HomeTown Bankshares (HMTA) 10-K 2014 FY Annual report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-K

(Mark One)

☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACTOF 1934 For the fiscal year ended December 31, 2014

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OF 1934  For the transition period from            to            

Commission file number 333-158525

HomeTown Bankshares Corporation

(Exact name of registrant as specified in its charter)

Virginia	26-4549960
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
202 South Jefferson Street Roanoke, Virginia	24011
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code (540) 345-6000

Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Name of each exchange on which registered
None	None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $5.00 per share Par Value

(Title of class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ☐    No  ☒

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ☐    No   ☒

Indicate by check mark whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (check one):

Large accelerated filer	☐	Accelerated filer	☐
Non-accelerated filer	☐  (Do not check if a smaller reporting company)	Smaller reporting company	☒

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

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of June 30, 2014. $19,297,569, based on $6.25 per share.

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date 3,296,237 shares outstanding as of March 31, 2015.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Corporation’s Proxy Statement for the 2015 Annual Meeting of Shareholders have been incorporated by reference into Part III.

HOMETOWN BANKSHARES CORPORATION

FORM 10-K

FOR THE YEAR ENDED DECEMBER 31, 2014

TABLE OF CONTENTS

		Page
PART I
Item 1.	Business	1
Item 1A.	Risk Factors	7
Item 1B.	Unresolved Staff Comments	7
Item 2.	Properties	7
Item 3.	Legal Proceedings	8
Item 4.	Mine Safety Disclosures	8
PART II
Item 5.	Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	8
Item 6.	Selected Financial Data	8
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	8
Item 7A.	Quantitative and Qualitative Disclosures about Market Risk	22
Item 8.	Financial Statements and Supplementary Data	22
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	57
Item 9A.	Controls and Procedures	57
Item 9B.	Other Information	57
PART III
Item 10.	Directors, Executive Officers and Corporate Governance	57
Item 11.	Executive Compensation	58
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	58
Item 13.	Certain Relationships and Related Transactions, and Director Independence	58
Item 14.	Principal Accounting Fees and Services	58
PART IV
Item 15.	Exhibits, Financial Statement Schedules	59

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PART I

ITEM 1.           BUSINESS.

Overview and History

General

HomeTown Bankshares Corporation (the “Company”, “HomeTown Bankshares”) was incorporated in the Commonwealth of Virginia on December 8, 2008. On September 4, 2009, the Company acquired all of the outstanding shares of HomeTown Bank in a one for one exchange of stock.

The Company is authorized as a bank holding company. The holding company structure provides greater flexibility than a bank standing alone because it allows expansion and diversification of business activities through subsidiaries or through acquisitions. HomeTown Bankshares Corporation’s business is conducted through its wholly-owned subsidiary, HomeTown Bank.

HomeTown Bank

Hometown Bank (the “Bank”) is a Virginia banking corporation headquartered in Roanoke, Virginia. The Bank was incorporated under the laws of the Commonwealth of Virginia as a state chartered bank in 2004 and began banking operations in November 2005. The Bank was organized to engage in general retail and commercial banking business.

The Bank opened for business on November 14, 2005 and was capitalized by more than 2,000 shareholders who wanted a new local bank dedicated to customer service. These investors provided the initial customer base and are integral to the success of the Bank. Management believes that the key to the Bank’s success lies in providing Bank customers with personalized service from experienced banking professionals while providing innovative, highly competitive and convenient products and services that meet their banking needs. In 2014 the Bank operated a joint venture with another entity and now has a 49% ownership interest in HomeTown Residential Mortgage, LLC.

The Bank is a community-oriented financial institution that provides varied banking services to individuals, small and medium-sized businesses, and larger companies. The Bank provides a full range of services to meet the financial needs of its customers and strives to provide its customers with innovative products while maintaining the prompt response and the high level of service of a community bank. Management believes this operating strategy has particular appeal in the Bank’s market area. Management believes that the combination of local ownership and size allows the Bank to offer services and products specifically tailored to the needs of the community. The Bank’s Principal Office is located at 202 S. Jefferson Street, Roanoke, Virginia. The Bank maintains its primary website atwww.hometownbankva.com. Other websites, the Bank uses arewww.newriverbankva.com,www.switch2hometown.com,www.switchtohometown.com,www.switchtohometown.net,www.switchtohometownbank.com,www.switchtonewriverbank.com,www.hometownbank.com, and www.hometownbanktix.com.

Principal Products of the Bank

The Bank offers a full range of banking services to small and medium-size businesses, real estate investors and developers, private investors, professionals and individuals.  In addition to its main office, the Company has full-service offices in Franklin County, Virginia at Westlake, in the town of Christiansburg, Virginia at 2950 Market Street, in Roanoke County, Virginia at the intersection of Colonial Avenue and Virginia Route 419, in the City of Roanoke, Virginia at 3521 Franklin Roadand in the City of Salem, at 852 West Main Street.

Deposit Services. The Bank offers a full range of deposit services that are typically available in most banks, savings banks and credit unions including checking accounts, savings accounts and other time deposits of various types, ranging from daily money market accounts to longer-term certificates of deposit. From the beginning, the Bank has focused on convenience, innovation, and value. The transaction accounts and time certificates are tailored to the Bank’s market area at rates competitive to those offered in the area. In addition, the Bank offers its customers Individual Retirement Accounts (IRAs). All deposit accounts are insured by the Federal Deposit Insurance Corporation (the “FDIC”) up to the maximum amount allowed by law (generally, $250,000 per depositor, subject to aggregation rules). The Bank solicits such accounts from individuals, businesses, and associations and organizations.

The Bank also participates in the Certificate of Deposit Account Registry Service (“CDARS”) and Insured Cash Sweep (“ICS”) . CDARS and ICS enable the Bank to offer our deposit customers access to FDIC insurance in amounts exceeding the existing FDIC limit. This permits our institution to better attract and retain large deposits from businesses, nonprofit organizations, individuals and other customers that require an assurance of safety.

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Lending Services. The Bank also offers a full range of short-to-medium term commercial and personal loans. Commercial loans include both secured and unsecured loans for working capital (including inventory and receivables), business expansion (including acquisition of real estate and improvements), and purchase of equipment and machinery. Consumer loans and lines of credit include secured and unsecured loans for financing automobiles, home improvements, education and personal investments. Additionally, the Bank originates fixed and floating-rate mortgage loans and real estate construction and acquisition loans.

Consumer Residential Mortgage Origination. The Bank has expanded their residential mortgage origination operations over the last few years. Initially, the Bank originated loans as a representative for mortgage companies. Then, in February, 2012, the Bank opened a dedicated mortgage office, on Colonial Avenue, next to the existing branch office.  In 2013 HomeTown Bank entered into a joint venture agreement with a mortgage company as a non-controlling 49% owner of HomeTown Residential Mortgage, LLC. The new entity began operations at the end of 2013, absorbing the Bank’s mortgage office employees and continued working from the Colonial Avenue office. The mortgage office operates under the name HomeTown Mortgage and coordinates the Bank’s existing mortgage services and offers mortgages, refinancing, and other services. Loans originated are conforming home mortgages in its market area, as defined below. As part of the Bank’s overall risk management strategy, loans originated and closed by the mortgage office are pre-sold to major national mortgage banking or financial institutions. In addition to creating customer relationships and the opportunity to sell other products and services, the bank receives fee income for this service.

Investment Services. HomeTown Investments, opened in April 2013, provides diverse investment products and financial advisory services to existing and prospective customers. These products and services provide another source of revenue for the Company. Investment and insurance products and services are offered through an unaffiliated entity Infinex Investments, Inc., Member FINRA/SIPC. HomeTown Investments is a subsidiary of the Bank. Products and services made available through Infinex are not insured by the FDIC or any other agency of the United States and are not deposits or obligations of nor guaranteed or insured by any bank or bank affiliate. These products are subject to investment risk, including the possible loss of value.

Other Services. Other services offered by the Bank include safe deposit boxes, traveler’s checks, direct deposit of payroll and social security checks, automatic drafts for various accounts, overdraft protection, check cards, credit cards and merchant card services. The Bank also has become associated with a shared network of automated teller machines (ATMs) that may be used by Bank customers throughout the world. The Bank intends to introduce new products and services as permitted by the regulatory authorities or desired by the public. The Bank remains committed to meeting the challenges that require technology. The Bank provides its customers with access to the latest technological products, such as internet banking, including on-line bill pay and mobile banking. The services allow customers to handle routine transactions using the internet at the Bank’s websitewww.hometownbankva.com or on their mobile phones.

Market Area

The Bank’s market area primarily consists of the City of Roanoke, Roanoke County, and the City of Salem, Virginia and contiguous counties, including Bedford, Franklin and Montgomery, Virginia. Total population in the market area equals approximately 400,000. The area is serviced by one daily newspaper, at least 6 weekly, multi-weekly or bi-weekly newspapers and a number of radio and television stations providing diverse media outlets. The City of Roanoke and Roanoke County, the location of three of the Bank’s offices, has the largest population base, with approximately 190,000 persons. The Roanoke market area is diversified by industry groups with services, retail trade, manufacturing, construction, transportation and utilities, finance, insurance and real estate. Roanoke is a regional center for banking, medicine and the legal and business professional community. Carilion Clinic, Veterans Affairs, Kroger, and HCA Virginia Health System are among Roanoke’s largest private employers. Other major employers are the local school boards, municipal governments, and universities including Virginia Tech, Roanoke College, and Hollins University.

Employees

As of December 31, 2014, the Company had 96 employees, including 95 full-time equivalent employees. None of its employees are represented by any collective bargaining agreements, and relations with employees are considered positive.

Governmental Monetary Policies

The earnings and growth of the Company are affected not only by general economic conditions, but also by the monetary policies of various governmental regulatory authorities, particularly the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”). The Federal Reserve Board implements national monetary policy by its open market operations in United States government securities, control of the discount rate and establishment of reserve requirements against both member and nonmember financial institutions’ deposits. These actions have a significant effect on the overall growth and distribution of loans, investments and deposits, as well as the rates earned on loans, or paid on deposits. Management of the Company is unable to predict the effect of possible significant changes in monetary policies upon the future operating results of the Company.

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Competition

The Company competes as a financial intermediary with other commercial banks, savings banks, credit unions, mortgage banking firms, consumer finance companies, securities brokerage firms, insurance companies, money market mutual funds and other financial institutions operating in the Roanoke market area and elsewhere. Many of the Company’s nonbank competitors are not subject to the same extensive federal regulations that govern federally insured banks and state regulations governing state chartered banks. As a result, such nonbank competitors may have certain advantages over the Company in providing certain services.

Virginia law permits statewide branching by banks. Consequently, the Company’s market area is a highly competitive, highly branched banking market. Competition in the market area for loans to individuals, small businesses, and professional concerns, the Company’s target market, is keen, and pricing is important. Most of the Company’s competitors have substantially greater resources and lending limits than the Company and offer certain services, such as extensive and established branch networks and trust services that the Company is not currently providing. Moreover, larger institutions operating in the Roanoke market area have access to borrowed funds at a lower cost than are presently available to the Company. Deposit competition is strong and comes from institutions in the market, U.S. Government securities, private issuers of debt obligations and suppliers of other investment alternatives for depositors, among other sources.

Supervision and Regulation

HomeTown Bankshares Corporation

HomeTown Bankshares is a bank holding company organized under the Federal Bank Holding Company Act of 1956 (“BHCA”), which is administered by the Federal Reserve Board. HomeTown Bankshares is required to file an annual report with the Federal Reserve Board and may be required to furnish additional information pursuant to the BHCA. The Federal Reserve Board is authorized to examine HomeTown Bankshares and its subsidiary.

The Bank Holding Company Act. Under the BHCA, a bank holding company is generally prohibited from engaging in nonbanking activities unless the Federal Reserve Board has found those activities to be incidental to banking. Bank holding companies also may not acquire more than 5% of the voting shares of any company engaged in nonbanking activities. With some limited exceptions, the BHCA requires a bank holding company to obtain prior approval from the Federal Reserve Board before acquiring or merging with a bank or before acquiring more than 5% of the voting shares of a bank unless it already controls a majority of shares.

Virginia State Corporation Commission. All Virginia bank holding companies are required to register with the Virginia State Corporation Commission (the “Commission”). HomeTown Bankshares is required to report to the Commission with respect to financial condition, operations and management. The Commission may also make examinations of any bank holding company and its subsidiaries.

The Gramm-Leach-Bliley Act. The Gramm-Leach-Bliley Act of 1999 (“GLBA”) permits significant combinations among different sectors of the financial services industry, allows for expansion of financial service activities by bank holding companies and offers financial privacy protections to consumers. GLBA preempts most state laws that prohibit financial holding companies from engaging in insurance activities. GLBA permits affiliations between banks and securities firms in the same holding company structure, and it permits financial holding companies to directly engage in a broad range of securities and merchant banking activities. HomeTown Bankshares is not a financial holding company.

The Sarbanes-Oxley Act. The Sarbanes-Oxley Act of 2002 (“SOX”) enacted sweeping reforms of the federal securities laws intended to protect investors by improving the accuracy and reliability of corporate disclosures. It impacts all companies with securities registered under the Securities Exchange Act of 1934, including HomeTown Bankshares. SOX creates increased responsibilities for chief executive officers and chief financial officers with respect to the content of filings with the Securities and Exchange Commission. Section 404 of SOX and related Securities and Exchange Commission rules focused increased scrutiny by internal and external auditors on HomeTown Bankshares’ systems of internal controls over financial reporting, which is designed to insure that those internal controls are effective in both design and operation. SOX sets out enhanced requirements for audit committees, including independence and expertise, and it includes stronger requirements for auditor independence and limits the types of non-audit services that auditors can provide. Finally, SOX contains additional and increased civil and criminal penalties for violations of securities laws.

Capital Requirements. The Federal Reserve Board has adopted risk-based capital guidelines that are applicable to HomeTown Bankshares. The guidelines provide that the Company must maintain a minimum ratio of 8% of qualified total capital to risk-weighted assets (including certain off-balance sheet items, such as standby letters of credit). At least half of total capital must be comprised of Tier 1 capital, for a minimum ratio of Tier 1 capital to risk-weighted assets of 4%. In addition, the Federal Reserve Board has established minimum leverage ratio guidelines of 4% for banks that meet certain specified criteria. The leverage ratio is the ratio of Tier 1 capital to total average assets, less intangibles. HomeTown Bankshares is expected to be a source of capital strength for its subsidiary bank, and regulators can undertake a number of enforcement actions against HomeTown Bankshares if its subsidiary bank becomes undercapitalized. HomeTown Bankshares’ bank subsidiary is well capitalized and fully in compliance with capital guidelines. However, regulatory capital requirements relate to earnings and asset quality, among other factors. Bank regulators could choose to raise capital requirements for banking organizations beyond current levels.

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On July 2, 2013, the Federal Reserve Board of Governors approved the final Basel III risk-based capital rule. This rule aims to improve the quality and quantity of capital for all banking organizations and provides a new regulatory framework for U.S. banking organizations which is consistent with international standards. Community banking organizations first became subject to the final Basel III rule on January 1, 2015. Thereafter begins a phase-in period through January 1, 2019. The new rule implements higher minimum capital requirements and emphasizes the use of common equity through the introduction of a new capital ratio: common equity tier 1 (CET1). In addition, the new rule establishes stricter eligibility for capital instruments included in CET1, and additional tier 1 capital or tier 2 capital. The rule introduces the requirement of a new 2.5% capital conservation buffer, to be phased in beginning on January 1, 2016, and ending on January 1, 2019. Banking organizations without other supervisory issues that wish to distribute capital freely, such as in the payment of dividends for example, must maintain the new capital conservation buffer.

The new rule emphasizes common equity as the preferred capital instrument and limits the inclusion of intangible assets, including mortgage servicing assets and deferred tax assets in the capital of financial institutions. The new capital rule addresses the Dodd-Frank Act prohibition on reliance on external credit ratings specified in the regulations of the federal banking agencies. Consequently, the new capital rule replaces the previous credit-rating-based risk-weighting approach of certain assets with a simplified supervisory formula approach.

Emergency Economic Stabilization Act of 2008. On October 14, 2008, the U. S. Treasury announced the Troubled Asset Relief Program (TARP) under the Emergency Economic Stabilization Act of 2008. Under the program, the Treasury was authorized to purchase up to $250 billion of senior preferred shares in qualifying U.S. banks, savings and loan associations, and bank and savings and loan holding companies. The amount of TARP funds was later increased to $350 billion.

American Recovery and Reinvestment Act of 2009. The ARRA was enacted in 2009 and includes a wide range of programs to stimulate economic recovery. In addition, it also imposed new executive compensation and corporate governance obligations on TARP Capital Purchase Program recipients. Because HomeTown Bankshares participated in TARP it was required to comply with these requirements.

The Dodd-Frank Act

The financial regulatory reform legislation “Dodd-Frank Wall Street Reform and Consumer Protection Act” (the Dodd-Frank Act) was signed into law on July 21, 2010. The Dodd-Frank Act implements financial regulatory reform across the entire financial landscape and has far-reaching provisions including among other things:

• Creates a new agency, the Consumer Financial Protection Bureau, responsible for implementing, examining and enforcing compliance with federal consumer financial laws for institutions with more than $10 billion of assets and, to a lesser extent, smaller institutions. As a smaller institution, most consumer protection aspects of the Dodd-Frank Act will continue to be applied to the Company by the Federal Reserve Board and to the Bank by the FDIC.

• Applies the same leverage and risk-based capital requirements that apply to insured depository institutions to most bank holding companies.

• Changes the assessment base for federal deposit insurance from the amount of insured deposits to consolidated assets less tangible capital, eliminates the ceiling on the size of the Deposit Insurance Fund and increases the floor of the size of the Deposit Insurance Fund.

• Requires loan originators to retain 5 percent of any loan sold or securitized, unless it is a “qualified residential mortgage”, which must still be defined by the regulators. Federal Housing Administration, Veterans Affairs and Rural Housing Service loans are specifically exempted from the risk retention requirements.

• Implements corporate governance revisions, including with regard to executive compensation and proxy access by shareholders that apply to all public companies not just financial institutions.

• Makes permanent the $250,000 limit for federal deposit insurance and increases the cash limit of Securities Investor Protection Corporation protection from $100,000 to $250,000.

• Repeals the federal prohibitions on the payment of interest on demand deposits, thereby permitting depository institutions to pay interest on business transaction and other accounts.

• Amends the Electronic Fund Transfer Act (EFTA) to, among other things, give the Federal Reserve the authority to establish rules regarding interchange fees charged for electronic debit transactions by payment card issuers having assets over $10 billion and to enforce a new statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer. While the Company is not directly subject to these rules for as long as the Company’s assets do not exceed $10 billion, the Company’s activities as a debit card issuer may be indirectly impacted, potentially requiring the Company to match new lower fee structures implemented by larger financial institutions in order to remain competitive.

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The Dodd-Frank Act is the largest piece of financial legislation ever passed, exceeding 2,000 pages in length. Many provisions of the Act are subject to rulemaking and will take effect over several years, making it difficult to anticipate the overall financial impact on the Company, its customers, or the financial industry as a whole. Provisions in the legislation that affect the payment of interest on demand deposits and interchange fees are likely to increase the costs associated with deposits as well as place limitations on certain revenues those deposits may generate.

HomeTown Bank

The Bank is under the supervision of, and subject to regulation and examination by, the Federal Reserve Board and the Bureau of Financial Institutions of the Virginia State Corporation Commission. The Bank is also covered by deposit insurance through the FDIC and is subject to their regulations. As such, the Bank is subject to various statutes and regulations administered by these agencies that govern, among other things, required reserves, investments, loans, lending limits, acquisitions of fixed assets, interest rates payable on deposits, transactions among affiliates and the Bank, the payment of dividends, mergers and consolidations, and establishment of branch offices.

Deposit Insurance. HomeTown Bank has deposits that are insured by the FDIC. The FDIC maintains a Deposit Insurance Fund (“DIF”) that is funded by risk-based insurance premium assessments on insured depository institutions. Assessments are determined based upon several factors, including the level of regulatory capital and the results of regulatory examinations. The FDIC may adjust assessments if the insured institution’s risk profile changes or if the size of the DIF declines in relation to the total amount of insured deposits. It is anticipated that assessments will increase in the future due to the anticipated growth of the Bank.

On April 1, 2011, the deposit insurance assessment base changed from total deposits to average total assets minus average tangible equity, pursuant to a rule issued by the FDIC as required by the Dodd-Frank Act, which also requires the FDIC to increase the reserve ratio of the DIF from 1.15% to 1.35% of insured deposits by 2020 and eliminates the requirement that the FDIC pay dividends to insured depositary institutions when the reserve ratio exceeds certain thresholds.

The Dodd-Frank Act permanently increased the maximum deposit insurance amounts for banks, savings institutions and credit unions to $250,000 per depositor.

Capital Requirements. The same capital requirements that are discussed above with relation to HomeTown Bankshares are applied to HomeTown Bank by the Federal Reserve Board. Federal Reserve Board guidelines provide that banks experiencing internal growth or making acquisitions are expected to maintain strong capital positions well above minimum levels, without reliance on intangible assets. Also, capital requirements can be increased based on earnings and asset quality concerns as well as other issues.

Mergers and Acquisitions. With some limited exceptions, the BHCA requires a bank holding company to obtain prior approval from the Federal Reserve Board before acquiring or merging with a bank or before acquiring more than 5% of the voting shares of a bank unless it already controls a majority of shares. The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 authorizes the Federal Reserve Board to permit adequately capitalized and adequately managed bank holding companies to acquire all or substantially all of the assets of an out-of-state bank or bank holding company, subject to certain conditions, including nationwide and state concentration limits. Banks also are able to branch across state lines, provided certain conditions are met, including that applicable state law must expressly permit such interstate branching. Virginia law permits branching across state lines, provided there is reciprocity with the state in which the out-of-state bank is based.

Community Reinvestment Act (“CRA”). The Company is also subject to the requirements of the CRA. The CRA imposes on financial institutions an affirmative and ongoing obligation to meet the credit needs of their local communities, including low- and moderate-income neighborhoods, consistent with the safe and sound operation of those institutions. Each financial institution’s efforts in meeting community credit needs currently are evaluated as part of the examination process pursuant to a number of assessment factors. These factors also are considered in evaluating mergers, acquisitions and applications to open branches.

