FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Exhibit 13.1



Table of Contents



|                                                                                    |  |      
|----------------------------------------------------------------------------------- |  | -----
|                                                                                    |  | Page 
|Selected Financial Data                                                             |  | 2    
|Managements Discussion and Analysis                                                |  | 3-21 
|Report of Independent Registered Public Accounting Firm                             |  | 22   
|Consolidated Balance Sheets                                                         |  | 23   
|Consolidated Statements of Income                                                   |  | 24   
|Consolidated Statements of Changes in Shareholders Equity and Comprehensive Income |  | 25   
|Consolidated Statements of Cash Flows                                               |  | 26   
|Notes to Consolidated Financial Statements                                          |  | 27-45
|Corporate Data                                                                      |  | 46-48



-2-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Selected Financial Data



The following selected financial data is derived from the consolidated financial statements
and other data of First Reliance Bancshares, Inc. and Subsidiary (the Company.) The selected financial data should be read in conjunction with the consolidated financial statements of the Company, including the accompanying notes,
included elsewhere herein.



|                                                    |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|--------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | ---- |  | - | ------- | - |  | ---- | ------ | - |  | - | ------ | -
|(Dollars in thousands, except per share)            |  | 2004 |         |   | 2003 |   |         | 2002 |  |   | 2001    |   |  | 2000 |       
|                                                    |  |      |         |   |      |   |         |      |  |   |         |   |  |      |       
|Income Statement Data:                              |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Interest income                                     |  | $    | 13,291  |   |      | $ | 8,499   |      |  | $ | 6,932   |   |  | $    | 6,251  |   |  | $ | 4,420  |  
|Interest expense                                    |  |      | 4,061   |   |      |   | 2,460   |      |  |   | 2,337   |   |  |      | 2,886  |   |  |   | 2,055  |  
|                                                    |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Net interest income                                 |  |      | 9,230   |   |      |   | 6,039   |      |  |   | 4,595   |   |  |      | 3,365  |   |  |   | 2,365  |  
|Provision for loan losses                           |  |      | 1,362   |   |      |   | 792     |      |  |   | 349     |   |  |      | 347    |   |  |   | 628    |  
|                                                    |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Net interest income after provision for loan losses |  |      | 7,868   |   |      |   | 5,247   |      |  |   | 4,246   |   |  |      | 3,018  |   |  |   | 1,737  |  
|Noninterest income                                  |  |      | 2,380   |   |      |   | 2,138   |      |  |   | 1,734   |   |  |      | 1,404  |   |  |   | 855    |  
|Noninterest expense                                 |  |      | 8,338   |   |      |   | 5,966   |      |  |   | 4,680   |   |  |      | 3,493  |   |  |   | 2,130  |  
|                                                    |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Income before income taxes                          |  |      | 1,910   |   |      |   | 1,419   |      |  |   | 1,300   |   |  |      | 929    |   |  |   | 462    |  
|Income tax expense                                  |  |      | 571     |   |      |   | 403     |      |  |   | 406     |   |  |      | 312    |   |  |   | 169    |  
|                                                    |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Net income                                          |  | $    | 1,339   |   |      | $ | 1,016   |      |  | $ | 894     |   |  | $    | 617    |   |  | $ | 293    |  
|                                                    |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Balance Sheet Data:                                 |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Assets                                              |  | $    | 284,971 |   |      | $ | 180,364 |      |  | $ | 116,077 |   |  | $    | 86,195 |   |  | $ | 64,366 |  
|Earning assets                                      |  |      | 271,020 |   |      |   | 169,258 |      |  |   | 108,114 |   |  |      | 80,380 |   |  |   | 58,835 |  
|Securities available for sale(1)                    |  |      | 28,568  |   |      |   | 28,689  |      |  |   | 23,449  |   |  |      | 14,306 |   |  |   | 10,194 |  
|Loans(2)                                            |  |      | 239,695 |   |      |   | 140,361 |      |  |   | 81,559  |   |  |      | 64,875 |   |  |   | 46,745 |  
|Allowance for loan losses                           |  |      | 2,758   |   |      |   | 1,752   |      |  |   | 1,137   |   |  |      | 1,045  |   |  |   | 780    |  
|Deposits                                            |  |      | 225,494 |   |      |   | 139,415 |      |  |   | 100,323 |   |  |      | 75,687 |   |  |   | 54,643 |  
|Shareholders equity                                |  |      | 27,359  |   |      |   | 17,703  |      |  |   | 8,644   |   |  |      | 7,658  |   |  |   | 7,047  |  
|                                                    |  |      |         |   |     
|Per-Share Data: (5)                                 |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Basic earnings                                      |  | $    | 0.52    |   |      | $ | 0.48    |      |  | $ | 0.62    |   |  | $    | 0.43   |   |  | $ | 0.20   |  
|Diluted earnings                                    |  |      | 0.48    |   |      |   | 0.46    |      |  |   | 0.59    |   |  |      | 0.42   |   |  |   | 0.20   |  
|Book value (period end)                             |  |      | 8.54    |   |      |   | 7.18    |      |  |   | 5.97    |   |  |      | 5.29   |   |  |   | 4.87   |  
|                                                    |  |      |         |   |     
|Performance Ratios:                                 |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Return on average assets                            |  |      | 0.59    | % |      |   | 0.70    | %    |  |   | 0.86    | % |  |      | 0.79   | % |  |   | 0.56   | %
|Return on average equity                            |  |      | 7.04    |   |      |   | 7.07    |      |  |   | 10.87   |   |  |      | 8.29   |   |  |   | 4.28   |  
|Net interest margin(3)                              |  |      | 4.34    |   |      |   | 4.44    |      |  |   | 4.77    |   |  |      | 4.71   |   |  |   | 4.84   |  
|Efficiency(4)                                       |  |      | 71.39   |   |      |   | 72.99   |      |  |   | 74.89   |   |  |      | 73.36  |   |  |   | 66.13  |  
|                                                    |  |      |         |   |     
|Capital and Liquidity Ratios:                       |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Average equity to average assets                    |  |      | 8.43    |   |      |   | 9.93    |      |  |   | 7.92    |   |  |      | 9.58   |   |  |   | 12.98  |  
|Leverage (4.00% required minimum)                   |  |      | 10.11   |   |      |   | 10.30   |      |  |   | 7.48    |   |  |      | 8.96   |   |  |   | 11.03  |  
|Risk-based capital                                  |  |      |         |   |      |   |         |      |  |   |         |   |  |      |        |   |  |   |        |  
|Tier 1                                              |  |      | 11.36   |   |      |   | 12.60   |      |  |   | 10.21   |   |  |      | 11.07  |   |  |   | 17.97  |  
|Total                                               |  |      | 12.52   |   |      |   | 13.85   |      |  |   | 11.46   |   |  |      | 12.32  |   |  |   | 19.22  |  
|Average loans to average deposits                   |  |      | 101.16  |   |      |   | 94.43   |      |  |   | 82.51   |   |  |      | 82.39  |   |  |   | 85.93  |  

---

|(1) | Securities available-for-sale are stated at fair value.
|--- | -------------------------------------------------------

|(2) | Loans are stated at gross amounts before allowance for loan losses and include loans held for sale.
|--- | ---------------------------------------------------------------------------------------------------

|(3) | Net interest income divided by average earning assets.
|--- | ------------------------------------------------------

|(4) | Noninterest expense divided by the sum of net interest income and noninterest income, excluding gains and losses on sales of assets.
|--- | ------------------------------------------------------------------------------------------------------------------------------------

|(5) | Amounts have been restated for two for one stock split declared in 2002.
|--- | ------------------------------------------------------------------------



-3-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Basis of Presentation



The following discussion should be read in conjunction with the preceding Selected Financial Data and the Companys Consolidated Financial Statements and
the Notes thereto and the other financial data included elsewhere herein. The financial information provided below has been rounded in order to simplify its presentation. However, the ratios and percentages provided below are calculated using the
detailed financial information contained in the Consolidated Financial Statements, the Notes thereto and the other financial data included elsewhere herein.



General



First Reliance Bank (the Bank) is a state-chartered bank headquartered in Florence, South Carolina. The Bank opened for business on August 16, 1999. The principal business activity of the Bank is to
provide banking services to domestic markets, principally in Florence County, and Lexington County, South Carolina. The deposits of the Bank are insured by the Federal Deposit Insurance Corporation.



On June 7, 2001, the shareholders of the Bank approved a plan of corporate reorganization
(the Reorganization) under which the Bank would become a wholly owned subsidiary of First Reliance Bancshares, Inc. and Subsidiary (the Company), a South Carolina corporation. The Reorganization was accomplished through a
statutory share exchange between the Bank and the Company, whereby each outstanding share of common stock of the Bank was exchanged for one share of common stock of the Company. The Reorganization was completed on April 1, 2002, and the Bank became
a wholly-owned subsidiary of First Reliance Bancshares, Inc. and Subsidiary



Organizing activities for the Bank began on November 23, 1998. Upon the completion of the application process with the South Carolina State Board of Financial Institutions for a state charter and with the Federal Deposit Insurance
Corporation for deposit insurance, the Bank issued 723,518 shares of common stock at a price of $10.00 per share, resulting in capital totaling $7,173,293, net of selling expenses of $61,887.



The Bank began operations on August 16, 1999 at its temporary facility on West Palmetto
Street in Florence, South Carolina. In June of 2000, the Bank moved into its headquarters at 2170 West Palmetto Street in Florence, South Carolina. The Bank also opened a banking office on second Loop Road in Florence, South Carolina in April of
2001. On May 15, 2002, the Bank purchased an additional facility located at 2145 Fernleaf Drive in Florence, South Carolina. The Fernleaf Drive site contains approximately 0.5 acres of land and includes a 7,500 square feet building. The facility
serves as additional space for operational activities of the Bank, including data processing and auditing. No customer services are being conducted in this facility.



On November 12, 2002, the Company commenced a stock offering whereby a minimum of 125,000 shares and a maximum of 1,250,000 shares of common
stock were offered to fund continued expansion through First Reliance Bank. The offering price was $8.00 per share. This was a best efforts offering and was conducted without an underwriter. The Company had sold 1,007,430 shares resulting in
additional capital of $8,059,439 net of selling expenses of $162,965, at the close of the offering in May 2003. Also 10,400 stock options were exercised in 2003 for a total amount of $52,000.



During the second quarter of 2004, the Bank opened a branch in Lexington, South Carolina.
During the fourth quarter of 2004, the Bank announced it plans to open its fourth branch, to be located in Charleston, South Carolina, in the first quarter of 2005, and a fifth branch, to be located in Mount Pleasant, South Carolina, during the
second quarter of 2005.



In July 2004, the Company commenced a private stock
offering in Lexington South Carolina, whereby a minimum of 300,000 shares and a maximum of 700,000 shares of common stock were offered to fund continued expansion through First Reliance Bank. The offering price was $11.50 per share. This was a best
efforts offering and was conducted without an underwriter. The Company had sold 700,000 shares resulting in additional capital of $8,050,000 as of December 31, 2004.





-4-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



General- continued



Like most financial institutions, our profitability depends largely upon net interest income, which is the difference between the interest received on earning assets,
such as loans and investment securities, and the interest paid on interest-bearing liabilities, principally deposits and borrowings. Our results of operations are also affected by our provision for loan losses; non-interest expenses, such as
salaries, employee benefits, and occupancy expenses; and non-interest income, such as mortgage loan fees and service charges on deposit accounts.



Economic conditions, competition and federal monetary and fiscal policies also affect financial institutions. For example, 2003 was characterized by steady low interest
rates intended to stabilize the economy and stimulate industrial economic growth. Lending activities are also influenced by regional and local economic factors, such as housing supply and demand, competition among lenders, customer preferences and
levels of personal income and savings in our primary market area.



Our balanced
growth continued during 2004, with increases in assets, deposits, shareholders equity, earnings per share and returns on average assets and equity. The following chart shows our growth in these areas from December 31, 2003 to December 31,
2004:



|                                                |  |              |       |                            |   |       |  |      
|----------------------------------------------- |  | ------------ | ----- | -------------------------- | - | ----- |  | -----
|                                                |  | December 31, |       | Percent Increase(Decrease)
|(Dollars in millions, except per share amounts) |  | 2004         |       | 2003                       |  
|Total assets                                    |  | $            | 285.0 |                            | $ | 180.4 |  | 57.98
|Loans                                           |  |              | 238.4 |                            |   | 139.4 |  | 71.02
|Investment securities                           |  |              | 30.3  |                            |   | 28.7  |  | 5.57 
|Deposits                                        |  |              | 225.5 |                            |   | 139.4 |  | 61.76
|Shareholders equity                            |  |              | 27.4  |                            |   | 17.7  |  | 54.80



A significant portion of our growth in
2004 was due to the completion of a private stock offering which resulted in the issuance of 700,000 shares of our common stock and provided additional capital of $8,050,000 before offering costs of $75,960. The additional capital increased our
legal lending limit, thereby allowing us to extend larger loans to our customers. However, the issuance of additional shares resulted in a decrease in our return on average equity in 2004 from 2003. Our loan portfolio increased $99 million from
December 31, 2003 to December 31, 2004. Our deposit base also increased in 2004 by $86.1 million from $139.4 million in 2003.



The significant increase in average earning assets had a positive impact on our results of operations for 2004. Average earning assets increased from $136.0 million in
2003 to $212.5 million in 2004. However, return on average assets decreased from 2004 to 2003 due to the effect of compressed interest margins on net income. Our increased volume in deposits also increased our fees from service charges and deposit
accounts by approximately $275,094 from 2003 to 2004. Gains on sales of mortgage loans were also an important source of noninterest income in 2004.



Results of Operations



Year ended December 31, 2004, compared with year ended December 31, 2003



Net interest income increased $3,190,085, or 52.82%, to $9,229,413 in 2004 from $6,039,328 in 2003. The increase in net interest income was
due primarily to an increase in average earning assets. Average earning assets increased $76,496,568 or 56.26%, mainly due to continued growth in the loan portfolio. The primary components of interest income were interest on loans, including fees,
of $12,094,388, and interest on taxable investment securities of $723,439.



The
Companys net interest spread and net interest margin were 4.02% and 4.34%, respectively, in 2004, compared to 4.04% and 4.44%, respectively, in 2003. The decrease in net interest spread was primarily the result of an increase in average rates
on paying liabilities which outpaced the increase in average rates on earning assets. Yields on loans, our largest category of earnings assets, declined in 2004. Overall yields on earning assets increased from 6.25% in 2003 to 6.26% in 2004. Yields
on interest-bearing liabilities increased from 2.21% in 2003 to 2.24% in 2004.



-5-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Results of Operations - continued



The provision for loan losses was $1,361,762 in 2004 compared to $791,650 in 2003. The allowance for loan losses was 1.16% of total loans at December 31, 2004 as compared
to 1.26% of total loans at December 31, 2003. The Company continues to maintain the allowance for loan losses at a level management believes to be sufficient to cover known and inherent losses in the loan portfolio.



Noninterest income increased $241,290, or 11.28%, to $2,379,523 in 2004 from $2,138,233 in
2003. The increase is primarily attributable to increased service charges on deposit accounts and other charges. Service charges on deposit accounts increased $275,094, or 28.76% from 2003, to $1,231,759 for the year ended December 31, 2004. The
increase in service charges on deposit accounts was attributable to an overall increase in the number of deposit accounts and change in the service charge structure in 2004. Securities and Insurance brokerage income increased $102,444, or 351.05%
from 2003, to $131,626 for the year ended December 31, 2004. The increase is primarily attributable to a successful marketing campaign. Other noninterest income also increased $169,786, or 161.96% from 2003.



Noninterest expense increased $2,371,419, or 39.75%, to $8,337,942 in 2004 from $5,966,528 in
2003. Noninterest expenses increased in all categories as a result of our continued growth. The increase is primarily attributable to increased salaries and benefits and other operating expenses. Salaries and employee benefits increased $1,529,181,
or 45.72%, to $4,874,035 in 2004 from $3,344,854 in 2003. This increase is attributable to normal pay increases, and continued growth in the company. A large portion of the increase in salaries was due to the addition of new staff to facilitate the
new branch locations and growth of the Bank. Other operating expenses increased $396,121 from 2003 to $2,422,035 for the year ended December 31, 2004. This increase was due to the expected increases in overhead caused by the growth of the Company.
The Companys efficiency ratio was 71.39% in 2004, compared to 72.99% in 2003.



The net income was $1,338,699 in 2004, compared to $1,015,799 in 2003. The increase in net income reflects the Companys continued growth, as average-earning assets increased from $135,960,497 for the year ended December 31, 2003 to
$212,457,065 for the year ended December 31, 2004. Return on average assets during 2004 was 0.59%, compared to 0.70% during 2003, and return on average equity was 7.04% during 2004, compared to 7.07% during 2003. These decreases came primarily as a
result of additions of capital from the Companys private stock offering during 2004.



Net Interest Income



General. The largest component of the Companys net income is its net interest income, which is the difference between the income earned on assets and interest paid on deposits and on borrowings used to support
such assets. Net interest income is determined by the yields earned on the Companys interest-earning assets and the rates paid on its interest-bearing liabilities, the relative amounts of interest-earning assets and interest-bearing
liabilities, and the degree of mismatch and the maturity and repricing characteristics of its interest-earning assets and interest-bearing liabilities. Total interest earning assets yield less total interest bearing liabilities rate represents the
Companys net interest rate spread.



Average Balances, Income
and Expenses, and Rates. The following table sets forth, for the years indicated, certain information related to the Companys average balance sheet and its average yields on assets and average costs of liabilities. Such yields
are derived by dividing income or expense by the average balance of the corresponding assets or liabilities. Average balances have been derived from the daily balances throughout the periods indicated.



-6-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Net Interest Income - continued



Average Balances, Income and Expenses, and Rates



|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|------------------------------------------ |  | -------------- | ------- | - | -------------- | - | ---------- | ---- | ---- | -------------- |  | - | -------------- | - | ---------- | - | ----- | -------------- | ---- | - | -------------- | - | ---------- | - |  | - | ----- |  | ---- | -
|Year ended December 31,                    |  | 2004           |         |   | 2003           |   |            | 2002 |     
|(Dollars in thousands)                     |  | AverageBalance |         |   | Income/Expense |   | Yield/Rate |      |      | AverageBalance |  |   | Income/Expense |   | Yield/Rate |   |       | AverageBalance |      |   | Income/Expense |   | Yield/Rate |  
|Assets:                                    |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Earning Assets:                            |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Loans(1)(2)                                |  | $              | 182,996 |   |                | $ | 12,094     |      | 6.61 | %              |  | $ | 110,051        |   |            | $ | 7,504 |                | 6.82 | % |                | $ | 73,777     |   |  | $ | 5,940 |  | 8.05 | %
|Securities, taxable(2)                     |  |                | 17,266  |   |                |   | 723        |      | 4.19 |                |  |   | 15,288         |   |            |   | 604   |                | 3.95 |   |                |   | 12,519     |   |  |   | 663   |  | 5.30 |  
|Securities, tax exempt(2)                  |  |                | 9,958   |   |                |   | 415        |      | 4.17 |                |  |   | 8,619          |   |            |   | 357   |                | 4.14 |   |                |   | 5,193      |   |  |   | 233   |  | 4.49 |  
|Federal funds sold and other               |  |                | 1,119   |   |                |   | 23         |      | 2.06 |                |  |   | 1,469          |   |            |   | 18    |                | 1.23 |   |                |   | 4,630      |   |  |   | 85    |  | 1.83 |  
|Nonmarketable equity securities            |  |                | 1,118   |   |                |   | 35         |      | 3.13 |                |  |   | 533            |   |            |   | 16    |                | 3.00 |   |                |   | 215        |   |  |   | 11    |  | 5.12 |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Total earning assets                       |  |                | 212,457 |   |                |   | 13,290     |      | 6.26 |                |  |   | 135,960        |   |            |   | 8,499 |                | 6.25 |   |                |   | 96,334     |   |  |   | 6,932 |  | 7.20 |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Cash and due from banks                    |  |                | 3,439   |   |                |   |            |      |      |                |  |   | 2,988          |   |            |   |       |                |      |   |                |   | 3,394      |   |  |   |       |  |      |  
|Premises and equipment                     |  |                | 5,862   |   |                |   |            |      |      |                |  |   | 5,381          |   |            |   |       |                |      |   |                |   | 3,860      |   |  |   |       |  |      |  
|Other assets                               |  |                | 5,799   |   |                |   |            |      |      |                |  |   | 1,837          |   |            |   |       |                |      |   |                |   | 1,350      |   |  |   |       |  |      |  
|Allowance for loan losses                  |  |                | (2,110  | ) |                |   |            |      |      |                |  |   | (1,350         | ) |            |   |       |                |      |   |                |   | (1,113     | ) |  |   |       |  |      |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Total assets                               |  | $              | 225,447 |   |                |   |            |      |      |                |  | $ | 144,816        |   |            |   |       |                |      |   |                | $ | 103,825    |   |  |   |       |  |      |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Liabilities:                               |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Interest-bearing liabilities:              |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Interest-bearing transaction accounts      |  |                | 15,985  |   |                |   | 135        |      | 0.84 | %              |  | $ | 17,720         |   |            | $ | 203   |                | 1.15 | % |                | $ | 14,659     |   |  |   | 260   |  | 1.77 | %
|Savings deposits                           |  |                | 29,544  |   |                |   | 489        |      | 1.66 |                |  |   | 15,994         |   |            |   | 196   |                | 1.23 |   |                |   | 13,795     |   |  |   | 236   |  | 1.71 |  
|Time deposits                              |  |                | 110,894 |   |                |   | 2,874      |      | 2.59 |                |  |   | 64,926         |   |            |   | 1,799 |                | 2.77 |   |                |   | 47,328     |   |  |   | 1,714 |  | 3.62 |  
|Other borrowings                           |  |                | 24,506  |   |                |   | 563        |      | 2.30 |                |  |   | 12,780         |   |            |   | 262   |                | 2.05 |   |                |   | 5,400      |   |  |   | 126   |  | 2.33 |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Total interest-bearing liabilities         |  |                | 180,929 |   |                |   | 4,061      |      | 2.24 |                |  |   | 111,420        |   |            |   | 2,460 |                | 2.21 |   |                |   | 81,182     |   |  |   | 2,336 |  | 2.88 |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Demand deposits                            |  |                | 24,474  |   |                |   |            |      |      |                |  |   | 17,903         |   |            |   |       |                |      |   |                |   | 13,637     |   |  |   |       |  |      |  
|Accrued interest and other liabilities     |  |                | 1,036   |   |                |   |            |      |      |                |  |   | 1,119          |   |            |   |       |                |      |   |                |   | 785        |   |  |   |       |  |      |  
|Shareholders equity                       |  |                | 19,008  |   |                |   |            |      |      |                |  |   | 14,374         |   |            |   |       |                |      |   |                |   | 8,221      |   |  |   |       |  |      |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Total liabilities and shareholders equity |  | $              | 225,447 |   |                |   |            |      |      |                |  | $ | 144,816        |   |            |   |       |                |      |   |                | $ | 103,825    |   |  |   |       |  |      |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Net interest spread                        |  |                |         |   |                |   |            |      | 4.02 | %              |  |   |                |   |            |   |       |                | 4.04 | % |                |   |            |   |  |   |       |  | 4.32 | %
|Net interest income                        |  |                |         |   |                | $ | 9,229      |      |      |                |  |   |                |   |            | $ | 6,039 |                |      |   |                |   |            |   |  | $ | 4,596 |  |      |  
|                                           |  |                |         |   |                |   |            |      |      |                |  |   |                |   |            |   |       |                |      |   |                |   |            |   |  |   |       |  |      |  
|Net interest margin                        |  |                |         |   |                |   |            |      | 4.34 | %              |  |   |                |   |            |   |       |                | 4.44 | % |                |   |            |   |  |   |       |  | 4.77 | %

