**UNITED
STATES**
 **SECURITIES
AND EXCHANGE COMMISSION**
 **WASHINGTON,
D.C. 20549**
 
 **FORM
10-K**
 (Mark
one)
 x
    ANNUAL
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
 **For
The Fiscal Year Ended: December 31, 2004**
 
 o
    TRANSITION
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
 For The
Transition Period From __________ to ___________
 
 **Commission
File No. 000-19235**
 
 
 
 **SUMMIT
FINANCIAL CORPORATION**
 (Exact
name of registrant as specified in its charter)
 
 SOUTH
      CAROLINA
    57-0892056(State
      or other jurisdiction
    (I.R.S.
      Employerof
      incorporation or organization)
    Identification
      No.)
 
 P. O. Box
1087, 937 North Pleasantburg Drive
 Greenville,
South Carolina 29602
 (Address
of Principal Executive Offices, including zip code)
 
 Registrant's
Telephone Number, Including Area Code: (864) 242-2265
 
 Securities
Registered Pursuant to Section 12(b) of the Act: **None**
 
 Securities
Registered Pursuant to Section 12(g) of the Act:
 Title of
Class: **COMMON
STOCK, $1.00 PAR VALUE**
 
 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 o
 
 Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. x
  Indicate
by checkmark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Act). YES o  NO x
  The
registrant’s common stock is traded on the Small-Cap market of NASDAQ under the
symbol SUMM. The aggregate market value of the voting and non-voting common
equity held by non-affiliates of the registrant computed by reference to the
average bid and asked prices of such common equity as quoted on the NASDAQ
Market, as of June 30, 2004, the last business day of the registrant’s most
recently completed second fiscal quarter, was $59.3 million (3,208,357 shares
held by non-affiliates at $18.47 per share). For purposes of the foregoing
calculation only, all directors, executive officers, and 5% shareholders of the
registrant have been deemed affiliates.
 
 As of
February 22, 2005, there were 4,525,727 shares of the registrant's Common Stock,
$1.00 par value, outstanding.
 
 **DOCUMENTS
INCORPORATED BY REFERENCE**
 Portions
of the Registrant’s Definitive Proxy Statement for 2005 Annual Meeting of
Shareholders is incorporated by reference in Part III.







**Table
of Contents**




**Part
      I**Item
      1 - Business
    2Item 2 - Properties
    11Item 3 - Legal Proceedings
    11Item 4 - Submission of Matters to a Vote of Security
      Holders
    11**Part
      II**Item 5 - Market for the Registrant’s Common Stock, Related
      Stockholder Matters, and IssuerRepurchases of Equity Securities
    12Item 6 - Selected Financial Data
    13Item 7 - Management’s Discussion and Analysis of Financial
      Condition and Results of Operations
    14Item 7A - Quantitative and Qualitative Disclosures About
      Market Risk
    33Item 8 - Financial Statements and Supplementary
      Data
    34Item 9 - Changes in and Disagreements with Accountants on
      Accounting and Financial Disclosure
    57Item 9A - Controls and Procedures
    57Item 9B - Other Information
    57**Part
      III**Item 10 - Directors and Executive Officers of the
      Registrant
    58Item 11 - Executive Compensation
    58Item
      12 - Security Ownership of Certain Beneficial Owners and ManagementAnd
      Related Stockholder Matters
    58Item 13 - Certain Relationships and Related
      Transactions
    59Item 14 - Principal Accountant Fees and
      Services
    59**Part
      IV**Item 15 - Exhibits and Financial Statement
      Schedules
    59**Signatures**
    61**Exhibit
      23**-
      Consent of KPMG LLP**Exhibit
      31.1**-
      Rule 13a-14(a) Certification of Chief Executive Officer Pursuant to
      Section 302 ofthe
      Sarbanes-Oxley Act of 2002**Exhibit
      31.2**-
      Rule 13a-14(a) Certification of Chief Financial Officer Pursuant to
      Section 302 ofthe
      Sarbanes-Oxley Act of 2002**Exhibit
      32.1**-
      Section 1350 Certification of the Chief Executive Officer Pursuant to
      Section 906 ofthe
      Sarbanes-Oxley Act of 2002**Exhibit
      32.2**-
      Section 1350 Certification of the Chief Financial Officer Pursuant to
      Section 906 ofthe
      Sarbanes-Oxley Act of 2002




****
 
 ****
 **PART
I**
  **Item
1.****BUSINESS**
 
 **The
Company**
 Summit
Financial Corporation (“the Company”), headquartered in Greenville, South
Carolina, was incorporated as a bank holding company under the Bank Holding
Company Act of 1956, as amended, and under the laws of the State of South
Carolina on May 26, 1989. The Company became a financial holding company on
March 23, 2000 as provided by the “Gramm-Leach-Bliley” Financial Services
Modernization Act of 1999. Subsidiaries of the Company are Summit National Bank
(“the Bank” or “Summit”), a national bank organized in 1990, and Freedom
Finance, Inc. (“the Finance Company” or “Freedom”), a consumer finance company
organized in 1994. In 1997, the Bank incorporated Summit Investment Services,
Inc., an investment and financial planning company, as a wholly-owned
subsidiary. The Company has no foreign operations.
 
 The
principal role of the Company is to supervise and coordinate the activities of
its subsidiaries and to provide them with capital and services of various kinds.
The Company derives substantially all of its income from management fees for
services performed, interest on invested funds, interest on intercompany loans,
and other intercompany payments as appropriate from the subsidiaries. The
Company conducts its business from four banking offices and 11 consumer finance
offices throughout South Carolina.
 
 At
December 31, 2004, the Company had total assets of $320.9 million, total
deposits of $231.7 million, loans, net of unearned income, of $238.8 million and
shareholders’ equity of $37.3 million. This compares with total assets of $343.9
million, total deposits of $257.0 million, loans of $228.4 million and
shareholders’ equity of $32.2 million at December 31, 2003. The operating
results and key financial measures of the Company and its subsidiaries are
discussed more fully in “Management’s Discussion and Analysis of Financial
Condition and Results of Operations”, included under Item 7 below.
 
 **Summit
National Bank**
 Summit
National Bank, headquartered in Greenville, South Carolina, commenced operations
in July 1990. The Bank targets individuals and small-to-medium-sized businesses
in the Upstate of South Carolina that require a full range of quality banking
services typically provided by the larger regional banking concerns, but who
prefer the personalized service offered by a locally-based institution. The Bank
currently has its headquarters and four full-service branch locations in
Greenville and Spartanburg, South Carolina. **** Summit
provides a full range of deposit services that are typically available in most
banks and savings and loan associations including checking accounts, NOW
accounts, individual retirement accounts, savings and other time deposits of
various types ranging from daily money market accounts to longer-term
certificates of deposit.
 
 Deposits
of the Bank are insured up to $100,000 by the Federal Deposit Insurance
Corporation (“the FDIC”). The Company has no material concentration of deposits
from any single customer or group of customers. Other services which the Bank
offers include safe deposit boxes, bank money orders, wire transfer facilities,
remote internet banking and various cash management and electronic banking
programs.
 
 The Bank
also offers a full range of short to intermediate-term, secured and unsecured
commercial and personal loans for business, real estate, home improvement,
automobiles, letters of credit, personal investments and home equity lines of
credit. It is the Bank’s intent to originate quality, profitable loans which
will benefit the area’s economy, provide a reasonable return to our
shareholders, and promote the growth of the Bank. Management strives to maintain
quality in the loan portfolio and to accept only those credit risks which meet
the Bank's underwriting standards. No significant portion of the Bank’s loan
portfolio is concentrated within a single industry or group of related
industries.
 
 **Summit
Investment Services, Inc.**
 Summit
Investment Services, Inc. commenced operations in November 1997. It provides a
full range of nondeposit investment products including annuities and mutual
funds, full and discount brokerage services, and financial management services.
Summit Investment Services has offices in Greenville and Spartanburg, South
Carolina.
 
 **Freedom
Finance, Inc.**
 The
Finance Company makes and services installment loans to individuals with loan
principal amounts generally not exceeding $2,000 and with maturities ranging
from three to 18 months. The Finance Company, which is headquartered in
Greenville, South Carolina, currently has 11 branch offices throughout South
Carolina. The Finance Company’s loan customers are primarily in the
low-to-moderate income brackets and are engaged in widely diverse occupations. A
loan investigation and credit history review is made for each borrower, either
through credit reporting agencies or directly by Freedom’s employees. Freedom
also makes available to borrowers credit life, accident and health, and property
insurance directly related to the extension of credit to the individual. The
business of the Finance Company is rather seasonal and the amount of loans
outstanding increases significantly at the end of each calendar year due to the
seasonal loan demand, while the first quarter of the calendar year often results
in substantial loan paydowns.
 
 2
 ****
 **Business
Segments**
 SFAS 131,
“ *Disclosures
about Segments of an Enterprise and Related Information* ”
establishes standards for the way that public businesses report information
about operating segments in annual financial statements and requires that those
enterprises report selected information about operating segments in interim
financial reports issued to shareholders. It also establishes standards for
related disclosures about products and services, geographic areas, and major
customers. The Company has two reportable operating business segments, Summit
National Bank and Freedom Finance, Inc. Item 8, Note 20 to the Consolidated
Financial Statements discusses the Company’s business segments, which
information is incorporated herein by reference.
 
 **Territory
Served and Competition**
 THE BANK:
Summit National Bank and its subsidiary, Summit Investment Services, Inc., are
located in the Upstate of South Carolina, with offices in Greenville and
Spartanburg. The extended market area encompasses Greenville and Spartanburg
Counties, with the principal market area being the urban areas of these
counties. The Upstate of South Carolina is a highly competitive commercial
banking market in which all of the largest banks in the region are represented.
The Bank competes with other major financial institutions, including commercial
banks, investment banks, mutual savings banks, savings and loan associations,
and credit unions, as well as other non-bank institutions, such as insurance
companies, brokerage firms, and investment companies. The competition among the
various financial institutions is based upon interest rates offered on deposit
accounts, interest rates charged on loans, credit and service charges, the
quality and range of services rendered, the convenience of banking facilities,
and, in the case of loans to large commercial borrowers, relative lending
limits.
 
 Many of
the competitor banks in the Bank’s market area are subsidiaries of bank holding
companies which own banks in other southeastern states. In the conduct of
certain areas of business, the Bank may also compete with savings and loan
associations, credit unions, insurance companies, securities firms, leasing
companies and other financial institutions, some of which are not subject to the
same degree of regulation and restrictions as the Bank. The Bank may also
compete with out-of-state financial institutions which operate loan production
offices, originate mortgages, accept money market deposits, and provide other
financial services. The Bank’s investment subsidiary competes with larger
brokerage houses and financial planners, discount brokers and internet brokerage
service providers.
 
 Many of
these competitors may have substantially greater resources and lending abilities
than the Bank due to their size and these competitors may offer services, such
as international banking and trust services, which the Bank is not currently
providing. Moreover, most of the competitors have multiple branch networks
located throughout the extended market area, while the Bank currently has only
four locations, which could be a competitive disadvantage. As a result, the Bank
does not generally attempt to compete for the banking relationships of larger
corporations, but concentrates its efforts on small and medium-sized businesses
and individuals. The Company believes that the Bank is able to compete
effectively in this market segment by offering competitive pricing of services
and quality, experience and personal treatment in the execution of
services.
 
 The Bank
and its subsidiary are not dependent upon a single or a very few customers, the
loss of which would have a material adverse effect.
 
 THE
FINANCE COMPANY: Freedom Finance, Inc. serves its customers from 11 locations
throughout South Carolina. Competition between consumer finance companies is not
generally as intense as that among banks; however, this segment of the market
has become over-served in areas of South Carolina. The amounts, rates, and fees
charged on consumer finance loans are regulated by state law according to the
type of license granted by the South Carolina State Board of Financial
Institutions. Numerous other finance companies which offer similar types of
loans are located in the areas served by Freedom.
 
 The
Finance Company competes directly with national, regional, and local consumer
finance companies as well as pay-day lenders and check cashing companies. The
principal areas of competition in the consumer finance industry are convenience
of services to customers, effectiveness of advertising, effectiveness of
administration of loans, and the cost of borrowed money. Many of the finance
companies competing with Freedom may have substantially greater resources and
lending abilities than the Finance Company and may have more branches within the
specific market areas in which they and the Finance Company compete. The Company
believes that the Finance Company is able to compete effectively in its current
markets.
 
 3
 ****
 **Employees**
 As of
December 31, 2004 the Company and its subsidiaries employed a total of 87
full-time equivalent employees. The Company and its subsidiaries provide a
variety of benefit programs including retirement and stock ownership plans as
well as health, life, disability, and other insurance. Summit also maintains
training, educational, and affirmative action programs. The Company believes
that its relations with its employees are good.
 
 **Monetary
Policy**
 The
earnings of the Company and its bank subsidiary may be affected significantly by
the monetary policies of the Federal Reserve Board which regulates the money
supply in order to mitigate recessionary and inflationary pressures. Among the
techniques used to implement these objectives are open market operations in
United States Government securities, changes in the discount rate paid by member
banks on borrowings, changes in the reserve requirements against bank deposits
and limitations on interest rates which banks may pay on time and savings
deposits. The Federal Reserve uses these techniques in varying combinations to
influence overall growth and distribution of bank loans, investments and
deposits, and their use may also affect interest rates charged on loans or paid
on deposits.
 
 The
monetary policies of the Federal Reserve have had a significant effect on the
operating results of commercial banks in the past and are expected to continue
to do so in the future. Due to the changing conditions in the national economy
and money markets, as well as the effect of actions by monetary and fiscal
authorities, the Company can make no prediction as to the future impact that
changes in interest rates, deposit levels, or loan demand may have on its
business and earnings.
 
 **Impact
of Inflation**
 Unlike
most industrial companies, the assets and liabilities of financial institutions
such as the Company’s bank subsidiary are primarily monetary in nature. As a
result, interest rates generally have a more significant impact on the
performance of a financial institution than the effects of general levels of
inflation. The Company believes that the effects of inflation are generally
manageable through asset-liability management.
 
 **Supervision
and Regulation**
 The
businesses in which the Company and its subsidiaries are engaged are subject to
extensive supervision, regulation and examination by various bank regulatory
authorities and other governmental agencies in the state where the Company and
its subsidiaries operate. The supervision, regulation and examination to which
the Company and its subsidiaries are subject are intended primarily for the
protection of depositors or are aimed at carrying out broad public policy goals,
rather than for the protection of security holders.
 
 Several
of the more significant regulatory provisions applicable to banks and bank
holding companies to which the Company and its subsidiaries are subject are
discussed below, along with certain regulatory matters concerning the Company
and its subsidiaries. To the extent that the following information describes
statutory or regulatory provisions, it is qualified in its entirety by reference
to the particular statutory provisions. Any change in applicable law or
regulation may have a material effect on the business and prospects of the
Company and its subsidiaries.
 
 REGULATORY
AGENCIES
 
 Financial
Holding Company : The
Company elected to become a financial holding company on March 23, 2000 and
continues to be subject to regulation under the Bank Holding Company Act of
1956, as amended (“the BHCA”), and to inspection, examination and supervision by
the Board of Governors of the Federal Reserve System (“the Federal Reserve”). As
a bank holding company registered under the laws of the State of South Carolina,
the Company is also subject to regulation by the South Carolina State Board of
Financial Institutions (“the State Board”). Consequently, subject to certain
exceptions, the Company must receive the approval of the State Board prior to
engaging in the acquisition of banking or nonbanking institutions or assets. The
Company is also required to file annual reports and other information with the
Federal Reserve and the State Board regarding its financial condition, results
of operations, management and intercompany relationships and transactions
between the Company and its subsidiaries.
 
 Subsidiary
Bank : The
Company’s national bank subsidiary, Summit National Bank (“the Bank”), is
subject to regulation and examination primarily by the Office of the Comptroller
of Currency (“the OCC”) and secondarily by the Federal Reserve and the FDIC. The
Bank is subject to various statutory requirements, supervision and regulation
promulgated and enforced by the OCC. These statutes, rules and regulations
relate to insurance of deposits, required reserves, allowable investments,
loans, mergers, consolidations, issuance of securities, payment of dividends,
establishment of branches, and other aspects of the business of Summit National
Bank.
 
 Nonbank
Subsidiary : The
Company’s nonbank subsidiary is subject to regulation by the Federal Reserve,
the State Board, and other applicable state agencies.
 
 4
 
 THE
COMPANY
 
 The
Sarbanes-Oxley Act of 2002:
 The
Sarbanes-Oxley Act of 2002 enacted on July 30, 2002, also known as the Public
Company Accounting Reform and Investor Protection Act of 2002 (“the Act”), is
the most far-reaching securities legislation passed since the New Deal. The
stated goals of the Act are to increase corporate responsibility, to provide for
enhanced penalties for accounting and auditing improprieties at publicly traded
companies, and to protect investors by improving the accuracy and reliability of
corporate disclosures pursuant to the securities laws. The Act generally applies
to all companies, both U.S. and non-U.S. that file or are required to file
periodic reports with the Securities and Exchange Commission under the
Securities Act of 1934.
 
 The Act
includes very specific additional disclosure requirements and new corporate
governance rules, requires the SEC and securities exchanges to adopt extensive
additional disclosure, corporate governance and other related rules and mandates
further studies of certain issues by the SEC and the Comptroller General. The
Act represents significant federal involvement in matters traditionally left to
state regulatory systems, such as the regulation of the accounting profession,
and to state corporate law, such as the relationship between a board of
directors and management and between a board of directors and its
committees.
 
 The Act
effects sweeping changes in the responsibilities of officers and directors of
public companies, and revisions to the corporate reporting obligations of these
companies and of their external auditors. Among the requirements and
prohibitions addressed by the Act are certifications required by CEOs and CFOs
of periodic reports filed with the SEC; accelerated reporting of stock
transactions on Form 4 by directors, officers and large shareholders;
prohibitions against personal loans from companies to directors and officers,
except loans made in the ordinary course of business; new requirements for
public companies’ audit committees; auditor independence; prohibition of
directors and executive officers from trading during a pension plan blackout
period; the
forfeiture of bonuses or other incentive-based compensation and profits from the
sale of an issuer’s securities by directors and senior officers in the twelve
month period following initial publication of any financial statements that
later require restatement; various
increased criminal penalties for violations of securities laws; and the
creation of a public company accounting oversight board.
 
 Rules
adopted by the SEC to implement provisions of the Act include CEO and CFO
certifications related to the fair presentation of the financial statements and
financial information in public filings as well as management’s evaluation of
disclosure controls and procedures; disclosure of whether any audit committee
members qualify as “financial experts” as defined; disclosures related to the
audit committee composition and auditor pre-approval policies; disclosure
related to the company’s written code of ethics; reconciling non-GAAP financial
information with GAAP in public communications; disclosure of off-balance sheet
transactions; and disclosures related to director independence and director
nomination procedures.
 
 Financial
and Bank Holding Company Activities:
 In
November 1999, Congress passed the Gramm-Leach-Bliley Financial Services
Modernization Act (“the GLB Act”) which repealed two provisions of the
Glass-Stegall Act that previously separated banking, insurance, and securities
activities. The purpose of this legislation is to modernize the financial
services industry by establishing a comprehensive framework to permit
affiliations among commercial banks, insurance companies, securities firms, and
other financial services providers. Generally
the GLB Act broadened the activities that may be conducted by national banks,
banking subsidiaries of bank holding companies and their financial subsidiaries;
provided an enhanced framework for protecting the privacy of consumer
information; adopted a number of provisions related to the capitalization,
membership, corporate governance and other measures designed to modernize the
FHLB system; modified the laws governing the implementation of the CRA; and
addressed a variety of other legal and regulatory issues affecting day-to-day
operations and long-term activities of financial institutions.
 
 The GLB
Act created a new financial services structure, the financial holding company,
under the BHCA. Financial holding companies may engage in any activity that is
deemed (1) financial in nature, (2) incidental to any such financial activity,
or (3) complementary to any such financial activity and does not pose a
substantial risk to the safety or soundness of depository institutions or the
financial system generally. As a financial holding company, the Company may
engage in, and acquire companies engaged in, activities that are considered
“financial in nature,” as defined by the GLB Act and Federal Reserve
interpretations. These activities include, among other things, lending,
exchanging, transferring, investing for others, or safeguarding money or
securities; securities underwriting; dealing in or market-making in securities;
insurance underwriting and agency activities; providing financial, investment,
or economic advisory services; merchant banking; and any activity currently
permitted for bank holding companies by the Federal Reserve Board under section
4(c)(8) of the Bank Holding Company Act. The GLB Act does not authorize banks or
their affiliates to engage in commercial activities that are not financial in
nature. A bank holding company may elect to be treated as a financial holding
company only if all depository institution subsidiaries of the holding company
are well capitalized, well managed and have at least a satisfactory rating under
the Community Reinvestment Act.
 
 5
 If any
banking subsidiary of the Company ceases to be “well capitalized” or “well
managed” under applicable regulatory standards, the Federal Reserve may, among
other things, place limitations on the Company’s ability to conduct the broader
financial activities permissible for financial holding companies or, if the
deficiencies persist, require the Company to divest the banking subsidiary. In
addition, if any banking subsidiary of the Company receives a Community
Reinvestment Act rating of less than satisfactory, the Company would be
prohibited from engaging in any additional activities other than those
permissible for bank holding companies that are not financial holding companies.
The Company may engage directly or indirectly in activities considered financial
in nature, either de novo or by acquisition, as long as it gives the Federal
Reserve after-the-fact notice of the new activities. The GLB Act also permits
national banks, such as Summit National Bank, to engage in activities considered
financial in nature through a financial subsidiary, subject to certain
conditions and limitations and with the approval of the OCC.
 
 The GLB
Act adopts a system of functional regulation where the primary regulator is
determined by the nature of the activity rather than the type of institution.
Although the Federal Reserve is the umbrella supervisor of financial holding
companies, the GLB Act limits the Federal Reserves’s power to supervise and
conduct examinations of affiliated companies of the financial holding company.
Rather, under the provisions of the GLB Act, the securities activities would be
regulated by the SEC and other securities regulators, insurance activities by
the state insurance authorities, and banking activities by the appropriate bank
regulator.
 
 The GLB
Act also imposes certain obligations on financial institutions to develop
privacy policies, restrict the sharing of nonpublic customer data with
nonaffiliated parties at the customer’s request, and establish procedures and
practices to protect and secure customer data. These privacy provisions were
implemented by regulations that were effective on November 12, 2000. Compliance
with the privacy provisions was required by July 1, 2001. Additional customer
privacy considerations are discussed below under “The Bank”.
 
 Control
Acquisitions:
 The BHCA
requires prior Federal Reserve approval for, among other things, the acquisition
by a bank holding company of direct or indirect ownership or control of more
than 5% of the voting shares or substantially all of the assets of any bank, or
for a merger or consolidation of a bank holding company with another bank
holding company. The Change in Bank Control Act prohibits a person or group of
persons from acquiring “control” of a bank holding company, unless the Federal
Reserve has been notified and has not objected to the transaction. Under a
rebuttable presumption established by the Federal Reserve, the acquisition of
10% or more of a class of voting stock of a bank holding company with a class of
securities registered under Section 12 of the Exchange Act, such as the Company,
would, under the circumstances set forth in the presumption, constitute
acquisition of control of the bank holding company.
 
 Liability
for Banking Subsidiaries
 Under the
policy of the Federal Reserve with respect to bank holding company operations, a
bank holding company is required to serve as a source of financial strength to
its subsidiary depository institutions and to commit resources to support such
institutions in circumstances where it might not do so absent such policy. This
support may be required at times when the bank holding company may not have the
resources to provide it. In the event of a bank holding company’s bankruptcy,
any commitment by the bank holding company to a U.S. federal bank regulatory
agency to maintain the capital of a subsidiary bank would be assumed by the
bankruptcy trustee and entitled to priority of payment. If a default occurred
with respect to a bank, any capital loans to the bank from its parent holding
company would be subordinate in right of payment to payment of the bank’s
depositors and certain of its other obligations.
 
 6
 
 FDICIA
 The
Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), and
the regulations promulgated under FDICIA, among other things, established five
capital categories for insured depository institutions which are well
capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized and critically undercapitalized. FDICIA requires federal bank
regulatory agencies to implement systems for “prompt corrective action” for
insured depository institutions that do not meet minimum capital requirements
based on these categories. FDICIA requires that a bank holding company guarantee
that any “undercapitalized” (as defined in the statute) insured depository
institution subsidiary will comply with the terms of any capital restoration
plan filed by such subsidiary with its appropriate federal banking agency up to
the lesser of (i) an amount equal to 5% of the institution’s total assets at the
time the institution became undercapitalized, or (ii) the amount that is
necessary (or would be necessary) to bring the institution into compliance with
all applicable capital standards as of the time the institution fails to comply
with such capital restoration plan.
 
 Under
Section 5(e) of the BHCA, the Federal Reserve has the authority to terminate any
activity of a bank holding company that constitutes a serious risk to the
financial safety, soundness, or stability of any subsidiary depository
institution or to terminate its control of such subsidiary. Further, FDICIA
grants federal bank regulatory authorities additional discretion to require a
bank holding company to divest itself of any bank or nonbank subsidiary if the
agency determines that divesture may aid the depository institution's financial
condition.
 
 Interstate
Banking and Branching
 As a bank
holding company, the Company is required to obtain prior Federal Reserve
approval before acquiring more than 5% of the voting shares, or substantially
all of the assets, of a bank holding company, bank or savings association. The
passage of the Riegle-Neal Interstate Banking and Branching Efficiency Act of
1994 (“the Riegle-Neal Act”) has increased the ability of bank holding companies
and banks to operate across state lines. Under the Riegle-Neal Act, with the
approval of the Federal Reserve, and subject to nationwide and statewide
concentration limits, the Company and any other bank holding company located in
South Carolina may acquire or merge with a bank located in any other state and a
bank holding company located outside of South Carolina may acquire or merge with
any South Carolina-based bank, provided the acquirer is adequately capitalized
and adequately managed, as defined in the Riegle-Neal Act. The Riegle-Neal Act
also permits de novo branching provisions. The legislation preserves the state
laws which require that a bank must be in existence for a minimum period of time
before being acquired, as long as the requirement is five years or less.
 
 In July
1996, South Carolina enacted the South Carolina Banking and Branching Efficiency
Act of 1996 (“the Act”) which provides that, except as otherwise expressly
permitted by federal law and in limited circumstances specified in the Act, a
company may not acquire a South Carolina bank holding company (as defined in the
Act) or a bank chartered under the laws of South Carolina unless the company
obtains prior approval from the State Board. The company proposing to make the
acquisition must file with the State Board a notice or application that the
company filed with the responsible federal bank supervisory agency and pay the
fee, if any, prescribed by the State Board. In addition, the company must
publish prior notice of the application once in a daily newspaper of general
circulation in South Carolina and provide an opportunity for public comment. If
the company proposing to make the acquisition is an out-of-state bank holding
company, it must qualify to do business in South Carolina or appoint an agent
for service of process in South Carolina. The Act also provides that approval of
the State Board must be obtained before an interstate bank merger involving a
South Carolina bank may be consummated.
 
 Affiliate
Transactions
 The
Company is an “affiliate” of the Bank within the meaning of the Federal Reserve
Act, which imposes restrictions on loans by the Bank to the Company, on
investments by the Bank in the stock or securities of the Company, and on the
use of such stock or securities as collateral for loans by the Bank to any
borrower. The Company and the Bank are subject to Section 23A of the Federal
Reserve Act. Section 23A defines “covered transaction”, which includes an
extension of credit, and limits a bank’s covered transactions with any affiliate
to 10% of such bank’s capital and surplus. All covered transactions with all
affiliates cannot in the aggregate exceed 20% of a bank’s capital and surplus.
All covered and exempt transactions between a bank and its affiliates must be on
terms and conditions consistent with safe and sound banking practices, and banks
and their subsidiaries are prohibited from purchasing low-quality assets from
the bank’s affiliates. Finally, Section 23A requires that all of a bank’s
extensions of credit to an affiliate be appropriately secured by acceptable and
adequate collateral, as set forth in the regulation. The Company and the Bank
are also subject to Section 23B of the Federal Reserve Act, which generally
limits covered and other transactions among affiliates to terms and
circumstances, including credit standards, that are substantially the same or at
least as favorable to a bank holding company, a bank or a subsidiary of either
as prevailing at the time for comparable transactions with or involving
unaffiliated companies.
 
 7
 
 THE
BANK
 
 General
 The OCC
is responsible for overseeing the affairs of all national banks and periodically
examines national banks to determine their compliance with law and regulations.
The OCC monitors all areas of the Bank’s operations, including loans, mortgages,
issuance of securities, capital adequacy, risk management, payment of dividends,
and establishment of branches. In addition, the OCC has authority to issue cease
and desist orders against national banks which are engaged in unsafe or unsound
practice in the conduct of their business. Federal banking laws applicable to
all depository financial institutions, among other things, (i) afford federal
bank regulatory agencies with powers to prevent unsafe and unsound banking
practices; (ii) restrict preferential loans by banks to “insiders” of banks;
(iii) require banks to keep information on loans to “insiders”, including
shareholders, executive officers, and directors; and (iv) bar certain director
and officer interlocks between financial institutions.
 
 National
banks are authorized by the GLB Act to engage, through “financial subsidiaries,”
in any activity that is permissible for a financial holding company (as
described above) and any activity that the Secretary of the Treasury, in
consultation with the Federal Reserve, determines is financial in nature or
incidental to any such financial activity, except (1) insurance underwriting,
(2) real estate development or real estate investment activities (unless
otherwise permitted by law), (3) insurance company portfolio investments and (4)
merchant banking. The authority of a national bank to invest in a financial
subsidiary is subject to a number of conditions, including, among other things,
requirements that the bank must be well managed and well capitalized (after
deducting from the bank's capital outstanding investments in financial
subsidiaries).
 
 Community
Reinvestment Act
 Summit
National Bank is subject to the requirements of the Community Reinvestment Act
of 1977 (“CRA”). CRA requires that, in connection with its examinations of
financial institutions, the OCC shall evaluate the record of the Bank in meeting
the credit needs of the local community, including low and moderate income
neighborhoods, consistent with the safe and sound operation of the Bank. These
factors are also considered in evaluating mergers, acquisitions, and
applications to open a branch facility. The federal banking agencies, including
the OCC, issued a new joint rule which became effective for the Bank in 1997
related to evaluating an institution’s CRA performance. The new rule evaluates
institutions based on their actual performance (rather than efforts) in meeting
community credit needs. Subject to certain exceptions, the OCC assesses the CRA
performance of a bank by applying lending, investment, and service tests. The
OCC assigns a rating to a bank based on the bank’s performance under the tests.
To evaluate compliance with the lending, investment, and service tests, subject
to certain exceptions, banks are required to collect and report to the OCC
extensive demographic and loan data. Summit National Bank received a
“satisfactory” rating in its most recent CRA examination.
 
