SBT Bancorp (SBTB) 10-K 2012 FY Annual report

Exhibit 13

March 28, 2013

Dear Fellow Shareholders,

We are very pleased to report record earnings for 2012.  This performance reflects the success of the Bank’s strategic plan to broaden and deepen our branch franchise market presence and expand regionally through business lines that are not branch dependent.  Our earnings growth was matched with loan and deposit growth, continued strong asset quality, and improvement in our capital position.  Earnings per diluted share for the year of $2.18 reflected a 246% increase from 2011.

The Bank’s strong performance and optimism for the future resulted in the Board of Directors’ decision in November to increase our quarterly shareholder dividend by 17% to 14 cents per share. The Bank’s total return to shareholders during 2012, factoring in both dividends and stock price appreciation, was 50%.

Mortgage and Consumer Lending

Mortgage and consumer lending delivered an outstanding performance for the Bank in 2012.  This was the year in which our investment since 2010 in building a much larger and scalable mortgage organization began to show its return potential.  Originations totaled $147 million in 2012, almost double our 2011 production.  This activity level produced a 10%increase in our year-end mortgage and consumer loan outstanding balances and gain on sale revenue of $2.1 million, almost four times 2011’s level.  We chose to sell $70 million in mortgages during 2012, two-and-one-half times 2011’s total, primarily to manage our interest rate risk.  However, our customer relationships are very important to us, so we retained the servicing of the loans we sold. Our loan servicing portfolio totaled $88 million at year-end, almost four times higher than the prior year end.  Loan servicing fees increased 114% to $115,000 in 2012.

In 2012, we retained our ranking as the number one loan originator in our four-town branch franchise and our nine-town Community Reinvestment Act area.  We were particularly pleased to show great improvement in our market share of purchased mortgages, becoming number one in that category in our four-town franchise area.  We ranked first in market share in Simsbury and Granby and top five in Avon and Bloomfield.  We continued to extend our geographic reach throughout Connecticut in 2012.  We originated mortgages in 81 towns during the year, 39 more than in 2011.  Also, we attained approval from Massachusetts and Rhode Island to transact mortgage business in their states.

During 2012, we were also busy expanding the ways people can do business with us and the products we offer.  We added the convenience for customers to apply for mortgage and home equity loans and lines of credit online.  We introduced a new website devoted exclusively to our mortgage and consumer loan capabilities.  And we introduced several new mortgage products including jumbo, VA, USDA and CHFA loans.

Mortgage and consumer loan asset quality remained a high priority during 2012.  The delinquency rates for our mortgage, consumer loan, and purchased auto loan portfolios were very low at, respectively, 0.91%, 0.13% and 1.31%.

Retail Banking

Simsbury Bank continues to be the largest community bank in our four-town branch market.  In fact, in 2012, we continued to be second only to Bank of America in overall deposit market share according to the FDIC’s annual deposit survey.  We had a greater market share than the two Connecticut-based regional banks as well as many national and community bank competitors in the market.  During the past five years, our four branches, on a combined basis, enjoyed a faster rate of deposit growth than any other bank’s branches in the market.

We continue to take an advisor-based approach to providing excellent service to our customers.  In order to maintain our role as a trusted partner with our customers, we continuously seek ways to improve our team’s knowledge and capability.  During 2012, in addition to ongoing training and development, all members of our Retail Banking team participated in intensive retirement savings and income management training.  Most households’ largest financial asset is their retirement savings, and their greatest challenge as they approach retirement is how to ensure that the savings provide income for a secure retirement.  Simsbury Bank’s team is prepared to play a role in this customer need.

Two of the most significant convenience improvements we introduced in 2012 were state-of-the-art ATMs and an improved online banking experience.  Our new ATMs easily accept check and cash deposits, provide check imaging, provide more information about accounts, and are easier to use.  Our online banking upgrade provided new functionality and an easier-to-navigate presentation.

We are also pleased to continue to grow our Health Savings Account business.  During 2012, we added 1,037 customers and now have almost 1,800 HSA accounts with total year-end balances of $4,061,000.  Our local service approach to this specialized product has differentiated us in the banking and health insurance marketplaces.  We are active across the state with our HSA product.

Finally, we continued the effort introduced in 2011 to provide our deposit customers with relationship checking solutions that provide them with significant value on a profitable basis to the Bank.  Customers have embraced the benefits of our Pinnacle accounts including preferred interest rates and free ATM usage.  In 2012, we introduced the Advantage Checking account suite.  Our Advantage Checking accounts were designed to provide customers with features and benefits to meet their needs, and they are designed to ensure that the Bank has profitable customer relationships.

Commercial Banking

Commercial Banking produced solid results with a second consecutive year of $20 million or more in new loan originations.  At year-end, commercial loans accounted for 26% of the Company’s total loans.  Growth in Commercial Banking accelerated in the fourth quarter when more than 37% of the year’s new funding occurred.  The rate of growth was driven by the expansion in staffing to five experienced Commercial Relationship Managers and the addition of a new Chief Commercial Banking Officer.

This increase in personnel reflects the Bank’s commitment to serving the credit and depository needs of small- and medium-sized businesses well beyond our four-town branch market area.  Our array of services was expanded beyond loans, cash management, and investment services to include both import/export and standby letters of credit.

Asset quality remains strong.  Our exposure to investor-owned commercial real estate remains low.  Delinquencies, non-accrual loans, and net charge-offs of commercial loans remained at minimal levels in 2012.

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Treasury and Investments

During 2012, the Bank’s Treasury and Investment activities were highlighted by a stable capital position, well-managed liquidity, sound risk management, and a growing investment portfolio.  Based on growth in business loans, the Bank became eligible in 2012 to pay the lowest dividend rate of 1.00% on $9 million of preferred stock Tier 1 capital issued under the Small Business Lending Fund (SBLF).  The Bank’s capital levels continue to meet well-capitalized regulatory guidelines.  During the year, the Bank completed stress test modeling on both capital and liquidity levels.  The results indicate that the Bank’s current capital levels would be sufficient under the proposed Basel III guidelines.  Interest rate risk modeling was also enhanced during the year.  The Bank’s investment securities portfolio grew by $35 million in 2012, with a moderate extension in portfolio duration.  Moreover, the portfolio growth was accomplished while maintaining our historically low-risk posture toward investment portfolio structure and market interest rate changes.

Investment Services

Our investment services business, managed through our relationship with LPL Financial, continued to perform well during 2012.  LPL made available well reviewed alternative investment products during the year that many of our clients found to be attractive ways to obtain better yields at acceptable risks than otherwise available.  Assets under management increased over 6% to $64.1 million. We continue to seek ways to grow our investment services capabilities.

2013 Outlook

The banking environment continues to change nationally and locally.  Federal regulators are accelerating their rule-writing to implement the provisions of the Dodd-Frank Act.  In January alone, the Consumer Financial Protection Bureau issued eight separate regulations or modifications to existing regulations to implement requirements of the Act.  We work hard to ensure that we implement regulatory requirement changes in as efficient and compliant a manner as possible.  Locally, during 2012, two more Central Connecticut community banks were acquired by larger banks, both with headquarters in Massachusetts.  Since 2008, eight banks serving Central Connecticut, including six community banks, have been acquired by other banks.  The change in the competitive landscape provides new opportunities for banks like Simsbury Bank, due to the inevitable disruption of customer relationships that occurs with mergers and acquisitions.  As such, we continue to focus on business development efforts to present our mortgage, retail, and commercial banking strengths to prospective customers.

Simsbury Bank remains committed to bringing the value of community banking to our customers and thereby providing an attractive investment return to our shareholders.  The core value that a community bank brings to its customers is related to four key attributes:

· Community banks have a much deeper understanding of and commitment to the local economy and marketplace.  For larger banks, the towns they serve are ZIP codes.  For us, they are families, businesses, arts organizations, healthcare providers and the many others who together create the opportunities and quality of life that cause people to choose to live and do business here.  For a large bank, one weak town is offset by a strong one elsewhere.  For a community bank, we prosper or fail based on the health and wellbeing of all of the towns we serve.

· Community banks offer true local decision-making.  When you apply for a loan with a community bank, all of the people involved in the decision work locally, from the loan officer to the bank president.  Policies and procedures that guide the way we do business are written right here.  If they prove to be unresponsive to customers or ineffective in any way, we will know that quickly and can modify them to improve them.  Appropriate one-time exceptions can be approved in a timely manner.  Regional and national banks have centralized loan underwriting units across the region and country, often far from the local economy.  Large banks usually make policies and procedures at their headquarters based on their macro view of the world which may not be responsive to a local community’s situation.

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· Community banks have fewer organizational levels.  This is a great advantage as all employees are close to the customers.  This allows us to hear more and listen better.  It also allows us to handle unusual situations more quickly, as it is easy to get all the bank employees involved in the situation together.  Larger banks have many more organizational levels, each with different decision-making authorities.  Inevitably, the bureaucracy of a larger bank is required to have controls in place to both manage risk and ensure consistency.  However, those controls sometimes work to the disadvantage of the customer.

· Community banks generally have a customer-friendly approach to sales and service.  Most community banks try to deliver a “high touch” experience to customers.  This contrasts with the  “cookie-cutter” and scripted approach that larger banks often take to customer interactions.

Simsbury Bank’s brand of community banking is also based on a commitment to be an advisor to our customers and a partner in helping them achieve their life and financial goals.

We thank you for your support and look forward to another strong year for Simsbury Bank, its shareholders, customers, employees, and the communities it serves.

Sincerely,

Martin J. Geitz	Robert J. Bogino
President & Chief Executive Officer	Chairman of the Board of Directors

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Selected Financial and Other Data

(dollars in thousands, except per share data)

	At 12/31/12			At 12/31/11			At 12/31/10
Balance Sheet Data:
Total assets	$	375,019		$	377,039		$	295,566
Loans, net		233,290			214,083			202,792
Investment securities		92,409			57,519			46,948
Federal funds sold, money market mutual funds, and other interest-earning deposits		21,728			72,663			23,707
Deposits		340,409			344,777			269,279
Stockholders’ equity		29,437			27,443			21,967
	For the Year Ended 12/31/12			For the Year Ended 12/31/11			For the Year Ended 12/31/10
Statement of Income Data:
Total interest and dividend income	$	11,567		$	11,710		$	12,031
Total interest expense		1,041			1,517			1,813
Net interest and dividend income		10,526			10,193			10,217
Provision for loan losses		320			495			755
Net interest and dividend income after provision for loan losses		10,206			9,698			9,462
Gain on loans sold, net		2,266			428			226
Noninterest income		4,053			2,382			1,800
Noninterest expense		11,508			10,754			9,754
Income tax expense		707			416			362
Net income		2,044			910			1,146
Earnings per common share	$	2.19		$	0.64		$	1.03
Earnings per common share, assuming dilution	$	2.18		$	0.63		$	1.03
Other Data:
Net interest spread		3.09	%		3.13	%		3.66	%
Net interest margin		3.18	%		3.27	%		3.82	%
Return on average assets		0.57	%		0.27	%		0.42	%
Return on average stockholders’ equity		8.39	%		3.78	%		5.16	%
Dividend payout ratio		27.89	%		74.9	%		46.7	%
Average stockholders’ equity to average assets		6.84	%		7.22	%		7.67	%

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Management's Discussion and Analysis of

Financial Conditions and Results of Operations

Forward-Looking Statements

Certain statements contained in this Annual Report that are not historical facts may constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and are intended to be covered by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.  These statements, which are based on certain assumptions and describe the Company’s future plans, strategies and expectations, can generally be identified by the use of words such as “may,” “will,” “should,” “could,” “would,” “plan,” “believe,” “expect,” “anticipate,” “intend,” “estimate” or words of similar meaning.  These forward-looking statements include statements relating to the Company’s anticipated future financial performance, projected growth and management’s long-term performance goals, as well as statements relating to the anticipated effects on results of operations and financial condition from developments or events, the Company’s business and growth strategies.

These forward-looking statements are subject to significant risks, assumptions and uncertainties, and could be affected by many factors.  The following list, which is not intended to be an all-encompassing list of risks and uncertainties affecting the Company, summarizes several factors that could cause the Company’s actual results to differ materially from those anticipated or expected in these forward-looking statements:

● economic conditions (both generally and in the Company’s markets) may be less favorable than expected, resulting in, among other things, a continued deterioration in credit quality, a further reduction in demand for credit and/or a further decline in real estate values;

● the general decline in the real estate and lending market may continue to negatively affect the Company’s financial results;

● inaccuracies in management’s assumptions used in calculating the appropriate amount to be placed into the Company’s allowance for loan and lease losses;

● restrictions or conditions imposed by regulators on the Company’s operations may make it more difficult for the Company to achieve its goals;

● legislative and regulatory changes (including the impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act and related regulations) subject the Company to additional regulatory oversight which may result in increased compliance costs and/or require the Company to change its business model;

● changes in accounting standards and compliance requirements may adversely affect the businesses in which the Company is engaged;

● competitive pressures among depository and other financial institutions may increase significantly;

● changes in the interest rate environment may reduce margins or the volumes or values of the loans the Company makes;

● competitors may have greater financial resources and develop products that enable those competitors to compete more successfully than the Company can;

● the Company’s ability to attract and retain key personnel can be affected by the increased competition for experienced employees in the banking industry;

● adverse changes may occur in the equity markets;

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● war or terrorist activities may cause further deterioration in the economy or cause instability in credit markets; and economic, governmental or other factors may prevent the projected population and residential and commercial growth in the markets in which the Company operates.

Forward-looking statements speak only as of the date on which they are made.  The Company does not undertake any obligation to update any forward-looking statement to reflect circumstances or events that occur after the date the forward-looking statements are made.

General

This discussion is designed to assist you in better understanding the Company’s financial condition, results of operations, liquidity and capital resources and any significant changes and trends related thereto.  This discussion should be read in conjunction with our financial statements.

SBT Bancorp, Inc. (the “Company”) is the holding company for The Simsbury Bank & Trust Company, Inc. (the “Bank”).  The Company was incorporated in the State of Connecticut on February 17, 2006.  The Company became the Bank’s sole shareholder pursuant to a reorganization that occurred on March 2, 2006.  The Company’s only business is its investment in the Bank, which is a community-oriented financial institution providing a variety of banking and investment services.

The Bank was incorporated on April 28, 1992 and commenced operations as a Connecticut-chartered bank on March 31, 1995.  The Bank's deposit accounts are insured under the Federal Deposit Insurance Act, up to the maximum applicable limits thereof.  The Bank is not a member of the Federal Reserve System.  The Bank's main office and its corporate offices are located in the town of Simsbury, Connecticut.  The Bank has branch offices in the towns of Granby, Avon, and Bloomfield, Connecticut. The Bank also maintains a business office in Canton, Connecticut.  The Bank's customer base consists primarily of individual consumers and small businesses in north central Connecticut.  The Bank has in excess of 21,600 deposit accounts.

The Bank offers a full range of commercial banking services to residents and businesses in its primary and secondary markets through a wide variety of mortgage programs, home equity lines and loans, FDIC-insured checking and savings accounts, and IRA and 401(k) rollovers, as well as safe deposit and other customary non-deposit banking services.  As of December 31, 2012, approximately 88% of the Bank's loans were secured by residential property located in Connecticut.

The Bank has two ATMs at its main office and at the Bloomfield branch, and one ATM at each of its other branch/business office locations.  The ATMs generate activity fees based upon utilization by other banks' customers.  The Bank offers investment products to customers through SBT Investment Services, Inc., a wholly-owned subsidiary of the Bank, and through its affiliation with the securities broker/dealer, LPL Financial Services Corporation.

In May of 2010, the Bank formed NERE Holdings, Inc., a subsidiary to hold real estate primarily acquired through foreclosures. In January of 2011, the Bank formed Simsbury Bank Passive Investment Company, a subsidiary Passive Investment Company (PIC). Under current State of Connecticut statutes, Simsbury Bank Passive Investment Company is not subject to Connecticut corporation business taxes.

During the third quarter of 2011, the Company received $9 million in capital through the Small Business Lending Fund (the “SBLF”) administered by the United Sates Department of the Treasury (the “Treasury”). The SBLF was created by the Treasury to encourage banks to increase lending to small business by providing capital to eligible banks at an adjustable dividend rate based on the volume of qualified lending. The Company’s initial weighted average dividend rate was 3%. However, as a result of its increased lending, the Company’s current weighted average dividend rate has been reduced to 1%. The Company used approximately $4.3 million of the proceeds to redeem all of the outstanding shares of preferred stock issued to the Treasury under the Treasury’s Troubled Asset Relief Program (“TARP”) Capital Purchase Program (“CPP”).

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For the year ended December 31, 2012, the company’s net income totaled $2,044,000, compared to $910,000 for the year ended December 31, 2011, an increase of $1,134 ,000 or 125%.  Net income available to common stockholders after preferred stock dividends and amortization was $1,898,000 or $2.18 per diluted share for the year ended December 31, 2012, compared to $550,000 or $0.63 per diluted share for the year ended December 31, 2011, a 246% increase in diluted earnings per share.  Total assets on December 31, 2012 were $375 million, compared to $377 million on December 31, 2011.

SBT Bancorp’s 2011 results were impacted by one-time charges related to the formation of Simsbury Bank Passive Investment Company (PIC) in the first quarter of 2011 and redemption of all outstanding shares of preferred stock issued to the Treasury under the TARP CPP in the third quarter of 2011.  Excluding these one-time charges, the 2011 earnings would have been:  net income of $1,081,000, net income available to common stockholders after preferred dividends and amortization of $827,000, and diluted earnings per share of $0.95.  Compared to these pro forma 2011 results,  net income increased by $963,000 or 89% and diluted earnings per share increased by $1.23 or 129% for the year ended December 31, 2012.

Total revenues, consisting of net interest and dividend income plus noninterest income, were $14.6 million for 2012 compared to $12.6 million for 2011,  an increase of $2.0 million or 16%.  Net interest and dividend income increased in 2012 by $333 thousand or 3% while noninterest income increased by $1.7 million or 70% primarily due to an increase in gain on loans sold and an increase in service charges and fees.

The net interest margin decreased 9 basis points to 3.18% in 2012 from 3.27% in 2011.

The yield on interest earning assets decreased 26 basis points to 3.49% while cost of funds decreased 22 basis points to 0.40% in 2012. The Bank experienced a greater decline in yield on assets as compared to the decline in cost of funds.

Total non-interest expenses for 2012 were $11.5 million, an increase of $754 thousand or 7% over 2011.  The increase in expenses was primarily attributable to expenses associated with growing the Bank’s revenues.  Salaries and employee benefit expenses and advertising and promotions fees increased by a total of $813 thousand during 2012 compared to 2011. Professional fees and FDIC insurance assessment decreased by a total of $360 thousand in 2012 compared to 2011.  All other operating expenses were up by $301 thousand in 2012 compared to 2011. The provision for loan losses was $320 thousand in 2012 compared to $495 thousand in 2011, a decline of $175 thousand or 35%.

On December 31, 2012, outstanding loans were $236 million, an increase of $19 million or 9% over a year ago. The allowance for loan losses was $2.6 million or 1.10% of total loans at December 31, 2012.  This compares to an allowance for loan losses of $2.5 million or 1.14% of loans on December 31, 2011.  The profile of the Company’s loan portfolio remained relatively low-risk throughout 2012.  At year end, 70% of total loans were conventionally underwritten residential mortgages and consumer home equity lines and loans.  Commercial loans represent 24% of the Company’s total loans.  Other consumer loans comprise 5% of total loans.  The Company’s exposure to commercial real estate concentrations is relatively low.  Total exposure to builder and land development loans and non-owner occupied commercial real estate was $11 million at year end, 5% of total loans and 37% of total stockholders’ equity.The Company had non-accrual loans totaling $1.2 million equal to 0.53% of total loans at December 31, 2012, compared to non-accrual loans of $2.3 million or 1.07% of total loans a year ago.  Total non-accrual loans and loans 30 or more days past due decreased to 0.76% of loans outstanding at December 31, 2012 from 1.30% of loans outstanding on December 31, 2011.

Total deposits at December 31, 2012 were $340 million, compared to $345 million in total deposits on December 31, 2011.  Total deposits at December 31, 2011included a business checking account short-term deposit of $19 million that was deposited in late December 2011 and was withdrawn in early January 2012.  Excluding this prior year-end anomaly, total deposits for the year 2012 increased by $14 million or 4%. This growth was all in core deposits (Demand, Savings and NOW accounts).  Compared to December 31, 2011, demand deposits, adjusted for the prior year-end anomaly, increased $8 million or 9%, and  savings and NOW deposits increased $11 million or 7%, while time deposits decreased by $5 million or 6%. At year-end 2012, 27% of total deposits were in non-interest bearing demand accounts, 52% were in low-cost savings and NOW accounts, and 21% were in time deposits.

Capital levels for the Simsbury Bank & Trust Company on December 31, 2012 were above those required to meet the regulatory “well-capitalized” designation.