Volcker Rule.The Dodd-Frank Act prohibits insured depository institutions and their holding companies from engaging in proprietary trading except in limited circumstances, and prohibits them from owning equity interests over certain thresholds in private equity and hedge funds. Final rules implementing the Volcker Rule were adopted on December 10, 2013. The final rules require entities to establish internal compliance programs which may include making regular reports about those activities to regulators. The final rules were effective April 1, 2014, with full compliance being phased in over a period which will end on July 21, 2016.  The Volcker Rule has been subject to much commentary from the banking industry and the Company continues to evaluate the impact the Rule will have on the industry and the Company in particular.

Safety and Soundness. The federal banking agencies have broad powers under current federal law to take prompt corrective action to resolve problems of insured depository institutions. The extent of these powers depends upon whether the institutions in question are “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized,” or “critically undercapitalized,” all such terms are defined under uniform regulations defining such capital levels issued by each of the federal banking agencies.

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

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

USA Patriot Act. The USA Patriot Act became effective on October 26, 2001,and provides for the facilitation of information sharing among governmental entities and financial institutions for the purpose of combating terrorism and money laundering. Among other provisions, the USA Patriot Act permits financial institutions, upon providing notice to the United States Treasury, to share information with one another in order to better identify and report to the federal government concerning activities that may involve money laundering or terrorists’ activities. Interim rules implementing the USA Patriot Act were issued effective March 4, 2002. The USA Patriot Act is considered a significant banking law in terms of information disclosure regarding certain customer transactions. 

Consumer Laws and Regulations. There are a number of laws and regulations that regulate banks’ consumer loan and deposit transactions. Among these are the Truth in Lending Act, the Truth in Savings Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Fair Credit Reporting Act, and the Fair Debt Collections Practices Act. HomeTown Bank is required to comply with these laws and regulations in its dealing with customers.

ACCESS TO FILINGS

The Company files annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and other filings with the SEC. The public may read and copy any documents the Company files at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The Company’s SEC filings can also be obtained on the SEC’s website on the internet at http://www.sec.gov. Also, annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K are posted on the Company’s website at http://www.hometownbankva.com as soon as reasonably practical after filing electronically with the SEC.

 Executive Officers of the Registrant

The following table shows the Company’s executive officers as of March 30, 2015 and their areas of responsibility. The executive officer biographies follow the table

Name	Age	Position
Susan K. Still	61	President & CEO
Charles W. Maness, Jr.	58	Executive Vice President & CFO
William C. Moses	59	Executive Vice President & Chief Credit Officer
Terrance E. O’Shaughnessy	59	Executive Vice President & Chief Lending Officer
Laurie C. Hart	53	Executive Vice President & Chief Retail and Deposit Officer

Susan K. Still,has served as President and Chief Executive Officer of the Company since May 2008. Ms. Still is also a member of the Company’s board of directors and served as the Bank’s Chief Lending Officer from November 2005 to May 2008.

Charles W. Maness, Jr., has served as Executive Vice President and Chief Financial Officer of the Company since May 2006.

William C. Moses, has served as Executive Vice President and Chief Credit Officer of the Company since November 2005.

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Terrance E. O’Shaughnessy, has served as Executive Vice President and Chief Lending Officer of the Company since June 2008 and previously served as a commercial lender for the Company since June 2007.

Laurie C. Hart, has served as Executive Vice President and Chief Retail and Deposit Officer of the Company since November 2008 and previously served Senior Vice President and Deposit Officer since November 2007.

ITEM 1A.            RISK FACTORS.

Not Required.

ITEM 1B.             UNRESOLVED STAFF COMMENTS.

Not Required.

ITEM 2.               PROPERTIES.

As of March 30, 2015, the Company through its wholly owned subsidiary HomeTown Bank (the “Bank”), conducted its business from the following six locations: i) 202 S. Jefferson Street Roanoke, Virginia (the “Downtown Office”), which also serves as the Bank’s main office and operations processing center; ii) a branch office located at 13400 Booker T. Washington Highway, Moneta, Virginia (the “Smith Mountain Lake Office”); iii) a branch office at 4225 Colonial Avenue, Roanoke, Virginia (the “Colonial Avenue at 419 Office”); iv) a branch office at 3521 Franklin Road, Roanoke, Virginia (the “South Roanoke Office”); v) a branch office at 2950 Market Street, Christiansburg, Virginia (the “Christiansburg Office”); vi) a branch office at 852 West Main Street, Salem, Virginia (the “Salem Office”).

The Downtown Office. The Bank leases certain space located at 202 S. Jefferson Street, Roanoke, Virginia. The lease is for a period of 10 years, 11 months from January 31, 2005 with options to renew the lease for two periods of five years. The Downtown Branch opened on November 14, 2005.

The Smith Mountain Lake Office. The Bank purchased the Smith Mountain Lake branch on February 14, 2006 and received regulatory approval and opened the office on May 8, 2006.

The Colonial Avenue at 419 Office. The Bank purchased the property for the Colonial Avenue at 419 office on August 31, 2006 and received regulatory approval and opened the Colonial Avenue at 419 Branch on March 22, 2007. In February, 2012, the Bank opened a dedicated mortgage office, on Colonial Avenue, next to the existing branch office.  

The South Roanoke Office. The Bank leases real property and improvements thereto located at 3521 Franklin Road, Roanoke, Virginia. The Bank received regulatory approval and opened a branch at this location on July 9, 2007. The initial lease was for a period of five years from August 1, 2006. The Bank exercised the option to renew for another five years beginning August 1, 2011. The Bank has one remaining option to renew for another period of five years.

The Christiansburg Office. The Bank purchased property at 2950 Market Street, Christiansburg on May 26, 2010. The Bank broke ground in December 2012 on a new 9,000 square foot branch. At the end of 2013 the Bank relocated their New River Valley branch operations and mortgage and administrative operations to the new building. The larger facility enables the Bank to meet the growing needs of its customers in the New River Valley and to attract new business. This office operates under the name “NewRiver Bank, a branch of HomeTown Bank”. The Bank began operations in the New River Valley market in 2008. The leases for the previous locations, at 1540 Roanoke Street and 1655 Roanoke Street, Christiansburg, expired in 2013.

Salem Office. The Bank purchased property at 852 West Main Street, Salem on September 2, 2011. A stand-alone fully operational ATM was completed and put into service April 15, 2013, and on July 28, 2014, a full service branch office opened at this location. 

Market Square ATM. The Bank leases space at 1 Market Square, Roanoke for a cash dispensing ATM. The ATM was put into operation May 10, 2013, and is located at the newly renovated Center in the Square building, a cultural hub in downtown Roanoke.

Operations Center. Due to limited available space at the downtown office and continued growth of the Company, management recognized the need for an Operations Center that would provide ample space for current and future expansion. The Bank owned an office building, through foreclosure, at 4633 Brambleton Avenue in Roanoke that could be converted to a secure Operations Center. The two story 12,000 square foot building was built in 2007. At a board meeting held on December 18, 2014, the Board of Directors approved the Bank’s use of the property, and it was reclassed from other real estate owned to property and equipment.

7

ITEM 3.             LEGAL PROCEEDINGS.

The Bank is not involved in any material pending legal proceedings at this time, other than routine litigation incidental to its business, and the Company does not expect that such litigation will be material in respect to the amount in controversy.

ITEM 4.             MINE SAFETY DISCLOSURES.

Not Applicable.

PART II

ITEM 5.             MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.

Market Information and Holders

Shares of the Company’s common stock, $5.00 par value per share, are not listed on any stock exchange, however are quoted on the Over the Counter Bulletin Board under the stock symbol “HTMA”. Based on available information, the Company believes that from January 1, 2014 to December 31, 2014, the selling price of shares of its common stock ranged from $6.05 to $7.20, and that approximately 249 thousand shares were traded. There may, however, have been other transactions at other prices not known to the Company.

	2014				2013
Quarter Ended	High Close		Low Close		High Close		Low Close
March 31	$	6.50	$	6.25	$	6.25	$	4.15
June 30	$	6.40	$	6.05	$	6.49	$	5.52
September 30	$	6.65	$	6.16	$	6.45	$	6.00
December 31	$	7.20	$	6.22	$	6.50	$	6.35

As of March 30, 2015, there were 3,296,237 shares of the Company’s common stock outstanding, which shares were held by 1,681 shareholders of record. No cash dividends have been paid on the common stock to date.

Dividends

The Company is subject to certain restrictions imposed by the Federal Reserve Board and capital requirements of federal and Virginia banking statutes and regulations. The Company has never paid a cash dividend on its common stock. There are no current plans to pay a dividend. However the retained deficit has steadily decreased over the last four years, and once it is eliminated, the Company may qualify to pay a dividend.

ITEM  6.         SELECTED FINANCIAL DATA.

Not Required.

ITEM  7.         MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Forward-Looking Statements

Certain information contained in this discussion may include “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21 E of the Securities Exchange Act of 1934, as amended. These forward-looking statements are generally identified by phrases such as “we expect,” “we believe” or words of similar import. Such forward-looking statements involve known and unknown risks including, but not limited to, the following factors:

• the ability to successfully manage the Company’s growth or implement its growth strategies if it is unable to identify attractive markets, locations or opportunities to expand in the future;

• reliance on the Company’s management team, including its ability to attract and retain key personnel;

• interest rate fluctuations;

• maintaining capital levels adequate to support the Company’s growth;

• risk inherent in making loans such as repayment risks and fluctuating collateral values;

• the ability to attract low cost core deposits to fund asset growth;

8

• changes in laws and regulations applicable to us;

• changes in general economic and business conditions;

• competition within and from outside the banking industry;

• problems with our technology;

• changing trends in customer profiles and behavior; and

• new products and services in the banking industry.

Although the Company’s management believes that its expectations with respect to the forward-looking statements are based upon reliable assumptions within the bounds of management’s knowledge of the Company’s business and operations, there can be no assurance that actual results, performance or achievements of the Company will not differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements.

Critical Accounting Policies

The financial condition and results of operations presented in the consolidated financial statements, accompanying notes to the consolidated financial statements and management’s discussion and analysis are, to a large degree, dependent upon the Company’s accounting policies. The selection and application of these accounting policies involves judgments, estimates, and uncertainties that are susceptible to change.

Presented below is discussion of those accounting policies that management believes are the most important accounting policies to the portrayal and understanding of the Company’s financial condition and results of operations. These critical accounting policies require management’s most difficult, subjective and complex judgments about matters that are inherently uncertain. In the event that different assumptions or conditions were to prevail, and depending upon the severity of such changes, the possibility of materially different financial condition or results of operations is a reasonable likelihood. See also Note 1 of the Notes to Consolidated Financial Statements.

Management monitors and maintains an allowance for loan losses to absorb an estimate of probable losses inherent in the loan portfolio. Management maintains policies and procedures that address the systems of controls over the following areas of maintenance of the allowance: the systematic methodology used to determine the appropriate level of the allowance to provide assurance they are maintained in accordance with accounting principles generally accepted in the United States of America; the accounting policies for loan charge-offs and recoveries; the assessment and measurement of impairment in the loan portfolio; and the loan grading system.

Management evaluates various loans individually for impairment. Loans evaluated individually for impairment include non-performing loans, such as loans on non-accrual, loans past due by 90 days or more, restructured loans and other loans selected by management, as well as loans classified as substandard and doubtful. The evaluations are based upon discounted expected cash flows or collateral valuations. If the evaluation shows that a loan is individually impaired, then a specific reserve is established for the amount of impairment.

For loans without individual measures of impairment, we make estimates of losses for groups of loans grouped by similar characteristics, including the type of loan, the assigned loan classification and the general collateral type. A loss rate reflecting the expected loss inherent in a group of loans is derived based upon estimates of default rates for a given loan grade, the predominant collateral type for the group and the terms of the loan. The resulting estimate of losses for groups of loans is adjusted for relevant environmental factors and other conditions of the portfolio of loans, including: borrower and industry concentrations; levels and trends in delinquencies, charge-offs and recoveries; changes in underwriting standards and risk selection; level of experience, ability and depth of lending management; and national and local economic conditions.

The amount of estimated impairment for individually evaluated loans and groups of loans is added together for a total estimate of loan losses. This estimate of losses is compared to our allowance for loan losses as of the evaluation date and, if the estimate of losses is greater than the allowance, an additional provision to the allowance would be made. If the estimate of losses is less than the allowance, the degree to which the allowance exceeds the estimate is evaluated to determine whether the allowance falls outside a range of estimates. If the estimate of losses is below the range of reasonable estimates, the allowance would be reduced by way of a credit to the provision for loan losses. Management recognizes the inherent imprecision in estimates of losses due to various uncertainties and variability related to the factors used, and therefore a reasonable range around the estimate of losses is derived and used to ascertain whether the allowance is too high. If different assumptions or conditions were to prevail and it is determined that the allowance is not adequate to absorb the new estimate of probable losses, an additional provision for loan losses would be made, which amount may be material to the Consolidated Financial Statements.

9

General

Management’s discussion and analysis is intended to assist the reader in evaluating and understanding the financial condition and results of operations of the Company and the Bank as of and for the years ending December 31, 2014 and 2013. This discussion should be read in connection with the Company’s Consolidated Financial Statements and the accompanying Notes thereto included in this Form 10-K.

The Company initiated its banking operations through the Bank, on November 14, 2005 with the opening of its main office at 202 S. Jefferson Street, Roanoke, Virginia. The Bank has experienced consistent growth over the last nine years.

The Business

HomeTown Bank provides a full complement of consumer and commercial banking services to its primary service area which includes the City of Roanoke, Roanoke County, and the City of Salem, Virginia and contiguous counties, including Bedford, Franklin and Montgomery, Virginia. We place an emphasis on personal service and offer a broad range of commercial and retail banking products and services including checking, savings and time deposits, individual retirement accounts, residential and commercial mortgages, home equity loans, consumer installment loans, commercial loans, lines and letters of credit.

The Bank currently operates six full service branches, seven 24-hour ATM’s, and one mortgage office.  In addition to its main office, the Bank has branch offices in Franklin County, Virginia at Westlake; in Roanoke County at the intersection of Colonial Avenue and Virginia Route 419; in Roanoke City on Franklin Road in South Roanoke, in Salem on West Main Street. The Bank operates under the name NewRiver Bank, a branch of HomeTown Bank in the New River Valley market, on Market Street in Christiansburg.

The Company operates in a highly competitive market for commercial banking and financial services as the Roanoke Valley is a banking and financial services hub for much of southwest Virginia.

Discussion of Results of Operations

Overview of Results of Operations

Net income for 2014 totaled $3.4 million and was $686 thousand or 25.1% higher than the prior year’s $2.7 million. The basic earnings per common share for 2014 was $0.78, an increase of $0.25 over 2013; while the fully diluted earnings per common share was $0.62 for 2014 compared to $0.48 for the previous year. Higher net interest income coupled with the impact of improved asset quality were the greatest contributors to the improvement in financial performance. Revenues generated from a significant increase in core checking account deposits as well as increases in brokerage income contributed to higher noninterest income. Partially offsetting these favorable variances were the higher costs that accompanied the expansion in operations over the last two years.

Summary of Financial Condition

Total assets increased $25.8 million or 6.4% from $402.4 million at December 31, 2013 to $428.2 million at the end of 2014. Total loans expanded $33.7 million or 11.3%, and reflects continuing modest improvement in the economy.  Loans were funded largely through deposits. Excess liquidity was used to fund the balance of the loan growth.

Cash and due from banks was $13.8 million at December 31, 2014 compared to $19.5 million on the same date a year ago. The reason for the fluctuation is twofold: a decrease in liquidity in general during the year to support loan growth, and an anomaly in the balance of cash and due from banks at year end 2013. The balance at the end of 2013 was driven upwards by a temporary in flow of commercial demand deposits, and an additional temporary borrowing from the Federal Home Loan Bank of Atlanta (FHLB).

Securities available for sale were $54.6 million and $57.9 million at the end of 2014 and 2013, respectively. The yields on securities available for purchase continued to be relatively low through 2014, and the Company continued to channel cash flow from lower rate investments in bonds to higher rate loans.

Property and equipment, net was $14.9 million at December 31, 2014, an increase of $2.7 million from the end of the prior year. The completion of the Salem branch in the middle of the year accounted for $1.6 million of the change. On December 18, 2014, the Bank’s Board of Directors approved the Company’s future utilization of the foreclosed property located on Brambleton Avenue as an Operations Center. This decision resulted in the reclassification of $1.5 million from other real estate owned to property and equipment. The transition of this property to an Operations Center is discussed in greater depth in Item 2. Properties.

At the end of 2013, the Company’s deferred taxes were in a net asset position of $1.2 million. By December 31, 2014, the Company’s deferred taxes were in a net liability position of $240 thousand. The deferred tax liability at the end of 2014 was included in other liabilities on the Balance Sheet. See Note 15 Income Taxes for details of the components of deferred taxes at the end of both years. The major causes of the shift were 2014 profits and an increase in the market value of the investment portfolio. Net operating loss carryforwards of $302 thousand and alternative minimum tax carryforwards of $98 thousand at the end of 2013 were fully utilized in 2014. The tax effect of unrealized losses in the securities available for sale portfolio at December 31, 2013 compared to unrealized gains at the end of 2014 was $543 thousand. The change in various timing differences accounted for the remainder of the change from year to year.

10

Total liabilities at December 31, 2014 were $385.0 million, compared to $362.9 million at the end of 2013.  Total deposits, the primary component of total liabilities, were $362.6 million at December 31, 2014, an increase of $22.8 million or 6.7%, from $339.8 million at December 31, 2013.

Noninterest bearing deposits accounted for $5.0 million of the total increase in deposits. Commercial deposits accounted for about 75% of the increase. Because of the low interest rate environment over the past few years, demand deposits at commercial banks have grown at unprecedented rate; this trend is expected to reverse itself as shorter term rates begin to rise.

Interest bearing deposits totaled $311.4 million at December 31, 2014, up $17.8 million from the end of 2013. Consumer interest checking, savings, and money market demand accounts accounted for approximately half of the increase and reflect the expansion of the core deposit base in terms of dollars and the number of accounts. Brokered deposits increased $3.3 million from December 31, 2013 to $40.2 million at the end of 2014, as they were used as an attractively priced source of funding. Retail certificates of deposit (CD) were $759 thousand higher at the end of 2014 than at the end of the prior year. CD balances declined during most of 2014. During the last quarter of 2014, the Company offered a competitive 27 month CD with a rate of 1.245% which helped stem the out flow from maturing CD’s and attracted additional funding.  

Stockholders’ equity was $43.2 million at December 31, 2014, $3.7 million or 9.3% above the $39.5 million at December 31, 2013.  Management believes the Company has sufficient capital to fund its operations while the Company strives to generate profits on a consistent basis, but there can be no assurance that this will be the case.

At December 31, 2014, the Company was in compliance with all regulatory capital requirements. Management believes that the Company has sufficient liquidity on a short-term basis to meet any funding needs it may have, and expects that its long term liquidity needs can be achieved through deposit growth, however there can be no assurance that such growth will develop. The Company has multiple credit lines available as an alternative source of funding.

Non-performing Assets

Non-performing assets consist of nonaccrual loans, restructured loans, and repossessed and foreclosed assets. Following is a breakdown of non-performing assets:

(Dollars in thousands)	2014		2013		2012		2011		2010
Real Estate:
Construction and land development	$	—	$	—	$	1,756	$	632	$	2,390
Residential 1-4 families		475		707		582		1,357		875
Commercial real estate		758		—		236		—		—
Commercial loans		—		193		—		43		419
Equity lines		—		59		115		—		—
Loans to individuals		21		30		—		—		—
Total nonperforming loans		1,254		989		2,689		2,032		3,684
Other real estate owned		6,986		8,143		8,938		9,562		2,976
Total nonperforming assets, excluding performing restructured loans		8,240		9,132		11,627		11,594		6,660
Performing restructured loans		6,052		6,278		6,543		8,368		1,934
Total nonperforming assets, including restructured loans	$	14,292	$	15,410	$	18,170	$	19,962	$	8,594

The five year trend of non-performing assets reflects the economic crisis which began in 2008 and the subsequent improvement in the economy. Nonperforming assets, including restructured loans were 3.34% of total assets at the end of 2014, compared to 3.83% at the end of 2013 and 4.90% at the 2012.

Interest is accrued on outstanding loan principal balances, unless the Company considers collection to be doubtful. Commercial and unsecured consumer loans are designated as non-accrual when payment is delinquent 90 days or at the point which the Company considers collection doubtful, if earlier. Consumer mortgage loans and most other types of consumer loans past due 90 days or more may remain on accrual status if management determines that concern over our ability to collect principal and interest is not significant. When loans are placed in non-accrual status, previously accrued and unpaid interest is reversed against interest income in the current period and interest is subsequently recognized only to the extent cash is received and if principal repayment is probable. Interest accruals are resumed on such loans only when in the judgment of management, the loans are estimated to be fully collectible as to both principal and interest.

11

Of the $989 thousand of non-accruing loans at the end of 2013, $422 thousand were subsequently paid off, while $285 thousand were subsequently charged off during the twelve months ended December 31, 2014. The $1.3 million of nonaccrual loans at the end of 2014 included $972 thousand of new loans added during the year. Most non-accrual loans are classified as impaired. At December 31, 2014, 98.3% of nonaccrual loans or $1,233,000 were classified as impaired. Impaired loans are evaluated periodically on an individual basis, and if appropriate losses, are recorded in the period incurred as provision for loan losses on the Consolidated Statements of Income. Specific reserves of $141 thousand were recorded for impaired loans at December 31, 2014.

See also Note 5 of the Notes to Consolidated Financial Statements for information on changes in other real estate owned and for the major classifications of other real estate owned for 2014 compared to 2013.  

Allowance for Loan Losses

The allowance for loan losses is increased by charges to income and decreased by charge-offs, net of recoveries. Management’s periodic evaluation of the adequacy of the allowance is based on the Company’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, and current economic conditions. The relationship between the provision and the allowance is discussed in more depth under Provision and Allowance for Loan Losses.

