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 [NO FEE REQUIRED]

For the Fiscal Year Ended December 31, 1997

|_|        TRANSITIONAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
           EXCHANGE ACT OF 1934 [NO FEE REQUIRED]

For the transition period from                          to
                               ------------------------    ---------------------

                         Commission File Number: 0-17353

                            FMS FINANCIAL CORPORATION
             -----------------------------------------------------
             (Exact name of registrant as specified in its charter)

              New Jersey                                        22-2916440
---------------------------------------------                -------------------
(State or other jurisdiction of incorporation                 (I.R.S. Employer
          or organization)                                   Identification No.)

        3 Sunset Road, Burlington, New Jersey                    08016
-------------------------------------------------           --------------------
         (Address of principal executive offices)               (Zip Code)

Registrant's telephone number, including area code:           (609) 386-2400
                                                            --------------------

Securities registered pursuant to Section 12(b) of the Act:         None
                                                            --------------------

Securities registered pursuant to Section 12(g) of the Act:

                     Common Stock, par value $.10 per share
                     --------------------------------------
                                (Title of Class)

         Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the  Securities  Exchange  Act of
1934  during  the  preceding  12 months  (or for such  shorter  period  that the
registrant was required to file such reports),  and (2) has been subject to such
filing requirements for the past 90 days. YES  X     NO    .
                                              ---       ---
         Indicate by check mark if disclosure of delinquent  filers  pursuant to
Item 405 of Regulation S-K 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]

         Based  on  the  closing   sales  price  of  $35.00  per  share  of  the
registrant's  common stock on March 2, 1998, as reported on the Nasdaq  National
Market System the aggregate market value of voting stock held by  non-affiliates
of the  registrant was  approximately  $83.9  million.  On such date,  2,397,966
shares of the registrant's Common Stock were outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

     1.   Portions of 1997 Annual Report to Stockholders (Parts II and IV)

     2.   Portions  of  Proxy   Statement   for  the  1998  Annual   Meeting  of
          Stockholders. (Part III)


<PAGE>
                                     PART I

         FMS FINANCIAL  CORPORATION  (THE  "CORPORATION")  MAY FROM TIME TO TIME
MAKE  WRITTEN  OR  ORAL  "FORWARD-LOOKING   STATEMENTS",   INCLUDING  STATEMENTS
CONTAINED  IN  THE  CORPORATION'S  FILINGS  WITH  THE  SECURITIES  AND  EXCHANGE
COMMISSION (INCLUDING THIS ANNUAL REPORT ON FORM 10-K AND THE EXHIBITS THERETO),
IN ITS REPORTS TO STOCKHOLDERS AND IN OTHER  COMMUNICATIONS  BY THE CORPORATION,
WHICH ARE MADE IN GOOD FAITH BY THE  CORPORATION  PURSUANT TO THE "SAFE  HARBOR"
PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995.

         THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES,  SUCH
AS STATEMENTS OF THE CORPORATION'S PLANS,  OBJECTIVES,  EXPECTATIONS,  ESTIMATES
AND INTENTIONS,  THAT ARE SUBJECT TO CHANGE BASED ON VARIOUS  IMPORTANT  FACTORS
(SOME OF WHICH ARE BEYOND THE  CORPORATION'S  CONTROL).  THE FOLLOWING  FACTORS,
AMONG OTHERS,  COULD CAUSE THE  CORPORATION'S  FINANCIAL  PERFORMANCE  TO DIFFER
MATERIALLY FROM THE PLANS,  OBJECTIVES,  EXPECTATIONS,  ESTIMATES AND INTENTIONS
EXPRESSED IN SUCH FORWARD-LOOKING  STATEMENTS: THE STRENGTH OF THE UNITED STATES
ECONOMY  IN  GENERAL  AND THE  STRENGTH  OF THE  LOCAL  ECONOMIES  IN WHICH  THE
CORPORATION CONDUCTS OPERATIONS; THE EFFECTS OF, AND CHANGES IN, TRADE, MONETARY
AND FISCAL POLICIES AND LAWS,  INCLUDING  INTEREST RATE POLICIES OF THE BOARD OF
GOVERNORS OF THE FEDERAL RESERVE SYSTEM,  INFLATION,  INTEREST RATE,  MARKET AND
MONETARY FLUCTUATIONS;  THE TIMELY DEVELOPMENT OF AND ACCEPTANCE OF NEW PRODUCTS
AND  SERVICES  OF THE  CORPORATION  AND THE  PERCEIVED  OVERALL  VALUE  OF THESE
PRODUCTS  AND SERVICES BY USERS,  INCLUDING  THE  FEATURES,  PRICING AND QUALITY
COMPARED TO  COMPETITORS'  PRODUCTS AND SERVICES;  THE  WILLINGNESS  OF USERS TO
SUBSTITUTE COMPETITORS' PRODUCTS AND SERVICES FOR THE CORPORATION'S PRODUCTS AND
SERVICES;  THE SUCCESS OF THE CORPORATION IN GAINING REGULATORY  APPROVAL OF ITS
PRODUCTS  AND  SERVICES,  WHEN  REQUIRED;  THE IMPACT OF  CHANGES  IN  FINANCIAL
SERVICES'  LAWS AND  REGULATIONS  (INCLUDING  LAWS  CONCERNING  TAXES,  BANKING,
SECURITIES  AND  INSURANCE);  TECHNOLOGICAL  CHANGES,  ACQUISITIONS;  CHANGES IN
CONSUMER  SPENDING  AND SAVING  HABITS;  AND THE SUCCESS OF THE  CORPORATION  AT
MANAGING THE RISKS INVOLVED IN THE FOREGOING.

         THE CORPORATION  CAUTIONS THAT THE FOREGOING LIST OF IMPORTANT  FACTORS
IS  NOT   EXCLUSIVE.   THE   CORPORATION   DOES  NOT  UNDERTAKE  TO  UPDATE  ANY
FORWARD-LOOKING  STATEMENT,  WHETHER WRITTEN OR ORAL, THAT MAY BE MADE FROM TIME
TO TIME BY OR ON BEHALF OF THE CORPORATION.

Item 1.  Business
-----------------

General

         The  Corporation.  FMS Financial  Corporation (the  "Corporation")  was
incorporated  under the laws of the State of New Jersey on September 1, 1988 for
the purpose of  becoming a savings and loan  holding  company.  On December  21,
1988,  the  Corporation  acquired  all of  the  common  stock  of  Farmers'  and
Mechanics'  Savings  Bank,  SLA,  now known as Farmers and  Mechanics  Bank (the
"Bank"
<PAGE>



or "Farmers and  Mechanics")  following the Bank's  conversion from a New Jersey
chartered mutual to a New Jersey chartered stock savings  institution.  The Bank
converted its charter to that of a federal savings bank on October 15, 1993.

         Prior to the acquisition of all of the  outstanding  stock of the Bank,
the  Corporation  had no  assets  or  liabilities  and  engaged  in no  business
activities.  Subsequent  to  the  acquisition  of  Farmers  and  Mechanics,  the
Corporation  engaged in no significant  activity other than holding the stock of
the Bank,  operating  a savings  and loan  business  through  the Bank,  and the
issuance in July, 1994 of 10% subordinated  debentures due 2004 in the aggregate
principal amount of $10 million.  Accordingly, the information set forth in this
report,  including  financial  statements and related data, relates primarily to
the Bank and its subsidiaries.

         The  Corporation's  executive  offices  are  located at 3 Sunset  Road,
Burlington, New Jersey. The telephone number is (609) 386-2400.

         The Bank. Farmers and Mechanics commenced  operations in 1871 under the
name  Farmers and  Mechanics  Building and Loan  Association.  The Bank became a
member of the  Federal  Home Loan Bank  ("FHLB")  System and has had its savings
deposits  federally insured by the Savings  Association  Insurance Fund ("SAIF")
and  its  predecessor  the  Federal  Savings  and  Loan  Insurance   Corporation
("FSLIC"), since 1952. The Bank is subject to regulation by the Office of Thrift
Supervision ("OTS") and the Federal Deposit Insurance Corporation ("FDIC").  See
"Regulation."  Effective  October 26, 1994, the Bank changed its name to Farmers
and  Mechanics  Bank.  The name  change  was  approved  by the  Bank's  Board of
Directors,  the Corporation and the OTS. The Bank conducts its business  through
its main administrative  office and twenty-one branch offices located throughout
Burlington  County,  New Jersey.  At December 31, 1997, the Bank's total assets,
deposits and stockholders' equity amounted to $628.4 million, $489.4 million and
$38.9 million, respectively.

         Farmers  and  Mechanics  is  primarily   engaged  in  the  business  of
attracting  deposits  from the general  public and  originating  loans which are
secured by residential real estate. To a lesser extent, the Bank also originates
consumer, commercial real estate and construction loans and invests in U.S.
government securities and mortgage-related securities.

         Farmers and  Mechanics  considers  its primary  market area for savings
deposits  to be  Burlington  County,  New Jersey,  while its primary  market for
lending activities consists of Burlington County, and, to a lesser extent, other
regions of southern New Jersey.

Lending Activities

         General.  The  principal  lending  activity  of the  Bank  has been the
origination of conventional  fixed-rate and  adjustable-rate  mortgage loans for
the  purpose  of  financing  or  refinancing   one-to-four   family  residential
properties. To a lesser extent, the Bank also originates commercial real estate,
consumer,  construction and commercial  business loans. As of December 31, 1997,
98.27% of the Bank's loans were real estate loans, of which 82.43%  consisted of
loans secured by mortgages on one-to-four family residential properties of which
13.05% were insured or guaranteed real estate loans,  1.17% were consumer  loans
and .56% were commercial  business loans.  Such percentages have been calculated
before the deduction of unearned discount,  premium, deferred loan fees and loan
loss  reserves.  See "--  Analysis  of Loan  Portfolio".  The  Bank  also  sells
fixed-rate   loans  in  the   secondary   mortgage   market  and  has  purchased
adjustable-rate loans.