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Results of Operations for the Years Ended December 31, 2012, 2011, and 2010

Net Interest Income and Net Interest Margin

The Bank’s earnings depend largely upon the difference between the income received from its loan portfolio and investment securities and the interest paid on its liabilities, mainly interest paid on deposits.  This difference is “net interest income.”  The net interest income, when expressed as a percentage of average total interest-earning assets, is referred to as the net interest margin.  The Bank’s net interest income is affected by the change in the level and the mix of interest-earning assets and interest-bearing liabilities, referred to as volume changes.  The Bank’s net interest margin is also affected by changes in yields earned on assets and rates paid on liabilities, referred to as rate changes.  Interest rates charged on the Bank’s loans are affected principally by the demand for such loans, the supply of money available for lending purposes and competitive factors.  These factors are in turn affected by general economic conditions and other factors beyond the Bank’s control, such as federal economic policies, the general supply of money in the economy, legislative tax policies, governmental budgetary matters, and the actions of the Federal Reserve.

Net interest and dividend income totaled $10,526,000 in 2012, which is an increase of $333,000, or 3.3%, from 2011.  Average earning assets grew to $337 million at December 31, 2012 from $317 million at December 31, 2011 primarily due to an increase in mortgage backed securities and an increase in total loans.  The Bank’s net interest spread and net interest margin decreased to 3.09% and 3.18%, respectively, during 2012 as compared to 3.13% and 3.27%, respectively, during 2011.

The following table presents the average amounts outstanding for the major categories of the Bank’s interest-earning assets and interest-bearing liabilities and the average interest rates earned or paid thereon for the years ended December 31, 2012, 2011 and 2010.

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NET INTEREST INCOME
(Dollars in thousands)
	For the Year Ended 12/31/12
	Average Balance		(1) Interest		Yield
Federal funds sold and overnight deposits	$	37,494	$	99		0.26	%
Investments  (1)		81,407		1,994		2.45
Mortgage loans		104,071		4,536		4.36
Commercial loans		57,089		2,930		5.13
Consumer loans		56,992		2,190		3.84
Term federal funds sold		-		-		-
Total loans		218,152		9,656		4.43	%
Total interest-earning assets	$	337,053	$	11,749		3.49	%
NOW deposits	$	44,630	$	39		0.09	%
Savings deposits		135,130		214		0.16
Time deposits		75,430		784		1.04
Total interest-bearing deposits		255,190		1,037		0.41
Securities sold under agreements to repurchase		3,317		4		0.12
Federal Home Loan Bank advances		-		-		-
Total interest-bearing liabilities	$	258,507	$	1,041		0.40	%
Net interest income			$	10,708
Net interest spread						3.09	%
Net interest margin						3.18	%

	For the Year Ended 12/31/11
	Average Balance		(1) Interest		Yield
Federal funds sold and overnight deposits	$	46,980	$	110		0.23	%
Investments  (1)		62,979		1,798		2.85
Mortgage loans		98,328		4,731		4.81
Commercial loans		52,735		2,904		5.51
Consumer loans		55,888		2,339		4.19
Term federal funds sold		-		-		-
Total loans		206,951		9,974		4.82	%
Total interest-earning assets	$	316,910	$	11,882		3.75	%
NOW deposits	$	39,415	$	34		0.09	%
Savings deposits		126,065		481		0.38
Time deposits		76,339		974		1.28
Total interest-bearing deposits		241,819		1,489		0.62
Securities sold under agreements to repurchase		3,314		28		0.84
Federal Home Loan Bank advances		-		-		-
Total interest-bearing liabilities	$	245,133	$	1,517		0.62	%
Net interest income			$	10,365
Net interest spread						3.13	%
Net interest margin						3.27	%

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NET INTEREST INCOME
(Dollars in thousands)
	For the Year Ended 12/31/10
	Average Balance		(1) Interest		Yield
Federal funds sold and overnight deposits	$	14,192	$	32		0.23	%
Investments  (1)		57,342		1,974		3.44
Mortgage loans		106,578		5,500		5.16
Commercial loans		49,904		2,714		5.44
Consumer loans		45,177		2,038		4.51
Term federal funds sold		-		-		-
Total loans		201,659		10,252		5.08	%
Total interest-earning assets	$	273,193	$	12,258		4.49	%
NOW deposits	$	35,729	$	40		0.11	%
Savings deposits		103,179		585		0.57
Time deposits		76,286		1,149		1.51
Total interest-bearing deposits		215,194		1,774		0.82
Securities sold under agreements to repurchase		3,434		40		1.16
Federal Home Loan Bank advances		51		-		-
Total interest-bearing liabilities	$	218,679	$	1,814		0.83	%
Net interest income			$	10,444
Net interest spread						3.66	%
Net interest margin						3.82	%

(1) On a fully taxable equivalent basis based on a tax rate of 34%.  Interest income on investments includes a fully taxable equivalent adjustment of $182,000 in 2012, $172,000 in 2011, and $203,000 in 2010.

The following table sets forth the effects of changing rates and volumes on our net interest income.  The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume).  The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate).  The net column represents the sum of the rate column and the volume column.  For purposes of this table, changes attributable to changes in both rate and volume that cannot be segregated have been allocated proportionally based on the changes due to rate and the changes due to volume.

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	Year Ended December 31, 2012 Compared to Year Ended December 31, 2011									Year Ended December 31, 2011 Compared to Year Ended December 31, 2010
	Increase (Decrease) Due to									Increase (Decrease) Due to
	Volume			Rate			Net			Volume		Rate			Net
							(In thousands)
Interest and dividend income:
Federal funds sold and overnight
Deposits	$	(30	)	$	19		$	(11	)	$	77	$	1		$	78
Investments		381			(185	)		196			239		(415	)		(176	)
Loans		513			(832	)		(319	)		178		(456	)		(278	)
Total interest-earning assets		864			(998	)		(134	)		494		(870	)		(376	)
Interest expense:
NOW deposits		4			0			4			5		(11	)		(6	)
Savings deposits		37			(304	)		(267	)		219		(323	)		(104	)
Time deposits		(11	)		(179	)		(190	)		1		(176	)		(175	)
Total interest-bearing deposits		30			(483	)		(453	)		225		(510	)		(285	)
Securities sold under agreements to repurchase		(2	)		(22	)		(24	)		1		(13	)		(12	)
FHLB advances		-			-			-			-		-			-
Total interest-bearing liabilities		28			(505	)		(477	)		226		(523	)		(297	)
Net change in interest income	$	836		$	(493	)	$	343		$	268	$	(347	)	$	(79	)

Provision for Loan Losses

Provisions for loan losses are charged to earnings to bring the total allowance for loan losses to a level deemed appropriate by the Bank’s management based on such factors as historical experience, the volume and type of lending conducted by the Bank, the amount of non-performing loans, regulatory policies, generally accepted accounting principles, general economic conditions, and other factors related to the collectability of loans in the Bank’s portfolio.

Each month the Bank reviews the allowance for loan losses and makes additional provisions to the allowance, as needed.  For the year ended December 31, 2012, the allowance increased $125,000, net of charge-offs and recoveries.  The total allowance for loan losses at December 31, 2012 was $2,594,000 or 1.10% of outstanding loans.  This compares with a total allowance for loan losses of $2,469,000 at year-end 2011, which represented 1.14% of outstanding loans.  During 2012, the Bank charged off seven loans for a total of $210,000 compared to 2011 when it charged off seventeen loans for a total of $357,000.  The Bank recovered eight loans for $15,000 in 2012 compared to seven loans for $5,000 in 2011.  Management believes the allowance for loan losses is adequate.

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Noninterest Income and Noninterest Expense

The following table sets forth the various components of the Bank’s noninterest income (charges) and noninterest expense for the years ended December 31, 2012, 2011, and 2010.

NONINTEREST INCOME
(Dollars in thousands)
	For Year Ended 12/31/12		% of Income			For Year Ended 12/31/11		% of Income			For Year Ended 12/31/10		% of Income
Service charges on deposit accounts	$	495		12.2	%	$	511		21.4	%	$	524		29.5	%
Safe deposit fees		82		2			90		3.8			80		4.5
Business manager income		-		-			4		0.2			116		6.5
Gain on loans sold, net		2,266		55.9			428		17.9			227		12.8
Gain on available-for-sale securities		113		2.8			445		18.7			-		-
SBT Investment Services, Inc		171		4.2			178		7.5			114		6.4
Other income		926		22.9			726		30.5			740		40.3
Noninterest income	$	4,053		100.0	%	$	2,382		100.0	%	$	1,801		100.0	%

NONINTEREST EXPENSE
(Dollars in thousands)
	For Year					For Year					For Year
	Ended		% of			Ended		% of			Ended		% of
	12/31/2012		Total			12/31/2011		Total			12/31/2010		Total
Salaries and employee benefits	$	6,271		54.50	%	$	5,623		52.30	%	$	4,819		49.40	%
Occupancy expense		1,059		9.2			1,098		10.2			1,133		11.6
Equipment expense		275		2.4			255		2.4			287		2.9
Professional fees		577		5			753		7			723		7.4
Advertising and promotions		655		5.7			490		4.5			408		4.2
Forms and supplies		173		1.5			187		1.7			146		1.5
Insurance		256		2.2			434		4			472		4.8
Loan expenses		45		0.4			65		0.6			199		2
Postage		93		0.8			82		0.8			98		1
Other expenses		2,104		18.3			1,768		16.5			1,470		15.2
Total	$	11,508		100.00	%	$	10,754		100.00	%	$	9,755		100.00	%

Noninterest income for the twelve months ended December 31, 2012 increased by approximately $1,671,000 to $4,053,000 from $2,382,000 for the twelve months ended December 31, 2011.  This increase was due primarily to an increase of approximately $1,838,000 in gains on loans sold.  For the twelve months ended December 31, 2011, noninterest income increased by approximately $581,000 to $2,382,000 from $1,801,000 for the twelve months ended December 31, 2010.  This increase was due primarily to an increase of approximately $200,000 in gains on loans sold.

At December 31, 2012, the Bank had 21,623 deposit accounts, an increase of 617 accounts or 2.94% over the number of accounts at year-end 2011 and 449 accounts more than at year-end 2010.  SBT Investment Services, Inc.’s revenues decreased by approximately $7,000 in 2012 compared to 2011.

Noninterest expense for the year ended December 31, 2012 was approximately $11,508,000, an increase of approximately $754,000 or 7% over 2011.  The increase in 2012 was primarily related to an increase of approximately $648,000 in salaries and employee benefits and a net increase of approximately $106,000 in all other expenses.

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Salaries and employee benefits comprised 54% of total noninterest expense during 2012, as compared to 52% in 2011.  Occupancy expense and equipment expense, at approximately 12% in 2012 and 13% in 2011, respectively, continue to be the other major categories of noninterest expense.

Financial Condition at Years Ended December 31, 2012, 2011 and 2010

The following table sets forth the average balances of each principal category of our assets, liabilities and capital accounts for the years ended December 31, 2012, 2011 and 2010.

Distribution of Assets, Liabilities and Stockholders’ Equity
(Dollars in thousands)
	For the Year Ended 12/31/12					For the Year Ended 12/31/11					For the Year Ended 12/31/10
	Average Balance		Percent of Total Assets			Average Balance		Percent of Total Assets			Average Balance		Percent of Total Assets
Assets
Cash and due from banks	$	10,240		2.9	%	$	9,525		2.9	%	$	8,221		2.8	%
Investment securities		83,033		23.3			63,737		19.1			58,211		20.1
Federal funds sold and overnight deposits		36,010		10.1			45,579		13.7			14,086		4.9
Loans, net		215,680		60.5			204,582		61.4			199,358		68.8
Premises and equipment		864		0.2			611		0.2			643		0.2
Accrued interest and other assets		10,650		3.0			9,203		2.7			9,081		3.2
Total assets	$	356,477		100.0	%	$	333,237		100.0	%	$	289,600		100.0	%
Liabilities and Stockholders' Equity
Deposits
Demand and NOW deposits	$	117,094		32.8	%	$	102,442		30.7	%	$	83,348		28.8	%
Savings deposits		135,130		37.9			126,065		37.8			103,179		35.6
Time deposits		75,430		21.2			76,339		22.9			76,286		26.4
Total deposits		327,654		91.9			304,846		91.4			262,813		90.8
Accrued interest and other liabilities		4,452		1.3			4,320		1.3			4,576		1.6
Total liabilities		332,106		93.2			309,166		92.7			267,389		92.4
Stockholders’ equity:
Preferred stock		9,697		2.7			3,515		1.1			4,049		1.4
Common stock		8,933		2.5			9,268		2.8			9,380		3.2
Retained earnings and other comprehensive income		5,741		1.6			11,288		3.4			8,782		3.0
Total stockholders’ equity		24,371		6.8			24,071		7.3			22,211		7.6
Total liabilities and stockholders’ equity	$	356,477		100.0	%	$	333,237		100.0	%	$	289,600		100.0	%

Investment Portfolio

In order to maintain a reserve of readily marketable assets to meet the Bank’s liquidity and loan requirements, the Bank purchases United States Treasury securities and other investments.  Sales of “federal funds” (short-term loans to other banks) are regularly utilized.  Placement of funds in certificates of deposit with other financial institutions may be made as alternative investments pending utilization of funds for loans or other purposes.

Securities may be pledged to meet security requirements imposed as a condition for receipt of deposits of public funds and repurchase agreements.  At December 31, 2012, the Bank had 37 securities with a carrying value totaling $14,819,000 pledged for such purposes.

As of December 31, 2012, the Bank’s investment portfolio consisted of U.S. government and agency securities, mortgage-backed securities, corporate bonds, municipal securities, and money market mutual funds.  The Bank’s policy is to stagger the maturities of its investments to meet overall liquidity requirements of the Bank.

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The following table summarizes the amounts and distribution of the Bank’s investment securities held as of December 31, 2012, 2011, and 2010.

	Investment Portfolio
	(Dollars in thousands)
	December 31, 2012
	Amortized cost		Unrealized gains		Unrealized loss		Fair value		Yield
Available-for-sale securities
U.S. government and agency securities
Due after one to five years	$	18,758	$	67	$	-	$	18,825		1.06	%
Due after five to ten years		12,002		19		11		12,010		1.39
Total U.S. govt. and agency securities		30,760		86		11		30,835		1.19
State and municipal securities
Due after one to five years		825		5		-		830		4.59
Due after five to ten years		2,622		193		-		2,815		3.74
Due after ten to fifteen years		8,566		563		3		9,126		3.36
Due beyond fifteen years		1,585		195		-		1,780		4.02
Total state and municipal securities		13,598		956		3		14,551		3.59
Corporate debt securities
Due after one to five years		2,006		52		5		2,053		2.34
Total corporate debt securities		2,006		52		5		2,053		2.34
Mortgage-backed securities
Due within one year		52		2		-		54		3.25
Due after one to five years		78		1		-		79		4.06
Due after five to ten years		5,294		118		3		5,409		2.25
Due after ten to fifteen years		18,305		309		6		18,608		1.90
Due beyond fifteen years		19,008		171		72		19,107		2.10
Total mortgage-backed securities		42,737		601		81		43,257		2.04
SBA loan pool
Due after one to five years		115		1		-		116		4.60
Due after ten to fifteen years		895		113		-		1,008		5.04
Total SBA loan pool		1,010		114		-		1,124		4.99
Preferred stocks		-		-		-		-		0.00
Total available-for-sale securities	$	90,111	$	1,809	$	100	$	91,820		2.25	%

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	Investment Portfolio
	(Dollars in thousands)
	December 31, 2011
	Amortized cost		Unrealized gains		Unrealized loss		Fair value		Yield
Available-for-sale securities
U.S. government and agency securities
Due within one year	$	500	$	2	$	-	$	502		1.49	%
Due after one to five years		12,000		43		3		12,040		1.37
Total U.S. govt. and agency securities		12,500		45		3		12,542		1.37
State and municipal securities
Due after one to five years		499		5		-		504		5.10
Due after five to ten years		1,518		55		-		1,573		3.72
Due after ten to fifteen years		7,261		387		1		7,647		3.61
Due beyond fifteen years		3,638		251		-		3,889		3.69
Total state and municipal		12,916		698		1		13,613		3.70
securities
Corporate debt securities		500		3		-		503		5.00
Due after one to five years		2,009		1		29		1,981		2.83
Total corporate debt securities		2,509		4		29		2,484		3.26
Mortgage-backed securities
Due within one year		2		-		-		2		5.26
Due after one to five years		376		9		-		385		3.63
Due after five to ten years		6,518		107		12		6,613		2.39
Due after ten to fifteen years		11,785		162		47		11,900		2.25
Due beyond fifteen years		7,936		138		107		7,967		3.15
Total mortgage-backed securities		26,617		416		166		26,867		2.57
SBA loan pool
Due after one to five years		130		3		-		133		4.63
Due after five to ten years		1,101		119		-		1,220		5.09
Total SBA loan pool		1,231		122		-		1,353		5.04
Total available-for-sale securities	$	55,773	$	1,285	$	199	$	56,859		2.61	%

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	Investment Portfolio
	(Dollars in thousands)
	December 31, 2010
	Amortized cost		Unrealized gains		Unrealized loss		Fair value		Yield
Available-for-sale securities
U.S. government and agency securities
Due after one to five years	$	10,750	$	77	$	36	$	10,791		1.77	%
Total U.S. govt. and agency securities		10,750		77		36		10,791		1.77
State and municipal securities
Due within one year		497		-		-		497		0.85
Due after one to five years		499		8		-		507		5.10
Due after five to ten years		3,196		63		3		3,256		3.57
Due after ten to fifteen years		5,294		17		108		5,203		3.90
Due beyond fifteen years		2,121		7		25		2,103		4.10
Total state and municipal securities		11,607		95		136		11,566		3.76
Corporate debt securities
Due after one to five years		1,003		21		2		1,022		3.65
Total corporate debt securities		1,003		21		2		1,022		3.65
Mortgage-backed securities
Due within one year		1		-		-		1		5.65
Due after one to five years		664		22		-		686		3.68
Due after five to ten years		5,053		136		5		5,184		3.63
Due after ten to fifteen years		8,127		145		45		8,227		3.12
Due beyond fifteen years		7,181		150		122		7,209		3.80
Total mortgage-backed securities		21,026		453		172		21,307		3.50
SBA loan pool
Due after one to five years		194		9		-		203		4.63
Due after five to ten years		1,265		100		-		1,365		5.14
Total SBA loan pool		1,459		109		-		1,568		5.07
Preferred stocks		17		18		-		35		0.00
Total available-for-sale securities	$	45,862	$	773	$	346	$	46,289		3.46	%

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Loan Portfolio

General

The following table presents the Bank’s loan portfolio as of December 31, 2012, 2011, 2010, 2009, and 2008.

LOAN PORTFOLIO
(Dollars in thousands)
	December 31, 2012						December 31, 2011						December 31, 2010
	Balance			% Total Loans			Balance			% Total Loans			Balance			% Total Loans
Commercial, financial and agricultural	$	13,991			5.9	%	$	15,145			7.0	%	$	13,568			6.6	%
Real estate – construction and land development		2,982			1.3			1,307			0.6			4,987			2.4
Real estate – residential		118,316			50.3			99,691			46.1			100,650			49.1
Real estate – commercial		41,978			17.9			39,723			18.4			31,294			15.3
Municipal		1,478			0.6			1,807			0.8			2,034			1.0
Home equity		45,245			19.3			48,485			22.5			47,746			23.4
Consumer		11,053			4.7			9,913			4.6			4,512			2.2
Total loans		235,043			100.0	%		216,071			100.0	%		204,791			100.0	%
Allowance for loan losses		(2,594	)					(2,469	)					(2,326	)
Deferred costs, net		841						482						327
Net loans	$	233,290					$	214,084					$	202,792
	December 31, 2009						December 31, 2008
	Balance			% Total Loans			Balance			% Total Loans
Commercial, financial and agricultural	$	12,901			6.7	%	$	15,742			8.7	%
Real estate – construction and land development		6,745			3.5			8,871			4.9
Real estate – residential		109,334			56.6			126,042			70.1
Real estate – commercial		28,721			14.9			22,962			12.8
Municipal		2,015			1.0			2,082			1.2
Home equity		29,075			15.0			-			-
Consumer		4,474			2.3			4,125			2.3
Total loans		193,265			100.0	%		179,824			100.0	%
Allowance for loan losses		(2,211	)					(2,017	)
Deferred costs, net		250						267
Net loans	$	191,304					$	178,074

The Bank’s commercial loans are made for the purpose of providing working capital, financing the purchase of equipment, or for other business purposes.  Such loans include loans with maturities ranging from thirty days to two years and “term loans,” which are loans with maturities normally ranging from one to ten years.  Short-term business loans are generally intended to finance current transactions and typically provide for periodic principal payments, with interest payable monthly.  Term loans normally provide for fixed or floating interest rates, with monthly payments of both principal and interest.

The Bank’s construction loans are primarily interim loans made to finance the construction of commercial and single-family residential property.  These loans are typically short-term.  The Bank generally pre-qualifies construction loan borrowers for permanent “take-out” financing as a condition to making the construction loan.  The Bank occasionally will make loans for housing construction or for acquisition and development of raw land.

The Bank’s other real estate loans consist primarily of loans made based on the borrower’s cash flow and which are secured by deeds of trust on commercial and residential property to provide another source of repayment in the event of default.  It is the Bank’s policy to restrict real estate loans without credit enhancement to no more than 80% of the lower of the appraised value or the purchase price of the property depending on the type of property and its utilization.  The Bank offers both fixed and floating rate loans.  Maturities on such loans typically range from five to thirty years.  However, Small Business Administration (SBA) and certain other real estate loans easily sold in the secondary market are made for longer maturities.  The Bank has been designated an approved SBA lender.  The Bank’s SBA loans are categorized as commercial or real estate depending on the underlying collateral.  Also, the Bank has been approved as an originator of loans that can be sold to the Federal Home Loan Mortgage Corporation.

