**FORM 10-Q**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C.  20549**

**QUARTERLYREPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

**For the quarter ended****September30, 2006**

**Commissionfile number:**  **0-12826**

**TOWER BANCORP INC.**

(Exactname of registrant as specified in its charter)

| **Commonwealth of Pennsylvania**          | ** ** | **25-1445946**       |
|-------------------------------------------|------------|----------------------|
| (State or other  jurisdiction of          |       | (I.R.S. Employer     |
| incorporation or  organization)           |       | Identification  No.) |
|                                      |       |                 |
| **Center  Square**                        | ** ** | ** **           |
| **Greencastle,  Pennsylvania**            | ** ** | **17225**            |
| (Address of  principal executive offices) |       | (Zip Code)           |

 

Registrant’s telephone number,including  area code: **  (717) 597-2137**

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

Yes x  No o

Indicate by check mark whetherthe registrant is a large accelerated filer, an accelerated filer, or anon-accelerated filer (as defined in Rule 12b-2 of the Exchange Act)
| Large accelerated filer o | Accelerated filer x | Non-accelerated filer o |
|---------------------------|---------------------|-------------------------|

 

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

Yes o No x

Indicate the number of sharesoutstanding of each of the issuer’s classes of common stock, as of the latestpracticable date.

2,368,051 shares of commonstock outstanding at September 30, 2006

 

 

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TOWERBANCORP, INC.

INDEX
| PART I                                                                                                                            | –        | FINANCIAL INFORMATION                                                                       |   |
|-----------------------------------------------------------------------------------------------------------------------------------|---------------|---------------------------------------------------------------------------------------------|--------|
|                                                                                                                              |          |
| Item 1                                                                                                                            | –        | Financial Statements                                                                        |   |
| Condensed  consolidated balance sheets – September 30, 2006 and December 31, 2005                                            | 4             |
| Condensed consolidated  statements of income – three months ended September 30, 2006 and 2005                                | 5             |
| Condensed consolidated  statements of income – nine months ended September 30, 2006 and 2005                                 | 6             |
| Condensed  consolidated statements of comprehensive income – three months and nine  months ended September 30, 2006 and 2005 | 7             |
| Condensed  consolidated statements of cash flows – nine months ended September 30, 2006  and 2005                            | 8             |
| Notes to  condensed consolidated financial statements                                                                             | 9-13          |
| Item 2                                                                                                                            | –        | Management’s discussion and analysis of  financial condition and results of operations | 14-27  |
| Item 3                                                                                                                            | –        | Quantitative  and qualitative disclosures about market risk                                 | 28     |
| Item 4                                                                                                                            | –        | Controls and  procedures                                                                    | 29     |
|                                                                                                                              |          |                                                                                        |   |
| PART II                                                                                                                           | –        | OTHER INFORMATION                                                                           | 30     |
|                                                                                                                              |          |                                                                                        |   |
| Item 1                                                                                                                            | –        | Legal  proceedings                                                                          | 31     |
| Item 1A  –                                                                                                              | Risk  Factors | 31                                                                                          |
| Item 2                                                                                                                            | –        | Unregistered  sales of equity securities and use of proceeds                                | 31     |
| Item 3                                                                                                                            | –        | Defaults upon  senior securities                                                            | 31     |
| Item 4                                                                                                                            | –        | Submission of  matters to a vote of security holders                                        | 32     |
| Item 5                                                                                                                            | –        | Other  information                                                                          | 32     |
| Item 6                                                                                                                            | –        | Index  to Exhibits                                                                          | 32-34  |
|                                                                                                                              |          |                                                                                        |
| Signatures                                                                                                                        | 35            |
|                                                                                                                              |          |
| Exhibits                                                                                                                          | 36-41         |
|                                                                                                                                   |               |                                                                                             |        |  |  |

 

2

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PART I- FINANCIAL INFORMATION

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TOWER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY

CONDENSED CONSOLIDATED BALANCE SHEETS
| ** **                                                                                          | ** ** | **September 30,  2006 ** | ** ** | **December 31,   2005 ** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|------------------------------------|------------|-----------------------------------------|------------|
| ** **                                                                                          | ** ** | **(Unaudited)**                    | ** ** | **(Audited)***                          | ** ** |
| ** **                                                                                          | ** ** | **(000 Omitted)**             | ** ** | ** **                              | ** ** |
| ASSETS                                                                                              |       |                               |       |                                    |       |
| Cash and due  from banks                                                                            |       | $                                  | 15,818     |                                    | $          | 11,744 |   |
| Federal funds sold                                                                                  |       | 0                                  |       | 10,093                                  |       |
| Interest bearing  balances with banks                                                               |       | 97                                 |       | 3,083                                   |       |
| Investment  securities available for sale                                                           |       | 53,737                             |       | 60,180                                  |       |
| Investment  securities held-to-maturity                                                             |       | 137                                |       | 0                                       |       |
| Equity  securities available for sale                                                               |       | 40,146                             |       | 22,977                                  |       |
| Restricted bank  stock                                                                              |       | 2,992                              |       | 2,177                                   |       |
| Loans:                                                                                              |       |                               |       |                                    |       |
| Real estate  mortgages                                                                              |       | 222,903                            |       | 176,479                                 |       |
| Commercial                                                                                          |       | 130,565                            |       | 41,619                                  |       |
| Consumer                                                                                            |       | 31,323                             |       | 11,210                                  |       |
| Gross loans                                                                                         |       | 384,791                            |       | 229,308                                 |       |
| Less: reserve  for possible loan losses                                                             |       | (3,529                             | )          | (2,129                                  | )          |
| Loans, net                                                                                          |       | 381,262                            |       | 227,179                                 |       |
| Bank premises,  equipment, furniture and fixtures                                                   |       | 11,259                             |       | 5,855                                   |       |
| Accrued interest  receivable                                                                        |       | 2,060                              |       | 1,103                                   |       |
| Cash surrender  value of life insurance                                                             |       | 10,559                             |       | 7,387                                   |       |
| Goodwill                                                                                            |       | 16,141                             |       | 0                                       |       |
| Other assets                                                                                        |       | 2,631                              |       | 445                                     |       |
| Total assets                                                                                        |       | $                                  | 536,839    |                                    | $          | 352,223 |   |
|                                                                                                |       |                               |       |                                    |       |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY                                                          |       |                               |       |                                    |       |
| LIABILITIES                                                                                         |       |                               |       |                                    |       |
| Deposits in  domestic offices:                                                                      |       |                               |       |                                    |       |
| Demand                                                                                              |       | $                                  | 46,695     |                                    | $          | 29,162 |   |
| Savings                                                                                             |       | 185,633                            |       | 144,952                                 |       |
| Time                                                                                                |       | 170,137                            |       | 87,064                                  |       |
| Federal funds  purchased                                                                            |       | 6,046                              |       | 0                                       |       |
| Liabilities for  borrowed money                                                                     |       | 39,786                             |       | 35,516                                  |       |
| Accrued interest  payable                                                                           |       | 1,180                              |       | 364                                     |       |
| Other  liabilities                                                                                  |       | 7,389                              |       | 6,776                                   |       |
| Total  liabilities                                                                                  |       | 456,866                            |       | 303,834                                 |       |
|                                                                                                |       |                               |       |                                    |       |
| STOCKHOLDERS’ EQUITY                                                                           |       |                               |       |                                    |       |
| Capital stock,  common, no par, authorized 5,000,000 shares; 2,420,481 and 1,780,100 shares  issued |       | 2,225                              |       | 2,225                                   |       |
| Additional  paid-in capital                                                                         |       | 34,822                             |       | 6,760                                   |       |
| Retained  earnings                                                                                  |       | 34,516                             |       | 31,618                                  |       |
| Accumulated  other comprehensive income                                                             |       | 10,274                             |       | 9,557                                   |       |
| Less:  cost of treasury stock; 2006 - 52,430 shares;  2005 52,008 shares                       |       | (1,864                             | )          | (1,771                                  | )          |
| Total  stockholders’ equity                                                                    |       | 79,973                             |       | 48,389                                  |       |
|                                                                                                |       |                               |       |                                    |       |
| Total liabilities and  stockholders’ equity                                                    |       | $                                  | 536,839    |                                    | $          | 352,223 |   |

 

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*  Condensed from auditedfinancial statements.

Theaccompanying notes are an integral part of these condensed financial statements.

4

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TOWER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY

CONDENSED CONSOLIDATED STATEMENTS OF INCOMETHREE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005(UNAUDITED)
| ** **                                           | ** ** | **2006**               | ** ** | **2005**  | ** ** |
|------------------------------------------------------|------------|------------------------|------------|-----------|------------|
| ** **                                           | ** ** | **(000 Omitted)** | ** ** |
| Interest Income                                      |       |                   |       |      |       |
| Interest & fees on loans                         |       | $                      | 6,762      |      | $          | 3,605 |   |
| Interest on investment securities available for sale |       | 865                    |       | 657       |       |
| Interest on deposits with banks                      |       | 97                     |       | 74        |       |
| Total interest & dividend income                 |       | 7,724                  |       | 4,336     |       |
| Interest Expense                                     |       |                   |       |      |       |
| Interest on deposits                                 |       | 2,335                  |       | 960       |       |
| Interest on borrowed money                           |       | 789                    |       | 449       |       |
| Total interest expense                               |       | 3,124                  |       | 1,409     |       |
|                                                 |       |                   |       |      |       |
| Net interest income                                  |       | 4,600                  |       | 2,927     |       |
|                                                 |       |                   |       |      |       |
| Provision for  loan losses                           |       | 100                    |       | 60        |       |
|                                                 |       |                   |       |      |       |
| Net interest  income after provision for loan losses |       | 4,500                  |       | 2,867     |       |
|                                                 |       |                   |       |      |       |
| Other Income                                         |       |                   |       |      |       |
| Investment service income                            |       | 63                     |       | 71        |       |
| Service charges on deposit accounts                  |       | 440                    |       | 305       |       |
| Other service charges                                |       | 286                    |       | 201       |       |
| Other operating income                               |       | 123                    |       | 80        |       |
| Investment securities gains (losses)                 |       | 1,273                  |       | 773       |       |
| Total other income                                   |       | 2,185                  |       | 1,430     |       |
|                                                 |       |                   |       |      |       |
| Other Expense                                        |       |                   |       |      |       |
| Salaries, wages and other benefits                   |       | 2,252                  |       | 1,140     |       |
| Occupancy and equipment expense                      |       | 927                    |       | 282       |       |
| Other operating expenses                             |       | 1,284                  |       | 870       |       |
| Total other expenses                                 |       | 4,463                  |       | 2,292     |       |
|                                                 |       |                   |       |      |       |
| Income before taxes                                  |       | 2,222                  |       | 2,005     |       |
| Applicable  income taxes                             |       | 712                    |       | 553       |       |
| Net income                                           |       | $                      | 1,510      |      | $          | 1,452 |   |
|                                                 |       |                   |       |      |       |
| Earnings per share:                                  |       |                   |       |      |       |
| Basic earnings per share                             |       | $                      | 0.64       |      | $          | 0.84 |   |
| Weighted average shares outstanding                  |       | 2,371,117              |       | 1,728,274 |       |
| Diluted earnings per share                           |       | $                      | 0.63       |      | $          | 0.82 |   |
| Weighted average  shares outstanding                 |       | 2,404,735              |       | 1,759,207 |       |

 

Theaccompanying notes are an integral part of these condensed financial statements.