                                        2

<PAGE>
Analysis of Loan Portfolio

         The  following  table sets  forth the  composition  of the Bank's  loan
portfolio and mortgage-backed and related securities portfolio in dollar amounts
and in percentages of the respective portfolios at the dates indicated.
<TABLE>
<CAPTION>
                                                                             December 31,
                                --------------------------------------------------------------------------------------------------
                                          1997                1996               1995               1994               1993
                                ---------------------- ------------------- ----------------- ------------------ ------------------
                                    Carrying  Percent   Carrying  Percent  Carrying Percent   Carrying Percent  Carrying   Percent
                                     Value    of Total   Value    of Total   Value  of Total   Value  of Total   Value   of Total
                                    -------   --------  -------   --------  ------- --------  ------- --------  -------  ---------
                                                                         (Dollars In Thousands)
<S>                                <C>         <C>      <C>        <C>    <C>        <C>    <C>        <C>     <C>         <C>
Mortgage loans:
  One-to-four family.........      $253,001     82.43%   $257,451   82.89% $249,278   85.30% $245,874   85.65%  $237,381    86.92%

  Commercial real estate.....        42,974     14.00      39,177   12.61    34,721   11.88    32,228   11.23    28,892     10.58

  Commercial construction....         2,385       .78       4,395    1.42        --      --        --      --        --        --
  Construction...............         3,258      1.06       3,712    1.20     2,116     .73     2,924    1.02     1,337       .49
                                    -------               -------           -------           -------           -------
      Total mortgage loans...       301,618               304,735           286,115           281,026           267,610
Consumer and other loans:
  Consumer...................         3,609      1.17       4,015    1.29     4,337    1.48     4,317    1.50     4,119      1.51
  Commercial business........         1,712       .56       1,830     .59     1,779     .61     1,712     .60     1,377      0.50
                                    -------               -------            ------           -------           -------
      Total consumer and other
        loans................         5,321                 5,845             6,116             6,029             5,496
                                    -------                 -----            ------           -------           -------
      Total loans............       306,939    100.00%    310,580  100.00%  292,231  100.00%  287,055  100.00%  273,106    100.00%
                                               ======              ======            ======            ======              ======

Less:
  Unearned discount, premium,
    deferred loan fees, net..          (970)                 (927)           (1,064)           (1,173)           (1,293)
  Allowance for loan losses..        (3,138)               (2,782)           (2,767)           (2,622)           (2,589)
                                   --------                ------            ------          --------           -------
      Total loans, net.......      $302,831              $306,871          $288,400          $283,260          $269,224
                                    =======               =======           =======           =======           =======


Mortgage-backed securities
held to maturity and available
for sale:
  FHLMC......................      $ 33,379     20.29%    $42,586   34.69%  $54,039   43.47%  $64,474   44.99%  $56,258     43.77%

  FNMA.......................        35,649     21.67      37,958   30.92    41,507   33.38    48,746   34.01    36,533     28.42
  GNMA.......................        22,586     13.73      23,216   18.91    15,225   12.25    17,522   12.23    16,879     13.13
  Real estate investment
    mortgage conduit.........        10,198      6.20       5,830    4.75     7,291    5.86     7,577    5.29    10,187      7.93
  Collateralized mortgage
    obligations..............        62,270     37.86      12,621   10.28     5,485    4.41     3,863    2.69     6,485      5.05
  Mortgage pass throughs.....           406       .25         552     .45       784    0.63     1,131    0.79     2,190      1.70
                                    -------    ------      ------   -----   -------  ------  --------    ----   -------    ------

      Total mortgage-backed and
        related securities...      $164,488    100.00%   $122,763  100.00% $124,331  100.00% $143,313  100.00% $128,532    100.00%
                                    =======    ======     =======  ======   =======  ======   =======  ======   =======    ======
</TABLE>

                                        3

<PAGE>

         The following  table sets forth the Bank's loan  originations  and loan
and  mortgage-backed  and  related  securities  purchases,  sales and  principal
payments for the periods indicated.

<TABLE>
<CAPTION>
                                                                        Years Ended December 31,
                                                      1997         1996          1995        1994         1993
                                                    ---------    ---------    ---------    ---------    ---------
                                                                           (In Thousands)
<S>                                                 <C>          <C>          <C>          <C>          <C>
Total loans receivable (gross):
  At beginning of period ........................   $ 310,580    $ 292,231    $ 287,055    $ 273,106    $ 258,724

  Mortgage loans originated:
    One-to-four family ..........................      31,320       30,034       34,775       52,902       86,073
    Commercial real estate ......................       8,355       17,751        7,144        6,806        6,509
    Commercial construction .....................       5,307        4,715         --           --           --
    Construction ................................       4,265        4,142        3,753        3,561         --
                                                    ---------    ---------    ---------    ---------    ---------
      Total mortgage loans originated ...........      49,247       56,642       45,672       63,269       92,582

  Mortgage and consumer loans purchased:
    One-to-four family ..........................        --         14,486         --           --           --
    Consumer ....................................        --           --           --            127         --
                                                    ---------    ---------    ---------    ---------    ---------
      Total mortgage and consumer loans purchased        --         14,486         --            127         --

Total mortgage loans originated and purchased ...      49,247       71,128       45,672       63,396       92,582
Consumer loans originated .......................       1,254        1,131        1,048          475          834
Transfer of mortgage loans to real estate owned .         (32)        (482)         (57)      (1,091)        (362)
Sale of loans ...................................      (1,045)        (950)      (1,118)      (1,739)     (12,362)
Principal repayments ............................     (53,065)     (52,478)     (40,369)     (47,092)     (66,310)
                                                    ---------    ---------    ---------    ---------    ---------
Total loans receivable at end of period .........   $ 306,939    $ 310,580    $ 292,231    $ 287,055    $ 273,106
                                                    =========    =========    =========    =========    =========

Mortgage backed securities held to maturity
and available for sale:
At beginning of period ..........................   $ 122,763    $ 124,331    $ 143,313    $ 128,532    $ 126,207
Mortgage backed securities purchased (1) ........      75,227       31,927        2,755       52,051       54,697
Mortgage backed securities sold (1) .............      (1,580)        (923)        --           --           --
Amortization and repayments .....................     (32,243)     (32,646)     (22,018)     (37,270)     (52,372)
Change in mark to market on available
  for sale securities ...........................         321           74          281         --           --
                                                    ---------    ---------    ---------    ---------    ---------
At end of period (1) ............................   $ 164,488    $ 122,763    $ 124,331    $ 143,313    $ 128,532
                                                    =========    =========    =========    =========    =========
</TABLE>
-------------------
(1)   Includes the purchase and sale of CMO's and Remics


                                        4

<PAGE>



         Residential  Loans.  One of the primary lending  activities of the Bank
has been the origination of conventional  mortgage loans to enable  borrowers to
purchase  existing  homes,  refinance  existing  mortgage loans or construct new
homes.  The Bank  generally  originates  mortgage  loans  with terms of 15 to 30
years, amortized on a monthly basis, with principal and interest due each month.
Typically,  residential real estate loans remain  outstanding for  significantly
shorter periods than their  contractual terms because borrowers may refinance or
prepay loans at their option.

         Regulations permit thrift  institutions to make home loans in which the
interest  rates  may be  adjusted,  provided  that the  adjustments  are tied to
specified  indices.  The Bank presently  offers mortgage loans that adjust every
year  after an  initial  fixed  term of one,  two,  five or seven  years,  at an
interest  rate indexed  higher than the  corresponding  U.S.  Treasury  Security
Index. The interest rates on these mortgages adjust annually after the one, two,
five or seven year anniversary date of the loan with an interest rate adjustment
cap of 1.5% per year and  presently  not to exceed a rate of 11.5% over the life
of the loan. At December 31, 1997,  adjustable-rate  residential  first mortgage
loans amounted to $72.7 million or 23.69% of the Bank's total loan portfolio.

         Fixed-rate  mortgage  loans are  generally  underwritten  according  to
Federal Home Loan Mortgage  Corporation  ("FHLMC") and Federal National Mortgage
Association  ("FNMA")  guidelines.  The  Bank  sells  fixed-rate  loans  in  the
secondary  market  from  time to time when such  sales are  consistent  with the
Bank's  asset/liability  management goals and can be achieved on terms favorable
to the Bank. The Bank generally  charges a higher  interest rate on loans if the
property is not owner-occupied. At December 31, 1997, $153.5 million or 50.0% of
the  Bank's  total loan  portfolio,  consisted  of  long-term  fixed-rate  first
mortgage loans.

         The Bank's lending policies  generally limit the maximum  loan-to-value
ratio on owner-occupied residential first mortgage loans to 95% of the lesser of
the appraised value or purchase price,  with the condition that private mortgage
insurance  is  required  on loans  with  loan-to-value  ratios in excess of 80%.
Mortgage loans on investment  properties  are made by the Bank at  loan-to-value
ratios up to 70%. The loan-to-value ratio,  maturity and other provisions of the
loans made by the Bank have  generally  reflected the policy of making less than
the maximum loan permissible  under applicable  regulations,  in accordance with
established  lending  practices,  market  conditions and underwriting  standards
maintained by the Bank.  The Bank  requires  fire and casualty  insurance on all
properties  securing real estate loans made by the Bank.  The Bank also performs
title searches to ensure its lien position.

         The Bank actively  solicits and originates home equity loans and equity
reserve  lines  of  credit  secured  by the  equity  in the  borrower's  primary
residence. These loans generally have terms of 10 to 15 years, some of which are
fixed rates and some of which have rates that adjust  based upon the prime rate.
At December  31,  1997,  the Bank had home  equity  loans in the amount of $14.8
million or 4.81% of its total loan  portfolio.  Also at December 31,  1997,  the
Bank had approved  $28.8 million in home equity lines of credit,  of which $12.0
million was outstanding.

         Construction   Loans.   The  Bank  originates   loans  to  finance  the
construction  of  one-to-four   family  dwellings  or  commercial  real  estate.
Generally,  the Bank only makes interim  construction loans to individuals if it
also makes the permanent  mortgage loan on the property.  Construction  loans to
builders are generally  made only if the Bank makes the permanent  mortgage loan
or if the  builder  has a contract  for sale and the  purchaser  has  received a
permanent  mortgage  commitment.  At December 31, 1997, the Bank's  construction
loans  amounted to $5.6 million,  net of loans in process or 1.84% of the Bank's
total loan portfolio.

                                        5

<PAGE>




         Interim  construction  loans to builders  generally have terms of up to
nine months and interest rates which adjust at a positive  spread over the prime
interest  rate.  Construction  loans  to  build  single  family  residences  are
available.  These loans are  available to borrowers  who qualify for a permanent
loan.

         Construction  financing  is  generally  considered  to involve a higher
degree of risk of loss than  long-term  financing  on  improved,  occupied  real
estate.  Risk of loss on a  construction  loan is  dependent  largely  upon  the
accuracy  of the initial  estimate  of the  property's  value at  completion  of
construction  and  development  and the estimated cost  (including  interest) of
construction. During the construction phase, a number of factors could result in
delays and cost  overruns.  If the estimate of  construction  costs proves to be
inaccurate,  the Bank  may be  required  to  advance  funds  beyond  the  amount
originally committed to permit completion of the development. If the estimate of
value proves to be inaccurate,  the Bank may be  confronted,  at or prior to the
maturity of the loan,  with a project  having a value which is  insufficient  to
assure full repayment.

         Commercial  Real Estate Loans.  Loans secured by commercial real estate
(e.g.,  shopping centers,  medical  buildings,  retail offices) and multi-family
dwelling units (e.g., apartment projects with more than four units), constituted
$43.0 million or 14.0% of the Bank's total loan  portfolio at December 31, 1997.
Commercial real estate loans and multi-family  residential  loans have been made
in amounts  up to $3.8  million,  with most of such  loans  ranging in size from
$100,000 to $1.0 million. Permanent loans on commercial properties are generally
originated  in amounts up to 75% of the  appraised  value of the  property.  The
Bank's permanent  commercial real estate loans are secured by improved  property
such as office buildings,  retail stores, warehouse,  church buildings and other
non-residential  buildings,  most of which are  located  in the  Bank's  primary
market area. Commercial real estate loans and multi-family residential loans are
generally  made at rates  which  adjust  at a  positive  spread  over the  prime
interest  rate or a specified  treasury  index or are  balloon  loans with fixed
interest rates which mature in three to five years with  principal  amortization
for a period of up to 25 years.