 Federal
Home Loan Bank Membership
 The Bank
is a member of the Federal Home Loan Bank of Atlanta (“FHLB”) which provides a
central credit facility primarily for member institutions. Members of the FHLB
are required to acquire and hold shares of capital stock in, and may obtain
advances from, the FHLB. The amount of stock owned is based on the Bank’s
balance of residential mortgages and the balance of outstanding advances from
the FHLB. The FHLB makes advances to members in accordance with policies and
procedures established by its Board of Directors. The Bank is authorized to
borrow funds from the FHLB to meet demands for withdrawals of deposit accounts,
to meet seasonal requirements, to fund expansion of the loan portfolio, or for
general asset/liability management. Advances are made on a secured basis.
Collateral on advances may be in the form of first mortgages on 1-4 family real
estate or commercial real estate, government securities, or other assets
acceptable to the FHLB. Interest rates charged for advances vary depending upon
maturity, the cost of funds to the FHLB, and general market
conditions.
 
 Deposit
Insurance Assessments
 The Bank
is also a member of the FDIC, which currently insures the deposits of each
member bank to a maximum of $100,000 per depositor. For this protection, each
bank pays a semiannual statutory deposit insurance assessment to maintain the
Bank Insurance Fund and is subject to the rules and regulations of the FDIC.
Further, the FDIC is authorized to impose one or more special assessments in any
amount deemed necessary to enable repayment of amounts borrowed by the FDIC from
the United Stated Department of the Treasury. The FDIC has broad authority to
prohibit Summit National Bank from engaging in unsafe or unsound banking
practices and may remove or suspend officers or directors of a bank to protect
its soundness. The FDIC requires insured banks to maintain specified levels of
capital, maintain certain security devices and procedures and to file quarterly
reports and other information regarding its operations. The FDIC requires
assessment to be paid by each FDIC-insured institution based on the
institution’s assessment risk classification, which is determined based on
whether the institution is considered “well capitalized”, “adequately
capitalized”, or “undercapitalized”, as such terms have been defined in
applicable federal regulations, and whether such institution is considered by
its supervisory agency to be financially sound or to have supervisory
concerns.
 
 Brokered
Deposits
 Current
federal law regulates the acceptance of brokered deposits by insured depository
institutions to permit only “well capitalized” depository institutions to accept
brokered deposits without prior regulatory approval.
 
 8
 
 Prompt
Corrective Action
 Pursuant
to the authority granted under FDICIA, U.S. bank regulatory agencies were
empowered to take prompt corrective action to resolve problems of insured
depository institutions and impose progressively more restrictive constraints on
operations, management and capital. The extent of these powers depends upon
whether the institution is “well capitalized”, “adequately capitalized”,
“undercapitalized”, “significantly undercapitalized”, or “critically
undercapitalized”. Under uniform regulations defining such capital levels issued
by each of the federal banking agencies, a bank is considered “well capitalized”
if it has (1) a total risk-based capital ratio of 10% or greater; (2) a Tier I
risk-based capital ratio of 6% or greater; (3) a leverage ratio of 5% or
greater; and (4) is not subject to any order or written directive to meet and
maintain a specific capital level for any capital measure.
 
 Unless a
banking institution is well capitalized, it is subject to restrictions on
certain aspects of its operations. An undercapitalized banking institution must
develop a capital restoration plan and its parent bank holding company must
guarantee the bank’s compliance with the plan up to the lesser of 5% of the
bank’s assets at the time it became undercapitalized and the amount needed to
comply with the plan. As of December 31, 2003, the Bank was well capitalized,
based on the prompt corrective action guidelines. It should be noted, however,
that a bank’s capital category is determined solely for the purpose of applying
the OCC’s prompt corrective action regulations and that the capital category may
not constitute an accurate representation of the bank’s overall financial
condition or prospects.
 
 Privacy
 The
deposit operations of the Bank are also subject to the Right to Financial
Privacy Act which imposes a duty to maintain confidentiality of consumer
financial records and prescribes procedures for complying with administrative
subpoenas of financial records, and the Electronic Fund Transfer Act and
Regulation E issued by the Federal Reserve to implement that act which governs
automatic deposits to and withdrawals from deposit accounts and customers’
rights and liabilities arising from the use of automated teller machines and
other electronic banking services.
 
 The GLB
Act also contains a number of other provisions that will affect the Company’s
operations and the operations of all financial institutions. One of the new
provisions, which became effective on July 1, 2000, relates to the financial
privacy of consumers. Federal banking regulators issued final regulations in
November 2000 related to consumer privacy which limit the ability of banks and
other financial entities to disclose non-public information about consumers to
non-affiliated entities and establish practices and procedures to protect and
secure customer data. The regulations require more disclosure to consumers, and
in some circumstances, require consent by the consumer before information is
allowed to be provided to a third party.
 
 The
USA Patriot Act
 The
Uniting and Strengthening America by Providing Appropriate Tools Required to
Intercept and Obstruct Terrorism Act of 2001, also known as the USA Patriot Act
(“the Act”), was signed into law on October 26, 2001. The Act gives the federal
government new powers to address terrorist threats through enhanced domestic
security measures, expanded surveillance powers, increased information sharing,
and broadened anti-money laundering requirements. By way of amendments to the
Bank Secrecy Act, Title III of the Act takes measures intended to encourage
information sharing among bank regulatory agencies and law enforcement bodies.
Further, certain provisions of Title III impose affirmative obligations on a
broad range of financial institutions, including banks, thrifts, brokers,
dealers, credit unions, money transfer agents and parties registered under the
Commodity Exchange Act.
 
 Among
other requirements, Title III of the USA Patriot Act imposes the following
requirements with respect to financial institutions:
 Establish
        anti-money laundering programs that include, at minimum: (i) internal
        policies, procedures, and controls; (ii) specific designation of an
        anti-money laundering compliance officer; (iii) ongoing employee
        training programs; and (iv) an independent audit function to test the
        anti-money laundering program.Establish
        policies and procedures to meet established standards with respect to
        customer identification at the time new accounts are
        opened.Establish
        appropriate, specific, and, where necessary, enhanced due diligence
        policies, procedures, and controls designed to detect and report money
        laundering with respect to private banking accounts or correspondent
        accounts for non-United States persons or their representatives
        (including foreign individuals visiting the United States).Effective
        December 25, 2001, financial institutions are prohibited from
        establishing, maintaining, administering or managing correspondent
        accounts for foreign banks that do not have a physical presence in any
        country, and will be subject to certain recordkeeping obligations with
        respect to correspondent accounts of foreign banks.
 9
 
 Other
Regulations
 Interest
and certain other charges collected or contracted for by the Bank are subject to
state usury laws and certain federal laws concerning interest rates. The Bank’s
operations are also subject to certain federal laws applicable to credit
transactions, such as the federal Truth-In-Lending Act governing disclosures of
credit terms to consumer borrowers; CRA requiring financial institutions to meet
their obligations to provide for the total credit needs of the community; the
Home Mortgage Disclosure Act of 1975 requiring financial institutions to provide
information to enable the public to determine whether it is fulfilling its
obligation to meet the housing needs of the community it serves; the Equal
Credit Opportunity Act prohibiting discrimination on the basis of race, creed,
or other prohibited factors in extending credit; the Fair Credit Reporting Act
of 1978 governing the use and provisions of information to credit reporting
agencies; the Fair Debt Collection Act governing the manner in which consumer
debts may be collected; and the rules and regulations of the various federal
agencies charged with the responsibility of implementing such federal laws.
 
 THE
FINANCE COMPANY
 The
Company's subsidiary finance company, Freedom Finance, Inc., is a consumer
finance company licensed and regulated by the State Board. Accordingly, the
Finance Company is subject to annual examinations by the State Board and various
regulatory requirements, including annual reporting, annual license renewal, and
other regulations pertaining to the extension of credit. Specifically, state
laws and regulations apply to maximum loan amounts, terms, interest rates and
credit insurance and other fee charges. These laws and regulations are subject
to both repeal and revision from time to time, often in response to pressures
exerted by consumer rights groups.
 
 CAPITAL
REQUIREMENTS
 Pursuant
to the general supervisory authority conferred by the BHCA and the directives
set forth in the International Lending Supervision Act of 1983, the Federal
Reserve and the OCC have adopted risk-based capital adequacy guidelines for
banks and bank holding companies subject to their regulation as a means for
determining the adequacy of capital based on the risks inherent in carrying
various classes of assets and off-balance sheet items. Failure to meet minimum
capital requirements can initiate certain mandatory and possibly additional
discretionary actions by regulators that, if undertaken, could have a material
adverse effect on the financial statements. Under capital adequacy guidelines
and the regulatory framework for prompt corrective action, the Company and the
Bank must meet specific capital guidelines that involve quantitative measures of
the Company’s and the Bank’s assets, liabilities and certain off-balance sheet
items as calculated under regulatory accounting practices. The Company’s and the
Bank’s 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 the
Company and the Bank to maintain minimum amounts and ratios of total capital to
risk-weighted assets (as defined in the regulation) and Tier 1 capital (as
defined in the regulation) to total assets. Management believes, as of December
31, 2004, that the Company and the Bank meet all capital adequacy requirements
to which they are subject. At December 31, 2004 and 2003, the Bank was
categorized as “well capitalized” under the regulatory framework for prompt
corrective action as described above. There are no current conditions or events
that management believes would change the Company’s or the Bank’s
category.
 
 The
Company’s and the Bank’s actual capital amounts and ratios at December 31, 2004
and 2003 as well as the minimum calculated amounts for each regulatory defined
category are included in this report under Part II, Item 8. “Financial
Statements and Supplementary Data” as Note 16 to the Notes to Consolidated
Financial Statements.
 
 DIVIDENDS
 The
holders of the Company’s common stock are entitled to receive cash dividends
when and if declared by the Board of Directors out of the funds legally
available therefore. The Company is a legal entity separate and distinct from
its subsidiaries and depends in large part for its income available to
distribute to shareholders on the payment of cash dividends from its
subsidiaries. While the Company is not presently subject to any regulatory
restrictions on dividends, the Bank is subject to such regulatory cash dividend
restrictions.
 
 Specifically,
approval of the OCC will be required for any cash dividend to be paid to the
Company by the Bank if the total of all dividends, including any proposed
dividend, declared by the Bank in any calendar year exceeds the total of its
retained net profits for that year combined with its retained net profits for
the preceding two years, less any required transfers to surplus. Additionally,
the National Bank Act provides that a national bank cannot pay cash dividends or
other distributions to shareholders out of any portion of its common stock or
preferred stock accounts and that a bank shall pay no cash dividend in an amount
greater than its net profits then on hand, after deduction of its losses and bad
debts. The Bank paid cash dividends to the Company, its sole shareholder, of
$0.76 and $0.51, respectively, per common share totaling $646,000 and $434,000,
respectively for the year ended December 31, 2004 and 2003. It is
currently the Bank’s intention to pay all dividends only from the net income of
the current year.
 
 10
 
 FUTURE
LEGISLATION
 Changes
to the laws and regulations in the state where the Company and its subsidiaries
do business can affect the operating environment of financial and bank holding
companies and their subsidiaries in substantial and unpredictable ways. The
Company cannot accurately predict whether legislation will ultimately be
enacted, and, if enacted, the ultimate effect that it, or implementing
regulations, would have upon its or its subsidiaries’ financial condition or
results of operations.
 
 
 **Item 2.  PROPERTIES**
 
 The
operations of the Company and the Bank do not require any substantial investment
in fixed assets. The principal offices for the Company, the Bank and the Finance
Company are located at 937 North Pleasantburg Drive, Greenville, South Carolina.
The building at this location is approximately 7,500 square feet in area and is
situated on a one-acre lot. The Company executed a lease for the land and
building and assigned the lease to the Bank effective on the Bank’s commencement
of operations. The initial term of the lease commenced April 1, 1990 and renewal
options were exercised in April 1995 and April 2000. The term on the renewal of
the lease is five years under substantially the same terms. Under the terms of
the original lease, the Company has one renewal option remaining. The lease
provides that the Company will be responsible for real property taxes,
insurance, utilities and maintenance with respect to the premises. During 1995,
the Bank built its second full service bank branch on .63 acres of land in
Greenville, South Carolina. The facility is approximately 6,500 square feet and
is fully owned and occupied by the Bank. During April of 1998, the Company
entered into an agreement to lease a facility for a branch located in
Greenville, South Carolina. This facility, which was occupied in October 1998,
serves as the third full service bank branch and as the Bank’s operations
facility. The facility is approximately 8,000 square feet and has an initial
lease term of seven years with a renewal option for an additional seven year
period which was exercised in February 2005. In 2001, the Bank completed
construction and occupied a 7,500 square feet branch facility on 1.1 acres of
land in Spartanburg, South Carolina. In January 2004, the Company entered into a
contract to purchase a one acre site in Greenville County for a branch facility.
Construction of a 4,000 square foot branch on this site commenced in August 2004
and is expected to be completed in March 2005.
 
 The
eleven Finance Company branches throughout South Carolina are housed in leased
facilities averaging 1,200 square feet each with lease terms from one to five
years. The lease agreements have various renewal options under substantially the
same terms as the original agreements.
 
 Refer to
Note 17 to the Notes to Consolidated Financial Statements contained in Part II,
Item 8. “Financial Statements and Supplementary Data” for information relating
to minimum rental commitments under the Company’s leases for office facilities
and to Note 6 for further details on the Company’s properties.
 
 
 **Item 3.  LEGAL
PROCEEDINGS**
 
 Although
the Company is from time to time a party to various legal proceedings arising
out of the ordinary course of business, management believes there is no
litigation or proceeding threatened or pending against the Company that could
reasonably be expected to result in a materially adverse change in the business
or financial condition of the Company.
 
 
 **Item 4.  SUBMISSION OF MATTERS
TO A VOTE OF SECURITY HOLDERS**
 
 There
were no matters submitted to a vote of the shareholders in the fourth quarter of
the Company’s year ending December 31, 2004.


11


**PART
II**
 
 **Item
5.** **MARKET FOR
THE REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER
REPURCHASES OF EQUITY SECURITIES**
 
 (a) Market
information
 
 Summit
Financial Corporation’s common stock is traded in the Small-Cap market on the
NASDAQ system under the symbol SUMM. The following table presents the high, low
and closing sales prices for the Company’s common stock for each full quarterly
period within the two most recent fiscal years. The source for the following
information was the Nasdaq market.
 
 **2004**
    **2003****4Q**
    
    
    **3Q**
    
    
    **2Q**
    
    
    **1Q**
    
    
    **4Q**
    
    
    **3Q**
    
    
    **2Q**
    
    
    **1Q**Stock
      Price ranges:High
    
    $
    22.95
    
    $
    19.49
    
    $
    21.05
    
    $
    19.00
    
    $
    21.42
    
    $
    19.05
    
    $
    17.24
    
    $
    15.54Low
    
    $
    18.11
    
    $
    17.50
    
    $
    17.77
    
    $
    17.61
    
    $
    17.73
    
    $
    15.71
    
    $
    14.76
    
    $
    14.16Close
    
    $
    21.35
    
    $
    18.50
    
    $
    18.31
    
    $
    18.41
    
    $
    18.00
    
    $
    18.74
    
    $
    16.14
    
    $
    14.87Volume
      traded
    
    
    102,413
    
    
    44,886
    
    
    48,729
    
    
    50,170
    
    
    66,440
    
    
    97,107
    
    
    127,542
    
    
    171,972Cash
      dividend declared
    
    $
    0.08
    
    
    -
    
    $
    0.07
    
    
    -
    
    $
    0.10
    
    
    -
    
    
    -
    
    
    -
 (b) Holders
 
 As of
February 22, 2005, there were 4,525,727 shares of common stock outstanding and
approximately 375 shareholders of record of the common stock. The number of
shareholders does not reflect the number of persons or entities who hold their
stock in nominee or “street” name through various brokerage firms.
 
 (c) Dividends
 
 The
Company and its bank subsidiary are subject to certain regulatory restrictions
on the amount of dividends they are permitted to pay. The Company paid cash
dividends totaling $0.15 and $0.10 per common share, respectively for 2004 and
2003. Total cash dividends amounted to 16.7% and 12.7%, respectively, of fully
diluted net income per common share for the year ended December 31, 2004 and
2003, respectively. The Company presently intends to pay an annual cash dividend
on the common stock; however, future dividends will depend upon the Company’s
earnings, financial condition, capital position, and such other factors as the
Board may deem relevant. Further, the ability of the Company to pay cash
dividends is dependent upon its receiving cash in the form of dividends from the
Bank. The dividends that may be paid by the Bank to the Company are subject to
legal limitations and regulatory capital requirements. It is currently the
Bank’s intention to pay all dividends only from the net income of the current
year. For additional information on dividend restrictions, refer to Part II,
Item 7. “Management’s Discussion and Analysis of Financial Condition and Results
of Operations, under Capital Management and Part II, Item 8. “Financial
Statements and Supplementary Data”, Note 15 under Notes to Consolidated
Financial Statements.
 
 (d) Issuer
Repurchases of Equity Securities
 
 None
  12
  **Item 6.**  **SELECTED
FINANCIAL DATA**
 The
information presented below should be read in conjunction with the consolidated
financial statements, the notes thereto and “Management’s Discussion and
Analysis of Financial Condition and Results of Operations” contained under Item
7 of this report.


**Selected
Consolidated Financial and Other Information**
 (All
Dollar Amounts In Thousands, Except Per Share Data)
 
 **2004**
    
    
    **2003**
    
    
    **2002**
    
    
    **2001**
    
    
    **2000****SUMMARY
      OF OPERATIONS**Net
      interest income
    
    **$**
    **12,952**
    
    $
    12,289
    
    $
    11,647
    
    $
    10,398
    
    $
    10,023Provision
      for loan losses
    
    
    **436**
    
    
    786
    
    
    847
    
    
    725
    
    
    654Noninterest
      income
    
    
    **2,316**
    
    
    2,930
    
    
    2,671
    
    
    2,582
    
    
    1,846Noninterest
      expense
    
    
    **8,434**
    
    
    8,872
    
    
    8,444
    
    
    8,259
    
    
    7,356Income
      taxes
    
    
    **1,959**
    
    
    1,754
    
    
    1,585
    
    
    1,280
    
    
    1,204Net
      income
    
    
    **4,439**
    
    
    3,807
    
    
    3,442
    
    
    2,716
    
    
    2,655Per
      common share — basic
    
    
    **1.00**
    
    
    0.89
    
    
    0.82
    
    
    0.66
    
    
    0.65Per
      common share — diluted
    
    
    **0.90**
    
    
    0.79
    
    
    0.73
    
    
    0.60
    
    
    0.59**YEAR
      END BALANCE SHEETS**Investment
      securities
    
    **$**
    **59,838**
    
    $
    90,887
    
    $
    63,464
    
    $
    47,400
    
    $
    32,445Loans,
      net of unearned income
    
    
    **242,460**
    
    
    231,802
    
    
    218,800
    
    
    207,041
    
    
    180,521Allowance
      for loan losses
    
    
    **3,649**
    
    
    3,437
    
    
    3,369
    
    
    2,937
    
    
    2,560Total
      assets
    
    
    **320,938**
    
    
    343,921
    
    
    302,206
    
    
    273,097
    
    
    249,835Noninterest-bearing
      deposits
    
    
    **36,897**
    
    
    37,037
    
    
    33,342
    
    
    29,372
    
    
    35,468Interest-bearing
      deposits
    
    
    **194,821**
    
    
    219,975
    
    
    197,173
    
    
    189,406
    
    
    173,723FHLB
      advances
    
    
    **50,134**
    
    
    52,317
    
    
    40,600
    
    
    26,900
    
    
    16,000Shareholders’
      equity
    
    
    **37,265**
    
    
    32,205
    
    
    28,742
    
    
    24,601
    
    
    21,528Book
      value per share
    
    
    **8.25**
    
    
    7.47
    
    
    6.82
    
    
    5.89
    
    
    5.17**AVERAGE
      BALANCE SHEETS**Investment
      securities
    
    **$**
    **68,467**
    
    $
    74,661
    
    $
    52,157
    
    $
    40,232
    
    $
    28,681Loans,
      net of unearned income
    
    
    **232,301**
    
    
    223,365
    
    
    211,704
    
    
    195,573
    
    
    159,711Total
      assets
    
    
    **326,519**
    
    
    322,766
    
    
    288,887
    
    
    263,695
    
    
    212,177Noninterest-bearing
      deposits
    
    
    **35,969**
    
    
    32,132
    
    
    29,678
    
    
    26,549
    
    
    21,746Interest-bearing
      deposits
    
    
    **202,879**
    
    
    212,048
    
    
    197,631
    
    
    190,713
    
    
    153,624FHLB
      advances
    
    
    **50,356**
    
    
    44,655
    
    
    32,207
    
    
    19,891
    
    
    14,131Shareholders’
      equity
    
    
    **34,651**
    
    
    30,558
    
    
    26,427
    
    
    23,193
    
    
    19,562**RATIOS
      AND OTHER DATA**Return
      on average assets
    
    
    **1.36**
    **%**
    
    1.18
    %
    
    1.19
    %
    
    1.03
    %
    
    1.25
    %Return
      on average equity
    
    
    **12.81**
    **%**
    
    12.46
    %
    
    13.02
    %
    
    11.71
    %
    
    13.57
    %Net
      interest margin, tax-equivalent basis
    
    
    **4.33**
    **%**
    
    4.14
    %
    
    4.38
    %
    
    4.29
    %
    
    5.11
    %Efficiency
      ratio
    
    
    **58.10**
    **%**
    
    63.46
    %
    
    64.89
    %
    
    69.21
    %
    
    67.49
    %Noninterest
      income ratio
    
    
    **11.66**
    **%**
    
    14.38
    %
    
    13.03
    %
    
    11.33
    %
    
    8.68
    %Total
      risk-based capital
    
    
    **15.27**
    **%**
    
    13.75
    %
    
    13.20
    %
    
    12.41
    %
    
    12.21
    %Leverage
      capital
    
    
    **11.39**
    **%**
    
    9.92
    %
    
    9.70
    %
    
    9.25
    %
    
    10.13
    %Net
      charge-offs to average loans
    
    
    **0.10**
    **%**
    
    0.32
    %
    
    0.20
    %
    
    0.18
    %
    
    0.16
    %Nonperforming
      assets to loans plus OREO, year end
    
    
    **0.37**
    **%**
    
    0.38
    %
    
    0.22
    %
    
    0.64
    %
    
    0.19
    %Allowance
      for loan losses to loans, year end
    
    
    **1.51**
    **%**
    
    1.48
    %
    
    1.54
    %
    
    1.42
    %
    
    1.42
    %Closing
      market price per share
    
    **$**
    **21.35**
    
    $
    18.00
    
    $
    14.62
    
    $
    9.07
    
    $
    7.99Price
      to earnings, year end
    
    
    **23.7**
    
    
    22.8
    
    
    20.3
    
    
    15.1
    
    
    13.5
 
  13
 **Item 7. **MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS****
 The
following information presents management’s discussion and analysis of the
financial condition and results of operations of Summit Financial Corporation
(“the Company” or “Summit Financial”), a financial holding company, and its
wholly-owned subsidiaries, Summit National Bank (“the Bank” or “Summit”) and
Freedom Finance, Inc. (“the Finance Company” or “Freedom”). The Bank, which is
the principal subsidiary, owns all the outstanding shares of Summit Investment
Services, Inc. Throughout this discussion and analysis, the term “the Company”
refers to Summit Financial Corporation and its subsidiaries.
 
 This
discussion and analysis should be read in conjunction with the consolidated
financial statements and supplemental data contained elsewhere herein. Certain
reclassifications have been made to prior years’ financial data to conform to
current financial statement presentations.
 
 **FORWARD-LOOKING
STATEMENTS**
 
 Certain
statements contained herein are “forward-looking statements” identified as such
for purposes of the safe harbor provided in Section 27A of the Securities Act of
1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended. These forward-looking statements include, but are not limited to,
statements as to industry trends, future results of operations or financial
position, borrowing capacity and future liquidity, future investment results,
future credit exposure, future loan losses and plans and objectives for future
operations, and other statements that do not relate strictly to historical
facts. These statements are not historical facts, but instead are based on
current expectations, estimates and projections about the Company, are subject
to numerous assumptions, risks and uncertainties, and represent only
management’s belief regarding future events, many of which, by their nature, are
inherently uncertain and outside the Company’s control. Any forward-looking
statements made speak only as of the date on which such statements are made. The
Company disclaims any obligation to update any forward-looking statements.
Forward-looking statements are not guarantees of future performance and it is
possible that actual results and financial position may differ, possibly
materially, from the anticipated results and financial condition indicated in or
implied by these forward-looking statements.
 
 Factors
that could cause actual results to differ from those indicated by any
forward-looking statements include, but are not limited to, the following:
 
 ·
    Inflation,
      interest rates, market and monetary
fluctuations;
 ·
    Geopolitical
      developments and any future acts or threats of war or terrorism;
 ·
    The
      effects of, and changes in trade, monetary and fiscal policies and laws,
      including interest policies of the Federal Reserve;
 ·
    A
      decline in general economic conditions and the strength of the local
      economies in which the Company operates;
 ·
    The
      financial condition of the Company’s borrowers and potential deterioration
      of credit quality;
 ·
    Competitive
      pressures on loan and deposit pricing and demand;
 ·
    Changes
      in technology and their impact on the marketing of products and services;
 ·
    The
      timely development and effective marketing of competitive new products and
      services;
 ·
    The
      impact of changes in financial service laws and regulations, including
      laws concerning taxes, banking, securities and
  insurance;
 ·
    Changes
      in accounting principles, policies, and guidelines;
 ·
    The
      Company’s success at managing the risks involved in the foregoing as well
      as other risks and uncertainties detailed from time to time in press
      releases and other public filings.
 
 **COMPANY
BUSINESS**
 
 The
Company is headquartered in Greenville, South Carolina. Through its primary
subsidiary, the Bank, the Company offers a full range of financial products and
services, including business and consumer loans, commercial and residential
mortgage lending and brokerage, asset-based financing, corporate and consumer
deposit services, and investment management services. The Bank currently has
four full service offices in Greenville and Spartanburg, South Carolina. Freedom
is a consumer finance company headquartered in Greenville, South Carolina. The
Finance Company primarily makes and services installment loans to individuals
with loan principal amounts generally not exceeding $2,000 and with maturities
ranging from three to 18 months. Freedom operates 11 branches throughout South
Carolina.
 
 There is
intense competition in all areas in which the Company conducts its business. The
Bank competes with other major financial institutions, including commercial
banks, investment banks, mutual savings banks, savings and loan associations,
and credit unions, as well as other non-bank institutions, such as insurance
companies, brokerage firms, and investment companies. The competition among the
various financial institutions is based upon interest rates offered on deposit
accounts, interest rates and fees charged on loans, service charges, the quality
and range of services rendered, the convenience of banking facilities, and, in
the case of loans to large commercial borrowers, relative lending limits. The
Finance Company competes directly with national, regional and local consumer
finance companies, as well as pay-day lenders and check cashing companies. The
principal areas of competition in the consumer finance industry are convenience
of services to customers, effectiveness of advertising, effectiveness of
administration of loans and the cost of borrowed money. The amounts, rates, and
fees charged on consumer finance loans are generally regulated by state law
according to the type of license granted.
 
 14
 ****
 **CRITICAL
ACCOUNTING POLICIES**
 
 The
preparation of consolidated financial statements requires management to make
estimates and assumptions in the application of certain of its accounting
policies about the effect of matters that are inherently uncertain. These
estimates and assumptions affect the reported amounts of certain assets,
liabilities, revenues and expenses. Different amounts could be reported under
different conditions, or if different assumptions were used in the application
of these accounting policies. The Company’s accounting policies are discussed in
Item 8. “Financial Statements and Supplementary Data”, Note 1 under Notes to
Consolidated Financial Statements. Of these significant accounting policies, the
Company has determined that accounting for the allowance for loan losses and
income taxes are deemed critical because of the valuation techniques used, and
the sensitivity of these financial statement amounts to the methods, assumptions
and estimates underlying these balances. Accounting for these critical areas
requires the most subjective and complex judgments that could be subject to
revision as new information becomes available.
 
 As
explained in Note 1 to the consolidated financial statements, the allowance for
loan losses represents management’s estimate of probable credit losses inherent
in the loan portfolio. This estimate is based on the current economy’s impact on
the timing and expected amounts of future cash flows on problem or impaired
loans, as well as historical loss experience associated with homogenous pools of
loans. The Company’s assessments may be impacted in future periods by changes in
economic conditions, the impact of regulatory examinations, and the discovery of
information with respect to borrowers, which is not known to management at the
time of the issuance of the consolidated financial statements. For additional
discussion concerning the Company’s allowance for loan losses and related
matters, see “Allowance for Loan Losses and Nonperforming Assets” and “Provision
for Loan Losses” sections below.
 
 The
income tax amounts disclosed in Note 10 to the consolidated financial statements
reflect the current period income tax expense for all periods shown, as well as
future tax liabilities associated with differences in the timing of expenses and
income recognition for book and tax accounting purposes. The income tax returns,
usually filed three months after year-end, are subject to review and possible
revision by the tax authorities up until the statute of limitations has expired.
These statutes usually expire three years after the time the respective tax
returns have been filed.
 
 **RISK
MANAGEMENT**
 
 Summit’s
management of the risks inherent in its businesses is essential for financial
performance and creating long-term value. Risk management is governed by
policies approved annually by the Company’s Board of Directors. The goal of risk
management is the control of the Company’s primary risk factors — credit risk,
market risk, liquidity risk, and operating risk — to support the prudent use of
capital. These risks, if not effectively managed, can result in current losses
to the Company as well as erosion of its capital and damage to its reputation.
Risk management techniques are structured around certain fundamental risk
principals, including commitment from senior level management; clearly defined
policies and procedures; training; independent oversight; established approval
processes; management information systems; measurement and analytical tools; and
performance evaluation processes. These processes assist the Company in managing
its risk exposures, but they cannot fully insulate the Company from losses. The
Company’s business requires it to take risks while ensuring that it receives
adequate compensation for the risks undertaken. Despite best efforts, losses
will periodically occur, particularly with respect to credit risk, when
unanticipated events challenge the limits of risk management
processes.
 