---

|(1) | Nonaccrual loans are included in the balances. The effect of these loans is not significant to the computations. All loans and deposits are domestic.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Tax exempt income is based on actual amounts and is not on a tax equivalent basis. A tax equivalent adjustment to net interest income of $215, $184 and $121 in 2004, 2003 and 2002,
respectively, would adjust the yield for assets earning tax exempt income to a comparable yield on a taxable basis. (This results in an estimated 1%, 2% and 1% in 2004, 2003 and 2002, respectively, overall increase in the tax rate).
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



-7-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Rate/Volume Analysis



Analysis of Changes in Net Interest Income. Net interest income can also be analyzed in terms of the impact of changing rates and changing volume.
The following table describes the extent to which changes in interest rates and changes in the volume of earning assets and interest-bearing liabilities have affected the Banks interest income and interest expense during the periods indicated.
Information on changes in each category attributable to (i) changes due to volume (change in volume multiplied by prior period rate), (ii) changes due to rates (changes in rates multiplied by prior period volume) and (iii) changes in rate/volume
(change in rate multiplied by the change in volume) is provided in the table below. Changes to both rate and volume (in iii above) which cannot be segregated have been allocated proportionately.



|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|------------------------------- |  | --------------------------------------------------- | ----- | - | ---- | - | ------ | ----- |  | - | ----- | -
|                                |  | 2004 Compared to 2003 Due to increase (decrease) in |      
|(Dollars in thousands)          |  | Volume                                              |       |   | Rate |   |        | Total | 
|Interest income:                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Loans                           |  | $                                                   | 4,828 |   |      | $ | (238   | )     |  | $ | 4,590 |  
|Securities, taxable             |  |                                                     | 81    |   |      |   | 38     |       |  |   | 119   |  
|Securities, tax exempt          |  |                                                     | 55    |   |      |   | 3      |       |  |   | 58    |  
|Federal funds sold and other    |  |                                                     | (5    | ) |      |   | 10     |       |  |   | 5     |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Nonmarketable equity securities |  |                                                     | 18    |   |      |   | 1      |       |  |   | 19    |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Total interest income           |  |                                                     | 4,977 |   |      |   | (186   | )     |  |   | 4,791 |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Interest expense:               |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Interest-bearing deposits       |  |                                                     | (18   | ) |      |   | (50    | )     |  |   | (68   | )
|Savings deposits                |  |                                                     | 207   |   |      |   | 86     |       |  |   | 293   |  
|Time deposits                   |  |                                                     | 1,199 |   |      |   | (124   | )     |  |   | 1,075 |  
|Other borrowings                |  |                                                     | 266   |   |      |   | 35     |       |  |   | 301   |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Total interest expense          |  |                                                     | 1,654 |   |      |   | (53    | )     |  |   | 1,601 |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Net interest income             |  | $                                                   | 3,323 |   |      | $ | (133   | )     |  | $ | 3,190 |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|                                | 
|                                |  | 2003 Compared to 2002 Due to increase (decrease) in |      
|(Dollars in thousands)          |  | Volume                                              |       |   | Rate |   |        | Total | 
|Interest income:                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Loans                           |  | $                                                   | 2,577 |   |      | $ | (1,013 | )     |  | $ | 1,564 |  
|Securities, taxable             |  |                                                     | 130   |   |      |   | (189   | )     |  |   | (59   | )
|Securities, tax exempt          |  |                                                     | 143   |   |      |   | (19    | )     |  |   | 124   |  
|Federal funds sold and other    |  |                                                     | (45   | ) |      |   | (22    | )     |  |   | (67   | )
|Nonmarketable equity securities |  |                                                     | 11    |   |      |   | (6     | )     |  |   | 5     |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Total interest income           |  |                                                     | 2,816 |   |      |   | (1,249 | )     |  |   | 1,567 |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Interest expense:               |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Interest-bearing deposits       |  |                                                     | 47    |   |      |   | (104   | )     |  |   | (57   | )
|Savings deposits                |  |                                                     | 34    |   |      |   | (74    | )     |  |   | (40   | )
|Time deposits                   |  |                                                     | 545   |   |      |   | (460   | )     |  |   | 85    |  
|Other borrowings                |  |                                                     | 153   |   |      |   | (17    | )     |  |   | 136   |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Total interest expense          |  |                                                     | 779   |   |      |   | (655   | )     |  |   | 124   |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  
|Net interest income             |  | $                                                   | 2,037 |   |      | $ | (594   | )     |  | $ | 1,443 |  
|                                |  |                                                     |       |   |      |   |        |       |  |   |       |  



-8-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Net Interest Income



Interest Sensitivity. The Company monitors and manages the pricing and maturity of its assets and liabilities in order to diminish the potential
adverse impact that changes in interest rates could have on its net interest income. The principal monitoring technique employed by the Company is the measurement of the Companys interest sensitivity gap, which is the positive or
negative dollar difference between assets and liabilities that are subject to interest rate repricing within a given period of time. Interest rate sensitivity can be managed by repricing assets or liabilities, selling securities available-for-sale,
replacing an asset or liability at maturity, or adjusting the interest rate during the life of an asset or liability. Managing the amount of assets and liabilities repricing in this same time interval helps to hedge the risk and minimize the impact
on net interest income of rising or falling interest rates.



The following
table sets forth the Companys interest rate sensitivity at December 31, 2004.



Interest Sensitivity Analysis



|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|----------------------------------------------- |  | --------------- | ------- | - | --------------------------- | - | ------- | ------------------------------ |  | - | -------------- | - |  | ----------------------------------- | ------- | - | ----- | - | ------- | - |  | - | -------
|December 31, 2004(Dollars in thousands)         |  | Within OneMonth |         |   | After OneThroughThreeMonths |   |         | After ThreeThroughTwelveMonths |  |   | WithinOne Year |   |  | GreaterThan OneYear orNon-Sensitive |         |   | Total
|Assets                                          |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Interest-earning assets                         |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Loans, including held for sale                  |  | $               | 144,941 |   |                             | $ | 4,632   |                                |  | $ | 15,980         |   |  | $                                   | 165,553 |   |       | $ | 74,142  |   |  | $ | 239,695
|Securities, taxable                             |  |                 |        |   |                             |   |        |                                |  |   | 503            |   |  |                                     | 503     |   |       |   | 16,754  |   |  |   | 17,257 
|Securities, nontaxable                          |  |                 |        |   |                             |   | 111     |                                |  |   |               |   |  |                                     | 111     |   |       |   | 11,200  |   |  |   | 11,311 
|Nonmarketable securities                        |  |                 | 1,715   |   |                             |   |        |                                |  |   |               |   |  |                                     | 1,715   |   |       |   |        |   |  |   | 1,715  
|Federal funds sold                              |  |                 | 1,042   |   |                             |   |        |                                |  |   |               |   |  |                                     | 1,042   |   |       |   |        |   |  |   | 1,042  
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Total earning assets                            |  |                 | 147,698 |   |                             |   | 4,743   |                                |  |   | 16,483         |   |  |                                     | 168,924 |   |       |   | 102,096 |   |  |   | 271,020
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Liabilities                                     |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Interest-bearing liabilities:                   |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Interest-bearing deposits:                      |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Demand deposits                                 |  |                 | 15,526  |   |                             |   |        |                                |  |   |               |   |  |                                     | 15,526  |   |       |   |        |   |  |   | 15,526 
|Savings deposits                                |  |                 | 46,299  |   |                             |   |        |                                |  |   |               |   |  |                                     | 46,299  |   |       |   |        |   |  |   | 46,299 
|Time deposits                                   |  |                 | 7,625   |   |                             |   | 19,086  |                                |  |   | 51,342         |   |  |                                     | 78,053  |   |       |   | 58,056  |   |  |   | 136,109
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Total interest-bearing deposits                 |  |                 | 69,450  |   |                             |   | 19,086  |                                |  |   | 51,342         |   |  |                                     | 139,878 |   |       |   | 58,056  |   |  |   | 197,934
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Advances from Federal                           |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Home Loan Bank                                  |  |                 | 3,500   |   |                             |   |        |                                |  |   | 5,400          |   |  |                                     | 8,900   |   |       |   | 19,000  |   |  |   | 27,900 
|Repurchase agreements                           |  |                 | 3,062   |   |                             |   |        |                                |  |   |               |   |  |                                     | 3,062   |   |       |   |        |   |  |   | 3,062  
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Total interest-bearing liabilities              |  |                 | 76,012  |   |                             |   | 19,086  |                                |  |   | 56,742         |   |  |                                     | 151,840 |   |       |   | 77,056  |   |  |   | 228,896
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Period gap                                      |  | $               | 71,686  |   |                             | $ | (14,343 | )                              |  | $ | (40,259        | ) |  | $                                   | 17,084  |   |       | $ | 25,040  |   |  |   |        
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Cumulative gap                                  |  | $               | 71,686  |   |                             | $ | 57,343  |                                |  | $ | 17,084         |   |  | $                                   | 17,084  |   |       | $ | 42,124  |   |  |   |        
|                                                |  |                 |         |   |                             |   |         |                                |  |   |                |   |  |                                     |         |   |       |   |         |   |  |   |        
|Ratio of cumulative gap to total earning assets |  |                 | 26.45   | % |                             |   | 21.16   | %                              |  |   | 6.30           | % |  |                                     | 6.30    | % |       |   | 15.54   | % |  |   |        



-9-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Net Interest Income - continued



The above table reflects the balances of interest-earning assets and interest-bearing liabilities at the earlier of their repricing or maturity dates. Overnight federal
funds are reflected at the earliest pricing interval due to the immediately available nature of the instruments. Debt securities are reflected at each instruments ultimate maturity date. Scheduled payment amounts of fixed rate amortizing loans
are reflected at each scheduled payment date. Scheduled payment amounts of variable rate amortizing loans are reflected at each scheduled payment date until the loan may be repriced contractually; the unamortized balance is reflected at that point.
Interest-bearing liabilities with no contractual maturity, such as savings deposits and interest-bearing transaction accounts, are reflected in the earliest repricing period due to contractual arrangements which give the Company the opportunity to
vary the rates paid on those deposits within a thirty-day or shorter period. However, the Company is not obligated to vary the rates paid on these deposits within any given period. Fixed rate time deposits, principally certificates of deposit, are
reflected at their contractual maturity dates. Securities sold under agreements to repurchase mature on a daily basis and are reflected in the earliest pricing period. Advances from the Federal Home Loan Bank are reflected at their contractual
maturity date.



The Company is in an asset sensitive position (or a positive
gap) of $16.2 million over the 12 month timeframe. The gap is positive when interest sensitive assets exceed interest sensitive liabilities, as was the case at the end of 2004 with respect to the one-year time horizon. When interest sensitive
liabilities exceed interest sensitive assets for a specific repricing horizon, a negative interest sensitivity gap results.



A positive gap generally has a favorable effect on net interest income during periods of rising rates. A positive one year gap position occurs when the dollar amount of
rate sensitive assets maturing or repricing within one year exceeds the dollar amount of rate sensitive liabilities maturing or repricing during that same period. As a result, during periods of rising interest rates, the interest received on earning
assets will increase faster than interest paid on interest-bearing liabilities, thus increasing interest income. The reverse is true in periods of declining interest rates resulting generally in a decrease in net interest income.



The Companys Board of Directors and management review the Asset Liability Management
with information obtained from our system which measure the interest rate sensitivity. The Companys asset and liability policies are to focus on maximizing long term profitability while managing acceptable interest rate risk.



However, the Companys gap analysis is not a precise indicator of its interest
sensitivity position. The analysis presents only a static view of the timing of maturities and repricing opportunities, without taking into consideration that changes in interest rates do not affect all assets and liabilities equally. For example,
rates paid on a substantial portion of core deposits may change contractually within a relatively short time frame, but those rates are viewed by management as significantly less interest-sensitive than market-based rates such as those paid on
non-core deposits. Net interest income may be impacted by other significant factors in a given interest rate environment, including changes in the volume and mix of earning assets and interest-bearing liabilities. The Company cannot predict if
interest rates will rise or fall in 2004, but has positioned its interest sensitivity to be prepared for rising rates.



Provision and Allowance for Loan Losses



General. The Company has developed policies and procedures for evaluating the overall quality of its credit portfolio and the timely identification
of potential problem credits. On a quarterly basis, the Companys Board of Directors reviews and approves the appropriate level for the Companys allowance for loan losses based upon managements recommendations, the results of the
internal monitoring and reporting system, and an analysis of economic conditions in its market. The objective of management has been to fund the allowance for loan losses at a level greater than the Companys internal risk measurement system
for loan risk until a history is established. The Board maintained an allowance for loan losses level of 1.16% of total loans at December 31, 2004. This level of allowance still exceeds the loan risk measurement system the Company is currently using
and management believes the allowance is adequate to meet any loan losses the Company may experience.



-10-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Provision and Allowance for Loan Losses - continued



Additions to the allowance for loan losses, which are expensed as the provision for loan losses on the Companys income statement, are made periodically to
maintain the allowance at an appropriate level based on managements analysis of the potential risk in the loan portfolio. Loan losses and recoveries are charged or credited directly to the allowance. The amount of the provision is a function
of the level of loans outstanding, the level of nonperforming loans, historical loan loss experience, the amount of loan losses actually charged against the reserve during a given period, and current and anticipated economic conditions.



The allowance represents an amount which we believe will be adequate to absorb inherent
losses on existing loans that may become uncollectible. Our judgment in determining the adequacy of the allowance is based on evaluations of the collectibility of loans, including consideration of factors such as the balance of impaired loans; the
quality, mix and size of our overall loan portfolio; economic conditions that may affect the borrowers ability to repay the amount and quality of collateral securing the loans; our historical loan loss experience and a review of specific
problem loans.



The Company adjusts the amount of the allowance periodically
based on changing circumstances as a component of the provision for loan losses. We charge recognized losses against the allowance and add subsequent recoveries back to the allowance. We do not allocate the allowance for loan losses to specific
categories of loans but evaluate the adequacy on an overall portfolio basis utilizing our credit grading system which we apply to each loan. We combine our estimates of the reserves needed for each component of the portfolio, including loans
analyzed on a pool basis and loans analyzed individually. The allowance is divided into two portions: (1) an amount for specific allocations on significant individual credits and (2) a general reserve amount. We analyze individual loans within the
portfolio and make allocations to the allowance based on each individual loans specific factors and other circumstances that affect the collectibility of the credit. Significant, individual credits classified as doubtful or substandard/special
mention within our credit grading system require both individual analysis and specific allocation. Loans in the substandard category are characterized by deterioration in quality exhibited by any number of well-defined weaknesses requiring
corrective action such as declining or negative earnings trends and declining or inadequate liquidity. Loans in the doubtful category exhibit the same weaknesses found in the substandard loan; however, the weaknesses are more pronounced. However,
these loans are not yet rated as loss because certain events may occur which could salvage the debt such as injection of capital, alternative financing or liquidation of assets. As of December 31, 2004 and 2003, the Company had no specific
allocations on its significant credits in its calculation of the allowance for loan losses.



The Company calculates its general reserve based on a percentage allocation for each of the categories of the following unclassified loan types: real estate, commercial, consumer and mortgage. The Company applies
general loss factors to each category and may adjust these percentages as appropriate given consideration of local economic conditions, exposure concentration that may exist in the portfolio, changes in trends of past due loans, problem loans and
charge-offs and anticipated loan growth. The general estimate is then added to the specific allocations made to determine the amount of the total allowance for loan losses. The bank has developed a loan risk monitoring system that assesses the
potential risk the bank may have in its loan portfolio. This system is monitored monthly by management to insure that adequate provisions and loan allowances are maintained. In addition, various regulatory agencies review our allowance for loan
losses through their periodic examinations, and they may require us to record additions to the allowance for loan losses based on their judgment about information available to them at the time of their examinations. Our losses will undoubtedly vary
from our estimates, and it is possible that charge-offs in future periods will exceed the allowance for loan losses as estimated at any point in time. As of December 31, 2004, the Companys general reserves totaled $2,758,225, an increase of
$1,005,943 from 2003. This increase results from an overall increase of $98,973,028 in our loan portfolio. The categories and concentrations of loans have been consistent between the past two years.



-11-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Provision and Allowance for Loan Losses -continued



The following table sets forth certain information with respect to the Companys allowance for loan losses and the composition of
chargeoffs and recoveries for the years ended December 31, 2004, 2003 and 2002.



Allowance for Loan Losses



|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|--------------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | ---- |  | - | ------ | -
|(Dollars in thousands)                                    |  | 2004 |         |   | 2003 |   |         | 2002 | 
|Total loans outstanding at end of year                    |  | $    | 238,362 |   |      | $ | 139,389 |      |  | $ | 79,801 |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Average loans outstanding                                 |  | $    | 182,996 |   |      | $ | 100,051 |      |  | $ | 73,777 |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Balance of allowance for loan losses at beginning of year |  | $    | 1,752   |   |      | $ | 1,137   |      |  | $ | 1,045  |  
|Loans charged off:                                        |  |      |         |   |      |   |         |      |  |   |        |  
|Real estate - construction                                |  |      |        |   |      |   |        |      |  |   |       |  
|Real estate - mortgage                                    |  |      | 166     |   |      |   | 47      |      |  |   | 32     |  
|Commercial and industrial                                 |  |      | 44      |   |      |   | 42      |      |  |   | 78     |  
|Consumer and other                                        |  |      | 181     |   |      |   | 106     |      |  |   | 185    |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Total loan losses                                         |  |      | 391     |   |      |   | 195     |      |  |   | 295    |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Recoveries of previous loan losses:                       |  |      |         |   |      |   |         |      |  |   |        |  
|Real estate - construction                                |  |      |        |   |      |   |        |      |  |   |       |  
|Real estate - mortgage                                    |  |      |        |   |      |   |        |      |  |   | 2      |  
|Commercial and industrial                                 |  |      |        |   |      |   |        |      |  |   |       |  
|Consumer and other                                        |  |      | 35      |   |      |   | 18      |      |  |   | 36     |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Total recoveries                                          |  |      | 35      |   |      |   | 18      |      |  |   | 38     |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Net charge-offs                                           |  |      | 356     |   |      |   | 177     |      |  |   | 257    |  
|Provision for loan losses                                 |  |      | 1,362   |   |      |   | 792     |      |  |   | 349    |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Balance of allowance for loan losses at end of year       |  | $    | 2,758   |   |      | $ | 1,752   |      |  | $ | 1,137  |  
|                                                          |  |      |         |   |      |   |         |      |  |   |        |  
|Ratios:                                                   |  |      |         |   |      |   |         |      |  |   |        |  
|Net charge-offs to average loans outstanding              |  |      | 0.20    | % |      |   | 0.18    | %    |  |   | 0.35   | %
|Net charge-offs to loans at end of year                   |  |      | 0.15    |   |      |   | 0.13    |      |  |   | 0.32   |  
|Allowance for loan losses to average loans                |  |      | 1.51    |   |      |   | 1.75    |      |  |   | 1.54   |  
|Allowance for loan losses to loans at end of year         |  |      | 1.16    |   |      |   | 1.26    |      |  |   | 1.42   |  
|Net charge-offs to allowance for loan losses              |  |      | 12.90   |   |      |   | 10.10   |      |  |   | 22.60  |  
|Net charge-offs to provisions for loan losses             |  |      | 26.13   |   |      |   | 22.35   |      |  |   | 73.64  |  



Nonperforming Assets



Nonperforming Assets. There were $1,186,183 loans in
nonaccrual status at December 31, 2004. There were no loans in nonaccrual status at December 31, 2003. There were $59,148 and $433,622 in loans ninety days or more overdue and still accruing interest at December 31, 2004 and 2003, respectively.
There was $499,423 and $491,862 in restructured loans at December 31, 2004 and 2003, respectively.



