
                1, 2008 – September 30, 2008
            
            
            8,442
            
            
            80Total
            
            
            172,132
            
            $
            1,635


37





**ITEM
      3 – DEFAULTS UPON SENIOR SECURITIES**





None





**ITEM
      4 – SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**





None





**ITEM
      5 – OTHER INFORMATION**





None


38


**ITEM
      6 - EXHIBITS**





(a)
            Exhibits





Exhibit
      No. 10.18 **–** Form
      of
      Change of Control Agreement among Union National Financial Corporation, Union
      National Community Bank and each of the following officers: Michael L. Maurer,
      Samuel J. Smith and Bradley A. Willow, filed
      August 13, 2008, as Item 10.1 8 to
      Form 10-Q for the fiscal quarter ended June 30, 2008 (No. 0-19214) and
      incorporated herein by reference.





Exhibit
      No. 10.19 **–** Form of Change of Control Agreement among Union
      National Financial Corporation, Union National Community Bank and each of the
      following officers: R. Michael Mohn, Steve D. Garber, Michael D. Peduzzi and
      Neil H. Snyder, filed August 13, 2008, as Item 10.19 to Form 10-Q for
      the fiscal quarter ended June 30, 2008 (No. 0-19214) and incorporated
      herein by reference.





Exhibit
      No. 31.1 **–** Certification of Principal Executive Officer
      Pursuant to Exchange Act Rules 13a-14(a)/15d-14(a) as added by Section 302
      of
      the Sarbanes-Oxley Act of 2002





Exhibit
      No. 31.2 - Certification of Principal Financial Officer Pursuant to Exchange
      Act
      Rules 13a-14(a)/15d-14(a) as added by Section 302 of the Sarbanes-Oxley Act
      of
      2002





Exhibit
      No. 32 **–** Certification of Principal Executive Officer and
      Principal Financial Officer Pursuant to 18 U.S.C. Section 1350 as Added by
      Section 906 of the Sarbanes-Oxley Act of 2002


39


**SIGNATURES**





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





**Union
              National Financial Corporation**(Registrant)By
            /s/ Mark D. GainerMark
                D. GainerChairman,
                CEO and President(Principal
                Executive Officer)Date:
              November 14, 2008By
            /s/ Michael D. PeduzziMichael
                D. PeduzziSenior
                Vice President and Chief Financial Officer(Principal
                Financial and Accounting Officer)Date:
              November 14, 2008


40