5

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TOWER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY

CONDENSED CONSOLIDATED STATEMENTS OF INCOME NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005 (UNAUDITED)
| ** **                                           | ** ** | **2006**               | ** ** | **2005**  | ** ** |
|------------------------------------------------------|------------|------------------------|------------|-----------|------------|
| ** **                                           | ** ** | **(000 Omitted)** | ** ** |
| Interest Income                                      |       |                   |       |      |       |
| Interest & fees on loans                         |       | $                      | 15,388     |      | $          | 10,241 |   |
| Interest on investment securities                    |       | 2,280                  |       | 1,676     |       |
| Interest on deposits with banks                      |       | 334                    |       | 139       |       |
| Total interest & dividend income                 |       | 18,002                 |       | 12,056    |       |
| Interest Expense                                     |       |                   |       |      |       |
| Interest on deposits                                 |       | 4,836                  |       | 2,418     |       |
| Interest on borrowed money                           |       | 1,858                  |       | 1,304     |       |
| Total interest expense                               |       | 6,694                  |       | 3,722     |       |
|                                                 |       |                   |       |      |       |
| Net interest income                                  |       | 11,308                 |       | 8,334     |       |
|                                                 |       |                   |       |      |       |
| Provision for  loan losses                           |       | 230                    |       | 210       |       |
|                                                 |       |                   |       |      |       |
| Net interest  income after provision for loan losses |       | 11,078                 |       | 8,124     |       |
|                                                 |       |                   |       |      |       |
| Other Income                                         |       |                   |       |      |       |
| Investment service income                            |       | 239                    |       | 178       |       |
| Service charges on deposit accounts                  |       | 1,064                  |       | 819       |       |
| Other service charges                                |       | 711                    |       | 481       |       |
| Other operating income                               |       | 298                    |       | 240       |       |
| Investment securities gains (losses)                 |       | 2,757                  |       | 1,574     |       |
| Total other income                                   |       | 5,069                  |       | 3,292     |       |
|                                                 |       |                   |       |      |       |
| Other Expense                                        |       |                   |       |      |       |
| Salaries, wages and other benefits                   |       | 5,029                  |       | 3,308     |       |
| Occupancy and equipment expense                      |       | 2,073                  |       | 840       |       |
| Other operating expenses                             |       | 2,743                  |       | 2,330     |       |
| Total other expenses                                 |       | 9,845                  |       | 6,478     |       |
|                                                 |       |                   |       |      |       |
| Income before taxes                                  |       | 6,302                  |       | 4,938     |       |
| Applicable  income taxes                             |       | 1,802                  |       | 1,345     |       |
| Net income                                           |       | $                      | 4,500      |      | $          | 3,593 |   |
|                                                 |       |                   |       |      |       |
| Earnings per  share:                                 |       |                   |       |      |       |
| Basic earnings per share                             |       | $                      | 2.23       |      | $          | 2.08 |   |
| Weighted average shares outstanding                  |       | 2,016,689              |       | 1,726,899 |       |
| Diluted earnings per share                           |       | $                      | 2.20       |      | $          | 2.05 |   |
| Weighted average  shares outstanding                 |       | 2,050,468              |       | 1,758,483 |       |

 

Theaccompanying notes are an integral part of these condensed financial statements.

6

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TOWER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOMETHREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005 (UNAUDITED)
| ** **                                     | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------|------------|----------------------------------|------------|
| ** **                                     | ** ** | **September 30**            | ** ** |
| ** **                                     | ** ** | **2006**                         | ** ** | **2005** | ** ** |
| ** **                                     | ** ** | **(000 Omitted)**           | ** ** |
|                                           |       |                             |       |   |   |
| Net income                                     |       | $                                | 1,510      |   | $ | 1,773 |   |
|                                           |       |                             |       |   |   |
| Other comprehensive  income:                   |       |                             |       |   |   |
| Unrealized  holding gains (losses), net of tax |       | 161                              |       | 641 |   |
|                                           |       |                             |       |   |   |
| Comprehensive income                           |       | $                                | 1,671      |   | $ | 2,414 |   |

 
| ** **                                     | ** ** | **Nine Months Ended** | ** ** |
|------------------------------------------------|------------|---------------------------------|------------|
| ** **                                     | ** ** | **September 30**           | ** ** |
| ** **                                     | ** ** | **2006**                        | ** ** | **2005** | ** ** |
| ** **                                     | ** ** | **(000 Omitted)**          | ** ** |
|                                           |       |                            |       |   |   |
| Net income                                     |       | $                               | 4,500      |   | $ | 3,593 |   |
|                                           |       |                            |       |   |   |
| Other comprehensive  income:                   |       |                            |       |   |   |
| Unrealized  holding gains (losses), net of tax |       | 717                             |       | 625 |   |
|                                           |       |                            |       |   |   |
| Comprehensive income                           |       | $                               | 5,217      |   | $ | 4,218 |   |

 

The accompanying notes are an integral part of these condensed financial statements.

7

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TOWERBANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS Nine Months Ended September 30, 2006 and 2005
| ** **                                                                         | ** ** | **2006**               | ** ** | **2005** | ** ** |
|------------------------------------------------------------------------------------|------------|------------------------|------------|----------|------------|
| ** **                                                                         | ** ** | **(000 omitted)** | ** ** |
| Cash flows from  operating activities:                                             |       |                   |       |     |       |
| Net income                                                                         |       | $                      | 4,500      |     | $          | 3,593 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities: |       |                   |       |     |       |
| Depreciation and amortization                                                      |       | 568                    |       | 297      |       |
| Provision for loan losses                                                          |       | 230                    |       | 210      |       |
| Granting of stock options                                                          |       | 108                    |       | 0        |       |
| (Gain) on sale of investment securities                                            |       | (2,757                 | )          | (1,574   | )          |
| Other (net)                                                                        |       | (1,588                 | )          | (1,621   | )          |
| Net cash  provided (used) by operating activities                                  |       | 1,061                  |       | 905      |       |
|                                                                               |       |                   |       |     |       |
| Cash flows from  investing activities:                                             |       |                   |       |     |       |
| Loans (net)                                                                        |       | (14,278                | )          | (643     | )          |
| Purchases of bank premises, equipment, furniture and  fixtures                     |       | (1,852                 | )          | (750     | )          |
| Interest bearing balances with banks                                               |       | 3,086                  |       | (2,861   | )          |
| Purchases of available for sale securities                                         |       | (8,863                 | )          | (24,921  | )          |
| Maturities/sales of available for sale securities                                  |       | 30,792                 |       | 5,717    |       |
| Redemption (purchase) of restricted bank stock                                     |       | (423                   | )          | (623     | )          |
| Cash acquired in acquisition                                                       |       | 4,594                  |       | 0        |       |
| Purchase price of shares exchanged for cash/transaction  costs                     |       | (2,935                 | )          | 0        |       |
| Net cash  provided (used) by investing activities                                  |       | 10,121                 |       | (24,081  | )          |
|                                                                               |       |                   |       |     |       |
| Cash flows from  financing activities:                                             |       |                   |       |     |       |
| Federal funds purchased                                                            |       | (15,425                | )          | 0        |       |
| Net increase in deposits                                                           |       | 2,191                  |       | 25,429   |       |
| Net increase (decrease) in borrowings                                              |       | (2,480                 | )          | 2,361    |       |
| Purchase of treasury stock                                                         |       | (372                   | )          | (189     | )          |
| Proceeds from sale of treasury stock                                               |       | 286                    |       | 342      |       |
| Cash dividends paid                                                                |       | (1,401                 | )          | (2,001   | )          |
| Net cash provided (used) by financing activities                                   |       | (17,201                | )          | 25,942   |       |
|                                                                               |       |                   |       |     |       |
| Net increase (decrease) in cash and cash equivalents                               |       | (6,019                 | )          | 2,766    |       |
|                                                                               |       |                   |       |     |       |
| Cash and cash equivalents at beginning of period                                   |       | 21,837                 |       | 10,045   |       |
|                                                                               |       |                   |       |     |       |
| Cash and cash equivalents at end of period                                         |       | $                      | 15,818     |     | $          | 12,811 |   |
|                                                                               |       |                   |       |     |       |
| Cash and cash  equivalents consists of:                                            |       |                   |       |     |       |
| Cash and due from banks                                                            |       | $                      | 15,818     |     | $          | 11,336 |   |
| Federal funds sold                                                                 |       | 0                      |       | 1,475    |       |
| Total cash and cash equivalents                                                    |       | $                      | 15,818     |     | $          | 12,811 |   |

 

The accompanying notes are an integral part of these condensedfinancial statements.

