UNITED
STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20849

FORM 10-KSB

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934 FOR THE YEAR ENDED DECEMBER 31, 2007

o TRANSITION REPORT PURSUANT TO SECTION 13 OF THE
EXCHANGE ACT


FOR THE TRANSITION PERIOD


COMMISSION FILE NUMBER 0-50237

| |                                                                  | 
| | ---------------------------------------------------------------- | 
| | VSB   Bancorp, Inc.                                              | 
| |                                                                  | 
| | (Name of Small Business Issuer
  in its charter)                 | 
| |                                                                  | 
| | New York                                                         | 
| |                                                                  | 
| | (State or other jurisdiction of
  incorporation or organization) | 
| |                                                                  | 
| | 11 - 3680128                                                     | 
| |                                                                  | 
| | (I. R. S. Employer
  Identification No.)                         | 
| |                                                                  | 
| | 4142 Hylan Boulevard, Staten Island, New York 10308              | 
| |                                                                  | 
| | (Address of principal executive
  offices)                       | 
| |                                                                  | 
| | (718) 979-1100                                                   | 
| |                                                                  | 
| | Issuers telephone number                                        | 
| |                                                                  | 
| | Common Stock                                                     | 
| |                                                                  | 
| | (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. x Yes o 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-KSB/A or any amendment to this Form 10-KSB/A.
o.

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

Indicate by check mark if
accelerated filer. o Yes  x No.

State Issuers revenues for
the most recent fiscal year:  $14,451,745.

The aggregate market value
of the voting stock held by non-affiliates of the registrant at June 30, 2007 was
$18,102,640.

The registrant had 1,900,509 common shares outstanding as of March 13,
2008.

---



Documents incorporated by
reference:

Portions of the registrants
definitive proxy statement filed on or about March 25, 2008 into
Part III of this Form 10-KSB.

Forward-Looking Statements

When
used in this Form 10-KSB, or in any written or oral statement made by us or our
officers, directors or employees, the words and phrases will result, expect,
will continue, anticipate, estimate, project, or similar terms are
intended to identify forward-looking statements.  A variety of factors could cause our actual results and
experiences to differ materially from the anticipated results or other
expectations expressed in any forward-looking statements. Some of the risks and
uncertainties that may affect our operations, performance, development and
results, the interest rate sensitivity of our assets and liabilities, and the
adequacy of our loan loss allowance, include, but are not limited to:

| |   |                                                                                                                                                                                                                                          
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | · | deterioration
  in local, regional, national or global economic conditions which could result
  in, among other things, an increase in loan delinquencies, a decrease in
  property values, or a change in the real estate turnover rate;
|
| | · | changes in
  market interest rates or changes in the speed at which market interest rates
  change;                                                                                                                                      
|
| | · | changes in
  laws and regulations affecting the financial service industry;                                                                                                                                                              
|
| | · | changes in
  competition; and                                                                                                                                                                                                            
|
| | · | changes in
  consumer preferences by our customers or the customers of our business
  borrowers.                                                                                                                                         

Please
do not place undue reliance on any forward-looking statement, which speaks only
as of the date made. There are many factors, including those described above,
that could affect our future business activities or financial performance and
could cause our actual future results or circumstances to differ materially
from those we anticipate or project.  We
do not undertake any obligation to update any forward-looking statement after
it is made.

2

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PART I

Item 1. Description of Business.

Business of
VSB Bancorp, Inc.

VSB Bancorp,
Inc. (referred to using terms such as we, us, or the Company) became the
holding company for Victory State Bank (the Bank), a New York chartered
commercial bank, upon the completion of a reorganization of the Bank into the
holding company form of organization. The reorganization was effective in May
2003. All the outstanding stock of Victory State Bank was exchanged for stock
of VSB Bancorp, Inc. on a three for two basis so that the stockholders of
Victory State Bank became the owners of VSB Bancorp, Inc. and VSB Bancorp, Inc.
owns all the stock of Victory State Bank. The common stock we issued in the
transaction qualifies as exempt securities under Section 3(a)(12) of the
Securities Act of 1933. Our primary business is owning all of the issued and
outstanding stock of the Bank. Our common stock is listed on the NASDAQ Capital
Market, formerly known as the NASDAQ SmallCap Market, effective on March 16,
2007. We continue to trade under the symbol VSBN.

The main
office of the Company and the Bank is at 4142 Hylan Boulevard, Staten Island,
New York 10308, telephone (718) 979-1100. We maintain an Internet web site at
www.victorystatebank.com.

We also own
all of the common stock of VSB Capital Trust I, a special purpose trust
established to issue $5 million of trust preferred securities in August 2003.
Under Federal Reserve Regulations, provided that certain conditions are met, up
to 25% of our Tier I capital requirement may be satisfied through funds raised
by the sale of trust preferred securities. We used the proceeds from the sale
of the trust preferred securities to continue to satisfy our regulatory capital
requirements. We contributed $4.2 million of the proceeds from the sale of
those securities to Victory State Bank as capital, thus providing the Bank with
capital to support future growth. Trust preferred securities are long-term debt
securities in which interest paid to the owner of the security is tax
deductible to the holding company, in contrast to dividends paid by the holding
company, which do not provide a tax benefit to the company that pays the
dividends. The tax deductibility of the interest payments means that trust
preferred securities can be a low-cost source of capital.

Victory State Bank

Victory State Bank is a New
York State chartered commercial bank, founded in November 1997. The Bank is
supervised by the New York State Banking Department and the Federal Deposit
Insurance Corporation (FDIC). The Banks principal business has been
and continues to be attracting commercial deposits from primarily the general
public and investing those deposits, together with funds generated from
operations and repayments on existing investments, primarily in loans for business
purposes and investment securities. The Banks revenues are derived principally
from interest on our commercial loan and investment securities portfolios. The
Banks primary sources of funds are deposits and principal and interest
payments on loans and investment securities.

Victory State
Bank serves its primary market of Staten Island, New York through its five
banking offices. The Bank opened its original main office in the Oakwood
section of Staten Island in November 1997 which was closed in February 2007 as
the lease expired at that location; its first branch was opened in the West
Brighton section of Staten Island in June 1999; its second branch in the St.
George section of Staten Island in January 2000; its third branch in the Dongan
Hills section of Staten Island in December 2002 and its fourth branch in the
Rosebank section of Staten Island in April 2006. In February 2007, the Bank
opened its new main office in the Great Kills section of Staten Island. The
Banks deposits are insured by the Federal Deposit Insurance Corporation up to
the maximum amounts permitted by law. Victory State Bank also serves its
customers through its website, www.victorystatebank.com.

3

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Market Area and Competition

Victory State
Bank has been, and continues to be, a community-oriented, state-chartered
commercial bank offering a variety of traditional financial services to meet
the needs of the communities in which it operates. Management considers our
reputation for customer service as its major competitive advantage in
attracting and retaining customers in its market area.

Our primary
market area is concentrated in the neighborhoods surrounding our branches in
the New York City Borough of Staten Island. Management believes that our branch
offices are located in communities that can generally be characterized as
stable, residential neighborhoods of predominantly one- to four-family
residences and middle income families.

From 1990 to
2000, Staten Islands population grew to 443,728 from 378,977, or a 17%
increase. According to U.S. Census Department estimates, this growth rate has
slowed, with the seven years from 2000 to 2007 showing an estimated population
growth rate of only 7.1% for Staten Island. There was a modest shift from the
20 to 44 year age group to the 45 to 64 year age group during the decade of the
1990s. As a percentage of population, the 45 to 64 year age group increased
from 19.8% to 23.4% during the decade. The Census Department estimates that
this trend continued through at least 2006, when the 45 to 64 year age group
increased to 26.3% of the total population. The largest age group continued to
be the 20 to 44 age group, at 35.2% of total population in 2006, down from
37.0% in 2000.

Median
household income increased to $55,039 from $50,064 during the decade of the
90s. Per capita income in 1999 was $23,905 in Staten Island, slightly higher
than $23,389, the per capita income of New York State. One third of the
households in Staten Island had household income of more than $75,000 in 1999.
These income levels compare favorably with the national household median of
$41,994 and the national per capita median of $21,587. The Census Department
has not published comparable data for recent years, but management believes
that median household income continues to be strong and that these income
levels in Staten Island provide satisfactory support for personal home
ownership, in turn supporting the home building industry, which is a major
industry focus for Victory State Bank.

As the
population grew, the total number of households increased to 156,341 from
130,519 during the 1990s. Total housing units stood at 163,993 in 2000, as
compared to 139,726 in 1990, an increase of 17.4%. Owner occupied housing units
represented 63.8% of total housing units in 2000, which was consistent with the
63.7% level in 1990. Although the growth in housing units has continued, the
pace of that growth has slowed, with an estimate 177,368 housing units at June
30, 2006, an increase of 8.2% since April 1, 2000. This slowing growth presents
challenges to management because of our focus on the home building industry and
related sectors of the local economy.

The New York
City metropolitan area has a high density of financial institutions, many of
which are significantly larger and have greater financial resources than we
have, and all of which are our competitors to varying degrees. Our competition
for loans comes principally from commercial banks, savings banks and insurance
companies. Our most direct competition for deposits has come from commercial
banks and savings banks. In addition, we face increasing competition for
deposits from non-bank institutions such as brokerage firms and insurance
companies in such areas as short-term money market funds, corporate and
government securities funds, mutual funds and annuities.

4

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RISK FACTORS

Bank lending is an inherently risky business.
A substantial portion of our assets are invested in loans, and loans
necessarily present many risks. We must first rely on our borrowers to repay
their loans, and if they are unable to do so, we must rely on the value of the
collateral, if any, for the loan. Changing business conditions, increases in
unemployment, personal problems that a borrower may experience, changes in the
regulations that apply to a borrowers business, changes in the political
climate or in public policy, and many other factors outside our control, could
adversely affect the ability of our borrowers to repay their loans or the value
of the collateral we have received. Although we seek to reduce these risks
through underwriting procedures that we believe are prudent, it is impossible
for us to completely eliminate the risks which arise from making loans except
by eliminating our lending operations.

The current turmoil in the residential
mortgage market and the residential real estate market could adversely affect
our customers and thus have an indirect adverse effect on us.
Making permanent residential mortgage loans is not a material part of our
business, and our investments in mortgage-backed securities and collateralized
mortgage obligations have been made with a view towards avoiding the types of
securities that are backed by low quality mortgage-related assets. However, one
of the primary focuses of our local business is receiving deposits from, and
making loans to, businesses involved in the residential housing industry on
Staten Island. For example, residential construction loans represent a
significant component of our loan portfolio, and most of those loans are made
to real estate developers and builders who build homes with the expectation
that they will sell them during or after construction. Not only do those
developers and builders provide a source of loans, but they also provide us
with deposits and other business. If the weakness in the housing market
continues or worsens, then that could have a substantial adverse effect on our
customers and potential customers, making it more difficult for us to find
satisfactory loan opportunities and low-cost deposits. This could compel us to
invest in lower yielding securities instead of higher-yielding loans and could
also reduce low cost funding sources such as checking accounts and require that
we replace them with higher cost deposits such as time deposits. Either or both
of those shifts could reduce our net income.

Our loans are concentrated in the
residential building trades industry, and thus a downturn in the local housing
market could adversely affect our net income. The largest segment of our loan portfolio is
represented by loans to home builders and others involved in the home building
industry, such as equipment and material suppliers. At December 31, 2007, 24.1%
of our loans were construction mortgage loans, primarily for the construction
of residential properties. Our non-mortgage commercial loans, totaling an
additional 19.4% of our loan portfolio were also concentrated in companies
involved in the construction industry and some of our other loans also involved
companies in related industries. As a result, a worsening of the housing market
in our Staten Island lending area could have a significant negative impact on
both our loan portfolio and our level of deposits. Not only could such a
worsening adversely affect the ability of our borrowers to repay their loans,
but it could also reduce our ability to generate new loans that satisfy our
underwriting criteria. Furthermore, businesses in the home building industry
are a source of deposits as well as loans, and if their businesses suffer, they
are likely to reduce the level of deposits they maintain at with us.

Fluctuations in interest rates could have an
adverse affect on our profitability. Our principal
source of income is the difference between the interest income we earn on
interest-earning assets, such as loans and securities, and our cost of funds,
principally interest paid on deposits. These rates of interest change from time
to time, depending upon a number of factors, including general market interest
rates. However, the frequency of the changes varies among different types of assets
and liabilities. For example, for a five-year loan with an interest rate based
upon the prime rate, the interest rate may change every time the prime rate
changes. In contrast, the rate of interest we pay on a five-year certificate of
deposit adjusts only every five years, based upon changes in market interest
rates.

5

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In general,
the interest rates we pay on deposits adjust more slowly than the interest
rates we earn on loans because the largest part of our loan portfolio consist
of loans with interest rates that fluctuate based upon the prime rate. In
contrast, although many of our deposit categories have interest rates that
could adjust immediately, such as interest checking accounts and savings
accounts, changes in the interest rates on those accounts are at our discretion
and tend to occur more slowly. As a result, recent declines in market interest
rates have had an adverse effect on our net income because the yields we earn
on our loans have declined more rapidly than our cost of funds. Further declines
in market interest rates could have a further adverse effect on our net income,
while increases in market interest rates could increase our net interest income
because our cost of deposits would probably increase more slowly than the
yields on our loans. However, customer preferences and competitive pressures
may negate this positive effect because customers may choose to move funds into
higher-earning deposit types as higher interest rates make them more
attractive, or competitors offer premium rates to attract deposits. We also
have a substantial portfolio of investment securities with fixed rates of
interest, most of which are mortgage-backed securities with an estimated
average life of not more than 5 years.

There is only a very limited trading market
for our common stock. Our common stock is listed on
the NASDAQ Capital Market, formerly known as the NASDAQ SmallCap Market, which
listing was effective on March 16, 2007. We continue to trade under the symbol
VSBN. We applied for that listing in the hope that it would increase the
trading market in our stock and make it easier for individuals to buy and sell
our stock. However, our stock does not trade every day and the average daily
trading volume is limited. During the twelve months ended March 17, 2008, there
were trades reported on only 108 out of 252 trading days, or slightly more than
one out of every three trading days, and our average daily trading volume
during that period was 1,039 shares for all trading days and 2,426 shares per
day for the 109 days on which trades occurred. This data is comparable to the
trading volume data for the previous year when we were not quoted on the NASDAQ
Capital Market. We currently have approximately 153 stockholders of record and
we believe based upon reports we have received from broker/dealers, that there
are approximately an additional 250 stockholders who own their shares in street
name.

The geographic
concentration of our loans increases the risk that adverse economic conditions
could affect our net income. Substantially all of our loans are mortgage loans on property located
in Staten Island, New York, or loans to residents of Staten Island. Staten
Island has experienced an economic down turn in recent years. In addition, due
to the importance of the home building trade on Staten Island, the recent
adverse conditions in the residential real estate market has had an additional
negative impact on many local businesses that make up our core customer base. A
continued economic slow-down or decline in the local economy could have an
adverse effect on us for a number of reasons. Adverse economic conditions could
hurt the ability of our borrowers to repay their loans. If real estate values
decline, reductions in the value of real estate collateral could make it more
difficult for us to recover the full amount due on loans which go into default.
Furthermore, economic difficulties can also increase deposit outflows as
customers must use savings to pay bills. This could increase our cost of funds
because of the need to replace the deposit outflow. All of these factors might
combine to reduce significantly our net income.

Changes in the
federal or state regulation of financial institutions could have an adverse
effect on future operations. Federal and New York State banking laws and regulations exert
substantial control over our operations. Federal and state regulatory
authorities have extensive discretion in connection with their supervision of
Victory State Bank, such as the right to impose restrictions on operations and
the insistence that we increase our allowance for loan losses. Furthermore,
federal and state laws affecting banks are constantly being revised, often
imposing new restrictions or increasing competitive pressures through
de-regulation. Any change in the regulatory structure or statutes or
regulations applicable to banks, bank holding companies, or their competitors,
whether by the Congress, the FDIC, the Federal Reserve System, the New York
State legislature, the New York State Banking Department or any other
regulator, could have a material impact on our operations and profitability.
For example, in late 2006, the FDIC adopted new regulations regarding FDIC
insurance premiums that banks must pay and imposed premium assessments for the
first time in a number of years, effective beginning in 2007. Banks that were
in existence prior to December 31, 1996 have a credit against the assessments,
but since we did not open for business until 1997, we do not have the benefit
of any credit. Our FDIC insurance premium was $91,566 in 2007 and we estimate
that it 2008 will be approximately $115,000.

Similarly, there have recently been a number of proposals at both the
state and the federal level, to impose additional requirements on residential
mortgage lenders and other entities in the residential real estate business. We
are not a residential mortgage lender and we do not expect that these
proposals, if adopted, will have a direct negative effect on us. However, the
proposals could reduce residential development, increase the cost of housing,
and restrict the ability of small local businesses in that sector to compete
with larger companies with greater resources. That could have an adverse effect
on our customer base.

6

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We operate in an extremely competitive
environment. We operate in one of the most competitive
environments for financial products in the world. Many of the worlds largest
financial institutions have offices in our local communities, and they have far
greater financial resources than we have. We seek to distinguish ourselves from
those institutions by providing personalized service and providing the same
level of care to small community based businesses that only Fortune 500
companies can obtain from the largest banks.

The loss of key personnel could impair our future success. Mert Corn, our President and CEO, has
retired November 15, 2007. Pursuant to a succession plan approved by the Board
of Directors, Raffaele (Ralph) M. Branca was appointed the position of
President and CEO. Mr. Branca was previously our Executive Vice President and
Chief Financial Officer since inception of the Bank and the Bancorp. In
anticipation of the promotion of Mr. Branca to the Presidency, we hired a new
person to function as Controller and Principal Accounting Officer. However, he
left after a short tenure, which placed extra burdens on our remaining staff in
that area. We continue to actively seek a replacement to provide increased
support and segregation of functions in our financial and accounting
department. Our future success depends in part on the service of our executive
officers, other key management, as well as our staff, and our ability to
continue to attract, motivate, and retain additional highly qualified
employees. The loss of one or more of our key personnel or our inability to
timely recruit replacements for such personnel, or otherwise attract, motivate,
or retain qualified personnel could have an adverse effect on our business,
operating results and financial condition.

Lending Activities

Loan Portfolio Composition.Our
loan portfolio consists primarily of commercial mortgage loans and unsecured
commercial loans. At December 31, 2007, we had total unsecured commercial loans
outstanding of $10,981,044, or 17.5% of total loans, and commercial real estate
loans of $31,607,039, or 50.6% of total loans. There were $15,109,593 of
construction loans secured by real estate, $13,585,698 of which were
construction loans to businesses for the construction of either commercial
property or residential property for sale, representing 21.7% of total loans.
Other loans in our portfolio principally included commercial loans secured by
assets other than real estate totaling $1,171,152 or 1.9% of total loans at
December 31, 2007; residential mortgage loans of $2,314,716, or 3.7% of total
loans and consumer non-mortgage loans of $566,356 or 0.9% of total loans. Although we generally do not
make traditional permanent residential mortgage loans, we occasionally make
residential mortgage loans to the principals of commercial customers. For the
year ended December 31, 2007, approximately $49,880,240, or 79.7%, of loans for
business purposes had adjustable interest rates based on the prime rate of
interest.

7

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The following table sets forth the
composition of our loan portfolio in dollar amounts and in percentages at the
dates indicated.

|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|----------------------------------------------------- |  | --------------- | ---------- | ------------ |  | ------ | - | ------------ | ---------- | ------ |  | ------------ | - | ------ | ---------- | ------------ |  | ------ | - | ------------ | ---------- |  |  | ----- | - | - | ---------- |  |  | ----- | -
|                                                      |  | At December 31, |           
|                                                      |  |                 |           
|                                                      |  | 2007            |            | 2006         |  | 2005   |   | 2004         |            | 2003   | 
|                                                      |  |                 |            |              |  |        |   |              |            |        | 
|                                                      |  | Amount          |            | %
  of Total |  | Amount |   | %
  of Total |            | Amount |  | %
  of Total |   | Amount |            | %
  of Total |  | Amount |   | %
  of Total |           
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |           
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Commercial
  loans:                                   |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Commercial
  secured                                  |  | $               | 1,171,152  |              |  | 1.9    | % | $            | 1,231,880  |        |  | 1.8          | % |        | 1,584,484  |              |  | 2.1    | % | $            | 1,572,824  |  |  | 2.3   | % | $ | 1,896,374  |  |  | 2.8   | %
|Commercial
  unsecured                                |  |                 | 10,981,044 |              |  | 17.5   |   |              | 10,882,002 |        |  | 16.3         |   |        | 11,078,101 |              |  | 14.9   |   |              | 9,620,243  |  |  | 14.1  |   |   | 8,905,587  |  |  | 13.1  |  
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Total commercial
  loans                              |  |                 | 12,152,196 |              |  | 19.4   |   |              | 12,113,882 |        |  | 18.1         |   |        | 12,662,585 |              |  | 17.0   |   |              | 11,193,067 |  |  | 16.4  |   |   | 10,801,961 |  |  | 15.9  |  
|Real
  Estate loans:                                  |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Commercial                                            |  |                 | 31,607,039 |              |  | 50.6   |   |              | 33,215,627 |        |  | 49.9         |   |        | 29,794,108 |              |  | 40.1   |   |              | 31,741,069 |  |  | 46.5  |   |   | 32,416,537 |  |  | 47.5  |  
|One-to-four
  family                                  |  |                 | 2,314,716  |              |  | 3.7    |   |              | 165,801    |        |  | 0.2          |   |        | 298,779    |              |  | 0.4    |   |              | 1,112,032  |  |  | 1.6   |   |   | 1,382,490  |  |  | 2.0   |  
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Total real
  estate loans                             |  |                 | 33,921,755 |              |  | 54.3   |   |              | 33,381,428 |        |  | 50.1         |   |        | 30,092,887 |              |  | 40.5   |   |              | 32,853,101 |  |  | 48.1  |   |   | 33,799,027 |  |  | 49.5  |  
|Construction
  loans:                                 |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Commercial                                            |  |                 | 13,585,698 |              |  | 21.7   |   |              | 17,552,797 |        |  | 26.4         |   |        | 26,623,846 |              |  | 35.8   |   |              | 19,893,858 |  |  | 29.1  |   |   | 20,390,849 |  |  | 29.8  |  
|Owner occupied
  one-to-four family                   |  |                 | 1,523,895  |              |  | 2.4    |   |              | 1,825,000  |        |  | 2.7          |   |        | 2,987,500  |              |  | 4.0    |   |              | 2,960,000  |  |  | 4.3   |   |   | 1,870,000  |  |  | 2.7   |  
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Total
  construction loans                            |  |                 | 15,109,593 |              |  | 24.1   |   |              | 19,377,797 |        |  | 29.1         |   |        | 29,611,346 |              |  | 39.8   |   |              | 22,853,858 |  |  | 33.4  |   |   | 22,260,849 |  |  | 32.5  |  
|Other
  loans:                                        |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Consumer loans                                        |  |                 | 566,356    |              |  | 0.9    |   |              | 826,528    |        |  | 1.2          |   |        | 1,477,366  |              |  | 2.0    |   |              | 1,048,448  |  |  | 1.5   |   |   | 949,899    |  |  | 1.4   |  
|Other loans                                           |  |                 | 827,122    |              |  | 1.3    |   |              | 974,278    |        |  | 1.5          |   |        | 486,009    |              |  | 0.7    |   |              | 435,837    |  |  | 0.6   |   |   | 510,617    |  |  | 0.7   |  
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Total other
  loans                                   |  |                 | 1,393,478  |              |  | 2.2    |   |              | 1,800,806  |        |  | 2.7          |   |        | 1,963,375  |              |  | 2.7    |   |              | 1,484,285  |  |  | 2.1   |   |   | 1,460,516  |  |  | 2.1   |  
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|                                                     
|Total
  loans                                         |  |                 | 62,577,022 |              |  | 100.0  | % |              | 66,673,913 |        |  | 100.0        | % |        | 74,330,193 |              |  | 100.0  | % |              | 68,384,311 |  |  | 100.0 | % |   | 68,322,353 |  |  | 100.0 | %
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Less:                                                 |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Unearned
  discounts, net and deferred loan fees, net |  |                 | 203,944    |              |  |        |   |              | 263,236    |        |  |              |   |        | 386,088    |              |  |        |   |              | 337,426    |  |  |       |   |   | 340,892    |  |  |       |  
|Allowance for
  loan losses                           |  |                 | 927,161    |              |  |        |   |              | 1,128,824  |        |  |              |   |        | 1,153,298  |              |  |        |   |              | 1,299,520  |  |  |       |   |   | 1,162,776  |  |  |       |  
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  
|Loans,
  net                                          |  | $               | 61,445,917 |              |  |        |   | $            | 65,281,853 |        |  |              |   | $      | 72,790,807 |              |  |        |   | $            | 66,747,365 |  |  |       |   | $ | 66,818,685 |  |  |       |  
|                                                      |  |                 |            |              |  |        |   |              |            |        |  |              |   |        |            |              |  |        |   |              |            |  |  |       |   |   |            |  |  |       |  

8

---



The following table sets forth our loan originations and principal
repayments for the periods indicated.
We did not purchase or sell any loans in 2007, 2006 or 2005.

|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|----------------------------- |  | ---------------------------------- | ----------- | ---------------------------------- | - | ---------------------------------- | - | - | ----------- | -
|                              |  | Year
  Ended
  December 31,
  2007 |             | Year
  Ended
  December 31,
  2006 |   | Year
  Ended
  December 31,
  2005 |  
|                              |  |                                    |             |                                    |   |                                    |  
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|Commercial Loans (gross):     |  |                                    |             |                                    |   |                                    |   |   |             |  
|At beginning of period        |  | $                                  | 12,113,882  |                                    | $ | 12,662,585                         |   | $ | 11,193,067  |  
|Commercial loans originated:  |  |                                    |             |                                    |   |                                    |   |   |             |  
|Secured                       |  |                                    | 857,106     |                                    |   | 997,696                            |   |   | 1,318,810   |  
|Unsecured                     |  |                                    | 66,749,010  |                                    |   | 65,961,375                         |   |   | 39,289,021  |  
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|Total commercial loans        |  |                                    | 67,606,116  |                                    |   | 66,959,071                         |   |   | 40,607,831  |  
|Principal repayments          |  |                                    | (67,567,802 | )                                  |   | (67,507,774                        | ) |   | (39,138,313 | )
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|At end of period              |  | $                                  | 12,152,196  |                                    | $ | 12,113,882                         |   | $ | 12,662,585  |  
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|Real Estate loans:            |  |                                    |             |                                    |   |                                    |   |   |             |  
|At beginning of period        |  | $                                  | 33,381,428  |                                    | $ | 30,092,887                         |   | $ | 32,853,101  |  
|Real estate loans originated: |  |                                    |             |                                    |   |                                    |   |   |             |  
|Commercial                    |  |                                    | 7,735,374   |                                    |   | 17,983,000                         |   |   | 11,228,592  |  
|One-to-four family            |  |                                    | 2,200,000   |                                    |   | 365,000                            |   |   | 370,000     |  
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|Total real estate loans       |  |                                    | 9,935,374   |                                    |   | 18,348,000                         |   |   | 11,598,592  |  
|Principal repayments          |  |                                    | (9,395,047  | )                                  |   | (15,059,459                        | ) |   | (14,358,806 | )
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|At end of period              |  | $                                  | 33,921,755  |                                    | $ | 33,381,428                         |   | $ | 30,092,887  |  
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|Construction loans            |  |                                    |             |                                    |   |                                    |   |   |             |  
|At beginning of period        |  | $                                  | 19,377,797  |                                    | $ | 29,611,346                         |   | $ | 22,853,858  |  
|Construction loans originated |  |                                    | 17,280,000  |                                    |   | 9,940,000                          |   |   | 33,364,808  |  
|Principal repayments          |  |                                    | (21,548,204 | )                                  |   | (20,173,549                        | ) |   | (26,607,320 | )
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|At end of period              |  | $                                  | 15,109,593  |                                    | $ | 19,377,797                         |   | $ | 29,611,346  |  
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|Other loans (gross):          |  |                                    |             |                                    |   |                                    |   |   |             |  
|At beginning of period        |  | $                                  | 1,800,806   |                                    | $ | 1,963,375                          |   | $ | 1,484,285   |  
|Other loans originated        |  |                                    | 717,098     |                                    |   | 1,251,666                          |   |   | 1,801,270   |  
|Principal repayments          |  |                                    | (1,124,426  | )                                  |   | (1,414,235                         | ) |   | (1,322,180  | )
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  
|At end of period              |  | $                                  | 1,393,478   |                                    | $ | 1,800,806                          |   | $ | 1,963,375   |  
|                              |  |                                    |             |                                    |   |                                    |   |   |             |  

9

---



Loan Maturity. The following table shows the contractual
maturity of our loans at December 31, 2007.

|                           |  |                        |            |                      |   |              |  |               |            |               |   |            |  |   |           |  |   |            | 
|-------------------------- |  | ---------------------- | ---------- | -------------------- | - | ------------ |  | ------------- | ---------- | ------------- | - | ---------- |  | - | --------- |  | - | ---------- | 
|                           |  | At
  December 31, 2007 |           
|                           |  |                        |           
|                           |  | Commercial
  Unsecured |            | Commercial
  Secured |   | Construction |  | Real
  Estate |            | Other
  Loans |   | Total      | 
|                           |  |                        |            |                      |   |              |  |               |            |               |   |            | 
|Amounts due:               |  |                        |            |                      |   |              |  |               |            |               |   |            |  |   |           |  |   |            | 
|Within one year (1)        |  | $                      | 6,617,173  |                      | $ | 520,507      |  | $             | 4,817,198  |               | $ | 8,127,967  |  | $ | 926,721   |  | $ | 21,009,566 | 
|After one year:            |  |                        |            |                      |   |              |  |               |            |               |   |            |  |   |           |  |   |            | 
|One to five years          |  |                        | 4,363,871  |                      |   | 650,645      |  |               | 10,292,395 |               |   | 11,763,676 |  |   | 466,757   |  |   | 27,537,344 | 
|Total due after five years |  |                        |           |                      |   |             |  |               |           |               |   | 14,030,112 |  |   |          |  |   | 14,030,112 | 
|                           |  |                        |            |                      |   |              |  |               |            |               |   |            |  |   |           |  |   |            | 
|Total amount due           |  |                        | 10,981,044 |                      |   | 1,171,152    |  |               | 15,109,593 |               |   | 33,921,755 |  |   | 1,393,478 |  |   | 62,577,022 | 
|Less:                      |  |                        |            |                      |   |              |  |               |            |               |   |            |  |   |           |  |   |            | 
|Unearned fees              |  |                        |           |                      |   | 164          |  |               | 74,046     |               |   | 129,734    |  |   |          |  |   | 203,944    | 
|Allowance for loan losses  |  |                        | 330,355    |                      |   | 19,877       |  |               | 166,437    |               |   | 361,294    |  |   | 49,198    |  |   | 927,161    | 
|                           |  |                        |            |                      |   |              |  |               |            |               |   |            |  |   |           |  |   |            | 
|Loans, net                 |  | $                      | 10,650,689 |                      | $ | 1,151,111    |  | $             | 14,869,110 |               | $ | 33,430,727 |  | $ | 1,344,280 |  | $ | 61,445,917 | 
|                           |  |                        |            |                      |   |              |  |               |            |               |   |            |  |   |           |  |   |            | 

The following table sets forth at December 31, 2007, the dollar amount
of all loans, due after December 31, 2008, and whether such loans have fixed or
variable interest rates.

|                           |  |                               |           |          |   |            |  |   |            | 
|-------------------------- |  | ----------------------------- | --------- | -------- | - | ---------- |  | - | ---------- | 
|                           |  | Due
  After December 31, 2007 |          
|                           |  |                               |          
|                           |  | Fixed                         |           | Variable |   | Total      | 
|                           |  |                               |           |          |   |            | 
|Commercial Business Loans: |  |                               |           |          |   |            |  |   |            | 
|Unsecured                  |  | $                             | 498,341   |          | $ | 3,865,530  |  | $ | 4,363,871  | 
|Secured                    |  |                               | 150,561   |          |   | 500,084    |  |   | 650,645    | 
|Real Estate                |  |                               |           |          |   |            |  |   |            | 
|Commercial                 |  |                               | 953,226   |          |   | 22,525,846 |  |   | 23,479,072 | 
|One-to-four                |  |                               | 2,314,716 |          |   |           |  |   | 2,314,716  | 
|Construction               |  |                               | 294,895   |          |   | 9,997,500  |  |   | 10,292,395 | 
|Other loans                |  |                               | 466,757   |          |   |           |  |   | 466,757    | 
|                           |  |                               |           |          |   |            |  |   |            | 
|Total loans                |  | $                             | 4,678,496 |          | $ | 36,888,960 |  | $ | 41,567,456 | 
|                           |  |                               |           |          |   |            |  |   |            | 

Commercial Business Lending.
We originate commercial business loans directly to the professional and
business community in our market area.
We target small to medium sized business, and professionals such as
lawyers, doctors and accountants. Applications for commercial business loans
are obtained primarily from the efforts of our directors and senior management,
who have extensive contacts in the local business community, or from branch
referrals.  As of December 31, 2007,
commercial business loans totaled $12,152,196 or 19.4% of total loans.

Commercial
business loans we originate generally have terms of five years or less and have
adjustable interest rates tied to the Wall Street Journal Prime Rate plus a
margin. Most of our commercial business loans have terms of less than one year
and one of the challenges facing management is the constant effort to originate
commercial business loans as existing loans are repaid. Such loans may be
secured or unsecured.  Secured
commercial business loans can be collateralized by receivables, inventory and
other assets.  All these loans are
either loans to individuals for which they have personal liability or loans to
entities backed by the personal guarantee of principals of the borrower.  The loans generally have shorter maturities
and higher yields than real estate mortgage loans.  Management has extensive experience in originating commercial
business loans within our marketplace.

Commercial
business loans generally carry the greatest credit risks of the loans in our
portfolio because repayment is more dependent on the success of the business
operations of the borrower. Some of these loans are unsecured and those that
are secured frequently have collateral that rapidly depreciates or is difficult
to control in the event of a default.

10

---



Commercial Real Estate Lending.
We originate commercial real estate loans that are generally secured by
properties used for business purposes such as retail stores, other mixed-use
(business and residential) properties, restaurants, light industrial and small
office buildings located in our primary market area. Our commercial real estate
loans are generally made in amounts up to 70% of the appraised value of the
property.  These loans are most commonly
made with terms up to five years with interest rates that adjust to 100 or 150
basis points above the floating prime rate.
A significant portion of these loans are subject to an interest rate
floor ranging between 7.00% and 8.00%.
Our underwriting standards consider the collateral of the borrower, the
net operating income of the property and the borrowers expertise, credit
history and profitability.  We require
personal guarantees from the borrower or the principals of the borrowing
entity.  At December 31, 2007, our
commercial real estate loans totaled $33,921,755, or 54.3% of total loans.