 15
 ****
 **EXECUTIVE
SUMMARY**
 
 The
Company ended 2004 with total assets of $320.9 million compared to $343.9
million for the prior year end. The decrease of 7% was directly related to the
reduction in investment securities of 34% from $90.9 million at December 31,
2003 to $59.8 million at December 31, 2004. The Company’s strategic decision to realign
the balance sheet during 2004 in anticipation of rising rates resulted in the $31.1
million reduction in securities which had increased during 2003 from the
investment of excess liquidity in
higher yielding, cash flowing securities. The level of investment securities as
of December 31, 2004 is back in line with historical levels of investments as a
percent of total assets.
 
 The cash
flow generated from liquidating securities was utilized to accomplish another of
the Company’s strategic objectives and reduce higher priced, out-of-market
deposits. Total deposits decreased $25.3 million during the year to total $231.7
million. The decrease occurred in the certificates of deposit category as
management allowed maturing deposits, primarily public funds and out-of-market
CDs, to roll out of the Bank while concentrating on local market core deposits.
The result was increases in both interest-bearing demand deposits ($8.9 million
or 38%) and money market deposits ($8.7 million or 12%).
 
 The
balance sheet realignment has decreased the Company’s exposure to interest rate
risk, reduced both price and extension risk in the investment portfolio, and
contributed to the reduction in cost of funds and increase in net interest
income for 2004.
 
 Total
loans grew 5% or $10.7 million to total $242.5 million at December 31, 2004.
Over the last two years, customers of the Bank have felt the impact of the slow
economy and management continues to maintain a focus on asset quality.
Procedures to ensure early detection of weak credits and strong underwriting
criteria, as well as an emphasis on collection of potential problem loans has
resulted in a manageable level of watch list and classified loans. This focus in
2004 contributed to a reduction of loans through the majority of the year as
weaker credits were collected or not renewed. Lower loan demand also contributed
to the slight decrease in net loan growth through the third quarter of 2004. As
the economy has improved throughout the year, loan demand has increased with the
fourth quarter reporting net originations of $13.7 million.
 
 Shareholders’
equity totaled $37.3 million at December 31, 2004 as compared to $32.2 million
at December 31, 2003. This increase was primarily a result of retained net
income of $4.4 million, proceeds from stock option exercises of $1.2 million,
and an increase in the unrealized gain on available for sale securities during
2004. Increases in equity were partially offset by the payment of a cash
dividend totaling $673,000.
 
 The
Company reported another year of record earnings in 2004, up 17% from 2003. Net
income totaled $4.4 million, or $0.90 diluted earnings per share, in 2004
compared with $3.8 million, or $0.79 diluted earnings per share, in 2003 and
$3.4 million, or $0.73 diluted earnings per share, for 2002. The improvement in
net income and earnings per share between 2003 and 2004 resulted primarily from
the increase in net interest income related to lower cost of funds, due
principally to the low interest rate environment. The low short-term interest
rate environment, which has persisted since 2001, started to turn in mid-2004
and the prime interest rate increased 125 basis points during the last six
months of the year. The increase in short-term rates, offset by a shift in the
loan portfolio to a higher percentage of variable rate loans combined with lower
weighted average rate on the fixed rate portion of the portfolio due to new and
renewing loans added at lower current market rates, resulted in a flat yield on
earning assets between the two year period. The decline in cost of funds was
thus the primary contributor to the higher net interest income and the 19 basis
point increase in net interest margin for 2004.
 
 Lower
provision for loan losses, due primarily to the improvement in credit quality of
the portfolio and lower net originations in 2004 as compared to 2003, also
contributed to the increase in net income for 2004. Factors affecting
fluctuations in the allowance and the provision are discussed in the “Allowance
for Loan Losses” and “Provision for Loan Losses” sections below. Decreases in
income, primarily gain in sales of investment securities and mortgage referral
fees, were substantial offset by decreases in overhead expenses. Overhead
declined primarily in advertising expense, consultant and other professional
fees, and the FHLB prepayment penalty incurred in 2003 and are discussed
in more detail under “Results of Operations” section below.
 
 **FINANCIAL
CONDITION**
 
 **Credit
Risk Management and Loans**
 Credit
risk is defined as the risk of loss arising from a counterparty’s failure or
inability to meet payment or performance terms of a contract with the Company.
The Company’s credit risk management processes are intended to address the
management of all forms of credit risk, including balance sheet and off-balance
sheet exposures. The credit risk process involves a Loan Committee of the Board
of Directors which is responsible for establishing and monitoring adherence to
credit policies, approving underwriting standards and concentration limits, and
granting credit approval authorities. Credit policies include loan officer and
credit limits, periodic documentation examination, and follow-up procedures for
any exceptions to credit policies. The processes are intended to ensure that
risks are accurately assessed, properly approved, and continuously monitored. An
independent credit review function also monitors compliance with credit
policies, works to ensure that credit due diligence and credit administration
meet acceptable standards, and is responsible for the effectiveness of the
credit quality review process. Loans that are determined to involve any more
risk than the normal portfolio risk are placed on a special review status and
closely monitored.
 
 16
 
 As of
December 31, 2004, the Company had gross loans outstanding, net of unearned
income, of $242.5 million which represents an increase of $10.7 million, or 5%
from the 2003 outstanding loans of $231.8 million. Outstanding loans represent
the largest component of earning assets at 75% and 73% of average earning assets
for 2004 and 2003, respectively. For 2004, the Company’s loans averaged $232.3
million with a yield of 6.19%. This is compared to $223.4 million average loans
with a yield of 6.27% in 2003. Short-term
rates began to rise in July 2004 and the prime rate increased 125 basis points
to average 4.34% for the year compared to 4.12% for 2003. However, loan yields
decreased 8 basis points in 2004 due to the increases in prime rate being more
than offset by a shift in the portfolio’s mix to a higher percent of variable
rate loans and the decline in the average rate on the fixed rate portion of the
portfolio as new loans were added or renewed at lower current market
rates. Interest
rates charged on loans of the Bank vary with the degree of risk, maturity and
amount of the loan. Competitive pressures, money market rates, availability of
funds, and government policy and regulations also influence interest rates.
Loans of the Finance Company are generally regulated under state laws which
establish the maximum loan amounts and interest rates, and the types and maximum
amounts of fees, insurance premiums, and other costs that may be charged.
 
 The loan
portfolio consists primarily of commercial loans secured by real estate, loans
secured by one-to-four family residential mortgages, real estate construction
loans, and commercial and industrial loans. Substantially all of these loans are
located in the Upstate of South Carolina and are concentrated in the Company’s
market area. At December 31, 2004, the Company had no loans for highly leveraged
transactions and no foreign loans. The primary focus has been on commercial
lending to small and medium-sized businesses in its marketplace. The Company has
a diversified loan portfolio which is spread throughout a variety of industries,
with no industry or group of related industries accounting for a significant
portion of the commercial loan portfolio, and with no dependence on any specific
economic segment. The Company regularly monitors its credit concentrations based
on loan purpose, industry, and customer base. As of December 31, 2004, there
were no material concentrations of credit risk within the Company’s loan
portfolio.
 
 The
following table shows the composition of the loan portfolio at December 31 for
each year presented.
   **Loan
Portfolio Composition**
 **(dollars
in thousands)**
 
 **2004**
    ****
    **2003**
    ****
    **2002**
    ****
    **2001**
    ****
    **2000****Amount**
    ****
    ****
    **Percent**
    ****
    ****
    **Amount**
    ****
    ****
    **Percent**
    ****
    ****
    **Amount**
    ****
    ****
    **Percent**
    ****
    ****
    **Amount**
    ****
    ****
    **Percent**
    ****
    ****
    **Amount**
    ****
    ****
    **Percent**Commercial
      secured by real estate
    
    $
    81,943
    
    
    33.8
    %
    $
    74,845
    
    
    32.3
    %
    $
    77,748
    
    
    35.5
    %
    $
    70,036
    
    
    33.8
    %
    $
    62,709
    
    
    34.7
    %Real
      estate - residential mortgages
    
    
    63,657
    
    
    26.2
    %
    
    64,921
    
    
    28.0
    %
    
    67,963
    
    
    31.1
    %
    
    64,239
    
    
    31.0
    %
    
    52,287
    
    
    29.0
    %Real
      estate - construction
    
    
    56,254
    
    
    23.2
    %
    
    49,313
    
    
    21.3
    %
    
    32,791
    
    
    15.0
    %
    
    26,672
    
    
    12.9
    %
    
    23,232
    
    
    12.9
    %Commercial
      and industrial
    
    
    31,999
    
    
    13.2
    %
    
    33,370
    
    
    14.4
    %
    
    30,643
    
    
    14.0
    %
    
    35,737
    
    
    17.3
    %
    
    31,995
    
    
    17.7
    %Installment
      and other consumer loans
    
    
    5,182
    
    
    2.1
    %
    
    5,845
    
    
    2.5
    %
    
    5,846
    
    
    2.7
    %
    
    6,301
    
    
    3.1
    %
    
    6,540
    
    
    3.6
    %Consumer
      finance, net of
      unearned
      income
    
    
    3,049
    
    
    1.3
    %
    
    3,267
    
    
    1.4
    %
    
    3,544
    
    
    1.6
    %
    
    3,606
    
    
    1.7
    %
    
    3,542
    
    
    2.0
    %Other
      loans and overdrafts
    
    
    376
    
    
    0.2
    %
    
    241
    
    
    0.1
    %
    
    265
    
    
    0.1
    %
    
    450
    
    
    0.2
    %
    
    216
    
    
    0.1
    %242,460
    
    
    100
    %
    
    231,802
    
    
    100
    %
    
    218,800
    
    
    100
    %
    
    207,041
    
    
    100
    %
    
    180,521
    
    
    100
    %Less
      - Allowance for loan losses
    
    
    (3,649
    )
    
    
    
    
    (3,437
    )
    
    
    
    
    (3,369
    )
    
    
    
    
    (2,937
    )
    
    
    
    
    (2,560
    )Net
      loans
    
    $
    238,811
    
    
    
    
    $
    228,365
    
    
    
    
    $
    215,431
    
    
    
    
    $
    204,104
    
    
    
    
    $
    177,961
  The
Company’s real estate loans are primarily owner-occupied commercial facilities
and other loans secured by both commercial and residential real estate located
within the Company’s primary market area. The Company does not actively pursue
long-term, fixed rate mortgage loans for retention in its loan portfolio. Loans
may be made on either a secured or unsecured basis, and, when taken, collateral
generally consists of liens on inventories, receivables, equipment, and
furniture and fixtures. Unsecured commercial loans are generally short-term with
emphasis on repayment strengths and low debt-to-worth ratios.
 
 A
significant portion of the installment and other consumer loans are secured by
automobiles and other personal assets. Consumer finance loans are those
originated by the Company’s consumer finance subsidiary. These loans generally
carry a higher risk of nonpayment than do the other categories of loans, but the
increased risk is substantially offset by the smaller amounts of such loans and
the higher rates charged thereon, as well as a higher allocation of the
allowance for loan losses related to Freedom’s loan
portfolio.
 17
 
 **Loan
Maturity and Interest Sensitivity**
 The
following table shows the maturity distribution and interest sensitivity of the
Company’s loan portfolio at December 31, 2004.
   **Loan
Portfolio Maturity Schedule**
 **(dollars
in thousands)**
  **1
      Year**
      **or
      Less**
    ****
    ****
    **Over
      1, to**
      **5
      Years**
    ****
    ****
    **Over**
      **5
      Years**
    ****
    ****
    ****
      **Total**MATURITY
      DISTRIBUTION:Commercial
      secured by real estate
    
    $
    18,374
    
    $
    60,785
    
    $
    2,784
    
    $
    81,943Real
      estate - residential mortgages
    
    
    19,688
    
    
    26,817
    
    
    17,152
    
    
    63,657Real
      estate - construction
    
    
    37,770
    
    
    18,484
    
    
    -
    
    
    56,254Commercial
      and industrial
    
    
    18,226
    
    
    13,773
    
    
    -
    
    
    31,999Installment
      and other consumer loans
    
    
    2,981
    
    
    2,155
    
    
    46
    
    
    5,182Consumer
      finance, net of unearned income
    
    
    3,049
    
    
    -
    
    
    -
    
    
    3,049Other
      loans and overdrafts
    
    
    376
    
    
    -
    
    
    -
    
    
    376Total
    
    $
    100,464
    
    $
    122,014
    
    $
    19,982
    
    $
    242,460INTEREST
      SENSITIVITY:Total
      of loans with:Floating
      interest rates
    
    $
    90,109
    
    $
    88,886
    
    $
    17,400
    
    $
    196,395Predetermined
      interest rates
    
    
    10,355
    
    
    33,128
    
    
    2,582
    
    
    46,065Total
    
    $
    100,464
    
    $
    122,014
    
    $
    19,982
    
    $
    242,460
   ****
 **Allowance
for Loan Losses and Nonperforming Assets**
 The
allowance for loan losses is established through charges in the form of a
provision for loan losses based on management’s periodic evaluation of the loan
portfolio. Loan losses and recoveries are charged or credited directly to the
allowance. The amount of the allowance reflects management’s opinion of an
adequate level to absorb probable losses inherent in the loan portfolio at
December 31, 2004. In assessing the adequacy of the allowance and the amount
charged to the provision, management relies predominately on its ongoing review
of the loan portfolio, which is undertaken both to ascertain whether there are
losses which must be charged-off, and to assess the risk characteristics of the
portfolio in the aggregate as well as the credit risk associated with particular
loans. The Company’s methodology for evaluating the adequacy of the allowance
for loan losses incorporates management’s current judgments about the credit
quality of the loan portfolio through a disciplined and consistently applied
process. The methodology includes segmentation of the loan portfolio into
reasonable components based on loan purpose for calculation of the most accurate
reserve. Appropriate reserve estimates are determined for each segment based on
a review of individual loans, application of historical, peer, and industry loss
factors for each segment, and adjustment factors applied as considered
necessary. The adjustment factors are applied consistently and are quantified
for consideration of national and local economic conditions; exposure to
concentrations that may exist in the portfolio; impact of off-balance sheet
risk; alterations of lending policies and procedures; the total amount of and
changes in trends of past due loans, nonperforming loans, problem loans and
charge-offs; the total amount of and changes in trends of the Bank’s internally
graded “watch list” loans which include classified loans and OAEM; variations in
the nature, maturity, composition, and growth of the loan portfolio; changes in
trends of collateral value; entry into new markets; and other factors which may
impact the current credit quality of the loan portfolio.
 
 Management
maintains an allowance for loan losses which it believes adequate to cover
probable losses in the loan portfolio. It must be emphasized, however, that the
determination of the allowance for loan losses using the Company’s procedures
and methods rests upon various judgments and assumptions about future economic
conditions, events, and other factors affecting loans which are believed to be
reasonable, but which may or may not prove valid. While it is the Company’s
policy to provide for the loan losses in the current period in which a loss is
considered probable, there are additional risks of future losses which cannot be
quantified precisely or attributed to particular loans or classes of loans.
Because these risks include the state of the economy, industry trends, and
conditions affecting individual borrowers, management’s judgment of the
allowance is necessarily approximate and imprecise. No assurance can be given
that the Company will not in any particular period sustain loan losses which
would be sizable in relationship to the amount reserved or that subsequent
evaluation of the loan portfolio, in light of conditions and factors then
prevailing, will not require significant changes in the allowance for loan
losses or future charges to earnings. The allowance for loan losses is also
subject to review by various regulatory agencies through their periodic
examinations of the Company’s subsidiaries. Such examination could result in
required changes to the allowance for loan losses. No adjustment in the
allowance or significant adjustments to the Bank’s internally classified loans
were made as a result of the Bank’s most recent examination performed by the
Office of the Comptroller of the Currency.
 
 18
 The
allowance for loan losses totaled $3.6 million, or 1.51% of total loans, at the
end of 2004. This is compared to a $3.4 million allowance, or 1.48% of total
loans, at December 31, 2003. Changes in the allowance for loan losses as a
percent of loans each year is reflective of the factors discussed previously as
well as under the “Provision for Loan Losses” section below, including changes
in charge-off and recovery activity each year, and trends in nonperforming
assets, classified loans, and “watch list” loans.
 
 The table
below presents an allocation of the allowance for loan losses for each of the
years ended December 31 by the different loan categories. However, the breakdown
is based on a number of qualitative factors and the amounts presented are not
necessarily indicative of actual amounts which will be charged to any particular
category.
   **Allocation
of Allowance for Loan Losses**
 **(dollars
in thousands)**
  **2004**
    ****
    ****
    **2003******************
    ****
    **2002**************
    ****
    ****
    **2001**************
    ****
    ****
    **2000********Allowance**
      **Break-**
      **down**
    ****
    ****
    **Percent
      of**
      **Loans
      in**
      **Category**
    ****
    ****
    **Allowance**
      **Break-down**
    ****
    ****
    **Percent
      of**
      **Loans
      in**
      **Category**
    ****
    ****
    **Allowance**
      **Break-down**
    ****
    ****
    **Percent
      of**
      **Loans
      in**
      **Category**
    ****
    ****
    **Allowance**
      **Break-down**
    ****
    ****
    **Percent
      of**
      **Loans
      in**
      **Category**
    ****
    ****
    **Allowance**
      **Break-down**
    ****
    **Percent
      of**
      **Loans
      in**
      **Category**Commercial
    $
    1,841
    
    
    47.0
    %
    $
    1,811
    
    
    46.7
    %
    $
    1,802
    
    
    49.5
    %
    $
    1,365
    
    
    51.1
    %
    $
    1,011
    
    52.4%Real
      estate - residential mortgage
    
    709
    
    
    26.2
    %
    
    702
    
    
    28.0
    %
    
    722
    
    
    31.1
    %
    
    746
    
    
    31.0
    %
    
    741
    
    29.0%Real
      estate - construction
    
    520
    
    
    23.2
    %
    
    415
    
    
    21.3
    %
    
    317
    
    
    15.0
    %
    
    375
    
    
    12.9
    %
    
    330
    
    12.9%Installment
      and consumer
      finance
      and other loans
    
    416
    
    
    3.6
    %
    
    471
    
    
    4.0
    %
    
    482
    
    
    4.4
    %
    
    440
    
    
    5.0
    %
    
    337
    
    5.7%Unallocated
    
    163
    
    
    
    
    
    38
    
    
    
    
    
    46
    
    
    
    
    
    11
    
    
    
    
    
    141$
    3,649
    
    
    100
    %
    $
    3,437
    
    
    100
    %
    $
    3,369
    
    
    100
    %
    $
    2,937
    
    
    100
    %
    $
    2,560
    
    100%
 For the
year ended December 31, 2004, the Company reported consolidated net charge-offs
of $224,000, or 0.10% of average loans. This is compared to consolidated net
charge-offs of $718,000, or 0.32% of average loans, for the year ended December
31, 2003.
 
 The
following table sets forth certain information with respect to changes in the
Company’s allowance for loan losses for the last five years.
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**
    
    
    **2001**
    
    
    **2000**Balance
      at beginning of period
    
    $
    3,437
    
    $
    3,369
    
    $
    2,937
    
    $
    2,560
    
    $
    2,163*Charge-offs:*Commercial
      and industrial
    
    
    37
    
    
    167
    
    
    179
    
    
    -
    
    
    -Commercial
      real estate
    
    
    95
    
    
    388
    
    
    13
    
    
    130
    
    
    125Installment
      and consumer
    
    
    444
    
    
    519
    
    
    455
    
    
    358
    
    
    309576
    
    
    1,074
    
    
    647
    
    
    488
    
    
    434*Recoveries:*Commercial
      and industrial
    
    
    89
    
    
    2
    
    
    16
    
    
    -
    
    
    50Commercial
      real estate
    
    
    130
    
    
    205
    
    
    78
    
    
    31
    
    
    -Installment
      and consumer
    
    
    133
    
    
    149
    
    
    138
    
    
    109
    
    
    127352
    
    
    356
    
    
    232
    
    
    140
    
    
    177Net
      charge-offs
    
    
    (224
    )
    
    (718
    )
    
    (415
    )
    
    (348
    )
    
    (257
    )Provision
      charged to expense
    
    
    436
    
    
    786
    
    
    847
    
    
    725
    
    
    654Balance
      at end of period
    
    $
    3,649
    
    $
    3,437
    
    $
    3,369
    
    $
    2,937
    
    $
    2,560Net
      charge-offs to average loans
    
    
    0.10
    %
    
    0.32
    %
    
    0.20
    %
    
    0.18
    %
    
    0.16
    %Allowance
      to loans, year end
    
    
    1.51
    %
    
    1.48
    %
    
    1.54
    %
    
    1.42
    %
    
    1.42
    %Net
      charge-offs to allowance
    
    
    6.14
    %
    
    20.89
    %
    
    12.32
    %
    
    11.85
    %
    
    10.04
    %
  19
 The
Company’s nonperforming assets consist of loans on nonaccrual basis, loans which
are contractually past due 90 days or more on which interest is still being
accrued, troubled debt restructurings, and other real estate owned (“OREO”).
Loans past due 90 days and greater totaled $156,000, or 0.06% of gross loans, at
December 31, 2004 compared to $170,000, or 0.07% of gross loans, at December 31,
2003. Loans on nonaccrual totaled $531,000 and $587,000, respectively, at
December 31, 2004 and 2003. Generally, loans of the Bank are placed on
nonaccrual status at the earlier of when they are 90 days past due or when the
collection of the loan becomes doubtful. Loans of the Finance Company are not
classified as nonaccrual, but are charged-off when such become 150 days
contractually past due or earlier if the loan is deemed uncollectible. At
December 31, 2004 and 2003, there were no loans considered to be impaired under
Statement of Financial Accounting Standards (“SFAS”) 114, *“Accounting
by Creditors for Impairment of a Loan”* .
 
 The
following table summarizes the nonperforming assets at December 31 for each year
presented.
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**
    
    
    **2001**
    
    
    **2000**Nonaccrual
      loans
    
    $
    531
    
    $
    587
    
    $
    293
    
    $
    1,180
    
    $
    218Accruing
      loans past due in excess of 90 days
    
    
    156
    
    
    170
    
    
    187
    
    
    153
    
    
    122Troubled
      debt restructurings
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Other
      real estate owned
    
    
    217
    
    
    125
    
    
    -
    
    
    -
    
    
    -Total
      nonperforming assets
    
    $
    904
    
    $
    882
    
    $
    480
    
    $
    1,333
    
    $
    340Nonperforming
      assets to total loans and OREO
    
    
    0.37
    %
    
    0.38
    %
    
    0.22
    %
    
    0.64
    %
    
    0.19
    %
 
 Management
maintains a list of potential problem loans which includes non-accrual loans,
loans past due in excess of 90 days which are still accruing interest, and other
loans which are credit graded (either internally, by external audits or
regulatory examinations) as “substandard”, “doubtful”, or “loss”. A loan is
added to the list when management becomes aware of information about possible
credit problems of borrowers that causes doubts as to the ability of such
borrowers to comply with the current loan repayment terms. The total amount of
loans outstanding at December 31, 2004 determined to be potential problem loans
based upon management’s internal designations, was $4.1 million or 1.7% of the
loan portfolio at year end, compared to $3.5 million or 1.5% of the loan
portfolio at December 31, 2003. The amount of potential problem loans at
December 31, 2004 does not represent management’s estimate of potential losses
since the majority of such loans are considered adequately secured by real
estate or other collateral. Management believes that the allowance for loan
losses as of December 31, 2004 was adequate to absorb any losses related to the
nonperforming loans and potential problem loans as of that date. Management
continues to monitor closely the levels of nonperforming and potential problem
loans, and will address the weaknesses in these credits to enhance the amount of
ultimate collection or recovery on these assets. Should increases in the overall
level of nonperforming and potential problem loans accelerate from the current
trend, management will adjust the methodology for determining the allowance for
loan losses and will increase the provision for loan losses accordingly. An
increase in the provision for loan losses would likely decrease net
income.
 
 **Investment
Securities**
 At
December 31, 2004, the Company’s total investment portfolio had an estimated
fair value of $59.8 million, which is a decrease of 34% from the $90.9 million
invested as of the end of 2003. At the 2004 year end, the portfolio had a
weighted average life of approximately 5.8 years and an average duration of 4.7
years. Investment securities averaged $68.5 million yielding 5.04% in 2004,
compared to the 2003 average of $74.7 million yielding 4.95%. Securities are the
second largest earning asset of the Company at 22% and 24% of average earning
assets for 2004 and 2003, respectively.
 
 The
Company’s investment portfolio consists primarily of securities of United States
government agencies, mortgage-backed securities, and state and municipal
obligations. The investment portfolio is designed to enhance liquidity while
providing acceptable rates of return and minimizing asset quality risk.
Decisions involving securities are based upon management’s expectations of
interest rate movements, overall market conditions, the composition and
structure of the balance sheet, and an analysis of the financial impacts of
alternative rate and maturity scenarios. The Company does not purchase or hold
securities for trading purposes. However, securities may be sold prior to their
maturity as all securities in the Bank’s portfolio are classified as “available
for sale” and recorded on the Company’s balance sheet at estimated fair value.
I nvestment
securities are an important tool to the Company’s liquidity management.
Securities classified as available for sale may be sold in response to changes
in interest rates, liquidity needs, and/or significant prepayment
risk. There
are no investments classified as “held to maturity” or “trading” pursuant to
SFAS 115, *“Accounting
for Certain Investments in Debt and Equity Securities”* .
  20
  The
following table sets forth the amortized cost and the estimated fair market
value of the investment securities of the Company at December 31 for each year
presented.
   **Security
Portfolio Composition**
 **(dollars
in thousands)**
 
 **2004**
    
    **2003**
    
    **2002**Available
      for Sale:
    
    
    **Amortized**
      **Cost**
    ****
    ****
    **Estimated**
      **Fair**
      **Value**
    ****
    ****
    ****
      **Amortized**
      **Cost**
    ****
    ****
    **Estimated**
      **Fair**
      **Value**
    ****
    ****
    ****
      **Amortized**
      **Cost**
    ****
    ****
    **Estimated**
      **Fair**
      **Value**U.S.
      government agencies
    
    $
    9,771
    
    $
    9,636
    
    $
    23,520
    
    $
    23,172
    
    $
    18,609
    
    $
    18,822Mortgage-backed
    
    
    30,199
    
    
    30,067
    
    
    44,054
    
    
    43,949
    
    
    27,321
    
    
    27,743State
      and municipal
    
    
    19,710
    
    
    20,135
    
    
    23,268
    
    
    23,766
    
    
    16,567
    
    
    16,899$
    59,680
    
    $
    59,838
    
    $
    90,842
    
    $
    90,887
    
    $
    62,497
    
    $
    63,464
 
 The
Company also maintains certain investments in stock as permitted by law or as
required to be owned by the Bank. Equity investments at December 31 as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Federal
      Home Loan Bank of Atlanta stock
    
    $
    2,938
    
    $
    2,616
    
    $
    2,030Federal
      Reserve Bank stock
    
    
    255
    
    
    255
    
    
    255Bankers
      Bank of Atlanta stock
    
    
    133
    
    
    133
    
    
    133$
    3,326
    
    $
    3,004
    
    $
    2,418
 
 The
amount of Federal Reserve Bank stock owned is based on the Bank’s capital
levels. The amount of Federal Home Loan Bank (“FHLB”) stock owned is determined
based on the Bank’s balances of residential real estate mortgages, and the level
of advances from the FHLB. No ready market exists for these stocks and they have
no quoted market value. However, redemption of these stocks has historically
been at par value. Accordingly, the carrying amounts are deemed to be a
reasonable estimate of fair value.
 
 The
following table indicates the estimated fair value of each investment security
category by maturity as of December 31, 2004. The weighted average yield for
each range of maturities at December 31, 2004 is also shown. All securities are
classified as “Available for Sale” as defined in SFAS No. 115.
 
 **Security
Portfolio Maturity Schedule**
 **(dollars
in thousands)**
 
 ***Within
      1 Year***
    
    ***After
      1, and Within***
      ***5
      Year*****s**
    
    ***After
      5, and Within***
      ***10
      Year*****s**
    
    ***After
      10 Year*****s**
    
    ***Total*****Estimated**
      **Fair**
      **Value**
    ****
    ****
    **Weighted**
      **Average**
      **Yield**
    ****
    ****
    **Estimated**
      **Fair**
      **Value**
    ****
    ****
    **Weighted**
      **Average**
      **Yield**
    ****
    ****
    **Estimated**
      **Fair**
      **Value**
    ****
    ****
    **Weighted**
      **Average**
      **Yield**
    ****
    ****
    **Estimated**
      **Fair**
      **Value**
    ****
    ****
    **Weighted**
      **Average**
      **Yield**
    ****
    ****
    **Estimated**
      **Fair**
      **Value**
    ****
    ****
    **Weighted**
      **Average**
      **Yield**U.
      S. Government agencies
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    $
    7,893
    
    
    4.43
    %
    $
    1,743
    
    
    5.03
    %
    $
    9,636
    
    
    4.54
    %Mortgage-backed
    
    
    -
    
    
    -
    
    $
    1,349
    
    
    3.76
    %
    
    6,562
    
    
    3.64
    %
    
    22,156
    
    
    4.59
    %
    
    30,067
    
    
    4.34
    %State
      and municipal (1)
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    882
    
    
    7.38
    %
    
    19,253
    
    
    6.27
    %
    
    20,135
    
    
    6.32
    %Total
    
    
    -
    
    
    -
    
    $
    1,349
    
    
    3.76
    %
    $
    15,337
    
    
    4.25
    %
    $
    43,152
    
    
    5.35
    %
    $
    59,838
    
    
    5.03
    %
 
 (1) -
Yields have been adjusted to a tax equivalent basis assuming a 34% Federal tax
rate.
 