8

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS SEPTEMBER 30, 2006 (UNAUDITED)

Note 1.   Basis of Presentation

The accompanying unaudited condensed consolidatedfinancial statements have been prepared in accordance with generally acceptedaccounting principles in the United States for interim financial information,and accordingly do not include all of the information and footnotes required bygenerally accepted accounting principles for complete financialstatements.  In the opinion ofmanagement, the accompanying unaudited condensed consolidated financialstatements contain all adjustments (consisting solely of normal recurringadjustments) necessary to present fairly Tower Bancorp, Inc.’s consolidatedfinancial position as of September 30, 2006 and the results of its operationsfor the three month and nine month periods ended September 30, 2006 and2005.  Information presented atDecember 31, 2005 is condensed from audited year-end financial statementsincluded in the Annual Report on Form 10-K for the year ended December 31,2005.

The condensed consolidated financial statements includethe accounts of Tower Bancorp, Inc. (the “Company” or “Tower”) and its whollyowned subsidiary, the First National Bank of Greencastle (the “Bank”).  All significant intercompany accounts andtransactions have been eliminated.

The results of operations for the three and nine monthperiods ended September 30, 2006 and 2005 are not necessarily indicativeof the results to be expected for the full year.

Note 2.   Income Taxes

Income tax expense is less than the amount calculatedusing the statutory tax rate primarily as a result of tax exempt income earnedfrom state and municipal securities and loans.

Note 3.   Commitments

In the normal course of business, the Company makesvarious commitments and incurs certain contingent liabilities which are notreflected in the accompanying financial statements.  These commitments include various guaranteesand commitments to extend credit and the bank does not anticipate any losses asa result of these transactions.

On June 28, 2006, the Company entered into a contractwith a local contractor to build a branch office.  The total contract price is$ 441,000.  As of September 30,2006, the remaining contract amount unpaid is $ 261,000.

9

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Note 4.   Acquisition

On June 1, 2006, Towercompleted the merger of FNB Financial Corporation (“FNB”) pursuant to theAgreement and Plan of Merger dated as of September 21, 2005, as amendedDecember 14, 2005 and May 9, 2006 (the “Merger Agreement”) betweenTower and FNB.  Prior to completion ofthe Merger, The First National Bank of McConnellsburg, FNB’s sole bankingsubsidiary, was a nationally-chartered commercial bank.  Immediately after the Merger, The FirstNational Bank of McConnellsburg became the wholly-owned subsidiary of Tower.  The First National Bank of McConnellsburgmerged with and into The First National Bank of Greencastle on August 26, 2006.

In the merger, FNBshareholders received either 0.8663 shares of Tower common stock for each shareof FNB common stock or $ 39.00 in cash for each share held, depending onshareholder elections and subject to the allocation provisions of the MergerAgreement. In connection with the Merger, Tower paid to the former shareholdersof FNB, in the aggregate, $ 2.363 million in cash and issued to the formershareholders of FNB, in the aggregate, 640,381 shares of Tower’s common stock.

The following tablesummarizes the preliminary purchase price allocation based on the estimatedfair value of the assets acquired and liabilities assumed at the date of theacquisition (in thousands).
| Assets:                   |   |    |    |
|---------------------------|--------|---------|---------|
| Cash and due from banks   |   | $       | 4,596   |   |
| Investment Securities     |   | 29,396  |    |
| Net Loans                 |   | 140,089 |    |
| Core Deposit Intangible   |   | 2,343   |    |
| Other Assets              |   | 8,545   |    |
| Total identifiable assets |   | $       | 184,969 |   |
|                      |   |    |    |
| Liabilities:              |   |    |    |
| Total Deposits            |   | $       | 139,058 |   |
| Borrowings                |   | 29,271  |    |
| Other Liabilities         |   | 1,556   |    |
| Total  liabilities        |   | $       | 169,885 |   |

 

10

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In accordance with FAS 141,Tower used the purchase method of accounting to record this transaction.  The $ l5.9 million of goodwill recordedin connection with the acquisition of FNB is calculated below.  The goodwill recorded was primarily allocatedthe First National Bank of McConnellsburg in accordance with FAS 142.
| Purchase Price:                                                       |   |   |    |   |   |
|-----------------------------------------------------------------------|--------|--------|---------|--------|--------|
| Purchase Price Assigned to Stock:                                     |   |   |    |   |   |
| Tower common  stock to be issued                                      |   | $      | 640,381 |   |   |   |
| Average purchase  price per Tower common share                        |   | 43.74  |    |   |   |
| Purchase price assigned to  shares exchanged for  stock               |   |   |    | $      | 28,009 |   |
|                                                                  |   |   |    |   |   |
| Purchase Price Assigned  to Cash:                                     |   |   |    |   |   |
| Shares exchanged  for cash                                            |   | $      | 60,599  |   |   |   |
| Cash purchase  price per FNB common share                             |   | 39.00  |    |   |   |
| Purchase price  assigned to shares exchanged for cash                 |   |   |    | $      | 2,363  |   |
| Purchase price  assigned to fractional shares exchanged for cash      |   |   |    | 7      |   |
| Transaction  costs                                                    |   |   |    | 565    |   |
|                                                                  |   |   |    |   |   |
| Total Purchase Price                                                  |   |   |    | $      | 30,944 |   |
|                                                                  |   |   |    |   |   |
| Net Assets Acquired:                                                  |   |   |    |   |   |
|                                                                  |   |   |    |   |   |
| FNB  shareholders’ equity                                        |   | 15,747 |    |   |   |
| FNB goodwill and  intangibles                                         |   | (2,066 | )       |   |   |
|                                                                  |   |   |    |   |   |
| Estimated  adjustments to reflect assets acquired at fair value:      |   |   |    |   |   |
| Investments                                                           |   | (0     | )       |   |   |
| Loans                                                                 |   | (1,577 | )       |   |   |
| Core deposit  intangible                                              |   | 2,343  |    |   |   |
| Bank premises  & furniture, fixtures and equipment                |   | 895    |    |   |   |
| Deferred tax  asset                                                   |   | (718   | )       |   |   |
|                                                                  |   |   |    |   |   |
| Estimated  adjustments to reflect liabilities acquired at fair value: |   |   |    |   |   |
| Time deposits                                                         |   | 335    |    |   |   |
| Borrowings                                                            |   | 125    |    |   |   |
|                                                                  |   |   |    | 15,084 |   |
| Consolidated Tower goodwill resulting from merger                     |   |   |    | $      | 15,860 |   |

 

The following pro formacombined results of operations for the nine months ended September 30, 2006 andSeptember 30, 2005 gives effect to the merger as if the merger had beencompleted on January 1, 2006 and January 1, 2005, respectively.  Thepro forma information shows the combination of FNB McConnellsburg’s historicalresults into Tower’s results of operations under the purchase method ofaccounting.  While certain adjustmentshave been made for the estimated impact of purchase accounting adjustments, thepro forma results of operations are presented for illustrative purposes onlyand do not indicate the financial results of the combined company had thecompanies actually been combined at the beginning of the period presented.

11

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** **
|                                                                                 | ** ** | **Pro forma**              | ** ** |
|---------------------------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                                      | ** ** | **Nine Months Ended** | ** ** |
| ** **                                                                      | ** ** | **September 30,**          | ** ** | **September 30,** | ** ** |
| **(Dollars in Thousands, except per share data)** | ** ** | **2006**                        | ** ** | **2005** | ** ** |
|                                                                            |       |                            |       |   |   |
| Net interest  income                                                            |       | $                               | 14,108     |   | $ | 12,499 |   |
| Other income                                                                    |       | 5,388                           |       | 4,191 |   |
| Net income                                                                      |       | 5,057                           |       | 4,513 |   |
|                                                                            |       |                            |       |   |   |
| Earnings per share                                                              |       | $                               | 2.13       |   | $ | 1.90 |   |

 

Note 5.          Stock Option Plans

Stock-Based Compensation

The Company maintains twostock-based compensation plans.  Theseplans provide for the granting of stock options to the Company’s employees anddirectors.  The Company has historicallyaccounted for the plans using the intrinsic-value method under the recognitionand measurement principles of APB Opinion No. 25**and relatedInterpretations.  In December 2004, theFASB issued a final FAS Statement No 123R, “Share-Based Payment”, whichrequires financial statement recognition of compensation cost for stock optionsand other stock-based awards.

As a result of adoptingStatement 123R on January 1, 2006, the Company’s income before taxes and netincome for the nine months ended September 30, 2006, are $ 108,000 and$ 72,000 less, respectively, than if it had continued to account forshare-based compensation under Opinion 25*. *Basicand diluted earnings per share for the nine months ended September 30, 2006 are$ .04 and $ .04 less, respectively, than if the company had continuedto account for share-based compensation under Opinion 25*.*  The fair value of each option grant wasestimated on the date of grant using the Black-Scholes option-pricing model.

12

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During the nine months ended September 30, 2005 theCorporation applied APB Opinion 25 and related interpretations in accountingfor its stock option plans.  Accordingly,only compensation cost for the intrinsic value of options has beenrecognized.  Had compensation cost forthe Corporation’s stock option plans been determined based on the fair value atthe grant dates for awards under the plans consistent with the methodprescribed by FASB Statement No. 123R, the Corporation’s net income andearnings per share would have been adjusted to the pro forma amounts indicatedbelow:
|                                       | ** ** | ** **  | ** ** | **2005**                                           | ** ** |
|---------------------------------------|------------|-------------|------------|----------------------------------------------------|------------|
| ** **                            | ** ** | ** **  | ** ** | **Nine Months Ended  September 30** | ** ** |
|                                  |       |        |       |                                               |       |
| Net  income (000) omitted             |       | As reported |       | $                                                  | 3,593      |   |
|                                  |       | Pro forma   |       | 3,559                                              |       |
|                                  |       |        |       |                                               |       |
| Basic  earnings per share             |       | As reported |       | 2.08                                               |       |
|                                  |       | Pro forma   |       | 2.06                                               |       |
|                                  |       |        |       |                                               |       |
| Earnings  per share assuming dilution |       | As reported |       | 2.04                                               |       |
|                                  |       | Pro forma   |       | 2.02                                               |       |
|                                       |            |             |            |                                                    |            |  |

 

Note 6.   Publicly Announced StockRepurchase Plan

On September 13, 2006 the Board of Directors of theCompany authorized the repurchase of 100,000 shares of the Company’s commonstock from shareholders or in open market transactions.

Note 7.   Subsequent Event

In October 2006, the Company re-instituted and initiatedoperations for its Trust Department. Accounts with a value of approximately $ 330 million weretransferred to the Trust Department from another local trust company, which hadbeen servicing those accounts under a custodial agreement.