-12-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Nonperforming Assets- continued



Accrual of interest is discontinued on a loan when management believes, after considering economic and business conditions and collection efforts, the borrowers
financial condition is such that the collection of interest is doubtful. A delinquent loan is generally placed in nonaccrual status when it becomes 90 days or more past due. When a loan is placed in nonaccrual status, all interest which has been
accrued on the loan but remains unpaid is reversed and deducted from current earnings as a reduction of reported interest income. No additional interest is accrued on the loan balance until the collection of both principal and interest becomes
reasonably certain. When a problem loan is finally resolved, there may ultimately be an actual write-down or chargeoff of the principal balance of the loan which would necessitate additional charges to earnings. For all periods presented, the
additional interest income, which would have been recognized into earnings if the Companys nonaccrual loans had been current in accordance with their original terms, and the amount of interest income on such loans that was included in net
income is immaterial.



Potential Problem Loans. At December 31,
2004, the Company had classified loans totaling $2,153,221 as compared to $1,225,625 at December 31, 2003. Classified loans as a percentage of total loans was 0.91% at December 31, 2004 as compared to .88% at December 31, 2003. The loan portfolio
increased 71% during the same period.



Noninterest Income and
Expense



Noninterest Income. Noninterest income for
year ended December 31, 2004 was $2,379,523, an increase of $241,290 from $2,138,233 in 2003. The increase is primarily attributable to increased service charges on deposit accounts and securities and insurance brokerage commissions. Service charges
increased $275,094, or 28.76% from 2003, to $1,231,759 for the year ended December 31, 2004. The increase in service charges on deposit accounts was attributable to an overall increase in the number of deposit accounts in 2004 and a restructure of
fee schedules. Securities and brokerage commissions increased $102,444, or 351.05%, to $131,626 in 2004 from $29,182 in 2003. This increase is attributable to market conditions and a successful marketing campaign. Credit life insurance commissions
increased $17,920, or 27.93% from 2003, to $82,090 for the year ended December 31, 2004. The gain on sale of mortgage loans decreased $322,429, or 35.57%, to $584,023 in 2004, from $906,452 in 2003. The gain on sale of mortgage loans decreased due
to decreased volume of sales of mortgage loans due to a rising interest rate environment.



The following table sets forth the principal components of noninterest income for the years ended December 31, 2004, 2003 and 2002.



|                                               |  |      |       |      |   |       |  |   |      
|---------------------------------------------- |  | ---- | ----- | ---- | - | ----- |  | - | -----
|(Dollars in thousands)                         |  | 2004 |       | 2003 |   | 2002 
|Service charges on deposit accounts            |  | $    | 1,232 |      | $ | 957   |  | $ | 590  
|Credit life insurance commissions              |  |      | 82    |      |   | 64    |  |   | 32   
|Gain on sale of mortgage loans                 |  |      | 584   |      |   | 906   |  |   | 830  
|Securities and insurance brokerage commissions |  |      | 132   |      |   | 29    |  |   | 102  
|Other income                                   |  |      | 350   |      |   | 182   |  |   | 180  
|                                               |  |      |       |      |   |       |  |   |      
|Total noninterest income                       |  | $    | 2,380 |      | $ | 2,138 |  | $ | 1,734
|                                               |  |      |       |      |   |       |  |   |      



-13-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Noninterest Income and Expense- continued



Noninterest Expense.Noninterest expense increased $2,371,414, or 39.75%, to $8,337,942 for year ended December 31, 2004 as compared to 2003. Of this
total, other operating expenses increased $396,121, or 19.55%, to $2,422,035 in 2004 from $2,025,914 in 2003. Salaries and employee benefits increased $1,529,181, or 45.72%, to $4,874,035 in 2004 from $3,344,854 in 2003. This increase is primarily
attributable to new hire employee compensation as the Bank expands into different markets. Net occupancy and equipment expense increased $446,000, or 74.83%, to $1,042,000 in 2004 largely due to operating costs associated with the Banks
Lexington Branch opened in 2004.



The following table sets forth
the primary components of noninterest expense for the years ended December 31, 2004, 2003 and 2002.



|                                          |  |      |       |   |      |   |       |      |  |   |       |  
|----------------------------------------- |  | ---- | ----- | - | ---- | - | ----- | ---- |  | - | ----- | -
|(Dollars in thousands)                    |  | 2004 |       |   | 2003 |   |       | 2002 | 
|Salaries and employee benefits            |  | $    | 4,874 |   |      | $ | 3,345 |      |  | $ | 2,641 |  
|Net occupancy and equipment expense       |  |      | 1,042 |   |      |   | 596   |      |  |   | 395   |  
|Advertising and public relations          |  |      | 101   |   |      |   | 73    |      |  |   | 118   |  
|Office supplies, stationery, and printing |  |      | 145   |   |      |   | 146   |      |  |   | 146   |  
|Data processing and supplies              |  |      | 13    |   |      |   | 231   |      |  |   | 286   |  
|Computer and software                     |  |      | 342   |   |      |   | 177   |      |  |   | 114   |  
|Professional fees and services            |  |      | 193   |   |      |   | 231   |      |  |   | 172   |  
|Employee education and conventions        |  |      | 49    |   |      |   | 67    |      |  |   | 120   |  
|Loan origination fees                     |  |      | 18    |   |      |   | 66    |      |  |   | 35    |  
|Other                                     |  |      | 1,561 |   |      |   | 1,035 |      |  |   | 652   |  
|                                          |  |      |       |   |      |   |       |      |  |   |       |  
|Total noninterest expense                 |  | $    | 8,338 |   |      | $ | 5,967 |      |  | $ | 4,679 |  
|                                          |  |      |       |   |      |   |       |      |  |   |       |  
|Efficiency ratio                          |  |      | 71.39 | % |      |   | 72.99 | %    |  |   | 74.89 | %



Earning Assets



Loans.Loans are the largest category of earning
assets and typically provide higher yields than the other types of earning assets. Associated with the higher loan yields are the inherent credit and liquidity risks which management attempts to control and counterbalance. Loans averaged
$182,996,000 in 2004 compared to $110,051,000 in 2003, an increase of $72,945,000 or 66.28%. At December 31, 2004, total loans were $239,694,982 compared to $140,360,691 at December 31, 2003, an increase of $99,334,291, or 70.77%.



-14-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Earning Assets - continued



The following table sets forth the composition of the loan portfolio by category at the dates indicated and highlights the Companys general emphasis on all types of
lending.



Composition of Loan Portfolio



|                                    |  |        |         |   |                  |        |   |        |   |         |                  |  |        |        |  |   |                  |   |  |        |  
|----------------------------------- |  | ------ | ------- | - | ---------------- | ------ | - | ------ | - | ------- | ---------------- |  | ------ | ------ |  | - | ---------------- | - |  | ------ | -
|                                    |  | 2004   |         |   | 2003             |        |   | 2002   |  
|December 31, (Dollars in
thousands) |  | Amount |         |   | Percent of Total |        |   | Amount |   |         | Percent of Total |  |        | Amount |  |   | Percent of Total |  
|Commercial and industrial           |  | $      | 47,890  |   |                  | 20.09  | % |        | $ | 27,893  |                  |  | 20.00  | %      |  | $ | 15,628           |   |  | 19.58  | %
|Real estate                         |  |        |         |   |                  |        |   |        |   |         |                  |  |        |        |  |   |                  |   |  |        |  
|Construction                        |  |        | 39,023  |   |                  | 16.37  |   |        |   | 18,343  |                  |  | 13.16  |        |  |   | 9,799            |   |  | 12.28  |  
|Mortgage-residential                |  |        | 69,921  |   |                  | 29.33  |   |        |   | 42,267  |                  |  | 30.32  |        |  |   | 23,236           |   |  | 29.12  |  
|Mortgage-nonresidential             |  |        | 63,189  |   |                  | 26.51  |   |        |   | 32,826  |                  |  | 23.56  |        |  |   | 20,632           |   |  | 25.85  |  
|Consumer                            |  |        | 13,931  |   |                  | 5.84   |   |        |   | 13,200  |                  |  | 9.47   |        |  |   | 9,944            |   |  | 12.46  |  
|Other                               |  |        | 4,408   |   |                  | 1.86   |   |        |   | 4,860   |                  |  | 3.49   |        |  |   | 562              |   |  | 0.71   |  
|                                    |  |        |         |   |                  |        |   |        |   |         |                  |  |        |        |  |   |                  |   |  |        |  
|Total loans                         |  |        | 238,362 |   |                  | 100.00 | % |        |   | 139,389 |                  |  | 100.00 | %      |  |   | 79,801           |   |  | 100.00 | %
|Allowance for loan losses           |  |        | (2,758  | ) |                  |        |   |        |   | (1,752  | )                |  |        |        |  |   | (1,137           | ) |  |        |  
|                                    |  |        |         |   |                  |        |   |        |   |         |                  |  |        |        |  |   |                  |   |  |        |  
|Net loans                           |  | $      | 235,604 |   |                  |        |   |        | $ | 137,637 |                  |  |        |        |  | $ | 78,664           |   |  |        |  
|                                    |  |        |         |   |                  |        |   |        |   |         |                  |  |        |        |  |   |                  |   |  |        |  



In the context of this discussion, a
real estate mortgage loan is defined as any loan, other than a loan for construction purposes, secured by real estate, regardless of the purpose of the loan. It is common practice for financial institutions in the Companys market
area to obtain a mortgage on real estate whenever possible, in addition to any other available collateral. This collateral is taken to reinforce the likelihood of the ultimate repayment of the loan and tends to increase managements willingness
to make real estate loans and, to that extent, also tends to increase the magnitude of the real estate loan portfolio component.



The largest component of the Companys loan portfolio is real estate mortgage loans. At December 31, 2004, real estate mortgage loans totaled $133,110,000 and
represented 55.84% of the total loan portfolio, compared to $75,093,000 or 53.87%, at December 31, 2003.



Residential mortgage loans totaled $69,921,000 at December 31, 2004, and represented 29.33% of the total loan portfolio, compared to $42,267,000 at December 31, 2003 or 30.32%. Residential real estate loans consist of
first and second mortgages on single or multi-family residential dwellings. Nonresidential mortgage loans, which include commercial loans and other loans secured by multi-family properties and farmland, totaled $63,189,000 at December 31, 2004,
compared to $32,826,000 at December 31, 2003. This represents an increase of $30,363,000, or 92.50%, from the December 31, 2003 balance. The demand for residential and commercial real estate loans in the Florence market increased as a result of the
low interest rate environment.



Commercial and industrial loans increased
$19,997,000 or 71.69%, to $47,890,000 at December 31, 2004, from $27,893,000 at December 31, 2003.



The Companys loan portfolio is also comprised of consumer loans. Consumer loans increased $731,000, or 5.54%, to $13,931,000 at December 31, 2004, from $13,200,000 at December 31, 2003.



The Companys loan portfolio reflects the diversity of its markets. The economies of the
Companys markets contains elements of medium and light manufacturing, higher education, regional health care, and distribution facilities. Management expects the area to remain stable with continued growth in the near future. The diversity of
the economy creates opportunities for all types of lending. The Company does not engage in foreign lending.





-15-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Earning Assets - continued



The repayment of loans in the loan portfolio as they mature is also a source of liquidity for the Company. The following table sets forth the Companys loans
maturing within specified intervals at December 31, 2004.



Loan Maturity
Schedule and Sensitivity to Changes in Interest Rates



|                                         |  |                  |          |                                  |   |                 |  |       |       |  |   |        
|---------------------------------------- |  | ---------------- | -------- | -------------------------------- | - | --------------- |  | ----- | ----- |  | - | -------
|December 31, 2004 (Dollars in
thousands) |  | One Year or Less |          | Over One Year Through Five Years |   | Over Five Years |  | Total
|Commercial and industrial                |  | $                | 17,053   |                                  | $ | 30,823          |  | $     | 14    |  | $ | 47,890 
|Real estate                              |  |                  | 143,776  |                                  |   | 31,714          |  |       | 1,607 |  |   | 177,097
|Consumer and other                       |  |                  | 4,724    |                                  |   | 9,855           |  |       | 129   |  |   | 14,708 
|                                         |  |                  |          |                                  |   |                 |  |       |       |  |   |        
|                                         |  |                  | $165,553 |                                  | $ | 72,392          |  | $     | 1,750 |  | $ | 239,695
|                                         |  |                  |          |                                  |   |                 |  |       |       |  |   |        
|Loans maturing after one year with:      |  |                  |          |                                  |   |                 |  |       |       |  |   |        
|Fixed interest rates                     |  |                  |          |                                  |   |                 |  |       |       |  | $ | 27,818 
|Floating interest rates                  |  |                  |          |                                  |   |                 |  |       |       |  |   | 46,324 
|                                         |  |                  |          |                                  |   |                 |  |       |       |  |   |        
|                                         |  |                  |          |                                  |   |                 |  |       |       |  | $ | 74,142 
|                                         |  |                  |          |                                  |   |                 |  |       |       |  |   |        



The information presented in the above
table is based on the contractual maturities of the individual loans, including loans which may be subject to renewal at their contractual maturity. Renewal of such loans is subject to review and credit approval as well as modification of terms upon
maturity. Consequently, management believes this treatment presents fairly the maturity and repricing structure of the loan portfolio shown in the above table.



Investment Securities. The investment securities portfolio is also a component of the Companys total earning assets. Total securities
available-for-sale averaged $27,223,928 in 2004, compared to $23,907,300 in 2003. At December 31, 2004, total securities available-for-sale were $28,567,666, an increase of $878,674, or 3.17%, over the December 31, 2003 balance. Investment
securities also contains Federal Home Loan Bank stock and the stock of an unrelated financial institution. This stock is recorded at its original cost and totaled $1,714,700 and $1,055,000 at December 31, 2004 and 2003, respectively.



The following table sets forth the fair market value of the securities available-for-sale
held by the Bank at December 31, 2004, 2003 and 2002.



Fair Value of
Securities available-for-sale



|                                          |  |      |        |      |   |        |  |   |       
|----------------------------------------- |  | ---- | ------ | ---- | - | ------ |  | - | ------
|December 31, (Dollars in
thousands)       |  | 2004 |        | 2003 |   | 2002  
|U.S. government agencies and corporations |  | $    | 2,410  |      | $ | 3,536  |  | $ | 3,904 
|Municipals                                |  |      | 11,311 |      |   | 8,793  |  |   | 10,821
|Mortgage-backed securities                |  |      | 14,783 |      |   | 15,196 |  |   | 8,219 
|Commercial paper                          |  |      | 64     |      |   | 164    |  |   | 505   
|                                          |  |      |        |      |   |        |  |   |       
|Total securities available-for-sale       |  | $    | 28,568 |      | $ | 27,689 |  | $ | 23,449
|                                          |  |      |        |      |   |        |  |   |       





-16-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Earning Assets - continued



The following table sets forth the scheduled maturities and average yields of securities held at December 31, 2004.



Investment Securities Maturity Distribution and Yields



|                                          |        |                 |       |  |                                 |        |  |                                 |       |  |                 |   |       |       |       |        |      |       |  |   |        |  |       |   |  |   |        |  |      |  
|----------------------------------------- | ------ | --------------- | ----- |  | ------------------------------- | ------ |  | ------------------------------- | ----- |  | --------------- | - | ----- | ----- | ----- | ------ | ---- | ----- |  | - | ------ |  | ----- | - |  | - | ------ |  | ---- | -
|December 31, 2004 (Dollars in thousands)  |        | Within One Year |       |  | After One But Within Five Years |        |  | After Five But Within Ten Years |       |  | After Ten Years |   |       | Total |      
|                                          | Amount |                 | Yield |  |                                 | Amount |  | Yield                           |       |  | Amount          |   | Yield |       |       | Amount |      | Yield |  |   | Amount |  | Yield |  
|U.S. government agencies and corporations |        | $               | 503   |  | 4.00                            | %      |  | $                               | 1,627 |  | 4.83            | % |       | $     | 280   |        | 5.80 | %     |  | $ | 64     |  | 3.81  | % |  | $ | 2,474  |  | 4.75 | %
|Municipals(2)                             |        |                 | 111   |  | 3.20                            |        |  |                                 | 355   |  | 3.21            | % |       |       | 1,571 |        | 5.36 | %     |  |   | 9,274  |  | 6.57  | % |  |   | 11,311 |  | 6.26 | %
|                                          |        |                 |       |  |                                 |        |  |                                 |       |  |                 |   |       |       |       |        |      |       |  |   |        |  |       |   |  |   |        |  |      |  
|Total securities(1)                       |        | $               | 614   |  | 3.86                            | %      |  | $                               | 1,982 |  | 4.54            | % |       | $     | 1,851 |        | 5.43 | %     |  | $ | 9,338  |  | 6.55  | % |  | $ | 13,785 |  | 5.99 | %
|                                          |        |                 |       |  |                                 |        |  |                                 |       |  |                 |   |       |       |       |        |      |       |  |   |        |  |       |   |  |   |        |  |      |  

---

|(1) | Excludes mortgage-backed securities totaling $14,783 with a yield of 4.30 % and non-marketable equity securities.
|--- | -----------------------------------------------------------------------------------------------------------------

|(2) | Yields are based on a tax equivalent basis of 34%.
|--- | --------------------------------------------------



Other attributes of the securities portfolio, including yields and maturities, are discussed
above in Net Interest Income Interest Sensitivity Analysis.



Federal Funds Sold and Other. Federal funds sold and other, which consists of federal funds sold and an interest earning deposit account with the Federal Home Loan Bank, averaged $1,118,915 in 2004 compared to $1,469,425 in
2003. At December 31, 2004 and 2003, federal funds sold totaled $1,042,000 and $100,000, and interest earning deposits totaled $100,707 and $245,184, respectively.



Deposits and Other Interest-Bearing Liabilities



Average interest-bearing liabilities increased $69,508,668, or 62.38%, to $180,929,000 in 2004, from $111,420,332 in 2003. The increase is
primarily a result of the continued growth of the Company.



Deposits. Average total deposits increased $64,354,279, or 55.22%, to $180,896,147 in 2004, from $116,541,868 in 2003. At December 31, 2004, total deposits were $225,493,827 compared to $139,414,951 a year earlier, an
increase of 61.74%.



The following table sets forth the deposits of the Company
by category at December 31, 2004 and 2003.



Deposits



|                                    |        |      |                    |  |        |        |  |                    |         |  |        |  
|----------------------------------- | ------ | ---- | ------------------ |  | ------ | ------ |  | ------------------ | ------- |  | ------ | -
|December 31, (Dollars
in thousands) |        | 2004 |                    |  | 2003   |       
|                                    | Amount |      | Percent ofDeposits |  |        | Amount |  | Percent ofDeposits |        
|Demand deposit accounts             |        | $    | 27,561             |  | 12.22  | %      |  | $                  | 19,085  |  | 13.69  | %
|NOW accounts                        |        |      | 15,526             |  | 6.89   |        |  |                    | 15,866  |  | 11.38  |  
|Savings accounts                    |        |      | 46,299             |  | 20.53  |        |  |                    | 18,217  |  | 13.07  |  
|Time deposits less than $100        |        |      | 42,132             |  | 18.68  |        |  |                    | 31,883  |  | 22.87  |  
|Time deposits of $100 or over       |        |      | 93,976             |  | 41.68  |        |  |                    | 54,364  |  | 38.99  |  
|                                    |        |      |                    |  |        |        |  |                    |         |  |        |  
|Total deposits                      |        | $    | 225,494            |  | 100.00 | %      |  | $                  | 139,415 |  | 100.00 | %
|                                    |        |      |                    |  |        |        |  |                    |         |  |        |  



Core deposits, which exclude time
deposits of $100,000 or more, provide a relatively stable funding source for the Companys loan portfolio and other earning assets. The Companys core deposits were $131,517,915 and $85,050,947 at December 31, 2004 and 2003, respectively.
Included in time deposits at December 31, 2004 and 2003 are brokered time deposits of $44,718,671 and $22,607,082, respectively.





