UNITED
STATES


SECURITIES AND EXCHANGE
COMMISSION


Washington,
D.C. 20549





FORM
10-K





FOR
ANNUAL AND TRANSITION REPORTS


PURSUANT
TO SECTIONS 13 OR 15(d) OF


THE
SECURITIES EXCHANGE ACT OF 1934





[X]
Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange


Act of
1934


For the
Fiscal Year Ended December 31, 2007


OR


[ ]
Transition Report Pursuant to Section 13 or 15(d) of the Securities


Exchange
Act of 1934





For the
transition period from ____________ to _________





Commission
File No. 0-25766





Community
Bank Shares of Indiana, Inc.





(Exact
Name of Registrant as Specified in its Charter)





Indiana
            35-1938254(State
      or Other Jurisdiction of
            (I.R.S.
      EmployerIncorporation
      or Organization)
            Identification
      Number)





101 West Spring Street, New
Albany, Indiana 47150


(Address
of Principal Executive Offices) (Zip Code)





Registrant's
telephone number, including area code: (812)
944-2224





Securities Registered
Pursuant to Section 12(b) of the Act:


Title of Each
      Class
            Name of Each Exchange
      on Which RegisteredCommon
      Stock, par value $0.10 per share
            NASDAQ
      National Market





Securities Registered
Pursuant to Section 12(g) of the Act:


None





Indicate
by checkmark if the Registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.  YES_NOX_





Indicate
by checkmark if the Registrant is not required to file requests pursuant to
Section 13 or 15(d) of the Act.  YES_NOX_





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 twelve months (or for such shorter period that the
Registrant was required to file such reports) and (2) has been subject to such
requirements for the past 90 days.  YESXNO__





Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.     x











Indicate
by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See definition of “large accelerated filer,” “accelerated
filer” and “smaller reporting company” in Rule 12b-2 of the Exchange
Act.
  Large
accelerated filer __
Accelerated filer __
Non-accelerated filer X_Smaller reporting company __
  Indicate by check mark
whether the Registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act).  YES_NOX_




As
of June 30, 2007, the aggregate market value of the Registrant’s common stock
held by non-affiliates of the Registrant was $64,879,554 based on the closing
sale price as reported on the National Association of Securities Dealers
Automated Quotation System National Market System.  Shares of common
stock held by each officer, director, and holder of 10% or more of the
outstanding common stock of the Registrant have been excluded from this
calculation in that such persons may be deemed to be affiliates.  This
determination of affiliate status is not necessarily a conclusive determination
for other purposes.




As of
March 13, 2008, there were issued and outstanding 3,255,134 shares of the
Registrant's Common Stock.





DOCUMENTS
INCORPORATED BY REFERENCE





Portions
of the Registrant’s definitive Proxy Statement for its Annual Meeting of
Stockholders to be held on May 20, 2008 (the “2008 Proxy Statement”) are
incorporated by reference into Items 10, 11, 12, 13 and 14 of Part
III.





2








Form
      10-KIndexPagePart I:Item
      1.
            Business
            4Item
      1A
            Risk
      Factors
            10Item
      1B
            Unresolved Staff
      Comments
            12Item
      2.
            Properties
            13Item
      3.
            Legal
      Proceedings
            14Item
      4.
            Submission of Matters
      to a Vote of Security Holders
            14Part II:Item
      5.
            Market for Registrant's Common
      Equity, Related Stockholder Matters and IssuerPurchases of Equity
      Securities
            15Item
      6.
            Selected Financial
      Data
            17Item
      7.
            Management's Discussion
      and Analysis of Financial Condition and Results of
      Operations
            18Item
      7A.
            Quantitative and
      Qualitative Disclosures about Market Risk
            33Item
      8.
            Financial
      Statements and Supplementary Data
            35Item
      9.
            Changes in and
      Disagreements with Accountants on Accounting and Financial
      Disclosures
            77Item
      9A.
            Controls and
      Procedures
            77Item
      9B
            Other
      Information
            78Part III:Item
      10.
            Directors and Executive
      Officers of the Registrant
            78Item
      11.
            Executive
      Compensation
            78Item
      12.
            Security Ownership of
      Certain Beneficial Owners and Management and Related Stockholder
      Matters
            78Item
      13.
            Certain Relationships and
      Related Transactions
            78Item
      14.
            Principal Accountant
      Fees and Services
            78Part IV:Item
      15.
            Exhibits and Financial
      Statement Schedules
            79Signatures
            
            81Index of
      Exhibits
            
            82








3
 Index


Part
I





Item
1.  Business





General





Community
Bank Shares of Indiana, Inc. (the “Company”) is a bank holding company
headquartered in New Albany, Indiana. The Company’s wholly-owned banking
subsidiaries are Your Community Bank (“YCB”), which changed its name effective
November 1, 2005, from Community Bank of Southern Indiana, and The Scott County
State Bank (“SCSB”), which was acquired on July 1, 2006 through the Company’s
acquisition of The Bancshares, Inc (YCB and SCSB are at
times collectively referred to herein as the “Banks”).  Until November
14, 2003, the Company also operated four bank offices in Jefferson and Nelson
County, Kentucky through its wholly-owned banking subsidiary, Community Bank of
Kentucky, Inc. (“CBKY”).  On November 14, 2003 CBKY was merged with
and into YCB.  The Banks are state-chartered commercial banks
headquartered in New Albany, Indiana and Scottsburg, Indiana, respectively, and
are both regulated by the Indiana Department of Financial
Institutions.  YCB is also regulated by the Federal Deposit Insurance
Corporation and (with respect to its Kentucky branches) the Kentucky Office of
Financial Institutions while SCSB is also regulated by the Federal
Reserve.





YCB has
three wholly-owned subsidiaries to manage its investment portfolio. CBSI
Holdings, Inc. and CBSI Investments, Inc. are Nevada corporations which jointly
own CBSI Investment Portfolio Management, LLC, a Nevada limited liability
corporation which holds and manages investment securities previously owned by
the Bank.





YCB also
has a Community Development Entity (CDE) subsidiary named CBSI Development Fund,
Inc.  The CDE enables YCB to participate in the federal New Markets
Tax Credit (NMTC) Program.  The NMTC Program is administered by the
Community Development Financial Institutions Fund of the United States Treasury
and is designed to promote investment in low-income communities by providing a
tax credit over seven years for equity investments in CDE’s.





In June
2004 and June 2006, the Company completed placements of floating rate
subordinated debentures through two trusts formed by the Company, Community Bank
Shares (IN) Statutory Trust I and Trust II (“Trusts”).  Because the
Trusts are not consolidated with the Company, pursuant to FASB Interpretation
No. 46, the Company’s financial statements reflect the subordinated debt issued
by the Company to the Trusts.





The
Company had total assets of $823.6 million, total deposits of $573.3 million,
and stockholders' equity of $64.5 million as of December 31, 2007. The Company's
principal executive office is located at 101 West Spring Street, New Albany,
Indiana 47150, and the telephone number at that address is (812)
944-2224.





Business
Strategy





The
Company's current business strategy is to operate well-capitalized, profitable
and independent community banks with a significant presence in their primary
market areas.  The Company’s growth strategy is focused on expansion
through organic growth within its market areas.  The Company offers
business and personal banking services through a full range of deposit products
that include non-interest and interest-bearing checking accounts, ATM’s, debit
cards, savings accounts, money market accounts, certificates of deposit and
individual retirement accounts.  The Company’s loan products
include:  secured and unsecured business loans of various terms to
local businesses and professional organizations; consumer loans including home
equity lines of credit, automobile and recreational vehicle, credit cards,
construction, and loans secured by deposit accounts; and residential real estate
loans.   In addition, the Company also offers non-deposit
investment products such as stocks, bonds, mutual funds, and annuities to
customers within its banking market areas through a strategic alliance with
Smith Barney.





Internal Growth.Management
believes the optimum way to grow the Company is by attracting new loan and
deposit customers within its existing markets through its extensive product
offerings and attentive customer service.  Management believes the
Company’s customers seek a banking relationship with a service-oriented
community banking institution and feels the Company’s banking centers have an
atmosphere which facilitates personalized service and a broad range of product
offerings to meet customers’ needs.However, the Company
will consider acquisition opportunities that help advance its strategic
objectives.





Branch Expansion.Management
continues to consider opportunities for branch expansion and is focusing its
current efforts within existing markets. Management considers a variety of
criteria when evaluating potential branching opportunities.  These
include:  the market location of the potential branch and demographics
of the surrounding communities; the investment required and opportunity costs;
staffing needs; and other criteria management deems of particular
importance.





4
 Index


Lending
Activities
 
 Commercial Business Loans.
The Company originates non-real estate related business loans to local small
businesses and professional organizations.  This type of commercial
loan has been offered at both variable rates and fixed rates and can be
unsecured or secured by general business assets such as equipment, accounts
receivable or inventory.  The Company has increased its origination of
commercial business loans over the last few years. Such loans generally have
shorter terms and higher interest rates than commercial real estate loans.
However, commercial business loans also involve a higher level of credit risk
because of the type and nature of the collateral.
 
 Commercial Real Estate
Loans.  The Company's commercial real estate loans are secured
by improved property such as offices, small business facilities, apartment
buildings, nursing homes, warehouses and other non-residential buildings, most
of which are located in the Company's primary market area and some of which are
to be used or occupied by the borrowers. Commercial real estate loans have been
offered at adjustable interest rates and at fixed rates with balloon provisions
at the end of the term financing. The Company continues to originate commercial
real estate loans, commercial real estate construction and development loans and
land loans.  Loans secured by commercial real estate generally involve
a greater degree of risk than residential mortgage loans and carry larger loan
balances. This increased credit risk is a result of several factors, including
the concentrations of principal in a limited number of loans and borrowers, the
effects of general economic conditions on income producing properties, and the
increased difficulty of evaluating and monitoring these types of loans.
Furthermore, the repayment of loans secured by multifamily and commercial real
estate is typically dependent upon the successful operation of the related real
estate project. If the cash flow from the project is reduced, the borrower's
ability to repay the loan may be impaired. The Company has increased its
origination of multi-family residential or commercial real estate loans over the
last few years, and has attempted to protect itself against the increased credit
risk associated with these loans through its underwriting standards and ongoing
monitoring processes.
 
 Residential Real Estate
Loans. The Company originates one-to-four family, owner-occupied,
residential mortgage loans secured by property located in the Company's market
area.  While the Company currently sells a portion of its residential
real estate loans into the secondary market, the Company does originate and
retain a significant amount of these loans in its own portfolio.  The
majority of the Company's residential mortgage loans consist of loans secured by
owner-occupied, single family residences.  The Company currently
offers residential mortgage loans for terms up to thirty years, with adjustable
(“ARM”) or fixed interest rates. Origination of fixed-rate mortgage loans versus
ARM loans is monitored continuously and is affected significantly by the level
of market interest rates, customer preference, and loan products offered by the
Company's competitors. Therefore, even if management's strategy is to emphasize
ARM loans, market conditions may be such that there is greater demand for
fixed-rate mortgage loans.
 
 The
Company's fixed and adjustable rate residential mortgage loans are amortized on
a monthly basis with principal and interest due each month. Residential real
estate loans often remain outstanding for significantly shorter periods than
their contractual terms because borrowers may refinance or prepay loans at their
option.
 
 The
primary purpose of offering ARM loans is to make the Company's loan portfolio
more interest rate sensitive. ARM loans, however, can carry increased credit
risk because during a period of rising interest rates the risk of default on ARM
loans may increase due to increases in borrowers’ monthly payments.
 
 After the
initial fixed rate period, the Company's ARM loans generally adjust annually
with interest rate adjustment limitations of two percentage points per year and
six percentage points over the life of the loan. The Company also makes ARM
loans with interest rates that adjust every one, three or five years. Under the
Company's current practice, after the initial fixed rate period the interest
rate on ARM loans adjusts to the applicable index plus a spread. The Company's
policy is to qualify borrowers for one-year ARM loans based on the initial
interest rate plus the maximum annual rate increase.
 
 The
Company has used different indices for its ARM loans such as the National
Average Median Cost of Funds, the Sixth District Net Cost of Funds Monthly
Index, the National Average Contract Rate for Previously Occupied Homes, the
average three year Treasury Bill Rate, and the Eleventh District Cost of Funds.
Consequently, the adjustments in the Company's portfolio of ARM loans tend not
to reflect any one particular change in any specific interest rate index, but
general interest rate trends overall.
 
 Secondary
market regulations limit the amount that a bank may lend based on the appraised
value of real estate.  Such regulations permit a maximum loan-to-value
ratio of 95% percent for residential property and from 65-90% for all other real
estate related loans.
 
 The
Company occasionally makes real estate loans with loan-to-value ratios in excess
of 80%.  For the loans sold into the secondary market, individual
investor requirements pertaining to private mortgage insurance
apply.  For the mortgage real estate loans retained by the Company
with loan-to-value ratios of 80-90%, the Company may require the first 20% of
the loan to be covered by private mortgage insurance. For the mortgage real
estate loans retained by the Company with loan-to-value ratios of 90-95%, the
Company may require private mortgage insurance to cover the first 25-30% of the
loan amount. The Company requires fire and casualty insurance, as well as title
insurance or an opinion of counsel regarding good title, on all properties
securing real estate loans made by the Company.
 
 
 5
 Index
 Construction Loans. The
Company originates loans to finance the construction of owner-occupied
residential property. The Company makes construction loans to private
individuals for the purpose of constructing a personal residence or to local
real estate builders and developers. Construction loans generally are made with
either adjustable or fixed-rate terms of up to 12 months. Loan proceeds are
disbursed in increments as construction progresses and as inspections warrant.
Construction loans are structured to be converted to permanent loans at the end
of the construction period or to be terminated upon receipt of permanent
financing from another financial institution.
 
 Consumer Loans. The principal
types of consumer loans offered by the Company are home equity lines of credit,
auto loans, home improvement loans, credit cards and loans secured by deposit
accounts.  Home equity lines of credit are predominately made at rates
which adjust periodically and are indexed to the prime rate. Some consumer loans
are offered on a fixed-rate basis depending upon the borrower's preference. The
Company's home equity lines of credit are generally secured by the borrower's
principal residence and a personal guarantee.
 
 The
underwriting standards employed by the Company for consumer loans include a
determination of the applicant's credit history and an assessment of the
prospective borrower’s ability to meet existing obligations and payments on the
proposed loan. The stability of the applicant's monthly income may be determined
by verification of gross monthly income from primary employment and from any
verifiable secondary income.  The underwriting process also includes a
comparison of the value of the collateral in relation to the proposed loan
amount.
 
 Mortgage-Banking
Operations.  The Company originates qualified government
guaranteed loans and conventional secondary market loans which are generally
sold with the servicing released. This arrangement provides necessary liquidity
to the Company while providing additional loan products to the Company’s
customers.
 
 Loan Solicitation and
Processing. Loans are originated through a number of sources including
loan sales staff, real estate broker referrals, existing customers, borrowers,
builders, attorneys and walk-in customers. Processing procedures are affected by
the type of loan requested and whether the loan will be funded by the Company or
sold into the secondary market.
 
 Mortgage
loans that are sold into the secondary market are submitted, when possible, for
Automated Underwriting, which allows for faster approval and an expedited
closing. The Company’s responsibility on these loans is the fulfillment of the
loan purchaser's requirements. These loans often have reduced underwriting
features and may be made without an appraisal or credit report at the option of
the purchaser.  Loans that are reviewed in a more traditional manner,
which are mostly loans held for the Company's own portfolio, require credit
reports, appraisals, and income verification before they are approved or
disapproved.  Private mortgage insurance is generally required on
loans with a ratio of loan to appraised value of greater than eighty percent.
Property insurance and flood certifications are required on all real estate
loans.
 
 Installment
loan documentation varies by the type of collateral offered to secure the loan.
In general, an application and credit report is required before a loan is
submitted for underwriting. The underwriter determines the necessity of any
additional documentation, such as income verification or appraisal of
collateral. An authorized loan officer approves or declines the loan after
review of all applicable loan documentation collected during the underwriting
process.
 
 Commercial
loans are underwritten by the commercial loan officer who makes the initial
contact with the customer applying for credit. The underwriting of these loans
is reviewed after the fact by the Risk Management area for compliance with the
Company's general underwriting standards. A loan exceeding the authority of the
underwriting loan officer requires the approval of other officers of the Banks
based upon individual lending authorities, or the Board of Directors of the
Banks, depending on the loan amount.
 
 Loan Commitments. The Company
issues loan origination commitments to qualified borrowers primarily for the
construction and purchase of residential real estate and commercial real estate.
Such commitments are made with specified terms and conditions for periods of
thirty days for commercial real estate loans and sixty days for residential real
estate loans.
 
 Employees
 
 As of
December 31, 2007, the Company employed 252 employees, 212 full-time and 40
part-time.  None of these employees are represented by a collective
bargaining group. Neither the Company nor any subsidiary has ever experienced a
work stoppage.
 
 Competition
and Market Area Served
 
 The
banking business is highly competitive, and as such the Company competes not
only with other commercial banks, but also with savings and loan associations,
trust companies and credit unions for deposits and loans, as well as stock
brokerage firms, insurance companies, and other entities providing one or more
of the services and products offered by the Company. In addition to competition,
the Company's business and operating results are affected by the general
economic conditions prevalent in its market.
 
 
 6
 Index
 The
Company’s primary market areas consist of Floyd, Clark, and Scott counties in
Southern Indiana and Jefferson and Nelson counties in Kentucky.  These
are four (excluding Scott County) of the thirteen counties comprising the
Louisville, Kentucky Standard Metropolitan Statistical Area, which has a
population in excess of 1.2 million.  The aggregate population of
Floyd, Clark, and Scott counties is approximately 200,000 while the populations
of Jefferson and Nelson Counties are approximately 702,000 and 42,000,
respectively. The Company's headquarters are located in New Albany, Indiana, a
city of 37,000 located approximately three miles from the center of
Louisville.
 Nature
of Company’s Business
 
 The
business of the Company is not seasonal.  The Company’s business does
not depend upon a single customer, or a few customers, the loss of any one or
more of which would have a material adverse effect on the Company.  No
material portion of the Company’s business is subject to renegotiation of
profits or termination of contracts or subcontracts at the election of any
governmental entity.
 
 Regulation
and Supervision
 
 As a bank
holding company, the Company is regulated under the Bank Holding Company Act of
1956, as amended (the "Act"). The Act limits the business of bank holding
companies to banking, managing or controlling banks and other subsidiaries
authorized under the Act, performing certain servicing activities for
subsidiaries and engaging in such other activities as the Board of Governors of
the Federal Reserve System (“Federal Reserve Board”) may determine to be closely
related to banking. The Company is registered with and is subject to regulation
by the Federal Reserve Board. Among other things, applicable statutes and
regulations require the Company to file an annual report and such additional
information as the Federal Reserve Board may require pursuant to the Act and the
regulations which implement the Act. The Federal Reserve Board also conducts
examinations of the Company.
 
 The Act
provides that a bank holding company must obtain the prior approval of the
Federal Reserve Board to acquire more than five percent of the voting stock or
substantially all the assets of any bank or bank holding company. The Act also
provides that, with certain exceptions, a bank holding company may not (i)
engage in any activities other than those of banking or managing or controlling
banks and other authorized subsidiaries, or (ii) own or control more than five
percent of the voting shares of any company that is not a bank, including any
foreign company. A bank holding company is permitted, however, to acquire shares
of any company, the activities of which the Federal Reserve Board has determined
to be so closely related to banking or managing or controlling banks as to be a
proper incident thereto.  A bank holding company may also acquire
shares of a company which furnishes or performs services for a bank holding
company and acquire shares of the kinds and in the amounts eligible for
investment by national banking associations. In addition, the Federal Reserve
Act restricts the Bank’s extension of credit to the Company.
 
 On
November 12, 1999, Congress enacted the Gramm-Leach-Bliley Act. The
Gramm-Leach-Bliley Act permits bank holding companies to qualify as "financial
holding companies" that may engage in a broad range of financial activities,
including underwriting, dealing in and making a market in securities, insurance
underwriting and agency activities and merchant banking. The Federal Reserve
Board is authorized to expand the list of permissible financial activities. The
Gramm-Leach-Bliley Act also authorizes banks to engage through financial
subsidiaries in nearly all of the activities permitted for financial holding
companies. The Company has not elected the status of financial holding company
and at this time has no plans for these investments or broader financial
activities.
 
 As
state-chartered commercial banks, the Company’s subsidiary banks are subject to
examination, supervision and extensive regulation by the Federal Deposit
Insurance Corporation (“FDIC”), the Indiana Department of Financial Institutions
(“DFI”) and (with respect to YCB and its branch offices located in Kentucky) the
Kentucky Office of Financial Institutions (“KOFI"). The Banks are members of and
own stock in the Federal Home Loan Bank (“FHLB”) of Indianapolis, and
Cincinnati. The FHLB institutions located in Indianapolis and Cincinnati are two
of the twelve regional banks in the FHLB system. The Banks are also subject to
regulation by the Federal Reserve Board, which governs reserves to be maintained
against deposits and regulates certain other matters. The extensive system of
banking laws and regulations to which the Banks are subject is intended
primarily for the protection of the Company’s customers and depositors, and not
its shareholders.
 
 The FDIC,
Federal Reserve, and DFI/KOFI regularly examine the Banks and prepare reports
for the consideration of the Banks’ Board of Directors on any deficiencies that
they may find in the Banks’ operations. The relationship of the Banks with their
depositors and borrowers also is regulated to a great extent by both federal and
state laws, especially in such matters as the form and content of the Banks’
mortgage documents and communication of loan and deposit rates to both existing
and prospective customers. Financial institutions in various regions of the
United States have been called upon by examiners to write down assets to their
fair market values and to establish increased levels of reserves, primarily as a
result of perceived weaknesses in real estate values and a more restrictive
regulatory climate.
 The
investment and lending authority of a state-chartered bank is prescribed by
state and federal laws and regulations, and such banks are prohibited from
engaging in any activities not permitted by such laws and regulations. These
laws and regulations generally are applicable to all state chartered banks. The
Banks may not lend to a single or related group of borrowers on an unsecured
basis an amount in excess of the greater of $500,000 or fifteen percent of the
Banks unimpaired capital and surplus on a disaggregated basis. An additional
amount may be lent, equal to ten percent of unimpaired capital and surplus, if
such loan is secured by readily marketable collateral, which is defined to
include certain securities, but generally does not include real
estate.
 7
 Index
 Federal
Regulations
 
 Sections
22(h) and (g) of the Federal Reserve Act place restrictions on loans to
executive officers, directors and principal stockholders. Under Section 22(h),
loans to a director, an executive officer and to a greater than ten percent
stockholder of a bank, and certain affiliated interests of either, may not
exceed, together with all other outstanding loans to such person and affiliated
interests, the institution's loans to one borrower limit (15% of the Bank’s
unimpaired capital and surplus). Section 22(h) also requires that loans to
directors, executive officers and principal stockholders be made on terms
substantially the same as offered in comparable transactions to other persons
and also requires prior board of directors approval for certain loans. In
addition, the aggregate amount of extensions of credit to all insiders cannot
exceed the institution's unimpaired capital and surplus. At December 31, 2007
the Banks were in compliance with the above restrictions.
 
 Safety and Soundness. The
Federal Deposit Insurance Act (“FDIA”), as amended by the Federal Deposit
Insurance Corporation Improvement Act of 1991 (“FDICIA”) and the Riegle
Community Development and Regulatory Improvement Act of 1994, requires the
federal bank regulatory agencies to prescribe standards, by regulations or
guidelines, relating to the internal controls, information systems and internal
audit systems, loan documentation, credit underwriting, interest-rate-risk
exposure, asset growth, asset quality, earnings, stock valuation and
compensation, fees and benefits and such other operational and managerial
standards as the agencies may deem appropriate. The federal bank regulatory
agencies adopted, effective August 9, 1995, a set of guidelines prescribing
safety and soundness standards pursuant to FDICIA, as amended. In general, the
guidelines require, among other things, appropriate systems and practices to
identify and manage the risks and exposures specified in the
guidelines.
 
 The FDIC
generally is authorized to take enforcement action against a financial
institution that fails to meet its capital requirements; such action may include
restrictions on operations and banking activities, the imposition of a capital
directive, a cease and desist order, civil money penalties or harsher measures
such as the appointment of a receiver or conservator or a forced merger into
another institution. In addition, under current regulatory policy, an
institution that fails to meet its capital requirements is prohibited from
paying any dividends. Except under certain circumstances, further disclosure of
final enforcement action by the FDIC is required.
 
 Prompt Corrective Action.
Under Section 38 of the FDIA, as amended by the FDICIA, each federal banking
agency was required to implement a system of prompt corrective action for
institutions which it regulates. The federal banking agencies, including the
FDIC, adopted substantially similar regulations to implement Section 38 of the
FDIA, effective as of December 19, 1992. Under the regulations, an institution
is deemed to be (i) "well-capitalized" if it has total risk-based capital of
10.0% or more, a Tier 1 risk-based capital ratio of 6.0% or more, a Tier 1
leverage capital ratio of 5.0% or more and is not subject to any order or final
capital directive 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 1 risk-based capital ratio of 4.0% or more and a
Tier 1 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 1
risk-based capital ratio that is less than 4.0% or a Tier 1 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 1 risk-based capital ratio that is less than 3.0% or a
Tier II average 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%. Section 38 of the FDIA and the regulations
promulgated thereunder also specify circumstances under which a federal banking
agency may 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 (except that the FDIC may not reclassify a significantly
undercapitalized institution as critically undercapitalized). At December 31,
2007, the Company and the Banks were deemed well-capitalized for purposes of the
above regulations.
 
 Federal Home Loan Bank
System. The Banks are members of the FHLB of Indianapolis and
Cincinnati.  The FHLB of Indianapolis and Cincinnati are two of the 12
regional FHLB's that, prior to the enactment of FIRREA, were regulated by the
Federal Home Loan Bank Board (FHLBB). FIRREA separated the home financing credit
function of the FHLB's from the regulatory functions of the FHLB's regarding
savings institutions and their insured deposits by transferring oversight over
the FHLB's from the FHLBB to a new federal agency, the Federal Home Financing
Board ("FHFB").
 
 As
members of the FHLB system, the Banks are required to purchase and maintain
stock in the FHLB in an amount equal to the greater of one percent of its
aggregate unpaid residential mortgage loans, home purchase contracts or similar
obligations at the beginning of each year, or 1/20 (or such greater fraction as
established by the FHLB) of outstanding FHLB advances. At December 31, 2007,
$7.2 million of FHLB stock was outstanding for the Banks, which were in
compliance with this requirement. In past years, the Banks have received
dividends on its FHLB stock.
 
 8
 Index
 Insurance of Accounts. The
Banks’ deposits are insured up to $100,000 per insured member (as defined by law
and regulation) and, except for certain deposits assumed by YCB upon the merger
of Heritage Bank of Southern Indiana into YCB in 2002 (which are insured by the
Bank Insurance Fund (BIF)), are insured by the Savings Association Insurance
Fund (SAIF). This insurance is backed by the full faith and credit of the United
States Government. The SAIF and the BIF are both administered and managed by the
FDIC. As insurer, the FDIC is authorized to conduct examinations of and to
require reporting by SAIF and BIF insured institutions. It also may prohibit any
insured institution from engaging in any activity the FDIC determines by
regulation or order to pose a serious threat to either fund. The FDIC also has
the authority to initiate enforcement actions against financial institutions.
The annual assessment for deposit insurance is based on a risk-related premium
system. Each insured institution is assigned to one of three capital groups:
well-capitalized, adequately-capitalized or undercapitalized. Within each
capital group, institutions are assigned to one of three subgroups (A, B, or C)
on the basis of supervisory evaluations by the institution's primary federal
supervisor and if applicable, state supervisor. Assignment to one of the three
capital groups, coupled with assignment to one of three supervisory subgroups,
will determine which of the nine risk classifications is appropriate for an
institution. Institutions are assessed insurance rates based on their assigned
risk classifications. The well-capitalized, subgroup "A" category institutions
are assessed the lowest insurance rate, while institutions assigned to the
undercapitalized subgroup "C" category are assessed the highest insurance
rate.  As of December 31, 2007 the Banks were assigned to the
well-capitalized, subgroup "A" category and paid an annual insurance rate of 6.1
cents per $100 of deposits.
 
 The FDIC
may terminate the deposit insurance of any insured depository institution 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.
 
 The Federal Reserve System.
The Federal Reserve Board requires all depository institutions to maintain
reserves against their transaction accounts and non-personal time deposits. Cash
on hand or on deposit with the Federal Reserve Bank of $1.4 million and $6.5
million was required to meet regulatory reserve and clearing requirements at
year-end 2007 and 2006, respectively.  These balances do not earn
interest.  Banks are authorized to borrow from the Federal Reserve
Bank "discount window," but Federal Reserve Board regulations require banks to
exhaust other reasonable alternative sources of funds, including FHLB advances,
before borrowing from the Federal Reserve Bank.
 
 Federal Taxation. For federal
income tax purposes, the Company and its subsidiaries file a consolidated
federal income tax return on a calendar year basis. Consolidated returns have
the effect of eliminating intercompany distributions, including dividends, from
the computation of consolidated taxable income for the taxable year in which the
distributions occur.
 
 The
Company and its subsidiaries are subject to the rules of federal income taxation
generally applicable to corporations under the Internal Revenue Code of 1986, as
amended (the "Code").
 
 Management
has evaluated its tax positions in association with the adoption of 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 effective for its fiscal year beginning
January 1, 2007.  The adoption of FIN 48 did not have a material
effect on the financial statements.  As of December 31, 2007, the
Company’s 2004 and 2005 federal tax returns were being audited by the Internal
Revenue Service (“IRS”).  Subsequent to year end, the Company was
notified by the IRS that the examinations were complete and that there would be
no adjustments made for 2004 and 2005 and a refund would be issued for 2006 for
$20,000.  Accordingly, the Company anticipates reducing its reserve
for unrecognized tax benefits in 2008 by $55,000.
 
 Indiana Taxation. The Company
is subject to a franchise tax imposed by the State of Indiana.  The
tax is imposed at the rate of 8.5 percent of the Company's adjusted gross
income. In computing adjusted gross income, no deductions are allowed for
municipal interest and U.S. Government interest.  In 2000, the Indiana
financial institution tax law was amended to treat resident financial
institutions the same as nonresident financial institutions by providing for
apportionment of Indiana income based on receipts in Indiana. This revision
allowed for the exclusion of receipts from out of state sources and federal
government and agency obligations.
 
 Currently,
income from YCB’s subsidiaries CBSI Holdings, Inc., CBSI Investments, Inc. and
CBSI Investment Portfolio Management, LLC is not subject to the Indiana
franchise tax.
 
 The
Company’s December 31, 2004, 2003, and 2002 Indiana state franchise tax return
were audited in 2006.  The Indiana Department of Revenue concluded
that no adjustments were necessary as a result of their audits.
 
 Kentucky
Taxation.  The Company is subject to a franchise tax imposed by
the Commonwealth of Kentucky on its operations in Kentucky.  The tax
is imposed at a rate of 1.1% on taxable net capital, which equals capital stock
paid in, surplus, undivided profits and capital reserves, net unrealized holding
gains or losses on available for sale securities, and cumulative foreign
currency translation adjustments less an amount equal to the same percentage of
the total as the book value of United States obligations and Kentucky
obligations bears to the book value of the total assets of the financial
institution.  A financial institution whose business activity is
taxable within and without Kentucky must apportion its net capital based on the
three factor apportionment formula of receipts, property and payroll unless the
Kentucky Revenue Cabinet has granted written permission to use another
method.
 
  9
 Index
 Available
Information.  The Company files annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to
those reports with the Securities and Exchange Commission (“SEC”) pursuant to
Section 13(a) or 15(d) of the Securities Exchange Act of 1934.  The
public may read and copy any material the Company files with the SEC at the
SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549 and may
obtain information on the operation of the Public Reference Room by calling the
SEC at 1-800-SEC-0330.  The SEC maintains an Internet site that
contains reports, proxy and information statements, and other information
regarding issuers that file electronically with the SEC on its website at www.sec.gov.  The
Company makes available through its website, www.yourcommunitybank.com,
its annual report on Form 10-K, quarterly reports on Form 10-Q, and current
reports on Form 8-K.
  
 
 Item 1A.  Risk Factors
 
 There are
a number of factors, including those specified below, that may adversely affect
our business, financial results or stock price.  Additional risks that
we currently do not know about or currently view as immaterial may also impair
our business or adversely impact our financial results or stock
price.
 
 As used
in this Item 1A of the Form 10-K, the terms “we”, “us” and “our” refer to Community Bank
Shares of Indiana, Inc., an Indiana corporation and its subsidiaries (unless the
context clearly implies otherwise).
 