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ITEM 2.

MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

September30, 2006

Thefollowing is management’s discussion and analysis of the significant changes inthe consolidated results of operations, capital resources and liquiditypresented in the accompanying unaudited consolidated financial statements forthe Company. This discussion should be read in conjunction with the precedingcondensed consolidated financial statements and related footnotes, as well asthe Company’s December 31, 2005 Annual Report on Form 10-K. Current performancedoes not guarantee and may not be indicative of similar performance in thefuture.

Inaddition to historical information, this quarterly report on Form 10-Q containsforward-looking statements. The forward-looking statements contained in thisreport are subject to certain risks, assumptions and uncertainties. Because ofthe possibility of change in the underlying assumptions, actual results coulddiffer materially from those projected in the forward-looking statements.Additional factors that might cause actual results to differ materially fromthose expressed in the forward-looking statements include, but are not limitedto:

·                  operating, legal and regulatory risks,

·                  economic, political and competitive forcesaffecting the Company’s services, and

·                  therisk that management’s analyses of these risks could be incorrect and/or thatthe strategies developed to address them could be unsuccessful.

TheCompany’s forward-looking statements are relevant only as of the date on whichthe statements are made. By making forward-looking statements, the Companyassumes no duty to update them to reflect new, changing or unanticipated eventsor circumstances. Readers should carefully review the risk factors described inother periodic reports and public documents that the Company files from time totime with the Securities and Exchange Commission.

CRITICALACCOUNTING POLICIES

Disclosureof the Company’s significant accounting policies is included in Note 1 to theconsolidated financial statements of the Company’s Annual Report on Form 10-Kfor the year ended December 31, 2005. Some of these policies are particularlysensitive requiring significant judgments, estimates and assumptions to be madeby management. Additional information is contained on pages 21 and 23 of thisreport for the provision and allowance for loan losses.

14

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OVERVIEW

Themerger with FNB Financial Corporation, which occurred on June 1, 2006,represents a significant expansion of the Tower Bancorp, Inc. franchise.Because of the timing of the merger, the focus of this presentation will be oncomparisons of quarterly performance, with particular emphasis on the thirdquarter of 2006.  As required under thereporting rules of the Securities and Exchange Commission, consideration willalso be given to year-to-date comparisons, which are inherently less meaningfulin evaluating future performance.  Inaccordance with generally accepted accounting principles (GAAP) under purchasemethod accounting, comparisons of year-to-date results have not been restatedfor the impact of the FNB Financial Corporation operations for the first fivemonths of 2006 or for the first nine months of 2005, rendering thesecomparative analyses less useful than the quarterly comparison.

Netincome for the nine months ended September 30, 2006 and 2005 was $4,500,000 and$3,593,000, respectively. The increase of $907,000, or 25.2%, is attributableto the Company’s core banking business and the acquisition of FNB FinancialCorporation (“FNB”).  Net interest incomeincreased 35.7%, other income increased 54.0%, the provision for loan lossesincreased 9.5% and other expenses increased 52.0%. On a basic and diluted pershare basis, net income for the nine months ended September 30, 2006 was $2.23and $2.20, respectively, as compared with $2.08 and $2.05 for the nine monthsended September 30, 2005. Net income as a percentage of total averagestockholders’ equity on an annualized basis, also known as return on averageequity, was 9.5% and 10.54% for the first nine months of 2006 and 2005,respectively. The decrease in this ratio is attributable to an increase inequity due to the merger.

Duringthe first nine months of 2006, the Company’s assets increased $183,616,000, or52.4%, to $536,859,000 as of September 30, 2006 from $352,223,000 as ofDecember 31, 2005. This increase is primarily attributable to acquiringthe assets of FNB, which totaled $185,248,000. Total loans increased 67.8% to $384,791,000.  Total deposits increased by $141,287,000, or54.1%, during the first nine months of 2006 to $402,465,000 as of September 30,2006 from $261,178,000 as of December 31, 2005.  As a result of competition in the market,and, to a certain degree, customers’ continued uncertainty as to how to bestinvest their monies, deposit growth may not be assumed at the current rates.

RESULTSOF OPERATIONS

NetInterest Income

Forthe three months ended September 30, 2006, total interest income increased by$3,388,000, or 78.1%, to $7,724,000 as compared with $4,336,000 for the threemonths ended September 30, 2005. This increase is primarily due to acquiringFNB and increases in the one year Treasury rate and the prime rate. During thethree months ending September 30, 2006 earning assets decreased 1.5% to$481,900,000.  Loans increased $7,258,000while investment securities decreased $4,239,000 and overnight Fed Funds solddecreased $10,113,000.  Managementcontinued to target efforts to attract mortgage and small commercial loans.Further impacting interest income were a 25-basis point increase in the primerate, increases in the Federal funds rate and decreases in the one yearTreasury during the three months ending September 30, 2006.

15

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Totalinterest expense increased by $1,715,000, or 121.7% to $3,124,000 for the threemonths ended September 30, 2006 from $1,409,000 for the three months endedSeptember 30, 2005. This increase is primarily due to acquiring FNB, tothe increased deposit balances and the increased costs associated withattracting deposits at a time when short-term interest rates are rising, and tothe higher rates associated with overnight fed funds borrowings. Increases inrates were needed to attract deposits, particularly money market accounts.  A new money market product was introduced duringthe three months ending June 30, 2006 with a yield of 4.00% and issignificantly higher than the 2.23% cost of money market accounts duringSeptember 2005.

Netinterest income increased by $1,673,000, or 57.2%, to $4,600,000 for the threemonths ending September 30, 2006 from $2,927,000 for the three months endingSeptember 30, 2005.  This increase isprimarily due to acquiring FNB and also attributable to the repricing ofmortgages and, to a lesser extent, commercial loans tied to the one year treasuryand prime rates.

Forthe nine months ended September 30, 2006, total interest income increasedby $5,946,000, or 49.3%, to $18,002,000 as compared with $12,056,000 for thenine months ended September 30, 2005. This increase is primarily due toacquiring FNB and increases in the one year Treasury rate and the prime rate.During the nine months ending September 30, 2006 earning assets increased47.0%.  In addition, management targetedefforts to attract mortgage and small commercial loans. Further impactinginterest income were five 25-basis point increases in the prime rate, increasesin the Federal funds rate and increases in the one year Treasury during thenine months ending September 30, 2006 that resulted in higher yields oninterest earning assets.

Totalinterest expense increased by $2,972,000, or 79.9%, to $6,694,000 for the ninemonths ended September 30, 2006 from $3,722,000 for the nine months endedSeptember 30, 2005. This increase is primarily due to acquiring FNB, tothe increased deposit balances and the increased costs associated withattracting deposits at a time when short-term interest rates are rising, and tothe higher rates associated with overnight fed funds borrowings. Increases inrates were needed to attract deposits, particularly money market accounts.Higher rates paid to attract time deposits and a new money market product thatwas introduced during the six months ending June 30, 2006 with a yield of 4.00%have contributed to the increased interest expense.

Netinterest income increased by $2,974,000, or 35.7%, to $11,308,000 for the ninemonths ending September 30, 2006 from $8,334,000 for the nine months endingSeptember 30, 2005.  This increase isprimarily due to acquiring FNB and also attributable to the repricing ofmortgages and, to a lesser extent, commercial loans tied to the one yeartreasury and prime rates plus the increased earning assets funded by depositgrowth.

Provisionfor Loan Losses

Theprovision for loan losses was $100,000 for the three months ending September 30,2006, compared with $60,000 for the three months ending September 30, 2005, anincrease of 66.7%. The increase in the provision is primarily due to acquiringFNB.  The level of provision isattributable to the consistency in the high quality of the loan portfolio.

16

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Theprovision for loan losses was $230,000 for the nine months ending September 30,2006; compared with $210,000 for the nine months ending September 30, 2005, anincrease of 9.5%. The increase in the provision is primarily due to acquiring FNB.  The level of provision is attributable to theconsistency in the high quality of the loan portfolio.

Theallowance for loan losses represented 0.92% of total loans atSeptember 30, 2006, compared with 0.93% as of December 31, 2005 and 0.91%as of September 30, 2005. Management performs ongoing assessments of the loanloss reserve in relation to loan portfolio growth, credit exposure toindividual borrowers, overall trends in the loan portfolio and other relevantfactors. Based upon these factors, management believes that as of September 30,2006, the reserve is reasonable and sufficient to support the increased loangrowth in light of the strong asset quality as supported by the ratiosreflected in Table 2 on page 23.

OtherIncome

Forthe three months ended September 30, 2006, other income was $2,185,000, anincrease of $755,000, or 52.8%, compared with other income of $1,430,000 forthe three months ended September 30, 2005. The increase was primarily due to anincrease of $500,000 in gains from the sale of equity securities, which were$1,273,000 for the three months ended September 30, 2006 and $773,000 for thethree months ended September 30, 2005. Other income was positively impacted by increases of $117,000 in NSFfees, $46,000 in ATM fees, $25,000 in service charges on deposit accounts and$23,000 in mortgage banking activities.

Forthe nine months ended September 30, 2006, other income was $5,069,000, anincrease of $1,777,000, or 54.0%, compared with other income of $3,292,000 forthe nine months ended September 30, 2005. The increase was primarily due to anincrease of $1,183,000 in gains from the sale of equity securities, which were$2,757,000 for the nine months ended September 30, 2006 and $1,574,000 for thenine months ended September 30, 2005. Other income was positively impacted by increases of $221,000 in NSFfees, $102,000 in ATM fees, $82,000 in mortgage banking activities and $56,000in investment services.

OtherExpenses

Otherexpenses, which include salary, occupancy, equipment and all other expensesincidental to the operation of the Company, increased to $4,463,000 for thethree months ended September 30 2006 from 2,292,000 for the three months endedSeptember 30, 2005.  The $2,171,000, or94.7% increase was primarily due to acquiring FNB, which increased salary andbenefits, as well as occupancy costs.