Loans secured
by commercial real estate are generally larger and have traditionally been
considered to involve greater risks than one-to-four family residential
mortgage loans, but generally lesser risks than commercial business loans.
Because payments on loans secured by commercial real estate properties are
often dependent on the successful operation and management of the properties,
repayment of such loans may be subject to adverse conditions in the real estate
market or the economy, to a greater extent than other types of loans. We seek
to minimize these risks through our lending policies and underwriting
standards, which restrict new originations of such loans to our primary lending
area and qualify such loans on the basis of the propertys income stream,
collateral value and debt service ratio.

Construction Lending.
Our construction loans primarily have been made to builders and developers to
finance the construction of one- to four-family residential properties and, to
a lesser extent, multi-family residential real estate properties. Our policies
provide that construction loans may be made in amounts up to the lesser of 80%
of the total hard and soft costs of the project or Victory State Banks loans
to-one borrower limitation. We generally require personal guarantees.
Construction loans generally are made with prime-based interest rates with
terms up to 18 months.  Loan proceeds
are disbursed in increments as construction progresses and as inspections
warrant.  At December 31, 2007, our construction
loans totaled $15,109,593 or 24.1% of total loans.

Construction
loans on non-owner occupied real estate generally carry greater credit risks
than permanent mortgage loans on comparable completed properties because their
repayment is more dependent on the borrowers ability to sell or rent units
under construction and the general as well as local economic conditions.
Because payments on construction loans are often dependent on the successful
completion of construction project and the management of the project, repayment
of such loans may be subject to adverse conditions in the real estate market or
the economy, to a greater extent than other types of loans.

Loan Approval Procedures and Authority.
All unsecured loans in excess of $250,000 and all secured loans over $400,000,
are reviewed and approved by the Loan Committee, which consists of seven
directors of Victory State Bank, prior to commitment. Smaller loans may be
approved by underwriters designated by the Banks Chief Executive Officer.
Consumer loans not secured by real estate and unsecured consumer loans, depending
on the amount of the loan and the loan to value ratio, where applicable,
require the approval of the Banks Chief Lending Officer and/or Chief Executive
Officer.

Upon receipt
of a completed loan application from a prospective borrower, we order a credit
report and we verify other information.
If necessary, we request additional financial information.  An independent appraiser we designate
performs an appraisal of the real estate intended to secure the proposed loan.
The Board of Victory State Bank annually approves the independent appraisers
and approves the Banks appraisal policy.
It is our policy to obtain title insurance on all real estate first
mortgage loans and on substantially all subordinate mortgage loans.  Borrowers must also obtain hazard insurance
prior to closing.  Some borrowers are
required to make monthly escrow deposits which we then use to pay items such as
real estate taxes.

11

---



Delinquencies and
Classified Assets

Delinquent Loans.
Our collection procedures for mortgage loans include sending a past due notice
at 15 days and a late notice after payment is 30 days past due. In the event
that payment is not received after the late notice, letters are sent or phone
calls are made to the borrower. We attempt to obtain full payment or work out a
repayment schedule with the borrower to avoid foreclosure. Generally, we
authorize foreclosure proceedings when a loan is over 90 days delinquent.  We record property acquired in foreclosure
as real estate owned at the lower of its appraised value less costs to dispose,
or cost.  We cease to accrue interest on
all loans 90 days past due and reverse all accrued but unpaid interest when the
loan becomes non-accrual. We continue to accrue interest on construction loans
that are 90 days past the maturity date of the loan if we expect the loan to be
paid in full in the next 60 days and all interest is paid up to date.

The collection
procedures for non-mortgage other loans generally include telephone calls to
the borrower after ten days of the delinquency and late notices at 15 and 25
days past due. Letters and telephone calls generally continue until the matter
is referred to a collection attorney or resolved. After the loan is 90 days
past due, the loan is referred to counsel and is written-off.

Classified Assets.
Federal regulations and our Loan Review and Risk Rating Policy provide for the
classification of loans and other assets we consider to be of lesser quality as
Substandard, Doubtful or Loss assets. An asset is considered
Substandard if it is inadequately protected by the current net worth and
paying capacity of the obligor or of the collateral pledged, if any.
Substandard assets include those characterized by the distinct possibility
that the insured institution will sustain some loss if the deficiencies are
not corrected.  Assets classified as
Doubtful have all of the weaknesses inherent in those classified
Substandard with the added characteristic that the weaknesses present make
collection or liquidation in full, on the basis of currently existing facts,
conditions, and values, highly questionable and improbable.  Assets classified as Loss are those
considered uncollectible and of such little value that their continuance as
assets without the establishment of a specific loss reserve is not
warranted.  Assets which do not
currently expose us to sufficient risk to warrant classification but which
possess weaknesses are designated Special Mention by management.  We had twenty three (23) loans, in the
aggregate amount of $6,514,370, classified as special mention.  We had twelve (12) loans, in the aggregate
amount of $2,875,323, classified as substandard, eight of which, in the
aggregate amount of $2,745,063, are secured by real estate and for which the
Bank is actively collecting and expects to collect substantially all the
amounts due.  We had two (2) loans, in
the amount of $17,014, classified as doubtful, and no loans classified as loss
as of December 31, 2007.

When we
classify an asset as Substandard or Doubtful, we provide, as part of our
general allowance for loan losses, an amount management deems prudent to
recognize the risks pertaining to the asset.
A general allowance represents a loss allowance which has been
established to recognize the inherent risk associated with lending activities,
but which, unlike a specific allowance, has not been allocated to particular
problem assets.  When we classify an
asset as Loss, we either establish a specific allowance for losses equal to
100% of the amount of the asset or charge off that amount.

Victory State
Banks Loan Review Officer and Board of Directors regularly review problem
loans and review all classified assets on a quarterly basis. We believe our
policies are consistent with the regulatory requirements regarding classified
assets.  Our determination as to the
classification of our assets and the amount of our valuation allowances is
subject to review by the New York State Banking Department and the FDIC, which
can order the establishment of additional general or specific loss allowances.

12

---



The following
table sets forth delinquencies in our loan portfolio as of the dates indicated:

|                                |  |                        |   |                   |   |           |   |           |    |  |   |           |  
|------------------------------- |  | ---------------------- | - | ----------------- | - | --------- | - | --------- | -- |  | - | --------- | -
|                                |  | At
  December 31, 2007 |  
|                                |  |                        |  
|                                |  | 60-89
  Days           |   | 90
  Days or more |  
|                                |  | Number                 |   | Principal         |   | Number    |   | Principal |   
|                                |  |                        |   |                   |   |           |   |           |   
|Commercial real estate          |  |                        | 2 |                   | $ | 1,406,936 |   |           | 3  |  | $ | 459,371   |  
|Commercial construction         |  |                        | 2 |                   |   | 2,944,000 |   |           | 6  |  |   | 2,505,134 |  
|Commercial unsecured            |  |                        | 1 |                   |   | 300,000   |   |           | 2  |  |   | 14,970    |  
|Other                           |  |                        |  |                   |   |          |   |           | 1  |  |   | 5,877     |  
|                                |  |                        |   |                   |   |           |   |           |    |  |   |           |  
|Total                           |  |                        | 5 |                   | $ | 4,650,936 |   |           | 12 |  | $ | 2,985,352 |  
|                                |  |                        |   |                   |   |           |   |           |    |  |   |           |  
|Delinquent loans to total loans |  |                        |   |                   |   | 7.43      | % |           |    |  |   | 4.77      | %

|                                  |  |                        |   |                   |   |        |   |           |   |  |   |         |  
|--------------------------------- |  | ---------------------- | - | ----------------- | - | ------ | - | --------- | - |  | - | ------- | -
|                                  |  | At
  December 31, 2006 |  
|                                  |  |                        |  
|                                  |  | 60-89
  Days           |   | 90
  Days or more |  
|                                  |  | Number                 |   | Principal         |   | Number |   | Principal |  
|                                  |  |                        |   |                   |   |        |   |           |  
|Commercial real estate            |  |                        |  |                   | $ |       |   |           | 3 |  | $ | 773,924 |  
|Commercial unsecured              |  |                        | 2 |                   |   | 29,648 |   |           | 1 |  |   | 20,709  |  
|Other                             |  |                        | 1 |                   |   | 9,676  |   |           |  |  |   |        |  
|                                  |  |                        |   |                   |   |        |   |           |   |  |   |         |  
|Total                             |  |                        | 3 |                   | $ | 39,324 |   |           | 4 |  | $ | 794,633 |  
|                                  |  |                        |   |                   |   |        |   |           |   |  |   |         |  
|Delinquent loans to total
  loans |  |                        |   |                   |   | 0.06   | % |           |   |  |   | 1.19    | %

|                                |  |                        |   |                   |   |        |   |           |   |  |   |           |  
|------------------------------- |  | ---------------------- | - | ----------------- | - | ------ | - | --------- | - |  | - | --------- | -
|                                |  | At
  December 31, 2005 |  
|                                |  |                        |  
|                                |  | 60-89
  Days           |   | 90
  Days or more |  
|                                |  | Number                 |   | Principal         |   | Number |   | Principal |  
|                                |  |                        |   |                   |   |        |   |           |  
|Commercial real estate          |  |                        |  |                   | $ |       |   |           | 6 |  | $ | 1,123,081 |  
|Commercial construction         |  |                        |  |                   |   |       |   |           | 2 |  |   | 579,000   |  
|Commercial unsecured            |  |                        | 1 |                   |   | 8,420  |   |           |  |  |   |          |  
|                                |  |                        |   |                   |   |        |   |           |   |  |   |           |  
|Total                           |  |                        | 1 |                   | $ | 8,420  |   |           | 8 |  | $ | 1,702,081 |  
|                                |  |                        |   |                   |   |        |   |           |   |  |   |           |  
|Delinquent loans to total loans |  |                        |   |                   |   | 0.01   | % |           |   |  |   | 2.29      | %

|                                |  |                        |   |                   |   |         |   |           |   |  |   |         |  
|------------------------------- |  | ---------------------- | - | ----------------- | - | ------- | - | --------- | - |  | - | ------- | -
|                                |  | At
  December 31, 2004 |  
|                                |  |                        |  
|                                |  | 60-89
  Days           |   | 90
  Days or more |  
|                                |  | Number                 |   | Principal         |   | Number  |   | Principal |  
|                                |  |                        |   |                   |   |         |   |           |  
|Commercial real estate          |  |                        | 2 |                   | $ | 256,137 |   |           | 4 |  | $ | 160,310 |  
|Commercial unsecured            |  |                        |  |                   |   |        |   |           | 1 |  |   | 20,112  |  
|Other                           |  |                        |  |                   |   |        |   |           | 1 |  |   | 2,476   |  
|                                |  |                        |   |                   |   |         |   |           |   |  |   |         |  
|Total                           |  |                        | 2 |                   | $ | 256,137 |   |           | 6 |  | $ | 182,898 |  
|                                |  |                        |   |                   |   |         |   |           |   |  |   |         |  
|Delinquent loans to total loans |  |                        |   |                   |   | 0.37    | % |           |   |  |   | 0.27    | %

|                                  |  |                        |   |                   |   |         |   |           |   |  |   |         |  
|--------------------------------- |  | ---------------------- | - | ----------------- | - | ------- | - | --------- | - |  | - | ------- | -
|                                  |  | At
  December 31, 2003 |  
|                                  |  |                        |  
|                                  |  | 60-89
  Days           |   | 90
  Days or more |  
|                                  |  | Number                 |   | Principal         |   | Number  |   | Principal |  
|                                  |  |                        |   |                   |   |         |   |           |  
|Commercial real estate            |  |                        | 2 |                   | $ | 503,694 |   |           | 4 |  | $ | 259,026 |  
|Commercial construction           |  |                        |  |                   |   |        |   |           | 1 |  |   | 145,000 |  
|Commercial unsecured              |  |                        |  |                   |   |        |   |           | 1 |  |   | 30,619  |  
|Other                             |  |                        |  |                   |   |        |   |           | 1 |  |   | 4,406   |  
|                                  |  |                        |   |                   |   |         |   |           |   |  |   |         |  
|Total                             |  |                        | 2 |                   | $ | 503,694 |   |           | 7 |  | $ | 439,051 |  
|                                  |  |                        |   |                   |   |         |   |           |   |  |   |         |  
|Delinquent loans to total
  loans |  |                        |   |                   |   | 0.74    | % |           |   |  |   | 0.64    | %

Loans 90 days or more past
due represent non-accrual loans and loans that are contractually past due
maturity but are still accruing interest.

Management
concluded, in connection with its analysis of the appropriateness of the
allowance for loan losses at year end 2007, that the increase in past due loans
at December 31, 2007 was the result of identifiable circumstances with respect
to a limited number of specific loans and that a substantial majority of the
past due amount was likely to be repaid or brought current relatively soon
after year end, so a corresponding increase in the allowance would not have
been appropriate.

13

---



Non-performing Assets.  The following table sets forth information
about our non-performing assets at December 31, 2007, 2006 and 2005.

|                                      |  |                   |         |                   |   |                   |   |   |           |  
|------------------------------------- |  | ----------------- | ------- | ----------------- | - | ----------------- | - | - | --------- | -
|                                      |  | At
  December 31, |         | At
  December 31, |   | At
  December 31, |  
|                                      |  | 2007              |         | 2006              |   | 2005              |  
|                                      |  |                   |         |                   |   |                   |  
|Non-performing assets:                |  |                   |         |                   |   |                   |   |   |           |  
|Commercial loans:                     |  |                   |         |                   |   |                   |   |   |           |  
|Unsecured                             |  | $                 | 14,970  |                   | $ | 20,709            |   | $ |          |  
|Commercial real estate                |  |                   | 459,371 |                   |   | 188,872           |   |   | 1,022,097 |  
|Construction                          |  |                   | 480,000 |                   |   |                  |   |   | 579,000   |  
|Consumer loan                         |  |                   | 5,877   |                   |   |                  |   |   |          |  
|                                      |  |                   |         |                   |   |                   |   |   |           |  
|                                      |  |                   |         |                   |   |                   |   |   |           |  
|Total non-performing assets           |  | $                 | 960,218 |                   | $ | 209,581           |   | $ | 1,601,097 |  
|                                      |  |                   |         |                   |   |                   |   |   |           |  
|Non-performing loans to total loans   |  |                   | 1.53    | %                 |   | 0.31              | % |   | 2.15      | %
|Non-performing loans to total assets  |  |                   | 0.47    | %                 |   | 0.10              | % |   | 0.74      | %
|Non-performing assets to total assets |  |                   | 0.47    | %                 |   | 0.10              | % |   | 0.74      | %

The gross
interest income that would have been recorded in 2007 if the non-accrual loans
had been current in accordance with their original terms was $27,115. The
amount of interest income on those loans that was included in net income for
2007 was $156.

The following
table sets forth the aggregate carrying value of our assets classified as
Substandard, Doubtful and Loss according to asset type:

|                          |  |             |    |          |   |           |  |        |   |  |   |        | 
|------------------------- |  | ----------- | -- | -------- | - | --------- |  | ------ | - |  | - | ------ | 
|                          |  | Substandard |    | Doubtful |  
|                          |  |             |    |          |  
|                          |  | Number      |    | Amount   |   | Number    |  | Amount |  
|                          |  |             |    |          |   |           |  |        |  
|Classification of assets: |  |             |    |          |   |           |  |        |   |  |   |        | 
|Commercial Loans:         |  |             |    |          |   |           |  |        |   |  |   |        | 
|Unsecured                 |  |             | 4  |          | $ | 130,260   |  |        |  |  | $ |       | 
|Commercial Real Estate    |  |             | 6  |          |   | 2,265,063 |  |        | 1 |  |   | 11,137 | 
|Construction              |  |             | 2  |          |   | 480,000   |  |        |  |  |   |       | 
|Consumer Loan             |  |             |   |          |   |          |  |        | 1 |  |   | 5,877  | 
|                          |  |             |    |          |   |           |  |        |   |  |   |        | 
|Total loans               |  |             | 12 |          | $ | 2,875,323 |  |        | 2 |  | $ | 17,014 | 
|                          |  |             |    |          |   |           |  |        |   |  |   |        | 

No assets were
classified as Loss at year end 2007 and 2006.

Allowance for Loan
Losses

Our allowance for loan losses is
established through a provision for loan losses based on managements
evaluation of the risks inherent in its loan portfolio and the general economy.
When analyzing the
adequacy of the allowance for loan losses, management first considers
performing loans in our loan portfolio that have no material identified
weaknesses. Management considers historical experience, the state of the
economy, our credit process, the nature of collateral, industry trends,
geographic considerations and other factors, when assessing these loans.
Management then establishes an amount equal to a fixed percentage of the
performing loans in each of our five principal loan categories as appropriate
to be included in the allowance to cover inherent weaknesses in the broad
category of loans.

14

---



In addition,
management analyzes each loan that has been identified as having specific
weaknesses to determine the appropriate level of the allowance for that loan.
This analysis considers both the general factors which are considered in
assessing performing loans as well as specific facts pertinent to each loan,
such as collateral value, borrowers income and ability to repay, payment
history, the reasons for and length of the delinquency, and the value of any
credit support. Although loans may be analyzed individually or in groups to
determine the allowance, the entire allowance is available for any losses that
occur.

In order to
assist in determining the allowance, an independent loan review firm, senior
management and the Banks Board of Directors review the allowance for loan
losses quarterly. If they determine that the allowance is inappropriate, then
management increases or decreases the provision for loan losses to bring the
allowance to the appropriate level.

As of December
31, 2007, our allowance for loan losses was $927,161 or 1.48% of total loans.
Based upon all relevant and presently available information, management
believes that the allowance for loan losses is appropriate. We continue to
monitor and modify the level of the allowance for loan losses in order to
maintain the allowance at a level which management considers appropriate. While
management uses available information to recognize losses on loans, future
additions to the allowance may be necessary, based on changes in economic and
local market conditions beyond managements control. In addition, federal and
state bank regulatory agencies periodically review Victory State Banks loan
loss allowance as part of their periodic safety and soundness examinations of
the Bank. They may recommend or seek to compel increases in the allowance if
they believe that weaknesses in the loan portfolio are more significant than
managements assessment.

The following table sets forth the activity in our allowance for loan
losses:

|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|------------------------------------------------------------------------------------------- |  | ---- | --------- | ---- | - | --------- | - | --------------------------------------- | --------- | ---- | - | --------- | - | - | --------- | -
|                                                                                            |  |      |           |      |   |           |   | For
  the Year 
  Ended 
  December 31, |           |      |   |           |   |   |          
|                                                                                            |  |      |           |      |  
|                                                                                            |  | 2007 |           | 2006 |   | 2005      |   | 2004                                    |           | 2003 |  
|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |  
|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Allowance for Loan Losses:                                                                  |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Balance at beginning of period                                                              |  | $    | 1,128,824 |      | $ | 1,153,298 |   | $                                       | 1,299,520 |      | $ | 1,162,776 |   | $ | 1,168,358 |  
|Charge-offs:                                                                                |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Commercial loans:                                                                           |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Unsecured                                                                                   |  |      | (254,986  | )    |   | (62,181   | ) |                                         | (318,399  | )    |   | (180,125  | ) |   | (315,490  | )
|Consumer loan                                                                               |  |      |          |      |   | (17,511   | ) |                                         |          |      |   |          |   |   |          |  
|Other loans                                                                                 |  |      | (8,639    | )    |   | (28,111   | ) |                                         | (25,302   | )    |   | (4,940    | ) |   | (17,138   | )
|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Total charge-offs                                                                           |  |      | (263,625  | )    |   | (107,803  | ) |                                         | (343,701  | )    |   | (185,065  | ) |   | (332,628  | )
|Recoveries                                                                                  |  |      | 66,962    |      |   | 148,329   |   |                                         | 257,479   |      |   | 171,809   |   |   | 122,046   |  
|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Net charge-offs                                                                             |  |      | (196,663  | )    |   | 40,526    |   |                                         | (86,222   | )    |   | (13,256   | ) |   | (210,582  | )
|Provision charged to income                                                                 |  |      | (5,000    | )    |   | (65,000   | ) |                                         | (60,000   | )    |   | 150,000   |   |   | 205,000   |  
|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Balance at end of period                                                                    |  | $    | 927,161   |      | $ | 1,128,824 |   | $                                       | 1,153,298 |      | $ | 1,299,520 |   | $ | 1,162,776 |  
|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|                                                                                            |  |      |           |      |   |           |   |                                         |           |      |   |           |   |   |           |  
|Ratio of net charge-offs during the period to average loans
  outstanding during the period |  |      | 0.32      | %    |   | 0.06      | % |                                         | 0.12      | %    |   | 0.02      | % |   | 0.49      | %
|Ratio of allowance for loan losses to total loans at the end of
  period                    |  |      | 1.48      | %    |   | 1.69      | % |                                         | 1.55      | %    |   | 1.90      | % |   | 1.70      | %
|Ratio of allowance for loan losses to non-performing loans at the end
  of the period       |  |      | 96.56     | %    |   | 538.61    | % |                                         | 72.03     | %    |   | 899.96    | % |   | 264.84    | %
|Ratio of allowance for loan losses to non-performing assets at the
  end of the period      |  |      | 96.56     | %    |   | 538.61    | % |                                         | 72.03     | %    |   | 899.96    | % |   | 264.84    | %

15

---



The following table sets forth the allocation of our allowance for loan
losses among each of the categories listed.

|                          |  |                        |         |                                              |  |                        |   |                                              |           |                        |  |                                              |   |        |           |                                              |  |        |   |                                              |           |  |  |       |   |   |           |  |  |       |  
|------------------------- |  | ---------------------- | ------- | -------------------------------------------- |  | ---------------------- | - | -------------------------------------------- | --------- | ---------------------- |  | -------------------------------------------- | - | ------ | --------- | -------------------------------------------- |  | ------ | - | -------------------------------------------- | --------- |  |  | ----- | - | - | --------- |  |  | ----- | -
|                          |  | At December 31,
  2007 |         | At December 31,
  2006                       |  | At December 31,
  2005 |   | At December 31,
  2004                       |           | At December 31,
  2003 | 
|                          |  |                        |         |                                              |  |                        |   |                                              |           |                        | 
|                          |  | Amount                 |         | % of Loans
  in Category
  to 
  Total Loans |  | Amount                 |   | % of Loans
  in Category
  to 
  Total Loans |           | Amount                 |  | % of Loans
  in Category
  to 
  Total Loans |   | Amount |           | % of Loans
  in Category
  to 
  Total Loans |  | Amount |   | % of Loans
  in Category
  to 
  Total Loans |          
|                          |  |                        |         |                                              |  |                        |   |                                              |           |                        |  |                                              |   |        |           |                                              |  |        |   |                                              |          
|Allowance:                |  |                        |         |                                              |  |                        |   |                                              |           |                        |  |                                              |   |        |           |                                              |  |        |   |                                              |           |  |  |       |   |   |           |  |  |       |  
|Commercial loans:         |  |                        |         |                                              |  |                        |   |                                              |           |                        |  |                                              |   |        |           |                                              |  |        |   |                                              |           |  |  |       |   |   |           |  |  |       |  
|Unsecured                 |  | $                      | 330,355 |                                              |  | 17.5                   | % | $                                            | 337,054   |                        |  | 16.3                                         | % | $      | 360,532   |                                              |  | 14.9   | % | $                                            | 351,215   |  |  | 14.1  | % | $ | 218,871   |  |  | 13.1  | %
|Secured                   |  |                        | 19,877  |                                              |  | 1.9                    |   |                                              | 10,859    |                        |  | 1.8                                          |   |        | 2,349     |                                              |  | 2.1    |   |                                              | 17,660    |  |  | 2.3   |   |   | 22,766    |  |  | 2.8   |  
|Commercial real
  estate  |  |                        | 345,407 |                                              |  | 50.6                   |   |                                              | 518,620   |                        |  | 49.9                                         |   |        | 363,072   |                                              |  | 40.1   |   |                                              | 490,488   |  |  | 46.5  |   |   | 523,209   |  |  | 47.5  |  
|Residential real
  estate |  |                        | 15,887  |                                              |  | 3.7                    |   |                                              | 12,501    |                        |  | 0.2                                          |   |        | 7,835     |                                              |  | 0.4    |   |                                              | 11,296    |  |  | 1.6   |   |   | 12,957    |  |  | 2.0   |  
|Construction
  loans      |  |                        | 166,437 |                                              |  | 24.1                   |   |                                              | 198,901   |                        |  | 29.1                                         |   |        | 362,590   |                                              |  | 39.8   |   |                                              | 358,632   |  |  | 33.4  |   |   | 354,792   |  |  | 32.5  |  
|Other loans               |  |                        | 49,198  |                                              |  | 2.2                    |   |                                              | 50,889    |                        |  | 2.7                                          |   |        | 56,920    |                                              |  | 2.7    |   |                                              | 70,229    |  |  | 2.1   |   |   | 30,181    |  |  | 2.1   |  
|                          |  |                        |         |                                              |  |                        |   |                                              |           |                        |  |                                              |   |        |           |                                              |  |        |   |                                              |           |  |  |       |   |   |           |  |  |       |  
|Total allowances          |  | $                      | 927,161 |                                              |  | 100.0                  | % | $                                            | 1,128,824 |                        |  | 100.0                                        | % | $      | 1,153,298 |                                              |  | 100.0  | % | $                                            | 1,299,520 |  |  | 100.0 | % | $ | 1,162,776 |  |  | 100.0 | %
|                          |  |                        |         |                                              |  |                        |   |                                              |           |                        |  |                                              |   |        |           |                                              |  |        |   |                                              |           |  |  |       |   |   |           |  |  |       |  

Investment Activities

State-chartered banking institutions
have the authority to invest in various types of liquid assets, including
United States Treasury Obligations, securities of various federal agencies,
certain certificates of deposits of insured banks and savings institutions,
certain bankers acceptances, repurchase agreements and federal funds.
Additionally, it is appropriate for us to maintain investments for ongoing
liquidity needs and we have maintained liquid assets at a level believed to be
adequate to meet our normal daily activities.

Our investment policy, established by the Board of Directors of Victory
State Bank and implemented by its Asset/Liability Committee, attempts to
provide and maintain liquidity, generate a favorable return on investments
without incurring undue interest rate and credit risk, and complement our
lending activities. Although we classify most of our securities portfolio as
available for sale, it is our practice to retain most of our securities until
they mature.

Our policies generally limit investments to government and federal
agency securities or AAA rated securities, including corporate debt
obligations, that are investment grade with weighted average lives of seven
years or less. Our policies provide that all investment purchases be ratified
by the Banks Board and may only be initiated by the President or Chief
Financial Officer of the Bank. Investment securities consist of collateralized
mortgage obligations (CMO) with estimated average lives of 4.5 years or less,
mortgage-backed securities (MBS) with maturities of seven years or less and
U.S. Agency notes with a maturity of less than 15 years. These CMOs and MBS are
backed by federal agencies such as Federal National Mortgage Association
(FNMA) and the Federal Home Loan Mortgage Corporation (FHLMC) or are
AAArated whole loan securities. At December 31, 2007, we had investment
securities with a cost basis of $118,523,857 and a fair value of $117,814,117.
All investment securities at December 31, 2007, were either CMOs or MBSs. The
entire investment portfolio at December 31, 2007 was classified as available
for sale and is accounted on a fair market value basis.

16

---



The following table sets forth certain information regarding the
amortized cost and fair values of the investment securities, available for sale
portfolio at the dates indicated:

|                                             |  |               |             |           |   |               |  |           |                   |               |   |             |  |   |             |  |   |             | 
|-------------------------------------------- |  | ------------- | ----------- | --------- | - | ------------- |  | --------- | ----------------- | ------------- | - | ----------- |  | - | ----------- |  | - | ----------- | 
|                                             |  |               |             |           |   |               |  |           | At
  December 31, |               |   |             |  |   |             | 
|                                             |  |              
|                                             |  | 2007          |             | 2006      |   | 2005          | 
|                                             |  |               |             |           |   |               | 
|                                             |  | AmortizedCost |             | FairValue |   | AmortizedCost |  | FairValue |                   | AmortizedCost |   | FairValue   | 
|                                             |  |               |             |           |   |               |  |           |                   |               |   |             | 
|                                             |  |               |             |           |   |               |  |           |                   |               |   |             |  |   |             |  |   |             | 
|Investments securities,
  available for sale |  |               |             |           |   |               |  |           |                   |               |   |             |  |   |             |  |   |             | 
|US Government Agency                         |  | $             |            |           | $ |              |  | $         | 8,500,000         |               | $ | 8,443,906   |  | $ | 8,500,000   |  | $ | 8,390,156   | 
|FNMA                                         |  |               | 5,762,683   |           |   | 5,746,955     |  |           | 7,607,408         |               |   | 7,397,799   |  |   | 9,348,861   |  |   | 9,067,796   | 
|FHLMC                                        |  |               | 161,513     |           |   | 162,752       |  |           | 228,986           |               |   | 229,625     |  |   | 321,113     |  |   | 320,258     | 
|GNMA                                         |  |               | 1,892,949   |           |   | 1,849,267     |  |           | 2,264,561         |               |   | 2,171,125   |  |   | 2,718,832   |  |   | 2,627,459   | 
|Whole Loan MBS                               |  |               | 3,135,102   |           |   | 3,103,907     |  |           | 3,554,783         |               |   | 3,453,363   |  |   | 4,135,883   |  |   | 4,051,823   | 
|Collateralized mortgage obligations          |  |               | 107,571,610 |           |   | 106,951,236   |  |           | 94,198,430        |               |   | 92,074,793  |  |   | 83,665,009  |  |   | 81,565,801  | 
|                                             |  |               |             |           |   |               |  |           |                   |               |   |             |  |   |             |  |   |             | 
|                                             |  |               |             |           |   |               |  |           |                   |               |   |             |  |   |             |  |   |             | 
|                                             |  | $             | 118,523,857 |           | $ | 117,814,117   |  | $         | 116,354,168       |               | $ | 113,770,611 |  | $ | 108,689,698 |  | $ | 106,023,293 | 
|                                             |  |               |             |           |   |               |  |           |                   |               |   |             |  |   |             |  |   |             | 

The table
below sets forth certain information regarding the amortized cost, weighted
average yields and stated maturities of our investment securities at December
31, 2007 and 2006.

|                                       |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|-------------------------------------- |  | ------------------ | ------ | -------------------- |  | -------------- | - | -------------------- | --------- | ------------- |  | -------------------- | - | ---------------------- | ---------- | -------------------- |  | ----- | - | - | ---------- |  |  | ---- | - | - | ----------- | 
|                                       |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   | At
  December 31, 2007 |            |                      |  |       |   |   |            |  |  |     
|                                       |  |                   
|                                       |  | Less
  Than 1 Year |        | WeightedAverageYield |  | 1
  To 5 Years |   | WeightedAverageYield |           | 5 To 10 Years |  | WeightedAverageYield |   | Over
  10 Years        |            | WeightedAverageYield |  | Total |  
|                                       |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   |                        |            |                      |  |       |  
|                                       |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|Investment Securities:                 |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|US Government Agency 
  Agency         |  | $                  |       |                      |  |               | % | $                    |          |               |  |                     | % | $                      |           |                      |  |      | % | $ |           |  |  |     | % | $ |            | 
|FNMA 7 Year Balloon                    |  |                    |       |                      |  |               |   |                      | 2,235,724 |               |  | 4.51                 |   |                        |           |                      |  |      |   |   | 3,526,959  |  |  | 3.90 |   |   | 5,762,683   | 
|FHLMC                                  |  |                    | 81,608 |                      |  | 4.93           |   |                      | 79,905    |               |  | 4.98                 |   |                        |           |                      |  |      |   |   |           |  |  |     |   |   | 161,513     | 
|GNMA                                   |  |                    |       |                      |  |               |   |                      |          |               |  |                     |   |                        |           |                      |  |      |   |   | 1,892,949  |  |  | 4.39 |   |   | 1,892,949   | 
|Whole Loan MBS                         |  |                    |       |                      |  |               |   |                      |          |               |  |                     |   |                        |           |                      |  |      |   |   | 3,135,102  |  |  | 4.66 |   |   | 3,135,102   | 
|Collateralized Mortgage 
  Obligations |  |                    |       |                      |  |               |   |                      |          |               |  |                     |   |                        | 26,652,356 |                      |  | 4.70  |   |   | 80,919,254 |  |  | 4.61 |   |   | 107,571,610 | 
|                                       |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|                                       |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|Total                                  |  | $                  | 81,608 |                      |  | 4.93           | % | $                    | 2,315,629 |               |  | 4.53                 | % | $                      | 26,652,356 |                      |  | 4.70  | % | $ | 89,474,264 |  |  | 4.58 | % | $ | 118,523,857 | 
|                                       |  |                    |        |                      |  |                |   |                      |           |               |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 

|                                       |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|-------------------------------------- |  | ------------------ | - | -------------------- |  | -------------- | - | -------------------- | ---------- | --------------- |  | -------------------- | - | ---------------------- | ---------- | -------------------- |  | ----- | - | - | ---------- |  |  | ---- | - | - | ----------- | 
|                                       |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   | At
  December 31, 2006 |            |                      |  |       |   |   |            |  |  |     
|                                       |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|                                       |  | Less
  Than 1 Year |   | WeightedAverageYield |  | 1
  To 5 Years |   | WeightedAverageYield |            | 5
  To 10 Years |  | WeightedAverageYield |   | Over
  10 Years        |            | WeightedAverageYield |  | Total |  
|                                       |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|Investment Securities:                 |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|US Government Agency 
  Agency         |  | $                  |  |                      |  |               | % | $                    | 8,500,000  |                 |  | 3.26                 | % | $                      |           |                      |  |      | % | $ |           |  |  |     | % | $ | 8,500,000   | 
|FNMA 7 Year Balloon                    |  |                    |  |                      |  |               |   |                      | 2,028,436  |                 |  | 4.34                 |   |                        | 504,405    |                      |  | 5.16  |   |   | 5,074,567  |  |  | 3.84 |   |   | 7,607,408   | 
|FHLMC                                  |  |                    |  |                      |  |               |   |                      | 228,985    |                 |  | 4.73                 |   |                        |           |                      |  |      |   |   |           |  |  |     |   |   | 228,985     | 
|GNMA                                   |  |                    |  |                      |  |               |   |                      |           |                 |  |                     |   |                        |           |                      |  |      |   |   | 2,264,561  |  |  | 4.40 |   |   | 2,264,561   | 
|Whole Loan MBS                         |  |                    |  |                      |  |               |   |                      |           |                 |  |                     |   |                        |           |                      |  |      |   |   | 3,554,784  |  |  | 4.71 |   |   | 3,554,784   | 
|Collateralized Mortgage 
  Obligations |  |                    |  |                      |  |               |   |                      |           |                 |  |                     |   |                        | 13,143,686 |                      |  | 4.41  |   |   | 81,054,744 |  |  | 4.52 |   |   | 94,198,430  | 
|                                       |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|                                       |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 
|Total                                  |  | $                  |  |                      |  |               | % | $                    | 10,757,421 |                 |  | 3.49                 | % | $                      | 13,648,091 |                      |  | 4.34  | % | $ | 91,948,656 |  |  | 4.49 | % | $ | 116,354,168 | 
|                                       |  |                    |   |                      |  |                |   |                      |            |                 |  |                      |   |                        |            |                      |  |       |   |   |            |  |  |      |   |   |             | 

Source
of Funds

General. Deposits
are the primary source of our funds for use in lending, investing and for other
general purposes. In addition to deposits, we obtain funds from principal
repayments and prepayments on loans and securities. Loan and securities
repayments are a relatively stable source of funds, while deposit inflows and
outflows as well as unscheduled prepayments are influenced by general interest
rates and money market conditions.