Net Interest Income and Net Interest Margin

The primary source of the Company’s revenue is net interest income, which represents the difference between interest income on earning assets and interest expense on liabilities used to fund those assets. Earning assets include loans, securities, interest bearing bank certificates of deposit and federal funds sold. Interest bearing liabilities include deposits and borrowings. The amount of net interest income is primarily dependent upon the volume and mix of these earning assets and interest bearing liabilities. Interest rate changes can also impact the amount of net interest income. Management develops pricing and marketing strategies to maximize net interest income while maintaining related assets and liabilities accounts within guideline policies as established by the Company’s Board of Directors.

The net interest margin represents net interest income divided by average earning assets. It reflects the average effective rate that the Company earned on its earning assets. The net interest margin is affected by changes in both interest rates and average volumes of interest earning assets and interest bearing liabilities.

Net interest income for 2014 totaled $14.7 million and was $872 thousand or 6.3% higher than the prior year. The expansion of the loan portfolio was the driving force underlying the increase. Average gross loans were $31.8 million or 11.2% higher in 2014 than 2013. The increased volume of loans provided $1.5 million of additional interest income in 2014, which was offset by $665 thousand due to lower yields on loans. Competition drove rates on new loans and renewals slightly downward in the continuing low interest rate environment. During 2014, the steepness of the treasury yield curve declined. The Company responded by strategically continuing to channel funds from sales, payments and maturities of lower rate investments in bonds to higher rate loans, resulting in a more favorable mix of earning assets. The source for most of the funding of loan growth was deposits. Average deposits increased $25.4 million in 2014 compared to 2013. Average FHLB borrowings were $21.9 million for 2014, up $2.4 million from the average for the prior year.

The net interest spread and net interest margin were compressed 2 basis points for 2014 compared to the prior year. The yield on earning assets declined 10 basis points, while the cost of interest bearing liabilities decreased 8 basis points. Although average non-interest bearing deposits rose $7.2 million for 2014, the effect on the margin approximated the prior year. A more favorable mix of deposit products contributed to lower costs in 2014, as a portion of the run off of maturing funds in higher cost retail time deposits retained by the Bank were moved into lower cost deposit products. During the last quarter of 2014, the Company offered a competitive 27 month CD with a rate of 1.245% which helped stem the out flow from maturing CD’s and attracted additional funding. There were a few downward adjustments of deposit rates in 2014. Management does not expect any additional downward adjustments in 2015, and in fact rates paid on deposits products may rise sometime in the latter half of 2015. Management continued to increase the utilization of attractively priced brokered deposits as a funding source.  At December 31, 2014 and 2013, brokered deposits totaled $40.2 million and $37.0 million, respectively, and are included in interest-bearing time deposits.

The Federal Reserve develops monetary policy to attain its objectives of maximum employment and price stability. The Federal Open Market Committee (FOMC) at its January 27-28 meeting said it would remain patient on raising interest rates. The FOMC recognizes significant improvement in the labor market and has described job gains as strong. Inflation, however, has declined further below the Committee’s 2% target, largely reflecting declines in energy prices. The Company doesn’t expect the Federal Reserve to raise short term interest rates until the latter half of 2015, at the earliest. Further, the Company expects the Federal Reserve to raise rates in a gradual and measured manner. The expectation is that they would raise rates 25 basis points at one or two FOMC meetings and then pause before the next hike to assess the impact on economic growth and inflation.

Management expects the combination of lower loan yields and possibly higher deposit costs in the future to further compress the net interest margin in 2015. The weighted average maturity of the fixed rate portion of the loan portfolio has remained relatively unchanged in 2014. Maintaining a relatively short term of forty-eight months as of December 31, 2014 presents pricing opportunities in the future. Because of the low interest rate environment over the past few years, demand deposits at commercial banks grew at an unprecedented rate; this trend has and will continue to reverse itself, and could accelerate as shorter term rates rise.

12

The following table illustrates average balances of total interest-earning assets and total interest bearing liabilities for 2014, 2013 and 2012, showing the average distribution of assets, liabilities, shareholders’ equity and related income, expense and corresponding weighted-average yields and rates. The average balances used in these tables and other statistical data were calculated using daily average balances.

Average Balances, Interest Income and Expense, Yields and Rates

	2014								2013								2012
(Dollars in thousands)	Average Balance			Interest Income/ Expense		Yield/ Rate			Average Balance			Interest Income/ Expense		Yield/ Rate			Average Balance			Interest Income/ Expense		Yield/ Rate
Assets:
Federal funds sold	$	771		$	1		0.17	%	$	745		$	2		0.24	%	$	3,392		$	9		0.26	%
Deposits in banks		6,104			38		0.63	%		7,337			42		0.57	%		4,668			40		0.86	%
Securities, taxable		42,866			1,000		2.34	%		52,948			1,277		2.41	%		64,648			1,631		2.52	%
Securities, nontaxable (1)		13,976			400		4.33	%		7,581			206		4.13	%		2,191			50		3.47	%
Restricted equity securities		2,560			129		5.02	%		2,437			100		4.10	%		2,427			92		3.78	%
Loans held for sale		211			9		4.28	%		–			–		–			–			–		–
Loans		315,608			15,221		4.82	%		283,791			14,403		5.08	%		260,155			13,797		5.30	%
Total earnings assets		382,096			16,798		4.45	%		354,839			16,030		4.55	%		337,481			15,619		4.63	%
Less: Allowance for loan losses		(3,658	)							(3,787	)							(4,142	)
Total non-earning assets		35,722								34,071								34,858
Total Assets	$	414,160							$	385,123							$	368,197
Liabilities and shareholders’ equity
Interest bearing deposits:
Checking	$	75,585		$	141		0.19	%	$	67,642		$	169		0.25	%	$	68,194		$	231		0.34	%
Money market savings		63,356			200		0.32	%		61,611			238		0.39	%		64,830			287		0.44	%
Regular savings		29,482			133		0.45	%		23,753			132		0.56	%		18,637			117		0.63	%
Time Deposits		133,413			1,272		0.95	%		130,546			1,306		1.00	%		128,234			1,664		1.30	%
Other borrowings		1,157			14		1.15	%		852			5		0.60	%		825			6		0.73	%
FHLB borrowings		21,918			358		1.61	%		19,530			372		1.88	%		19,133			396		2.07	%
Total interest bearing liabilities		324,911			2,118		0.65	%		303,934			2,222		0.73	%		299,853			2,701		0.90	%
Non-interest bearing liabilities:
Demand deposits		46,200								39,047								30,630
Other liabilities		1,394								1,257								1,486
Total liabilities		372,505								344,238								331,969
Stockholders’ equity		41,655			—					40,885			—					36,228			38
Total Liabilities and Stockholders’ Equity	$	414,160			2,118				$	385,123			2,222				$	368,197			2,739
Net interest income				$	14,680							$	13,808							$	12,880
Interest rate spread							3.80	%							3.82	%							3.74	%
Interest expense to average earning assets							0.55	%							0.63	%							0.81	%
Net interest margin							3.90	%							3.92	%							3.82	%

(1) Yields on tax-exempt municipal bonds are calculated as tax equivalent.

13

Rate and Volume Analysis

	2014 Compared to 2013									2013 Compared to 2012
	Increase			Change Due To:						Increase			Change Due To:
(Dollars in thousands)	(Decrease)			Rate			Volume			(Decrease)			Rate			Volume
Interest income:
Federal funds sold	$	(1	)	$	(1	)	$	—		$	(7	)	$	(1	)	$	(6	)
Deposits in banks		(4	)		4			(8	)		2			(16	)		18
Securities, taxable		(277	)		(1	)		(276	)		(354	)		(65	)		(289	)
Securities, nontaxable		194			11			183			156			11			145
Loans held for sale		9			—			9			—			—			—
Restricted equity securities		29			24			5			8			8			—
Loans		818			(665	)		1,483			606			(770	)		1,376
Total interest income		768			(628	)		1,396			411			(833	)		1,244
Interest expense:
Interest bearing liabilities:
Checking		(28	)		(46	)		18			(62	)		(61	)		(1	)
Money market savings		(38	)		(45	)		7			(49	)		(34	)		(15	)
Regular savings		1			(28	)		29			15			(15	)		30
Time Deposits		(34	)		(74	)		40			(358	)		(310	)		(48	)
Short term borrowings		9			—			9			(1	)		(1	)		—
FHLB borrowings		(14	)		(57	)		43			(24	)		(32	)		8
Total interest bearing liabilities		(104	)		(250	)		146			(479	)		(453	)		(26	)
Interest expense preferred stock dividends		—			—			—			(38	)		—			(38	)
Total interest expense		(104	)		(250	)		146			(517	)		(453	)		(64	)
Net interest income	$	872		$	(378	)	$	1,250		$	928		$	(380	)	$	1,308

Noninterest Income

Noninterest income includes service charges on deposit accounts, ATM and interchange income, brokerage fees on non-portfolio mortgage loans, and net gains on securities sales. Noninterest income increased $442 thousand or 30.6% for the year 2014 compared to the prior year.  Increases in service charges on deposit accounts by $138 thousand and ATM and interchange income by $116 thousand were the result of the expansion of the core deposit base. Mortgage loan brokerage fees were $51 thousand or 18.1% less than the prior year. Of the $231 thousand total earned in mortgage brokerage fees during the year, $184 thousand or 79.7% was earned in the last six months of the year, due to resurgence in mortgage lending in the second half of 2014. The Mortgage Bankers Association has projected that home purchase originations will continue to increase in 2015, as the result of economic growth and lower unemployment. Refinancings are projected to decline slightly. The Company bought life insurance on certain key executives in the last quarter of 2013. The year ended December 31, 2014 included twelve months of increases in cash surrender value versus two months in 2013. HomeTown Investments began generating revenue and contributed $69 thousand to other income in 2014. Other factors contributing to higher Other Income in 2014, was an increase in various fees on deposit accounts as a result of the expansion of core deposits and revenue related to merchant processing.

Non-Interest Income

	Period Ended December 31,
(Dollars in thousands)	2014		2013
Service charges on deposit accounts	$	452	$	314
ATM and interchange income		443		327
Mortgage loan brokerage fees		231		282
Net gains on sales of investment securities		128		152
Rental income		118		98
Increase in cash surrender value of bank owned life insurance		104		18
Other Income		410		253
Total non-interest income	$	1,886	$	1,444

14

Noninterest Expense

Non-interest expense includes, among other things, salaries and benefits, occupancy costs, data processing advertising and marketing, and professional fees.  Total noninterest expense increased $506 thousand or 4.6%, to $11.6 million in 2014. The expansion of business during 2014 was a significant contributor to the increase over the prior year. The Company built a new branch at the site of the Salem ATM and opened the branch for business on July 28, 2014, which accounted for $203 thousand or 40.2% of the $506 thousand increase over the prior year. The Company’s management and staff monitor and control operating expenses to provide adequate operational support and enable growth opportunities.

Salaries and employee benefits for 2014 were $5.8 million compared to $5.2 million last year. The $560 thousand or 10.7% increase was due to several factors. Staffing of the new Salem branch accounted for $93 thousand of the increase. The expense for the Supplemental Retirement Plan for certain key officers was $80 thousand more in 2014 compared to last year. Due to the Company’s improved financial performance in 2014 compared to 2013, employee incentive plan awards accrued were higher than in 2013 by $164 thousand. The remainder of the increase in salaries reflects annual cost of living and merit pay increases and higher benefit costs in the current year. Salaries and employee benefits expense includes non-cash expense for stock based compensation of $58 thousand and $36 thousand in 2014 and 2013, respectively. See Part II, Item 8, Note 12 to the consolidated financial statements for additional information.

Occupancy and equipment expense totaled $1.5 million for the year ended December 31, 2014, an increase of $218 thousand or 16.6% over last year. Again, expansion of operations accounted for most of the increase. At the end of 2013, the New River Valley operations were relocated to a new, larger building. The New River Valley operations and the Salem branch accounted for $137 thousand or 62.6% of the increase in this category of noninterest expense.  

Discretionary spending on advertising and marketing was $141 thousand or 30.9% higher in 2014 than 2013. The Company continued its efforts begun in 2013 to acquire new customers, as a way to attract core deposits as a funding source and increase fee income. The Company incurred additional expense to market its expanded presence in Salem and the New River Valley. HomeTown Residential Mortgage, LLC increased advertising in the latter half of 2014, as the market for financing home purchases began to improve. In Part II, Item 8, Note 16 to the consolidated financial statements, the unfair competition claim brought against HomeTrust Bank, which was settled favorably in August 2014, is discussed. HomeTrust Bank is headquartered in Asheville, North Carolina and entered the Roanoke market by acquiring the former branches of Bank of America. The Company incurred about $31 thousand to lessen customer confusion between the two similarly named banks. The Company emphasized that HomeTown Bank is local, and decision making is done locally by its management and Board of Directors. In November 2014, the largest community bank in the Roanoke Valley market and the Company’s biggest competitor, announced that it expects to merge with BNC Bankcorp of High Point, North Carolina in 2015. The Company expects to aggressively market to their customer base as the Company strives to increase its market share.

Professional fees totaled $581 thousand in 2014 and included $126 thousand in legal fees related to the previously mentioned HomeTrust Bank matter. The Company incurred $495 thousand in professional fees during 2013; over $50 thousand was associated with legal fees that resulted in the recovery of $211 thousand for a loan charged off in a year prior to 2013, and the full recovery of $88 thousand for a loan charged off in 2013.

Data processing expense totaled $720 thousand and $596 thousand for the years ended December 31, 2014 and 2013, respectively. The increase reflected additional processing costs incurred from the expansion of the core deposit customer base.

Bank franchise taxes increased $59 thousand or 29.1% for 2014 compared to 2013, due to 12.7 % higher Bank capital at the end of 2013 on which 2014 taxes were based; compared to the Bank’s capital at the end of 2012, which was the basis for 2013 taxes. In order to avoid double taxation, the Commonwealth of Virginia allows for the deduction of Virginia real estate taxed by a Virginia locality in determining the amount on which the state franchise tax is based. The reduction in the basis for real estate taxes was less in the 2014 calculation because of the decline in other real estate owned.

Other expense was $1.3 million in 2014 compared to $1.2 million in 2013. Other expense includes compliance costs, office supplies and printing costs, and a sundry of other fees and expenses. The opening of the Salem branch and the expansion of mortgage and brokerage lines of business were contributors to higher costs in 2014.

Favorable variances in other expense categories partially mitigated these higher expense items. Net losses, writedowns and carrying costs related to other real estate owned declined $618 thousand in 2014 compared to the prior year; and mirror the $1.2 million decrease in other real owned. Through December 31, 2014, the Company had recognized $10 thousand in net gains from sales and writedowns of other real estate owned compared to $582 thousand of net losses for 2013. The 2013 losses were mainly due to writedowns as the result of new appraisals last year. FDIC insurance expense for 2014 was $231 thousand below the previous year due primarily to a decreased rate.

15

Non-Interest Expense

	Period Ended December 31,
(Dollars in thousands)	2014			2013
Salaries and employee benefits	$	5,802		$	5,242
Occupancy and equipment expense		1,535			1,317
Advertising and marketing expense		598			457
Professional fees		581			495
Data processing expense		720			596
Bank franchise taxes		262			203
FDIC insurance expense		283			514
Gains, losses on sales and writedowns of other real estate		(10	)		582
Other real estate owned expense		224			250
Directors’ fees		223			217
Communications expense		115			111
Other expense		1,231			1,074
Total non-interest expense	$	11,564		$	11,058

Income Tax Expense

Income tax expense was $1.6 million and $1.3 million for the years ended December 31, 2014 and 2013, respectively. The increase was the result of 2014’s higher earnings. See Note 15 Income Taxes for a breakdown of current and deferred taxes and detail of the net deferred taxes at the end of both years.   The Company had no operating loss carryforwards at December 31, 2014. The Company utilized the operating loss carryforwards of $889 thousand for federal income tax purposes that were outstanding at the end of 2013.

Loans

Our primary source of income is our lending activities. The following table presents the composition of the Company’s loan portfolio at the dates indicated:

Loan Portfolio

	December 31,
(Dollars In Thousands)	2014		2013		2012		2011		2010
Construction:
Residential	$	10,019	$	6,768	$	5,036	$	3,695	$	7,608
Land acquisition, development & commercial		23,686		20,904		20,198		23,911		28,981
Real Estate:
Residential		86,269		72,934		69,691		58,070		55,381
Commercial		135,070		126,100		109,302		102,312		109,674
Commercial, industrial & agricultural		44,807		42,155		42,382		36,297		39,204
Equity lines		24,330		20,374		20,504		19,018		20,121
Consumer		7,498		8,698		7,824		5,776		3,137
Total loans	$	331,679	$	297,933	$	274,937	$	249,079	$	264,106

As with most community banks, the loan portfolio is concentrated in commercial real estate loans, and comprised 40.7% and 42.3% of the total loan portfolio at December 31, 2014 and 2013, respectively. At year-end 2014, there were no industry concentrations with outstanding balances representing 10% or more of total loans. As the economy improved over the last year, loan demand has increased for commercial real estate financing.

Maturities of Loans at December 31, 2014 are as follows:

(Dollars in Thousands)	Fixed Rate		Adjustable Rate		Total
Construction loans Maturing:
Within one year	$	8,262	$	7,327	$	15,589
One to five years		11,015		4,446		15,461
After five years		1,638		1,017		2,655
Total	$	20,915	$	12,790	$	33,705

16

(Dollars in Thousands)	Fixed Rate		Adjustable Rate		Total
Commercial loans Maturing:
Within one year	$	3,909	$	8,819	$	12,728
One to five years		12,498		15,408		27,906
After five years		2,718		1,455		4,173
Total	$	19,125	$	25,682	$	44,807

Provision and Allowance for Loan Losses

The provision for loan losses is based upon management’s estimate of the amount needed to maintain the allowance for loan losses at an adequate level to cover known and inherent risk of loss in the loan portfolio. Based on the Company’s allowance for loan losses calculation and analysis at the end of 2014, no provision was recorded. The provision for loan losses was $125 thousand for 2013. The allowance consists of three components: specific, general and unallocated. Their adequacy is evaluated separately.

Specific reserves are determined on a loan by loan basis and relate to loans classified as impaired. Management classifies loans as impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement.   Included in potentially impaired loan category are current “watch list” credits plus any additional credits which have been past due three or more times within the past 12-month period. Management individually reviews these potentially impaired loans based on generally accepted accounting standards related to receivables and makes a determination if the loan in fact is impaired. Management does not consider a loan impaired during a period of delay in payment if management expects the ultimate collection of all amounts due. If it is found to be impaired, an allowance is established when the collateral value, discounted cash flows, or observable market price of the impaired loan is lower than the carrying value of that loan. The factors considered in recognizing a loan as impaired are detailed in Note 1 Significant Accounting Policies. The general component of the reserve covers non-classified loans and is based on historical loss experience adjusted for qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. It also reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. On a quarterly basis, management performs a detailed analysis of the allowance for loan losses to verify the adequacy and appropriateness of the allowance in meeting probable losses in the loan portfolio.

The Company's total reserves amounted to $3.3 million; of which $141 thousand are specific reserves on impaired loans and $3.2 million are general reserves. The adequacy of general reserves is determined by dividing the remaining loan portfolio into 30 homogenous pools, each with its unique degree of inherent risk and applying a loss factor to each pool of loans.  In determining the loss factor for each pool of homogenous loans the following factors are considered: net charge-offs, underlying collateral, lending policies and underwriting practices, economic conditions, management experience, quality of loan review and oversight, effects of external competition and regulation, loan pool concentrations, loan pool volume, past due and non-accrual loans and classified loans.

The Bank continued to make improvements in credit quality which allowed for the reduction of the overall allowance for loan and lease losses. Loans classified as impaired declined $3.8 million from year end 2013 to a total of $8.2 million at the end of 2014.  Impaired loans had declined $3.6 million during the previous year 2013. The reserves related to impaired loans were $141 thousand and $173 thousand at December 31, 2014 and 2013, respectively. Nonperforming assets, including restructured loans have declined $5.7 million since a high of $20.0 million at the end of 2011. Nonperforming assets declined $1.1 million from year end 2013 to year end 2014. See previous section Non-performing Assets for more details. Past due loans totaled $974 thousand at December 31, 2014, a decline of $615 thousand from the $1.6 million at year end 2013. Substandard loans totaled $2.3 million at December 31, 2014, a decrease of $4.9 million from year end 2013. During the same period special mention loans increased $2.1 million. Pass loans as a percent of total loans rose from 95.9% at December 31, 2013 to 97.2% at December 31, 2014. See Note 4 for detail of loans by credit quality indicators.

During the twelve months ended December 31, 2014, $464 thousand of loans were charged off compared to $575 thousand for the twelve months ended December 31, 2013. This is significantly less than the three preceding years, as detailed in the table in this section. Recoveries of $75 thousand in 2014, and $381 thousand in 2013 partially replenished the allowance for loan losses.

Management considers economic information in determining the adequacy of the allowance for loan losses. The local markets are largely shielded from national events and trends, but do tend to realize lagging effects in subsequent quarters. The Federal Reserve Bank of Richmond’s March 2015 Snapshot reported mostly positive trends in the key economic indicators for Virginia. There was some public and private sector job growth and improving household conditions, but housing market indicators were mixed. The unemployment rate for December 2014 improved in the Roanoke Metropolitan Statistical Area (MSA) and the Blacksburg MSA when compared to December 2013. Roanoke’s unemployment rates were 5.0% and 5.3%, and Blacksburg’s unemployment rates were 5.1% and 5.5% for December 2014 and December 2013, respectively. Blacksburg’s house price index at December 31, 2014 improved 4.5% over the prior year while Roanoke’s had declined 4.0% for the same period of time.

17

The following table presents an analysis of the changes in the allowance for loan losses for the periods indicated.

Allowance for Loan Losses

(Dollars In Thousands)	2014			2013			2012			2011			2010
Balance, beginning	$	3,721		$	3,790		$	3,979		$	5,228		$	2,862
Provision charged to operating expense		−			125			1,408			1,222			6,453
Recoveries of amounts charged off		75			381			19			3			77
Loans charged off		(464	)		(575	)		(1,616	)		(2,474	)		(4,164	)
Balance, ending	$	3,332		$	3,721		$	3,790		$	3,979		$	5,228
Ratio of net charge-offs to average loans		0.12	%		0.07	%		0.61	%		0.96	%		1.55	%

The following table presents the allocation of the Allowance for Loan Losses for the periods indicated. The Allowance for Loan Losses is allocated in the manner prescribed by ASU 2010-20 (Refer to Note 1 of Consolidated Financial Statements). Some unallocated reserves are desirable given the degree of estimation involved in the nature of the analysis of the adequacy of the allowance for loan losses.