Salariesand employee benefit expenses, which make up the largest component of otherexpenses, increased $1,112,000, or 97.5%, to $2,252,000 for the three monthsended September 30, 2006 from $1,140,000 for the three months ended September30, 2005. The increase is primarily attributable to the increase in salaryexpenses of $955,000 and the associated benefit costs.  Included in salary expense is a one timeexpense for change of control agreements of $320,000 related to the FNBacquisition.

17

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Occupancyand equipment expenses increased $645,000, or 228.7%, to $927,000 for the threemonths ended September 30, 2006 from $282,000 for the three months endedSeptember 30, 2005. The increase is primarily due to acquiring FNB, increasingcomputer costs by $239,000, equipment costs by $138,000 and buildingdepreciation by $41,000.

Otheroperating expenses during the three months ended September 30, 2006 increased$414,000, or 47.6% to $1,284,000 from $870,000 during the three months endedSeptember 30, 2005.  This increase wasprimarily due to acquiring FNB, including increased expense for amortization ofcore deposit intangibles by $ 107,000.

Otherexpenses, which include salary, occupancy, equipment and all other expensesincidental to the operation of the Company, increased to $9,845,000 for thenine months ended September 30, 2006 from 6,478,000 for the nine months endedSeptember 30, 2005.  The $3,367,000, or52.0% increase was primarily due to increases in salary and benefits, occupancycosts and costs associated with data processing.

Salariesand employee benefit expenses, which make up the largest component of otherexpenses, increased $1,721,000, or 52.0%, to $5,029,000 for the nine monthsended September 30, 2006 from $3,308,000 for the nine months ended September30, 2005. The increase is primarily attributable to the increase in salaryexpenses of $1,272,000 and the associated benefit costs. Included in salaryexpense is a one time expense for change of control agreements of $320,000related to the FNB acquisition.

Occupancyand equipment expenses increased $1,233,000, or 146.8%, to $2,073,000 for thenine months ended September 30, 2006 from $840,000 for the nine months endedSeptember 30, 2005. The increase is primarily due to acquiring FNB and toincreased depreciation and computer service expenses.

Otheroperating expenses during the nine months ended September 30, 2006 increased$413,000, or 17.7% to $2,743,000 from $2,330,000 during the nine months endedSeptember 30, 2005.  This increase wasprimarily due to acquiring FNB, including increased expense for amortization ofcore deposit intangibles by $142,000.

IncomeTaxes

Incometax expense was $712,000 for the three months ended September 30, 2006, anincrease of $159,000, or 28.8%, compared with $553,000 for the three monthsended September 30, 2005. The increased tax expense is consistent with thehigher level of net income.

Incometax expense was $1,802,000 for the nine months ended September 30, 2006, anincrease of $457,000, or 34.0%, compared with $1,345,000 for the nine monthsended September 30, 2005. The increased tax expense is consistent with thehigher level of net income.

NetIncome

Netincome for the three months ended September 30, 2006 was $1,510,000, anincrease of $58,000, or 4.0%, compared with $1,452,000 for the three monthsended September 30, 2005. The increase in net income is the result of increasesof $1,673,000 in net interest income and $755,000 in other income, offset by anincrease of $40,000 in the provision for loan losses, and

18

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increasesof $2,171,000 in other expenses and $159,000 in taxes. Basic and dilutedearnings per share for the three months ended September 30, 2006 were $0.64 and$0.63 as compared with $0.84 and $0.82 for the three months ended September 30,2005.

Netincome for the nine months ended September 30, 2006 was $4,500,000, an increaseof $907,000, or 25.2%, compared with $3,593,000 for the nine months endedSeptember 30, 2005. The increase in net income is the result of increases of$2,974,000 in net interest income and $1,777,000 in other income, offset by anincreases of $20,000 in the provision for loan losses, and $3,337,000 in otherexpenses and $457,000 in taxes. Basic and diluted earnings per share for thenine months ended September 30, 2006 were $2.23 and $2.20 as compared with$2.08 and $2.05 for the nine months ended September 30, 2005.

FINANCIALCONDITION

Changesin the statement of condition at September 30, 2006 compared to December 31,2005 were influenced by the acquisition of the net identifiable assets of FNBFinancial Corporation.  In order toisolate the impact of the acquisition of these assets and liabilities on thepost-merger financial position of Tower Bancorp, Inc., a presentation isprepared to isolate the pre-merger opening balances of FNB FinancialCorporation.
| (in thousands)         | ** ** | **Net Assets  Acquired in  Merger** | ** ** | **Effects of  Purchase  Accounting  Adjustments** | ** ** | **Pro Forma  Opening FNB  Financial Corp.  Balances** | ** ** |
|-----------------------------|------------|-----------------------------------------------|------------|--------------------------------------------------------|------------|----------------------------------------------------------------------|------------|
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Cash and due  from banks    |       | $                                             | 4,596      |                                                   | $          | 0                                                                    |       | $ | 4,596 |   |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Investment  Securities      |       | 29,396                                        |       | 0                                                      |       | 29,396                                                               |       |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Net Loans                   |       | 141,666                                       |       | -1577                                                  |       | 140,089                                                              |       |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Core Deposit  Intangible    |       | 1,221                                         |       | 1122                                                   |       | 2,343                                                                |       |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Other Assets                |       | 8,369                                         |       | 173                                                    |       | 8,542                                                                |       |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Total Assets  Acquired      |       | $                                             | 185,248    |                                                   | -282       |                                                                 | 184,966    |   |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Deposits                    |       | $                                             | 139,393    |                                                   | $          | -335                                                                 |       | $ | 139,058 |   |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Borrowings                  |       | 29,396                                        |       | -125                                                   |       | 29,271                                                               |       |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Other  Liabilities          |       | 1,556                                         |       | 0                                                      |       | 1,556                                                                |       |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Total  Liabilities Acquired |       | 170,345                                       |       | -460                                                   |       | 169,885                                                              |       |
|                        |       |                                          |       |                                                   |       |                                                                 |       |
| Net Assets Acquired         |       | $                                             | 14,903     |                                                   | $          | 178                                                                  |       | $ | 15,081 |   |

 

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Securities

TheCompany’s securities portfolio is comprised of securities that not only provideinterest and dividend income, including tax-exempt income, but also provide asource of liquidity, diversify the earning assets portfolio, allow for themanagement of risk and tax liability, and provide collateral for repurchaseagreements and public fund deposits. Policies are in place to address variousaspects of managing the portfolio, including but not limited to,concentrations, liquidity, credit quality, interest rate sensitivity andregulatory guidelines.

Althoughthe Company generally intends to hold its investment securities to maturity, asignificant portion of the securities portfolio is classified as available forsale, with new purchases generally categorized as such. Securities in theavailable for sale category are accounted for at fair value with unrealizedappreciation or depreciation, net of tax, reported as a separate component ofstockholders’ equity. Securities in the held to maturity category are accountedfor at amortized cost. Most securities held as of September 30, 2006 areclassified as available for sale. The Company holds no trading securities inits portfolio.  The securities portfolioincludes equities owned by the holding company, most of which are investmentsin banks, bank holding companies and financial institutions.  Equity investments are accounted for at fairmarket value.  The remaining securities,primarily debt instruments, are owned by the bank.

Theconsolidated securities portfolio at September 30, 2006 was $94,020,000,compared to $83,157,000 at December 31, 2005, an increase of $10,863,000, or13.1%.  The increase is due primarily toacquiring FNB, increasing securities by $25,108,000 and a decrease of$14,378,000 of securities held by First National Bank of Greencastle.  The maturing securities held by FirstNational Bank of Greencastle matched the closing of a large money marketdeposit account opened in June 2005 for an estate.

BankOwned Securities

Thebank owned securities portfolio at September 30, 2006 was $53,874,000, comparedto $46,422,000 at December 31, 2005, an increase of $7,452,000, or 16.1%.  The increase is due primarily to acquiringFNB, increasing securities by $25,108,000 and a decrease of $17,655,000 ofsecurities held by First National Bank of Greencastle.  The maturing securities held by First NationalBank of Greencastle matched the closing of a large money market deposit accountopened in June 2005 for an estate.

Thecarrying value of the available for sale portion of the portfolio atSeptember 30, 2006 includes an unrealized gain of $799,000 (reflected asaccumulated other comprehensive income of $527,000 in stockholders’ equity, netof a deferred income tax liability of $272,000). This compares with anunrealized gain at December 31, 2005 of $723,000 (reflected as accumulatedother comprehensive income of $477,000 in stockholders’ equity, net of adeferred income tax liability of $246,000).

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HoldingCompany Owned Securities

Thesecurities portfolio at September 30, 2006 was $40,146,000, compared to$36,735,000 at December 31, 2005, an increase of $3,411,000, or 9.3%.  The increase includes $1,010,000 increase ofunrealized gains.  Realized gains on saleof equity securities were $2,757,000 for the nine months ended September 30,2006.

Thecarrying value of the available for sale portion of the portfolio atSeptember 30, 2006 includes an unrealized gain of $14,768,000 (reflectedas accumulated other comprehensive income of $9,747,000 in stockholders’equity, net of a deferred income tax liability of $5,021,000). This compareswith an unrealized gain at December 31, 2005 of $13,758,000 (reflected asaccumulated other comprehensive income of $9,080,000 in stockholders’ equity,net of a deferred income tax liability of $4,678,000).

Loans

Theloan portfolio comprises the major component of the Company’s earning assetsand generally is the highest yielding asset category. Gross loans receivable,net of unearned fees and origination costs, increased $155,483,000, or 67.8%,to $384,791,000 at September 30, 2006 from $229,308,000 at December 31, 2005.This increase is primarily due to acquiring FNB.  Gross loans represented 95.6% of totaldeposits at September 30, 2006 as compared with 87.8% at December 31,2005. This increase is primarily due to acquiring FNB.

CreditRisk and Loan Quality

TheCompany continues to be prudent in its efforts to minimize credit risk. TheBank’s written lending policy requires underwriting, loan documentation andcredit analysis standards to be met prior to the approval and funding of anyloan. In accordance with that policy, the loan review process monitors the loanportfolio on an ongoing basis. The Credit Administration area and theaccounting department then prepares an analysis of the allowance for loanlosses which is then submitted to the Board of Directors for its assessment asto the adequacy of the allowance. The allowance for loan losses is anaccumulation of expenses that has been charged against past and presentearnings in anticipation of potential losses in the loan portfolio.