17

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Deposits.  We offer a variety of deposit accounts
having a range of interest rates and terms.
Our deposits consist of non-interest bearing checking accounts, money
market accounts, time deposit (certificate) accounts, statement savings and
NOW accounts.  The flow of deposits is
influenced significantly by general economic conditions, changes in money
market rates, prevailing interest rates and competition.  Our deposits are obtained primarily from the
areas in which our offices are located.
We do not actively solicit certificate accounts in excess of $100,000,
nor do we use brokers to obtain deposits. However, in connection with our
efforts in establishing banking development districts in Staten Island, we
accept large balance municipal deposits as part of the New York State and New
York City banking development district programs.  These municipal deposits total $35 million, are at a subsidized
rate, and mature on an annual basis.
There can be no assurance that the Bank will be able to retain these
municipal deposits or be able to renew them at subsidized rates as compared to
current market rates at that time. Management constantly monitors our deposit
accounts and, based on historical experience, management believes it will
retain a large portion of such accounts upon maturity.  Deposit account terms we offer vary
according to the minimum balance required, the time periods that the funds must
remain on deposit and the interest rates, among other factors.  In determining the characteristics of the
deposit account programs we offer, we consider potential profitability,
matching terms of the deposits with loan products, the attractiveness to the
customers and the rates offered by our competitors.

Our focus on
customer service, primarily for the business and professional community in our
marketplace, has facilitated our retention of non-interest bearing checking
accounts and low costing NOW and savings accounts, which generally have
interest rates substantially less than certificate of deposits.  At December 31, 2007, these types of low
cost deposit accounts amounted to $90,805,277, or 51.5% of total deposits.

The following
table presents deposit activity for the periods indicated.

|                                                  |  |                                    |             |                                    |   |                                    |   |   |             |  
|------------------------------------------------- |  | ---------------------------------- | ----------- | ---------------------------------- | - | ---------------------------------- | - | - | ----------- | -
|                                                  |  | Year
  Ended
  December 31,
  2007 |             | Year
  Ended
  December 31,
  2006 |   | Year
  Ended
  December 31,
  2005 |  
|                                                  |  |                                    |             |                                    |   |                                    |  
|                                                  |  |                                    |             |                                    |   |                                    |  
|Beginning balance                                 |  | $                                  | 186,683,150 |                                    | $ | 193,251,159                        |   | $ | 215,423,473 |  
|Net (decrease)/ increase before interest
credited |  |                                    | (13,454,165 | )                                  |   | (9,416,115                         | ) |   | (23,793,756 | )
|Interest credited on deposits                     |  |                                    | 3,105,458   |                                    |   | 2,848,106                          |   |   | 1,621,442   |  
|                                                  |  |                                    |             |                                    |   |                                    |   |   |             |  
|                                                  |  |                                    |             |                                    |   |                                    |   |   |             |  
|Ending balance                                    |  | $                                  | 176,334,443 |                                    | $ | 186,683,150                        |   | $ | 193,251,159 |  
|                                                  |  |                                    |             |                                    |   |                                    |   |   |             |  

The following
table provides information regarding the remaining term to maturity of our time
deposits over $100,000 at December 31, 2007:

|                                |  |        |            | 
|------------------------------- |  | ------ | ---------- | 
|Maturity
  Period               |  | Amount |           
|                                |  |        |           
|                                |  |        |           
|Three months or less            |  | $      | 48,831,120 | 
|Over three through six
  months |  |        | 2,438,857  | 
|Over six through 12 months      |  |        | 2,338,952  | 
|Over 12 months                  |  |        | 144,904    | 
|                                |  |        |            | 
|Total                           |  | $      | 53,753,833 | 
|                                |  |        |            | 

18

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The following
table presents by various rate categories, the amount and the periods to
maturity of the certificate accounts outstanding at December 31, 2007.

|                      |  |                         |            |                                      |   |                                       |  |                                          |           |                      |   |         |  |   |           |  |   |            | 
|--------------------- |  | ----------------------- | ---------- | ------------------------------------ | - | ------------------------------------- |  | ---------------------------------------- | --------- | -------------------- | - | ------- |  | - | --------- |  | - | ---------- | 
|                      |  | Six
  Months
  And Less |            | Over
  Six Mos.
  Through One
  Year |   | Over
  One Year
  Through Two
  Years |  | Over
  Two Years
  Through Three
  Years |           | Over
  Three
  Years |   | Total   | 
|                      |  |                         |            |                                      |   |                                       |  |                                          |           |                      |   |         | 
|Certificate accounts: |  |                         |            |                                      |   |                                       |  |                                          |           |                      |   |         |  |   |           |  |   |            | 
|2.00% to 2.99%        |  | $                       | 31,005,680 |                                      | $ |                                      |  | $                                        |          |                      | $ |        |  | $ |          |  | $ | 31,005,680 | 
|3.00% to 3.99%        |  |                         | 14,839,445 |                                      |   | 4,060,759                             |  |                                          | 564,559   |                      |   | 368,000 |  |   | 1,018,768 |  |   | 20,851,531 | 
|4.00% to 4.99%        |  |                         | 7,159,361  |                                      |   | 4,471,612                             |  |                                          | 951,101   |                      |   | 281,036 |  |   | 18,243    |  |   | 12,881,353 | 
|                     
|                      |  |                         |            |                                      |   |                                       |  |                                          |           |                      |   |         |  |   |           |  |   |            | 
|                      |  | $                       | 53,004,486 |                                      | $ | 8,532,371                             |  | $                                        | 1,515,660 |                      | $ | 649,036 |  | $ | 1,037,011 |  | $ | 64,738,564 | 
|                      |  |                         |            |                                      |   |                                       |  |                                          |           |                      |   |         |  |   |           |  |   |            | 

Borrowings

We do not
routinely utilize borrowings, but in connection with the issuance of $5 million
in trust preferred securities in August 2003, we issued a $5.2 million
subordinated note to VSB Capital Trust I.
Therefore, at December 31, 2007 and 2006, we had $5.2 million in
subordinated debt.  The subordinated
debt has an interest rate that is fixed for five years, or until August 2008.
At that time, the interest rate adjusts every 90 days based upon a margin over
the 90 day LIBOR rate, and we have the right to prepay the debt at each
interest rate adjustment. Whether we prepay the debt in August 2008 or at any
other adjustment date will depend upon multiple factors at that time, including
market interest rate conditions, our expected asset growth, capital ratios,
general economic conditions and other factors. Management believes that if we
elect to prepay the subordinated debt in August 2008 or at a foreseeable later
date, we will have sufficient liquid assets to effect the repayment without the
need to sell other investments or restrict our lending activities.



Personnel

As of December
31, 2007, we had 49 full-time employees and 17 part-time employees. These
employees are not represented by a collective bargaining unit and we consider
our relationship with our employees to be good.

REGULATION
AND SUPERVISION

Regulation of VSB
Bancorp, Inc.

VSB Bancorp,
Inc., is a New York corporation and is subject to and governed by the New York
Business Corporation Law. It is a bank holding company and thus is subject to
regulation, supervision, and examination by the Federal Reserve.

Bank Holding Company Regulation.As
a bank holding company, we are required to file periodic reports and other
information with the Federal Reserve and the Federal Reserve may conduct
examinations of us.

We are subject
to capital adequacy guidelines of the Federal Reserve. The guidelines apply on
a consolidated basis and require bank holding companies to maintain a minimum
ratio of Tier 1 capital to total assets of 4.0%. The minimum ratio is 3.0% for
the most highly rated bank holding companies. The Federal Reserves capital
adequacy guidelines also require bank holding companies to maintain a minimum
ratio of qualifying total capital to risk-weighted assets of 8.0%, and a
minimum ratio of Tier 1 capital to risk-weighted assets of 4.0%. As of December
31, 2007, the ratio of Tier 1 capital to total assets was 12.63%, the ratio of
Tier 1 capital to risk-weighted assets was 29.10%, and the ratio of qualifying
total capital to risk-weighted assets was 30.13%.

Our ability to
pay dividends can be restricted if overall capital falls below levels
established by the Federal Reserves guidelines.

19

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Federal
Reserve approval is required if we seek to acquire direct or indirect ownership
or control of 5% or more of the voting shares of a bank or bank holding
company. We must obtain Federal Reserve approval before we acquire all or
substantially all the assets of a bank or merge or consolidate with another
bank holding company. These provisions also would apply to a bank holding
company that sought to acquire 5% or more of the common stock of or to merge or
consolidate with us.

Bank holding
companies like us may not engage in activities other than banking and
activities so closely related to banking or managing or controlling banks as to
be a proper incident thereto. Federal Reserve regulations contain a list of
permissible non-banking activities that are closely related to banking or
managing or controlling banks and the Federal Reserve has identified a limited
number of additional activities by order. These activities include lending
activities, certain data processing activities, and securities brokerage and
investment advisory services, trust activities and leasing activities. A bank
holding company must file an application or a notice with the Federal Reserve
prior to acquiring more than 5% of the voting shares of a company engaged in
such activities. A bank holding company that is well capitalized and well
managed and meets other conditions may provide notice after making the
acquisition.

We have the
right to elect to be treated as a financial holding company if the Bank is well
capitalized and well managed and has at least a satisfactory record of
performance under the Community Reinvestment Act. Financial holding companies
that meet certain conditions may engage in activities that are financial in
nature or incidental to financial activities, or activities that are
complementary to a financial activity and do not pose a substantial risk to the
safety and soundness of depository institutions or the financial system
generally. Federal law identifies certain activities that are deemed to be
financial in nature, including non-banking activities currently permissible for
bank holding companies to engage in both within and outside the United States,
as well as insurance and securities underwriting and merchant banking
activities. The Federal Reserve may identify additional activities that are permissible
financial activities. No prior notice to the Federal Reserve is required for a
financial holding company to acquire a company engaged in these activities or
to commence these activities directly or indirectly through a subsidiary.

We have not
elected to be treated as a financial holding company since we have no current
plans to use the authority to engage in expanded activities. However, we may
elect to do so in the future.

The Sarbanes-Oxley Act. The Sarbanes-Oxley Act of 2002
(Sarbanes-Oxley) imposes a broad range of corporate governance and accounting
requirements for public companies (including VSB Bancorp, Inc.) designed to
promote honesty and transparency in corporate America. Among many other
provisions, Section 404 of Sarbanes-Oxley requires that public company annual
reports describe the responsibility of management to establish and maintain an
internal control structure and contain an assessment of the effectiveness of
the internal control structure and procedures of the issuer for financial
reporting. The Securities and Exchange Commission had extended the deadline for
non-accelerated filers (such as VSB Bancorp, Inc.) to comply with the
requirements under Section 404. This is our first Annual Report for which we
are required to include a report under Section 404 and we have included such a
report as Item 8A of this Annual Report. We are not yet required to include an
attestation by our independent registered public accountants as to managements
assessment under Section 404. Managements assessment did not result in
substantial additional cost because the financial nature of our business makes
internal control and monetary reporting a fundamental component of the
operation of much of our business, However, we anticipate that if the Securities
and Exchange Commission requires that we include an accountants attestation of
managements assessment, as is currently planned for next year, that would
result in a substantial increase in our accounting and auditing expense.

Statutory
Restrictions on Acquisition of VSB Bancorp, Inc., and Victory State Bank

Applicable
provisions of the New York Banking Law, the federal Bank Holding Company Act,
and other federal statutes, restrict the ability of persons or entities to
acquire control of a bank holding company. Under the Change in Bank Control
Act, persons who intend to acquire control of a bank holding company, either
directly or indirectly or through or in concert with one or more persons must
give 60 days prior written notice to the Federal Reserve.

20

---



Control
would exist when an acquiring party directly or indirectly has voting control
of at least 25% of our voting securities or the power to direct our management
or policies. Under Federal Reserve regulations, a rebuttable presumption of
control would arise with respect to an acquisition where, after the
transaction, the acquiring party has ownership control, or the power to vote at
least 10% (but less than 25%) of our common stock.

The New York
Banking Law requires prior approval of the New York Banking Board before any
action is taken that causes any company to acquire direct or indirect control
of a banking institution that is organized in the State of New York. The term
control is defined generally to mean the power to direct or cause the direction
of the management and policies of the banking institution and is presumed to
exist if the company owns, controls or holds with power to vote 10% or more of
the voting stock of the banking institution.

Section 912 of
the New York Business Corporation Law, known as the New York Anti-Takeover Law,
restricts the ability of interested stockholders to engage in business
combinations with a New York corporation. In general terms, Section 912
prohibits any New York corporation covered by the statute from merging with an
interested shareholder (i.e., one who owns 20% or more of the outstanding
voting stock) for five years following the date on which the interested
shareholder first acquired 20% of the stock, unless before that date the Board
of Directors of the corporation had approved either the merger or the
interested shareholders stock purchase.

Section 912
defines an interested stockholder as the beneficial owner, directly or
indirectly, of 20% or more of the outstanding voting stock of a corporation; and
certain other entities that have owned 20% or more of a corporations stock
during the past five years. A business combination is defined as a merger,
consolidation, sale of 10% or more of the assets, or similar transaction.

Unless an
interested stockholder waits five years after becoming an interested
stockholder to engage in a business combination, the business combination is
prohibited unless our Board of Directors has approved either (a) the business
combination or (b) the acquisition of stock by the interested stockholder,
before the interested stockholder acquired its 20% interest. Even though the
interested stockholder waits five years, the business combination is prohibited
unless either:

(i)     the
business combination or the acquisition of stock by the interested stockholder
was approved by the Board of Directors before the interested stockholder
acquired its 20% interest;

(ii)     the
business combination is approved by a majority vote of all outstanding shares
of stock not beneficially owned by the interested stockholder or its affiliates
or associates at a meeting held at least five years after the interested
stockholder becomes an interested stockholder; or

(iii)     the
price paid for common stock acquired in the business combination is, in general
terms, at least as much as the greater of (a) highest price paid by the
interested stockholder for any stock since the interested stockholder first
owned 5% of the stock of the corporation, or (b) the market value of the stock
as of the date of announcement of the business combination; and the price paid
for stock other than common stock is subject to comparable minimum standards.

21

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Regulation of Victory
State Bank

The Bank is
subject to extensive regulation and examination by the New York State Banking
Department (Department), as its chartering authority, and by the FDIC, as the
insurer of its deposits.  The federal
and state laws and regulations which are applicable to banks regulate, among
other things, the scope of their business, their investments, their reserves
against deposits, the timing of the availability of deposited funds and the
nature and amount of and collateral for certain loans. The Bank must file
reports with the Department and the FDIC concerning its activities and
financial condition, in addition to obtaining regulatory approvals prior to
entering into certain transactions such as establishing branches and mergers
with, or acquisitions of, other depository institutions. There are periodic
examinations by the Department and the FDIC to test the Banks compliance with
various regulatory requirements. This regulation and supervision establishes a
comprehensive framework of activities in which an institution can engage and is
intended primarily for the protection of the insurance fund and depositors. The
regulatory structure also gives the regulatory authorities extensive discretion
in connection with their supervisory and enforcement activities and examination
policies, including policies with respect to the classification of assets and
the establishment of adequate loan loss reserves for regulatory purposes. Any
change in such regulation, whether by the Department, the FDIC or as a result
of the enactment of legislation, could have a material adverse impact on the
Bank and its operations.

Capital Requirements

The FDIC
imposes capital adequacy standards on state-chartered banks, which, like the
Bank, are not members of the Federal Reserve System.

The FDICs
capital regulations establish a minimum 3.0% Tier I leverage capital
requirement for the most highly-rated state-chartered, non-member banks, with
an additional cushion of at least 100 basis points for all other
state-chartered, non-member banks, which effectively will increase the minimum
Tier I leverage ratio for such other banks to 4.0%. Under the FDICs
regulation, the highest-rated banks are those that the FDIC determines are not
anticipating or experiencing significant growth and have well diversified risk,
including no undue interest rate risk exposure, excellent asset quality, high
liquidity, good earnings and, in general, which are considered a strong banking
organization and are rated composite 1 under the Uniform Financial Institutions
Rating System.  Tier I or core capital
is defined as the sum of common stockholders equity (including retained
earnings), non-cumulative perpetual preferred stock and related surplus, and
minority interests in consolidated subsidiaries, minus all intangible assets
other than certain qualifying supervisory goodwill and certain mortgage
servicing rights.

The FDIC also
requires that banks meet a risk-based capital standard. The risk-based capital
standard for banks requires the maintenance of a ratio of total capital (which
is defined as Tier I capital and supplementary capital) to risk-weighted assets
of 8.0% and Tier I capital to risk-weighted assets of 4%. In determining the
amount of risk-weighted assets, all assets, plus certain off-balance sheet
assets, are multiplied by a risk-weight of 0% to 100%, based on the risks the
FDIC believes are inherent in the type of asset or item. The components of Tier
I capital are the same as for the leverage capital standard. The components of
supplementary capital include certain perpetual preferred stock, certain
mandatory convertible securities, certain subordi­nated debt and intermediate
preferred stock and general allowances for loan and lease losses. Allowance for
loan and lease losses includable in supplementary capital is limited to a
maximum of 1.25%of risk-weighted assets. Overall, the amount of capital
counted toward supplementary capital cannot exceed 100% of core capital.

The FDIC has
an additional, higher capital level, known as well-capitalized.  In order to be classified as
well-capitalized, a bank must have a Tier 1 leverage ratio of at least 5%, a
Tier 1 risk-based capital ratio of at least 6% and a total risk-based capital
ratio of at least 10%.

At December
31, 2007, the Bank met each of its capital requirements.

22

---



The following
table shows the Banks actual capital amounts and ratios.

|                          |  |        |            |                                   |       |                                                                        |  |       |           |        |      |       |  |   |            |  |       |   | 
|------------------------- |  | ------ | ---------- | --------------------------------- | ----- | ---------------------------------------------------------------------- |  | ----- | --------- | ------ | ---- | ----- |  | - | ---------- |  | ----- | - | 
|                          |  | Actual |            | For
  capital
  adequacy purposes |       | To
  be well-capitalized
  under prompt corrective
  action provisions | 
|                          |  |        |            |                                   |       |                                                                        | 
|                          |  | Amount |            | Ratio                             |       | Amount                                                                 |  | Ratio |           | Amount |      | Ratio | 
|                          |  |        |            |                                   |       |                                                                        |  |       |           |        |      |       | 
|                         
|As of December 31, 2007   |  |        |            |                                   |       |                                                                        |  |       |           |        |      |       |  |   |            |  |       |   | 
|Tier 1 Capital            |  |        |            |                                   |       |                                                                        |  |       |           |        |      |       |  |   |            |  |       |   | 
|(to Average Assets)       |  | $      | 22,821,000 |                                   | 11.07 | %                                                                      |  | $     | 8,248,120 |        | 4.00 | %     |  | $ | 10,310,150 |  | 5.00  | % | 
|Tier 1 Capital            |  |        |            |                                   |       |                                                                        |  |       |           |        |      |       |  |   |            |  |       |   | 
|(to Risk Weighted Assets) |  |        | 22,821,000 |                                   | 26.19 | %                                                                      |  |       | 3,484,840 |        | 4.00 | %     |  |   | 5,227,260  |  | 6.00  | % | 
|Total Capital             |  |        |            |                                   |       |                                                                        |  |       |           |        |      |       |  |   |            |  |       |   | 
|(to Risk Weighted Assets) |  |        | 23,748,000 |                                   | 27.26 | %                                                                      |  |       | 6,969,680 |        | 8.00 | %     |  |   | 8,712,100  |  | 10.00 | % | 

Activities
and
Investments of New York-Chartered Banks.

The Bank
derives its lending,investment and other authority primarily
from the applicable provisions of New York State Banking Law and the
regulations of the Department, as limited by FDIC regulations and other federal
laws and regulations. See Activities and Investments of FDIC Insured State-Chartered
Banks below. These New York laws and regulations authorize the Bank to invest
in real estate mortgages, consumer and commercial loans, certain types of debt
securities, including certain corporate debt securities and obligations of
federal, State and local governments and agencies, and certain other
assets.  A banks aggregate lending
powers are not subject to percentage of asset limitations, although there are
limits applicable to single borrowers. A New York-chartered bank may also
exercise trust powers upon approval of the Department. The Bank does not have
trust powers.

The New York
Banking Board has the power to adopt regulations that enable state chartered
banks to exercise the rights, powers and privileges permitted for a national
bank.  The Bank has not engaged in
material activities authorized by such regulations.

With certain
limited exceptions, the Bank may not make loans or extend credit for
commercial, corporate or business purposes (including lease financing) to a
single borrower, the aggregate amount of which would be in excess of 15% of the
Banks net worth, on an unsecured basis, and 25% of the net worth if the excess
is collateralized by readily marketable collateral or collateral otherwise
having a value equal to the amount by which the loan exceeds 15% of the Banks
net worth.  Theses limits do not apply
to loans made by VSB Bancorp, Inc. directly at the holding company level.  The Bank currently complies with all
applicable loans-to-one-borrower limitations and VSB Bancorp, Inc. has not made
any loans in its own name.

Activities and
Investments of FDIC-Insured State-Chartered Banks.

The activities
and equity invest­ments of FDIC-insured, state-chartered banks are generally
limited to those that are permissible for national banks. Under regulations
dealing with equity investments, an insured state bank generally may not
directly or indirectly acquire or retain any equity investment of a type, or in
an amount, that is not permissible for a national bank. An insured state bank
is not prohibited from, among other things, (i) acquiring or retaining a
majority interest in a subsidiary, (ii) investing as a limited partner in a
partnership the sole purpose of which is direct or indirect investment in the
acquisition, rehabilitation or new construction of a qualified housing project,
provided that such limited partnership investments may not exceed 2% of the
banks total assets, (iii) acquiring up to 10% of the voting stock of a company
that solely provides or reinsures directors, trustees and officers liability
insurance coverage or bankers blanket bond group insurance coverage for
insured depository institutions, and (iv) acquiring or retaining the voting
shares of a depository institution if certain requirements are met. In
addition, an FDIC-insured state-chartered bank may not directly, or indirectly
through a subsidiary, engage as principal in any activity that is not
permissible for a national bank unless the FDIC has determined that such
activities would pose no risk to the insurance fund of which it is a member and
the bank is in compliance with applicable regulatory capital requirements.

23

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Regulatory
Enforcement Authority

Applicable
banking laws include substantial enforcement powers available to federal
banking regulators. This enforcement authority includes, among other things,
the ability to assess civil money penalties, to issue cease-and-desist or
removal orders and to initiate injunctive actions against banking organizations
and institution-affiliated parties, as defined. In general, these enforcement
actions may be initiated for violations of laws and regulations and unsafe or
unsound practices. Other actions or inactions may provide the basis for
enforcement action, including misleading or untimely reports filed with regulatory
authorities.

Under the New
York State Banking Law, the Department may issue an order to a New
York-chartered banking institution to appear and explain an apparent violation
of law, to discontinue unauthorized or unsafe practices and to keep prescribed
books and accounts. Upon a finding by the Department that any director, trustee
or officer of any banking organization has violated any law, or has continued
unauthorized or unsafe practices in conducting the business of the banking
organization after having been notified by the Department to discontinue such
practices, such director, trustee or officer may be removed from office by the
Department after notice and an opportunity to be heard. The Bank does not know
of any past or current practice, condition or violation that might lead to any
proceeding by the Department against the Bank or any of its directors or
officers. The Department also may take possession of a banking organization
under specified statutory criteria.

Prompt Corrective
Action.

Section 38 of
the Federal Deposit Insurance Act (FDIA) provides the federal banking
regulators with broad power to take prompt corrective action to resolve the
problems of undercapitalized institutions. The extent of the regulators powers
depends on whether the institution in question is well capitalized,
adequately capitalized, undercapitalized, significantly undercapitalized
or critically undercapitalized. A bank is deemed to be (i) well capitalized
if it has total risk-based capital ratio of 10.0% or more, has a Tier I
risk-based capital ratio of 6.0% or more, has a Tier I leverage capital ratio
of 5.0% or more and is not subject to specified requirements to meet and
maintain a specific capital level for any capital measure, (ii) adequately capitalized
if it has a total risk-based capital ratio of 8.0% or more, a Tier I risk-based
capital ratio of 4.0% or more and a Tier I leverage capital ratio of 4.0% or
more (3.0% under certain circumstances) and does not meet the definition of
well capitalized, (iii) undercapitalized if it has a total risk-based
capital ratio that is less than 8.0%, a Tier I risk-based capital ratio that is
less than 4.0% or a Tier I leverage capital ratio that is less than 4.0% (3.0%
under certain circumstances), (iv) significantly undercapitalized if it has a
total risk-based capital ratio that is less than 6.0%, a Tier I risk-based
capital ratio that is less than 3.0% or a Tier I leverage capital ratio that is
less than 3.0%, and (v) critically undercapitalized if it has a ratio of
tangible equity to total assets that is equal to or less than 2.0%. The
regulations also provide that a federal banking regulator may, after notice and
an opportunity for a hearing, reclassify a well capitalized institution as
adequately capitalized and may require an adequately capitalized
institution or an undercapitalized institution to comply with supervisory
actions as if it were in the next lower category if the institution is in an
unsafe or unsound condition or engaging in an unsafe or unsound practice. The
federal banking regulator may not, however, reclassify a significantly
undercapital­ized institution as critically undercapitalized.

An institution
generally must file a written capital restoration plan which meets specified
requirements, as well as a performance guaranty by each company that controls
the institution, with an appropriate federal banking regulator within 45 days
of the date that the institution receives notice or is deemed to have notice
that it is undercapitalized, significantly undercapitalized or critically
undercapitalized. Immediately upon becoming undercapitalized, an institution
becomes subject to statutory provisions, which, among other things, set forth
various mandatory and discretionary restrictions on the operations of such an
institution.

At December
31, 2007, the Company and the Bank had capital levels which qualified it as a
well-capitalized institution.

24

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FDIC Insurance

The Bank is a
member of the FDIC. As insurer, the FDIC is authorized to conduct examinations
of, and to require reporting by, FDIC-­insured institutions. It also may
prohibit any FDIC-insured institution from engaging in any activity the FDIC
determines by regulation or order to pose a serious threat to the FDIC.

On February 8, 2006,
President Bush signed into law the Federal Deposit Insurance Reform Act of
2005. The law increases the amount of deposit insurance available for
retirement accounts, indexes the amount of deposit insurance to inflation,
merges the two existing deposit insurance funds (one historically for banks and
one historically for savings and loan associations) into a single fund and
gives the FDIC greater flexibility in determining the amount of future deposit
insurance premiums that banks may be required to pay. The law also grants banks
that were in existence prior to December 31, 1996 and paid deposit insurance
premiums prior to that date a credit against future deposit insurance
assessments that the FDIC may make. Since the Bank did not open for business
until 1997, it is not entitled to any credit. In late 2006, the FDIC imposed
premium assessments for the first time in a number of years, effective
beginning in 2007. Our FDIC insurance premium was $91,566 in 2007 and we
estimate that our FDIC insurance premium in 2008 will be approximately
$115,000. Therefore, the Bank may be at a competitive disadvantage when
compared to institutions with longer operating histories because those
institutions might have lower expenses for deposit insurance premiums.

The FDIC may
terminate the deposit insurance of any insured depository institution,
including the Bank, if it determines, after a hearing, that the institution has
engaged or is engaging in unsafe or unsound practices, is in an unsafe or
unsound condition to continue operations, or has violated any applicable law,
regulation, order or any condition imposed by an agreement with the FDIC. It
also may suspend deposit insurance temporarily during the hearing process for
the permanent termination of insurance, if the institution has no tangible
capital. If insurance of accounts is terminated, the accounts at the
institution at the time of the termination, less subsequent withdrawals, shall
continue to be insured for a period of six months to two years, as determined
by the FDIC. Management is aware of no existing circumstances that would result
in termination of the Banks deposit insurance.

Brokered Deposits

Under federal
law and applicable regulations, (i) a well capitalized bank may solicit and
accept, renew or roll over any brokered deposit without restriction, (ii) an
adequately capitalized bank may not accept, renew or roll over any brokered
deposit unless it has applied for and been granted a waiver of this prohibition
by the FDIC and (iii) an undercapitalized bank may not (x) accept, renew or
roll over any brokered deposit or (y) solicit deposits by offering an effective
yield that exceeds by more than 75 basis points the prevailing effective yields
on insured deposits of comparable maturity in such institutions normal market
area or in the market area in which such deposits are being solicited. The term
undercapitalized insured depository institution is defined to mean any
insured depository institution that fails to meet the minimum regulatory
capital requirement prescribed by its appropriate federal banking agency. The
FDIC may, on a case-by-case basis and upon application by an adequately
capitalized insured depository institution, waive the restriction on brokered
deposits upon a finding that the acceptance of brokered deposits does not
constitute an unsafe or unsound practice with respect to such institution. The
Bank had no brokered deposits outstanding at December 31, 2007.

Community
Reinvestment and Consumer Protection Laws

In connection
with its lending activities, the Bank is subject to a variety of federal laws
designed to protect borrowers and promote lending to various sectors of the
economy and population. Included among these are the Home Mortgage Disclosure
Act, Real Estate Settlement Procedures Act, Truth-in-Lending Act, Equal Credit
Opportunity Act, Fair Credit Reporting Act and Community Reinvestment Act
(CRA).

25

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The CRA
requires FDIC insured banks to define the assessment areas that they serve,
identify the credit needs of those assessment areas and take actions that
respond to the credit needs of the community. The FDIC must conduct regular CRA
examinations of the Bank and assign it a CRA rating of outstanding, satisfac­tory,
needs improvement or unsatisfactory.
The Bank is also subject to provisions of the New York State Banking Law
which impose similar obligations to serve the credit needs of its assessment
areas. The New York Banking Department makes a biennial written assessment of a
banks compliance, and makes the assessment available to the public. Federal
and New York State laws both require consideration of these ratings when
reviewing a banks application to engage in certain transactions, including
mergers, asset purchases and the establishment of branch offices.  A negative assessment may serve as a basis
for the denial of any such application. The Bank has received Satisfactory
ratings from both the New York Banking Department and the FDIC.

The Board of
Governors of the Federal Reserve System has recently proposed changes to its
Truth in Lending regulations and the U.S. Department of Housing and Urban
Development has recently proposed changes to its Real Estate Settlement
Procedures Act regulations that may have a significant effect on consumer
lending, especially residential mortgage lending to consumers. Although
consumer lending is not a material part of our lending program, any changes
which affect the housing industry have a potential to adversely affect our
customers because, as we have explained throughout this annual report, the
building trades, especially related to residential construction, are an
important focus of our customer base. Therefore, any regulations that make it
more expensive for our customers to operate, or that restrict the ability of
our customers to conduct business, could have an adverse effect on our
operations.

Limitations on
Dividends

The payment of
dividends by the Bank is subject to various regulatory requirements.  Under New York State Banking Law, a New
York-chartered stock bank may declare and pay dividends out of its net profits,
unless there is an impairment of capital, but approval of the Superintendent of
Banks is required if the total of all dividends declared in a calendar year
would exceed the total of its net profits for that year combined with its
retained net profits of the preceding two years, subject to certain
adjustments.

Miscellaneous

The Bank is
subject to restrictions on loans to its non-bank subsidiaries, on investments
in the stock or securities thereof, on the taking of such stock or securities
as collateral for loans to any borrower, and on the issuance of a guarantee or
letter of credit on behalf of the Bank or its non-bank subsidiaries. The Bank
also is subject to restrictions on most types of transactions with the Bank or
its non-bank subsidiaries, requiring that the terms of such transactions be
substantially equivalent to terms of similar transactions with non-affiliated
firms.

Assessments

Banking
institutions are required to pay assessments to both the FDIC and the NYSBD to
fund their operations.  The assessments
are based upon the amount of the Banks total assets.  The Bank must also pay an examination fee to the NYSBD when they
conduct an examination. The Bank paid federal and state assessments and
examination fees of $129,507 in 2007.

Transactions with
Related Parties

The Banks authority to engage
in transactions with related parties or affiliates (i.e., any entity that
controls or is under common control with an institution, including the Bank) or
to make loans to certain insiders, is limited by Sections 23A and 23B of the
Federal Reserve Act. Section 23A limits the aggregate amount of transactions
with any individual affiliate to 10% of the capital and surplus of the
institution and also limits the aggregate amount of transactions with all
affiliates to 20% of the institutions capital and surplus.

26

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Loans to
affiliates must be secured by collateral with a value that depends on the
nature of the collateral. The purchase of low quality assets from affiliates is
generally prohibited. Loans and asset purchases with affiliates, must be on
terms and under circumstances, including credit standards, that are
substantially the same or at least as favorable to the institution as those
prevailing at the time for comparable transactions with nonaffiliated
companies. In the absence of comparable transactions, such transactions may
only occur under terms and circumstances, including credit standards that in
good faith would be offered to or would apply to nonaffiliated companies.

The Banks
authority to extend credit to executive officers, directors and 10% shareholders,
as well as entities controlled by such persons, is currently governed by
Regulation O of the Federal Reserve Board. Regulation O generally requires such
loans to be made on terms substantially similar to those offered to
unaffiliated individuals (except for preferential loans made in accordance with
broad based employee benefit plans), places limits on the amount of loans the
Bank may make to such persons based, in part, on the Banks capital position,
and requires certain approval procedures to be followed.

Standards for Safety and Soundness

FDIC
regulations require that Victory State Bank adopt procedures and systems
designed to foster safe and sound operations in the areas of internal controls,
information systems, internal and audit systems, loan documentation, credit
underwriting, interest rate risk exposure, asset growth, asset quality,
earnings and compensation, fees and benefits. Among other things, these
regulations prohibit compensation and benefits and arrangements that are
excessive or that could lead to a material financial loss. If Victory State
Bank fails to meet any of these standards, it will be required to submit to the
FDIC a plan specifying the steps that will be taken to cure the deficiency. If
it fails to submit an acceptable plan or fails to implement the plan, FDIC the
will require it or VSB Bancorp, Inc. to correct the deficiency and until
corrected, may impose restrictions on them.