 Industry
Risk Factors
 
 Changes in the laws, regulations and
policies governing financial services companies could alter our business
environment and adversely affect our operations.The Board of
Governors of the Federal Reserve System regulates the supply of money and credit
in the United States. Its fiscal and monetary policies determine in a large part
our cost of funds for lending and investing and the return that can be earned on
those loans and investments, both of which affect our net interest margin.
Federal Reserve Board policies can also materially affect the value of financial
instruments that we hold, such as debt securities.
 
 We, along with our subsidiaries, are
heavily regulated at the federal and state levels. This regulation is to protect
depositors, federal deposit insurance funds and the banking system as a
whole.Congress and state legislatures and federal and state
agencies continually review banking laws, regulations and policies for possible
changes. Changes in statutes, regulations or policies could affect us in
substantial and unpredictable ways, including limiting the types of financial
services and products that we offer and/or increasing the ability of non-banks
to offer competing financial services and products. We cannot predict whether
any of this potential legislation will be enacted, and if enacted, the effect
that it or any regulations would have on our financial condition or results of
operations.
 
 The financial services industry is
highly competitive, and competitive pressures could intensify and adversely
affect our financial results.We operate in a highly competitive industry
that could become even more competitive as a result of legislative, regulatory
and technological changes and continued consolidation. We compete with other
commercial banks, savings and loan associations, mutual savings banks, finance
companies, mortgage banking companies, credit unions and investment companies.
In addition, technology has lowered barriers to entry and made it possible for
non-banks to offer products and services traditionally provided by banks. Many
of our competitors have fewer regulatory constraints and some have lower cost
structures. Also, the potential need to adapt to industry changes in information
technology systems, on which we and the financial services industry are highly
dependent, could present operational issues and require capital
spending.
 
 Changes in consumer use of banks and
changes in consumer spending and saving habits could adversely affect our
financial results.Technology and other changes now allow many
consumers to complete financial transactions without using banks. For example,
consumers can pay bills and transfer funds directly without going through a
bank. This “disintermediation” could result in the loss of fee income, as well
as the loss of customer deposits and income generated from those deposits. In
addition, changes in consumer spending and saving habits could adversely affect
our operations, and we may be unable to timely develop competitive new products
and services in response to these changes that are accepted by new and existing
customers.
 
 Risks associated with unpredictable
economic and political conditions may be amplified as a result of our limited
market area.Commercial banks and other financial institutions are
affected by economic and political conditions, both domestic and international,
and by governmental monetary policies. Conditions such as inflation, value of
the dollar, recession, unemployment, high interest rates, short money supply,
scarce natural resources, international disorders, terrorism and other factors
beyond our control may adversely affect profitability. In addition, almost all
of our primary business area is located in Southern Indiana and Jefferson
County, Kentucky. A significant downturn in this regional economy may result in,
among other things, deterioration in our credit quality or a reduced demand for
credit and may harm the financial stability of our customers. Due to the
regional market area, these negative conditions may have a more noticeable
effect on us than would be experienced by an institution with a larger, more
diverse market area.
 
 
 
 10
 Index
 Changes in the domestic interest
rate environment could reduce our net interest income.Interest rate volatility
could significantly harm our business. Our results of operations are affected by
the monetary and fiscal policies of the federal government and the regulatory
policies of governmental authorities. A significant component of earnings is net
interest income, which is the difference between the income from
interest-earning assets, such as loans, and the expense of interest-bearing
liabilities, such as deposits. A change in market interest rates could adversely
affect earnings if market interest rates change such that the interest we pay on
deposits and borrowings increases faster than the interest we collect on loans
and investments. Consequently, along with other financial institutions
generally, we are sensitive to interest rate fluctuations.
 
 Company
Risk Factors
 
 Our allowance for loan losses may
not be adequate to cover actual losses.  Like all financial
institutions, we maintain an allowance for loan losses to provide for loan
defaults and non-performance. Our allowance for loan losses is based on our
historical loss experience as well as an evaluation of the risks associated with
our loan portfolio, including the size and composition of the loan portfolio,
loan portfolio performance, current economic conditions and geographic
concentrations within the portfolio. Our allowance for loan losses may not be
adequate to cover actual loan losses, and future provisions for loan losses
could materially and adversely affect its financial results.
 
 We may suffer losses in our loan
portfolio despite our underwriting practices.Our results of
operations are significantly affected by the ability of borrowers to repay their
loans. Lending money is an essential part of the banking business. However,
borrowers do not always repay their loans. The risk of non-payment is
historically small, but if nonpayment levels are greater than anticipated, our
earnings and overall financial condition, as well as the value of our common
stock, could be adversely affected. No assurance can be given that our
underwriting practices or monitoring procedures and policies will reduce certain
lending risks.   Loan losses can cause insolvency and failure of
a financial institution and, in such an event, our stockholders could lose their
entire investment. In addition, future provisions for loan losses could
materially and adversely affect profitability. Furthermore, the application of
various federal and state laws, including bankruptcy and insolvency laws, may
limit the amount that can be recovered on these loans.
 
 Maintaining or increasing our market
share may depend on lowering prices and market acceptance of new products and
services. Our success depends, in part, on our ability to adapt our
products and services to evolving industry standards. There is increasing
pressure to provide products and services at lower prices. Lower prices can
reduce our net interest margin and revenues from our fee-based products and
services. In addition, the widespread adoption of new technologies, including
internet services, could require us to make substantial expenditures to modify
or adapt our existing products and services. Also, these and other capital
investments in our businesses may not produce expected growth in earnings
anticipated at the time of the expenditure. We might not be successful in
introducing new products and services, achieving market acceptance of its
products and services, or developing and maintaining loyal
customers.
 
 Because the nature
of the financial services business involves a high volume of transactions, we
face significant operational risks.   Operational risk is
the risk of loss resulting from our operations, including, but not limited to,
the risk of fraud by employees or persons outside of the Company, the execution
of unauthorized transactions by employees, errors relating to transaction
processing and technology, breaches of the internal control system and
compliance requirements and business continuation and disaster recovery. This
risk of loss also includes the potential legal actions that could arise as a
result of an operational deficiency or as a result of noncompliance with
applicable regulatory standards, adverse business decisions or their
implementation, and customer attrition due to potential negative publicity. In
the event of a breakdown in the internal control system, improper operation of
systems or improper employee actions, we could suffer financial loss, face
regulatory action and suffer damage to its reputation.
 
 Acquisitions and the addition of
branch facilities may not produce revenue enhancements or cost savings at levels
or within timeframes originally anticipated and may result in unforeseen
integration difficulties.We regularly explore
opportunities to establish branch facilities and acquire other banks or
financial institutions.  New or acquired branch facilities and other
facilities may not be profitable. We may not be able to correctly identify
profitable locations for new branches. The costs to start up new branch
facilities or to acquire existing branches, and the additional costs to operate
these facilities, may increase our noninterest expense and decrease earnings in
the short term. It may be difficult to adequately and profitably manage growth
through the establishment of these branches. In addition, we can provide no
assurance that these branch sites will successfully attract enough deposits to
offset the expenses of operating these branch sites. Any new or acquired
branches will be subject to regulatory approval, and there can be no assurance
that we will succeed in securing such approvals.
 
 We cannot
predict the number, size or timing of acquisitions. Difficulty in integrating an
acquired business or company may cause us not to realize expected revenue
increases, cost savings, increases in geographic or product presence, and/or
other projected benefits from the acquisition. The integration could result in
higher than expected deposit attrition (run-off), loss of key employees,
disruption of our business or the business of the acquired company, or otherwise
adversely affect our ability to maintain relationships with customers and
employees or achieve the anticipated benefits of the acquisition. Also, the
negative effect of any divestitures required by regulatory authorities in
acquisitions or business combinations may be greater than expected.
 
 Our business could suffer if we fail
to attract and retain skilled people.Our
success depends, in large part, on our ability to attract and retain key people.
Competition can be intense for the best people in most activities in which we
engage. We may not be able to hire the best people or to keep
them.
 
 
 11
 Index
 Significant legal actions could
subject us to substantial uninsured liabilities.We are from time
to time subject to claims related to our operations. These claims and legal
actions, including supervisory actions by our regulators, could involve large
monetary claims and significant defense costs. To protect us from the cost of
these claims, we maintain insurance coverage in amounts and with deductibles
that we believe are appropriate for our operations. However, our insurance
coverage may not cover all claims against us or continue to be available to us
at a reasonable cost. As a result, we may be exposed to substantial uninsured
liabilities, which could adversely affect our results of operations and
financial condition.
 
 We are exposed to risk of
environmental liability when we take title to properties.  In
the course of our business, we may foreclose on and take title to real estate.
As a result, we could be subject to environmental liabilities with respect to
these properties. We may be held liable to a governmental entity or to third
parties for property damage, personal injury, investigation and clean-up costs
incurred by these parties in connection with environmental contamination or may
be required to investigate or clean up hazardous or toxic substances or chemical
releases at a property. The costs associated with investigation or remediation
activities could be substantial. In addition, if we are the owner or former
owner of a contaminated site, we may be subject to common law claims by third
parties based on damages and costs resulting from environmental contamination
emanating from the property. If we become subject to significant environmental
liabilities, our financial condition and results of operations could be
adversely affected.





Our stock price can be volatile and
there is a limited trading market for our stock.Our stock price can
fluctuate widely in response to a variety of factors, including:





§
            actual
      or anticipated variations in our quarterly operating
    results;


§
            recommendations
      by securities analysts; acquisitions or business
    combinations;


§
            operating
      and stock price performance of other companies that investors deem
      comparable to us;


§
            new
      technology used or services offered by our
  competitors;


§
            news
      reports relating to trends, concerns and other issues in the financial
      services industry; and


§
            changes
      in government regulations.





General
market fluctuations, industry factors and general economic and political
conditions and events, including terrorist attacks, economic slowdowns or
recessions, interest rate changes, credit loss trends or currency fluctuations,
could also cause our stock price to decrease regardless of our operating
results.
 
 In
addition, there is a limited trading market for our common stock and
shareholders may not be able to resell shares at or above the price paid for
them. The price of the common stock purchased may decrease significantly.
Although our common stock is quoted on the Nasdaq Capital Market under the
symbol "CBIN", trading activity in the stock historically has been sporadic. A
public trading market having the desired characteristics of liquidity and order
depends on the presence in the market of willing buyers and sellers at any given
time. The presence of willing buyers and sellers depends on the individual
decisions of investors and general economic conditions, all of which are beyond
our control.
  Our historical growth rates may not
be sustainable.We
may not be able to maintain and manage our growth, which may adversely affect
our results of operations and financial condition and the value of our common
stock. We cannot assure you that we will continue to be successful in increasing
the volume of loans and deposits at acceptable risk levels and upon acceptable
terms.  Additionally, we may not continue to be successful in
expanding our asset base to a targeted size and managing the costs and
implementation risks associated with our growth strategy. We cannot assure you
that further expansion will be profitable or that our historical rate of growth
will continue to be sustained, either through internal growth or otherwise, or
that capital will be maintained sufficient to support continued growth.
Furthermore, if we grow too quickly and are not able to control costs and
maintain asset quality, rapid growth also could adversely affect our financial
performance.
 
 We rely on dividends from our
subsidiaries for our liquidity needs.  Our holding company
status makes us dependent on dividends from our subsidiaries to meet our
obligations. We do not have any significant assets other than cash and the stock
of our subsidiaries. Accordingly, we depend on dividends from our subsidiaries
(and, in turn, their subsidiaries) to meet our obligations and obtain revenue.
Our right to participate in any distribution of earnings or assets of our
subsidiaries is subject to the prior claims of creditors of our subsidiaries.
Under federal and state law, our subsidiaries are limited in the amount of
dividends they may pay to us without prior regulatory approval. Also, bank
regulators have the authority to prohibit our subsidiaries from paying dividends
if the bank regulators determine the payment would be an unsafe and unsound
banking practice.
 
 Our ability to pay dividends on our
common stock is limited.We
cannot assure you that we will continue to pay dividends at our current annual
dividend rate or at all. In particular, the ability to pay dividends in the
future will depend upon, among other things, our future earnings and cash
requirements.
 
 
 Item 1B.  Unresolved Staff
Comments
 
 This item of Form 10-K is inapplicable
to the Company inasmuch as it is not an accelerated filer or large accelerated
filer, nor is it a well-known seasoned issuer.  Moreover, the Company
has received no written communication from the staff of the SEC regarding its
periodic or current reporting under the Exchange
Act.





12
 Index


Item 2.  Properties


The
Company conducts its business through its corporate headquarters located in New
Albany, Indiana.  YCB operates a main office and eleven branch offices
in Clark and Floyd Counties, Indiana, and six branch offices in Jefferson and
Nelson Counties, Kentucky. SCSB operates a main office and three branch offices
in Scott County, Indiana.  The following table sets forth certain
information concerning the main offices and each branch office at December 31,
2007. The Company’s aggregate net book value of premises and equipment was $15.1
million at December 31, 2007.





Location
            Year
      Opened
            Owned or
      LeasedYour
      Community Bank:101
      West Spring Street - Main Office
            1937
            OwnedNew
      Albany, IN  47150401
      East Spring Street - Drive Thru for Main Office
            2001
            OwnedNew
      Albany, IN  471502626
      Charlestown Road
            1995
            OwnedNew
      Albany, IN  471504328
      Charlestown Road
            2004
            LeasedNew
      Albany, IN 47150480
      New Albany Plaza
            1974
            LeasedNew
      Albany, IN 47130901
      East Highway 131
            1981
            OwnedClarksville,
      IN  47130701
      Highlander Point Drive
            1990
            OwnedFloyds
      Knobs, IN  47119102
      Heritage Square
            1992
            OwnedSellersburg,
      IN  47172201
      W. Court Avenue
            1996
            OwnedJeffersonville,
      IN 47105112
      Highway 62
            1997
            OwnedJeffersonville,
      IN  471302917
      E. 10th
      Street
            2007
            LeasedJeffersonville,
      IN 471302910
      Grantline Road
            2002
            LeasedNew
      Albany, IN  47150400
      Blankenbaker Parkway, Suite 100
            2002
            LeasedLouisville,
      KY 40243106A
      West John Rowan Boulevard. - Main Office
            1997
            LeasedBardstown,
      KY 40004119
      East Stephen Foster Avenue
            1972
            OwnedBardstown,
      KY 400047101
      Cedar Springs
            2002
            LeasedLouisville,
      KY 402914510
      Shelbyville Road
            2003
            LeasedLouisville,
      KY 4020713205
      Magisterial Drive
            2006
            LeasedLouisville,
      KY 40223The
      Scott County State Bank:136
      West McClain Avenue - Main Office
            1890
            OwnedScottsburg,
      IN  47170125
      West Wardell - Drive Thru
            1981
            OwnedScottsburg,
      IN  471701050
      North Gardner
            1974
            OwnedScottsburg,
      IN  4717057
      North Michael Drive
            1998
            OwnedScottsburg,
      IN 47170








13
 Index


Item 3.  Legal Proceedings





There are
various claims and law suits in which the Company or its subsidiaries are
periodically involved, such as claims to enforce liens, foreclosure or
condemnation proceedings on properties in which the Banks hold mortgages or
security interests, claims involving the making and servicing of real property
loans and other issues incident to the Banks’ business. In the opinion of
management, no material loss is expected from any of such pending claims or
lawsuits with the possible exception of the following matter.





YCB made
loans to MW Development Services, LLC (“Borrower”) beginning in September, 2004,
guaranteed by the Borrower’s two principals.  The loans were to enable
the Borrower to purchase real estate and develop it for sale as residential
subdivision lots.  The loans are secured by first and second mortgage
liens in favor of YCB on the real property that was acquired.





The
development project is incomplete, but there is no additional borrowing
available from YCB.  The total amount owed to YCB on the loans was
approximately $4,028,106 as of December 27, 2005 (including principal and
interest but not late fees or attorney fees).  The loans are in
default on grounds including the Borrower’s failure to pay interest, the filing
of numerous mechanics’ and material men’s liens against the property and the
filing by the lien claimant, D.F. Crane Construction Corp. (“Crane”) of a
foreclosure action on its lien in the Jefferson Circuit Court (Commonwealth of
Kentucky).  Along with the Borrower, YCB has been named as a defendant
in that action for the purpose of asserting its lien
position.  Crane’s action and the cross-claim of another lien claimant
each alleged that it should be adjudicated a first lien but originally did not
otherwise assert any claims or seek any other relief against YCB.





In 2006
YCB settled with the Borrower and the guarantors (retaining the right to enforce
the mortgages against the property).  Also during 2006, Crane amended
its complaint to state claims against YCB.  Crane alleges causes of
action against YCB based on claims that YCB misrepresented or failed to disclose
matters concerning this credit facility that caused Crane to extend more credit
to the Borrower than it would have done otherwise.  Crane alleges a
damages claim against YCB in an unstated amount and seeks the subordination of
YCB’s mortgages to Crane’s lien claim, which is in the principal amount of
$499,024.73 plus interest and fees the amounts of which have not yet been
determined.  YCB and Crane are currently in settlement negotiations
and have reached a tentative settlement agreement.  The Company has
accrued $200,000 as of December 31, 2007 for the probable settlement with
Crane.





Item
4.  Submission Of Matters To A Vote Of Security
Holders





No matter
was submitted to a vote of security holders, through the solicitation of proxies
or otherwise, during the quarter ended December 31, 2007.

















14
 Index


Part
II


Item
5.  Market For Registrant’s Common Equity, Related Stockholder Matters
And Issuer Purchases of Equity Securities
 
 Market
Information
 The
Company’s common stock is traded on the Nasdaq National Market under the symbol
“CBIN”.  The quarterly range of low and high trade prices per share of
the Company’s common stock for the periods indicated as reported on the Nasdaq
National Market, as well as the per share dividend paid in each such quarter by
the Company on its common stock is shown below.
  2007
                
                2006QUARTER ENDED
                
                HIGH
                
                
                LOW
                
                
                DIVIDEND
                
                QUARTER ENDED
                
                HIGH
                
                
                LOW
                
                
                DIVIDENDMarch
      31
                
                $
                22.99
                
                
                $
                21.44
                
                
                $
                0.160
                
                March
      31
                
                $
                23.74
                
                
                $
                22.00
                
                
                $
                0.160June
      30
                
                
                21.85
                
                
                
                19.74
                
                
                
                0.175
                
                June
      30
                
                
                23.45
                
                
                
                21.05
                
                
                
                0.160September
      30
                
                
                21.45
                
                
                
                19.25
                
                
                
                0.175
                
                September
      30
                
                
                22.87
                
                
                
                21.05
                
                
                
                0.160December
      31
                
                
                21.35
                
                
                
                17.30
                
                
                
                0.175
                
                December
      31
                
                
                23.67
                
                
                
                21.76
                
                
                
                0.160
  
 Holders
 As of
March 13, 2008 there were 881 holders of the Company’s common
stock.
 
 Dividends
 The
Company intends to continue its historical practice of paying quarterly cash
dividends although there is no assurance that such dividends will continue to be
paid in the future.  The payment of dividends in the future is
dependent on future income, financial position, capital requirements, the
discretion and judgment of the Board of Directors, and other
considerations.  In addition, the payment of dividends is subject to
the regulatory restrictions described in Note 14 to the Company's consolidated
financial statements.
 
 
 Securities
Authorized for Issuance under Equity Compensation Plans
 The
following table sets forth certain information regarding Company compensation
plans under which equity securities of the Company are authorized for
issuance.
 
 Plan Category
                
                Number
      of Securities
                  to
      be Issued Upon Exercise of
                  Outstanding
      Options,
                  Warrants and Rights
                
                
                Weighted-Average
                  Exercise
      Price of
                  Outstanding
      Options,
                  Warrants and Rights
                
                
                Number
      of Securities
                  Remaining
      Available for
                  Future
      Issuance under
                  equity
      compensation plans
                  (excluding
      securities
                  reflected in column 1)Equity
      compensation plans approved by
                  security
      holders
                
                
                319,885
                (1)
                
                $
                20.40
                
                
                
                461,050
                (2)Equity
      compensation plans not approved
                  by
      security holders
                
                
                -
                
                
                
                -
                
                
                
                -Total
                
                
                319,885
                (1)
                
                $
                20.40
                
                
                
                461,050
                (2)
 
 
 (1) Of
the shares reflected, 301,360 shares have been granted under the Company’s Stock
Award Plan and 28,500 performance units have been granted under the Company’s
Performance Units Plan of which 18,525, or 65%, will be paid in shares (see Note
12 of the Company’s consolidated financial statements for further information on
the Company’s Performance Units Plan).
 (2) Of
the shares reflected, 212,050 shares are available to be awarded under the
Company’s Stock Award Plan and 249,000 shares are available to be awarded under
the Company’s Performance Units Plan.


15
 Index


Performance
Graph





The
following performance graph and data included shall not be deemed filed for
purposes of Section 18 of the Securities Exchange Act of 1934 or otherwise
subject to the liabilities of that section, nor shall it be deemed soliciting
material or subject to Regulation 14A of the Exchange Act or incorporated by
reference in any filing under the Exchange Act or the Securities Act of 1933,
except as shall be expressly set forth by specific reference in such
filing.





The graph
compares the performance of Community Bank Shares of Indiana, Inc. common stock
to the Russell 2000 index and the SNL Bank $500 MM - $1 B Bank index for the
Company’s last five fiscal years.  The graph assumes the value of the
investment in Company common stock and in each index was $100 at December 31,
2002 and that all dividends were reinvested.











Period
      EndingIndex
            
            12/31/02
            
            
            12/31/03
            
            
            12/31/04
            
            
            12/31/05
            
            
            12/31/06
            
            
            12/31/07Community
      Bank Shares of Indiana, Inc.
            
            
            100.00
            
            
            
            150.41
            
            
            
            163.67
            
            
            
            178.89
            
            
            
            181.64
            
            
            
            148.35Russell
      2000
            
            
            100.00
            
            
            
            147.25
            
            
            
            174.24
            
            
            
            182.18
            
            
            
            215.64
            
            
            
            212.26SNL
      Bank $500M-$1B Index
            
            
            100.00
            
            
            
            144.19
            
            
            
            163.41
            
            
            
            170.41
            
            
            
            193.81
            
            
            
            155.31





16
 Index


Item 6.  Selected Financial
Data




The
following table sets forth the Company’s selected historical consolidated
financial information from 2003 through 2007.  This information should
be read in conjunction with the Consolidated Financial Statements and the
related Notes.  Factors affecting the comparability of certain
indicated periods are discussed in "Management’s Discussion And Analysis Of
Financial Condition And Results Of Operations."  For analytical
purposes, net interest margin is adjusted to a taxable equivalent adjustment
basis to recognize the income tax savings on tax-exempt assets, such as state
and municipal securities.  A tax rate of 34% was used in adjusting
interest on tax-exempt assets to a fully taxable equivalent (“FTE”)
basis.





Years Ended December 31,(Dollars in thousands, except per share
      data)
            
            2007
            
            
            2006
            
            
            2005
            
            
            2004
            
            
            2003Income
      Statement Data:Interest
      income
            
            $
            50,762
            
            
            $
            46,033
            
            
            $
            35,058
            
            
            $
            27,786
            
            
            $
            25,252Interest
      expense
            
            
            28,395
            
            
            
            25,995
            
            
            
            17,344
            
            
            
            12,796
            
            
            
            11,675Net
      interest income
            
            
            22,367
            
            
            
            20,038
            
            
            
            17,714
            
            
            
            14,990
            
            
            
            13,577Provision
      for loan losses
            
            
            1,296
            
            
            
            262
            
            
            
            1,750
            
            
            
            1,105
            
            
            
            1,274Non-interest
      income
            
            
            5,141
            
            
            
            4,794
            
            
            
            4,865
            
            
            
            3,271
            
            
            
            3,684Non-interest
      expense
            
            
            21,804
            
            
            
            19,116
            
            
            
            16,155
            
            
            
            13,903
            
            
            
            13,104Income
      before taxes
            
            
            4,408
            
            
            
            5,454
            
            
            
            4,674
            
            
            
            3,253
            
            
            
            2,883Net
      income
            
            
            3,503
            
            
            
            4,111
            
            
            
            3,749
            
            
            
            2,588
            
            
            
            2,302Balance
      Sheet Data:Total
      assets
            
            $
            823,568
            
            
            $
            816,633
            
            
            $
            665,008
            
            
            $
            590,066
            
            
            $
            521,315Total
      securities
            
            
            99,465
            
            
            
            121,311
            
            
            
            98,835
            
            
            
            90,152
            
            
            
            83,143Total
      loans, net
            
            
            629,732
            
            
            
            607,932
            
            
            
            512,448
            
            
            
            450,676
            
            
            
            390,026Allowance
      for loan losses
            
            
            6,316
            
            
            
            5,654
            
            
            
            5,920
            
            
            
            4,523
            
            
            
            4,034Total
      deposits
            
            
            573,346
            
            
            
            549,918
            
            
            
            464,836
            
            
            
            411,306
            
            
            
            341,315Other
      borrowings
            
            
            72,796
            
            
            
            84,335
            
            
            
            47,735
            
            
            
            43,629
            
            
            
            45,325FHLB
      advances
            
            
            91,376
            
            
            
            92,756
            
            
            
            98,000
            
            
            
            82,000
            
            
            
            90,200Subordinated
      debenture
            
            
            17,000
            
            
            
            17,000
            
            
            
            7,000
            
            
            
            7,000
            
            
            
            -Total
      shareholders’ equity
            
            
            64,465
            
            
            
            65,541
            
            
            
            42,775
            
            
            
            42,781
            
            
            
            42,289Per
      Share Data:Basic
      earnings per share*
            
            $
            1.05
            
            
            $
            1.36
            
            
            $
            1.43
            
            
            $
            0.98
            
            
            $
            0.88Diluted
      earnings per share*
            
            
            1.04
            
            
            
            1.35
            
            
            
            1.41
            
            
            
            0.97
            
            
            
            0.87Book
      value*
            
            
            19.77
            
            
            
            19.06
            
            
            
            16.42
            
            
            
            16.27
            
            
            
            16.13Cash
      dividends per share*
            
            
            0.685
            
            
            
            0.640
            
            
            
            0.580
            
            
            
            0.540
            
            
            
            0.530Performance
      Ratios:Return
      on average assets
            
            
            0.43
            %
            
            
            0.55
            %
            
            
            0.59
            %
            
            
            0.47
            %
            
            
            0.47
            %Return
      on average equity
            
            
            5.39
            
            
            
            7.73
            
            
            
            8.68
            
            
            
            6.10
            
            
            
            5.37Net
      interest margin
            
            
            3.03
            
            
            
            2.89
            
            
            
            3.00
            
            
            
            2.93
            
            
            
            3.02Efficiency
      ratio
            
            
            79.26
            
            
            
            76.98
            
            
            
            71.55
            
            
            
            76.13
            
            
            
            75.92Asset
      Quality Ratios:Non-performing
      assets to total loans
            
            
            1.88
            %
            
            
            0.98
            %
            
            
            1.08
            %
            
            
            0.37
            %
            
            
            0.61
            %Net
      loan charge-offs to average loans
            
            
            0.10
            
            
            
            0.22
            
            
            
            0.07
            
            
            
            0.15
            
            
            
            0.29Allowance
      for loan losses to total loans
            
            
            0.99
            
            
            
            0.92
            
            
            
            1.14
            
            
            
            0.99
            
            
            
            1.02Allowance
      for loan losses to
              non-performing
      loans
            
            
            56
            
            
            
            102
            
            
            
            108
            
            
            
            285
            
            
            
            223Capital
      Ratios:Leverage
      ratio
            
            
            8.0
            %
            
            
            8.1
            %
            
            
            8.0
            %
            
            
            8.7
            %
            
            
            8.3
            %Average
      stockholders’ equity to average
              total
      assets
            
            
            8.0
            
            
            
            7.1
            
            
            
            6.8
            
            
            
            7.7
            
            
            
            8.7Tier
      1 risk-based capital ratio
            
            
            9.9
            
            
            
            10.5
            
            
            
            9.5
            
            
            
            10.4
            
            
            
            10.4Total
      risk-based capital ratio
            
            
            10.9
            
            
            
            11.4
            
            
            
            10.5
            
            
            
            11.3
            
            
            
            11.4Dividend
      payout ratio
            
            
            65.6
            
            
            
            46.7
            
            
            
            40.5
            
            
            
            54.8
            
            
            
            59.8Other
      Key Data:End-of-period
      full-time equivalent
              employees
            
            
            232
            
            
            
            224
            
            
            
            182
            
            
            
            169
            
            
            
            154Number
      of bank offices
            
            
            22
            
            
            
            21
            
            
            
            16
            
            
            
            16
            
            
            
            15





*
2003 has been restated to reflect a 10% stock dividend paid on December 27,
2004










17
 Index


Item 7.  Management’s Discussion And Analysis Of
Financial Condition And Results of Operations





Overview





This
section presents an analysis of the consolidated financial condition of the
Company and its wholly-owned subsidiaries, the Banks, at December 31, 2007 and
2006, and the consolidated results of operations for each of the years in the
three year period ended December 31, 2007.  The information contained
in this section should be read in conjunction with the consolidated financial
statements, notes to consolidated financial statements and other financial data
presented elsewhere in this annual report on Form 10-K.





The
Company conducts its primary business through the Banks, which are
community-oriented financial institutions offering a variety of financial
services to its local communities.  The Banks are engaged primarily in
the business of attracting deposits from the general public and using such funds
for the origination of: 1) commercial business and real estate loans and 2)
secured consumer loans such as home equity lines of credit, automobile loans,
and recreational vehicle loans.  Additionally, YCB originates and
sells into the secondary market mortgage loans for the purchase of single-family
homes in Floyd and Clark counties, Indiana, and Jefferson and Nelson counties,
Kentucky, including surrounding communities.  The Banks invest excess
liquidity balances in mortgage-backed, U.S. agency, state and municipal and
corporate securities.





The
operating results of the Company depend primarily upon the Banks’ net interest
income, which is the difference between interest earned on interest-earning
assets and interest incurred on interest-bearing
liabilities.  Interest-earning assets principally consist of loans,
taxable and tax-exempt securities, and FHLB stock.  Interest-bearing
liabilities principally include deposits, retail repurchase agreements, federal
funds purchased, and advances from the FHLB Indianapolis and
Cincinnati.  The net income of the Banks is also affected by 1)
provision for loan losses, 2) non-interest income (including gains on sales of
loans and securities, deposit account service charges and commission-based
income on non-deposit investment products), 3) non-interest expenses (including
compensation and benefits, occupancy, equipment, data processing expenses,
marketing and advertising, and other expenses, such as audit, postage, printing,
and telephone expenses), and 4) income tax expense.





Forward
Looking Information





Statements
contained within this report that are not statements of historical fact
constitute forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934.  When used in this discussion the
words "anticipate,"  "project,"  "expect," "believe," and
similar expressions are intended to identify forward-looking
statements.  The Company cautions that these forward-looking
statements are subject to numerous assumptions, risks and uncertainties, all of
which may change over time.  Actual results could differ materially
from forward-looking statements.





In
addition to factors disclosed by the Company elsewhere in this annual report on
Form 10-K, the following factors, among others, could cause actual results to
differ materially from such forward-looking statements: 1) adverse changes in
economic conditions affecting the banking industry in general and, more
specifically, the market areas in which the Company and its subsidiary Banks
operate, 2) adverse changes in the legislative and regulatory environment
affecting the Company and its subsidiary Banks, 3) increased competition from
other financial and non-financial institutions, 4) the impact of technological
advances on the banking industry, and 5) other risks detailed at times in the
Company’s filings with the Securities and Exchange Commission.  The
Company does not assume an obligation to update or revise any forward-looking
statements subsequent to the date on which they are made.





Application
of Critical Accounting Policies





The
Company's consolidated financial statements are prepared in accordance with U.S.
generally accepted accounting principles and follow general practices within the
financial services industry. The most significant accounting policies followed
by the Company are presented in Note 1 to the Consolidated Financial Statements.
These policies, along with the disclosures presented in the other financial
statement notes and in this financial review, provide information on how
significant assets and liabilities are valued in the financial statements and
how those values are determined. Based on the valuation techniques used and the
sensitivity of financial statement amounts to the methods, assumptions, and
estimates underlying those amounts, management has identified the determination
of the allowance for loan losses, valuation of goodwill and other intangible
assets and deferred tax assets to be the accounting areas that require the most
subjective or complex judgments, and as such could be most subject to revision
as new information becomes available.





Allowance
For Loan Losses





The
allowance for loan losses represents management's estimate of probable credit
losses inherent in the loan portfolio. Determining the amount of the allowance
for loan losses is considered a critical accounting estimate because it requires
significant judgment and the use of estimates related to the amount and timing
of expected future cash flows on impaired loans, estimated losses on loans based
on historical loss experience, and consideration of current economic trends and
conditions, all of which may be susceptible to significant change. The loan
portfolio also represents the largest asset type on the consolidated balance
sheet. Note 1 to the Consolidated Financial Statements describes the methodology
used to determine the allowance for loan losses, and a discussion of the factors
driving changes in the amount of the allowance for loan losses is included under
"Asset Quality" below.