-17-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Deposits and Other Interest-Bearing Liabilities- continued



Deposits, and particularly core deposits, have been the Companys primary source of funding and have enabled the Company to meet
successfully both its short-term and long-term liquidity needs. Management anticipates that such deposits will continue to be the Companys primary source of funding in the future. However, advances from the Federal Home Loan Bank are being
used as an alternative source of funds. The Companys loan-to-deposit ratio was 105.71% at December 31, 2004, and 99.98% at December 31, 2003. The maturity distribution of the Companys time deposits over $100,000 at December 31, 2004, is
set forth in the following table:



Maturities of Time Deposits of $100,000
or More





|                                            |  |                     |        |                                |   |                                 |  |                     |        |       |   |        |  |   |       
|------------------------------------------- |  | ------------------- | ------ | ------------------------------ | - | ------------------------------- |  | ------------------- | ------ | ----- | - | ------ |  | - | ------
|(Dollars in thousands)                      |  | Within Three Months |        | After Three Through Six Months |   | After Six Through Twelve Months |  | After Twelve Months |        | Total
|Certificates of deposit of $100,000 or more |  | $                   | 17,609 |                                | $ | 15,916                          |  | $                   | 15,987 |       | $ | 44,464 |  | $ | 93,976



Approximately 18.74% of the
Companys time deposits of $17,609 or more had scheduled maturities within three months, and 16.94% had maturities within six months. Large certificate of deposit customers tend to be extremely sensitive to interest rate levels, making these
deposits less reliable sources of funding for liquidity planning purposes than core deposits. The current interest rate environment has led depositors to invest in short term deposit accounts. The Company expects most certificates of deposits with
maturities less than twelve months to be renewed upon maturity. However, there is the possibility that some certificates may not be renewed. Management believes that should that occur, the impact would be minimal on the Companys operations and
liquidity due to other funding sources. The Company has an available line to borrow funds from the Federal Home Loan Bank up to 20% of the Banks total assets which provided additional available funds of $23,250,000 at December 31, 2004 and
lines available to purchase federal funds with various financial institutions up to $26,000,000 at December 31, 2004. Management believes that these funds would be sufficient to meet future liquidity needs.



Other Borrowings. The following table summarizes the
Companys borrowings for the years ended December 31, 2004 and 2003. These borrowings consist of securities sold under agreements to repurchase, advances from the Federal Home Loan Bank and federal funds purchased. Securities sold under
agreements to repurchase mature on a one to seven day basis. These agreements are secured by U.S. government agencies. Advances from Federal Home Loan Bank mature at different periods as discussed in the footnotes to the financial statements and are
secured by the Companys one to four family residential mortgage loans and the Companys investment in Federal Home Loan Bank stock. Federal funds purchased are short-term borrowings from other financial institutions that mature daily.



|                                              |  |                                      |        |                 |   |                                |  |      |                      |  |                               |        |  |      |  
|--------------------------------------------- |  | ------------------------------------ | ------ | --------------- | - | ------------------------------ |  | ---- | -------------------- |  | ----------------------------- | ------ |  | ---- | -
|(Dollars in thousands)                        |  | Maximum Outstanding at any Month End |        | Average Balance |   | Weighted Average Interest Rate |  |      | Balance December 31, |  | Interest Rate at December 31, |       
|December 31, 2004                             |  |                                      |        |                 |   |                                |  |      |                      |  |                               |        |  |      |  
|Securities sold under agreement to repurchase |  | $                                    | 3,062  |                 | $ | 2,460                          |  | 0.83 | %                    |  | $                             | 3,062  |  | 1.86 | %
|Advances from Federal Home Loan Bank          |  |                                      | 27,900 |                 |   | 21,106                         |  | 2.53 |                      |  |                               | 27,900 |  | 2.44 |  
|Federal funds purchased                       |  |                                      | 3,960  |                 |   | 922                            |  | 1.01 |                      |  |                               |       |  | 2.44 |  
|                                              |  |                                      |        |                 |  
|December 31, 2003                             |  |                                      |        |                 |   |                                |  |      |                      |  |                               |        |  |      |  
|Securities sold under agreement to repurchase |  | $                                    | 2,686  |                 | $ | 2,273                          |  | 0.45 | %                    |  | $                             | 2,364  |  | 0.31 | %
|Advances from Federal Home Loan Bank          |  |                                      | 19,100 |                 |   | 9,228                          |  | 2.72 | %                    |  |                               | 19,100 |  | 2.90 | %
|Federal funds purchased                       |  |                                      | 1,043  |                 |   | 389                            |  | 2.67 | %                    |  |                               | 1,043  |  | 1.30 | %



-18-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Capital



The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possible
additional discretionary actions by regulators that, if undertaken, could have a material effect on the Companys consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action,
the Bank must meet specific capital guidelines that involve quantitative measures of the Companys assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Companys capital amounts
and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.



Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum ratios of Tier 1 and total capital as a percentage of
assets and off-balance-sheet exposures, adjusted for risk weights ranging from 0% to 100%. Tier 1 capital of the Company consists of common shareholders equity, excluding the unrealized gain or loss on securities available-for-sale, minus
certain intangible assets. The Companys Tier 2 capital consists of the allowance for loan losses subject to certain limitations. Total capital for purposes of computing the capital ratios consists of the sum of Tier 1 and Tier 2 capital. The
regulatory minimum requirements are 4% for Tier 1 capital and 8% for total risk-based capital.



The Company and the Bank are also required to maintain capital at a minimum level based on quarterly average assets, which is known as the leverage ratio. Only the strongest banks are allowed to maintain capital at
the minimum requirement of 3%. All others are subject to maintaining ratios 1% to 2% above the minimum.



The Company and the Bank exceeded the regulatory capital requirements at December 31, 2004. The following table shows the Companys and the Banks ratios at December 31, 2004:



Analysis of Capital and Capital Ratios



|                                                                   |  |         |         |   |      |   |         |  
|------------------------------------------------------------------ |  | ------- | ------- | - | ---- | - | ------- | -
|(Dollars in thousands)                                             |  | Company |         |   | Bank |  
|Tier 1 capital                                                     |  | $       | 27,117  |   |      | $ | 21,634  |  
|Tier 2 capital                                                     |  |         | 2,758   |   |      |   | 2,758   |  
|                                                                   |  |         |         |   |      |   |         |  
|Total qualifying capital                                           |  | $       | 29,875  |   |      | $ | 24,392  |  
|                                                                   |  |         |         |   |      |   |         |  
|Risk-adjusted total assets (including off-balance-sheet exposures) |  | $       | 238,671 |   |      | $ | 238,550 |  
|                                                                   |  |         |         |   |      |   |         |  
|Risk-based capital ratios:                                         |  |         |         |   |      |   |         |  
|Tier 1 risk-based capital ratio                                    |  |         | 11.36   | % |      |   | 9.07    | %
|Total risk-based capital ratio                                     |  |         | 12.52   | % |      |   | 10.23   | %
|Tier 1 leverage ratio                                              |  |         | 10.11   | % |      |   | 8.07    | %



In July 2004, the Company commenced a
private stock offering in Lexington South Carolina, whereby a minimum of 300,000 shares and a maximum of 700,000 shares of common stock were offered to fund continued expansion through First Reliance Bank. The offering price was $11.50 per share.
This was a best efforts offering and was conducted without an underwriter. The Company had sold 700,000 shares resulting in additional capital of $8,050,000 as of December 31, 2004.



-19-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Impact of Off-Balance Sheet Instruments



The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of the Companys customers.
These financial instruments consist of commitments to extend credit and standby letters of credit. Commitments to extend credit are legally binding agreements to lend to a customer at predetermined interest rates as long as there is no violation of
any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. A commitment involves, to varying degrees, elements of credit and interest rate risk in
excess of the amount recognized in the balance sheets. The exposure to credit loss in the event of nonperformance by the other party to the instrument is represented by the contractual notional amount of the instrument. Since certain commitments are
expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Letters of credit are conditional commitments issued to guarantee a customers performance to a third party and
have essentially the same credit risk as other lending facilities. Standby letters of credit often expire without being used.



The Company uses the same credit underwriting procedures for commitments to extend credit and standby letters of credit as it does for its on-balance sheet instruments.
The credit worthiness of each borrower is evaluated and the amount of collateral, if deemed necessary, is based on the credit evaluation. Collateral held for commitments to extend credit and standby letters of credit varies but may include accounts
receivable, inventory, property, plant, equipment, and income-producing commercial properties.



The Company is not involved in off-balance sheet contractual relationships, other than those disclosed in this report, that could result in liquidity needs or other commitments or that could significantly impact
earnings.



As of December 31, 2004, commitments to extend credit totaled
$31,701,669 and its standby letters of credit totaled $719,518.



The following
table sets forth the length of time until maturity for unused commitments to extend credit and standby letters of credit at December 31, 2004.



|                                    |  |                  |       |                                |   |                                   |  |                 |       |                       |   |        |  |   |        |  |   |       
|----------------------------------- |  | ---------------- | ----- | ------------------------------ | - | --------------------------------- |  | --------------- | ----- | --------------------- | - | ------ |  | - | ------ |  | - | ------
|(Dollars in thousands)              |  | Within One Month |       | After One Through Three Months |   | After Three Through Twelve Months |  | Within One Year |       | Greater Than One Year |   | Total 
|Unused commitments to extend credit |  | $                | 3,923 |                                | $ | 3,972                             |  | $               | 7,218 |                       | $ | 15,113 |  | $ | 16,589 |  | $ | 31,702
|Standby letters of credit           |  |                  | 48    |                                |   | 44                                |  |                 | 528   |                       |   | 620    |  |   | 100    |  |   | 720   
|                                    |  |                  |       |                                |   |                                   |  |                 |       |                       |   |        |  |   |        |  |   |       
|Totals                              |  | $                | 3,971 |                                | $ | 4,016                             |  | $               | 7,746 |                       | $ | 15,733 |  | $ | 16,689 |  | $ | 32,422
|                                    |  |                  |       |                                |   |                                   |  |                 |       |                       |   |        |  |   |        |  |   |       



The Company evaluates each
customers credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on its credit evaluation of the borrower. Collateral varies but may include accounts
receivable, inventory, property, plant and equipment, commercial and residential real estate.





-20-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Liquidity Management and Capital Resources



Liquidity is the ability to meet current and future obligations through liquidation or maturity of existing assets or the acquisition of additional liabilities. Adequate
liquidity is necessary to meet the requirements of customers for loans and deposit withdrawals in the most timely and economical manner. Some liquidity is ensured by maintaining assets that may be immediately converted into cash at minimal cost
(amounts due from banks and federal funds sold). However, the most manageable sources of liquidity are composed of liabilities, with the primary focus on liquidity management being on the ability to obtain deposits within the Companys service
area. Core deposits (total deposits less time deposits greater than $100,000) provide a relatively stable funding base, and were equal to 46.15% of total assets at December 31, 2004. Asset liquidity is provided from several sources, including
amounts due from banks, federal funds sold, securities available for sale, and funds from maturing loans. The Company had $4,845,535 in cash and $28,567,666 in securities available for sale at December 31, 2004. The Company has $31,000,000 available
through a line of credit with other banks as an additional source of liquidity funding. The Company also has a line of credit to borrow funds from the Federal Home Loan Bank up to $51,150,000, of which $23,250,000 is available at December 31, 2004.



During 2004, the Companys primary sources of cash were $225,493,827 from
deposits and $27,900,000 from Federal Home Loan Bank advances. The Companys primary uses of cash resources were to fund loans of approximately $99,855,322 and the purchase of investment securities of approximately $1,647,483, net of maturities
and sales. These trends are consistent with those of a growing bank operation and consistent with past cash uses and sources. Management believes that the Companys overall liquidity sources are adequate to meet its operating needs in the
ordinary course of its business. Accordingly, the Company does not expect to have to raise additional funds in 2004 to meet either short or long-term needs.



Impact of Inflation



Unlike most industrial companies, the assets and liabilities of financial institutions such as the Company are primarily monetary in nature. Therefore, interest rates
have a more significant effect on the Companys performance than do the general rate of inflation and of goods and services. In addition, interest rates do not necessarily move in the same direction or in the same magnitude as the prices of
goods and services. As discussed previously, management seeks to manage the relationships between interest sensitive assets and liabilities in order to protect against wide interest rate fluctuations, including those resulting from inflation.



Accounting and Financial Reporting Issues



The Company has adopted various accounting policies which govern the application of
accounting principles generally accepted in the United States in the preparation of its financial statements. The significant accounting policies are described in the footnotes to the financial statements at December 31, 2003 as filed on the annual
report on Form 10-KSB. Certain accounting policies involve significant judgments and assumptions by management which have a material impact on the carrying value of certain assets and liabilities. The Company considers these accounting policies to
be critical accounting policies. The judgments and assumptions used are based on historical experience and other factors, which management believes to be reasonable under the circumstances. Because of the nature of the judgments and assumptions
made, actual results could differ from these judgments and estimates which could have a material impact on the carrying values of assets and liabilities and the results of operations.



Of these significant accounting policies, the Company considers its policies regarding the allowance for loan losses (the
Allowance) to be its most critical accounting policy due to the significant degree of management judgment involved in determining the amount of Allowance. The Company has developed policies and procedures for assessing the adequacy of
the Allowance, recognizing that this process requires a number of assumptions and estimates with respect to its loan portfolio. The Companys assessments may be impacted in future periods by changes in economic conditions, the impact of
regulatory examinations, and the discovery of information with respect to borrowers, which is not known to management at the time of the issuance of the consolidated financial statements. Refer to the discussion under Provision and Allowance for
Loan Losses section of this document for a detailed description of the Companys estimation process and methodology related to the allowance for loan losses.





-21-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Managements Discussion and Analysis

of Financial Condition and Results of Operations



Industry Developments



From time to time, various bills are introduced in the United States Congress with respect to the regulation of financial institutions. Certain legislation, if adopted,
could significantly change the regulation of banks and the financial services industry. The Company cannot predict whether any such legislation will be adopted or, if adopted, how it would affect the Company.



-22-



---

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM



The Board of Directors

First Reliance Bancshares, Inc. and Subsidiary

Florence, South Carolina



We have audited the accompanying consolidated balance sheets of First Reliance Bancshares,
Inc. and subsidiary as of December 31, 2004 and 2003, and the related consolidated statements of income, changes in shareholders equity and comprehensive income, and cash flows for the years then ended. These consolidated financial
statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.



We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.



In our opinion, the
consolidated financial statements present fairly, in all material respects, the consolidated financial position of First Reliance Bancshares, Inc. and subsidiary as of December 31, 2004 and 2003, and the consolidated results of their operations and
cash flows for each of the years then ended in conformity with accounting principles generally accepted in the United States of America.



Elliott Davis, LLC

Columbia, South Carolina

January 21, 2005



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Consolidated Balance Sheets



|                                                                                                                                                              |  |              |             |   |      |   |             |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ----------- | - | ---- | - | ----------- | -
|                                                                                                                                                              |  | December 31, |            
|                                                                                                                                                              |  | 2004         |             |   | 2003 |  
|Assets:                                                                                                                                                       |  |              |             |   |      |   |             |  
|Cash and cash equivalents:                                                                                                                                    |  |              |             |   |      |   |             |  
|Cash and due from banks                                                                                                                                       |  | $            | 3,803,535   |   |      | $ | 4,693,102   |  
|Federal funds sold                                                                                                                                            |  |              | 1,042,000   |   |      |   | 100,000     |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Total cash and cash equivalents                                                                                                                               |  |              | 4,845,535   |   |      |   | 4,793,102   |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Investment securities:                                                                                                                                        |  |              |             |   |      |   |             |  
|Securities available-for-sale                                                                                                                                 |  |              | 28,567,666  |   |      |   | 27,688,992  |  
|Nonmarketable equity securities                                                                                                                               |  |              | 1,714,700   |   |      |   | 1,055,000   |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Total investment securities                                                                                                                                   |  |              | 30,282,366  |   |      |   | 28,743,992  |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Loans held for sale                                                                                                                                           |  |              | 1,332,890   |   |      |   | 971,627     |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Loans receivable                                                                                                                                              |  |              | 238,362,092 |   |      |   | 139,389,064 |  
|Less allowance for loan losses                                                                                                                                |  |              | (2,758,225  | ) |      |   | (1,752,282  | )
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Loans, net                                                                                                                                                    |  |              | 235,603,867 |   |      |   | 137,636,782 |  
|Premises, furniture and equipment, net                                                                                                                        |  |              | 5,891,402   |   |      |   | 5,796,819   |  
|Accrued interest receivable                                                                                                                                   |  |              | 1,458,673   |   |      |   | 949,663     |  
|Other real estate owned                                                                                                                                       |  |              | 320,598     |   |      |   | 279,393     |  
|Cash surrender value life insurance                                                                                                                           |  |              | 3,415,582   |   |      |   |            |  
|Other assets                                                                                                                                                  |  |              | 1,819,970   |   |      |   | 1,192,505   |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Total assets                                                                                                                                                  |  | $            | 284,970,883 |   |      | $ | 180,363,883 |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Liabilities:                                                                                                                                                  |  |              |             |   |      |   |             |  
|Deposits:                                                                                                                                                     |  |              |             |   |      |   |             |  
|Noninterest-bearing transaction accounts                                                                                                                      |  | $            | 27,560,581  |   |      | $ | 19,084,520  |  
|Interest-bearing transaction accounts                                                                                                                         |  |              | 15,525,590  |   |      |   | 15,866,254  |  
|Savings                                                                                                                                                       |  |              | 46,299,198  |   |      |   | 18,217,378  |  
|Time deposits $100,000 and over                                                                                                                               |  |              | 93,975,912  |   |      |   | 54,364,004  |  
|Other time deposits                                                                                                                                           |  |              | 42,132,546  |   |      |   | 31,882,795  |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Total deposits                                                                                                                                                |  |              | 225,493,827 |   |      |   | 139,414,951 |  
|Securities sold under agreements to repurchase                                                                                                                |  |              | 3,061,903   |   |      |   | 2,363,570   |  
|Federal funds purchased                                                                                                                                       |  |              |            |   |      |   | 1,043,000   |  
|Advances from Federal Home Loan Bank                                                                                                                          |  |              | 27,900,000  |   |      |   | 19,100,000  |  
|Accrued interest payable                                                                                                                                      |  |              | 742,017     |   |      |   | 442,233     |  
|Other liabilities                                                                                                                                             |  |              | 414,487     |   |      |   | 297,490     |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Total liabilities                                                                                                                                             |  |              | 257,612,234 |   |      |   | 162,661,244 |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Commitments and contingencies (Notes 5 and 14)                                                                                                                |  |              |             |   |      |   |             |  
|                                                                                                                                                              |  |             
|Shareholders Equity:                                                                                                                                         |  |              |             |   |      |   |             |  
|Common stock, $0.01 par value, 5,000,000 shares authorized; 3,203,942 and 2,466,660 shares issued and outstanding at December 31, 2004 and
2003, respectively |  |              | 32,039      |   |      |   | 24,667      |  
|Capital surplus                                                                                                                                               |  |              | 23,428,034  |   |      |   | 15,106,070  |  
|Treasury stock (600 shares in 2004 and 0 shares in 2003)                                                                                                      |  |              | (7,396      | ) |      |   |            |  
|Retained earnings                                                                                                                                             |  |              | 3,664,301   |   |      |   | 2,325,602   |  
|Accumulated other comprehensive income                                                                                                                        |  |              | 241,671     |   |      |   | 246,300     |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Total shareholders equity                                                                                                                                    |  |              | 27,358,649  |   |      |   | 17,702,639  |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  
|Total liabilities and shareholders equity                                                                                                                    |  | $            | 284,970,883 |   |      | $ | 180,363,883 |  
|                                                                                                                                                              |  |              |             |   |      |   |             |  



The accompanying notes
are an integral part of the consolidated financial statements.