- 18 -

During the year ended December 31, 2012, there were 302 loans sold with a total principal balance of $67,223,000, resulting in a gain for the Bank of $2,939,000. For the year ended December 31, 2011, there were 94 loans sold with a total principal balance of $18,123,000, resulting in a gain for the Bank of $390,000.  During the year ended December 31, 2010, there were 71 loans sold with a total principal balance of $14,707,000, resulting in a total gain for the Bank of $227,000. For the year ended December 31, 2009, there were 21 loans sold with a total principal balance of $4,719,000, resulting in a gain for the Bank of approximately $59,000.  During 2008, there were no loans sold.

Consumer loans are made for the purpose of financing automobiles, various types of consumer goods, and other personal purposes.  Consumer loans generally provide for the monthly payment of principal and interest.  Most of the Bank’s consumer loans are secured by the personal property being purchased.

With certain exceptions, the Bank is permitted under applicable law to make related extensions of credit to any one borrowing entity up to 15% of the Bank’s capital and reserves.  An additional 10% is permitted under applicable law if the credit is fully secured by qualified collateral.  The Bank sells participations in its loans when necessary to stay within its lending limits.  As of December 31, 2012, these lending limits for the Bank were $4,777,205 and $7,962,009, respectively.

Loan Concentrations

The Bank does not have any significant concentrations in its loan portfolio by industry or group of industries.  As of December 31, 2012, approximately 88% of the Bank’s loans were secured by residential real property located in Connecticut.  As of December 31, 2011, approximately 86% of the Bank’s loans were secured by residential real property located in Connecticut.

Loan Portfolio Maturities and Interest Rate Sensitivity

 The following table summarizes the maturities and interest rate sensitivity of the Bank’s loan portfolio.

MATURITIES AND RATE SENSITIVITY OF LOANS
As of December 31, 2012
(In thousands)
	One Year or Less		Over One to Five Years		Over  Five Years		Total
Commercial, financial and agricultural	$	5,410	$	8,492	$	-	$	13,902
Real estate – construction and land development		2,982		-		-		2,982
Real estate – residential		50,148		67,467		45,947		163,562
Real estate – commercial		39,726		-		2,340		42,066
Municipal		1,478		-		-		1,478
Consumer		4,537		6,516		-		11,053
Total loans	$	104,281	$	82,475	$	48,287	$	235,043
Loans with fixed interest rates	$	26,640	$	71,606	$	46,828	$	145,074
Loans with variable interest rates		77,641		10,869		1,459		89,969
Total loans	$	104,281	$	82,475	$	48,287	$	235,043

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The following table sets forth the Bank’s loan commitments, standby letters of credit, and unadvanced portions of loans at December 31, 2012, 2011 and 2010.

LOAN COMMITMENTS AND STANDBY LETTERS OF CREDIT
(In thousands)
	12/31/12		12/31/11		12/31/10
Commitments to originate loans	$	13,459	$	4,571	$	2,701
Standby letters of credit		175		293		233
Unadvanced portion of loans:
Construction		1,778		70		4,322	��
Commercial lines of credit		11,383		8,059		7,858
Consumer		689		674		735
Home equity lines of credit		32,550		28,715		24,120
Commercial real estate, land		-		-		-
Total	$	60,034	$	42,382	$	39,969

Non-Performing Assets

Interest on performing loans is accrued and taken into income daily.  Loans over 90 days past due are deemed “non-performing” and are placed on a nonaccrual status, unless the loan is well collateralized and in the process of collection.  Interest received on nonaccrual loans is credited to income only upon receipt and in certain circumstances may be applied to principal until the loan has been repaid in full, at which time the interest received is credited to income.  The Bank had 11 nonaccrual loans with a balance of approximately $1,240,000 as of December 31, 2012, 19 nonaccrual loans with a balance of approximately $2,306,000 as of December 31, 2011, 19 nonaccrual loans with a balance of approximately $2,300,000 as of December 31, 2010, 21 nonaccrual loans with a balance of approximately $3,200,000 as of December 31, 2009, and 12 nonaccrual loans with a balance of approximately $561,000 as of December 31, 2008.  Gross interest that would have been recorded if the nonaccrual loans had been current was approximately $80,000 for the year ended December 31, 2012, approximately $137,000 for the year ended December 31, 2011, approximately $136,000 for the year ended December 31, 2010, approximately $77,000 for the year ended December 31, 2009, and approximately $26,000 for the year ended December 31, 2008.

The amount of interest on nonaccrual loans included in net income was approximately $12,000 for the year ended December 31, 2012, approximately $29,000 for the year ended December 31, 2011, approximately $61,000 for the year ended December 31, 2010, approximately $18,000 for the year ended December 31, 2009, and approximately $19,000 for the year ended December 31, 2008.  As of December 31, 2012, the Bank had no loans more than 90 days past due and still accruing interest. As of December 31, 2011, the Bank had one loan of approximately $204,000 that was more than 90 days past due and still accruing interest.  As of December 31, 2010, the Bank had no loans more than 90 days past due and still accruing interest.  As of December 31, 2009, the Bank had two loans with a balance of approximately $202,000 that were more than 90 days past due and still accruing interest.  The Bank had four loans with a balance of approximately $90,000 as of December 31, 2008 that were more than 90 days past due and still accruing interest.

When appropriate or necessary to protect the Bank’s interests, real estate taken as collateral on a loan may be taken by the Bank through foreclosure or a deed in lieu of foreclosure.  Real property acquired in this manner by the Bank is referred to as “other real estate owned” (“OREO”), and is carried on the books of the Bank as an asset, at the lesser of the Bank’s recorded investment or the fair value less estimated costs to sell.  As of December 31, 2012, there was $213,000 in OREO property held by the Bank.  As of December 31, 2011, the Bank held no OREO property.  As of December 31, 2010, there was $350,000 in OREO property held by the Bank.  As of December 31, 2009 and 2008, there was no OREO property held by the Bank.

A loan whose terms have been modified due to financial difficulties of a borrower is reported as a troubled debt restructure (“TDR”).  All TDR loans are placed on nonaccrual status until the loan qualifies for return to accrual status. Loans qualify for return to accrual status once they have demonstrated performance with the restructured terms of the loan agreement for a minimum of six months.  The Bank had one TDR loans at December 31, 2012 with a balance of approximately $68,000.  The Bank had two TDR loans at December 31, 2011 and December 31, 2010 with an aggregate balance of approximately $570,000 and $408,000, respectively.  The Bank had no TDR loans at December 31, 2009 and 2008.

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The risk of nonpayment of loans is an inherent feature of the banking business.  That risk varies with the type and purpose of the loan, the collateral which is utilized to secure payment, and ultimately, the credit worthiness of the borrower.  In order to minimize this credit risk, the Bank requires that most loans be approved by at least two officers, one of whom must be an executive officer.  Commercial loans greater than $500,000, as well as other loans in certain circumstances, must be approved by the Loan Committee of the Bank’s Board of Directors.

The Bank has an internal review process to verify credit quality and risk classifications.  In addition, the Bank also maintains a program of annual review of certain new and renewed loans by an outside loan review consultant.  Loans are graded from “pass” to “loss,” depending on credit quality, with “pass” representing loans that are fully satisfactory as additions to the Bank’s portfolio.  These are loans which involve a degree of risk that is not unwarranted given the favorable aspects of the credit and which exhibit both primary and secondary sources of repayment.  Classified loans identified in either review process are added to the Bank’s Internal Watchlist and an additional allowance for loan losses is established for such loans if appropriate.  Additionally, the Bank is examined regularly by the Federal Deposit Insurance Corporation and the State of Connecticut Department of Banking at which time a further review of the loan portfolio is conducted.

The Bank had classified loans with a combined outstanding balance of $8,979,000 as of December 31, 2012; $9,571,000 as of December 31, 2011; $6,589,000 as of December 31, 2010; $9,382,000 as of December 31, 2009; and $5,944,000 as of December 31, 2008.

Allowance for Loan Losses

The Bank maintains an allowance for loan losses to provide for potential losses in the loan portfolio.  Additions to the allowance are made by charges to operating expenses in the form of a provision for loan losses.  All loans that are judged to be uncollectable are charged against the allowance while any recoveries are credited to the allowance.  Management conducts a critical evaluation of the loan portfolio monthly.  This evaluation includes an assessment of the following factors:  the results of the Bank’s internal loan review, any external loan review, any regulatory examination, loan loss experience, estimated potential loss exposure on each credit, concentrations of credit, value of collateral, any known impairment in the borrower’s ability to repay, and present and prospective economic conditions.

The following table summarizes the Bank’s loan loss experience, transactions in the allowance for loan losses, and certain prominent ratios at or for the years ended December 31, 2012, 2011, 2010, 2009, and 2008.

	At or For the Year Ended 12/31/12			At or For the Year Ended 12/31/11
ALLOWANCE FOR LOAN LOSSES
Balance at beginning of period	$	2,469		$	2,326
Charge-offs:
Commercial, financial and agricultural		(74	)		(296	)
Installment loans to individuals		(136	)		(61	)
Total charge-offs		(210	)		(357	)
Recoveries:
Commercial, financial and agricultural		7			-
Installment loans to individuals		8			5
Total recoveries		15			5
Net loans (charged-off) recovered		(195	)		(352	)
Provision for loan losses		320			495
Balance at end of period	$	2,594		$	2,469
BALANCES
Average total loans	$	222,364		$	207,680
Total net loans at end of period		233,290			214,084
RATIOS
Allowance for loan losses to average loans		1.17	%		1.19	%
Allowance for loan losses to net loans at end of period		1.11			1.15

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	At or For the Year  Ended 12/31/10			At or For the Year  Ended 12/31/09
ALLOWANCE FOR LOAN LOSSES
Balance at beginning of period	$	2,211		$	2,017
Charge-offs:
Commercial, financial and agricultural		(627	)		(226	)
Installment loans to individuals		(20	)		(132	)
Total charge-offs		(647	)		(358	)
Recoveries:
Commercial, financial and agricultural		1			3
Installment loans to individuals		6			2
Total recoveries		7			5
Net loans (charged-off) recovered		(640	)		(353	)
Provision for loan losses		755			547
Balance at end of period	$	2,326		$	2,211
BALANCES
Average total loans	$	202,181		$	184,089
Total loans at end of period		204,792			193,265
RATIOS
Allowance for loan losses to average loans		1.15	%		1.20	%
Allowance for loan losses to loans at end of period		1.14			1.14
	At or For the Year Ended 12/31/08
ALLOWANCE FOR LOAN LOSSES
Balance at beginning of period	$	1,924
Charge-offs:
Commercial, financial and agricultural		(130	)
Installment loans to individuals		(229	)
Total charge-offs		(359	)
Recoveries:
Commercial, financial and agricultural		2
Installment loans to individuals		-
Total recoveries		2
Net loans (charged-off) recovered		(357	)
Provision for loan losses		450
Balance at end of period	$	2,017
BALANCES
Average total loans	$	173,168
Total loans at end of period		179,824
RATIOS
Allowance for loan losses to average loans		1.17	%
Allowance for loan losses to loans at end of period		1.12

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The following table summarizes the allocation of the allowance for loan losses by loan type and the percent of loans in each category compared to total loans at December 31, 2012, 2011, 2010, 2009 and 2008.

ALLOCATION OF ALLOWANCE FOR LOAN LOSSES
(Dollars in thousands)
	December 31, 2012					December 31, 2011					December 31, 2010
	Allocation of Allowance		% of Loans by Category			Allocation of Allowance		% of Loans by Category			Allocation of Allowance		% of Loans by Category
Real estate - residential	$	1,413		54.5	%	$	1,092		44.2	%	$	1,198		72.5	%
Real estate - commercial		586		22.6			573		23.2			465		15.3
Real estate - construction and land development		142		5.5			22		0.9			68		2.4
Commercial, financial and agricultural		199		7.6			385		15.6			377		6.6
Municipal		20		0.8			37		1.5			34		1.0
Consumer		99		3.8			194		7.9			91		2.2
Unallocated		135		5.2			166		6.7			93		-
Total	$	2,594		100.0	%	$	2,469		100.0	%	$	2,326		100.0	%

	December 31, 2009					December 31, 2008
	Allocation of Allowance		% of Loans by Category			Allocation of Allowance		% of Loans by Category
Real estate - residential	$	1,229		71.6	%	$	639		70.1	%
Real estate - commercial		450		14.9			823		12.8
Real estate - construction and land development		106		3.5			77		4.9
Commercial, financial and agricultural		341		6.7			345		8.8
Municipal		38		1.0			33		1.2
Consumer		47		2.3			100		2.2
Unallocated		-		-			-		-
Total	$	2,211		100.0	%	$	2,017		100.0	%

Deposits

Deposits are the Bank’s primary source of funds.  At December 31, 2012, the Bank had a deposit mix of 42% checking, 37% savings, and 21% certificates of deposit.  Twenty-seven percent of the total deposits of $340.4 million were noninterest bearing at December 31, 2012.  At December 31, 2011, the Bank had a deposit mix of 43% checking, 34% savings, and 23% certificates of deposit.  Thirty percent of the total deposits of $344.8 million were noninterest bearing at December 31, 2011.  At December 31, 2012, $45.7 million of the Bank’s deposits were from public sources compared to $45.5 million of the Bank’s deposits at December 31, 2011.  The Bank’s net interest income is enhanced by its percentage of noninterest bearing deposits.

The Bank’s deposits are obtained from a cross-section of the communities it serves.  No material portion of the Bank’s deposits has been obtained from or is dependent upon any one person or industry.  The Bank’s business is not seasonal in nature.  The Bank accepts deposits in excess of $100,000 from customers.  Those deposits are priced to remain competitive.  Through the Promontory Interfinancial Network LLC’s Certificate of Deposit Accounts Registry Service (CDARS) program, the Bank had brokered deposits of $4,544,000 as of December 31, 2012 and $9,017,000 as of December 31, 2011.

The Bank is not dependent upon funds from sources outside the United States and has not made loans to any foreign entities.

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The following table summarizes the distribution of average deposits and the average annualized rates paid for the years ended December 31, 2012, 2011 and 2010.

AVERAGE DEPOSITS
(Dollars in thousands)
	For the Year Ended December 31, 2012					For the Year Ended December 31, 2011					For the Year Ended December 31, 2010
	Average Balance		Average Rate			Average Balance		Average Rate			Average Balance		Average Rate
Demand deposits	$	72,464		0.00	%	$	63,027		0.00	%	$	47,618		0.00	%
NOW deposits		44,630		0.09			39,415		0.09			35,729		0.11
Savings deposits		135,130		0.16			126,065		0.38			103,179		0.57
Time deposits		75,430		1.04			76,339		1.28			76,286		1.51
Total average deposits	$	327,654		0.32	%	$	304,846		0.53	%	$	262,812		0.68	%

The following table indicates the maturity schedule for the Bank’s time deposits of $100,000 or more as of December 31, 2012, 2011 and 2010.

SCHEDULED MATURITY OF TIME DEPOSITS OF $100,000 OR MORE
(Dollars in thousands)
	December 31, 2012					December 31, 2011					December 31, 2010
	Balance		% of  Total			Balance		% of  Total			Balance		% of Total
Three months or less	$	10,169		32.5	%	$	12,881		37.2	%	$	12,126		37.6	%
Over three through six months		3,180		10.1			8,168		23.6			6,166		19.1
Over six through twelve months		5,960		19.0			7,084		20.5			3,277		10.2
Over twelve months		12,022		38.4			6,468		18.7			10,673		33.1
Total Time Deposits	$	31,331		100.0	%	$	34,601		100.0	%	$	32,242		100.0	%

Liquidity and Asset-Liability Management

Liquidity management for banks requires that funds always be available to pay anticipated deposit withdrawals and maturing financial obligations promptly and fully in accordance with their terms.  The balance of the funds required is generally provided by payments on loans, sale of loans, liquidation of assets, borrowings, and the acquisition of additional deposit liabilities.

One method banks utilize for acquiring additional liabilities is through the acceptance of “brokered deposits” (defined to include not only deposits received through deposit brokers but also deposits bearing interest in excess of 75 basis points over market rates), typically attracting large certificates of deposit at high interest rates.  The Company is a member of Promontory Interfinancial Network LLC’s Certificate of Deposit Accounts Registry Service (CDARS).  This allows the Company to offer its customers FDIC insurance on deposits in excess of $250,000, which reflects the deposit insurance limits in effect on the report date, by placing the deposits in the CDARS network.  Accounts placed in this manner are considered brokered deposits.  As of December 31, 2012, the Company had $4,544,000 of deposits in the CDARS network compared to $9,017,000 of deposits in the CDARS network as of December 31, 2011. The Company had no other brokered deposits as of December 31, 2012 and December 31, 2011.

Liquidity of a financial institution, such as a bank, is measured based on its ability to have liquid assets sufficient to meet its short term obligations.  The net sum of liquid assets less anticipated current obligations represents the basic liquidity surplus of the Company.  The Company maintains a portion of its funds in cash deposits in other banks, federal funds sold, and available-for-sale securities to meet its obligations for anticipated depositors’ demands in the near future.  As of December 31, 2012, the Company held $29.4 million in cash and cash equivalents, net of required FRB reserves of $4.7 million, and $77.0 million in available-for-sale securities, net of pledged investments of $14.8 million, for total liquid assets of $106.4 million. As of December 31, 2012, the Company’s anticipated short term liability obligations were $43.2 million, which resulted in a basic liquidity surplus of $62.2 million that represented 17% of total assets.  As of December 31, 2011, the Company held $86.6 million in cash and cash equivalents, net of required FRB reserves of $5.3 million, and $41.9 million in available-for-sale securities, net of pledged investments of $15.0 million, for total liquid assets of $128.5 million.  As of December 31, 2011, the Company’s anticipated short term liability obligations were $44.0 million, which resulted in a basic liquidity surplus of $84.5 million that represented 22% of total assets.

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The careful planning of asset and liability maturities and the matching of interest rates to correspond with these maturities is an integral part of the active management of an institution’s net yield.  To the extent maturities of assets and liabilities do not match in a changing interest rate environment, net yields may be affected.  Even with perfectly matched repricing of assets and liabilities, risks remain in the form of prepayment of assets, timing lags in adjusting certain assets and liabilities that have varying sensitivities to market interest rates and basis risk.  In its overall attempt to match assets and liabilities, management takes into account rates and maturities offered in connection with its certificates of deposit and provides for the extension of variable rate loans to borrowers.  The Company has generally been able to control its exposure to changing interest rates by maintaining floating interest rate loans, shorter term investments, and a majority of its time certificates of deposit with relatively short maturities.

The table below sets forth the interest rate sensitivity of the Bank’s interest-sensitive assets and interest-sensitive liabilities as of December 31, 2012, 2011 and 2010, using the interest rate sensitivity gap ratio.  For the purposes of the following table, an asset or liability is considered rate-sensitive within a specified period when it can be repriced or matures within its contractual terms.

INTEREST RATE SENSITIVITY
(Dollars in thousands)
	December 31, 2012
	Due within Three Months			Due in  Three to Twelve  Months			Due after One Year to Five Years			Due after Five Years			Total
Rate sensitive assets
Federal funds sold and overnight Deposits	$	2,094		$	-		$	-		$	-		$	2,094
Available-for-sale securities		8,559			26,607			34,241			22,413			91,820
Total loans		81,541			22,740			82,475			48,286			235,042
Total	$	92,194		$	49,347		$	116,716		$	70,699		$	328,956
Rate sensitive liabilities
NOW deposits	$	2,402		$	-		$	-		$	45,640		$	48,042
Savings deposits		84,997			-			-			42,230			127,227
Time deposits		17,878			28,349			26,244			-			72,471
Securities sold under agreements to repurchase		3,568			-			-			-			3,568
FHLB advances		-			-			-			-			-
Total	$	108,845		$	28,349		$	26,244		$	87,870		$	251,308
Interest rate sensitivity gap		(16,651	)		20,998			90,472			(17,171	)	$	77,648
Cumulative gap	$	(16,651	)	$	4,347		$	94,819		$	77,648
Cumulative gap ratio to total assets		(4	)%		1	%		25	%		21	%

	December 31, 2011
	Due within Three Months			Due in Three to Twelve Months			Due after One Year to Five Years			Due after Five Years			Total
Rate sensitive assets
Federal funds sold and overnight deposits	$	2,024		$	-		$	-		$	-		$	2,024
Available-for-sale securities		7,315			10,312			21,977			17,255			56,859
Total loans		72,145			21,268			78,780			43,878			216,071
Total	$	81,484		$	31,580		$	100,757		$	61,133		$	274,954
Rate sensitive liabilities
NOW deposits	$	2,269		$	-		$	-		$	43,112		$	45,381
Savings deposits		80,969			-			-			37,968			118,937
Time deposits		21,218			38,587			16,876			-			76,681
Securities sold under agreements to repurchase		3,548			-			-			-			3,548
FHLB advances		-			-			-			-			-
Total	$	108,004		$	38,587		$	16,876		$	81,080		$	244,547
Interest rate sensitivity gap		(26,520	)		(7,007	)		83,881			(19,947	)	$	30,407
Cumulative gap	$	(26,520	)	$	(33,527	)	$	50,354		$	30,407
Cumulative gap ratio to total assets		(7	)%		(9	)%		13	%		8	%

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INTEREST RATE SENSITIVITY (Dollars in thousands)
	December 31, 2010
	Due within Three Months			Due in Three to Twelve Months			Due after One Year to Five Years			Due after Five Years			Total
Rate sensitive assets
Federal funds sold and overnight deposits	$	2,787		$	-		$	-		$	-		$	2,787
Available-for-sale securities		2,109			13,541			16,409			14,230			46,289
Total loans		62,256			20,195			76,464			45,876			204,791
Total	$	67,152		$	33,736		$	92,873		$	60,106		$	253,867
Rate sensitive liabilities
NOW deposits	$	1,800		$	-		$	-		$	34,190		$	35,990
Savings deposits		69,053			-			-			31,165			100,218
Time deposits		23,508			32,156			22,068			-			77,732
Securities sold under agreements to
repurchase		3,235			-			-			-			3,235
Total	$	97,596		$	32,156		$	22,068		$	65,355		$	217,175
Interest rate sensitivity gap		(30,444	)		1,580			70,805			(5,249	)	$	36,692
Cumulative gap	$	(30,444	)	$	(28,864	)	$	41,941		$	36,692
Cumulative gap ratio to total assets		(10	)%		(10	)%		14	%		12	%

Since interest rate changes do not affect all categories of assets and liabilities equally or simultaneously, a cumulative gap analysis alone cannot be used to evaluate the Bank’s interest rate sensitivity position.  To supplement traditional gap analysis, the Bank performs simulation modeling to estimate the potential effects of changing interest rates.  This process allows the Bank to explore complex relationships among repricing assets and liabilities over time in various interest rate environments.