 The
weighted average yields shown in the previous table are calculated using
historical cost balances and effective yields for the scheduled maturity of each
security. The yield calculations do not give effect to changes in fair value
that are reflected as a component of shareholders’ equity. Certain securities
contain call provisions which could decrease their anticipated maturity. Yields
on certain securities are based on prepayment assumptions and changes in actual
prepayment speeds could either increase or decrease their
yields.
  21
 **Deposits
and Other Interest-Bearing Liabilities**
 The
Company has a large, stable base of deposits, principally money market accounts
and certificates of deposit obtained primarily from customers in South Carolina.
The Company’s core deposit base consists of consumer and commercial money market
accounts, checking accounts, savings and retirement accounts, NOW accounts, and
non-jumbo time deposits (less than $100,000). Although such core deposits
continue to be interest-sensitive for both the Company and the industry as a
whole, these deposits provide the Company with a reliable source of funds. The
Company closely monitors its reliance on certificates of deposit greater than
$100,000, which are generally considered less stable and more interest rate
sensitive than core deposits. Certificates of deposit in excess of $100,000
represented 17% and 25%, respectively, of total deposits at December 31, 2004
and 2003. At December 31, 2004 and 2003, the Company had no brokered deposits or
foreign deposits.
 
 During
2004, interest-bearing liabilities averaged $253.8 million with an average rate
of 1.81% compared to $257.7 million with an average rate of 2.00% in 2003. The
decrease in the average rate is related to the maturities of fixed rate deposits
and other borrowings which were renewed at lower current market rates and the
shift in the deposit portfolio to lower costing core deposits. In pricing
deposits, the Company considers its liquidity needs, the anticipated direction
and levels of interest rates and local market conditions. At December 31, 2004,
interest-bearing deposits comprised approximately 84% of total deposits and 80%
of total interest-bearing liabilities. Federal Home Loan Bank advances comprise
the remainder of interest-bearing liabilities.
 
 The
Company uses its deposit base as a primary source with which to fund earning
assets. Deposits decreased 10% from $257.0 million at December 31, 2003 to
$231.7 million as of year end 2004. The decrease occurred in time deposit
accounts, offset somewhat by increases in interest-bearing demand and money
market accounts. Noninterest-bearing deposits averaged 15% and 13% of total
average deposits respectively for 2004 and 2003. The Company faces continuing
stiff competition from other banking and financial services companies in
gathering deposits. As the percentage of funding provided by depositors
decreases, other sources such as FHLB advances and reductions in investment
securities funded the loan demand. The Company considers advances from the FHLB
to be a reliable and readily available source of funds and utilizes these
advances in its asset-liability management and interest rate risk management
strategies. Advances from the FHLB decreased 4% during the year to total $50.1
million at December 31, 2004 compared to $52.3 million at the prior year
end.
 
 The following
is a detailed breakout of the Company’s deposit base as of December 31 of each
year presented and the percent of deposits in each category as of year end
(dollars in thousands).
 
 **2004**
    ****
    **2003**
    ****
    **2002**
    ****
    **2001**
    ****
    **2000****Balance**
    ****
    ****
    **Percent
      of**
      **Deposits
      in**
      **Category**
    ****
    ****
    ****
      ****
      **Balance**
    ****
    ****
    **Percent
      of**
      **Deposits
      in**
      **Category**
    ****
    ****
    ****
      ****
      **Balance**
    ****
    ****
    **Percent
      of**
      **Deposits
      in**
      **Category**
    ****
    ****
    ****
      ****
      **Balance**
    ****
    ****
    **Percent
      of**
      **Deposits
      in**
      **Category**
    ****
    ****
    ****
      ****
      **Balance**
    ****
    ****
    **Percent
      of**
      **Deposits
      in**
      **Category**Noninterest-bearing
      demand
    
    $
    36,897
    
    
    15.9
    %
    $
    37,037
    
    
    14.4
    %
    $
    33,342
    
    
    14.4
    %
    $
    29,372
    
    
    13.5
    %
    $
    35,468
    
    
    17.0
    %Interest-bearing
      demand
    
    
    32,478
    
    
    14.0
    %
    
    23,542
    
    
    9.2
    %
    
    24,943
    
    
    10.8
    %
    
    21,807
    
    
    9.9
    %
    
    14,641
    
    
    7.0
    %Savings
      and money market
    
    
    81,896
    
    
    35.4
    %
    
    73,245
    
    
    28.5
    %
    
    73,933
    
    
    32.1
    %
    
    85,388
    
    
    39.0
    %
    
    63,821
    
    
    30.5
    %Time
      deposits, $100,000and
      over
    
    
    38,925
    
    
    16.8
    %
    
    65,200
    
    
    25.4
    %
    
    48,791
    
    
    21.2
    %
    
    41,798
    
    
    19.1
    %
    
    46,523
    
    
    22.2
    %Other
      time deposits
    
    
    41,522
    
    
    17.9
    %
    
    57,988
    
    
    22.5
    %
    
    49,506
    
    
    21.5
    %
    
    40,413
    
    
    18.5
    %
    
    48,738
    
    
    23.3
    %$
    231,718
    
    
    100.0
    %
    $
    257,012
    
    
    100.0
    %
    $
    230,515
    
    
    100.0
    %
    $
    218,778
    
    
    100.0
    %
    $
    209,191
    
    
    100.0
    %
 
 
 The
maturity distribution of certificates of deposit greater than or equal to
$100,000 as of December 31, 2004 is as follows (dollars in
thousands):
 
 3
      months or less
    
    $
    9,796Greater
      than 3, but less than or equal to 6 months
    
    
    5,898Greater
      than 6, but less than or equal to 12 months
    
    
    15,612Greater
      than 12 months
    
    
    7,619$
    38,925
  22
 Advances
from the FHLB, including scheduled maturities subsequent to year end, at
December 31 consist of the following (*dollars in
thousands)*:
 
 **
    
    **2004**
    **2003****Maturing
      in year endedDecember
      31,**
    
    
    **Amount**
    ****
    ****
    ****
      **Weighted**
      **Rate**
    ****
    ****
    **Amount**
    ****
    ****
    ****
      **Weighted**
      **Rate**2004
    
    $
    -
    
    
    -
    
    $
    11,000
    
    
    2.86
    %2005
    
    
    5,250
    
    
    2.39
    %
    
    2,000
    
    
    1.24
    %2006
    
    
    8,100
    
    
    3.61
    %
    
    8,700
    
    
    3.42
    %2007
    
    
    5,000
    
    
    3.46
    %
    
    5,400
    
    
    3.66
    %2008
    
    
    14,250
    
    
    3.05
    %
    
    15,250
    
    
    3.04
    %2009
    
    
    5,700
    
    
    2.87
    %
    
    -
    
    
    -Thereafter
    
    
    11,834
    
    
    3.37
    %
    
    9,967
    
    
    3.40
    %$
    50,134
    
    
    3.17
    %
    $
    52,317
    
    
    3.13
    %
  **OFF-BALANCE
SHEET COMMITMENTS**
 
 The
Company is party to financial instruments with off-balance sheet risk in the
normal course of business to meet the liquidity, credit enhancement, and
financing needs of its customers. These financial instruments include legally
binding commitments to extend credit and standby letters of credit and involve,
to varying degrees, elements of credit and interest rate risk in excess of the
amount recognized in the balance sheet. Credit risk is the principal risk
associated with these instruments. The contractual amounts of these instruments
represent the amount of credit risk should the instruments be fully drawn upon
and the customer defaults.
 
 To
control the credit risk associated with entering into commitments and issuing
letters of credit, the Company uses the same credit quality, collateral
policies, and monitoring controls in making commitments and letters of credit as
it does with its lending activities. The Company evaluates each customer’s
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Company upon extension of credit, is based on
management’s credit evaluation.
 
 Legally
binding commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments may expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. Standby letters of credit obligate the
Company to meet certain financial obligations of its customers, if, under the
contractual terms of the agreement, the customers are unable to do so. The
financial standby letters of credit issued by the Company are irrevocable.
Payment is only guaranteed under these letters of credit upon the borrower’s
failure to perform its obligations to the beneficiary. At December 31, 2004 and
2003, the Company has recorded no liability for the current carrying amount of
the obligation to perform as a guarantor, as such amounts are not considered
material.
 
 Approximately
$812,000 and $1,326,000 of total commitments at December 31, 2004 and 2003,
respectively, represent commitments to extend credit at fixed rates of interest,
which exposes the Company to some degree of interest rate risk. At December 31,
the Company’s total contractual amounts of commitments and letters of credit are
as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**Legally
      binding commitments to extend credit:Residential
      real estate, including prime equity lines
    
    $
    20,031
    
    $
    17,890Construction
      and development
    
    
    24,361
    
    
    12,968Commercial
      and industrial
    
    
    16,557
    
    
    14,621Consumer
      and overdraft protection
    
    
    2,336
    
    
    2,37363,285
    
    
    47,852Standby
      letters of credit
    
    
    3,529
    
    
    3,925Total
      commitments
    
    $
    66,814
    
    $
    51,777
  23
  **LIQUIDITY
RISK MANAGEMENT**
 
 Liquidity
risk is defined as the risk of loss arising from the Company’s inability to meet
known near-term and projected long-term funding commitments and cash flow
requirements. The objective of liquidity risk management is to ensure the
ability of the Company to meet its financial obligations. These obligations are
the payment of deposits on demand or at their contractual maturity; the
repayment of borrowings as they mature; the payment of lease obligations as they
become due; the ability to fund new and existing loan and other commitments; the
payment of operating expenses; and the ability to take advantage of new business
opportunities. Liquidity is measured and monitored frequently at both the parent
company and the Bank levels, allowing management to better understand and react
to balance sheet trends. A comprehensive liquidity analysis provides a summary
of anticipated changes in loans, core deposits, and wholesale funds. Management
also maintains a detailed liquidity contingency plan designed to respond to an
overall decline in the condition of the banking industry or a problem specific
to the Company.
 
 Liquidity
is achieved by the maintenance of assets which can easily be converted to cash;
a strong base of core customer deposits; maturing short-term assets; the ability
to sell marketable securities; and access to borrowed funds and capital markets.
Historically, deposits
have been the primary source of funds for lending and investing activities. The
amortization and scheduled payment of loans and mortgage-backed securities and
maturities of investment securities provide a stable source of funds, while
deposit fluctuations and loan prepayments are significantly influenced by the
interest rate environment and other market conditions and competitive factors.
Management meets frequently and makes changes relative to the mix, maturity and
pricing of assets and liabilities in order to minimize the impact on earnings
from such external conditions. Deposits are attractive sources of liquidity
because of their stability and generally lower cost than other funding.
 
 In
addition to deposits and normal cash flows, FHLB advances and short-term
borrowings (including purchasing federal funds from other financial institutions
or lines of credit through the Federal Reserve Bank) provide liquidity sources
based on specific needs or if management determines that these are the best
sources of funds to meet current requirements. At December 31, 2004, based on
its approved line of credit equal to 25% of total assets and limited to eligible
collateral available, the Bank had additional available credit of approximately
$1 million from the FHLB. The Bank considers advances from the FHLB to be a
reliable and readily available source of funds for both liquidity purposes and
asset-liability management and interest rate risk management strategies. The
Bank also had short-term lines of credit to purchase unsecured federal funds
from unrelated correspondent banks with available balances of $23.1 million at
December 31, 2004.
 
 Liquid
assets, consisting primarily of cash and due from banks, interest-bearing
deposits at banks, federal funds sold, and unpledged investment securities
available for sale, accounted for 13% and 16%, respectively, of average assets
for each of the years ended December 31, 2004 and 2003. Investment securities
are an important tool to the Company’s liquidity management. Securities
classified as available for sale may be sold in response to changes in interest
rates, liquidity needs, and/or significant prepayment risk. In management’s
opinion, the Company maintains adequate levels of liquidity by retaining
sufficient liquid assets and assets which can be easily converted into cash and
by maintaining access to various sources of funds. The following table
summarizes future contractual obligations as of December 31, 2004.
 
 *(dollars
      in thousands)*
    
    
    **1
      Year**
      **or
      Less**
    
    
    **>1
      to 3**
      **Years**
    
    
    **>3
      to 5**
      **Years**
    
    
    **Over
      5**
      **Years**
    
    
    **Total**Time
      deposits
    
    $
    59,709
    
    $
    19,833
    
    $
    905
    
    $
    -
    
    $
    80,447FHLB
      advances
    
    
    5,250
    
    
    13,100
    
    
    19,950
    
    
    11,834
    
    
    50,134Operating
      leases
    
    
    192
    
    
    227
    
    
    156
    
    
    214
    
    
    789Total
      contractual cash obligations
    
    $
    65,151
    
    $
    33,160
    
    $
    21,011
    
    $
    12,048
    
    $
    131,370
 
 Summit
Financial, the parent holding company, has limited liquidity needs required to
pay operating expenses and to provide funding to its consumer finance
subsidiary, Freedom Finance. Summit Financial has approximately $5.4 million in
available liquidity remaining from its initial public offering and the retention
of earnings. A total of $2.2 million of this liquidity was advanced to the
Finance Company in the form of an intercompany loan to fund its operations as of
December 31, 2004. Additional sources of liquidity for Summit Financial include
borrowing funds from unrelated correspondent banks, borrowing from individuals,
and payments for management fees and debt service which are made by the
Company’s subsidiary on a monthly basis. Liquidity needs of Freedom Finance,
primarily for the funding of loan originations, paying operating expenses, and
servicing debt, have been met to date through the initial capital investment of
$500,000 made by Summit Financial, retention of earnings, borrowings from
unrelated private investors, and line of credit facilities provided by Summit
Financial and Summit National Bank. The Company’s management believes its
liquidity sources are adequate to meet its operating needs.
 
 24
 ****
 **CAPITAL
MANAGEMENT**
 
 The
Company’s capital serves to support asset growth and provide protection against
loss to depositors and creditors. The Company strives to maintain an optimal
level of capital, commensurate with its risk profile, on which an attractive
return to shareholders will be realized over both the short and long-term, while
serving depositors’, creditors’ and regulatory needs. Total shareholders’ equity
amounted to $37.3 million, or 11.6% of total assets, at December 31, 2004. This
is compared to $32.2 million, or 9.4% of total assets, at December 31, 2003. The
$5.1 million increase in total shareholders’ equity resulted principally from
retention of earnings of $4.4 million, stock issued pursuant to the Company’s
stock option plans totaling $1.2 million, and the increase in unrealized gain on
securities available for sale. The Company’s unrealized gain on securities, net of tax, which is included in accumulated
other comprehensive income, was $98,000 as of December 31, 2004 as compared to
$28,000 as of December 31, 2003. Increases in equity were somewhat offset by the payment of cash dividends
totaling $673,000 for the year. Book value per share at December 31, 2004 and
2003 was $8.25 and $7.47, respectively.
 
 The
Company and its bank subsidiary are subject to certain regulatory restrictions
on the amount of dividends they are permitted to pay. The Company paid cash
dividends totaling $0.15 and $0.10 per common share for 2004 and 2003,
respectively. The Company presently intends to pay an annual cash dividend on
the common stock; however, future dividends will depend upon the Company’s
earnings, financial condition, capital position, and such other factors as the
Board may deem relevant. Further, the ability of the Company to pay cash
dividends is dependent upon its receiving cash in the form of dividends from the
Bank. The dividends that may be paid by the Bank to the Company are subject to
legal limitations and regulatory capital requirements. The approval of the
Comptroller of the Currency is required if the total of all dividends declared
by a national bank in any calendar year exceeds that bank’s net profits (as
defined by the Comptroller) for that year combined with its retained net profits
(as defined by the Comptroller) for the two preceding calendar years. It is
currently the Bank’s intention to pay all dividends only from the net income of
the current year.
 
 To date,
the capital needs of the Company have been met through the retention of
earnings, from the proceeds of its initial offering of common stock, and from
the proceeds of stock issued pursuant to the Company’s stock option plans. The
Company has no commitments or immediate plans for any significant capital
expenditures outside of the normal course of business. The Company’s management
does not know of any trends, events or uncertainties that may result in the
Company’s capital resources materially increasing or decreasing.
 
 The
Company and the Bank are subject to various regulatory capital requirements
administered by the federal banking agencies. The purpose of these regulations
is to quantitatively measure capital against risk-weighted assets, including
certain off-balance sheet items. These regulations define the elements of total
capital and establish minimum ratios for capital adequacy purposes. To be
categorized as “well capitalized”, as defined in the Federal Deposit Insurance
Corporation Improvement Act of 1991 (“FDICIA”), Summit Financial and its banking
subsidiary must maintain a risk-based Total Capital ratio of at least 10%, a
risk-based Tier 1 Capital ratio of at least 6%, and a Tier 1 Leverage ratio of
at least 5%, and not be subject to a written agreement, order, or capital
directive with any of its regulators. At December 31, 2004, the Company and the
Bank exceeded all regulatory required minimum capital ratios, and satisfied the
requirements of the well capitalized category established by FDICIA. The
following table summarizes capital ratios for the Company and the Bank at
December 31, 2004 and 2003.
 
 ***The
      Company***
    ***The
      Bank*****12/31/04**
    
    
    **12/31/03**
    
    
    **12/31/04**
    
    
    **12/31/03**Total
      risk-based capital
    
    
    15.27
    %
    
    13.75
    %
    
    13.05
    %
    
    12.05
    %Tier
      1 risk-based capital
    
    
    14.02
    %
    
    12.50
    %
    
    11.80
    %
    
    10.80
    %Tier
      1 leverage capital
    
    
    11.39
    %
    
    9.92
    %
    
    9.57
    %
    
    8.57
    %
  25
  **RESULTS
OF OPERATIONS**
 
 **Net
Interest Income**
 Net
interest income is the difference between the interest earned on assets and the
interest paid for the liabilities used to support those assets. It is the
largest component of the Company’s earnings and changes in net interest income
have the greatest impact on net income. Variations in the volume and mix of
assets and liabilities and their relative sensitivity to interest rate movements
determine changes in net interest income.
 
 During
2004, the Company recorded net interest income of $13.0 million, a 5% increase
from the 2003 net interest income of $12.3 million. This is compared to net
interest income of $11.6 million for 2002. Fluctuations in net interest income
between years is related to changes in the volume of average earning assets and
interest-bearing liabilities, combined with changes in average yields and rates
of the corresponding assets and liabilities as demonstrated in the tables
following under “Average Balance Sheets and Yield/Rates”.
 
 Net
interest margin is calculated as net interest income divided by average earning
assets. For the year ended December 31, 2004, the Company’s net interest margin
was 4.33% (fully tax-equivalent), compared to 4.14% in 2003 and 4.38% for 2002.
The margin for 2004 increased 19 basis points from the prior year due primarily
to the lower cost of funds related to the continued repricing of deposits and
maturity of higher priced FHLB advances to lower current market rates during
2004. Also contributing to the increase in net interest margin is the 22 basis
point increase in average prime rate in 2004. The margin for 2003 decreased 24
basis points from the prior year due to the lower yield on earning assets
resulting from the 56 basis point reduction in average prime rate during the
year. Lower asset yields were partially offset by a continued reduction in the
Company’s cost of funds related to repricing deposits and FHLB advances to lower
current market rates during 2002 and 2003.
 
 *Interest
Income*
 Interest
income for 2004 was $17.5 million, which was an increase of $97,000, or 1%, from
the $17.4 million for 2003. Interest income for 2002 was $17.8 million. The
increase in interest income in 2004 is related to the 1% increase in average
earning assets during the year as the average yield on assets was down only
slightly. The decrease between 2002 and 2003 is a result of the 12% increase in
average earning assets being more than offset by the 81 basis point reduction in
the average yield on assets. The tax-equivalent yield on interest-earning assets
decreased from 6.63% in 2002 to 5.82% in 2003, and decreased slightly to 5.81%
in 2004 due to declines in the general interest rate environment during the
period through mid-year 2004.
 
 Interest
earned on the loan portfolio was $14.4 million in 2004, $14.0 million in 2003,
and $14.9 million in 2002. Loans averaged $232.3 million in 2004 with an average
yield of 6.19%, compared to $223.4 million in 2003 with an average yield of
6.27%, and $211.7 million in 2002 with an average yield of 7.04%. During 2004,
the Company’s loan portfolio averaged 79% adjustable rates which immediately
reprice with changes in the prime lending rate. This is compared to an average
of 74% for 2003. Thus, the decline in average yield each year is primarily
related to fluctuations in the average prime rate which dropped from 4.68% in
2002 to 4.12% in 2003. Short-term rates began to rise in July 2004 and the prime
rate increased 125 basis points to average 4.34% for the year. Loan yields
decreased 8 basis points in 2004 due to the increases in prime rate being more
than offset by a shift in the portfolio’s mix to a higher percent of variable
rate loans and the decline in the average rate on the fixed rate portion of the
portfolio as new loans were added or renewed at lower current market rates. The
reduction in average rate each year, offset somewhat by the higher level of
average loans each year, resulted in lower interest income on loans for 2003 and
2004. The 4% increase in average loans more than offset the rate reduction for
2004 resulting in the 3% increase in interest income on loans for the
year.
 
 The
second largest component of interest income is earnings from the Company’s
investment portfolio which averaged $68.5 million yielding 5.04% (fully
tax-equivalent) in 2004. This is compared to average securities of $74.7 million
in 2003 yielding 4.95%, and $52.2 million yielding 5.81% for 2002. The
fluctuations in the average yield of the investment portfolio each year is
related to the timing, maturity distribution and types of securities purchased,
called, matured, and sold, combined with fluctuations in the general interest
rate environment. The decrease of 8% in average securities during 2004 more than
offset the 9 basis point increase in yield and resulted in the decrease in
interest income on investments of $298,000, or 9% between 2003 and 2004. The
increase in average securities, offset somewhat by lower yields, resulted in an
increase in interest income on investments of $616,000, or 23%, between 2002 and
2003.
 
 26
 **
 *Interest
Expense*
 The
Company’s interest expense for 2004 was $4.6 million, compared to $5.2 million
for 2003 and $6.2 million for 2002. Interest-bearing liabilities averaged $253.8
million in 2004 with an average rate of 1.81%, $257.7 million in 2003 with an
average rate of 2.00%, and an average of $230.3 million with an average rate of
2.68% during 2002. The 11% decrease in interest expense in 2004 was related to
the 19 basis point decrease in cost of funds, combined with the 2% decline in
average interest-bearing liabilities. The 16% decrease in interest expense
between 2002 and 2003 was related to the 68 basis point decrease in the cost of
funds, partially offset by the 12% increase in average interest-bearing
liabilities. The reduction in average cost of funds for the each year between
2002 and 2004 was a direct result of declining interest rates throughout the
period combined with the maturity of CDs and FHLB advances renewed at lower
current market rates.
 
 **Average
Balance Sheets and Yield/Rates**
 The
following table presents certain information related to the Company’s average
balance sheet, its average yields on assets, and its average costs of
liabilities for the last three years. Also presented is the average yields on
assets and costs of liabilities at December 31, 2004. Such yields and rates are
derived by dividing income or expense by the average balance of the
corresponding assets or liabilities. Average balances have been calculated based
on daily averages (dollars in thousands).
   **2004**
    
    
    **2003**
    
    
    **2002******
    
    
    **Average**
      **Yield/Rate**
      **at
    12/31/04**
    
    
    ****Average**Balance**
    
    
    ****Income/**Expense**
    
    
    ****Yield/**Rate**
    
    
    ****Average**Balance**
    
    
    ****Income/**Expense**
    
    
    ****Yield/**Rate**
    
    
    ****Average**Balance**
    
    
    ****Income/**Expense**
    
    
    ****Yield/**Rate****ASSETS**Earning
      assets:Loans,
      net of unearned
      income
      (1)
    
    
    6.76
    %
    $
    232,301
    
    $
    14,377
    
    
    6.19
    %
    $
    223,365
    
    $
    13,996
    
    
    6.27
    %
    $
    211,704
    
    $
    14,914
    
    
    7.04
    %Investment
      securities
      (taxable)
      (2)
    
    
    4.35
    %
    
    47,517
    
    
    2,055
    
    
    4.32
    %
    
    57,010
    
    
    2,459
    
    
    4.31
    %
    
    37,425
    
    
    1,934
    
    
    5.17
    %Investment
      securities
      (non-taxable)
      (2) (3)
    
    
    6.57
    %
    
    20,950
    
    
    922
    
    
    6.67
    %
    
    17,651
    
    
    816
    
    
    7.00
    %
    
    14,732
    
    
    725
    
    
    7.46
    %Federal
      funds sold
    
    
    2.02
    %
    
    4,240
    
    
    50
    
    
    1.19
    %
    
    3,883
    
    
    40
    
    
    1.03
    %
    
    4,913
    
    
    80
    
    
    1.63
    %Investment
      in stock (4)
    
    
    3.80
    %
    
    2,949
    
    
    111
    
    
    3.75
    %
    
    2,684
    
    
    106
    
    
    3.95
    %
    
    2,087
    
    
    108
    
    
    5.17
    %Interest-bearing
      bank balances
    
    
    2.07
    %
    
    2,096
    
    
    27
    
    
    1.30
    %
    
    2,641
    
    
    28
    
    
    1.06
    %
    
    3,522
    
    
    60
    
    
    1.70
    %Total
      earning assets
    
    
    6.31
    %
    
    310,053
    
    $
    17,542
    
    
    5.81
    %
    
    307,234
    
    $
    17,445
    
    
    5.82
    %
    
    274,383
    
    $
    17,821
    
    
    6.63
    %Non-earning
      assets
    
    
    
    
    
    16,466
    
    
    
    
    
    
    
    
    15,532
    
    
    
    
    
    
    
    
    14,504Total
      average assets
    
    
    
    
    $
    326,519
    
    
    
    
    
    
    
    $
    322,766
    
    
    
    
    
    
    
    $
    288,887**LIABILITIES
      & SHAREHOLDERS’ EQUITY**Interest-bearing
      deposits:Interest-bearing
      demand
    
    
    0.64
    %
    $
    26,280
    
    $
    116
    
    
    0.44
    %
    $
    23,470
    
    $
    78
    
    
    0.33
    %
    $
    21,074
    
    $
    155
    
    
    0.73
    %Savings
      and money market
    
    
    1.44
    %
    
    76,764
    
    
    849
    
    
    1.11
    %
    
    72,611
    
    
    758
    
    
    1.04
    %
    
    75,207
    
    
    1,163
    
    
    1.55
    %Time
      deposits, $100,000
      and
      over
    
    
    2.25
    %
    
    51,905
    
    
    1,054
    
    
    2.03
    %
    
    58,136
    
    
    1,353
    
    
    2.33
    %
    
    49,860
    
    
    1,579
    
    
    3.17
    %Other
      time deposits
    
    
    2.26
    %
    
    47,930
    
    
    988
    
    
    2.06
    %
    
    57,831
    
    
    1,361
    
    
    2.35
    %
    
    51,490
    
    
    1,701
    
    
    3.30
    %Total
      interest-bearing deposits
    
    
    1.65
    %
    
    202,879
    
    
    3,007
    
    
    1.48
    %
    
    212,048
    
    
    3,550
    
    
    1.67
    %
    
    197,631
    
    
    4,598
    
    
    2.33
    %FHLB
      advances
    
    
    3.13
    %
    
    50,356
    
    
    1,576
    
    
    3.13
    %
    
    44,655
    
    
    1,590
    
    
    3.56
    %
    
    32,207
    
    
    1,563
    
    
    4.85
    %Federal
      funds purchased and
      other
      short-term borrowings
    
    
    -
    
    
    527
    
    
    7
    
    
    1.34
    %
    
    1,030
    
    
    16
    
    
    1.55
    %
    
    441
    
    
    13
    
    
    2.85
    %Total
      interest-bearing liabilities
    
    
    1.96
    %
    
    253,762
    
    $
    4,590
    
    
    1.81
    %
    
    257,733
    
    $
    5,156
    
    
    2.00
    %
    
    230,279
    
    $
    6,174
    
    
    2.68
    %Noninterest-bearing
      deposits
    
    
    
    
    
    35,969
    
    
    
    
    
    
    
    
    32,132
    
    
    
    
    
    
    
    
    29,678Other
      noninterest-bearing
      liabilities
    
    
    
    
    
    2,137
    
    
    
    
    
    
    
    
    2,343
    
    
    
    
    
    
    
    
    2,503Total
      liabilities
    
    
    
    
    
    291,868
    
    
    
    
    
    
    
    
    292,208
    
    
    
    
    
    
    
    
    262,460Shareholders’
      equity
    
    
    
    
    
    34,651
    
    
    
    
    
    
    
    
    30,558
    
    
    
    
    
    
    
    
    26,427Total
      average liabilities and equity
    
    
    
    
    $
    326,519
    
    
    
    
    
    
    
    $
    322,766
    
    
    
    
    
    
    
    $
    288,887Net
      interest margin (5)
    
    
    
    
    
    
    
    $
    12,952
    
    
    4.33
    %
    
    
    
    $
    12,289
    
    
    4.14
    %
    
    
    
    $
    11,647
    
    
    4.38
    %Interest
      rate spread (6)
    
    
    
    
    
    
    
    
    
    
    
    4.00
    %
    
    
    
    
    
    
    
    3.82
    %
    
    
    
    
    
    
    
    3.95
    %
   (1)
      - Average loans are stated net of unearned income and include nonaccrual
      loans. Interest recognized on non-accrual loans has been included ininterest
      income.(2)
      - Average yield on investment securities is computed using historical cost
      balances; the yield information does not give effect to changes in fair
      value
      that
      are reflected as a component of shareholders’
      equity.(3)
      - Yields on nontaxable investment securities have been adjusted to a tax
      equivalent basis assuming a 34% Federal tax rate.(4)
      - Includes investments in stock of Federal Reserve Bank, Federal Home Loan
      Bank, and other equities.(5)
      - Net interest margin is computed by dividing net interest income
      (adjusted to a tax equivalent basis assuming a 34% Federal tax rate) by
      total average earning
      assets.(6)
      - Interest rate spread is the difference between the average yield on
      earning assets and the average rate on interest-bearing
      liabilities.
 27
   **Rate/Volume
Analysis**
 The
following table presents the dollar amount of changes in interest income,
interest expense and net interest income attributable to changes in the volume
of interest-earning assets and interest-bearing liabilities and the amount
attributable to changes in rates earned and paid on the corresponding assets and
liabilities (dollars in thousands).
 