18
 Index


Loans
that exhibit probable or observed credit weaknesses are subject to individual
review. Where appropriate, amounts of allowances are allocated to individual
loans based on management's estimate of the borrower's ability to repay the loan
given the availability of collateral, other sources of cash flow and legal
options available to the Company. Included in the review of individual loans are
those that are impaired as provided in SFAS No. 114, "Accounting by Creditors
for Impairment of a Loan." The Company evaluates the collectibility of both
principal and interest when assessing the need for a loss accrual. Historical
loss rates are applied to other loans not subject to allowance allocations.
These historical loss rates may be adjusted for significant factors that, in
management's judgment, reflect the impact of any current conditions on loss
recognition. Factors which management considers in the analysis include the
effects of the national and local economies, trends in the nature and volume of
loans (delinquencies, charge-offs and nonaccrual loans), changes in mix, asset
quality trends, risk management and loan administration, changes in internal
lending policies and credit standards, and examination results from bank
regulatory agencies and the Company's internal credit examiners.





The
Company has not substantively changed any aspect to its overall approach in the
determination of the allowance for loan losses. There have been no material
changes in assumptions or estimation techniques as compared to prior periods
that impacted the determination of the current period allowance.





Based on
the procedures discussed above, management is of the opinion that the allowance
of $6.3 million was adequate to address probable incurred credit losses
associated with the loan portfolio at December 31, 2007.





Goodwill
and Other Intangible Assets





The
Company has a recorded balance of $15.3 million of goodwill and $2.9 million of
other intangible assets at December 31, 2007 in association with its acquisition
of SCSB in 2006.  The Company is required to perform an annual
assessment of goodwill and other intangible assets to determine potential
impairment.  Also, management, on an on-going
basis, informally reviews and analyzes certain transactions or events
that may indicate potential impairment of goodwill and other intangible assets
throughout the year.  The analysis and determination of potential
impairment and the identification of relevant factors and events indicating
potential impairment require a high degree of judgment from
management.  The Company performed a formal assessment of goodwill and
other intangible assets in the 4th quarter
of the 2007 which indicated that goodwill and intangible assets were not
impaired.  Also, no other events were identified in 2007 which caused
us to believe that goodwill or intangible assets were impaired.





Deferred
Tax Assets





The
Company has a net deferred tax asset of approximately $187,000. The Company
evaluates this asset on a quarterly basis. To the extent the Company believes it
is more likely than not that it will not be utilized, the Company will establish
a valuation allowance to reduce its carrying amount to the amount it expects to
be realized. At December 31, 2007, a valuation allowance of $422,000 has been
established against the outstanding deferred tax asset. Note 13 to the
Consolidated Financial Statements describes the net deferred tax asset. The
deferred tax asset will be utilized as the Company is profitable or as the
Company carries back tax losses to periods in which it paid income taxes. The
estimate of the realizable amount of this asset is a critical accounting
policy.





Highlights





The
Company earned net income of $3.5 million for the year ended December 31, 2007
as compared to $4.1 million for 2006, a decrease of 14.8%.  The
decrease in net income was primarily due to an increase in the provision for
loan losses of $1.0 million as management increased the allowance for loans
losses in response to an increase in the Company’s classified loans, downgrades
in certain large credits, and observed market and economic
conditions.  Also impacting 2007 was an increase in non-interest
expenses of $2.7 million to $21.8 million during 2007 as compared to $19.1
million for 2006 due mostly to the acquisition of SCSB on July 1, 2006; the
Company incurred twelve months of expense in 2007 related to SCSB as opposed to
six months in 2006.  The increases in provision for loans losses and
non-interest expense were offset by an increase in net interest income of $2.3
million, or 11.6%, an increase in non-interest income of $347,000, and a
decrease in the provision for income taxes of $438,000.  The Company’s
book value per common share increased to $19.77 per share at December 31, 2007
from $19.06 per share at December 31, 2006.





The
following table summarizes selected financial information regarding the
Company's financial performance:





Table
1 – Summary




For
      the Year Ended December 31,(Dollars in thousands, except per share
      amounts)
            
            2007
            
            
            2006
            
            
            2005Net
      income
            
            $
            3,503
            
            
            $
            4,111
            
            
            $
            3,749Basic
      earnings per share
            
            
            1.05
            
            
            
            1.36
            
            
            
            1.43Diluted
      earnings per share
            
            
            1.04
            
            
            
            1.35
            
            
            
            1.41Return
      on average assets
            
            
            0.43
            %
            
            
            0.55
            %
            
            
            0.59
            %Return
      on average equity
            
            
            5.39
            
            
            
            7.73
            
            
            
            8.68








19
 Index


The
Company’s total assets increased by 0.8% to $823.6 million at December 31, 2007
from $816.6 million as of the same date in 2006 primarily due to increases in
net loans of $21.8 million and interest bearing deposits of $18.4 million,
offset by decreases in securities available for sale of $21.8 million and cash
and due from financial institutions of $5.7 million.  Total deposits
increased by $23.4 million to $573.3 million as of December 31, 2007 from $549.9
million as of December 31, 2006 with $18.4 million of the increase attributable
to interest-bearing deposits.  Other borrowings and FHLB advances
decreased by 13.7% and 1.5% to $72.8 million and $91.4 million, respectively, as
of the end of the year 2007 as compared to $84.3 million and $92.8 million as of
the same date in 2006.  Total shareholders’ equity decreased by $1.1
million due primarily to the purchase of 186,090 shares of the Company’s stock
for an aggregate price of $3.9 million, offset by an increase in retained
earnings of $1.2 million and a decrease in accumulated other comprehensive loss
of $1.5 million.





Results
of Operations





Net
Interest Income





The
Company’s principal revenue source is net interest income.  Net
interest income is the difference between interest income on interest-earning
assets, such as loans and securities, and the interest expense on the
liabilities used to fund those assets, such as interest-bearing deposits and
borrowings.  Net interest income is impacted by both changes in the
amount and composition of interest-earning assets and interest-bearing
liabilities as well as changes in market interest rates.





Net
interest income increased by $2.3 million, or 11.6%, to $22.4 million for the
twelve months ended December 31, 2007 from $20.0 million for the same period in
2006 due primarily to the acquisition of SCSB on July 1, 2006.  Net
interest margin on a taxable equivalent basis increased by 14 bps to 3.03% for
the year ended 2007 as compared to 2.89% for the same period in
2006.  The increase in net interest margin was driven primarily by an
increase in the yield on interest earning assets, which increased by 23 bps to
6.82% on a fully taxable equivalent basis for the year ended December 31, 2007
from 6.59% for the year ended December 31, 2006.  Most of the increase
in yield on interest earning assets was due to the increase in yield on the
Company’s loan portfolio.  The cost on interest bearing liabilities
increased by 17 bps to 4.29% for the twelve months ended 2007 from 4.12% for the
same period in 2006 due to an increase in the average rate on time
deposits.  Also impacting net interest income was the interest expense
recognized on the Company’s interest rate swaps of $1.0 million for the year
ended December 31, 2007 which decreased by $47,000 from $1.1 million for the
year ended December 31, 2006.  The Company anticipates the interest
expense recognized on interest rate swaps to decrease substantially in 2008 as
one of the swaps matured in June 2007 and the other is scheduled to mature in
June of 2008 (See Note 15 to the Consolidated Financial
Statements).





Average
interest earning assets increased by 6.5% from $702.2 million for 2006 to $748.1
million for 2007.  The increase in interest earning assets was
primarily due to an increase in average loans of $50.9 million as a result of
the acquisition of SCSB on July 1, 2006 and an increase in the Company’s loan
portfolio during 2007 of $22.5 million.  The yield on the Company’s
loan portfolio increased to 7.19% for the twelve months ended 2007 from 7.01%
for the same period in 2006.  Management attributes the increase in
loan yield to a continued focus on enhancing the net interest margin through
profitable growth in the Company’s loan portfolio and an emphasis on increasing
current and existing customer profitability through evaluation of the entire
relationship, including deposits.  The yield on average earning assets
was also impacted by an increase in the yield on taxable securities of 29 bps
from 4.50% for the year ended 2006 to 4.79% in 2007.  The increase in
the yield on taxable securities was due to maturities and sales of lower
yielding U.S Government and federal agency securities during the
year.  Offsetting the increase in yield on interest earning assets was
a decrease in the fully taxable equivalent yield of tax-exempt securities to
6.69% for the year ended December 31, 2007 from 7.51% for the year ended
December 31, 2006.  Management attributes the decrease to maturities
of higher yielding tax-exempt securities replaced with lower yielding tax-exempt
securities.





In 2007,
average interest bearing liabilities increased by 5.0% to $662.4 million from
$630.7 million in 2006.  The increase in average interest bearing
liabilities was primarily due to an increase in time deposits which increased to
$273.1 million for the year ended December 31, 2007 from $249.0 million for the
year ended December 31, 2006 with the average rate increasing to 4.83% from
4.36% over the same period.  The increase in the average rate of time
deposits was the result of management’s efforts to maintain and increase the
Company’s deposit base in a competitive local market.  The Company was
able to decrease its cost on other borrowings to 4.43% for the twelve months
ended in 2007 from 4.76% for the same period in 2006 by obtaining a $9.8 million
structured repurchase agreement entered into in the fourth quarter of 2007 that
currently has a yield of 2.79%.  Also contributing to the reduction in
the average rate of other borrowings was a decrease in the average rate paid on
the Company’s repurchase agreements from 4.84% for 2006 to 3.36% for 2007 and a
decrease in the federal funds rate of 100 bps during 2007.  The
increase in the net interest margin on a fully taxable equivalent basis in 2007
was further enhanced by an increase in average non-interest bearing deposits of
$18.7 million, or 30.1%, to $80.8 million for 2007 from $62.1 million for 2006
due to the acquisition of SCSB on July 1, 2006 and a focused effort to increase
non-interest bearing deposits through employee incentives, increased deposit
product offerings including remote deposit capture and lockbox, and
cross-selling of current and prospective loan customers.





20
 Index


Net
interest income increased $2.3 million, or 13.1%, to $20.0 million for 2006
compared to $17.7 million in 2005.  The increase in net interest
income is primarily attributable to the Company’s acquisition of SCSB which
provided net interest income of $3.0 million in 2006.  Excluding net
interest income from SCSB, net interest income decreased by $659,000 from 2005
and was impacted by an increase in interest expense recognized on the Company’s
interest rate swaps from $163,000 recognized during 2005 to $1.1 million in 2006
(See Note 15 to the Consolidated Financial Statements). The Company’s net
interest rate spread decreased to 2.47% for 2006 from 2.69% in 2005, and its net
interest margin decreased to 2.89% for 2006 from 3.00% in 2005 due to the
increase in interest expense associated with the Company’s interest rate
swaps.  The acquisition of SCSB had a positive impact on the Company’s
yields on interest earning assets and interest bearing
liabilities.  The average yield (on an annualized basis) for loans was
7.95%, 4.98% for investment securities, and 7.16% for total interest earning
assets of SCSB while the average yield on savings accounts was 1.12%, 4.98% for
time deposits greater than $100,000, 3.70% for other time deposits, 5.15% for
FHLB advances, and 2.97% for total interest-bearing liabilities.





Average
interest-earning assets increased 18.0% during 2006 to $702.2 million, compared
to a 14.8% increase during 2005.  The increase in 2006 was primarily
due to the acquisition of SCSB; excluding SCSB, growth in earning assets was
minimal.  As a result of the acquisition, the composition of the
Company’s loan portfolio mix changed resulting in a higher percentage of
residential real estate and consumer loans than in 2005.  Average
loans grew $81.9 million or 16.6% to $575.1 million in 2006, while the loan
yield increased to 7.01%, compared to 6.28% for 2005, primarily due to several
prime rate increases throughout the year that raised yields on portfolio loans
indexed to the prime rate, offset by $1.1 million of interest expense (when
recorded, netted against loan interest income) associated with the Company’s
interest rate swaps.  Excluding the acquisition of SCSB, the Company’s
loan growth slowed in 2006 as compared to 2005, as management focused on
improving the net interest margin.  In 2007, the Company anticipates
measured growth within its loan portfolio due to increased deposit product
offerings targeted towards small businesses and a more focused marketing and
sales strategy.





Average
interest-bearing liabilities grew $93.8 million to $630.7 million, an increase
of 17.5% from 2005, while the cost of interest-bearing liabilities increased to
4.12% for 2006 from 3.23% in 2005.  The increase in average
interest-bearing liabilities was primarily attributable to the acquisition of
SCSB which accounted for $90.7 million in growth from 2005 in addition to a
$10.0 million placement of trust preferred securities in June 2006 (see Note 10
of the Company’s consolidated financial statements), and an increase in
short-term borrowings of $36.6 million.  The increase in short-term
borrowings was mostly comprised of federal funds purchased of $32.7 million to
meet short-term liquidity needs due to maturing FHLB advances and $3.5 million
of borrowings on the Company’s line of credit to fund a portion of the
acquisition SCSB along with the associated costs.














21
 Index


Table 2
provides detailed information as to average balances, interest income/expense,
and rates by major balance sheet category for 2005 through 2007.


Table
2 - Average Balance Sheets and Rates for Years Ended 2007, 2006 and
2005
 
 For
analytical purposes, net interest margin and net interest spread are adjusted to
a taxable equivalent adjustment basis to recognize the income tax savings on
tax-exempt assets, such as state and municipal securities.  A tax rate
of 34% was used in adjusting interest on tax-exempt assets to a fully taxable
equivalent (“FTE”) basis.
 
 
 2007
              
              
              2006
              
              
              2005(Dollars
      in thousands)
              
              Average
                Balance
              
              
              Interest
              
              
              Average
                Rate
              
              
              Average
                Balance
              
              
              Interest
              
              
              Average
                Rate
              
              
              Average
                Balance
              
              
              Interest
              
              
              Average
                RateASSETSEarning
      assets:Interest-bearing
      deposits with banks
              
              $
              4,279
              
              
              $
              144
              
              
              
              3.37
              %
              
              $
              4,365
              
              
              $
              132
              
              
              
              3.02
              %
              
              $
              2,614
              
              
              $
              58
              
              
              
              2.22
              %Taxable
      securities
              
              
              98,342
              
              
              
              4,711
              
              
              
              4.79
              
              
              
              105,287
              
              
              
              4,738
              
              
              
              4.50
              
              
              
              85,025
              
              
              
              3,352
              
              
              
              3.94Tax-exempt
      securities
              
              
              11,546
              
              
              
              773
              
              
              
              6.69
              
              
              
              9,419
              
              
              
              708
              
              
              
              7.51
              
              
              
              5,860
              
              
              
              441
              
              
              
              7.52Total
      loans and fees (1)(2
              
              
              625,972
              
              
              
              45,016
              
              
              
              7.19
              
              
              
              575,100
              
              
              
              40,299
              
              
              
              7.01
              
              
              
              493,219
              
              
              
              30,993
              
              
              
              6.28FHLB
      and Federal Reserve stock
              
              
              7,928
              
              
              
              381
              
              
              
              4.81
              
              
              
              8,028
              
              
              
              397
              
              
              
              4.95
              
              
              
              8,508
              
              
              
              364
              
              
              
              4.28Total
      earning assets
              
              
              748,067
              
              
              
              51,025
              
              
              
              6.82
              
              
              
              702,199
              
              
              
              46,274
              
              
              
              6.59
              
              
              
              595,226
              
              
              
              35,208
              
              
              
              5.92Non-interest
      earning assets:Less:
      Allowance for loan losses
              
              
              (5,684
              )
              
              
              
              
              
              
              
              
              
              
              (5,823
              )
              
              
              
              
              
              
              
              
              
              
              (5,200
              )Non-earning
      assets:Cash
      and due from banks
              
              
              17,047
              
              
              
              
              
              
              
              
              
              
              
              15,759
              
              
              
              
              
              
              
              
              
              
              
              12,917Bank
      premises and equipment, net
              
              
              15,320
              
              
              
              
              
              
              
              
              
              
              
              13,827
              
              
              
              
              
              
              
              
              
              
              
              11,284Other
      assets
              
              
              40,440
              
              
              
              
              
              
              
              
              
              
              
              22,505
              
              
              
              
              
              
              
              
              
              
              
              17,261Total
      assets
              
              $
              815,190
              
              
              
              
              
              
              
              
              
              
              $
              748,467
              
              
              
              
              
              
              
              
              
              
              $
              631,488LIABILITIES
      AND SHAREHOLDERS’ EQUITYInterest
      bearing liabilities:Savings
      and other
              
              $
              214,683
              
              
              $
              5,582
              
              
              
              2.60
              %
              
              $
              218,981
              
              
              $
              6,071
              
              
              
              2.77
              %
              
              $
              209,450
              
              
              $
              4,364
              
              
              
              2.08
              %Time
      deposits
              
              
              273,078
              
              
              
              13,201
              
              
              
              4.83
              
              
              
              249,036
              
              
              
              10,862
              
              
              
              4.36
              
              
              
              187,233
              
              
              
              6,418
              
              
              
              3.43Other
      borrowings
              
              
              63,713
              
              
              
              2,824
              
              
              
              4.43
              
              
              
              64,153
              
              
              
              3,054
              
              
              
              4.76
              
              
              
              48,684
              
              
              
              1,395
              
              
              
              2.87FHLB
      advances
              
              
              93,889
              
              
              
              5,492
              
              
              
              5.85
              
              
              
              86,024
              
              
              
              5,066
              
              
              
              5.89
              
              
              
              84,552
              
              
              
              4,746
              
              
              
              5.61Subordinated
      debenture
              
              
              17,000
              
              
              
              1,296
              
              
              
              7.62
              
              
              
              12,479
              
              
              
              942
              
              
              
              7.55
              
              
              
              7,000
              
              
              
              421
              
              
              
              6.01Total
      interest bearing liabilities
              
              
              662,363
              
              
              
              28,395
              
              
              
              4.29
              
              
              
              630,673
              
              
              
              25,995
              
              
              
              4.12
              
              
              
              536,919
              
              
              
              17,344
              
              
              
              3.23Non-interest
      bearing liabilities:Non-interest
      bearing deposits
              
              
              80,782
              
              
              
              
              
              
              
              
              
              
              
              62,079
              
              
              
              
              
              
              
              
              
              
              
              47,197Other
      liabilities
              
              
              7,048
              
              
              
              
              
              
              
              
              
              
              
              2,507
              
              
              
              
              
              
              
              
              
              
              
              4,187Shareholders’
      equity
              
              
              64,997
              
              
              
              
              
              
              
              
              
              
              
              53,208
              
              
              
              
              
              
              
              
              
              
              
              43,185Total
      liabilities and shareholders’ equity
              
              $
              815,190
              
              
              
              
              
              
              
              
              
              
              $
              748,467
              
              
              
              
              
              
              
              
              
              
              $
              631,488Net
      interest income (taxable equivalent basis
              
              
              
              
              
              
              22,630
              
              
              
              
              
              
              
              
              
              
              
              20,279
              
              
              
              
              
              
              
              
              
              
              
              17,864Less:
      taxable equivalent adjustment
              
              
              
              
              
              
              ( 263
              )
              
              
              
              
              
              
              
              
              
              
              (241
              )
              
              
              
              
              
              
              
              
              
              
              (150
              )Net
      interest income
              
              
              
              
              
              
              22,367
              
              
              
              
              
              
              
              
              
              
              
              20,038
              
              
              
              
              
              
              
              
              
              
              
              17,714Net
      interest spread
              
              
              
              
              
              
              
              
              
              
              2.53
              %
              
              
              
              
              
              
              
              
              
              
              2.47
              %
              
              
              
              
              
              
              
              
              
              
              2.69
              %Net
      interest margin
              
              
              
              
              
              
              
              
              
              
              3.03
              %
              
              
              
              
              
              
              
              
              
              
              2.89
              %
              
              
              
              
              
              
              
              
              
              
              3.00
              %
 
 
 (1)   The
amount of fee income included in interest on loans was $566, $697, and $647 for
the years ended December 31, 2007, 2006, and 2005, respectively.
 (2)  Includes
loans held for sale and non-accruing loans in the average loan amounts
outstanding.





22
 Index


Table 3
illustrates the extent to which changes in interest rates and changes in the
volume of interest-earning assets and interest-bearing liabilities affected the
Company's 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.


Table
3 - Volume/Rate Variance Analysis
 
 Year
      Ended December 31,2007
                compared
      to
                Year Ended December 31,
2006
              
              
              Year
      Ended December 31, 2006
                compared
      to
                Year Ended December 31,
2005INCREASE/(DECREASE)
                Due to
              
              
              INCREASE/(DECREASE)
                Due toTotal
      Net
                Change
              
              
              Volume
              
              
              Rate
              
              
              Total
      Net
                Change
              
              
              Volume
              
              
              Rate(Dollars
      in thousands)Interest
      income:Interest-bearing
      deposits with banks
              
              $
              12
              
              
              
              (3
              )
              
              
              15
              
              
              $
              74
              
              
              $
              48
              
              
              $
              26Taxable
      securities
              
              
              (27
              )
              
              
              (323
              )
              
              
              296
              
              
              
              1,386
              
              
              
              870
              
              
              
              516Tax-exempt
      securities
              
              
              43
              
              
              
              98
              
              
              
              (55
              )
              
              
              176
              
              
              
              176
              
              
              
              -Total
      loans and fees
              
              
              4,717
              
              
              
              3,637
              
              
              
              1,080
              
              
              
              9,306
              
              
              
              5,495
              
              
              
              3,811FHLB
      and Federal Reserve stock
              
              
              (16
              )
              
              
              (5
              )
              
              
              (11
              )
              
              
              33
              
              
              
              (21
              )
              
              
              54Total
      increase (decrease) in interest income
              
              
              4,729
              
              
              
              3,404
              
              
              
              1,325
              
              
              
              10,975
              
              
              
              6,568
              
              
              
              4,407Interest
      expense:Savings
      and other
              
              
              (489
              )
              
              
              (117
              )
              
              
              (372
              )
              
              
              1,707
              
              
              
              207
              
              
              
              1,500Time
      deposits
              
              
              2,339
              
              
              
              1,102
              
              
              
              1,237
              
              
              
              4,444
              
              
              
              2,435
              
              
              
              2,009Other
      borrowings
              
              
              (230
              )
              
              
              (21
              )
              
              
              (209
              )
              
              
              1,659
              
              
              
              538
              
              
              
              1,121FHLB
      advances
              
              
              426
              
              
              
              460
              
              
              
              (34
              )
              
              
              320
              
              
              
              84
              
              
              
              236Subordinated
      debenture
              
              
              354
              
              
              
              345
              
              
              
              9
              
              
              
              521
              
              
              
              393
              
              
              
              128Total
      increase (decrease) in interest expense
              
              
              2,400
              
              
              
              1,769
              
              
              
              631
              
              
              
              8,651
              
              
              
              3,657
              
              
              
              4,994Increase
      (decrease) in net interest income
              
              $
              2,329
              
              
              $
              1,635
              
              
              $
              694
              
              
              $
              2,324
              
              
              $
              2,911
              
              
              $
              (587
              )
 
 
 Non-interest
Income
 
 Non-interest
income was $5.1 million for 2007, $4.8 million for 2006, and $4.9 million for
2005. In 2007, non-interest income increased 7.2% compared to 2006 primarily due
to the acquisition of SCSB which provided twelve months of non-interest income
in 2007 as compared to six months in 2006. Also factoring into the increase in
non-interest income were increases in service charges on deposit accounts of
$404,000, commission income of $65,000, and the cash surrender value of life
insurance of $105,000 offset by decreases in mortgage banking income of $86,000
and other non-interest income of $82,000.  In 2005, the Company had a
gain on life insurance benefits of $656,000, a gain on the disposition of equity
stock of $345,000 and a gain on sale of AFS securities of $23,000 which
substantially impacted 2005.  Excluding these items, total
non-interest income increased by $935,000 or 24.3% from 2005 as compared to
2006.
 
 Table 4
provides a breakdown of the Company’s non-interest income during the past three
years.
 
 Table
4 - Analysis of Non-interest Income
  
 Year Ended December 31,
              
              
              Percent Increase/(Decrease)(Dollars
      in thousands)
              
              2007
              
              
              2006
              
              
              2005
              
              
              
              2007/2006
              
              
              
              2006/2005Service
      charges on deposit accounts
              
              $
              3,891
              
              
              $
              3,487
              
              
              $
              2,593
              
              
              
              11.6
              %
              
              
              34.5
              %Commission
      income
              
              
              172
              
              
              
              107
              
              
              
              74
              
              
              
              60.7
              
              
              
              44.6Mortgage
      banking income
              
              
              236
              
              
              
              322
              
              
              
              462
              
              
              
              (26.7
              )
              
              
              (30.3
              )Increase
      in cash surrender value of life insurance
              
              
              678
              
              
              
              573
              
              
              
              527
              
              
              
              18.3
              
              
              
              8.7Other
              
              
              205
              
              
              
              287
              
              
              
              185
              
              
              
              (28.6
              )
              
              
              55.1Subtotal
              
              
              5,182
              
              
              
              4,776
              
              
              
              3,841
              
              
              
              8.5
              
              
              
              24.3
              %Gain
      on life insurance benefit
              
              
              -
              
              
              
              -
              
              
              
              656
              
              
              
              -
              
              
              
              (100.0
              )Gain
      on disposition of equity stock
              
              
              -
              
              
              
              18
              
              
              
              345
              
              
              
              (100.0
              )
              
              
              (94.8
              )Loss
      on sale of available for sale securities
              
              
              (41
              )
              
              
              -
              
              
              
              23
              
              
              NM
              
              
              
              (100.0
              )Total
              
              $
              5,141
              
              
              $
              4,794
              
              
              $
              4,865
              
              
              
              7.2
              %
              
              
              (1.5
              )%










23
 Index


Service
charges on deposit accounts increased by 11.6% from 2006 to $3.9 million for the
year ended December 31, 2007 due primarily to acquisition of SCSB in 2006 which
provided deposit service charge income of $700,000 in 2007 as compared to
$326,000 in 2006.  Excluding the impact of the SCSB acquisition,
income from service charges on deposit accounts was relatively flat as the
Company experienced moderate deposit growth without significant changes in its
service charge fee structure. In 2006, income from service charges on deposit
accounts was impacted by the acquisition of SCSB.  The remaining
growth in service charge income was due to an increase in YCB’s overdraft
service charge, an increase in transaction accounts, and an increase in the
number of overdrawn accounts.  Management attributes a continued
emphasis on the importance of customer service which contributed to the opening
of a significant number of new demand accounts during 2006.


Commission
income from investment products offered to customers through its alliance with
Smith Barney increased 60.7% in 2007 as compared to 2006 due to changes in Smith
Barney’s fee commission structure and an increase in assets under management
which led to an increase in fees realized.
 
 Income
from the cash surrender value of life insurance increased by 18.3% from 2006 to
$678,000 in 2007 as the Company purchased $2.1 million of life insurance in the
second half of 2006 for certain key executives of SCSB.  Income from
the cash surrender value of life insurance of SCSB was $87,000 for the year
ended December 31, 2007 as compared to $21,000 for the same period in
2006.
 
 The
market interest rate environment heavily influences revenue from mortgage
banking activities.  Mortgage banking income declined by 26.7% for the
year ended December 31, 2007 as compared to 2006 while declining by 30.3% from
2005 to 2006. The decrease in mortgage banking income in 2006 and 2007 reflects
decreased origination activity due to an overall decline in home sales for the
two periods.   Management anticipates gains on sales of mortgage
loans in 2008 to remain consistent with 2007.
 
 Other
income decreased by $82,000, or 28.6% from $287,000 for the twelve months ended
December 31, 2006 to $205,000 for 2007 due primarily to the reclassification of
the unrealized loss on the Company’s interest rate swap as a result of
management’s determination that the Company’s documentation of the effectiveness
of the hedge relationship was insufficient to support hedge
accounting.  Accordingly, the Company was disqualified from hedge
accounting treatment and began accounting for the interest rate swap as a
stand-alone derivative; the unrealized loss on the interest rate swap at
December 31, 2007 of $234,000 was reclassified from accumulated other
comprehensive loss to non-interest income.  Also impacting other
non-interest in 2007 was the acquisition of SCSB, which provided $139,000 of
other income in 2007 as compared to $27,000 in 2006 and the settlement of the
SCSB pension plan that had been curtailed in accordance with the merger
agreement, resulting in a gain of $49,000.
 
 The
Company had a $345,000 gain during 2005 on the disposition of an equity stock
position it held in a company that provides data processing services to the
banking industry. The disposition resulted from the acquisition of the data
processing provider by a third party organization. In addition, there was a
$656,000 non-taxable gain on life insurance benefit.  Combined, these
items accounted for a decrease in non-interest income of $1,001,000 from 2005 to
2006 which was offset by increases in service charges on deposit accounts as
previously noted.
 
 Non-interest
Expense
 
 Total
non-interest expense increased 14.1% to $21.8 million in 2007 when compared with
2006 primarily due to the acquisition of SCSB in 2006 which incurred six months
of expense in 2006 as compared to twelve months in 2007.  Other
factors for the increase in non-interest expense include occupancy expenses,
equipment, legal and professional, and other expenses.  Total
non-interest expense increased 18.3% to $19.1 million in 2006 when compared with
2005.  A significant percentage of the increase was due to the
acquisition of SCSB in 2006 which accounted for an additional $1.8 million in
expense in 2006.  Also contributing to the increase include increases
in salaries and employee benefits, occupancy, data processing, legal and
professional, and other expenses.
 
 Table 5
provides a breakdown of the Company’s non-interest expense for the past three
years.
 
 Table
5 - Analysis of Non-interest Expense
 Year Ended in December 31,
              
              
              Percent Increase/(Decrease)(Dollars
      in thousands)
              
              2007
              
              
              2006
              
              
              2005
              
              
              
              2007/2006
              
              
              
              2006/2005Salaries
      and employee benefits
              
              $
              11,466
              
              
              $
              10,345
              
              
              $
              8,843
              
              
              
              10.8
              %
              
              
              17.0
              %Occupancy
              
              
              1,760
              
              
              
              1,479
              
              
              
              1,193
              
              
              
              19.0
              
              
              
              24.0Equipment
              
              
              1,446
              
              
              
              1,188
              
              
              
              1,142
              
              
              
              21.7
              
              
              
              4.0Data
      processing
              
              
              2,183
              
              
              
              2,162
              
              
              
              1,883
              
              
              
              1.0
              
              
              
              14.8Marketing
      and advertising
              
              
              583
              
              
              
              527
              
              
              
              503
              
              
              
              10.6
              
              
              
              4.8Legal
      and professional
              
              
              1,383
              
              
              
              1,097
              
              
              
              836
              
              
              
              26.1
              
              
              
              31.2Other
              
              
              2,983
              
              
              
              2,318
              
              
              
              1,755
              
              
              
              28.7
              
              
              
              32.1Total
              
              $
              21,804
              
              
              $
              19,116
              
              
              $
              16,155
              
              
              
              14.1
              %
              
              
              18.3
              %








24
 Index


Salaries
and benefits, the largest component of non-interest expense, increased 10.8% to
$11.5 million in 2007 compared to $10.3 million in 2006 due primarily to the
acquisition of SCSB.  The Company’s full-time equivalent employees
increased to 232 at December 31, 2007 compared to 224 at December 31, 2006 due
to the opening of new YCB branch in Jeffersonville, Indiana and the hiring of
additional commercial loan officers. Salaries and benefits increased 17.0% to
$10.3 million 2006 compared to $8.8 million in 2005 from the acquisition of
SCSB.  Excluding salaries and benefits of $988,000 from SCSB, the
increase from 2005 was 5.8% due primarily to normal, recurring pay
raises.  The Company’s full-time equivalent employees grew from 182
full-time equivalent employees at December 31, 2005 to 224 full-time equivalent
employees (including 49 from SCSB) at December 31, 2006.  Excluding
SCSB, full-time equivalent employees decreased by 7 to 175 due to a retail
branch analysis conducted by the Company during 2006 that resulted in a more
efficient allocation of retail employees.
 
 Occupancy
expenses increased 19.0% to $1.8 million for 2007 compared with $1.5 million for
2006.  The increase in occupancy expense is due primarily to the
opening of a new YCB branch in Jeffersonville, Indiana in the second quarter of
2007 which contributed to an increase in rent expense to $512,000 for 2007
compared to $409,000 for 2006 along with slight increases in renewed lease
agreements. The remaining increase is related to increased utilities, taxes,
repairs and maintenance, and depreciation associated with new branches opened in
2006 and 2007 and the acquisition of SCSB, which accounted for a full year of
occupancy expenses versus six months in 2006.  Occupancy expenses
increased 24% to $1.5 million in 2006 compared to $1.2 million in
2005.  The increase in occupancy expense was related to the opening of
a new YCB branch in Louisville, Kentucky in early 2006 and entering into a lease
for the Jeffersonville, Indiana branch in the third quarter of 2006 which was
opened in 2007.  Together, these branches accounted for a $90,000
increase in rent expense in 2006 as compared to 2005.  Also
contributing to the increase was the acquisition of SCSB which accounted for
$97,000 of additional occupancy expense in 2006.
 