December 31,
(Dollars in thousands)	2014				2013				2012				2011				2010
Construction:
Residential	$	43	1.3	%	$	156	4.2	%	$	117	3.1	%	$	90	2.3	%	$	121	2.3	%
Land acquisition, development & commercial		453	13.6	%		872	23.4	%		811	21.4	%		953	23.9	%		1,802	34.5	%
Real Estate:
Residential		833	25.0	%		867	23.3	%		725	19.1	%		538	13.5	%		785	15.0	%
Commercial		1,012	30.4	%		1,008	27.1	%		1,054	27.8	%		1,114	28.0	%		1,556	29.8	%
Commercial, industrial & agricultural		319	9.6	%		327	8.8	%		459	12.1	%		828	20.8	%		702	13.4	%
Equity lines		423	12.7	%		385	10.3	%		386	10.2	%		313	7.9	%		222	4.2	%
Consumer		65	2.0	%		63	1.7	%		145	3.8	%		143	3.6	%		40	.8	%
Unallocated		184	5.4	%		43	1.2	%		93	2.5	%		—	—	%		—	—	%
Total allowance for loan losses	$	3,332	100.0	%	$	3,721	100.0	%	$	3,790	100.0	%	$	3,979	100.0	%	$	5,228	100.0	%

Investment Portfolio

At December 31, 2014, 2013 and 2012 all of the Company’s securities were classified as available-for-sale. The composition of the investment portfolio for the years ending December 31, 2014 and 2013 appear in Note 2 of this report. The following table presents the composition of the investment portfolio as of December 31, 2012.

(Dollars In Thousands)	December 31, 2012
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value
U.S. Government agency securities	$	28,825	$	1,049	$	(32	)	$	29,842
Mortgage-backed securities		21,533		486		(35	)		21,984
Municipal securities		10,965		698		(23	)		11,640
	$	61,323	$	2,233	$	(90	)	$	63,466

The Company began recording income tax expense in 2012, based on an assessment of the Company’s profitable operations over the preceding quarters and projections of future taxable income. Able to now realize the associated tax benefit from investing in non-taxable municipal securities, the Company has restructured the portfolio to take advantage of this favorable income tax treatment.

18

Securities Available for Sale, Maturity Distribution and Average Yields

	December 31, 2014
(Dollars in thousands)	Amortized Cost		Fair Value		Weighted Average Yield
U.S. government agency securities:
Maturing within 1 year	$	−	$	−		−	%
Maturing after 1 year and within 5 years		199		204		2.64
Maturing after 5 years and within 10 years		6,992		6,962		1.94
Maturing after 10 years		19,621		19,799		2.47
Mortgage backed securities:
Maturing within 1 year	$	−	$	−		−	%
Maturing after 1 year and within 5 years		−		−		−
Maturing after 5 years and within 10 years		185		192		2.91
Maturing after 10 years		9,493		9,547		2.10
Taxable municipal securities:
Maturing within 1 year	$	253	$	253		2.90	%
Maturing after 1 year and within 5 years		250		248		1.67
Maturing after 5 years and within 10 years		141		144		4.07
Maturing after 10 years		1,593		1,648		4.63
Nontaxable municipal securities:
Maturing within 1 year	$	−	$	−		−	%
Maturing after 1 year and within 5 years		249		254		2.20
Maturing after 5 years and within 10 years		1,140		1,160		3.29
Maturing after 10 years		13,797		14,192		4.35
Total Maturities	$	53,913	$	54,603		2.90	%

The weighted average yield for nontaxable municipal securities is reported on a tax equivalent basis.

Deposits

The Company’s primary source of funds is deposit accounts. The Company’s deposit base is comprised of demand deposits, savings and money market accounts, and time deposits. The Company’s deposits are provided primarily by individuals and businesses located in the Company’s market area. The Company is a member of the Promontory Financial Network and uses its CDARS and ICS programs to provide FDIC deposit insurance coverage for certificates of deposit or demand deposits in excess of $250 thousand, when requested by customers.  

Total deposits increased by $22.8 million or 6.7% from $339.8 million at December 31, 2013 to $362.6 million at December 31, 2014. The Company’s ability to attract and retain deposits, and our cost of funds, has been, and will continue to be, significantly affected by market conditions.

The following table is a schedule of average balances and average rates paid for each deposit category for the periods presented:

Average Deposits and Rates Paid

	Average Deposits and Rates Paid December 31,
	2014					2013					2012
(Dollars in thousands)	Amount		Rate			Amount		Rate			Amount		Rate
Non-interest bearing deposits	$	46,200				$	39,047				$	30,630
Interest bearing accounts:
Checking		75,585		0.19	%		67,642		0.25	%		68,194		0.34	%
Money market savings		63,356		0.32	%		61,611		0.39	%		64,830		0.44	%
Regular savings		29,482		0.45	%		23,753		0.56	%		18,637		0.63	%
Time Deposits		133,413		0.95	%		130,546		1.00	%		128,234		1.30	%
Total Interest Bearing		301,836		0.58	%		283,552		0.65	%		279,895		0.82	%
Total	$	348,036				$	322,599				$	310,525

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The following table is a schedule of maturities for time deposits of $100,000 or more at the dates indicated:

Maturities of Certificates of Deposits with Balances of $100,000 or More

(Dollars in thousands)	Within 3 months		3 to 6 months		6 to 12 months		Over 1 year		Total		Percent of Total Deposits
At December 31, 2014	$	16,601	$	10,326	$	11,406	$	45,772	$	84,105		23.20	%

The following table is a schedule of the return on average assets and return on average equity for the dates indicated:

	For the years ended
	2014			2013			2012
Return on average assets		0.82	%		0.71	%		1.25	%
Return on average equity		8.20	%		6.68	%		12.69	%
Average equity to average assets		10.06	%		10.62	%		9.84	%
Dividend payout		—	%		—	%		—	%

Liquidity and Interest Rate Sensitivity

Liquidity is identified as the ability to generate or acquire sufficient amounts of cash when needed and at a reasonable cost to accommodate withdrawals, payments of debt, and increased loan demand. Liquid assets include cash, federal funds sold, securities classified as available for sale as well as loans and securities maturing within one year. As a result of the Company’s management of liquid assets and the ability to generate liquidity through liability funding, management believes the Company maintains overall liquidity sufficient to satisfy its depositors’ requirements and meet its customers’ credit needs.

The Company’s management, under the direction of the Asset/Liability Committee of the Board of Directors, reviews the mix of monetary assets and liabilities to ensure the Company maintains an adequate level of liquidity at all times. This ensures that the Company’s sources of funds, primarily net fluctuations in customer deposits, investments, securities and correspondent banking relationships, must be balanced with the Company’s obligations, commitments, and operational requirements, to maintain overall liquidity in conjunction with the maximization of interest rate spreads.

The Company’s asset based liquidity position, cash and due from bank balances, federal funds sold, loans held for sale, securities available for sale, net of securities pledged and cash balance requirements totaled $56.8 million at December 31, 2014, compared to $63.1 million at December 31, 2013.   Liquidity declined and may decline further if the expansion of the loan portfolio continues to outpace deposit growth.

The Company’s primary source of funding is its retail deposit base. The Company aggressively markets in its trade area and seeks demand deposits through service-related tactics and savings deposits through competitive pricing tactics. If this funding source is not attractive either for reasons of maturity or pricing, alternative funding sources include Federal Home Loan Bank (FHLB) advances, brokered deposits, fed funds purchased and guidance lines of credit. The Company is approved to borrow 20% of our total assets from the FHLB subject to providing qualifying collateral.  At December 31, 2014, the Company had borrowed $20.0 million of the $35.9 million of lendable collateral value, leaving $15.9 million of unused credit immediately available. The Company also has an $8 million guidance line of credit to borrow against securities. The limit on this line is 15% of assets. In addition, the Company had $18.5 million of fed funds lines of credit available at the end of 2014. At December 31, 2014, there were no advances on the fed funds or guidance lines.

At December 31, 2014, the Company had commitments to originate $21.1 million of loans. Certificates of deposit scheduled to mature in the 12 month period ending December 31, 2015 total $59.9 million. As rates creep upwards, the Company will have to pay higher rates to retain a portion of these maturing funds.

A financial institution can be exposed to several market risks that may impact its value or future earnings capacity. These risks include interest rate risk, foreign currency exchange risk, commodity price risk and equity market price risk. Our primary market risk is interest rate risk. Interest rate risk is inherent, because as a financial institution, we derive a significant amount of our operating revenue from customer deposits and possible borrowings at various terms and rates. These funds are then invested into earning assets (loans and investments) at various terms and rates.

Interest rate risk is the exposure to fluctuations in our future earnings (earnings at risk) and value (value at risk) resulting from changes in interest rates. This exposure results from differences between the amounts of interest earning assets and interest bearing liabilities that reprice within a specific time period as a result of scheduled maturities and repayment and contractual interest rate changes.

20

Interest rate sensitivity at December 31, 2014 is summarized in the table below

	Interest Rate Sensitivity
Rate Shock	Net Interest Income (NII)		NII Change from Level
+400	$	15,908		6.8	%
+300		15,528		4.3	%
+200		15,099		1.4	%
+100		14,814		(0.5	)%
Level		14,890
-100		14,867		(0.2	)%
-200		14,756		(0.9	)%
-300		14,686		(1.4	)%

The shifts in net interest income due to rate shocks are all within our policy limits. The floors on the equity lines and the business lines of credit keep the rates on these loans from increasing until rates increase high enough to exceed the floors. In the meantime, rates on deposits begin to increase as rates increase. This is why we are seeing a slight drop in net interest income with rate shocks of 100 and the margin recovers to the original level at the 200 basis point shock, and increases at the 300 and 400 basis point shocks.

The primary objective of our asset/liability management process is to maximize current and future net interest income within acceptable levels of interest rate risk while satisfying liquidity and capital requirements. Management recognizes that a certain amount of interest rate risk is inherent and appropriate. The goal is to maintain a balance between risk and reward such that net interest income is maximized while risk is maintained at an acceptable level.

Management strives to control the exposure to interest rate volatility and operates under policies and guidelines established by the Board of Directors, who set the level of acceptable risk, by understanding, reviewing and making decisions based on our risk position. In addition, pricing, promotion and product development activities are assessed in an effort to emphasize the loan and deposit term or repricing characteristics that best meet current interest risk objectives. We use a variety of analytical systems and balance sheet tools to manage interest rate risk.

Interest Rate Sensitivity

(Dollars in thousands)	0 - 3 Months			3 - 12 Months			1 - 5 Years			Over 5 Years			Total
Interest Earning Assets
Securities	$	6,540		$	4,813		$	8,537		$	37,189		$	57,079
Interest-bearing deposits in other banks		4,190			750			1,000			—			5,940
Loans		94,338			32,351			183,273			18,385			328,347
Loans held for sale		242			—			—			—			242
Federal funds sold		649			—			—			—			649
Total	$	105,959		$	37,914		$	192,810		$	55,574		$	392,257
Cumulative totals	$	105,959		$	143,873		$	336,683		$	392,257
Interest Bearing Liabilities
Interest checking	$	84,669		$	—		$	—		$	—		$	84,669
Savings		32,780			—			—			—			32,780
Money Market		60,585			—			—			—			60,585
Time Deposits		23,576			36,334			73,425			—			133,335
Short term borrowings		422			—			—			—			422
FHLB Borrowings		—			2,000			18,000			—			20,000
Total		202,032			38,334			91,425			—			331,791
Cumulative totals		202,032			240,366			331,791			331,791
Interest sensitivity gap	$	(96,073	)	$	(420	)	$	101,385		$	55,574		$	60,466
Cumulative interest sensitivity gap	$	(96,073	)	$	(96,493	)	$	4,892		$	60,466
Cumulative interest sensitivity gap to total interest earning assets		(24.29	)%		(24.39	)%		1.24	%		15.28	%

Capital Resources

To enable future growth of the Company, there must be an adequate level of capital. Management reviews the Company’s capital to ensure that the amount, composition and quality of the Company’s assets and liabilities satisfy regulatory requirements, meet or exceed industry standards, and support projected Company growth.

21

At December 31, 2014 and December 31, 2013, the Company had stockholders’ equity of $43.2 million and $39.5 million, respectively, an increase of $3.7 million or 9.3%. The convertible preferred shares pay dividends at the rate of 6% per year. Each share of Series C preferred stock is convertible into 160 shares of common stock. Some capital was utilized in 2014 to support loan growth. The capital ratios have remained well above regulatory standards for well-capitalized banks through year end 2014.

Risk Based Capital Analysis

Capital Analysis

	December 31,
(Dollars in thousands)	2014			2013
Tier 1 Capital:
Preferred Stock	$	13,293		$	13,293
Common Stock		16,438			16,351
Surplus		15,310			15,339
Retained Deficit		(2,271	)		(4,846	)
Total Tier 1 Capital	$	42,770		$	40,137
Tier 2 Capital:
Allowance for Loan Losses (allowable portion)		3,332			3,721
Total Risk Based Capital	$	46,102		$	43,858
Capital Ratios:
Tier I Risk Based Capital Ratio		12.2	%		12.8	%
Total Risk Based Capital Ratio		13.1	%		14.0	%
Leverage ratio (Tier I capital to average assets)		10.1	%		10.2	%

Financial Instruments with off Balance Sheet Risk and Contractual Obligations and Other Commitments

The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve elements of credit risk and interest rate risk in excess of the amount recognized in the balance sheets. The contractual amounts of these instruments reflect the extent of the Company’s involvement 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 instruments for commitments to extend credit and letters of credit written is represented by the contractual amount of these instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments may expire without being completely drawn upon, the total commitment amounts do not necessarily represent future cash requirements.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Not Required.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The following financial statements are filed as a part of this report:

Financial Statements

Consolidated Balance Sheets, December 31, 2014 and 2013

Consolidated Statements of Income, Years Ended December 31, 2014 and 2013

Consolidated Statements of Comprehensive Income, Years Ended December 31, 2014 and 2013

Consolidated Statements of Changes in Stockholders’ Equity, Years Ended December 31, 2014 and 2013

Consolidated Statements of Cash Flows, Years Ended December 31, 2014 and 2013

Notes to Consolidated Financial Statements

Report of Independent Registered Public Accounting Firm

22

HomeTown Bankshares Corporation

Consolidated Balance Sheets

December 31, 2014 and 2013

Dollars In Thousands, Except Share and Per Share Data	December 31, 2014			December 31, 2013
Assets
Cash and due from banks	$	13,795		$	19,537
Federal funds sold		649			738
Securities available for sale, at fair value		54,603			57,922
Restricted equity securities, at cost		2,476			2,564
Loans held for sale		242			–
Loans, net of allowance for loan losses of $3,332 in 2014 and $3,721 in 2013		328,347			294,212
Property and equipment, net		14,900			12,155
Other real estate owned, net of valuation allowance of $422 in 2014 and $935 in 2013		6,986			8,143
Bank owned life insurance		3,622			3,518
Deferred tax asset, net		–			1,159
Accrued income		1,924			1,877
Other assets		665			612
Total assets	$	428,209		$	402,437
Liabilities and Stockholders’ Equity
Deposits:
Noninterest-bearing	$	51,226		$	46,232
Interest-bearing		311,369			293,538
Total deposits		362,595			339,770
Short term borrowings		422			258
Federal Home Loan Bank borrowings		20,000			22,000
Accrued interest payable		272			286
Other liabilities		1,695			585
Total liabilities		384,984			362,899
Commitments and contingencies		–			–
Stockholders’ equity:
Convertible preferred stock, no par value; Series C 20,000 shares authorized, 14,000 issued and outstanding at December 31, 2014 and at December 31, 2013		13,293			13,293
Common stock, $5 par value; authorized 10,000,000 shares, issued and outstanding 3,287,567 (includes 37,727 restricted shares) at December 31, 2014 and 3,270,299 (includes 27,846 restricted shares) at December 31, 2013		16,438			16,351
Surplus		15,310			15,339
Retained deficit		(2,271	)		(4,846	)
Accumulated other comprehensive income (loss)		455			(599	)
Total stockholders’ equity		43,225			39,538
Total liabilities and stockholders’ equity	$	428,209		$	402,437

See Notes to Consolidated Financial Statements

23

HomeTown Bankshares Corporation

Consolidated Statements of Income

For the years ended December 31, 2014 and 2013

Dollars In Thousands, Except Share and Per Share Data	2014			2013
Interest and dividend income:
Loans and fees on loans	$	15,230		$	14,403
Taxable investment securities		1,000			1,277
Nontaxable investment securities		400			206
Dividends on restricted stock		129			100
Other interest income		39			44
Total interest and dividend income		16,798			16,030
Interest expense:
Deposits		1,746			1,845
Other borrowed funds		372			377
Total interest expense		2,118			2,222
Net interest income		14,680			13,808
Provision for loan losses		–			125
Net interest income after provision for loan losses		14,680			13,683
Noninterest income:
Service charges on deposit accounts		452			314
ATM and interchange income		443			327
Mortgage loan brokerage fees		231			282
Gains on sales of investment securities		128			152
Other income		632			369
Total noninterest income		1,886			1,444
Noninterest expense:
Salaries and employee benefits		5,802			5,242
Occupancy and equipment expense		1,535			1,317
Data processing expense		720			596
Advertising and marketing expense		598			457
Professional fees		581			495
Bank franchise taxes		262			203
FDIC insurance expense		283			514
(Gains), losses on sales and writedowns of other real estate owned, net		(10	)		582
Other real estate owned expense		224			250
Directors’ fees		223			217
Other expense		1,346			1,185
Total noninterest expense		11,564			11,058
Net income before income taxes		5,002			4,069
Income tax expense		1,587			1,340
Net income	$	3,415		$	2,729
Effective dividends on preferred stock		840			846
Accretion of discount on preferred stock		–			142
Net income available to common stockholders	$	2,575		$	1,741
Basic earnings per common share	$	0.78		$	0.53
Diluted earnings per common share	$	0.62		$	0.48
Weighted average common shares outstanding		3,284,870			3,269,063
Diluted weighted average common shares outstanding		5,524,870			4,416,679

See Notes to Consolidated Financial Statements

24

HomeTown Bankshares Corporation

Consolidated Statements of Comprehensive Income

For the years ended December 31, 2014 and 2013

Dollars In Thousands	2014			2013
Net income	$	3,415		$	2,729
Other comprehensive income:
Net unrealized holding gains (losses) on securities available for sale during the period		1,725			(2,898	)
Deferred income tax (expense) benefit on unrealized holding gains (losses) on securities available for sale		(587	)		979
Reclassification adjustment for gains included in net income		(128	)		(152	)
Tax expense related to realized gains on securities sold		44			52
Total other comprehensive income (loss)		1,054			(2,019	)
Comprehensive income	$	4,469		$	710

See Notes to Consolidated Financial Statements

25

HomeTown Bankshares Corporation

Consolidated Statements of Changes in Stockholders’ Equity

For the years ended December 31, 2014 and 2013

Dollars in Thousands

	Preferred Stock Series A & B			Preferred Stock Series C		Common Stock		Surplus			Retained Deficit			Discount on Preferred Stock				Accumulated Other Comprehensive Income (Loss)			Total
Balance, December 31, 2012	$	10,374		$	-	$	16,167	$	15,487		$	(6,587	)	$	(142	)		$	1,420		$	36,719
Net income												2,729										2,729
Other comprehensive loss, net of tax																			(2,019	)		(2,019	)
Restricted stock awarded							184		(184	)												–
Preferred stock issued					13,293																	13,293
Preferred stock redeemed		(10,374	)																			(10,374	)
Preferred stock dividend paid												(846	)									(846	)
Accretion of discount on preferred stock												(142	)		142							–
Stock based compensation									36													36
Balance, December 31, 2013	$	-		$	13,293	$	16,351	$	15,339		$	(4,846	)	$	-			$	(599	)	$	39,538
Net income												3,415					��					3,415
Other comprehensive income, net of tax																			1,054			1,054
Restricted stock awarded							87		(87	)												–
Preferred stock dividend paid												(840	)									(840	)
Stock based compensation									58													58
Balance, December 31, 2014	$	-		$	13,293	$	16,438	$	15,310		$	(2,271	)	$	-			$	455		$	43,225

See Notes to Consolidated Financial Statements

26

HomeTown Bankshares Corporation

Consolidated Statements of Cash Flows

For the years ended December 31, 2014 and 2013

Dollars in Thousands	2014			2013
Cash flows from operating activities:
Net income	$	3,415		$	2,729
Adjustments to reconcile net income to net cash provided by operations:
Depreciation and amortization		657			539
Provision for loan losses		–			125
Amortization of premium on securities, net		577			2,261
(Gains), losses on sales and writedowns of other real estate, net		(10	)		582
Gains on sales of investment securities		(128	)		(152	)
Losses on disposal of fixed assets		–			114
Increase in value of life insurance contracts		(104	)		(18	)
Stock compensation expense		58			36
Changes in assets and liabilities:
Loans held for sale		(242	)		–
Accrued income		(47	)		(287	)
Other assets		(53	)		945
Deferred taxes, net		856			1,272
Accrued interest payable		(14	)		(46	)
Other liabilities		870			(602	)
Net cash flows provided by operating activities		5,835			7,498
Cash flows used in investing activities:
Net decrease (increase) in federal funds sold		89			(542	)
Purchases of investment securities		(9,428	)		(18,739	)
Sales, maturities, and calls of available for sale securities		13,895			19,124
Redemption (purchase) of restricted equity securities, net		88			27
Net increase in loans		(35,655	)		(24,803	)
Proceeds from sales of other real estate		1,206			1,826
Purchases of bank owned life insurance		–			(3,500	)
Purchases of property and equipment		(1,921	)		(3,063	)
Proceeds from disposals of property and equipment		–			9
Net cash flows used in investing activities		(31,726	)		(29,661	)
Cash flows from financing activities:
Net increase in noninterest-bearing deposits		4,994			13,605
Net increase in interest-bearing deposits		17,831			16,168
Net increase in short-term borrowings		164			42
Net decrease in FHLB borrowings		(2,000	)		–
Preferred stock issue, net		–			13,293
Preferred stock redeemed		–			(10,374	)
Preferred stock dividend payment		(840	)		(846	)
Net cash flows provided by financing activities		20,149			31,888
Net (decrease) increase in cash and cash equivalents		(5,742	)		9,725
Cash and cash equivalents, beginning		19,537			9,812
Cash and cash equivalents, ending	$	13,795		$	19,537
Supplemental disclosure of cash flow information:
Cash payments for interest	$	2,132		$	2,268
Cash payments for income taxes	$	42		$	38
Supplemental disclosure of noncash investing activities:
Transfer from loans to other real estate owned	$	1,520		$	1,613
Transfer from other real estate to fixed assets	$	1,481		$	–
Change in unrealized gains (losses) on available for sale securities	$	1,597		$	(3,050	)

See Notes to Consolidated Financial Statements

27

HomeTown Bankshares Corporation

Notes to Consolidated Financial Statements

Note 1. Organization and Summary of Significant Accounting Policies

Organization

On September 4, 2009, HomeTown Bankshares Corporation (the “Company”) acquired all outstanding stock of HomeTown Bank (the “Bank”) in an exchange for shares of the Company on a one-for-one basis to become a single-bank holding company with the Bank becoming a wholly-owned subsidiary. The Bank was organized and incorporated under the laws of the State of Virginia on November 9, 2004 and commenced operations on November 14, 2005. The Bank currently serves Roanoke City, Virginia, the County of Roanoke, Virginia, the City of Salem, Virginia, Christiansburg, Virginia, and surrounding areas. As a state chartered bank, which is a member of the Federal Reserve System, the Bank is subject to regulation by the Virginia Bureau of Financial Institutions, the Federal Deposit Insurance Corporation and the Federal Reserve Board. In 2014 the Bank formed a joint venture with another entity and now has a 49% ownership interest in HomeTown Residential Mortgage, LLC.