-23-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Consolidated Statements of Income



|                                                    |  |                                  |            |   |      |   |           |  
|--------------------------------------------------- |  | -------------------------------- | ---------- | - | ---- | - | --------- | -
|                                                    |  | For the years ended December 31, |           
|                                                    |  | 2004                             |            |   | 2003 |  
|Interest income:                                    |  |                                  |            |   |      |   |           |  
|Loans, including fees                               |  | $                                | 12,094,388 |   |      | $ | 7,504,097 |  
|Investment securities:                              |  |                                  |            |   |      |   |           |  
|Taxable                                             |  |                                  | 723,439    |   |      |   | 604,306   |  
|Tax exempt                                          |  |                                  | 415,347    |   |      |   | 357,377   |  
|Federal funds sold                                  |  |                                  | 16,942     |   |      |   | 15,822    |  
|Other interest income                               |  |                                  | 40,365     |   |      |   | 17,861    |  
|                                                    |  |                                  |            |   |      |   |           |  
|Total                                               |  |                                  | 13,290,481 |   |      |   | 8,499,463 |  
|                                                    |  |                                  |            |   |      |   |           |  
|Interest expense:                                   |  |                                  |            |   |      |   |           |  
|Time deposits $100,000 and over                     |  |                                  | 1,870,930  |   |      |   | 870,123   |  
|Other deposits                                      |  |                                  | 1,627,009  |   |      |   | 1,327,754 |  
|Other interest expense                              |  |                                  | 563,129    |   |      |   | 262,258   |  
|                                                    |  |                                  |            |   |      |   |           |  
|Total                                               |  |                                  | 4,061,068  |   |      |   | 2,460,135 |  
|                                                    |  |                                  |            |   |      |   |           |  
|Net interest income                                 |  |                                  | 9,229,413  |   |      |   | 6,039,328 |  
|                                                    |  |                                 
|Provision for loan losses                           |  |                                  | 1,361,762  |   |      |   | 791,650   |  
|                                                    |  |                                  |            |   |      |   |           |  
|Net interest income after provision for loan losses |  |                                  | 7,867,651  |   |      |   | 5,247,678 |  
|                                                    |  |                                  |            |   |      |   |           |  
|Noninterest income:                                 |  |                                  |            |   |      |   |           |  
|Service charges on deposit accounts                 |  |                                  | 1,231,759  |   |      |   | 956,665   |  
|Gain on sale of mortgage loans                      |  |                                  | 584,023    |   |      |   | 906,452   |  
|Securities and insurance brokerage commissions      |  |                                  | 131,626    |   |      |   | 29,182    |  
|Credit life insurance commissions                   |  |                                  | 82,090     |   |      |   | 64,170    |  
|Other service charges, commissions, and fees        |  |                                  | 145,403    |   |      |   | 109,515   |  
|Gain of sales of securities available-for-sale      |  |                                  | 5,971      |   |      |   | 2,990     |  
|Loss on sale of other real estate                   |  |                                  | (55,966    | ) |      |   | (35,572   | )
|Loss on sale of fixed assets                        |  |                                  | (20,000    | ) |      |   |          |  
|Other                                               |  |                                  | 274,617    |   |      |   | 104,831   |  
|                                                    |  |                                  |            |   |      |   |           |  
|Total                                               |  |                                  | 2,379,523  |   |      |   | 2,138,233 |  
|                                                    |  |                                  |            |   |      |   |           |  
|Noninterest expenses:                               |  |                                  |            |   |      |   |           |  
|Salaries and benefits                               |  |                                  | 4,874,035  |   |      |   | 3,344,854 |  
|Occupancy                                           |  |                                  | 425,686    |   |      |   | 237,814   |  
|Furniture and equipment related expenses            |  |                                  | 616,186    |   |      |   | 357,946   |  
|Other operating                                     |  |                                  | 2,422,035  |   |      |   | 2,025,914 |  
|                                                    |  |                                  |            |   |      |   |           |  
|Total                                               |  |                                  | 8,337,942  |   |      |   | 5,966,528 |  
|                                                    |  |                                  |            |   |      |   |           |  
|Income before income taxes                          |  |                                  | 1,909,232  |   |      |   | 1,419,383 |  
|Income tax expense                                  |  |                                  | 570,533    |   |      |   | 403,584   |  
|                                                    |  |                                  |            |   |      |   |           |  
|Net income                                          |  | $                                | 1,338,699  |   |      | $ | 1,015,799 |  
|                                                    |  |                                  |            |   |      |   |           |  
|Earnings per share:                                 |  |                                  |            |   |      |   |           |  
|Basic                                               |  | $                                | 0.52       |   |      | $ | 0.48      |  
|                                                    |  |                                  |            |   |      |   |           |  
|Diluted                                             |  | $                                | 0.48       |   |      | $ | 0.46      |  
|                                                    |  |                                  |            |   |      |   |           |  



The accompanying notes
are an integral part of the consolidated financial statements.



-24-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Consolidated Statements of Changes in Shareholders Equity and
Comprehensive Income

For the years ended December 31, 2004 and 2003



|                                                          |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   |            |  
|--------------------------------------------------------- |  | ------------ |  | -------------- | ------ |  | ------------- | ---------- | - | ---------------- | - | ------------------------------------------ | - |  | ----- | --------- |  | - | ------- | - |  | - | ---------- | -
|                                                          |  | Common Stock |  | CapitalSurplus |        |  | TreasuryStock |            |   | RetainedEarnings |   | AccumulatedOtherComprehensiveIncome (Loss) |   |  | Total |          
|                                                          |  | Shares       |  | Amount         |        |  |               |            |  
|Balance, December 31, 2002                                |  | 1,448,830    |  | $              | 14,488 |  | $             | 7,091,562  |   |                  | $ | -                                          |   |  | $     | 1,309,803 |  | $ | 228,325 |   |  | $ | 8,644,178  |  
|                                                          |  |              |  |                |        |  |              
|Net income                                                |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       | 1,015,799 |  |   |         |   |  |   | 1,015,799  |  
|                                                          |  |              |  |                |        |  |              
|Other comprehensive income, net of tax expense of $10,015 |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   | 17,975  |   |  |   | 17,975     |  
|                                                          |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   |            |  
|Comprehensive income                                      |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   | 1,033,774  |  
|                                                          |  |              |  |                |        |  |              
|Proceeds from stock issuance                              |  | 1,007,430    |  |                | 10,075 |  |               | 8,049,364  |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   | 8,059,439  |  
|                                                          |  |              |  |                |        |  |              
|Costs associated with stock offering                      |  |              |  |                |        |  |               | (86,752    | ) |                  |   |                                            |   |  |       |           |  |   |         |   |  |   | (86,752    | )
|                                                          |  |              |  |                |        |  |              
|Exercise of stock options                                 |  | 10,400       |  |                | 104    |  |               | 51,896     |   |                  |   |                                           |   |  |       |           |  |   |         |   |  |   | 52,000     |  
|                                                          |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   |            |  
|Balance, December 31, 2003                                |  | 2,466,660    |  |                | 24,667 |  |               | 15,106,070 |   |                  |   |                                           |   |  |       | 2,325,602 |  |   | 246,300 |   |  |   | 17,702,639 |  
|                                                          |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   |            |  
|Net income                                                |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       | 1,338,699 |  |   |         |   |  |   | 1,338,699  |  
|                                                          |  |              |  |                |        |  |              
|Other comprehensive loss, net of tax benefit of $8,356    |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   | (4,629  | ) |  |   | (4,629     | )
|                                                          |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   |            |  
|Comprehensive income                                      |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   | 1,334,070  |  
|                                                          |  |              |  |                |        |  |              
|Proceeds from stock issuance                              |  | 700,000      |  |                | 7,000  |  |               | 8,043,000  |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   | 8,050,000  |  
|                                                          |  |              |  |                |        |  |              
|Costs associated with stock offering                      |  |              |  |                |        |  |               | (75,960    | ) |                  |   |                                            |   |  |       |           |  |   |         |   |  |   | (75,960    | )
|                                                          |  |              |  |                |        |  |              
|Issuance of shares to ESOP                                |  | 37,282       |  |                | 372    |  |               | 354,924    |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   | 355,296    |  
|                                                          |  |              |  |                |        |  |              
|Purchase of treasury stock                                |  |              |  |                |        |  |               |            |   |                  |   | (7,396                                     | ) |  |       |           |  |   |         |   |  |   | (7,396     | )
|                                                          |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   |            |  
|Balance, December 31, 2004                                |  | 3,203,942    |  | $              | 32,039 |  | $             | 23,428,034 |   |                  | $ | (7,396                                     | ) |  | $     | 3,664,301 |  | $ | 241,671 |   |  | $ | 27,358,649 |  
|                                                          |  |              |  |                |        |  |               |            |   |                  |   |                                            |   |  |       |           |  |   |         |   |  |   |            |  



The accompanying notes
are an integral part of the consolidated financial statements.



-25-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Consolidated Statements of Cash Flows



|                                                                                            |  |                                  |              |   |      |   |             |  
|------------------------------------------------------------------------------------------- |  | -------------------------------- | ------------ | - | ---- | - | ----------- | -
|                                                                                            |  | For the years ended December 31, |             
|                                                                                            |  | 2004                             |              |   | 2003 |  
|Cash flows from operating activities:                                                       |  |                                  |              |   |      |   |             |  
|Net income                                                                                  |  | $                                | 1,338,699    |   |      | $ | 1,015,799   |  
|Adjustments to reconcile net income to net cash provided (used) by operating activities:    |  |                                  |              |   |      |   |             |  
|Provision for loan losses                                                                   |  |                                  | 1,361,762    |   |      |   | 791,650     |  
|Depreciation and amortization expense                                                       |  |                                  | 774,313      |   |      |   | 474,926     |  
|Gain on sales of securities available-for-sales                                             |  |                                  | (5,971       | ) |      |   | (2,991      | )
|Discount accretion and premium amortization                                                 |  |                                  | 108,066      |   |      |   | 184,128     |  
|Disbursements for mortgages held for sale                                                   |  |                                  | (25,160,598  | ) |      |   | (32,577,008 | )
|Proceeds from sales of mortgages held for sale                                              |  |                                  | 24,799,335   |   |      |   | 33,362,756  |  
|Writedown of other real estate owned                                                        |  |                                  | 58,000       |   |      |   | 16,611      |  
|(Gain) loss on sale of other real estate owned                                              |  |                                  | 18,815       |   |      |   | (6,256      | )
|Deferred income tax provision (benefit)                                                     |  |                                  | (50,801      | ) |      |   | 27,915      |  
|Increase in interest receivable                                                             |  |                                  | (509,010     | ) |      |   | (251,073    | )
|Increase in interest payable                                                                |  |                                  | 299,784      |   |      |   | 65,272      |  
|Increase in other assets                                                                    |  |                                  | (4,215,353   | ) |      |   | (772,000    | )
|Increase (decrease) in other liabilities                                                    |  |                                  | 116,997      |   |      |   | (53,131     | )
|                                                                                            |  |                                  |              |   |      |   |             |  
|Net cash provided (used) by operating activities                                            |  |                                  | (1,065,962   | ) |      |   | 2,276,598   |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Cash flows from investing activities:                                                       |  |                                  |              |   |      |   |             |  
|Purchases of securities available-for-sale                                                  |  |                                  | (11,232,623  | ) |      |   | (11,561,638 | )
|Maturities of securities available-for-sale                                                 |  |                                  | 4,268,455    |   |      |   | 6,067,811   |  
|Proceeds from sales of securities available-for-sale                                        |  |                                  | 5,976,385    |   |      |   | 1,099,463   |  
|Purchases of nonmarketable equity securities                                                |  |                                  | (839,700     | ) |      |   | (1,008,100  | )
|Proceeds from the sales of nonmarketable equity securities                                  |  |                                  | 180,000      |   |      |   | 150,000     |  
|Net increase in loans receivable                                                            |  |                                  | (99,855,322  | ) |      |   | (60,137,622 | )
|Purchases of premises, furniture and equipment                                              |  |                                  | (643,405     | ) |      |   | (2,535,984  | )
|Proceeds from disposal of premises, furniture and equipment                                 |  |                                  |             |   |      |   | 369,541     |  
|Proceeds from sale of other real estate owned                                               |  |                                  | 408,455      |   |      |   | 185,729     |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Net cash used by investing activities                                                       |  |                                  | (101,737,755 | ) |      |   | (67,370,800 | )
|                                                                                            |  |                                  |              |   |      |   |             |  
|Cash flows from financing activities:                                                       |  |                                  |              |   |      |   |             |  
|Net increase in demand deposits, interest-bearing transaction accounts and savings accounts |  |                                  | 36,217,217   |   |      |   | 4,714,888   |  
|Net increase in certificates of deposit and other time deposits                             |  |                                  | 49,861,660   |   |      |   | 34,376,982  |  
|Increase in advances from Federal Home Loan Bank                                            |  |                                  | 8,800,000    |   |      |   | 14,600,000  |  
|Increase (decrease) in federal funds purchased                                              |  |                                  | (1,043,000   | ) |      |   | 1,043,000   |  
|Net increase (decrease) in securities sold under agreements to repurchase                   |  |                                  | 698,333      |   |      |   | 481,820     |  
|Stock issuance costs                                                                        |  |                                  | (75,960      | ) |      |   | (86,752     | )
|Exercise of stock options                                                                   |  |                                  |             |   |      |   | 52,000      |  
|Proceeds from stock issuance                                                                |  |                                  | 8,050,000    |   |      |   | 8,059,439   |  
|Issuance of shares to ESOP                                                                  |  |                                  | 355,296      |   |      |   |            |  
|Purchase of treasury stock                                                                  |  |                                  | (7,396       | ) |      |   |            |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Net cash provided by financing activities                                                   |  |                                  | 102,856,150  |   |      |   | 63,241,377  |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Net increase (decrease) in cash and cash equivalents                                        |  |                                  | 52,433       |   |      |   | (1,852,825  | )
|Cash and cash equivalents, beginning of year                                                |  |                                  | 4,793,102    |   |      |   | 6,645,927   |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Cash and cash equivalents, end of year                                                      |  | $                                | 4,845,535    |   |      | $ | 4,793,102   |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Cash paid during the year for:                                                              |  |                                  |              |   |      |   |             |  
|Income taxes                                                                                |  | $                                | 658,331      |   |      | $ | 500,598     |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Interest                                                                                    |  | $                                | 3,761,284    |   |      | $ | 2,394,863   |  
|                                                                                            |  |                                  |              |   |      |   |             |  
|Supplemental noncash investing and financing activities:                                    |  |                                  |              |   |      |   |             |  
|Foreclosures on loans                                                                       |  | $                                | 526,475      |   |      | $ | 373,305     |  
|                                                                                            |  |                                  |              |   |      |   |             |  



The accompanying notes
are an integral part of the consolidated financial statements.



-26-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES



Organization - First Reliance Bancshares, Inc. (the Company) was incorporated
to serve as a bank holding company for its subsidiary, First Reliance Bank (the Bank). First Reliance Bank was incorporated on August 9, 1999 and commenced business on August 16, 1999. The principal business activity of the Bank is to provide
banking services to domestic markets, principally in Florence and Lexington Counties in South Carolina. The Bank is a state-chartered commercial Bank, and its deposits are insured by the Federal Deposit Insurance Corporation. The consolidated
financial statements include the accounts of the parent company and its wholly-owned subsidiary after elimination of all significant intercompany balances and transactions.



Managements Estimates - The preparation of consolidated financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.



Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for losses on loans, including valuation
allowances for impaired loans, and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. In connection with the determination of the allowances for losses on loans and foreclosed real estate, management
obtains independent appraisals for significant properties. Management must also make estimates in determining the estimated useful lives and methods for depreciating premises and equipment.



While management uses available information to recognize losses on loans and foreclosed real
estate, future additions to the allowances may be necessary based on changes in local economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Companys allowances for
losses on loans and foreclosed real estate. Such agencies may require the Company to recognize additions to the allowances based on their judgments about information available to them at the time of their examinations. Because of these factors, it
is reasonably possible that the allowances for losses on loans and foreclosed real estate may change materially in the near term.



Significant Group Concentrations of Credit Risk - Most of the Companys activities are with customers located within Florence County and Lexington
County in South Carolina. The types of securities in which the Company invests are discussed in Note 4. The types of lending in which the Company engages are discussed in Note 5. The Company does not have any significant concentrations with any one
industry or customer.



Securities Available-for-Sale - Securities
available-for-sale are carried at amortized cost and adjusted to estimated market value by recognizing the aggregate unrealized gains or losses in a valuation account. Aggregate market valuation adjustments are recorded in shareholders equity
net of deferred income taxes. Reductions in market value considered by management to be other than temporary are reported as a realized loss and a reduction in the cost basis of the security. The adjusted cost basis of investments available-for-sale
is determined by specific identification and is used in computing the gain or loss upon sale.



Nonmarketable Equity Securities - Nonmarketable equity securities include the cost of the Companys investment in the stock of Federal Home Loan Bank and the stock of another community bank holding
company. The stock has no quoted market value and no ready market exists. Investment in the Federal Home Loan Bank is a condition of borrowing from the Federal Home Loan Bank, and the stock is pledged to collateralize such borrowings. At December
31, 2004 and 2003, the Companys investment in Federal Home Loan Bank stock was $1,614,700 and $955,000, respectively. Dividends received on this stock is included as a separate component of interest income. In 2003, the Company purchased
$100,000 of common stock in Tidelands Bancshares, Inc., the holding company for Tidelands Bank in Mount Pleasant, South Carolina. Its investment in this stock was $100,000 at December 31, 2004 and 2003, respectively.





-27-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES-
continued



Loans receivable - Loans receivable
are stated at their unpaid principal balance. Interest income is computed using the simple interest method and is recorded in the period earned.



When serious doubt exists as to the collectibility of a loan or when a loan becomes contractually ninety days past due as to principal or interest, interest income is
generally discontinued unless the estimated net realizable value of collateral exceeds the principal balance and accrued interest. When interest accruals are discontinued, income earned but not collected is reversed.



Impaired loans are measured based on the present value of discounted expected cash flows.
When it is determined that a loan is impaired, a direct charge to bad debt expense is made for the difference between the net present value of expected future cash flows based on the contractual rate and discount rate and the Companys recorded
investment in the related loan. The corresponding entry is to a related allowance account. Interest is discontinued on impaired loans when management determines that a borrower may be unable to meet payments as they become due.



Allowance for Loan Losses - An allowance for loan losses is maintained at a
level deemed appropriate by management to provide adequately for known and inherent risks in the loan portfolio. The allowance is based upon a continuing review of past loan loss experience, current and future economic conditions which may affect
the borrowers ability to pay and the underlying collateral value of the loans. Loans, which are deemed to be uncollectible, are charged off and deducted from the allowance. The provision for loan losses and recoveries of loans previously
charged off are added to the allowance.



Residential Mortgages
Held-For-Sale - The Companys mortgage activities are comprised of accepting residential mortgage loan applications, qualifying borrowers to standards established by investors, funding residential mortgages and selling mortgages to
investors under pre-existing commitments. Funded residential mortgages held temporarily for sale to investors are recorded at the lower of cost or market value. Application and originations fees collected by the Company are recognized as income upon
sale to the investor.



Other Real Estate Owned - Other real
estate owned includes real estate acquired through foreclosure. Other real estate owned is carried at the lower of cost (principal balance at the date of foreclosure) or fair value minus estimated costs to sell. Any write-downs at the date of
foreclosure are charged to the allowance for loan losses. Expenses to maintain such assets, subsequent changes in the valuation allowance, and gains and losses on disposal are included in other expenses.



Premises, Furniture and Equipment - Premises, furniture and equipment are
stated at cost, less accumulated depreciation. The provision for depreciation is computed by the straight-line method, based on the estimated useful lives for buildings of 40 years and furniture and equipment of 5 to 10 years. Leasehold improvements
are being amortized over 20 years. The cost of assets sold or otherwise disposed of and the related allowance for depreciation is eliminated from the accounts and the resulting gains or losses are reflected in the income statement when incurred.
Maintenance and repairs are charged to current expense. The costs of major renewals and improvements are capitalized.



Income Taxes - Income taxes are the sum of amounts currently payable to taxing authorities and the net changes in income taxes payable or refundable in
future years. Income taxes deferred to future years are determined utilizing a liability approach. This method gives consideration to the future tax consequences associated with differences between financial accounting and tax bases of certain
assets and liabilities which are principally the allowance for loan losses and depreciable premises and equipment.



Advertising Expense - Advertising and public relations costs are generally expensed as incurred. External costs incurred in producing media advertising are
expensed the first time the advertising takes place. External costs relating to direct mailing costs are expended in the period in which the direct mailings are sent. Advertising and public relations costs of $100,504 and $73,284, were included in
the Companys results of operations for 2004 and 2003.





-28-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -continued



Retirement Benefits - A trusteed retirement savings plan is
sponsored by the Company and provides retirement benefits to substantially all officers and employees who meet certain age and service requirements. The plan includes a salary reduction feature pursuant to Section 401(k) of the Internal
Revenue Code. In 2003, the Company converted the 401(k) plan to a 404(c) plan. The 404 (c) plan changes investment alternatives to include the Companys stock. Under the plan and present policies, participants are permitted to make
contributions up to 15% of their annual compensation. At its discretion, the Company can make matching contributions up to 6% of the participants compensation. The Company charged $78,063 and $60,840 to earnings for the retirement savings plan
in 2004 and 2003, respectively.



In 2004, the Company enacted a Stock
Appreciation Rights (SARS) plan and Virtual Stock Plan which serve as deferred compensation for its executives. Both policies are based on the appreciation of the Companys stock over the executives service period during which time the
Company accrues the deferred compensation based on the number of notional shares the executive is granted. The granting of the notional shares under both plans is at the discretion of the Companys Board of Directors. Both plans have required
service periods for the executives to become vested in the retirement benefits. Each plan pays out the executives over a 180 month period following their retirement. During 2004 the Company recognized $4,638 in compensation expense related to the
Virtual Stock Plan and no expense related to the SARS Plan.