Theallowance for loan losses at September 30, 2006 and December 31, 2005 was$3,529,000 and $2,129,000, respectively, compared to $2,103,000 at September30, 2005. This increase is primarily due to acquiring FNB.  At September 30, 2006, the allowance for loanlosses represented 0.92% of the gross loan portfolio, compared with 0.93% atDecember 31, 2005. This compares to 0.91% at September 30, 2005. At September30, 2006, in consideration of the strong asset quality, management believes theallowance for loan loss reserve to be reasonable and adequate to support theloan growth and to address any potential losses.

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Table1 –“Analysis of Allowance for Loan Loss” –details the activity, which occurredin the allowance over the first nine months of 2006 and 2005.

**Table 1 –Analysis of Allowance for Loan Loss (1)**
| (in thousands)                                   | ** ** | **2006** | ** ** | **2005** | ** ** |
|-------------------------------------------------------|------------|----------|------------|----------|------------|
| Balance, January  1                                   |       | $        | 2,129      |     | $          | 1,902 |   |
| Provision  charged to operating expense               |       | 230      |       | 210      |       |
| Charge-offs:                                          |       |     |       |     |       |
| Commercial                                            |       | 0        |       | 0        |       |
| Real Estate                                           |       | 0        |       | 0        |       |
| Consumer                                              |       | (23      | )          | (53      | )          |
| Total charge-offs                                     |       | (23      | )          | (53      | )          |
|                                                  |       |     |       |     |       |
| Recoveries:                                           |       |     |       |     |       |
| Commercial                                            |       | 2        |       | 22       |       |
| Real Estate                                           |       | 0        |       | 0        |       |
| Consumer                                              |       | 28       |       | 22       |       |
| Total Recoveries                                      |       | 30       |       | 44       |       |
|                                                  |       |     |       |     |       |
| Net  (charge-offs) recoveries                         |       | 7        |       | (9       | )          |
|                                                  |       |     |       |     |       |
| Reserve due to  acquisition of FNB                    |       | 1,163    |       | 0        |       |
|                                                  |       |     |       |     |       |
| Balance,  September 30                                |       | $        | 3,529      |     | $          | 2,103 |   |
|                                                  |       |     |       |     |       |
| Net charge-offs or  (recoveries) to average net loans |       | (0.01    | )          | 0.02     |       |

 

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(1)Bank’s loan portfolio is entirely domestic

TheBank’s lending policy is executed through the assignment of tiered loan limitauthorities to individual officers of the Bank, the Officer’s Loan Committeeand the Board of Directors. Although the Bank maintains sound credit policies,certain loans may deteriorate for a variety of reasons. The Bank’s policy is toplace all loans on a non-accrual status upon becoming 90 days delinquent intheir payments, unless there is a documented and reasonable expectation of thecollection of the delinquent amount. Loans are reviewed monthly as to theirstatus, and on a quarterly basis presented to the Board of Directors.Management is not aware of any material potential loan credit problems thathave not been disclosed in this report.

22

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Table2 – “Asset Quality Ratios” – summarizes pertinent asset quality ratios atSeptember 30, 2006 and December 31, 2005.

**Table 2 – Asset Quality Ratios**
|                                             | ** ** | **9/30/06** | ** ** | **12/31/05** | ** ** |
|---------------------------------------------|------------|-------------|------------|--------------|------------|
| Non-accrual  loans/total loans              |       | 0.07        | %          | 0.02         | %          |
| Non-performing  assets (1)/total loans      |       | 0.01        | %          | 0.05         | %          |
| Net charge offs  (recoveries)/average loans |       | (0.01       | )%         | 0.02         | %          |
| Allowance/total  loans                      |       | 0.91        | %          | 0.93         | %          |
| Allowance/non-accrual  loans                |       | 13.68       | %          | 47.31        | %          |
| Allowance/non-performing  loans (1)         |       | 8.74        | %          | 20.47        | %          |

 

----

(1) – Includesnon-accrual loans

AtSeptember 30, 2006, the Company had other real estate owned (not used inoperations) in the amount of $1,617,000. At September 30, 2006 and December 31, 2005, the Company hadnon-accrual loans in the amount of $258,000 and $45,000, respectively.  This increase is primarily due to acquiringFNB, which as of September 30, 2006 added two mortgages to unrelated borrowersin non-accrual totaling $179,000.

Loanconcentrations are considered to exist when the total amount of loans to anyone or a multiple number of borrowers engaged in similar activities or havingsimilar characteristics exceeds 10% of loans outstanding in any one category.The Company maintains a diversified loan portfolio, granting agribusiness,commercial and residential loans to customers. The majority of the Bank’s lending is made within its primary marketarea, which includes Fulton County and southern Franklin County, Pennsylvaniaand northern Washington County, Maryland. Although no concentrations exist to one borrower or related group ofborrowers, the Bank’s commercial lending is primarily secured by real estate.

BankOwned Life Insurance

TheCompany has Bank Owned Life Insurance (“BOLI”) for a chosen group of employees,namely officers and directors, where the Bank is the owner and beneficiary ofthe policies. The Bank’s deposits and proceeds from the sale of investmentsecurities funded the BOLI. Earnings from the BOLI are recognized as otherincome. The BOLI is profitable from the appreciation of the cash surrendervalues of the pool of insurance, and its tax advantage to the Company. Thisprofitability is used to offset a portion of current and future employeebenefit costs and a Nonqualified Supplemental Executive Retirement Plan for theCompany’s Chief Executive Officer.

TheCompany had $10,559,000 and $7,387,000 in BOLI as of September 30, 2006 andDecember 31, 2005, respectively. This increase is primarily due to acquiring FNB, which as of September30, 2006 had $2,933,000 in BOLI. Although the BOLI is an asset that may be liquidated, it is the Company’sintention to hold this pool of insurance because it provides tax-exempt incomethat lowers the Company’s tax liability, while enhancing its overall capitalposition.

23

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Deposits

Depositsare the major source of the Company’s funds for lending and investmentpurposes. Total deposits at September 30, 2006 were $402,465,000, an increaseof $141,287,000, or 54.1%, from total deposits of $261,178,000 at December 31,2005. This increase is primarily due to acquiring FNB.  Time deposits as a percent of total depositsincreased from 33.3% as of December 31, 2005 to 42.3% as of September 302006.  This increase is also primarilydue to acquiring FNB.  Time deposits arethe highest costing deposit.

Short-TermBorrowings

Short term borrowings at September 30, 2006were $14,072,000, compared to $5,516,000 at December 31, 2005, an increase of$8,556,000, or 155.1%.  This increase isprimarily due to acquiring FNB.  Federalfunds purchased, Treasury Tax and Loan demand note, lines of credits with banksand overnight borrowings with the Federal Home Loan Bank of Pittsburgh areconsidered to be short term borrowings. Short term borrowings fluctuate daily to meet the liquidity needs of theCompany.

Long-TermDebt Borrowings

Longterm borrowings at September 30, 2006 were $31,760,000, compared to $30,000,000at December 31, 2005, an increase of $1,760,000, or 5.9%.  This increase is primarily due to acquiringFNB, which as of September 30, 2006 added $6,760,000 of long term borrowingswith the Federal Home Loan Bank of Pittsburgh. The First National Bank of Greencastle reduced by $5,000,000 its longterm debt with the Federal Home Loan Bank of Pittsburgh during the first ninemonths of 2006.    .

Asset/LiabilityManagement

Themanagement of interest rate risk involves measuring and analyzing the maturityand repricing of interest-earning assets and interest bearing liabilities at specificpoints in time. The imbalance between interest-earning assets and interestbearing liabilities is commonly referred to as the interest rate gap. Theinterest rate gap is one measure of the risk inherent in the existing balancesheet as it relates to potential changes in net interest income. Maintaining anappropriate balance between interest-earning assets and interest bearingliabilities is a means of monitoring and possibly avoiding materialfluctuations in the net interest margin during periods of changing interestrates.

TheCompany’s overall sensitivity to interest rate risk is low due to itsnon-complex balance sheet. The Company manages its balance sheet with theintent of stabilizing net interest income and net economic value under a broadrange of interest rate environments. The Company has the ability to effectvarious strategies to manage interest rate risk, which include, but are notlimited to, selling newly originated residential mortgage loans, controllingthe volume mix of fixed/variable rate commercial loans, mortgage loans andsecurities, increasing/ decreasing deposits via interest rate changes,borrowing from the Federal Home Loan Bank of Pittsburgh, and buying/sellingsecurities. Adjustments to the mix of assets and liabilities are madeperiodically in an effort to give the Company dependable and steady growth innet interest income, while at the same time, managing the related risks.

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Liquidity

Liquidityrepresents the Company’s ability to efficiently manage cash flows at reasonablerates to support possible commitments to borrowers or the demands ofdepositors. Liquidity is essential to compensate for fluctuations in thebalance sheet and provide funds for growth and normal operating expenditures.Liquidity needs may be met by converting assets into cash or obtaining sourcesof additional funding.

Liquidity from asset categories is providedthrough cash, amounts due from banks, interest-bearing deposits with banks andfederal funds sold, which were $15,915,000 at September 30, 2006, compared to$24,920,000 at December 31, 2005, a decrease of $9,005,000 or 36.1%.  This decrease is primarily due to mergingFirst National Bank of McConnellsburg with FNB of Greencastle and the nettingeffect of the federal funds sold position at First National Bank of Greencastlecompared to the federal funds purchased position at First National Bank ofMcConnellsburg.   Additional assetliquidity sources include principal and interest payments from securities inthe Company’s investment portfolio and cash flow from its amortizing loanportfolio. Longer-term liquidity needs may be met by selling securitiesavailable for sale, selling loans or raising additional capital. At September30, 2006, there were $73,402,000 in liquid securities as compared to$67,601,000 at December 31, 2005. Liquid securities increased by $5,801,000since year end primarily due to acquiring FNB. Liquid securities held at Tower Bancorp increased $3,412,000 due topurchases and market value fluctuations exceeding sales, calls and maturitiesof investment securities.