The FDIC has
also adopted regulations that require Victory State Bank to adopt written loan
policies and procedures that are consistent with safe and sound operation, are
appropriate for the size of the Bank, and must be reviewed by the Banks Board
of Directors annually. Victory State Bank has adopted such policies and
procedures, the material provisions of which are discussed above as part of the
discussion of our lending operations.

Federal Reserve System

The Federal
Reserve Board regulations require banks to maintain non-interest earning
reserves against their transaction accounts (primarily regular checking
accounts and interest-bearing checking accounts). The Federal Reserve Board
regulations generally require that reserves be maintained against aggregate
transaction accounts as follows: for accounts aggregating $34.6 million or less
(subject to adjustment by the Federal Reserve Board) the reserve requirement is
3%; for accounts greater than $34.6 million, the reserve requirement is $1.0
million plus 10% (subject to adjustment by the Federal Reserve Board between 8%
and 14%) against that portion of total transaction accounts in excess of $43.9
million. The first $9.3 million of otherwise reservable balances (subject to
adjustments by the Federal Reserve Board) are exempted from the reserve
requirements. The Bank is in compliance with these requirements. Because
required reserves must be maintained in the form of either vault cash or a
non-interest-bearing account at a Federal Reserve Bank or a pass-through
account as defined by the Federal Reserve Board, the effect of this reserve
requirement is to reduce our interest-earning assets.

27

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TAXATION

Federal
Taxation

General

We are subject
to federal income taxation in the same general manner as other corporations
with some exceptions discussed below. The following discussion of federal
taxation is intended only to summarize certain pertinent federal income tax
matters and is not a comprehen­sive description of the tax rules applicable to
us. Our federal income tax returns have not been audited or closed without
audit by the Internal Revenue Service.

Method of Accounting

We report our
income and expenses on the accrual method of accounting and use a tax year
ending December 31 for filing our consolidated federal income tax returns. The
Company files consolidated tax returns with the Bank and VSB Capital Trust I.

Bad Debt Reserves

We use the
experience method in computing bad debt deductions for federal tax purposes.

Minimum Tax

The Internal
Revenue Code imposes an alternative minimum tax (AMT) at a rate of 20% on a
base of regular taxable income plus certain tax preferences (alternative
minimum taxable income or AMTI). The AMT is payable to the extent such AMT
is in excess of the Companys regular tax liability. Net operating losses can
offset no more than 90% of AMT. Certain payments of alternative minimum tax may
be used as credits against regular tax liabilities in future years. We have not
been subject to the alternative minimum tax and have no such amounts available
as credits.

State
and Local Taxation

New York State and
New York City Taxation.

New York State
Franchise Tax on corporations is imposed in an amount equal to the
greater of (a) 7.5% of entire net income allocable to New York State (b) 3%
of alternative entire net income allocable to New York State (c) 0.01% of the
average value of assets allocable to New York State or (d) a nominal minimum
tax. Entire net income is based on federal taxable income, subject to certain
modifications. Alternative entire net income is equal to entire net income
without certain modifications. The New York City Corporation Tax is imposed
using similar alternative taxable income methods and rates.

A temporary
Metropolitan Transportation Business Tax Surcharge on banking corporations
doing business in the Metropolitan District has been applied since 1982. We transact
a significant portion of our business within this District and thus we are
subject to this surcharge. The current surcharge rate is 17% of the State
franchise tax liability. New York City does not impose comparable surcharges.

For New York
State and City tax purposes, the bad debt deduction may be computed using a
specific formula based on our actual loss history (Experience Method).

28

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Item 2. Description
of Property.

At December
31, 2007, we conducted our business through five banking offices. Our main office and banking facility
is at 4142 Hylan Boulevard.

|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|------------------------------- |  |  | ------------- |  |  | ----------------- |  |  | -------------------------------------- |  |  | ---------------------------- |  | - | ------------------------------------------------------------------- | 
|Location                        |  |  | Description   |  |  | Leased or
  Owned |  |  | Original
  Date
  Leased or
  Acquired |  |  | Date of
  Lease
  Expiration |  |   | Net Book Value
  of Leasehold
  Improvements at
  December 31, 2007 | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|4142 Hylan
  Boulevard          |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|Staten
  Island, N.Y. 10308 (1) |  |  | Main Office   |  |  | Leased            |  |  | 2005                                   |  |  | 3/25/2020                    |  | $ | 2,121,870                                                           | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|755 Forest
  Avenue             |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|Staten
  Island, N.Y. 10310     |  |  | Branch        |  |  | Leased            |  |  | 1999                                   |  |  | 11/30/2013                   |  | $ | 67,741                                                              | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|One Hyatt
  Street              |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|Staten
  Island, N.Y. 10301     |  |  | Branch        |  |  | Leased            |  |  | 1999                                   |  |  | 10/30/2014                   |  | $ | 36,386                                                              | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|1762 Hylan
  Boulevard          |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|Staten
  Island, N.Y. 10305     |  |  | Branch        |  |  | Leased            |  |  | 2001                                   |  |  | 6/30/2016                    |  | $ | 451,749                                                             | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|1766 Hylan
  Boulevard (2)      |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|Staten
  Island, N.Y. 10305     |  |  | Retail Stores |  |  | Leased            |  |  | 2001                                   |  |  | 6/30/2016                    |  | $ | 122,141                                                             | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|1065 Bay
  Street               |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|Staten
  Island, N.Y. 10305     |  |  | Branch        |  |  | Leased            |  |  | 2006                                   |  |  | 04/26/2021                   |  | $ | 177,334                                                             | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 
|Total net
  book value          |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  | $ | 2,977,221                                                           | 
|                                |  |  |               |  |  |                   |  |  |                                        |  |  |                              |  |   |                                                                     | 

|    |                                                                                                                                                                        
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | In February
  2007, we opened our new main office at 4142 Hylan Boulevard.                                                                                             
|   
|(2) | We leased
  the retail stores at 1766 Hylan Boulevard as a component of the lease for the
  1762 Hylan Boulevard branch and we sublease the property to retail tenants.

Item 3. Legal
Proceedings.

The Bank is a defendant in
an action pending in Supreme Court, Richmond County, commenced by IndyMac Bank,
F.S.B. against the Bank, LaMattina & Associates, Inc. (LAI) and various
individuals and entities alleged to be officers, directors or otherwise to have
relationships with LAI. LAI was a deposit customer of the Bank engaged in the
business of providing real estate settlement services to lenders making
residential mortgage loans. The plaintiff alleges that it was such a lender and
that it had provided funds to LAI by wiring those funds to an account of LAI at
the Bank to use to fund mortgage loans to be made by the plaintiff, only to
have LAI not use those funds for their intended purpose. The action was
commenced in August 2005. In November 2005, the plaintiff amended its complaint
to add the Bank as a defendant. The plaintiff amended its complaint again and
the Bank moved to dismiss the claims. In February 2007, the court dismissed two
of the claims against the Bank but allowed the Plaintiff to proceed and conduct
discovery with respect to two claims, one for negligence and the other for
conversion. The parties are in the process of conducting discovery regarding
the claims asserted in the case.

The amended complaint
requests monetary damages against the Bank of $1,817,041 plus recovery of
attorneys fees. The Bank intends to defend aggressively the amended claims and
has referred the litigation to its insurance carrier, which has indicated that
at least some of the claims asserted against the Bank are covered by insurance.
The Bank has also asserted cross-claims against various former customers, principals
of those customers, and other related persons on the grounds that if the Bank
is held liable to the plaintiff, then the liability is the result of the
misdeeds or negligence of those other parties.

VSB Bancorp, Inc., is not
involved in any pending legal proceedings. The Bank, from time to time, is
involved in routine collection proceedings in the ordinary course of
business on loans in default. Management believes that such other routine legal
proceedings in the aggregate are immaterial to our financial condition or
results of operations.

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

None

29

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PART II

Item 5. Market for
Common Equity and Related Stockholder Matters.

Our common
stock is quoted on the NASDAQ Over the Counter Market (OTC) under the symbol
VSBN. We are listed on the NASDAQ Capital Markets effective March 16, 2007.
We will continue to trade under our current symbol VSBN.

The following
table reflects the high and low bid price for our common stock during each
calendar quarter of the last two fiscal years. Such information is derived from
quotations published by Bloomberg LP. These quotations reflect inter-dealer
prices, without retail mark-up, mark-down or commission and may not represent
actual transactions.

|         |  |               |       |                |   |               |  |                |       |  |   |       | 
|-------- |  | ------------- | ----- | -------------- | - | ------------- |  | -------------- | ----- |  | - | ----- | 
|         |  | 2007          |      
|         |  |               |      
|         |  | First Quarter |       | Second Quarter |   | Third Quarter |  | Fourth Quarter |      
|         |  |               |       |                |   |               |  |                |      
|High Bid |  | $             | 15.20 |                | $ | 14.75         |  | $              | 13.65 |  | $ | 12.15 | 
|Low Bid  |  | $             | 14.27 |                | $ | 13.36         |  | $              | 11.76 |  | $ | 11.00 | 
|         |  |               |       |                |   |               |  |                |       |  |   |       | 
|         |  | 2006          |      
|         |  | First Quarter |       | Second Quarter |   | Third Quarter |  | Fourth Quarter |      
|High Bid |  | $             | 16.40 |                | $ | 17.00         |  | $              | 18.15 |  | $ | 14.92 | 
|Low Bid  |  | $             | 15.40 |                | $ | 15.48         |  | $              | 14.50 |  | $ | 14.00 | 

We have
approximately 153 stockholders of record. We paid our first cash dividend of
$0.06 per common share on January 2, 2008 for stockholders of record on November
29, 2007.

Item 6. Managements Discussion and Analysis
of Financial Condition and Results of Operations

General

VSB
Bancorp, Inc. (referred to using terms such as we, us, or the Company) is
the holding company for Victory State Bank (the Bank), a New York State
chartered commercial bank. Our primary business is owning all of the issued and
outstanding stock of the Bank. Victory State Bank is a New York State chartered
commercial bank, founded in November 1997. The Bank is supervised by the New
York State Banking Department and the Federal Deposit Insurance Corporation
(FDIC). The Bank gathers deposits from individuals and businesses primarily
in Staten Island and makes loans throughout that community. The Bank
invests funds that are not used for lending primarily in government
securities, mortgage backed securities and collateralized mortgage obligations.
Customer deposits are insured, up to the applicable limit, by the FDIC. VSB
Bancorp, Inc. common stock was quoted on the NASDAQ Over the Counter Market
(OTC) under the symbol VSBN. We are listed on the NASDAQ Capital Markets We
trade under our current symbol VSBN.

Since
the Bank opened for business in 1997, the Board of Directors and management
have pursued a strategy of growth and expansion in order to enhance the long
term value of our banking franchise. The Board of Directors and management
anticipate that an increase in customer deposits, and the resulting increase in
funds we would have available to fund asset growth, will generate an increase
in net interest income.

We
experienced an overall decline in deposits in 2007 due to factors we discuss
below. We opened our new main office in 2007. We anticipate that those new
branches, as well as our existing branch network, will generate an increase in
funds for investment in the future.

In
order to support branch expansion and asset growth, we had not paid cash
dividends before 2006. Our Board of Directors approved a $0.06 cash dividend to
stockholders of record on November 29, 2007, payable on January 2, 2008. Even
with the effect of this cash dividend, our earnings increased our capital base
and we can continue to be classified as well-capitalized for regulatory capital
purposes while we grow.

30

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We
also recognize that, on a short term basis, the development of a branch network
generates significant expenses before it generates income from increased
business. Our Board of Directors views the adverse effect on net income which
occurs immediately after a branch opening as an investment in our future. As we
have seen with our existing banking offices, as they mature and their deposits
increase, we have increasing funds available for investment.

During
2007, we faced a number of challenges, including reduction in market interest
rates that pushed down our yields on assets faster than our cost of funds, due
to the downward pressure of deposit rates. The real estate market continued to
softened, which reduced loan originations and deposit balances from our
attorney base. Our customers moved funds into higher rate deposit types such as
money market accounts as our rates on those products were high enough to
outweigh the decreased convenience associated with them. However, the decrease
in the prime rate also caused a decrease in yields on our existing prime based
loans and originated new loans at lower initial interest rates.

Also
important in 2007 was a shift in our deposit mix as we experienced a decline in
non-interest bearing demand deposits and NOW accounts. This decline resulted
from a number of factors including a reduction in real estate activity, which
reduced demand deposits held in connection with pending real estate
transactions; and a shift in customer preferences towards interest bearing
accounts as the yields on those accounts increased to the point where they
became desirable alternatives. Our time deposit portfolio dropped as the
previous Section 131 time deposits matured and were not replaced.

Management
intends to exert efforts to continue growing our company in the future. However,
both internal and external factors could adversely affect our future growth.
The recent down turn in the economy has made it more difficult for us to
originate new loans that meet our underwriting standards. Not only does that
cause us to invest available funds in lower-yielding securities and deposits
with other banks, but it also slows the development of non-loan relationships
which sometimes flow from cross-selling to loan customers.

A continuation
of adverse general economic conditions could make it difficult for us to
execute our growth plans. Furthermore, regulatory capital requirements could
have a negative effect on our ability to grow if growth outpaces our ability to
support that growth with increased capital.

Our results of
operations are dependent primarily on net interest income, which is the
difference between the income we earn on our loan and investment portfolios and
our costs of funds, consisting primarily of interest paid on our deposits. Our
operating expenses principally consist of employee compensation and benefits,
occupancy expenses, professional fees, advertising and marketing expenses and
other general and administrative expenses. Our results of operations are
significantly affected by general economic and competitive conditions, particularly
changes in market interest rates, government policies and actions of regulatory
authorities.

Critical Accounting
Policies

We are
required to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets and liabilities
at the date of the financial statements and the amounts of revenues and
expenses during the reporting period. The allowance for loan losses, prepayment
estimates on the mortgage-backed securities and Collateralized Mortgage
Obligation portfolios, contingencies and fair values of financial instruments
are particularly subject to change and to managements estimates. Actual
results can differ from those estimates and may have an impact on our financial
statements.

Asset/Liability
Management

We maintain
the interest rate sensitivity of our assets by investing primarily in CMOs and
MBSs with short and intermediate average lives to generate cash flows and by
originating and retaining primarily loans with interest rates based on the
prime rate. As of December 31, 2007, prime based loans totaled $49,880,240, or
79.7% of total loans. Many of these prime based loans are subject to interest
rate floors of 7.00% to 8.00%. We anticipate that we will continue to
concentrate on originating prime based loans in our principal market areas. We
also expect to continue to invest other available funds that we cannot invest
in loans in short-term investment grade securities.

31

---



Cash Flow Sensitivity Analysis.
The matching of assets and liabilities may be analyzed by examining our cash
flow sensitivity gap. An asset or liability is said to be cash flow sensitive
within a specific time period if it will mature or reprice within that time
period. The cash flow sensitivity gap is defined as the difference between the
amount of interest-earning assets maturing within a specific time period and
the amount of interest-bearing liabilities maturing within that time period. A
gap is considered positive when the amount of interest earning assets exceeds
the amount of interest bearing liabilities. A gap is considered negative when
the amount of interest bearing liabilities exceeds the amount of interest
earning assets.

During a
period of falling interest rates, the net income of an institution with a
positive gap can be expected to be adversely affected because the yield on its
interest-earning assets should reprice downward faster than the decline in its
cost of funds. Conversely, during a period of rising interest rates, the net
income of an institution with a positive gap position can be expected to
increase as it is able to invest in higher yielding interest-earning assets at
a more rapid rate than its interest-earning liabilities reprice. A positive gap
may not protect an institution with a large portfolio of adjustable rate based
loans or mortgage-backed securities from increases in interest rates for
extended time periods if such loans or securities have annual and lifetime
interest rate caps. The increase in the cost of funds in a rapidly increasing
rate environment could exceed the cap on assets yields, negatively impacting
net interest income. However, our prime rate based loans and our securities
investments generally do not have any annual or lifetime caps.

In the current
interest rate environment, we generally have been investing available funds not
needed for lending in CMOs and MBSs with estimated average lives of four and
one-half years or less. As a result of this strategy, and based upon the
assumptions used in the following table at December 31, 2007, our total
interest-bearing liabilities maturing within one year exceeded our total
interest-earning assets maturing in the same period by $19,431,693,
representing a one year cumulative gap ratio of negative 10.29%. In many cases,
a negative gap ratio means that in a falling rate environment, the interest
that we pay on deposits will reprice downward faster than the rates we earn on
assets. However, for a number of important reasons, that is not our recent
experience during periods of declining interest rates.

| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | · | The gap
  analysis shown in the table measures repricing during time periods of three
  months, one year, or longer. However, since most of our loans have interest
  rates based upon the prime rate and the interest rate adjusts immediately
  based upon the prime rate, a reduction in the target federal funds rate,
  which normally presages an immediate reduction in the prime rate, will have
  an immediate negative effect on our earnings the next business day, while it
  will take longer for that decline in market interest rates to affect deposit
  costs.                                                                                                                                                                                                                                                                                  
|
| | · | The gap
  table does not measure the magnitude of a change in yields earned or rates
  paid, but only whether they are expected to change. A 1% decline in the prime
  rate normally causes a 1% decline in our loan yields, unless the loan is at
  an interest rate floor. However, a 1% decline in the prime rate would
  normally result in less than a one percent decline in the rate we pay on
  deposits because deposit rates are only a fraction of the prime rate. For
  example, if we offer a deposit for one-half the prime rate, then a 1% decline
  in the prime rate will result in a 1% decline in a loan yield, but only a
  0.5% decline in the rate we offer on deposits. This effect, known as spread
  compression, can be especially significant at low market interest rates
  because the rate on deposits can not be less than zero.
|
| | · | The gap
  table does not consider the effects of customer discretion. Thus, a customer
  may elect to switch a deposit from one category to the other as market rates
  change, thus changing the cost of that deposit. Our cost of funds on a
  particular deposit could go up even though market rates are declining if a
  customer decides to move money from, for example, a low-rate NOW account to a
  higher-rate time deposit.                                                                                                                                                                                                                                                                                                                                                                                                                          
|
| | · | The gap
  table does not take into account discretion by the Bank in making deposit
  pricing decisions, which may cause the Bank not to reflect interest rate
  declines by lowering deposit rates. There are many reasons why the Bank may
  decide to do so. Examples of reasons include competitive pressures,
  irrational pricing by other institutions, and the need to maintain customer
  loyalty.                                                                                                                                                                                                                                                                                                                                                                                                                                                      

32

---



We closely
monitor our interest rate risk as such risk relates to our operational
strategies. The Victory State Bank Board of Directors has established an
Asset/Liability Committee, responsible for reviewing our asset/liability
policies and interest rate risk position, which generally meets quarterly and
reports back to the Board on interest rate risk and trends on a quarterly
basis. In light of the current interest rate environment, we are attempting to
maintain a position in which our assets reprice more quickly than our
liabilities. There can be no assurance, however, that we will be able to
achieve that result or that we will be able to avoid further spread compression
or avoid negative consequences from interest rate fluctuations. Although we
have not experienced a material runoff in our core deposits, there can be no
assurances that such a runoff will not occur in the future if depositors seek
higher yielding investments.

Our
substantial level of non-interest-bearing demand deposits also furthers our
goal of maintaining a positive gap because the interest cost of those deposits
will not increase as market rates increase. However an increase in market
interest rates could cause our customers to shift funds from demand deposits
into interest earning deposits if interest rates are high enough to justify
maintaining multiple accounts. Furthermore, there have been frequent proposals
in Congress to permit the payment of interest on commercial demand deposits.
The adoption of such legislation could have a significant effect on our net
income by forcing us to pay interest on business demand deposits to maintain parity
with our competitors.

The following table sets forth
the amounts of interest-earning assets and interest-bearing liabilities
outstanding at December 31, 2007 which we estimate, based upon certain
assumptions, will mature in each of the future time periods shown. Except as
stated below, the amount of assets and liabilities shown which mature during a
particular period were determined in accordance with the earlier of estimated
repayment or runoff or the contractual terms of the asset or liability. Our loan
prepayment assumptions are based on peer banks historical performance and
statistics, including a 26.7% prepayment assumption on other loans and a 38.0%
prepayment assumption on fixed-rate loans. There can be no assurance that
deposits would reprice to peer banks historical levels if interest rates were
to increase. Certain shortcomings are inherent in the method of analysis
presented in the foregoing table. For example, although certain assets and
liabilities may have similar maturities, they may react in different degrees to
changes in market interest rates. Also, the interest rates on certain types of
assets and liabilities may fluctuate in advance of changes in market interest
rates, while interest rates on other types may lag behind changes in market
rates. Additionally, certain assets may have features which restrict changes in
interest rates on a short-term basis and over the life of the asset. For
example, if a prime rate loan has a minimum interest rate of 7.5%, an increase
in a very low prime rate might not be sufficient to increase the interest rate
on the loan to more than the minimum. Further, in the event of a change in
interest rates, prepayment and early withdrawal levels would likely deviate
significantly from those assumed in calculating the table. Finally, the ability
of many borrowers to service their prime rate loans may decrease in the event
of an interest rate increase.

33

---



|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|---------------------------------------------------------------------------------------------- |  | ------------------------ | ----------- | ------------------------- | - | ------------------------------------ | - | ---------------------- | ---------- | ----- | - | ---------- | - | - | ----------- | -
|                                                                                               |  | At December 31, 2007     |            
|                                                                                               |  |                          |            
|                                                                                               |  | Three
  months
  or less |             | Four
  to twelve
  months |   | More than
  One year to
  five years |   | More than
  five years |            | Total |  
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |  
|Interest-earning assets:                                                                       |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Commercial loans (1)                                                                           |  | $                        | 56,761,827  |                           | $ |                                     |   | $                      | 341,507    |       | $ | 242,565    |   | $ | 57,345,899  |  
|Consumer loans (1)                                                                             |  |                          | 4,227,930   |                           |   |                                     |   |                        |           |       |   | 44,283     |   |   | 4,272,213   |  
|Money market investments                                                                       |  |                          | 708,577     |                           |   |                                     |   |                        |           |       |   |           |   |   | 708,577     |  
|Mortgage-backed securities                                                                     |  |                          | 6,914,550   |                           |   | 20,743,650                           |   |                        | 91,137,571 |       |   |           |   |   | 118,795,771 |  
|Other interest-earning assets                                                                  |  |                          | 7,694,403   |                           |   |                                     |   |                        |           |       |   |           |   |   | 7,694,403   |  
|Investment securities                                                                          |  |                          |            |                           |   |                                     |   |                        |           |       |   |           |   |   |            |  
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Total interest-earning assets                                                                  |  |                          | 76,307,287  |                           |   | 20,743,650                           |   |                        | 91,479,078 |       |   | 286,848    |   |   | 188,816,863 |  
|Less:                                                                                          |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Unearned (discount) and deferred fees(2)                                                       |  |                          | (66,813     | )                         |   | (200,438                             | ) |                        | (208,606   | )     |   |           |   |   | (475,857    | )
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Net interest-earning assets                                                                    |  |                          | 76,240,474  |                           |   | 20,543,212                           |   |                        | 91,270,472 |       |   | 286,848    |   |   | 188,341,006 |  
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Interest-bearing liabilities:                                                                  |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Savings accounts                                                                               |  |                          | 11,349,111  |                           |   |                                     |   |                        |           |       |   |           |   |   | 11,349,111  |  
|NOW accounts                                                                                   |  |                          | 16,931,113  |                           |   |                                     |   |                        |           |       |   |           |   |   | 16,931,113  |  
|Money market accounts                                                                          |  |                          | 21,243,298  |                           |   |                                     |   |                        |           |       |   |           |   |   | 21,243,298  |  
|Certificate accounts                                                                           |  |                          | 53,004,485  |                           |   | 8,532,371                            |   |                        | 3,201,708  |       |   |           |   |   | 64,738,564  |  
|Subordinated debt                                                                              |  |                          |            |                           |   | 5,155,000                            |   |                        |           |       |   |           |   |   | 5,155,000   |  
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Total interest-bearing liabilities                                                             |  |                          | 102,528,007 |                           |   | 13,687,371                           |   |                        | 3,201,708  |       |   |           |   |   | 119,417,086 |  
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Interest sensitivity gap                                                                       |  | $                        | (26,287,533 | )                         | $ | 6,855,841                            |   | $                      | 88,068,764 |       | $ | 286,848    |   | $ | 68,923,920  |  
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Cumulative gap                                                                                 |  | $                        | (26,287,533 | )                         | $ | (19,431,692                          | ) | $                      | 68,637,072 |       | $ | 68,923,920 |   | $ | 68,923,920  |  
|                                                                                               |  |                          |             |                           |   |                                      |   |                        |            |       |   |            |   |   |             |  
|Cumulative gap as a percentage of total
  interest-earning assets                              |  |                          | -13.92      | %                         |   | -10.29                               | % |                        | 36.35      | %     |   | 36.50      | % |   | 36.50       | %
|Cumulative net interest-earning assets as a
  percentage of total interest-bearing liabilities |  |                          | 74.36       | %                         |   | 83.28                                | % |                        | 157.48     | %     |   | 157.72     | % |   | 157.72      | %

|    |                                                                                                                                                                    
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | For purposes
  of the gap analysis, mortgage and other loans are reduced for non-performing
  loans but are not reduced for the allowance for possible loan losses.
|    |                                                                                                                                                                    
|(2) | For purposes
  of the gap analysis, unearned discount and deferred fees are pro-rated.                                                                             

Analysis of Net Interest Income

Our profitability is primarily
dependent upon net interest income. Net interest income represents the
difference between interest income on interest-earning assets and the interest
expense on interest-bearing liabilities. Net interest income depends primarily
upon the volume of interest-earning assets and interest-bearing liabilities and
the interest rates earned or paid on them.

34

---



Average Balance Sheet

The following
table sets forth certain information relating to our consolidated statements of
financial condition and the consolidated statements of earnings for the fiscal
years ended December 31, 2007, 2006 and 2005 and reflects the average yield on
assets and average cost of liabilities for the period indicated. Such yields
and costs are derived by dividing income or expense by the average balance of
assets or liabilities, respectively, for the periods shown. Average balances
are derived from average daily balances. The average balance of loans
receivable does not include loans on which we have discontinued accruing
interest. The yields and costs include net fees, which are considered
adjustments to yields. No tax equivalent adjustments have been made.

|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|------------------------------------------------------------------- |  | -------------------------------- | ----------- | -------------------------------- | - | -------------------------------- |  | ----------------- | ----- | -------- | - | ------------- | - | ----------------- | ---------- | -------- |  | ------------- | - | - | ----------- | - | - | ---------- |  |  | ----- | -
|                                                                    |  | Year
  Ended December 31,
  2007 |             | Year
  Ended December 31,
  2006 |   | Year
  Ended December 31,
  2005 | 
|                                                                    |  |                                  |             |                                  |   |                                  | 
|                                                                    |  | Average
  Balance                |             | Interest                         |   | Yield/
  Cost                    |  | Average
  Balance |       | Interest |   | Yield/
  Cost |   | Average
  Balance |            | Interest |  | Yield/
  Cost |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |  
|Assets:                                                             |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Interest-earning assets:                                            |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Loans receivable                                                    |  | $                                | 61,107,477  |                                  | $ | 5,980,133                        |  |                   | 9.79  | %        | $ | 69,711,760    |   | $                 | 6,985,200  |          |  | 10.02         | % | $ | 71,521,353  |   | $ | 5,828,338  |  |  | 8.15  | %
|Other interest earning assets                                       |  |                                  | 20,652,598  |                                  |   | 994,334                          |  |                   | 4.81  |          |   | 18,737,570    |   |                   | 887,663    |          |  | 4.74          |   |   | 18,196,007  |   |   | 585,512    |  |  | 3.22  |  
|Investment securities                                               |  |                                  | 112,178,675 |                                  |   | 5,303,886                        |  |                   | 4.73  |          |   | 114,180,350   |   |                   | 5,201,089  |          |  | 4.56          |   |   | 114,817,580 |   |   | 4,870,635  |  |  | 4.24  |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Total interest-earning assets                                       |  |                                  | 193,938,750 |                                  |   | 12,278,353                       |  |                   | 6.33  |          |   | 202,629,680   |   |                   | 13,073,952 |          |  | 6.45          |   |   | 204,534,940 |   |   | 11,284,485 |  |  | 5.52  |  
|                                                                   
|Non-interest earning assets                                         |  |                                  | 14,624,973  |                                  |   |                                  |  |                   |       |          |   | 14,291,015    |   |                   |            |          |  |               |   |   | 13,044,634  |   |   |            |  |  |       |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Total assets                                                        |  | $                                | 208,563,723 |                                  |   |                                  |  |                   |       |          | $ | 216,920,695   |   |                   |            |          |  |               |   | $ | 217,579,574 |   |   |            |  |  |       |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Liabilities and equity:                                             |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Interest-bearing liabilities:                                       |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Savings accounts                                                    |  | $                                | 11,942,515  |                                  |   | 97,900                           |  |                   | 0.82  |          | $ | 13,421,670    |   |                   | 85,413     |          |  | 0.64          |   | $ | 15,745,514  |   |   | 79,073     |  |  | 0.50  |  
|Time accounts                                                       |  |                                  | 66,237,498  |                                  |   | 2,436,688                        |  |                   | 3.68  |          |   | 70,221,095    |   |                   | 2,301,764  |          |  | 3.28          |   |   | 60,071,303  |   |   | 1,200,566  |  |  | 2.00  |  
|Money market accounts                                               |  |                                  | 21,366,204  |                                  |   | 439,236                          |  |                   | 2.06  |          |   | 19,357,106    |   |                   | 352,956    |          |  | 1.82          |   |   | 20,835,285  |   |   | 229,906    |  |  | 1.10  |  
|Now accounts                                                        |  |                                  | 19,258,479  |                                  |   | 131,634                          |  |                   | 0.68  |          |   | 21,508,418    |   |                   | 107,973    |          |  | 0.50          |   |   | 24,524,078  |   |   | 104,620    |  |  | 0.43  |  
|Short Term Borrowings                                               |  |                                  |            |                                  |   |                                 |  |                   |      |          |   | 19,178        |   |                   | 1,112      |          |  | 5.80          |   |   |            |   |   |           |  |  |      |  
|Subordinated debt                                                   |  |                                  | 5,155,000   |                                  |   | 356,159                          |  |                   | 6.91  |          |   | 5,155,000     |   |                   | 356,159    |          |  | 6.91          |   |   | 5,155,000   |   |   | 356,159    |  |  | 6.91  |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Total interest-bearing liabilities                                  |  |                                  | 123,959,696 |                                  |   | 3,461,617                        |  |                   | 2.79  |          |   | 129,682,467   |   |                   | 3,205,377  |          |  | 2.47          |   |   | 126,331,180 |   |   | 1,970,324  |  |  | 1.56  |  
|                                                                   
|Checking accounts                                                   |  |                                  | 63,596,060  |                                  |   |                                  |  |                   |       |          |   | 68,870,282    |   |                   |            |          |  |               |   |   | 74,654,567  |   |   |            |  |  |       |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Total                                                               |  |                                  | 187,555,756 |                                  |   |                                  |  |                   |       |          |   | 198,552,749   |   |                   |            |          |  |               |   |   | 200,985,747 |   |   |            |  |  |       |  
|Other liabilities                                                   |  |                                  | 1,909,693   |                                  |   |                                  |  |                   |       |          |   | 2,529,839     |   |                   |            |          |  |               |   |   | 2,631,982   |   |   |            |  |  |       |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Total liabilities                                                   |  |                                  | 189,465,449 |                                  |   |                                  |  |                   |       |          |   | 201,082,588   |   |                   |            |          |  |               |   |   | 203,617,729 |   |   |            |  |  |       |  
|Equity                                                              |  |                                  | 19,098,274  |                                  |   |                                  |  |                   |       |          |   | 15,838,107    |   |                   |            |          |  |               |   |   | 13,961,845  |   |   |            |  |  |       |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Total liabilities and equity                                        |  | $                                | 208,563,723 |                                  |   |                                  |  |                   |       |          | $ | 216,920,695   |   |                   |            |          |  |               |   | $ | 217,579,574 |   |   |            |  |  |       |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Net interest income/net interest rate spread                        |  |                                  |             |                                  | $ | 8,816,736                        |  |                   | 3.54  | %        |   |               |   | $                 | 9,868,575  |          |  | 3.98          | % |   |             |   | $ | 9,314,161  |  |  | 3.96  | %
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Net interest earning assets/net interest margin                     |  | $                                | 69,979,054  |                                  |   |                                  |  |                   | 4.55  | %        | $ | 72,947,213    |   |                   |            |          |  | 4.87          | % | $ | 78,203,760  |   |   |            |  |  | 4.55  | %
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Ratio of interest-earning assets to to interest-bearing
liabilities |  |                                  | 1.56        | x                                |   |                                  |  |                   |       |          |   | 1.56          | x |                   |            |          |  |               |   |   | 1.62        | x |   |            |  |  |       |  
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Return On Average Assets:                                           |  |                                  |             |                                  |   |                                  |  |                   | 0.98  | %        |   |               |   |                   |            |          |  | 1.17          | % |   |             |   |   |            |  |  | 1.18  | %
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Return On Average Equity:                                           |  |                                  |             |                                  |   |                                  |  |                   | 10.72 | %        |   |               |   |                   |            |          |  | 16.07         | % |   |             |   |   |            |  |  | 18.39 | %
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  
|Equity To Assets:                                                   |  |                                  |             |                                  |   |                                  |  |                   | 10.25 | %        |   |               |   |                   |            |          |  | 8.18          | % |   |             |   |   |            |  |  | 6.73  | %
|                                                                    |  |                                  |             |                                  |   |                                  |  |                   |       |          |   |               |   |                   |            |          |  |               |   |   |             |   |   |            |  |  |       |  

35

---



Rate/Volume Analysis

The following table presents
the extent to which changes in interest rates and changes in the volume of
interest-earning assets and interest-bearing liabilities have affected our
interest income and interest expense during the periods indicated. Information
is provided in each category with respect to (i) changes attributable to
changes in volume (changes in volume multiplied by prior rate), (ii) changes
attributable to changes in rate (changes in rate multiplied by prior volume),
and (iii) the net change. The changes attributable to the combined impact of
volume and rate have been allocated proportionately to the changes due to
volume and the changes due to rate.