 **2003
      - 2004**
    
    **2002
      - 2003****Change
      Related to**
    
    
    
    **Change
      Related to****Volume**
    
    
    **Rate**
    
    
    **Rate/**
      **Volume**
    
    
    **Total**
      
      **Change**
    
    
    **Volume**
    
    
    **Rate**
    
    
    **Rate/**
      **Volume**
    
    
    **Total**
      
      **Change****Earning
      Assets:**Loans,
      net of unearned income
    
    $
    560
    
    $
    (172
    )
    $
    (7
    )
    $
    381
    
    $
    821
    
    $
    (1,648
    )
    $
    (91
    )
    $
    (918
    )Investment
      securities (taxable)
    
    
    (409
    )
    
    6
    
    
    (1
    )
    
    (404
    )
    
    1,012
    
    
    (320
    )
    
    (167
    )
    
    525Investment
      securities (non-taxable)
    
    
    152
    
    
    (39
    )
    
    (7
    )
    
    106
    
    
    144
    
    
    (44
    )
    
    (9
    )
    
    91Federal
      funds sold
    
    
    4
    
    
    6
    
    
    -
    
    
    10
    
    
    (17
    )
    
    (29
    )
    
    6
    
    
    (40
    )Other
    
    
    4
    
    
    1
    
    
    (1
    )
    
    4
    
    
    (8
    )
    
    (27
    )
    
    1
    
    
    (34
    )Total
      interest income
    
    
    311
    
    
    (198
    )
    
    (16
    )
    
    97
    
    
    1,952
    
    
    (2,068
    )
    
    (260
    )
    
    (376
    )**Interest-Bearing
      Liabilities:**Interest-bearing
      deposits:Interest-bearing
      demand
    
    
    10
    
    
    25
    
    
    3
    
    
    38
    
    
    17
    
    
    (84
    )
    
    (10
    )
    
    (77
    )Savings
      and money market accounts
    
    
    43
    
    
    46
    
    
    2
    
    
    91
    
    
    (40
    )
    
    (378
    )
    
    13
    
    
    (405
    )Time
      deposits, $100,000 and over
    
    
    (145
    )
    
    (173
    )
    
    19
    
    
    (299
    )
    
    262
    
    
    (419
    )
    
    (69
    )
    
    (226
    )Other
      time deposits
    
    
    (233
    )
    
    (170
    )
    
    30
    
    
    (373
    )
    
    209
    
    
    (489
    )
    
    (60
    )
    
    (340
    )Total
      interest-bearing deposits
    
    
    (325
    )
    
    (272
    )
    
    54
    
    
    (543
    )
    
    448
    
    
    (1,370
    )
    
    (126
    )
    
    (1,048
    )FHLB
      advances
    
    
    203
    
    
    (192
    )
    
    (25
    )
    
    (14
    )
    
    604
    
    
    (416
    )
    
    (161
    
    
    27Other
    
    
    (8
    )
    
    (2
    )
    
    1
    
    
    (9
    )
    
    17
    
    
    (6
    )
    
    (8
    )
    
    3Total
      interest expense
    
    
    (130
    )
    
    (466
    )
    
    30
    
    
    (566
    )
    
    1,069
    
    
    (1,792
    )
    
    (295
    )
    
    (1,018
    )**Net
      Interest Differential**
    
    $
    441
    
    $
    268
    
    $
    (46
    )
    $
    663
    
    $
    883
    
    $
    (276
    )
    $
    35
    
    $
    642
   **Provision
for Loan Losses**
 The
provision for loan losses was $436,000 in 2004, $786,000 in 2003, and $847,000
in 2002. A component of the change in the provision each year is the level of
net originations as follows: $10.9 million in 2004, $13.7 million in 2003, and
$12.2 million in 2002. As discussed under the “Allowance for Loan Losses”
section above, other factors influencing the amount charged to the provision
each year include the total amount of past due, classified, and “watch list”
loans, trends in nonperforming assets, charge-off activity each year, and the
percentage of Finance Company loans to the consolidated totals. Thus, in
addition to the general economic uncertainty starting prior to 2002 and
continuing into 2004, factors contributing to the fluctuations in the level of
provision each year included changes in net charge-off activity of 0.10% of
average loans in 2004, 0.32% in 2003 and 0.20% in 2002; and the fluctuations in
nonperforming assets which amounted to 0.37%, 0.38%, and 0.22% of gross loans
plus OREO at December 31, 2004, 2003, and 2002, respectively. Somewhat
offsetting the previously mentioned factors and contributing to the lower
provision in 2004 are trends in the Bank’s total “watch list” loans, which
include classified loans, non-accrual loans, and other assets especially
mentioned (“OAEM”) in the Bank’s internal credit grading procedures and periodic
reviews. Total watch list loans have decreased totaling 7.9%, 7.6%, and 4.9%,
respectively, of gross loans at December 31, 2002, 2003, and 2004. Finally, the
percentage of Finance Company loans, which have inherently more risk than do
loans of the Bank, has decreased each year representing 1.62%, 1.41%, and 1.26%,
respectively, of consolidated loans at December 31, 2002, 2003, and 2004, thus
contributing to the lower provisions required each year. Estimates charged to
the provision for loan losses are based on management’s judgment as to the
amount required to cover probable losses in the loan portfolio, and are adjusted
as necessary based on a calculated model quantifying the estimated required
balance in the allowance.
 
 **Noninterest
Income and Expenses**
 Noninterest
income decreased $614,000, or 21%, in 2004 to $2.3 million from $2.9 million in
2003 and $2.7 million in 2002. Fluctuations in service charges and fees on
deposit accounts, which decreased 13% in 2004 to $480,000 and decreased slightly
in 2003 to $550,000 from $553,000 in 2002, is related to the level of and
changes in transaction fees and number of Bank deposit accounts, as well as
fluctuations in the volume of transactions subject to service charges, NSF and
other fees each year. The decline in 2004 was primarily related to lower service
charges ($33,000) due to changes in transaction accounts, and a reduction in NSF
fee income ($39,000) related to numerous accounts with recurring overdrafts
being closed during the year.
 
 28
 Insurance
commission fee income increased $150,000, or 34%, to $588,000 from $438,000 in
2003 and $587,000 in 2002, primarily related to fluctuations in market
conditions affecting the volume of annuity product sales made by the Bank’s
nondeposit investment subsidiary. In addition, there was one more full time
licensed broker during 2004 as compared to 2003 contributing to the higher
volume of sales transactions. Offsetting the higher insurance commission fees
and contributing to the decrease in total noninterest income for 2004 was the
lower gain on sale of securities, which decreased $284,000 to total $83,000.
This is compared to gains on sales of $367,000 for 2003 and $117,000 for 2002.
Fluctuations in gain on sales of investment securities each year are primarily
related to the volume of investment sales each year from the Company’s available
for sale investment portfolio. In addition to the volume of transactions,
changes in general market interest rates and thus, the market valuations, affect
the amount of gain recorded.
 
 The line
item “other income” was down $410,000, or 26%, in 2004 and up $161,000, or 11%,
in 2003. The decrease in 2004 is primarily related to lower level of mortgage
loan referral fees which decreased $223,000 in 2004 as the level of refinancing
declined; and (2) the decline of $166,000 in merchant discount and transaction
fees related to the Company’s outsourcing the operations of this product in
mid-2004 and thereafter, receiving a residual net revenue amount. Additional
fluctuations in other income are related to the normal activity of the Bank and
the level of transactions each year.
 
 Noninterest
expense totaled $8.4 million in 2004, $8.9 million in 2003, and $8.4 million in
2002. The most significant item included in noninterest expense is salaries,
wages and benefits which amounted to $5.4 million in 2004, $5.2 million in 2003,
and $5.1 million in 2002. The increase of $157,000, or 3%, in 2004 was primarily
related to normal annual raises, higher commissions on nondeposit product sales,
and increases in group health insurance premiums. These increases were offset
somewhat by lower bonus accruals in 2004. The increase of $153,000, or 3%, in
2003 was primarily related to normal annual raises and increases in group health
insurance premiums, somewhat offset by lower bonuses in 2003 and lower
commission expense on nondeposit product sales due to less volume in 2003.
 
 Occupancy
and furniture, fixtures, and equipment expenses decreased slightly (1.8%) in
2004 and remained fairly flat between 2002 and 2003 due to reductions in
depreciation for fully depreciated assets being offset by normal increases in
utilities, maintenance, and other ongoing occupancy and equipment expenses.
There were no significant changes in facilities in any year
presented.
 
 Included
in the line item “other expenses”, which decreased $572,000, or 24%, in 2004 and
increased $279,000, or 13%, between 2002 and 2003, are charges for advertising
and public relations; insurance claims and premiums; printing and office
support; merchant program expenses; legal and professional services; and other
branch and customer related expenses. A majority of these items are related
directly to the normal operations of the Bank and fluctuate in relation to the
changes in assets, fluctuations in transaction volume, and the number of
customer loan and deposit accounts. A significant contribution to the decrease
in 2004 and a majority of the increase in 2003 is related to a $166,000
prepayment penalty incurred on the early repayment of higher cost FHLB advances
during 2003. Other decreases in 2004 are related to (1) lower advertising and
public relations expense of $189,000 related to fewer promotional campaigns as
compared to the prior year and a substantial reduction in the frequency of
newspaper advertising as compared to the prior year; (2) reductions in
consultant and other professional fees ($96,000) related to fewer contracted
services and projects in 2004; (3) lower legal fees ($22,000) as there was less
required for loan collection matters; and (4) a decline in merchant processing
transaction expense of $169,000 due to the Company’s outsourcing the operations
of this product in mid-2004 and thereafter, receiving a residual net revenue
amount. Decreases in expense were offset somewhat by an increase of $79,000 in
expenses associated with other real estate owned. The increase in other expenses
for 2003, in addition to the FHLB prepayment penalty previously discussed, is a
result of higher legal and consultant fees ($60,000) for collection matters and
special projects, and higher advertising ($43,000) related to new marketing
campaigns.
 
 **Income
Taxes**
 The
Company recorded an income tax provision of $2.0 million, $1.8 million, and $1.6
million in 2004, 2003, and 2002, respectively. The effective tax rate in each
year was 30.6%, 31.5%, and 31.5%, respectively for the years ended December 31,
2004, 2003, and 2002. The slight decrease in effective rate for 2004 is
primarily related to fluctuations in municipal securities and other tax-free
income sources.
  29
  **Return
on Equity and Assets**
 The
return on average shareholders’ equity ratio (net income divided by average
total equity) and the return on average assets ratio (net income divided by
average total assets) for the years ended December 31 are presented in the
following table.
 
 **2004**
    
    
    **2003**
    
    
    **2002**Return
      on average assets
    
    
    1.36
    %
    
    1.18
    %
    
    1.19
    %Return
      on average shareholders’ equity
    
    
    12.81
    %
    
    12.46
    %
    
    13.02
    %Average
      shareholders’ equity as a percent ofaverage
      assets
    
    
    10.61
    %
    
    9.47
    %
    
    9.15
    %
 
 **MARKET
RISK AND ASSET-LIABILITY MANAGEMENT**
 
 The
Company’s primary earnings source is its net interest income; therefore, the
Company devotes significant time and has invested in resources to assist in the
management of market risk. The Company’s net interest income is affected by
changes in market interest rates, and by the level and composition of earning
assets and interest-bearing liabilities. The Company’s objectives in its
asset-liability management are to utilize its capital effectively, to provide
adequate liquidity and enhance net interest income, without taking undue risks
or subjecting the Company unduly to interest rate fluctuations. The Company
takes a coordinated approach to the management of its capital, liquidity, and
interest rate risk.
 
 Market
risk is the risk of loss from adverse changes in market prices and rates. The
Company’s market risk arises principally from interest rate risk inherent in its
lending, investment, deposit, and borrowing activities. Management actively
monitors and manages its interest rate risk exposure. Other types of market
risks, such as foreign currency exchange rate risk, and equity and commodity
price risk, do not arise in the normal course of the Company’s business.
Interest rate risk is the exposure to changes in market interest rates. The
major source of the Company’s interest rate risk is the difference in the
maturity and repricing characteristics between core banking assets and
liabilities — loans and deposits. This difference, or mismatch, poses a risk to
net interest income. The Company attempts to control the mix and maturities of
assets and liabilities to maintain a reasonable balance between exposure to
interest rate fluctuations and earnings and to achieve consistent growth in net
interest income, while maintaining adequate liquidity and capital. A sudden and
substantial increase or decrease in interest rates may adversely impact the
Company’s earnings to the extent that the interest rates on earning assets and
interest-bearing liabilities do not change at the same speed, to the same
extent, or on the same basis.
 
 The
Company monitors the interest rate sensitivity of its balance sheet position and
controls this risk by identifying and quantifying exposures in its near-term
sensitivity through the use of simulation and valuation models, as well as its
long-term gap position, reflecting the known or assumed maturity, repricing, and
other cash flow characteristics of assets and liabilities. The Company’s
simulation analysis involves dynamically modeling interest income and expense
from current assets and liabilities over a specified time period under various
interest rate scenarios and balance sheet structures, primarily to measure the
sensitivity of net interest income over relatively short (e.g., < 2-year)
time horizons. As the future path of interest rates cannot be known in advance,
management uses simulation analysis to project earnings under various interest
rate scenarios including reasonable or “most likely”, as well as deliberately
extreme and perhaps unlikely, scenarios. Key assumptions in these simulation
analyses relate to the behavior of interest rates and spreads, changes in the
mix and volume of assets and liabilities, repricing and/or runoff of deposits,
and, most importantly, the relative sensitivity of the Company’s assets and
liabilities to changes in market interest rates. This relative sensitivity is
important to consider as the Company’s core deposit base has not been subject to
the same degree of interest rate sensitivity as its assets, the majority of
which are based on external indices and change in concert with market interest
rates. According to the model, the Company is presently positioned so that net
interest income will increase in the short-term if interest rates rise and will
decrease in the short-term if interest rates decline.
 
 The
Company monitors and considers methods of managing the rate sensitivity and
repricing characteristics of the balance sheet components in order to minimize
the impact of sudden and sustained changes in interest rates. Accordingly, the
Company performs a valuation analysis involving projecting future cash flows
from current assets and liabilities to determine the Economic Value of Equity
(“EVE”) which is the estimated net present value of those discounted cash flows.
EVE represents the market value of equity and is equal to the market value of
assets minus the market value of liabilities, with adjustments made for certain
off-balance sheet items, over a range of assumed changes in market interest
rates. The sensitivity of EVE to changes in the level of interest rates is a
measure of the sensitivity of long-term earnings to changes in interest rates,
and is used primarily to measure the exposure of earnings and equity to changes
in interest rates over a relatively long (e.g., > 2 years) time horizon.
 
 30
 The
Company’s market risk exposure is measured using interest rate sensitivity
analysis by computing estimated changes in EVE in the event of a range of
assumed changes in market interest rates. This analysis assesses the risk of
loss in market risk sensitive instruments in the event of a sudden and sustained
100 - 300 basis points increase or decrease in the market interest rates. The
Company’s Board of Directors has adopted an interest rate risk policy which
establishes maximum allowable decreases in EVE in the event of a sudden and
sustained increase or decrease in market interest rates. The following table
presents the Company’s projected change in EVE for the various rate shock levels
as of year end. At December 31, 2004, the Company’s estimated changes in EVE
were within the limits established by the Board. *(dollars
in thousands)*
  **
    
    
    
    
    **December
      31, 2004**
    **December
      31, 2003****Change
      in Interest Rates**
    
    
    **Policy**
      **Limit**
    
    
    **Economic**
      **Value
      of**
      **Equity**
      **(000s)**
    ****
      ****
    
    **Percent**
      **Change**
    
    
    **Economic**
      **Value
      of**
      **Equity**
      **(000s)**
    ****
      ****
      ****
      ****
    
    **Percent**
      **Change**300
      basis point rise
    
    
    40.00
    %
    $
    37,231
    
    
    0.09
    %
    $
    25,094
    
    
    22.08
    %200
      basis point rise
    
    
    25.00
    %
    $
    37,225
    
    
    0.11
    %
    $
    27,159
    
    
    15.67
    %100
      basis point rise
    
    
    10.00
    %
    $
    37,193
    
    
    0.19
    %
    $
    29,617
    
    
    8.04
    %No
      change
    
    
    0.00
    %
    $
    37,265
    
    
    0.00
    %
    $
    32,205
    
    
    0.00
    %100
      basis point decline
    
    
    10.00
    %
    $
    35,855
    
    
    3.78
    %
    $
    30,205
    
    
    6.21
    %200
      basis point decline
    
    
    25.00
    %
    $
    33,653
    
    
    9.69
    %
    $
    28,851
    
    
    10.41
    %300
      basis point decline
    
    
    40.00
    %
    $
    31,470
    
    
    15.55
    %
    $
    27,331
    
    
    15.13
    %
 
 A
traditional gap analysis is also prepared based on the maturity and repricing
characteristics of earning assets and interest-bearing liabilities for selected
time bands. The mismatch between repricings or maturities within a time band is
commonly referred to as the “gap” for that period. A positive gap (asset
sensitive) where interest rate sensitive assets exceed interest rate sensitive
liabilities generally will result in the net interest margin increasing in a
rising rate environment and decreasing in a falling rate environment. A negative
gap (liability sensitive) will generally have the opposite result on net
interest income. However, the traditional gap analysis does not assess the
relative sensitivity of assets and liabilities to changes in interest rates and
other factors that could have an impact on interest rate sensitivity or net
interest income, and is thus not, in management’s opinion, a true indicator of
the Company’s interest rate sensitivity position.
 
 The
Company’s balance sheet structure is primarily short-term in nature with a
substantial portion of assets and liabilities maturing within one year. The
Company’s gap analysis, presented below, indicates a positive twelve month gap
as of December 31, 2004 of $20.9 million. When the “effective change ratio” (the
historical relative movement of each asset’s and liability’s rates in relation
to a 100 basis point change in the prime rate) is applied to the interest gap
position, the Company actually has a somewhat higher asset sensitive position
over a 12 month period and the entire repricing lives of the assets and
liabilities. This is primarily due to the fact that in excess of 75% of the loan
portfolio moves immediately on a one-to-one ratio with a change in the prime
lending rate, while the deposit rates do not increase or decrease as much or as
quickly relative to a prime rate movement. The Company’s asset sensitive
position means that assets reprice faster than the liabilities, which causes a
decrease in the short-term in the net interest income and net interest margin in
periods of declining rates as experienced in 2002 through 2003, until the fixed
rate deposits mature and are repriced at then lower current market rates, thus
narrowing the difference between what the Company earns on its assets and what
it pays on its liabilities. Given the Company’s current balance sheet structure,
the opposite effect (that is, an increase in net interest income and net
interest margin) is realized in the short-term in a rising rate environment, as
experienced starting in the latter half of 2004.
  31
  The
following is the Company’s gap analysis as of December 31, 2004 (dollars in
thousands).
  ****
    
    **Assets and Liabilities Repricing
      Within****3
      Months**
      **or
      Less**
    
    
    **4
      to 12**
      **Months**
    
    
    **1
      to 5**
      **Years**
    
    
    **Over
      5**
      **Years**
    
    
    **Total****Earning
      assets:**
    
    
    ****Loans,
      net of unearned income
    
    $
    194,059
    
    $
    5,827
    
    $
    39,948
    
    $
    2,626
    
    $
    242,460Investment
      securities (1)
    
    
    -
    
    
    -
    
    
    1,349
    
    
    58,489
    
    
    59,838Federal
      funds sold and other
    
    
    365
    
    
    -
    
    
    -
    
    
    -
    
    
    365Total
    
    
    194,424
    
    
    5,827
    
    
    41,297
    
    
    61,115
    
    
    302,663**Interest-bearing
      liabilities:**Interest-bearing
      demand deposits (2)
    
    
    114,374
    
    
    -
    
    
    -
    
    
    -
    
    
    114,374Time
      deposits, $100,000 and over
    
    
    9,796
    
    
    21,510
    
    
    7,619
    
    
    -
    
    
    38,925Other
      time deposits
    
    
    5,697
    
    
    22,706
    
    
    13,119
    
    
    -
    
    
    41,522FHLB
      advances
    
    
    1,750
    
    
    3,500
    
    
    33,050
    
    
    11,834
    
    
    50,134Total
    
    
    131,617
    
    
    47,716
    
    
    53,788
    
    
    11,834
    
    
    244,955Period
      interest sensitivity gap
    
    $
    62,807
    
    $
    (41,889
    )
    $
    (12,491
    )
    $
    49,281
    
    $
    57,708Cumulative
      interest sensitivity gap
    
    $
    62,807
    
    $
    20,918
    
    $
    8,427
    
    $
    57,708

(1)
      - Presented at market value as all investment securities are classified as
      “available for sale”; includes the Bank’s investment in stock of Federal
      Reserve Bank, Federal Home Loan Bank, and other
  equities.(2)
      - Includes interest-bearing checking accounts, money market accounts, and
      regular savings accounts.
 ****
 **ACCOUNTING,
REPORTING AND REGULATORY MATTERS**
 
 On March
9, 2004, the Securities and Exchange Commission staff issued Staff Accounting
Bulletin No. 105, “ *Application
of Accounting Principles to Loan Commitments* ” (“SAB
105”). SAB 105 provides recognition guidance for entities that issue loan
commitments that are required to be accounted for as derivative instruments. SAB
105 indicates that the expected future cash flows related to the associated
servicing of the loan and any other internally-developed intangible assets
should not be considered when recognizing a loan commitment at inception or
through its life. SAB 105 also discusses disclosure requirements for loan
commitments and is effective for loan commitments accounted for as derivatives
and entered into subsequent to March 31, 2004. The Company currently does not
include the associated servicing of the loan when recognizing loan commitments
at inception and throughout its life. The adoption of SAB 105 had no impact on
the Company.
 
 In March
2004, the FASB issued EITF No. 03-1 (“EITF 03-1”), “ *The
Meaning of Other-Than-Temporary Impairment and Its Application of Certain
Investments* ,” which
provided guidance for evaluating whether an investment is other-than-temporarily
impaired and its application to investments classified as either available for
sale or held to maturity under SFAS No. 115, “ *Accounting
for Certain Investments in Debt and Equity Securities* ,” and
investments accounted for under the cost or equity method of accounting. In
September 2004, the FASB issued FASB Staff Position (“FSP”) EITF No. 03-1-1, a
delay of the effective date for the measurement and recognition guidance
contained in paragraphs 10-20 of EITF 03-1 until the FASB issues final guidance,
expected in the first quarter of 2005. Paragraphs 10 through 20 of EITF 03-1
provide guidance on when impairment of debt and equity securities is considered
other-than-temporary. This guidance generally states impairment is considered
other-than-temporary unless the holder of the security has both the intent and
ability to hold the security until the fair value recovers and evidence
supporting the recovery outweighs evidence to the contrary. We are currently
evaluating the impact of the initial adoption of this guidance on the financial
condition or results of operations of the Company. The Company adopted the
guidance of EITF 03-1, excluding paragraphs 10-20 effective as of December 31,
2004. As a result of this adoption, the Company provides additional disclosures,
which are found in Note 3 to the consolidated financial statements contained in
Item 8 of this report. The initial adoption of this issuance, which excludes
paragraphs 10-20, did not have a material impact on the financial condition or
results of operations of the Company.
  32
 In
December 2004, the FASB issues SFAS No. 123R, “ *Share-Based
Payment* ” as a
revision of SFAS No. 123, “ *Accounting
for Stock-Based Compensation* ” and
superseding APB Opinion No. 25, “ *Accounting
for Stock Issued to Employees,* ” and its
related implementation guidance. SFAS No. 123R addresses the accounting for
share-based payment transactions in which an enterprise receives employee
services in exchange for a) equity instruments of the enterprise or b)
liabilities that are based on the fair value of the enterprise’s equity
instruments or that may be settled by the issuance of such equity instruments.
The statement eliminates the ability to account for share-based compensation
transactions using APB Opinion No. 25 and generally requires instead that such
transactions be recognized in the income statement as the grant-date fair value
of stock options or other equity-based compensation issued to employees. The
fair value calculations are accounted for using a either a lattice model or a
closed-form model. The guidance also provides for classifying awards as either
liabilities or equity, which impacts when and if the awards must be remeasured
to fair value subsequent to the grant date. SFAS No. 123R is effective for most
public companies’ interim or annual periods beginning after June 15, 2005 and is
effective for nonpublic companies for annual periods beginning after December
15, 2005. We have not yet completed our evaluation of the impact that this
Statement will have on our financial position and results of
operations
 
 **Item
7A.** **QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**
 
 See
“Market Risk and Asset-Liability Management” in Item 7, Management’s Discussion
and Analysis of Financial Condition and Results of Operations for quantitative
and qualitative disclosures about market risk, which information is incorporated
herein by reference.
  33
  **Item 8.**   **FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA**
 
 **SUMMIT
FINANCIAL CORPORATION AND SUBSIDIARIES**
 **CONSOLIDATED
BALANCE SHEETS**
 (Dollars
in Thousands)
 
 **December
      31,****2004**
    
    
    **2003****ASSETS**Cash
      and due from banks
    
    $
    6,548
    
    $
    9,854Interest-bearing
      bank balances
    
    
    147
    
    
    341Federal
      funds sold
    
    
    218
    
    
    201Investment
      securities available for sale
    
    
    59,838
    
    
    90,887Investment
      in Federal Home Loan Bank and other stock
    
    
    3,326
    
    
    3,004Loans,
      net of unearned income and net of allowancefor loan losses of
      $3,649 and $3,437
    
    
    238,811
    
    
    228,365Premises
      and equipment, net
    
    
    4,805
    
    
    4,070Accrued
      interest receivable
    
    
    1,430
    
    
    1,505Other
      assets
    
    
    5,815
    
    
    5,694$
    320,938
    
    $
    343,921**LIABILITIES
      AND SHAREHOLDERS' EQUITY**Deposits:Noninterest-bearing
      demand
    
    $
    36,897
    
    $
    37,037Interest-bearing
      demand
    
    
    32,478
    
    
    23,542Savings
      and money market
    
    
    81,896
    
    
    73,245Time
      deposits, $100,000 and over
    
    
    38,925
    
    
    65,200Other
      time deposits
    
    
    41,522
    
    
    57,988231,718
    
    
    257,012Federal
      Home Loan Bank advances
    
    
    50,134
    
    
    52,317Accrued
      interest payable
    
    
    581
    
    
    841Other
      liabilities
    
    
    1,240
    
    
    1,546Total
      liabilities
    
    
    283,673
    
    
    311,716Shareholders'
      equity:Common
      stock, $1.00 par value; 20,000,000 shares authorized;
      4,515,553and
      4,312,925 shares issued and outstanding
    
    
    4,516
    
    
    4,313Additional
      paid-in capital
    
    
    26,993
    
    
    25,791Retained
      earnings
    
    
    5,868
    
    
    2,102Accumulated
      other comprehensive income, net of tax
    
    
    98
    
    
    28Nonvested
      restricted stock
    
    
    (210
    )
    
    (29
    )Total
      shareholders' equity
    
    
    37,265
    
    
    32,205$
    320,938
    
    $
    343,921See
      accompanying notes to consolidated financial statements.
 
 34
 **SUMMIT
FINANCIAL CORPORATION AND SUBSIDIARIES**
 **CONSOLIDATED
STATEMENTS OF INCOME**
 (Dollars
in Thousands, except Per Share Data)
 
 **For
      the year ended December 31,****2004**
    
    
    **2003**
    
    
    **2002****Interest
      Income:**Loans
    
    $
    14,377
    
    $
    13,996
    
    $
    14,914Taxable
      securities
    
    
    2,055
    
    
    2,459
    
    
    1,934Nontaxable
      securities
    
    
    922
    
    
    816
    
    
    725Federal
      funds sold
    
    
    50
    
    
    40
    
    
    80Other
    
    
    138
    
    
    134
    
    
    16817,542
    
    
    17,445
    
    
    17,821**Interest
      Expense:**Deposits
    
    
    3,007
    
    
    3,550
    
    
    4,598Federal
      Home Loan Bank advances
    
    
    1,576
    
    
    1,590
    
    
    1,563Federal
      funds purchased
    
    
    7
    
    
    16
    
    
    5Other
      short-term borrowings
    
    
    -
    
    
    -
    
    
    84,590
    
    
    5,156
    
    
    6,174Net
      interest income
    
    
    12,952
    
    
    12,289
    
    
    11,647**Provision
      for loan losses**
    
    
    436
    
    
    786
    
    
    847Net
      interest income after provision for loan losses
    
    
    12,516
    
    
    11,503
    
    
    10,800**Noninterest
      Income:**Service
      charges and fees on deposit accounts
    
    
    480
    
    
    550
    
    
    553Insurance
      commission fee income
    
    
    588
    
    
    438
    
    
    587Gain
      on sale of investment securities
    
    
    83
    
    
    367
    
    
    117Other
      income
    
    
    1,165
    
    
    1,575
    
    
    1,4142,316
    
    
    2,930
    
    
    2,671**Noninterest
      Expense:**Salaries,
      wages and benefits
    
    
    5,370
    
    
    5,213
    
    
    5,060Occupancy
    
    
    682
    
    
    666
    
    
    644Furniture,
      fixtures and equipment
    
    
    608
    
    
    647
    
    
    673Other
      expenses
    
    
    1,774
    
    
    2,346
    
    
    2,0678,434
    
    
    8,872
    
    
    8,444Income
      before income taxes
    
    
    6,398
    
    
    5,561
    
    
    5,027Income
      taxes
    
    
    1,959
    
    
    1,754
    
    
    1,585**Net
      income**
    
    $
    4,439
    
    $
    3,807
    
    $
    3,442**Net
      income per common share:**Basic
    
    $
    1.00
    
    $
    0.89
    
    $
    0.82Diluted
    
    $
    0.90
    
    $
    0.79
    
    $
    0.73**Average
      shares outstanding:**Basic
    
    
    4,419,000
    
    
    4,256,000
    
    
    4,176,000Diluted
    
    
    4,924,000
    
    
    4,842,000
    
    
    4,744,000See
      accompanying notes to consolidated financial statements.
 