         Loans  secured  by  commercial  real  estate are  generally  larger and
involve a greater degree of risk than one-to-four  family  residential  mortgage
loans. Of primary concern,  in commercial and multi-family  real estate lending,
is the borrower's  creditworthiness  and the feasibility and cash flow potential
of the project.  Loans secured by income  properties  are  generally  larger and
involve greater risks than residential  mortgage loans because payments on loans
secured by income  properties  are often  dependent on  successful  operation or
management  of the  properties.  As a  result,  repayment  of such  loans may be
subject  to a greater  extent  than  residential  real  estate  loans to adverse
conditions  in the real estate  market or the economy.  In order to monitor cash
flows on income properties,  the Bank requires borrowers and loan guarantors, if
any, to provide annual  financial  statements and rent rolls on commercial  real
estate  loans.  At December 31, 1997,  the five largest  commercial  real estate
loans  totaled $9.9 million  with no single loan larger than $3.7  million.  All
such loans were current and were performing in accordance with their terms.

         Consumer. Regulations permit federally chartered thrift institutions to
make secured and unsecured consumer loans up to 35% of the institution's assets.
The Bank makes various types of secured and unsecured  consumer loans  including
education  loans,  lines of  credit,  automobile  loans (new and used) and loans
secured by deposit  accounts.  As of December 31, 1997,  consumer  loans totaled
$3.6  million,  or 1.18% of the Bank's  total  loan  portfolio.  Consumer  loans
generally  have  terms of six months to five  years,  some of which are at fixed
rates and some of which have rates that adjust periodically.


                                        6

<PAGE>



         The Bank intends to continue to emphasize the  origination  of consumer
loans.  The Bank believes that the shorter term and the normally higher interest
rates  available  on  various  types of  consumer  loans  have been  helpful  in
maintaining a profitable  spread  between the Bank's  average loan yield and its
cost of funds.

         Consumer loans are  advantageous  to the Bank because of their interest
rate  sensitivity,  but they also  involve  more  credit  risk than  residential
mortgage loans because of the higher  potential of defaults and the difficulties
involved in disposing of the collateral, if any.

         Commercial  Business Loans. The Bank's portfolio of commercial business
loans  amounted to $1.7 million or .56% of the Bank's total loan  portfolio,  at
December 31, 1997. These commercial business loans are underwritten on the basis
of the  borrower's  ability  to  service  such  debt  from  income.  The  Bank's
commercial  business loans are generally  made to small and mid-sized  companies
located within the Bank's primary lending area. In most cases, the Bank requires
additional  collateral  of  equipment,  chattel or other assets  before making a
commercial business loan.

         Loan  Originations,  Purchases  and  Sales.  In the past,  the Bank has
retained in its portfolio most of the loans it originates.  However,  the Bank's
general policy is to originate fixed-rate mortgage loans under terms, conditions
and  documentation  which permit sale to the FHLMC,  FNMA, or other investors in
the  secondary  market.   Adjustable-rate   mortgage  loans  are  generally  not
originated  under  terms and  conditions  that  would  permit  their sale in the
secondary  mortgage  market to FHLMC or FNMA. The Bank's policy has been to sell
certain of its fixed-rate mortgage loan originations.  These sales may result in
gains or losses. This policy was established to reduce the Bank's  vulnerability
to rapid  interest rate movements and to provide a source of funding for ongoing
commitments.   Fixed-rate  mortgages  designated  for  sale  are  accounted  for
separately in accordance with applicable accounting rules. At December 31, 1997,
the Bank had no loans  held-for-sale.  The Bank  continually  monitors  its loan
inventory and commitments.

         Loan Commitments.  The Bank issues loan origination commitments to real
estate  developers  and  qualified  borrowers  primarily  for the  construction,
purchase and refinancing of residential  real estate and commercial real estate.
Such  commitments are made on specified terms and conditions,  including in most
cases, the payment of a  non-refundable  commitment fee based on a percentage of
the amount of committed  funds.  At December 31, 1997, the Bank had unused lines
of credit and outstanding  loan origination  commitments of approximately  $25.5
million.

         Loan  Origination  and Other Fees.  In  addition to interest  earned on
loans,  the Bank  receives  loan  origination  fees or "points" for  originating
loans. Loan points are a percentage of the principal amount of the mortgage loan
which are charged to the borrower for  origination  of the loan. The Bank's loan
origination  fees  generally  range  from 2% to 3% on  conventional  residential
mortgages and 1% to 2% on commercial  real estate  loans.  All loan  origination
fees,  net of  incremental  direct loan  origination  costs,  are  deferred  and
amortized over the contractual life of the related loans.

         The Bank receives other fees and service  charges on loans.  Other fees
and service  charges  consist of late fees, loan service fees and fees collected
with a change in borrower or other loan modifications. The Bank recognized other
fees and  service  charges  on loans of $88  thousand,  $122  thousand  and $157
thousand for the years ended December 31, 1997, 1996 and 1995, respectively.


                                        7

<PAGE>



         Residential  Mortgage Loan Servicing.  The Bank services loans retained
in its  portfolio  and loans which were  originated by the Bank and sold through
the secondary  mortgage market with the servicing rights to those loans retained
by the Bank.  The loan servicing  activities of the Bank include  collecting and
remitting  loan  payments,  holding  escrow funds for the payment of real estate
taxes and insurance  premiums and generally  administering the loans.  Under the
loan  servicing  contracts,  the Bank receives  servicing fees that are deducted
from the monthly  payments  made to investors.  The  servicing  spreads on loans
serviced  are usually  based on the unpaid  principal  balance of the loan being
serviced  and  typically  range from .25  percent to .375  percent  per annum of
declining  principal  balance on the  loans.  At  December  31,  1997,  the Bank
serviced  for others 580 loans with an  outstanding  aggregate  balance of $25.6
million.  Loan servicing  income for the years ended December 31, 1997, 1996 and
1995, was $83 thousand, $98 thousand and $113 thousand, respectively.

         Collection Procedures. When a loan is more than 30 days delinquent, the
borrower  will be  contacted  by mail or phone  and  payment  requested.  If the
delinquency continues, subsequent efforts will be made to contact the delinquent
borrower. In certain instances,  the Bank may modify the loan or grant a limited
moratorium on loan  payments to enable the borrower to reorganize  his financial
affairs.  If the loan continues in a delinquent  status for 90 days or more, the
Bank generally will initiate foreclosure proceedings.

         Non-Performing  Loans. Loans are generally placed on non-accrual status
when either principal or interest is 90 days or more past due.  Interest accrued
and unpaid at the time a loan is placed on non-accrual status is charged against
interest  income.  Subsequent  payments  are either  applied to the  outstanding
principal balance or recorded as interest income, depending on the assessment of
the ultimate collectibility of the loan.

         Impaired Loans. The Bank considers all non-accrual loans as well as any
loans in which it is  probable  that the Bank  will be  unable  to  collect  all
amounts  due  according  to the  contractual  terms  of the  loan  agreement  as
impaired.  Small  balances of homogeneous  loans such as delinquent  residential
mortgages and delinquent  consumer  installment loans are collectively  measured
for  impairment  and a reserve is  established  based on  historical  loss data.
Certain  larger  balance  impaired  loans and other  impaired loans are reviewed
individually  and  reserves  are  established  based on a  discounted  cash flow
analysis or as a practical expedient,  the underlying collateral value. Interest
income on impaired loans is recognized on a cash basis.

                                        8

<PAGE>



         The following table sets forth  information  regarding  impaired loans,
troubled debt restructured and real estate owned assets by the Bank at the dates
indicated.
<TABLE>
<CAPTION>
                                                                                   At December 31,
                                                    ------------------------------------------------------------------------------
                                                        1997            1996            1995            1994            1993
                                                    -------------   -------------   -------------   -------------   --------------
                                                                               (Dollars in Thousands)
<S>                                                        <C>             <C>             <C>             <C>             <C>
Impaired loans - non-accrual:
Mortgage loans:
  One-to-four family.............................          $2,394          $2,413          $2,502          $1,446          $3,395
  Commercial real estate.........................           1,163           1,663           1,604           1,040           1,266
  Consumer and other.............................              80              15               6             469              13
                                                           ------           -----         -------          ------          ------
    Total impaired non-accrual loans.............          $3,637          $4,091          $4,112          $2,955          $4,674
                                                            =====           =====           =====           =====           =====

Other impaired loans.............................              --              --         $   354              --              --
Troubled debt restructuring......................          $  684(1)       $  560(1)          634(1)      $ 1,143          $  663
Real estate owned, net...........................             446             622             669           1,812           1,624
Other non-performing assets......................             644           1,228           1,228           1,428           1,453
                                                            -----           -----           -----           -----           -----
Total non-performing assets......................          $5,411          $6,501          $6,997          $7,338          $8,414
                                                            =====           =====           =====           =====           =====

Total non-accrual loans to net loans.............            1.20%           1.33%           1.43%           1.04%           1.74%
                                                             ====            ====            ====            ====            ====
Total non-accrual loans to total assets..........             .58%            .76%           0.82%           0.61%           1.05%
                                                             ====             ===            ====            ====            ====
Total non-performing assets to total assets......             .86%           1.20%           1.39%           1.52%           1.89%
                                                             ====            ====            ====            ====            ====
</TABLE>

----------------------
(1)  Loans  restructured  prior  to SFAS  Nos.  114 and 118  effective  date and
     performing in accordance with the terms of the restructuring agreement.

         Classified Assets.  Classified assets generally consist of assets which
have  possible  credit risk and/or have  sufficient  degree of risk or potential
weakness  to warrant  management's  close  attention.  Each asset is  assigned a
quality rating based on management's best judgment concerning the degree of risk
and the  likelihood  of repayment or orderly  liquidation.  Quality  ratings are
divided into the  following  groups:  Pass and Special  Mention  (unclassified),
Substandard, Doubtful and Loss.

         An asset  classified as  Substandard is  inadequately  protected by the
current  net worth and  paying  capacity  of the  obligor  or of the  collateral
pledged, if any. Assets so classified have well-defined  weakness or weaknesses.
An asset  classified  Substandard has shown an inability or unwillingness on the
part  of the  borrower  and/or  guarantors  to  meet  their  obligations  or the
collateral  securing the obligation has  deteriorated  in some  condition.  Such
assets have a well-defined weakness that points to the distinct possibility that
the Bank  will not be paid back in a timely  fashion  and it may  require  legal
action to effect payment.

         An asset  classified  as Doubtful  has all the  weaknesses  inherent in
those classified  Substandard with the added  characteristic that the weaknesses
make  collection  or  liquidation  in full,  on the basis of currently  existing
facts,  conditions,   and  values,  highly  questionable  and  improbable.   The
possibility of a loss on a Doubtful asset is high. However, due to important and
reasonably  specific pending  factors,  which may work to strengthen (or weaken)
the asset,  its  classification  as an estimated loss is deferred until its more
exact status can be determined.