The Company’s Executive Committee meets at least quarterly to monitor the Bank’s investments and liquidity needs and to oversee its asset-liability management.  Between meetings of the Executive Committee, management oversees the Bank’s liquidity.

Capital Reserve

The Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) defines specific capital categories based upon an institution’s capital ratios.  The capital categories, in declining order, are: (i) “well capitalized”; (ii) “adequately capitalized”; (iii) “under-capitalized”; (iv) “significantly under-capitalized”; and (v) “critically under-capitalized”.  Under FDICIA and the FDIC’s prompt corrective action rules, the FDIC may take any one or more of the following actions against an “under-capitalized” bank:  restrict dividends and management fees, restrict asset growth, and prohibit new acquisitions, new branches or new lines of business without prior FDIC approval.  If a bank is “significantly under-capitalized”, the FDIC may also require the bank to raise capital, restrict interest rates a bank may pay on deposits, require a reduction in assets, restrict any activities that might cause risk to the bank, require improved management, prohibit the acceptance of deposits from correspondent banks, and restrict compensation to any senior executive officer.  When a bank becomes “critically under-capitalized” (i.e., the ratio of tangible equity to total assets is equal to or less than 2%), the FDIC must, within 90 days thereafter, appoint a receiver for the bank or take such action as the FDIC determines would better achieve the purposes of the law.  Even where such other action is taken, the FDIC generally must appoint a receiver for a bank if the bank remains “critically under-capitalized” during the calendar quarter beginning 270 days after the date on which the bank became “critically under-capitalized.”

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The regulations implementing these provisions of FDICIA provide that a bank will be classified as “well capitalized” if it (i) has a Tier 1 leverage ratio of at least 5%, (ii) has a Tier 1 risk-based capital ratio of at least 6%, (iii) has a total risk-based capital ratio of at least 10%, and (iv) meets certain other requirements.  A bank will be classified as “adequately capitalized” if it (i) has a Tier 1 leverage ratio of (a) at least 4%, or (b) at least 3% if the bank was rated 1 in its most recent examination and is not experiencing or anticipating significant growth, (ii) has a Tier 1 risk-based capital ratio of at least 4%, (iii) has a total risk-based capital ratio of at least 8%, and (iv) does not meet the definition of “well capitalized.”  A bank will be classified as “undercapitalized” if it (i) has a Tier 1 leverage ratio of (a) less than 4%, or (b) less than 3% if the bank was rated 1 in its most recent examination and is not experiencing or anticipating significant growth, (ii) has a Tier 1 risk-based capital ratio of less than 4%, or (iii) has a total risk-based capital ratio of less than 8%.  A bank will be classified as “significantly undercapitalized” if it (i) has a Tier 1 leverage ratio of less than 3%, (ii) has a Tier 1 risk-based capital ratio of less than 3%, or (iii) has a total risk-based capital ratio of less than 6%.  An institution will be classified as “critically undercapitalized” if it has a tangible equity to total assets ratio that is equal to or less than 2%.  An insured depository institution may be deemed to be in a lower capitalization category if the FDIC has determined (i) that the insured depository institution is in unsafe or unsound condition or (ii) that, in the most recent examination of the insured depository institution, the insured depository institution received and has not corrected a less-than-satisfactory rating for any of the categories of asset quality, management, earnings, or liquidity.

As of December 31, 2012, the most recent notification from the FDIC categorized the Bank as “well capitalized” under the regulatory framework for prompt corrective action.  To be categorized as “well capitalized,” the Bank must maintain minimum Tier 1 leverage, Tier 1 risk-based and total risk-based ratios as set forth in the table below.  Management of the Bank believes there are no conditions that have changed the Bank’s category since December 31, 2012.

At December 31, 2012, 2011 and 2010, the Bank’s capital exceeded all minimum regulatory requirements and the Bank was considered to be “well capitalized” as defined in the regulations issued by the FDIC.

	Actual 12/31/12			Actual 12/31/11			Actual 12/31/10			Well- Capitalized
Bank:
Tier 1 capital (to average assets)		7.73	%		7.46	%		7.00	%		5.00	%
Tier 1 capital (to risk weighted assets)		13.44	%		13.19	%		11.41	%		6.00	%
Total capital (to risk weighted assets)		14.68	%		14.44	%		12.66	%		10.00	%

Inflation

The impact of changes in the general price level of goods or services on financial institutions, either through inflation or deflation, may differ significantly from the impact exerted on other companies.  Banks, as financial intermediaries, have numerous assets and liabilities whose values are affected by both inflation and deflation.  This is especially true for companies, such as a bank, with a high percentage of interest-rate-sensitive assets and liabilities.  Banks seek to reduce the impact of inflation or deflation, and the coincident increase or decrease in interest rates, by managing their interest-rate-sensitivity gap.  The Company attempts to manage its interest-rate-sensitivity gap and to structure its mix of financial instruments in order to minimize the potential adverse effects inflation or deflation may have on its net interest income and, therefore, its earnings and capital.

Based on the Company’s interest-rate-sensitivity position, the Company may be adversely affected by changes in interest rates in the short term.  As such, management of the money supply and interest rates by the Federal Reserve to control the general price level of goods or services has an indirect impact on the earnings of the Company.  Also, changes in interest rates may have a corresponding impact on the ability of borrowers to repay loans made by the Company.

Options Outstanding

The Company previously issued options to purchase shares of its common stock under the SBT Bancorp 1998 Stock Plan (the “1998 Plan”).  As of March 20, 2012, there were options outstanding to purchase an aggregate of 31,500 shares of the Company’s authorized but unissued common stock at a price of between $29.00 and $31.50 per share and which will expire between the years 2015 and 2016.  The 1998 Plan expired in March 2008.

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Following shareholder approval in 2011, the Company established the SBT Bancorp, Inc. 2011 Stock Award and Option Plan (the “2011 Plan”), effective June 1, 2011, to provide stock awards and options to employees, officers and directors of the Company in order to attract them to the Company, give them a proprietary interest in the Company, and to encourage them to remain in the employ or service of the Company.  The maximum number of shares of the Company’s common stock that may be delivered pursuant to awards or options under the 2011 Plan is 100,000 shares.  As of March 28, 2013, 21,776 shares of restricted stock have been granted to directors and officers of the Bank and the remaining number of shares and options to be granted under the 2011 Plan was 78,224.  The 2011 Plan will expire on March 16, 2021.

During 2012, the Company granted 10,570 shares of restricted stock with an award value of $251,067, or $23.75 per share.  The restricted shares vest over a three year period.  During 2012, the Company recognized compensation expense related to the restricted shares awarded in the amount of $28,748.

A summary of the status of the Company’s equity plans as of December 31, 2012 and 2011 and changes during the years ended on such dates is presented below:

	2012					2011
				Weighted-Average					Weighted-Average
Options	Shares			Exercise Price		Shares			Exercise Price
Outstanding at beginning of year		32,811		$	30.07		48,875		$	30.21
Granted		-			-		-			-
Exercised		-			-		-			-
Forfeited		(1,311	)		15.65		(17,064	)		30.48
Outstanding at end of year		31,500			30.67		32,811			30.07
Options exercisable at year-end		31,500			30.67		32,811			30.07
Weighted-average fair value of
options granted during the year		N/A					N/A

The following table summarizes information about fixed stock options outstanding as of December 31, 2012:

Options Outstanding and Exercisable
				Weighted-Average
		Number		Remaining	Number
	Exercise Price	Outstanding		Contractual Life	Exercisable		Exercise Price
	31.50		21,000	2.97 years		21,000		31.50
	29.00		10,500	3.48 years		10,500		29.00
$	30.67		31,500	3.14 years		31,500		30.67

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The Board of Directors and Stockholders

SBT Bancorp, Inc.

Simsbury, Connecticut

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

We have audited the accompanying consolidated balance sheets of SBT Bancorp, Inc. and Subsidiary as of December 31, 2012 and 2011 and the related consolidated statements of income, comprehensive income, changes in stockholders' equity 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.  The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting.  Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting.  Accordingly, we express no such opinion.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of SBT Bancorp, Inc. and Subsidiary as of December 31, 2012 and 2011 and the consolidated results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.

SHATSWELL, MacLEOD & COMPANY, P.C.

West Peabody, Massachusetts

March 18, 2013

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SBT BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

December 31, 2012 and 2011

(In Thousands, Except Share Data)

ASSETS	2012			2011
Cash and due from banks	$	12,372		$	19,217
Interest-bearing deposits with the Federal Reserve Bank
and Federal Home Loan Bank		19,276			65,293
Money market mutual funds		358			5,346
Federal funds sold		2,094			2,024
Cash and cash equivalents		34,100			91,880
Interest-bearing time deposits with other banks		3,789			4,728
Investments in available-for-sale securities (at fair value)		91,820			56,859
Federal Home Loan Bank stock, at cost		589			660
Loans		235,884			216,553
Less allowance for loan losses		2,594			2,469
Loans, net		233,290			214,084
Premises and equipment, net		824			679
Accrued interest receivable		1,019			964
Other real estate owned		213			-
Bank owned life insurance		6,520			4,172
Other assets		2,855			3,013
Total assets	$	375,019		$	377,039
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits:
Demand deposits	$	92,670		$	103,778
Savings and NOW deposits		175,268			164,318
Time deposits		72,471			76,681
Total deposits		340,409			344,777
Securities sold under agreements to repurchase		3,569			3,548
Other liabilities		1,604			1,271
Total liabilities		345,582			349,596
Stockholders' equity:
Preferred stock, senior non-cumulative perpetual, Series C, no par; 9,000
shares issued and outstanding at December 31, 2012 and 2011;
liquidation value of $1,000 per share		8,964			8,952
Common stock, no par value; authorized 2,000,000 shares; issued
and outstanding 888,724 shares and 888,310 shares, respectively,
in 2012 and 876,808 shares and 876,394 shares, respectively, in 2011		9,901			9,620
Retained earnings		9,819			8,360
Treasury stock, 414 shares at December 31, 2012 and 2011		(7	)		(7	)
Unearned compensation restricted stock awards		(368	)		(199	)
Accumulated other comprehensive income		1,128			717
Total stockholders' equity		29,437			27,443
Total liabilities and stockholders' equity	$	375,019		$	377,039

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

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SBT BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF INCOME

Years Ended December 31, 2012 and 2011

(In Thousands, Except Share Data)

	2012			2011
Interest and dividend income:
Interest and fees on loans	$	9,656		$	9,975
Interest on debt securities:
Taxable		1,166			992
Tax-exempt		489			450
Dividends		7			9
Other interest		249			284
Total interest and dividend income		11,567			11,710
Interest expense:
Interest on deposits		1,037			1,489
Interest on securities sold under agreements to repurchase		4			28
Total interest expense		1,041			1,517
Net interest and dividend income		10,526			10,193
Provision for loan losses		320			495
Net interest and dividend income after provision for loan losses		10,206			9,698
Noninterest income:
Service charges on deposit accounts		495			511
Writedown of securities		(12	)
Gain on sale of investments		125			445
Gain on sale of mortgages		2,266			428
Investment services fees and commissions		171			178
Other service charges and fees		798			651
Increase in cash surrender value of life insurance policies		208			160
Other income		2			9
Total noninterest income		4,053			2,382
Noninterest expense:
Salaries and employee benefits		6,271			5,623
Occupancy expense		1,059			1,098
Equipment expense		275			254
Loss on sale of other real estate owned		38			28
Professional fees		577			753
Advertising and promotions		655			490
Forms and supplies		173			187
Correspondent charges		344			312
FDIC assessment		176			360
Postage		93			82
Directors’ fees		229			197
Data processing		502			446
Other expense		1,116			924
Total noninterest expense		11,508			10,754
Income before income tax expense		2,751			1,326
Income tax expense		707			416
Net income	$	2,044		$	910
Net income available to common stockholders	$	1,898		$	550
Earnings per common share	$	2.19		$	0.64
Earnings per common share, assuming dilution	$	2.18		$	0.63

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

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SBT BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

Years Ended December 31, 2012 and 2011

(In Thousands)

	2012		2011
Net income	$	2,044	$	910
Other comprehensive income, net of tax:
Net change in unrealized holding gain on available-for-sale securities, net of tax		411		457
Other comprehensive income, net of tax		411		457
Comprehensive income	$	2,455	$	1,367

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

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SBT BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

Years Ended December 31, 2012 and 2011

(In Thousands, Except Share Data)

																		Unearned			Accumulated
																		Compensation			Other
	Preferred Stock									Common		Retained			Treasury			Restricted Stock			Comprehensive
	Series A				Series B			Series C		Stock		Earnings			Stock			Awards			Income		Total
Balance, December 31, 2010		$	3,850		$	220		$	-	$	9,381	$	8,255		$	-		$	-		$	260	$	21,966
Net income			-			-			-		-		910			-			-			-		910
Other comprehensive income,
net of tax effect			-			-			-		-		-			-			-			457		457
Preferred stock dividends			-			-			-		-		(252	)		-			-			-		(252	)
Preferred stock amortization (accretion)			150			(20	)		5		-		(135	)		-			-			-		-
Stock based compensation			-			-			-		-		-			-			29			-		29
Forfeiture – restricted stock award			-			-			-		-		-			(7	)		7			-		-
Restricted stock awards			-			-			-		235		-			-			(235	)		-		-
Preferred stock redeemed			(4,000	)		(200	)		-		-		-			-			-			-		(4,200	)
Preferred stock issued, net of issuance costs			-			-			8,947		-		-			-			-			-		8,947
Common stock issued			-			-			-		4		-			-			-			-		4
Dividends declared common stock     ($.48 per share)			-			-			-		-		(418	)		-			-			-		(418	)
Balance, December 31, 2011			-			-			8,952		9,620		8,360			(7	)		(199	)		717		27,443
Net income			-			-			-		-		2,044									-		2,044
Other comprehensive income,
net of tax effect			-			-			-		-		-			-			-			411		411
Preferred stock dividends			-			-			-		-		(134	)		-			-			-		(134	)
Preferred stock amortization (accretion)			-			-			12		-		(12	)		-			-			-		-
Stock based compensation			-			-			-		-		-			-			82			-		82
Restricted stock awards			-			-			-		251		-			-			(251	)		-		-
Tax benefit vested restricted stock awards											2													2
Common stock issued			-			-			-		28		-			-			-			-		28
Dividends declared common stock     ($.50 per share)			-			-			-		-		(439	)		-			-			-		(439	)
Balance, December 31, 2012		$	-		$	-		$	8,964	$	9,901	$	9,819		$	(7	)	$	(368	)	$	1,128	$	29,437

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

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SBT BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

Years Ended December 31, 2012 and 2011

(In Thousands)

	2012			2011
Cash flows from operating activities:
Net income	$	2,044		$	910
Adjustments to reconcile net income to net cash provided by operating activities:
Interest capitalized on interest-bearing time deposits with other banks		(150	)		(173	)
Amortization of securities, net		495			225
Writedown of available-for-sale securities		12			-
Gain on sale of available-for-sale securities		(125	)		(445	)
Change in deferred origination costs (fees), net		(359	)		(155	)
Provision for loan losses		320			495
Loss on sale of other real estate owned		38			28
Depreciation and amortization		220			216
Accretion on impairment of operating lease		(45	)		(45	)
Increase in other assets		(516	)		(14	)
Increase in interest receivable		(55	)		(59	)
Decrease (increase) in taxes receivable		676			(829	)
Deferred income tax expense		164			828
Increase in cash surrender value of bank owned life insurance		(208	)		(160	)
Excess tax benefit related to stock based compensation		(2	)		-
Stock based compensation		82			29
Increase in other liabilities		382			236
Decrease in interest payable		(7	)		(9	)
Net cash provided by operating activities		2,966			1,078
Cash flows from investing activities:
Maturities and redemptions of interest-bearing time deposits with other banks		1,089			1,409
Purchase of Federal Home Loan Bank stock		(20	)		-
Redemption of Federal Home Loan Bank stock		91			-
Purchases of available-for-sale securities		(67,730	)		(36,465	)
Proceeds from maturities of available-for-sale securities		28,761			18,501
Proceeds from sale of available-for-sale securities		4,249			8,274
Loan originations and principal collections, net		(14,941	)		(264	)
Loans purchased		(4,603	)		(11,090	)
Recoveries of loans previously charged off		15			5
Proceeds from sale of other real estate owned		111			40
Purchases of bank owned life insurance		(2,140	)		-
Investment in limited partnership		(381	)		0
Capital expenditures		(360	)		(374	)
Net cash used in investing activities		(55,859	)		(19,964	)

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SBT BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

Years Ended December 31, 2012 and 2011

(In Thousands)

(continued)

	2012			2011
Cash flows from financing activities:
Net (decrease) increase in demand deposits, NOW and savings accounts		(158	)		76,550
Decrease in time deposits		(4,210	)		(1,052	)
Net increase in securities sold under agreements to repurchase		21			313
Proceeds from issuance of preferred stock		-			9,000
Preferred stock issuance costs		-			(53	)
Proceeds from issuance of common stock		28			4
Redemption of preferred stock		-			(4,200	)
Excess tax benefit to stock based compensation		2
Dividends paid - preferred stock		(134	)		(252	)
Dividends paid - common stock		(436	)		(415	)
Net cash (used in) provided by financing activities		(4,887	)		79,895
Net (decrease) increase in cash and cash equivalents		(57,780	)		61,009
Cash and cash equivalents at beginning of year		91,880			30,871
Cash and cash equivalents at end of year	$	34,100		$	91,880
Supplemental disclosures:
Interest paid	$	1,048		$	1,526
Income taxes (received) paid		(133	)		417
Loan transferred to other real estate owned		362			-
Loan originated to finance sale of other real estate owned		-			282
Increase in common stock dividends held in escrow		3			3

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

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SBT BANCORP, INC. AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Years Ended December 31, 2012 and 2011

NOTE 1 - NATURE OF OPERATIONS

On March 2, 2006, The Simsbury Bank & Trust Company, Inc. (the “Bank���) reorganized into a holding company structure.  As a result, the Bank became a wholly-owned subsidiary of SBT Bancorp, Inc. (the “Company”) and each outstanding share of common stock of the Bank was converted into the right to receive one share of the common stock, no par value, of the Company.  The Company files reports with the Securities and Exchange Commission and is supervised by the Board of Governors of the Federal Reserve System.

The Bank is a state chartered bank which was incorporated on April 28, 1992 and is headquartered in Simsbury, Connecticut.  The Bank commenced operations on March 31, 1995 engaging principally in the business of attracting deposits from the general public and investing those deposits in securities, residential and commercial real estate, consumer and small business loans.

NOTE 2 - ACCOUNTING POLICIES

The accounting and reporting policies of the Company and its subsidiary conform to accounting principles generally accepted in the United States of America and predominant practices within the banking industry.  The consolidated financial statements of the Company were prepared using the accrual basis of accounting.  The significant accounting policies of the Company are summarized below to assist the reader in better understanding the consolidated financial statements and other datacontained herein.

USE OF ESTIMATES:

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America 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.

BASIS OF PRESENTATION:

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary the Bank and the Bank’s wholly-owned subsidiaries, SBT Investment Services, Inc. and NERE Holdings, Inc.  SBT Investment Services, Inc. was established solely for the purpose of providing investment products, financial advice and services to its clients and the community.  NERE Holdings, Inc. was established to hold real estate. All significant intercompany accounts and transactions have been eliminated in the consolidation.

CASH AND CASH EQUIVALENTS:

For purposes of reporting cash flows, cash and cash equivalents include cash on hand, cash items, due from banks, Federal Home Loan Bank interest-bearing demand and overnight deposits, Federal Reserve Bank interest-bearing demand deposits, money market mutual funds and federal funds sold.