 35
  **SUMMIT
FINANCIAL CORPORATION AND SUBSIDIARIES**
 **CONSOLIDATED
STATEMENTS OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE
INCOME**
 **For
the Years Ended December 31, 2004, 2003 and 2002**
 (Dollars
in Thousands)
 
 ****
    ****
    ****
    ****
    ****
    **Accumulated**
    ****
    ****
    ****
    ****
    ********
    ****
    ****
    ****
    **Additional**
    ****
    ****
    ****
    **other**
    ****
    **Nonvested**
    ****
    **Total**
    ********
    ****
    **Common**
    ****
    **paid-in**
    ****
    **Retained**
    ****
    **comprehensive**
    ****
    **restricted**
    ****
    **shareholders'**
    ********
    ****
    **stock**
    ****
    **capital**
    ****
    **earnings**
    ****
    **income,
      net**
    ****
    **stock**
    ****
    **equity**Balance
      at December 31, 2001
    
    $
    3,793
    
    $
    18,409
    
    $
    2,379
    
    $
    203
    
    
    ($183
    )
    $
    24,601Net
      income for the year ended December 31, 2002
    
    
    -
    
    
    -
    
    
    3,442
    
    
    -
    
    
    -
    
    
    3,442Other
      comprehensive income:Unrealized
      holding gains on securities arisingduring
      the period, net of taxes of $287
    
    
    -
    
    
    -
    
    
    -
    
    
    469
    
    
    -Less:
      reclassification adjustment for gainsincluded
      in net income, net of tax of $45
    
    
    -
    
    
    -
    
    
    -
    
    
    (72
    )Other
      comprehensive income
    
    
    -
    
    
    -
    
    
    -
    
    
    397
    
    
    -
    
    
    397Comprehensive
      income
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    3,839Stock
      options exercised, including tax benefit of $33
    
    
    30
    
    
    148
    
    
    -
    
    
    -
    
    
    -
    
    
    178Amortization
      of deferred compensationon
      restricted stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    128
    
    
    128Issuance
      of 5% stock dividend
    
    
    190
    
    
    2,765
    
    
    (2,955
    )
    
    -
    
    
    -
    
    
    -Cash
      in lieu of fractional shares
    
    
    -
    
    
    -
    
    
    (4
    )
    
    -
    
    
    -
    
    
    (4
    )Balance
      at December 31, 2002
    
    
    4,013
    
    
    21,322
    
    
    2,862
    
    
    600
    
    
    (55
    )
    
    28,742Net
      income for the year ended December 31, 2003
    
    
    -
    
    
    -
    
    
    3,807
    
    
    -
    
    
    -
    
    
    3,807Other
      comprehensive loss:Unrealized
      holding losses on securities arisingduring
      the period, net of taxes of ($210)
    
    
    -
    
    
    -
    
    
    -
    
    
    (345
    )
    
    -Less:
      reclassification adjustment for gainsincluded
      in net income, net of tax of $140
    
    
    -
    
    
    -
    
    
    -
    
    
    (227
    )Other
      comprehensive loss
    
    
    -
    
    
    -
    
    
    -
    
    
    (572
    )
    
    -
    
    
    (572
    )Comprehensive
      income
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    3,235Stock
      options exercised, including tax benefit of $193
    
    
    95
    
    
    544
    
    
    -
    
    
    -
    
    
    -
    
    
    639Amortization
      of deferred compensationon
      restricted stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    26
    
    
    26Cash
      dividends declared ($0.10 per common share)
    
    
    -
    
    
    -
    
    
    (430
    )
    
    -
    
    
    -
    
    
    (430
    )Issuance
      of 5% stock dividend
    
    
    205
    
    
    3,925
    
    
    (4,130
    )
    
    -
    
    
    -
    
    
    -Cash
      in lieu of fractional shares
    
    
    -
    
    
    -
    
    
    (7
    )
    
    -
    
    
    -
    
    
    (7
    )Balance
      at December 31, 2003
    
    
    4,313
    
    
    25,791
    
    
    2,102
    
    
    28
    
    
    (29
    )
    
    32,205Net
      income for the year ended December 31, 2004
    
    
    -
    
    
    -
    
    
    4,439
    
    
    -
    
    
    -
    
    
    4,439Other
      comprehensive income:Unrealized
      holding gains on securities arisingduring
      the period, net of taxes of $74
    
    
    -
    
    
    -
    
    
    -
    
    
    121
    
    
    -Less:
      reclassification adjustment for gainsincluded
      in net income, net of tax of $31
    
    
    -
    
    
    -
    
    
    -
    
    
    (51
    )Other
      comprehensive income
    
    
    -
    
    
    -
    
    
    -
    
    
    70
    
    
    -
    
    
    70Comprehensive
      income
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    4,509Stock
      options exercised, including tax benefit of $269
    
    
    189
    
    
    964
    
    
    -
    
    
    -
    
    
    -
    
    
    1,153Stock
      issued pursuant to restricted stock plan
    
    
    14
    
    
    238
    
    
    -
    
    
    -
    
    
    (252
    )
    
    -Amortization
      of deferred compensationon
      restricted stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    71
    
    
    71Cash
      dividends declared ($0.15 per common share)
    
    
    -
    
    
    -
    
    
    (673
    )
    
    -
    
    
    -
    
    
    (673
    )**Balance
      at December 31, 2004**
    
    **$**
    **4,516**
    
    **$**
    **26,993**
    
    **$**
    **5,868**
    
    **$**
    **98**
    
    
    **($210**
    **)**
    **$**
    **37,265**See
      accompanying notes to consolidated financial statements.
  36
  **SUMMIT
FINANCIAL CORPORATION AND SUBSIDIARIES**
 **CONSOLIDATED
STATEMENTS OF CASH FLOWS**
 (Dollars
in Thousands)
 
 **For
      the year ended December 31,****2004**
    
    
    **2003**
    
    
    **2002****Cash
      flows from operating activities:**Net
      income
    
    $
    4,439
    
    $
    3,807
    
    $
    3,442Adjustments
      to reconcile net income to net cash provided
      by operating activities:Provision
      for loan losses
    
    
    436
    
    
    786
    
    
    847Depreciation
    
    
    388
    
    
    435
    
    
    488Net
      gain on sale and disposal of equipment and vehicles
    
    
    (36
    )
    
    (30
    )
    
    -Net
      gain on sale of investment securities
    
    
    (83
    )
    
    (367
    )
    
    (117
    )Net
      amortization of net premium on investment securities
    
    
    110
    
    
    257
    
    
    221Amortization
      of deferred compensation on restricted stock
    
    
    71
    
    
    26
    
    
    128Increase
      in other assets
    
    
    (77
    )
    
    (260
    )
    
    (222
    )(Decrease)
      increase in other liabilities
    
    
    (297
    )
    
    231
    
    
    64Deferred
      income taxes
    
    
    (12
    )
    
    11
    
    
    (156
    )Net
      cash provided by operating activities
    
    
    4,939
    
    
    4,896
    
    
    4,695**Cash
      flows from investing activities:**Purchases
      of investment securities
    
    
    (9,773
    )
    
    (89,706
    )
    
    (48,930
    )Proceeds
      from sales of investment securities
    
    
    28,973
    
    
    29,547
    
    
    19,945Proceeds
      from maturities of investment securities
    
    
    11,935
    
    
    31,924
    
    
    13,456Purchases
      of Federal Home Loan Bank stock
    
    
    (709
    )
    
    (861
    )
    
    (685
    )Redemptions
      of Federal Home Loan Bank stock
    
    
    387
    
    
    275
    
    
    -Purchase
      of bank-owned life insurance
    
    
    -
    
    
    (1,500
    )
    
    -Net
      increase in loans
    
    
    (10,882
    )
    
    (13,720
    )
    
    (12,174
    )Purchases
      of premises and equipment
    
    
    (1,123
    )
    
    (327
    )
    
    (238
    )Proceeds
      from sale of equipment and vehicles
    
    
    36
    
    
    49
    
    
    -Net
      cash provided by (used in) investing activities
    
    
    18,844
    
    
    (44,319
    )
    
    (28,626
    )**Cash
      flows from financing activities:**Net
      (decrease) increase in deposit accounts
    
    
    (25,294
    )
    
    26,497
    
    
    11,737Proceeds
      from Federal Home Loan Bank advances
    
    
    11,500
    
    
    29,500
    
    
    25,500Repayments
      of Federal Home Loan Bank advances
    
    
    (13,683
    )
    
    (17,783
    )
    
    (11,800
    )Repayments
      of other short-term borrowings
    
    
    -
    
    
    -
    
    
    (500
    )Cash
      dividends paid
    
    
    (673
    )
    
    (430
    )
    
    -Proceeds
      from stock options exercised
    
    
    884
    
    
    446
    
    
    145Cash
      paid in lieu of fractional shares
    
    
    -
    
    
    (7
    )
    
    (4
    )Net
      cash (used in) provided by financing activities
    
    
    (27,266
    )
    
    38,223
    
    
    25,078Net
      (decrease) increase in cash and cash equivalents
    
    
    (3,483
    )
    
    (1,200
    )
    
    1,147Cash
      and cash equivalents, beginning of year
    
    
    10,396
    
    
    11,596
    
    
    10,449Cash
      and cash equivalents, end of year
    
    $
    6,913
    
    $
    10,396
    
    $
    11,596**Supplemental
      Information:**Cash
      paid during the period for interest
    
    $
    4,850
    
    $
    5,321
    
    $
    6,362Cash
      paid during the period for income taxes
    
    
    1,675
    
    
    1,590
    
    
    1,610Change
      in fair market value of investment securities available
      for sale, net of income taxes
    
    
    70
    
    
    (572
    )
    
    397Stock
      option tax benefit
    
    
    269
    
    
    193
    
    
    33See
      accompanying notes to consolidated financial statements.
  37
  **SUMMIT
FINANCIAL CORPORATION AND SUBSIDIARIES**
 **NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS**
 
 **For
the Years Ended December 31, 2004, 2003 and 2002**
 
 **Note
1 -** ***Summary
of Significant Accounting Policies***
 
 **Principles
of Consolidation -** Summit
Financial Corporation (“the Company”), a South Carolina corporation, is the
parent holding company for Summit National Bank (“the Bank”), a nationally
chartered bank, and Freedom Finance, Inc. (“the Finance Company”), a consumer
finance company. Summit Investment Services, Inc. is a wholly-owned subsidiary
of the Bank which provides financial management services and nondeposit product
sales. The accompanying consolidated financial statements include the accounts
of the Company and its subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.
 
 **Use
of Estimates -** The
consolidated financial statements are prepared in conformity with accounting
principles generally accepted in the United States of America (“GAAP”) which
requires management to make estimates and assumptions. These estimates and
assumptions affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements. In addition, they affect the reported amounts of income and expense
during the reporting period. Actual results could differ from these estimates
and assumptions.
 
 **Cash
and cash equivalents** - For
the purpose of reporting cash flows, cash includes currency and coin, cash items
in process of collection and due from banks. Included in cash and cash
equivalents are federal funds sold and overnight investments. The Company
considers the amounts included in the balance sheet line items, “Cash and due
from banks”, “Interest-bearing bank balances” and “Federal funds sold” to be
cash and cash equivalents. These accounts totaled $6,913,000 and $10,396,000 at
December 31, 2004 and 2003, respectively.
 
 **Investment
Securities -** Investment securities are accounted for in accordance with Statement of
Financial Accounting Standards (“SFAS”) 115, “ *Accounting
for Certain Investments in Debt and Equity Securities”* . At the
time of purchase, investment securities are classified by management into one of
three categories as follows: (1) Investments Held to Maturity: securities which
the Company has the positive intent and ability to hold to maturity, which are
reported at amortized cost; (2) Trading Securities: securities that are bought
and held principally for the purpose of selling them in the near future, which
are reported at fair value with unrealized gains and losses included in
earnings; and (3) Investments Available for Sale: securities that may be sold
under certain conditions, which are reported at fair value, with unrealized
gains and losses excluded from earnings and reported as a separate component of
shareholders’ equity, net of income taxes. The amortization of premiums and
accretion of discounts on investment securities are recorded as adjustments to
interest income. Gains or losses on sales of investment securities are based on
the net proceeds and the adjusted carrying amount of the securities sold, using
the specific identification method. Unrealized losses on securities, reflecting
a decline in value or impairment judged by the Company to be other than
temporary, are charged to income in the consolidated statements of
income.
 
 **Loans
-** Loans of
the Bank are carried at principal amount outstanding, reduced by an allowance
for loan losses. The Bank recognizes interest income daily based on the
principal amount outstanding using the simple interest method. The accrual of
interest is generally discontinued on loans of the Bank which become 90 days
past due as to principal or interest or when management believes, after
considering economic and business conditions and collection efforts, that the
borrower’s financial condition is such that collection of interest is doubtful.
Management may elect to continue accrual of interest when the estimated net
realizable value of collateral is sufficient to cover the principal balances and
accrued interest and the loan is in the process of collection. Amounts received
on nonaccrual loans generally are applied against principal prior to the
recognition of any interest income. Generally, loans are restored to accrual
status when the obligation is brought current, has performed in accordance with
the contractual terms for a reasonable period of time and the ultimate
collectibility of the total contractual principal and interest is no longer in
doubt.
 
 Loans of
the Finance Company are carried at the gross amount outstanding, reduced by
unearned interest, deferred insurance income and other deferred fees, and an
allowance for loan losses. Unearned interest and fees are deferred at the time
the loans are made and accreted to income using the “Rule of 78’s” method. The
results of this method are not materially different from those obtained by using
the simple interest method. Charges for late payments are credited to income
when collected. Loans of the Finance Company are generally charged-off when they
become 150 days contractually past due or when it is determined that collection
is doubtful.
 
 38
 ****
 **Loan
Origination and Commitment Fees -** The
Company accounts for loan origination fees and direct costs of loan originations
in accordance with SFAS 91, “ *Accounting
for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans
and Direct Costs of Leases* ”. SFAS
91 generally limits the definition of loan origination costs to the direct costs
attributable to originating a loan, which are principally actual personnel
costs. Pursuant to SFAS 91, loan commitment fees, net of certain direct
origination costs, are deferred and recognized as an adjustment of yield by the
interest method over the related loan’s life, or if the commitment expires
unexercised, recognized in income upon expiration.
 
 **Allowance
for Loan Losses -** It is
the Company’s policy to provide a valuation allowance for estimated losses on
loans based upon past loss experience, trends in the level of delinquent and
specific problem loans, adverse situations that may affect the borrower’s
ability to repay, the estimated value of any underlying collateral, and current
economic conditions in the Bank’s primary market areas. The allowance for loan
losses is established through a provision for loan losses charged to operations
and reflects an amount that, in management’s opinion, is adequate to absorb
inherent losses in the existing portfolio. Additions to the allowance are based
on management’s evaluation of the loan portfolio and specific loans, in addition
to other factors which, in management’s judgment, deserve recognition in
estimating loan losses. Loans are charged-off when, in the opinion of
management, they are deemed to be uncollectible. Recognized losses are charged
against the allowance and subsequent recoveries are added to the allowance.
Management believes that the allowance is adequate to absorb probable losses
inherent in the loan portfolio. While management uses the information available
to make evaluations, future adjustments to the allowance may be necessary if
economic conditions differ from the assumptions used in making the evaluations.
The allowance for loan losses is subject to periodic evaluation by various
regulatory authorities and may be subject to adjustments based upon information
that is available to them at the time of their examination.
 
 **Impaired
Loans -** The
Company accounts for impaired loans in accordance with SFAS 114, “ *Accounting
by Creditors for Impairment of a Loan* ”. Loans
are considered to be impaired when, in management’s judgment, the collection of
all amounts of principal and interest is not probable in accordance with the
terms of the loan agreement. SFAS 114 requires that impaired loans be recorded
at fair value, which is determined based upon the present value of expected cash
flows discounted at the loan’s effective interest rate, the market price of the
loan, if available, or the value of the underlying collateral. All cash receipts
on impaired loans are applied to principal until such time as the principal is
brought current, and thereafter according to the contractual terms of the
agreement. After principal has been satisfied, future cash receipts are applied
to interest income, to the extent that any interest has been foregone. As a
practical matter, the Bank determines which loans are impaired through a loan
review process and provides a specific reserve which is a component of the
allowance for loan losses as discussed above.
 
 **Other
Real Estate Owned -** Other
real estate owned, included in “Other assets” in the accompanying consolidated
balance sheets, is comprised of real estate properties acquired in partial or
total satisfaction of problem loans. In accordance with SFAS No.144,
“ *Accounting
for the Impairment or Disposal of Long-Lived Assets* ”, the
property is classified as held for sale when the sale is probable and is
expected to occur within one year. The property is initially carried at the
lower of cost or estimated fair value less estimated selling costs. Principal
losses existing at the time of acquisition of such properties are charged
against the allowance for loan losses. Interest losses are charged to interest
income. Subsequent write-downs that may be required to the carrying value of
these properties and gains and losses realized from the sale of other real
estate owned are included in other noninterest income. Costs related to the
development and improvement of such property are capitalized, whereas the costs
related to holding the property are charged to expense. Other real estate owned
(“OREO”) totaled $217,000 and $125,000 at December 31, 2004 and 2003,
respectively.
  **Off-Balance
Sheet Commitments** - In the
ordinary course of business, the Bank has entered into off-balance sheet
financial instruments consisting of legally binding commitments to extend credit
and letters of credit. Such financial instruments are recorded in the financial
statements when they are funded.
 
 **Premises
and Equipment -** Premises,
equipment and leasehold improvements are stated at cost less accumulated
depreciation and amortization. Depreciation is recorded using the straight-line
method over the estimated useful life of the related assets as follows:
building, 40 years; furniture and fixtures, 7 years; equipment and computer
hardware and software, 3 to 7 years; and vehicles, 3 years. Amortization of
leasehold improvements is recorded using the straight-line method over the
lesser of the estimated useful life of the asset or the term of the respective
lease. Additions to premises and equipment and major replacements or betterments
are added at cost. Maintenance, repairs and minor replacements are charged to
operating expense as incurred. When assets are retired or otherwise disposed of,
the cost and accumulated depreciation are removed from the accounts and any gain
or loss is reflected in income.
  39
  **Per
Share Data** -
Earnings per share (“EPS”) are computed in accordance with SFAS 128,
“ *Earnings
per Share.* ” SFAS
128 requires companies to report basic and diluted EPS. Basic EPS includes no
dilution and is computed by dividing income available to common shareholders by
the weighted average number of common shares outstanding for the period. Shares
of restricted stock that are unvested are not included in weighted average
shares outstanding. Diluted EPS reflects the potential dilution of securities
that could occur if the Company’s dilutive stock options were exercised and thus
resulted in the issuance of common stock. Also included in diluted weighted
average shares outstanding is unvested restricted stock. The Company has issued
twelve 5% stock dividends between 1993 and 2003. The basic and diluted average
number of shares outstanding and earnings per share information for prior
reporting periods have been restated to reflect the effect of all stock
dividends.
 
 **Intangible
Assets -** As of
January 1, 2002, the Company adopted SFAS 142, *“Goodwill
and Other Intangible Assets”* . SFAS
142 requires that goodwill and intangible assets with indefinite useful lives no
longer be amortized, but instead be tested for impairment at least annually in
accordance with the provisions of SFAS 142. The Company’s intangible assets,
totaling $187,000 in both years presented, consist of goodwill resulting from
the Finance Company’s branch and loan acquisitions accounted for as purchases,
and are included in “Other assets” on the accompanying consolidated balance
sheets.
 
 **Income
Taxes -** Income
taxes are accounted for in accordance with SFAS 109, “ *Accounting
for Income Taxes* ”. Under
the asset and liability method of SFAS 109, deferred tax assets and liabilities
are recognized for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets and liabilities
are measured using the enacted rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. Under SFAS 109, the effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date. Valuation allowances are established to reduce deferred tax
assets if it is determined to be “more likely than not” that all or some portion
of the potential deferred tax asset will not be realized.
 
 **Reporting
Comprehensive Income** - The
Company reports comprehensive income in accordance with SFAS 130, “ *Reporting
Comprehensive Income.* ” SFAS
130 requires that all items that are required to be recognized under accounting
standards as comprehensive income be reported in a financial statement that is
displayed with the same prominence as other financial statements. The disclosure
requirements of SFAS 130 have been included in the Company’s consolidated
statements of shareholders’ equity and comprehensive income.
 
 **Fair
Value of Financial Instruments** - SFAS
107, “ *Disclosures
about Fair Value of Financial Instruments* ”,
requires disclosures about the fair value of all financial instruments, whether
or not recognized in the balance sheet, when it is practicable to estimate fair
value. In cases where quoted market prices are not available, fair values are
based on estimates using present value or other valuation techniques. Those
techniques are significantly affected by the assumptions used, including the
discount rate and estimates of future cash flows. In that regard, the derived
fair value estimates cannot be substantiated by comparison to independent
markets and, in many cases, could not be realized through immediate settlement
of the instrument. SFAS 107 defines a financial instrument as cash, evidence of
an ownership interest in an entity, or contractual obligations which require the
exchange of cash or other financial instruments. Certain financial instruments
and all non-financial instruments are specifically excluded from the disclosure
requirements, including the Company’s common stock, premises and equipment, and
other assets and liabilities. Accordingly, the aggregate fair value amounts
presented do not represent the underlying value of the Company.
 
 **Disclosures
Regarding Segments** - SFAS
131, “ *Disclosures
about Segments of an Enterprise and Related Information* ”
establishes standards for the way that public businesses report information
about operating segments in annual financial statements and requires that those
enterprises report selected information about operating segments in interim
financial reports issued to shareholders. It also establishes standards for
related disclosures about products and services, geographic areas, and major
customers. The Company has two reportable operating segments, Summit National
Bank and Freedom Finance, Inc.
  40
  **Stock-Based
Compensation -** The
Company reports stock-based compensation using the intrinsic value method
prescribed in Accounting Principles Board (“APB”) Opinion 25, “ *Accounting
for Stock Issued to Employees* ”, which
measures compensation expense as the excess, if any, of the quoted market price
of the Company’s stock at the date of the grant over the amount an employee must
pay to acquire the stock. SFAS 123, “ *Accounting
for Stock-Based Compensation* ”,
encourages but does not require companies to record compensation cost for
stock-based compensation plans at fair value. The Company follows the
disclosure-only provisions of SFAS 123. Accordingly, no compensation cost has
been recognized for the stock-based option plans as all options granted under
the plans had an exercise price equal to the market value of the underlying
common stock on the date of grant. The effect on net income and earnings per
share if the Company had applied the fair value recognition provisions of SFAS
123 to stock-based compensation is as follows:
  *(dollars,
      except per share, in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Net
      income, as reported
    
    $
    4,439
    
    $
    3,807
    
    $
    3,442Less
      - total stock-based employeecompensation
      expense determined under
      fair
      value based method, net of taxes
    
    
    124
    
    
    170
    
    
    216Proforma
      net income
    
    $
    4,315
    
    $
    3,637
    
    $
    3,226**Basic
      earnings per share:**As
      reported
    
    $
    1.00
    
    $
    0.89
    
    $
    0.82Proforma
    
    $
    0.98
    
    $
    0.85
    
    $
    0.77**Diluted
      earnings per share:**As
      reported
    
    $
    0.90
    
    $
    0.79
    
    $
    0.73Proforma
    
    $
    0.88
    
    $
    0.75
    
    $
    0.68
 
 The
weighted average fair value per share of options, calculated using the
Black-Scholes option-pricing model, granted in 2004, 2003 and 2002 amounted to
$2.57, $3.73 and $7.66, respectively. For purposes of the proforma calculation,
compensation expense is recognized on a straight line basis over six years. In
calculating the proforma disclosures, the fair values of options granted were
estimated as of the date of grant using the Black-Scholes option-pricing model
with the following assumptions used for grants:
 
 **2004**
    
    
    **2003**
    
    
    **2002**Historical
      volatility
    
    
    46.0
    %
    
    49.6
    %
    
    49.5
    %Risk-free
      interest rate
    
    
    3.61
    %
    
    3.35
    %
    
    2.70
    %Expected
      life of options
    
    
    6.1
      years
    
    
    5.8
      years
    
    
    5.7
      yearsDividend
      yield
    
    
    0.80
    %
    
    0.60
    %
    
    N/A
  **Reclassifications
-** Certain
amounts in the 2003 and 2002 consolidated financial statements have been
reclassified to conform with the 2004 presentations. These reclassifications had
no impact on shareholders’ equity or net income as previously
reported.
 **Note
2 -** ***Restrictions on Cash and Due From Banks***
 The
Company’s bank subsidiary is required to maintain average reserve balances, net
of vault cash, with the Federal Reserve Bank of Richmond against outstanding
domestic deposits and certain other liabilities. The required reserves, which
are reported in “Cash and due from banks” on the accompanying consolidated
balance sheets, were $2,458,000 and $1,957,000 at December 31, 2004 and 2003,
respectively.
  41
  **Note
3 -** ***Investment Securities***
 All
investment securities are classified as “Available for Sale” in each year
presented. There are no securities classified as “Held to Maturity” or “Trading”
in any year presented. The aggregate amortized cost, estimated fair value, and
gross unrealized gains and losses of investment securities available for sale at
December 31 are as follows:
  *(dollars
      in thousands)*
    
    **2004**
    **2003**Amortized
    
    **Gross**
      **Unrealized**
    
    **Estimated**
      **Fair**
    
    
    **Amortized**
    
    **Gross**
      **Unrealized**
    
    **Estimated**
      **Fair**Cost
    
    
    **Gains**
    
    
    **Losses**
    
    
    **Value**
    
    
    **Cost**
    
    
    **Gains**
    
    
    **Losses**
    
    
    **Value**U.S.
      government agencies
    
    $
    9,771
    
    $
    -
    
    
    ($135
    )
    $
    9,636
    
    $
    23,520
    
    $
    49
    
    
    ($397
    )
    $
    23,172Mortgage-backed
      securities
    
    
    30,199
    
    
    34
    
    
    (166
    )
    
    30,067
    
    
    44,054
    
    
    132
    
    
    (237
    )
    
    43,949State
      and municipal securities
    
    
    19,710
    
    
    530
    
    
    (105
    )
    
    20,135
    
    
    23,268
    
    
    666
    
    
    (168
    )
    
    23,766$
    59,680
    
    $
    564
    
    
    ($406
    )
    $
    59,838
    
    $
    90,842
    
    $
    847
    
    
    ($802
    )
    $
    90,887
 
 The
estimated fair value and gross unrealized losses of investment securities
available for sale at December 31, 2004 for securities with unrealized losses,
and the period of time the securities have been in a loss position, are
presented in the following table.
 *(dollars
      in thousands)*
    
    
    **Less
      than 12 months**
    
    
    **12
      months or longer**
    
    
    **Total**#
    
    
    **Fair
      Value**
    
    
    **Unrealized
      Losses**
    
    
    **#**
    
    
    **Fair**
      **Value**
    
    
    **Unrealized
      Losses**
    
    
    **#**
    
    
    **Fair
      Value**
    
    
    **Unrealized
      Losses**U.S.
      government agencies
    
    
    1
    
    $
    1,491
    
    
    ($9
    )
    
    5
    
    $
    8,145
    
    
    ($126
    )
    
    6
    
    $
    9,636
    
    
    ($135
    )Mortgage-backed
      securities
    
    
    11
    
    
    18,531
    
    
    (145
    )
    
    2
    
    
    2,062
    
    
    (21
    )
    
    13
    
    
    20,593
    
    
    (166
    )State
      and municipal securities
    
    
    4
    
    
    1,547
    
    
    (13
    )
    
    6
    
    
    2,296
    
    
    (92
    )
    
    10
    
    
    3,843
    
    
    (105
    )16
    
    $
    21,569
    
    
    ($167
    )
    
    13
    
    $
    12,503
    
    
    ($239
    )
    
    29
    
    $
    34,072
    
    
    ($406
    )
 The
unrealized losses on investments in U.S. government agencies, mortgage-backed
securities and state and municipal securities summarized above are considered to
be temporary impairments in value attributable to increases in interest rates,
rather than changes in credit quality. The agency securities and agency
mortgage-backed securities carry the implied guarantee of the U.S. Government
and the state and municipal securities all have a credit rating of at least AA
and are generally insured as well. The Company has demonstrated an ability to
hold securities until maturity, thus an actual loss may not be realized.
 
 The
amortized cost and estimated fair value of investment securities available for
sale at December 31, by contractual maturity, are shown in the following table.
Expected maturities may differ from contractual maturities because issuers may
have the right to call or prepay obligations with or without prepayment
penalties. Estimated fair value of securities was determined using quoted market
prices.
 
 *(dollars
      in thousands)*
    
    **2004**
    **2003**Amortized Cost
    
    
    **Estimated**
      **Fair****Value**
    
    
    **Amortized****Cost**
    
    
    **Estimated**
      **Fair****Value**Due
      in one year or less
    
    $
    -
    
    $
    -
    
    $
    -
    
    $
    -Due
      after one year, through five years
    
    
    1,362
    
    
    1,349
    
    
    1,153
    
    
    1,181Due
      after five years, through ten years
    
    
    15,457
    
    
    15,337
    
    
    31,684
    
    
    31,297Due
      after ten years
    
    
    42,861
    
    
    43,152
    
    
    58,005
    
    
    58,409$
    59,680
    
    $
    59,838
    
    $
    90,842
    
    $
    90,887
 
 The
change in the net unrealized gain on securities available for sale, net of
taxes, recorded in shareholders’ equity for the year ended December 31, 2004 was
$70,000. Investment securities with an approximate book value of $34,326,000 and
$43,788,000 at December 31, 2004 and 2003, respectively, were pledged to secure
public deposits and for other purposes as required or permitted by law.
Estimated fair values of securities pledged were $34,125,000 and $43,870,000 at
December 31, 2004 and 2003, respectively.
  42
  **Note
3 -** ***Investment Securities - continued***
 Information
related to the sale of securities classified as available for sale for each year
is as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Proceeds
      from sales of securities
    
    $
    28,972
    
    $
    29,547
    
    $
    19,945Gross
      realized gains on securities sold
    
    
    358
    
    
    391
    
    
    159Gross
      realized losses on securities sold
    
    
    275
    
    
    24
    
    
    42
 
 **Note
4 -** ***Investments in Stock***
 Summit
National Bank, as a member of the Federal Reserve Bank (“FRB”) and the Federal
Home Loan Bank of Atlanta (“FHLB”), is required to own capital stock in these
organizations. The amount of stock owned is based on the Bank’s capital levels
in the case of the FRB and totaled $255,000 at December 31, 2004 and 2003. The
amount of FHLB stock owned is determined based on the Bank’s balances of
residential mortgages and advances from the FHLB and totaled $2,938,000 and
$2,616,000 at December 31, 2004 and 2003, respectively. At December 31, 2004 and
2003, the Bank owns $133,000 of stock in The Bankers Bank located in Atlanta,
Georgia. No ready market exists for these stocks and they have no quoted market
value. However, redemption of these stocks has historically been at par value.
Accordingly, the carrying amounts are deemed to be a reasonable estimate of fair
value.
 