 Data
processing expenses increased slightly by $21,000 to $2.2 million for the year
ended December 31, 2007 as compared to the prior year.  An increase in
data processing expense due to the acquisition of SCSB in 2006, which resulted
in six months of expenses in 2006 compared to twelve 2007, was almost fully
offset by decreases in software maintenance expenditures and a decrease in
processing charges from YCB’s third party core data processor.  The
decrease in processing charges was due to credits that were granted in the
fourth quarter of 2007 by YCB’s provider in connection with extending the
current contract and upgrading from YCB’s current system.  Data
processing expense increased 14.8% to $2.2 million in 2006 compared with $1.9
million for 2005 due to higher item processing costs associated with increased
deposit growth and higher per item charges.  Additionally, the
acquisition of SCSB resulted in an additional $71,000 of data processing
expenses in 2006.
 
 Equipment
expenses increased 21.7% to $1.4 million at December 31, 2007 compared to $1.2
million at December 31, 2006 primarily due to the acquisition of SCSB. Excluding
the effect of the SCSB acquisition, equipment expenses increased 7.3% in 2007
compared to 2006. The increase is primarily due to additional depreciation
expense on software from replacements and renewals of software licenses and in
furniture and fixtures expenses related to the new YCB branch in Jeffersonville,
Indiana.
 
  Legal and
professional fees increased 26.1% to $1.4 million in 2007 compared to $1.1
million in 2006. The increase was due to additional consulting expenses incurred
for implementation of Section 404 of the Sarbanes-Oxley Act and the evaluation
of prospective data service providers as well as legal fees related to loan
collection efforts, human resource consultations, and the review of various SEC
filings. Legal and professional expenses increased from $836,000 in 2005 to $1.1
million in 2006, or 31.2%.  The increase is due to $117,000 of
expenses incurred by SCSB during 2006 along with increased legal fees associated
with more aggressive collection efforts on several large commercial
credits
  
 Other
operating expenses increased 28.7% to $3.0 million in 2007 compared to 2006
primarily due to the acquisition of SCSB, which incurred approximately $853,000
and $344,000 of other operating expenses in 2007 and 2006,
respectively.  The Company recognized amortization expense of a core
deposit and customer intangible assets acquired as part of the transaction of
$438,000 and $176,000 for 2007 and 2006, respectively (see Note 6 to the
Company’s consolidated financial statements).  Another factor
contributing to the increase in other expenses was the accrual of $200,000 for
the probable settlement of ongoing litigation (see Item 3 for further
discussion).  Other operating expenses increased 32.1% to $2.3 million
in 2006 compared to $1.8 million in 2005 primarily due to the acquisition of
SCSB, which incurred $344,000 of other operating expenses in 2006 including
amortization expense of $176,000 of the aforementioned core deposit intangible
asset.  Another factor in the increased other operating expenses in
2006 was additional miscellaneous and other taxes and assessments expenditures
of $69,000.
 
 Financial
Condition
 
 Loan
Portfolio
 
 The
Company’s loan portfolio grew by 3.7% to $636.0 million as of December 31, 2007
from $613.6 million as of the same date in 2006.  Most of the growth
in the loan portfolio was concentrated in commercial, commercial real estate,
and construction loans secured by real estate, offset by decreases in home
equity and residential real estate loans.  The moderate increase in
the portfolio is the result of management’s goal of growing the loan portfolio
through profitable customer relationships which enhance the net interest margin
while limiting the Company’s exposure to potential loan losses.  The
Company’s loan portfolio mix remained relatively unchanged as the percentage of
commercial and commercial real estate loans in the loan portfolio grew to 44.0%
at December 31, 2007 from 42.3% at December 31, 2006.





25
 Index


Residential
real estate and home equity loans decreased by $249,000 and $2.3 million to
$186.8 million and $60.4 million, respectively, at December 31, 2007 from the
$187.1 million and $62.7 million, respectively, at December 31,
2006.  During 2007, the Company experienced a decline in demand for
residential and home equity loans as rising interest rates and decreased home
sales have dampened customer demand.  Residential real estate and home
equity loans comprised 38.9% of the Company’s loan portfolio at December 31,
2007 as compared to 40.7% at December 31, 2006.  The Company does not
originate or maintain loans in its mortgage portfolio that are considered
“sub-prime.”


Commerical
and commercial real estate loans grew by $8.2 million and $12.4 million in 2007
to $88.4 million and $191.8 million, respectively, from $80.1 million and $179.4
million as of December 31, 2006.  Management attributes the growth in
commercial real estate and commercial loans to a continued focus on growing the
commercial portfolio through an expanded product offering, competitive rates,
and high quality service.  Growth in the Company’s commercial and
commercial real estate portfolios was somewhat tempered by a highly competitive
local rate environment and management’s focus on growing the loan portfolio to
enhance the Company’s net interest margin and also limit the loss
exposure.  Also, management has established incentives for commercial
loan originations that directly correlate with the Company’s intended growth and
goals.
 
 At the
end of 2007, the Company was servicing $17.3 million in mortgage loans for other
investors compared to $20.7 million in 2006.  Loans serviced for
others consist of loans the Company has sold to the Federal National Mortgage
Association and the Federal Home Loan Mortgage Corporation with servicing rights
retained by the Company.
 
 The
Company’s lending activities remain primarily concentrated within its existing
markets, and are principally comprised of loans secured by single-family
residential housing developments, owner occupied manufacturing and retail
facilities, general business assets, and single-family residential real
estate.  The Company emphasizes the acquisition of deposit
relationships from new and existing commercial business and real estate loan
clients.
 
 Table 6
provides a breakdown of the Company’s loans by type during the past five
years.
 
 Table
6 - Loans by Type
  As of December
      31,(Dollars
      in thousands)
              
              2007
              
              
              2006
              
              
              2005
              
              
              2004
              
              
              2003Real
      estate:Residential
              
              $
              186,831
              
              
              $
              187,080
              
              
              $
              111,969
              
              
              $
              100,553
              
              
              $
              94,975Commercial
              
              
              191,774
              
              
              
              179,405
              
              
              
              186,644
              
              
              
              186,175
              
              
              
              161,343Construction
              
              
              87,364
              
              
              
              83,944
              
              
              
              61,031
              
              
              
              38,638
              
              
              
              15,691Commercial
              
              
              88,353
              
              
              
              80,132
              
              
              
              92,640
              
              
              
              73,374
              
              
              
              72,981Home
      equity
              
              
              60,380
              
              
              
              62,720
              
              
              
              58,060
              
              
              
              49,677
              
              
              
              42,562Consumer
              
              
              20,024
              
              
              
              19,549
              
              
              
              7,295
              
              
              
              6,095
              
              
              
              5,962Loans
      secured by deposit accounts
              
              
              1,322
              
              
              
              756
              
              
              
              729
              
              
              
              687
              
              
              
              546Total
      loans
              
              $
              636,048
              
              
              $
              613,586
              
              
              $
              518.368
              
              
              $
              455,199
              
              
              $
              394,060
 
 
 
 Table 7
illustrates the Company’s fixed rate maturities and repricing frequency for the
loan portfolio.
 
 Table
7 - Selected Loan Distribution
 
 As
      of December 31, 2007
                (Dollars
      in thousands)
              
              Total
              
              
              One
                Year
      or
                Less
              
              
              Over
      One
                Through
      Five
                Years
              
              
              Over
                Five
                YearsFixed
      rate maturities:Real
      estate:Residential
              
              $
              143,892
              
              
              $
              12,732
              
              
              $
              17,405
              
              
              $
              113,755Commercial
              
              
              63,657
              
              
              
              6,958
              
              
              
              37,079
              
              
              
              19,620Construction
              
              
              15,238
              
              
              
              5,005
              
              
              
              3,731
              
              
              
              6,502Commercial
              
              
              36,938
              
              
              
              7,286
              
              
              
              22,194
              
              
              
              7,458Home
      equity
              
              
              15,727
              
              
              
              944
              
              
              
              4,506
              
              
              
              10,277Consumer
              
              
              19,570
              
              
              
              3,738
              
              
              
              14,272
              
              
              
              1,560Loans
      secured by deposit accounts
              
              
              1,322
              
              
              
              957
              
              
              
              322
              
              
              
              43Total
      fixed rate maturities
              
              $
              296,344
              
              
              $
              37,620
              
              
              $
              99,509
              
              
              $
              159,215Variable
      rate maturities:Real
      estate:Residential
              
              $
              42,939
              
              
              $
              10,833
              
              
              $
              4,400
              
              
              $
              27,706Commercial
              
              
              128,117
              
              
              
              19,957
              
              
              
              13,295
              
              
              
              94,865Construction
              
              
              72,126
              
              
              
              52,658
              
              
              
              11,067
              
              
              
              8,401Commercial
              
              
              51,415
              
              
              
              42,522
              
              
              
              6,027
              
              
              
              2,866Home
      equity
              
              
              44,653
              
              
              
              5,377
              
              
              
              8,410
              
              
              
              30,866Consumer
              
              
              454
              
              
              
              454
              
              
              
              -
              
              
              
              -Total
      variable rate maturities
              
              $
              339,704
              
              
              $
              131,801
              
              
              $
              43,199
              
              
              $
              164,704







26
 Index


Allowance
and Provision for Loan Losses


Federal
regulations require insured institutions to classify their assets on a regular
basis.  The regulations provide for three categories of classified
loans:  substandard, doubtful and loss.  The regulations
also contain a special mention and a specific allowance
category.  Special mention is defined as loans that do not currently
expose an insured institution to a sufficient degree of risk to warrant
classification but do possess credit deficiencies or potential weaknesses
deserving management’s close attention.  Assets classified as
substandard or doubtful require the institution to establish general allowances
for loan losses.  If an asset or portion thereof is classified as
loss, the insured institution must either establish specified allowances for
loan losses in the amount of 100% of the portion of the asset classified loss,
or charge off such amount.
 
 The
Company maintains the allowance for loan losses at a level that is sufficient to
absorb probable credit losses incurred in its loan portfolio.  The
allowance is determined based on the application of loss estimates to graded
loans by categories.  Management determines the level of the allowance
for loan losses based on its evaluation of the collectibility of the loan
portfolio, including the composition of the portfolio, historical loan loss
experience, specific impaired loans, and general economic
conditions.  Allowances for impaired loans are generally determined
based on collateral values or the present value of estimated future cash
flows.  The allowance for loan losses is increased by a provision for
loan losses, which is charged to expense, and reduced by charge-offs of specific
loans, net of recoveries.  Changes in the allowance relating to
impaired loans are charged or credited directly to the provision for loan
losses.  At December 31, 2007, the Company’s allowance for loan losses
totaled $6.3 million as compared to $5.7 million and $5.9 million at December
31, 2006 and 2005, respectively.  The Company’s allowance for loan
losses to loan ratio was 0.99% as of December 31, 2007 compared to 0.92% at
December 31, 2006.  The increase in the allowance for loan losses was
attributable to an increase in the provision for loan losses and a decrease in
net charge-offs in 2007 as compared to 2006.  The Company’s net
charge-offs in 2007 were from credits that management had identified and
classified in accordance with the Company’s policy for estimating its allowance
for loan losses. Accordingly, the Company recorded a provision for loan losses
at the point at which the credits were identified as classified credits and
appropriately adjusted the recorded amount for changes in circumstances and
estimates in collectibility and the underlying value of the
collateral.  The Company’s net charge-offs decreased to $634,000 for
the twelve months ended December 31, 2007 from $1.3 million for the same period
in 2006.  Management attributes the decrease from 2006 to 2007 in net
charge-offs to a $600,000 partial charge-off a commercial credit in 2006 that
was not repeated in 2007.  The aggregate remaining balance of loans
outstanding with this customer as of December 31, 2007 approximated $3.4
million.  Management has allocated amounts for probable incurred
losses associated with this credit and believes the outstanding balance, net of
estimated potential loss, is a materially accurate assessment of the potential
net collectibilty of this credit given the current circumstances and
management’s best estimate of the potential outcome as of December 31,
2007.  Excluding the $600,000 charge-off in 2006, net charge-offs
decreased by $47,000 from 2006.
 
 Provisions
for loan losses are charged against earnings to bring the total allowance for
loan losses to a level considered adequate by management based on historical
experience, the volume and type of lending conducted by the Company, the status
of past due principal and interest payments, general economic conditions, and
inherent credit risk related to the collectibility of the Company’s loan
portfolio.The
provision for loan losses was $1.3 million for the year ended December 31, 2007
as compared to $262,000 for 2006 and $1.8 million for
2005.  Management attributes the increase in the provision for loan
losses in 2007 to an increase in the Company’s classified credits to $29.4
million at December 31, 2007 from $16.8 million, an increase in non-performing
loans to $11.4 million from $5.6 million, and an increase in impaired loans to
$9.3 million from $4.4 million.  The increase in the provision for
loan losses was required to achieve the necessary allowance for loan losses to
cover probable incurred losses within the loan portfolio as a direct result of
the increase in classified, impaired, and non-performing loans.  Also,
based on the observable trends within the loan portfolio, management felt it was
prudent to increase the balance of the allowance for loan losses for not only
the probable incurred losses for those classified loans specifically identified,
but also for environmental factors that adversely impact asset quality such as
current economic conditions.
 
 Statements
made in this section regarding the adequacy of the allowance for loan losses are
forward-looking statements that may or may not be accurate due to the
impossibility of predicting future events.  Because of uncertainties
inherent in the estimation process, management’s estimate of credit losses in
the loan portfolio and the related allowance may differ from actual
results.








27
 Index


Table 8
provides the Company’s loan charge-off and recovery activity during the past
five years.


Table
8 - Summary of Loan Loss Experience
 
 Year
      Ended in December 31,(Dollars
      in thousands)
              
              2007
              
              
              2006
              
              
              2005
              
              
              2004
              
              
              2003Allowance
      for loan losses at beginning of year
              
              $
              5,654
              
              
              $
              5,920
              
              
              $
              4,523
              
              
              $
              4,034
              
              
              $
              3,814Acquired
      allowance of SCSB, July 1,2006
              
              
              -
              
              
              
              754
              
              
              
              -
              
              
              
              -
              
              
              
              -Charge-offs:Residential
      real estate
              
              
              (173
              )
              
              
              (35
              )
              
              
              (83
              )
              
              
              (22
              )
              
              
              (24
              )Commercial
      real estate
              
              
              (44
              )
              
              
              (193
              )
              
              
              -
              
              
              
              (339
              )
              
              
              (815
              )Construction
              
              
              -
              
              
              
              (600
              )
              
              
              -
              
              
              
              -
              
              
              
              -Commercial
      business
              
              
              (207
              )
              
              
              (138
              )
              
              
              (194
              )
              
              
              (245
              )
              
              
              (158
              )Home
      equity
              
              
              (187
              )
              
              
              (26
              )
              
              
              (198
              )
              
              
              (22
              )
              
              
              (23
              )Consumer
              
              
              (190
              )
              
              
              (362
              )
              
              
              (64
              )
              
              
              (52
              )
              
              
              (55
              )Total
              
              
              (801
              )
              
              
              (1,354
              )
              
              
              (539
              )
              
              
              (680
              )
              
              
              (1,075
              )Recoveries:Residential
      real estate
              
              
              14
              
              
              
              -
              
              
              
              -
              
              
              
              1
              
              
              
              -Commercial
      real estate
              
              
              9
              
              
              
              9
              
              
              
              7
              
              
              
              24
              
              
              
              13Construction
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -Commercial
      business
              
              
              92
              
              
              
              26
              
              
              
              34
              
              
              
              18
              
              
              
              2Home
      equity
              
              
              2
              
              
              
              -
              
              
              
              3
              
              
              
              -
              
              
              
              -Consumer
              
              
              50
              
              
              
              37
              
              
              
              142
              
              
              
              21
              
              
              
              6Total
              
              
              167
              
              
              
              72
              
              
              
              186
              
              
              
              64
              
              
              
              21Net
      loan charge-offs
              
              
              (634
              )
              
              
              (1,282
              )
              
              
              (353
              )
              
              
              (616
              )
              
              
              (1,054
              )Provision
      for loan losses
              
              
              1,296
              
              
              
              262
              
              
              
              1,750
              
              
              
              1,105
              
              
              
              1,274Allowance
      for loan losses at end of year
              
              $
              6,316
              
              
              $
              5,654
              
              
              $
              5,920
              
              
              $
              4,523
              
              
              $
              4,034Ratios:Allowance
      for loan losses to total loans
              
              
              0.99
              %
              
              
              0.92
              %
              
              
              1.14
              %
              
              
              0.99
              %
              
              
              1.02
              %Net
      loan charge-offs to average loans
              
              
              0.10
              
              
              
              0.22
              
              
              
              0.07
              
              
              
              0.15
              
              
              
              0.29Allowance
      for loan losses to non-performing loans
              
              
              56
              
              
              
              102
              
              
              
              108
              
              
              
              285
              
              
              
              223
 
 
 
 The
following table depicts management’s allocation of the allowance for loan losses
by loan type during the last five years.  Allowance funding and
allocation is based on management’s assessment of economic conditions, past loss
experience, loan volume, past-due history and other factors. Since these factors
and management's assumptions are subject to change, the allocation is not
necessarily indicative of future loan portfolio
performance.  Allocations of the allowance may be made for specific
loans or loan categories, but the entire allowance is available for any loan
that may be charged off.  Loan losses are charged against the
allowance when management deems a loan uncollectible.
 
 Table
9 - Management's Allocation of the Allowance for Loan Losses
  As of December 31,2007
                
                
                2006
                
                
                2005
                
                
                2004
                
                
                2003(Dollars
      in thousands)
                
                Allowance
                
                
                Percent
      of Loans
                  to
      Total
                  Loans
                
                
                Allowance
                
                
                Percent
      of Loans
                  to
      Total
                  Loans
                
                
                Allowance
                
                
                Percent
      of Loans
                  to
      Total
                  Loans
                
                
                Allowance
                
                
                Percent
      of Loans
                  to
      Total
                  Loans
                
                
                Allowance
                
                
                Percent
      of Loans
                  to
      Total
                  LoansResidential
      RealEstate
                
                $
                681
                
                
                
                29.3
                %
                
                $
                479
                
                
                
                30.5
                %
                
                $
                336
                
                
                
                21.6
                %
                
                $
                325
                
                
                
                22.1
                %
                
                $
                342
                
                
                
                24.3
                %Commercial
      RealEstate
                
                
                2,857
                
                
                
                30.2
                
                
                
                2,992
                
                
                
                29.2
                
                
                
                3,544
                
                
                
                36.0
                
                
                
                2,162
                
                
                
                40.9
                
                
                
                1,769
                
                
                
                40.9Construction
                
                
                199
                
                
                
                13.7
                
                
                
                48
                
                
                
                13.7
                
                
                
                23
                
                
                
                11.8
                
                
                
                17
                
                
                
                8.5
                
                
                
                5
                
                
                
                4.0Commercial
      Business
                
                
                1,716
                
                
                
                13.9
                
                
                
                1,501
                
                
                
                13.1
                
                
                
                1,407
                
                
                
                17.9
                
                
                
                1,533
                
                
                
                16.1
                
                
                
                1,436
                
                
                
                18.5Home
      Equity
                
                
                662
                
                
                
                9.5
                
                
                
                435
                
                
                
                10.2
                
                
                
                495
                
                
                
                11.2
                
                
                
                389
                
                
                
                10.9
                
                
                
                371
                
                
                
                10.8Consumer
                
                
                201
                
                
                
                3.4
                
                
                
                199
                
                
                
                3.3
                
                
                
                115
                
                
                
                1.5
                
                
                
                97
                
                
                
                1.5
                
                
                
                111
                
                
                
                1.5Total
                
                $
                6,316
                
                
                
                100.0
                %
                
                $
                5,654
                
                
                
                100.0
                %
                
                $
                5,920
                
                
                
                100.0
                %
                
                $
                4,523
                
                
                
                100.0
                %
                
                $
                4,034
                
                
                
                100.0
                %











28
 Index


Asset
Quality


Loans
(including impaired loans under Statements of Financial Accounting Standards 114
and 118) are placed on non-accrual status when they become past due 90 days or
more as to principal or interest.  When loans are placed on
non-accrual status, all unpaid accrued interest is reversed.  These
loans remain on non-accrual status until the loan becomes current or the loan is
deemed uncollectible and is charged off.  The Company defines impaired
loans to be those loans that management has determined it is probable, based on
current information and events, the Company will be unable to collect all
amounts due according to the contractual terms of the loan
agreement.  Loans individually classified as impaired increased to
$9.3 million at December 31, 2007 from $4.4 million at December 31,
2006.





Total
non-performing loans increased from $5.6 million at December 31, 2006 to $11.4
million at December 31, 2007 with total non-performing assets increasing to
$11.9 million from $6.0 million as of the same dates,
respectively.  Non-performing assets also include foreclosed real
estate that has been acquired through foreclosure or acceptance of a deed in
lieu of foreclosure.  Foreclosed real estate is carried at fair value
less estimated selling costs, and is actively marketed for sale.





Table 10
provides the Company’s non-performing loan experience during the past five
years.





Table
10 - Non-Performing Assets





As
      of December 31,(Dollars
      in thousands)
              
              2007
              
              
              2006
              
              
              2005
              
              
              2004
              
              
              2003Loans
      on non-accrual status (1)
              
              $
              11,134
              
              
              $
              5,566
              
              
              $
              5,498
              
              
              $
              1,588
              
              
              $
              1,788Loans
      past due 90 days or more and still accruing
              
              
              244
              
              
              
              -
              
              
              
              5
              
              
              
              -
              
              
              
              25Total
      non-performing loans
              
              
              11,378
              
              
              
              5,566
              
              
              
              5,503
              
              
              
              1,588
              
              
              
              1,813Other
      assets owned
              
              
              575
              
              
              
              457
              
              
              
              106
              
              
              
              106
              
              
              
              610Total
      non-performing assets
              
              $
              11,953
              
              
              $
              6,023
              
              
              $
              5,609
              
              
              $
              1,694
              
              
              $
              2,423Percentage
      of non-performing loans to total loans
              
              
              1.79
              %
              
              
              0.91
              %
              
              
              1.06
              %
              
              
              0.35
              %
              
              
              0.46
              %Percentage
      of non-performing assets to total loans
              
              
              1.88
              
              
              
              0.98
              
              
              
              1.08
              
              
              
              0.37
              
              
              
              0.61





(1)
Impaired loans on non-accrual status are included in loans.  See Note
4 to the Consolidated Financial Statements for additional discussion on impaired
loans.








Investment
Securities





Table 11
sets forth the breakdown of the Company’s securities portfolio for the past five
years.





Table 11 - Securities Portfolio





December
      31,(Dollars
      in thousands)
            
            2007
            
            
            2006
            
            
            2005
            
            
            2004
            
            
            2003Securities
      Available for Sale:U.S.
      Government and federal agency
            
            $
            6,077
            
            
            $
            29,972
            
            
            $
            10,921
            
            
            $
            4,739
            
            
            $
            -State
      and municipal
            
            
            13,312
            
            
            
            11,645
            
            
            
            6,449
            
            
            
            6,613
            
            
            
            15,246Mortgage-backed
            
            
            73,252
            
            
            
            67,304
            
            
            
            66,752
            
            
            
            63,943
            
            
            
            52,657Corporate
      bonds
            
            
            6,583
            
            
            
            12,150
            
            
            
            14,471
            
            
            
            14,611
            
            
            
            14,990Mutual
      Funds
            
            
            241
            
            
            
            240
            
            
            
            242
            
            
            
            246
            
            
            
            250Total
      securities available for sale
            
            $
            99,465
            
            
            $
            121,311
            
            
            $
            98,835
            
            
            $
            90,152
            
            
            $
            83,143







29
 Index


Table 12
sets forth the breakdown of the Company’s investment securities available for
sale by type and maturity as of December 31, 2007.  For analytical
purposes, the weighted average yield on state and municipal securities is
adjusted to a taxable equivalent adjustment basis to recognize the income tax
savings on tax-exempt securities.  A tax rate of 34% was used in
adjusting interest on tax-exempt securities to a fully taxable equivalent
(“FTE”) basis.
 
 Table
12 - Investment Securities Available for Sale
 
 As
      of December 31, 2007(Dollars
      in thousands)
              
              Amortized
                Cost
              
              
              Fair Value
              
              
              Weighted
                Average
                YieldU.S.
      Government and federal agencyWithin
      one year
              
              $
              3,994
              
              
              $
              4,000
              
              
              
              5.13
              %Over
      five through ten years
              
              
              2,000
              
              
              
              2,077
              
              
              
              5.90Total
      U.S. Government and federal agency
              
              
              5,994
              
              
              
              6,077
              
              
              
              5.39State
      and municipalWithin
      one year
              
              
              409
              
              
              
              409
              
              
              
              6.39
              %Over
      one through five years
              
              
              3,210
              
              
              
              3,270
              
              
              
              6.47Over
      five through ten years
              
              
              2,313
              
              
              
              2,378
              
              
              
              6.86Over
      ten years
              
              
              7,100
              
              
              
              7,255
              
              
              
              6.20Total
      state and municipal
              
              
              13,032
              
              
              
              13,312
              
              
              
              6.39Corporate
      BondsWithin
      one year
              
              
              1,002
              
              
              
              995
              
              
              
              2.91
              %Over
      ten years
              
              
              5,878
              
              
              
              5,588
              
              
              
              7.31Total
      corporate bonds
              
              
              6,880
              
              
              
              6,583
              
              
              
              6.64Total
      mutual funds
              
              
              250
              
              
              
              241
              
              
              
              4.25
              %Mortgage-backed
      securitiesWithin
      one year
              
              
              148
              
              
              
              148
              
              
              
              5.57
              %Over
      one through five years
              
              
              172
              
              
              
              173
              
              
              
              4.37Over
      five through ten years
              
              
              13,197
              
              
              
              13,064
              
              
              
              3.96Over
      ten years
              
              
              59,784
              
              
              
              59,867
              
              
              
              5.12Total
      mortgage-backed securities
              
              
              73,301
              
              
              
              73,252
              
              
              
              4.91Total
      available for sale securities
              
              $
              99,457
              
              
              $
              99,465
              
              
              
              5.25
              %
 
 
 Securities
available for sale decreased from $121.3 million at December 31, 2006 to $99.5
million at December 31, 2007.  The decrease in available for sale
securities was due primarily to maturities, prepayments, and calls of $34.1
million and sales of $10.9 million during 2007, partially offset by purchases of
$21.9 million.The
current strategy for the securities portfolio is to maintain an intermediate
average life that remains relatively stable in a changing interest rate
environment, thus minimizing exposure to sustained increases in interest
rates.  The investment portfolio primarily consists of mortgage-backed
securities, securities issued by the United States government and its agencies,
securities issued by states and municipalities, and corporate
bonds.  Mortgage-backed securities consist primarily of obligations
insured or guaranteed by Federal Home Loan Mortgage Corporation, Federal
National Mortgage Association, or Government National Mortgage
Association.  The acquisition of SCSB did not materially impact the
Company’s investment strategy or change the Company’s investment risk profile as
a majority of the acquired securities were U.S. government or federal agency
securities.  The Company does not maintain collateralized debt
obligations or mortgage backed securities that consist of “subprime”
mortgages.
 
 Deposits
 
 The
Company attracts deposits from the market areas it serves by offering a wide
range of deposit accounts with a variety of rate structures and
terms.  The Company uses interest rate risk simulations to assist
management in monitoring the Company’s deposit pricing, and periodically may
offer special rates on certificates of deposits and money market accounts to
maintain sufficient liquidity levels.  The Company relies primarily on
its retail and commercial sales staff and current customer relationships to
attract and retain deposits.  Market interest rates and competitive
pressures can significantly affect the Company’s ability to attract and retain
deposits.  The Company’s strategic plan includes continuing to grow
non-interest bearing accounts which contribute to higher levels of non-interest
income and net interest margin.
 
 Total
deposits increased 4.3% to $573.3 million at December 31, 2007 compared to
$549.9 million at December 31, 2006, primarily due to an increase in demand
accounts which was offset primarily by decreases in money market and savings
accounts.  Management attributes the increase in demand accounts and
the decrease in money market and savings accounts to a focused effort to
increase the Company’s net interest margin by reducing the offered rate on its
higher cost deposit product offerings including money market and savings
accounts.  The Company was able to increase its demand accounts,
including an increase of $5.0 million in non-interest bearing accounts, through
an emphasis on cross selling current and prospective loan customers of the
Company.





30
 Index


The
Company anticipates that it will continue to attract a significant amount of
both non-interest and interest-bearing deposits as it expands its banking
operations and continues to promote its retail product offerings.


Table 13
provides a profile of the Company’s deposits during the past five
years.
 
 Table
13 – Deposits
 
 December
      31,(Dollars
      in thousands)
              
              2007
              
              
              2006
              
              
              2005
              
              
              2004
              
              
              2003Demand
      (NOW)
              
              $
              94,939
              
              
              $
              63,542
              
              
              $
              36,496
              
              
              $
              38,243
              
              
              $
              35,973Money
      market accounts
              
              
              107,880
              
              
              
              115,248
              
              
              
              146,659
              
              
              
              114,332
              
              
              
              82,546Savings
              
              
              26,971
              
              
              
              30,264
              
              
              
              22,507
              
              
              
              26,159
              
              
              
              28,456Individual
      retirement accounts-certificates of deposit
              
              
              29,298
              
              
              
              27,054
              
              
              
              19,674
              
              
              
              18,771
              
              
              
              17,841Certificates
      of deposit, $100,000 and over
              
              
              87,887
              
              
              
              95,069
              
              
              
              88,592
              
              
              
              65,705
              
              
              
              41,028Other
      certificates of deposit
              
              
              146,515
              
              
              
              143,891
              
              
              
              103,335
              
              
              
              104,259
              
              
              
              101,085Total
      interest bearing deposits
              
              
              493,490
              
              
              
              475,068
              
              
              
              417,263
              
              
              
              367,469
              
              
              
              306,929Total
      non-interest bearing deposits
              
              
              79,856
              
              
              
              74,850
              
              
              
              47,573
              
              
              
              43,837
              
              
              
              34,386Total
              
              $
              573,346
              
              
              $
              549,918
              
              
              $
              464,836
              
              
              $
              411,306
              
              
              $
              341,315
 
 
 Other
Borrowings
 
 The
Company’s other borrowings consist of repurchase agreements, lines of credit
with other financial institutions, federal funds purchased, which represent
overnight liabilities to non-affiliated financial institutions, and a structured
repurchase agreement.  While repurchase agreements are effectively
deposit equivalents, these arrangements consist of securities that are sold to
commercial customers under agreements to repurchase.  Other borrowings
decreased $11.5 million from $84.3 million at December 31, 2006 to $72.8 million
at December 31, 2007 primarily due to a decrease in federal funds purchased of
$32.6 million, offset by increases in repurchase agreements of $6.2 million,
line of credit borrowings of $5.1 million and structured repurchase agreements
of $9.8 million.  The decrease in other borrowings was offset by
increases in deposit accounts during 2007.
 
 Federal
Home Loan Bank Advances
 
 FHLB
advances decreased slightly from $92.8 million at December 31, 2006 to $91.4
million at December 31, 2007 primarily due to scheduled maturities of variable
rate advances that were partially replaced with additional FHLB borrowings;
additional liquidity to offset the remaining maturities and cash flow needs of
the Company were obtained through increases in deposit
accounts.  These advances principally consist of putable (or
convertible) instruments that give the FHLB the option quarterly to put the
advance back to the Company, at which time the Company can prepay the advance
without penalty or can allow the advance to become variable adjusting to
three-month LIBOR (London Interbank Offer Rate).  However, there is a
substantial penalty if the Company prepays the advances prior to the FHLB
exercising its option.  In calculations provided by the FHLB to the
Company, three month LIBOR would have to rise by more than 300 basis points from
December 31, 2007 levels before the FHLB would exercise its put
option.  These advances have various maturities through 2010 (see Note
9 to the Consolidated Financial Statements for additional
information).  The Company does not anticipate that it will enter into
putable advances for the foreseeable future, but instead may use fixed or
variable rate advances to fund balance sheet growth as needed.
 