Stock-Based
Compensation - The Company has a stock-based employee compensation plan which is further described in Note 16. The Company accounts for the plan under the recognition and measurement principles of Accounting Principles Board
(APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all stock options granted under these plans had an exercise
price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share as if the Company had applied the fair value recognition provisions of Financial
Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation.



|                                                                                                                                            |  |                                 |           |      |   |          
|------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | --------- | ---- | - | ---------
|                                                                                                                                            |  | For the years endedDecember 31,
|                                                                                                                                            |  | 2004                            |           | 2003
|Net income, as reported                                                                                                                     |  | $                               | 1,338,699 |      | $ | 1,015,799
|Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax
effects |  |                                 | 234,770   |      |   | 139,102  
|                                                                                                                                            |  |                                 |           |      |   |          
|Pro forma net income                                                                                                                        |  | $                               | 1,103,929 |      | $ | 876,697  
|                                                                                                                                            |  |                                 |           |      |   |          
|Earnings per share:                                                                                                                         |  |                                 |           |      |   |          
|Basic - as reported                                                                                                                         |  | $                               | 0.52      |      | $ | 0.48     
|                                                                                                                                            |  |                                 |           |      |   |          
|Basic - pro forma                                                                                                                           |  | $                               | 0.43      |      | $ | 0.41     
|                                                                                                                                            |  |                                 |           |      |   |          
|Diluted - as reported                                                                                                                       |  | $                               | 0.48      |      | $ | 0.46     
|                                                                                                                                            |  |                                 |           |      |   |          
|Diluted - pro forma                                                                                                                         |  | $                               | 0.40      |      | $ | 0.40     
|                                                                                                                                            |  |                                 |           |      |   |          



In calculating the pro forma
disclosures, the fair value of options granted is estimated as of the date granted using the Black-Scholes option pricing model with the following weighted-average assumptions:



|                        |  |          |   |  |          |  
|----------------------- |  | -------- | - |  | -------- | -
|                        |  | 2004     |   |  | 2003     |  
|Dividend yield          |  | 0.00     | % |  | 0.00     | %
|Expected volatility     |  | 44.47    | % |  | 86.77    | %
|Risk-free interest rate |  | 4.38     | % |  | 3.98     | %
|Expected life           |  | 10 years |   |  | 10 years |  



-29-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES-continued



Common Stock Owned by the
Employee Stock Ownership Plan (ESOP) - All shares held by the ESOP are treated as outstanding for purposes of computing earnings per share. ESOP purchases and redemptions of the Companys common stock are at estimated fair value as
determined by independent valuations. Dividends on ESOP shares are charged to retained earnings. At December 31, 2004, the ESOP owned 38,782 shares of the Companys common stock with an estimated value of $486,714. All of these shares were
allocated. At December 31, 2003, the ESOP owned 17,991 shares of the Companys common stock with an estimated value of $171,454. Of this total, 6,950 shares were allocated and 11,042 were unallocated. Contributions to the ESOP in 2004 and 2003
were $35,189 and $30,428, respectively.



Earnings Per Share -
Basic earnings per share represents income available to shareholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflect additional common shares that would have been outstanding
if dilutive potential common shares had been issued. Potential common shares that may be issued by the Company relate solely to outstanding stock options and are determined using the treasury stock method (see Note 15).



Comprehensive Income - Accounting principles generally require that recognized
income, expenses, gains, and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of
the balance sheet, such items, along with net income, are components of comprehensive income.



The components of other comprehensive income and related tax effects are as follows:



|                                                             |  |                                  |         |   |      |   |         |  
|------------------------------------------------------------ |  | -------------------------------- | ------- | - | ---- | - | ------- | -
|                                                             |  | For the years ended December 31, |        
|                                                             |  | 2004                             |         |   | 2003 |  
|Unrealized gains (losses) on securities available-for-sale:  |  | $                                | (7,014  | ) |      | $ | 30,980  |  
|Reclassification adjustment for gains realized in net income |  |                                  | (5,971  | ) |      |   | (2,990  | )
|                                                             |  |                                  |         |   |      |   |         |  
|Net unrealized gains (losses) on securities                  |  |                                  | (12,985 | ) |      |   | 27,990  |  
|Tax effect                                                   |  |                                  | 8,356   |   |      |   | (10,015 | )
|                                                             |  |                                  |         |   |      |   |         |  
|Net-of-tax amount                                            |  | $                                | (4,629  | ) |      | $ | 17,975  |  
|                                                             |  |                                  |         |   |      |   |         |  



Statements of Cash Flows
- For purposes of reporting cash flows in the consolidated financial statements, the Company considers certain highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. Cash equivalents include amounts
due from banks and federal funds sold. Generally, federal funds are sold for one-day periods.



Changes in the valuation account of securities available-for-sale, including the deferred tax effects, are considered noncash transactions for purposes of the statement of cash flows and are presented in detail in the
notes to the consolidated financial statements.



Off-Balance-Sheet
Financial Instruments - In the ordinary course of business, the Company enters into off-balance-sheet financial instruments consisting of commitments to extend credit and letters of credit. These financial instruments are recorded in the
consolidated financial statements when they become payable by the customer.



-30-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - continued



Recent Accounting Pronouncements -In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets,
an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions. The amendments made by SFAS No. 153 are based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets
exchanged. Further, the amendments eliminate the narrow exception for nonmonetary exchanges of similar productive assets and replace it with a broader exception for exchanges of nonmonetary assets that do not have commercial substance. Previously,
Accounting Principles Board (APB) Opinion No. 29 required that the accounting for an exchange of a productive asset for a similar productive asset or an equivalent interest in the same or similar productive asset should be based on the
recorded amount of the asset relinquished. APB Opinion No. 29 provided an exception to its basic measurement principle (fair value) for exchanges of similar productive assets. SFAS No. 153 is effective for nonmonetary asset exchanges occurring in
fiscal periods beginning after June 15, 2005. Earlier application is permitted for nonmonetary asset exchanges occurring in fiscal periods beginning after the date of issuance. The provisions of this statement shall be applied prospectively. The
adoption of this statement is not expected to have a material impact on the financial condition or operating results of the Company.



In December 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based Payment (SFAS No. 123(R)). SFAS No. 123(R) will require
companies to measure all employee stock-based compensation awards using a fair value method and record such expense in its financial statements. In addition, the adoption of SFAS No. 123(R) requires additional accounting and disclosure related to
the income tax and cash flow effects resulting from share-based payment arrangements. SFAS No. 123(R) is effective beginning as of the first interim or annual reporting period beginning after December 15, 2005. The Company is currently
evaluating the impact that the adoption of SFAS No. 123(R) will have on its financial position, results of operations and cash flows.



In December 2003, the FASB issued FIN No. 46 (revised), Consolidation of Variable Interest Entities (FIN No. 46(R)), which addresses
consolidation by business enterprises of variable interest entities. FIN No. 46(R) requires a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest
entitys activities or entitled to receive a majority of the entitys residual returns, or both. FIN No. 46(R) also requires disclosures about variable interest entities that a company is not required to consolidate, but in which it has a
significant variable interest. FIN No. 46(R) provides guidance for determining whether an entity qualifies as a variable interest entity by considering, among other considerations, whether the entity lacks sufficient equity or its equity holders
lack adequate decision-making ability. The consolidation requirements of FIN No. 46(R) applied immediately to variable interest entities created after January 31, 2003. The consolidation requirements applied to the Companys existing variable
interest entities in the first reporting period ending after December 15, 2004.Certain of the disclosure requirements applied to all financial statements issued after December 31, 2003, regardless of when the variable interest entity
was established. The adoption of FIN No. 46(R) did not have any impact on the Companys financial position or results of operations.



In November 2003, the Emerging Issues Task Force (EITF) reached a consensus that certain quantitative and qualitative disclosures should be required for debt
and marketable equity securities classified as available-for-sale or held-to-maturity under SFAS No. 115 and SFAS No. 124 that are impaired at the balance sheet date but for which other-than-temporary impairment has not been recognized. Accordingly
the EITF issued EITF No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. This issue addresses the meaning of other-than-temporary impairment and its application to investments classified
as either available-for-sale or held-to-maturity under SFAS No. 115 and provides guidance on quantitative and qualitative disclosures. The disclosure requirements of EITF No. 03-1 are effective for annual financial statements for fiscal years ending
after June 15, 2004. The effective date for the measurement and recognition guidance of EITF No. 03-1 has been delayed. The FASB staff has issued a proposed Board-directed FASB Staff Position (FSP), FSP EITF 03-1-a,
Implementation Guidance for the Application of Paragraph 16 of Issue No. 03-1. The proposed FSP would provide implementation guidance with respect to debt securities that are impaired solely due to interest rates and/or sector
spreads and analyzed for other-than-temporary impairment under the measurement and recognition requirements of EITF No. 03-1. The delay of the effective date for the measurement and recognition requirements of EITF No. 03-1 will be superseded
concurrent with the final issuance of FSP EITF 03-1-a. Adopting the disclosure provisions of EITF No. 03-1 did not have any impact on the Companys financial position or results of operations.



-31-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - continued



Recent Accounting Pronouncements(continued) - In March 2004, the Securities and Exchange Commission (SEC)
issued Staff Accounting Bulletin (SAB) No. 105, Application of Accounting Principles to Loan Commitments, to inform registrants of the Staffs view that the fair value of the recorded loan commitments should not
consider the expected future cash flows related to the associated servicing of the future loan. The provisions of SAB No. 105 must be applied to loan commitments accounted for as derivatives that are entered into after March 31, 2004. The Staff will
not object to the application of existing accounting practices to loan commitments accounted for as derivatives that are entered into on or before March 31, 2004, with appropriate disclosures. The Company adopted the provisions of SAB No. 105 on
April 1, 2004. The adoption of SAB No. 105 did not have a material impact on the Companys financial condition or results of operations.



Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies that do not require adoption until a future date are not
expected to have a material impact on the consolidated financial statements upon adoption.



Risks and Uncertainties - In the normal course of its business, the Company encounters two significant types of risks: economic and regulatory. There are three main components of economic risk: interest
rate risk, credit risk and market risk. The Company is subject to interest rate risk to the degree that its interest-bearing liabilities mature or reprice at different speeds, or on different basis, than its interest-earning assets. Credit risk is
the risk of default on the Companys loan portfolio that results from borrowers inability or unwillingness to make contractually required payments. Market risk reflects changes in the value of collateral underlying loans receivable and
the valuation of real estate held by the Company.



The Company is subject to
the regulations of various governmental agencies. These regulations can and do change significantly from period to period. The Company also undergoes periodic examinations by the regulatory agencies, which may subject it to further changes with
respect to asset valuations, amounts of required loss allowances and operating restrictions from the regulators judgments based on information available to them at the time of their examination.



Reclassifications - Certain captions and amounts in the 2003 consolidated
financial statements were reclassified to conform with the 2004 presentation.



-32-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 2 - STOCK OFFERING



The Company completed a private placement stock offering during the fourth quarter of 2004
whereby 700,000 shares of the Companys common stock were issued at an offering price of $11.50 per share. The gross proceeds from the offering were $8,050,000 and expenses related to the offering totaled $75,960. The proceeds will be used to
support future loan production and asset growth, as well as fund the Companys planned expansion into the Lexington, South Carolina, and Charleston and Mount Pleasant, South Carolina, market areas (see Note 14). The Company completed a stock
offering during the second quarter of 2003 whereby 1,007,430 shares of the Companys common stock were issued at an offering price of $8.00 per share. The gross proceeds from the offering were $8,059,439 and expenses related to the offering
totaled $162,965. The proceeds were used to support loan production and asset growth, as well as fund the Companys expansion into the Lexington, South Carolina market area.



NOTE 3 - CASH AND DUE FROM BANKS



The Company is required to maintain balances with The Federal Reserve computed as a percentage of deposits. At December 31, 2004 and 2003, this requirement was $1,105,000
and $807,000, respectively. This requirement was met by vault cash and balances on deposit with the Federal Reserve.



NOTE 4 - INVESTMENT SECURITIES



The amortized cost and estimated fair values of securities available-for-sale were:



|                           |  |               |            |                  |        |                     |  |   |         |  |   |           
|-------------------------- |  | ------------- | ---------- | ---------------- | ------ | ------------------- |  | - | ------- |  | - | ----------
|                           |  | AmortizedCost |            | Gross Unrealized |        | EstimatedFair Value
|                           |  |               | Gains      |                  | Losses |                    
|December 31, 2004          |  |               |            |                  |        |                     |  |   |         |  |   |           
|U.S. Government agencies   |  | $             | 2,424,872  |                  | $      | 49,176              |  | $ |        |  | $ | 2,474,048 
|Mortgage-backed securities |  |               | 14,863,372 |                  |        | 29,954              |  |   | 110,661 |  |   | 14,782,665
|Municipals                 |  |               | 10,914,216 |                  |        | 398,036             |  |   | 1,299   |  |   | 11,310,953
|                           |  |               |            |                  |        |                     |  |   |         |  |   |           
|                           |  | $             | 28,202,460 |                  | $      | 477,166             |  | $ | 111,960 |  | $ | 28,567,666
|                           |  |               |            |                  |        |                     |  |   |         |  |   |           
|December 31, 2003          |  |               |            |                  |        |                     |  |   |         |  |   |           
|U.S. Government agencies   |  | $             | 3,634,893  |                  | $      | 65,808              |  | $ |        |  | $ | 3,700,701 
|Mortgage-backed securities |  |               | 15,196,513 |                  |        | 78,452              |  |   | 79,452  |  |   | 15,195,513
|Municipals                 |  |               | 8,485,366  |                  |        | 311,012             |  |   | 3,600   |  |   | 8,792,778 
|                           |  |               |            |                  |        |                     |  |   |         |  |   |           
|                           |  | $             | 27,316,772 |                  | $      | 455,272             |  | $ | 83,052  |  | $ | 27,688,992
|                           |  |               |            |                  |        |                     |  |   |         |  |   |           



For the years ended December 31, 2004
and 2003, proceeds from the sales of securities available-for-sale amounted to $5,976,385 and $1,099,463, respectively. Gross realized gains amounted to $5,971 and $2,991, respectively. There were no gross realized losses.



The following is a summary of maturities of securities available-for-sale as of December 31,
2004. The amortized cost and estimated fair values are based on the contractual maturity dates. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalty.



|                                          |  |                               |            |                      |   |           
|----------------------------------------- |  | ----------------------------- | ---------- | -------------------- | - | ----------
|                                          |  | Securities Available-For-Sale
|                                          |  | Amortized Cost                |            | Estimated Fair Value
|Due in less than one year                 |  | $                             | 611,000    |                      | $ | 613,977   
|Due after one year but within five years  |  |                               | 1,945,204  |                      |   | 1,981,608 
|Due after five years but within ten years |  |                               | 1,810,637  |                      |   | 1,851,625 
|Due after ten years                       |  |                               | 8,972,247  |                      |   | 9,337,791 
|                                          |  |                               |            |                      |   |           
|                                          |  |                               | 13,339,088 |                      |   | 13,785,001
|Mortgage-backed securities                |  |                               | 14,863,372 |                      |   | 14,782,665
|                                          |  |                               |            |                      |   |           
|Total                                     |  | $                             | 28,202,460 |                      | $ | 28,567,666
|                                          |  |                               |            |                      |   |           





-33-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 4 - INVESTMENT SECURITIES- continued



The following table shows gross unrealized losses and fair value, aggregated by investment
category, and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2004.



Securities Available for Sale



|                           |  |                         |           |                       |   |            |  |                  |           |            |   |                  |  |   |            |  |   |        
|-------------------------- |  | ----------------------- | --------- | --------------------- | - | ---------- |  | ---------------- | --------- | ---------- | - | ---------------- |  | - | ---------- |  | - | -------
|                           |  | Less than twelve months |           | Twelve months or more |   | Total     
|                           |  | Fair value              |           | Unrealizedlosses      |   | Fair value |  | Unrealizedlosses |           | Fair value |   | Unrealizedlosses
|Municipals                 |  | $                       |          |                       | $ |           |  | $                | 392,172   |            | $ | 1,299            |  | $ | 392,172    |  | $ | 1,299  
|Mortgage-backed securities |  |                         | 7,598,150 |                       |   | 51,772     |  |                  | 5,477,963 |            |   | 58,889           |  |   | 13,076,113 |  |   | 110,661
|                           |  |                         |           |                       |   |            |  |                  |           |            |   |                  |  |   |            |  |   |        
|Total                      |  | $                       | 7,598,150 |                       | $ | 51,772     |  | $                | 5,870,135 |            | $ | 60,188           |  | $ | 13,468,285 |  | $ | 111,960
|                           |  |                         |           |                       |   |            |  |                  |           |            |   |                  |  |   |            |  |   |        



All of the Companys investments
that were in an unrealized loss position at December 31, 2004, have been evaluated and deemed not to be other-than-temporary under authoritative accounting guidance. In all cases, the principal cause of the decline in market value was due to the
increase in market interest rates subsequent to purchase of the securities. Three of these were mortgage-backed securities and one was a municipal security.



At December 31, 2004 and 2003, securities with amortized costs of $13,485,307 and $6,986,863 and estimated fair values of $13,634,554 and $7,201,019, respectively, were
pledged to secure public deposits and for other purposes as required and permitted by law.



NOTE 5 - LOANS RECEIVABLE



Major
classifications of loans receivable are summarized as follows:



|                               |  |              |             |      |   |            
|------------------------------ |  | ------------ | ----------- | ---- | - | -----------
|                               |  | December 31,
|                               |  | 2004         |             | 2003
|Mortgage loans on real estate: |  |              |             |      |   |            
|Residential 1-4 family         |  | $            | 50,429,754  |      | $ | 31,343,019 
|Multifamily                    |  |              | 2,786,453   |      |   | 2,911,953  
|Commercial                     |  |              | 63,188,726  |      |   | 32,826,091 
|Construction                   |  |              | 39,023,385  |      |   | 18,343,137 
|Second mortgages               |  |              | 5,311,537   |      |   | 5,124,025  
|                               |  |              |             |      |   |            
|Equity lines of credit         |  |              | 14,179,437  |      |   | 5,799,778  
|                               |  |              | 174,919,292 |      |   | 96,348,003 
|Commercial and industrial      |  |              | 47,890,104  |      |   | 27,893,370 
|Consumer                       |  |              | 13,931,133  |      |   | 13,199,988 
|Other                          |  |              | 1,621,563   |      |   | 1,947,703  
|                               |  |              |             |      |   |            
|Total gross loans              |  | $            | 238,362,092 |      | $ | 139,389,064
|                               |  |              |             |      |   |            



The Company has pledged certain loans
as collateral to secure its borrowings from the Federal Home Loan Bank. The total of loans pledged was $67,395,644 at December 31, 2004 (see Note 9).



The Company identifies impaired loans through its normal internal loan review process. Loans on the Companys problem loan watch list are considered potentially
impaired loans. These loans are evaluated in determining whether all outstanding principal and interest are expected to be collected. Loans are not considered impaired if a minimal delay occurs and all amounts due including accrued interest at the
contractual interest rate for the period of delay are expected to be collected. At December 31, 2004 and 2003, management has determined that no impairment of loans existed that would be material to the consolidated financial statements.



-34-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 5 - LOANS RECEIVABLE - continued



Transactions in the allowance for loan losses are summarized below:



|                                           |  |                                  |           |   |      |   |           |  
|------------------------------------------ |  | -------------------------------- | --------- | - | ---- | - | --------- | -
|                                           |  | For the years ended December 31, |          
|                                           |  | 2004                             |           |   | 2003 |  
|Balance, beginning of year                 |  | $                                | 1,752,282 |   |      | $ | 1,137,337 |  
|Provision charged to operations            |  |                                  | 1,361,762 |   |      |   | 791,650   |  
|Recoveries on loans previously charged-off |  |                                  | 35,156    |   |      |   | 17,850    |  
|Loans charged-off                          |  |                                  | (390,975  | ) |      |   | (194,555  | )
|                                           |  |                                  |           |   |      |   |           |  
|Balance, end of year                       |  | $                                | 2,758,225 |   |      | $ | 1,752,282 |  
|                                           |  |                                  |           |   |      |   |           |  



As of December 31, 2004, there were
$59,148 in loans past due ninety days or more and still accruing interest and $1,186,183 in loans in nonaccrual status. There were $433,622 in loans past due ninety days or more and still accruing interest and no loans in nonaccrual status at
December 31, 2003.



Loans sold with limited recourse are 1-4 family residential
mortgages originated by the Company and sold to various other financial institutions. These loans are sold with the agreement that a loan may be returned to the Company at any time in the event the Company fails to provide necessary documents
related to the mortgages to the buyers, or if it makes false representations or warranties to the buyers. Loans sold under these agreements in 2004 total $24,799,335. The Company uses the same credit policies in making loans held for sale as it does
for on-balance-sheet instruments.



The Company is a party to financial
instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments consist of commitments to extend credit and standby letters of credit. Commitments to extend credit
are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. A commitment
involves, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet. The Companys exposure to credit loss in the event of nonperformance by the other party to the instrument is
represented by the contractual notional amount of the instrument. Since certain commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company uses the
same credit policies in making commitments to extend credit as it does for on-balance-sheet instruments. Letters of credit are conditional commitments issued to guarantee a customers performance to a third party and have essentially the same
credit risk as other lending facilities.



Collateral held for commitments to
extend credit and standby letters of credit varies but may include accounts receivable, inventory, property, plant, equipment, and income-producing commercial properties.



The following table summarizes the Companys off-balance-sheet financial instruments whose contract amounts represent credit risk:



|                             |  |              |            |      |   |           
|---------------------------- |  | ------------ | ---------- | ---- | - | ----------
|                             |  | December 31,
|                             |  | 2004         |            | 2003
|Commitments to extend credit |  | $            | 31,702,000 |      | $ | 19,621,000
|Standby letters of credit    |  |              | 720,000    |      |   | 169,000   



Management is not aware of any
significant concentrations of loans to classes of borrowers or industries that would be affected similarly by economic conditions. Although the Companys loan portfolio is diversified, a substantial portion of its borrowers ability to
honor the terms of their loans is dependent on the economic conditions in Florence County, Lexington County and surrounding areas.