 **Note
5 -** ***Loans
and Allowance for Loan Losses***
 A summary
of loans by classification at December 31 is as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**Commercial
      and industrial
    
    $
    31,999
    
    $
    33,370Commercial
      secured by real estate
    
    
    81,943
    
    
    74,845Real
      estate - residential mortgages
    
    
    63,657
    
    
    64,921Real
      estate - construction
    
    
    56,254
    
    
    49,313Installment
      and other consumer loans
    
    
    5,182
    
    
    5,845Consumer
      finance, net of unearned incomeof
      $982 and $1,033
    
    
    3,049
    
    
    3,267Other
      loans and overdrafts
    
    
    376
    
    
    241242,460
    
    
    231,802Less
      - allowance for loan losses
    
    
    (3,649
    )
    
    (3,437
    )$
    238,811
    
    $
    228,365
 
 The
Company’s loan portfolio is composed of loans to individuals and small and
medium-sized businesses for various personal and commercial purposes primarily
in the Upstate of South Carolina and diversified as to borrowers. The Company
regularly monitors its credit concentrations based on loan purpose, industry,
and customer base. Industry concentrations parallel the mix of economic activity
in the Company’s markets, the most significant of which are the commercial real
estate, textile, and automobile and trucking industries. Although the portfolio
is affected by economic conditions, repayment of loans therein is not
excessively dependent on any specific economic segment. As of December 31, 2004,
there were no material concentrations of credit risk within the Company’s loan
portfolio as determined by management.
 
 Changes
in the allowance for loan losses for the years ended December 31 are as
follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Balance,
      beginning of year
    
    $
    3,437
    
    $
    3,369
    
    $
    2,937Provision
      for losses
    
    
    436
    
    
    786
    
    
    847Loans
      charged-off
    
    
    (576
    )
    
    (1,074
    )
    
    (647
    )Recoveries
      of loans previously charged-off
    
    
    352
    
    
    356
    
    
    232Balance,
      end of year
    
    $
    3,649
    
    $
    3,437
    
    $
    3,369
 
 43
  **Note
5 -** ***Loans
and Allowance for Loan Losses - continued***
 Nonperforming
assets and impaired loans at December 31 are as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Accruing
      loans, past due in excess of 90 days
    
    $
    156
    
    $
    170
    
    $
    187Nonaccrual
      loans, not considered impaired
    
    
    531
    
    
    587
    
    
    293Loans
      considered impaired under SFAS 114
    
    
    -
    
    
    -
    
    
    -Other
      real estate owned
    
    
    217
    
    
    125
    
    
    -
 
 There
were no loans considered impaired during 2004, 2003, or 2002. The amount of
foregone interest income that would have been recorded had the nonaccrual loans
performed according to their contractual terms amounted to approximately
$20,000, $27,000 and $10,000 during 2004, 2003 and 2002, respectively. Interest
income recognized on nonaccrual and impaired loans was approximately $33,000,
$33,000 and $15,000 during 2004, 2003 and 2002, respectively.
 
 **Note
6 -** ***Premises and Equipment***
 A summary
of premises and equipment at December 31 is as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**Land
    
    $
    1,651
    
    $
    1,043Building
      and leasehold improvements
    
    
    3,339
    
    
    3,336Furniture,
      fixtures, equipment and software
    
    
    3,183
    
    
    3,084Vehicles
    
    
    194
    
    
    188Construction
      and assets in process
    
    
    431
    
    
    988,798
    
    
    7,749Less
      - accumulated depreciation
    
    
    (3,993
    )
    
    (3,679
    )$
    4,805
    
    $
    4,070
 
 Depreciation
expense charged to operations totaled $388,000, $435,000, and $488,000 in 2004,
2003, and 2002, respectively.
 
 **Note
7 -** ***Deposits***
 The
scheduled maturities of time deposits subsequent to December 31 each year end
are as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**2004
    
    $
    -
    
    $
    112,8912005
    
    
    59,709
    
    
    4,2372006
    
    
    16,293
    
    
    5,1692007
    
    
    3,540
    
    
    6702008
    
    
    151
    
    
    2212009
    
    
    754
    
    
    -Thereafter
    
    
    -
    
    
    -$
    80,447
    
    $
    123,188
 
 At
December 31, 2004, the remaining maturity of time deposits in denominations in
excess of $100,000 is $9,796,000 in three months or less; $5,898,000 in over
three through six months; $15,612,000 in over six through 12 months; and
$7,619,000 in over 12 months.
 
 44
 ****
 **Note
8 -** ***Federal
Home Loan Bank Advances***
 Federal
Home Loan Bank (“FHLB”) advances represent borrowings from the FHLB of Atlanta
by the Bank pursuant to a line of credit collateralized by a blanket lien on
qualifying loans secured by first mortgages on 1-4 family residences, home
equity lines of credit, multi-family real estate, and commercial real estate.
Advances have various maturity dates, terms and repayment schedules with fixed
or variable rates of interest, payable monthly on maturities of one year or less
and payable quarterly on maturities over one year.
 
 Total
qualifying loans of the Bank pledged to the FHLB for advances at December 31,
2004 were approximately $73 million. In addition, investment securities with a
book value and market value of $9 million are pledged to the FHLB for advances.
The Bank has adopted the policy of pledging excess collateral to facilitate
future advances. At December 31, 2004, the Bank had a total credit facility with
the FHLB equal to 25% of the Bank’s total assets, limited to qualifying
collateral. Available credit at December 31, 2004 was approximately $1 million.
 
 At
December 31, 2004 fixed rate FHLB advances had initial maturities from one to
ten years. At December 31, 2004, included in the four, five, and greater than
five year maturities, detailed below, were advances totaling $17 million subject
to call provisions at the option of the FHLB with call dates ranging from
February 2005 to March 2008. Call provisions are more likely to be exercised by
the FHLB when rates rise. Advances totaling $4,000,000 at December 31, 2004 were
at variable rates based on three month LIBOR and were priced at from 2.16% to
2.46% as of year end, depending on the reset date.
 
 Advances
from the FHLB, including scheduled maturities subsequent to year end, at
December 31 consist of the following (*dollars in
thousands)*:
 
 **
    
    **2004**
    **2003****Maturing
      in year ended****December
      31,**
    
    
    **Amount**
    
    
    **Weighted**
      **Rate**
    
    
    **Amount**
    
    
    **Weighted**
      **Rate**2004
    
    $
    -
    
    
    -
    
    $
    11,000
    
    
    2.86
    %2005
    
    
    5,250
    
    
    2.39
    %
    
    2,000
    
    
    1.24
    %2006
    
    
    8,100
    
    
    3.61
    %
    
    8,700
    
    
    3.42
    %2007
    
    
    5,000
    
    
    3.46
    %
    
    5,400
    
    
    3.66
    %2008
    
    
    14,250
    
    
    3.05
    %
    
    15,250
    
    
    3.04
    %2009
    
    
    5,700
    
    
    2.87
    %
    
    -
    
    
    -Thereafter
    
    
    11,834
    
    
    3.37
    %
    
    9,967
    
    
    3.40
    %$
    50,134
    
    
    3.17
    %
    $
    52,317
    
    
    3.13
    %
 
 **Note
9 -** ***Short-Term
Borrowings***
 Federal
funds purchased represent unsecured overnight borrowings from other financial
institutions by the Bank. These borrowings bear interest at the prevailing
market rate for federal funds purchased. Average interest rates on federal funds
purchased were 1.34%, 1.55%, and 1.95% for the years ended December 31, 2004,
2003, and 2002, respectively. There were no outstanding balances of federal
funds purchased at December 31, 2004 or 2003. Average balances were $527,000,
$1,030,000, and $236,000 for 2004, 2003, and 2002, respectively. The maximum
balance of federal funds purchased at any time during 2004, 2003, and 2002 was
$10.0 million, $11.5 million, and $5.5 million, respectively. At December 31,
2004, the Bank had short-term lines of credit to purchase unsecured federal
funds from unrelated banks with available balances totaling $23.1 million. These
lines are generally available to be outstanding up to ten consecutive days for
general corporate purposes of the Bank and have specified repayment deadlines
after disbursement of funds. All of the lenders have reserved the right to
withdraw these lines at their option.
 
 Other
short-term borrowings outstanding during 2002 consisted of a term loan agreement
with an unrelated individual. This loan had an initial term of six months and
matured during 2002. This term loan was unsecured and paid interest at a fixed
rate. The weighted average interest rate on short-term borrowings outstanding
for the year ended December 31, 2002 was 3.88%.
  45
  **Note
10 -** ***Income
Taxes***
 The
provision for income taxes for the years ended December 31 is as
follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Current:Federal
    
    $
    1,754
    
    $
    1,558
    
    $
    1,584State
    
    
    217
    
    
    185
    
    
    1571,971
    
    
    1,743
    
    
    1,741Deferred:Federal
    
    
    (15
    )
    
    7
    
    
    (160
    )State
    
    
    3
    
    
    4
    
    
    4(12
    )
    
    11
    
    
    (156
    )Total
      tax provision
    
    $
    1,959
    
    $
    1,754
    
    $
    1,585
 
 Income
taxes are different than tax expense computed by applying the statutory federal
tax rate of 34% to income before income taxes. The reasons for the differences
for years ended December 31 are as follows:
  *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Tax
      expense at statutory rate
    
    $
    2,175
    
    $
    1,891
    
    $
    1,709State
      tax, net of federal benefit
    
    
    145
    
    
    125
    
    
    106Effect
      of tax exempt interest
    
    
    (294
    )
    
    (260
    )
    
    (227
    )Effect
      of tax exempt earnings on bank-owned
      life insurance
    
    
    (55
    )
    
    (51
    )
    
    (39
    )Other,
      net
    
    
    (12
    )
    
    49
    
    
    36Total
    
    $
    1,959
    
    $
    1,754
    
    $
    1,585
 
 The
sources and tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at December 31
are as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**Deferred
      tax assets:Allowance
      for loan losses deferred for tax purposes
    
    $
    1,196
    
    $
    1,139Book
      depreciation and amortization in excess of tax
    
    
    21
    
    
    19Nonqualified
      retirement plan expense deferred for tax purposes
    
    
    164
    
    
    128Gross
      deferred tax assets
    
    
    1,381
    
    
    1,286Deferred
      tax liabilities:Unrealized
      net gains on securities available for sale
    
    
    (60
    )
    
    (17
    )Compensation
      expense deferred for financial reporting
    
    
    (86
    )
    
    (12
    )Other
    
    
    (9
    )
    
    -Gross
      deferred tax liabilities
    
    
    (155
    )
    
    (29
    )Net
      deferred tax asset
    
    $
    1,226
    
    $
    1,257
 
 The net
deferred tax asset is included in “Other assets” in the accompanying
consolidated balance sheets. A portion of the change in the net deferred tax
asset relates to unrealized gains and losses on securities available for sale
for which a current period deferred tax expense of $43,000 has been recorded
directly to shareholders’ equity. The balance of the change in the net deferred
tax asset results from the current period deferred tax benefit of ($12,000). In
management’s opinion, it is more likely than not that the results of future
operations will generate sufficient income to realize the net deferred tax asset
and no valuation allowance is considered necessary at December 31,
2004.
  46
  **Note
11 -** ***Other
Income and Other Expenses***
 The
components of other operating income and other operating expenses for the years
ended December 31 are as follows:
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**
    
    
    **2002****Other
      Income:**Late
      charges and other loan fees
    
    $
    303
    
    $
    274
    
    $
    274Merchant
      discount income
    
    
    262
    
    
    428
    
    
    450Mortgage
      origination fees
    
    
    101
    
    
    325
    
    
    267Nondeposit
      product sales commission
    
    
    98
    
    
    99
    
    
    110Other
    
    
    401
    
    
    449
    
    
    313$
    1,165
    
    $
    1,575
    
    $
    1,414**Other
      Expenses:**Advertising
      and public relations
    
    $
    124
    
    $
    313
    
    $
    271Stationary,
      printing and office support
    
    
    386
    
    
    382
    
    
    357Merchant
      and credit card service expense
    
    
    185
    
    
    354
    
    
    386Legal
      and professional fees
    
    
    364
    
    
    466
    
    
    395Other
    
    
    715
    
    
    831
    
    
    658$
    1,774
    
    $
    2,346
    
    $
    2,067
 
 **Note
12 -** ***Common
Stock and Per Share Information***
 As of
December 31, 2004, there were approximately 994,000 common shares reserved for
issuance under stock compensation benefit plans, of which approximately 355,000
were available for issuance.
 
 The
following is a reconciliation of the denominators of the basic and diluted per
share computations for net income. There was no required adjustment to the
numerator from the net income reported on the accompanying consolidated
statements of income.
  **2004**
    **2003**
    **2002****Basic**
    
    
    **Diluted**
    
    
    **Basic**
    
    
    **Diluted**
    
    
    **Basic**
    
    
    **Diluted**Net
      income
    
    $
    4,439,000
    
    $
    4,439,000
    
    $
    3,807,000
    
    $
    3,807,000
    
    $
    3,442,000
    
    $
    3,442,000Average
      shares outstanding
    
    
    4,419,000
    
    
    4,419,000
    
    
    4,256,000
    
    
    4,256,000
    
    
    4,176,000
    
    
    4,176,000Effect
      of dilutive securities:
      Stock
      options
      Unvested
      restricted stock
    
    
    -
      -
    
    
    488,000
      17,000
    
    
    -
      -
    
    
    580,000
      6,000
    
    
    -
      -
    
    
    549,000
      19,0004,419,000
    
    
    4,924,000
    
    
    4,256,000
    
    
    4,842,000
    
    
    4,176,000
    
    
    4,744,000Per
      share amount
    
    $
    1.00
    
    $
    0.90
    
    $
    0.89
    
    $
    0.79
    
    $
    0.82
    
    $
    0.73
 
  **Note
13 -** ***Stock
Compensation Plans***
 The
Company has a Restricted Stock Plan for awards to certain key employees. Under
the Restricted Stock Plan, the Company may grant common stock to its employees
for up to 326,000 shares, with 230,000 shares available for grant at December
31, 2004. All shares granted under the Restricted Stock Plan are subject to
restrictions as to continuous employment for a specified time period following
the date of grant. During this period, the holder is entitled to full voting
rights and dividends. The restrictions as to transferability of shares granted
under this plan vest over a period of five years at a rate of 20% per year on
each anniversary date of the grant. At December 31, 2004, there were 96,000
shares of common stock outstanding which were issued under the Restricted Stock
Plan, of which 17,000 shares were unvested. Deferred compensation representing
the fair market value of the stock at the date of grant is amortized over the
five-year vesting period as the restrictions lapse. Included in the accompanying
consolidated statements of income under the caption “Salaries, wages and
benefits” is $71,000, $26,000, and $128,000 of amortized deferred compensation
for the years ended December 31, 2004, 2003 and 2002,
respectively.
  47
  **Note
13 -** ***Stock
Compensation Plans - continued***
 The
Company has two Incentive Stock Option Plans, one approved in 1989 (which has
expired and no additional grants may be made under it) and one approved in 2000,
and a nonqualified Non-Employee Stock Option Plan (collectively referred to as
stock-based option plans). Under the Incentive Stock Option Plans, options are
periodically granted to employees with an exercise price not less than the fair
market value of the shares at the date of grant. Options granted are exercisable
for a period of ten years from the date of grant and become exercisable at a
rate of 20% each year on the first five anniversaries of the date of grant. At
December 31, 2004, 261,000 shares of common stock are reserved under the
Incentive Stock Option Plans, and 79,000 of these reserved shares are available
to be granted under the 2000 Plan.
 
 Under the
Non-Employee Stock Option Plan, options have been granted with an exercise price
not less than the fair market value of the shares at the date of grant to
eligible non-employee directors as a retainer for their services as directors.
Options granted are exercisable for a period of ten years from the date of
grant. Options granted in 1995 became exercisable one year after the date of
grant. Options granted in 1996 become exercisable over a period of nine years at
a rate of 11.1% per year on each of the first nine anniversaries of the date of
grant. The Non-Employee Stock Option Plan authorizes the granting of stock
options up to a maximum of 407,000 shares of common stock. At December 31, 2004,
46,000 reserved shares of common stock are available to be issued under this
plan.
 
 All
outstanding options, option price, and option activity for all stock-based
option plans have been retroactively restated to reflect the effects of all 5%
stock dividends issued.
 
 A summary
of the activity under the stock-based option plans for the years ended December
31 and information about stock options outstanding under the stock-based option
plans at December 31, 2004 is as follows:
 
 **2004**
    **2003**
    **2002****Shares**
    
    
    **Weighted**
      **Average**
      **Exercise**
      **Price**
    
    
    **Shares**
    
    
    **Weighted**
      **Average**
      **Exercise**
      **Price**
    
    
    **Shares**
    
    
    **Weighted**
      **Average**
      **Exercise**
      **Price**Outstanding,
      January 1
    
    
    863,277
    
    $
    5.87
    
    
    968,221
    
    $
    5.67
    
    
    1,000,386
    
    $
    5.61Granted
    
    
    2,750
    
    $
    18.32
    
    
    4,641
    
    $
    17.48
    
    
    4,190
    
    $
    13.91Canceled
    
    
    (2,250
    )
    $
    10.78
    
    
    (10,489
    )
    $
    5.25
    
    
    (3,739
    )
    $
    9.55Exercised
    
    
    (188,627
    )
    $
    4.68
    
    
    (99,096
    )
    $
    4.50
    
    
    (32,616
    )
    $
    4.46Outstanding,
      December 31
    
    
    675,150
    
    $
    6.24
    
    
    863,277
    
    $
    5.87
    
    
    968,221
    
    $
    5.67Exercisable,
      December 31
    
    
    608,609
    
    $
    6.06
    
    
    735,002
    
    $
    5.64
    
    
    759,367
    
    $
    5.33
 
  ****
    
    **Options
      Outstanding**
    **Options
      Exercisable****Range
      of Exercise Price**
    
    
    **Number
      of**
      **Options**
      **Outstanding**
    
    
    **Weighted**
      **Average**
      **Remaining**
      **Contractual**
      **Life**
    
    
    **Weighted**
      **Average**
      **Exercise**
      **Price**
    
    
    **Nuber
      of**
      **Options**
      **Exercisable**
    
    
    **Weighted**
      **Average**
      **Exercise**
      **Price**$3.61
      - $4.83
    
    
    253,009
    
    
    0.9
      years
    
    $
    4.78
    
    
    226,948
    
    $
    4.78$5.25
      - $5.33
    
    
    221,449
    
    
    2.0
      years
    
    $
    5.33
    
    
    221,449
    
    $
    5.33$7.20
      - $8.64
    
    
    152,068
    
    
    5.3
      years
    
    $
    7.91
    
    
    120,234
    
    $
    7.91$9.16
      - $11.94
    
    
    36,144
    
    
    3.5
      years
    
    $
    11.59
    
    
    36,144
    
    $
    11.59$12.14
      - $13.91
    
    
    5,530
    
    
    5.6
      years
    
    $
    13.48
    
    
    2,994
    
    $
    13.12$17.86
      - $18.32
    
    
    6,950
    
    
    9.0
      years
    
    $
    18.04
    
    
    840
    
    $
    17.86$3.61
      - $18.32
    
    
    675,150
    
    
    2.5
      years
    
    $
    6.24
    
    
    608,609
    
    $
    6.06
 
  48
  **Note
14 -** ***Employee
Benefit Plans*** ****
 The
Company maintains an employee benefit plan for all eligible employees of the
Company and its subsidiaries under the provisions of Internal Revenue Code
Section 401K. The Summit Retirement Savings Plan (“the Plan”) allows for
employee contributions and, upon annual approval of the Board of Directors, the
Company matches employee contributions from one percent to a maximum of six
percent of deferred compensation. The matching contributions as a percent of
deferred compensation were 6% for each year 2004, 2003, and 2002. A total of
$188,000, $164,000, and $179,000, respectively, in 2004, 2003, and 2002 was
charged to operations for the Company’s matching contribution. Employees are
immediately vested in their contributions to the Plan and become fully vested in
the employer matching contribution after completion of six years of service, as
defined in the Plan.
 
 During
1998, Summit National Bank entered into salary continuation agreements with
several key management employees. Under the agreements, the Bank is obligated to
provide for each such executive officer or his beneficiaries, during a period of
20 years after the employee’s death, disability, or retirement, annual benefits
ranging from $43,000 to $130,000. The estimated present value of future benefits
to be paid is being accrued over the period from the effective date of the
agreements until the expected retirement dates of the participants. The expense
incurred and amount accrued for this nonqualified salary continuation plan,
which is an unfunded plan, for the years ended December 31, 2004, 2003 and 2002
amounted to $110,000, $87,000 and $69,000, respectively. To partially finance
benefits to be paid under this plan, the Bank purchased, and is the beneficiary
of, several life insurance policies. Proceeds from the insurance policies are
payable to the Company upon the death of the participant. The cash surrender
value of these policies included in the accompanying consolidated balance sheets
in “Other assets” was $3,876,000 and $3,737,000 at December 31, 2004 and 2003,
respectively.
 
 **Note
15 -** ***Regulatory
Restrictions***
 The
ability of the Company to pay cash dividends is dependent upon its receiving
cash in the form of dividends from the Bank. The dividends that may be paid by
the Bank to the Company are subject to legal limitations and regulatory capital
requirements. The approval of the Comptroller of the Currency is required if the
total of all dividends declared by a national bank in any calendar year exceeds
that bank’s net profits (as defined by the Comptroller) for that year combined
with its retained net profits (as defined by the Comptroller) for the two
preceding calendar years. The Bank paid cash dividends of $0.76 and $0.51,
respectively, per common share totaling $646,000 and $434,000, respectively, for
the year ended December 31, 2004 and 2003. It is currently the Bank’s intention
to pay all dividends only from the net income of the current year.
 
 Under
current Federal Reserve regulations, the Bank is limited in the amount it may
loan to the Company, the Finance Company, or other affiliates. Loans made by the
Bank to a single affiliate may not exceed 10%, and loans to all affiliates may
not exceed 20%, of the Bank’s capital, surplus, and undivided profits, after
adding back the allowance for loan losses. Based on these limitations,
approximately $6.9 million was available for loans to the Company and the
Finance Company at December 31, 2004. Certain collateral restrictions also apply
to loans from the Bank to its affiliates.
 
 **Note
16 -** ***Regulatory*** **** ***Capital
Requirements***
 The
Company and the Bank are subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory and possibly additional
discretionary actions by regulators that, if undertaken, could have a material
effect on the financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Company and the Bank must
meet specific capital guidelines that involve quantitative measures of the
Company’s and the Bank’s assets, liabilities and certain off-balance sheet items
as calculated under regulatory accounting practices. The Company’s and the
Bank’s capital amounts and classification are also subject to qualitative
judgments by the regulators about components, risk weightings, and other
factors.
 
 The
Company and the Bank are required to maintain minimum amounts and ratios of
total risk-based capital, Tier I capital, and Tier I leverage capital as set
forth in the table following. Management believes, as of December 31, 2004, that
the Company and the Bank meet all capital adequacy requirements to which they
are subject. At December 31, 2004 and 2003, the Bank is categorized as “well
capitalized” under the regulatory framework for prompt corrective action. There
are no current conditions or events that management believes would change the
Company’s or the Bank’s risk-based capital regulatory-defined
category.
  49
  **Note
16 -** ***Regulatory*** **** ***Capital
Requirements - continued***
 The
following table presents the Company’s and the Bank’s actual capital amounts and
ratios at December 31, 2004 and 2003 as well as the minimum calculated amounts
for each regulatory defined category. (*dollars in
thousands)*
  **
    
    **Actual**
    **To
      Be Categorized**
      **“Adequately
      Capitalized”**
    **To
      Be Categorized**
      **“Well
      Capitalized”******
    
    
    **Amount**
    
    
    **Ratio**
    
    
    **Amount**
    
    
    **Ratio**
    
    
    **Amount**
    
    
    **Ratio****As
      of December 31, 2004***The
      Company*Total
      capital to risk-weighted assets
    
    $
    40,511
    
    
    15.27
    %
    $
    21,228
    
    
    8.00
    %
    N.A.Tier
      1 capital to risk-weighted assets
    
    $
    37,190
    
    
    14.02
    %
    $
    10,614
    
    
    4.00
    %
    N.A.Tier
      1 capital to average assets
    
    $
    37,190
    
    
    11.39
    %
    $
    13,061
    
    
    4.00
    %
    N.A.*The
      Bank*Total
      capital to risk-weighted assets
    
    $
    34,246
    
    
    13.05
    %
    $
    20,994
    
    
    8.00
    %
    $
    26,242
    
    
    10.00
    %Tier
      1 capital to risk-weighted assets
    
    $
    30,963
    
    
    11.80
    %
    $
    10,497
    
    
    4.00
    %
    $
    15,745
    
    
    6.00
    %Tier
      1 capital to average assets
    
    $
    30,963
    
    
    9.57
    %
    $
    12,939
    
    
    4.00
    %
    $
    16,174
    
    
    5.00
    %**As
      of December 31, 2003***The
      Company*Total
      capital to risk-weighted assets
    
    $
    35,223
    
    
    13.75
    %
    $
    20,486
    
    
    8.00
    %
    N.A.Tier
      1 capital to risk-weighted assets
    
    $
    32,019
    
    
    12.50
    %
    $
    10,243
    
    
    4.00
    %
    N.A.Tier
      1 capital to average assets
    
    $
    32,019
    
    
    9.92
    %
    $
    12,911
    
    
    4.00
    %
    N.A.*The
      Bank*Total
      capital to risk-weighted assets
    
    $
    30,522
    
    
    12.05
    %
    $
    20,269
    
    
    8.00
    %
    $
    25,336
    
    
    10.00
    %Tier
      1 capital to risk-weighted assets
    
    $
    27,354
    
    
    10.80
    %
    $
    10,134
    
    
    4.00
    %
    $
    15,202
    
    
    6.00
    %Tier
      1 capital to average assets
    
    $
    27,354
    
    
    8.57
    %
    $
    12,772
    
    
    4.00
    %
    $
    15,965
    
    
    5.00
    %
 
 
 **Note
17 -** ***Contingent
Liabilities and Commitments***
 In the
normal course of business, the Company and its subsidiaries are periodically
subject to various pending or threatened lawsuits in which claims for monetary
damages may be asserted. In the opinion of the Company’s management, after
consultation with legal counsel, none of this litigation should have a material
adverse effect on the Company’s financial position or results of
operations.
 
 The
Company leases branch facilities for both the Bank and the Finance Company.
These leases have initial terms of from two to ten years and various renewal
options under substantially the same terms with certain rate escalations. Rent
expense charged to operations totaled $296,000, $294,000, and $290,000,
respectively, for the years ended December 31, 2004, 2003, and 2002. The annual
minimum rental commitments under the terms of the Company’s noncancellable
leases subsequent to December 31, 2004 are *(dollars in thousands)*:
 
 2005
    
    $
    1922006
    
    
    1402007
    
    
    872008
    
    
    782009
    
    
    78Thereafter
    
    
    214$
    789
  50
 **Note
18 -** ***Related
Party Transactions***
 Directors,
executive officers, and associates of such persons are customers of and have
transactions with the Company’s bank subsidiary in the ordinary course of
business. Included in such transactions are outstanding loans and commitments,
all of which are made under substantially the same credit terms, including
interest rates and collateral, as those prevailing at the time for comparable
transactions with unrelated persons and do not involve more than the normal risk
of collectibility. All loans to related parties were current and performing in
accordance with contractual terms at December 31, 2004. The aggregate dollar
amount of loans outstanding to related parties was approximately $4,846,000 and
$4,925,000 at December 31, 2004 and 2003, respectively. During 2004, new loans
and advances on lines of credit of approximately $829,000 were made, and
payments on these loans and lines totaled approximately $908,000. At December
31, 2004, there were commitments to extend additional credit to related parties
in the amount of approximately $2,019,000.
 
 **Note
19 -** ***Off-Balance
Sheet Financial Instruments***
 The
Company is party to financial instruments with off-balance sheet risk in the
normal course of business to meet the liquidity, credit enhancement, and
financing needs of its customers. These financial instruments include legally
binding commitments to extend credit and standby letters of credit and involve,
to varying degrees, elements of credit and interest rate risk in excess of the
amount recognized in the balance sheet. Credit risk is the principal risk
associated with these instruments. The contractual amounts of these instruments
represent the amount of credit risk should the instruments be fully drawn upon
and the customer defaults.
 
 To
control the credit risk associated with entering into commitments and issuing
letters of credit, the Company uses the same credit quality, collateral
policies, and monitoring controls in making commitments and letters of credit as
it does with its lending activities. The Company evaluates each customer’s
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Company upon extension of credit, is based on
management’s credit evaluation.
 
 Legally
binding commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments may expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. Standby letters of credit obligate the
Company to meet certain financial obligations of its customers, if, under the
contractual terms of the agreement, the customers are unable to do so. The
financial standby letters of credit issued by the Company are irrevocable.
Payment is only guaranteed under these letters of credit upon the borrower’s
failure to perform its obligations to the beneficiary. At December 31, 2004 and
2003, the Company has recorded no liability for the current carrying amount of
the obligation to perform as a guarantor, as such amounts are not considered
material.
 
 At
December 31, the Company’s total contractual amounts of commitments and letters
of credit are as follows:
 
 
 *(dollars
      in thousands)*
    
    
    **2004**
    
    
    **2003**Legally
      binding commitments to extend credit:Commercial
      and industrial
    
    $
    16,557
    
    $
    14,621Residential
      real estate, including prime equity lines
    
    
    20,031
    
    
    17,890Construction
      and development
    
    
    24,361
    
    
    12,968Consumer
      and overdraft protection
    
    
    2,336
    
    
    2,37363,285
    
    
    47,852Standby
      letters of credit
    
    
    3,529
    
    
    3,925Total
      commitments
    
    $
    66,814
    
    $
    51,777
  Approximately
$812,000 and $1,326,000 of total commitments at December 31, 2004 and 2003,
respectively, represent commitments to extend credit at fixed rates of interest,
which exposes the Company to some degree of interest rate risk.
  51
  **Note
20 -** ***Segment Information***
 The
Company reports information about its operating segments in accordance with SFAS
131, “ *Disclosures
about Segments of an Enterprise and Related Information* ”. Summit
Financial Corporation is the parent holding company for Summit National Bank
(“Bank”), a nationally chartered bank, and Freedom Finance, Inc. (“Finance”), a
consumer finance company. The Company considers the Bank and the Finance Company
separate business segments. Financial performance for each segment is detailed
in the following tables. Included in the “Corporate” column are amounts for
general corporate activities and eliminations of intersegment
transactions.
 