 Liquidity
 
 Liquidity
levels are adjusted in order to meet funding needs for deposit outflows,
repayment of borrowings, and loan commitments and to meet asset/liability
objectives.  The Bank’s primary sources of funds are deposits;
repayment of loans and mortgage-backed securities; Federal Home Loan Bank
advances; maturities of investment securities and other short-term investments;
and income from operations. While scheduled loan and mortgage-backed security
repayments are a relatively predictable source of funds, deposit flows and loan
and mortgage-backed security prepayments are greatly influenced by general
interest rates, economic conditions and competition.  Liquidity
management is both a daily and long term function of business
management.  If the Banks require funds beyond those generated
internally, as of December 31, 2007 the Bank had $44.8 million in additional
capacity under its borrowing agreements with the FHLB and approximately $46.4
million in federal funds purchased and lines of credit availability with other
financial institutions.  The Company anticipates it will have
sufficient funds available to meet current loan commitments and other credit
commitments.





31
 Index


Capital


Total
capital of the Company decreased to $64.5 million at December 31, 2007 from
$65.5 million as of December 31, 2006, a decrease of $1.1 million or
1.6%.  The decrease in capital was primarily due to the repurchase of
186,090 shares of the Company’s common stock during the year for an aggregate
cost of $3.9 million offset primarily by net income of $3.5 million and a
decrease in accumulated other comprehensive loss of $1.5 million related to
increases in the fair value of the Company’s available for sale securities and
interest rate swaps, net of reclassifications.  Also contributing to
the decrease in shareholders’ equity were dividends on common shares of $2.3
million.
 
 The
Company has actively been repurchasing shares of its common stock since May 21,
1999.  A net total of 603,038 shares at an aggregate cost of $10.4
million have been repurchased since that time under both the current and prior
repurchase plans.  The Company's Board of Directors authorized a share
repurchase plan in June 2007 under which a maximum of $5.0 million of the
Company's common stock could be purchased.  Through December 31, 2007,
a total of $2.7 million had been expended to purchase 125,000 shares under this
plan.  Shares purchased under previously authorized plans totaled
478,038 shares with an aggregate purchase price of $7.7 million.
 
 Regulatory
agencies measure capital adequacy within a framework that makes capital
requirements, in part, dependent on the risk inherent in the balance sheets of
individual financial institutions.  The Company and the Banks continue
to exceed the regulatory requirements for Tier I, Tier I leverage and total
risk-based capital ratios (see Note 14 to the Consolidated Financial
Statements).
 
 Off
Balance Sheet Arrangements
 
 The
Company uses off balance sheet financial instruments, such as commitments to
make loans, credit lines and letters of credit to meet customer financing
needs.  These agreements provide credit or support the credit of
others and usually have expiration dates but may expire without being
used.  In addition to credit risk, the Company also has liquidity risk
associated with these commitments as funding for these obligations could be
required immediately.  The contractual amount of these financial
instruments with off balance sheet risk was as follows at December 31,
2007:
  (Dollars
      in thousands)Commitments
      to make loans
                
                $
                14,789Unused
      lines of credit
                
                
                136,002Standby
      letters of credit
                
                
                6,914Total
                
                $
                157,705
  The
Company also utilizes an interest rate swap arrangement with a notional amount
of $25 million to exchange variable payments of interest tied to the prime
interest rate for receipt of fixed rate payments.  The variable rate
of the swaps resets daily, with net interest being settled
monthly.  The notional amount of the swap does not represent amounts
exchanged by the parties.  The amount exchanged is determined by
reference to the notional amount and other terms of the swap (See Note 15 to the
Consolidated Financial Statements).
 
 Aggregate
Contractual Obligations
 
 As
      of December 31, 2007
                
                Total
                
                
                Less
      than
                  1 year
                
                
                1-3 years
                
                
                3-5 years
                
                
                More
      than
                  5 years(Dollars
      in thousands)Time
      deposits
                
                $
                263,607
                
                
                $
                216,263
                
                
                $
                44,420
                
                
                $
                2,899
                
                
                $
                25Repurchase
      agreements
                
                
                64,243
                
                
                
                54,443
                
                
                
                -
                
                
                
                9,800
                
                
                
                -FHLB
      borrowings
                
                
                91,376
                
                
                
                14,485
                
                
                
                76,891
                
                
                
                -
                
                
                
                -Subordinated
      debentures
                
                
                17,000
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                17,000Lease
      commitments
                
                
                4,591
                
                
                
                618
                
                
                
                1,138
                
                
                
                1,075
                
                
                
                1,760Total
                
                $
                440,817
                
                
                $
                285,809
                
                
                $
                122,449
                
                
                $
                13,774
                
                
                $
                18,785
 
 
 Time
deposits represent certificates of deposit held by the Company.
 
 FHLB
advances represent the amounts that are due the FHLB and consist of $67.0
million in convertible fixed rate advances and $24.4 million in fixed rate
advance.  With respect to the convertible fixed rate advances, the
FHLB has the quarterly right to require the Company to choose either conversion
of the fixed rate to a variable rate tied to the three month LIBOR index or
prepayment of the advance without penalty.  There is a substantial
penalty if the Company prepays the advances before FHLB exercises its
right.  Management does not expect these advances to be converted in
the near term.
 
 Subordinated
debentures represent the scheduled maturities of subordinated debentures issued
to trusts formed by the Company in connection with the issuance of trust
preferred securities.
 
 Lease
commitments represent the total minimum lease payments under noncancelable
operating leases, before considering renewal options that generally are
present.











32
 Index


Item 7A.  Quantitative And Qualitative
Disclosures About Market Risk


Asset/liability
management is the process of balance sheet control designed to ensure safety and
soundness and to maintain liquidity and regulatory capital standards while
maintaining acceptable net interest income.  Interest rate risk is the
exposure to adverse changes in net interest income as a result of market
fluctuations in interest rates.  Management continually monitors
interest rate and liquidity risk so that it can implement appropriate funding,
investment, and other balance sheet strategies.  Management considers
market interest rate risk to be one of the Company’s most significant ongoing
business risk considerations.
 
 The
Company currently contracts with an independent third party consulting firm to
measure its interest rate risk position.  The consulting firm utilizes
an earnings simulation model to analyze net interest income
sensitivity.  Current balance sheet amounts, current yields and costs,
corresponding maturity and repricing amounts and rates, other relevant
information, and certain assumptions made by management are combined with
gradual movements in interest rates of 200 basis points up and 200 basis points
down within the model to estimate their combined effects on net interest income
over a one-year horizon.  Interest rate movements are spread equally
over the forecast period of one year.  The Company feels that using
gradual interest rate movements within the model is more representative of
future rate changes than instantaneous interest rate shocks.  The
Company does not project growth in amounts for any balance sheet category when
constructing the model because of the belief that projected growth can mask
current interest rate risk imbalances over the projected horizon.  The
Company believes that the changes made to its interest rate risk measurement
process have improved the accuracy of results of the
process.  Consequently, the Company believes that it has better
information on which to base asset and liability allocation decisions going
forward.
 
 Assumptions
based on the historical behavior of the Company’s deposit rates and balances in
relation to changes in interest rates are incorporated into the
model.  These assumptions are inherently uncertain and, as a result,
the model cannot precisely measure future net interest income or precisely
predict the impact of fluctuations in market interest rates on net interest
income.  The Company continually monitors and updates the assumptions
as new information becomes available.  Actual results will differ from
the model's simulated results due to timing, magnitude and frequency of interest
rate changes, and actual variations from the managerial assumptions utilized
under the model, as well as changes in market conditions and the application and
timing of various management strategies.
 
 The base
scenario represents projected net interest income over a one year forecast
horizon exclusive of interest rate changes to the simulation
model.  Given a gradual 200 basis point increase in the projected
yield curve used in the simulation model (“Up 200 Scenario”), it is estimated
that as of December 31, 2007 the Company’s net interest income would decrease by
an estimated 0.2%, or $36,000, over the one year forecast
horizon.  However, considering reasonable growth assumptions, the
Company expects that net interest income will grow over the forecast
horizon.  As of December 31, 2006, in the Up 200 Scenario the Company
estimated that net interest income would decrease 5.6%, or $1.1 million, over a
one year forecast horizon ending December 31, 2007.  Given a gradual
200 basis point decrease in the projected yield curve used in the simulation
model (“Down 200 Scenario”), it is estimated that as of December 31, 2007 the
Company’s net interest income would decrease by an estimated 0.2%, or $37,000,
over the one year forecast horizon.  As of December 31, 2006, given a
gradual 200 basis point decrease in the projected yield curve used in the
simulation model (“Down 200 Scenario”), the Company estimated that net interest
income would decrease 1.6%, or $324,000, over a one year forecast horizon ending
December 31, 2007.
 
 The
projected results are within the Company’s asset/liability management policy
limits, which states that the negative impact to net interest income should not
exceed 7% in a 200 basis point decrease or increase in the projected yield curve
over a one year forecast horizon.  The forecast results are heavily
dependent on the assumptions regarding changes in deposit rates; the Company can
minimize the reduction in net interest income in a period of rising interest
rates to the extent that it can curtail raising deposit rates during this
period.  The Company continues to explore transactions and strategies
to both increase its net interest income and minimize its interest rate
risk.
 
 The
interest sensitivity profile of the Company at any point in time will be
affected by a number of factors.  These factors include the mix of
interest sensitive assets and liabilities as well as their relative repricing
schedules.  Such profile is also influenced by market interest rates,
deposit growth, loan growth, and other factors.
 
 The
following tables, which are representative only and are not precise measurements
of the effect of changing interest rates on the Company’s net interest income in
the future, illustrate the Company’s estimated one year net interest income
sensitivity profile based on the above referenced asset/liability model as of
December 31, 2007 and 2006, respectively:


33
 Index


Interest
Rate Sensitivity For 2007
 (Dollars
      in thousands)
              
              Gradual
                Decrease
                In
      Interest
                Rates
      of 200
                Basis
      Points
              
              
              Base
              
              
              Gradual
                Increase
                In
      Interest
                Rates
      of 200
                Basis
      PointsProjected
      interest income:Loans
              
              $
              41,263
              
              
              $
              43,909
              
              
              $
              46,469Investments
              
              
              4,648
              
              
              
              4,886
              
              
              
              5,027FHLB
      and FRB stock
              
              
              377
              
              
              
              377
              
              
              
              377Interest-bearing
      deposits in other financialinstitutions
              
              
              29
              
              
              
              49
              
              
              
              68Federal
      funds sold
              
              
              844
              
              
              
              1,152
              
              
              
              1,433Total
      interest income
              
              
              47,161
              
              
              
              50,373
              
              
              
              53,374Projected
      interest expense:Deposits
              
              
              15,079
              
              
              
              17,216
              
              
              
              19,233Federal
      funds purchased, line of credit andRepurchase
      agreements
              
              
              2,122
              
              
              
              2,864
              
              
              
              3,589FHLB
      advances
              
              
              5,092
              
              
              
              5,216
              
              
              
              5,340Other
      borrowings
              
              
              175
              
              
              
              204
              
              
              
              233Subordinated
      debentures
              
              
              1,041
              
              
              
              1,184
              
              
              
              1,326Total
      interest expense
              
              
              23,509
              
              
              
              26,684
              
              
              
              29,721Net
      interest income
              
              $
              23,652
              
              
              $
              23,689
              
              
              $
              23,653Change
      from base
              
              $
              (37
              )
              
              
              
              
              
              $
              (36
              )%
      Change from base
              
              
              (0.16
              )%
              
              
              
              
              
              
              (0.15
              )%
 
 
 Interest
Rate Sensitivity For 2006
 (Dollars
      in thousands)
              
              Gradual
                Decrease
                In
      Interest
                Rates
      of 200
                Basis Points
              
              
              Base
              
              
              Gradual
                Increase
                In
      Interest
                Rates
      of 200
                Basis PointsProjected
      interest income:Loans
              
              $
              41,508
              
              
              $
              44,098
              
              
              $
              46,630Investments
              
              
              5,573
              
              
              
              5,690
              
              
              
              5,814FHLB
      and FRB stock
              
              
              364
              
              
              
              364
              
              
              
              364Interest-bearing
      deposits in other financialinstitutions
              
              
              340
              
              
              
              435
              
              
              
              522Total
      interest income
              
              
              47,785
              
              
              
              50,587
              
              
              
              53,330Projected
      interest expense:Deposits
              
              
              17,575
              
              
              
              18,778
              
              
              
              20,975Federal
      funds purchased, line of credit andRepurchase
      agreements
              
              
              4,048
              
              
              
              5,006
              
              
              
              5,957FHLB
      advances
              
              
              5,211
              
              
              
              5,385
              
              
              
              5,960Subordinated
      debentures
              
              
              1,133
              
              
              
              1,276
              
              
              
              1,416Total
      interest expense
              
              
              27,967
              
              
              
              30,445
              
              
              
              34,308Net
      interest income
              
              $
              19,818
              
              
              $
              20,142
              
              
              $
              19,022Change
      from base
              
              $
              (324
              )
              
              
              
              
              
              $
              (1,120
              )%
      Change from base
              
              
              (1.61
              )%
              
              
              
              
              
              
              (5.56
              )%


























34
 Index

















COMMUNITY BANK SHARES OF INDIANA, INC.


New
Albany, Indiana





FINANCIAL STATEMENTS


December
31, 2007, 2006, and 2005














CONTENTS











REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
      FIRM
            36FINANCIAL
      STATEMENTSCONSOLIDATED BALANCE SHEETS
            37CONSOLIDATED STATEMENTS OF INCOME
            38CONSOLIDATED STATEMENTS OF CHANGES
    INSHAREHOLDERS’ EQUITY
            39CONSOLIDATED STATEMENTS OF CASH
FLOWS
            41NOTES TO CONSOLIDATED FINANCIAL
    STATEMENTS
            43














35
 Index





Crowe
      Chizek and Company LLC
              Member
      Horwath International








REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM








Board of
Directors and Shareholders
 Community
Bank Shares of Indiana, Inc.
 New
Albany, Indiana
 
 
 We have
audited the accompanying consolidated balance sheets of Community Bank Shares of
Indiana, Inc. as of December 31, 2007 and 2006, and the related
consolidated statements of income, changes in shareholders’ equity, and cash
flows for each of the three years in the period ended December 31,
2007.  These financial statements are the responsibility of the
Company’s management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
 
 We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States).  Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement.  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
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 consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Community Bank Shares of
Indiana, Inc. as of December 31, 2007 and 2006, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 2007 in conformity with United States generally accepted accounting
principles.







/s/
      Crowe Chizek and Company LLCLouisville,
      KentuckyMarch
      28, 2008








36
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.





CONSOLIDATED BALANCE SHEETS


December
31


(In
thousands, except share amounts)





2007
                
                
                2006ASSETSCash
      and due from financial institutions
                
                $
                14,570
                
                
                $
                20,224Interest-bearing
      deposits in other financial institutions
                
                
                13,943
                
                
                
                1,210Securities
      available for sale
                
                
                99,465
                
                
                
                121,311Loans
      held for sale
                
                
                757
                
                
                
                908Loans,
      net of allowance for loan losses of $6,316 and $5,654
                
                
                629,732
                
                
                
                607,932Federal
      Home Loan Bank and Federal Reserve stock
                
                
                8,096
                
                
                
                7,418Accrued
      interest receivable
                
                
                3,537
                
                
                
                3,968Premises
      and equipment, net
                
                
                15,147
                
                
                
                15,025Cash
      surrender value of life insurance
                
                
                16,911
                
                
                
                16,233Goodwill
                
                
                15,335
                
                
                
                15,983Other
      intangible assets
                
                
                2,899
                
                
                
                2,893Other
      assets
                
                
                3,176
                
                
                
                3,528$
                823,568
                
                
                $
                816,633LIABILITIES
      AND SHAREHOLDERS’ EQUITYDepositsNon
      interest-bearing
                
                $
                79,856
                
                
                $
                74,850Interest-bearing
                
                
                493,490
                
                
                
                475,068Total
      deposits
                
                
                573,346
                
                
                
                549,918Other
      borrowings
                
                
                72,796
                
                
                
                84,335Federal
      Home Loan Bank advances
                
                
                91,376
                
                
                
                92,756Subordinated
      debentures
                
                
                17,000
                
                
                
                17,000Accrued
      interest payable
                
                
                1,956
                
                
                
                2,178Other
      liabilities
                
                
                2,629
                
                
                
                4,905Total
      liabilities
                
                
                759,103
                
                
                
                751,092Commitments
      and contingent liabilities (Note 16)
                
                
                -
                
                
                
                -Shareholders’
      equityPreferred
      stock, without par value; 5,000,000 shares authorized;
                  none
      issued
                
                
                -
                
                
                
                -Common
      stock, $.10 par value per share; 10,000,000 shareauthorized;
      3,863,942 shares issued;
                  3,260,904 and 3,439,519outstanding
      in 2007 and 2006, respectively
                
                
                386
                
                
                
                386Additional
      paid-in capital
                
                
                45,035
                
                
                
                45,032Retained
      earnings
                
                
                29,723
                
                
                
                28,519Accumulated
      other comprehensive loss
                
                
                (239
                )
                
                
                (1,741
                )Treasury
      stock, at cost (2007- 603,038 shares, 2006- 424,423
shares)
                
                
                (10,440
                )
                
                
                (6,655
                )Total
      shareholders’ equity
                
                
                64,465
                
                
                
                65,541$
                823,568
                
                
                $
                816,633






















See
accompanying notes.
 37
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.








CONSOLIDATED STATEMENTS OF INCOME


Years
ended December 31


(In
thousands, except per share amounts)








2007
              
              
              2006
              
              
              2005Interest
      and dividend incomeLoans,
      including fees
              
              $
              45,016
              
              
              $
              40,299
              
              
              $
              30,993Taxable
      securities
              
              
              4,711
              
              
              
              4,738
              
              
              
              3,352Tax-exempt
      securities
              
              
              510
              
              
              
              467
              
              
              
              291Federal
      Home Loan Bank and Federal Reserve dividends
              
              
              381
              
              
              
              397
              
              
              
              364Interest-bearing
      deposits in other financial institutions
              
              
              144
              
              
              
              132
              
              
              
              5850,762
              
              
              
              46,033
              
              
              
              35,058Interest
      expenseDeposits
              
              
              18,783
              
              
              
              16,933
              
              
              
              10,782Other
      borrowings
              
              
              2,824
              
              
              
              3,054
              
              
              
              1,395Federal
      Home Loan Bank advances
              
              
              5,492
              
              
              
              5,066
              
              
              
              4,746Subordinated
      debentures
              
              
              1,296
              
              
              
              942
              
              
              
              42128,395
              
              
              
              25,995
              
              
              
              17,344Net
      interest income
              
              
              22,367
              
              
              
              20,038
              
              
              
              17,714Provision
      for loan losses
              
              
              1,296
              
              
              
              262
              
              
              
              1,750Net
      interest income after provision for loan losses
              
              
              21,071
              
              
              
              19,776
              
              
              
              15,964Non-interest
      incomeService
      charges on deposit accounts
              
              
              3,891
              
              
              
              3,487
              
              
              
              2,593Commission
      income
              
              
              172
              
              
              
              107
              
              
              
              74Net
      gain (loss) on sales of available for sale securities
              
              
              (41
              )
              
              
              -
              
              
              
              23Mortgage
      banking income
              
              
              236
              
              
              
              322
              
              
              
              462Increase
      in cash surrender value of life insurance
              
              
              678
              
              
              
              573
              
              
              
              527Gain
      on recognition of life insurance benefit
              
              
              -
              
              
              
              -
              
              
              
              656Gain
      on disposition of equity stock
              
              
              -
              
              
              
              18
              
              
              
              345Other
      income
              
              
              205
              
              
              
              287
              
              
              
              1855,141
              
              
              
              4,794
              
              
              
              4,865Non-interest
      expenseSalaries
      and employee benefits
              
              
              11,466
              
              
              
              10,345
              
              
              
              8,843Occupancy
              
              
              1,760
              
              
              
              1,479
              
              
              
              1,193Equipment
              
              
              1,446
              
              
              
              1,188
              
              
              
              1,142Data
      processing
              
              
              2,183
              
              
              
              2,162
              
              
              
              1,883Marketing
      and advertising
              
              
              583
              
              
              
              527
              
              
              
              503Legal
      and professional service fees
              
              
              1,383
              
              
              
              1,097
              
              
              
              836Other
      expense
              
              
              2,983
              
              
              
              2,318
              
              
              
              1,75521,804
              
              
              
              19,116
              
              
              
              16,155Income
      before income taxes
              
              
              4,408
              
              
              
              5,454
              
              
              
              4,674Income
      tax expense
              
              
              905
              
              
              
              1,343
              
              
              
              925Net
      income
              
              $
              3,503
              
              
              $
              4,111
              
              
              $
              3,749Earnings
      per share:Basic
              
              $
              1.05
              
              
              $
              1.36
              
              
              $
              1.43Diluted
              
              $
              1.04
              
              
              $
              1.35
              
              
              $
              1.41













See
accompanying notes.
 38
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.





CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’
EQUITY


Years
ended December 31


(In
thousands except per share amounts)














Common
      Stock
            
            
            Additional
            
            
            
            
            
            Accumulated
              Other
            
            
            Unearned
              ESOP
      and
            
            
            
            
            
            TotalShares
              Outstanding
            
            
            Amount
            
            
            Paid-In
              Capital
            
            
            Retained
              Earnings
            
            
            Comprehensive
              Loss
            
            
            Performance
              Share Awards
            
            
            Treasury
              Stock
            
            
            Shareholders’
              EquityBalance
      at January 1, 2005
            
            
            2,629,654
            
            
            $
            300
            
            
            $
            24,845
            
            
            $
            24,098
            
            
            $
            (1,024
            )
            
            $
            (2
            )
            
            $
            (5,436
            )
            
            $
            42,781Comprehensive
      income:Net
      income
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            3,749
            
            
            
            
            
            
            
            -
            
            
            
            -
            
            
            
            3,749Change
      in securities available for sale, net ofreclassification
      and tax effects
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (1,259
            )
            
            
            -
            
            
            
            -
            
            
            
            (1,259
            )Change
      in unrealized gains (losses),interest
      rate swap net of reclassificationand
      tax effects
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (534
            )
            
            
            -
            
            
            
            -
            
            
            
            (534
            )Change
      in minimum pension liability,net
      of tax effects
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (21
            )
            
            
            -
            
            
            
            -
            
            
            
            (21
            )Total
      comprehensive income
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            1,935Cash
      dividends declared ($.580 per share)
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (1,518
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (1,518
            )Purchase
      of treasury stock
            
            
            (24,700
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (557
            )
            
            
            (557
            )Stock
      award expense
            
            
            -
            
            
            
            -
            
            
            
            125
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            125Stock
      options exercised
            
            
            375
            
            
            
            -
            
            
            
            (1
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            6
            
            
            
            5Commitment
      of shares to be releasedunder
      ESOP
            
            
            215
            
            
            
            -
            
            
            
            2
            
            
            
            -
            
            
            
            -
            
            
            
            2
            
            
            
            -
            
            
            
            4Balance
      at December 31, 2005
            
            
            2,605,544
            
            
            
            300
            
            
            
            24,971
            
            
            
            26,329
            
            
            
            (2,838
            )
            
            
            -
            
            
            
            (5,987
            )
            
            
            42,775Comprehensive
      income:Net
      income
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            4,111
            
            
            
            
            
            
            
            -
            
            
            
            -
            
            
            
            4,111Change
      in securities available for sale, net ofreclassification
      and tax effects
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            631
            
            
            
            -
            
            
            
            -
            
            
            
            631Change
      in unrealized gains (losses),interest
      rate swap net of reclassificationand
      tax effects
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            390
            
            
            
            -
            
            
            
            -
            
            
            
            390





39
 Index





CONSOLIDATED
STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY


Years
ended December 31


(In
thousands except per share amounts)





Common
      Stock
                
                
                Additional
                
                
                
                
                
                Accumulated
                  Other
                
                
                Unearned
                  ESOP
      and
                
                
                
                
                
                TotalShares
                  Outstanding
                
                
                Amount
                
                
                Paid-In
                  Capital
                
                
                Retained
                  Earnings
                
                
                Comprehensive
                  Loss
                
                
                Performance
                  Share Awards
                
                
                Treasury
                  Stock
                
                
                Shareholders’
                  EquityChange
      in minimum pension liability,net
      of tax effects
                
                
                -
                
                
                $
                -
                
                
                $
                -
                
                
                $
                -
                
                
                $
                76
                
                
                $
                -
                
                
                $
                -
                
                
                $
                76Total
      comprehensive income
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                5,208Cash
      dividends declared ($.640 per share)
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (1,921
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (1,921
                )Purchase
      of treasury stock
                
                
                (30,000
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (685
                )
                
                
                (685
                )Acquisition
      of The Bancshares, Inc.
                
                
                862,875
                
                
                
                86
                
                
                
                19,722
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                19,808Stock
      award expense
                
                
                -
                
                
                
                -
                
                
                
                261
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                261Stock
      options exercised
                
                
                1,100
                
                
                
                -
                
                
                
                (2
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                17
                
                
                
                15Tax
      benefit for stock options exercised
                
                
                -
                
                
                
                -
                
                
                
                80
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                80Balance
      at December 31, 2006
                
                
                3,439,519
                
                
                
                386
                
                
                
                45,032
                
                
                
                28,519
                
                
                
                (1,741
                )
                
                
                -
                
                
                
                (6,655
                )
                
                
                65,541Comprehensive
      income:Net
      income
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                3,503
                
                
                
                
                
                
                
                -
                
                
                
                -
                
                
                
                3,503Change
      in securities available for sale, net ofreclassification
      and tax effects
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                752
                
                
                
                -
                
                
                
                -
                
                
                
                752Change
      in unrealized gains (losses),interest
      rate swap net of reclassificationand
      tax effects
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                632
                
                
                
                -
                
                
                
                -
                
                
                
                632Unrealized
      loss on pension benefits,net
      of tax effects
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (36
                )
                
                
                -
                
                
                
                -
                
                
                
                (36
                )Total
      comprehensive income
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                4,851Reclassification
      of unrealized loss on interestrate
      swap, net of tax effect (see Note 15 to theConsolidated
      Financial Statements)
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                154
                
                
                
                -
                
                
                
                -
                
                
                
                154Cash
      dividends declared ($.685 per share)
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (2,299
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (2,299
                )Purchase
      of treasury stock
                
                
                (186,090
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (3,904
                )
                
                
                (3,904
                )Stock
      award expense
                
                
                -
                
                
                
                -
                
                
                
                122
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                122Issuance
      of performance unit shares
                
                
                7,475
                
                
                
                -
                
                
                
                (119
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                119
                
                
                
                -Balance
      at December 31, 2007
                
                
                3,260,904
                
                
                $
                386
                
                
                $
                45,035
                
                
                $
                29,723
                
                
                $
                (239
                )
                
                $
                -
                
                
                $
                (10,440
                )
                
                $
                64,465



















See
accompanying notes.
 40
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.





CONSOLIDATED STATEMENTS OF CASH FLOWS


Years
ended December 31


(In
thousands)


2007
              
              
              2006
              
              
              2005Cash
      flows from operating activitiesNet
      income
              
              $
              3,503
              
              
              $
              4,111
              
              
              $
              3,749Adjustments
      to reconcile net income tonet cash from operating
      activities:Provision
      for loan losses
              
              
              1,296
              
              
              
              262
              
              
              
              1,750Depreciation
      and amortization
              
              
              1,660
              
              
              
              1,287
              
              
              
              1,231Net
      amortization of securities
              
              
              (106
              )
              
              
              9
              
              
              
              259Net
      (gain) loss on sales of available for sale securities
              
              
              41
              
              
              
              -
              
              
              
              (23
              )Mortgage
      loans originated for sale
              
              
              (12,032
              )
              
              
              (17,418
              )
              
              
              (27,622
              )Proceeds
      from mortgage loan sales
              
              
              12,370
              
              
              
              18,466
              
              
              
              27,702Net
      gain on sales of mortgage loans
              
              
              (187
              )
              
              
              (262
              )
              
              
              (426
              )Increase in cash
      surrender value of life insurance
              
              
              (678
              )
              
              
              (573
              )
              
              
              (527
              )Gain
      on life insurance benefit
              
              
              -
              
              
              
              -
              
              
              
              (656
              )FHLB
      stock dividends
              
              
              -
              
              
              
              (37
              )
              
              
              (207
              )Share-based
      compensation expense
              
              
              122
              
              
              
              332
              
              
              
              155ESOP
      compensation expense
              
              
              -
              
              
              
              -
              
              
              
              4Net
      gain on sale of other real estate
              
              
              48
              
              
              
              (20
              )
              
              
              -Gain
      on disposition of equity stock
              
              
              -
              
              
              
              (18
              )
              
              
              (345
              )Net
      loss on sales of fixed assets
              
              
              19
              
              
              
              -
              
              
              
              -Net
      change inAccrued
      interest receivable
              
              
              431
              
              
              
              (503
              )
              
              
              (641
              )Accrued
      interest payable
              
              
              (222
              )
              
              
              862
              
              
              
              337Other
      assets
              
              
              (415
              )
              
              
              484
              
              
              
              (1,644
              )Other
      liabilities
              
              
              (890
              )
              
              
              (351
              )
              
              
              1,901Net
      cash from operating activities
              
              
              4,960
              
              
              
              6,631
              
              
              
              4,997Cash
      flows from investing activitiesAcquisition
      of The Bancshares, Inc., net
              
              
              -
              
              
              
              (795
              )
              
              
              -Net
      change in interest-bearing deposits
              
              
              (12,733
              )
              
              
              164
              
              
              
              501Available
      for sale securities:Sales
              
              
              10,937
              
              
              
              2,990
              
              
              
              5,127Purchases
              
              
              (21,868
              )
              
              
              (18,980
              )
              
              
              (26,608
              )Maturities,
      prepayments and calls
              
              
              34,100
              
              
              
              18,969
              
              
              
              10,655Loan
      originations and payments, net
              
              
              (23,387
              )
              
              
              (7,914
              )
              
              
              (63,993
              )Purchase
      of premises and equipment, net
              
              
              (1,504
              )
              
              
              (2,248
              )
              
              
              (616
              )Proceeds
      from the sale of other real estate
              
              
              252
              
              
              
              416
              
              
              
              -Purchase
      of Federal Reserve stock
              
              
              (769
              )
              
              
              -
              
              
              
              -Redemption
      of FHLB and Federal Reserve stock
              
              
              91
              
              
              
              2,011
              
              
              
              -Proceeds
      from life insurance benefit
              
              
              -
              
              
              
              -
              
              
              
              977Investment
      in cash surrender value of life insurance
              
              
              -
              
              
              
              (2,050
              )
              
              
              (1,854
              )Net
      cash from investing activities
              
              
              (14,881
              )
              
              
              (7,437
              )
              
              
              (75,811
              )






















See
accompanying notes.
 41
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.





CONSOLIDATED
STATEMENTS OF CASH FLOWS


Years
ended December 31


(In
thousands)





2007
              
              
              2006
              
              
              2005Cash
      flows from financing activitiesNet
      change in deposits
              
              $
              23,509
              
              
              $
              (18,784
              )
              
              $
              53,530Net
      change in other borrowings
              
              
              (11,539
              )
              
              
              36,600
              
              
              
              4,106Proceeds
      from Federal Home Loan Bank advances
              
              
              113,000
              
              
              
              128,300
              
              
              
              86,500Repayment
      of Federal Home Loan Bank advances
              
              
              (114,500
              )
              
              
              (143,800
              )
              
              
              (70,500
              )Proceeds
      from issuance of subordinated debentures
              
              
              -
              
              
              
              10,000
              
              
              
              -Exercise
      of stock options
              
              
              -
              
              
              
              15
              
              
              
              5Purchase
      of treasury stock
              
              
              (3,904
              )
              
              
              (685
              )
              
              
              (557
              )Tax
      benefit of stock options exercised
              
              
              -
              
              
              
              80
              
              
              
              -Cash
      dividends paid
              
              
              (2,299
              )
              
              
              (1,921
              )
              
              
              (1,518
              )Net
      cash from financing activities
              
              
              4,267
              
              
              
              9,805
              
              
              
              71,566Net
      change in cash and due from banks
              
              
              (5,654
              )
              
              
              8,999
              
              
              
              752Cash
      and due from banks at beginning of year
              
              
              20,224
              
              
              
              11,225
              
              
              
              10,473Cash
      and due from banks at end of year
              
              $
              14,570
              
              
              $
              20,224
              
              
              $
              11,225Supplemental
      cash flow information:Interest
      paid
              
              $
              28,617
              
              
              $
              25,133
              
              
              $
              17,007Income
      taxes paid, net of refunds
              
              
              1,274
              
              
              
              1,145
              
              
              
              1,460Supplemental
      noncash disclosures:Transfers
      from loans to foreclosed assets
              
              
              592
              
              
              
              506
              
              
              
              471Sale
      and financing of foreclosed assets
              
              
              167
              
              
              
              249
              
              
              
              -
 
 See Note
2 regarding noncash transactions included in the Company’s acquisition of The
Bancshares,   Inc.