-35-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 6 - PREMISES, FURNITURE AND EQUIPMENT



Premises, furniture and equipment consisted of the following:



|                               |  |              |           |      |   |          
|------------------------------ |  | ------------ | --------- | ---- | - | ---------
|                               |  | December 31,
|                               |  | 2004         |           | 2003
|Land                           |  | $            | 1,305,609 |      | $ | 1,305,609
|Building                       |  |              | 4,048,181 |      |   | 3,828,188
|Leasehold improvements         |  |              | 117,197   |      |   |         
|Furniture and equipment        |  |              | 1,881,453 |      |   | 1,597,790
|Construction in progress       |  |              | 22,552    |      |   |         
|                               |  |              |           |      |   |          
|Total                          |  |              | 7,374,992 |      |   | 6,731,587
|Less, accumulated depreciation |  |              | 1,483,590 |      |   | 934,768  
|                               |  |              |           |      |   |          
|Premises and equipment, net    |  | $            | 5,891,402 |      | $ | 5,796,819
|                               |  |              |           |      |   |          



Depreciation expense for the years
ended December 31, 2004 and 2003 amounted to $548,822 and $362,989, respectively.



NOTE 7 - DEPOSITS



At December
31, 2004, the scheduled maturities of time deposits were as follows:



|            |  |        |            
|----------- |  | ------ | -----------
|Maturing In |  | Amount
|2005        |  | $      | 78,123,718 
|2006        |  |        | 22,095,598 
|2007        |  |        | 25,767,475 
|2008        |  |        | 7,664,635  
|2009        |  |        | 2,457,032  
|            |  |        |            
|Total       |  | $      | 136,108,458
|            |  |        |            



Included in total time deposits at
December 31, 2004 and 2003 were brokered time deposits of $51,598,000 and $22,607,000, respectively.



NOTE 8 - SHORT-TERM BORROWINGS



Short-term borrowings payable are securities sold under agreements to repurchase which generally mature on a one to thirty day basis. Information concerning securities sold under agreements to repurchase is summarized as follows:



|                                          |  |                                  |           |   |      |   |           |  
|----------------------------------------- |  | -------------------------------- | --------- | - | ---- | - | --------- | -
|                                          |  | For the years ended December 31, |          
|                                          |  | 2004                             |           |   | 2003 |  
|Balance at end of the year                |  | $                                | 3,061,903 |   |      | $ | 2,363,570 |  
|Average balance during the year           |  |                                  | 2,460,237 |   |      |   | 2,272,905 |  
|Average interest rate during the year     |  |                                  | 0.83      | % |      |   | 0.45      | %
|Maximum month-end balance during the year |  |                                  | 3,061,903 |   |      |   | 2,685,868 |  



Under the terms of the repurchase
agreement, the Company sells an interest in securities issued by United States Government agencies and agrees to repurchase the same securities the following business day. As of December 31, 2004 and 2003, the par value and market value of the
securities held by the third-party for the underlying agreements were $4,901,635 and $2,892,448, respectively, and $4,833,784 and $2,790,904, respectively.



-36-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 9 - ADVANCES FROM FEDERAL HOME LOAN BANK



Advances from the Federal Home Loan Bank consisted of the following:



|                                 |  |               |      |  |              |            |  |   |           
|-------------------------------- |  | ------------- | ---- |  | ------------ | ---------- |  | - | ----------
|                                 |  | Interest Rate |      |  | December 31,
|Description                      |  |               | 2004 |  | 2003        
|Fixed rate advances maturing:    |  |               |      |  |              |            |  |   |           
|January 16, 2004                 |  | 3.04          | %    |  | $            | -          |  |   | 500,000   
|April 8, 2004                    |  | 1.67          | %    |  |              |           |  |   | 1,000,000 
|July 1, 2004                     |  | 3.46          | %    |  |              |           |  |   | 500,000   
|January 18, 2005                 |  | 2.24          | %    |  |              | 500,000    |  |   | 500,000   
|April 8, 2005                    |  | 2.04          | %    |  |              | 1,000,000  |  |   | 1,000,000 
|July 1, 2005                     |  | 4.12          | %    |  |              | 500,000    |  |   | 500,000   
|April 10, 2006                   |  | 2.60          | %    |  |              | 1,000,000  |  |   | 1,000,000 
|September 12, 2006               |  | 2.66          | %    |  |              | 3,500,000  |  |   | 3,500,000 
|December 19, 2006                |  | 2.87          | %    |  |              | 1,500,000  |  |   | 1,500,000 
|April 9, 2007                    |  | 3.13          | %    |  |              | 1,000,000  |  |   | 1,000,000 
|July 2, 2007                     |  | 3.56          | %    |  |              | 500,000    |  |   |          
|December 19, 2007                |  | 3.44          | %    |  |              | 1,500,000  |  |   | 1,500,000 
|April 8, 2008                    |  | 3.46          | %    |  |              | 1,000,000  |  |   | 1,000,000 
|March 19, 2009                   |  | 2.48          | %    |  |              | 3,000,000  |  |   |          
|December 10, 2009                |  | 2.56          | %    |  |              | 4,000,000  |  |   |          
|January 17, 2012                 |  | 3.83          | %    |  |              | 1,000,000  |  |   | 1,000,000 
|Variable rate advances maturing: |  |               |      |  |              |            |  |   |           
|March 25, 2004                   |  | 1.15          | %    |  |              |           |  |   | 3,600,000 
|March 25, 2006                   |  | 2.44          | %    |  |              | 6,900,000  |  |   |          
|July 5, 2012                     |  | 4.08          | %    |  |              | 1,000,000  |  |   | 1,000,000 
|                                 |  |               |      |  |              |            |  |   |           
|                                 |  |               |      |  | $            | 27,900,000 |  | $ | 19,100,000
|                                 |  |               |      |  |              |            |  |   |           



Scheduled principal reductions of
Federal Home Loan Bank advances are as follows:



|           |  |        |           
|---------- |  | ------ | ----------
|           |  | Amount
|2005       |  | $      | 8,900,000 
|2006       |  |        | 6,000,000 
|2007       |  |        | 3,000,000 
|2008       |  |        | 1,000,000 
|2009       |  |        | 7,000,000 
|Thereafter |  |        | 2,000,000 
|           |  |        |           
|Total      |  | $      | 27,900,000
|           |  |        |           



As collateral, the Company had pledged
blanket liens on its first mortgage one to four family loans, its multifamily residential property loans, and its revolving, open-end loans secured by 1-4 family residential properties and extended under lines of credit. The aggregate balance of
these loan types was $67,395,644 (see Note 5) at December 31, 2004. In addition, the Companys Federal Home Loan Bank stock is pledged to secure the borrowings. Certain advances are subject to prepayment penalties.



NOTE 10 - RESTRICTIONS ON SHAREHOLDERS EQUITY



South Carolina banking regulations restrict the amount of dividends that can be paid to
shareholders. All of the Banks dividends to First Reliance Bancshares, Inc. and Subsidiary are payable only from the undivided profits of the Bank. At December 31, 2004, the Bank had undivided profits of $3,451,861. The Bank is authorized to
upstream 100% of net income in any calendar year without obtaining the prior approval of the Commissioner of Banking provided that the Bank received a composite rating of one or two at the last Federal or State regulatory examination. Under Federal
Reserve Board regulations, the amounts of loans or advances from the Bank to the parent company are also restricted.



-37-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 11 - OTHER OPERATING EXPENSES



Other operating expenses are summarized below:



|                                            |  |                                  |           |      |   |          
|------------------------------------------- |  | -------------------------------- | --------- | ---- | - | ---------
|                                            |  | For the years ended December 31,
|                                            |  | 2004                             |           | 2003
|Professional fees                           |  | $                                | 193,034   |      | $ | 231,333  
|Office supplies, forms, and stationery      |  |                                  | 144,798   |      |   | 145,689  
|Advertising                                 |  |                                  | 100,504   |      |   | 73,284   
|Data processing and supplies                |  |                                  | 12,597    |      |   | 231,055  
|Employee education and conventions          |  |                                  | 48,502    |      |   | 66,742   
|Computer supplies and software amortization |  |                                  | 342,487   |      |   | 173,110  
|Telephone                                   |  |                                  | 121,249   |      |   | 74,275   
|Directors fees                              |  |                                  | 91,100    |      |   | 74,967   
|Other                                       |  |                                  | 1,367,764 |      |   | 955,459  
|                                            |  |                                  |           |      |   |          
|Total                                       |  | $                                | 2,422,035 |      | $ | 2,025,914
|                                            |  |                                  |           |      |   |          



NOTE 12 - INCOME TAXES



Income tax expense is summarized as follows:



|                                                                                   |  |                                  |          |   |      |   |         |  
|---------------------------------------------------------------------------------- |  | -------------------------------- | -------- | - | ---- | - | ------- | -
|                                                                                   |  | For the years ended December 31, |         
|                                                                                   |  | 2004                             |          |   | 2003 |  
|Currently payable                                                                  |  |                                  |          |   |      |   |         |  
|Federal                                                                            |  | $                                | 707,796  |   |      | $ | 404,933 |  
|State                                                                              |  |                                  | 66,667   |   |      |   | 47,112  |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|Total current                                                                      |  |                                  | 774,463  |   |      |   | 452,045 |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|Deferred income taxes                                                              |  | $                                | (206,314 | ) |      | $ | (39,447 | )
|                                                                                   |  |                                  |          |   |      |   |         |  
|Total income tax expense                                                           |  | $                                | 568,149  |   |      | $ | 412,598 |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|Income tax expense is allocated as follows:                                        |  |                                  |          |   |      |   |         |  
|To continuing operations                                                           |  | $                                | 570,533  |   |      | $ | 403,584 |  
|To shareholders equity                                                            |  |                                  | (2,384   | ) |      |   | 9,014   |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|                                                                                   |  |                                  | $568,149 |   |      | $ | 412,598 |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|                                                                                  
|The components of deferred tax assets and deferred tax liabilities are as follows: | 
|                                                                                   | 
|                                                                                   |  | December 31,                     |         
|                                                                                   |  | 2004                             |          |   | 2003 |  
|Deferred tax assets:                                                               |  |                                  |          |   |      |   |         |  
|Allowance for loan losses                                                          |  | $                                | 814,656  |   |      | $ | 535,359 |  
|Organizational costs                                                               |  |                                  | 15,349   |   |      |   | 12,339  |  
|Other                                                                              |  |                                  | 26,996   |   |      |   | 10,827  |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|Total gross deferred tax assets                                                    |  |                                  | 857,001  |   |      |   | 558,525 |  
|Deferred tax liabilities:                                                          |  |                                  |          |   |      |   |         |  
|Unrealized gain on securities available-for-sale                                   |  |                                  | 123,535  |   |      |   | 125,919 |  
|Accumulated depreciation                                                           |  |                                  | 241,387  |   |      |   | 146,841 |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|Total gross deferred tax liabilities                                               |  |                                  | 364,922  |   |      |   | 272,760 |  
|                                                                                   |  |                                  |          |   |      |   |         |  
|Net deferred tax asset recognized                                                  |  | $                                | 492,079  |   |      | $ | 285,765 |  
|                                                                                   |  |                                  |          |   |      |   |         |  





-38-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 12 - INCOME TAXES- continued



Deferred tax assets represent the future tax benefit of deductible differences and, if it is
more likely than not that a tax asset will not be realized, a valuation allowance is required to reduce the recorded deferred tax assets to net realizable value. As of December 31, 2004, management has determined that it is more likely than not that
the total deferred tax asset will be realized and, accordingly, has not established a valuation allowance. Net deferred tax assets are included in other assets at December 31, 2004 and 2003.



A reconciliation between the income tax expense and the amount computed by applying the
federal statutory rate of 34% to income before income taxes follows:



|                                                    |  |                                 |          |   |      |   |          |  
|--------------------------------------------------- |  | ------------------------------- | -------- | - | ---- | - | -------- | -
|                                                    |  | For the years endedDecember 31, |         
|                                                    |  | 2004                            |          |   | 2003 |  
|Tax expense at statutory rate                       |  | $                               | 649,139  |   |      | $ | 482,590  |  
|State income tax, net of federal income tax benefit |  |                                 | 40,785   |   |      |   | 31,094   |  
|Tax-exempt interest income                          |  |                                 | (141,973 | ) |      |   | (123,245 | )
|Disallowed interest expense                         |  |                                 | 11,918   |   |      |   | 9,650    |  
|Other, net                                          |  |                                 | 10,664   |   |      |   | 3,495    |  
|                                                    |  |                                 |          |   |      |   |          |  
|                                                    |  |                                 | $570,533 |   |      | $ | 403,584  |  
|                                                    |  |                                 |          |   |      |   |          |  



NOTE 13 - RELATED PARTY
TRANSACTIONS



Certain parties (principally certain directors and
executive officers of the Company, their immediate families and business interests) were loan customers of and had other transactions in the normal course of business with the Company. Related party loans are made on substantially the same terms,
including interest rates and collateral, as those prevailing at the time for comparable transactions with unrelated persons and do not involve more than the normal risk of collectibility. As of December 31, 2004 and 2003, the Company had related
party loans totaling $1,509,804 and $2,320,218, respectively. During 2004, $91,806 of advances were made to related parties and repayments totaled $902,220. During 2003, $240,522 of advances were made to related parties and repayments totaled
$381,089.



At December 31, 2004 and 2003, the Company had securities sold under
agreements to repurchase with related parties of $2,007,734 and $1,405,061, respectively.



NOTE 14 - COMMITMENTS AND CONTINGENCIES



In the ordinary course of business, the Company may, from time to time, become a party to legal claims and disputes. At December 31, 2004, management and legal counsel are not aware of any pending or threatened litigation or unasserted
claims or assessments that could result in losses, if any, that would be material to the consolidated financial statements.



The Company has a ground lease on a plot of land in Lexington, South Carolina, where it has a temporary branch location. The operating lease has an initial three year
term which expires December 31, 2006. Additionally, the lease has a renewal provision for seven additional option periods for one year each. Pursuant to an amended agreement reached between the Company and the lessor, the Company has the right to
terminate the ground lease upon the completion of its permanent branch location in Lexington.



The Company has entered into a lease agreement on another plot of land in Lexington. This site will be the location of its permanent branch. The operating lease has an initial thirty-one year lease term, followed by
three five year renewal options.



-39-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 14 - COMMITMENTS AND CONTINGENCIES- continued



The Company has entered into a lease agreement for office space in Charleston County, South Carolina. The operating lease has an initial two year term. The Company will
use the space for a branch location. The Company has a two year renewal option on this leased space.



Rental expense associated with operating leases on real property totaled $33,000 in 2004.



Management estimates the Bank will open its permanent branch facility in Lexington in March of 2006. Under this scenario, minimal future rental payments under
non-cancelable operating leases having remaining terms in excess of one year, for each of the next five years in the aggregate are:



|     |  |   |        
|---- |  | - | -------
|2005 |  | $ | 106,910
|2006 |  |   | 118,925
|2007 |  |   | 75,000 
|2008 |  |   | 75,000 
|2009 |  |   | 75,000 
|     |  |   |        
|     |  | $ | 450,835
|     |  |   |        



The Company has entered into an
agreement to purchase a parcel of land in Charleston County, South Carolina, for $1,150,000. The Company is scheduled to close on this property on January 26, 2005.



NOTE 15 - EARNINGS PER SHARE



Earnings per share - basic is computed by dividing net income by the weighted average number of common shares outstanding. Earnings per share - diluted is computed by
dividing net income by the weighted average number of common shares outstanding and dilutive common share equivalents using the treasury stock method. Dilutive common share equivalents include common shares issuable upon exercise of outstanding
stock options.



|                                                            |  |                                  |           |      |   |          
|----------------------------------------------------------- |  | -------------------------------- | --------- | ---- | - | ---------
|                                                            |  | For the years ended December 31,
|                                                            |  | 2004                             |           | 2003
|Basic earnings per share:                                   |  |                                  |           |      |   |          
|Net income available to common shareholders                 |  | $                                | 1,338,699 |      | $ | 1,015,799
|                                                            |  |                                  |           |      |   |          
|Average common shares outstanding - basic                   |  |                                  | 2,580,251 |      |   | 2,135,285
|                                                            |  |                                  |           |      |   |          
|Basic earnings per share                                    |  | $                                | 0.52      |      | $ | 0.48     
|                                                            |  |                                  |           |      |   |          
|Diluted earnings per share:                                 |  |                                  |           |      |   |          
|Net income available to common shareholders                 |  | $                                | 1,338,699 |      | $ | 1,015,799
|                                                            |  |                                  |           |      |   |          
|Average common shares outstanding - basic                   |  |                                  | 2,580,251 |      |   | 2,135,285
|Incremental shares from assumed conversion of stock options |  |                                  | 182,636   |      |   | 51,010   
|                                                            |  |                                  |           |      |   |          
|Average common shares outstanding - diluted                 |  |                                  | 2,762,887 |      |   | 2,186,295
|                                                            |  |                                  |           |      |   |          
|Diluted earnings per share                                  |  | $                                | 0.48      |      | $ | 0.46     
|                                                            |  |                                  |           |      |   |          



-40-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 16 - STOCK COMPENSATION PLAN



On June 19, 2003, the Company established the 2003 First Reliance Bank Employee Stock Option
Plan (Stock Plan) that provides for the granting of options to purchase up to 250,000 shares of the Companys common stock to directors, officers, or employees of the Company. This plan was preceded by the 1999 First Reliance Bank Employee
Stock Option Plan. The per-share exercise price of incentive stock options granted under the Stock Plan may not be less than the fair market value of a share on the date of grant. The per-share exercise price of stock options granted is determined
by the Board of Directors. The expiration date of any option may not be greater than ten years from the date of grant. Options that expire, unexercised or are canceled become available for reissuance. At December 31, 2004, there were 75,337 options
available for grant under the 2003 plan and no options available for grant under the 1999 plan.



A summary of the status of the Companys stock option plan as of December 31, 2004 and 2003, and changes during the period is presented below:



|                                 |  |         |  |                                   |         |   |        |         |                                   |   |     
|-------------------------------- |  | ------- |  | --------------------------------- | ------- | - | ------ | ------- | --------------------------------- | - | ----
|                                 |  | 2004    |  |                                   | 2003   
|                                 |  | Shares  |  | Weighted - Average Exercise Price |         |   | Shares |         | Weighted - Average Exercise Price
|Outstanding at beginning of year |  | 390,918 |  | $                                 | 6.38    |   |        | 232,200 |                                   | $ | 5.11
|Granted                          |  | 18,145  |  |                                   | 11.15   |   |        | 169,118 |                                   |   | 8.04
|Exercised                        |  |        |  |                                   | (10,400 | ) |        | 5.00    |                                   |   |     
|Cancelled                        |  |        |  |                                   |         |   |        |        |                                   |   |     
|                                 |  |         |  |                                   |         |   |        |         |                                   |   |     
|Outstanding at end of year       |  | 409,063 |  |                                   | 6.59    |   |        | 390,918 |                                   |   | 6.38
|                                 |  |         |  |                                   |         |   |        |         |                                   |   |     



The following table summarizes
information about stock options outstanding under the Companys plan at December 31, 2004:



|                                |  |             |            |             |   |           
|------------------------------- |  | ----------- | ---------- | ----------- | - | ----------
|                                |  | Outstanding |            | Exercisable
|Number of options               |  |             | 409,063    |             |   | 336,800   
|Weighted average remaining life |  |             | 6.55 years |             |   | 6.12 years
|Weighted average exercise price |  | $           | 6.59       |             | $ | 6.18      
|High exercise price             |  | $           | 11.50      |             | $ | 11.50     
|Low exercise price              |  | $           | 5.00       |             | $ | 5.00      





-41-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 17 - REGULATORY MATTERS



The Company and the Bank are subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a material effect on the Companys
financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of the Companys and the
Banks assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Companys and the Banks capital amounts and classifications are also subject to qualitative judgments by the
regulators about components, risk-weightings, and other factors.



Quantitative
measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum ratios (set forth in the table below) of Tier 1 and total capital as a percentage of assets and off-balance-sheet exposures, adjusted
for risk-weights ranging from 0% to 100%. Tier 1 capital of the Company and the Bank consists of common shareholders equity, excluding the unrealized gain or loss on securities available-for-sale, minus certain intangible assets. Tier 2
capital consists of the allowance for loan losses subject to certain limitations. Total capital for purposes of computing the capital ratios consists of the sum of Tier 1 and Tier 2 capital.



The Company and the Bank are also required to maintain capital at a minimum level based on
average assets (as defined), which is known as the leverage ratio. Only the strongest institutions are allowed to maintain capital at the minimum requirement of 3%. All others are subject to maintaining ratios 1% to 2% above the minimum.



As of the most recent regulatory examination, the Bank was deemed well-capitalized under
the regulatory framework for prompt corrective action. To be categorized well capitalized, the Bank must maintain total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table below. There are no conditions or events that
management believes have changed the Banks categories.