         An asset  classified  as Loss is considered  uncollectible  and of such
little  value  that its  continuance  as an asset,  without  establishment  of a
specific   valuation   allowance  or   charge-off,   is  not   warranted.   This
classification  does not  necessarily  mean  that an  asset  has  absolutely  no
recovery or salvage value; but

                                        9

<PAGE>


rather,  it is not  practical  or  desirable  to defer  writing  off a basically
worthless asset even though partial recovery may be effected in the future.

         Federal regulations require that each insured institution  classify its
own  assets  on a  regular  basis.  The  Bank  has an  outside  firm to  perform
commercial loan review and quality control for residential mortgages including a
review of  classifications.  In addition,  in connection  with  examinations  of
insured institutions,  OTS and FDIC examiners have authority to identify problem
assets and, if appropriate,  classify them.  Assets classified as Substandard or
Doubtful  require the  institution  to establish  specific  allowances  for loan
losses.  If an asset or  portion  thereof is  classified  as Loss,  the  insured
institution  must either establish  specified  allowances for loan losses in the
amount of 100 percent of the portion of the asset  classified  as Loss or charge
off such amount.  General loss  allowances  established to cover possible losses
related to assets  classified as  Substandard  or as Doubtful may be included in
determining  an  institution's  regulatory  capital,  while  specific  valuation
allowances  for loan losses do not qualify as regulatory  capital.  OTS and FDIC
examiners may disagree with the insured institution's classification and amounts
reserved.

         The following table sets forth  information  with respect to the Bank's
classified assets for the periods indicated.

<TABLE>
<CAPTION>
                                                                               At December 31,
                                              ---------------------------------------------------------------------------------
                                                   1997              1996             1995            1994            1993
                                              ---------------   --------------   --------------   -------------   -------------
                                                                                 (In Thousands)
<S>                                                    <C>              <C>              <C>             <C>            <C>
Classified Assets:
 Substandard Loans:
  One-to-four family.......................            $2,619           $2,413           $2,502          $1,446         $3,395
  Commercial real estate...................             4,003            3,942            4,247           3,763          5,503
  Consumer and other.......................                80               15                6             469             13
                                                       ------            -----          -------          ------         ------
    Total loans............................             6,702            6,370            6,755           5,678          8,911
                                                        -----            -----            -----          ------         ------

 Real Estate held for development,
    net ...................................               644            1,228            1,228           1,428          1,453
 Real estate owned, net....................               446              622              669           1,812          1,624
                                                        -----            -----           ------          ------         ------
    Total Substandard......................             7,792            8,220            8,652           8,918         11,988
                                                        =====            =====            =====          ======         ======
  Doubtful loans...........................                --               --               --              --             --
                                                      -------          -------          -------        --------       --------
    Total Doubtful.........................                --               --               --              --             --
                                                      =======          =======          =======        ========       ========
  Loss.....................................                15               --               --              --             --
                                                       ------          -------          -------        --------       --------
    Total loss.............................                15               --               --              --             --
                                                       ======          =======          =======        ========       ========
Total Classified Assets....................            $7,807           $8,220           $8,652         $ 8,918        $11,988
                                                        =====            =====            =====          ======         ======
</TABLE>

         At  December  31,  1997,  the  Bank's  non-performing  loans  consisted
primarily of loans  secured by  residential  and  commercial  real  estate.  The
largest  non-performing  loan consisted of a loan in the amount of $631 thousand
secured by a first mortgage on a commercial real estate property  operating as a
retail liquor store.

         For a full  explanation of the Bank's real estate held for  development
at December 31, 1997, see "--Subsidiary and Land Development Activities".

         Real Estate  Owned.  The Bank's real estate owned at December 31, 1997,
consisted of properties  valued at $1.0 million,  gross.  These  properties  are
carried at the lower of book value or fair market value less estimated  costs to
sell and are analyzed by management on a periodic  basis.  The real estate owned
is  comprised  of (i) 18 acres of land,  with a net book value of $818  thousand
which is zoned for the  construction  of 109 townhouses,  (ii) two  condominiums
with a net book value of $50 thousand

                                       10

<PAGE>



and (iii) one  commercial  condominium  located in Burlington  County with a net
book value of $138 thousand. See "--Provision for Loan and Real Estate Losses."

         Provision for Loan and Real Estate Losses.  A provision for loan losses
is charged to operations  based on management's  evaluation of the risk inherent
in its loan  portfolio in relation to the level of the allowance for loan losses
and  changes in the nature and volume of its loan  activity.  For the year ended
December  31,  1997,  the  Bank  charged  $400  thousand  and $143  thousand  to
operations   as  a  provision  for  losses  on  loans  and  real  estate  owned,
respectively.

         The Bank provides  general  reserves based on management's  analysis of
risk  characteristics of various  classifications  of loans,  previous loan loss
experience,  estimated  fair  value of the  underlying  collateral  and  current
economic  conditons.  In addition,  the Bank also  provides  specific  valuation
reserves  for  anticipated  losses  on loans  and real  estate  when  management
determines  that a  significant  decline  in the  value  of the  collateral  has
occurred,  as a result of which,  the value of the  collateral  is less than the
amount of the unpaid  principal  of the  related  loan plus  estimated  costs of
acquisition  and  sale.  Although  management  believes  that it uses  the  best
information  available  to  make  such  determinations,  future  adjustments  to
reserves may be  necessary,  and net income could be  significantly  affected if
circumstances  differ  substantially  from the  assumptions  used in making  the
initial determinations. At December 31, 1997, the Bank had an allowance for loan
losses of $3.1 million and an allowance  for losses on real estate owned of $560
thousand.  While the Bank believes it had established its existing allowance for
loan losses in accordance with Generally Accepted Accounting Principles ("GAAP")
at December 31, 1997, there can be no assurance that regulators,  when reviewing
the  Bank's  loan  portfolio  in the  future,  will  not  request  the  Bank  to
significantly   increase  its  allowance  for  loan  losses,  thereby  adversely
impacting the Bank's financial condition and earnings.

         The following table sets forth an analysis of the Bank's  allowance for
loan losses for the periods indicated.

<TABLE>
<CAPTION>
                                                                         For the Year Ended December 31,
                                               ------------------------------------------------------------------------------------
                                                   1997            1996             1995              1994              1993
                                               -------------   -------------   ---------------   ---------------   ----------------
                                                                             (Dollars in Thousands)
<S>                                                   <C>             <C>               <C>               <C>               <C>
Balance at beginning of period..............          $2,782          $2,767            $2,622            $2,589            $2,380
Loans charged-off:
  One-to-four family........................              (8)           (114)              (13)              (44)               --
  Commercial real estate....................              --              --                --                --                --
  Construction..............................              --              --                --                --                --
  Consumer..................................             (40)             (1)               (6)              (37)               (8)
  Commercial business.......................              (1)             --                --               (38)               --
                                                      ------           -----            ------             -----             -----
    Total charge-offs.......................             (49)           (115)              (19)             (119)               (8)
Recoveries..................................               5              10                44                86                15
                                                      ------           -----           -------              ----             -----
Net loans charged-off.......................             (44)           (105)               25               (33)                7
                                                      ------           -----            ------             -----             -----
Provision for possible loan losses..........             400             120               120                66               202
                                                      ------           -----            ------             -----             -----
Balance at end of period....................          $3,138          $2,782            $2,767            $2,622            $2,589
                                                       =====           =====             =====             =====             =====
Ratio of net charge-offs to average loans
  outstanding during the period.............           0.014%          0.035%           (0.009%)           0.012%           (0.003%)
</TABLE>



                                       11

<PAGE>



         The following  table sets forth the breakdown of the allowance for loan
losses by loan category and the percent of loans in each category to total loans
receivable  for the periods  indicated.  The allocation of the allowance to each
category is not  necessarily  indicative  of future losses and does not restrict
the use of the allowances to absorb losses in any category.
<TABLE>
<CAPTION>
                                                                           At December 31,
                           ---------------------------------------------------------------------------------------------------------
                                 1997                      1996               1995                 1994                1993
                           ------------------------- ------------------  ------------------   ------------------- ------------------
                                        Percent of           Percent of          Percent of           Percent of         Percent of
                                         Loans to             Loans to            Loans to             Loans to            Loans to
                            Amount      Total Loans  Amount  Total Loans  Amount Total Loans   Amount Total Loans Amount Total Loans
                            ------      -----------  ------  -----------  ------ -----------   ------ ----------- ------ -----------
(Dollars in Thousands)
  Loans:

<S>                         <C>           <C>       <C>        <C>       <C>        <C>       <C>        <C>        <C>       <C>
  One-to-four family....... $2,016(1)(2)   82.43%    $1,716     82.89%   $1,718     85.30%    $1,656      85.65%   $1,613     86.92%
  Commercial real estate...    954(2)      14.00        877     12.61       819     11.88        757      11.23       757     10.58
  Commercial construction..     24           .78         44      1.42        --        --         --         --        --        --
  Construction.............     32          1.06         37      1.20        21       .73         29       1.02        13       .49
  Consumer and other.......     62(1)       1.17         76      1.29        68      1.48         70       1.50        66      1.51
  Commercial business......     50           .56         32       .59       141       .61        110        .60       140       .50
                            ------         -----      -----     -----    ------  --------      -----    -------     -----   -------
      Total allowance
        for loan losses.... $3,138        100.00%    $2,782    100.00%   $2,767    100.00%    $2,622    100.00%    $2,589   100.00%
                             =====        ======      =====    ======     =====   =======      =====    ======      =====   ======
</TABLE>

--------------------
(1)  Includes reserves for impaired loans  collectively  measured for impairment
     of  residential  real  estate and  consumer  loans of $96  thousand  and $1
     thousand, respectively.

(2)  Includes reserves for impaired loans  individually  measured for impairment
     of residential  real estate and commercial  real estate of $70 thousand and
     $249 thousand, respectively.




                                       12

<PAGE>



         Changes  in the  allowance  for  losses  on real  estate  owned  are as
follows:


                                            Year Ended December 31,
                                   ----------------------------------------
                                    1997    1996     1995     1994    1993
                                   ------  ------   ------   ------  ------
                                               (In Thousands)
Balance at beginning of year ...   $ 437    $ 313    $  79    $  --    $  --

Provisions charged to operations     143      153      354      158       29
Charge-offs ....................     (20)     (30)    (120)     (79)     (29)
Recoveries .....................      --        1       --       --       --
                                   -----    -----    -----    -----    -----
  Balance at end of year .......   $ 560    $ 437    $ 313    $  79    $  --
                                   =====    =====    =====    =====    =====


Mortgage-Backed Securities

         The  Bank  purchases  mortgage-backed   securities  guaranteed  by  the
Government National Mortgage Association ("GNMA") and the FNMA and participation
certificates   issued  by  the  FHLMC.  GNMA   mortgage-backed   securities  are
certificates issued and backed by the GNMA and are secured by interests in pools
of  mortgages  which are fully  insured by the  Federal  Housing  Administration
("FHA") or partially  guaranteed by the Veterans'  Administration  ("VA"). FHLMC
mortgage-backed  securities are participation certificates issued and guaranteed
by the  FHLMC  and  secured  by  interests  in pools of  conventional  mortgages
originated   by   financial   institutions.   At  December   31,   1997,   these
mortgage-backed  securities held to maturity,  consisting of GNMA, FHLMC,  FNMA,
and private  pass-through  certificates  amounted to $92.0  million or 14.64% of
total assets.