See
accompanying notes.
 42
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES





Nature of Operations and
Principles of Consolidation:  The consolidated financial
statements include Community Bank Shares of Indiana, Inc. and its wholly owned
subsidiaries, Your Community Bank (YCB) and The Scott County State Bank (SCSB),
collectively referred to as “the Company”.  YCB utilizes three
wholly-owned subsidiaries to manage its investment portfolio.  CBSI
Holdings, Inc. and CBSI Investments, Inc. are Nevada corporations which jointly
own CBSI Investment Portfolio Management, LLC, a Nevada limited liability
corporation which holds and manages the Bank’s investment
securities.  YCB established a new Community Development Entity (CDE)
subsidiary in July 2002 named CBSI Development Fund, Inc.  The CDE
enables YCB to participate in the federal New Markets Tax Credit (NMTC)
Program.  The NMTC Program is administered by the Community
Development Financial Institutions Fund of the United States Treasury and is
designed to promote investment in low-income communities by providing a tax
credit over seven years for equity investments in CDE’s.  During June
2004 and June 2006, the Company completed placements of floating rate
subordinated debentures through Community Bank Shares (IN) Statutory Trust I and
Trust II (Trusts), trusts formed by the Company.  Because the Trusts
are not consolidated with the Company, pursuant to FASB Interpretation No. 46,
the financial statements reflect the subordinated debt issued by the Company to
the Trusts.  Intercompany balances and transactions are eliminated in
consolidation.  On July 1, 2006, the Company completed its acquisition
of The Bancshares, Inc. and its wholly-owned subsidiary SCSB; subsequently, the
Company liquidated The Bancshares, Inc.





The
Company provides financial services through its offices in Floyd, Clark and
Scott counties in Indiana, and Jefferson and Nelson counties in
Kentucky.  Its primary deposit products are checking, savings, and
term certificate accounts, and its primary lending products are residential
mortgage, commercial, and installment loans.  Substantially all loans
are secured by specific items of collateral including business assets, consumer
assets, and commercial and residential real estate.  Commercial loans
are expected to be repaid from cash flow from operations of
businesses.  There are no significant concentrations of loans to any
one industry or customer.  However, the customers’ ability to repay
their loans is dependent on the real estate and general economic conditions in
the area.





Use of
Estimates:  To prepare financial statements in conformity with
the United States generally accepted accounting principles management makes
estimates and assumptions based on available information.  These
estimates and assumptions affect the amounts reported in the financial
statements and the disclosures provided, and actual results could
differ.  The allowance for loan losses, valuation of goodwill and
other intangible assets, and deferred tax assets are particularly subject to
change.





Cash
Flows:  Cash and cash equivalents include cash and non-interest
bearing deposits with other financial institutions with maturities less than 90
days.  Net cash flows are reported for interest-bearing deposits in
other financial institutions, loans, deposits, and short-term
borrowings.





Interest-bearing Deposits in
Other Financial Institutions:  Interest-bearing deposits in
other financial institutions mature within one year, are carried at
cost.





Securities:  Securities
are classified as available for sale when they might be sold before
maturity.  Securities available for sale are carried at fair value,
with unrealized holding gains and losses reported in other comprehensive income,
net of tax.




















43
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 1 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (Continued)


Interest
income includes amortization of purchase premium or
discount.  Premiums and discounts on securities are amortized on the
level-yield method without anticipating prepayments except for mortgage backed
securities where prepayments are anticipated.  Gains and losses on
sales are recorded on the trade date and determined using the specific
identification method.
 
 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:   the length of time and extent
that fair value has been less than cost, the financial condition and near term
prospects of the issuer, and the Company’s ability and intent to hold the
security for a period sufficient to allow for any anticipated recovery in fair
value.
 
 Mortgage Banking
Activities:  Mortgage loans originated and intended for sale in
the secondary market are carried at the lower of aggregate cost or market
value.  To deliver closed loans to the secondary market and to control
its interest rate risk prior to sale, the Company enters into agreements to sell
loans.  The aggregate market value of mortgage loans held for sale
considers the price of the sales contracts.  Loan commitments related
to the origination of mortgage loans held for sale and the corresponding sales
contracts are considered derivative instruments.  The Company’s
commitments are for fixed rate mortgage loans, generally lasting 60 days and are
at market rates when initiated.  The Company had commitments to
originate $231,000 and $1,134,000 in loans and an equal amount of corresponding
sales contracts at December 31, 2007 and 2006.  The impact of
accounting for these instruments as derivatives was not material and
substantially all of the gain on sale generated from mortgage banking activities
continues to be recorded when closed loans are delivered into the sales
contracts.
 
 The
Company sells loans on a servicing released basis.  The Company sold
loans previous to 2006 on a servicing retained basis.  Servicing
assets are recorded on loans sold with servicing retained and are capitalized in
other assets and expensed into other income against service fee income inproportion
to, and over the period of, estimated net servicing
revenues.  Impairment is evaluated based on the fair value of the
assets, using groupings of the underlying loans as to interest rates and then,
secondarily, as to geographic and prepayment characteristics.  Fair
value is determined using prices for similar assets with similar
characteristics, when available, or based upon discounted cash flows using
market-based assumptions.  Any impairment of a grouping is reported as
a valuation allowance, to the extent that fair value is less than the
capitalized amount for a grouping.
 Servicing
fee income which is reported on the income statement as mortgage banking income
is recorded for fees earned for servicing loans.  The fees are based
on a contractual percentage of the outstanding principal.  The
amortization of mortgage servicing rights is netted against mortgage servicing
fee income.  Servicing fees, net of amortization, totaled $49,000,
$60,000 and $36,000 for the years ended December 31, 2007, 2006 and
2005.  Late fees and ancillary fees related to loan servicing are not
material.
 
 Loans:  Loans
that management has the intent and ability to hold for the foreseeable future or
until maturity or payoff are reported at the principal balance outstanding, net
of deferred loan fees and costs and an allowance for loan
losses.








44
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 1 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (Continued)
 
 Interest
income is accrued on the unpaid principal balance.  Loan origination
fees, net of certain direct origination costs, are deferred and recognized in
interest income using the level-yield method without anticipating
prepayments.  Interest income on commercial, mortgage and consumer
loans is discontinued at the time the loan is 90 days
delinquent.  Consumer loans are typically charged-off no later than
120 days past due.  In all cases, loans are placed on non-accrual or
charged-off at an earlier date if collection of principal or interest is
considered doubtful.  All interest accrued but not received for loans
placed on non-accrual is reversed against interest income.  Interest
received on such loans is accounted for on the cash-basis or cost-recovery
method, until qualifying for return to accrual.  Loans are returned to
accrual status when all the principal and interest amounts contractually due are
brought current and future payments are reasonably assured.
 
 Purchased
Loans:  The Company purchases groups of loans in purchase
business combinations. Purchased loans
acquired in a business combination that show evidence of credit deterioration
since origination are recorded at the allocated fair value, such that there is
no carryover of the seller’s allowance for loan losses.  After
acquisition, incurred losses are recognized by an increase in the allowance for
loan losses.
 
 Purchased
loans are accounted for individually or aggregated into pools of loans based on
common risk characteristics (e.g., credit score, loan type, and date of
origination).  The Company estimates the amount and timing of expected
cash flows for each purchased loan or pool, and the expected cash flows in
excess of amount paid is recorded as interest income over the remaining life of
the loan or pool (accretable yield).  The excess of the loans’ or
pool’s contractual principal and interest over expected cash flows is not
recorded (nonaccretable difference).
 
 Over the
life of the loan or pool, expected cash flows continue to be
estimated.  If the present value of expected cash flows is less than
the carrying amount, a loss is recorded.  If the present value of
expected cash flows is greater than the carrying amount, it is recognized as
part of future interest income.
 
 During
2006, the Company acquired loans as part of its acquisition of SCSB with a book
value as of the acquisition date of $89.2 million.  The Company
determined loans acquired as part of the acquisition showing evidence of credit
deterioration were not significant.
 Allowance for Loan
Losses:  The allowance for loan losses is a valuation allowance
for probable incurred credit losses, increased by the provision for loan losses
and decreased by charge-offs less recoveries.  Management estimates
the allowance balance required using past loan loss experience, the nature and
volume of the portfolio, information about specific borrower situations and
estimated collateral values, economic conditions, and other
factors.  Allocations of the allowance may be made for specific loans,
but the entire allowance is available for any loan that, in management’s
judgment, should be charged-off.  Loan losses are charged against the
allowance when management believes the uncollectibility of a loan balance is
confirmed.
 
 The
allowance consists of specific and general components.  The specific
component relates to loans that are individually classified as impaired or loans
otherwise classified as substandard, doubtful, or loss.  The general
component covers non-classified loans and is based on historical loss experience
adjusted for current factors.
 
 45
 Index
 NOTE 1 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (Continued)
 
 A loan is
impaired when full payment under the loan terms is not
expected.  Commercial and commercial real estate loans are
individually evaluated for impairment.  If a loan is impaired, a
portion of the allowance is allocated so that the loan is reported, net, at the
present value of estimated future cash flows using the loan’s existing rate or
at the fair value of collateral if repayment is expected solely from the
collateral.  Smaller balance homogeneous loans, such as consumer and
residential real estate, are collectively evaluated for impairment, and
accordingly, they are not separately identified for impairment
disclosure.
 
 Premises and
Equipment:  Land is carried at cost.  Premises and
equipment are stated at cost less accumulated depreciation.  Buildings
and related components are depreciated using the straight-line method with
useful lives ranging from 7 to 40 years.  Furniture, fixtures, and
equipment are depreciated using the straight-line method with useful lives
ranging from 2 to 10 years.  Leasehold improvements are amortized over
the shorter of their economic lives or the term of the lease.
 
 Federal Home Loan Bank
(FHLB) and Federal Reserve Stock:  FHLB and Federal Reserve
stock are required investments for institutions that are members of the Federal
Reserve and FHLB systems.  The required investment in the common stock
is based on a predetermined formula.  Federal Reserve and FHLB stock
are carried at cost, classified as restricted securities, and are periodically
evaluated for impairment.  Because the stocks are viewed as long term
investments, impairment is based on ultimate recovery of par
value.  Both cash and stock dividends are reported as
income.
 
 Cash Surrender Value of Life
Insurance:  The Company has purchased life insurance policies
on certain key executives.  Upon adoption of EITF 06-5, which is
discussed further below, Company owned life insurance is recorded at the amount
that can be realized under the insurance contract at the balance sheet date,
which is the cash surrender value adjusted for other charges or other amounts
due that are probable at settlement.  Prior to adoption of EITF 06-5,
the Company recorded owned life insurance at its cash surrender
value.
 
 In
September 2006, the FASB Emerging Issues Task Force finalized Issue No. 06-5,
Accounting for Purchases of Life Insurance - Determining the Amount That Could
Be Realized in Accordance with FASB Technical Bulletin No. 85-4 (Accounting for
Purchases of Life Insurance).  This Issue requires that a policyholder
consider contractual terms of a life insurance policy in determining the amount
that could be realized under the insurance contract.  It also requires
that if the contract provides for a greater surrender value if all individual
policies in a group are surrendered at the same time, that the surrender value
be determined based on the assumption that policies will be surrendered on an
individual basis.  Lastly, the Issue requires disclosure when there
are contractual restrictions on the Company’s ability to surrender a
policy.  The adoption of EITF 06-5 on January 1, 2007 had no impact on
the Company’s financial condition or results of operation.  The life
insurance is recorded at the amount that can be realized, which is referred to
as the cash surrender value.
 
 Goodwill and Other
Intangible Assets:  Goodwill results from business acquisitions
and represents the excess of the purchase price over the fair value of acquired
tangible assets and liabilities and identifiable intangible
assets.  Goodwill is assessed at least annually for impairment and any
such impairment is recognized in the period identified.
 
 
 46
 Index
 NOTE 1 – SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (Continued)
 
 Other
intangible assets consist of core deposit intangible and loan customer
intangible assets arising from bank acquisitions.  They are initially
measured at fair value and then are amortized on an accelerated method over
their estimated useful lives of 10 years.
 
 Long-term
Assets:Premises and equipment,
core deposit intangibles, loan customer intangibles and other long-term assets
are reviewed for impairment when events indicate their carrying amount may not
be recoverable from future undiscounted cash flows.  If impaired, the
assets are recorded at fair value.
 
 Foreclosed
Assets:  Assets acquired through or instead of loan foreclosure
are initially recorded at fair value when acquired, establishing a new cost
basis.  If fair value declines, a valuation allowance is recorded
through expense.  Costs after acquisition are
expensed.  Foreclosed assets amounted to $575,000 and $457,000 at
year-end 2007 and 2006, respectively, and are included in other assets in the
consolidated balance sheets.
 
 Repurchase
Agreements:  Repurchase agreement liabilities, included in
short-term borrowings, represent amounts advanced by various
customers.  Securities are pledged to cover these liabilities, which
are not covered by federal deposit insurance.
 
 Equity:  Stock
dividends of 20% or less are reported by transferring the fair value, as of the
ex-dividend date, of the stock issued from retained earnings to common stock and
additional paid-in capital.  Fractional share amounts are paid in cash
with a reduction in retained earnings.
 
 Benefit
Plans:  Pension expense is the net of service and interest
cost, return on plan assets, and amortization of gains and losses not
immediately recognized.  The Company adopted FAS 158 in 2006, and
accordingly, recognizes the overfunded or underfunded status of its defined
benefit postretirement plan as an asset or liability in its balance sheet and
recognizes changes in the funded status in the year in which the changes occur
through comprehensive income.  Profit sharing and 401k plan expense is
the amount contributed determined by formula.
 Stock
Compensation:  Effective January 1, 2005, the Company adopted
FASB Statement No. 123(r), Accounting for Stock-Based
Compensation,and accordingly recognizes stock option expense based on
the fair value at the date of grant.
  
 Income
Taxes:  Income tax expense is the total of the current year
income tax due or refundable and the change in deferred tax assets and
liabilities.  Deferred tax assets and liabilities are the expected
future tax amounts for the temporary differences between carrying amounts and
tax bases of assets and liabilities, computed using enacted tax
rates.  A valuation allowance, if needed, reduces deferred tax assets
to the amount expected to be realized.
 47
 Index
 NOTE 1 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (Continued)
  The
Company adopted FASB Interpretation 48, Accounting for Uncertainty in Income
Taxes (“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 is greater than 50% likely 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 affect on the
Company’s financial statements.
 
 The
Company recognizes interest and/or penalties related to income tax matters in
income tax expense.
 
 Employee Stock Ownership
Plan:  The cost of shares issued to the ESOP, but not yet
committed to be released or allocated to participants, is shown as a reduction
of shareholders’ equity.  Compensation expense is based on the market
price of shares as they are committed to be released to participant
accounts.  Dividends on allocated ESOP shares reduce retained
earnings; dividends on unearned ESOP shares reduce debt and accrued
interest.  Participants may put their ESOP shares back to the Company
upon termination.  If the Company repurchases the ESOP shares, an
amount equal to these shares times current market price is reclassified out of
shareholders’ equity.  In the fourth quarter of 2007, the Company
terminated the ESOP and distributed all shares in the ESOP trust to
participants.
 
 Loan Commitments and Related
Financial Instruments:  Financial instruments include
off-balance sheet credit instruments, such as commitments to make loans and
standby letters of credit, issued to meet customer-financing
needs.  The face amount for these items represents the exposure to
loss, before considering customer collateral or ability to
repay.  Such financial instruments are recorded when they are
funded.
 
 Derivatives:  Derivative
financial instruments are recognized as assets or liabilities at fair
value.  The Company's derivatives consist mainly of interest rate swap
agreements, which are used as part of its asset liability management to help
manage interest rate risk.  The Company does not use derivatives for
trading purposes.
 
 At the
start of a derivative contract, the Company designates the derivative as one of
three types based on the Company's intentions and belief as to likely
effectiveness as a hedge.  These three types are a hedge of the fair
value of a recognized asset or liability of an unrecognized firm commitment
(“fair value hedge”), a hedge of a forecasted transaction or the variability of
cash flows to be received or paid related to a recognized asset or liability
(“cash flow hedge”), or an instrument with no hedging designation (“stand-alone
derivative”).  For a fair value hedge, the gain or loss on the
derivative, as well as the offsetting loss or gain on the hedged item, are
recognized in current earnings as fair values change. For a cash flow hedge, the
gain or loss on the derivative is reported in other comprehensive income and is
reclassified into earnings in the same periods during which the hedged
transaction affects earnings.  For both types of hedges, derivative
gains and losses that are not effective in hedging the changes in fair value or
expected cash flows of the hedged item are recognized immediately in current
earnings.  Changes in the fair value of stand alone derivatives
that do not qualify for hedge accounting are reported currently in earnings, as
noninterest income.
 
 Net cash
settlements on derivatives that qualify for hedge accounting are recorded in
interest income or interest expense, based on the item being
hedged.  Net cash settlements on derivatives that do not qualify for
hedge accounting are reported in noninterest income. Cash flows on hedges are
classified in the cash flow statement the same as the cash flows of the items
being hedged.
 
 
 48
 Index
 NOTE 1 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (Continued)
 
 The
Company formally documents the relationship between derivatives and hedged
items, as well as the risk-management objective and the strategy for undertaking
hedge transactions.  This documentation includes linking fair value or
cash flow hedges to specific assets and liabilities on the balance sheet or to
specific firm commitments or forecasted transactions.  The Company
also formally assesses, both at the hedge’s inception and on an ongoing basis,
whether the derivative instruments that are used are highly effective in
offsetting changes in fair values or cash flows of the hedged items. The Company
discontinues hedge accounting when it determines that the derivative is no
longer effective in offsetting changes in the fair value or cash flows of the
hedged item, the derivative is settled or terminates, a hedged forecasted
transaction is no longer probable, a hedged firm commitment is no longer firm,
or treatment of the derivative as a hedge is no longer appropriate or
intended.
 
 When
hedge accounting is discontinued, later changes in fair value of the derivative
are recorded as noninterest income.  When a fair value hedge is
discontinued, the hedged asset or liability is no longer adjusted for changes in
fair value and the existing basis adjustment is amortized or accreted over the
remaining life of the asset or liability. When a cash flow hedge is discontinued
but the hedged cash flows or forecasted transaction is stillexpected to occur, gains or losses that were accumulated in other
comprehensive income are amortized into earnings over the same periods which the
hedged transactions will affect earnings.
  During 2007, the Company
determined that its use of hedge accounting for its interest rate swap was in
error. See Note 17 for additional details.
 Earnings
Per Common Share:  Basic earnings per common share is net
income divided by the weighted average number of common shares outstanding
during the period.  ESOP shares are considered outstanding for this
calculation unless unallocated.  Diluted earnings per common share
include the dilutive effect of additional potential common shares issuable under
stock options.  Earnings and dividends per share are restated for
stock splits and dividends through the date of issuance of the financial
statements.
 
 Comprehensive
Income:  Comprehensive income consists of net income and other
comprehensive income.  Other comprehensive income, recognized as
separate components of equity, includes changes in the following
items:  unrealized gains and losses on securities available for sale,
unrealized gains and losses on interest rate swaps that qualify for hedge
accounting (cash flow hedges), and a minimum pension liability.
 
 Loss
Contingencies:  Loss contingencies, including claims and legal
actions arising in the ordinary course of business, are recorded as liabilities
when the likelihood of loss is probable and an amount or range of loss can be
reasonably estimated.
  In 2004, YCB lent funds to
MW Development (MW) for the purchase of real estate to develop into a
residential subdivision.  The subdivision is incomplete and there are no
funds available from YCB.  D.F. Crane Construction Corporation (Crane)
filed suit against both YCB and MW to assert its lien on the property for non-payment
for services rendered.  YCB and Crane are currently in settlement
negotiations and have reached a tentative agreement.  The Company has
accrued $200,000 for the probable settlement.
 49
 Index
 NOTE 1 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES(Continued)
 
 Restrictions on
Cash:  Cash on hand or on deposit with the Federal Reserve Bank
of $1.4 million and $6.5 million was required to meet regulatory reserve and
clearing requirements at year-end 2007 and 2006.  These balances do
not earn interest.
 
 Dividend
Restriction:  Banking regulations require maintaining certain
capital levels and may limit the dividends paid by the bank subsidiaries to the
holding company or by the holding company to shareholders, as more fully
described in a separate note.
  Fair Value of Financial
Instruments:  Fair values of financial instruments are
estimated using relevant market information and other assumptions, as more fully
disclosed in a separate note.  Fair value estimates involve
uncertainties and matters of significant judgment regarding interest rates,
credit risk, prepayments, and other factors, especially in the absence of broad
markets for particular items.  Changes in assumptions or in market
conditions could significantly affect the estimates.
 
 Operating
Segments:  While the chief decision-makers monitor the revenue
streams of the various products and services, the identifiable segments are not
material and operations are managed and financial performance is evaluated on a
Company-wide basis.  Accordingly, all of the financial service
operations are considered by management to be aggregated in one reportable
operating segment.
 
 Effect of Newly Issued But
Not Yet Effective Accounting Standards:
 In September 2006, the FASB issued
Statement No. 157,Fair Value
Measurements.  This Statement defines
fair value, establishes a framework for measuring fair value and expands
disclosures about fair value measurements.  This Statement establishes
a fair value hierarchy about the assumptions used to measure fair value and
clarifies assumptions about risk and the effect of a restriction on the sale or
use of an asset.  The standard is effective for fiscal years beginning
after November 15, 2007.  The impact of adoption will not be
material.
 
 In
February 2007, the FASB issued Statement No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities.  The standard provides
companies with an option to report selected financial assets and liabilities at
fair value and establishes presentation and disclosure requirements designed to
facilitate comparisons between companies that choose different measurement
attributes for similar types of assets and liabilities.  The new
standard is effective for the Company on January 1, 2008.  The Company
did not elect the fair value option for any financial assets or financial
liabilities as of January 1, 2008.
 
 In
September 2006, the FASB Emerging Issues Task Force finalized Issue No. 06-4,
Accounting for Deferred
Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life
Insurance Arrangements.  This issue requires that a liability
be recorded during the service period when a split-dollar life insurance
agreement continues after participants’ employment or retirement.  The
required accrued liability will be based on either the post-employment benefit
cost for the continuing life insurance or based on the future death benefit
depending on the contractual terms of the underlying agreement.  This
issue is effective for fiscal years beginning after December 15,
2007.  The impact of adoption will not be material.








50
 Index




NOTE 1 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (Continued)
 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.
 
 Reclassifications:  Some
items in the prior years’ financial statements were reclassified to conform to
the current presentation.
 51
 Index


NOTE
2 – BUSINESS COMBINATION


On July
1, 2006, the Company acquired 100% of the outstanding shares of The Bancshares,
Inc. (TBI), parent of SCSB. Operating results of TBI were included in the
consolidated financial statements of the Company from July 1, 2006. As a result
of the acquisition, the Company expects to further improve its market share in
its southern Indiana market, expand its customer base to improve deposit fee
income, provide an opportunity to market additional products and services to new
customers, and reduce operating costs through economies of scale.  The
aggregate purchase price was $30.8 million. Approximately $11.0 million was paid
in cash and $19.8 million was paid through the issuance of the Company’s common
stock to TBI shareholders.  The purchase price resulted in
approximately $15.3 million in goodwill, $3.1 million in core deposit
intangible, and $443,000 of other customer relationship
intangibles.  The intangible assets will be amortized over 10
years.  Goodwill will not be amortized but instead evaluated
periodically for impairment.  Goodwill and core deposit intangibles
will not be deducted for tax purposes.  Total assets of approximately
$148 million were acquired, which includes approximately $88 million in loans,
and $24 million in investments. Liabilities assumed in the acquisition totaled
approximately $117 million, which includes $104 million in deposits and $10
million in Federal Home Loan Bank advances.
 
  The
following table summarizes the estimated fair value of assets acquired and
liabilities assumed (amounts in thousands).
 
  Securities
      available for sale
              
              $
              24,418Loans,
      net
              
              
              87,999Goodwill
              
              
              15,335Core
      deposit intangible
              
              
              3,069Other
      customer relationship intangibles
              
              
              443Premises
      and equipment
              
              
              3,045Other
      assets
              
              
              13,374Total
      assets acquired
              
              
              147,683Deposits
              
              
              (103,952
              )Federal
      Home Loan Bank advances
              
              
              (10,170
              )Other
      liabilities
              
              
              (2,752
              )Total
      liabilities assumed
              
              
              (116,874
              )Net
      assets acquired
              
              $
              30,809













52
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005





NOTE
3 – SECURITIES
 
 The fair
value of available for sale securities and the related gross unrealized gains
and losses recognized in accumulated other comprehensive loss were as
follows.
 
 
 
 Fair
                Value
              
              
              Gross
                Unrealized
                Gains
              
              
              Gross
                Unrealized
                Losses2007
              
              (In
      thousands)U.S.
      Government and federal agency
              
              $
              6,077
              
              
              $
              83
              
              
              $
              -State
      and municipal
              
              
              13,312
              
              
              
              281
              
              
              
              (1
              )Mortgaged-backed
              
              
              73,252
              
              
              
              519
              
              
              
              (568
              )Corporate
      bonds, including collateral
                debt obligations
              
              
              6,583
              
              
              
              -
              
              
              
              (297
              )Mutual
      funds
              
              
              241
              
              
              
              -
              
              
              
              (9
              )Total
              
              $
              99,465
              
              
              $
              883
              
              
              $
              (875
              )
 
 
 Fair
                Value
              
              
              Gross
                Unrealized
                Gains
              
              
              Gross
                Unrealized
                Losses2006
              
              (In
      thousands)U.S.
      Government and federal agency
              
              $
              29,972
              
              
              $
              48
              
              
              $
              (159
              )State
      and municipal
              
              
              11,645
              
              
              
              228
              
              
              
              (8
              )Mortgaged-backed
              
              
              67,304
              
              
              
              117
              
              
              
              (1,464
              )Corporate
      bonds, including collateral
                debt obligations
              
              
              12,150
              
              
              
              55
              
              
              
              (56
              )Mutual
      funds
              
              
              240
              
              
              
              -
              
              
              
              (10
              )Total
              
              $
              121,311
              
              
              $
              448
              
              
              $
              (1,697
              )
 
 
 Sales of
available for sale securities were as follows.
  
 2007
              
              
              2006
              
              
              2005(In
      thousands)Proceeds
              
              $
              10,937
              
              
              $
              2,990
              
              
              $
              5,127Gross
      gains
              
              
              2
              
              
              
              -
              
              
              
              30Gross
      losses
              
              
              (43
              )
              
              
              -
              
              
              
              (7
              )
 
 
 The tax
provision (benefit) applicable to these net realized gains
(losses) amounted to $(14,000), $0 and $8,000 , respectively.





53
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005





NOTE 3 – SECURITIES(Continued)
 
 Contractual
maturities of available for sale securities at year-end 2007 were as
follows.  Mortgage-backed securities and mutual funds which do not
have a single maturity date are shown separately.
 
 Fair
                Value(In
      thousands)Due
      in one year or less
              
              $
              5,404Due
      from one to five years
              
              
              3,270Due
      from five to ten years
              
              
              4,454Due
      after ten years
              
              
              12,844Mortgage-backed
              
              
              73,252Mutual
      Funds
              
              
              241Total
              
              $
              99,465
 
 
 Securities
pledged at year-end 2007 and 2006 had a carrying amount of $76.0 million and
$89.3 million to secure public deposits, repurchase agreements and Federal Home
Loan Bank advances.
 
 At year
end 2007 and 2006, there were no holdings of securities of any one issuer, other
than the U.S. Government and its agencies, in an amount greater than 10% of
shareholders’ equity.
 
 Securities
with unrealized losses at year end 2007 and 2006, aggregated by investment
category and length of time that individual securities have been in a continuous
loss position are as follows (in thousands):
 
 
 Less than 12 Months
                
                
                12 Months or More
                
                
                Total2007
                
                Fair
                  Value
                
                
                Unrealized
                  Loss
                
                
                Fair
                  Value
                
                
                Unrealized
                  Loss
                
                
                Fair
                  Value
                
                
                Unrealized
                  LossState
      and municipal
                
                $
                886
                
                
                $
                (1
                )
                
                $
                -
                
                
                $
                -
                
                
                $
                886
                
                
                $
                (1
                )Mortgaged-backed
                
                
                1,796
                
                
                
                (1
                )
                
                
                39,934
                
                
                
                (567
                )
                
                
                41,730
                
                
                
                (568
                )Corporate
      bonds, including collateral
                  debt obligations
                
                
                5,589
                
                
                
                (290
                )
                
                
                995
                
                
                
                (7
                )
                
                
                6,584
                
                
                
                (297
                )Mutual
      funds
                
                
                -
                
                
                
                -
                
                
                
                241
                
                
                
                (9
                )
                
                
                241
                
                
                
                (9
                )Total
      temporarily impaired
                
                $
                8,271
                
                
                $
                (292
                )
                
                $
                41,170
                
                
                $
                (583
                )
                
                $
                49,441
                
                
                $
                (875
                )





54
 Index




NOTE 3 – SECURITIES(Continued)
 
 Less than 12 Months
              
              
              12 Months or More
              
              
              Total2006
              
              Fair
                Value
              
              
              Unrealized
                Loss
              
              
              Fair
                Value
              
              
              Unrealized
                Loss
              
              
              Fair
                Value
              
              
              Unrealized
                LossU.S.
      Governmentand
      federal agency
              
              $
              11,838
              
              
              $
              (28
              )
              
              $
              11,647
              
              
              $
              (131
              )
              
              $
              23,485
              
              
              $
              (159
              )State
      and municipal
              
              
              125
              
              
              
              (1
              )
              
              
              737
              
              
              
              (7
              )
              
              
              862
              
              
              
              (8
              )Mortgaged-backed
              
              
              4,571
              
              
              
              (26
              )
              
              
              50,473
              
              
              
              (1,438
              )
              
              
              55,044
              
              
              
              (1,464
              )Corporate
      bonds, including collateral
                debt obligations
              
              
              -
              
              
              
              -
              
              
              
              3,490
              
              
              
              (56
              )
              
              
              3,490
              
              
              
              (56
              )Mutual
      funds
              
              
              -
              
              
              
              -
              
              
              
              240
              
              
              
              (10
              )
              
              
              240
              
              
              
              (10
              )Total
      temporarily impaired
              
              $
              16,534
              
              
              $
              (55
              )
              
              $
              66,587
              
              
              $
              (1,642
              )
              
              $
              83,121
              
              
              $
              (1,697
              )
 
 Unrealized losses on securities have
not been recognized into income because the issuers’ securities are of high
credit quality (rated A- or higher), management has the intent and ability to
hold until recovery, which may be maturity, and the decline in fair value is
largely due to increases in market interest rates.  The fair value is
expected to recover as the securities approach their maturity date and/or market
rates decline.
 
 NOTE
4 – LOANS
 
 Loans at
year-end were as follows:
 
 2007
              
              
              2006(In
      thousands)Commercial
              
              $
              88,353
              
              
              $
              80,132Real
      Estate:Residential
              
              
              186,831
              
              
              
              187,080Commercial
              
              
              191,774
              
              
              
              179,405Construction
              
              
              87,364
              
              
              
              83,944Home
      Equity
              
              
              60,380
              
              
              
              62,720Loans
      secured by deposit accounts
              
              
              1,322
              
              
              
              756Consumer
              
              
              20,024
              
              
              
              19,549Subtotal
              
              
              636,048
              
              
              
              613,586Less:     Allowance
      for loan losses
              
              
              (6,316
              )
              
              
              (5,654
              )Loans,
      net
              
              $
              629,732
              
              
              $
              607,932
 
 During
2007 and 2006, substantially all of the Company’s residential and commercial
real estate loans were pledged as collateral to the Federal Home Loan Bank to
secure advances.







55
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005





NOTE 4 – LOANS
(Continued)
 
 Activity
in the allowance for loan losses was as follows:
 
 2007
              
              
              2006
              
              
              2005(In
      thousands)Beginning
      balance
              
              $
              5,654
              
              
              $
              5,920
              
              
              $
              4,523Acquired
      allowance of SCSB, July 1, 2006
              
              
              -
              
              
              
              754
              
              
              
              -Provision
      for loan losses
              
              
              1,296
              
              
              
              262
              
              
              
              1,750Loans
      charged-off
              
              
              (801
              )
              
              
              (1,354
              )
              
              
              (539
              )Recoveries
              
              
              167
              
              
              
              72
              
              
              
              186Ending
      balance
              
              $
              6,316
              
              
              $
              5,654
              
              
              $
              5,920
 
 Information
about impaired loans is presented below.  There were no impaired loans
for the periods presented without an allowance allocation.
 