The following
table summarizes the capital amounts and ratios of the Company and the Bank and the regulatory minimum requirements.



|                                         |  |        |            |       |                                                   |   |        |                                                                   |            |  |      |        |  |       |            |  |       |  
|---------------------------------------- |  | ------ | ---------- | ----- | ------------------------------------------------- | - | ------ | ----------------------------------------------------------------- | ---------- |  | ---- | ------ |  | ----- | ---------- |  | ----- | -
|                                         |  | Actual |            |       | Minimum Requirement For Capital Adequacy Purposes |   |        | To Be Well- Capitalized Under Prompt Corrective Action Provisions |           
|                                         |  | Amount |            | Ratio |                                                   |   | Amount |                                                                   | Ratio      |  |      | Amount |  | Ratio |           
|December 31, 2004                        |  |        |            |       |                                                   |   |        |                                                                   |            |  |      |        |  |       |            |  |       |  
|The Company                              |  |        |            |       |                                                   |   |        |                                                                   |            |  |      |        |  |       |            |  |       |  
|Total capital (to risk-weighted assets)  |  | $      | 29,875,000 |       | 12.52                                             | % |        | $                                                                 | 19,093,680 |  | 8.00 | %      |  |       | N/A        |  | N/A   |  
|Tier 1 capital (to risk-weighted assets) |  |        | 27,117,000 |       | 11.36                                             |   |        |                                                                   | 9,546,840  |  | 4.00 |        |  |       | N/A        |  | N/A   |  
|Tier 1 capital (to average assets)       |  |        | 27,117,000 |       | 10.11                                             |   |        |                                                                   | 10,729,280 |  | 4.00 |        |  |       | N/A        |  | N/A   |  
|                                         |  |        |            |       |                                                   |  
|The Bank                                 |  |        |            |       |                                                   |   |        |                                                                   |            |  |      |        |  |       |            |  |       |  
|Total capital (to risk-weighted assets)  |  | $      | 24,392,000 |       | 10.23                                             | % |        | $                                                                 | 19,084,000 |  | 8.00 | %      |  | $     | 23,855,000 |  | 10.00 | %
|Tier 1 capital (to risk-weighted assets) |  |        | 21,634,000 |       | 9.07                                              |   |        |                                                                   | 9,542,000  |  | 4.00 |        |  |       | 14,313,000 |  | 6.00  |  
|Tier 1 capital (to average assets)       |  |        | 21,634,000 |       | 8.07                                              |   |        |                                                                   | 10,729,280 |  | 4.00 |        |  |       | 13,411,600 |  | 5.00  |  
|                                         |  |        |            |       |                                                   |  
|December 31, 2003                        |  |        |            |       |                                                   |   |        |                                                                   |            |  |      |        |  |       |            |  |       |  
|The Company                              |  |        |            |       |                                                   |   |        |                                                                   |            |  |      |        |  |       |            |  |       |  
|Total capital (to risk-weighted assets)  |  | $      | 19,190,641 |       | 13.85                                             | % |        | $                                                                 | 11,086,995 |  | 8.00 | %      |  |       | N/A        |  | N/A   |  
|Tier 1 capital (to risk-weighted assets) |  |        | 17,457,111 |       | 12.60                                             |   |        |                                                                   | 5,543,497  |  | 4.00 |        |  |       | N/A        |  | N/A   |  
|Tier 1 capital (to average assets)       |  |        | 17,457,111 |       | 10.30                                             |   |        |                                                                   | 6,781,062  |  | 4.00 |        |  |       | N/A        |  | N/A   |  
|                                         |  |        |            |       |                                                   |  
|The Bank                                 |  |        |            |       |                                                   |   |        |                                                                   |            |  |      |        |  |       |            |  |       |  
|Total capital (to risk-weighted assets)  |  | $      | 18,992,372 |       | 13.71                                             | % |        | $                                                                 | 11,078,498 |  | 8.00 | %      |  | $     | 13,848,222 |  | 10.00 | %
|Tier 1 capital (to risk-weighted assets) |  |        | 17,261,195 |       | 12.46                                             |   |        |                                                                   | 5,539,259  |  | 4.00 |        |  |       | 8,308,873  |  | 6.00  |  
|Tier 1 capital (to average assets)       |  |        | 17,261,195 |       | 10.18                                             |   |        |                                                                   | 6,781,062  |  | 4.00 |        |  |       | 8,476,328  |  | 5.00  |  





-42-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 18 - UNUSED LINES OF CREDIT



As of December 31, 2004, the Company had unused lines of credit to purchase federal funds
from unrelated companies totaling $26,000,000. These lines of credit are available on a one to fourteen day basis for general corporate purposes. The Company also has a line of credit to borrow funds from the Federal Home Loan Bank of up to
$51,150,000. As of December 31, 2004 and 2003, the Company had borrowed $27,900,000 and $19,100,000, respectively, on this line. Additionally, the Company has the ability to buy brokered time deposits at December 31, 2004.



NOTE 19 - FAIR VALUE OF FINANCIAL INSTRUMENTS



The fair value of a financial instrument is the amount for which the asset or obligation
could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Fair value estimates are made at a specific point in time based on relevant market information and information about the financial
instruments. Because no market value exists for a significant portion of the financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various
financial instruments, and other factors.



The following methods and
assumptions were used to estimate the fair value of significant financial instruments:



Cash and Due from Banks - The carrying amount is a reasonable estimate of fair value.



Federal Funds Sold and Purchased - Federal funds sold and purchased are for a term of one day and the carrying amount approximates the fair value.



Securities Available-for-Sale - Fair value equals the carrying amount which is
the quoted market price. If quoted market prices are not available, fair values are based on quoted market prices of comparable securities.



Nonmarketable Equity Securities - The carrying amount of nonmarketable equity securities is a reasonable estimate of fair value since no ready market exists
for these securities.



Loans Held-for-Sale - The carrying amount
of loans held for sale is a reasonable estimate of fair value.



Loans
Receivable - For certain categories of loans, such as variable rate loans which are repriced frequently and have no significant change in credit risk and credit card receivables, fair values are based on the carrying amounts. The fair value
of other types of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to the borrowers with similar credit ratings and for the same remaining maturities.



Deposits - The fair value of demand deposits, savings, and money market
accounts is the amount payable on demand at the reporting date. The fair values of certificates of deposit are estimated using a discounted cash flow calculation that applies current interest rates to a schedule of aggregated expected maturities.



Advances From Federal Home Loan Bank-The fair values of
fixed rate borrowings are estimated using a discounted cash flow calculation that applies the Companys current borrowing rate from the Federal Home Loan Bank. The carrying amounts of variable rate borrowings are reasonable estimates of fair
value because they can be repriced frequently.



Securities Sold Under
Agreements to Repurchase - The carrying amount is a reasonable estimate of fair value because these instruments typically have terms of one day.



Accrued Interest Receivable and Payable - The carrying value of these instruments is a reasonable estimate of fair value.



Off-Balance-Sheet Financial Instruments - Fair values of off-balance sheet
lending commitments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties credit standing.





-43-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 19 - FAIR VALUE OF FINANCIAL INSTRUMENTS - continued



The carrying values and estimated fair values of the Companys financial instruments
were as follows:



|                                                                   |  |                 |             |                      |   |                 |  |                      |             |  |   |            
|------------------------------------------------------------------ |  | --------------- | ----------- | -------------------- | - | --------------- |  | -------------------- | ----------- |  | - | -----------
|                                                                   |  | December 31,   
|                                                                   |  | 2004            |             | 2003                
|                                                                   |  | Carrying Amount |             | Estimated Fair Value |   | Carrying Amount |  | Estimated Fair Value
|Financial Assets:                                                  |  |                 |             |                      |   |                 |  |                      |             |  |   |            
|Cash and due from banks                                            |  | $               | 3,803,535   |                      | $ | 3,803,535       |  | $                    | 4,693,102   |  | $ | 4,693,102  
|Federal funds sold                                                 |  |                 | 1,042,000   |                      |   | 1,042,000       |  |                      | 100,000     |  |   | 100,000    
|Securities available-for-sale                                      |  |                 | 28,567,666  |                      |   | 28,567,666      |  |                      | 27,688,992  |  |   | 27,688,992 
|Nonmarketable equity securities                                    |  |                 | 1,714,700   |                      |   | 1,714,700       |  |                      | 1,055,000   |  |   | 1,055,000  
|Loans, including loans held for sale                               |  |                 | 239,694,982 |                      |   | 236,534,744     |  |                      | 140,360,691 |  |   | 139,888,125
|Accrued interest receivable                                        |  |                 | 1,458,673   |                      |   | 1,458,673       |  |                      | 949,663     |  |   | 949,663    
|                                                                   |  |                 |             |                     
|Financial Liabilities:                                             |  |                 |             |                      |   |                 |  |                      |             |  |   |            
|Demand deposit, interest-bearing transaction, and savings accounts |  | $               | 89,385,369  |                      | $ | 89,385,369      |  | $                    | 53,168,152  |  | $ | 53,168,152 
|Certificates of deposit                                            |  |                 | 136,108,458 |                      |   | 136,642,893     |  |                      | 86,246,799  |  |   | 86,447,697 
|Securities sold under agreements to repurchase                     |  |                 | 3,061,903   |                      |   | 3,061,903       |  |                      | 2,363,570   |  |   | 2,363,570  
|Federal funds purchased                                            |  |                 |            |                      |   |                |  |                      | 1,043,000   |  |   | 1,043,000  
|Advances from Federal Home Loan Bank                               |  |                 | 27,900,000  |                      |   | 26,834,409      |  |                      | 19,100,000  |  |   | 18,685,518 
|Accrued interest payable                                           |  |                 | 742,017     |                      |   | 742,017         |  |                      | 442,233     |  |   | 442,233    
|                                                                   |  |                 |             |                     
|                                                                   |  | Notional Amount |             | Estimated Fair Value |   | Notional Amount |  | Estimated Fair Value
|Off-Balance-Sheet Financial Instruments:                           |  |                 |             |                      |   |                 |  |                      |             |  |   |            
|Commitments to extend credit                                       |  | $               | 31,702,000  |                      | $ |                 |  | $                    | 19,621,000  |  | $ |           
|Standby letters of credit                                          |  |                 | 720,000     |                      |   |                 |  |                      | 169,000     |  |   |           





-44-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 20 - FIRST RELIANCE BANCSHARES, INC. (PARENT COMPANY
ONLY)



Condensed Balance
Sheets



|                                                                                             |  |              |            |   |      |   |           
|-------------------------------------------------------------------------------------------- |  | ------------ | ---------- | - | ---- | - | ----------
|                                                                                             |  | December 31,
|                                                                                             |  | 2004         |            |   | 2003
|Assets                                                                                       |  |              |            |   |      |   |           
|Cash                                                                                         |  | $            | 5,325,224  |   |      | $ | 43,972    
|Investment in banking subsidiary                                                             |  |              | 21,875,795 |   |      |   | 17,507,212
|Nonmarketable equity securities                                                              |  |              | 100,000    |   |      |   | 100,000   
|Other assets                                                                                 |  |              | 57,630     |   |      |   | 51,455    
|                                                                                             |  |              |            |   |      |   |           
|Total assets                                                                                 |  | $            | 27,358,649 |   |      | $ | 17,702,639
|                                                                                             |  |              |            |   |      |   |           
|Shareholders equity                                                                         |  | $            | 27,358,649 |   |      | $ | 17,702,639
|                                                                                             |  |              |            |   |      |   |           
|Total liabilities and shareholders equity                                                   |  | $            | 27,358,649 |   |      | $ | 17,702,639
|                                                                                             |  |              |            |   |      |   |           
|Condensed Statements of Income                                                               |  |              |            |   |      |   |           
|                                                                                             |  | December 31,
|                                                                                             |  | 2004         |            |   | 2003
|Income                                                                                       |  | $            |           |   |      | $ | 339,851   
|Expenses                                                                                     |  |              | 54,783     |   |      |   | 72,817    
|                                                                                             |  |              |            |   |      |   |           
|Income (loss) before income taxes and equity in undistributed earnings of banking subsidiary |  |              | (54,783    | ) |      |   | 267,034   
|Income tax benefit                                                                           |  |              | 20,270     |   |      |   | 26,827    
|                                                                                             |  |              |            |   |      |   |           
|Income (loss) before equity in undistributed earning of banking subsidiary                   |  |              | (34,513    | ) |      |   | 293,861   
|Equity in undistributed earnings of banking subsidiary                                       |  |              | 1,373,212  |   |      |   | 721,938   
|                                                                                             |  |              |            |   |      |   |           
|Net income                                                                                   |  | $            | 1,338,699  |   |      | $ | 1,015,799 
|                                                                                             |  |              |            |   |      |   |           





-45-



---

FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



Notes to Consolidated Financial Statements



NOTE 20 - FIRST RELIANCE BANCSHARES, INC. (PARENT COMPANY ONLY)-
continued



Condensed Statements of Cash Flows



|                                                                                  |  |              |            |   |      |   |            |  
|--------------------------------------------------------------------------------- |  | ------------ | ---------- | - | ---- | - | ---------- | -
|                                                                                  |  | December 31, |           
|                                                                                  |  | 2004         |            |   | 2003 |  
|Cash flows from operating activities                                              |  |              |            |   |      |   |            |  
|Net income                                                                        |  | $            | 1,338,699  |   |      | $ | 1,015,799  |  
|Adjustments to reconcile net income to net cash provided by operating activities: |  |              |            |   |      |   |            |  
|Increase in other assets                                                          |  |              | (6,175     | ) |      |   | (23,539    | )
|Decrease in other liabilities                                                     |  |              |           |   |      |   | (151,037   | )
|Equity in undistributed earnings of banking subsidiary                            |  |              | (1,373,212 | ) |      |   | (721,938   | )
|                                                                                  |  |              |            |   |      |   |            |  
|Net cash provided (used) by operating activities                                  |  |              | (40,688    | ) |      |   | 119,285    |  
|                                                                                  |  |              |            |   |      |   |            |  
|Cash flows from investing activities                                              |  |              |            |   |      |   |            |  
|Purchase of nonmarketable equity securities                                       |  |              |           |   |      |   | (100,000   | )
|                                                                                  |  |              |            |   |      |   |            |  
|Net cash used by investing activities                                             |  |              |           |   |      |   | (100,000   | )
|                                                                                  |  |              |            |   |      |   |            |  
|Cash flows from financing activities                                              |  |              |            |   |      |   |            |  
|Stock issuance costs                                                              |  |              | (75,960    | ) |      |   | (86,752    | )
|Proceeds from exercise of stock options                                           |  |              |           |   |      |   | 52,000     |  
|Proceeds from stock issuance                                                      |  |              | 8,050,000  |   |      |   | 8,059,439  |  
|Issuance of shares to ESOP                                                        |  |              | 355,296    |   |      |   |           |  
|Purchase of treasury stock                                                        |  |              | (7,396     | ) |      |   |           |  
|Transfer of capital to the Bank                                                   |  |              | (3,000,000 | ) |      |   | (8,000,000 | )
|                                                                                  |  |              |            |   |      |   |            |  
|Net cash provided (used) by financing activities                                  |  |              | 5,321,940  |   |      |   | 24,687     |  
|                                                                                  |  |              |            |   |      |   |            |  
|Increase in cash                                                                  |  |              | 5,281,252  |   |      |   | 43,972     |  
|                                                                                  |  |             
|Cash and cash equivalents, beginning of year                                      |  |              | 43,972     |   |      |   |           |  
|                                                                                  |  |              |            |   |      |   |            |  
|Cash and cash equivalents, ending of year                                         |  | $            | 5,325,224  |   |      | $ | 43,972     |  
|                                                                                  |  |              |            |   |      |   |            |  





-46-



---

Corporate Data



ANNUAL MEETING:



The annual meeting of Shareholders of First Reliance Bancshares, Inc. and Subsidiary will be held at First Reliance Bank on June 16, 2005.



|                               |  |                             
|------------------------------ |  | ----------------------------
|CORPORATE OFFICE:              |  | INDEPENDENT AUDITORS:       
|                               | 
|2170 West Palmetto Street      |  | Elliott Davis, LLC          
|Florence, South Carolina 29501 |  | 1901 Main Street, Suite 1650
|Phone (843) 662-8802           |  | P.O. Box 2227               
|Fax (843) 662-8373             |  | Columbia, S.C. 29202        



| |  |                                 |  | 
| |  | ------------------------------- |  | 
| |  | STOCK TRANSFER DEPARTMENT:      |  | 
| |  |                                
| |  | Registrar and Transfer Company  |  | 
| |  | 10 Commerce Drive               |  | 
| |  | Cranford, New Jersey 07016-3572 |  | 



MARKET FOR FIRST RELIANCE
BANCSHARES, INC. AND SUBSIDIARY COMMON STOCK;

PAYMENT OF DIVIDENDS



On March 30, 2004, the Companys common stock became listed on the Over The Counter Bulletin Board. Arms-length transactions in the
common stock are anticipated to be infrequent and negotiated privately between the persons involved in those transactions.



High and Low Stock Price Information for First Reliance Bancshares, Inc. and Subsidiary



|                  |  |      |       |      |   |       |  |     |       |  |   |     
|----------------- |  | ---- | ----- | ---- | - | ----- |  | --- | ----- |  | - | ----
|                  |  | 2004 |       | 2003
|Applicable Period |  | High |       | Low  |   | High  |  | Low
|First Quarter     |  | $    | 12.71 |      | $ | 11.75 |  | $   | 8.00  |  | $ | 7.50
|Second Quarter    |  | $    | 11.85 |      | $ | 9.50  |  | $   | 9.00  |  | $ | 7.50
|Third Quarter     |  | $    | 21.00 |      | $ | 10.85 |  | $   | 9.50  |  | $ | 7.00
|Fourth Quarter    |  | $    | 14.25 |      | $ | 11.50 |  | $   | 10.00 |  | $ | 9.50







---

Corporate Data -continued



Prior to the reorganization of the Bank into a holding company structure, the Banks common stock had been traded in infrequent
transactions. The Bank maintained a register of all sales of stock reported to the Bank. The following limited trading information relating to arms-length transactions in the common stock of the Bank during 2001 and 2002 has been compiled from
information made available to the Bank and maintained in the stock register, and should not be viewed as complete or necessarily reflective of the actual or market value of the common stock of the Company. The following prices for the common stock
of the Bank have been adjusted to reflect the one for one stock dividend that was paid on April 1, 2002.



As of March 8, 2004, the Companys common stock began trading in the over-the-counter market under the symbol FSRL. The development of an active secondary market requires the existence of an adequate number of
willing buyers and sellers. Historically, the reported trading volume would indicate a lack of activity in the secondary market for the Companys common stock. The lack of activity in the secondary market for the Companys common stock may
materially impact a shareholders ability to promptly sell Company common stock at a price acceptable to the selling shareholder. According to the Companys transfer agent, there are approximately 1,333 shareholders of record as of January
1, 2005.



The Company is a legal entity separate and distinct from the Bank.
The principal sources of the Companys cash flow, including cash flow to pay dividends to its shareholders, are dividends that the Bank pays to its sole shareholder, the Company. Statutory and regulatory limitations apply to the Banks
payment of dividends to the Company as well as to the Companys payment of dividends to its shareholders. Statutory and regulatory limitations apply to the Banks payment of dividends to the Company as well as to the Companys payment
of dividends to its shareholders. For example, all FDIC insured institutions, regardless of their level of capitalization, are prohibited from paying any dividend or making any other kind of distribution if following the payment or distribution the
institution would be undercapitalized. Moreover, federal agencies having regulatory authority over the Company or the Bank have issued policy statements that provide that bank holding companies and insured banks should generally only pay dividends
out of current operating earnings.



Additionally, under South Carolina law, the
Bank is authorized to pay cash dividends up to 100% of net income in any calendar year without obtaining the prior approval of the State Board, provided that the Bank received a composite rating of one or two at the last examination conducted by a
state or federal regulatory authority. All other cash dividends require prior approval by the State Board. South Carolina law requires each state nonmember bank to maintain the same reserves against deposits as are required for a state member bank
under the Federal Reserve Act. This requirement is not expected to limit the ability of the Bank to pay dividends on its common stock.



It is the current policy of the Bank to retain earnings to permit possible future expansion. As a result, the Company has no current plans to initiate the payment of cash
dividends, and its future dividend policy will depend on the Banks earnings, capital requirements, financial condition and other factors considered relevant by the board of directors of the Company and the Bank.



Shareholders may obtain, without charge, a copy of the Companys Annual Report filed
with the Securities and Exchange Commission on Form 10-KSB for the period ended December 31, 2004. Written requests should be addressed to Jeffrey A. Paolucci, 2170 W. Palmetto Street, Florence, South Carolina 29501.



---

Corporate Data - continued



EXECUTIVE OFFICERS OF FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



F. R. Saunders, Jr.



President and Chief Executive Officer



Jeffrey A. Paolucci



Senior Vice President, Chief Financial Officer and Secretary



Thomas C. Ewart



Senior Vice President
and Chief Credit Officer



Paul C. Saunders



Senior Vice President and City Executive



DIRECTORS OF FIRST RELIANCE BANCSHARES, INC. AND SUBSIDIARY



F. R. Saunders, Jr.



President and Chief Executive Officer of First Reliance Bancshares, Inc. and First Reliance Bank



Jeffrey A. Paolucci



Senior Vice President, Chief Financial Officer and Secretary of First Reliance Bancshares, Inc. and First Reliance Bank



Paul C. Saunders



Senior Vice President of First Reliance Bancshares, Inc. and First Reliance Bank



A. Dale Porter



Senior Deposit Operations Manager, First Reliance Bank



Leonard A. Hoogenboom



Chairman of the Board of Directors of First Reliance Bancshares, Inc.; Owner and Chief Executive Officer of Hoogenboom & Co. CPA



John M. Jebaily



Self-employed real estate agent



Andrew G. Kampiziones



Owner, President and Treasurer of Fairfax Development Corporation, a real estate development corporation; Professor, Florence-Darlington Technical College and Francis Marion University



C. Dale Lusk, MD



Physician and Owner/Partner of Advanced Womens Care



T. Daniel Turner



Owner and President of Turners Custom Auto Glass Inc.; Owner of Glass Connection USA, a billing service company



A. Joe Willis



Retired and former President of Willis Chiromed, a chiropractic practice