Cash and due from banks as of December 31, 2012 and 2011 includes $4,842,000 and $5,625,000, respectively, which is subject to withdrawals and usage restrictions to satisfy the reserve requirements of the Federal Reserve Bank of Boston and Bankers’ Bank Northeast.

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SECURITIES:

Investments in debt securities are adjusted for amortization of premiums and accretion of discounts computed so as to approximate the interest method.  Gains or losses on sales of investment securities are computed on a specific identification basis.

The Company classifies debt and equity securities into one of three categories:  held-to-maturity, available-for-sale, or trading.  These security classifications may be modified after acquisition only under certain specified conditions.  In general, securities may be classified as held-to-maturity only if the Company has the positive intent and ability to hold them to maturity.  Trading securities are defined as those bought and held principally for the purpose of selling them in the near term.  All other securities must be classified as available-for-sale.

-- Held-to-maturity securities are measured at amortized cost in the consolidated balance sheets.  Unrealized holding gains and losses are not included in earnings, or in a separate component of capital.  They are merely disclosed in the notes to the consolidated financial statements.

-- Available-for-sale securities are carried at fair value on the consolidated balance sheets.  Unrealized holding gains and losses are not included in earnings but are reported as a net amount (less expected tax) in a separate component of capital until realized.

-- Trading securities are carried at fair value on the consolidated balance sheets.  Unrealized holding gains and losses for trading securities are included in earnings.

For any debt security with a fair value less than its amortized cost basis, the Company will determine whether it has the intent to sell the debt security or whether it is more likely than not it will be required to sell the debt security before the recovery of its amortized cost basis.  If either condition is met, the Company will recognize a full impairment charge to earnings.  For all other debt securities that are considered other-than-temporarily impaired and do not meet either condition, the credit loss portion of impairment will be recognized in earnings as realized losses.  The other-than-temporary impairment related to all other factors will be recorded in other comprehensive income.

Declines in marketable equity securities below their cost that are deemed other than temporary are reflected in earnings as realized losses.

As a member of the Federal Home Loan Bank (FHLB), the Company is required to invest in $100 par value stock of FHLB.  The FHLB capital structure mandates that members must own stock as determined by their Total Stock Investment Requirement which is the sum of a member’sMembership Stock Investment Requirement and Activity-Based Stock Investment Requirement.  The Membership Stock Investment Requirement is calculated as 0.35% of member’s Stock Investment Base, subject to a minimum investment of $10,000 and a maximum investment of $25,000,000.  The Stock Investment Base is an amount calculated based on certain assets held by a member that are reflected on call reports submitted to applicable regulatory authorities.  The Activity-Based Stock Investment Requirement is calculated as 3.0% for overnight advances, 4.0% for FHLB advances with original terms to maturity of two days to three months and 4.5% for other advances plus a percentage of advance commitments, 0.5% of standby letters of credit issued by the FHLB and 4.5% of the value of intermediated derivative contracts. Management evaluates the Company’s investment in FHLB stock for other-than-temporary impairment at least on a quarterly basis and more frequently when economic or market conditions warrant such evaluation.  Based on its most recent analysis of the FHLB as of December 31, 2012 management deems its investment in FHLB stock to be not other-than-temporarily impaired.

- 37 -

LOANS HELD-FOR-SALE:

Loans held-for-sale in the secondary market are carried at the lower of cost or estimated fair value in the aggregate.  Net unrealized losses are provided for in a valuation allowance by charges to operations.  Interest income on mortgages held-for-sale is accrued currently and classified as interest on loans.

LOANS:

Loans receivable that management has the intent and ability to hold until maturity or payoff, are reported at their outstanding principal balances adjusted for amounts due to borrowers on unadvanced loans, any charge-offs, the allowance for loan losses and any deferred fees or costs on originated loans, or unamortized premiums or discounts on purchased loans.

Interest on loans is recognized on a simple interest basis.

Loan origination and commitment fees and certain direct origination costs are deferred, and the net amount amortized as an adjustment of the related loan's yield.  The Company is amortizing these amounts over the contractual life of the related loans.

Residential real estate loans are generally placed on nonaccrual when reaching 90 days past due or in process of foreclosure.  All closed-end consumer loans 90 days or more past due and any equity line in the process of foreclosure are placed on nonaccrual status.  Secured consumer loans are written down to realizable value and unsecured consumer loans are charged-off upon reaching 120 or 180 days past due depending on the type of loan.  Commercial real estate loans and commercial business loans and leases which are 90 days or more past due are generally placed on nonaccrual status, unless secured by sufficient cash or other assets immediately convertible to cash.  When a loan has been placed on nonaccrual status, previously accrued and uncollected interest is reversed against interest on loans.  A loan can be returned to accrual status when collectability of principal is reasonably assured and the loan has performed for a period of time, generally six months.

Cash receipts of interest income on impaired loans are credited to principal to the extent necessary to eliminate doubt as to the collectability of the net carrying amount of the loan.  Some or all of the cash receipts of interest income on impaired loans is recognized as interest income if the remaining net carrying amount of the loan is deemed to be fully collectible.  When recognition of interest income on an impaired loan on a cash basis is appropriate, the amount of income that is recognized is limited to that which would have been accrued on the net carrying amount of the loan at the contractual interest rate.  Any cash interest payments received in excess of the limit and not applied to reduce the net carrying amount of the loan are recorded as recoveries of charge-offs until the charge-offs are fully recovered.

The Company has certain lending policies and procedures in place that are designed to maximize loan income with an acceptable level of risk.  Management reviews and approves these policies and procedures on an annual basis.  A reporting system is in place which provides management with frequent reports related to loan quality, loan production, loan delinquencies and non-performing or potential problem loans.

Commercial and industrial loans are underwritten after evaluating historical and projected profitability and cash flow to determine the borrower’s ability to repay their obligation as agreed.  Underwriting standards are designed to promote relationship banking rather than transactional banking.  Commercial and industrial loans are made primarily based on the identified cash flow of the borrower and secondarily on the underlying collateral supporting the loan facility.  The cash flowof the borrower may not be as expected and the collateral supporting the loan may fluctuate in value.  Most commercial and industrial loans are secured by the assets being financed or other business assets such as accounts receivable and inventory and may incorporate a personal guarantee.Some loans may be made on an unsecured basis.  In the case of loans secured by accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent upon the ability of the borrower to collect amounts due from its customers.

- 38 -

Commercial real estate loans are subject to the underwriting standards and processes similar to commercial and industrial loans, in addition to those underwriting standards for real estate loans.  These loans are viewed primarily as cash flow dependent and secondarily as loans secured by real estate.  Commercial real estate lending typically involves higher principal balances and longer repayment periods.  Repayment of these loans is generally dependent upon the successful operation of the property securing the loan or the principal business conducted on the property securing the loan.  Commercial real estate loans may be adversely affected by conditions in the real estate markets or the economy in general.  The properties securing the Company’s commercial real estate portfolio are diverse in terms of type and geographic location.  This diversification reduces the exposure to adverse economic conditions that affect any single market or industry.  Management monitors and evaluates commercial real estate loans based on collateral, geography and risk-rating criteria.  The Company also utilizes third-party experts to provide environmental and market valuations, in addition to economic conditions and trends within a specific industry.  The Company also tracks the level of owner occupied commercial real estate loans within its commercial real estate portfolio.  At December 31, 2012, approximately 80.0% of the outstanding principal balance of the Company’s commercial real estate loans were secured by owner-occupied properties.

With respect to land developers and builders that are secured by non-owner-occupied properties that the Company may originate from time to time, the Company generally requires that the borrower have a proven record of success.  Construction loans are underwritten based upon a financial analysis of the developers and property owners and construction cost estimates, in addition to independent appraisal valuations.  These loans will rely on the value associated with the project upon completion.  These cost and valuation estimates may be inaccurate.  Construction loans generally involve the disbursement of substantial funds over a short period of time with repayment substantially dependent upon the success of the completed project.  Sources of repayment of these loans would be permanent financing upon completion or sales of developed property.  These loans are closely monitored by onsite inspections and are considered to be of a higher risk than other real estate loans due to their ultimate repayment being sensitive to general economic conditions, availability of long-term financing, interest rate sensitivity, and governmental regulation of real property.

The Company originates consumer loans utilizing a computer-based credit-scoring analysis to supplement the underwriting process.  To monitor and manage consumer loan risk, policies and procedures are developed and modified, as needed, jointly by staff and management.  This continual review, coupled with the high volume of borrowers of smaller dollar loans, minimizes risk.  Additionally, trend and outlook reports are reviewed by management on a regular basis.  Underwriting standards for home equity loans are heavily influenced by regulatory requirements, which include but are not limited to a maximum loan-to-value of 75%, collection remedies, the number of such loans that a borrower can have at one time, and documentation requirements.

The Company engages an independent loan review firm that reviews and validates the credit risk program on a periodic basis.  Results of these reviews are presented to management and the Board of Directors.  The loan review process complements and reinforces the risk identification process and assessment decisions made by the relationship managers and credit officer, as well as the Company’s policies and procedures.

ALLOWANCE FOR LOAN LOSSES:

The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings.  Loan losses are charged against the allowance when management believes the uncollectability of a loan balance is confirmed.  Subsequent recoveries, if any, are credited to the allowance.

The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectability of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral and prevailing economic conditions.  This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

- 39 -

GENERAL COMPONENT:

The general component of the allowance for loan losses is based on historical loss experience adjusted for qualitative factors stratified by the following loan segments:  residential real estate, commercial real estate, construction, commercial and consumer.  Management uses a rolling average of historical losses based on a time frame appropriate to capture relevant loss data for each loan segment.  This historical loss factor is adjusted for the following qualitative factors:  levels/trends in delinquencies; trends in volume and terms of loans; effects of changes in risk selection and underwriting standards and other changes in lending policies, procedures and practices; experience/ability/depth of lending management and staff; and national and local economic trends and conditions.  There were no changes in the Company’s policies or methodology pertaining to the general component of the allowance for loan losses during 2012.

The qualitative factors are determined based on the various risk characteristics of each loan segment.  Risk characteristics relevant to each portfolio segment are as follows:

Residential real estate:  The Company generally does not originate loans with a loan-to-value ratio greater than 80% without obtaining private mortgage insurance for any amounts over 80% and does not grant subprime loans.  All loans in this segment are collateralized by owner-occupied residential real estate and repayment is dependent on the credit quality of the individual borrower.  The overall health of the economy, including unemployment rates and housing prices, will have an effect on the credit quality in this segment.

Commercial real estate:  Loans in this segment are primarily owner occupied throughout the Farmington Valley in Connecticut.  Management continually monitors the financial performance of these loans and the related operating entities.

Construction loans:  Loans in this segment primarily include real estate development loans for which payment is derived from sale of the property.  Credit risk is affected by cost overruns, time to sell at adequate prices, and market conditions.

Commercial loans:  Loans in this segment are made to businesses and are generally secured by assets of the businesses.  Repayment is expected for the cash flows of the business. A weakened economy will have an effect on the credit quality in this segment.

Consumer loans:  Loans in this segment are generally unsecured and repayment is dependent on the credit quality of the individual borrower.

ALLOCATED COMPONENT:

The allocated component relates to loans that are classified as impaired.  Impairment is measured on a loan-by-loan basis for commercial, commercial real estate and construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.  An allowance is established when the discounted cash flows (or collateral value) of the impaired loan is lower than the carrying value of that loan.  Large groups of smaller balance homogeneous loans are collectively evaluated for impairment.  Accordingly, the Company does not separately identify individual consumer and residential real estate loans for impairment disclosures, unless such loans are subject to a troubled debt restructuring agreement.

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement.  Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due.  Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired.  Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.

The Company periodically may agree to modify the contractual terms of loans.  When a loan is modified and a concession is made to a borrower experiencing financial difficulty, the modification is considered a troubled debt restructuring ("TDR").  All TDRs are initially classified as impaired.

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UNALLOCATED COMPONENT:

An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses.  The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general reserves in the portfolio.

PREMISES AND EQUIPMENT:

Premises and equipment are stated at cost, less accumulated depreciation and amortization.  Cost and related allowances for depreciation and amortization of premises and equipment retired or otherwise disposed of are removed from the respective accounts with any gain or loss included in income or expense.  Depreciation and amortization are calculated principally on the straight-line method over the estimated useful lives of the assets.  Estimated lives are 3 to 20 years for furniture and equipment.  Leasehold improvements are amortized over the lesser of the life of the lease or the estimated life of the improvements.

OTHER REAL ESTATE OWNED AND IN-SUBSTANCE FORECLOSURES:

Other real estate owned includes properties acquired through foreclosures and properties classified as in-substance foreclosures in accordance with ASC 310-40, “Receivables – Troubled Debt Restructuring by Creditors.”  These properties are carried at the lower of cost or estimated fair value less estimated costs to sell.  Any writedown from cost to estimated fair value required at the time of foreclosure or classification as in-substance foreclosure is charged to the allowance for loan losses.  Expenses incurred in connection with maintaining these assets, subsequent writedowns, and gains or losses recognized upon sale are included in other expense.

In accordance with ASC 310-10-35, “Receivables – Overall – Subsequent Measurements,” the Company classifies loans as in-substance repossessed or foreclosed if the Company receives physical possession of the debtor’s assets regardless of whether formal foreclosure proceedings take place.

FAIR VALUES OF FINANCIAL INSTRUMENTS:

ASC 825, “Financial Instruments,” requires that the Company disclose estimated fair values for its financial instruments.  Fair value methods and assumptions used by the Company in estimating its fair value disclosures are as follows:

Cash and cash equivalents:  The carrying amounts reported in the balance sheets for cash and cash equivalents approximate those assets' fair values.

Interest-bearing time deposits with banks:  The fair values of interest bearing time deposits with banks are estimated using discounted cash flow analyses using interest rates currently being offered for deposits with similar terms to investors.

Securities:  Fair values for securities are based on quoted market prices, where available.  If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.

Loans held-for-sale:  Fair values for loans held-for-sale are estimated based on outstanding investor commitments, or in the absence of such commitments, are based on current investor yield requirements.

Loans receivable:  For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values.  The fair values for other loans are estimated by discounting the future cash flows, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality.

Accrued interest receivable:  The carrying amount of accrued interest receivable approximates its fair value.

Deposit liabilities:  The fair values disclosed for demand deposits, regular savings, NOW accounts, and money market accounts are equal to the amount payable on demand at the reporting date (i.e., their carrying amounts).  Fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits.

- 41 -

Federal Home Loan Bank advances:  Fair values of Federal Home Loan Bank advances are estimated using discounted cash flow analyses based on the Company’s current incremental borrowing rates for similar types of borrowing arrangements.

Securities sold under agreements to repurchase:  The carrying amounts of securities sold under agreements to repurchase approximate their fair values.

Due to broker:  The carrying amount of due to broker approximates its fair value.

Off-balance sheet instruments:  The fair value of commitments to originate loans is estimated using the fees currently charged to enter similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties.  For fixed-rate loan commitments and the unadvanced portion of loans, fair value also considers the difference between current levels of interest rates and the committed rates.  The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligation with the counterparties at the reporting date.

ADVERTISING:

The Company directly expenses costs associated with advertising as they are incurred.

INCOME TAXES:

The Company recognizes income taxes under the asset and liability method.  Under this method, deferred tax assets and liabilities are established for the temporary differences between the accounting basis and the tax basis of the Company's assets and liabilities at enacted tax rates expected to be in effect when the amounts related to such temporary differences are realized or settled.

STOCK BASED COMPENSATION:

At December 31, 2012, the Company has stock-based employee compensation plans which are described more fully in Note 18.  The Company accounts for the plans under ASC 718-10, “Compensation – Stock Compensation – Overall.”  During the years ended December 31, 2012 and 2011, $82,000 and $29,000, respectively, in stock-based employee compensation was recognized.

EARNINGS PER SHARE:

The Company defines unvested share-based payment awards that contain nonforfeitable rights to dividends as participating securities that are included in computing EPS using the two-class method.

The two-class method is an earnings allocation formula that determines earnings per share for each share of common stock and participating securities according to dividends declared and participation rights in undistributed earnings.  Under this method, all earnings (distributed and undistributed) are allocated to common shares and participating securities based on their respective rights to receive dividends. Earnings per common share is calculated by dividing earnings allocated to common shareholders by the weighted-average number of common shares outstanding during the period.

Basic EPS excludes dilution and is computed by dividing income allocated to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity.

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RECENT ACCOUNTING PRONOUNCEMENTS:

In April 2011, the Financial Accounting Standards Board (FASB) issued ASU 2011-03, “Transfers and Servicing (Topic 860): Reconsideration of Effective Control for Repurchase Agreements.”  The objective of this ASU is to improve the accounting for repurchase agreements and other agreements that both entitle and obligate a transferor to repurchase or redeem financial assets before their maturity. This ASU prescribes when an entity may or may not recognize a sale upon the transfer of financial assets subject to repurchase agreements.  The guidance in this ASU is effective for the first interim or annual period beginning on or after December 15, 2011.  Early adoption is permitted. The adoption of this guidance did not have a material impact on the Company’s results of operations or financial position.

In May 2011, the FASB issued ASU 2011-04, “Fair Value Measurement (Topic 820):  Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards.”  The amendments in this ASU explain how to measure fair value.  They do not require additional fair value measurements and are not intended to establish valuation standards or affect valuation practices outside of financial reporting.  The amendments in this ASU are to be applied prospectively.  The amendments are effective during interim and annual periods beginning after

December 15, 2011.  The adoption of this guidance did not have a material impact on the Company’s results of operations or financial position.

In June 2011, the FASB issued ASU 2011-05, “Comprehensive Income (Topic 220):  Presentation of Comprehensive Income.”  The objective of this ASU is to improve the comparability, consistency, and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income.  Under this ASU, an entity has the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  An entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income.  An entity is required to present on the face of the financial statements reclassification adjustments for items that are reclassified from other comprehensive income to net income in the statement(s) where the components of net income and the components of other comprehensive income are presented.  The amendments in this ASU should be applied retrospectively.  The amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011.  The required disclosures in the Company’s consolidated financial statements have been reflected in the statements of comprehensive income and Note 15.

In September 2011, the FASB issued ASU 2011-08, “Intangibles – Goodwill and Other (Topic 350):  Testing Goodwill for Impairment.”  ASU 2011-08 simplifies how entities, both public and nonpublic, test goodwill for impairment.  The amendments in this update permit an entity to first assess qualitative factors to determine whether it is more likely than not the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test described in ASC 350.  The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent.  For public and nonpublic entities, the amendments in this ASU are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011.  Early adoption is permitted.  The adoption of this guidance did not have an impact on the Company’s results of operations or financial position.

In September 2011, the FASB issued ASU 2011-09, “Compensation – Retirement Benefits - Multiemployer Plans (Subtopic 715-80):  Disclosures About an Employer’s Participation in a Multiemployer Plan,” which amends ASC 715-80, “Compensation – Retirement Benefits - Multiemployer Plans,” and requires additional separate disclosures for multiemployer pension plans and multiemployer other postretirement benefit plans.  This objective of this ASU is to help users of financial statements assess the potential future cash flow implications relating to an employer’s participation in multiemployer pension plans.  The disclosures also will indicate the financial health of all of the significant plans in which the employer participates and assist a financial statement user to access additional information that is available outside the financial statements.  The amendments in this ASU are effective for fiscal years ending after December 15, 2011, with early adoption permitted.  The amendments should be applied retrospectively for all prior periods presented.  The adoption of this guidance did not have an impact on the Company’s results of operations or financial position.

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In December 2011, the FASB issued ASU 2011-11, “Balance Sheet (Topic 210):  Disclosures about Offsetting Assets and Liabilities.” This ASU enhances current disclosures.  Entities are required to disclose both gross information and net information about both instruments and transactions eligible for offset in the statement of financial position and instruments and transactions subject to an agreement similar to a master netting arrangement.  The amendments in this ASU are effective for annual periods beginning on or after January 1, 2013, and interim periods within those annual periods.  An entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented.  The Company anticipates that the adoption of this guidance will not have a material impact on its consolidated financial statements.

In December 2011, the FASB issued ASU 2011-12, “Comprehensive Income (Topic 220): Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.”  The amendments in this update defer those changes in ASU 2011-05 that relate to the presentation of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income for all periods presented.  All other requirements in ASU 2011-05 are not affected by this update.  The amendments are effective for fiscal years ending after December 15, 2012, and interim and annual periods thereafter.  The required disclosures in the Company’s consolidated financial statements have been reflected in the statements of comprehensive income and Note 15.

In October 2012, the FASB issued ASU 2012-06, “Business Combinations (Topic 805): Subsequent Accounting for an Indemnification Asset Recognized at the Acquisition Date as a Result of a Government-Assisted Acquisition of a Financial Institution.”  The amendments in this update clarify the applicable guidance for subsequently measuring an indemnification asset recognized as a result of a government-assisted acquisition of a financial institution.  For public and nonpublic entities, the amendments in this update are effective for fiscal years, and interim periods within those years beginning on or after December 15, 2012.  The Company anticipates that the adoption of this guidance will not have a material impact on its consolidated financial statements.