 2007
              
              
              2006
              
              
              2005(In
      thousands)Impaired
      loans at year-end
              
              $
              9,295
              
              
              $
              4,399
              
              
              $
              2,483Amount
      of the allowance for loan losses allocated
              
              
              1,593
              
              
              
              865
              
              
              
              1,146Average
      of impaired loans during the year
              
              
              4,628
              
              
              
              4,783
              
              
              
              1,300Interest
      income recognized and received during impairment
              
              
              75
              
              
              
              1
              
              
              
              3Nonperforming
      loans at year-end were as follows.Loans
      past due over 90 days still on accrual
              
              $
              244
              
              
              $
              -
              
              
              $
              5Non-accrual
      loans
              
              
              11,134
              
              
              
              5,566
              
              
              
              5,498
 
 Nonperforming
loans includes both smaller balance homogenous loans that are collectively
evaluated for impairment and individually classified impaired
loans.
 
 Related Party Loans:
Loans and off-balance-sheet commitments (including commitments to make loans,
unused lines of credit, and letters of credit) to principal officers, directors,
and their affiliates were as follows.
 
 2007(In
      thousands)Beginning
      loans
              
              $
              18,263New
      loans
              
              
              13,578Effect
      of changes in related parties
              
              
              (568
              )Repayments
              
              
              (8,618
              )Ending
      loans
              
              $
              22,655








56
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005





NOTE 4 – LOANS
(Continued)
 
 Mortgage Banking
Activities: Mortgage loans serviced for others are not included in the
accompanying consolidated balance sheets.  The unpaid principal
balances of mortgage loans serviced for others were approximately $17.3 million
and $20.7 million at year-end 2007 and 2006.  Custodial escrow
balances maintained in connection with the foregoing loan servicing, and
included in non-interest bearing deposits, were approximately $62,000 and
$133,000 at year-end 2007 and 2006.  Servicing assets related to these
loans, included in other assets, were $147,000 and $155,000 at year-end 2007 and
2006.  Amortization expense was $8,000 and $9,000 at year-end 2007 and
2006, and there was no valuation allowance required.  The fair value
for mortgage servicing rights were $158,000 and $219,000 at year-end 2007 and
2006.  Fair value at year-end 2007 was determined using a discount
rate of 9.50%, prepayment speeds ranging from 8.50% to 40.00%, depending on the
stratification of the specific right, and a default rate of
0.00%.  Fair value at year-end 2006 was determined using a discount
rate of 9.50%, prepayment speeds ranging from 9.50% to 40.00%, depending on the
stratification of the specific right, and a default rate of 0.00%.
 
 The
weighted average amortization period is 15.8 years.  Estimated
amortization expense for each of the next five years is approximately $8,200 per
year.
 
 NOTE
5- PREMISES AND EQUIPMENT
 
 Year-end
premises and equipment were as follows.
 
 2007
              
              
              2006(In
      thousands)Land
      and land improvements
              
              $
              2,629
              
              
              $
              2,629Buildings
              
              
              13,225
              
              
              
              13,074Furniture,
      fixtures and equipment
              
              
              10,818
              
              
              
              9,976Leasehold
      improvements
              
              
              1,198
              
              
              
              98227,870
              
              
              
              26,661Less:  Accumulated
      depreciation
              
              
              (12,723
              )
              
              
              (11,636
              )$
              15,147
              
              
              $
              15,025
 
 Depreciation
expense was $1.3 million, $1.2 million, and $1.2 million for 2007, 2006, and
2005.
 
 Rent
expense was $512,000, $409,000 and $329,000 for 2007, 2006, and 2005,
respectively.  Rent commitments under noncancelable operating leases
(in thousands) were as follows, before considering renewal options that
generally are present.
 
  2008
              
              $
              6182009
              
              
              5842010
              
              
              5542011
              
              
              5432012
              
              
              532Thereafter
              
              
              1,760Total
              
              $
              4,591








57
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE
6 – GOODWILL AND INTANGIBLE ASSETS


Goodwill
 
 The
change in balance for goodwill during the year is as follows (in
thousands):
 
 
 2007
              
              
              2006Beginning
      of year
              
              $
              15,983
              
              
              $
              -Acquired
      goodwill
              
              
              -
              
              
              
              15,983Acquisition
      adjustments
              
              
              (648
              )
              
              
              -End
      of year
              
              $
              15,335
              
              
              $
              15,983
 
 
 The
adjustments to goodwill in 2007 resulted from the finalization of the fair value
of assets acquired with the purchase of TBI on July 1, 2006.
 
 Acquired
Intangible Assets
 
 Acquired
intangible assets were as follows at year end (in thousands):
 
 2007
              
              
              2006Gross
                Carrying
                Amount
              
              
              AccumulatedAmortization
              
              
              Gross
                Carrying
                Amount
              
              
              AccumulatedAmortizationAmortized
      intangible assets:Core
      deposit intangibles (see Note 2)
              
              $
              3,069
              
              
              $
              581
              
              
              $
              3,069
              
              
              $
              176Other
      customer relationship intangibles
              
              
              443
              
              
              
              32
              
              
              
              -
              
              
              
              -Total
              
              $
              3,512
              
              
              $
              613
              
              
              $
              3,069
              
              
              $
              176
 
 
 Aggregate
amortization expense was $438,000, $176,000 and $0 for 2007, 2006 and
2005.
 
 Estimated
amortization expense for each of the next five years (in
thousands):
 
 2008
              
              $
              4062009
              
              
              3952010
              
              
              3892011
              
              
              3772012
              
              
              356


58
 Index


NOTE
7 – DEPOSITS
 
 Time
deposits of $100,000 or more were $101.0 million and $102.0 million at year-end
2007 and 2006.
 
 Scheduled
maturities of time deposits for the next five years (in thousands) were as
follows:
 
 2008
              
              $
              216,2632009
              
              
              35,6402010
              
              
              8,7802011
              
              
              1,3122012
              
              
              1,587
 
 
 Deposits
from principal officers, directors and their affiliates at year-end 2007 and
2006 were approximately $22.2 million and $10.8 million.
 
 NOTE
8 – OTHER BORROWINGS
 
 Other
borrowings consist of retail repurchase agreements representing overnight
borrowings from deposit customers, federal funds purchased representing
overnight borrowings from other financial institutions, lines of credit with
other financial institutions and a structured repurchase
agreement.  The debt securities sold under the repurchase agreements
were under the control of the subsidiary banks during 2007 and
2006.
 
 The
Company has available a revolving line of credit with a bank for $10.0
million.  The line of credit expires on June 30, 2008 and bears
interest at LIBOR plus 1.25% (6.10% at December 31, 2007).  Payments
are due quarterly and are interest only.  All borrowings are
collateralized by 500 shares of Your Community Bank common stock.  The
outstanding balance on the line of credit was $8.6 million and $3.5 at December
31, 2007 and 2006.
 
 Information
concerning 2007 and 2006 other borrowings is summarized as follows.
 
 2007
              
              
              2006(Dollars
      in thousands)Repurchase
      agreements at year-endBalance
              
              $
              54,443
              
              
              $
              48,201Weighted
      average interest rate
              
              
              3.36
              %
              
              
              4.84
              %Repurchase
      agreements during the yearAverage
      daily balance
              
              $
              48,547
              
              
              $
              49,581Maximum
      month-end balance
              
              
              54,443
              
              
              
              57,455Weighted
      average interest rate
              
              
              4.10
              %
              
              
              4.58
              %Federal
      funds purchased and lines of credit at year-endBalance
              
              $
              8,553
              
              
              $
              36,134Weighted
      average interest rate
              
              
              6.01
              %
              
              
              5.29
              %Federal
      funds purchased and lines of credit during the yearAverage
      daily balance
              
              
              13,687
              
              
              $
              14,571Maximum
      month-end balance
              
              
              32,139
              
              
              
              36,134Weighted
      average interest rate
              
              
              5.78
              %
              
              
              5.37
              %


59
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 8 – OTHER BORROWINGS(Continued)


2007
              
              
              2006(Dollars
      in thousands)Structured
      repurchase agreement at year-endBalance
              
              $
              9,800
              
              
              
              -Weighted
      average interest rate
              
              
              2.79
              %
              
              
              -Structured
      repurchase agreement during the yearAverage
      daily balance
              
              $
              1,128
              
              
              
              -Maximum
      month-end balance
              
              
              9,800
              
              
              
              -Weighted
      average interest rate
              
              
              2.72
              %
              
              
              -
 
 NOTE
9 - FEDERAL HOME LOAN BANK ADVANCES
 
 At
year-end, advances from the Federal Home Loan Bank (FHLB) were as
follows.
 
 
 2007
              
              
              2006Weighted
                Average
                Rate
              
              
              Amount
              
              
              Weighted
                Average
                Rate
              
              
              Amount(Dollars
      in thousands)Fixed
      rate
              
              
              5.63
              %
              
              $
              91,376
              
              
              
              5.69
              %
              
              $
              80,756Variable
      rate
              
              
              -
              
              
              
              -
              
              
              
              5.34
              
              
              
              12,000$
              91,376
              
              
              
              
              
              
              $
              92,756
 
 
 The
advances were collateralized by $335.6 million and $336.5 million of first
mortgage and commercial real estate loans under a blanket lien arrangement and
certain available for sale securities at year-end 2007 and
2006.  Based on this collateral and the Company’s holdings of FHLB
stock, the Company is eligible to borrow an additional $44.8 million at year-end
2007.
  
 The
contractual maturities of advances outstanding as of December 31, 2007 are as
follows:
 
 (In
      thousands)2008
                
                $
                14,4852009
                
                
                26,9672010
                
                
                49,924$
                91,376
  
 
 The fixed
rate advances include of $67.0 million in convertible
advances.  The FHLB has the quarterly right to require the Company to
choose either conversion of the fixed rate to a variable rate tied to the three
month LIBOR index or prepayment of the advance without penalty.  There
is a substantial penalty if the Company prepays the advances before FHLB
exercises its right.


60
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005





NOTE
10 - SUBORDINATED DEBENTURES





On June 15, 2006, a trust  formed by
the  Company,  Community Bank Shares (IN) Statutory Trust II
(Trust II), issued  $10.0 million of floating rate trust preferred
securities as part of a pooled offering of such securities.  On June
17, 2004, a trust formed by the Company, Community Bank Shares (IN) Statutory
Trust I (Trust I), issued $7.0 million of floating  rate trust
preferred securities as part of a pooled offering of such
securities.  The Company issued subordinated debentures to Trusts I
and II in exchange for the proceeds of each offering; the debentures and related
debt issuance costs represent the sole assets of Trusts I and
II.  Distributions on the trust preferred securities are payable
quarterly in arrears at the annual rate (adjusted quarterly) of three-month
LIBOR plus 1.70% (6.69% as of the last adjustment) for Trust II and three-month
LIBOR plus 2.65% (7.64% as of the last adjustment) for Trust I and are included
in interest  expense.





The
maturity dates of the subordinated debentures are June 15, 2036 for Trust II and
June 17, 2034 for Trust I. The subordinated debentures may be redeemed by the
Company, in whole or in part, at any distribution payment date on or after the
distribution payment date in June 2011 for Trust II and June 2009 for Trust I,
at the redemption price. The subordinated debentures have variable rates,
adjusted quarterly, which are identical to the trust preferred
securities.  In addition, the subordinated debentures are redeemable
in whole or in part from time to time, upon the occurrence of specific events
defined within the trust debenture.  The Company has the option to
defer interest payments on the subordinated debt from time to time for a period
not to exceed five consecutive years.  Should interest payments be
deferred, the Company is restricted from paying dividends until all deferred
payments have been made.




Trust
Preferred Securities are considered as Tier I capital for the Company under
current regulatory guidelines.
















61
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE
11 – BENEFIT PLANS
 
 Defined Benefit
Plans:  The Company sponsors a defined benefit pension
plan.  The benefits are based on years of service and the employees’
highest average of total compensation for five consecutive years of
employment.  In 1997, the plan was amended such that there can be no
new participants or increases in benefits to the participants.  The
Company uses December 31st as its
measurement date for its pension plan.
 
 A
reconciliation of the projected benefit obligation and the value of plan assets
follow.
  2007
                      
                      
                      2006(In
      thousands)Change
      in projected benefit obligationBalance,
      beginning of year
                      
                      $
                      933
                      
                      
                      $
                      951Interest
      cost
                      
                      
                      53
                      
                      
                      
                      52Actuarial
      (gain) loss
                      
                      
                      52
                      
                      
                      
                      (45
                      )Benefits
      paid to participants
                      
                      
                      (47
                      )
                      
                      
                      (25
                      )Ending
      benefit obligation
                      
                      
                      991
                      
                      
                      
                      933Change
      in plan assetsFair
      value, beginning of year
                      
                      
                      659
                      
                      
                      
                      598Actual
      return on plan assets
                      
                      
                      18
                      
                      
                      
                      86Employer
      contributions
                      
                      
                      72
                      
                      
                      
                      -Benefits
      paid to participants
                      
                      
                      (47
                      )
                      
                      
                      (25
                      )Fair
      value, end of year
                      
                      
                      702
                      
                      
                      
                      659Funded
      status
                      
                      $
                      (289
                      )
                      
                      $
                      (274
                      )
 
  Amounts
recognized in accumulated other comprehensive loss consisted of a net actuarial
loss of $372,000 and $311,000 at year-end 2007 and 2006.  The accumulated
benefit obligation was $991,000 and $933,000 at year-end 2007 and
2006.
 
 Components
of Net Periodic Benefit Cost and Other Amounts Recognized in Other Comprehensive
Loss
 
 2007
              
              
              2006
              
              
              2005(Dollars
      in thousands)Interest
      cost
              
              $
              53
              
              
              $
              52
              
              
              $
              49Expected
      return on plan assets
              
              
              (53
              )
              
              
              (49
              )
              
              
              (45
              )Amortization
      of unrecognized loss
              
              
              27
              
              
              
              43
              
              
              
              41Net
      periodic benefit cost
              
              
              27
              
              
              
              46
              
              
              
              45Net
      loss
              
              
              60
              
              
              
              -
              
              
              
              -Total
      recognized in other comprehensive loss
              
              
              60
              
              
              
              -
              
              
              
              -Total
      recognized in net periodic benefit cost and othercomprehensive loss
              
              $
              87
              
              
              $
              46
              
              
              $
              45





62
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


The
estimated net loss for the defined benefit pension plan that will be amortized
from accumulated other comprehensive loss into net periodic benefit cost over
the next fiscal year is $34,000.
  Assumptions
 Discount
      rate on benefit obligation
                  
                  
                  5.75
                  %
                  
                  
                  5.75
                  %
                  
                  
                  5.50
                  %Rate
      of expected return on plan assets
                  
                  
                  8.00
                  %
                  
                  
                  8.00
                  %
                  
                  
                  8.00
                  %
   NOTE 11 – BENEFIT PLANS
(Continued)
 
 Plan
Assets:  The Company’s target allocation for 2008, pension plan
asset allocation at year-end 2007 and 2006, and expected long-term rate of
return by asset category are as follows:
 
 Target
                  Allocation
                
                
                Percentage
      of Plan
                  Assets
      at Year-end
                
                
                Weighted-Average
                  Expected
      Long-Term2008
                
                
                2007
                
                
                2006
                
                
                Rate of ReturnAsset
      CategoryMutual
      funds
                
                
                85
                %
                
                
                99
                %
                
                
                88
                %
                
                
                9.0
                %Money
      market
                
                
                15
                
                
                
                1
                
                
                
                12
                
                
                
                4.0Total
                
                
                100
                %
                
                
                100
                %
                
                
                100
                %
                
                
                8.0
                %
  
 
 The
expected long-term return is based on a periodic review and modeling of the
plan’s asset allocation and liability structure over a long-term
horizon.  Expectations of returns on each asset class are the most
important of the assumptions used in the review and modeling and are based on
reviews of historical data.  The expected long-term rate of return on
assets was selected from within the reasonable  range of rates
determined by (a) historical real returns, net of inflation, for the asset
classes covered by the investment policy, and (b) projections of inflation over
the long-term period during which benefit are payable to plan
participants.
 
 
 Estimated Future
Payments:   The following benefit payments, which reflect
expected future service, are expected (in thousands):
 
 Pension Benefits2008
              
              $
              272009
              
              
              272010
              
              
              272011
              
              
              272012
              
              
              26Years
      2013-2017
              
              
              202


The
Company expects to contribute approximately $70,000 to its pension plan in
2008.
 
 Your
Community Bank is a participant in the Financial Institutions Retirement Fund, a
multi-employer defined benefit pension plan covering two of its
employees.  Employees are fully vested at the completion of five years
of participation in the plan.  No contributions were required during
the three-year period ended December 31, 2007.  There have been no new
enrollments since 1998


63
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 11 – BENEFIT PLANS(Continued)


Defined Benefit Plans -
SCSB:
 
 The
Company acquired a defined benefit retirement plan upon the purchase of
SCSB.  Per the merger agreement, the plan was
curtailed.  The Company settled this plan in the fourth quarter of
2007 which resulted in a gain of $49,000.  At December 31, 2006 plan
assets totaled $2,733,000 and the projected termination liability totaled
$2,758,000.  The Company had a $25,000 liability included in other
liabilities on the balance sheet at December 31, 2006.
 
 Employee Stock Ownership
Plan:  In the fourth quarter of 2007, the Company terminated
the ESOP and distributed all the shares held in the ESOP trust to
participants.  Contributions to the ESOP during 2007, 2006 and 2005
were $0, $0 and $2,000.  Expense for 2007, 2006 and 2005 was $0, $0
and $4,000.  Shares held by the ESOP trust and allocated to
participants were 37,000 as of year end 2006.  As of December 31,
2006, there were no unearned ESOP shares held by the ESOP trust
 
 Deferred Compensation
Arrangements:  The Company has entered into deferred
compensation arrangements with certain directors and officers.  The
liability for such arrangements is fully accrued during the service period, with
benefits paid monthly upon retirement until death, or date specified by the
agreement.  The liability was $360,000 and $409,000 at December 31,
2007 and 2006, respectively.  Expense related to these arrangements
for 2007, 2006 and 2005 was $15,000, $17,000 and $18,000.
 
 Defined Contribution
Plans:  The 401(k) benefit plan matches employee contributions
equal to 100% of the first 3% of the compensation
contributed.  Expense for 2007, 2006 and 2005 was $213,000, $206,000
and $133,000.
 
 
 NOTE
12 – STOCK-BASED COMPENSATION PLANS
 
 The
Company has two share based compensation plans as described
below.  Total compensation cost that has been charged against income
for those plans was $122,000, $332,000, and $155,000 for 2007, 2006, and
2005.  The total income tax benefit was $1,000, $82,000, and
$35,000.
 
 Stock
Options:  The Company’s stock option plan provides for the
granting of both incentive and nonqualified stock options for up to 400,000
shares of common stock at exercise prices not less than the fair market value of
the common stock on the date of grant and expiration dates of up to ten
years.  Terms of the options are determined by the Board of Directors
at the date of grant and generally vest over periods of three to four
years.  Non-employee directors are eligible to receive only
nonqualified stock options.  As of December 31, 2007, the plan allows
for additional option grants of up to 212,050 shares.
  The fair
value of each option award is estimated on the date of grant using the
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.  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.







64
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 12 – STOCK-BASED COMPENSATION
PLANS (Continued)
 
 
 The fair
value of options granted was determined using the following weighted-average
assumptions as of grant date.
 
 2007
                
                
                2006
                
                
                2005Risk-free
      interest rate
                
                
                5.10
                %
                
                
                5.07
                %
                
                
                3.66
                %Expected
      term
                
                5.7
      years
                
                
                5.7 years
                
                
                5.6 yearsExpected
      stock price volatility
                
                
                15.38
                %
                
                
                16.09
                %
                
                
                15.70
                %Dividend
      yield
                
                
                3.24
                %
                
                
                2.91
                %
                
                
                2.58
                %
 
 A summary
of the activity in the stock option plan for 2007 follows:
 
 Shares
              
              
              Weighted
                Average
                Exercise
                Price
              
              
              Weighted
                Average
                Remaining
                Contractual
                Term
              
              
              Aggregate
                Intrinsic
                Value(In
      thousands)
              
              
              (In
      thousands)Outstanding
      at beginning of year
              
              
              253
              
              
              $
              20.19Granted
              
              
              60
              
              
              
              21.64Exercised
              
              
              -
              
              
              
              -Forfeited
      or expired
              
              
              (12
              )
              
              
              22.13Outstanding
      at end of year
              
              
              301
              
              
              $
              20.40
              
              
              
              6.4
              
              
              $
              275Vested and
      expected to vest
              
              
              301
              
              
              $
              20.40
              
              
              
              6.4
              
              
              $
              275Exercisable
      at end of year
              
              
              113
              
              
              $
              16.16
              
              
              
              2.9
              
              
              $
              275
 
 Information
related to the stock option plan during each year follows (in thousands, except
for weighted fair value of options granted):
 
 2007
              
              
              2006
              
              
              2005Intrinsic
      value of options exercised
              
              $
              -
              
              
              $
              9
              
              
              $
              3Cash
      received from option exercises
              
              
              -
              
              
              
              15
              
              
              
              5Tax
      benefit realized from option exercises
              
              
              -
              
              
              
              80
              
              
              
              -Weighted
      average fair value of options granted
              
              
              2.76
              
              
              
              3.61
              
              
              
              2.76
 
 As of
December 31, 2007, there was $277,000 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 1.90
years.
  Performance Units
Awards:  The Company may grant performance unit awards to
employees for up to 275,000 shares of common stock.  The level of
performance shares eventually distributed is contingent upon the achievement of
specific performance criteria within a specified award period set at the grant
date.  The Company estimates the progress toward achieving these
objectives when estimating the number of awards expected to vest and
correspondingly, periodic compensation expense.





65
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 12 – STOCK-BASED COMPENSATION
PLANS (Continued)


The
compensation cost attributable to these restricted performance units awards is
based on both the fair market value of the shares at the grant date and the
Company’s stock price at the end of a reporting cycle.  Thirty-five
percent of the total award will be paid in cash and is therefore classified as a
liability, with total compensation cost changing as the Company’s stock price
changes.  The remaining sixty-five percent is classified as an equity
award; total compensation cost is based on the fair market value of sixty-five
percent of the total award on the date of grant.  The compensation
expense is recognized over the specified performance period.
 
 A
summary of changes in the Company’s nonvested units for the year
follows:
 
 Nonvested
      Units
              
              Units
              
              
              Weighted-Average
                Grant-Date
                Fair Value(In
      thousands)Nonvested
      at January 1, 2007
              
              
              31
              
              
              $
              22.45Granted
              
              
              -
              
              
              
              -Vested
              
              
              -
              
              
              
              -Forfeited
              
              
              (2
              )
              
              
              22.45Nonvested
      at December 31, 2007
              
              
              29
              
              
              $
              22.45
 
 
 As of
December 31, 2007, there was $0 of total unrecognized compensation cost related
to nonvested units granted under the Plan as the Company estimated the
performance for criteria issuance of shares would not be
met.  The total fair value of units vested during the years ended
December 31, 2007, 2006 and 2005 was $0, $259,000 and $0.  There were
no modifications or cash paid to settle performance unit awards during the three
year period ending December 31, 2007.
 
 
 NOTE
13 - INCOME TAXES
 
 Income
tax expense (benefit) was as follows.
 
 
 2007
              
              
              2006
              
              
              2005(In
      thousands)Current
              
              $
              1,221
              
              
              $
              1,177
              
              
              $
              1,525Deferred
              
              
              (393
              )
              
              
              81
              
              
              
              (597
              )Change
      in valuation allowance
              
              
              77
              
              
              
              85
              
              
              
              (3
              )Total
              
              $
              905
              
              
              $
              1,343
              
              
              $
              925


66
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 13 - INCOME TAXES
(Continued)


Effective
tax rates differ from federal statutory rates applied to financial statement
income due to the following.
  2007
              
              
              2006
              
              
              2005(Dollars
      in thousands)Federal
      statutory rate timesfinancial
      statement income
              
              $
              1,499
              
              
              
              34.0
              %
              
              $
              1,854
              
              
              
              34.0
              %
              
              $
              1,589
              
              
              
              34.0
              %Effect
      of:Tax-exempt
      income
              
              
              (253
              )
              
              
              (5.7
              )
              
              
              (222
              )
              
              
              (4.1
              )
              
              
              (153
              )
              
              
              (3.3
              )State
      taxes, net of federal benefit
              
              
              (77
              )
              
              
              (1.7
              )
              
              
              (85
              )
              
              
              (1.6
              )
              
              
              3
              
              
              
              0.1Change
      in valuation allowance
              
              
              77
              
              
              
              1.7
              
              
              
              85
              
              
              
              1.6
              
              
              
              (3
              )
              
              
              (0.1
              )Nontaxable
      earnings from cashsurrender
      value of life
                insurance
      policies
              
              
              (231
              )
              
              
              (5.2
              )
              
              
              (195
              )
              
              
              (3.6
              )
              
              
              (402
              )
              
              
              (8.6
              )New
      markets tax credit
              
              
              (180
              )
              
              
              (4.1
              )
              
              
              (150
              )
              
              
              (2.8
              )
              
              
              (150
              )
              
              
              (3.2
              )Incentive
      stock options expense
              
              
              40
              
              
              
              0.9
              
              
              
              31
              
              
              
              0.6
              
              
              
              17
              
              
              
              0.4Other,
      net
              
              
              30
              
              
              
              0.6
              
              
              
              25
              
              
              
              0.5
              
              
              
              24
              
              
              
              0.5Total
              
              $
              905
              
              
              
              20.5
              %
              
              $
              1,343
              
              
              
              24.6
              %
              
              $
              925
              
              
              
              19.8
              %
 
 
 Year-end
deferred tax assets and liabilities were due to the following.
 
 2007
              
              
              2006(In
      thousands)Deferred
      tax assets:Allowance
      for loan losses
              
              $
              2,528
              
              
              $
              2,263Employee
      benefit plans
              
              
              229
              
              
              
              291Minimum
      pension liability
              
              
              126
              
              
              
              121Net
      unrealized loss on securities available for sale
              
              
              -
              
              
              
              406Net
      unrealized depreciation on interest rate swap
              
              
              80
              
              
              
              535Net
      operating loss carryforward
              
              
              422
              
              
              
              345Other
              
              
              46
              
              
              
              583,431
              
              
              
              4,019Deferred
      tax liabilities:Premises
      and equipment
              
              
              (489
              )
              
              
              (528
              )FHLB
      stock
              
              
              (362
              )
              
              
              (377
              )Deferred
      loan fees and costs
              
              
              (169
              )
              
              
              (155
              )Mortgage
      servicing rights
              
              
              (59
              )
              
              
              (62
              )Net
      unrealized gain on securities available for sale
              
              
              (7
              )
              
              
              -Fair
      value adjustments from acquisitions
              
              
              (266
              )
              
              
              (230
              )Intangible
      assets
              
              
              (1,159
              )
              
              
              (1,157
              )Prepaid
      pension expense
              
              
              (32
              )
              
              
              (211
              )Prepaid
      expenses
              
              
              (173
              )
              
              
              (65
              )Other
              
              
              (106
              )
              
              
              (130
              )(2,822
              )
              
              
              (2,915
              )Valuation
      allowance on net deferred tax assets
              
              
              (422
              )
              
              
              (345
              )Net
      deferred tax asset
              
              $
              187
              
              
              $
              759











67
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 13 - INCOME TAXES
(Continued)
 
 The
Company incurred net operating losses for state income taxes during years 2002
through 2007 which will be carried forward and applied to future state taxable
income.  Due to the uncertainty of the Company’s ability to use this
benefit, a valuation allowance has been recorded.  The cumulative
state net operating loss is $4.9 million and can be carried forward for 15 years
with expiration beginning in 2017.
 
 Retained
earnings of Your Community Bank includes approximately $3.7 million for which no
deferred income tax liability has been recognized.  This amount
represents an allocation of income to bad debt deductions as of December 31,
1987 for tax purposes only.  Reduction of amounts so allocated for
purposes other than tax bad debt losses including redemption of bank stock or
excess dividends, or loss of “bank” status would create income for tax purposes
only, which would be subject to the then-current corporate income tax
rate.  The unrecorded deferred income tax liability on the above
amount for Your Community Bank at December 31, 2007 was approximately $1.3
million.
 
 Unrecognized Tax
Benefits
 
 A
reconciliation of the beginning and ending amount of unrecognized tax benefits
is as follows:
 
 Balance
      at January 1, 2007
              
              $
              51Additions
      based on tax positions related to the current year
              
              
              24Reductions
      due to the statute of limitations
              
              
              (20
              )Balance
      at December 31, 2007
              
              $
              55
 
 
 Of this
total, $55,000 represents the amount of unrecognized tax benefits that, if
recognized, would favorably affect the effective income tax rate in future
periods.  As of December 31, 2007, the Company’s 2004 and 2005 federal
tax returns were being audited by the Internal Revenue
Service.  Subsequent to year end, the Company received notification
the Internal Revenue Service had completed their audits and had determined
adjustments were not required for tax positions taken in those
returns.  Accordingly, the Company anticipates reducing its reserve
for unrecognized tax benefits in 2008 by $55,000.
 
 The total
amount of interest and penalties recorded in the income statement for the year
ended December 31, 2007 was $(3,000), and the amount accrued for interest and
penalties at December 31, 2007 was $17,000.
 
 The
Company and its subsidiaries are subject to U.S. federal income tax as well as
income tax of the states of Indiana and Kentucky. The Company is no longer
subject to examination by taxing authorities for years before 2004.







68
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005





NOTE
14 - CAPITAL REQUIREMENTS AND RESTRICTIONS ON
RETAINED EARNINGS
 
 Banks and
bank holding companies are subject to regulatory capital requirements
administered by federal banking agencies.  Capital adequacy guidelines
and, additionally for banks, prompt corrective action regulations involve
quantitative measures of assets, liabilities, and certain off-balance-sheet
items calculated under regulatory accounting practices.  Capital
amounts and classifications are also subject to qualitative judgments by
regulators.  Failure to meet capital requirements can initiate
regulatory action.
 
 Prompt
corrective action regulations provide five classifications:  well
capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized, and critically undercapitalized, although these terms are not
used to represent overall financial condition.  If adequately
capitalized, regulatory approval is required to accept brokered
deposits.  If undercapitalized, capital distributions are limited, as
is asset growth and expansion, and capital restoration plans are
required.  As of December 31, 2007 and 2006, the most recent
regulatory notifications categorized YCB and SCSB as well capitalized under the
regulatory framework for prompt corrective action.  There are no
considerations or events since December 31, 2007 that management believes have
changed the institution’s classification as well
capitalized.





69
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 14 - CAPITAL REQUIREMENTS AND
RESTRICTIONS ON RETAINED EARNINGS(Continued)
 
 Actual
and required capital amounts and ratios are presented below at
year-end.
 
 Actual
              
              
              For
      Capital
                Adequacy Purposes
              
              
              To
      Be Well
                Capitalized
      Under
                Prompt
      Corrective
                Action ProvisionsAmount
              
              
              Ratio
              
              
              Amount
              
              
              Ratio
              
              
              Amount
              
              
              Ratio2007
              
              (Dollars
      in millions)Total
      Capital (to Risk
      Weighted      Assets):Consolidated
              
              $
              69.8
              
              
              
              10.9
              %
              
              $
              51.1
              
              
              
              8.0
              %
              
              
              N/A
              
              
              
              N/AYour
      Community Bank
              
              
              62.6
              
              
              
              11.2
              
              
              
              44.6
              
              
              
              8.0
              
              
              
              55.8
              
              
              
              10.0
              %Scott
      County State Bank
              
              
              13.7
              
              
              
              15.9
              
              
              
              6.9
              
              
              
              8.0
              
              
              
              8.6
              
              
              
              10.0Tier
      I Capital (to Risk Weighted Assets):Consolidated
              
              $
              63.5
              
              
              
              9.9
              %
              
              $
              25.6
              
              
              
              4.0
              %
              
              
              N/A
              
              
              
              N/AYour
      Community Bank
              
              
              56.9
              
              
              
              10.2
              
              
              
              22.3
              
              
              
              4.0
              
              
              
              33.5
              
              
              
              6.0
              %Scott
      County State Bank
              
              
              13.1
              
              
              
              15.2
              
              
              
              3.4
              
              
              
              4.0
              
              
              
              5.2
              
              
              
              6.0Tier
      I Capital (to Average Assets):Consolidated
              
              $
              63.5
              
              
              
              8.0
              %
              
              $
              31.9
              
              
              
              4.0
              %
              
              
              N/A
              
              
              
              N/AYour
      Community Bank
              
              
              56.9
              
              
              
              8.6
              
              
              
              26.5
              
              
              
              4.0
              
              
              
              33.1
              
              
              
              5.0
              %Scott
      County State Bank
              
              
              13.1
              
              
              
              9.5
              
              
              
              5.5
              
              
              
              4.0
              
              
              
              6.9
              
              
              
              5.02006Total
      Capital (to Risk
      Weighted      Assets):Consolidated
              
              $
              71.0
              
              
              
              11.4
              %
              
              $
              50.0
              
              
              
              8.0
              %
              
              
              N/A
              
              
              
              N/AYour
      Community Bank
              
              
              60.5
              
              
              
              11.1
              
              
              
              43.5
              
              
              
              8.0
              
              
              
              54.3
              
              
              
              10.0
              %Scott
      County State Bank
              
              
              13.4
              
              
              
              16.3
              
              
              
              6.6
              
              
              
              8.0
              
              
              
              8.2
              
              
              
              10.0Tier
      I Capital (to Risk Weighted Assets):Consolidated
              
              $
              65.4
              
              
              
              10.5
              %
              
              $
              25.0
              
              
              
              4.0
              %
              
              
              N/A
              
              
              
              N/AYour
      Community Bank
              
              
              55.5
              
              
              
              10.2
              
              
              
              21.7
              
              
              
              4.0
              
              
              
              32.6
              
              
              
              6.0
              %Scott
      County State Bank
              
              
              12.6
              
              
              
              15.4
              
              
              
              3.3
              
              
              
              4.0
              
              
              
              4.9
              
              
              
              6.0Tier
      I Capital (to Average Assets):Consolidated
              
              $
              65.4
              
              
              
              8.1
              %
              
              $
              32.3
              
              
              
              4.0
              %
              
              
              N/A
              
              
              
              N/AYour
      Community Bank
              
              
              55.5
              
              
              
              8.1
              
              
              
              27.5
              
              
              
              4.0
              
              
              
              34.3
              
              
              
              5.0
              %Scott
      County State Bank
              
              
              12.6
              
              
              
              9.8
              
              
              
              5.1
              
              
              
              4.0
              
              
              
              6.4
              
              
              
              5.0

















70
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 14 - CAPITAL REQUIREMENTS AND
RESTRICTIONS ON RETAINED EARNINGS(Continued)
 
 Dividend
Restrictions:  The Company’s principal source of funds for
dividend payments is dividends received from the Banks.  Banking
regulations limit the amount of dividends that may be paid without prior
approval of regulatory agencies.  Under these regulations, the amount
of dividends that may be paid in any calendar year is limited to the current
year’s retained net profits, combined with the retained net profits of the
preceding two years, subject to the capital requirements described
above.  During 2008, the YCB and SCSB could, without prior approval,
declare dividends of approximately $4.9 million and $786,000 plus any 2008 net
profits retained to the date of the dividend declaration,
respectively.
 