 *(dollars
      in thousands)*
    
    
    **Bank**
    
    
    **Finance**
    
    
    **Corporate**
    
    
    **Total****At
      and for the year ended****December
      31, 2004**Interest
      income
    
    $
    15,851
    
    $
    1,696
    
    $
    (5
    )
    $
    17,542Interest
      expense
    
    
    4,590
    
    
    126
    
    
    (126
    )
    
    4,590Net
      interest income
    
    
    11,261
    
    
    1,570
    
    
    121
    
    
    12,952Provision
      for loan losses
    
    
    135
    
    
    301
    
    
    -
    
    
    436Noninterest
      income
    
    
    2,005
    
    
    371
    
    
    (60
    )
    
    2,316Noninterest
      expenses
    
    
    7,025
    
    
    1,374
    
    
    35
    
    
    8,434Income
      before income taxes
    
    
    6,106
    
    
    266
    
    
    26
    
    
    6,398Income
      taxes
    
    
    1,851
    
    
    98
    
    
    10
    
    
    1,959Net
      income
    
    $
    4,255
    
    $
    168
    
    $
    16
    
    $
    4,439Net
      loans
    
    $
    236,154
    
    $
    2,829
    
    $
    (172
    )
    $
    238,811Total
      assets
    
    $
    317,843
    
    $
    3,301
    
    $
    (206
    )
    $
    320,938
  *(dollars
      in thousands)*
    
    
    **Bank**
    
    
    **Finance**
    
    
    **Corporate**
    
    
    **Total****At
      and for the year ended****December
      31, 2003**Interest
      income
    
    $
    15,642
    
    $
    1,829
    
    $
    (26
    )
    $
    17,445Interest
      expense
    
    
    5,156
    
    
    147
    
    
    (147
    )
    
    5,156Net
      interest income
    
    
    10,486
    
    
    1,682
    
    
    121
    
    
    12,289Provision
      for loan losses
    
    
    450
    
    
    336
    
    
    -
    
    
    786Noninterest
      income
    
    
    2,654
    
    
    336
    
    
    (60
    )
    
    2,930Noninterest
      expenses
    
    
    7,476
    
    
    1,367
    
    
    29
    
    
    8,872Income
      before income taxes
    
    
    5,214
    
    
    315
    
    
    32
    
    
    5,561Income
      taxes
    
    
    1,626
    
    
    116
    
    
    12
    
    
    1,754Net
      income
    
    $
    3,588
    
    $
    199
    
    $
    20
    
    $
    3,807Net
      loans
    
    $
    225,968
    
    $
    3,038
    
    $
    (641
    )
    $
    228,365Total
      assets
    
    $
    341,033
    
    $
    3,596
    
    $
    (708
    )
    $
    343,921
  *(dollars
      in thousands)*
    
    
    **Bank**
    
    
    **Finance**
    
    
    **Corporate**
    
    
    **Total****At
      and for the year ended****December
      31, 2002**Interest
      income
    
    $
    15,931
    
    $
    1,924
    
    $
    (34
    )
    $
    17,821Interest
      expense
    
    
    6,166
    
    
    184
    
    
    (176
    )
    
    6,174Net
      interest income
    
    
    9,765
    
    
    1,740
    
    
    142
    
    
    11,647Provision
      for loan losses
    
    
    530
    
    
    317
    
    
    -
    
    
    847Noninterest
      income
    
    
    2,394
    
    
    337
    
    
    (60
    )
    
    2,671Noninterest
      expenses
    
    
    7,037
    
    
    1,379
    
    
    28
    
    
    8,444Income
      before income taxes
    
    
    4,592
    
    
    381
    
    
    54
    
    
    5,027Income
      taxes
    
    
    1,423
    
    
    142
    
    
    20
    
    
    1,585Net
      income
    
    $
    3,169
    
    $
    239
    
    $
    34
    
    $
    3,442Net
      loans
    
    $
    213,318
    
    $
    3,298
    
    $
    (1,185
    )
    $
    215,431Total
      assets
    
    $
    298,484
    
    $
    3,938
    
    $
    (216
    )
    $
    302,206
  52
  **Note
21 -** ***Fair
Value of Financial Instruments***
 The
Company estimates the fair value of financial instruments in accordance with
SFAS 107, “ *Disclosures
about Fair Value of Financial Instruments”* . Fair
value is assumed to approximate book value for the following financial
instruments due to the short-term nature of the instrument: cash and due from
banks, interest-bearing bank balances, and federal funds sold. Fair value of
investment securities is estimated based on quoted market prices where
available. If quoted market prices are not available, fair values are based on
quoted market prices of comparable instruments.
 
 Fair
value for variable rate loans that reprice frequently and for loans that mature
in less that one year is based on the carrying value, reduced by an estimate of
credit losses inherent in the portfolio. Fair value of fixed rate real estate,
consumer, commercial and other loans maturing after one year is based on the
discounted present value of the estimated future cash flows, reduced by an
estimate of credit losses inherent in the portfolio. Discount rates used in
these computations approximate the rates currently offered for similar loans of
comparable terms and credit quality. The estimated fair market value of
commitments to extend credit and standby letters of credit are equal to their
carrying value as the majority of these off-balance sheet instruments have
relatively short terms to maturity and are written with variable rates of
interest.
 
 Fair
value for demand deposit accounts and variable rate interest-bearing accounts is
equal to the carrying value. Fair value of certificate of deposit accounts are
estimated by discounting cash flows from expected maturities using current
interest rates on similar instruments. Fair value for FHLB advances is based on
discounted cash flows using the current market rate.
 
 The
Company has used management’s best estimate of fair values based on the above
assumptions. Thus, the fair values presented may not be the amounts which could
be realized in an immediate sale or settlement of the instrument. In addition,
any income tax or other expenses which would be incurred in an actual sale or
settlement are not taken into consideration in the fair values presented.
 
 The
estimated fair values of the Company’s financial instruments as of December 31
are as follows (*dollars in thousands)*:
  **
    
    **2004**
    **2003****Carrying**
      **Amount**
    
    
    **Estimated**
      **Fair
      Value**
    
    
    **Carrying**
      **Amount**
    
    
    **Estimated**
      **Fair
      Value****Financial
      Assets:**Cash
      and due from banks
    
    $
    6,548
    
    $
    6,548
    
    $
    9,854
    
    $
    9,854Interest-bearing
      bank balances
    
    
    147
    
    
    147
    
    
    341
    
    
    341Federal
      funds sold
    
    
    218
    
    
    218
    
    
    201
    
    
    201Investment
      securities available for sale
    
    
    59,838
    
    
    59,838
    
    
    90,887
    
    
    90,887Investment
      in FHLB and other stock
    
    
    3,326
    
    
    3,326
    
    
    3,004
    
    
    3,004Loans,
      net
    
    
    238,811
    
    
    239,055
    
    
    228,365
    
    
    235,651**Financial
      Liabilities:**Deposits
    
    
    231,718
    
    
    231,581
    
    
    257,012
    
    
    257,872Federal
      Home Loan Bank advances
    
    
    50,134
    
    
    50,473
    
    
    52,317
    
    
    52,148
 
 53
  **Note
22 -** ***Quarterly
Operating Results (unaudited)***
 Consolidated
quarterly operating data for the years ended December 31 is summarized as
follows (per share data has been restated to reflect all 5% stock dividends
issued) *(dollars in thousands, except per share
data*):
 
 **2004**
    **2003******
    
    
    **First**
      **Quarter**
    
    
    **Second**
      **Quarter**
    
    
    **Third**
      **Quarter**
    
    
    **Fourth**
      **Quarter**
    
    
    **First**
      **Quarter**
    
    
    **Second**
      **Quarter**
    
    
    **Third**
      **Quarter**
    
    
    **Fourth**
      **Quarter**Interest
      income
    
    $
    4,443
    
    $
    4,198
    
    $
    4,282
    
    $
    4,619
    
    $
    4,329
    
    $
    4,424
    
    $
    4,280
    
    $
    4,412Interest
      expense
    
    
    1,179
    
    
    1,138
    
    
    1,100
    
    
    1,173
    
    
    1,368
    
    
    1,363
    
    
    1,207
    
    
    1,218Net
      interest income
    
    
    3,264
    
    
    3,060
    
    
    3,182
    
    
    3,446
    
    
    2,961
    
    
    3,061
    
    
    3,073
    
    
    3,194Provision
      for loan losses
    
    
    210
    
    
    (50
    )
    
    33
    
    
    243
    
    
    173
    
    
    229
    
    
    100
    
    
    284Net
      interest income after provision
    
    
    3,054
    
    
    3,110
    
    
    3,149
    
    
    3,203
    
    
    2,788
    
    
    2,832
    
    
    2,973
    
    
    2,910Noninterest
      income
    
    
    620
    
    
    599
    
    
    548
    
    
    549
    
    
    761
    
    
    855
    
    
    758
    
    
    556Noninterest
      expenses
    
    
    2,242
    
    
    2,106
    
    
    2,044
    
    
    2,042
    
    
    2,223
    
    
    2,148
    
    
    2,316
    
    
    2,185Income
      before taxes
    
    
    1,432
    
    
    1,603
    
    
    1,653
    
    
    1,710
    
    
    1,326
    
    
    1,539
    
    
    1,415
    
    
    1,281Income
      taxes
    
    
    445
    
    
    483
    
    
    505
    
    
    526
    
    
    417
    
    
    480
    
    
    445
    
    
    412Net
      income
    
    $
    987
    
    $
    1,120
    
    $
    1,148
    
    $
    1,184
    
    $
    909
    
    $
    1,059
    
    $
    970
    
    $
    869***Net
      income per share:***Basic
    
    $
    0.23
    
    $
    0.25
    
    $
    0.26
    
    $
    0.26
    
    $
    0.21
    
    $
    0.25
    
    $
    0.23
    
    $
    0.20Diluted
    
    $
    0.20
    
    $
    0.23
    
    $
    0.23
    
    $
    0.24
    
    $
    0.19
    
    $
    0.22
    
    $
    0.20
    
    $
    0.18***Average
      common shares******outstanding:***Basic
    
    
    4,320,000
    
    
    4,432,000
    
    
    4,448,000
    
    
    4,476,000
    
    
    4,213,000
    
    
    4,253,000
    
    
    4,262,000
    
    
    4,296,000Diluted
    
    
    4,857,000
    
    
    4,944,000
    
    
    4,941,000
    
    
    4,952,000
    
    
    4,781,000
    
    
    4,842,000
    
    
    4,843,000
    
    
    4,899,000
 
 
 **Note
23 -** ***Parent
Company Financial Information***
 The
following is condensed financial information of Summit Financial Corporation
(parent company only) at December 31, 2004 and 2003 and for the years ended
December 31, 2004, 2003, and 2002.
 
 **SUMMIT
FINANCIAL CORPORATION**
 **Condensed
Balance Sheets**
 (Dollars
in Thousands)
  **December
      31,****
    
    
    **2004**
    
    
    **2003****Assets**Cash
    
    $
    3,173
    
    $
    1,791Investment
      in bank subsidiary
    
    
    31,061
    
    
    27,382Investment
      in nonbank subsidiary
    
    
    821
    
    
    653Due
      from subsidiaries
    
    
    2,236
    
    
    2,428Other
      assets
    
    
    25
    
    
    -$
    37,316
    
    $
    32,254**Liabilities
      and Shareholders’ Equity**Accruals
      and other liabilities
    
    $
    51
    
    $
    49Due
      to subsidiaries
    
    
    -
    
    
    -Shareholders’
      equity
    
    
    37,265
    
    
    32,205$
    37,316
    
    $
    32,254
 
 54
  **Note
23 -** ***Parent
Company Financial Information - continued***
 
 
 **SUMMIT
FINANCIAL CORPORATION**
 **Condensed
Statements of Income**
 (Dollars in Thousands)
 
 **For
      the Years Ended December 31,****
    
    
    **2004**
    
    
    **2003**
    
    
    **2002**Interest
      income
    
    $
    121
    
    $
    121
    
    $
    142Interest
      expense
    
    
    -
    
    
    -
    
    
    -Net
      interest income
    
    
    121
    
    
    121
    
    
    142Noninterest
      expenses
    
    
    95
    
    
    89
    
    
    88Net
      operating income
    
    
    26
    
    
    32
    
    
    54Equity
      in undistributed net incomeof
      subsidiaries
    
    
    4,423
    
    
    3,787
    
    
    3,408Income
      before taxes
    
    
    4,449
    
    
    3,819
    
    
    3,462Income
      taxes
    
    
    10
    
    
    12
    
    
    20Net
      income
    
    $
    4,439
    
    $
    3,807
    
    $
    3,442
 
 
 **SUMMIT
FINANCIAL CORPORATION**
 **Condensed
Statements of Cash Flows**
 (Dollars in Thousands)
 
 **For
      the Years Ended December 31,****
    
    
    **2004**
    
    
    **2003**
    
    
    **2002****Operating
      activities:**Net
      income
    
    $
    4,439
    
    $
    3,807
    
    $
    3,442Adjustments
      to reconcile net income to net cashprovided
      by operating activities:Equity
      in undistributed net income of subsidiaries
    
    
    (4,423
    )
    
    (3,787
    )
    
    (3,408
    )(Increase)
      decrease in other assets
    
    
    (25
    )
    
    -
    
    
    2Increase
      in other liabilities
    
    
    2
    
    
    10
    
    
    4Amortization
      of deferred compensation
    
    
    71
    
    
    26
    
    
    128Net
      cash provided by operating activities
    
    
    64
    
    
    56
    
    
    168**Investing
      activities:**Net
      decrease in due from subsidiaries
    
    
    461
    
    
    33
    
    
    8Net
      (decrease) increase in due to subsidiaries
    
    
    -
    
    
    (14
    )
    
    12Net
      cash provided by investing activities
    
    
    461
    
    
    19
    
    
    20**Financing
      activities:**Employee
      stock options exercised
    
    
    884
    
    
    446
    
    
    145Cash
      dividends declared ($0.15 per common share)
    
    
    (673
    )
    
    (430
    )
    
    -Cash
      dividends received from subsidiary
    
    
    646
    
    
    434
    
    
    -Cash
      paid in lieu of fractional shares
    
    
    -
    
    
    (7
    )
    
    (4
    )Net
      cash provided by financing activities
    
    
    857
    
    
    443
    
    
    141Net
      increase in cash and cash equivalents
    
    
    1,382
    
    
    518
    
    
    329Balance,
      beginning of year
    
    
    1,791
    
    
    1,273
    
    
    944Balance,
      end of year
    
    $
    3,173
    
    $
    1,791
    
    $
    1,273
  55
  **REPORT
OF INDEPENDENT REGISTERED****PUBLIC ACCOUNTING
FIRM**
 
 The Board
of Directors
 Summit
Financial Corporation
 
 We have
audited the accompanying consolidated balance sheets of Summit Financial
Corporation and subsidiaries (the “Company”) as of December 31, 2004 and 2003,
and the related consolidated statements of income, stockholders’ equity and
comprehensive income, and cash flows for each of the years in the three-year
period ended December 31, 2004. These consolidated financial statements are the
responsibility of the Company’s management. Our responsibility is to express an
opinion on these consolidated financial statements based on our
audits.
  We
conducted our audits  in
accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
  In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Summit Financial Corporation
and subsidiaries as of December 31, 2004 and 2003, and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 2004, in conformity with U.S. generally accepted accounting
principles.
  Greenville,
      South Carolina
    /s/
      KPMG LLPFebruary
      22, 2005
 
 
 **MANAGEMENT’S
REPORT**
 
 Primary
responsibility for the integrity and objectivity of the Company’s consolidated
financial statements rests with management. The accompanying consolidated
financial statements are prepared in conformity with accounting principles
generally accepted in the United States of America and accordingly include
amounts that are based on management’s best estimates and judgments.
Non-financial information included in the Summary Annual Report to Shareholders
has also been prepared by management and is consistent with the consolidated
financial statements.
  To assure
that financial information is reliable and data is presented fairly in the
financial statements, management has established and maintains an internal
control structure which is supplemented by a program of internal audits. The
internal control structure is designed to provide reasonable assurance that
assets are safeguarded and transactions are executed, recorded and reported in
accordance with management intentions and authorizations. The internal control
structure includes disclosure controls and procedures and internal controls over
financial reporting.
  To assure
the effective administration of the system of internal controls, the Company
develops and widely disseminates written policies and procedures, provides
adequate communication channels and fosters an environment conducive to the
effective functioning of internal controls. All employees of the Company are
informed of the need to conduct our business affairs in accordance with the
highest ethical standards. The Company has set forth a written code of business
conduct and ethics and communicated it to all employees.
  The Audit
Committee, composed entirely of outside directors, meets periodically
(separately and jointly) with Company management, the internal auditor, and the
independent auditors, KPMG LLP, to review matters relative to the quality of
financial reporting, internal control, and the nature, timing, extent and
results of the audit efforts. KPMG LLP, have audited the Company’s consolidated
financial statements in accordance with standards of the Public Company
Accounting Oversight Board (United States), as described in their
report.
  J.
      Randolph Potter
    Blaise
      B. Bettendorf*President
      and Chief Executive Officer*
    *Senior
      Vice President and Chief Financial
Officer*
  56
 ****
 **Item 9. **CHANGES
IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURES****
  There
have been no changes in or disagreements with accountants on accounting and
financial disclosure as defined by Item 304 of Regulation S-K.
 
 
 **Item 9A. CONTROLS AND PROCEDURES**
 
 (a)
Evaluation of Disclosure Controls and Procedures
 
 The
Company’s principal executive officer and principal financial officer have
evaluated the effectiveness of the Company’s “disclosure controls and
procedures,” as such term is defined in Rule 13a-15(e) under the Securities
Exchange Act of 1934, as amended, (“the Exchange Act”) as of the end of the
period covered by this report. Based upon this evaluation, the principal
executive officer and principal financial officer have concluded that the
Company’s disclosure controls and procedures are designed and effective to
provide reasonable assurance that information required to be disclosed by the
Company in the reports filed or submitted by it under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in the Securities and Exchange Commission’s rules and forms, and to provide
reasonable assurance that information required to be disclosed by the Company in
such reports is accumulated and communicated to the Company’s management,
including its principal executive officer and principal financial officer, as
appropriate to allow timely decisions regarding required disclosure.
 
 (b)
Changes in Internal Controls
 
 There was
no significant change in the Company’s “internal control over financial
reporting” (as such term is defined in Rule 13a-15(f) under the Exchange Act)
that occurred during the last fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the Company’s internal control over
financial reporting.
 
 
 **Item 9B. OTHER INFORMATION**
 
 There was
no information required to be disclosed by the Company in a report on Form 8-K
during the fourth quarter of 2004 that was not disclosed.
 
  57
  **PART
III**
 
 **Item
10.** **DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT**
 
 The
information required by this item is set forth under the headings “Proposal 1 -
Election of Directors”, “Executive Officers and Compensation”, “Section 16(a)
Beneficial Ownership Reporting Compliance”, and “Audit Committee Matters” in the
definitive Proxy Statement of the Company filed in connection with its 2005
Annual Meeting of Shareholders, which information is incorporated herein by
reference.
 
 The
Company has adopted a Code of Ethics for its directors, chief executive officer,
chief financial officer, controller and all employees. A copy of the Company’s
Code of Ethics will be furnished to any interested party, without charge, upon
written request to: Ms. Blaise B. Bettendorf, CFO, Summit Financial Corporation,
Post Office Box 1087, Greenville, South Carolina, 29602.
 
 **Item
11.** **EXECUTIVE COMPENSATION**
 
 The
information required by this item is set forth under the headings “Directors’
Compensation”, “Executive Officers and Compensation”, “Compensation Committee
Report”, and “Stock Performance Graph” in the definitive Proxy Statement of the
Company filed in connection with its 2005 Annual Meeting of Shareholders, which
information is incorporated herein by reference.
 
 **Item
12.** **SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER
MATTERS**
 
 (a)
Security Ownership of Certain Beneficial Owners
 
 The
information required by this item is set forth under the headings “Stock
Ownership” ** and
“Proposal 1 - Election of Directors” in the definitive Proxy Statement of the
Company filed in connection with its 2005 Annual Meeting of Shareholders, which
information is incorporated herein by reference.
 
 (b)
Security Ownership of Management
 
 The
information required by this item is set forth under the headings “Stock
Ownership” ** and
“Proposal 1 - Election of Directors” in the definitive Proxy Statement of the
Company filed in connection with its 2005 Annual Meeting of Shareholders, which
information is incorporated herein by reference.
 
 (c)
Change in Control
 
 The
Company is not aware of any arrangements, including any pledge by any person of
securities of the Company, the operation of which may at a subsequent date
result in a change in control of the registrant.
 
 (d)
Equity Compensation Plan Information as of December 31, 2004
 
 **EQUITY
COMPENSATION PLAN INFORMATION**
 
 (a)
      Plan
      Category
    
    
    (b)
      
      
      Number
      of Securities to be
      Issued
      Upon Exercise of
      Outstanding
      Options,
      Warrants,
      and Rights
    
    
    (c)
      
      
      
      Weighted-Average
      Price of
      Outstanding
      Options,
      Warrants,
      and Rights
    
    
    (d)
      Number
      of Securities
      Remaining
      Available for
      Future
      Issuance under Equity
      Compensation
      Plans
      (excluding
      securities in
      column
      (a))Equity
      compensation plansapproved
      by shareholders
    
    
    675,150
    
    $
    6.24
    
    
    354,323Equity
      compensation plansnot
      approved by shareholders
    
    
    N/A
    
    
    N/A
    
    
    N/ATotal
    
    
    675,150
    
    $
    6.24
    
    
    354,323
  58
  **Item
13.** **CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS**
 
 The
information required by this item is set forth under the heading “Compensation
Committee Interlocks and Insider Participation” and “Transactions with
Management” in the definitive Proxy Statement of the Company filed in connection
with its 2005 Annual Meeting of Shareholders, which information is incorporated
herein by reference.
 
 **Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES**
 
 The
information required by this item is set forth under the heading “Audit
Committee Matters” in the definitive Proxy Statement of the Company filed in
connection with its 2005 Annual Meeting of Shareholders, which information is
incorporated herein by reference.
       **PART
IV**
 
 **Item 15.**  **EXHIBITS AND FINANCIAL STATEMENT SCHEDULES**
 
 1.
    The
      following consolidated financial statements and report of independent
      auditors of the Company are included in Part II, Item 8
      hereof:
 
 Consolidated
Balance Sheets as of December 31, 2004 and 2003
 Consolidated
Statements of Income For The Years Ended December 31, 2004, 2003 and
2002
 Consolidated
Statements of Shareholders’ Equity And Comprehensive Income For The Years Ended
December 31, 2004, 2003, and 2002
 Consolidated
Statements of Cash Flows For The Years Ended December 31, 2004, 2003, and
2002
 Notes to
Consolidated Financial Statements
 Report of
Independent Registered Public Accounting Firm
 
 2.
    Financial
      statement schedules required by Regulation
S-X:
 
 All other
consolidated financial statements or schedules have been omitted since the
required information is included in the consolidated financial statements or
notes thereto referenced above, or is not applicable or required.
 
 3.
    Exhibits
      required by Item 601 of Regulation S-K:
 
 3.1
    Articles
      of Incorporation, as amended (incorporated by reference to Exhibit 3.1
      filed with the Registrant's Registration Statement on Form S-1 Under The
      Securities Act of 1933, File No. 33-31466).3.2
    Amended
      and Restated Bylaws (incorporated by reference to Exhibit 3.2 filed with
      the Registrant's Quarterly Report on Form 10-Q for the quarterly period
      ended June 30, 2003, File No. 000-19235).4.
    Form
      of Certificate for Common Stock (incorporated by reference to Exhibit 4
      filed with the Registrant's Registration Statement on Amendment No. 1 To
      Form S-1 Under The Securities Act of 1933, File No.
    33-31466).10.1
      ***
    Summit
      Financial Corporation Incentive Stock Plan (incorporated by reference to
      Exhibit 10.1 filed with the Registrant's Registration Statement on Form
      S-1 Under The Securities Act of 1933, File No.
  33-31466).10.2
    Lease
      Agreement for North Pleasantburg Drive Bank Site (incorporated by
      reference to Exhibit 10.2 filed with the Registrant's Registration
      Statement on Form S-1 Under The Securities Act of 1933, File No.
      33-31466).10.3
      ***
    Employment
      Agreement of J. Randolph Potter dated December 21, 1998 (incorporated by
      reference to Exhibit 10.3 filed with the Registrant’s Annual Report on
      Form 10-K for the year ended December 31, 1998, File No.
      000-19235).10.4
      ***
    Employment
      Agreement of Blaise B. Bettendorf dated December 21, 1998 (incorporated by
      reference to Exhibit 10.4 filed with the Registrant’s Annual Report on
      Form 10-K for the year ended December 31, 1998, File No.
      000-19235).10.5
      ***
    Summit
      Financial Corporation Restricted Stock Plan****(incorporated
      by reference to Exhibit 10.5 filed with the Registrant’s Annual Report on
      Form 10-K for the year ended December 31, 1993, File No.
      000-19235).10.6
      ***
    Summit
      Financial Corporation Non-Employee Stock Option Plan (incorporated by
      reference to Exhibit 10.6 filed with the Registrant’s Annual Report on
      Form 10-K for the year ended December 31, 1994, File No.
      000-19235).10.7
      ***
    Employment
      Agreement of James B. Schwiers dated September 2, 1999 (incorporated by
      reference to Exhibit 10.7 filed with the Registrant’s Annual Report on
      Form 10-K for the year ended December 31, 1999, File No.
      000-19235).10.8
      ***
    Summit
      Financial Corporation 1999 Incentive Stock Plan (incorporated by reference
      to Exhibit 10.8 filed the Registrant’s Annual Report on Form 10-K for the
      year ended December 31, 1999, File No. 000-19235).10.9
      ***
    Employment
      Agreement of James G. Bagnal dated April 20, 2001 (incorporated by
      reference to Exhibit 10.9 filed with the Registrant’s Annual Report on
      Form 10-K for the year ended December 31, 2001, File No.
      000-19235).10.10
    Lease
      Agreement for East North Street Bank Site (incorporated by reference to
      Exhibit 10.10 filed with the Registrant’s Annual Report on Form 10-K for
      the year ended December 31, 2001, File No. 000-19235).10.11
      ***
    Salary
      Continuation Agreement of J. Randolph Potter dated September 9, 1998
      (incorporated by reference to Exhibit 10.11 filed with the Registrant’s
      Annual Report on Form 10-K for the year ended December 31, 2001, File No.
      000-19235).10.12
      ***
    Salary
      Continuation Agreement of Blaise B. Bettendorf dated September 9, 1998
      (incorporated by reference to Exhibit 10.12 filed with the Registrant’s
      Annual Report on Form 10-K for the year ended December 31, 2001, File No.
      000-19235).10.13
      ***
    Salary
      Continuation Agreement of James B. Schwiers dated September 9, 1998
      (incorporated by reference to Exhibit 10.13 filed with the Registrant’s
      Annual Report on Form 10-K for the year ended December 31, 2001, File No.
      000-19235).
  59
  21.
    Subsidiaries
      of Summit Financial Corporation:Summit
      National Bank, a nationally chartered bank, incorporated in South
      CarolinaSummit
      Investment Services, Inc., a subsidiary of Summit National Bank,
      incorporated in South CarolinaFreedom
      Finance, Inc., a consumer finance company, incorporated in South
      Carolina23.
    Consent
      of KPMG LLP with regard to S-8 Registration Statements for Summit
      Financial Corporation Restricted Stock Plan (as filed with the Securities
      and Exchange Commission, “SEC”, August 23, 1994, File No. 33-83538);
      Summit Financial Corporation Incentive Stock Option Plan (as filed with
      the SEC July 19, 1995, File No. 33-94962); Summit Financial Corporation
      1995 Non-Employee Stock Option Plan (as filed with the SEC July 19, 1995,
      File No. 33-94964) and Summit Financial Corporation 1999 Incentive Stock
      Option Plan (as filed with the SEC November 21,2003, File No.
      333-101367).31.1
    Rule
      13a - 14(a) Certification of Chief Executive Officer pursuant to Section
      302 of the Sarbanes Oxley Act of 2002.31.2
    Rule
      13a - 14(a) Certification of Chief Financial Officer pursuant to Section
      302 of the Sarbanes Oxley Act of 2002.32.1
    Section
      1350 Certificate of Chief Executive Officer furnished pursuant to Section
      906 of the Sarbanes Oxley Act of 2002.32.2
    Section
      1350 Certificate of Chief Financial Officer furnished pursuant to Section
      906 of the Sarbanes Oxley Act of 2002.
 
 
 *** -
Management contracts or compensatory plan or arrangement.
 
 
 The
exhibits listed above will be furnished to any security holder upon written
request to Ms. Blaise B. Bettendorf, Chief Financial Officer, Summit Financial
Corporation, Post Office Box 1087, Greenville, South Carolina 29602. The
Registrant will charge a fee of $.50 per page for photocopying such
exhibit.
  60
  
 **SIGNATURES**
 Pursuant
to the requirements of Section 13 or 15(d) 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.
 
 **SUMMIT
      FINANCIAL CORPORATION**Dated:
      February 22, 2005
    J.
      Randolph Potter, President
 
 Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the Registrant and in the
capacities and on the dates indicated.
 
 
 ******SIGNATURE**
    **TITLE**
    **DATE**/s/
      J. Randolph Potter
    President,
      Chief Executive Officer and Director
    February
      22, 2005J.
      Randolph Potter/s/
      Blaise B. Bettendorf
    Senior
      Vice President (Principal Financial and Accounting
Officer)
    February
      22, 2005Blaise
      B. Bettendorf/s/
      C. Vincent Brown
    Chairman,
      Director
    February
      22, 2005C.
      Vincent Brown/s/
      David C. Poole
    Secretary,
      Director
    February
      22, 2005David
      C. Poole/s/
      James G. Bagnal, III
    Director
    February
      22, 2005James
      G. Bagnal, III/s/
      Ivan E. Block
    Director
    February
      22, 2005Ivan
      E. Block/s/
      J. Earle Furman, Jr.
    Director
    February
      22, 2005J.
      Earle Furman, Jr._/s/
      John W. Houser
    Director
    February
      22, 2005John
      W. Houser/s/
      T. Wayne McDonald
    Director
    February
      22, 2005T.
      Wayne McDonald/s/
      Allen H. McIntyre
    Director
    February
      22, 2005Allen
      H. McIntyre_/s/
      Larry A. McKinney
    Director
    February
      22, 2005Larry
      A. McKinney/s/
      James B. Schwiers
    Director
    February
      22, 2005James
      B. Schwiers
  61