|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|--------------------------------- |  | --------------------------------------------------------------------------------------------------------------- | -------- | --------------------------------------------------------------------------------------------------------------- | -- | --------------------------------------------------------------------------------------------------------------- | - | ------ | --------- | -------- | -- | -------- | - | ------ | --------- | ---- | - | --------- |  | - | --------- | - | -- | ------- | - | - | --------- | 
|                                  |  | Year
  Ended December 31, 2007
  Compared to
  December 31, 2006
  Increase/(Decrease)
  In Net Interest Income |          | Year
  Ended December 31, 2006
  Compared to
  December 31, 2005
  Increase/(Decrease)
  In Net Interest Income |    | Year
  Ended December 31, 2005
  Compared to
  December 31, 2004
  Increase/(Decrease)
  In Net Interest Income |  
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |  
|                                  |  | Due
  to                                                                                                        |          |                                                                                                                 |    | Due
  to                                                                                                        |   |        |           | Due
  to |    |          |  
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |  
|                                  |  | Volume                                                                                                          |          | Rate                                                                                                            |    | Net                                                                                                             |   | Volume |           | Rate     |    | Net      |   | Volume |           | Rate |   | Net       | 
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           | 
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|Interest-earning assets:          |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|Loans receivable                  |  | ($                                                                                                              | 862,149  | )                                                                                                               | ($ | 142,918                                                                                                         | ) | ($     | 1,005,067 | )        | ($ | 147,482  | ) | $      | 1,304,344 |      | $ | 1,156,862 |  | $ | 234,312   |   | $  | 253,745 |   | $ | 488,057   | 
|Other interest-earning assets     |  |                                                                                                                 | 90,772   |                                                                                                                 |    | 15,899                                                                                                          |   |        | 106,671   |          |    | 17,438   |   |        | 284,713   |      |   | 302,151   |  |   | (55,163   | ) |    | 347,211 |   |   | 292,048   | 
|Investment securities, afs        |  |                                                                                                                 | (91,276  | )                                                                                                               |    | 194,073                                                                                                         |   |        | 102,797   |          |    | (27,019  | ) |        | 357,473   |      |   | 330,454   |  |   | 828,654   |   |    | (10,002 | ) |   | 818,652   | 
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|Total                             |  |                                                                                                                 | (862,653 | )                                                                                                               |    | 67,054                                                                                                          |   |        | (795,599  | )        |    | (157,062 | ) |        | 1,946,529 |      |   | 1,789,467 |  |   | 1,007,802 |   |    | 590,955 |   |   | 1,598,757 | 
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|Interest-bearing liabilities:     |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|Savings accounts                  |  |                                                                                                                 | (9,467   | )                                                                                                               |    | 21,954                                                                                                          |   |        | 12,487    |          |    | (11,619  | ) |        | 17,959    |      |   | 6,340     |  |   | 15,744    |   |    | 199     |   |   | 15,943    | 
|Time accounts                     |  |                                                                                                                 | (130,662 | )                                                                                                               |    | 265,586                                                                                                         |   |        | 134,924   |          |    | 202,996  |   |        | 898,202   |      |   | 1,101,198 |  |   | 197,523   |   |    | 569,669 |   |   | 767,192   | 
|Money market accounts             |  |                                                                                                                 | 36,566   |                                                                                                                 |    | 49,714                                                                                                          |   |        | 86,280    |          |    | (16,260  | ) |        | 139,310   |      |   | 123,050   |  |   | (20,027   | ) |    | 54,664  |   |   | 34,637    | 
|Now accounts                      |  |                                                                                                                 | (11,250  | )                                                                                                               |    | 34,911                                                                                                          |   |        | 23,661    |          |    | (12,967  | ) |        | 16,320    |      |   | 3,353     |  |   | 2,248     |   |    | 1,431   |   |   | 3,679     | 
|Short term borrowings             |  |                                                                                                                 | (1,112   | )                                                                                                               |    |                                                                                                                |   |        | (1,112    | )        |    | 1,112    |   |        |          |      |   | 1,112     |  |   |          |   |    |        |   |   |          | 
|Subordinated debt                 |  |                                                                                                                 |         |                                                                                                                 |    |                                                                                                                |   |        |          |          |    |         |   |        |          |      |   |          |  |   |          |   |    |        |   |   |          | 
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|Total                             |  |                                                                                                                 | (115,925 | )                                                                                                               |    | 372,165                                                                                                         |   |        | 256,240   |          |    | 163,262  |   |        | 1,071,792 |      |   | 1,235,053 |  |   | 195,488   |   |    | 625,963 |   |   | 821,451   | 
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 
|Net change in net interest income |  | ($                                                                                                              | 746,728  | )                                                                                                               | ($ | 305,110                                                                                                         | ) | ($     | 1,051,839 | )        | ($ | 320,324  | ) | $      | 874,737   |      | $ | 554,414   |  | $ | 812,314   |   | ($ | 35,008  | ) | $ | 777,306   | 
|                                  |  |                                                                                                                 |          |                                                                                                                 |    |                                                                                                                 |   |        |           |          |    |          |   |        |           |      |   |           |  |   |           |   |    |         |   |   |           | 

Effect of Adverse Conditions in the
Residential Mortgage Market

We do not expect that
adverse conditions in the residential mortgage market throughout the United
States will have a direct adverse effect on our financial condition or results
of operations. We are not a residential mortgage lender. At December 31, 2007,
we owned $117.8 million of securities that are either collateralized by
residential mortgage loans or that represent shares in pools of such loans.
However, 93.6% of those securities are issued or guaranteed by FNMA, GNMA or
FHLMC. The remainder of the securities portfolio are all investment grade
fixed-rate securities rated AAA that are at least five years old. None of those
securities have experienced ratings downgrades. We do not hold any loans in our
portfolio of the type that are commonly known as subprime residential mortgage
loans

Many of our customers, both
loan and deposit customers, are involved in the residential construction business
in Staten Island. We believe that the turmoil in the national housing and
residential mortgage markets has had an adverse effect on some of our
customers. An apparent slow down in the local housing market and a noticeable
reduction in the availability of residential mortgage loans seems to have had
an adverse effect on our customers and reduced their business activity. We
believe that this, in turn, has caused a reduction in their demand for loans
from us, such as construction loans to build new homes. It also appears to have
adversely affected the level of deposits they maintain.

36

---



Comparative Results for the Years Ended
December 31, 2007 and December 31, 2006

General. We had net income of $2,047,226 for the year ended December 31, 2007,
as compared to net income of $2,545,593 for the year ended December 31, 2006.
The principal categories which make up the 2007 net income are:

|  |                                                            
|- | -----------------------------------------------------------
|· | Interest income of
  $12,278,353                           
|  |                                                            
|· | Reduced by interest
  expense of $3,461,617                
|  |                                                            
|· | Increased by a credit
  provision for loan losses of $5,000
|  |                                                            
|· | Increased by non-interest
  income of $2,173,392           
|  |                                                            
|· | Reduced by non-interest
  expense of $7,274,391            
|  |                                                            
|· | Reduced by $1,673,511 in
  income tax expense.             

We
discuss each of these categories individually and the reasons for the
differences between the years ended December 31, 2007 and 2006 in the following
paragraphs. The most significant factors that caused changes in net interest
income from 2007 to 2006 was the decrease in short-term interest rates, which decreased
our earnings on assets funded with non-interest bearing liabilities and
capital, and the reduction in our loan portfolio, our highest yielding asset.

Our
average yields earned are higher than our cost of funds, and thus an increase
in interest-earning assets provides more interest income than the cost of the
additional interest bearing liabilities needed to fund those assets. Therefore,
we are seeking to expand our deposit product line in 2008 and implement other
marketing efforts to seek to reverse the decline in assets we experienced
during 2007.

Interest
Income.Interest
income was $12,278,353 for the year ended December 31, 2007, compared to
$13,073,952 for the year ended December 31, 2006, a decrease of $795,599, or
6.1%. The reasons for this decrease include an $8,604,283 decrease in the
average balance of loans coupled with a 23 basis point decrease in the yield on
our loan portfolio, which resulted to cause a $1,005,067, or 12.3%, decrease in
interest income. The continued slow real estate market in Staten Island, which
has reduced construction and commercial loan originations, hampered our efforts
to increase our loan portfolio. The average yield on our loans decreased
because during 2007, the prime rate decreased 100 basis points in 2007 and the
majority of our loans have adjustable rates tied to the prime rate.

Although
the average balance of investment securities declined by $2,001,675, we
recorded $102,797 more in interest income on that portfolio due to a 17 basis
point increase in the associated average yield. The yield on investment
securities for 2007 increased 17 basis points from the prior year because
market interest rates did not begin to decline until late 2007 and thus new
securities purchased in 2007 generally had higher yields than the securities
that were fully or partially repaid during the year.

We
also had a $106,671 increase in interest income from other assets due to the
increase in average balance of other interest earning assets of $1,915,028 and
an increase in the associated yield of 8 basis points. This volume increase
occurred when, toward the end of 2007, we increased the average volume of short
term liquid assets because we could not deploy available funds into loans. Our volume
of loans was highest at the beginning of 2007 and gradually declined during the
year as principal on existing loans was repaid and new originations did not
keep pace with the principal reductions. Although average market rates on short
term and overnight investments were relatively flat in 2007 compared to 2006,
the 100 basis point decrease in the target federal funds rate during the last
four months of 2007 has significantly lowered the yield on short term
investments.

Interest
Expense. Interest
expense was $3,461,617 for 2007, compared to $3,205,377 for 2006, an increase
of 8.0%. More than 52% of the $256,240 increase in interest expense was
represented by an increase in the cost of our time deposits. Although the
average balance of time accounts decreased by $3,983,597 (or 5.7%), the average
rate on those accounts increased by 40 basis points, which combined to cause an
increase of $134,924 in interest expense. The increase in the average cost was
due to higher market interest rates during the first eight months of the year
as lower rate deposits taken out in prior years were rolled over or replaced
with new deposits at a time of higher market rates. Average money market
deposits increased by $2,009,098 and the cost increased by 24 basis points,
which resulted in an $86,280 increase in interest expense for that category, or
34% of the total increase in interest expense. We maintain municipal jumbo CDs
due to the establishment of an enhanced banking development district at our
branch in Rosebank and $15 million in municipal jumbo CDs due to the
establishment of a bank development district in St. George. The rates we paid
on those municipal accounts increased as they matured in 2007, in step with the
decrease in market interest rates.

37

---



Our
average cost of funds increased from 2.47% to 2.79% between the periods because
of the increase in the cost of time and money market deposits, which are our
highest cost deposit categories. The reduction in interest expense caused by a
$5,703,593 decrease in average deposits was outweighed by a 32 basis point
increase in the average cost of deposits. In addition, average non-interest
bearing checking accounts decreased as a percentage of total deposits from
35.6% in 2006 to 34.9% in 2007.

Net
Interest Income Before Provision for Loan Losses. Net interest income before the provision for
loan losses was $8,816,736 for 2007, a decrease of $1,051,839, or 10.7%,
compared to $9,868,575 of net interest income we had for 2006. The decrease was
driven primarily by the decrease in the yield on average interest-earning
assets coupled with the increase in the average cost of funds. Our interest
rate spread also decreased by 44 basis points from 3.98% at December 31, 2006
to 3.54% at December 31, 2007. The decrease in net interest income and spread
occurred principally for the following reasons:

|  |                                                                                                                                                                                                                                                        
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|· | Due to the difficulty in
  originating satisfactory loans, we were forced to deploy available funds in
  lower-yielding investment securities and short term assets.                                                                                   
|  |                                                                                                                                                                                                                                                        
|· | Our prime based and short
  term investments re-priced downward at a fast pace due to the 100 basis point
  drop in short term rates in beginning in September 2007.                                                                                   
|  |                                                                                                                                                                                                                                                        
|· | In contrast, our deposits
  did not re-price as quickly or in the same magnitude as our prime based loans
  and our overnight investments. This lag effect was primarily responsible for
  the 32 basis point increase in the average cost of deposits.
|  |                                                                                                                                                                                                                                                        
|· | In addition, average
  interest earning assets decreased $8,690,930, or 4.3% in 2007.                                                                                                                                                                  

Our
net interest margin, which takes into account the effect of non-interest
bearing funding sources such as checking accounts and capital, also decreased
32 basis points from 2006 to 2007. This occurred because zero cost funding
sources become less valuable because falling interest rates mean that the funds
must be invested at lower yields. The increase in the average cost of deposits
also adversely affected our net interest margin. The decrease in yields on
assets funded by non-interest bearing deposits and capital added to the
negative effects of a $5,274,222, or 4.4%, decline in the average balance of
no-interest checking accounts from $68,870,282 in 2006 to $63,596,060 in 2007.

The
prime rate, which is the index used to adjust interest rates on many of our
loans, was 7.25% at the end of 2007, as compared to 8.25% at the end of 2006.
Although our prime-based loans primarily have interest rates with a margin of
100 to 150 basis points above the prime rate, many have interest rate floors so
that the rates on the loans cannot decline below 7.00% to 7.50%. The index plus
the margin still exceeded the floors on these loans in 2007, so our yields on
these loans adjusted with decreases in the prime rate. As a result, we had
lower loan yields in 2007 than we had in 2006. If the prime rate continues to
fall, these loans will further re-price downwards along with prime until the
loan rates reach the interest rate floors. Conversely, if the prime rate rises,
these loans will re-price upward with prime.

Provision
for Loan Losses.In
2007, we recorded a $5,000 credit to the provision for loan losses, compared to
a credit to the provision for loan losses of $65,000 for the year ended
December 31, 2006. The $60,000 decrease in the credit in the provision was
primarily due to a moderate increase in loan delinquencies. If we are able to
implement successfully our plan to increase our loan portfolio to increase
average asset yields, that may also require an increase in the provision for loan
losses.

The provision for loan
losses in any period depends upon the amount necessary to bring the allowance
for loan losses to the level management believes is appropriate, after taking
into account charge offs and recoveries. Our allowance for loan losses reflects
probable incurred losses based on managements evaluation of the loan
portfolio, and the general economy, local economic conditions and other factors
affecting loan repayments. Management periodically evaluates both broad
categories of performing loans and problem loans individually to assess the
appropriate level of the allowance.

38

---



Although
management uses available information to assess the appropriateness of the
allowance on a quarterly basis in consultation with outside advisors and the
board of directors, changes in national or local economic conditions, the
circumstances of individual borrowers, or other factors, may change, increasing
the level of problem loans and requiring an increase in the level of the
allowance. The allowance for loan losses represented 1.48% of total loans at
December 31, 2007, but there can be no assurance that a higher level, or a
higher provision for loan losses, will not be necessary in the future.

Non-interest
Income.Non-interest
income was $2,173,392 for the year ended December 31, 2007, compared to
$1,941,158 during the same period last year. The $232,234, or 12.0%, increase
was caused primarily by a $209,572 increase in service charges on deposits due
to the increased frequency of insufficient fund charges as the volume of these
transactions increased. The $47,104 increase in other income was primarily due
to increased fees that we charged our licensed check cashers customers. These
increases were partially offset by the $32,018 loss of rental income as a
tenant that filed a bankruptcy petition terminated its sub-lease for premises
leased by the Bank and the vacancy of that space continued through the
remainder of 2007.

Non-interest
Expense. Non-interest
expense was $7,274,391 for the year ended December 31, 2007, compared to
$7,108,866 for the year ended December 31, 2006, an increase of $165,525 or
2.3%. The principal causes of the increase were:

|                                       |                                                                                                                                                                                                                                                                                                                
|-------------------------------------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|·                                      | $251,812 increase in
  occupancy expenses due to our new main office in Great Kills, and the lease
  payments paid on our former main office on Amboy Road through February 2007;                                                                                                                              
|                                       |                                                                                                                                                                                                                                                                                                                
|·                                      | $96,649 more of supplies
  and service expenses, reflecting the effects of the new main office and the
  increased costs of service providers; and                                                                                                                                                           
|                                       |                                                                                                                                                                                                                                                                                                                
|·                                      | $46,200 in increased
  professional fees due to increased cost of services and adjustments that were
  made in 2006.                                                                                                                                                                                           
|                                       |                                                                                                                                                                                                                                                                                                                
|·                                      | $91,566 of FDIC deposit
  insurance premiums, which were reinstituted in 2007 and represented the first
  such premiums since Victory State Bank opened for business                                                                                                                                           
|                                       |                                                                                                                                                                                                                                                                                                                
|These items were partially
  offset by
|                                       |                                                                                                                                                                                                                                                                                                                
|·                                      | $203,013 less in legal
  expenses due primarily to a recovery from our insurance carrier of legal fees
  in connection with pending lawsuits involving a former customer of the Bank
  and the payment of subsequent fees by the carrier;                                                                      
|                                       |                                                                                                                                                                                                                                                                                                                
|·                                      | $19,612 in lower salary
  and benefits costs due to a $24,425 reduction in Stock Appreciation Rights
  (SARs) expense caused by both the reduction in our stock price from during
  2007 and the payment of all SARs outstanding, but partially offset by normal
  salary increases and higher benefit costs.

Income
Tax Expense. Income
tax expense was $1,673,511 for the year ended December 31, 2007, compared to
income tax expense of $2,220,274 for the year ended December 31, 2006, due to
the $1,045,130 decrease in income before income taxes for the year ended
December 31, 2007. Our effective tax rate for 2007 was 45.0% and for 2006 was
46.6%. The reduction in the effective tax rate was to more closely align
current income tax expense.

Changes in Financial Condition

Our
total assets were $203,793,569 at December 31, 2007, a decrease of $8,091,190,
or 3.8%, since December 31, 2006. The decline resulted from a need to fund a
decline in deposits, principally interest bearing checking, time and NOW
accounts. We funded the decline in deposits primarily with cash flows from
overnight funds and the principal payments on our loan portfolio. The total
decrease in assets can be categorized as follows.

|  |                                                     
|- | ----------------------------------------------------
|· | A $7,666,190 decrease in
  cash and equivalents;    
|  |                                                     
|· | A $3,835,936 decrease in
  net loans receivable; and

39

---



|  |                                                                                                                                                
|- | -----------------------------------------------------------------------------------------------------------------------------------------------
|· | A $1,039,350 decrease in
  deferred tax assets;                                                                                                
|  |                                                                                                                                                
|· | Partially offset by a
  $4,043,506 increase in investment securities available for sale as management
  reinvested principal paydowns on loans.

In addition, we also
experienced changes in other asset categories due to normal fluctuations in
operations.

Our
deposits (including escrow deposits) were $176,334,443 at December 31, 2007, a
decrease of $10,348,707, or 5.5%, from December 31, 2006. The decrease in
deposits included a $4,846,529 decrease in demand deposit accounts, a
$3,490,680 decrease in time deposits, a $3,004,656 decrease in NOW accounts and
a $1,177,374 decrease in savings accounts, partially offset by a $2,175,714
increase in money market accounts. The increase in money market deposits was
primarily due to a shift from checking account deposits. We believe that the
overall deposit decline was the result of:

|  |                                                                                                                                                                                       
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|· | adverse economic
  conditions in our Staten Island community, especially among businesses
  involved in the real estate industry;                                                     
|  |                                                                                                                                                                                       
|· | a decline in large amount
  CDs as declining real estate activity in general appears to have reduced the
  volume of like kind real estate exchanges that generate those deposits; and
|  |                                                                                                                                                                                       
|· | An increase in competition
  as the number of bank branches competing in the Staten Island community has
  gradually increased.                                                       

Total
stockholders equity was $20,883,805 at December 31, 2007, an increase of
$3,542,534 from December 31, 2006. The increase reflected net income of
$2,047,226 for the year ended December 31, 2007, increased by a reduction in
the unrealized loss on securities available for sale of $1,000,806, increased
by a reduction of $169,078 in Unearned ESOP shares reflecting the effect of the
gradual payment of the loan we made to fund the ESOPs purchase of our stock.
The unrealized loss is excluded from the calculation of regulatory capital.
Management does not anticipate selling securities in this portfolio, but
changes in market interest rates or in the demand for funds may change
managements plans with respect to the securities portfolio. If there is a
material increase in interest rates, the market value of the available for sale
portfolio may decline. Management believes that the principal and interest
payments on this portfolio, combined with the existing liquidity, will be
sufficient to fund loan growth and potential deposit outflow.

The
change in stockholders equity also included an increase of $439,454 in
additional paid in capital due to principally the reclassification of $399,026,
representing the termination of our Employee Stock Ownership Plan Repurchase
Obligation because of the listing of our stock on the NASDAQ Capital Markets
and a $77,832 increase in capital upon the exercise of options to purchase
8,750 shares of common stock. This was partially offset by the use of $114,031,
representing the $0.06 per share, to pay dividends.

VSB
Bancorp, Inc. satisfied all capital ratio requirements of the Federal Reserve
at December 31, 2007, with a Tier I Leverage Capital ratio of 12.63%, a ratio
of Tier I Capital to Risk-Weighted Assets ratio of 29.10%, and a Total Capital
to Risk-Weighted Assets ratio of 30.13%.

In
May of 2004, we implemented the stockholder-approved ESOP. We lent the ESOP
$1.7 million to purchase 92,900 shares of our stock with the expectation that
the ESOP will repay the loan principally from contributions from Victory State
Bank as part of its employee compensation program. The loan has a ten year
term, with periodic payments due annually sufficient to repay the loan,
including interest, in monthly installments over the term of the loan. The
interest rate is fixed at 4.00%, the prime rate on the date of the loan.

As
the ESOP loan is repaid, stock is released from the security interest for the
loan, resulting in an increase in capital equal to the market value of the ESOP
stock when it is released.

40

---



Liquidity and Capital Resources

Our
primary sources of funds are increases in deposits and proceeds from the
repayment of investment securities. We use these funds principally to purchase
new investment securities and to fund increases in our loan portfolio.

In
2007, we had a net decrease in total deposits of $10,348,707 as a result of a
$4,846,529 decrease in demand deposit accounts, a $3,490,680 decrease in time
deposits, a $3,004,656 decrease in NOW accounts and a $1,177,374 decrease in savings
accounts, partially offset by a $2,175,714 increase in money market accounts.
We received proceeds from repayment of investment securities of $36,847,421,
which we used to fund the deposit outflow, net loan reduction of $4,023,211 and
the purchase of $38,972,061 of investment securities.

In
2006, we had a net decrease in total deposits of $6,568,009 as a result of a
$3,638,287 decline in NOW accounts, a $2,282,525 decline in savings accounts
and a $1,818,233 decline in money market accounts, partially offset by a
$673,065 increase in demand deposits. We received proceeds from repayment of
investment securities of $21,538,473, which we used to fund the deposit
outflow, a net loan reduction of $7,904,764 and the purchase of $29,218,233 of
investment securities. The decrease in deposits was partially reduced by the
increase in municipal time deposits due to $10 million from the City of New
York and $10 million from the State of New York, into our Rosebank branch,
under New York State and New York Citys new enhanced Bank Development District
deposit program.

In
2007, we experienced a net decline of $7,666,190 in cash and equivalents
because of our strategy to invest available cash in investments as opposed to
lower yielding overnight deposits to the extent not needed to fund the deposit
outflow. Total cash and equivalents at December 31, 2007 were $17,696,879.

In
2006, we experienced a net decline of $5,961,078 in cash and equivalents
because, as in 2007, we invested available cash not needed to fund the deposit
outflow in investments as opposed to lower yielding overnight deposits. Total
cash and equivalents at December 31, 2006 were $25,363,069.

In
August 2003, we engaged in a transaction involving the issuance of
trust-preferred securities to increase regulatory capital. The transaction is
recorded as $5,155,000 of subordinated debt on our Statement of Condition. The
interest rate we pay on the transaction is fixed for five years, after which we
have the right to repay the securities every three months and the interest rate
adjusts every three months. Whether we repay the securities in August 2008 will
depend upon conditions at that time, such as market interest rates, our need
for capital, and our future plans and expectations for growth. If we decide to
repay the securities, we anticipate that we will be able to do so using short
term liquid assets without adversely affecting or disrupting our operations.

41

---



The
following table sets forth our contractual obligations and commitments for
future lease payments, time deposit maturities and loan commitments.

Contractual Obligations and Commitments at December 31, 2007

|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 
|-------------------------------------------------------------------- |  | ------------------------------------------- | ---------- | ---------------------- | - | ---------------------- |  | ------------------ | --------- | --------------------------- | - | --------- |  | - | ---------- | 
|Contractual Obligations                                              |  | Payment
  due by Period                     |           
|                                                                     |  |                                             |           
|                                                                     |  | Less
  than
  One Year                      |            | One
  to three
  years |   | Four
  to five
  years |  | After
  five years |           | Total
  Amounts
  committed |  
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |  
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 
|Minimum annual rental payments under non-cancelable operating
leases |  | $                                           | 394,093    |                        | $ | 804,014                |  | $                  | 834,055   |                             | $ | 2,216,320 |  | $ | 4,248,482  | 
|Remaining contractual maturities of time deposits                    |  |                                             | 61,536,857 |                        |   | 2,164,696              |  |                    | 1,037,011 |                             |   |          |  |   | 64,738,564 | 
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 
|Total contractual cash obligations                                   |  | $                                           | 61,930,950 |                        | $ | 2,968,710              |  | $                  | 1,871,066 |                             | $ | 2,216,320 |  | $ | 68,987,046 | 
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 
|Other commitments                                                    |  | Amount
  of commitment Expiration by Period |           
|                                                                     |  |                                             |           
|                                                                     |  | Less
  than
  One Year                      |            | One
  to three
  years |   | Four
  to five
  years |  | After
  five years |           | Total
  Amounts
  committed |  
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |  
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 
|Loan commitments                                                     |  | $                                           | 17,339,746 |                        | $ | 6,522,640              |  | $                  | 1,000,000 |                             | $ |          |  | $ | 24,862,386 | 
|                                                                     |  |                                             |            |                        |   |                        |  |                    |           |                             |   |           |  |   |            | 

Impact of Inflation and Changing Prices

The consolidated financial
statements and related notes presented herein have been prepared in accordance
with accounting principles generally accepted in the United States, which
require the measurement of financial position and operating results in terms of
historical dollars without considering the changes in the relative purchasing
power of money over time and due to inflation. Unlike industrial companies,
nearly all of our assets and liabilities are monetary. As a result, interest
rates have a greater impact on our performance than do the general levels of
inflation. Interest rates do not necessarily move in the same direction or to
the same extent as the price of goods and services.

Item 7.

The companys financial
statements appear on the following pages:

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

|                                                                                                   |  |    
|-------------------------------------------------------------------------------------------------- |  | ---
|Report of
  Independent Registered Public Accounting Firm                                          |  | F-1
|                                                                                                   |  |    
|Consolidated
  Statements of Financial Condition as of December 31, 2007 and 2006                  |  | F-2
|                                                                                                   |  |    
|Consolidated
  Statements of Earnings for the Years Ended December 31, 2007 and 2006               |  | F-3
|                                                                                                   |  |    
|Consolidated
  Statements of Stockholders Equity for the Years Ended December 31, 2007 and
  2006 |  | F-4
|                                                                                                   |  |    
|Consolidated
  Statements of Cash Flows for the Years Ended December 31, 2007 and 2006             |  | F-5
|                                                                                                   |  |    
|Notes to
  Consolidated Financial Statements                                                       |  | F-6
|                                                                                                   |  |    

42

---



Report of Independent Registered Public
Accounting Firm

Board of
Directors and Stockholders 
VSB Bancorp, Inc. 
Staten Island, New York

We have
audited the accompanying consolidated statements of financial condition of VSB
Bancorp, Inc. as of December 31, 2007 and 2006, and the related consolidated
statements of earnings, stockholders equity and comprehensive income, and cash
flows for the years then ended. These financial statements are the
responsibility of the Companys management. Our responsibility is to express an
opinion on these financial statements based on our audits.

We conducted
our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Companys internal control over financial
reporting. Accordingly, we express no such opinion. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of VSB Bancorp, Inc. as of December
31, 2007 and 2006, and the results of its operations and its cash flows for the
years then ended in conformity with U.S. generally accepted accounting
principles.

|                                           |                                   
|------------------------------------------ | ----------------------------------
|                                           | /s/ Crowe
  Chizek and Company LLC
|                                           |                                   
|                                           |                                   
|Livingston,
  New Jersey 
  March 11, 2008 |                                   

F-1

---



|                                                                                             
|---------------------------------------------------------------------------------------------
|VSB BANCORP, INC.CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION 
  DECEMBER 31, 2007 AND 2006
|                                                                                             

|                                                                                                                                                                               |  |      |             |      |   |             |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ---- | ----------- | ---- | - | ----------- | -
|                                                                                                                                                                               |  | 2007 |             | 2006 |  
|                                                                                                                                                                               |  |      |             |      |  
|ASSETS                                                                                                                                                                         |  |      |             |      |   |             |  
|Cash and cash equivalents                                                                                                                                                      |  | $    | 17,696,879  |      | $ | 25,363,069  |  
|Investment securities, available for sale                                                                                                                                      |  |      | 117,814,117 |      |   | 113,770,611 |  
|Loans receivable (net of allowance for loan
  losses of $927,161 and $1,128,824, respectively)                                                                                 |  |      | 61,445,917  |      |   | 65,281,853  |  
|Accrued interest receivable                                                                                                                                                    |  |      | 799,249     |      |   | 805,681     |  
|Premises and equipment, net                                                                                                                                                    |  |      | 3,931,679   |      |   | 1,554,363   |  
|Prepaid and other assets                                                                                                                                                       |  |      | 1,114,431   |      |   | 3,078,535   |  
|Deferred income taxes, net                                                                                                                                                     |  |      | 991,297     |      |   | 2,030,647   |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|Total assets                                                                                                                                                                   |  | $    | 203,793,569 |      | $ | 211,884,759 |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                                           |  |      |             |      |   |             |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|LIABILITIES:                                                                                                                                                                   |  |      |             |      |   |             |  
|Deposits                                                                                                                                                                       |  |      |             |      |   |             |  
|Non-interest bearing                                                                                                                                                           |  | $    | 62,780,934  |      | $ | 67,632,645  |  
|Interest bearing                                                                                                                                                               |  |      | 113,553,509 |      |   | 119,050,505 |  
|Subordinated Debt                                                                                                                                                              |  |      | 5,155,000   |      |   | 5,155,000   |  
|Accounts payable, accrued expenses and
  other liabilities                                                                                                                     |  |      | 1,420,321   |      |   | 2,306,312   |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|Total liabilities                                                                                                                                                              |  |      | 182,909,764 |      |   | 194,144,462 |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|Employee Stock Ownership Plan Repurchase
  Obligation                                                                                                                          |  |      |            |      |   | 399,026     |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|STOCKHOLDERS EQUITY                                                                                                                                                           |  |      |             |      |   |             |  
|Common stock ($.0001 par value, 3,000,000
  shares authorized, 1,900,509 issued and outstanding at December 31, 2007;
  1,891,759 issued and outstanding at December 31, 2006) |  |      | 190         |      |   | 189         |  
|Additional paid-in capital                                                                                                                                                     |  |      | 9,107,119   |      |   | 8,667,665   |  
|Retained earnings                                                                                                                                                              |  |      | 13,226,395  |      |   | 11,293,200  |  
|Unearned Employee Stock Ownership Plan
  shares                                                                                                                                |  |      | (1,070,827  | )    |   | (1,239,905  | )
|Accumulated other comprehensive loss, net
  of taxes of $330,668 and $1,203,679, respectively                                                                                  |  |      | (379,072    | )    |   | (1,379,878  | )
|                                                                                                                                                                               |  |      |             |      |   |             |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|Total stockholders equity                                                                                                                                                     |  |      | 20,883,805  |      |   | 17,341,271  |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|                                                                                                                                                                               |  |      |             |      |   |             |  
|Total liabilities and stockholders
equity                                                                                                                                     |  | $    | 203,793,569 |      | $ | 211,884,759 |  
|                                                                                                                                                                               |  |      |             |      |   |             |  

See notes to
consolidated financial statements.

F-2

---



|                                                                                    
|------------------------------------------------------------------------------------
|VSB
  BANCORP, INC.                                                                 
|                                                                                    
|CONSOLIDATED
  STATEMENTS OF EARNINGS FOR THE YEARS ENDED DECEMBER 31, 2007 AND 2006
|                                                                                    

|                                                           |  |      |            |      |   |            |  
|---------------------------------------------------------- |  | ---- | ---------- | ---- | - | ---------- | -
|                                                           |  | 2007 |            | 2006 |  
|                                                           |  |      |            |      |  
|                                                          
|INTEREST INCOME:                                           |  |      |            |      |   |            |  
|Loans receivable                                           |  | $    | 5,980,133  |      | $ | 6,985,200  |  
|Investment securities                                      |  |      | 5,303,886  |      |   | 5,201,089  |  
|Other interest income                                      |  |      | 994,334    |      |   | 887,663    |  
|                                                           |  |      |            |      |   |            |  
|Total interest income                                      |  |      | 12,278,353 |      |   | 13,073,952 |  
|                                                           |  |      |            |      |   |            |  
|INTEREST EXPENSE:                                          |  |      |            |      |   |            |  
|Deposits                                                   |  |      | 3,105,458  |      |   | 2,848,106  |  
|Federal Home Loan Bank advances                            |  |      |           |      |   | 1,112      |  
|Subordinated Debt                                          |  |      | 356,159    |      |   | 356,159    |  
|                                                           |  |      |            |      |   |            |  
|Total interest expense                                     |  |      | 3,461,617  |      |   | 3,205,377  |  
|                                                          
|Net interest income                                        |  |      | 8,816,736  |      |   | 9,868,575  |  
|CREDIT PROVISION FOR LOAN
  LOSSES                         |  |      | (5,000     | )    |   | (65,000    | )
|                                                           |  |      |            |      |   |            |  
|Net interest income after credit provision for loan losses |  |      | 8,821,736  |      |   | 9,933,575  |  
|                                                           |  |      |            |      |   |            |  
|NON-INTEREST INCOME:                                       |  |      |            |      |   |            |  
|Deposit service fees                                       |  |      | 1,794,699  |      |   | 1,585,127  |  
|Other income                                               |  |      | 378,693    |      |   | 356,031    |  
|                                                           |  |      |            |      |   |            |  
|Total non-interest income                                  |  |      | 2,173,392  |      |   | 1,941,158  |  
|                                                           |  |      |            |      |   |            |  
|NON-INTEREST EXPENSES:                                     |  |      |            |      |   |            |  
|Salaries and employee benefits                             |  |      | 3,800,954  |      |   | 3,820,566  |  
|Occupancy and equipment                                    |  |      | 1,353,636  |      |   | 1,101,824  |  
|Data processing service fees                               |  |      | 258,881    |      |   | 259,592    |  
|Legal fees                                                 |  |      | 102,320    |      |   | 305,333    |  
|Professional fees                                          |  |      | 207,200    |      |   | 161,000    |  
|Director fees                                              |  |      | 216,150    |      |   | 221,950    |  
|Supplies and service                                       |  |      | 349,737    |      |   | 344,983    |  
|Checkbook charges                                          |  |      | 156,007    |      |   | 185,131    |  
|Other                                                      |  |      | 829,506    |      |   | 708,487    |  
|                                                           |  |      |            |      |   |            |  
|Total non-interest expenses                                |  |      | 7,274,391  |      |   | 7,108,866  |  
|                                                           |  |      |            |      |   |            |  
|                                                          
|INCOME BEFORE INCOME TAXES                                 |  |      | 3,720,737  |      |   | 4,765,867  |  
|                                                           |  |      |            |      |   |            |  
|PROVISION FOR INCOME TAXES:                                |  |      |            |      |   |            |  
|Current                                                    |  |      | 1,507,173  |      |   | 2,101,161  |  
|Deferred                                                   |  |      | 166,338    |      |   | 119,113    |  
|                                                           |  |      |            |      |   |            |  
|                                                          
|Total income taxes                                         |  |      | 1,673,511  |      |   | 2,220,274  |  
|                                                           |  |      |            |      |   |            |  
|                                                          
|NET INCOME                                                 |  | $    | 2,047,226  |      | $ | 2,545,593  |  
|                                                           |  |      |            |      |   |            |  
|Earnings per share:                                        |  |      |            |      |   |            |  
|Basic                                                      |  | $    | 1.12       |      | $ | 1.40       |  
|                                                           |  |      |            |      |   |            |  
|Diluted                                                    |  | $    | 1.09       |      | $ | 1.36       |  
|                                                           |  |      |            |      |   |            |  
|Comprehensive income                                       |  | $    | 3,048,032  |      | $ | 2,589,842  |  
|                                                           |  |      |            |      |   |            |  

See notes to consolidated
financial statements.