Liabilityliquidity sources include attracting deposits at competitive rates. Deposits atSeptember 30, 2006 were $402,465,000, compared to $261,178,000 atDecember 31, 2005. In addition, the Company has borrowing capacity andlines of credit with the Federal Home Loan Bank of Pittsburgh, Atlantic CentralBankers Bank and several local banks.

TheCompany’s financial statements do not reflect various off-balance sheetcommitments that are made in the normal course of business, which may involvesome liquidity risk. Off-balance sheet arrangements are discussed in detailbelow.

Managementis of the opinion that its liquidity position, at September 30, 2006, isadequate to respond to fluctuations “on” and “off” the balance sheet. Inaddition, management knows of no trends, demands, commitments, events oruncertainties that may result in, or that are reasonably likely to result in, theCompany’s inability to meet anticipated or unexpected liquidity needs.

Off-BalanceSheet Arrangements

TheCompany’s financial statements do not reflect various off-balance sheetarrangements that are made in the normal course of business. These commitmentsconsist mainly of loans approved but not yet funded, unused lines of credit andletters of credit made in accordance with the same standards as on-balancesheet instruments. Unused commitments at September 30, 2006 were$93,897,000, which consisted of $91,799,000 in unfunded commitments to existingloans and unfunded new loans and $3,318,000 in letters of credit. Because theseinstruments have fixed maturity dates, and because many of them will expirewithout being drawn upon, they do not generally present a

25

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significantliquidity risk to the Company. Management believes that any amounts actuallydrawn upon can be funded in the normal course of operations. The Company has noinvestment in or financial relationship with any unconsolidated entities thatare reasonably likely to have a material effect on liquidity or theavailability of capital resources.

Capital

Thefollowing Table 3 presents the risk-based and leverage capital amounts andratios at September 30, 2006 for the Company and the Bank.

**Table 3 – Capital Ratios**
| ** **                                      | ** ** | **Actual**                           | ** ** | **Minimum for  Capital Adequacy  Purposes** | ** ** | **To be Well  Capitalized under  Prompt Corrective  Action Provisions** | ** ** |
|-------------------------------------------------|------------|--------------------------------------|------------|-------------------------------------------------------|------------|--------------------------------------------------------------------------------------------------|------------|
| ** **                                      | ** ** | **Amount**                           | ** ** | **Ratio**                                             | ** ** | **Amount**                                                                                       | ** ** | **Ratio** | ** ** | **Amount** | ** ** | **Ratio** | ** ** |
| ** **                                      | ** ** | **(Dollars in Thousands)** | ** ** |
| Total risk based  capital/risk weighted assets: |       |                                 |       |                                                  |       |                                                                                             |       |   |   |   |   |   |   |
| Company                                         |       | $                                    | 61,533     |                                                  | 17.1       | %                                                                                                | >28,784 |   | >8.0% |   | N/A |   | N/A |   |
| Bank                                            |       | 44,969                               |       | 13.0                                                  | %          | >27,602                                                                                       |       | >8.0% |   | >34,502 |   | >10.0% |   |
|                                            |       |                                 |       |                                                  |       |                                                                                             |       |   |   |   |   |   |   |
| Tier 1  capital/risk weighted assets:           |       |                                 |       |                                                  |       |                                                                                             |       |   |   |   |   |   |   |
| Company                                         |       | 51,358                               |       | 14.3                                                  | %          | >14,392                                                                                       |       | >4.0% |   | N/A |   | N/A |   |
| Bank                                            |       | 41,440                               |       | 12.0                                                  | %          | >13,801                                                                                       |       | >4.0% |   | >20,701 |   | >6.0% |   |
|                                            |       |                                 |       |                                                  |       |                                                                                             |       |   |   |   |   |   |   |
| Tier 1  capital/average assets                  |       |                                 |       |                                                  |       |                                                                                             |       |   |   |   |   |   |   |
| Company                                         |       | 51,358                               |       | 9.4                                                   | %          | >21,845                                                                                       |       | >4.0% |   | N/A |   | N/A |   |
| Bank                                            |       | 41,440                               |       | 8.2                                                   | %          | >20,234                                                                                       |       | >4.0% |   | >25,292 |   | >5.0% |   |
|                                            |       |                                 |       |                                                  |       |                                                                                             |       |   |   |   |   |   |   |
|                                                 |            |                                      |            |                                                       |            |                                                                                                  |            |  |  |  |  |  |  |  |

 

Thesecapital ratios continue to remain at levels, which are considered to be “well-capitalized”as defined by regulatory guidelines.

Bankinglaws and regulations limit the amount of cash dividends that may be paidwithout prior approval from the Company’s regulatory agencies. In accordancewith such requirements, on September 13, 2006, the Board of Directorsauthorized and declared a quarterly cash dividend in the amount of $0.26 pershare, payable on October 20, 2006 to all shareholders of record as ofOctober 2, 2006. The payment of this quarterly cash dividend decreasedretained earnings by $616,000.

**RECENT ACCOUNTING PRONOUNCEMENTS**

InSeptember 2006, the Securities and Exchange Commission (SEC) released Staff AccountingBulletin No. 108 (SAB 108). SAB 108 expresses the SEC staff’s views regarding the process ofquantifying financial statement misstatements. These interpretations were issued to address diversity in practice andthe potential under current practice for the build up of improper amounts on thebalance sheet.  SAB 108 expresses the SECstaff’s view that a registrant’s materiality evaluation of an identifiedunadjusted error should quantify the effects of the error on each financialstatement and related financial statement disclosures and that prior yearmisstatements should be considered in quantifying misstatements in current yearfinancial statements.  SAB 108 alsostates that correcting prior year financial statements for immaterial errorswould not require previously filed reports

26

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tobe amended.  Such correction may be madethe next time the registrant files the prior year financial statements.  Registrants electing not to restate priorperiods should reflect the effects of initially applying the guidance in SAB108 in their annual financial statements covering the first fiscal year endingafter November 15,**2006.  The cumulative effect of the initialapplication should be reported in the carrying amounts of assets andliabilities as of the beginning of that fiscal year and the offsettingadjustment should be made to the opening balance of retained earnings for thatyear.  Registrants should disclose thenature and amount of each individual error being corrected in the cumulativeadjustment.  The disclosure should alsoinclude when and how each error arose and the fact that the errors hadpreviously been considered immaterial. The SEC staff encourages early application of the guidance in SAB 108for interim periods of the first fiscal year ending after November 15,2006.

In February 2006, the Financial AccountingStandards Board (FASB) issued Statement of Financial Accounting Standards No.155, “Accounting for Certain Hybrid Financial Instruments — an amendment ofFASB Statements No. 133 and 140” (SFAS 155). SFAS 155 permits fair value measurement of any hybrid financialinstrument that contains an embedded derivative that otherwise would requirebifurcation.  The Statement alsoclarifies which interest-only strips and principal-only strips are not subjectto the requirements of Statement 133.  Itestablishes a requirement to evaluate interests in securitized financial assetsto identify interests that are freestanding derivatives or that are hybridfinancial instruments that contain an embedded derivative requiringbifurcation.  SFAS 155 also clarifiesthat concentrations of credit risk in the form of subordination are notembedded derivatives.  Finally, SFAS 155amends Statement 140 to eliminate the prohibition on a qualifyingspecial-purpose entity from holding a derivative financial instrument thatpertains to a beneficial interest other than another derivative financialinstrument.  SFAS 155 is effective forall financial instruments acquired or issued after the beginning of an entity’sfirst fiscal year that begins after September 15, 2006.  The Company does not expect the implementationof SFAS 155 to have a material impact on its financial statements.

In March 2006, the FASB issued Statement ofFinancial Accounting Standards No. 156, “Accounting for Servicing of FinancialAssets — an amendment of FASB Statement No. 140” (SFAS 156).  SFAS 156 requires an entity to recognize aservicing asset or servicing liability each time it undertakes an obligation toservice a financial asset by entering into certain servicing contracts.  The Statement also requires all separatelyrecognized servicing assets and servicing liabilities to be initially measuredat fair value, if practicable. SFAS 156 permits an entity to choose between theamortization and fair value methods for subsequent measurements.  At initial adoption, the Statement permits aone-time reclassification of available for sale securities to tradingsecurities by entities with recognized servicing rights.  SFAS 156 also requires separate presentationof servicing assets and servicing liabilities subsequently measured at fairvalue in the statement of financial position and additional disclosures for allseparately recognized servicing assets and servicing liabilities.  This Statement is effective as of thebeginning of an entity’s first fiscal year that begins after September 15,**2006.  The Company does not anticipate this newstandard will have a material effect on its financial statements.

27

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InSeptember 2006, the FASB issued Statement of Financial Accounting Standards No.157, **“**Fair****Value Measurements” (SFAS 157). SFAS 157 definesfair value, establishes a framework for measuring fair value in generallyaccepted accounting principles, and expands disclosures about fair valuemeasurements.  SFAS 157 does not require any new fairvalue measurements but may change current practice for some entities.  This Statement is effective for financialstatements issued for fiscal years beginning after November 15, 2007 and interim periods withinthose years.  The Company does not expect the implementation of SFAS 157 to have amaterial impact on its financial statements.

In September 2006, the FASB issued Statement of Financial AccountingStandards No. 158, “Employers’ Accounting for Defined Benefit Pension and OtherPostretirement Plans – an amendment of FASB Statements No. 87, 88, 106, and 132(R)”(SFAS 158).* *SFAS 158requires an employer to recognize the overfunded or underfunded status of adefined benefit postretirement plan as an asset or liability in its statementof financial position and to recognize changes in that funded status in theyear in which the changes occur through comprehensive income.  The funded status of a benefit plan will bemeasured as the difference between plan assets at fair value and the benefitobligation.  For a pension plan, thebenefit obligation is the projected benefit obligation.  For any other postretirement plan, thebenefit obligation is the accumulated postretirement benefit obligation. SFAS158 also requires an employer to measure the funded status of a plan as of thedate of its year-end statement of financial position.  The Statement also requires additionaldisclosure in the notes to financial statements about certain effects on netperiodic benefit cost for the next fiscal year that arise from delayedrecognition of the gains or losses, prior service costs or credits, andtransition asset or obligation.  TheCompany is required to initially recognize the funded status of a definedbenefit postretirement plan and to provide the required disclosures as of theend of the fiscal year ending after December 15, 2006.  The requirement to measure plan assets andbenefit obligations as of the date of the employers’ fiscal year-end statementof financial position is effective for fiscal years ending after December 15,2008.  The Company does not anticipatethis new standard will have a material effect on its financial statements.