Investment Securities Held to Maturity and Securities Available for Sale

         Farmers  and  Mechanics  investment  policy  is to  ensure  safety  and
soundness,  provide and maintain the liquidity ratios required under regulations
of the OTS,  optimize  the  Bank's  return  on  investments,  provide  low-risk,
high-quality  assets,  manage  the  overall  interest  rate  sensitivity  of the
portfolio  and serve as a vehicle to absorb excess funds when loan demand is low
and to  infuse  funds  when  loan  demand  is high.  The  amount  of the  Bank's
investment  portfolio  at any time  will  depend in part  upon the  Bank's  loan
origination  volume and the  availability of attractive  long-term  investments.
Investment  decisions  are based on a thorough  analysis of each  investment  to
determine quality,  prospects for yield and appreciation and any inherent risks.
See "Regulation."

         At December 31, 1997, Farmers and Mechanics had an investment portfolio
of $192.7  million of which $80.3  million was  available  for sale,  consisting
primarily of U.S.  Government  securities  and  obligations  of U.S.  Government
agencies.  For more information on the Bank's investment  activities see Notes 2
and 3 of the Notes to the Consolidated  Financial  Statements.  Other investment
activities of the Bank, which are not reported as part of the Bank's  investment
portfolio,  include  an  investment  of $3.6  million  in FHLB  stock,  which is
required as part of its  membership  in the  Federal  Home Loan Bank system (see
"--Regulation -- Federal Home Loan Bank System"),  and $827 thousand in interest
bearing deposits and overnight investments.

                                       13

<PAGE>



         The following  table sets forth the carrying  value and market value of
the Bank's investment  securities held to maturity and securities  available for
sale, FHLB stock, and interest bearing deposits and overnight investments at the
dates indicated.
<TABLE>
<CAPTION>
                                                                               At December 31,
                                            ----------------------------------------------------------------------------------------
                                                     1997                          1996                          1995
                                            -------------------------  -----------------------------  ----------------------------
                                                            Estimated                      Estimated                    Estimated
                                             Carrying         Market        Carrying         Market       Carrying        Market
                                              Value           Value          Value           Value         Value          Value
                                              -----           -----          -----           -----         -----          -----
                                                                                (In Thousands)

<S>                                           <C>             <C>            <C>             <C>          <C>             <C>
Investment securities held to maturity:
  U.S. Government and Agency securities.....  $79,347         $79,498        $46,792         $46,156      $34,086         $34,110
  Reverse repurchase agreements.............   30,185          30,185         20,000          20,000        9,000           9,000

  Municipal bonds...........................    2,802           2,816            795             800          464             464
  U.S. Treasuries...........................       15              14             15              14           15              14
Investment securities available for sale:
  U.S. Agencies.............................    7,871           7,871          4,997           4,997        7,928           7,928
  U.S. Treasuries...........................       --              --          1,999           1,999        1,980           1,980
  REMIC's...................................   10,198          10,198          5,830           5,830        7,291           7,291
  CMO's.....................................   62,270          62,270         12,621          12,621        5,485           5,485
  Common Stock..............................       --              --             --              --           84              84
                                            ---------      ----------      ---------       ---------      -------         -------
      Total investment securities...........  192,688         192,852         93,049          92,417       66,333          66,356
                                              -------         -------         ------          ------       ------          ------
  Federal Home Loan Bank of New York
    stock...................................    3,631           3,631          3,621           3,621        4,058           4,058

  Interest bearing deposits and overnight
    investments.............................      827             827            347             347          181             181
                                             --------        --------          -----           -----       ------          ------
     Total investments...................... $197,146        $197,310        $97,017         $96,385      $70,572         $70,595
                                              =======         =======         ======          ======       ======          ======
</TABLE>




                                       14

<PAGE>



         The  following  table sets  forth the  scheduled  maturities,  carrying
values, market values and average yields for the Bank's investment securities at
December 31, 1997.
<TABLE>
<CAPTION>
                                                                                      More than
                        One Year or Less    One to Five Years  Five to Ten Years      Ten Years     Total Investment Securities
                        ------------------  -----------------  ------------------ ---------------- ------------------------------
                        Carrying   Average  Carrying  Average  Carrying   Average Carrying Average Carrying   Market      Average
                          Value     Yield    Value     Yield    Value      Yield   Value    Yield   Value     Value        Yield
                         -------   -------  -------   -------  -------    -------  -----    -----  -------   -------       -----

                                                              (Dollars in Thousands)
<S>                     <C>           <C>   <C>          <C>   <C>          <C>   <C>        <C>   <C>        <C>           <C>
Investment securities
held to maturity:
 U.S. government and
  agency obligations    $  1,000      5.47% $    --        --% $38,163      7.13% $ 40,184   7.45% $ 79,347   $ 79,498      7.27%
 Municipal bond .....      2,472      4.10      101      5.60      229      5.60        --     --     2,802      2,816      4.28
 Reverse repurchase
  agreements ........     30,185      5.83       --        --       --        --        --     --    30,185     30,185      5.83
 U.S. Treasury ......         15      3.50       --        --       --        --        --     --        15         14      3.50
 MBS ................      1,588      7.30    7,695      7.31    6,395      7.48    76,343   7.61    92,021     94,307      7.57
Investment securities
available for sale:
 U.S. Government ....        999      4.31    2,009      6.60    4,863      7.02        --     --     7,871      7,871      6.57
 CMO's ..............         --        --    4,599      6.55    2,602      7.31    55,069   7.26    62,270     62,270      7.21
 REMICs .............         --        --       --        --    1,973      5.38     8,225   6.56    10,198     10,198      6.33
                        --------      ----  -------      ----  -------      ----  --------   ----  --------   --------      ----
   Total ............   $ 36,259      5.73% $14,404      6.97% $54,225      7.10% $179,821   7.42% $284,709   $287,159      7.12%
                        ========            =======            =======            ========         ========   ========
</TABLE>



                                       15

<PAGE>



Subsidiary and Land Development Activities

         Farmers and Mechanics is generally  permitted to invest an amount equal
to 3% of its total assets in subsidiary service corporations with at least 1% of
that investment in community reinvestment activities.  Under such 3% limitation,
at December 31,  1997,  Farmers and  Mechanics  was  authorized  to invest up to
approximately  $18.8 million in the stock of or loans to its subsidiary  service
corporations.  As of  December  31,  1997,  the net  book  value  of the  Bank's
investment in stock,  unsecured  loans, and conforming loans in its subsidiaries
was $1.1  million,  all of which had been  invested in the Bank's  wholly  owned
subsidiary  corporations,   which  were  organized  to  engage  in  real  estate
development activities.

         Under the Financial  Institutions Reform,  Recovery and Enforcement Act
of 1989  ("FIRREA"),  savings  associations  are required to deduct from capital
their investments in, and extensions of credit to, service  corporations engaged
in activities  which are not  permissible  for national  banks.  The real estate
development activities of the Bank's service corporation are not permissible for
national banks.  At December 31, 1997, the Bank's  investment in and advances to
subsidiaries engaged in non-permissible activities amounted to $976 thousand and
was deducted from tangible, core and risk-based capital.

         Real estate  held for  development  represents  a high degree of credit
risk because of the  relatively  long period of time needed to obtain  necessary
developmental approvals and the uncertainty of future market conditions.  During
the year ended  December 31, 1997,  the Bank recorded a $200 thousand  provision
for  losses as a result  of the loss on the sale of one of the land  development
properties. No provision for loss on real estate was recorded in 1996.

         The Board of Directors of Land Financial Services, Inc., a wholly owned
subsidiary  of the Bank,  passed a resolution  in February 1991 to cease all new
direct  real  estate  investment  activities.  In  addition,  the Board  further
resolved that there shall be no new real estate  investment  in connection  with
existing  assets  except those  investments  which are necessary to preserve and
protect the  existing  assets so that such assets can be  liquidated  as soon as
practical. Management believes that divesture of its present land investment may
take several years, depending on market conditions.

Deposit Activities and Other Sources of Funds

         General.  Deposits are the major source of Farmers and Mechanics  funds
for lending and other investment purposes. In addition to deposits,  Farmers and
Mechanics  derives  funds  from  loan  principal  and  interest  repayments  and
prepayments,  principal and interest payments on mortgage-backed  securities and
other  investment  securities,  advances  from the  FHLB of New  York and  other
borrowings (see "Borrowings"). Loan repayments are a relatively stable source of
funds, while deposit inflows and outflows and loan prepayments are significantly
influenced by general interest rates and money market conditions. Borrowings may
be used on a short term basis to compensate for  reductions in the  availability
of funds from other  sources.  They may also be used on a longer  term basis for
general business purposes.

         Deposits.  Deposits are attracted from within the Bank's primary market
area of Burlington County, New Jersey, through the offering of a broad selection
of  deposit  instruments  including  regular  checking  accounts,   non-interest
checking   accounts,   money  market  accounts,   regular   passbook   accounts,
certificates  of deposit and IRA accounts.  Deposit account terms vary according
to the  minimum  balance  required,  the time  periods  the funds must remain on
deposit and the interest rate,  among other factors.  The Bank is a member of an
automated teller machine network.

                                       16

<PAGE>




         The Bank regularly evaluates the internal cost of funds,  surveys rates
offered by competing institutions, reviews the Bank's cash flow requirements for
lending and  liquidity and executes  rate changes when deemed  appropriate.  The
Bank does not have any brokered  deposits and has no present intention to accept
or solicit such deposits.

         Certificates  of Deposit  Maturity  Schedule.  The following table sets
forth the  amount  and  maturities  of the  Bank's  certificates  of  deposit at
December 31, 1997.

                   Less than    1 to       2 to       After
                     1 year    2 years    3 years    3 years     Total
                    --------   -------    -------    -------     ------
                                      (In Thousands)
 less than  4.00%   $ 15,032   $      3   $   --     $     10   $ 15,045
 4.01 - 6.00% ...     87,011     47,339     17,135     49,470    200,955
 6.01 - 8.00% ...        209         83      1,674     21,788     23,754
 8.01 - 10.00% ..       --         --         --        3,223      3,223
10.01 - 12.00% ..       --         --         --           73         73
                    --------   --------   --------   --------   --------

     Total ......   $102,252   $ 47,425   $ 18,809   $ 74,564   $243,050
                    ========   ========   ========   ========   ========



         Certificates  of Deposit in Excess of  $100,000.  The  following  table
indicates the amount of the Bank's  certificates  of deposit of $100,000 or more
by time remaining until maturity as of December 31, 1997.