F-3

---



|                                                                                                                           
|---------------------------------------------------------------------------------------------------------------------------
|VSB BANCORP, INC.                                                                                                          
|                                                                                                                           
|CONSOLIDATED
  STATEMENTS OF STOCKHOLDERS EQUITY AND COMPREHENSIVE INCOME
  FOR THE YEARS ENDED DECEMBER 31, 2006 AND 2007
|                                                                                                                           

|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|-------------------------------------------------------------------------------- |  | --------------------------- | --------- | -------------- | - | ------------------------------ |  | ------------------- | --------- | ------------------------ | - | ------------------------------------------ | - | ------------------------------ | ---------- | - | - | ---------- | - | - | ---------- | -
|                                                                                 |  | Number of
  Common
  Shares |           | Common
  Stock |   | Additional
  Paid-in
  Capital |  | Retained
  Earnings |           | Unearned
  ESOP
  Shares |   | Accumulated
  Other
  Comprehensive
  Loss |   | Total
  Stockholders
  Equity |           
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |           
|                                                                                
|Balance at
  December 31, 2005                                                   |  |                             | 1,509,822 |                | $ | 151                            |  | $                   | 8,743,200 |                          | $ | 8,621,693                                  |   |                                | (1,408,983 | ) | $ | (1,424,127 | ) | $ | 14,531,934 |  
|                                                                                
|Recast due to the
  adoption of SEC SAB 108                                      |  |                             |          |                |   |                               |  |                     |          |                          |   | 125,914                                    |   |                                |           |   |   |           |   |   | 125,914    |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Balance at
  January 1, 2006                                                     |  |                             | 1,509,822 |                |   | 151                            |  |                     | 8,743,200 |                          |   | 8,747,607                                  |   |                                | (1,408,983 | ) |   | (1,424,127 | ) |   | 14,657,848 |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Exercise of stock
  options, including tax benefit                               |  |                             | 3,750     |                |   |                                |  |                     | 46,232    |                          |   |                                            |   |                                |            |   |   |            |   |   | 46,232     |  
|Amortization of
  earned portion of ESOP common stock                            |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                | 169,078    |   |   |            |   |   | 169,078    |  
|5 for 4 stock
  split and purchase of fractional shares                          |  |                             | 378,187   |                |   | 38                             |  |                     | (367      | )                        |   |                                            |   |                                |            |   |   |            |   |   | (329       | )
|Amortization of
  deficit fair value of cost - ESOP                              |  |                             |           |                |   |                                |  |                     | (6,785    | )                        |   |                                            |   |                                |            |   |   |            |   |   | (6,785     | )
|Transfer to ESOP
  repuchase obligation                                          |  |                             |           |                |   |                                |  |                     | (114,615  | )                        |   |                                            |   |                                |            |   |   |            |   |   | (114,615   | )
|Comprehensive
  income:                                                          |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Net income                                                                       |  |                             |           |                |   |                                |  |                     |           |                          |   | 2,545,593                                  |   |                                |            |   |   |            |   |   | 2,545,593  |  
|Other
  comprehensive income, net:                                               |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Change in
  unrealized gain on securities available for sale, net of tax effects |  |                             |          |                |   |                               |  |                     |          |                          |   |                                           |   |                                |           |   |   | 44,249     |   |   | 44,249     |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Total
  comprehensive income                                                     |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   | 2,589,842  |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Balance at
  December 31, 2006                                                   |  |                             | 1,891,759 |                | $ | 189                            |  | $                   | 8,667,665 |                          | $ | 11,293,200                                 |   | $                              | (1,239,905 | ) | $ | (1,379,878 | ) | $ | 17,341,271 |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Exercise of stock
  options, including tax benefit                               |  |                             | 8,750     |                |   | 1                              |  |                     | 77,832    |                          |   |                                            |   |                                |            |   |   |            |   |   | 77,833     |  
|Stock-based
  compensation                                                       |  |                             |           |                |   |                                |  |                     | 162       |                          |   |                                            |   |                                |            |   |   |            |   |   | 162        |  
|Amortization of
  earned portion of ESOP common stock                            |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                | 169,078    |   |   |            |   |   | 169,078    |  
|Amortization of
  deficit fair value of cost - ESOP                              |  |                             |           |                |   |                                |  |                     | (37,566   | )                        |   |                                            |   |                                |            |   |   |            |   |   | (37,566    | )
|Transfer from
  ESOP repuchase obligation                                        |  |                             |           |                |   |                                |  |                     | 399,026   |                          |   |                                            |   |                                |            |   |   |            |   |   | 399,026    |  
|Cash dividends
  declared ($0.06 per share)                                      |  |                             |           |                |   |                                |  |                     |           |                          |   | (114,031                                   | ) |                                |            |   |   |            |   |   | (114,031   | )
|Comprehensive
  income:                                                          |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Net income                                                                       |  |                             |           |                |   |                                |  |                     |           |                          |   | 2,047,226                                  |   |                                |            |   |   |            |   |   | 2,047,226  |  
|Other
  comprehensive income, net:                                               |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Change in
  unrealized loss on securities available for sale, net of tax effects |  |                             |          |                |   |                               |  |                     |          |                          |   |                                           |   |                                |           |   |   | 1,000,806  |   |   | 1,000,806  |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  
|Total
  comprehensive income                                                     |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   | 3,048,032  |  
|                                                                                
|Balance at
  December 31, 2007                                                   |  |                             | 1,900,509 |                | $ | 190                            |  | $                   | 9,107,119 |                          | $ | 13,226,395                                 |   | $                              | (1,070,827 | ) | $ | (379,072   | ) | $ | 20,883,805 |  
|                                                                                 |  |                             |           |                |   |                                |  |                     |           |                          |   |                                            |   |                                |            |   |   |            |   |   |            |  

See notes to consolidated
financial statements.

F-4

---



|                                                                                      
|--------------------------------------------------------------------------------------
|VSB
  BANCORP, INC.                                                                   
|                                                                                      
|CONSOLIDATED
  STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2007 and 2006
|                                                                                      

|                                                                                    |  |      |             |      |   |             |  
|----------------------------------------------------------------------------------- |  | ---- | ----------- | ---- | - | ----------- | -
|                                                                                    |  | 2007 |             | 2006 |  
|                                                                                    |  |      |             |      |  
|CASH FLOWS FROM OPERATING
  ACTIVITIES:                                             |  |      |             |      |   |             |  
|Net income                                                                          |  | $    | 2,047,226   |      | $ | 2,545,593   |  
|Adjustments to reconcile net income to net cash
provided by operating
  activities: |  |      |             |      |   |             |  
|Depreciation and amortization                                                       |  |      | 617,958     |      |   | 446,588     |  
|Accretion of discount, net amortization of
premium                                  |  |      | (227,323    | )    |   | (315,520    | )
|ESOP compensation expense                                                           |  |      | 131,512     |      |   | 162,293     |  
|Stock-based compensation expense                                                    |  |      | 162         |      |   |            |  
|Credit provision for loan losses                                                    |  |      | (5,000      | )    |   | (65,000     | )
|Gain loss on the sale of other assets                                               |  |      | (6,118      | )    |   |            |  
|Changes in operating assets
  and liabilities:                                      |  |      |             |      |   |             |  
|Increase in prepaid and other assets                                                |  |      | (178,762    | )    |   | (1,908,979  | )
|Decrease/(increase) in accrued interest
receivable                                  |  |      | 6,432       |      |   | (77,054     | )
|Decrease in deferred income taxes                                                   |  |      | 166,338     |      |   | 228,949     |  
|Decrease in accrued expenses, income tax payable
and other liabilities              |  |      | (885,991    | )    |   | (120,982    | )
|                                                                                    |  |      |             |      |   |             |  
|Net
  cash provided by operating activities                                         |  |      | 1,666,434   |      |   | 895,888     |  
|                                                                                    |  |      |             |      |   |             |  
|CASH FLOWS FROM INVESTING
  ACTIVITIES:                                             |  |      |             |      |   |             |  
|Net decrease in loans receivable                                                    |  |      | 4,023,211   |      |   | 7,904,764   |  
|Proceeds from repayments and calls of investment
securities, available
  for sale   |  |      | 36,847,421  |      |   | 21,538,473  |  
|Purchase of investment securities, available for
sale                               |  |      | (38,972,061 | )    |   | (29,218,233 | )
|Purchases of premises and equipment, net                                            |  |      | (846,290    | )    |   | (559,864    | )
|                                                                                    |  |      |             |      |   |             |  
|Net
  cash provided by/(used in) investing activities                               |  |      | 1,052,281   |      |   | (334,860    | )
|                                                                                    |  |      |             |      |   |             |  
|CASH FLOWS FROM FINANCING
  ACTIVITIES:                                             |  |      |             |      |   |             |  
|Net decrease in deposits                                                            |  |      | (10,348,707 | )    |   | (6,568,009  | )
|Cash dividends paid                                                                 |  |      | (114,031    | )    |   |            |  
|Exercise of stock options                                                           |  |      | 77,833      |      |   | 46,232      |  
|Purchase of fractional shares, 5 for 4
split                                        |  |      |            |      |   | (329        | )
|                                                                                    |  |      |             |      |   |             |  
|Net
  cash used in financing activities                                             |  |      | (10,384,905 | )    |   | (6,522,106  | )
|                                                                                    |  |      |             |      |   |             |  
|NET DECREASE IN CASH AND
  CASH EQUIVALENTS                                         |  |      | (7,666,190  | )    |   | (5,961,078  | )
|                                                                                    |  |      |             |      |   |             |  
|CASH AND CASH EQUIVALENTS,
  BEGINNING OF YEAR                                      |  |      | 25,363,069  |      |   | 31,324,147  |  
|                                                                                    |  |      |             |      |   |             |  
|CASH AND CASH EQUIVALENTS,
  END OF YEAR                                            |  | $    | 17,696,879  |      | $ | 25,363,069  |  
|                                                                                    |  |      |             |      |   |             |  
|SUPPLEMENTAL DISCLOSURE OF
  CASH FLOW INFORMATION:                                 |  |      |             |      |   |             |  
|Cash paid during the period for:                                                    |  |      |             |      |   |             |  
|Interest                                                                            |  | $    | 3,584,628   |      | $ | 2,900,877   |  
|                                                                                    |  |      |             |      |   |             |  
|Income taxes                                                                        |  | $    | 1,829,292   |      | $ | 2,173,620   |  
|                                                                                    |  |      |             |      |   |             |  
|                                                                                    |  |      |             |      |   |             |  
|Transfer of construction in progress to premises and equipment from
  other assets  |  | $    | 2,142,866   |      | $ |            |  
|                                                                                    |  |      |             |      |   |             |  

See notes to consolidated
financial statements.

F-5

---



VSB BANCORP, INC.

|                                                                                           
|-------------------------------------------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED
  DECEMBER 31, 2007 and 2006
|                                                                                           

1. GENERAL

VSB
Bancorp, Inc. (Bancorp or Company) is the holding company for Victory State
Bank (Bank), a New York State chartered commercial bank. On May 30, 2003 as
the result of a reorganization of the Bank into the holding company form of
organization, the stockholders of the Bank became the stockholders of VSB
Bancorp, Inc. As a result of the reorganization the stockholders of VSB Bancorp,
Inc. received three shares of VSB Bancorp, Inc. stock for each two shares of
Victory State Bank stock. Each stockholder owned the same percentage interest
in VSB Bancorp immediately after the reorganization that the stockholder owned
in the Bank immediately before the reorganization, subject to immaterial
differences due to adjustments for cash in lieu of fractional shares. VSB
Bancorp now owns 100% of the capital stock of the Bank. No stockholders of the
Bank exercised dissenters rights to receive cash instead of shares of the
Company. The transaction between these entities under common control was
accounted for at historical cost on an as if pooled basis.

Through
the Bank, the Company is primarily engaged in the business of commercial
banking, and to a lesser extent retail banking. The Bank gathers deposits from
individuals and businesses primarily in Staten Island, New York and makes loans
throughout that community. The Bank invests funds that are not used for lending
primarily in government securities, mortgage backed securities and
collateralized mortgage obligations. Customer deposits are insured, up to the
applicable limit, by the Federal Deposit Insurance Corporation (FDIC). The
Bank is supervised by the New York State Banking Department and the FDIC.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The
following is a description of the significant accounting and reporting policies
followed in preparing and presenting the accompanying consolidated financial
statements. These policies conform with accounting principles generally
accepted in the United States of America (GAAP).

Principles of Consolidation  The consolidated financial statements of the
Company include the accounts of the Company, including its subsidiary Victory
State Bank. All significant inter-company accounts and transactions between the
Company and Bank have been eliminated in consolidation.

Use
of Estimates  The
preparation of financial statements in conformity with GAAP requires management
to make estimates and assumptions that affect the reported amounts of assets
and liabilities and the disclosure of contingent assets and liabilities at the
date of the financial statements and the amounts of revenues and expenses
during the reporting period. Actual results can differ from those estimates.
The allowance for loan losses, prepayment estimates on the mortgage-backed
securities and Collateralized Mortgage Obligation portfolios, contingencies and
fair values of financial instruments are particularly subject to change.

Reclassifications
 Some items in the prior year financial
statements were reclassified to conform to the current presentation.

Cash
and Cash Equivalents   Cash and cash equivalents consists of cash on hand, due from banks and
interest-bearing deposits. Net cash flows are reported for customer loan and
deposit transactions and interest-bearing deposits. Regulation D of the Board
of Governors of the Federal Reserve system requires that Victory State Bank
maintain non-interest-bearing deposits or cash on hand as reserves against its
demand deposits. The amount of reserves which Victory State Bank is required to
maintain depends upon its level of transaction accounts. During the fourteen
day period from December 20, 2007 through January 2, 2008, Victory State Bank
was required to maintain reserves, after deducting vault cash, of $3,143,000.
Reserves are required to be
maintained on a fourteen day
basis, so, from time to time, Victory State Bank may use available cash
reserves on a day to day basis, so long as the fourteen day average reserves
satisfy Regulation D requirements. Victory State Bank is required to report
transaction account levels to the Federal Reserve on a weekly basis.

F-6

---



Interest-bearing
bank balances  Interest-bearing bank balances mature overnight and are carried at
cost.

Investment
Securities, Available for Sale  Investment securities, available for sale,
are to be held for an unspecified period of time and include securities that
management intends to use as part of its asset/liability strategy. These securities
may be sold in response to changes in interest rates, prepayments or other
factors and are carried at estimated fair value. Gains or losses on the sale of
such securities are determined by the specific identification method. Interest
income includes amortization of purchase premium and accretion of purchase
discount. Premiums and discounts are recognized in interest income using a
method that approximates the level yield method without anticipating
prepayments, except for mortgage-backed securities where prepayments are
estimated. Unrealized holding gains or losses, net of deferred income taxes,
are excluded from earnings and reported as other comprehensive income in a
separate component of stockholders equity until realized. Declines in the fair
value of securities below their cost that are other than temporary are
reflected as realized losses. In estimating other-than-temporary losses,
management considers: (1) the length of time and extent that fair value has
been less than cost, (2) the financial condition and near term prospects of the
issuer, and (3) the Companys ability and intent to hold the security for a
period sufficient to allow for any anticipated recovery in fair value.

The
Company invests primarily in agency Collateralized Mortgage-Backed Obligations
(CMOs) with estimated average lives primarily under 4.5 years and
Mortgage-Backed Securities. These securities are primarily issued by the
Federal National Mortgage Association (FNMA), the Government National
Mortgage Association (GNMA) or the Federal Home Loan Mortgage Corporation
(FHLMC) and are primarily comprised of mortgage pools guaranteed by FNMA,
GNMA or FHLMC. The Company also invests in whole loan CMOs, all of which are
AAA rated. These securities expose the Company to risks such as interest rate,
prepayment and credit risk and thus pay a higher rate of return than comparable
treasury issues.

Loans
Receivable  Loans
receivable, that management has the intent and ability to hold for the
foreseeable future or until maturity or payoff, are stated at unpaid principal
balances, adjusted for deferred net origination and commitment fees and the
allowance for loan losses. Interest income on loans is credited as earned.

It
is the policy of the Company to provide a valuation allowance for probable
incurred losses on loans based on the Companys past loan loss experience,
known and inherent risks in the portfolio, adverse situations which may affect
the borrowers ability to repay, estimated value of underlying collateral and
current economic conditions in the Companys lending area. The allowance is
increased by provisions for loan losses charged to earnings and is reduced by
charge-offs, net of recoveries. While management uses available information to
estimate losses on loans, future additions to the allowance may be necessary
based upon the expected growth of the loan portfolio and any changes in
economic conditions beyond managements control. In addition, various
regulatory agencies, as an integral part of their examination process,
periodically review the Banks allowance for loan losses. Such agencies may
require the Bank to recognize additions to the allowance based on judgments
different from those of management. Management believes, based upon all
relevant and available information, that the allowance for loan losses is
appropriate.

The
Company has a policy that all loans 90 days past due are placed on non-accrual
status. It is the Companys policy to cease the accrual of interest on loans to
borrowers past due less than 90 days where a probable loss is estimated and to
reverse out of income all interest that is due. The Company applies payments
received on non-accrual loans to the outstanding principal balance due before
applying any amount to interest, until the loan is restored to an accruing
status. On a limited basis, the Company may apply a payment to interest on a
non-accrual loan if there is no impairment or no estimated loss on this asset.
The Company continues to accrue interest on construction loans that are 90 days
past contractual maturity date if the loan is expected to be paid in full in
the next 60 days and all interest is paid up to date.

F-7

---



Loan
origination fees and certain direct loan origination costs are deferred and the
net amount recognized over the contractual loan terms using the level-yield
method, adjusted for periodic prepayments in certain circumstances.

The
Company considers a loan to be impaired when, based on current information, it
is probable that the Company will be unable to collect all principal and
interest payments due according to the contractual terms of the loan agreement.
Loans that experience insignificant payment delays and payment shortfalls
generally are not classified as impaired. Impairment is measured on a loan by
loan basis for commercial and construction loans. Impaired loans are measured
based on the present value of expected future cash flows discounted at the
loans effective interest rate or, as a practical expedient, at the loans
observable market price or the fair value of the collateral. The fair value of
the collateral, as reduced by costs to sell, is utilized if a loan is
collateral dependent. Large groups of smaller balance homogeneous loans, such
as consumer loans and residential loans, are collectively evaluated for impairment.

Long-Lived
Assets  The
Company periodically evaluates the recoverability of long-lived assets, such as
premises and equipment, to ensure the carrying value has not been impaired. In
performing the review for recoverability, the Company would estimate the future
cash flows expected to result from the use of the asset. If the sum of the
expected future cash flows is less than the carrying amount an impairment will
be recognized. The Company reports these assets at the lower of the carrying
value or fair value.

Subordinated
Debt  In
August of 2003, the Company formed VSB Capital Trust I (the Trust). The Trust
is a statutory business trust organized under Delaware law and the Company owns
all of its common securities. The Trust issued $5.0 million of Trust Preferred
Capital Securities to an independent investor and $155,000 of common securities
to the Company. The Company issued a $5.16 million subordinated debenture to
the Trust. The subordinated debenture is the sole asset of the Trust. The
subordinated debenture and the Trust Preferred Capital Securities pay interest
and dividends, respectively, on a quarterly basis, at a rate of 6.909%, for the
first five years. They mature thirty years after the issuance of the securities
and are non-callable for five years. After the first five years, the Trust
Preferred Securities may be called by the Company at any quarterly interest
payment date at par and the rate of interest that fluctuates quarterly based
upon 300 basis points over the 90 day LIBOR rate. The Trust is not consolidated
with the Company.

Premises
and Equipment  Premises, leasehold improvements, and furniture and equipment are
stated at cost less accumulated depreciation and amortization. Depreciation and
amortization are accumulated by the straight-line method over the estimated
useful lives of the respective assets, which range from three to ten years.
Leasehold improvements are amortized at the lesser of their useful life or the
term of the lease.

Federal
Home Loan Bank (FHLB) Stock  The Bank is a member of the FHLB system.
Members are required to own a certain amount of stock based on the level of
borrowings and other factors, and may invest in additional amounts. FHLB stock
is carried at cost, classified as a restricted security, and periodically
evaluated for impairment. Because this stock is viewed as a long term
investment, impairment is based on ultimate recovery of par value. Both cash
and stock dividends are reported as income.

Income
Taxes  The
Company utilizes the liability method to account for income taxes. Under this
method, deferred tax assets and liabilities are determined on differences
between financial reporting and the tax bases of assets and liabilities and are
measured using the enacted tax rates and laws expected to be in effect when the
differences are expected to reverse. As changes in tax laws or rates are
enacted, deferred tax assets and liabilities are adjusted through the provision
for income taxes.

Financial
Instruments  In the ordinary course of business, the Company has entered into off-balance
sheet financial instruments, primarily consisting of commitments to extend
credit.

F-8

---



Basic
and Diluted Net Income Per Common Share    Basic net income per share of common stock
is based on 1,831,180 shares and 1,818,646 shares, the weighted average number
of common shares outstanding for the years ended December 31, 2007 and 2006,
respectively. Diluted net income per share of common stock is based on
1,877,605 and 1,867,214, the weighted average number of common shares and potentially
dilutive common shares outstanding for the years ended December 31, 2007 and
2006, respectively. The weighted average number of potentially dilutive common
shares excluded in calculating diluted net income per common share due to the
anti-dilutive effect is 54,013 and 69,193 shares for the years ended December
31, 2007 and 2006, respectively. Common stock equivalents were calculated using
the treasury stock method. All per share data throughout this report has been
adjusted to reflect, retroactively, a 5-for-4 stock split, in the form of a 25%
stock dividend that was declared by the Board of Directors to stockholders of
record on May 3, 2006.

The
reconciliation of the numerators and the denominators of the basic and diluted
per share computations for the years ended December 31, are as follows:

|                                            |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 
|------------------------------------------- |  | ------------ | --------- | --------------------------- |  | ------------------ |  | ------------ | ---- | --------------------------- | - | ------------------ |  |  | --------- |  | - | ---- | 
|                                            |  | 2007         |           | 2006                        | 
|                                            |  |              |           |                             | 
|                                            |  | Net
  Income |           | Weighted
  Average
  Shares |  | Per Share
  Amount |  | Net
  Income |      | Weighted
  Average
  Shares |   | Per Share
  Amount | 
|                                            |  |              |           |                             |  |                    |  |              |      |                             |   |                    | 
|Basic earnings per common share             |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 
|Net income available to common stockholders |  | $            | 2,047,226 |                             |  | 1,831,180          |  | $            | 1.12 |                             | $ | 2,545,593          |  |  | 1,818,646 |  | $ | 1.40 | 
|                                            |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 
|                                            |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 
|Effect of dilutive shares                   |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 
|Weighted average shares, if converted       |  |              |           |                             |  | 46,425             |  |              |      |                             |   |                    |  |  | 48,568    |  |   |      | 
|                                            |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 
|Diluted earnings per common share           |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 
|Net income available to common stockholders |  | $            | 2,047,226 |                             |  | 1,877,605          |  | $            | 1.09 |                             | $ | 2,545,593          |  |  | 1,867,214 |  | $ | 1.36 | 
|                                            |  |              |           |                             |  |                    |  |              |      |                             |   |                    |  |  |           |  |   |      | 

Stock
Based Compensation   FAS 123, Revised, requires
companies to record compensation expense for stock options provided to
employees in return for employment service. The cost is measured at the fair
value of the options when granted, and this cost is expensed over the
employment service period, which is normally the vesting period of the options.
This applies to awards granted or modified in fiscal years beginning in 2006.

Employee
Stock Ownership Plan (ESOP)  The cost of shares issued to the ESOP, but not yet allocated to
participants, is shown as a reduction of stockholders equity. Compensation
expense is based on the market price of shares as they are committed to be
released to participant accounts. Cash dividends on allocated ESOP shares
reduce retained earnings; cash dividends on unearned ESOP shares reduce debt
and accrued interest. As of March 16, 2007, the Company lists its common stock
on a national exchange, NASDAQ Capital Markets. We are no longer required to
reclassify out of stockholders equity an amount equal to the put option of the
allocated ESOP shares and we reclassed the 2006 put option allocation in the
first quarter of 2007.

Comprehensive
Income    Comprehensive income consists of net income and other comprehensive income.
Other comprehensive income includes unrealized gains and losses, net of taxes,
on securities available for sale which are also recognized as separate
components of equity.

Recently-Issued
Accounting Standards    SFAS No. 157, Fair Value Measurements. SFAS 157 defines fair value, establishes a framework for measuring fair
value in generally accepted accounting principles, and expands disclosures
about fair value measurements. SFAS 157 is effective for the Company on January
1, 2008. The Company has not completed its evaluation of the impact of the
adoption of this standard.

SFAS
No. 159, The Fair Value Option for Financial Assets and Financial
Liabilities-Including an amendment of FASB Statement No. 115. SFAS 159 permits entities to choose to measure eligible items at fair
value at specified election dates. Unrealized gains and losses on items for
which the fair value option has been elected are reported in earnings at each
subsequent reporting date. The fair value option (i) may be applied instrument
by instrument, with certain exceptions, (ii) is irrevocable (unless a new
election date occurs) and (iii) is applied only to entire instruments and not
to portions of instruments. SFAS 159 is effective for the Company on January 1,
2008. The Company did not adopt SFAS 159.

F-9

---



In
July 2006, the FASB issued FASB Interpretation No. 48, Accounting for
Uncertainty in Income Taxes  an interpretation of FASB Statement No. 109
(FIN 48), which prescribes a recognition threshold and measurement
attribute for a tax position taken or expected to be taken in a tax return. FIN
48 also provides guidance on derecognition, classification, interest and
penalties, accounting in interim periods, disclosure and transition. The
Company adopted FIN 48 as of January 1, 2007. A tax position is recognized as a
benefit only if it is more likely than not that the tax position would be
sustained in a tax examination, with a tax examination being presumed to occur.
The amount recognized is the largest amount of tax benefit that has a greater
than 50% likelihood of being realized on examination. For tax positions not
meeting the more likely than not test, no tax benefit is recorded. The
adoption had no effect on the Companys consolidated financial position or
results of operations.

The
Company and its subsidiaries are subject to U.S. federal income tax as well as
income tax of the state of New York. The Company is no longer subject to
examination by taxing authorities for years before 2004. The Company does not
expect the total amount of unrecognized tax benefits to significantly increase
in the next twelve months.

The
Company recognizes interest related to income tax matters as interest expense
and penalties related to income tax matters as other expense. The Company did
not have any amounts accrued for interest and penalties at January 1, 2007 and
December 31, 2007. The Company is no longer subject to examination by taxing
authorities for years before 2004.

In
February 2006, the FASB issued Statement of Financial Accounting Standards No.
155, Accounting
for Certain Hybrid Financial Instruments (SFAS No. 155), which
permits fair value remeasurement for hybrid financial instruments that contain
an embedded derivative that otherwise would require bifurcation. Additionally,
SFAS No. 155 clarifies the accounting guidance for beneficial interests in
securitizations. Under SFAS No. 155, all beneficial interests in a
securitization will require an assessment in accordance with SFAS No. 133 to
determine if an embedded derivative exists within the instrument. In January
2007, the FASB issued Derivatives Implementation Group Issue B40, Application
of Paragraph 13(b) to Securitized Interests in Prepayable Financial Assets
(DIG Issue B40). DIG Issue B40 provides an exemption from the embedded
derivative test of paragraph 13(b) of SFAS No. 133 for instruments that would
otherwise require bifurcation if the test is met solely because of a prepayment
feature included within the securitized interest and prepayment is not
controlled by the security holder. SFAS No. 155 and DIG Issue B40 are effective
for fiscal years beginning after September 15, 2006. The adoption of SFAS No.
155 and DIG Issue B40 did not have a material impact on the Companys
consolidated financial position or results of operations.

On
November 5, 2007, the SEC issued Staff Accounting Bulletin No. 109, Written Loan
Commitments Recorded at Fair Value through Earnings(SAB 109).
Previously, SAB 105, Application of Accounting Principles to Loan Commitments,
stated that in measuring the fair value of a derivative loan commitment, a
company should not incorporate the expected net future cash flows related to
the associated servicing of the loan. SAB 109 supersedes SAB 105 and indicates
that the expected net future cash flows related to the associated servicing of
the loan should be included in measuring fair value for all written loan
commitments that are accounted for at fair value through earnings. SAB 105 also
indicated that internally-developed intangible assets should not be recorded as
part of the fair value of a derivative loan commitment, and SAB 109 retains
that view. SAB 109 is effective for derivative loan commitments issued or
modified in fiscal quarters beginning after December 15, 2007. The Company does
not expect the impact of this standard to be material.

F-10

---



3. INVESTMENT SECURITIES, AVAILABLE FOR SALE

The
fair value of available for sale securities and the related gross unrealized
gains and losses recognized in accumulated other comprehensive income/(loss)
were as follows at December 31, 2007 and 2006:

|                                    |  |                          |             |                            |   |                             |  |   |            |  
|----------------------------------- |  | ------------------------ | ----------- | -------------------------- | - | --------------------------- |  | - | ---------- | -
|                                    |  | December 31, 2007        |            
|                                    |  |                          |            
|                                    |  | Estimated
  Fair
  Value |             | Gross
  Unrealized
  Gains |   | Gross
  Unrealized
  Losses | 
|                                    |  |                          |             |                            |   |                             | 
|                                    |  |                          |             |                            |   |                             |  |   |            |  
|US Government Agency                |  | $                        |            |                            | $ |                            |  | $ |           |  
|FNMA MBS                            |  |                          | 5,746,955   |                            |   | 22,013                      |  |   | (37,741    | )
|FHLMC MBS                           |  |                          | 162,752     |                            |   | 1,239                       |  |   |           |  
|GNMA MBS                            |  |                          | 1,849,267   |                            |   |                            |  |   | (43,682    | )
|Whole Loan MBS                      |  |                          | 3,103,907   |                            |   |                            |  |   | (31,195    | )
|Collateralized mortgage obligations |  |                          | 106,951,236 |                            |   | 512,550                     |  |   | (1,132,924 | )
|                                    |  |                          |             |                            |   |                             |  |   |            |  
|                                    |  | $                        | 117,814,117 |                            | $ | 535,802                     |  | $ | (1,245,542 | )
|                                    |  |                          |             |                            |   |                             |  |   |            |  

|                                    |  |                          |             |                            |   |                             |  |   |            |  
|----------------------------------- |  | ------------------------ | ----------- | -------------------------- | - | --------------------------- |  | - | ---------- | -
|                                    |  | December 31, 2006        |            
|                                    |  |                          |            
|                                    |  | Estimated
  Fair
  Value |             | Gross
  Unrealized
  Gains |   | Gross
  Unrealized
  Losses | 
|                                    |  |                          |             |                            |   |                             | 
|                                    |  |                          |             |                            |   |                             |  |   |            |  
|US Government Agency                |  | $                        | 8,443,906   |                            | $ |                            |  | $ | (56,094    | )
|FNMA MBS                            |  |                          | 7,397,799   |                            |   |                            |  |   | (209,609   | )
|FHLMC MBS                           |  |                          | 229,625     |                            |   | 639                         |  |   |           |  
|GNMA MBS                            |  |                          | 2,171,125   |                            |   |                            |  |   | (93,436    | )
|Whole Loan MBS                      |  |                          | 3,453,363   |                            |   |                            |  |   | (101,420   | )
|Collateralized mortgage obligations |  |                          | 92,074,793  |                            |   | 11,247                      |  |   | (2,134,884 | )
|                                    |  |                          |             |                            |   |                             |  |   |            |  
|                                    |  | $                        | 113,770,611 |                            | $ | 11,886                      |  | $ | (2,595,443 | )
|                                    |  |                          |             |                            |   |                             |  |   |            |  

The
tax benefits related to these net unrealized gains and losses were $330,668 and
$1,203,679 at December 31, 2007 and 2006, respectively.