Summary of Significant Accounting Policies

The following is a description of the significant accounting and reporting policies the Company follows in preparing and presenting its consolidated financial statements.

Principles of Consolidation

The consolidated financial statements include the accounts of HomeTown Bankshares Corporation and its wholly-owned subsidiary HomeTown Bank. All significant intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated balance sheet and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the valuation of other real estate owned, and the valuation of deferred tax assets. Substantially all of the Company’s loan portfolio consists of loans in its market area. Accordingly, the ultimate collectability of a substantial portion of the Company’s loan portfolio and the recovery of a substantial portion of the carrying amount of foreclosed real estate (as applicable) is susceptible to changes in local market conditions.

Cash and Cash Equivalents

Cash and cash equivalents include cash on hand and amounts due from correspondent banks. For the purpose of presentation in the consolidated statements of cash flows, cash and cash equivalents are defined as those amounts included in the consolidated balance sheet caption “cash and due from banks”.

Securities

Investments in debt and equity securities with readily determinable fair values are classified as either held to maturity, available for sale, or trading, based on management’s intent. Currently, all of the Company’s investment securities are classified as available for sale. Available for sale securities are carried at estimated fair value with the corresponding unrealized gains and losses excluded from earnings and reported in other comprehensive income. Gains or losses are recognized in earnings on the trade date using the amortized cost of the specific security sold. Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities.

Impairment of securities occurs when the fair value of a security is less than its amortized cost. For debt securities, impairment is considered other-than-temporary and recognized in its entirety in net income if either (i) the Company intends to sell the security or (ii) it is more-likely-than-not that the Company will be required to sell the security before recovery of its amortized cost basis. If, however, the Company does not intend to sell the security and it is not likely that it will be required to sell the security before recovery, the Company must determine what portion of the impairment is attributable to a credit loss, which occurs when the amortized cost basis of the security exceeds the present value of the cash flows expected to be collected from the security. If there is no credit loss, there is no other-than-temporary impairment. If there is a credit loss, other-than-temporary impairment exists, and the credit loss must be recognized in net income and the remaining portion of impairment must be recognized in other comprehensive income. The Company regularly reviews each investment security for other-than-temporary impairment based on criteria that include the extent to which cost exceeds market price, the duration of that market decline, the financial health of and specific prospects for the issuer, the best estimate of the present value of cash flows expected to be collected from debt securities, the Company’s intention with regard to holding the security to maturity and the likelihood that the Company would be required to sell the security before recovery.

28

Restricted Equity Securities

As members of the Federal Reserve Bank (FRB) and the Federal Home Loan Bank of Atlanta (FHLB), the Company is required to maintain certain minimum investments in the capital stock of the FRB and FHLB. The Company’s investment in these securities is recorded at cost, based on the redemption provisions of the FRB and FHLB.

Loans

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are reported at their outstanding principal amount adjusted for any charge-offs, allowance for loan losses and deferred fees or costs on originated loans. Loan origination fees and certain direct origination costs are capitalized and recognized as an adjustment of the yield of the related loan.

Interest is accrued and credited to income based on the principal amount outstanding. The accrual of interest on impaired loans for all classes is discontinued when, in management’s opinion, the borrower may be unable to meet payments as they become due. When interest accrual is discontinued, all unpaid accrued interest for the current year is reversed. Interest income is subsequently recognized only to the extent cash payments are received. When facts and circumstances indicate the borrower has regained the ability to meet the required payments, the loan is returned to accrual status. Past due status of loans is determined based on contractual terms. The loan portfolio is comprised of the following classes.

● Residential real estate construction loans carry risks that the home will not be finished according to schedule, will not be finished according to the budget and the value of the collateral may, at any point in time, be less than the principal amount of the loan. Construction loans also bear the risk that the general contractor may be unable to finish the construction project as planned because of financial pressure unrelated to the project.

● Land acquisition and development loans and commercial construction loans carry risks that the project will not be finished according to schedule, will not be finished according to budget and the value of the collateral may, at any point in time, be less than the principal amount of the loan. Land acquisition and development loans and commercial construction loans also bear the risk that the developer in the case of land acquisition and development loans or the general contractor in the case of commercial construction loans, may be unable to finish the development or construction project as planned because of financial pressure unrelated to the project.

● Residential real estate loans carry risks associated with the continued credit worthiness of the borrower and changes in the value of the collateral.

● Commercial real estate loans carry risks associated with the successful operation of a business or a real estate project, in addition to other risks associated with the ownership of real estate, because the repayment of these loans may be dependent upon the profitability and cash flows of the business or project.

● Commercial, industrial and agricultural loans carry risks associated with the successful operation of a business. In addition, there is risk associated with the value of the collateral which may depreciate over time and cannot be appraised with as much precision.

● Equity lines of credit carry risks associated with the continued credit worthiness of the borrower and changes in the value of the collateral.

● Consumer loans carry risks associated with the continued credit worthiness of the borrower and the value of the collateral (e.g., rapidly-depreciating assets such as automobiles), or lack thereof. Consumer loans are more likely than real estate loans to be immediately adversely affected by job loss, divorce, illness or personal bankruptcy.

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. Impairment is measured on a loan by loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral, less cost to sell, if the loan is collateral dependent.

29

TDRs (Troubled Debt Restructurings) occur when the Company agrees to significantly modify the original terms of a loan due to the deterioration in the financial condition of the borrower. TDRs are considered impaired loans. Upon designation as a TDR, the Company evaluates the borrower’s payment history, past due status and ability to make payments based on the revised terms of the loan. If a loan was accruing prior to being modified as a TDR and if the Company concludes that the borrower is able to make such payments, and there are no other factors or circumstances that would cause it to conclude otherwise, the loan will remain on an accruing status. If a loan was on nonaccrual status at the time of the TDR, the loan will remain on nonaccrual status following the modification and may be returned to accrual status based on a record of making payments as scheduled for a period of six consecutive months.

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. Consumer loans are charged off when they become 120 days past due. Non-consumer loans are charged off when the loan becomes 180 days past due unless the loan is well secured and in the process of collection. Borrowers that are in bankruptcy are charged off unless the debt has been reaffirmed and is well secured and recovery is probable. 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.

The allowance consists of specific and general components. The specific component relates to loans that are classified as impaired, and is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. For collateral dependent loans, an updated appraisal will be ordered if a current one is not on file. Appraisals are performed by independent third-party appraisers with relevant industry experience. Adjustments to the appraised value may be made based on recent sales of like properties or general market conditions when appropriate. The general component covers non-classified, or performing, loans and those loans classified as substandard or special mention that are not impaired. The general component is based on historical loss experience adjusted for qualitative factors, such as current economic conditions, including current home sales and foreclosures, unemployment rates and retail sales. The characteristics of the loan ratings are as follows:

● Pass rated loans are to persons or business entities with an acceptable financial condition, appropriate collateral margins, appropriate cash flow to service the existing loan, and an appropriate leverage ratio. The borrower has paid all obligations as agreed and it is expected that this type of payment history will continue. When necessary, acceptable personal guarantors support the loan.

● Special mention loans have a specific defined weakness in the borrower’s operations and the borrower’s ability to generate positive cash flow on a sustained basis. The borrower’s recent payment history may be characterized by late payments. The Company’s risk exposure is mitigated by collateral supporting the loan. The collateral is considered to be well-margined, well maintained, accessible and readily marketable.

● Substandard loans are considered to have specific and well-defined weaknesses that jeopardize the viability of the Company’s credit extension. The payment history for the loan may have been inconsistent and the expected or projected primary repayment source may be inadequate to service the loan. The estimated net liquidation value of the collateral pledged and/or ability of the personal guarantor(s) to pay the loan may not adequately protect the Company. There is a distinct possibility that the Company will sustain some loss if the deficiencies associated with the loan are not corrected in the near term. A substandard loan would not automatically meet our definition of impaired unless the loan is significantly past due and the borrower’s performance and financial condition provide evidence that it is probable that the Company will be unable to collect all amounts due.

● Substandard nonaccrual loans have the same characteristics as substandard loans; however, they have a non-accrual classification and are considered impaired.

● Doubtful rated loans have all the weaknesses inherent in a loan that is classified substandard but with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable. The possibility of loss is extremely high.

● Loss rated loans are not considered collectible under normal circumstances and there is no realistic expectation for any future payment on the loan. Loss rated loans are fully charged off.

30

Loan Fees and Costs

Loan origination and commitment fees and certain direct loan origination costs charged by the Bank are deferred and the net amount amortized as an adjustment of the related loan’s yield. The Bank is amortizing these net amounts over the contractual life of the related loans or, in the case of demand loans, over the estimated life. Net fees related to standby letters of credit are recognized over the commitment period.

Property and Equipment

Land is carried at cost. Buildings, equipment, and leasehold improvements are carried at cost, less accumulated depreciation and amortization. Depreciation is provided over the estimated useful lives of the respective assets on the straight-line basis. Estimated useful lives range from ten to forty years for buildings and from three to ten years for equipment, furniture, and fixtures. Leasehold improvements are amortized over a term which includes the remaining lease term and probable renewal periods on a straight-line basis. Maintenance and repairs are charged to expense as incurred and major improvements are capitalized.

Foreclosed Properties

Real estate properties acquired through, or in lieu of, loan foreclosure are to be sold and are initially recorded at fair value less anticipated cost to sell at the date of foreclosure establishing a new cost basis. After foreclosure, valuations are periodically performed by management, and the real estate is carried at the lower of carrying amount or fair value less cost to sell. Changes in the valuation allowance are included in the income statement in the line “Gains, losses on sales and writedowns of other real estate owned, net.”

Bank Owned Life Insurance

The Company purchased life insurance policies during 2013 on certain key executives. These policies are recorded at their cash surrender value. Increases in the cash surrender value of the life insurance contracts are included in noninterest income in the consolidated income statement caption “other income.”

Transfers of Financial Assets

Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity, or the ability to unilaterally cause the transferee to return specific assets.

Advertising Expense

The Company expenses advertising and marketing costs as they are incurred. For the years ended December 31, 2014 and 2013, advertising and marketing expense was $598 thousand and $457 thousand, respectively.

Income Taxes

Deferred income tax assets and liabilities are determined using the liability method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the temporary differences between the book and tax basis of the various balance sheet assets and liabilities and gives current recognition to changes in tax rates and laws. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.

When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be ultimately sustained. The benefit of a tax position is recognized in the consolidated financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. Tax positions taken are not offset or aggregated with other positions. Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying consolidated balance sheets along with any associated interest and penalties that would be payable to the taxing authorities upon examination. Interest and penalties associated with unrecognized tax benefits are classified as additional income taxes in the consolidated statement of income. There are no unrecognized tax benefits as of December 31, 2014 and 2013.

31

Earnings per Common Share

Basic earnings per common share is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period, after giving retroactive effect to stock splits and dividends. Diluted earnings per common share is similar to the computation of basic earnings per common share except that the denominator is increased to include the number of additional common shares that would have been outstanding if dilutive potential common shares had been issued. The numerator is adjusted for any changes in income or loss that would result from the assumed conversion of those potential common shares. Potential common shares that may be issued by the Company relate to the convertible preferred stock outstanding and the outstanding stock options. The preferred stock is convertible into shares of common stock of the Company based on a conversion price of $6.25 per share, subject to adjustment. The potential dilutive effect of the outstanding stock options is determined using the treasury stock method.

Comprehensive Income

Comprehensive income reflects the change in the Company’s equity during the year arising from transactions and events other than investment by and distributions to stockholders. It consists of net income plus certain other changes in assets and liabilities that are reported as separate components of stockholders’ equity rather than as income or expense. These changes for the Company relate solely to unrealized gains and losses on securities available for sale.

Fair Value Measurements

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.

The fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distress sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation techniques or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions.

Credit Related Financial Instruments

In the ordinary course of business, the Company has entered into commitments to extend credit, including commitments under lines of credit arrangements, commercial letters of credit and standby letters of credit. Such financial instruments are recorded when they are funded.

Stock-Based Compensation Plan

The 2005 Stock Option Plan was approved by stockholders on April 20, 2006, which authorized 550,000 shares of common stock to be used in the granting of incentive options to employees and directors. This is the first stock incentive plan adopted by the Company. Under the plan, the option price cannot be less than the fair market value of the stock on the date granted. An option’s maximum term is ten years from the date of grant. Options granted under the plan may be subject to a vesting schedule.

The Company accounts for the stock option plan in accordance with applicable accounting guidance. Under the fair value recognition provisions of this guidance, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense on a straight-line basis over the requisite service period, which is the vesting period.

Recent Accounting Pronouncements

In January 2014, the FASB issued ASU 2014-01, “Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects (a consensus of the FASB Emerging Issues Task Force).” The amendments in this ASU permit reporting entities to make an accounting policy election to account for their investments in qualified affordable housing projects using the proportional amortization method if certain conditions are met. Under the proportional amortization method, an entity amortizes the initial cost of the investment in proportion to the tax credits and other tax benefits received and recognizes the net investment performance in the income statement as a component of income tax expense (benefit). The amendments in this ASU should be applied retrospectively to all periods presented. A reporting entity that uses the effective yield method to account for its investments in qualified affordable housing projects before the date of adoption may continue to apply the effective yield method for those preexisting investments. The amendments in this ASU are effective for public business entities for annual periods and interim reporting periods within those annual periods, beginning after December 15, 2014. Early adoption is permitted. The Company is currently assessing the impact that ASU 2014-01 will have on its consolidated financial statements.

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In January 2014, the FASB issued ASU 2014-04, “Receivables—Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure (a consensus of the FASB Emerging Issues Task Force).” The amendments in this ASU clarify that an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, the amendments require interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The amendments in this ASU are effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. The Company is currently assessing the impact that ASU 2014-04 will have on its consolidated financial statements.

In April 2014, the FASB issued ASU 2014-08, “Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity.” The amendments in this ASU change the criteria for reporting discontinued operations while enhancing disclosures in this area. Under the new guidance, only disposals representing a strategic shift in operations should be presented as discontinued operations. Those strategic shifts should have a major effect on the organization’s operations and financial results and include disposals of a major geographic area, a major line of business, or a major equity method investment. The new guidance requires expanded disclosures about discontinued operations that will provide financial statement users with more information about the assets, liabilities, income, and expenses of discontinued operations. Additionally, the new guidance requires disclosure of the pre-tax income attributable to a disposal of a significant part of an organization that does not qualify for discontinued operations reporting. The amendments in the ASU are effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. Early adoption is permitted. The Company does not expect the adoption of ASU 2014-08 to have a material impact on its consolidated financial statements.

In June 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers: Topic 606.” This ASU applies to any entity using U.S. GAAP that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards. The guidance supersedes the revenue recognition requirements in Topic 605, “Revenue Recognition,, most industry-specific guidance, and some cost guidance included in Subtopic 605-35, “Revenue Recognition—Construction-Type and Production-Type Contracts.” The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To be in alignment with the core principle, an entity must apply a five step process including: identification of the contract(s) with a customer, identification of performance obligations in the contract(s), determination of the transaction price, allocation of the transaction price to the performance obligations, and recognition of revenue when (or as) the entity satisfies a performance obligation. Additionally, the existing requirements for the recognition of a gain or loss on the transfer of nonfinancial assets that are not in a contract with a customer have also been amended to be consistent with the guidance on recognition and measurement. The amendments in this ASU are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early adoption is not permitted. The Company is currently assessing the impact that ASU 2014-09 will have on its consolidated financial statements.

In June 2014, the FASB issued ASU 2014-10, “Development Stage Entities (Topic 915): Elimination of Certain Financial Reporting Requirements, Including an Amendment to Variable Interest Entities Guidance in Topic 810, Consolidation.” The amendments in this ASU remove all incremental financial reporting requirements from U.S. GAAP for development stage entities, including the removal of Topic 915, “Development Stage Entities,” from the FASB Accounting Standards Codification. In addition, this ASU adds an example disclosure and removes an exception provided to development stage entities in Topic 810, “Consolidation,” for determining whether an entity is a variable interest entity. The presentation and disclosure requirements in Topic 915 will no longer be required for the first annual period beginning after December 15, 2014. The revised consolidation standards are effective for annual periods beginning after December 15, 2015. Early adoption is permitted. The Company does not expect the adoption of ASU 2014-10 to have a material impact on its consolidated financial statements.

In June 2014, the FASB issued ASU No. 2014-11, “Transfers and Servicing (Topic 860): Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures.” This ASU aligns the accounting for repurchase-to-maturity transactions and repurchase agreements executed as a repurchase financing with the accounting for other typical repurchase agreements. The new guidance eliminates sale accounting for repurchase-to-maturity transactions and supersedes the guidance under which a transfer of a financial asset and a contemporaneous repurchase financing could be accounted for on a combined basis as a forward agreement. The amendments in the ASU also require a new disclosure for transactions economically similar to repurchase agreements in which the transferor retains substantially all of the exposure to the economic return on the transferred financial assets throughout the term of the transaction. Additional disclosures will be required for the nature of collateral pledged in repurchase agreements and similar transactions accounted for as secured borrowings. The amendments in this ASU are effective for the first interim or annual period beginning after December 15, 2014; however, the disclosure for transactions accounted for as secured borrowings is required to be presented for annual periods beginning after December 15, 2014, and interim periods beginning after March 15, 2015. Early adoption is not permitted. The Company is currently assessing the impact that ASU 2014-11 will have on its consolidated financial statements.

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In June 2014, the FASB issued ASU No. 2014-12, “Compensation – Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period.” The new guidance applies to reporting entities that grant employees share-based payments in which the terms of the award allow a performance target to be achieved after the requisite service period. The amendments in the ASU require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. Existing guidance in “Compensation – Stock Compensation (Topic 718),” should be applied to account for these types of awards. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. Early adoption is permitted and reporting entities may choose to apply the amendments in the ASU either on a prospective or retrospective basis. The Company is currently assessing the impact that ASU 2014-12 will have on its consolidated financial statements.

In August 2014, the FASB issued ASU No. 2014-14, “Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40): Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure.” The amendments in this ASU apply to creditors that hold government-guaranteed mortgage loans and are intended to eliminate the diversity in practice related to the classification of these guaranteed loans upon foreclosure. The new guidance stipulates that a mortgage loan be derecognized and a separate other receivable be recognized upon foreclosure if (1) the loan has a government guarantee that is not separable from the loan prior to foreclosure, (2) at the time of foreclosure, the creditor has the intent to convey the real estate property to the guarantor and make a claim on the guarantee, and the creditor has the ability to recover under that claim, and (3) at the time of foreclosure, any amount of the claim that is determined on the basis of the fair value of the real estate is fixed. Upon foreclosure, the other receivable should be measured on the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2014. Entities may adopt the amendments on a prospective basis or modified retrospective basis as of the beginning of the annual period of adoption; however, the entity must apply the same method of transition as elected under ASU 2014-04. Early adoption is permitted provided the entity has already adopted ASU 2014-04. The Company is currently assessing the impact that ASU 2014-14 will have on its consolidated financial statements.

In August 2014, the FASB issued ASU No. 2014-15, “Presentation of Financial Statements – Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern.” This update is intended to provide guidance about management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosures. Management is required under the new guidance to evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date the financial statements are issued when preparing financial statements for each interim and annual reporting period. If conditions or events are identified, the ASU specifies the process that must be followed by management and also clarifies the timing and content of going concern footnote disclosures in order to reduce diversity in practice. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2016. Early adoption is permitted. The Company does not expect the adoption of ASU 2014-15 to have a material impact on its consolidated financial statements.

In November 2014, the FASB issued ASU No. 2014-16, “Derivatives and Hedging (Topic 815): Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity.” The amendments in ASU do not change the current criteria in U.S. GAAP for determining when separation of certain embedded derivative features in a hybrid financial instrument is required. The amendments clarify how current U.S. GAAP should be interpreted in evaluating the economic characteristics and risks of a host contract in a hybrid financial instrument that is issued in the form of a share. Specifically, the amendments clarify that an entity should consider all relevant terms and features, including the embedded derivative feature being evaluated for bifurcation, in evaluating the nature of the host contract. Furthermore, the amendments clarify that no single term or feature would necessarily determine the economic characteristics and risks of the host contract. Rather, the nature of the host contract depends upon the economic characteristics and risks of the entire hybrid financial instrument. The amendments in this ASU also clarify that, in evaluating the nature of a host contract, an entity should assess the substance of the relevant terms and features (i.e., the relative strength of the debt-like or equity-like terms and features given the facts and circumstances) when considering how to weight those terms and features. The amendments in this ASU are effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption, including adoption in an interim period, is permitted. The Company does not expect the adoption of ASU 2014-16 to have a material impact on its consolidated financial statements.