Maturity Period of Deposits                 Certificates of
---------------------------                 ---------------
                                                 Deposit
                                                 -------
                                              (In Thousands)
Three months or less................              $13,681
Three through six months............                2,901
Six through twelve months...........                4,196
Over twelve months..................                8,654
                                                   ------
     Total..........................              $29,432
                                                   ======





                                       17

<PAGE>



         Deposit Rate. The following  table sets forth the  distribution  of the
Bank's  average  balance  of deposit  accounts  at the dates  indicated  and the
weighted average nominal interest rates on each category of deposits presented.
<TABLE>
<CAPTION>
                                                                       At December 31,
                               -------------------------------------------------------------------------------------------
                                                 1997                       1996                        1995
                               ------------------------------- -----------------------------  ----------------------------
                                                      Weighted                     Weighted                       Weighted
                                          Percent of  Average             Percent  Average              Percent    Average
                               Average       Total    Nominal   Average  of Total  Nominal   Average   of Total    Nominal
                               Balance     Deposits    Rate     Balance  Deposits   Rate     Balance   Deposits     Rate
                               -------     --------   ------    -------  --------  ------    -------   --------    -----
                                                                     (In Thousands)
<S>                              <C>        <C>        <C>    <C>          <C>       <C>    <C>          <C>        <C>
Passbook and regular savings...  $ 73,802    15.6%      2.56%  $ 69,666     16.22%    2.52%  $ 66,798     15.93%     2.54%

Checking accounts..............    89,418    18.8        .92     72,427     16.87      .96     63,607     15.17      1.11

Money market deposit accounts..    59,797    12.6       2.72     57,399     13.37     2.65     58,990     14.06      2.66

Certificates of deposit........   243,381    51.3       5.32    228,974     53.32     5.30    229,103     54.63      5.21

Surrogate statement............     7,860     1.7       5.80        947       .22     6.12        896      0.21      6.10
                                  -------   -----       ----    -------    ------  -------    -------   -------   -------

  Total Deposits...............  $474,258  100.00%      3.74%  $429,413    100.00%    3.77%  $419,394    100.00%     3.81%
                                  =======  ======       ====    =======    ======     ====    =======    ======    ======
</TABLE>






                                       18

<PAGE>



         Borrowings.  Savings  deposits  are the  primary  source  of funds  for
Farmers and  Mechanics  lending and  investment  activities  and for its general
business purposes.  From time to time,  however,  the Bank has relied upon other
borrowings  to  supplement  its  supply of  lendable  funds and to meet  deposit
withdrawal requirements.

         The FHLB  functions  as a central  reserve  bank  providing  credit for
savings and loan  associations and certain other member financial  institutions.
As a member,  Farmers and Mechanics is required to own capital stock in the FHLB
of New York and is  authorized  to apply for  advances  on the  security of such
stock  and  certain  of  its  home  mortgages  and  other  assets  (principally,
securities  which are  obligations  of, or  guaranteed  by, the United  States),
provided certain standards related to credit worthiness have been met. Under its
current  credit  policies,  the FHLB of New  York  limits  advances  to 30% of a
member's  assets.  At  December  31,  1997,  the Bank had $24.5  million in FHLB
advances outstanding at a weighted-average  interest rate of 6.08%. The advances
are collateralized by certain first mortgage loans.

         At December 31, 1997, the Bank had securities sold under the agreements
to repurchase (repurchase  agreements) in the aggregate amount of $60.0 million.
The repurchase  agreements are collateralized by U.S. Agency Notes and CMOs with
a market value of $63.0 million.

         On July 28, 1994 the Corporation issued $10 million of 10% Subordinated
Debentures (the  "Debentures")  due 2004.  Interest is payable on the Debentures
semi-annually  on February 1 and August 1 of each year. The Corporation made its
first interest  payment on the  Debentures on February 1, 1995. The  Corporation
used the proceeds for expansion of the Corporation's  operations  through branch
acquisitions and general corporate purposes. The Debentures were issued under an
Indenture  which provides that the  Corporation  cannot declare or pay dividends
on, or  purchase,  redeem or acquire  for value its  capital  stock,  return any
capital to holders of capital stock as such, or make any  distribution of assets
to capital  stockholders  as such,  unless,  from and after the date of any such
dividend  declaration or the date of any such purchase,  redemption,  payment or
distribution  specified above,  the Corporation  retains at all times cash, cash
equivalents  (as  determined in accordance  with generally  accepted  accounting
principles)  or  marketable  securities  (with a market value as measured on the
applicable Declaration Date or Redemption Date) in an amount sufficient to cover
the two consecutive semi-annual interest payments that will be due and payable.

Personnel

         As of December 31, 1997 the  Corporation,  including its  subsidiaries,
had 191 full-time employees and 161 part-time  employees.  The employees are not
represented  by  a  collective   bargaining   unit.   Management   believes  its
relationship with its employees is good.

Competition

         The Bank faces strong competition in its attraction of savings deposits
and in the  origination of real estate loans.  Its most direct  competition  for
savings  deposits  has  historically  come from other  thrift  institutions  and
commercial banks located in Burlington County and the contiguous  counties.  The
Bank's  competition  for real  estate  loans is  principally  from other  thrift
institutions, commercial banks, and mortgage banking companies.

         The Bank competes for loans principally  through the interest rates and
loan fees it charges and the  efficiency and quality of the services it provides
borrowers, real estate brokers, and home builders.

                                       19

<PAGE>



The Bank competes for deposits by offering  depositors a wide variety of savings
accounts, checking accounts, convenient office locations and hours, tax-deferred
retirement programs and other miscellaneous services.

Regulation

         Set  forth  below is a brief  description  of  certain  laws  which are
related to the regulation of the Bank and the Corporation.  The description does
not purport to be complete  and is  qualified  in its  entirety by  reference to
applicable laws and regulations.

Regulation of the Corporation

         General.  The Corporation is a unitary savings and loan holding company
subject to regulatory oversight by the OTS. As such, the Corporation is required
to  register  and file  reports  with the OTS and is subject to  regulation  and
examination by the OTS. In addition,  the OTS has enforcement authority over the
Corporation and its non-savings association  subsidiaries which also permits the
OTS to restrict or prohibit  activities that are determined to be a serious risk
to the subsidiary savings association. This regulation and oversight is intended
primarily  for  the  protection  of the  depositors  of the  Bank  and  not  for
stockholders of the Corporation.

         Restrictions on  Acquisitions.  If the Corporation  acquires control of
another savings  institution as a separate  subsidiary (other than a financially
troubled  institution  acquired  pursuant to special  provisions  of the Federal
Deposit Insurance Act), the Corporation would become a multiple savings and loan
holding company whose activities and those of its  subsidiaries  (other than the
Bank or any other  savings  association)  would become  subject to  restrictions
under the Home  Owners' Loan Act  ("HOLA").  No such  multiple  savings and loan
holding  company or  subsidiary  thereof that is not a savings  association  may
commence,  or continue for more than 180 days after becoming a multiple  savings
and loan holding company or subsidiary thereof, any business activity other than
(i)  furnishing  or  performing  management  services for a  subsidiary  savings
association;  (ii) conducting an insurance agency or an escrow  business;  (iii)
holding  or  managing  properties  used  or  occupied  by a  subsidiary  savings
association;  or (iv)  acting as a trustee  under deeds of trust.  In  addition,
unless  prohibited  or limited  by the OTS,  such a  multiple  savings  and loan
holding  company  may  engage in  non-banking  activities  permissible  for bank
holding companies,  including,  but not limited to, investment advice,  leasing,
underwriting credit insurance,  management  consulting services,  and securities
brokerage  activities,  as the Federal  Reserve Board  determines  under section
4(c)(8) of the Bank  Holding  Company  Act of 1956  ("BHCA"),  and may engage in
those activities authorized by the OTS. Such a multiple savings and loan holding
company must obtain prior OTS  approval  before it may engage in any  particular
activity  permissible  for bank holding  companies  under section 4(c)(8) of the
BHCA.

         Federal law  generally  provides that no "person,"  acting  directly or
indirectly or through or in concert with one or more other persons,  may acquire
"control"  as that term is defined in OTS  regulations,  of a  federally-insured
savings  institution  without  giving at least 60 days written notice to the OTS
and  providing  the  OTS  with  an   opportunity   to  disapprove  the  proposed
acquisition.   Such  acquisitions  of  control  may  be  disapproved  if  it  is
determined,  among other things,  that (i) the acquisition  would  substantially
lessen  competition;  (ii) the financial condition of the acquiring person might
jeopardize the financial  stability of the savings  institution or prejudice the
interests of its depositors; or (iii) the competency, experience or integrity of
the acquiring person or the proposed management personnel

                                                        20

<PAGE>



indicates  that it would not be in the interest of the  depositors or the public
to permit the acquisitions of control by such person.

         Payment of Dividends.  The Corporation's  principal source of income is
dividends to the extent declared and paid by the Bank.  Therefore,  restrictions
on the Bank's ability to pay dividends may impact the  Corporation's  ability to
pay dividends to stockholders.

Regulation of the Bank

         General. As a federally-chartered,  SAIF-insured savings bank, the Bank
is subject to extensive  regulation by the OTS and the FDIC.  Lending activities
and other  investments must comply with various federal statutory and regulatory
requirements.   The  Bank  is  also  subject  to  certain  reserve  requirements
promulgated by the Federal Reserve Board.

         The OTS, in conjunction with the FDIC,  regularly examines the Bank and
prepares  reports for the  consideration of the Bank's Board of Directors on any
deficiencies that they find in the Bank's  operations.  The Bank's  relationship
with its depositors and borrowers is also regulated to a great extent by federal
law,  especially  in such matters as the  ownership of savings  accounts and the
form and content of the Bank's mortgage documents.

         The Bank must file  reports  with the OTS and the FDIC  concerning  its
activities  and  financial  condition,   in  addition  to  obtaining  regulatory
approvals  prior to entering into certain  transactions  such as mergers with or
acquisitions  of other savings  institutions.  This  regulation and  supervision
establishes a comprehensive  framework of activities in which an institution can
engage  and  is  intended  primarily  for  the  protection  of  depositors.  The
regulatory structure also gives the regulatory  authorities extensive discretion
in connection with their supervisory and enforcement  activities and examination
policies,  including  policies with respect to the  classification of assets and
the  establishment of adequate loan loss reserves for regulatory  purposes.  Any
change in such  regulations,  whether by the OTS, the FDIC or the Congress could
have  a  material  adverse  impact  on  the  Corporation,  the  Bank  and  their
operations.

         Insurance of Deposit Accounts.  The Bank's deposit accounts are insured
by the SAIF to a maximum of $100,000 for each insured  member (as defined by law
and regulation).  The FDIC has the authority to suspend the deposit insurance of
any  savings  association  without  tangible  capital.  However,  if  a  savings
association has positive capital when it includes qualifying  intangible assets,
the FDIC cannot suspend deposit  insurance unless capital  declines  materially,
the  institution  fails to enter into and remain in compliance  with an approved
capital plan or the institution is operating in an unsafe or unsound manner.