F-11

---



The
following table shows the gross unrealized losses and estimated fair value of
the Companys investments, aggregated by investment category and length of time
that an individual security has been in the continuous unrealized loss position
at December 31, 2007 and 2006:

|                                    |  |                       |           |                       |   |              |   |                   |            |              |   |                   |   |   |            |  |   |            |  
|----------------------------------- |  | --------------------- | --------- | --------------------- | - | ------------ | - | ----------------- | ---------- | ------------ | - | ----------------- | - | - | ---------- |  | - | ---------- | -
|December 31, 2007                   |  | Less
  than 12 months |           | More
  than 12 months |   | Total        |  
|                                    |  |                       |           |                       |   |              |  
|                                    |  | Fair
  Value          |           | Unrealized
  Loss     |   | Fair
  Value |   | Unrealized
  Loss |            | Fair
  Value |   | Unrealized
  Loss |  
|                                    |  |                       |           |                       |   |              |   |                   |            |              |   |                   |  
|                                    |  |                       |           |                       |   |              |   |                   |            |              |   |                   |   |   |            |  |   |            |  
|US Government Agency                |  | $                     |          |                       | $ |             |   | $                 |           |              | $ |                  |   | $ |           |  | $ |           |  
|FHLMC MBS                           |  |                       |          |                       |   |             |   |                   |           |              |   |                  |   |   |           |  |   |           |  
|FNMA MBS                            |  |                       |          |                       |   |             |   |                   | 3,008,560  |              |   | (37,741           | ) |   | 3,008,560  |  |   | (37,741    | )
|GNMA MBS                            |  |                       |          |                       |   |             |   |                   | 1,849,267  |              |   | (43,682           | ) |   | 1,849,267  |  |   | (43,682    | )
|Whole Loan MBS                      |  |                       |          |                       |   |             |   |                   | 3,103,907  |              |   | (31,195           | ) |   | 3,103,907  |  |   | (31,195    | )
|Collateralized mortgage obligations |  |                       | 3,494,339 |                       |   | (10,274      | ) |                   | 52,924,757 |              |   | (1,122,650        | ) |   | 56,419,096 |  |   | (1,132,924 | )
|                                    |  |                       |           |                       |   |              |   |                   |            |              |   |                   |   |   |            |  |   |            |  
|                                    |  | $                     | 3,494,339 |                       | $ | (10,274      | ) | $                 | 60,886,491 |              | $ | (1,235,268        | ) | $ | 64,380,830 |  | $ | (1,245,542 | )
|                                    |  |                       |           |                       |   |              |   |                   |            |              |   |                   |   |   |            |  |   |            |  

|                                    |  |                       |            |                       |   |              |   |                   |            |              |   |                   |   |   |             |  |   |            |  
|----------------------------------- |  | --------------------- | ---------- | --------------------- | - | ------------ | - | ----------------- | ---------- | ------------ | - | ----------------- | - | - | ----------- |  | - | ---------- | -
|December 31, 2006                   |  | Less
  than 12 months |            | More
  than 12 months |   | Total        |  
|                                    |  |                       |            |                       |   |              |  
|                                    |  | Fair
  Value          |            | Unrealized
  Loss     |   | Fair
  Value |   | Unrealized
  Loss |            | Fair
  Value |   | Unrealized
  Loss |  
|                                    |  |                       |            |                       |   |              |   |                   |            |              |   |                   |  
|                                    |  |                       |            |                       |   |              |   |                   |            |              |   |                   |   |   |             |  |   |            |  
|US Government Agency                |  | $                     |           |                       | $ |             |   | $                 | 8,443,906  |              | $ | (56,094           | ) | $ | 8,443,906   |  | $ | (56,094    | )
|FHLMC MBS                           |  |                       |           |                       |   |             |   |                   |           |              |   |                  |   |   |            |  |   |           |  
|FNMA MBS                            |  |                       |           |                       |   |             |   |                   | 7,397,799  |              |   | (209,609          | ) |   | 7,397,799   |  |   | (209,609   | )
|GNMA MBS                            |  |                       |           |                       |   |             |   |                   | 2,171,125  |              |   | (93,436           | ) |   | 2,171,125   |  |   | (93,436    | )
|Whole Loan MBS                      |  |                       |           |                       |   |             |   |                   | 3,453,363  |              |   | (101,420          | ) |   | 3,453,363   |  |   | (101,420   | )
|Collateralized mortgage obligations |  |                       | 17,478,801 |                       |   | (72,510      | ) |                   | 68,742,470 |              |   | (2,062,374        | ) |   | 86,221,271  |  |   | (2,134,884 | )
|                                    |  |                       |            |                       |   |              |   |                   |            |              |   |                   |   |   |             |  |   |            |  
|                                    |  | $                     | 17,478,801 |                       | $ | (72,510      | ) | $                 | 90,208,663 |              | $ | (2,522,933        | ) | $ | 107,687,464 |  | $ | (2,595,443 | )
|                                    |  |                       |            |                       |   |              |   |                   |            |              |   |                   |   |   |             |  |   |            |  

The
Company evaluates securities for other-than-temporary impairment at least on a
quarterly basis, and more frequently when economic or market concerns warrant
such evaluation.  Consideration is given
to the length of time and the extent to which the fair value has been less than
cost, the financial condition and near-term prospects of the issuer, and the
intent and ability of the Company to retain its investment in the issuer for a
period of time sufficient to allow for any anticipated recovery in fair value.  In analyzing an issuers financial
condition, the Company may consider whether the securities are issued by the
federal government or its agencies, whether downgrades by bond rating agencies
have occurred, and the results of reviews of the issuers financial condition.

At
December 31, 2007, the unrealized loss on investment securities was caused by
interest rate increases.  We expect that
these securities, at maturity, will not be settled for less than the amortized
cost of the investment.  Because the
decline in fair value is attributable to changes in interest rates and not
credit quality, and because the Company has the ability and intent to hold
these securities until a market price recovery or maturity, these investments
are not considered other-than-temporarily impaired.  At December 31, 2007, there were ten debt securities with
unrealized losses with aggregate depreciation of 5% or more from the Companys
amortized cost basis.  As the market
value decline of these securities is caused by interest rate increases and
management has the ability to hold these securities until maturity, or for the
foreseeable future, if classified as available for sale, these securities are
not deemed to be other-than-temporarily impaired.

F-12

---



The
maturity schedule of all investment securities available for sale at amortized
cost and estimated fair values for December 31, 2007 was as follows:

|                                                     |  |                  |             |                          |   |             | 
|---------------------------------------------------- |  | ---------------- | ----------- | ------------------------ | - | ----------- | 
|Securities,
  Available for Sale
  Expected Maturity |  | Amortized
  Cost |             | Estimated
  Fair
  Value |  
|                                                     |  |                  |             |                          |  
|                                                     |  |                  |             |                          |   |             | 
|Less than one year                                   |  | $                | 81,608      |                          | $ | 81,945      | 
|Due after one year through five years                |  |                  | 2,315,629   |                          |   | 2,292,927   | 
|Due after five years through ten years               |  |                  | 26,652,356  |                          |   | 26,685,823  | 
|Due after ten years                                  |  |                  | 89,474,264  |                          |   | 88,753,422  | 
|                                                     |  |                  |             |                          |   |             | 
|                                                     |  | $                | 118,523,857 |                          | $ | 117,814,117 | 
|                                                     |  |                  |             |                          |   |             | 

Expected
maturities may differ from contractual maturities because borrowers may have
the right to call or prepay obligations with or without penalties.

Securities
pledged at year end 2007 and 2006 had a carrying amount of $49,131,585 and
$40,741,668, respectively and were pledged to secure public deposits and
balances in excess of the deposit insurance limit on certain customer accounts.

4. LOANS RECEIVABLE, NET

Loans
receivable, net at December 31, 2007 and 2006 are summarized as follows:

|                                                                                          |  |      |            |      |   |            |  
|----------------------------------------------------------------------------------------- |  | ---- | ---------- | ---- | - | ---------- | -
|                                                                                          |  | 2007 |            | 2006 |  
|                                                                                          |  |      |            |      |  
|                                                                                          |  |      |            |      |   |            |  
|Commercial loans (principally variable rate):                                             |  |      |            |      |   |            |  
|Secured                                                                                   |  | $    | 1,171,152  |      | $ | 1,231,880  |  
|Unsecured                                                                                 |  |      | 10,981,044 |      |   | 10,882,002 |  
|                                                                                          |  |      |            |      |   |            |  
|Total commercial loans                                                                    |  |      | 12,152,196 |      |   | 12,113,882 |  
|                                                                                          |  |      |            |      |   |            |  
|Real estate loans:                                                                        |  |      |            |      |   |            |  
|Commercial                                                                                |  |      | 31,607,039 |      |   | 33,215,627 |  
|One-to-four family                                                                        |  |      | 2,314,716  |      |   | 165,801    |  
|                                                                                          |  |      |            |      |   |            |  
|Total real estate loans                                                                   |  |      | 33,921,755 |      |   | 33,381,428 |  
|                                                                                          |  |      |            |      |   |            |  
|Construction loans (net of undisbursed funds of  $7,717,362 and $5,723,134, respectively) |  |      | 15,109,593 |      |   | 19,377,797 |  
|                                                                                         
|Consumer loans                                                                            |  |      | 566,356    |      |   | 826,528    |  
|Other loans                                                                               |  |      | 827,122    |      |   | 974,278    |  
|                                                                                          |  |      |            |      |   |            |  
|                                                                                          |  |      | 1,393,478  |      |   | 1,800,806  |  
|                                                                                          |  |      |            |      |   |            |  
|Total loans receivable                                                                    |  |      | 62,577,022 |      |   | 66,673,913 |  
|                                                                                          |  |      |            |      |   |            |  
|Less:                                                                                     |  |      |            |      |   |            |  
|Unearned loans fees, net                                                                  |  |      | (203,944   | )    |   | (263,236   | )
|Allowance for loan losses                                                                 |  |      | (927,161   | )    |   | (1,128,824 | )
|                                                                                          |  |      |            |      |   |            |  
|                                                                                          |  |      |            |      |   |            |  
|Total                                                                                     |  | $    | 61,445,917 |      | $ | 65,281,853 |  
|                                                                                          |  |      |            |      |   |            |  

F-13

---



The activity in the
allowance for loan losses, for the years ended December 31, 2007 and 2006 are
summarized as follows:

|                   |  |      |           |      |   |           |  
|------------------ |  | ---- | --------- | ---- | - | --------- | -
|                   |  | 2007 |           | 2006 |  
|                   |  |      |           |      |  
|                   |  |      |           |      |   |           |  
|Beginning balance  |  | $    | 1,128,824 |      | $ | 1,153,298 |  
|Charge-offs        |  |      | (263,625  | )    |   | (107,803  | )
|Recoveries         |  |      | 66,962    |      |   | 148,329   |  
|(Credit) Provision |  |      | (5,000    | )    |   | (65,000   | )
|                   |  |      |           |      |   |           |  
|                   |  |      |           |      |   |           |  
|Ending balance     |  | $    | 927,161   |      | $ | 1,128,824 |  
|                   |  |      |           |      |   |           |  

Nonaccrual loans outstanding
at December 31, 2007 and 2006 are summarized as follows:

|                                                                                                                                              |                            |   |        |         |      |        |         | 
|--------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------- | - | ------ | ------- | ---- | ------ | ------- | 
|                                                                                                                                              |                            |   | 2007   |         | 2006 |       
|                                                                                                                                              |                            |   |        |         |      |       
|                                                                                                                                              | Nonaccrual loans:          |   |        |         |      |        |         | 
|                                                                                                                                              | Unsecured commercial loans |   | $      | 14,970  |      | $      | 20,709  | 
|                                                                                                                                              | Commercial real estate     |   |        | 459,371 |      |        | 188,872 | 
|                                                                                                                                              | Construction               |   |        | 480,000 |      |        |        | 
|                                                                                                                                              | Consumer loans             |   |        | 5,877   |      |        |        | 
|                                                                                                                                              |                            |   |        |         |      |        |         | 
|                                                                                                                                              | Total nonaccrual loans     |   | $      | 960,218 |      | $      | 209,581 | 
|                                                                                                                                              |                            |   |        |         |      |        |         | 
|                                                                                                                                              |                            |   |        |         |      |        |         | 
|                                                                                                                                              |                            |   | 2007   |         | 2006 |       
|                                                                                                                                              |                            |   |        |         |      |       
|Interest income that would have been recorded during the year on
  nonaccrual loans outstanding at year-end in accordance with original terms |                            | $ | 27,115 |         | $    | 12,614 |        
|                                                                                                                                              |                            |   |        |         |      |        |        

The Companys recorded
investment in impaired loans at December 31 is as follows:

|                                         |  |                                  |        |                                       |   |                                  |  |                                       |         |  |   |        | 
|---------------------------------------- |  | -------------------------------- | ------ | ------------------------------------- | - | -------------------------------- |  | ------------------------------------- | ------- |  | - | ------ | 
|                                         |  | 2007                             |        | 2006                                  |  
|                                         |  |                                  |        |                                       |  
|                                         |  | Investment in
  Impaired
  Loans |        | Related
  Allowance for
  loan losses |   | Investment in
  Impaired
  Loans |  | Related
  Allowance for
  loan losses |        
|                                         |  |                                  |        |                                       |   |                                  |  |                                       |        
|Impaired loans                           |  |                                  |        |                                       |   |                                  |  |                                       |         |  |   |        | 
|With a related allowance for loan losses |  |                                  |        |                                       |   |                                  |  |                                       |         |  |   |        | 
|Commercial and financial                 |  | $                                | 50,476 |                                       | $ | 8,320                            |  | $                                     | 20,709  |  | $ | 4,142  | 
|Commercial real estate                   |  |                                  |       |                                       |   |                                 |  |                                       | 188,872 |  |   | 33,743 | 
|Consumer loans                           |  |                                  | 5,877  |                                       |   | 2,939                            |  |                                       |        |  |   |       | 
|                                         |  |                                  |        |                                       |   |                                  |  |                                       |         |  |   |        | 
|                                         |  | $                                | 56,353 |                                       | $ | 11,259                           |  | $                                     | 209,581 |  | $ | 37,885 | 
|                                         |  |                                  |        |                                       |   |                                  |  |                                       |         |  |   |        | 

The following table sets
forth certain information about impaired loans at December 31:

|                                                                                                               |  |                                |        |      |   |         | 
|-------------------------------------------------------------------------------------------------------------- |  | ------------------------------ | ------ | ---- | - | ------- | 
|                                                                                                               |  | Investment in
  Impaired Loans |       
|                                                                                                               |  |                                |       
|                                                                                                               |  | 2007                           |        | 2006 |  
|                                                                                                               |  |                                |        |      |  
|Average recorded investment                                                                                    |  | $                              | 16,305 |      | $ | 618,904 | 
|                                                                                                               |  |                                |        |      |   |         | 
|                                                                                                               |  |                                |        |      |   |         | 
|Interest income recognized during time period that loans were
  impaired,using cash-basis method of accounting |  | $                              |       |      | $ | 454     | 
|                                                                                                               |  |                                |        |      |   |         | 

The
Companys loan portfolios are primarily comprised of commercial loans made to
small businesses and individuals located in the Borough of Staten Island. As of
December 31, 2007 and 2006, the Company had no restructured loans.

F-14

---



5. ACCRUED INTEREST RECEIVABLE

Accrued
interest receivable at December 31, 2007 and 2006 are summarized as follows:

|                                          |  |      |         |      |   |         | 
|----------------------------------------- |  | ---- | ------- | ---- | - | ------- | 
|                                          |  | 2007 |         | 2006 |  
|                                          |  |      |         |      |  
|                                          |  |      |         |      |   |         | 
|Loans receivable                          |  | $    | 330,551 |      | $ | 326,338 | 
|Investment securities, available for sale |  |      | 468,698 |      |   | 479,343 | 
|                                          |  |      |         |      |   |         | 
|                                          |  |      |         |      |   |         | 
|Total                                     |  | $    | 799,249 |      | $ | 805,681 | 
|                                          |  |      |         |      |   |         | 

6. PREMISES AND EQUIPMENT

Premises
and equipment at December 31, 2007 and 2006 are summarized as follows:

|                                               |  |      |            |      |   |            |  
|---------------------------------------------- |  | ---- | ---------- | ---- | - | ---------- | -
|                                               |  | 2007 |            | 2006 |  
|                                               |  |      |            |      |  
|Leasehold improvements                         |  | $    | 4,186,755  |      | $ | 1,904,831  |  
|Computer equipment and software                |  |      | 337,430    |      |   | 422,016    |  
|Furniture, fixtures and equipment              |  |      | 1,100,631  |      |   | 767,090    |  
|Other                                          |  |      | 52,697     |      |   | 26,323     |  
|                                               |  |      |            |      |   |            |  
|                                               |  |      | 5,677,513  |      |   | 3,120,260  |  
|Less accumulated depreciation and amortization |  |      | (1,745,834 | )    |   | (1,565,897 | )
|                                               |  |      |            |      |   |            |  
|Total                                          |  | $    | 3,931,679  |      | $ | 1,554,363  |  
|                                               |  |      |            |      |   |            |  

Depreciation
and amortization expense amounted to $617,958 and $446,588 for the years ended
December 31, 2007 and 2006, respectively.

At
December 31, 2007, the Company was obligated under five non-cancelable
operating leases on property used for banking purposes.  At December 31, 2006, the Company was
obligated under six non-cancelable operating leases on property used for
banking purposes.  Rental expense under
these leases was $437,089 and $513,011 for the years ended December 31, 2007
and 2006, respectively.

The
projected minimum rental payments under the terms of the leases at December 31,
2007 are summarized as follows:

|                           |  |        |           | 
|-------------------------- |  | ------ | --------- | 
|Year Ending
  December 31, |  | Amount |          
|                           |  |        |          
|2008                       |  | $      | 394,093   | 
|2009                       |  |        | 399,063   | 
|2010                       |  |        | 404,951   | 
|2011                       |  |        | 413,067   | 
|2012                       |  |        | 420,988   | 
|Thereafter                 |  |        | 2,216,320 | 
|                           |  |        |           | 
|Total                      |  | $      | 4,248,482 | 
|                           |  |        |           | 

F-15

---



7. PREPAID AND OTHER ASSETS

Prepaid
and other assets at December 31, 2007 and 2006 are summarized as follows:

|                                         |  |      |           |      |   |           | 
|---------------------------------------- |  | ---- | --------- | ---- | - | --------- | 
|                                         |  | 2007 |           | 2006 |  
|                                         |  |      |           |      |  
|Accounts receivable and other assets     |  | $    | 28,508    |      | $ | 73,402    | 
|Construction in progress                 |  |      |          |      |   | 2,142,866 | 
|Security deposit receivable              |  |      | 11,200    |      |   | 56,825    | 
|Prepaid assets                           |  |      | 264,478   |      |   | 216,896   | 
|Equity securities, primarily FHLB stock  |  |      | 312,500   |      |   | 290,600   | 
|Investment in unconsolidated subsidiary  |  |      | 155,000   |      |   | 155,000   | 
|Subordinated debt related placement cost |  |      | 18,763    |      |   | 47,263    | 
|Income tax receivable                    |  |      | 273,972   |      |   | 39,217    | 
|Late charges receivable                  |  |      | 50,010    |      |   | 56,466    | 
|                                         |  |      |           |      |   |           | 
|                                         |  | $    | 1,114,431 |      | $ | 3,078,535 | 
|                                         |  |      |           |      |   |           | 

8. DEPOSITS

Deposits
are summarized, according to their original terms, at December 31, 2007 and
2006 as follows:

|                           |  |        |             |         |  |                                  |   |        |      |         |   |                                  |  |  |        |   |  |      |  
|-------------------------- |  | ------ | ----------- | ------- |  | -------------------------------- | - | ------ | ---- | ------- | - | -------------------------------- |  |  | ------ | - |  | ---- | -
|                           |  | 2007   |             | 2006    | 
|                           |  |        |             |         | 
|                           |  | Amount |             | Percent |  | Weighted
  Average
  Stated Rate |   | Amount |      | Percent |   | Weighted
  Average
  Stated Rate | 
|                           |  |        |             |         |  |                                  |   |        |      |         |   |                                  | 
|                           |  |        |             |         |  |                                  |   |        |      |         |   |                                  |  |  |        |   |  |      |  
|Checking                   |  | $      | 62,525,053  |         |  | 35.45                            | % |        |     | %       | $ | 67,371,582                       |  |  | 36.09  | % |  |     | %
|Variable-rate money market |  |        | 20,534,721  |         |  | 11.65                            |   |        | 1.43 |         |   | 18,359,007                       |  |  | 9.83   |   |  | 1.48 |  
|Statement savings          |  |        | 11,349,111  |         |  | 6.44                             |   |        | 0.82 |         |   | 12,526,485                       |  |  | 6.71   |   |  | 0.63 |  
|Interest-bearing checking  |  |        | 16,931,113  |         |  | 9.60                             |   |        | 0.32 |         |   | 19,935,769                       |  |  | 10.68  |   |  | 0.33 |  
|                           |  |        |             |         |  |                                  |   |        |      |         |   |                                  |  |  |        |   |  |      |  
|                           |  |        | 111,339,998 |         |  | 63.14                            |   |        | 0.40 |         |   | 118,192,843                      |  |  | 63.31  |   |  | 0.35 |  
|Time deposits:             |  |        |             |         |  |                                  |   |        |      |         |   |                                  |  |  |        |   |  |      |  
|Less than six months       |  |        | 32,789,627  |         |  | 18.59                            |   |        | 3.28 |         |   | 35,590,306                       |  |  | 19.06  |   |  | 3.70 |  
|Six months to one year     |  |        | 27,706,849  |         |  | 15.71                            |   |        | 4.12 |         |   | 28,351,165                       |  |  | 15.19  |   |  | 4.27 |  
|More than one year         |  |        | 4,242,088   |         |  | 2.41                             |   |        | 4.14 |         |   | 4,287,773                        |  |  | 2.30   |   |  | 3.96 |  
|                           |  |        |             |         |  |                                  |   |        |      |         |   |                                  |  |  |        |   |  |      |  
|                           |  |        | 64,738,564  |         |  | 36.71                            |   |        | 3.70 |         |   | 68,229,244                       |  |  | 36.55  |   |  | 3.95 |  
|Other deposits             |  |        | 255,881     |         |  | 0.15                             |   |        |     |         |   | 261,063                          |  |  | 0.14   |   |  |     |  
|                           |  |        |             |         |  |                                  |   |        |      |         |   |                                  |  |  |        |   |  |      |  
|Total                      |  | $      | 176,334,443 |         |  | 100.00                           | % |        | 0.90 | %       | $ | 186,683,150                      |  |  | 100.00 | % |  | 0.82 | %
|                           |  |        |             |         |  |                                  |   |        |      |         |   |                                  |  |  |        |   |  |      |  

The
aggregate amount of jumbo certificates of deposit with a minimum denomination
of $100,000 was approximately $53,753,833 and $57,177,435 at December 31, 2007
and 2006 respectively.

F-16

---



Scheduled maturities of time
deposits at December 31, 2007 are as follows:

|                       |  |        |            |         |  |        |  
|---------------------- |  | ------ | ---------- | ------- |  | ------ | -
|                       |  | Amount |            | Percent | 
|                       |  |        |            |         | 
|                       |  |        |            |         |  |        |  
|Within six months      |  | $      | 57,492,989 |         |  | 88.80  | %
|Six months to one year |  |        | 4,043,867  |         |  | 6.25   |  
|One to five years      |  |        | 3,201,708  |         |  | 4.95   |  
|                       |  |        |            |         |  |        |  
|                       |  |        |            |         |  |        |  
|Total                  |  | $      | 64,738,564 |         |  | 100.00 | %
|                       |  |        |            |         |  |        |  

9. INCOME TAXES

The
Company files consolidated federal, state and local income tax returns on a
calendar-year basis.  For federal, state
and local income tax purposes, the Company uses the specific charge-off method
in computing its federal, state and local tax bad debt deduction.

The
basis for the determination of state and local tax is the greater of a tax on
entire net income or a tax computed on taxable assets.  Federal, state and city income tax
provisions were determined based on the tax computed on net income for the
years ended December 31, 2007 and 2006.

The
components of the income tax expense/(benefit) for the years ended December 31,
2007 and 2006 are summarized as follows:

|                |  |      |           |      |   |           | 
|--------------- |  | ---- | --------- | ---- | - | --------- | 
|                |  | 2007 |           | 2006 |  
|                |  |      |           |      |  
|                |  |      |           |      |   |           | 
|Current:        |  |      |           |      |   |           | 
|Federal         |  | $    | 938,424   |      | $ | 1,291,714 | 
|State and local |  |      | 568,749   |      |   | 809,447   | 
|                |  |      |           |      |   |           | 
|                |  |      | 1,507,173 |      |   | 2,101,161 | 
|                |  |      |           |      |   |           | 
|Deferred:       |  |      |           |      |   |           | 
|Federal         |  |      | 103,582   |      |   | 74,152    | 
|State and local |  |      | 62,756    |      |   | 44,961    | 
|                |  |      |           |      |   |           | 
|                |  |      | 166,338   |      |   | 119,113   | 
|                |  |      |           |      |   |           | 
|                |  | $    | 1,673,511 |      | $ | 2,220,274 | 
|                |  |      |           |      |   |           | 

The
components of the deferred income tax asset, net as of December 31, 2007 and
2006 are summarized as follows:

|                                         |  |      |         |      |   |           | 
|---------------------------------------- |  | ---- | ------- | ---- | - | --------- | 
|                                         |  | 2007 |         | 2006 |  
|                                         |  |      |         |      |  
|                                         |  |      |         |      |   |           | 
|Deferred loan fees                       |  | $    | 115,736 |      | $ | 170,064   | 
|Excess book allowance for loan losses    |  |      | 426,047 |      |   | 428,310   | 
|Unrealized loss on investment securities |  |      | 330,668 |      |   | 1,203,679 | 
|Other compensation expense               |  |      |        |      |   | 75,016    | 
|Other                                    |  |      | 118,846 |      |   | 153,578   | 
|                                         |  |      |         |      |   |           | 
|                                         |  |      |         |      |   |           | 
|Deferred tax asset, net                  |  | $    | 991,297 |      | $ | 2,030,647 | 
|                                         |  |      |         |      |   |           | 

F-17

---



Management
evaluated the weight of available evidence and concluded that it is more likely
than not that the Company will realize the net deferred tax asset in future
years. Factors influencing managements judgment include, among other things,
changes in the levels of actual and expected future taxable income and
anticipated reversals of net deductible temporary differences.  There are no unrecognized tax benefits as of
December 31, 2007.

The
Companys effective tax rates differ from the statutory Federal tax rate for
the years ended December 31, 2007 and 2006 and are as follows:

|                                                         |  |      |           |      |  |      |   |   |           |  |  |      |  
|-------------------------------------------------------- |  | ---- | --------- | ---- |  | ---- | - | - | --------- |  |  | ---- | -
|                                                         |  | 2007 |           | 2006 | 
|                                                         |  |      |           |      | 
|                                                         |  |      |           |      |  |      |   |   |           |  |  |      |  
|Federal income tax provision at statutory rates          |  | $    | 1,265,051 |      |  | 34.0 | % | $ | 1,620,395 |  |  | 34.0 | %
|State and local taxes, net of Federal income tax benefit |  |      | 457,651   |      |  | 12.3 |   |   | 586,202   |  |  | 12.3 |  
|Other                                                    |  |      | (49,191   | )    |  | (1.3 | ) |   | 13,677    |  |  | 0.3  |  
|                                                         |  |      |           |      |  |      |   |   |           |  |  |      |  
|                                                         |  |      |           |      |  |      |   |   |           |  |  |      |  
|                                                         |  | $    | 1,673,511 |      |  | 45.0 | % | $ | 2,220,274 |  |  | 46.6 | %
|                                                         |  |      |           |      |  |      |   |   |           |  |  |      |  

10. REGULATORY MATTERS

The
Bank is a New York State chartered stock form commercial bank. The Banks
deposits are insured by the Federal Deposit Insurance Corporation (FDIC). The
Bank is subject to certain FDIC capital requirements.  Failure to meet minimum capital requirements can initiate certain
mandatory and possibly discretionary actions by the regulators that, if
undertaken, could have a direct material effect on the Banks financial
statements.  Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank
must meet certain specific capital guidelines that involve quantitative
measures of the Banks assets, liabilities and certain off-balance sheet items
calculated under regulatory accounting practices.  The Banks capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings and
other factors.

As
of the latest notification from the FDIC, the Bank was classified as well
capitalized under the regulatory framework for prompt corrective action.  To be categorized as well capitalized, the
Bank must maintain Tier 1 Leverage, Tier 1 Risk-Based and minimum Total
Risk-based ratios as set forth in the table below. There are no conditions or
events since that notification that management believes have changed the Banks
category.  Management believes, as of
December 31, 2007, that the Bank meets all capital adequacy requirements to
which it is subject.

The
Bank is subject to certain restrictions on the availability of its
undistributed earnings for payment of dividends to stockholders, including
prior regulatory approval.

In
accordance with the New York State Banking Law and the New York State Banking
Board Regulations, the Bank credits 10% of quarterly net income to regulatory
surplus and is required to do so until such time as shareholders equity is
equal to 10% of amounts due to depositors.
As of December 31, 2007, regulatory surplus equals 10% of deposits.

F-18

---



The
following table is the Banks actual capital amounts and ratios, as well as the
minimum required levels for both capital adequacy purposes and to be
considered well capitalized.  No
deductions were made for qualitative judgments by regulators:

|                                            |  |        |            |                                   |  |                                                                        |   |       |           |        |  |       |   |   |            |  |  |       |  
|------------------------------------------- |  | ------ | ---------- | --------------------------------- |  | ---------------------------------------------------------------------- | - | ----- | --------- | ------ |  | ----- | - | - | ---------- |  |  | ----- | -
|                                            |  | Actual |            | For
  capital
  adequacy purposes |  | To
  be well-capitalized
  under prompt corrective
  action provisions |  
|                                            |  |        |            |                                   |  |                                                                        |  
|                                            |  | Amount |            | Ratio                             |  | Amount                                                                 |   | Ratio |           | Amount |  | Ratio |  
|                                            |  |        |            |                                   |  |                                                                        |   |       |           |        |  |       |  
|As of December 31, 2007:                    |  |        |            |                                   |  |                                                                        |   |       |           |        |  |       |   |   |            |  |  |       |  
|Tier 1 Capital
  (to Average Assets)        |  | $      | 22,821,000 |                                   |  | 11.07                                                                  | % | $     | 8,248,120 |        |  | 4.00  | % | $ | 10,310,150 |  |  | 5.00  | %
|Tier 1 Capital 
  (to Risk Weighted Assets) |  |        | 22,821,000 |                                   |  | 26.19                                                                  |   |       | 3,484,840 |        |  | 4.00  |   |   | 5,227,260  |  |  | 6.00  |  
|Total Capital 
  (to Risk Weighted Assets)  |  |        | 23,748,000 |                                   |  | 27.26                                                                  |   |       | 6,969,680 |        |  | 8.00  |   |   | 8,712,100  |  |  | 10.00 |  
|                                            |  |        |            |                                   |  |                                                                        |   |       |           |        |  |       |   |   |            |  |  |       |  
|As of December 31, 2006:                    |  |        |            |                                   |  |                                                                        |   |       |           |        |  |       |   |   |            |  |  |       |  
|Tier 1 Capital 
  (to Average Assets)       |  | $      | 23,348,000 |                                   |  | 10.63                                                                  | % | $     | 8,783,920 |        |  | 4.00  | % | $ | 10,979,900 |  |  | 5.00  | %
|Tier 1 Capital 
  (to Risk Weighted Assets) |  |        | 23,348,000 |                                   |  | 24.74                                                                  |   |       | 3,775,560 |        |  | 4.00  |   |   | 5,663,340  |  |  | 6.00  |  
|Total Capital 
  (to Risk Weighted Assets)  |  |        | 24,477,000 |                                   |  | 25.93                                                                  |   |       | 7,551,120 |        |  | 8.00  |   |   | 9,438,900  |  |  | 10.00 |  

The
Companys consolidated capital ratios as of December 31, 2007 were as follows:
Tier 1 Capital to Average Assets of 12.63%; Tier 1 Capital to Risk Weighted
Assets of 29.10%; and Total Capital to Risk Weighted Assets of 30.13%, which
are not substantially different than the Banks capital ratios at December 31,
2007 and therefore are not presented separately.

11. EMPLOYEE BENEFITS

The
Company does not currently maintain a defined contribution benefit plan but
sponsors an incentive savings plan (401(k) plan) which started March 1,
1999.  All eligible employees, who have
reached the age of 21, have at least one year of service and work a minimum of
1,000 hours per year will be permitted to make tax deferred contributions up to
certain limits.  The Bank may reduce or
cease matching contributions if it is determined that the current or accumulated
net earnings or undivided profits of the Bank are insufficient to pay the full
contributions in a plan year.  The Bank
contributed $137,213 to the 401(k) plan in 2007 and $131,442 in 2006.

Stock Options

The
Company has granted options pursuant to five different stock option plans.
Options to buy stock are granted to directors, officers and employees under the
VSB Bancorp, Inc. 2000 Incentive Plan, the 1998 Incentive Plan, the 2004
Directors Plan, the 2000 Directors Plan and the 1998 Directors Plan which,
in the aggregate, provide for issue up to 243,750 options. Exercise price is
the market price at the date of grant, and compensation expense will be
recognized in the income statement in accordance with FAS 123, Revised.  The maximum option term is ten years, and
the options vesting period is up to five years.

As
of December 31, 2005 the Board accelerated the vesting on all outstanding
options so that they became immediately exercisable.  By accelerating the vesting of these options, we estimated that
approximately $169,000 of future compensation expense, net of taxes, was
eliminated.

Total
compensation expense charged against income for 2007 and 2006 was $162 and $0.

F-19

---



In
November 2007, 3,250 options were granted from the 2000 Incentive Plan at an
exercise price of $11.75.

The
fair value of each option award is estimated on the date of grant using a
closed form option valuation (Black-Scholes) model that uses the assumptions
noted in the table below.  Expected
volatilities are based on historical volatilities of the Companys common
stock.  The Company uses historical data
to estimate option exercise and post-vesting termination behavior.  Employee and management options are tracked
separately.  The expected term of
options granted is based on historical data and represents the period of time
that options granted are expected to be outstanding, which takes into account
that the options are not transferable.
The risk-free interest rate for the expected term of the option is based
on the U.S. Treasury yield curve in effect at the time of the grant.

The
fair value of the options granted is estimated using the Black-Scholes option
pricing model with the following weighted average assumptions used for 2007:

|                        |  |      |         |                 |  |      |  | 
|----------------------- |  | ---- | ------- | --------------- |  | ---- |  | 
|                        |  | 2007 |         | Exercise
  Rate
|                        |  |      |         |                
|Dividend yield          |  |      | 1.00    | %               |  |      |  | 
|Expected volatility     |  |      | 3.38    |                 |  |      |  | 
|Risk-free interest rate |  |      | 3.55    |                 |  |      |  | 
|Expected life           |  |      | 3 Years |                 |  | 100% | 

There
were no stock options granted in 2006.

The
stock option components of the 2000 Incentive Plan, the 1998 Incentive Plan and
the 2004 Directors Plan, the 2000 Directors Plan and the 1998 Directors
Plan, as of December 31, 2007, and 2006, and changes during the years ended, consist
of the following:

|                                                                                            |  |             |         |                                       |   |                              |  |   |        | 
|------------------------------------------------------------------------------------------- |  | ----------- | ------- | ------------------------------------- | - | ---------------------------- |  | - | ------ | 
|                                                                                            |  | 2007        |        
|                                                                                            |  |             |        
|                                                                                            |  | Shares      |         | Weighted
  Average
  Exercise
  Price |   | Aggregate
  Intrinsc
  Value | 
|                                                                                            |  |             |         |                                       |   |                              | 
|Options outstanding 
  at the beginning of the year                                         |  |             | 177,998 |                                       | $ | 10.36                        |  |   |        | 
|Granted                                                                                     |  |             | 3,250   |                                       |   | 11.75                        |  |   |        | 
|Canceled                                                                                    |  |             |        |                                       |   |                             |  |   |        | 
|Exercised                                                                                   |  |             | (8,750  | )                                     |   | 6.40                         |  |   |        | 
|                                                                                            |  |             |         |                                       |   |                              |  |   |        | 
|Options outstanding 
  at the end of the year                                               |  |             | 172,498 |                                       | $ | 10.61                        |  | $ | 93,149 | 
|                                                                                            |  |             |         |                                       |   |                              |  |   |        | 
|Options exercisable 
  at the end of the year                                               |  |             | 169,248 |                                       | $ | 10.56                        |  | $ | 99,856 | 
|                                                                                            |  |             |         |                                       |   |                              |  |   |        | 
|Weighted average remaining contractual life of options outstanding at
  the end of the year |  | 3.8
  Years |        

F-20

---



Information related to the
stock option plan during each year follows:

|                                                   |  |      |        |      |   |        | 
|-------------------------------------------------- |  | ---- | ------ | ---- | - | ------ | 
|                                                   |  | 2007 |        | 2006 |  
|                                                   |  |      |        |      |  
|Intrinsic value of options
  exercised             |  | $    | 46,863 |      | $ | 48,550 | 
|Cash received from option
  exercise               |  | $    | 56,000 |      | $ | 28,062 | 
|Tax benefit realized from
  option exercise        |  | $    | 21,833 |      | $ | 18,170 | 
|Weighted average fair
  value of options exercised |  | $    | 1.24   |      | $ | 1.48   | 

As
of December 31, 2007, there was $3,673 of total unrecognized compensation cost
related to nonvested stock options granted under the Plan.  The cost is expected to be recognized over a
weighted-average period of 3 years.