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Note 2. Investment Securities

Amortized cost and fair value of securities available for sale are as follows:

(Dollars In Thousands)	December 31, 2014
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
U.S. Government agency securities	$	26,812	$	333	$	(180	)	$	26,965
Mortgage-backed securities		9,678		125		(64	)		9,739
Municipal securities		17,423		531		(55	)		17,899
	$	53,913	$	989	$	(299	)	$	54,603

(Dollars In Thousands)	December 31, 2013
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
U.S. Government agency securities	$	26,489	$	235	$	(440	)	$	26,284
Mortgage-backed securities		15,328		193		(160	)		15,361
Municipal securities		17,012		68		(803	)		16,277
	$	58,829	$	496	$	(1,403	)	$	57,922

The primary purpose of the investment portfolio is to generate income, diversify earning assets, and meet liquidity needs of the Company through readily saleable financial instruments. The portfolio is made up primarily of fixed rate bonds, whose prices move inversely with rates. At the end of any accounting period, the investment portfolio has unrealized gains and losses. The Company monitors the portfolio, which is subject to liquidity needs, market rate changes, and credit risk changes, to see if adjustments are needed. The primary concern in a loss situation is the credit quality of the business or entity behind the instrument. The primary cause of unrealized losses is the increase in market interest rates over the yields available at the time the securities were purchased.

At December 31, 2014, the Company does not consider any security in an unrealized loss position to be other-than-temporarily impaired.

U.S. Government and federal agency securities.The unrealized losses on twenty of the Company’s investments in obligations of the U.S. government were caused by increases in market interest rates over the yields available at the time the securities were purchased.  The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost bases of the investments. The Company does not consider those investments to be other-than-temporarily impaired at December 31, 2014.

Mortgage-backed securities.The unrealized losses on nine of the Company’s investments in government-sponsored entity mortgage-backed securities were caused by increases in market interest rates over the yields available at the time the securities were purchased.  Because the decline in market value is attributable to changes in interest rates and not credit quality, the Company does not consider those investments to be other-than-temporarily impaired at December 31, 2014.

Municipal securities.The unrealized losses on twelve of the Company’s investments in obligations of municipal securities were caused by increases in market interest rates over the yields available at the time the securities were purchased. All municipal securities are investment grade. Because the decline in market value is attributable to changes in interest rates, credit spreads, ratings and not credit quality, the Company does not consider those investments to be other-than-temporarily impaired at December 31, 2014.

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The following tables demonstrate the unrealized loss position of securities available for sale at December 31, 2014 and 2013.

	December 31, 2014
	Less than 12 months					12 months or more					Total
(Dollars In Thousands)	Fair Value		Unrealized Loss			Fair Value		Unrealized Loss			Fair Value		Unrealized Loss
U.S. Government agency securities	$	5,568	$	(48	)	$	7,078	$	(132	)	$	12,646	$	(180	)
Mortgage-backed securities		742		(6	)		4,058		(58	)		4,800		(64	)
Municipal securities		1,625		(20	)		2,186		(35	)		3,811		(55	)
	$	7,935	$	(74	)	$	13,322	$	(225	)	$	21,257	$	(299	)

	December 31, 2013
	Less than 12 months					12 months or more					Total
(Dollars In Thousands)	Fair Value		Unrealized Loss			Fair Value		Unrealized Loss			Fair Value		Unrealized Loss
U.S. Government agency securities	$	9,676	$	(341	)	$	1,897	$	(99	)	$	11,573	$	(440	)
Mortgage-backed securities		5,964		(134	)		1,042		(26	)		7,006		(160	)
Municipal securities		12,253		(683	)		1,185		(120	)		13,438		(803	)
	$	27,893	$	(1,158	)	$	4,124	$	(245	)	$	32,017	$	(1,403	)

The amortized cost and estimated fair value of securities at December 31, 2014, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to prepay obligations with or without call or prepayment penalties.

(Dollars In Thousands)	Amortized Cost		Fair Value
Less than one year	$	253	$	253
Over one through five years		698		706
Over five through ten years		8,458		8,458
Greater than 10 years		44,504		45,186
	$	53,913	$	54,603

Proceeds from the sales, maturities and calls of securities available for sale in 2014 and 2013 were $13.9 million and $19.1 million, respectively. The Company realized $128 thousand in net gains on sales of twelve available for sale securities in 2014, compared to $152 thousand from the sales of twenty-five securities in the prior year.  The net gain in 2014 included gross gains of $163 thousand and gross losses of $35 thousand. The prior year included gross gains of $261 thousand and gross losses of $109 thousand. Total pledged securities had a fair market value of $8.8 million at December 31, 2014 and $11.7 million at December 31, 2013. Securities having a fair market value of $5.0 million were pledged to secure public deposits, while securities pledged to secure Federal Home Loan Bank borrowings totaled $1.9 million. $1.9 million in securities were pledged for other purposes at December 31, 2014.

Note 3. Loans Receivable

The major classifications of loans in the consolidated balance sheets at December 31, 2014 and 2013 were as follows:

(Dollars In Thousands)	December 31,
	2014			2013
Construction:
Residential	$	10,019		$	6,768
Land acquisition, development & commercial		23,686			20,904
Real Estate:
Residential		86,269			72,934
Commercial		135,070			126,100
Commercial, industrial & agricultural		44,807			42,155
Equity lines		24,330			20,374
Consumer		7,498			8,698
Total loans	$	331,679		$	297,933
Less allowance for loan losses		(3,332	)		(3,721	)
Loans, net	$	328,347		$	294,212

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The past due and nonaccrual status of loans as of December 31, 2014 was as follows:

(Dollars In Thousands)	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans		Nonaccrual Loans
Construction:
Residential	$	−	$	−	$	−	$	−	$	10,019	$	10,019	$	−
Land acquisition, development & commercial		−		−		−		−		23,686		23,686		−
Real Estate:
Residential		−		381		261		642		85,627		86,269		475
Commercial		−		85		−		85		134,985		135,070		758
Commercial, industrial & agricultural		96		−		−		96		44,711		44,807		−
Equity lines		105		−		−		105		24,225		24,330		−
Consumer		10		36		−		46		7,452		7,498		21
Total	$	211	$	502	$	261	$	974	$	330,705	$	331,679	$	1,254

The past due and nonaccrual status of loans as of December 31, 2013 was as follows:

(Dollars In Thousands)	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans		Nonaccrual Loans
Construction:
Residential	$	–	$	–	$	–	$	–	$	6,768	$	6,768	$	–
Land acquisition, development & commercial		–		–		–		–		20,904		20,904		–
Real Estate:
Residential		–		–		931		931		72,003		72,934		707
Commercial		–		–		–		–		126,100		126,100		–
Commercial, industrial & agricultural		270		44		36		350		41,805		42,155		193
Equity lines		203		–		59		262		20,112		20,374		59
Consumer		16		–		30		46		8,652		8,698		30
Total	$	489	$	44	$	1,056	$	1,589	$	296,344	$	297,933	$	989

There were no loans past due ninety days or more and still accruing interest at December 31, 2014. There was one loan of $223 thousand that was past due ninety days or more and still accruing interest at December 31, 2013.

Impaired loans, which include TDRs of $6.7 million and the related allowance at December 31, 2014, were as follows:

December 31, 2014 With no related allowance: (Dollars In Thousands)	Recorded Investment in Loans		Unpaid Principal Balance		Related Allowance		Average Balance Total Loans		Interest Income Recognized
Construction:
Residential	$	−	$	−	$	–	$	−	$	−
Land acquisition, development & commercial		−		−		–		−		−
Real Estate:
Residential		525		700		–		605		12
Commercial		7,507		7,507		–		8,563		289
Commercial, industrial & agricultural		−		−		–		−		−
Equity lines		−		−		–		−		−
Consumer		−		−		–		−		−
Total loans with no allowance	$	8,032	$	8,207	$	–	$	9,168	$	301

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December 31, 2014 With an allowance recorded: (Dollars In Thousands)	Recorded Investment in Loans		Unpaid Principal Balance		Related Allowance		Average Balance Total Loans		Interest Income Recognized
Construction:
Residential	$	−	$	−	$	−	$	−	$	−
Land acquisition, development & commercial		−		−		−		−		−
Real Estate:
Residential		−		−		−		−		−
Commercial		141		141		141		153		−
Commercial, industrial & agricultural		−		−		−		−		−
Equity lines		−		−		−		−		−
Consumer		−		−		−		−		−
Total loans with an allowance	$	141	$	141	$	141	$	153	$	−

Impaired loans, which include TDRs of $6.3 million and the related allowance at December 31, 2013, were as follows:

December 31, 2013 With no related allowance: (Dollars In Thousands)	Recorded Investment in Loans		Unpaid Principal Balance		Related Allowance		Average Balance Total Loans		Interest Income Recognized
Construction:
Residential	$	–	$	–	$	–	$	–	$	–
Land acquisition, development & commercial		1,550		1,550		–		1,550		67
Real Estate:
Residential		412		412		–		415		18
Commercial		9,266		9,266		–		9,365		442
Commercial, industrial & agricultural		283		283		–		733		46
Equity lines		–		–		–		–		–
Consumer		–		–		–		–		–
Total loans with no allowance	$	11,511	$	11,511	$	–	$	12,063	$	573

December 31, 2013 With an allowance recorded: (Dollars In Thousands)	Recorded Investment in Loans		Unpaid Principal Balance		Related Allowance		Average Balance Total Loans		Interest Income Recognized
Construction:
Residential	$	–	$	–	$	–	$	–	$	–
Land acquisition, development & commercial		–		–		–		–		–
Real Estate:
Residential		438		438		163		439		16
Commercial		–		–		–		–		–
Commercial, industrial & agricultural		41		41		10		34		1
Equity lines		–		–		–		–		–
Consumer		–		–		–		–		–
Total loans with an allowance	$	479	$	479	$	173	$	473	$	17

Troubled Debt Restructurings

At December 31, 2014, four loans totaling $6.7 million were classified as troubled debt restructurings (“TDR’s”). Two of the four loans totaling $6.1 million were performing in accordance with their restructured terms and were not on nonaccrual status at year end 2014. The other two loans totaling $639 thousand were on nonaccrual status.  One of the loans evaluated separately for impairment at year end 2013 was modified as a TDR during the third quarter of 2014. The other was a TDR that was classified as a substandard non-accruing loan at December 31, 2014 and 2013. The outstanding balance of this loan was $22 thousand and $30 thousand at December 31, 2014 and December 31, 2013, respectively.

TDR’s were comprised of three loans totaling $6.3 million at December 31, 2013.  Two of the three loans totaling $6.3 million at year end 2013 were included in impaired loans, but were performing in accordance with their restructured terms and were not on nonaccrual status at the end 2013.  The remaining $30 thousand loan was past due and included in loans 60-89 days past due and nonaccrual loans at year end 2013.  

There was no valuation allowance related to total TDR’s at December 31, 2014, or December 31, 2013.

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In September 2014, the Company agreed to take ownership via a deed-in-lieu of foreclosure of a commercial property pledged to a loan. The property is included in other real estate owned. The remaining balance is reported as a loan modified as a TDR. The following table presents by class of loan, information related to the loan modified in a TDR during 2014:

	Loans modified as TDR's For the year ended December 31, 2014
Class of Loan	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
			(Dollars in Thousands)
Construction loans:
Residential		—	$	—	$	—
Land acquisition, development & commercial		—		—		—
Real estate loans:		—		—		—
Residential		—		—		—
Commercial		1		1,932		632
Commercial, industrial, agricultural		—		—		—
Equity lines		—		—		—
Consumer		—		—		—
Total Loans		1	$	1,932	$	632

For the year ended December 31, 2013, there were no loans modified in a TDR.

Management considers troubled debt restructurings and subsequent defaults in restructured loans in the determination of the adequacy of the Company’s allowance for loan losses.  When identified as a TDR, a loan is evaluated for potential loss based on the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s observable market price, or the estimated fair value of the collateral, less any selling costs if the loan is collateral dependent.  Loans identified as TDR’s frequently are on non-accrual status at the time of the restructuring and, in some cases, partial charge-offs may have already been taken against the loan and a specific allowance may have already been established for the loan.  As a result of any modification as a TDR, the specific reserve associated with the loan may be increased.  Additionally, loans modified in a TDR are closely monitored for delinquency as an early indicator of possible future defaults.  If loans modified in a TDR subsequently default, the Company evaluates the loan for possible further impairment.  As a result, any specific allowance may be increased, adjustments may be made in the allocation of the total allowance balance, or partial charge-offs may be taken to further write-down the carrying value of the loan.  Management exercises significant judgment in developing estimates for potential losses associated with TDRs.

39

Note 4. Allowance for Loan Losses

The following table presents, as of December 31, 2014, the total loans and loans by impairment methodology (individually evaluated for impairment or collectively evaluated for impairment) and the total allowance for loan losses, the allowance by impairment methodology (individually evaluated for impairment or collectively evaluated for impairment).

December 31, 2014	Allowance for loan losses																Loans
Class of Loan (Dollars in Thousands)	Beginning balance		Charge- offs			Recoveries		Provisions			Ending balance		Ending balance: individually evaluated for impairment		Ending balance: collectively evaluated for impairment		Ending balance		Ending balance: individually evaluated for impairment		Ending balance: collectively evaluated for impairment
Construction loans:
Residential	$	156	$	−		$	−	$	(113	)	$	43	$	−	$	43	$	10,019	$	−	$	10,019
Land acquisition, development & commercial		872		−			−		(419	)		453		−		453		23,686		−		23,686
Real estate:
Residential		867		(233	)		34		165			833		−		833		86,269		525		85,744
Commercial		1,008		−			−		4			1,012		141		871		135,070		7,648		127,422
Commercial, industrial & agricultural		327		(55	)		−		47			319		−		319		44,807		−		44,807
Equity lines		385		(136	)		37		137			423		−		423		24,330		−		24,330
Consumer		63		(40	)		4		38			65		−		65		7,498		−		7,498
Unallocated		43		−			−		141			184		−		184		−		−		−
Total	$	3,721	$	(464	)	$	75	$	−		$	3,332	$	141	$	3,191	$	331,679	$	8,173	$	323,506

The following table presents, as of December 31, 2013, the total loans and loans by impairment methodology (individually evaluated for impairment or collectively evaluated for impairment) and the total allowance for loan losses, the allowance by impairment methodology (individually evaluated for impairment or collectively evaluated for impairment).

December 31, 2013	Allowance for loan losses																Loans
Class of Loan (Dollars in Thousands)	Beginning balance		Charge- offs			Recoveries		Provisions			Ending balance		Ending balance: individually evaluated for impairment		Ending balance: collectively evaluated for impairment		Ending balance		Ending balance: individually evaluated for impairment		Ending balance: collectively evaluated for impairment
Construction loans:
Residential	$	117	$	-		$	-	$	39		$	156	$	-	$	156	$	6,768	$	-	$	6,768
Land acquisition, development & commercial		811		-			-		61			872		-		872		20,904		1,550		19,354
Real estate:
Residential		725		(446	)		81		507			867		163		704		72,934		850		72,084
Commercial		1,054		(88	)		298		(256	)		1,008		-		1,008		126,100		9,266		116,834
Commercial, industrial & agricultural		459		(27	)		-		(105	)		327		10		317		42,155		324		41,831
Equity lines		386		-			2		(3	)		385		-		385		20,374		-		20,374
Consumer		145		(14	)		-		(68	)		63		-		63		8,698		-		8,698
Unallocated		93		-			-		(50	)		43		-		43		-		-		-
Total	$	3,790	$	(575	)	$	381	$	125		$	3,721	$	173	$	3,548	$	297,933	$	11,990	$	285,943

40

Loans by credit quality indicators as of December 31, 2014 were as follows:

(Dollars In Thousands)	Pass		Special Mention		Substandard Accruing		Substandard Nonaccrual		Total
Construction loans:
Residential	$	10,019	$	−	$	−	$	−	$	10,019
Land acquisition, development & commercial		23,672		−		14		−		23,686
Real estate loans:
Residential		81,409		4,335		50		475		86,269
Commercial		131,087		2,302		923		758		135,070
Commercial, industrial, agricultural		44,248		521		38		−		44,807
Equity lines		24,330		−		−		−		24,330
Consumer		7,475		−		2		21		7,498
Total Loans	$	322,240	$	7,158	$	1,027	$	1,254	$	331,679

At December 31, 2014, the Company does not have any loans classified as Doubtful or Loss.

Loans by credit quality indicators as of December 31, 2013 were as follows:

(Dollars In Thousands)	Pass		Special Mention		Substandard Accruing		Substandard Nonaccrual		Total
Construction loans:
Residential	$	6,768	$	–	$	–	$	–	$	6,768
Land acquisition, development & commercial		19,336		–		1,568		–		20,904
Real estate loans:
Residential		67,548		4,455		223		708		72,934
Commercial		121,970		510		3,620		–		126,100
Commercial, industrial, agricultural		41,051		96		815		193		42,155
Equity lines		20,316		–		–		58		20,374
Consumer		8,668		–		–		30		8,698
Total Loans	$	285,657	$	5,061	$	6,226	$	989	$	297,933

At December 31, 2013, the Company does not have any loans classified as Doubtful or Loss.

Note 5. Foreclosed Properties

Changes in foreclosed properties for 2014 were as follows:

(Dollars In Thousands)	Other Real Estate Owned			Valuation Allowance			Net
Balance at the beginning of the year	$	9,078		$	(935	)	$	8,143
Additions		1,520			—			1,520
Writedowns		—			—			—
Sales		(1,618	)		422			(1,196	)
Transfer to fixed assets		(1,572	)		91			(1,481	)
Balance at the end of the year	$	7,408		$	(422	)	$	6,986

Changes in foreclosed properties for 2013 were as follows:

(Dollars In Thousands)	Other Real Estate Owned			Valuation Allowance			Net
Balance at the beginning of the year	$	9,513		$	(575	)	$	8,938
Additions		1,613			—			1,613
Writedowns		—			(608	)		(608	)
Sales		(2,048	)		248			(1,800	)
Balance at the end of the year	$	9,078		$	(935	)	$	8,143

41

The major classifications of other real estate owned in the consolidated balance sheets at December 31, 2014 and December 31, 2013 were as follows:

(Dollars In Thousands)	2014		2013
Residential lots	$	3,023	$	3,472
Residential development		423		—
Commercial lots		1,076		1,076
Commercial buildings		2,464		3,595
Total Other Real Estate Owned	$	6,986	$	8,143

Other real estate owned related expenses in the consolidated statements of income for the years ended December 31, 2014 and December 31, 2013 include:

(Dollars In Thousands)	2014			2013
Net gain on sales	$	(10	)	$	(26	)
Provision for unrealized losses		—			608
Operating expenses		224			250
Total Other Real Estate Owned	$	214		$	832

Note 6. Property and Equipment

The major components of property and equipment at December 31, 2014 and 2013 were as follows:

(Dollars In Thousands)	2014		2013
Land	$	4,656	$	4,257
Buildings and improvements		8,720		6,061
Leasehold improvements		2,149		2,129
Furniture and equipment		3,074		2,731
Software		487		458
Construction in process		49		97
Property and equipment, total		19,135		15,733
Less accumulated depreciation and amortization		4,235		3,578
Property and equipment, net	$	14,900	$	12,155

Depreciation and amortization expense was $657 thousand and $539 thousand for the years ended December 31, 2014 and 2013, respectively.

Leases

The Company currently leases its main office under a non-cancelable lease agreement. The lease expires December 15, 2015 and provides an option to extend the lease for two additional five-year periods. Terms of the agreement provide for an annual rental increase based on a published inflation index, not to exceed three percent over the rent for the immediately preceding lease year. The Company currently leases a branch location under a non-cancelable lease agreement. Terms of the agreement provide for an annual rental increase based on a published inflation index, not to exceed three percent over the rent for the immediately preceding lease year. The lease expires on July 31, 2016 and provides an option to extend the lease for two additional five-year periods. The Company currently leases space to operate an automated teller machine under a non-cancelable lease agreement. The lease expires April 1, 2021 and provides an option to extend the lease for two additional five-year periods. Terms of the agreement provide for an annual rental increase of three percent over the rent for the immediately preceding lease year.

The current minimum annual lease payments under non-cancelable leases in effect at December 31, 2014 were as follows:

(Dollars In Thousands)	2014
2015	$	268
2016		67
2017		11
2018		12
2019		12
Thereafter		15
Total	$	385

Rent expense for the years ended December 31, 2014 and 2013 was $322 thousand and $324 thousand, respectively; and is included in occupancy and equipment expense on the Company’s consolidated statements of income.

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Note 7. Deposits

The aggregate amount of time deposits in denominations of over two hundred and fifty thousand dollars at December 31, 2014 and 2013 were $9.4 million and $7.6 million, respectively.

At December 31, 2014, the scheduled maturities of time deposits are as follows:

(Dollars In Thousands)	2014
2015	$	59,892
2016		32,780
2017		27,400
2018		9,626
2019		3,638
Total	$	133,336

The Company obtains certain deposits through the efforts of third-party deposit brokers. At December 31, 2014 and 2013, brokered deposits totaled $40.2 million and $37.0 million, respectively, and were included in interest-bearing deposits on the consolidated balance sheets. There were no deposit relationships over 5% of total deposits at the end of 2014.

Note 8. Short Term Borrowings

Short term borrowings consist of the following at December 31, 2014 and 2013:

(Dollars In Thousands)	2014			2013
Securities sold under agreements to repurchase	$	185		$	258
Warehouse line of credit		237			—
	$	422		$	258
Weighted average interest rate at December 31		1.93	%		0.51	%

Securities sold under agreements to repurchase, secured transactions with customers and generally mature the day following the day sold. Short-term borrowings may also include federal funds purchased, which are unsecured overnight borrowings from other financial institutions. The warehouse line of credit is a short term revolving credit facility used to fund mortgage loans originations until the underlying loan is sold. The amount borrowed on the warehouse line of credit was $237 thousand at year end 2014 at a rate of LIBOR plus 2.25% with a LIBOR floor of 1.00%. The Company also has an $8 million guidance line of credit to borrow against securities. The limit on this line is 15% of assets. In addition, the Company had $18.5 million of fed funds lines of credit available year end 2014. At December 31, 2014, there were no advances on the fed funds or guidance lines. At year-end 2013, there was no balance outstanding on any line of credit.