 NOTE
15 – INTEREST RATE SWAPS
 
 On August
30, 2002, the Company entered into a $25,000,000 notional amount interest rate
swap arrangement to exchange variable payments of interest tied to Prime for
receipt of fixed rate payments of 6.51%.  An additional $25,000,000
notional amount interest rate swap was entered into on June 19, 2003 to exchange
variable payments of interest tied to Prime for receipt of fixed rate payments
of 5.22%.  The variable rate of the swaps resets daily, with net
interest being settled monthly.  The notional amount of the swaps does
not represent amounts exchanged by the parties.  The amount exchanged
is determined by reference to the notional amount and other terms of the
swaps.
 
 Prior to
December 31, 2007, these interest rate swap agreement were reported, and had
been since their inception, as cash flow hedges as the Company believed the
critical terms of the swap agreements matched the critical terms of the variable
rate loans and concluded that interest rate swap agreements were effective cash
flow hedges.  As of December 31, 2007, the Company has now determined
that accounting for these agreements as cash flows hedges was in error because a
critical term did not match.  The Company did not designate the swap
agreements to pools of variable rate loans with like spreads to prime rate, such
as prime plus .25%, prime plus .50%, etc., but did so only in
total.  Therefore, fluctuations in the fair value of the interest rate
swaps should have been recorded in other non-interest income instead of in other
comprehensive loss.  As of December 31, 2007, the remaining interest
rate swap had a fair value of $234,000, which amount has been reversed out of
other comprehensive loss and is reported in other non-interest
income.  Changes in the fair value of the interest rate swap in the
future will be recorded as other non-interest income or loss.  The
Company has determined the effect on prior periods of its use of hedge
accounting for these interest rate swap agreements was not material and,
accordingly, prior period financial statements have not been restated to correct
the error.  During the 12 months ended December 31, 2007, 2006 and
2005, respectively, the Company recognized expense of $1,014,000, $1,061,000 and
$163,000, respectively.  The fair value of the swap were liabilities
of $234,000 and $1.3 million as of year–end 2007 and 2006 and are reported in
other liabilities in the Company’s consolidated financial
statements.
  
 NOTE
16 - OFF-BALANCE-SHEET ACTIVITIES
 
 Some
financial instruments, such as commitments to make loans for the Company’s
portfolio, credit lines and letters of credit, are issued to meet
customer-financing needs.  These are agreements to provide credit or
to support the credit of others, as long as conditions established in the
contract are met, and usually have expiration dates.  Commitments may
expire without being used.  Off-balance-sheet risk to credit loss
exists up to the face amount of these instruments, although material losses are
not anticipated.  The same credit policies are used to make such
commitments as are used for loans, including obtaining collateral at exercise of
the commitment.








71
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 16 - OFF-BALANCE-SHEET
ACTIVITIES(Continued)
 
 The
contractual amount of financial instruments with off-balance-sheet risk was as
follows at year-end.
 
 2007
              
              
              2006Fixed
                Rate
              
              
              Variable
                Rate
              
              
              Fixed
                Rate
              
              
              Variable
                Rate(In
      thousands)Commitments
      to make loans
              
              $
              1,058
              
              
              $
              13,731
              
              
              $
              4,378
              
              
              $
              9,794Unused
      lines of credit
              
              
              8,043
              
              
              
              127,959
              
              
              
              4,800
              
              
              
              130,186Letters
      of credit
              
              
              -
              
              
              
              6,914
              
              
              
              -
              
              
              
              6,390
 
 
 Commitments
to make loans are generally made for periods of 30 days or less and are at
market rates.  The fixed rate loan commitments have interest rates
ranging from approximately 6.40% to 8.00% and maturities ranging from 1 year to
7 years.
 
 NOTE
17 - FAIR VALUES OF FINANCIAL INSTRUMENTS
 
 Carrying
amount and estimated fair values of financial instruments were as follows at
year-end.
 
 2007
              
              
              2006Carrying
                Amount
              
              
              Fair
                Value
              
              
              Carrying
                Amount
              
              
              Fair
                Value(In
      thousands)Financial
      assetsCash
      and due from financialinstitutions
              
              $
              14,570
              
              
              $
              14,570
              
              
              $
              20,224
              
              
              $
              20,224Interest-bearing deposits in other
    financial institutions
              
              
              13,943
              
              
              
              13,943
              
              
              
              1,210
              
              
              
              1,210Securities
      available for sale
              
              
              99,465
              
              
              
              99,465
              
              
              
              121,311
              
              
              
              121,311Loans
      held for sale
              
              
              757
              
              
              
              767
              
              
              
              908
              
              
              
              923Loans,
      net
              
              
              629,732
              
              
              
              636,433
              
              
              
              607,932
              
              
              
              597,729Accrued
      interest receivable
              
              
              3,537
              
              
              
              3,537
              
              
              
              3,968
              
              
              
              3,968Financial
      liabilitiesDeposits
              
              
              573,346
              
              
              
              565,741
              
              
              
              549,918
              
              
              
              549,405Other
      borrowings
              
              
              72,796
              
              
              
              72,796
              
              
              
              84,335
              
              
              
              84,335Advances
      from Federal Home
                Loan
      Bank
              
              
              91,376
              
              
              
              94,431
              
              
              
              92,756
              
              
              
              94,589Subordinated
      debentures
              
              
              17,000
              
              
              
              16,220
              
              
              
              17,000
              
              
              
              17,227Accrued
      interest payable
              
              
              1,956
              
              
              
              1,956
              
              
              
              2,178
              
              
              
              2,178Interest
      rate swaps
              
              
              234
              
              
              
              234
              
              
              
              1,293
              
              
              
              1,293










72
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 17 - FAIR VALUES OF FINANCIAL
INSTRUMENTS(Continued)
 
 The
methods and assumptions used to estimate fair value are described as
follows:
  The
estimated fair value equals the carrying amount for cash and due from banks,
interest-bearing deposits in other financial institutions, accrued interest
receivable and payable, demand deposits, other borrowings, and variable rate
loans or deposits that reprice frequently and fully.  Security and
interest rate swap fair values are based on market prices or dealer quotes, and
if no such information is available, on the rate and term of the instrument and
information about the issuer.  For fixed rate loans or deposits and
for variable rate loans or deposits with infrequent repricing or repricing
limits, fair value is based on discounted cash flows using current market rates
applied to the estimated life and credit risk.  Fair values for
impaired loans are estimated using discounted cash flow analysis or underlying
collateral values.  Fair value of loans held for sale is based on
market quotes.  Fair value of FHLB advances and subordinated
debentures are based on current rates for similar financing.  The fair
value of off-balance-sheet items is based on current fees or costs that would be
charged to enter into or terminate such arrangements and is not
material.
 NOTE
18- PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
 
 Condensed
financial information for Community Bank Shares of Indiana, Inc. is as
follows:
 
 CONDENSED
BALANCE SHEETS
 
 December
      31,2007
              
              
              2006(In
      thousands)ASSETSCash
      and due from financial institutions
              
              $
              7
              
              
              $
              63Investment
      in subsidiaries
              
              
              88,217
              
              
              
              85,493Other
      assets
              
              
              2,656
              
              
              
              1,647Total
      assets
              
              $
              90,880
              
              
              $
              87,203LIABILITIES
      AND SHAREHOLDERS’ EQUITYOther
      borrowings
              
              $
              8,554
              
              
              $
              3,480Subordinated
      debentures
              
              
              17,000
              
              
              
              17,000Accrued
      expenses and other liabilities
              
              
              861
              
              
              
              1,182Total
      liabilities
              
              
              26,415
              
              
              
              21,662Total
      shareholders’ equity
              
              
              64,465
              
              
              
              65,541$
              90,880
              
              
              $
              87,203













73
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE 18 - PARENT COMPANY ONLY
CONDENSED FINANCIAL INFORMATION (Continued)
 
 CONDENSED
STATEMENTS OF INCOME
 
 Years
      ended December 31,2007
              
              
              2006
              
              
              2005Income
              
              (In
      thousands)Dividends
      from subsidiaries
              
              $
              4,500
              
              
              $
              950
              
              
              $
              2,250ExpenseOperating
      expenses
              
              
              3,171
              
              
              
              2,057
              
              
              
              879Income
      (loss) before income taxes and equityin
      undistributed net income of subsidiaries
              
              
              1,329
              
              
              
              (1,107
              )
              
              
              1,371Income
      tax benefit
              
              
              1,037
              
              
              
              668
              
              
              
              281Income
      (loss) before equity in undistributed netincome
      of subsidiaries
              
              
              2,366
              
              
              
              (439
              )
              
              
              1,652Equity
      in undistributed  net income of subsidiaries
              
              
              1,137
              
              
              
              4,550
              
              
              
              2,097Net
      Income
              
              $
              3,503
              
              
              $
              4,111
              
              
              $
              3,749
 
 CONDENSED
STATEMENTS OF CASH FLOWS
 
 Years
      ended December 31,2007
              
              
              2006
              
              
              2005Cash
      flows from operating activities
              
              (In
      thousands)Net
      income
              
              $
              3,503
              
              
              $
              4,111
              
              
              $
              3,749Adjustments
      to reconcile net income to net cashfrom
      operating activitiesEquity
      in undistributed net income of subsidiaries
              
              
              (1,137
              )
              
              
              (4,550
              )
              
              
              (2,097
              )Share-based
      compensation expense
              
              
              122
              
              
              
              332
              
              
              
              129Net
      change in other assets and liabilities
              
              
              (1,415
              )
              
              
              63
              
              
              
              (229
              )Net
      cash from operating activities
              
              
              1,073
              
              
              
              (44
              )
              
              
              1,552Cash
      flows from investing activitiesAcquisition
      of The Bancshares, Inc.
              
              
              -
              
              
              
              (11,001
              )
              
              
              -Cash
      flows from financing activitiesNet
      change in short-term borrowings
              
              
              5,074
              
              
              
              3,480
              
              
              
              -Proceeds
      from issuance of subordinated debenture
              
              
              -
              
              
              
              10,000
              
              
              
              -Exercise
      of stock options
              
              
              -
              
              
              
              15
              
              
              
              5Purchase
      of treasury stock
              
              
              (3,904
              )
              
              
              (685
              )
              
              
              (557
              )Tax
      benefit of stock options exercised
              
              
              -
              
              
              
              80
              
              
              
              -Cash
      dividends paid
              
              
              (2,299
              )
              
              
              (1,921
              )
              
              
              (1,518
              )Net
      cash from financing activities
              
              
              (1,129
              )
              
              
              10,969
              
              
              
              (2,070
              )Net
      change in cash
              
              
              (56
              )
              
              
              (76
              )
              
              
              (518
              )Cash
      at beginning of year
              
              
              63
              
              
              
              139
              
              
              
              657Cash
      at end of year
              
              $
              7
              
              
              $
              63
              
              
              $
              139
















74
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE
19 – EARNINGS PER SHARE
 
 The
factors used in the earnings per share computation follows.
 
 2007
              
              
              2006
              
              
              2005Basic
              
              (In
      thousands, except share and per share amounts)Net
      Income
              
              $
              3,503
              
              
              $
              4,111
              
              
              $
              3,749Average
      shares:Common
      shares issued
              
              
              3,863,942
              
              
              
              3,436,051
              
              
              
              3,001,067Less:  Treasury
      stock
              
              
              (514,521
              )
              
              
              (413,004
              )
              
              
              (381,787
              )Average
      shares outstanding
              
              
              3,349,421
              
              
              
              3,023,047
              
              
              
              2,619,280Net
      income per common share, basic
              
              $
              1.05
              
              
              $
              1.36
              
              
              $
              1.43DilutedNet
      Income
              
              $
              3,503
              
              
              $
              4,111
              
              
              $
              3,749Average
      shares:Common
      shares outstanding for basic
              
              
              3,349,421
              
              
              
              3,023,047
              
              
              
              2,619,280Add:  Dilutive
      effects of outstanding options
              
              
              24,802
              
              
              
              32,610
              
              
              
              32,884Average
      shares and dilutive potentialcommon
      shares
              
              
              3,374,223
              
              
              
              3,055,657
              
              
              
              2,652,164Net
      income per common share, diluted
              
              $
              1.04
              
              
              $
              1.35
              
              
              $
              1.41
 
 
 Stock
options of 197,000, 138,000, and 80,000 common shares were excluded from 2007,
2006, and 2005 diluted earnings per share because they were
anti-dilutive.











75
 Index
 COMMUNITY
BANK SHARES OF INDIANA, INC.
 NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2007, 2006 and 2005


NOTE
20 – OTHER COMPREHENSIVE INCOME (LOSS)
 
 Other
comprehensive income (loss) components and related taxes were as
follows.
 
 2007
                
                
                2006
                
                
                2005(In
      thousands)Unrealized
      holding gains (losses) on available forsale
      securities
                
                $
                1,216
                
                
                $
                958
                
                
                $
                (1,884
                )Less
      reclassification adjustments for (gains) lossesrecognized
      in income
                
                
                41
                
                
                
                -
                
                
                
                (23
                )Net
      unrealized gain (loss) on securities available forsale,
      net of reclassifications
                
                
                1,257
                
                
                
                958
                
                
                
                (1,907
                )Unrealized
      holding gain (loss) on interest rate swaps
                
                
                44
                
                
                
                (473
                )
                
                
                (1,039
                )Amounts
      reclassified to interest income
                
                
                1,014
                
                
                
                1,061
                
                
                
                163Net
      unrealized gain (loss) on interest rate swaps,net
      of reclassifications
                
                
                1,058
                
                
                
                588
                
                
                
                (876
                )Change
      in minimum pension liability
                
                
                -
                
                
                
                125
                
                
                
                (34
                )Unrealized
      loss on pension benefits
                
                
                (60
                )
                
                
                -
                
                
                
                -Other
      comprehensive income (loss) before tax effects
                
                
                2,255
                
                
                
                1,671
                
                
                
                (2,817
                )Tax
      effect
                
                
                (907
                )
                
                
                (574
                )
                
                
                1,003Other
      comprehensive income (loss)
                
                $
                1,348
                
                
                $
                1,097
                
                
                $
                (1,814
                )
   NOTE
21 – QUARTERLY FINANCIAL DATA (UNAUDITED)
 
 Earnings
      Per ShareInterest
                Income
              
              
              Net
      Interest
                Income
              
              
              Net
                Income
              
              
              Basic
              
              
              Diluted2007
              
              (In
      thousands, except per share amounts)First
      quarter
              
              $
              12,638
              
              
              $
              5,517
              
              
              $
              1,015
              
              
              $
              0.30
              
              
              $
              0.29Second
      quarter
              
              
              12,797
              
              
              
              5,669
              
              
              
              915
              
              
              
              0.27
              
              
              
              0.27Third
      quarter
              
              
              12,881
              
              
              
              5,593
              
              
              
              1,088
              
              
              
              0.33
              
              
              
              0.33Fourth
      quarter
              
              
              12,446
              
              
              
              5,588
              
              
              
              485
              
              
              
              0.15
              
              
              
              0.152006First
      quarter
              
              $
              9,934
              
              
              $
              4,405
              
              
              $
              795
              
              
              $
              0.31
              
              
              $
              0.30Second
      quarter
              
              
              10,387
              
              
              
              4,405
              
              
              
              934
              
              
              
              0.36
              
              
              
              0.36Third
      quarter
              
              
              12,873
              
              
              
              5,708
              
              
              
              1,314
              
              
              
              0.38
              
              
              
              0.38Fourth
      quarter
              
              
              12,839
              
              
              
              5,520
              
              
              
              1,068
              
              
              
              0.31
              
              
              
              0.31



















76
 Index


Part II





Item 9.  Changes In And Disagreements With
Accountants On Accounting And Financial Disclosures





There has
been no change in the Company’s principal independent accountant during the
Company’s two most recent fiscal years.





Item 9A.  Controls And
Procedures


Company
management, including the Chief Executive Officer (serving as the principal
executive officer) and Chief Financial Officer (serving as the principal
financial officer), have conducted an evaluation of the effectiveness of the
design and operation  of our disclosure controls and procedures
pursuant to Securities Exchange Act of 1934 Rule 13a-14. Based on that
evaluation, the Chief Executive Officer and the Chief Financial Officer
concluded that the disclosure controls and procedures are effective in timely
alerting them to material information required to be included in this
report.  There has been no change in the Company’s internal control
over financial reporting that occurred during the Company’s most recent fiscal
quarter that has materially affected or is reasonable likely to materially
affect the Company’s internal control over financial
reporting.




MANAGEMENT’S
REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING




Community
Bank Shares of Indiana’s (the Company’s) management is responsible for
establishing and maintaining adequate internal control over financial reporting.
Internal control over financial reporting is defined in Rule 13a-15(f) or
15d-15(f) under the Securities Exchange Act of 1934 as a process designed by, or
under the supervision of, the Company’s principal executive and principal
financial officers and effected by the Company’s Board of Directors, management
and other personnel, to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements for external
purposes in accordance with U.S. generally accepted accounting principles and
includes those policies and procedures that:



              Pertain
      to the maintenance of records that in reasonable detail accurately and
      fairly reflect the transactions and dispositions of the Company’s
      assets;
 
 
              Provide
      reasonable assurance that transactions are recorded as necessary to permit
      preparation of financial statements in accordance with generally accepted
      accounting principles, and that receipts and expenditures of the Company
      are being made only in accordance with authorizations of management and
      directors of the Company; and
 
 
              Provide
      reasonable assurance regarding prevention or timely detection of
      unauthorized acquisition, use or disposition of the Company’s assets that
      could have a material effect on the financial
  statements.
 Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. 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.
 
 Our
management, including our principal executive officer and principal financial
officer, assessed the effectiveness of our internal control over financial
reporting as of the end of the fiscal year covered by this annual report on Form
10-K. In making this assessment, our management used the criteria set forth in
Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Based on our management’s
assessment, management concluded that, as of December 31, 2007, our Company’s
internal control over financial reporting is effective based on the COSO
criteria.
 
 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.








/s/ James D.
      Rickard
            
            /s/ Paul A.
    ChriscoJames
      D. Rickard
            
            Paul
      A. ChriscoPresident
      and Chief Executive Officer
            
            Senior
      Vice President andChief
      Financial Officer














77
 Index


Item 9B.  Other Information
 
 There was
no information to be disclosed by the Company on a Form 8-K during the fourth
quarter of 2007 but not reported.





Part III





Item 10.  Directors, Executive Officers And
Corporate Governance





The
information regarding Company directors required by this item is incorporated
herein by reference to information under the headings “Corporate Governance and
Board Matters” and “Proposal No. 1 – Election of Directors” in the 2008 Proxy
Statement.  Information regarding the members of the Audit Committee,
the Company’s code of business conduct and ethics, the identification of the
Audit Committee Financial Expert and stockholder nominations of directors
is also incorporated by reference to the information under the aforesaid
headings.  The information regarding our executive officers required by
this item is incorporated by reference to the information in the 2008 Proxy
Statement.




Section 16(a)
Beneficial Ownership Reporting Compliance
  Section 16(a)
of the Securities Exchange Act of 1934, as amended, requires the Company’s
directors and executive officers and persons who own more than 10% of the
Company’s common stock to file reports of ownership and changes in ownership
with the SEC. Based solely upon a review of the Forms 3, 4 and 5 filed
during 2006, and written representations from certain reporting persons that no
Forms 5 were required, the Company reasonably believe that all required
reports were timely filed.




Item 11.  Executive
Compensation





Information
concerning executive compensation is incorporated herein by reference to the
information under the heading “EXECUTIVE COMPENSATION” in the 2008 Proxy
Statement.





Item 12.  Security Ownership Of Certain Beneficial
Owners And Management And Related Stockholder Matters





Information
concerning security ownership of management is incorporated herein by reference
to the information under the heading “STOCK OWNERSHIP BY DIRECTORS AND EXECUTIVE
OFFICERS” in the Company's definitive Proxy Statement for the Annual Meeting of
Stockholders to be held on May 20, 2008.





Item 13.  Certain Relationships And Related
Transactions, And Director Independence





Information
concerning relationships and related transactions, and director independence is
incorporated herein by reference to the information under the headings
"COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION”, “CORPORATE
GOVERNANCE AND BOARD MATTERS” and “CERATIN RELATIONSHIPS AND RELATED PERSON
TRANSACTIONS” in the 2008 Proxy Statement.





Item 14.  Principal Accountant Fees And
Services





Information
concerning principal accountant fees and services is incorporated herein by
reference to the information under the headings “REPORT OF THE AUDIT COMMITTEE”
and “RATIFICATION OF APPOINTMENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM” in the 2008 Proxy Statement.





78
 Index


Part IV





Item 15.  Exhibits And Financial Statement
Schedules





(a)(1)
Financial Statements





The
following financial statements are included in Item 8 of this Form
10-K:





Report of
Independent Registered Public Accounting Firm


Consolidated
Balance Sheets


Consolidated
Statements of Income


Consolidated
Statements of Changes in Shareholders’ Equity


Consolidated
Statements of Cash Flows


Notes to
Consolidated Financial Statements





(a)(2)
Financial Statement Schedules





All
financial statement schedules have been omitted as the required information is
inapplicable or the requiredinformation has been
included in the Consolidated Financial Statements or notes thereto.





(a) (3)
Exhibits


The
following exhibits are filed herein:





ExhibitNumber
            Document2.1
            Agreement
      and Plan of Merger between Community Bank Shares of Indiana, Inc., The
      Bancshares, Inc., and CBINSubsidiary,
      Inc. (11)3.1
            Articles
      of Incorporation (1)3.2
            Bylaws
      (1)4.0
            Common
      Stock Certificate (1)10.1
            Employment
      Agreement with Dale L. Orem * (2)10.2
            Retirement
      Agreement with Robert E. Yates * (2)10.3
            Employment
      Agreement with James D. Rickard * (3)10.4
            Community
      Bank Shares of Indiana, Inc. 1997 Stock Incentive Plan *
    (4)10.5
            Community
      Bank Shares of Indiana, Inc. Dividend Reinvestment Plan *
    (5)10.6
            Employment
      Agreement with Christopher L. Bottorff * (6)10.7
            Employment
      Agreement with Kevin J. Cecil * (7)10.8
            Employment
      Agreement with Paul A. Chrisco * (7)10.9
            Consulting
      Agreement with Dale L. Orem * (7)10.10
            Community
      Bank Shares of Indiana, Inc. and Affiliates Business Ethics Policy
      (12)10.11
            Community
      Bank Shares of Indiana, Inc. 2005 Stock Award Plan (8)10.12
            Amendment
      to Employment Agreement with James D. Rickard * (9)10.13
            Amendment
      to Employment Agreement with Christopher L. Bottorff *
  (9)10.14
            Amendment
      to Employment Agreement with Kevin J. Cecil * (9)10.15
            Amendment
      to Employment Agreement with Paul A. Chrisco * (9)10.16
            Amendment
      to Community Bank Shares of Indiana, Inc. Performance Units Plan
      (10)11.1
            Computation
      of Earnings Per Share21.0
            Subsidiaries
      of Registrant23.1
            Consent
      of Crowe Chizek and Company LLC31.1
            Certification
      of Principal Executive Officer Pursuant to 18 U.S.C. Section
      1350,As
      Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of
      200231.2
            Certification
      of Principal Financial Officer Pursuant to 18 U.S.C. Section
      1350,As
      Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of
      200232.1
            Certification
      of Principal Executive Officer pursuant to Section 906 of  the
      Sarbanes-Oxley Act of 200232.2
            Certification
      of Principal Financial Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002





*
Management contract or compensatory plan or arrangement required to be filed as
an exhibit to this Report pursuant to Item 601 of Regulation S-K.





79
 Index


(1)
Incorporated by reference from the exhibits filed with Form 8-K, filed July 27,
2007.
 (2)
Incorporated by reference to the Annual Report on Form 10-K filed April 2,
2002.
 (3)
Incorporated by reference to the Quarterly Report on Form 10-Q filed November
14, 2000.
 (4)
Incorporated by reference from the exhibits filed with the Registration
Statement on Form S-8, filed July 29, 1998, and any amendments thereto,
Registration statement No. 333- 60089.
 (5)
Incorporated by reference from the exhibits filed with the Registration
Statement on Form S-3D, filed November 14, 1997, and any amendments thereto,
Registration Statement No. 333-40211 and with the Registration
Statement on Form S-3D, filed December 28, 2005, and any amendments thereto,
Registration Statement No. 333-130721.
 (6)
Incorporated by reference to the Annual Report on Form 10-K filed March 31,
2003.
 (7)
Incorporated by reference to the Annual Report on Form 10-K filed March 30,
2004.
 (8)
Incorporated by reference from exhibit B to the definitive proxy statement filed
April 11, 2005.
 (9)
Incorporated by reference from the exhibits filed with Form 8-K, filed November
6, 2006.
 (10)
Incorporated by reference from the exhibits filed with Form 8-K, filed October
23, 2006.
 (11)
Incorporated by reference from the exhibits filed with Form 8-K, filed February
16, 2006.
 (12)
Incorporated by reference from the exhibits filed with Form 8-K, filed April 24,
2007.





(b)  Exhibits


See
response to Item 15(a)(3).





(c)  Financial
Statement Schedules


See
response to Item 15(a)(2).








80
 Index


Signatures





Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.





COMMUNITY
      BANK SHARESOF
      INDIANA, INC.March
      31, 2008
            By: /s/ James D.
      RickardJames
      D. RickardPresident
      and Chief Executive Officer








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





/s/ James D.
      Rickard
            President,
      Chief Executive Officer, and Director
            March
      31, 2008James
      D. Rickard
            (Principal
      Executive Officer)/s/ Paul A.
      Chrisco
            Senior
      Vice-President and Chief Financial Officer
            March
      31, 2008Paul
      A. Chrisco
            (Principal
      Financial and Accounting Officer)/s/ Timothy T.
      Shea
            Chairman
      of the Board of Directors and Director
            March
      31, 2008Timothy
      T. Shea/s/ Gary L.
      Libs
            Director
            March
      31, 2008Gary
      L. Libs/s/ R. Wayne
      Estopinal
            Director
            March
      31, 2008R.
      Wayne Estopinal/s/ George M.
      Ballard
            Director
            March
      31, 2008George
      M. Ballard/s/ Gordon L.
      Huncilman
            Director
            March
      31, 2008Gordon
      L. Huncilman/s/ Kerry M.
      Stemler
            Director
            March
      31, 2008Kerry
      M. Stemler/s/ Steven R.
      Stemler
            Director
            March
      31, 2008Steven
      R. Stemler/s/ Dale L.
      Orem
            Director
            March
      31, 2008Dale
      L. Orem/s/ Norman E.
      Pfau
            Director
            March
      31, 2008Dale
      L. Orem











81
 Index


Exhibit Index





ExhibitNumber
            Document2.1
            Agreement
      and Plan of Merger between Community Bank Shares of Indiana, Inc., The
      Bancshares, Inc., and CBINSubsidiary,
      Inc. (11)3.1
            Articles
      of Incorporation (1)3.2
            Bylaws
      (1)4.0
            Common
      Stock Certificate (1)10.1
            Employment
      Agreement with Dale L. Orem * (2)10.2
            Retirement
      Agreement with Robert E. Yates * (2)10.3
            Employment
      Agreement with James D. Rickard * (3)10.4
            Community
      Bank Shares of Indiana, Inc. 1997 Stock Incentive Plan *
    (4)10.5
            Community
      Bank Shares of Indiana, Inc. Dividend Reinvestment Plan *
    (5)10.6
            Employment
      Agreement with Christopher L. Bottorff * (6)10.7
            Employment
      Agreement with Kevin J. Cecil * (7)10.8
            Employment
      Agreement with Paul A. Chrisco * (7)10.9
            Consulting
      Agreement with Dale L. Orem * (7)10.10
            Community
      Bank Shares of Indiana, Inc. and Affiliates Business Ethics Policy
      (12)10.11
            Community
      Bank Shares of Indiana, Inc. 2005 Stock Award Plan (8)10.12
            Amendment
      to Employment Agreement with James D. Rickard * (9)10.13
            Amendment
      to Employment Agreement with Christopher L. Bottorff *
  (9)10.14
            Amendment
      to Employment Agreement with Kevin J. Cecil * (9)10.15
            Amendment
      to Employment Agreement with Paul A. Chrisco * (9)10.16
            Amendment
      to Community Bank Shares of Indiana, Inc. Performance Units Plan
      (10)11.1
            Computation of Earnings Per Share21.0
            Subsidiaries of Registrant23.1
            Consent of Crowe Chizek and Company
    LLC31.1
            Certification of Principal Executive Officer Pursuant to
      18 U.S.C. Section 1350,As Adopted Pursuant to
      Section 302 of the Sarbanes-Oxley Act of 200231.2
            Certification of Principal Financial Officer Pursuant to
      18 U.S.C. Section 1350,As Adopted Pursuant to
      Section 302 of the Sarbanes-Oxley Act of 200232.1
            Certification of Principal Executive Officer pursuant to
      Section 906 of  the Sarbanes-Oxley Act of
    200232.2
            Certification of Principal Financial Officer pursuant to
      Section 906 of the Sarbanes-Oxley Act of
  2002





*
Management contract or compensatory plan or arrangement required to be filed as
an exhibit to this Report pursuant to Item 601 of Regulation S-K.


(1)
Incorporated by reference from the exhibits filed with Form 8-K, filed July 27,
2007.
 (2)
Incorporated by reference to the Annual Report on Form 10-K filed April 2,
2002.
 (3)
Incorporated by reference to the Quarterly Report on Form 10-Q filed November
14, 2000.
 (4)
Incorporated by reference from the exhibits filed with the Registration
Statement on Form S-8, filed July 29, 1998, and any amendments thereto,
Registration statement No. 333- 60089.
 (5)
Incorporated by reference from the exhibits filed with the Registration
Statement on Form S-3D, filed November 14, 1997, and any amendments thereto,
Registration Statement No. 333-40211 and with the Registration
Statement on Form S-3D, filed December 28, 2005, and any amendments thereto,
Registration Statement No. 333-130721.
 (6)
Incorporated by reference to the Annual Report on Form 10-K filed March 31,
2003.
 (7)
Incorporated by reference to the Annual Report on Form 10-K filed March 30,
2004.
 (8)
Incorporated by reference from exhibit B to the definitive proxy statement filed
April 11, 2005.
 (9)
Incorporated by reference from the exhibits filed with Form 8-K, filed November
6, 2006.
 (10)
Incorporated by reference from the exhibits filed with Form 8-K, filed October
23, 2006.
 (11)
Incorporated by reference from the exhibits filed with Form 8-K, filed February
16, 2006.
 (12)
Incorporated by reference from the exhibits filed with Form 8-K, filed April 24,
2007.











82
 Index