InJune 2006, the FASB issued Interpretation No. 4, “*Accountingfor Uncertainty in Income Taxes: An Interpretation of FASB Statement No. 109*”(FIN 48).  FIN 48 clarifies theaccounting for uncertainty in income taxes recognized in an entity’s financialstatements in accordance with SFAS 109. The Interpretation prescribes arecognition threshold and measurement principles for the financial statementrecognition and measurement of tax positions taken or expected to be taken on atax return.  FIN 48 is effective forfiscal years beginning after December 15, 2006. The Company does not anticipate this new standard will have a materialeffect on its financial statements.

**ITEM 3 - QUANTITATIVE ANDQUALITATIVE DISCLOSURES ABOUT MARKET RISK**

There have been no material changes to the quantitative and qualitativedisclosures made in Tower Bancorp’s annual report on Form 10-K for the yearended December 31, 2005.

28

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**ITEM 4 - CONTROLS AND PROCEDURES**

**CONTROLS AND PROCEDURES**

The Corporation’s Chief Executive Officer andChief Financial Officer have evaluated the effectiveness of the Corporation’sdisclosure controls and procedures (as such term is defined in the Rules13a-15(e) under the Securities Exchange Act of 1934, as amended (the “ExchangeAct”))as of September 30, 2006.  Based onsuch evaluation, such officers have concluded that, as of September 30, 2006,the Corporation’s disclosure controls and procedures are effective in alertingthem on a timely basis to material information relating to the Corporation(including its consolidated subsidiary) required to be included in theCorporation’s periodic filings under the Exchange Act.

**CHANGES IN INTERNAL CONTROLS**

There have not been any significant changes inthe Corporation’s internal control over financial reporting or in other factorsthat materially affected or are reasonably likely to materially affect suchcontrol during the third quarter of 2006.

29

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PART II – OTHER INFORMATION

30

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PART II – OTHER INFORMATION

Item 1 –Legal Proceedings

The nature of the Company’s business generatessome litigation involving matters arising in the ordinary course ofbusiness.  However, in the opinion of theCompany, after consulting with legal counsel, no legal proceedings are pendingwhich would have a material effect on the Corporation or subsidiary.  No legal proceedings are pending other thanordinary routine litigation incidental to the business of the Company and theBank.  In addition, to Management’sknowledge, no governmental authorities have initiated or contemplated anymaterial legal actions against the Company or the Bank.

Item 1A– Risk Factors

There have been no material changes to the Company’srisk factors since these factors were previously disclosed in the Company’sAnnual Report on Form 10-K for the period ended December 31, 2005.

Item 2 –Unregistered Sales of Equity Securities and Use of Proceeds

ISSUER PURCHASES OF EQUITY SECURITIES
| **Period**     | ** ** | **(a)  Total Number  of shares  purchased** | ** ** | **(b)  Average price  paid per  share** | ** ** | **(c)  Total number  of shares  purchased as  part of  publicly  announced  plan** | ** ** | **(d)  Maximum  number of shares  that may yet  be purchased  under the  plan** | ** ** |
|----------------|------------|-------------------------------------------------------|------------|---------------------------------------------------|------------|--------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------|------------|
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| January 2006   |       | None                                                  |       | N/A                                               |       | None                                                                                                   |       | 9,585                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| February 2006  |       | 1,500                                                 |       | 45.25                                             |       | 1,500                                                                                                  |       | 8,085                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| March 2006     |       | None                                                  |       | N/A                                               |       | None                                                                                                   |       | 8,085                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| April 2006     |       | None                                                  |       | N/A                                               |       | None                                                                                                   |       | 8,085                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| May 2006       |       | None                                                  |       | N/A                                               |       | None                                                                                                   |       | 8,085                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| June 2006      |       | None                                                  |       | N/A                                               |       | None                                                                                                   |       | 8,085                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| July 2006      |       | None                                                  |       | N/A                                               |       | None                                                                                                   |       | 8,085                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| August 2006    |       | None                                                  |       | N/A                                               |       | None                                                                                                   |       | 8,085                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| September 2006 |       | 4,316                                                 |       | 44.66                                             |       | 4,316                                                                                                  |       | 3,769                                                                                                         |       |
|           |       |                                                  |       |                                              |       |                                                                                                   |       |                                                                                                          |       |
| Total          |       | 5,816                                                 |       | 44.81                                             |       | 5,816                                                                                                  |       | 3,769                                                                                                         |       |

 

Item 3- Defaults Upon Senior Securities

Notapplicable

31

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

None

Item 5 –Other Information

Notapplicable

Item 6 –Index to Exhibits

| Exhibit | ** ** | **Description of Exhibit** |
|---------|------------|----------------------------|
|    |       |                       |   |
| 2.1     |       |                       | Agreement and Plan of Merger, dated as of September  21, 2005, by and between Tower Bancorp, Inc. and FNB Financial Corporation  (incorporated by reference to Annex A to Tower Bancorp, Inc.’s Proxy  Statement/Prospectus to the Registration Statement on Form S-4 (File No.  333-130485 filed on January 25, 2006). |
|    |       |                       |   |
| 3.1     |       |                       | Articles of Incorporation of Tower Bancorp, Inc.  (incorporated by reference to Exhibit 3.1 of Tower Bancorp, Inc.’s Form 10-Q  for the quarter ended September 30, 2005). |
|    |       |                       |   |
| 3.2     |       |                       | Bylaws of Tower Bancorp, Inc. (incorporated by  reference to Exhibit 3.2 of Tower Bancorp, Inc.’s Form 10-Q for the quarter  ended September 30, 2005). |
|    |       |                       |   |
| 10.1    |       |                       | Change of Control Agreement of Jeffrey B. Shank  dated as of September 25, 2002  (incorporated by referenced to Exhibit 99.4 of Tower Bancorp, Inc.’s Form  10-Q for the quarter ended September 30, 2002). |
|    |       |                       |   |
| 10.2    |       |                       | Change of Control Agreement of Franklin T. Klink,  III dated as of November 26, 2001 (incorporated by reference to Exhibit 10.1  of Tower Bancorp, Inc.’s Form 10-K for the year ended December 31, 2001). |
|    |       |                       |   |
| 10.3    |       |                       | Change of Control Agreement of Donald G. Kunkle  dated as of January 4, 2002  (incorporated by reference to Exhibit 10.2 of Tower Bancorp, Inc.’s Form 10-K  for the year ended December 31, 2001). |

 

32

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| Exhibit    | ** ** | **Description of Exhibit** |
|------------|------------|----------------------------|
| ** ** | ** ** | ** **                 |
| 10.4       |       |                       | Change of Control Agreement of John H. McDowell, Sr.  dated as of December 23, 1998 (incorporated by reference to Exhibit 10.2 of  Tower Bancorp, Inc.’s Form 10-K for the year ended December 31, 1998). |
|       |       |                       |   |
| 10.5       |       |                       | Tower Bancorp, Inc.’s 1995 Non-Qualified Stock  Option Plan (incorporated by reference to Exhibit 99.1 to Tower Bancorp,  Inc.’s Registration Statement on Form S-8 (File No. 333-4066 1)). |
|       |       |                       |   |
| 10.6       |       |                       | Tower Bancorp, Inc. Stock Option Plan for Outside  Directors (incorporated by reference to Exhibit 99.2 to Tower Bancorp, Inc.’s  Registration Statement on Form S-8 (File No. 333-40661)). |
|       |       |                       |   |
| 10.7       |       |                       | Supplemental Executive Retirement Agreement of  Jeffrey B. Shank dated as of September 25,  2002 (incorporated by reference to Exhibit 99.3 of Tower Bancorp,  Inc.’s Form 10-Q for the quarter ended September 30, 2002). |
|       |       |                       | * * |
| 10.8       |       |                       | Form of Amendment and Restatement of the First  National Bank of Greencastle Group Term Replacement Plan A (incorporated by  reference to Exhibit 10.8 of Tower Bancorp, Inc.’s Registration Statement on  Form S-4 (File No. 333-130485)). |
|       |       |                       |   |
| 10.9       |       |                       | Form of Amendment and Restatement of the First  National Bank of Greencastle Group Term Replacement Plan B (incorporated by  reference to Exhibit 10.8 of Tower Bancorp, Inc.’s Registration Statement on  Form S-4 (File No. 333-130485)). |

 

33

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| Exhibit    | ** ** | **Description of Exhibit** |
|------------|------------|----------------------------|
| ** ** | ** ** | ** **                 |
| 10.10      |       |                       | Form of Amendment an Restatement of the First  National Bank of Greencastle Executive Bonus Agreement (incorporated by  reference to Exhibit 10.8 of Tower Bancorp, Inc.’s Registration Statement on  Form S-4 (File No. 333-130485)). |
|       |       |                       |   |
| 31.1       |       |                       | Certification of Chief Executive Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002. |
|       |       |                       |   |
| 31.2       |       |                       | Certification of Chief Financial Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002. |
|       |       |                       |   |
| 32.1       |       |                       | Certification of Chief Executive Officer pursuant to  18 U.S.C. Section 1350 |
|       |       |                       |   |
| 32.2       |       |                       | Certification of Chief Financial Officer pursuant to  18 U.S.C. Section 1350 |

 

34

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SIGNATURES

Pursuant to the requirements of the Securities ExchangeAct of 1934, the registrant has duly caused this report to be signed on itsbehalf by the undersigned thereunto duly authorized.
|   | TOWER BANCORP, INC.            |
|--------|--------------------------------|
|   | (REGISTRANT)                   |
|   |                           |
|   |                           |
|   | /s/ Jeff B.  Shank             |   |
|   | Jeff B. Shank,  President, CEO |
|   | (Principal  Executive Officer) |
| Date:  | November 8, 2006               |   |   |
|   |                           |
|   |                           |
|   | /s/Franklin T.  Klink, III     |   |
|   | Franklin T.  Klink, III,       |
|   | Treasurer                      |
|   | (Principal  Financial Officer) |
| Date:  | November 8, 2006               |   |   |

 

35

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