In February 2013, the FASB issued ASU 2013-02, “Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income.”  The amendments in this update do not change the current requirements for reporting net income or other comprehensive income in financial statements.  However, the amendments require an entity to provide information about the amounts reclassified out of accumulated other comprehensive income by component.  In addition, an entity is required to present, either on the face of the statement where net income is presented or in the notes, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income but only if the amount reclassified is required under U.S. GAAP to be reclassified to net income in its entirety in the same reporting period.  For other amounts that are not required under U.S. GAAP to be reclassified in their entirety to net income, an entity is required to cross-reference to other disclosures required under U.S. GAAP that provide additional detail about those amounts.  The amendments are effective prospectively for reporting periods beginning after December 15, 2012.  Early adoption is permitted.  The adoption of ASU 2013-02 is not expected to have a material impact on the Company’s consolidated financial statements.

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NOTE 3 - INVESTMENTS IN AVAILABLE-FOR-SALE SECURITIES

Debt and equity securities have been classified in the consolidated balance sheets according to management’s intent.  The amortized cost of securities and their approximate fair values are as follows as of December 31:

		Amortized			Gross		Gross
		Cost			Unrealized		Unrealized		Fair
		Basis			Gains		Losses		Value
	(In Thousands)
December 31, 2012:
Debt securities issued by U.S. government corporations
and agencies		$	30,760		$	86	$	11	$	30,835
Obligations of states and municipalities			13,598			956		3		14,551
Corporate debt securities			2,006			52		5		2,053
Mortgage-backed securities			42,737			601		81		43,257
SBA loan pools			1,010			114		-		1,124
Marketable equity securities			358			-		-		358
			90,469			1,809		100		92,178
Money market mutual funds included in cash
and cash equivalents			(358	)		-		-		(358	)
		$	90,111		$	1,809	$	100	$	91,820
December 31, 2011:
Debt securities issued by U.S. government corporations
and agencies		$	12,500		$	45	$	3	$	12,542
Obligations of states and municipalities			12,916			698		1		13,613
Corporate debt securities			2,509			4		29		2,484
Mortgage-backed securities			26,617			416		166		26,867
SBA loan pools			1,231			122		-		1,353
Marketable equity securities			5,346			-		-		5,346
			61,119			1,285		199		62,205
Money market mutual funds included in cash
and cash equivalents			(5,346	)		-		-		(5,346	)
		$	55,773		$	1,285	$	199	$	56,859

The scheduled maturities of securities were as follows as of December 31, 2012:

	Fair
	Value
	(In Thousands)
Due within one year	$	502
Due after one year through five years		20,879
Due after five years through ten years		15,152
Due after ten years		10,906
SBA loan pools		1,124
Mortgage-backed securities		43,257
	$	91,820

During 2012, proceeds from sales of available-for-sale securities amounted to $4,249,000. Gross realized gains on those sales amounted to $125,000. The tax expense applicable to these gross realized gains amounted to $42,000.  During 2011, proceeds from sales of available-for-sale securities amounted to $8,274,000. Gross realized gains on those sales amounted to $445,000. The tax expense applicable to these gross realized gains amounted to $151,000.

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There were no securities of issuers that exceeded 10% of stockholders’ equity at December 31, 2012.

As of December 31, 2012 and 2011, the total carrying amounts of securities pledged for securities sold under agreements to repurchase and public deposits were $14,819,000 and $14,983,000, respectively.

The aggregate fair value and unrealized losses of securities that have been in a continuous unrealized loss position for less than twelve months and for twelve months or more, and are not other than temporarily impaired, are as follows:

		Less than 12 Months				12 Months or Longer				Total
		Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
		Value		Losses		Value		Losses		Value		Losses
	(In Thousands)
December 31, 2012:
Debt securities issued by U.S. Government
corporations and agencies		$	2,989	$	11	$	-	$	-	$	2,989	$	11
Obligations of states and municipalities			720		3		-		-		720		3
Corporate debt securities			-		-		495		5		495		5
Mortgage-backed securities			8,642		20		118		3		8,760		23
Total temporarily impaired securities		$	12,351	$	34	$	613	$	8	$	12,964	$	42
Other-than-temporarily impaired securities
Mortgage-backed securities			-		-		280		58		280		58
Total temporarily impaired and other-
than-temporarily impaired securities		$	12,351	$	34	$	893	$	66	$	13,244	$	100
December 31, 2011:
Debt securities issued by U.S. Government
corporations and agencies		$	1,497	$	3	$	-	$	-	$	1,497	$	3
Obligations of states and municipalities			898		1		-		-		898		1
Corporate debt securities			1,000		3		473	��	26		1,473		29
Mortgage-backed securities			6,507		47		496		119		7,003		166
Total temporarily impaired securities		$	9,902	$	54	$	969	$	145	$	10,871	$	199

The investments in the Company’s investment portfolio that are temporarily impaired as of December 31, 2012 consist of debt issued by states of the United States and political subdivisions of the states, U.S. corporations, and U.S. government corporations and agencies.  Company management considers investments with an unrealized loss as of December 31, 2012 to be only temporarily impaired because the impairment is attributable to changes in market interest rates and current market inefficiencies.  Company management anticipates that the fair value of securities that are currently impaired will recover to cost basis. As management has the intent and ability to hold these securities for the foreseeable future, no declines are deemed to be other than temporary.

The following table summarizes other-than-temporary impairment losses on debt securities for the year ended December 31, 2012:

	Securities
	(In Thousands)
Total other-than-temporary impairment losses	$	70
Less:  unrealized other-than-temporary losses
recognized in other comprehensive loss (1)		(58	)
Net impairment losses recognized in earnings (2)	$	12

(1)  Represents the noncredit component of the other-than-temporary impairment on the securities.

(2)  Represents the credit component of the other-than-temporary impairment on securities.

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Activity related to the credit component recognized in earnings on debt securities held by the Company for which a portion of other-than-temporary impairment was recognized in other comprehensive income for the year ended December 31, 2012 is as follows:

	Mortgage-Backed
	Securities
	(In Thousands)
Balance, December 31, 2011	$	0
Additions for the credit component on debt securities in which
other-than-temporary impairment was not previously recognized		12
Balance, December 31, 2012	$	12

For the year ended December 31, 2012, securities with other-than-temporary impairment losses related to credit that were recognized in earnings consisted of two private label collateralized mortgage obligations (CMOs).  The par value of these two securities were written down by $12,000 by the issuers.

NOTE 4 - LOANS

Loans consisted of the following as of December 31:

	2012			2011
	(In Thousands)
Commercial and industrial	$	13,991		$	15,145
Real estate - construction and land development		2,982			1,307
Real estate - residential		118,316			99,692
Real estate - commercial		41,978			39,723
Home equity		45,245			48,484
Municipal		1,478			1,807
Consumer		11,053			9,913
		235,043			216,071
Allowance for loan losses		(2,594	)		(2,469	)
Deferred loan origination costs, net		841			482
Net loans	$	233,290		$	214,084

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The following table sets forth information regarding the allowance for loan losses by portfolio segment.

	Real Estate:
							Construction and					Commercial
	Residential			Commercial			Land Development			Home Equity		& Industrial			Consumer			Unallocated			Total
	(In Thousands)
December 31, 2012:
Allowance for loan
losses:
Beginning balance	$	750		$	573		$	22		$	342	$	422		$	194		$	166		$	2,469
Charge-offs		(113	)		(25	)		(49	)		-		-			(23	)		-			(210	)
Recoveries		-			-			1			-		5			9			-			15
Provision (benefit)		414			38			168			20		(208	)		(81	)		(31	)		320
Ending balance	$	1,051		$	586		$	142		$	362	$	219		$	99		$	135		$	2,594
Ending balance:
Individually evaluated
for impairment	$	-		$	-		$	-		$	-	$	-		$	-		$	-		$	-
Ending balance:  Collectively
evaluated for
impairment		1,051			586			142			362		219			99			135			2,594
Total allowance for loan
losses ending
balance	$	1,051		$	586		$	142		$	362	$	219		$	99		$	135		$	2,594
Loans:
Ending balance:  Individually
evaluated for
impairment	$	180		$	119		$	163		$	5	$	-		$	-		$	-		$	467
Ending balance:
Collectively evaluated
for impairment		118,136			41,859			2,819			45,240		15,469			11,053			-			234,576
Total loans ending balance	$	118,316		$	41,978		$	2,982		$	45,245	$	15,469		$	11,053		$	-		$	235,043

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	Real Estate:
							Construction and						Commercial
	Residential			Commercial			Land Development			Home Equity			& Industrial			Consumer			Unallocated		Total
	(In Thousands)
December 31, 2011:
Allowance for loan
losses:
Beginning balance	$	838		$	465		$	68		$	360		$	410		$	94		$	91	$	2,326
Charge-offs		(20	)		(68	)		(185	)		-			(43	)		(41	)		-		(357	)
Recoveries		-			-			-			-			-			5			-		5
(Benefit) provision		(68	)		176			139			(18	)		55			136			75		495
Ending balance	$	750		$	573		$	22		$	342		$	422		$	194		$	166	$	2,469
Ending balance:
Individually evaluated
for impairment	$	62		$	-		$	-		$	-		$	-		$	-		$	-	$	62
Ending balance:  Collectively
evaluated for
impairment		688			573			22			342			422			194			166		2,407
Total allowance for loan
losses ending
balance	$	750		$	573		$	22		$	342		$	422		$	194		$	166	$	2,469
Loans:
Ending balance:  Individually
evaluated for
impairment	$	808		$	250		$	399		$	-		$	215		$	-		$	-	$	1,672
Ending balance:
Collectively evaluated
for impairment		98,884			39,473			908			48,484			16,737			9,913			-		214,399
Total loans ending balance	$	99,692		$	39,723		$	1,307		$	48,484		$	16,952		$	9,913		$	-	$	216,071

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The following table presents the Company’s loans by risk rating as of December 31:

			Real Estate
					Construction
					and Land				Commercial
	Residential		Commercial		Development		Home Equity		and Industrial		Consumer		Total
	(In Thousands)
December 31, 2012:
Grade:
Pass	$	-	$	36,748	$	2,381	$	-	$	13,048	$	-	$	52,177
Special mention		-		3,778		438		-		2,268		-		6,484
Substandard		572		1,452		163		155		153		-		2,495
Loans not
formally rated		117,744				-		45,090		-		11,053		173,887
Total	$	118,316	$	41,978	$	2,982	$	45,245	$	15,469	$	11,053	$	235,043
December 31, 2011:
Grade:
Pass	$	-	$	35,746	$	908	$	-	$	13,344	$	-	$	49,998
Special mention		-		3,339		-		-		2,930		-		6,269
Substandard		1,349		638		399		238		678		-		3,302
Loans not
formally rated		98,343		-		-		48,246		-		9,913		156,502
Total	$	99,692	$	39,723	$	1,307	$	48,484	$	16,952	$	9,913	$	216,071

Credit Quality Indicators:  As part of the ongoing monitoring of the credit quality of the Company’s loan portfolio, management tracks certain credit quality indicators including trends related to (i) weighted average risk rating of commercial loans; (ii) the level of classified and criticized commercial loans; (iii) non performing loans; (iv) net charge-offs and (v) the general economic conditions within the State of Connecticut.

The Company utilizes a risk rating grading matrix to assign a risk grade to each of its commercial loans.  Loans are graded on a scale of 1 to 7.  A description of each rating class is as follows:

Risk Rating 1 (Superior) – This risk rating is assigned to loans secured by cash.

Risk Rating 2 (Good) – This risk rating is assigned to borrowers of high credit quality who have primary and secondary sources of repayment which are well defined and fully confirmed.

Risk Rating 3 (Satisfactory) – This risk rating is assigned to borrowers who are fully responsible for the loan or credit commitment, which has primary and secondary sources of repayment that are well defined and adequately confirmed.  Most credit factors are favorable, and the credit exposure is managed through normal monitoring.

Risk Rating 3.5 (Bankable with Care) – This risk rating is assigned to borrowers who are fully responsible for the loan or credit commitment and the secondary sources of repayment are weak.  These loans may require more than the average amount of attention from the relationship manager.

Risk Rating 4 (Special Mention) – This risk rating is assigned to borrowers which may be adequately protected by the present debt service capacity and tangible net worth of the borrower, but which have potential problems that could, if not checked or corrected, eventually weaken these assets or otherwise jeopardize the repayment of principal and interest as originally intended.  Most credit factors are unfavorable, and the credit exposure requires immediate corrective action.

Risk Rating 5 (Substandard) – This risk rating is assigned to borrowers who have inadequate cash flow or collateral to satisfy their loan obligations as originally defined in the loan agreement.  Substandard loans may be placed on nonaccrual status if the conditions described above are generally met.

- 50 -

Risk Rating 6 (Doubtful) – This risk rating is assigned to a borrower or portion of a borrower’s loan with which the Company is no longer certain of its collectability.  A specific reserve allocation is assigned to this portion of the loan.

Risk Rating 7 (Loss) – This risk rating is assigned to loans which have been charged off or the portion of the loan that has been charged down.  “Loss” does not imply that the loan, or portion of, will never be paid, nor does it imply that there has been a forgiveness of debt.

Loans not formally rated represent residential, home equity and consumer loans.  As of December 31, 2012, $173.9 million of the total residential, home equity and consumer loan portfolio of $174.6 million were not formally rated. As of December 31, 2011, $156.6 million of the total residential, home equity, and consumer loan portfolio of $158.1 million were not formally rated.  The performance of these loans is measured by delinquency status.  The Bank underwrites first mortgage loans in accordance with FHLMC and FNMA guidelines.  These guidelines provide for specific requirements with regard to documentation and loan to value and debt to income ratios.  Home equity loan and line guidelines place a maximum loan to value ratio of 80% on these loans and the Bank requires full underwriting disclosure documentation for these loans.  These underwriting factors have produced a high performance loan portfolio.  Total delinquent loans, consisting of loans past due 60 days or more, decreased from 0.85% of total loans outstanding as of December 31, 2011 to 0.54% of total loans outstanding as of December 31, 2012.

An age analysis of past-due loans, segregated by class of loans, is as follows as of December 31:

						90 Days		Total		Total		Total		90 Days		Nonaccrual
	30–59 Days			60–89 Days		or More		Past Due		Current		Loans		and Accruing		Loans
	(In Thousands)
December 31, 2012:
Real estate:
Residential		$	-	$	490	$	563	$	1,053	$	117,263	$	118,316	$	-	$	821
Commercial			-		-				-		41,978		41,978		-		119
Construction and
land development			-		-		163		163		2,819		2,982		-		163
Home equity			25		36		-		61		45,184		45,245		-		120
Commercial and industrial			-		-		-		-		15,469		15,469		-		-
Consumer			110		-		17		127		10,926		11,053		-		17
Total		$	135	$	526	$	743	$	1,404	$	233,639	$	235,043	$	-	$	1,240
December 31, 2011:
Real estate:
Residential		$	-	$	516	$	430	$	946	$	98,746	$	99,692	$	-	$	1,186
Commercial			-		-		250		250		39,473		39,723		-		250
Construction and
land development			-		-		399		399		908		1,307		-		399
Home equity			38		-		-		38		48,446		48,484		-		238
Commercial and industrial			-		-		215		215		16,737		16,952		-		215
Consumer			52		1		18		71		9,842		9,913		-		18
		$	90	$	517	$	1,312	$	1,919	$	214,152	$	216,071	$	-	$	2,306

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Information about loans that meet the definition of an impaired loan in ASC 310-10-35 is as follows as of and for the years ended December 31:

			Unpaid				Average		Interest
	Recorded		Principal		Related		Recorded		Income
	Investment		Balance		Allowance		Investment		Recognized
	(In Thousands)
December 31, 2012:
With no related allowance recorded:
Real Estate:
Residential	$	180	$	180	$	-	$	449	$	15
Commercial		119		119		-		115		7
Home equity		5		5		-		6		-
Construction and land development		163		163		-		257		62
Commercial and industrial		-		-		-		70		5
Total impaired with no related allowance	$	467	$	467	$	-	$	897	$	89
Total
Real Estate:
Residential	$	180	$	180	$	-	$	449	$	15
Commercial		119		119		-		115		7
Home equity		5		5		-		6		-
Construction and land development		163		163		-		257		62
Commercial and industrial		-		-		-		70		5
Total impaired loans	$	467	$	467	$	-	$	897	$	89

			Unpaid				Average		Interest
	Recorded		Principal		Related		Recorded		Income
	Investment		Balance		Allowance		Investment		Recognized
	(In Thousands)
December 31, 2011:
With no related allowance recorded:
Real Estate:
Residential	$	571	$	571	$	-	$	564	$	8
Commercial		250		318		-		315		9
Home equity		-		-		-		6		-
Construction and land development		399		753		-		683		-
Commercial and industrial		215		215		-		46		1
Total impaired with no related allowance	$	1,435	$	1,857	$	-	$	1,614	$	18
With an allowance recorded:
Real Estate:
Residential	$	237	$	237	$	62	$	239	$	10
Total impaired with an allowance recorded	$	237	$	237	$	62	$	239	$	10
Total
Real Estate:
Residential	$	808	$	808	$	62	$	803	$	18
Commercial		250		318		-		315		9
Home equity		-		-		-		6		-
Construction and land development		399		753		-		683		-
Commercial and industrial		215		215		-		46		1
Total impaired loans	$	1,672	$	2,094	$	62	$	1,853	$	28

- 52 -

The following tables set forth information regarding troubled debt restructured loans that were restructured during the years ended December 31:

				Pre-Modification		Post- Modification
	Number of			Outstanding Recorded		Outstanding Recorded
	Contracts			Investment		Investment
			(Dollars In Thousands)
December 31, 2012:
Troubled Debt Restructurings:
Commercial		1			66		72
		1		$	66	$	72
	Number of
	Contracts			Recorded Investment
Troubled Debt Restructurings				(Dollars In Thousands)
That Subsequently Defaulted:
Commercial		1		$	68
		1		$	68

There was one loan modified as a troubled debt restructure during 2012. Past-due principal, interest and legal fees were capitalized to the loan to bring all payments current. The loan was individually evaluated for impairment and it was determined that no related allowance allocation was necessary. The loan was reported as impaired and is on nonaccrual status as of December 31, 2012.

				Pre-Modification		Post- Modification
		Number of		Outstanding Recorded		Outstanding Recorded
		Contracts		Investment		Investment
	(Dollars In Thousands)
December 31, 2011:
Troubled Debt Restructurings:
Residential			2	$	531	$	571
			2	$	531	$	571

There were no troubled debt restructurings that subsequently defaulted as of December 31, 2011.

There were two loans modified as troubled debt restructures during 2011.  Past-due principal, interest and escrow payments were capitalized to the loans to bring all payments current.  The loans were individually evaluated for impairment and it was determined that no related allowance allocation was necessary.  Both loans were reported as impaired loans and were on nonaccrual status as of December 31, 2011.

As of December 31, 2012 and 2011, there were no commitments to lend additional funds to borrowers whose loans were modified in troubled debt restructurings.

The balance of mortgage servicing rights included in other assets at December 31, 2012 and 2011 was $822,000 and $158,000, respectively.  Mortgage servicing rights of $774,000 and $169,000 were capitalized in 2012 and 2011, respectively.  Amortization of mortgage servicing rights was $106,000 in 2012 and $6,000 in 2011.  The fair value of these rights was $1,036,000 and $164,000 as of December 31, 2012 and 2011, respectively.  Following is an analysis of the aggregate changes in the valuation allowance for mortgage servicing rights for the years ended December 31:

- 53 -

	2012			2011
	(In Thousands)
Balance, beginning of year	$	5		$	-
Additions		41			5
Reductions		(37	)		-
Balance, end of year	$	9		$	5

Mortgage loans serviced for others are not included in the accompanying consolidated balance sheets.  The unpaid principal balances of mortgage loans serviced for others were $88,728,000 and $25,802,000 as of December 31, 2012 and 2011, respectively.

NOTE 5 - PREMISES AND EQUIPMENT

The following is a summary of premises and equipment as of December 31:

	2012			2011
	(In Thousands)
Leasehold improvements	$	1,290		$	1,255
Furniture and equipment		2,284			2,576
		3,574			3,831
Accumulated depreciation and amortization		(2,750	)		(3,152	)
	$	824		$	679

NOTE 6 - DEPOSITS

The aggregate amount of time deposit accounts in denominations of $100,000 or more as of December 31, 2012 and 2011 was $31,331,000 and $34,601,000, respectively.

For time deposits as of December 31, 2012, the scheduled maturities for years ended December 31 are:

	(In Thousands)
2013	$	46,227
2014		11,270
2015		8,300
2016		2,682
2017		3,992
Total	$	72,471

As of December 31, 2012, the Bank has one depositor with total deposits of $23,822,000 or 7.0% of the Company’s total deposits.

NOTE 7 - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE

Securities sold under agreements to repurchase consist of funds borrowed from customers on a short-term basis secured by portions of the Company's investment portfolio.  The securities which were sold have been accounted for not as sales but as borrowings.  The securities consisted of debt securities issued by U.S. government sponsored enterprises, corporations and agencies and states and municipalities.  The securities were held in safekeeping by the Federal Home Loan Bank and Merrill Lynch, under the control of the Company.  The purchasers have agreed to sell to the Company substantially identical securities at the maturity of the agreements.  The agreements mature generally within three months from date of issue.

-54-

NOTE 8 - FEDERAL HOME LOAN BANK ADVANCES

Advances consist of funds borrowed from the Federal Home Loan Bank of Boston (FHLB). There were no FHLB advances outstanding as of December 31, 2012 and 2011.