Described below is the range
of exercise prices for options granted under the following option plans:

|                                   |  |                                  |         |                                     |   |                                       |  |  |      | 
|---------------------------------- |  | -------------------------------- | ------- | ----------------------------------- | - | ------------------------------------- |  |  | ---- | 
|Plan Description                   |  | Number
  of
  Exercisable Shares |         | Weighted
  Average
  Exercise Price |   | Weighted
  Average
  Contractual Life | 
|                                   |  |                                  |         |                                     |   |                                       | 
|1998 Director Stock Option
  Plan  |  |                                  | 15,000  |                                     | $ | 6.13                                  |  |  | 1.11 | 
|1998 Incentive Stock
  Option Plan |  |                                  | 32,500  |                                     |   | 5.76                                  |  |  | 1.04 | 
|2000 Director Stock Option
  Plan  |  |                                  | 25,000  |                                     |   | 4.39                                  |  |  | 2.40 | 
|2000 Incentive Stock
  Option Plan |  |                                  | 44,998  |                                     |   | 10.50                                 |  |  | 4.33 | 
|2004 Director Stock Option
  Plan  |  |                                  | 55,000  |                                     |   | 17.60                                 |  |  | 6.50 | 
|                                   |  |                                  |         |                                     |   |                                       |  |  |      | 
|All Plans                          |  |                                  | 172,498 |                                     | $ | 10.61                                 |  |  | 3.80 | 
|                                   |  |                                  |         |                                     |   |                                       |  |  |      | 

Stock Appreciation Rights

The
Company issued stock appreciation rights (SARs) to an officer of the Company
to advance the interests of the Company and its shareholders by providing this
key officer of the Company and its affiliates, upon whose judgment, initiative
and efforts were instrumental upon the formation and development of the Company
and its affiliates, with an additional incentive to perform in a superior
manner.  Pursuant to the terms, 31,250
SARs with an exercise price of $4.00 per SAR (as adjusted for prior stock
dividends), as determined by the Board of Directors, have been issued.  There are no SARs available to be granted
and those SARs, which terminate, or are forfeited without being exercised, can
not be recycled into new grants.  The
term of each SAR is determined by the Committee of the Board of Directors and
may not exceed ten years after the date of the grant. The SARs vest and are
exercisable for the cash value between the Companys stock price less the
exercise price.  The SARs vest over five
years, 40% two years after the grant date and 20% per year after.  In 2007, 17,500 SARs were exercised.  As of December 31, 2007, there were no
remaining SARs.

The
Company did not issue any SAR grants in 2007 and 2006.

12. COMMITMENTS, CONTINGENCIES AND FINANCIAL
INSTRUMENTS WITH OFF-BALANCE SHEET RISK

The
Company is a party to financial instruments with off-balance sheet risk in the
normal course of business in order to meet the financing needs of its
customers.  Such financial instruments
primarily include commitments to extend credit.

F-21

---



A
summary of these commitments and contingent liabilities, all of which are
variable rate commitments, at December 31:

|                                                 |  |        |            |        |   |            | 
|------------------------------------------------ |  | ------ | ---------- | ------ | - | ---------- | 
|                                                 |  | 2007   |            | 2006   |  
|                                                 |  |        |            |        |  
|                                                 |  | Amount |            | Amount |  
|                                                 |  |        |            |        |  
|                                                 |  |        |            |        |   |            | 
|Commitments to fund
  secured construction loans |  | $      | 7,687,362  |        | $ | 18,028,134 | 
|Commitments to fund all
  other commercial loans |  |        | 17,175,024 |        |   | 11,039,305 | 
|                                                 |  |        |            |        |   |            | 
|                                                 |  | $      | 24,862,386 |        | $ | 29,067,439 | 
|                                                 |  |        |            |        |   |            | 

Commitments
to extend credit are legally binding agreements to lend to a customer.  Commitments are issued following the
Companys evaluation of each applicants creditworthiness on a case-by-case
basis.  The Companys exposure to credit
loss in the event of nonperformance by the other party to the financial
instrument is represented by the contractual notional amount of those
instruments.

Victory
State Bank currently has a $2 million unsecured credit facility with Atlantic
Central Bankers Bank which the Bank has not drawn upon.

The
Bank is a defendant in a lawsuit against a former customer brought by a third
party.  The Bank intends to defend
aggressively the claims made against it.

VSB
Bancorp, Inc. is not involved in any pending legal proceedings. The Bank, from
time to time, is involved in routine collection proceedings in the ordinary
course of business on loans in default. Management believes that such other
routine legal proceedings in the aggregate are immaterial to our financial
condition or results of operations.

13. FAIR VALUE OF FINANCIAL INSTRUMENTS

The
following disclosure of the estimated fair value of financial instruments is
made in accordance with the requirements of SFAS No. 107, Disclosures about Fair Value of Financial Instruments.  The estimated fair value amounts have been
determined by the Company using available market information and appropriate
valuation methodologies.  However,
considerable judgment is necessarily required to interpret market data to
develop the estimates of fair value. Accordingly, the estimates presented
herein are not necessarily indicative of the amounts the Company could realize
in a current market exchange.  The use
of different market assumptions and/or estimation methodologies may have a
material effect on the estimated fair value amounts.

The
following methods and assumptions were used by the Company in estimating fair
values of financial instruments:

| |                                                                                                                                                                                                                                                                                                                                                                                                          
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Interest-bearing
  Bank Balances 
  Interest-bearing bank balances mature within one year and are carried at cost
  which are estimated to be reasonably close to fair value.                                                                                                                                                                                                                           
| |                                                                                                                                                                                                                                                                                                                                                                                                          
| | Money
  Market Investments 
  The fair value of these securities approximates their carrying value due to
  the relatively short time to maturity                                                                                                                                                                                                                                                       
| |                                                                                                                                                                                                                                                                                                                                                                                                          
| | Investment
  Securities, Available For Sale  The estimated fair value of these
  securities is determined by using available market information and
  appropriate valuation methodologies.
  The estimates presented herein are not necessarily indicative of the
  amounts that the Company could realize in a current market exchange.                                                                
| |                                                                                                                                                                                                                                                                                                                                                                                                          
| | Loans
  Receivable 
  The fair value of commercial and construction loans are approximated by the
  carrying value as the loans are tied directly to the Prime Rate and are
  subject to change on a daily basis.
  The fair value of the remainder of the portfolio is determined by
  discounting the future cash flows of the loans using the appropriate discount
  rate and prepayment assumptions.

F-22

---



| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Other
  Financial Assets
   The fair value of these assets, principally accrued interest receivable,
  approximates their carrying value due to their short maturity.                                                                                                                                                                                                                                                                                                                                   
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | Non-Interest
  Bearing and Interest Bearing Deposits  The fair value disclosed for
  non-interest bearing deposits is equal to the amount payable on demand at the
  reporting date.  The fair value of
  interest bearing deposits is based upon the current rates for instruments of
  the same remaining maturity.  Interest
  bearing deposits with a maturity of greater than one year are estimated using
  a discounted cash flow approach that applies interest rates currently being
  offered.
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | Subordinated
  Debt  The fair
  value of subordinated debt is based upon the current rates for such
  instruments of the same remaining maturity.                                                                                                                                                                                                                                                                                                                                                       
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | Other
  Liabilities 
  The estimated fair value of other liabilities, which primarily include
  accrued interest payable, approximates their carrying amount.                                                                                                                                                                                                                                                                                                                                           
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | Off-Balance
  Sheet Items 
  The estimated fair value of off-balance sheet items, including loan commitments,
  unused lines of credit and letters of credit are not material and are not
  included in the fair value table.                                                                                                                                                                                                                                                                           

The
estimated fair values of the Companys financial instruments at December 31,
2007 and 2006 were as follows:

|                              |  |                   |             |              |   |                   |  |              |             |  |   |             | 
|----------------------------- |  | ----------------- | ----------- | ------------ | - | ----------------- |  | ------------ | ----------- |  | - | ----------- | 
|                              |  | 2007              |             | 2006         |  
|                              |  |                   |             |              |  
|                              |  | Carrying
  Amount |             | Fair
  Value |   | Carrying
  Amount |  | Fair
  Value |            
|                              |  |                   |             |              |   |                   |  |              |            
|                              |  |                   |             |              |   |                   |  |              |            
|Financial Assets:             |  |                   |             |              |   |                   |  |              |             |  |   |             | 
|Cash and cash equivalents     |  | $                 | 17,696,879  |              | $ | 17,696,879        |  | $            | 25,363,069  |  | $ | 25,363,069  | 
|Investment securities         |  |                   | 117,814,117 |              |   | 117,814,117       |  |              | 113,770,611 |  |   | 113,770,611 | 
|Loans receivable              |  |                   | 61,445,917  |              |   | 64,711,536        |  |              | 65,281,853  |  |   | 68,842,721  | 
|Other financial assets        |  |                   | 799,249     |              |   | 799,249           |  |              | 805,681     |  |   | 805,681     | 
|                              |  |                   |             |              |   |                   |  |              |             |  |   |             | 
|Total Financial Assets        |  | $                 | 197,756,162 |              | $ | 201,021,781       |  | $            | 205,221,214 |  | $ | 208,782,082 | 
|                              |  |                   |             |              |   |                   |  |              |             |  |   |             | 
|Financial Liabilities:        |  |                   |             |              |   |                   |  |              |             |  |   |             | 
|Non-interest bearing deposits |  | $                 | 62,780,934  |              | $ | 62,780,934        |  | $            | 67,632,645  |  | $ | 67,632,645  | 
|Interest bearing deposits     |  |                   | 113,553,509 |              |   | 109,224,316       |  |              | 119,050,505 |  |   | 114,973,833 | 
|Subordinated debt             |  |                   | 5,155,000   |              |   | 5,247,510         |  |              | 5,155,000   |  |   | 5,309,537   | 
|Other liabilities             |  |                   | 362,991     |              |   | 362,991           |  |              | 482,774     |  |   | 482,774     | 
|                              |  |                   |             |              |   |                   |  |              |             |  |   |             | 
|Total Financial Liabilities   |  | $                 | 181,852,434 |              | $ | 177,615,751       |  | $            | 192,320,924 |  | $ | 188,398,789 | 
|                              |  |                   |             |              |   |                   |  |              |             |  |   |             | 

14. INTEREST RATE RISK (UNAUDITED)

The
Companys principal business of originating loans, issuing term certificates of
deposit and other interest-bearing deposit accounts and investing in short-term
investment securities inherently includes elements of interest rate risk and
requires careful application of interest rate management techniques to manage
such risks.

Because
the Company has a varied array of investment, loan and deposit products, which
differ as to maturity, repricing terms and interest rate spreads relative to
various rate indices, different interest rate risk management strategies are
utilized.

The
Company funds its assets primarily with deposits. A substantial portion of
these, mature or reprice within one year of their origination or last repricing
date.

F-23

---



In
view of the short maturity profile of the Companys funding sources, the
Company invests in loans and investments which have a maturity or repricing
date designed to match the Companys funding maturities and serve as a natural
hedge of the related interest rate risk.

Net
interest income will fluctuate based on changes in the general level of
interest rates, changes in the levels of interest sensitive assets and
liabilities, and changes in the relationships between different interest rate
indices.  In addition, net interest
income can also be affected by timing of repricing dates and repayments and
changes in estimated prepayments.

15. RELATED PARTIES

In
the ordinary course of business, the Bank at times has had loans, and other
financial transactions, with its executive officers and directors.  At December 31, 2007, the aggregate amount
of loans outstanding to directors was $192,219.  There were no loans granted to executive officers.

The
change in aggregate amount of loans outstanding to directors as of December 31,
2007 and 2006 are as follows:

|                  |  |      |          |      |   |          |  
|----------------- |  | ---- | -------- | ---- | - | -------- | -
|                  |  | 2007 |          | 2006 |  
|                  |  |      |          |      |  
|                  |  |      |          |      |   |          |  
|Beginning balance |  | $    | 174,754  |      | $ | 239,838  |  
|Originations      |  |      | 333,505  |      |   | 301,806  |  
|Payments          |  |      | (316,040 | )    |   | (366,890 | )
|                  |  |      |          |      |   |          |  
|Ending balance    |  | $    | 192,219  |      | $ | 174,754  |  
|                  |  |      |          |      |   |          |  

The
interest income that was paid on these loans was $19,679 and $18,766 for 2007
and 2006, respectively. Certain officers and directors own, in the aggregate,
33.2% and 32.8% of the common shares outstanding at December 31, 2007 and 2006,
respectively.

F-24

---



16. CONDENSED FINANCIAL STATEMENTS OF THE
PARENT COMPANY  ONLY

|                                   
|-----------------------------------
|VSB BANCORP, INC.                  
|STATEMENTS
  OF FINANCIAL CONDITION
|DECEMBER
  31, 2007 and 2006       
|                                   
|                                   

|                                                                                                                                                                               |  |      |            |      |   |            |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ---- | ---------- | ---- | - | ---------- | -
|                                                                                                                                                                               |  | 2007 |            | 2006 |  
|                                                                                                                                                                               |  |      |            |      |  
|ASSETS                                                                                                                                                                         |  |      |            |      |   |            |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|Cash and cash equivalents                                                                                                                                                      |  | $    |           |      | $ |           |  
|Money market                                                                                                                                                                   |  |      | 3,505,410  |      |   | 788,045    |  
|Investment in subsidiaries                                                                                                                                                     |  |      | 22,596,729 |      |   | 22,123,004 |  
|Deferred taxes                                                                                                                                                                 |  |      |           |      |   | 15,178     |  
|Other assets                                                                                                                                                                   |  |      | 43,570     |      |   | 48,839     |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|Total assets                                                                                                                                                                   |  | $    | 26,145,709 |      | $ | 22,975,066 |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                                           |  |      |            |      |   |            |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|LIABILITIES:                                                                                                                                                                   |  |      |            |      |   |            |  
|Subordinated debt                                                                                                                                                              |  | $    | 5,155,000  |      | $ | 5,155,000  |  
|Accounts payable, accrued expenses and other liabilities                                                                                                                       |  |      | 106,904    |      |   | 79,769     |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|Total liabilities                                                                                                                                                              |  |      | 5,261,904  |      |   | 5,234,769  |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|COMMITMENTS AND CONTINGENT LIABILITIES                                                                                                                                         |  |      |            |      |   |            |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|STOCKHOLDERS EQUITY                                                                                                                                                           |  |      |            |      |   |            |  
|Common stock ($.0001 par value, 3,000,000 shares authorized, 1,900,509
  issued and outstanding at December 31, 2007; 1,891,759 issued and outstanding
  at December 31, 2006) |  |      | 190        |      |   | 189        |  
|Additional paid-in capital                                                                                                                                                     |  |      | 9,107,119  |      |   | 9,066,691  |  
|Retained earnings                                                                                                                                                              |  |      | 13,226,395 |      |   | 11,293,200 |  
|Unearned Employee Stock Ownership Plan shares                                                                                                                                  |  |      | (1,070,827 | )    |   | (1,239,905 | )
|Accumulated other comprehensive loss, net of taxes of $330,668 and
  $1,203,679, respectively                                                                                  |  |      | (379,072   | )    |   | (1,379,878 | )
|                                                                                                                                                                               |  |      |            |      |   |            |  
|Total stockholders equity                                                                                                                                                     |  |      | 20,883,805 |      |   | 17,740,297 |  
|                                                                                                                                                                               |  |      |            |      |   |            |  
|Total liabilities and
  stockholders equity                                                                                                                                   |  | $    | 26,145,709 |      | $ | 22,975,066 |  
|                                                                                                                                                                               |  |      |            |      |   |            |  

F-25

---



|                                              
|----------------------------------------------
|VSB BANCORP, INC.                             
|                                              
|STATEMENTS OF OPERATIONS                      
|FOR THE YEARS ENDED DECEMBER 31, 2007 AND 2006
|                                              

|                                                 |  |      |           |   |      |   |           |  
|------------------------------------------------ |  | ---- | --------- | - | ---- | - | --------- | -
|                                                 |  | 2007 |           |   | 2006 |  
|                                                 |  |      |           |   |      |  
|INTEREST
  INCOME:                               |  |      |           |   |      |   |           |  
|Loans
  recievable                               |  | $    | 49,578    |   |      | $ | 56,341    |  
|Other interest
  income                          |  |      | 32,942    |   |      |   | 12,919    |  
|                                                 |  |      |           |   |      |   |           |  
|Total interest
  income                          |  |      | 82,520    |   |      |   | 69,260    |  
|                                                 |  |      |           |   |      |   |           |  
|INTEREST
  EXPENSE:                              |  |      |           |   |      |   |           |  
|Subordinated
  debt                              |  |      | 356,159   |   |      |   | 356,159   |  
|                                                 |  |      |           |   |      |   |           |  
|Total interest
  expense                         |  |      | 356,159   |   |      |   | 356,159   |  
|                                                 |  |      |           |   |      |   |           |  
|                                                 |  |      |           |   |      |   |           |  
|Net interest
  loss                              |  |      | (273,639  | ) |      |   | (286,899  | )
|                                                 |  |      |           |   |      |   |           |  
|                                                 |  |      |           |   |      |   |           |  
|                                                
|NON-INTEREST
  INCOME:                           |  |      |           |   |      |   |           |  
|Dividend
income                                  |  |      | 2,800,000 |   |      |   |          |  
|Other                                            |  |      | 10,709    |   |      |   | 10,709    |  
|                                                 |  |      |           |   |      |   |           |  
|                                                 |  |      | 2,810,709 |   |      |   | 10,709    |  
|                                                 |  |      |           |   |      |   |           |  
|NON-INTEREST
  EXPENSES:                         |  |      |           |   |      |   |           |  
|Legal fees                                       |  |      | 19,000    |   |      |   | 28,000    |  
|Other                                            |  |      | 90,942    |   |      |   | 57,239    |  
|                                                 |  |      |           |   |      |   |           |  
|Total
  non-interest expenses                    |  |      | 109,942   |   |      |   | 85,239    |  
|                                                 |  |      |           |   |      |   |           |  
|                                                 |  |      |           |   |      |   |           |  
|INCOME
  (LOSS) BEFORE INCOME TAXES              |  |      | 2,427,128 |   |      |   | (361,429  | )
|                                                 |  |      |           |   |      |   |           |  
|                                                 |  |      |           |   |      |   |           |  
|PROVISION/(BENEFIT)
  FROM INCOME TAXES:         |  |      |           |   |      |   |           |  
|Current                                          |  |      | (227,029  | ) |      |   | (178,477  | )
|Deferred                                         |  |      | 30,272    |   |      |   | (16,163   | )
|                                                 |  |      |           |   |      |   |           |  
|                                                
|Total income
  taxes                             |  |      | (196,757  | ) |      |   | (194,640  | )
|                                                 |  |      |           |   |      |   |           |  
|                                                 |  |      |           |   |      |   |           |  
|EQUITY IN
  UNDISTRIBUTED EARNINGS, NET OF TAXES |  |      | (576,659  | ) |      |   | 2,712,382 |  
|                                                 |  |      |           |   |      |   |           |  
|                                                
|NET INCOME                                       |  | $    | 2,047,226 |   |      | $ | 2,545,593 |  
|                                                 |  |      |           |   |      |   |           |  

F-26

---



|                                                                         
|-------------------------------------------------------------------------
|VSB BANCORP, INC.                                                        
|                                                                         
|STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED
  DECEMBER 31, 2007 AND 2006
|                                                                         

|                                                                                      |  |      |            |      |   |            |  
|------------------------------------------------------------------------------------- |  | ---- | ---------- | ---- | - | ---------- | -
|                                                                                      |  | 2007 |            | 2006 |  
|                                                                                      |  |      |            |      |  
|CASH FLOWS FROM
  OPERATING ACTIVITIES:                                               |  |      |            |      |   |            |  
|Net income                                                                            |  | $    | 2,047,226  |      | $ | 2,545,593  |  
|Adjustments to
  reconcile net income to net cash used in operating activities:       |  |      |            |      |   |            |  
|Changes in
  operating assets and liabilities:                                        |  |      |            |      |   |            |  
|ESOP
  compensation expense                                                           |  |      | (37,404    | )    |   | (6,785     | )
|Undistributed
  income of subsidiaries                                                |  |      | 576,659    |      |   | (2,712,382 | )
|Decrease in
  other assets                                                            |  |      | 5,269      |      |   | 194,103    |  
|(Increase)/decrease
  in deferred income taxes                                        |  |      | 15,178     |      |   | (15,178    | )
|(Decrease)/increase
  in accrued expenses, income taxes payable and other liabilities |  |      | (22,443    | )    |   | (163,366   | )
|                                                                                      |  |      |            |      |   |            |  
|Net cash used
  by operating activities                                               |  |      | 2,584,485  |      |   | (158,015   | )
|                                                                                      |  |      |            |      |   |            |  
|CASH FLOWS FROM
  INVESTING ACTIVITIES:                                               |  |      |            |      |   |            |  
|Net decrease in
  loan receivable                                                     |  |      | 169,078    |      |   | 169,078    |  
|Net increase in
  money market deposit                                                |  |      | (2,717,365 | )    |   | (57,287    | )
|                                                                                      |  |      |            |      |   |            |  
|Net cash used
  in investing activities                                               |  |      | (2,548,287 | )    |   | 111,791    |  
|                                                                                      |  |      |            |      |   |            |  
|CASH FLOWS FROM
  FINANCING ACTIVITIES:                                               |  |      |            |      |   |            |  
|Exercise stock
  option                                                               |  |      | 77,833     |      |   | 46,232     |  
|Payment of
  dividends                                                                |  |      | (114,031   | )    |   |           |  
|5 for 4 stock
  split and the purchase of fractional shares                           |  |      |           |      |   | (329       | )
|                                                                                      |  |      |            |      |   |            |  
|Net cash
  provided by financing activities                                           |  |      | (36,198    | )    |   | 45,903     |  
|                                                                                      |  |      |            |      |   |            |  
|                                                                                     
|NET DECREASE IN
  CASH AND CASH EQUIVALENTS                                           |  |      |           |      |   | (321       | )
|                                                                                     
|CASH AND CASH
  EQUIVALENTS, BEGINNING OF YEAR                                        |  |      |           |      |   | 321        |  
|                                                                                      |  |      |            |      |   |            |  
|                                                                                      |  |      |            |      |   |            |  
|CASH AND CASH
  EQUIVALENTS, END OF YEAR                                              |  | $    |           |      | $ |           |  
|                                                                                      |  |      |            |      |   |            |  
|SUPPLEMENTAL
  DISCLOSURE OF CASH FLOW INFORMATION:                                   |  |      |            |      |   |            |  
|Cash paid
  during the period for:                                                    |  |      |            |      |   |            |  
|Interest                                                                              |  | $    | 345,450    |      | $ | 345,450    |  
|                                                                                      |  |      |            |      |   |            |  
|Income
taxes                                                                          |  | $    |           |      | $ |           |  
|                                                                                      |  |      |            |      |   |            |  

17.          EMPLOYEE STOCK OWNERSHIP PLAN

Employees
participate in an Employee Stock Ownership Plan (ESOP). VSB Bancorp, Inc.
ESOP Trust was formed on May 1, 2004. The ESOP borrowed from the Company to
purchase 92,900 shares of stock at $18.20 per share. The Company makes
discretionary contributions to the ESOP, as well as paying dividends on
unallocated shares to the ESOP, and the ESOP uses funds it receives to repay
the loan. When loan payments are made, ESOP shares are allocated to
participants based on relative compensation and expense is recorded. Dividends
on allocated shares increase participant accounts.

Shares
allocated to each participant, to the extent vested, are distributed to the
participant upon termination of employment. As required by federal law, a
participant may require the Company to repurchase shares so distributed unless
the stock is traded on an established market.

The
contribution to the ESOP was $169,078 for each of the years ended December 31,
2007 and 2006. ESOP expense was $131,674 and $162,293, for the years ended
December 31, 2007 and 2006, respectively.

F-27

---



Shares
held by the ESOP at December 31, 2007 and 2006 were as follows:

|                                                                   |  |      |         |      |   |         |  
|------------------------------------------------------------------ |  | ---- | ------- | ---- | - | ------- | -
|                                                                   |  | 2007 |         | 2006 |  
|                                                                   |  |      |         |      |  
|                                                                   |  |      |         |      |   |         |  
|Shares allocated to participants                                   |  |      | 37,602  |      |   | 27,748  |  
|Shares released to participants                                    |  |      | (564    | )    |   | (229    | )
|Unearned shares                                                    |  |      | 55,298  |      |   | 65,152  |  
|                                                                   |  |      |         |      |  
|                                                                   |  |      |         |      |   |         |  
|Total ESOP
  Shares                                                |  |      | 92,336  |      |   | 92,671  |  
|                                                                   |  |      |         |      |  
|Fair value of
  unearned shares                                    |  | $    | 616,573 |      | $ | 944,704 |  
|                                                                   |  |      |         |      |  
|                                                                   |  |      |         |      |   |         |  
|Fair value of
  allocated shares subject to repurchase obligation. |  | $    |        |      | $ | 399,026 |  
|                                                                   |  |      |         |      |  

18. SUBORDINATED DEBENTURES

In
August of 2003, the Company formed VSB Capital Trust I (the Trust). The Trust
is a statutory business trust organized under Delaware law and the Company owns
all of its common securities. The Trust issued $5.0 million of Trust Preferred
Capital Securities to an independent investor and $155,000 of common securities
to the Company. The Company issued a $5.16 million subordinated debenture to
the Trust. The subordinated debenture is the sole asset of the Trust. The
subordinated debenture and the Trust Preferred Capital Securities pay interest
and dividends, respectively, on a quarterly basis, at a rate of 6.909%, for the
first five years. They mature thirty years after the issuance of the securities
and are non-callable for five years. After the first five years, the Trust
Preferred Securities may be called by the Company at any quarterly interest
payment date at par and the rate of interest that fluctuates quarterly based
upon 300 basis points over the 90 day LIBOR rate.

The
Company reports as liabilities the subordinated debentures issued by the
Company and held by the Trust.

*****************

F-28

---



Item 8. Changes In and Disagreements With Accountants on
Accounting and Financial Disclosure

| |                
| | ---------------
| | Not applicable.

Item 8a (T) Controls And Procedures

Disclosure Controls and Procedures

Our principal executive and
principal financial officer evaluated our disclosure controls and procedures
(as such term is defined in Rule 13a-15(e) promulgated under the Securities
Exchange Act of 1934, as amended (the Exchange Act)), as of the end of the
period covered by this Annual Report, as required by paragraph (b) of Rule
13a-15 of the Exchange Act. Based on such evaluation, our principal executive
and principal financial officer concluded that, as of the end of the period
covered by this Annual Report, our disclosure controls and procedures are
effective.

Managements Annual Report on Internal Control Over
Financial Reporting

Our management is
responsible for establishing and maintaining adequate internal control over
financial reporting as defined in Rule 13a-15(f) under the Securities Exchange
Act of 1934. Our internal control over financial reporting is designed to
provide reasonable assurance regarding the reliability of financial reporting and
the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles in the United States.

All internal control
systems, no matter how well designed, have inherent limitations. Therefore,
even those systems determined to be effective can provide only reasonable
assurance with respect to financial statement preparation and presentation.

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

Management assessed the
effectiveness of our internal control over financial reporting as of
December 31, 2007. In making this assessment, management used the criteria
set forth by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO) in Internal
Control-Integrated Framework
as amplified by the Guidance for Smaller
Public Companies.The five principal components of the Framework
that management analyzed in connection with its assessment were our Control
Environment, Risk Assessment, Control Activities, Information and
Communication, and Monitoring. Based on that assessment, management
believes that we maintained effective internal control over financial reporting
as of December 31, 2007.

---



This annual report
does not include an attestation report of the companys registered public
accounting firm regarding internal control over financial reporting.
Managements report was not subject to attestation by the companys registered
public accounting firm pursuant to temporary rules of the Securities and
Exchange Commission that permit the company to provide only managements report
in this annual report.

Item 8B. Other
Information.

| |                
| | ---------------
| | Not applicable.

PART III

Item 9. Directors, Executive Officers, Promoters and Control
Persons; Compliance with Section 16(a) of the Exchange Act

Incorporated by reference to
pages 4 and 5 of the Proxy Statement under the caption General Information
Regarding Nominees and Our Other Directors; page 13 of the Proxy Statement
under the caption Section 16a Beneficial Ownership Reporting Compliance; and
pages 5 and 6 of the Proxy Statement under the caption Audit Committee.

The Company has a Code of
Ethics that applies to all officers and employees. The Code of Ethics is posted
on our web site  www.victorystatebank.com  and can be found under the
Investor Relations tab.

Item 10. Executive Compensation

The
information required by this Item is incorporated by reference to pages 8
through 11 of the Proxy Statement under the caption Compensation through and
including the sub-caption Directors Compensation.

Item 11. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters

The information required by
this Item is incorporated by reference to page 11 of the Proxy Statement under
the caption Security Ownership of
Management and Certain Beneficial Owners.

Item 12. Certain Relationships and Related Transactions

The
information required by this Item is incorporated by reference to pages 12
through 13 of the Proxy Statement under the caption Transactions with
Directors and Officers and Their Related Interests.

---



Item 13. Exhibits

|            |  |                                                                                              
|----------- |  | ---------------------------------------------------------------------------------------------
|Exhibit No. |  | Title of Exhibit                                                                             
|            |  |                                                                                              
|           
|3.1         |  | Restated
  Certificate of Incorporation of VSB Bancorp, Inc.                                 
|3.2         |  | Bylaws of
  VSB Bancorp, Inc.                                                                
|10.1        |  | Employment
  Agreement between Merton Corn and Victory State Bank                            
|10.2        |  | Victory
  State Bank 2000 Incentive Stock Option Plan                                        
|10.3        |  | Victory
  State Bank 2000 Directors Stock Option Plan                                        
|10.4        |  | Victory
  State Bank 1998 Incentive Stock Option Plan                                        
|10.5        |  | Victory
  State Bank 1998 Directors Stock Option Plan                                        
|10.6        |  | VSB Bancorp,
  Inc. Restated 2000 Incentive Stock Option Plan                                
|10.7        |  | VSB Bancorp,
  Inc. Restated 2000 Directors Stock Option Plan                                
|10.8        |  | VSB Bancorp,
  Inc. Restated 1998 Incentive Stock Option Plan                                
|10.9        |  | VSB Bancorp,
  Inc. Restated 1998 Directors Stock Option Plan                                
|10.10       |  | VSB Bancorp,
  Inc. 2004 Directors Stock Option Plan*                                        
|10.11       |  | Employment
  Agreement among Raffaele M. Branca, VSB Bancorp, Inc. and Victory State
  Bank**
|21.         |  | Subsidiaries
  of the Registrant                                                             
|23.         |  | Consent of
  Independent Registered Public Accounting Firm                                   
|31.1        |  | Rule
  13A-14(a)/15D-14(a) Certification of Chief Executive Officer                          
|31.2        |  | Rule
  13A-14(a)/15D-14(a) Certification of Chief Financial Officer                          
|32.1        |  | Certification
  by CEO pursuant to 18 U.S.C. 1350                                            
|32.2        |  | Certification
  by CFO pursuant to 18 U.S.C. 1350                                            

* - previously
filed as an exhibit included in the Issuers proxy statement for its 2004
Annual Meeting of Stockholders on Form 14A.

** -
previously filed as exhibit on Form 8-K (File No. 0-50237) as filed with the
Securities and Exchange Commission on November 16, 2007.

Item 14. Principal Accountant Fees and
Services.

The information required by
this Item is incorporated by reference to pages 13 through 14 of the Proxy
Statement under the caption Audit and Other Fees.

---



SIGNATURES

Pursuant to
the requirements of Section 12 of the Securities Exchange Act of 1934, the
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized.

|                       |                     |                                  
|---------------------- | ------------------- | ---------------------------------
|                       | VSB Bancorp,
  Inc.
|                       | (Registrant)       
|Date: March
  25, 2008 |                     |                                  
|                       | By:                 | /s/ Raffaele
  M. Branca         
|                       |                     |                                  
|                       |                     | Raffaele M. Branca, President and
|                       |                     | Chief Executive Officer          

Pursuant to
the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the registrant in the
capacities indicated below.

|                                                    |  |                  | 
|--------------------------------------------------- |  | ---------------- | 
|/s/ Raffaele
  M. Branca                            |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Raffaele M. Branca, President and Chief
  Executive |  | Date             | 
|Officer and Director                                |  |                  | 
|                                                    |  |                  | 
|/s/ Joseph J.
  LiBassi                             |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Joseph J,
  LiBassi, Chairman of the Board          |  | Date             | 
|                                                    |  |                  | 
|/s/ Joan
  Nerlino Caddell                          |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Joan Nerlino
  Caddell, Director                    |  | Date             | 
|                                                    |  |                  | 
|/s/ Merton
  Corn                                   |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Merton Corn, Director                               |  | Date             | 
|                                                    |  |                  | 
|/s/ Robert S.
  Cutrona, Sr.                        |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Robert S.
  Cutrona, Sr., Director                  |  | Date             | 
|                                                    |  |                  | 
|/s/ Chaim
  Farkas                                  |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Chaim
  Farkas, Director                            |  | Date             | 
|                                                    |  |                  | 
|/s/ Alfred C.
  Johnsen                             |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Alfred C. Johnsen,
  Director                       |  | Date             | 
|                                                    |  |                  | 
|/s/ Carlos
  Perez                                  |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Carlos
  Perez, Director                            |  | Date             | 
|                                                    |  |                  | 
|/s/ Bruno
  Savo                                    |  | March 25,
  2008 | 
|                                                    |  |                  | 
|Bruno Savo,
  Director                              |  | Date             | 

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