Note 9. Federal Home Loan Bank Borrowings

The Company has outstanding debt with the Federal Home Loan Bank of Atlanta in the amount of $20.0 million and $22.0 million as of December 31, 2014 and 2013, respectively. The Federal Home Loan Bank debt at December 31, 2014 is comprised of one convertible advance in the amount of $4 million, and three fixed rate advances totaling $16 million. Beginning on March 7, 2011 the Federal Home Loan Bank of Atlanta had the option to convert the convertible advance and on any quarterly interest payment date thereafter, with at least two business days’ notice. If called, the advance will be converted into a 3-month London Interbank Offered Rate (LIBOR) based adjustable rate credit. 

At December 31, 2014 and 2013, borrowings from the Federal Home Loan Bank of Atlanta were as follows:

(Dollars In Thousands)
Advance Date	Maturity Date	Conversion Date	Current Rate		2014		2013
September 7, 2007	September 7, 2017	Quarterly		3.690 %	$	4,000	$	4,000
July 27, 2011	July 28, 2014			2.190 %		–		3,000
April 13, 2012	April 13, 2016			1.265 %		12,000		12,000
December 11, 2013	December 11, 2014			0.355 %		–		3,000
June 17, 2014	June 17, 2015			0.260 %		2,000		–
June 17, 2014	June 17, 2016			0.670 %		2,000		–
					$	20,000	$	22,000

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The Company had collateral pledged on these borrowings at December 31, 2014 including real estate loans totaling $34.1 million, investment securities totaling $1.9 million, and Federal Home Loan Bank stock with a book value of $1.3 million.

Note 10. Fair Value Measurements

The Company uses a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. The three levels of the fair value hierarchy based on these two types of inputs are as follows:

Level 1 - Valuation is based on quoted prices in active markets for identical assets and liabilities.

Level 2 - Valuation is based on observable inputs including quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets and liabilities in less active markets, and model-based valuation techniques for which significant assumptions can be derived primarily from or corroborated by observable data in the market.

Level 3 - Valuation is based on model-based techniques that use one or more significant inputs or assumptions that are unobservable in the market.

The following describes the valuation techniques used by the Company to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the consolidated financial statements:

Securities available for sale:Securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that consider observable market data (Level 2).

Bank owned life insurance: The carrying value amounts of bank owned life insurance approximate fair value.

The following tables present the balances of financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2014 and 2013:

(Dollars In Thousands)			Carrying value at December 31, 2014
Description	Balance as of December 31, 2014		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
U.S. Government agency securities	$	26,965	$	–	$	26,965	$	–
Mortgaged-backed securities		9,739		–		9,739		–
Municipal securities		17,899		–		17,899		–
Bank owned life insurance		3,622		–		3,622		–

(Dollars In Thousands)			Carrying value at December 31, 2013
Description	Balance as of December 31, 2013		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
U.S. Government agency securities	$	26,284	$	–	$	26,284	$	–
Mortgaged-backed securities		15,361		–		15,361		–
Municipal securities		16,277		–		16,277		–
Bank owned life insurance		3,518		–		3,518		–

Certain assets are measured at fair value on a nonrecurring basis in accordance with generally accepted accounting principles (GAAP). Adjustments to the fair value of these assets usually result from the application of lower-of-cost-or-market accounting or write-downs of individual assets.

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The following describes the valuation techniques used by the Company to measure certain assets recorded at fair value on a nonrecurring basis in the consolidated financial statements:

Impaired Loans: The Company does not record loans at fair value on a recurring basis. However, from time to time a loan is considered impaired and a specific reserve is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. Once a loan is identified as individually impaired, management measures the extent of any loss. The fair value of impaired loans is estimated using one of several methods, including collateral value, market value of similar debt, enterprise value, liquidation value, and discounted cash flow. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceed the recorded investment in such loans. Impaired loans where an allowance is established based on the fair value of collateral require classification in the fair value hierarchy. If carried at market price based on appraised value using observable market data, it is recorded as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraisal value and there is no observable market price, the Company records the impaired loan as nonrecurring Level 3.

Loans held for sale: The carrying value of these loans approximates the fair value. These loans close in the name of the bank’s joint venture subsidiary HomeTown Residential Mortgage, LLC, but are generally sold within a two-week period.

Other Real Estate Owned (OREO): The carrying amount of real estate owned by the Company resulting from foreclosures is estimated at the lesser of cost or the fair value of the real estate based on an observable market price or a current appraised value less selling costs. If carried at market price based on appraised value using observable market data, it is recorded as nonrecurring Level 2. When an appraised value is not available or is not current, or management determines the fair value of the real estate is further impaired below the appraised value or there is no observable market price, the Company records the real estate as nonrecurring Level 3.

The following table summarizes the Company’s assets that were measured at fair value on a nonrecurring basis as of December 31, 2014 and 2013.

(Dollars In Thousands)			Carrying value at December 31, 2014
Description	Balance as of December 31, 2014		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Impaired loans, net of valuation allowance	$	–	$	–	$	–	$	–
Loans held for sale		242		–		242		–
Other real estate owned		6,986		–		3,255		3,731

(Dollars In Thousands)			Carrying value at December 31, 2013
Description	Balance as of December 31, 2013		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Impaired loans, net of valuation allowance	$	306	$	–	$	–	$	306
Other real estate owned		8,143		–		3,745		4,398

At December 31, 2014 and December 31, 2013, the Company did not have any liabilities measured at fair value on a nonrecurring basis.

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The following table displays quantitative information about Level 3 Fair Value Measurements for December 31, 2014:

(Dollars In Thousands)	Quantitative information about Level 3 Fair Value Measurements for December 31, 2014
Assets	Fair Value		Valuation Technique(s)	Unobservable input	Range (Weighted Average)
Impaired loans	$	–	Discounted appraised value	Selling cost		6	%	-	6	%	(6%)
				Discount for lack of marketability and age of appraisal		94	%	-	94	%	(94%)
Other real estate owned	$	1,458	Discounted appraised value	Selling cost		6	%	-	6	%	(6%)
				Discount for lack of marketability and age		4	%	-	4	%	(4%)
	$	2,273	Internal evaluations	Internal evaluations		0	%	-	33	%	(11%)

The following table displays quantitative information about Level 3 Fair Value Measurements for December 31, 2013:

(Dollars In Thousands)	Quantitative information about Level 3 Fair Value Measurements for December 31, 2013
Assets	Fair Value		Valuation Technique(s)	Unobservable input	Range (Weighted Average)
Impaired loans	$	306	Discounted appraised value	Selling cost		10	%	-	10	%	(10%)
				Discount for lack of marketability and age of appraisal		32	%	-	32	%	(32%)
Other real estate owned	$	1,458	Discounted appraised value	Selling cost		0	%	-	6	%	(5%)
				Discount for lack of marketability and age		0	%	-	25	%	(9%)
	$	2,940	Internal evaluations	Internal evaluations		10	%	-	10	%	(10%)

The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments:

Cash and due from banks: The carrying amounts reported in the consolidated balance sheet for cash on hand and amounts due from correspondent banks approximate their fair values. The fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates of deposit to a schedule of contractual maturities on such time deposits.

Federal funds sold: Federal funds sold consist of overnight loans to other financial institutions and mature within one to three days. At December 31, 2014 and 2013, management believes the carrying value of federal funds sold approximates estimated market value.

Securities available for sale: Securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that consider observable market data (Level 2).

Restricted equity securities: For these restricted equity securities, the carrying amount is a reasonable estimate of fair value based on the redemption provisions of the related securities.

Loans held for sale: The carrying value of these loans approximates the fair value. These loans close in the name of the bank’s joint venture subsidiary HomeTown Residential Mortgage, LLC, but are generally sold within a two-week period.

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

Bank owned life insurance: The cash values of these policies are estimates using information provided by insurance carriers. The policies are carried at their cash surrender value, which approximates fair value.

Deposit liabilities: The fair values disclosed for demand and savings deposits are, by definition, equal to the amount payable on demand at the reporting date. The fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates of deposit to a schedule of contractual maturities on such time deposits.

46

Short term borrowings:The carrying amounts of federal funds purchased, borrowings under repurchase agreements, and other short-term borrowings maturing within 30 days approximate their fair values.

FHLB borrowings: The fair values for long term borrowings are estimated using a discounted cash flow calculation that applies interest rates currently being offered on long term borrowings to the contractual maturities on such long term borrowings.

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

Off-balance sheet financial instruments: The fair values of commitments to extend credit and standby letters of credit are estimated using the fees currently charged to enter into similar agreements. At December 31, 2014 and 2013, the fair value of loan commitments and standby letters of credit were deemed to be immaterial.

The carrying amounts and approximate fair values of the Company's financial instruments are as follows at December 31, 2014:

(Dollars In Thousands)			Fair value at December 31, 2014
Description	Carrying value as of December 31, 2014		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Approximate Fair Values
Financial assets
Cash and due from banks	$	13,795	$	11,794	$	2,012	$	–	$	13,806
Federal funds sold		649		649		–		–		649
Securities available-for-sale		54,603		–		54,603		–		54,603
Restricted equity securities		2,476		–		2,476		–		2,476
Loans held for sale		242		–		242		–		242
Loans, net		328,347		–		–		332,167		332,167
Bank owned life insurance		3,622		–		3,622		–		3,622
Accrued income		1,924		–		1,924		–		1,924
Financial liabilities
Total deposits		362,595		–		350,418		–		350,418
Short term borrowings		422		–		422		–		422
FHLB borrowings		20,000		–		20,356		–		20,356
Accrued interest payable		272		–		272		–		272

 The carrying amounts and approximate fair values of the Company's financial instruments are as follows at December 31, 2013:

(Dollars In Thousands)			Fair value at December 31, 2013
Description	Carrying value as of December 31, 2013		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Approximate Fair Values
Financial assets
Cash and due from banks	$	19,537	$	17,537	$	2,004	$	–	$	19,541
Federal funds sold		738		738		–		–		738
Securities available-for-sale		57,922		–		57,922		–		57,922
Restricted equity securities		2,564		–		2,564		–		2,564
Loans, net		294,212		–		–		293,135		293,135
Bank owned life insurance		3,518		–		3,518		–		3,518
Accrued income		1,877		–		1,877		–		1,877
Financial liabilities
Total deposits		339,770		–		327,514		–		327,514
Short term borrowings		258		–		258		–		258
FHLB borrowings		22,000		–		22,560		–		22,560
Accrued interest payable		286		–		286		–		286

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Note 11. Earnings per Common Share

The following tables show the weighted average number of shares used in computing earnings per common share and the effect on weighted average number of shares of diluted potential common stock. Potential dilutive common stock had no effect on income available to common shareholders.

	For the Years Ended December 31,
	2014							2013
Dollars In Thousands, except share and per share data	Weighted Average Common SharesOutstanding		Net Income Available to Common Shareholders		Per Share Amount			Weighted Average Common SharesOutstanding		Net Income Available to Common Shareholders		Per Share Amount
Earnings per common share, basic		3,284,870	$	2,575	$	0.78			3,269,063	$	1,741	$	0.53
Series C Preferred Stock Dividends				840							390
Effect of dilutive securities:
Convertible preferred stock		2,240,000		−		(0.16	)		1,147,616		−		(0.05	)
Earnings per common share, diluted		5,524,870	$	3,415	$	0.62			4,416,679	$	2,131	$	0.48

At December 31, 2014 and 2013, stock options to purchase 549,560 and 391,710 shares, respectively, were outstanding. These options were not included in the calculation of diluted weighted average shares as their impact would be antidilutive. Non vested restricted shares were included in weighted average common shares outstanding for computing basic earnings per share, as the holder has voting rights and would share in a stock dividend during the vesting period.

Note 12. Stock Based Compensation

The Company recorded stock based compensation expense of $58 thousand and $36 thousand for the years ended December 31, 2014 and 2013, respectively.

The Company has a 2005 Stock Option Plan (the Plan) pursuant to which the Board of Directors may grant stock options to directors, officers and employees. Under the fair value recognition provisions of relevant accounting guidance, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense on a straight-line basis over the requisite service period, which is the vesting period.

The Company uses the Black-Scholes option pricing model to determine the fair value of stock options. The fair value of the stock based payment awards is affected by the price of our stock and a number of financial assumptions and variables. These variables include the risk free interest rate, expected dividend rate, expected stock price volatility and the expected life of the options.  On December 18, 2014, the Board of Directors granted 165 thousand shares which will vest over a five year period. Financial assumptions and variables used to determine the fair value of these stock options are; risk free interest rate of 2.01%, an expected term of 7.5 years, an expected stock price volatility of 26% and a dividend rate of 0%. Compensation expense will be charged to income ratably over the vesting period and was $2 thousand in 2014. As of December 31, 2014 there was $376 thousand of total unrecognized compensation cost related to nonvested stock options granted under the Plan. The cost is expected to be recognized over a period of five years. No options were granted in 2013. All previously issued options were fully vested at the end of 2012, resulting in no compensation expense being recorded in 2013.

A summary of option activity under the 2005 stock option plan during the year ended December 31, 2014 is as follows:

	Options Outstanding			Weighted Average Exercise Price		Aggregate Intrinsic Value(1)		Weighted Average Contractual Term (years)
Balance at December 31, 2013		391,710		$	9.34
Granted		165,000			6.90
Exercised		–			–
Forfeited		(7,150	)		9.09
Balance at December 31, 2014		549,560		$	8.61	$	–		4.08
Exercisable at December 31, 2014		549,560		$	8.61	$	–		4.08

(1) The aggregate intrinsic value of a stock option in the table above represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holders had all option holders exercised their options on December 31, 2014.

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In 2009, the Board of Directors authorized 132,000 shares of common stock for issuance under the Restricted Stock Plan. The plan provides for restricted stock awards to key employees. Restricted shares awarded to employees generally vest over a five year period and compensation expense is charged to income ratably over the vesting period and was $56 thousand in 2014 and $36 thousand in 2013. Compensation is accounted for using the fair market value of the Company’s common stock on the date the restricted shares are awarded. The weighted-average grant date fair value of restricted stock granted in 2014 was $6.25 compared to $5.98 in 2013.  The Company granted 17,268 and 7,781 shares of restricted stock under the plan in 2014 and 2013, respectively.

As of December 31, 2014, there was $215 thousand of total unrecognized compensation cost related to restricted stock granted under the Plan. The cost is expected to be recognized through 2019. A summary of the activity for restricted stock awards for the periods indicated is presented below:

	2014					2013
	Shares			Weighted-Average Grant Date Fair Value		Shares			Weighted-Average Grant Date Fair Value
Nonvested at beginning of year		27,846		$	5.05		25,896		$	4.76
Granted		17,268			6.25		7,781			5.98
Vested		(7,387	)		5.23		(5,831	)		5.03
Cancelled		–			–		–			–
Nonvested at end of year		37,727		$	5.56		27,846		$	5.05

Note 13. Salary Continuation Plan

The Company has a Salary Continuation Plan for certain key officers. The plan provides the participating officers with supplemental retirement income. The Supplemental Executive Retirement Plan (the “SERP”) provides lifetime payments equal to 20% of a participant’s average annual base salary for the five years immediately prior to retirement. There is an incentive formula with an additional benefit of 20% of a participant’s average annual base salary for the five years immediately prior to retirement if performance targets set by the Board of Directors are met. The SERP contains provisions for disability and survivor benefits, a benefits vesting schedule based on age attained and automatic full vesting in the event of a change in control of the Company. Deferred compensation accrued under the SERP totaled $129 thousand and $24 thousand at the end of 2014 and 2013, respectively. The funding mechanism for the plan is Bank Owned Life Insurance policies on the lives of the participants.

Note 14. Employee Benefit Plan

The Company adopted a profit sharing plan pursuant to Section 401(k) of the Internal Revenue Code. The plan covers substantially all employees. Participants may contribute a percentage of compensation, subject to a maximum allowed under the Code. The Company makes non-discretionary matching contributions of 100% of the employee’s deferral up to 3% of compensation and matches 50% of the employee’s next 3% deferral. In addition, the Company may make additional contributions at the discretion of the Board of Directors. The Company’s matching contributions were $209 thousand and $180 thousand for the years ended December 31, 2014 and 2013, respectively.

Note 15. Income Taxes

The Company files income tax returns in the U.S. federal jurisdiction and the Commonwealth of Virginia. With few exceptions, the Company is no longer subject to U.S. federal, state and local income tax examinations by tax authorities for years prior to 2011. 

49

The current and deferred components of income tax expense for the periods ended December 31, 2014 and 2013 are as follows:

(Dollars In Thousands)	2014		2013
Current	$	731	$	68
Deferred		856		1,272
Income tax expense	$	1,587	$	1,340

Rate Reconciliation

Total income tax expense differed from the “expected” amount computed by applying the U.S. Federal income tax rate of 34 percent to income before income taxes as a result of the following.

(Dollars In Thousands)	2014			2013
Tax at statutory federal rate	$	1,701		$	1,384
Tax-exempt interest income		(136	)		(96	)
Cash surrender value of life insurance		(35	)		26
Qualified restricted stock awards		19			26
Other		38			–
Income tax expense	$	1,587		$	1,340

Deferred Income Tax Analysis

The significant components of net deferred taxes at December 31, 2014 and 2013 are summarized as follows:

(Dollars In Thousands)	2014			2013
Deferred tax assets
Net operating losses	$	—		$	302
Alternative minimum tax		—			98
Pre-opening expenses		94			110
Allowance for loan losses		513			675
Stock-based compensation		236			236
Deferred compensation		44			8
Other real estate expenses		175			290
Unrealized loss on securities available for sale		—			308
Nonaccrual loan interest		14			17
Deferred tax asset		1,076			2,044
Deferred tax liabilities
Depreciation		360			297
Unrealized gain on securities available for sale		235			—
Accretion of bond discount		—			1
Deferred loan fees		721			587
Deferred tax liability		1,316			885
Net deferred tax (liability) asset	$	(240	)	$	1,159

Note 16. Commitments and Contingencies

Litigation

On June 27, 2014, HomeTrust Bank of Ashville, N.C., filed a lawsuit action against HomeTown Bank in the United States District Court for the Eastern District of Virginia seeking a declaratory judgment that their service mark is valid and that they can use it anywhere in the United States.

On July 18, 2014, HomeTown Bank, filed a lawsuit action against HomeTrust Bank of Ashville, N.C. in the United States District Court for the Western District of Virginia seeking injunctive relief and damages for unfair competition and cybersquatting.

HomeTown Bankshares Corporation (the “Company”), announced on August 19, 2014 the entry of its wholly owned subsidiary Roanoke, Virginia based HomeTown Bank into an Agreement with HomeTrust Bank, a Federal Saving Bank headquartered in Asheville, North Carolina whereby the two Companies agreed to dismiss the actions each had against the other in the United States District Courts for the Eastern and Western Districts of Virginia. Each party is responsible for their own attorneys’ fees and litigation expenses. The Company incurred $126 thousand in legal fees defending their position and $31 thousand in additional marketing expense.

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In the normal course of business, the Company becomes involved in litigation arising from the banking, financial and other activities it conducts. Management, after consultation with legal counsel, does not anticipate that the ultimate liability, if any, arising from these matters will have a material effect on the Company’s financial condition, operating results or liquidity.

Financial Instruments with Off-Balance-Sheet Risk

The Company is party to credit related 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 extend credit and standby letters of credit. These instruments involve, to varying degrees, credit risk in excess of the amount recognized in the consolidated balance sheet.

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

A summary of the Company’s commitments at December 31, 2014 and 2013 is as follows (dollars in thousands):

(Dollars In Thousands)	2014		2013
Commitments to extend credit	$	21,137	$	19,164
Unfunded commitments under lines of credit		55,280		41,056
Standby letters of credit		5,563		4,040

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. 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 party. Collateral held varies, but may include accounts receivable, inventory, property and equipment, residential real estate and income-producing commercial properties.

Unfunded commitments under commercial lines-of-credit, revolving credit lines and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. These lines-of-credit may or may not be drawn upon to the total extent to which the Company is committed.

Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required in instances which the Company deems necessary.

The Company is required to maintain certain required reserve balances with the Federal Reserve Bank. At December 31, 2014 and 2013, these reserve balances amounted to $3.7 million and $3.3 million, respectively.

The Company from time to time may have cash and cash equivalents on deposit with financial institutions that exceed federally insured limits. Balances in excess of FDIC insured amounts totaled $4,082,000 and $6,846,000 at December 31, 2014 and 2013, respectively.

Purchase Obligation

On November 1, the Company entered into a marketing agreement involving naming, advertising, and sponsorship rights. The agreement is for three years, with an option for an additional two years. The Company expensed $9.5 thousand in 2014 related to this agreement; and is obligated to pay $47.8 thousand in 2015, $52.8 thousand in 2016, and $47.9 thousand in 2017.

Note 17. Regulatory Restrictions

Dividends

The Company, as a Virginia banking corporation, may pay dividends only out of its retained earnings. However, regulatory authorities may limit payment of dividends by any company when it is determined that such a limitation is in the public interest and is necessary to ensure financial soundness of the Company. At December 31, 2014 there were no retained earnings available from which to pay dividends.

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Capital Requirements

In July 2013, the FRB issued revised final rules that make technical changes to its market risk capital rules to align it with the Basel III regulatory capital framework and meet certain requirements of the Dodd-Frank Act. The final new capital rules require the Company to comply with the following new minimum capital ratios, effective January 1, 2015: (1) a new common equity Tier 1 capital ratio of 4.5% of risk-weighted assets; (2) a Tier 1 capital ratio of 6% of risk-weighted assets (increased from the current requirement of 4%); (3) a total capital ratio of 8% of risk-weighted assets (unchanged from current requirement); and, (4) a leverage ratio of 4% of total assets.  Had the new minimum capital ratios described above been effective as of December 31, 2014, based on management’s interpretation and understanding of the new rules, the Company would have remained “well capitalized” as of such date. The rule introduces the requirement of a new 2.5% capital conservation buffer, to be phased in beginning on January 1, 2016, and ending on January 1, 2019. Banking organizations without other supervisory issues that wish to distribute capital freely, such as in the payment of dividends for example, must maintain the new capital conservation buffer.