Borrowings from the FHLB are secured by a blanket lien on qualified collateral, consisting primarily of loans with first mortgages secured by one to four family properties and other qualified assets.

The Company has a line of credit with the FHLB in the amount of $1,525,000 at December 31, 2012 and 2011.  At December 31, 2012 and 2011, there were no advances outstanding under this line of credit.

NOTE 9 - INCOME TAX EXPENSE

The components of income tax expense are as follows for the years ended December 31:

	2012		2011
	(In Thousands)
Current:
Federal	$	541	$	(414	)
State		2		2
		543		(412	)
Deferred:
Federal		164		513
State		-		315
		164		828
Total income tax expense	$	707	$	416

The reasons for the differences between the statutory federal income tax rate and the effective tax rates are summarized as follows for the years ended December 31:

	2012			2011
	% of			% of
	Income			Income
Federal income tax at statutory rate		34.0	%		34.0	%
Increase (decrease) in tax resulting from:
Tax-exempt income		(9.2	)		(17.1	)
Other		0.9			(1.3	)
State tax expense, net of federal tax benefit		0.0			15.8
Effective tax rates		25.7	%		31.4	%

-55-

The Company had gross deferred tax assets and gross deferred tax liabilities as follows as of December 31:

	2012			2011
	(In Thousands)
Deferred tax assets:
Allowance for loan losses	$	753		$	725
Deferred compensation		181			125
Impairment of operating lease		39			54
Writedown of securities		4			-
Restricted stock awards		12			-
Other		57			46
Alternative minimum tax carryforward		368			116
Gross deferred tax assets		1,414			1,066
Deferred tax liabilities:
Depreciation		(131	)		(21	)
Deferred loan costs/fees		(286	)		(164	)
Mortgage servicing rights		(280	)		-
Net unrealized holdings gain on available-for-sale securities		(581	)		(369	)
Gross deferred tax liabilities		(1,278	)		(554	)
Net deferred tax asset	$	136		$	512

Deferred tax assets as of December 31, 2012 and 2011 have not been reduced by a valuation allowance because management believes that it is more likely than not that the full amount of deferred taxes will be realized.

As of December 31, 2012, the Company had no operating loss carryovers for income tax purposes.

It is the Company’s policy to provide for uncertain tax positions and the related interest and penalties based upon management’s assessment of whether a tax benefit is more likely than not to be sustained upon examination by tax authorities.  As of December 31, 2012 and 2011, there were no material uncertain tax positions related to federal and state income tax matters.  The Company is currently open to audit under the statute of limitations by the Internal Revenue Service and state taxing authorities for the years ended December 31, 2008 through December 31, 2012.

In January of 2011, the Bank formed a subsidiary Passive Investment Company (PIC).  Under State of Connecticut statutes, such a company is not subject to Connecticut corporation business taxes.  Provided that the Bank meets the mandated statutory requirements the Company’s Connecticut corporation business taxes should be significantly reduced or eliminated.  During 2011, net income was negatively impacted by approximately $315,000, consisting of certain non-recurring charges incurred in establishing the PIC.

-56-

NOTE 10 - COMMITMENTS AND CONTINGENT LIABILITIES

As of December 31, 2012 the Company was obligated under non-cancelable operating leases for bank premises and equipment expiring between March 2013 and September 2020.  Certain leases contain renewal options. The cost of such renewals is not included below.  The total minimum rental due in future periods under these existing agreements is as follows as of December 31, 2012:

	(In Thousands)
2013	$	729
2014		853
2015		759
2016		533
2017		496
Thereafter		1,419
Total	$	4,789

Certain leases contain provisions for escalation of minimum lease payments contingent upon percentage increases in the consumer price index.  Total rental expense amounted to $564,000 and $577,000 for the years ended December 31, 2012 and 2011, respectively.

On November 28, 2008, the Company entered into an agreement with its data processing servicer which ends in five years, and automatically continues for three years, unless terminated by either party with notice.  Under the agreement, the Company must pay a termination fee as described in the agreement if the Company terminates the agreement with notice, before the end of the agreement.

NOTE 11 - FAIR VALUE MEASUREMENTS

ASC 820-10, “Fair Value Measurements and Disclosures,” provides a framework for measuring fair value under generally accepted accounting principles.  This guidance also allows an entity the irrevocable option to elect fair value for the initial and subsequent measurement for certain financial assets and liabilities on a contract-by-contract basis.

In accordance with ASC 820-10, the Company groups its financial assets and financial liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.

Level 1 - Valuations for assets and liabilities traded in active exchange markets, such as the New York Stock Exchange.  Level 1 also includes U.S. Treasury, other U.S. Government and agency mortgage-backed securities that are traded by dealers or brokers in active markets.  Valuations are obtained from readily available pricing sources for market transactions involving identical assets or liabilities.

Level 2 - Valuations for assets and liabilities traded in less active dealer or broker markets.  Valuations are obtained from third party pricing services for identical or comparable assets or liabilities.

Level 3 - Valuations for assets and liabilities that are derived from other methodologies, including option pricing models, discounted cash flow models and similar techniques, are not based on market exchange, dealer, or broker traded transactions.  Level 3 valuations incorporate certain assumptions and projections in determining the fair value assigned to such assets and liabilities.

A financial instrument’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.  The Company did not have any significant transfers of assets between Level 1 and Level 2 of the fair value hierarchy during the year ended December 31, 2012.

A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.  These valuation methodologies were applied to all of the Company’s financial assets and financial liabilities carried at fair value for December 31, 2012 and 2011.

-57-

The Company’s cash instruments are generally classified within Level 1 or Level 2 of the fair value hierarchy because they are valued using quoted market prices, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency.

The Company’s investment in obligations of states and municipalities, mortgage-backed securities and other debt securities available-for-sale are generally classified within Level 2 of the fair value hierarchy.  For these securities, we obtain fair value measurements from independent pricing services.  The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. treasury yield curve, trading levels, market consensus prepayment speeds, credit information, and the instrument’s terms and conditions.

Level 3 is for positions that are not traded in active markets or are subject to transfer restrictions, valuations are adjusted to reflect illiquidity and/or non-transferability, and such adjustments are generally based on available market evidence.  In the absence of such evidence, management’s best estimate is used.  Subsequent to inception,

management only changes Level 3 inputs and assumptions when corroborated by evidence such as transactions in similar instruments, completed or pending third-party transactions in the underlying investment or comparable entities, subsequent rounds of financing, recapitalization and other transactions across the capital structure, offerings in the equity or debt markets, and changes in financial ratios or cash flows.

The Company’s impaired loans are reported at the fair value of the underlying collateral if repayment is expected solely from the collateral.  Collateral values are estimated using Level 2 inputs based upon appraisals of similar properties obtained from a third party.  For Level 3 inputs, fair values are based on management estimates.

Other real estate owned values are estimated using Level 2 inputs based upon appraisals of similar properties obtained from a third party.  For Level 3 inputs, fair values are based on management estimates.

The following summarizes assets measured at fair value for the period ending December 31, 2012 and 2011:

ASSETS MEASURED AT FAIR VALUE ON A RECURRING BASIS

	Fair Value Measurements at Reporting Date Using:
			Quoted Prices in		Significant		Significant
			Active Markets for		Other Observable		Unobservable
			Identical Assets		Inputs		Inputs
	Total		Level 1		Level 2		Level 3
	(In Thousands)
December 31, 2012:
Debt securities issued by U.S. government
corporations and agencies	$	30,835	$	-	$	30,835	$	-
Obligations of states and municipalities		14,551		-		14,551		-
Corporate debt securities		2,053		-		2,053		-
Mortgage-backed securities		43,257		-		43,257		-
SBA loan pools		1,124		-		1,124		-
Totals	$	91,820	$	-	$	91,820	$	-
December 31, 2011:
Debt securities issued by U.S. government
corporations and agencies	$	12,542	$	-	$	12,542	$	-
Obligations of states and municipalities		13,613		-		13,613		-
Corporate debt securities		2,484		-		2,484		-
Mortgage-backed securities		26,867		-		26,867		-
SBA loan pools		1,353		-		1,353		-
Totals	$	56,859	$	-	$	56,859	$	-

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Under certain circumstances we make adjustments to fair value for our assets and liabilities although they are not measured at fair value on an ongoing basis.  The following table presents the financial instruments carried on the consolidated balance sheet by caption and by level in the fair value hierarchy, at December 31, 2012 and 2011, for which a nonrecurring change in fair value has been recorded:

ASSETS MEASURED AT FAIR VALUE ON A NONRECURRING BASIS

	Fair Value Measurements at Reporting Date Using:
			Quoted Prices in		Significant		Significant
			Active Markets for		Other Observable		Unobservable
			Identical Assets		Inputs		Inputs
	Total		Level 1		Level 2		Level 3
	(In Thousands)
December 31, 2012:
Other real estate owned	$	213	$	-	$	-	$	213
Totals	$	213	$	-	$	-	$	213
December 31, 2011:
Impaired loans	$	175	$	-	$	-	$	175
Totals	$	175	$	-	$	-	$	175

The estimated fair values of the Company’s financial instruments, all of which are held or issued for purposes other than trading, are as follows as of December 31:

	December 31, 2012
	Carrying		Fair Value
	Amount		Level 1		Level 2		Level 3		Total
	(In Thousands)
Financial assets:
Cash and cash equivalents	$	34,100	$	34,100	$	-	$	-	$	34,100
Interest-bearing time deposits with other banks		3,789		-		3,892		-		3,892
Available-for-sale securities		91,820		-		91,820		-		91,820
Federal Home Loan Bank stock		589		589		-		-		589
Loans, net		233,290		-		-		239,465		239,465
Accrued interest receivable		1,019		1,019		-		-		1,019
Financial liabilities:										-
Deposits		340,409		-		340,857		-		340,857
Securities sold under agreements to repurchase		3,569		-		3,569		-		3,569

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	December 31, 2011
	Carrying Amount		Fair Value
	(In Thousands)
Financial assets:
Cash and cash equivalents	$	91,880	$	91,880
Interest-bearing time deposits with other banks		4,728		4,899
Available-for-sale securities		56,859		56,859
Federal Home Loan Bank stock		660		660
Loans, net		214,084		220,659
Accrued interest receivable		964		964
Financial liabilities:
Deposits		344,777		345,515
Securities sold under agreements to repurchase		3,548		3,548

The carrying amounts of financial instruments shown in the above table are included in the consolidated balance sheets under the indicated captions.  Accounting policies related to financial instruments are described in Note 2.

NOTE 12 - FINANCIAL INSTRUMENTS

The Company is 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 include commitments to originate loans, unadvanced funds on loans and standby letters of credit.  The instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheets.  The contract amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.

The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for loan commitments is represented by the contractual amounts of those instruments.  The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

Commitments to originate loans are agreements to lend to a customer provided 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.  Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.  The Company evaluates each customer's creditworthiness on a case-by-case basis.  The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation of the borrower.  Collateral held varies, but may include secured interests in mortgages, accounts receivable, inventory, property, plant and equipment and income-producing properties.

Standby letters of credit are conditional commitments issued by the Company to guarantee the performance by a customer to a third party.  The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.  As of December 31, 2012 and 2011, the maximum potential amount of the Company’s obligation was $175,000 and $292,000, respectively for financial and standby letters of credit.  The Company’s outstanding letters of credit generally have a term of less than one year.  If a letter of credit is drawn upon, the Company may seek recourse through the customer’s underlying line of credit.  If the customer’s line of credit is also in default, the Company may take possession of the collateral, if any, securing the line of credit.

-60-

Notional amounts of financial instrument liabilities with off-balance-sheet credit risk are as follows as of December 31:

	2012		2011
	(In Thousands)
Commitments to originate loans	$	13,459	$	4,571
Standby letters of credit		175		292
Unadvanced portions of loans:
Construction loans		1,778		70
Commercial lines of credit		11,383		8,059
Consumer		688		674
Home equity lines of credit		32,550		28,716
	$	60,033	$	42,382

There is no material difference between the notional amounts and the estimated fair values of the above off-balance sheet liabilities.

NOTE 13 - RELATED PARTY TRANSACTIONS

Certain directors and executive officers of the Company and companies in which they have significant ownership interest were customers of the Bank during 2012.  Total loans to such persons and their companies amounted to $3,944,000 as of December 31, 2012.  During the year ended December 31, 2012 principal payments totaled $2,290,000 and advances amounted to $1,427,000.

Deposits from related parties held by the Company as of December 31, 2012 and 2011 amounted to $4,669,000 and $813,000, respectively.

During 2012 and 2011, the Company paid $64,000 and $61,000, respectively, for rent and related expenses of the Company’s Granby branch office to a company of which a bank director is a principal.  The rent expense for the Granby branch included in Note 10 amounted to $43,000 in 2012 and $45,000 in 2011.

NOTE 14 - SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK

Most of the Company's business activity is with customers located within the state.  There are no concentrations of credit to borrowers that have similar economic characteristics.  The majority of the Company's loan portfolio is comprised of loans collateralized by real estate located in the state of Connecticut.

NOTE 15 – OTHER COMPREHENSIVE INCOME

Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income.  Although certain changes in assets and liabilities are reported as a separate component of the equity section of the consolidated balance sheets, such items, along with net income, are components of comprehensive income.

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The components of other comprehensive income, included in stockholders’ equity are as follows during the years ended December 31:

	2012			2011
	(In Thousands)
Net unrealized holding gains on available-for-sale securities	$	736		$	1,105
Reclassification adjustment for realized gains in net income		(113	)		(445	)
Other comprehensive income before income tax effect		623			660
Income tax expense		(212	)		(203	)
Other comprehensive income, net of tax	$	411		$	457

At December 31, 2012 and 2011, the components of accumulated other comprehensive income, included in stockholders’ equity, are as follows:

	2012		2011
	(In Thousands)
Net unrealized gain on securities available-for-sale, net of tax	$	1,128	$	717
Total accumulated other comprehensive income	$	1,128	$	717

NOTE 16 - REGULATORY MATTERS

The Bank is 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 direct material effect on the Bank’s financial statements.  Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of its assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices.  The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined).  Management believes, as of December 31, 2012 and 2011, that the Bank meets all capital adequacy requirements to which it is subject.

As of December 31, 2012, the most recent notification from the Federal Deposit Insurance Corporation categorized the Bank as well capitalized under the regulatory framework for prompt corrective action.  To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the table.  There are no conditions or events since that notification that management believes have changed the institution's category.

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The Bank’s actual capital amounts and ratios are also presented in the table.

										To Be Well
										Capitalized Under
					For Capital					Prompt Corrective
	Actual				Adequacy Purposes					Action Provisions
	Amount		Ratio		Amount			Ratio		Amount			Ratio
	(Dollars In Thousands)
As of December 31, 2012:
Total Capital (to Risk Weighted Assets)	$	30,637	14.68	%	$	16,694	≥	8.0	%	$	20,868	≥	10.0	%
Tier 1 Capital (to Risk Weighted Assets)		28,043	13.44			8,347	≥	4.0			12,521	≥	6.0
Tier 1 Capital (to Average Assets)		28,043	7.73			14,520	≥	4.0			18,150	≥	5.0
As of December 31, 2011:
Total Capital (to Risk Weighted Assets)		28,390	14.44			15,731	≥	8.0			19,664	≥	10.0
Tier 1 Capital (to Risk Weighted Assets)		25,932	13.19			7,865	≥	4.0			11,798	≥	6.0
Tier 1 Capital (to Average Assets)		25,932	7.46			13,896	≥	4.0			17,370	≥	5.0

The declaration of cash dividends is dependent on a number of factors, including regulatory limitations, and the Company's operating results and financial condition.  The stockholders of the Company will be entitled to dividends only when, and if, declared by the Company's Board of Directors out of funds legally available therefore.  The declaration of future dividends will be subject to favorable operating results, financial conditions, tax considerations, and other factors.

Under Connecticut law, the Bank may pay dividends only out of net profits.  The Connecticut Banking Commissioner’s approval is required for dividend payments which exceed the current year’s net profits and retained net profits from the preceding two years.  As of December 31, 2012, the Bank is restricted from declaring dividends to the Company in an amount greater than $3,365,000.

NOTE 17 - EMPLOYEE BENEFITS

The Company sponsors a 401(k) savings and retirement plan.  Employees who were 21 years of age and employed on the plan's effective date were immediately eligible to participate in the plan.  Other employees who have attained age 21 are eligible for membership on the first day of the month following completion of 90 days of service.

The provisions of the 401(k) plan allow eligible employees to contribute subject to IRS limitations.  The Company's matching contribution will be determined at the beginning of the plan year.  The Company's expense under this plan was $105,000 in 2012 and $92,000 in 2011.

The Company entered into Supplemental Executive Retirement Agreements with current and former executive officers.  The agreements require the payment of specified benefits upon retirement over specified periods as described in each agreement.  The total liability for the agreements included in other liabilities was $533,000 at December 31, 2012 and $368,000 at December 31, 2011.  Expenses under these agreements amounted to $170,000 and $147,000, respectively, for the years ended December 31, 2012 and 2011. Payments made under the agreements were $5,000 for each of the years ended December 31, 2012 and 2011.

The Company entered into employment agreements (the “Agreements”) with the Executive Officers of the Company.  The Agreements provide for severance benefits upon termination following a change in control as defined in the agreements in amounts equal to cash compensation as defined in the agreements, and fringe benefits that the Executive(s) would have received if the Executive(s) would have continued working for an additional two years. The agreements also include provisions to accelerate vesting for stock option plans; or for additional credit for years of service under benefit plans.

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NOTE 18 - STOCK BASED COMPENSATION  PLANS

The SBT Bancorp, Inc. 1998 Stock Plan (“1998 Plan”) provided for the granting of options to purchase shares of common stock or the granting of shares of restricted stock up to an aggregate amount of 142,000 shares of common stock of the Company.  Options granted under the 1998 Plan may have been either Incentive Stock Options (“ISOs”) within the meaning of Section 422 of the Internal Revenue Code or non-qualified options (“NQOs”) which do not qualify as ISOs.  Effective March 17, 2009, no additional restricted stock awards or stock options may be granted under the 1998 Plan.

On May 10, 2011, the stockholders of SBT Bancorp, Inc. approved the SBT Bancorp, Inc. 2011 Stock Award and Option Plan (“2011 Plan”).  The 2011 Plan provides for the granting of options to purchase shares of common stock or the granting of shares of restricted stock up to an aggregate amount of 100,000 shares of common stock of the Company.  Options granted under the 2011 Plan may be either Incentive Stock Options (“ISOs”) within the meaning of Section 422 of the Internal Revenue Code or non-qualified options (“NQOs”) which do not qualify as ISOs.

The exercise price for shares covered by an ISO may not be less than 100% of the fair market value of common stock on the date of grant.  All options must expire no later than ten years from the date of grant.

During 2012 and 2011, the Company granted 10,570 shares and 11,620 shares, respectively, of restricted stock with an award value of $251,000 and $235,000, respectively, or $23.75 and $20.22 per share, respectively.  The restricted shares vest over a three year period.  During 2012 and 2011, the Company recognized compensation expense related to the restricted shares awarded in the amounts of $82,000 and $29,000, respectively.  The recognized tax benefit related to this expense was $28,000 in 2012 and $10,000 in 2011.

A summary of the status of the restricted stock awards as of December 31 and changes during the years ending on that date is presented below:

	2012					2011
				Weighted-Average					Weighted-Average
Fixed Options	Shares			Exercise Price		Shares			Exercise Price
Non-vested restricted stock awards
at beginning of year		11,206		$	23.75		-		$	-
Restricted shares granted		10,570			20.22		11,620			23.75
Shares vested		(3,734	)		23.75		-			-
Forfeited		-			-		(414	)		23.75
Non-vested restricted stock awards
at end of year		18,042		$	20.33		11,206		$	23.75

As of December 31, 2012, the unrecognized share-based compensation expense related to the non-vested restricted stock awards was $367,000.  This amount is expected to be recognized over a weighted average period of 2.5 years.

The Company did not grant any stock options in 2012and 2011.

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A summary of the status of the Company’s stock option plans as of December 31 and changes during the years ended on that date is presented below:

	2012					2011
				Weighted-Average					Weighted-Average
Fixed Options	Shares			Exercise Price		Shares			Exercise Price
Outstanding at beginning of year		32,811		$	30.07		49,875		$	30.21
Granted		-			-		-			-
Exercised		-			-		-			-
Forfeited		(1,311	)		15.65		(17,064	)		30.48
Outstanding at end of year		31,500			30.67		32,811			30.07
Options exercisable at year-end		31,500		$	30.67		32,811		$	30.07
Weighted-average fair value of
options granted during the year		N/A					N/A

The following table summarizes information about fixed stock options outstanding as of December 31, 2012:

Options Outstanding and Exercisable
				Weighted-Average
		Number		Remaining	Number
Exercise Price		Outstanding		Contractual Life	Exercisable		Exercise Price
$	31.50		21,000	2.97 years		21,000	$	31.50
	29.00		10,500	3.48 years		10,500		29.00
$	30.67		31,500	3.14 years		31,500	$	30.67

As of December 31, 2012, compensation costs related to stock options granted under the Plans have been fully recognized.  There were no shares that vested during the years ended December 31, 2012 and 2011.