         Regardless of an institution's capital level, insurance of deposits may
be  terminated  by the FDIC upon a finding that the  institution  has engaged in
unsafe or unsound  practices,  is in an unsafe or unsound  condition to continue
operations  or has violated  any  applicable  law,  regulation,  rule,  order or
condition  imposed  by the  FDIC or the  institution's  primary  regulator.  The
management of the Bank is unaware of any practice,  condition or violation  that
might lead to termination of its deposit insurance.

         The FDIC  charges an annual  assessment  for the  insurance of deposits
based on the risk a particular  institution poses to its deposit insurance fund.
This  risk  classification  is  based  on an  institution's  capital  group  and
supervisory subgroup assignment. In addition, the FDIC is authorized to increase
such deposit insurance rates, on a semi-annual  basis, if it determines that the
reserve ratio of the

                                       21

<PAGE>



SAIF will be less than the  designated  reserve  ratio of 1.25% of  SAIF-insured
deposits. In setting these increased assessments,  the FDIC must seek to restore
and preserve the ratio to that designated  reserve level, or such higher reserve
ratio as  established by the FDIC. In addition,  under the FDICIA,  the FDIC may
impose special  assessments  on SAIF members to repay amounts  borrowed from the
U.S. Treasury or for any other reason deemed necessary by the FDIC.

         On January 1, 1997, deposit insurance assessments for SAIF members were
reduced to  approximately  .064% of deposits on an annual  basis;  this rate may
continue through the end of 1999.  During this same period,  members of the Bank
Insurance  Fund  ("BIF"),  predominantly  commercial  banks,  are expected to be
annually assessed approximately .013% of deposits.  Thereafter,  assessments for
BIF and SAIF members  should be the same and the SAIF and BIF may be merged.  It
is expected that these continuing assessments for both SAIF and BIF members will
be used to repay outstanding Financing Corporation bond obligations. As a result
of these  changes,  beginning  January  1, 1997,  the rate of deposit  insurance
assessed  to  the  Bank  substantially  declined.  The  Bank's  federal  deposit
insurance premium for the fiscal year ended December 31, 1997 was $233 thousand.

         In addition to federal deposit insurance premiums, savings institutions
like the Bank are required by OTS  regulations to pay  assessments to the OTS to
fund the operations of the OTS. The general  assessment is paid on a semi-annual
basis  and is  computed  based on total  assets  of the  institution,  including
subsidiaries.

         Regulatory  Capital  Requirements.   OTS  capital  regulations  require
savings institutions to meet three capital standards: (1) tangible capital equal
to 1.5% of total adjusted  assets,  (2) a leverage ratio (core capital) equal to
3% of total adjusted assets and (3) a risk-based  capital  requirement  equal to
8.0% of total  risk-weighted  assets.  The Bank  exceeded  its  minimum  capital
requirements  with regulatory  tangible,  core and risk-based  capital ratios of
7.05%, 7.05% and 15.85%, respectively, at December 1997.

         Savings  associations  with a greater than  "normal"  level of interest
rate exposure will be subject to a deduction  from total capital for purposes of
calculating their risk-based capital  requirement.  Specifically,  interest rate
exposure  will be measured as the  decline in net  portfolio  value due to a 200
basis point decrease in market  interest  rates.  The interest rate risk ("IRR")
component to be deducted from total capital is equal to one-half the  difference
between an  institution's  measured  exposure and the "normal" level of exposure
which is defined as two percent of the estimated economic value of its assets.

         Dividend  and  Other  Capital  Distribution  Limitations.  Current  OTS
regulations  require  the Bank to give  the OTS 30 days  advance  notice  of any
proposed  declaration  of  dividends  to the  Corporation  and  the  OTS has the
authority under its  supervisory  powers to prohibit the payment of dividends to
the Corporation. In addition, the Bank may not declare or pay a cash dividend on
its  capital  stock if the  effect  thereof  would be to reduce  the  regulatory
capital  of the Bank  below the  amount  required  for the  liquidation  account
established pursuant to the Bank's Conversion.

         Current   OTS   regulations   impose   limitations   upon  all  capital
distributions  by savings  institutions,  such as cash  dividends,  payments  to
repurchase or otherwise acquire its shares,  payments to shareholders of another
institution  in a  cash-out  merger  and  other  distributions  charged  against
capital. The rule establishes three tiers of institutions, based primarily on an
institution's capital level. An institution that exceeds all requirements before
and after a proposed  capital  distribution  ("Tier 1 institution")  and has not
been  advised by the OTS that it is in need of more than the normal  supervision
can, after prior notice,

                                       22

<PAGE>



but  without  the  approval  of the OTS,  make  capital  distributions  during a
calendar  year equal to the greater of (i) 100% of its net income to date during
the  calendar  year plus the amount that would  reduce by one-half  its "surplus
capital  ratio" (the excess over its capital  requirements)  at the beginning of
the  calendar  year,  or (ii) 75% of its net income  over the most  recent  four
quarter period.  Any additional capital  distributions  require prior regulatory
approval.  As of December 31, 1997,  the Bank was a Tier 1  institution.  In the
event the Bank's capital fell below its  requirement or the OTS notified it that
it was in need of more than  normal  supervision,  the  Bank's  ability  to make
capital distributions could be restricted. In addition, the OTS could prohibit a
proposed  capital  distribution  by any  institution,  which would  otherwise be
permitted by the regulation,  if the OTS determines that such distribution would
constitute an unsafe or unsound  practice.  Finally,  a savings  association  is
prohibited from making a capital distribution if, after making the distribution,
the savings association would be "undercapitalized".

         In January 1998, the OTS proposed amendments to its current regulations
with  respect  to  capital  distributions  by  savings  associations.  Under the
proposed regulation,  savings associations that would remain at least adequately
capitalized  following the capital  distribution  and that meet other  specified
requirements,  would not be required to file a notice or application for capital
distributions (such as cash dividends)  declared below specified amounts.  Under
the proposed  regulation,  savings associations which are eligible for expedited
treatment  under current OTS regulations are not required to file a notice or an
application  with the OTS if (i) the savings  association  would remain at least
adequately capitalized following the capital distribution and (ii) the amount of
the  capital  distribution  does not  exceed  an  amount  equal  to the  savings
association's  net income for that year to date, plus the savings  association's
retained  net  income  for the  previous  two years.  Thus,  under the  proposed
regulation,  only  undistributed  net  income  for the  prior  two  years may be
distributed in addition to the current year's  undistributed  net income without
the filing of an application  with the OTS.  Savings  associations  which do not
qualify for expedited  treatment or which desire to make a capital  distribution
in excess of the specified amount, must file an application with, and obtain the
approval  of, the OTS prior to making the capital  distribution.  Under  certain
other circumstances, savings associations will be required to file a notice with
OTS prior to making the capital  distribution.  The OTS proposed  limitations on
capital  distributions  are similar to the  limitations  imposed  upon  national
banks.  The Bank is unable to predict  whether or when the  proposed  regulation
will become effective.

         Qualified  Thrift Lender Test.  HOLA requires  savings  institutions to
meet  a  qualified  thrift  lender  ("QTL")  test.  If  the  Bank  maintains  an
appropriate  level  of  Qualified  Thrift  Investments   (primarily  residential
mortgages and related investments, including certain mortgage-backed securities)
("QTIs")  and  otherwise  qualifies  as a QTL,  it will  continue  to enjoy full
borrowing  privileges from the FHLB of New York. The required percentage of QTIs
is 65% of  portfolio  assets  (defined as all assets  minus  intangible  assets,
property used by the  institution  in conducting  its business and liquid assets
equal to 10% of total  assets).  Certain  assets  are  subject  to a  percentage
limitation of 20% of portfolio  assets.  In addition,  savings  associations may
include shares of stock of the FHLBs,  FNMA and FHLMC as qualifying  QTIs. As of
December 31, 1997,  the Bank was in  compliance  with its QTL  requirement  with
80.21% of its assets invested in QTIs.

         Loans-to-One Borrower. Under the HOLA, as amended, savings institutions
are subject to the national bank limits on loans-to-one  borrower.  Generally, a
savings  association may not make a loan or extend credit to a single or related
group of borrowers in excess of 15% of the association's  unimpaired capital and
surplus.  An additional  amount may be lent, equal to 10% of unimpaired  capital
and surplus, if such loan is secured by readily-marketable  collateral, which is
defined to include certain securities and

                                       23

<PAGE>



bullion,  but generally does not include real estate. The Bank does not have any
loans-to-one borrower which exceed these limits.

         Federal Home Loan Bank System.  The Bank is a member of the FHLB of New
York,  which is one of 12 regional  FHLBs that  administers  the home  financing
credit  function  of  savings  associations.  Each FHLB  serves as a reserve  or
central bank for its members within its assigned region.  It is funded primarily
from  proceeds  derived from the sale of  consolidated  obligations  of the FHLB
System.  It makes loans to members (i.e.,  advances) in accordance with policies
and procedures established by the Board of Directors of the FHLB.

         As a member, the Bank is required to purchase and maintain stock in the
FHLB of New York in an  amount  equal to at  least  1% of its  aggregate  unpaid
residential  mortgage loans, home purchase  contracts or similar  obligations at
the beginning of each year.  At December 31, 1997,  the Bank had $3.6 million in
FHLB stock, which was in compliance with this requirement.

         Federal  Reserve  System.   The  Federal  Reserve  Board  requires  all
depository  institutions to maintain  non-interest bearing reserves at specified
levels against their transaction accounts (primarily  non-interest  checking and
interest-bearing checking accounts) and non-personal time deposits. The balances
maintained to meet the reserve requirements imposed by the Federal Reserve Board
may be used to satisfy the liquidity requirements that are imposed by the OTS.

         Proposed  Legislation.  Bills  have been  introduced  to  congressional
committees that would  consolidate the OTS with the Office of the Comptroller of
the  Currency  ("OCC").  The  resulting  agency  would  regulate  all  federally
chartered commercial banks and thrift institutions. In the event that the OTS is
consolidated  with the OCC,  it is  possible  that the thrift  charter  could be
eliminated  and thrifts  could be forced to convert to commercial  banks.  Under
current law and regulations, a unitary savings and loan holding company, such as
the  Company,  which  has only  one  thrift  subsidiary  such as the  Bank,  has
essentially unlimited investment  authority.  Legislation has also been proposed
which, if enacted, would limit the non-banking related activities of savings and
loan holding companies to those activities permitted for bank holding companies.

Item 2.  Properties
-------------------

         The Bank conducts its business through its two  administrative  offices
located in  Burlington,  New Jersey and its 21 branch  locations  in  Burlington
County,  New Jersey. All of the Bank's office and branch facilities are owned by
the Bank,  except for two branch office locations in Lumberton and Medford,  New
Jersey.  Management of the Bank considers the physical  condition of each of the
Bank's administrative and branch offices to be good and adequate for the conduct
of the Bank's  business.  The net book value of the Bank's  investment in office
property and  equipment,  including  data  processing  equipment,  totaled $15.7
million at December 31, 1997.