The Company (on a consolidated basis) and the Bank are subject to various regulatory capital requirements administered by federal and state 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 Company’s and the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Prompt corrective action provisions are not applicable to bank holding companies.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital to risk-weighted assets, and of Tier I capital to average assets, as all those terms are defined in the applicable regulations. As of December 31, 2014, management believes the Company and the Bank met all capital adequacy requirements to which they are subject.

As of December 31, 2014, the most recent notification from the Federal Reserve Bank, 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 I risk-based, and Tier I leverage ratios as set forth in the following table. There are no conditions or events since the notification that management believes have changed the Bank’s category.

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

December 31, 2014	Actual					Minimum Capital Requirement					Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions
(in thousands except for percentages)	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total Capital (to Risk-Weighted Assets)
Consolidated	$	46,102		13.1	%	$	28,125		8.0	%	N/A		N/A
HomeTown Bank	$	45,695		13.0	%	$	28,125		8.0	%	$	35,157		10.0	%
Tier I Capital (to Risk-Weighted Assets)
Consolidated	$	42,770		12.2	%	$	14,063		4.0	%	N/A		N/A
HomeTown Bank	$	42,363		12.0	%	$	14,063		4.0	%	$	21,094		6.0	%
Tier I Capital (to Average Assets)
Consolidated	$	42,770		10.1	%	$	16,952		4.0	%	N/A		N/A
HomeTown Bank	$	42,363		10.0	%	$	16952		4.0	%	$	21,190		5.0	%

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December 31, 2013	Actual					Minimum Capital Requirement					Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions
(in thousands except for percentages)	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total Capital (to Risk-Weighted Assets)
Consolidated	$	43,858		14.0	%	$	25,077		8.0	%	N/A		N/A
HomeTown Bank	$	42,516		13.6	%	$	25,077		8.0	%	$	31,346		10.0	%
Tier I Capital (to Risk-Weighted Assets)
Consolidated	$	40,137		12.8	%	$	12,538		4.0	%	N/A		N/A
HomeTown Bank	$	38,795		12.4	%	$	12,538		4.0	%	$	18,808		6.0	%
Tier I Capital (to Average Assets)
Consolidated	$	40,137		10.2	%	$	15,719		4.0	%	N/A		N/A
HomeTown Bank	$	38,795		9.9	%	$	15,719		4.0	%	$	19,648		5.0	%

Note 18. Transactions with Related Parties

The Company has entered into transactions with its directors, significant shareholders and their affiliates (related parties). Such transactions were made in the ordinary course of business on substantially the same terms and conditions, including interest rates and collateral, as those prevailing at the same time for comparable transactions with other customers, and did not, in the opinion of management, involve more than normal credit risk or present other unfavorable features.

Aggregate loan transactions with related parties were as follows:

(Dollars In Thousands)	2014			2013
Balance, beginning	$	8,280		$	8,140
New loans		3,859			5,182
Repayments		(4,091	)		(5,042	)
Balance, ending	$	8,048		$	8,280

Aggregate deposit balances with related parties at December 31, 2014 and 2013 were $6,354,000 and $5,994,000, respectively.

Note 19. Capital Transactions

The Department of the Treasury created the Troubled Asset Relief Program in 2008 to make capital available to certain U.S. financial institutions through the Capital Purchase Program. Under this program, the Treasury would purchase preferred stock with an initial cumulative dividend rate of 5% and received warrants to purchase additional preferred stock with a cumulative dividend rate of 9%. Participating financial institutions were required to adopt the Treasury’s standards for executive compensation and corporate governance for the period during which the Treasury holds equity issued under the TARP Capital Purchase Program.

On September 18, 2009, as part of the Capital Purchase Program, the Company entered into a Letter Agreement and Securities Purchase Agreement with the Treasury, pursuant to which the Company sold $10 million of its Fixed Rate Cumulative Perpetual Preferred Stock, Series A, and a warrant to purchase $374 thousand of its Fixed Rate Cumulative Perpetual Preferred Stock, Series B. The Warrant was exercised immediately, and the discount accreted until the shares were redeemed in 2013.

The Preferred Stock qualified as Tier 1 capital. The cumulative dividend rate for Series A was 5% per annum for the first five years, and thereafter at a rate of 9% per annum. The Series B paid cumulative dividends at a rate of 9% per annum. For the year through the September 23, 2013 redemption of the Series A and B preferred stock, the Company paid a total of $457 thousand in dividends.

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On June 28, 2013 HomeTown Bankshares Corporation completed a $14,000,000 private placement of its convertible preferred stock. Pursuant to the terms of the Private Placement Memorandum, dated April 17, 2013, and amended thereafter, the Company sold 14,000 shares of its 6.0% Series C Non–Cumulative Perpetual Convertible Preferred Stock at a price of $1,000 per share. The convertible preferred stock pays quarterly dividends equivalent to six percent (6.0%) per annum, and is convertible into shares of common stock of the Company based on a conversion price of $6.25 per share, subject to adjustment. The Company paid $840 thousand and $389 thousand in dividends on Series C preferred stock in 2014 and 2013, respectively.

On September 24, 2013, the Company used the net proceeds from this offering to redeem the $10,374,000 of its Fixed Rate Cumulative Perpetual Preferred Stock, Series A and Series B. The remaining proceeds were used to support growth and for general corporate purposes.

Note 20. Reclassifications Out of Other Comprehensive Income

Items not reclassified in their entirety to net income for the years ended December 31, 2014 and 2013 are as follows:

Details about Other Comprehensive Components	Amounts Reclassified from Other Comprehensive Income for the Years Ended December 31,				Affected Line Item in the Statement Where Net Income is Presented
(Dollars In Thousands)	2014		2013
Available for sale securities
Realized gains on sales of securities held for sale during the period	$	128	$	152	Gains on sales of investment securities
Tax expense related to realized gains on securities sold		44		52	Income tax expense
	$	84	$	100	Net income

Note 21. Condensed Parent Company Financial Information

Financial information pertaining only to HomeTown Bankshares Corporation follows. The parent company was formed on September 4, 2009.

CONDENSED BALANCE SHEETS

Dollars In Thousands	December 31, 2014		December 31, 2013
Assets
Cash and due from banks	$	408	$	1,352
Investment in bank subsidiary		42,817		38,195
Total assets	$	43,225	$	39,547
Liabilities and Stockholders’ Equity
Total liabilities	$	—	$	9
Stockholders’ equity:
Total stockholders’ equity		43,225		39,538
Total liabilities and stockholders’ equity	$	43,225	$	39,547

CONDENSED STATEMENTS OF INCOME

Dollars In Thousands	For the year ended December 31, 2014			For the year ended December 31, 2013
Expenses	$	(143	)	$	(145	)
Net loss before income taxes		(143	)		(145	)
Income tax benefit		48			49
Net loss before equity in undistributed net income of subsidiary		(95	)		(96	)
Undistributed net income of subsidiary		3,510			2,825
Net Income	$	3,415		$	2,729

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CONDENSED STATEMENTS OF CASH FLOWS

Dollars In Thousands	For the year ended December 31, 2014			For the year ended December 31, 2013
Cash flows from operating activities:
Net income	$	3,415		$	2,729
Equity in undistributed net income of subsidiary bank		(3,510	)		(2,825	)
Decrease in other assets		—			145
(Decrease) increase in other liabilities		(9	)		9
Net cash flows provided by (used in) operating activities		(104	)		58
Cash flows from investing activities:
Capital contribution to bank subsidiary		—			(1,500	)
Net cash flows used in investing activities		—			(1,500	)
Cash flows from financing activities:
Issuance of preferred stock net of issuance costs		—			13,293
Preferred stock redeemed		—			(10,374	)
Preferred dividend payment		(840	)		(846	)
Net cash flows provided by (used in) financing activities		(840	)		2,073
Net increase (decrease) in cash and cash equivalents		(944	)		631
Cash and cash equivalents, beginning		1,352			721
Cash and cash equivalents, ending	$	408		$	1,352

Note 22. Subsequent Events

On February 5, 2015, the Company’s Board of Directors declared a quarterly cash dividend in the amount of $15.00 per Series C convertible preferred share, payable on March 15, 2015 to preferred shareholders of record February 28, 2015. In preparing these financial statements, the Company has evaluated events and transactions for potential recognition or disclosure through the date of this filing.

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders

HomeTown Bankshares Corporation

Roanoke, Virginia

We have audited the accompanying consolidated balance sheets of HomeTown Bankshares Corporation and subsidiary as of December 31, 2014 and 2013, and the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for the years then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits 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 also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of HomeTown Bankshares Corporation and subsidiary as of December 31, 2014 and 2013, and the results of their operations and their cash flows for the years then ended, in conformity with U.S. generally accepted accounting principles.

/s/ Yount, Hyde & Barbour, P.C.

Yount, Hyde & Barbour, P.C.

Winchester, Virginia

March 31, 2015

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ITEM 9.            CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A.         CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Based upon an evaluation of the effectiveness of disclosure controls and procedures by the Company’s management, including the Company’s Chief Executive Officer (CEO) and Chief Financial Officer (CFO), the CEO and CFO have concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures, as defined under Exchange Act Rule 13a-15(e) and 15d-15(e), were effective to provide reasonable assurance that information required to be disclosed in the Company’s Exchange Act reports is recorded, processed, summarized and reported within the time periods specified by the SEC and is accumulated and communicated to management, including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.

MANAGEMENT’S ANNUAL REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

HomeTown Bankshares Corporation’s management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. HomeTown Bankshares Corporation’s internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.

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

Management assessed the effectiveness of HomeTown Bankshares’ internal control over financial reporting as of December 31, 2014. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework in 2013. Based on this assessment, management believes that, as of December 31, 2014, HomeTown Bankshares’ internal control over financial reporting was effective.

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

Changes in Internal Control over Financial Reporting

There were no changes in the Company’s internal control over financial reporting that occurred during the year ended December 31, 2014 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

ITEM  9B.         OTHER INFORMATION

None.

PART III

ITEM  10.          DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE.

The information required by this item relating to the Company’s directors and nominees is included under the captions “Item 1: Election of Directors” and “Directors Meetings, Committees and Fees, Leadership Structure, Oversight of Risk and Communications with Directors” in the Company’s Proxy Statement for the 2015 Annual Meeting of Stockholders and is incorporated herein by reference.

The information required by this item relating to the Bank’s executive officers is included under the caption “Executive Officers of the Registrant” in Part I of this report.

The information required by this item regarding compliance with Section 16(a) of the Securities Act of 1934 is included under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” in the Company’s Proxy Statement for the 2015 Annual Meeting of Stockholders and is incorporated herein by reference.

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The Company has adopted a Code of Ethics that applies to its directors and executive officers, including its Chief Executive Officer, Chief Financial Officer, principal accounting officer or controller, or persons performing similar functions. The Code of Ethics is posted to the Investor Relations section of the Company’s website at www.hometownbankva.com. In addition, a copy of the Code of Ethics may be obtained without charge by written request to the Company’s corporate secretary.

The information required by this item relating to the Company’s Audit Committee is included under the captions “Item 1: Election of Directors,” “Audit Committee Matters” and “—Audit Committee Report” in the Company’s Proxy Statement for the 2015 Annual Meeting of Stockholders and is incorporated herein by reference.

ITEM 11.            EXECUTIVE COMPENSATION.

The information required to be disclosed in this item 11 is included under the caption “Executive Compensation” of the Company’s Proxy Statement for the 2015 Annual Meeting of Stockholders and is incorporated herein by reference.

ITEM 12.            SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.

The information required to be disclosed in this item 12 is relating to security ownership of certain beneficial owners and management is included under the caption “Common Stock Ownership” in the Company’s Proxy Statement for the 2015 Annual Meeting of Shareholders and is incorporated herein by reference.

Equity Compensation Plans

The following table summarizes information concerning the Company’s equity compensation plans as of December 31, 2014.

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights (1)			Weighted-average exercise price of outstanding options, warrants and rights		Number of securities remaining available for future issuance under equity compensation plans
Equity compensation plans approved by security holders		549,560	(2)	$	8.61		440	(3)
Equity compensation plans not approved by security holders		0		N/A			94,273	(4)

(1) Excludes restricted stock awards currently vesting under the Restricted Stock Plan. See Part II, Item 8, Note 12 for a detailed discussion of the Restricted Stock Plan.

(2) Represents options to purchase common stock outstanding under the 2005 Stock Option Plan. See Part II, Item 8, Note 12 for a detailed discussion of the Restricted Stock Plan.

(3) Represents shares available for future issuance under the 2005 Stock Option Plan

(4) Represents shares available for future issuance under the Restricted Stock Plan.

ITEM  13.           CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.

The information required by this item relating to review, approval or ratification of transactions with related persons is included under the caption “Certain Relationships and Related Transactions,” and the information required by this item relating to director independence is included under the caption “Item 1: Election of Directors” and “Directors Meetings, Committees and Fees, Leadership Structure, Oversight of Risk and Communications with Directors” in the Bank’s Proxy Statement for the 2015 Annual Meeting of Stockholders and is incorporated herein by reference.

ITEM  14.           PRINCIPAL ACCOUNTING FEES AND SERVICES.

The information required to be disclosed in this item 14 is included under the captions “Audit Committee Matters” and “Item III: Ratification of Independent Auditors” in the Company’s Proxy Statement for the 2015 Annual Meeting of Stockholders and is incorporated herein by reference.

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PART IV

ITEM  15.           EXHIBITS, FINANCIAL STATEMENT SCHEDULES.

Financial Statements:

Consolidated Balance Sheets as of December 31, 2014 and 2013

Consolidated Statements of Income for the Years Ended December 31, 2014 and 2013

Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2014 and 2013

Consolidated Statements of Changes in Stockholders’ Equity for the Years Ended December 31, 2014 and 2013

Consolidated Statements of Cash Flows for the Years Ended December 31, 2014 and 2013

Report of Independent Registered Public Accounting Firm

Exhibit Number
3.1	Articles of Incorporation of Registrant as amended incorporated herein by reference to Exhibit 3.1 to Form 10-K for the year ended December 31, 2011.
3.2	By-laws of Registrant included as Appendix B-2 to the proxy statement contained in, and incorporated by reference to the Registrant’s registration statement on Form S-4 (No. 333-158525) filed June 26, 2009).
4.1	See Exhibit 3.1.
10.2*	Employment Agreement dated March 1, 2006 between HomeTown Bank and S. K. Still, incorporated herein by reference to Exhibit 10.2 to Form 10QSB for the quarter ended March 31, 2006.
10.3*	Employment Agreement dated March 1, 2006 between HomeTown Bank and W. C. Moses, incorporated herein by reference to Exhibit 10.3 to Form 10QSB for the quarter ended March 31, 2006.
10.4*	HomeTown Bank 2005 Stock Option Plan, incorporated herein by reference to Exhibit 10.4 to Form 10QSB for the quarter ended June 30, 2006.
10.5	Real estate purchase contract, incorporated herein by reference to Exhibit 10.5 to Form 10QSB for the quarter ended June 30, 2006.
10.6*	Employment Agreement dated May 1, 2006 between HomeTown Bank and C. W. Maness, Jr., incorporated herein by reference to Exhibit 10.4 to Form 10QSB for the quarter ended June 30, 2006.
10.7	Lease agreement, incorporated herein by reference to Exhibit 10.7 to form 10QSB for the quarter ended September 30, 2006.
10.8*	Hometown Bankshares Corporation Restricted Stock Plan, Incorporated herein by reference to Exhibit 10.1 to Form 8-K filed September 16, 2010.
10.9	Letter Agreement, including Schedule A, and Securities Purchase Agreement, dated September 18, 2009, between HomeTown Bankshares Corporation and United States Department of the Treasury, with respect to the issuance and sale of the Series A Preferred Stock and Series B Preferred Stock, incorporated herein by reference to Exhibit 10.1 to Form 8-K filed September 24, 2009.
10.10*	Form of Compensation Modification Agreement and Waiver, executed by Senior Executive Officers of HomeTown Bankshares Corporation, incorporated herein by reference to Exhibit 10.2 to Form 8-K filed September 24, 2009.
10.11*	Supplemental Executive Retirement Plan by and between Hometown Bank and Susan K. Still incorporated herein by reference to Exhibit 10.11 to Form 10-K for the year ended December 31, 2013.
10.12*	Supplemental Executive Retirement Plan by and between Hometown Bank and Charles W. Maness, Jr incorporated herein by reference to Exhibit 10.12 to Form 10-K for the year ended December 31, 2013.
21	Subsidiaries of the Registrant
31.1	Certification of Chief Executive of Officer (302 Certification).
31.2	Certification of Chief Financial Officer (302 Certification).
32	Certification pursuant to 18 U.S.C. Section 1350 (906 Certification).
101**	Pursuant to Rule 405 of Regulation S-T, the following financial information from the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, is formatted in XBRL interactive data files: (i) Consolidated Balance Sheets at December 31, 2014 and 2013; (ii) Consolidated Statements of Income for the years ended December 31, 2014, and 2013; (iii) Consolidated Statements of Comprehensive Income for the years ended December 31, 2014, and 2013; (iv) Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2014 and 2013; (v) Consolidated Statements of Cash Flows for the years ended December 31, 2014 and 2013; and (vi) Notes to Consolidated Financial Statements.

*	Denotes management contract or compensatory plan or arrangement.
**	As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.

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SIGNATURES

In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

	HOMETOWN BANKSHARES CORPORATION
Date: March 30, 2015	By:	/S/    SUSAN K. STILL
		Susan K. Still President Chief Executive Officer

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

Signature	Title	Date
/S/    SUSAN K. STILL	Director, President, and	March 30, 2015
Susan K. Still	Chief Executive Officer (principal executive officer)
/S/    GEORGE B. CARTLEDGE, JR.	Director	March 30, 2015
George B. Cartledge, Jr.
	Director	March 30, 2015
Nancy H. Agee
	Director	March 30, 2015
Warner N. Dalhouse
/S/    MARC S. FINK	Director	March 30, 2015
Marc S. Fink
/S/    DANIEL D. HAMRICK	Director	March 30, 2015
Daniel D. Hamrick
/S/    WILLIAM R. RAKES	Director	March 30, 2015
William R. Rakes
/S/    JAMES M. TURNER, JR.	Director	March 30, 2015
James M. Turner, Jr.
/S/    CHARLES W. MANESS, JR.	Chief Financial Officer	March 30, 2015
Charles W. Maness, Jr.	(principal accounting and financial officer)

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INDEX TO EXHIBITS

Exhibit Number	Description
3.1	Articles of Incorporation of Registrant as amended incorporated herein by reference to Exhibit 3.1 to Form 10-K for the year ended December 31, 2011.
3.2	By-laws of Registrant included as Appendix B-2 to the proxy statement contained in, and incorporated by reference to the Registrant’s registration statement on Form S-4 (No. 333-158525) filed June 26, 2009).
4.1	See Exhibit 3.1.
10.2*	Employment Agreement dated March 1, 2006 between HomeTown Bank and S. K. Still, incorporated herein by reference to Exhibit 10.2 to Form 10QSB for the quarter ended March 31, 2006.
10.3*	Employment Agreement dated March 1, 2006 between HomeTown Bank and W. C. Moses, incorporated herein by reference to Exhibit 10.3 to Form 10QSB for the quarter ended March 31, 2006.
10.4*	HomeTown Bank 2005 Stock Option Plan, incorporated herein by reference to Exhibit 10.4 to Form 10QSB for the quarter ended June 30, 2006.
10.5	Real estate purchase contract, incorporated herein by reference to Exhibit 10.5 to Form 10QSB for the quarter ended June 30, 2006.
10.6*	Employment Agreement dated May 1, 2006 between HomeTown Bank and C. W. Maness, Jr., incorporated herein by reference to Exhibit 10.4 to Form 10QSB for the quarter ended June 30, 2006.
10.7	Lease agreement, incorporated herein by reference to Exhibit 10.7 to form 10QSB for the quarter ended September 30, 2006.
10.8*	Hometown Bankshares Corporation Restricted Stock Plan, Incorporated herein by reference to Exhibit 10.1 to Form 8-K filed September 16, 2010.
10.9	Letter Agreement, including Schedule A, and Securities Purchase Agreement, dated September 18, 2009, between HomeTown Bankshares Corporation and United States Department of the Treasury, with respect to the issuance and sale of the Series A Preferred Stock and Series B Preferred Stock, incorporated herein by reference to Exhibit 10.1 to Form 8-K filed September 24, 2009.
10.10*	Form of Compensation Modification Agreement and Waiver, executed by Senior Executive Officers of HomeTown Bankshares Corporation, incorporated herein by reference to Exhibit 10.2 to Form 8-K filed September 24, 2009.
10.11*	Supplemental Executive Retirement Plan by and between Hometown Bank and Susan K. Still incorporated herein by reference to Exhibit 10.11 to Form 10-K for the year ended December 31, 2013.
10.12*	Supplemental Executive Retirement Plan by and between Hometown Bank and Charles W. Maness, Jr incorporated herein by reference to Exhibit 10.12 to Form 10-K for the year ended December 31, 2013.
21	Subsidiaries of the Registrant [Exhibit 21 attached]
31.1	Certification of Chief Executive of Officer (302 Certification).
31.2	Certification of Chief Financial Officer (302 Certification).
32	Certification pursuant to 18 U.S.C. Section 1350 (906 Certification).
101**	Pursuant to Rule 405 of Regulation S-T, the following financial information from the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, is formatted in XBRL interactive data files: (i) Consolidated Balance Sheets at December 31, 2014 and 2013; (ii) Consolidated Statements of Income for the years ended December 31, 2014, and 2013; (iii) Consolidated Statements of Comprehensive Income for the years ended December 31, 2014, and 2013; (iv) Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2014 and 2013; (v) Consolidated Statements of Cash Flows for the years ended December 31, 2014 and 2013; and (vi) Notes to Consolidated Financial Statements.

* Denotes management contract or compensatory plan or arrangement.

** As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.

61