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NOTE 19 – EARNINGS PER SHARE

Reconciliation of the numerators and the denominators of the basic and diluted per share computations for net income available to common stockholders are as follows:

	2012			2011
	(In Thousands, Except Per Share Data)
Basic earnings per share computation:
Net income	$	2,044		$	910
Preferred stock net accretion		(12	)		(135	)
Cumulative preferred stock dividends		(134	)		(225	)
Net income available to common shareholders	$	1,898		$	550
Weighted average shares outstanding, basic		867,087			864,986
Basic earnings per share	$	2.19		$	0.64
Diluted earnings per share computation:
Net income	$	2,044		$	910
Preferred stock net accretion		(12	)		(135	)
Cumulative preferred stock dividends		(134	)		(225	)
Net income available to common shareholders	$	1,898		$	550
Weighted average shares outstanding, before dilution		867,087			864,986
Dilutive potential shares		5,119			4,550
Weighted average shares outstanding, assuming dilution		872,206			869,536
Diluted earnings per share	$	2.18		$	0.63

NOTE 20 - PREFERRED STOCK

On March 27, 2009, the Company entered into a Letter Agreement, which includes a Securities Purchase Agreement (together, the “Purchase Agreement”), with the United States Department of the Treasury (“Treasury Department”) pursuant to which the Company has issued and sold to the Treasury Department: (i) 4,000 shares of the Company’s Fixed Rate Cumulative Perpetual Preferred Stock, Series A, no par (the “Series A Preferred Stock”), having a liquidation amount per share of $1,000 for a total purchase price of $4,000,000 and (ii) a warrant (the “Warrant”) to purchase 200.002 shares of the Company’s Fixed Rate Cumulative Perpetual Preferred Stock, Series B, no par (the “Series B Preferred Stock”), with a liquidation amount of $1,000 per share, at an exercise price of $.01.  The Warrant had a ten-year term and was immediately exercisable.  Immediately following the issuance of the Series A Preferred Stock and the Warrant, the Treasury Department exercised its rights under the Warrant to acquire 200 shares of the Series B Preferred Stock through a cashless exercise.

During the year ended December 31, 2011, in connection with the Company’s participation in the Treasury’s Small Business Lending Fund (“SBLF”) program described below, the Company redeemed all of its Series A and B Preferred Stock for $4,200,000.

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The Series A Preferred Stock paid cumulative dividends at a rate of 5% per 360-day year for the first five years and thereafter at a rate of 9% per 360-day year.  The Series A Preferred Stock and the Series B Preferred Stock was redeemable by the Company upon payment of the liquidation amount plus accrued and unpaid dividends (the “Redemption Amount”).  The Series A Preferred Stock was generally non-voting.  The Series B Preferred Stock paid cumulative dividends at a rate of 9% per 360-day year.  The Series B Preferred Stock generally had the same rights and privileges as the Series A Preferred Stock.

The Series A Preferred Stock and the Warrant were issued in a private placement exempt from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended.  The Company agreed to register for resale the Series A Preferred Stock and the Series B Preferred Stock upon request of the Treasury Department.  The Purchase Agreement provided that neither the Series A Preferred Stock nor the Series B Preferred Stock were subject to any contractual restrictions on transfer, except that the Treasury Department and its transferees may not effect any transfer of the Series A Preferred Stock or the Series B Preferred Stock that would have caused the Company to otherwise become subject to the periodic reporting requirements of the Securities Exchange Act of 1934.  The Purchase Agreement also provided for certain restrictions on dividend payments and stock repurchases by the Company.

The Company allocated the $4,000,000 in proceeds received from the U.S. Treasury Department between Series A Preferred Stock and Series B Preferred Stock assuming that the Preferred Stock would be replaced with a qualifying equity offering and the Preferred Stock would therefore be redeemed at the end of five years.  The allocation was recorded assuming a discount rate of 12% on the cash flows of each instrument.

The allocation of the proceeds was as follows:

	(In Thousands)
Series A Preferred Stock	$	3,770
Series B Preferred Stock		230
Proceeds received from the Treasury Department	$	4,000

The Series A Preferred Stock was being accreted over a five-year period so that, at the end of five years, the balance in Series A Preferred Stock would equal $4,000,000.  During the year ended December 31, 2011, in conjunction with the Company’s redemption of the Series A Preferred Stock the remaining accretion was recorded to increase the balance to $4,000,000, the redemption amount.  The aggregate accretion from retained earnings was $150,000 in 2011.

The Series B Preferred Stock was being amortized over a five-year period so that, at the end of five years, the balance in Series B Preferred Stock would equal $200,000.  During the year ended December 31, 2011, in conjunction with the Company’s redemption of the Series B Preferred Stock the remaining amortization was recorded to decrease the balance to $200,000, the redemption amount.  The aggregate amortization to retained earnings was $20,000 in 2011.

On August 11, 2011, as part of the United States Department of the Treasury (the “Treasury”) Small Business Lending Fund program (the “SBLF”), the Company entered into a Small Business Lending Fund – Securities Purchase Agreement (the “Purchase Agreement”) with the Secretary of the Treasury (the “Secretary”), pursuant to which the Company agreed to issue and sell, and the Secretary agreed to purchase, 9,000 shares of the Company’s Senior Non-cumulative Perpetual Preferred Stock, Series C, having a liquidation preference of $1,000 per share (the “SBLF Preferred Stock”), for a purchase price of $9,000,000.  The SBLF Preferred Stock was issued pursuant to the SBLF program, a $30 billion fund established under the Small Business Jobs Act of 2010 that was created to encourage lending to small business by providing capital to qualified community banks with assets of less than $10 billion.

The transaction described above closed on August 11, 2011.  The SBLF Preferred Stock has no maturity date and ranks senior to the Company’s common stock with respect to the payment of dividends and distributions and amounts payable upon liquidation, dissolution and winding up of the Company.

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The SBLF Preferred Stock qualifies as Tier 1 capital and will pay non-cumulative dividends quarterly on each January 1, April 1, July 1 and October 1, beginning October 1, 2011.  The dividend rate can fluctuate on a quarterly basis during the first 10 quarters during which the SBLF Preferred Stock is outstanding, based upon changes in the level of “Qualified Small Business Lending” or “QSBL” (as defined in the Purchase Agreement).  Based upon the increase in the Bank’s level of QSBL over the baseline level calculated under the terms of the Purchase Agreement, at December 31, 2012, the dividend rate payable by the Company on the Series C Preferred Stock is 1.00%.  For the second through ninth calendar quarters, the dividend rate may be adjusted between one percent (1%) and five percent (5%) per annum to reflect the amount of change in the Bank’s level of QSBL.  If the level of the Bank’s qualified small business loans declines so that the percentage increase in QSBL as compared to the baseline level is less than 10%, then the dividend rate payable on the SBLF Preferred Stock would increase.  For the tenth calendar quarter through four-and-one-half years after issuance, the dividend rate will be fixed at between one percent (1%) and seven percent (7%) based upon the increase in QSBL as compared to the baseline.  After four-and-one-half years from issuance, the dividend rate will increase to 9% (including a quarterly lending incentive fee of 0.5%).

The SBLF Preferred Stock is non-voting, except in limited circumstances.  In the event that the Company misses five dividend payments, whether or not consecutive, the holder of the SBLF Preferred Stock will have the right, but not the obligation, to appoint a representative as an observer on the Company’s Board of Directors.

The SBLF Preferred Stock may be redeemed at any time at the Company’s option, at a redemption price of 100% of the liquidation amount plus accrued but unpaid dividends to the date of redemption for the current period, subject to the approval of the Federal Deposit Insurance Corporation.

Under the terms of the SBLF Preferred Stock, the Company may only declare and pay a dividend on the common stock or other stock junior to the SBLF Preferred Stock, or repurchase shares of any such class or series of stock, if, after payment of such dividend, the dollar amount of the Company’s Tier 1 Capital would be at least 90% of the Signing Date Tier 1 Capital, as set forth in the Certificate of Amendment to the Certificate of Incorporation of the Company fixing the designations, preferences, limitations and relative rights of the SBLF Preferred Stock, excluding any subsequent net charge-offs and any redemption of the SBLF Preferred Stock (the “Tier 1 Dividend Threshold”).  The Tier 1 Dividend Threshold is subject to reduction, beginning on the second anniversary of issuance and ending on the tenth anniversary, by 10% for each one percent increase in QSBL over the baseline level.

Pursuant to the Purchase agreement, approximately $4,252,000 of the proceeds from the sale of the SBLF Preferred Stock was used to redeem the 4,000 shares of the Company’s Fixed Rate Cumulative Perpetual Preferred Stock, Series A, and 200 shares of the Company’s Fixed Rate Cumulative Perpetual Preferred Stock, Series B (collectively, the “CPP Preferred Stock”), issued in March 2009 to the Treasury under the Capital Purchase Program (“CPP”), plus the accrued and unpaid dividends owed on the CPP Preferred Stock through the date of closing of the sale of the SBLF Preferred Stock to the Secretary.

NOTE 21 – LEGAL CONTINGENCIES

Various legal claims also arise from time to time in the normal course of business which, in the opinion of management, will have no material effect on the Company’s consolidated financial statements.

NOTE 22 - RECLASSIFICATION

Certain amounts in the prior year have been reclassified to be consistent with the current year's statement presentation.

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Shareholder Data

The bid price of the stock of the Bank’s parent company, SBT Bancorp, Inc. is currently quoted on the OTC Bulletin Board (symbol:  “SBTB”).  At December 31, 2012, there were 888,724 shares of the Company's common stock issued, of which 888,310 shares were outstanding.  As of March 30, 2013, the Company had approximately 1,100 shareholders of record.  There is a limited market for the Company’s common stock.  The following table sets forth the high and low price for the periods indicated.

	Year Ended				Year Ended
	December 31, 2012				December 31, 2011
	High		Low		High		Low
Fourth Quarter	$	35.00	$	21.00	$	20.00	$	17.00
Third Quarter	$	23.00	$	20.65	$	21.00	$	19.10
Second Quarter	$	26.00	$	19.50	$	23.00	$	19.50
First Quarter	$	20.00	$	16.05	$	21.50	$	18.75

The above over-the-counter market quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission, and may not reflect actual transactions.

Dividends

The Company’s shareholders are entitled to dividends when and if declared by the Board of Directors out of funds legally available therefore.  Connecticut law prohibits the Company from paying cash dividends except from its net profits, which are defined by State statues.

On August 11, 2011, the Company issued 9,000 shares of Senior Non-Cumulative Perpetual Preferred Stock, Series C (the “SBLF Preferred Stock”), to the U.S, Treasury.  The SBLF Preferred Stock has no maturity date and ranks senior to the Company’s common stock with respect to the payment of dividends and distributions and amounts payable upon liquidation, dissolution and winding up of the Company.

The SBLF Preferred Stock qualifies as Tier 1 capital and will pay non-cumulative dividends quarterly on each January 1, April 1, July 1 and October 1, beginning October 1, 2011.  The dividend rate can fluctuate on a quarterly basis during the first 10 quarters during which the SBLF Preferred Stock is outstanding, based upon changes in the level of “Qualified Small Business Lending” or “QSBL” (as defined in the purchase agreement) by the Bank.  Based upon the increase in the Bank’s level of QSBL over the baseline level calculated under the terms of the Purchase Agreement, the dividend rate for the initial dividend period has been set at 3.0671111%.  For the second through ninth calendar quarters, the dividends rate may be adjusted between one percent (1%) and five percent (5%) per annum to reflect the amount of change in the Bank’s level of QSBL.  As a result of increases in the Bank’s level of QSBL, the Company’s current dividend rate is 1%.  If the level of the Bank’s qualified small business loans declines so that the percentage increase in QSBL as compared to the baseline level is less than 10%, then the dividend rate payable on the SBLF Preferred Stock would increase.  For the tenth calendar quarter through the four and one half years after issuance, the dividend rate will be fixed at between one percent (1%) and seven percent (7%) based upon the increase in QSBL as compared to the baseline.  After four and one half years from issuance, the dividend rate will increase to 9% (including a quarterly lending incentive fee of 0.5%).

The terms of the SBLF Preferred Stock impose limits on the ability of the Company to pay dividends and repurchase shares of common stock.  Under the terms of the SBLF Preferred Stock, no repurchases may be effected, and no dividends may be declared or paid on preferred shares ranking pari passu with the SBLF Preferred Stock, junior preferred shares, or other junior securities (including the common stock) during the current calendar quarter and for the next three calendar quarters following the failure to declare and pay dividends on the SBLF Preferred Stock, except that, in any such quarter in which the dividend is paid, dividend payments on shares ranking pari passu may be paid to the extent necessary to avoid any resulting material covenant breach.

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Under the terms of the SBLF Preferred Stock, the Company may only declare and pay a dividend on the common stock or other stock junior to the SBLF Preferred Stock, or repurchase shares of any such class or series of stock, if, after payment of such dividend, the dollar amount of the Company’s Tier 1 Capital would be at least 90% of the Signing Date Tier 1 Capital, as set forth in the Certificate of Amendment to the Certificate of Incorporation of the Company fixing the designations, preferences, limitations and relative rights of the SBLF Preferred Stock, excluding any subsequent net charge-offs and any redemption of the SBLF Preferred Stock (the “Tier 1 Dividend Threshold”).  The Tier 1 Dividend Threshold is subject to reduction, beginning on the second anniversary of issuance and ending on the tenth anniversary, by 10% for each one percent increase in QSBL over the baseline level.

In 2012, the Company declared and paid cash dividends on common stock of $104,000 on each of March 15, 2012, June 15, 2012 and September 17, 2012, respectively.  The Company also declared and paid cash dividends on common stock of $122,000 on December 17, 2012.  In accordance with the terms and conditions of the SBLF Preferred Stock, the Company declared and paid cash dividends on the SBLF Preferred Stock of $62,000 on March 30, 2012, $27,000 on June 30, 2012 and $23,000 on each of September 30, 2012 and December 30, 2012, respectively.

In 2011, the Company declared and paid cash dividends on common stock of $103,797 on each of March 22, 2011 and June 13, 2011, respectively.  The Company also declared and paid cash dividends on common stock of $105,000 on September 14, 2011 and $105,000 on December 14, 2011.  In addition, the Company declared and paid cash dividends of $54,500 on each of February 16, 2011 and May 12, 2011, respectively, on 4,000 shares of Fixed Rate Cumulative Perpetual Preferred Stock, Series A, and 200 shares of Fixed Rate Cumulative Perpetual Preferred Stock, Series B (collectively, the “CPP Preferred Stock”), that was issued to the U.S. Treasury under the Troubled Asset Relief Program (“TARP”) Capital Purchase Program. In connection with the redemption of the CPP Preferred Stock with proceeds from the issuance of the SBLF Preferred Stock, the Company declared and paid accrued and unpaid cash dividends of $52,078 on the CPP Preferred Stock on August 11, 2011. In accordance with the terms and conditions of the SBLF Preferred Stock, the Company declared and paid cash dividends on the SBLF Preferred Stock of $38,000 and $53,000 on September 30, 2011 and December 30, 2011, respectively.

The Company did notrepurchase any shares of its common stock during 2012.  The Company’s common stock is the only class of equity securities that is registered by the Company pursuant to Section 12 of the Exchange Act.

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SBT Bancorp, Inc.

Board of Directors *Chairman of Committee		Officers
Robert J. Bogino Chairman of the Board Retired President and Co-Owner Bogino & DeMaria, Inc. Compensation & Human Resources Committee Corporate Governance Committee* Executive Committee Loan Committee James T. Fleming President Connecticut Automotive Retailers Association Audit & Compliance Committee Corporate Governance Committee	Nicholas B. Mason Retired Chief Financial Officer Savings Bank of Manchester Audit & Compliance Committee     Corporate Governance Committee Michael D. Nicastro President Central Connecticut and Greater Bristol Chambers of Commerce Audit & Compliance Committee Loan Committee George B. Odlum, Jr., DMD Retired General Dentistry Audit & Compliance Committee* Executive Committee Rodney R. Reynolds	Martin J. Geitz President and Chief Executive Officer Anthony F. Bisceglio, Ph.D. Treasurer and Chief Financial Officer Gary R. Kevorkian Secretary Susan D. Presutti Assistant Secretary
Martin J. Geitz President and Chief Executive Officer The Simsbury Bank & Trust Company, Inc. Executive Committee Loan Committee Gary R. Kevorkian Attorney at Law Compensation & Human Resources Committee*     Executive Committee Loan Committee Jerry W. Long President and CEO PCC Technology Group Compensation & Human Resources Committee Loan Committee	Retired Founding Director Trust Company of Connecticut Compensation & Human Resources Committee Corporate Governance Committee David W. Sessions Vice Chairman President and Treasurer CASLE Corporation Compensation & Human Resources Committee Executive Committee* Loan Committee* Penny R. Woodford Real Estate Agent Coldwell Banker Residential Brokerage Audit & Compliance Committee Corporate Governance Committee

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The Simsbury Bank & Trust Company, Inc.

Board of Directors	Officers	Employees
All SBT Bancorp, Inc. Directors Directors Emeriti Richard C. Anthony Consultant Jackson F. Eno Senior Financial Advisor & PIA    Program Portfolio Manager Merrill Lynch, Pierce, Fenner & Smith, Inc. Jane F. von Holzhausen Sales Manager Avon Office Coldwell Banker Residential Brokerage Evan W. Woollacott Retired Vice Chairman and Commissioner Connecticut Department of Public Utility Control Lincoln S. Young Retired Chief Executive Officer Turbine Engine Services Corp.	Executive Officers Martin J. Geitz President and Chief Executive Officer Anthony F. Bisceglio, Ph.D. Executive Vice President, Treasurer & Chief Financial Officer Gary W. Burdick Senior Vice President & Chief Commercial Banking Officer Michael T. Sheahan Senior Vice President & Chief Mortgage & Consumer Lending Officer Howard R. Zern Executive Vice President & Chief Retail Banking, Technology Operations Officer Gary R. Kevorkian Secretary Senior Vice Presidents Michael L. Alberts Terry L. Boulton Vice Presidents Ammar Amirouche Brian D. Belyea Joan A. Beresford Charlene M. Faselle Robert A. Francolini Laurie E. Krause Stephen J. LaFlamme Thomas J. Mango Jocelyn A. Mitchell Matthew B. Morrell Kenneth S. Sklodosky Stephen R. Vaughan Barbara J. Wallace Assistant Vice Presidents Robin J. DiNicola Craig S. Porter Susan D. Presutti, Assistant Secretary Peter G. Sepelak, Jr. Sophie S. Stevens Assistant Treasurers Margot M. Byrne Lori L. Ethier Barbara J. Hanifin Lisa A. Morgan Romualdo A. Polce	Maribel Amaro Deborah L. Barber Kevin Belmonte Mary Lou Bidwell Teresa A. Blesso Kathleen Bonzani Katherine P. Cain Carol D. Clifford Terrence J. Connors Catherine A. Cook Chiara DiFronzo Jenalee M. Fonseca Theresa H. Fortier Shirley T. Gentry Jose A. Gonzalez Judy Gordon Veronica A. Grados Cheryl P. Guillot Deanna Halstead-Francis Cheryl S. Higgins Leslie S. Kane Susan LeBel Jaclyn Levesque Richard C. Liljedahl Bethany M. Marks Cindy Matthews Kelly A. Meuser Christine L. Miller Jordan Moore Jonathan S. Pizzo Susan S. Pohlod Patricia A. Pschirer Dennis J. Rainville Cindy L.C. Ramkissoon Michelle Raymond Petrina C. Reid Margaret E. Rose Jacob B. Rosenstein Megan B. Shufelt Sheri L. Sireci Joyce E. Slate Irene M. Smith Sonya G. Smith Jean M. Spalla Melanie S. Switzer Maria Theodoratos Marleen A. Townsend Margaret Washer Shannon D. White

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Corporate Information

SBT Bancorp, Inc.

760 Hopmeadow Street

P.O. Box 248

Simsbury, Connecticut 06070-0248

(860) 408-5493

Fax:  (860) 408-4679

simsburybank.com

Notice of Shareholders' Meeting
The Annual Meeting of Shareholders of SBT Bancorp, Inc., the holding company for The Simsbury Bank & Trust Company, Inc., will be held at 5:00 p.m. on Tuesday, May 14, 2013 at 981 Hopmeadow Street, Simsbury, Connecticut.
Independent Auditors	Legal Counsel
Shatswell, MacLeod & Company, P.C. 83 Pine Street West Peabody, MA  01960-3635	Day Pitney LLP Counselors at Law 242 Trumbull Street Hartford, CT  06103-1212
Transfer Agent	Shareholder Contact
American Stock Transfer & Trust Company 59 Maiden Lane Plaza Level New York, NY 10005 Shareholder Relations:  (800) 937-5449 Trading Symbol     SBTB	Susan D. Presutti, Assistant Secretary SBT Bancorp, Inc. 760 Hopmeadow Street, P.O. Box 248 Simsbury, CT  06070-0248 (860) 408-5493

COPIES OF THE COMPANY’S ANNUAL REPORT ON FORM 10-K WILL BE FORWARDED WITHOUT CHARGE UPON WRITTEN REQUEST TO:

Gary R. Kevorkian, Secretary

SBT Bancorp, Inc.

760 Hopmeadow Street

P.O. Box 248

Simsbury, CT  06070-0248

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