Item 3.  Legal Proceedings
--------------------------

         The Bank is  periodically  involved  as a  plaintiff  or  defendant  in
various  legal  actions,   such  as  actions  to  enforce  liens,   condemnation
proceedings  on properties in which the Bank holds mortgage  interests,  matters
involving the making and servicing of mortgage loans and other matters  incident
to the Bank's  business.  In the opinion of  management,  none of these  actions
individually  or in the  aggregate  is believed to be material to the  financial
condition or results of operations of the Bank.


                                       24

<PAGE>



Item 4.  Submission of Matters to a Vote of Security Holders
------------------------------------------------------------

     No matters were  submitted to a vote of security  holders during the fourth
quarter of the fiscal year ended December 31, 1997.

                                     Part II

Item 5.Market for the Registrant's Common Equity and Related Stockholder Matters
--------------------------------------------------------------------------------

     The  information  contained  under  the  section  captioned  "Stock  Market
Information"  in the  Corporation's  1997  Annual  Report to  Stockholders  (the
"Annual Report") is incorporated herein by reference.

Item 6.  Selected Financial Data
--------------------------------

     The information contained in the table captioned "Financial  Highlights" in
the Annual Report is incorporated herein by reference.

Item 7. Management's  Discussion and Analysis of Financial Condition and Results
--------------------------------------------------------------------------------
of Operations
-------------

         The  information  contained  in  the  section  captioned  "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in the
Annual Report is incorporated herein by reference.

Item 7A.  Quantitative and Qualitative Disclosures About Market Risk
--------------------------------------------------------------------

         The information contained in the section captioned "Asset and Liability
Management" in the Annual Report is incorporated herein by reference.

Item 8.  Financial Statements and Supplementary Data
----------------------------------------------------

     The  Corporation's  financial  statements  listed  in  Item 14  herein  are
incorporated herein by reference.

Item  9.  Changes  in and  Disagreements  with  Accountants  on  Accounting  and
--------------------------------------------------------------------------------
Financial Disclosure
--------------------

     None.



                                       25

<PAGE>



                                    Part III


Item 10.  Directors and Executive Officers of the Registrant
------------------------------------------------------------

     The  information  contained  under the  section  captioned  "Proposal  I --
Election of Directors" in the  Corporation's  definitive proxy statement for the
Corporation's  1998 Annual Meeting of  Stockholders  (the "Proxy  Statement") is
incorporated herein by reference.

     The executive officers of the Corporation are as follows:
<TABLE>
<CAPTION>
Name                                        Age(1)       Position
----                                        ------       --------

<S>                                           <C>        <C>
Charles B. Yates.......................       58         Chairman of the Board
Craig W. Yates.........................       55         President and Chief Executive Officer
Channing L. Smith......................       54         Vice President and Chief Financial
                                                         Officer
James E. Igo...........................       41         Senior Vice President and Chief
                                                         Lending Officer
Thomas M. Topley.......................       37         Senior Vice President and Corporate
                                                         Secretary
</TABLE>

----------------
(1)  At December 31, 1997.

         The principal office of each executive officer is set forth below.

         Charles B. Yates has served as Chairman of the Board of the Corporation
and the Bank since April 1994.  Mr. Yates has been a private  investor for seven
years. He previously was president of Yates  Industries,  Inc., a New York Stock
Exchange  listed  manufacturing  company  from  1967 to 1982.  He was also  Vice
Chairman of Square D Corporation from 1982 to 1983 and served as Assemblyman and
State Senator in the New Jersey Legislature from 1972 to 1982.

         Craig W. Yates serves as President and Chief  Executive  Officer of the
Corporation  and the Bank.  He became a director of the Bank in January 1990 and
President of the Corporation and the Bank on December 31, 1990. For the previous
five years, Mr. Yates was a private investor. In his capacity as President,  Mr.
Yates is  responsible  for the  operations  of the  Corporation  pursuant to the
policies and procedures adopted by the Board of Directors.

         Channing  L. Smith has  served as Vice  President  and Chief  Financial
Officer of the Corporation and the Bank since October 1994. In this capacity, he
is responsible for the management of the accounting,  treasury,  investment, and
human  resources  of the Bank.  From April 1994 to  October  1994,  he served as
controller of the  Corporation  and the Bank. From January 1990 to April 1993 he
served as corporate Controller for Circuit Foil USA.

         James E. Igo has served as Senior Vice  President  and Senior  Mortgage
Lending  Officer of the  Corporation  and the Bank since  November 1991. In that
capacity, he is responsible for overall loan production, credit quality, product
development, loan servicing and the creation of lending policies and procedures.
From  September  1990  to  November  1991,  he  served  as the  Vice  President,
Commercial  Lending of the Corporation and the Bank.  Prior to 1990, Mr. Igo was
Senior Vice President and Senior Lending Officer for a commercial bank.

                                       26

<PAGE>




         Thomas M.  Topley has served as Senior  Vice  President  of  Operations
since April 1993 and as  Corporate  Secretary  of the  Corporation  and the Bank
since April 1992. In that  capacity,  he is responsible  for corporate  records,
retail branch administration,  data processing and accounting  operations.  From
June 1990 to April 1993,  Mr. Topley served as Vice President and Controller for
the Bank.

Item 11.  Executive Compensation
--------------------------------

         The information  contained under the section  captioned  "Proposal I --
Election  of  Directors  Executive  Compensation"  in  the  Proxy  Statement  is
incorporated herein by reference.

Item 12.  Security Ownership of Certain Beneficial Owners and Management
------------------------------------------------------------------------

         (a)      Security Ownership of Certain Beneficial Owners

                  Information  required by this item is  incorporated  herein by
                  reference  to the Section  captioned  "Voting  Securities  and
                  Principal Holders Thereof" of the Proxy Statement.

         (b)      Security Ownership of Management

                  Information  required by this item is  incorporated  herein by
                  reference to the section captioned  "Proposal I -- Election of
                  Directors" of the Proxy Statement.

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

Item 13.  Certain Relationships and Related Transactions
--------------------------------------------------------

         The  information  required  by this  item  is  incorporated  herein  by
reference to the section  captioned  "Proposal I -- Election of  Directors"  and
"Voting Securities and Principal Holders Thereof" of the Proxy Statement.

                                     Part IV

Item 14.  Exhibits, Financial Statements, and Reports on Form 8-K*
------------------------------------------------------------------

         (a)      The following documents are filed as part of this report:

                  1.       The following financial  statements and the report of
                           independent  auditors of the  Registrant  included in
                           the  Registrant's  1997 Annual Report to Stockholders
                           are incorporated herein by reference and also in Item
                           8 hereof.

                           (a)      Report of Coopers & Lybrand L.L.P.

                           (b)      Consolidated Statements of Financial
                                    Condition as of December 31, 1997 and 1996

                           (c)      Consolidated  Statements of  Operations  for
                                    the years ended December 31, 1997,  1996 and
                                    1995


                                       27

<PAGE>



                           (d)      Consolidated  Statements  of Cash  Flows for
                                    the years ended December 31, 1997,  1996 and
                                    1995

                           (e)      Consolidated   Statements   of   Changes  in
                                    Stockholders'  Equity  for the  years  ended
                                    December 31, 1997, 1996 and 1995

                           (f)      Notes to Consolidated Financial Statements

                  2.       No financial  statement schedules are provided herein
                           because  the  required   information  is  either  not
                           applicable,   not   required   or  is  shown  in  the
                           consolidated  financial  statements  or in the  notes
                           thereto.

                  3.       Exhibits

                           3.1      Certificate of  Incorporation  (Incorporated
                                    by reference to the  Registrant's  Form  S-1
                                    Registration Statement No. 33-24340).

                           3.2      Bylaws  (Incorporated  by  reference  to the
                                    Registrant's Form S-1 Registration Statement
                                    No. 33-24340).

                           4        Agreement to furnish copy to Securities  and
                                    Exchange    Commission   upon   request   of
                                    Indenture  dated July 28, 1994,  relating to
                                    10%  Subordinated  Debentures  due  2004  in
                                    aggregate  principal  amount of $10 million.
                                    (Incorporated  by reference to  Registrant's
                                    Annual  Report on Form  10-K for the  fiscal
                                    year ended December 31, 1994).

                           10.1     Stock Option and Incentive Plan(Incorporated
                                    by reference to the  Registrant's  Form  S-8
                                    Registration Statement No. 33-24340).

                           13       1997 Annual Report to Stockholders

                           21       Subsidiaries of the Registrant

                           23       Consent of Independent Auditors

                           27       Financial Data Schedule

         (b)      No Reports on Form 8-K were filed  during the last  quarter of
                  the fiscal year covered by this Report.
-------------------
*        Incorporated by reference from the  Registrant's  1997 Annual Report to
         Stockholders attached hereto as Exhibit 13.



                                       28

<PAGE>




                                   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.

                                        FMS FINANCIAL CORPORATION

Date:  March 30, 1998                   By: /s/ Craig W. Yates
      ---------------------------           ------------------------------------
                                             Craig W. Yates, President and
                                             Chief Executive Officer
                                             (Duly Authorized Representative)

     Pursuant to the  requirement 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.

        Signatures                                         Dated

/s/ Charles B. Yates                                    March 30, 1998
------------------------------------------         -----------------------------
Charles B. Yates
Chairman of the Board

/s/ Craig W. Yates                                      March 30, 1998
------------------------------------------         -----------------------------
Craig W. Yates
President, Chief Executive Officer and Director
(Principal Executive Officer)

/s/ George J. Barber                                    March 30, 1998
------------------------------------------         -----------------------------
George J. Barber, Director

/s/ Channing L. Smith                                   March 30, 1998
------------------------------------------         -----------------------------
Channing L. Smith
Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)

/s/ Edward J. Statts, Jr.                               March 30, 1998
------------------------------------------         -----------------------------
Edward J. Staats, Jr., Director

/s/ Wayne H. Page                                       March 30, 1998
------------------------------------------         -----------------------------
Wayne H. Page, Director

/s/ James C. Lignana                                    March 30, 1998
------------------------------------------         -----------------------------
James C. Lignana, Director

/s/ Dominic W. Flamini                                  March 30, 1998
------------------------------------------         -----------------------------
Dominic W. Flamini, Director

/s/ Vincent R. Farias                                   March 30, 1998
------------------------------------------         -----------------------------
Vincent R. Farias, Director



<PAGE>




                                INDEX TO EXHIBITS




EXHIBIT
-------

 3.1          Certificate of Incorporation (Incorporated
              by reference to the Registrant's Form S-1
              Registration Statement No. 33-24340).

 3.2          Bylaws (Incorporated by reference to the
              Registrant's Form S-1 Registration Statement
              No. 33-24340).

4             Agreement to furnish copy to Securities and Exchange
              Commission upon request of Indenture dated July 28,
              1994, relating to 10% Subordinated Debentures due
              2004 in aggregate principal amount of $10 million.
              (Incorporated by reference to Registrant's Annual Report
              on Form 10-K for the fiscal year ended December 31, 1994).

10.1          Stock Option and Incentive Plan (Incorporated
              by reference to the Registrant's Form S-8
              Registration Statement No. 33-24340).

13            1997 Annual Report to Stockholders

21            Subsidiaries of the Registrant.

23            Consent of Independent Auditors

27            Financial Data Schedule