FirstMerit (FMER) 8-K Index to Citizens Financial Statements

Exhibit 99.1

INDEX TO CITIZENS FINANCIAL STATEMENTS

	Page
Financial Statements (unaudited)
Consolidated Balance Sheets as of September 30, 2012, December 31, 2011 and September 30, 2011		2
Consolidated Statements of Operations for the Three Months Ended September 30, 2012 and September 30, 2011 and for the Nine Months Ended September 30, 2012 and September 30, 2011		3
Consolidated Statements of Comprehensive Income for the Three Months Ended September 30, 2012 and September 30, 2011 and for the Nine Months Ended September 30, 2012 and September 30, 2011		4
Consolidated Statements of Changes in Shareholders’ Equity for the Three Months Ended September 30, 2012 and September 30, 2011		5
Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2012 and September 30, 2011		6
Notes to Unaudited Consolidated Financial Statements		7

1

Consolidated Balance Sheets (Unaudited)

Citizens Republic Bancorp, Inc.

(in thousands)	September 30, 2012			December 31, 2011			September 30, 2011
Assets
Cash and due from banks	$	162,705		$	153,418		$	147,418
Money market investments		223,818			313,632			283,018
Investment Securities:
Securities available for sale, at fair value		1,541,567			1,312,733			1,307,977
Securities held to maturity, at amortized cost (fair value of $1,378,310, $1,487,550 and $1,491,048, respectively)		1,313,504			1,444,054			1,454,873
Total investment securities		2,855,071			2,756,787			2,762,850
FHLB and Federal Reserve stock		122,123			117,943			123,696
Portfolio loans:
Commercial and industrial		1,688,996			1,543,529			1,531,492
Commercial real estate		1,335,601			1,544,361			1,643,901
Total commercial		3,024,597			3,087,890			3,175,393
Residential mortgage		570,295			637,245			654,561
Direct consumer		865,777			933,314			954,831
Indirect consumer		970,235			871,086			887,542
Total portfolio loans		5,430,904			5,529,535			5,672,327
Less: Allowance for loan losses		(122,125	)		(172,726	)		(190,354	)
Net portfolio loans		5,308,779			5,356,809			5,481,973
Loans held for sale		30,062			10,402			30,221
Premises and equipment		92,005			97,970			98,954
Goodwill		318,150			318,150			318,150
Other intangible assets		5,792			7,428			8,116
Bank owned life insurance		222,610			220,280			219,248
Other assets		383,675			110,030			126,544
Total assets	$	9,724,790		$	9,462,849		$	9,600,188
Liabilities
Noninterest-bearing deposits	$	1,854,715		$	1,614,311		$	1,621,451
Interest-bearing demand deposits		1,092,679			951,590			945,458
Savings deposits		2,574,642			2,627,665			2,652,267
Core deposits		5,522,036			5,193,566			5,219,176
Time deposits		1,780,929			2,201,375			2,320,728
Total deposits		7,302,965			7,394,941			7,539,904
Federal funds purchased and securities sold under agreements to repurchase		42,796			40,098			40,599
Other short-term borrowings		—			—			640
Other liabilities		168,351			154,088			154,232
Long-term debt		852,481			854,185			855,670
Total liabilities		8,366,593			8,443,312			8,591,045
Shareholders’ Equity
Preferred stock - no par value
Authorized - 5,000,000 shares; Issued and outstanding - 300,000 at 9/30/12, 12/31/11, and 9/30/11, redemption value of $300 million		290,580			285,114			283,360
Common stock - no par value
Authorized - 105,000,000 shares at 9/30/12,12/31/11, and 9/30/11; Issued and outstanding - 40,178,907 at 9/30/12, 40,049,198 at 12/31/11 and 40,034,943 at 9/30/11		1,436,925			1,434,803			1,433,765
Retained deficit		(363,659	)		(694,560	)		(706,907	)
Accumulated other comprehensive loss		(5,649	)		(5,820	)		(1,075	)
Total shareholders’ equity		1,358,197			1,019,537			1,009,143
Total liabilities and shareholders’ equity	$	9,724,790		$	9,462,849		$	9,600,188

See notes to consolidated financial statements.

2

Consolidated Statements of Operations (Unaudited)

Citizens Republic Bancorp, Inc.

	Three Months Ended September 30,						Nine Months Ended September 30,
(in thousands, except per share amounts)	2012			2011			2012			2011
Interest Income
Interest and fees on loans	$	73,376		$	77,212		$	222,205		$	235,600
Interest and dividends on investment securities:
Taxable		16,034			20,508			49,356			60,664
Tax-exempt		2,157			2,613			6,610			8,412
Dividends on FHLB and Federal Reserve stock		1,196			974			3,487			3,143
Money market investments		152			168			481			670
Total interest income		92,915			101,475			282,139			308,489
Interest Expense
Deposits		8,779			13,528			29,243			44,945
Short-term borrowings		11			20			42			57
Long-term debt		8,320			9,086			25,251			28,426
Total interest expense		17,110			22,634			54,536			73,428
Net Interest Income		75,805			78,841			227,603			235,061
Provision for loan losses		5,195			17,481			18,891			123,801
Net interest income after provision for loan losses		70,610			61,360			208,712			111,260
Noninterest Income
Service charges on deposit accounts		9,554			10,362			27,894			29,544
Trust fees		3,635			3,622			10,818			11,356
Mortgage and other loan income		2,028			2,089			5,839			6,915
Brokerage and investment fees		1,831			1,188			4,486			3,829
Card-based and other nondeposit fees		4,431			4,475			13,140			12,862
Net (losses) gains on loans held for sale		(184	)		1,952			739			2,025
Investment securities gains (losses)		—			3			—			(1,373	)
Other income		2,415			736			7,380			5,737
Total noninterest income		23,710			24,427			70,296			70,895
Noninterest Expense
Salaries and employee benefits		33,589			30,280			99,687			92,563
Occupancy		6,129			6,125			18,965			19,734
Professional services		6,806			2,394			11,294			7,020
Equipment		2,937			2,918			9,144			8,811
Data processing services		4,427			3,823			12,196			12,422
Advertising and public relations		1,847			2,179			4,890			4,550
Postage and delivery		1,157			1,142			3,375			3,378
Other loan expenses		3,121			3,941			9,574			12,510
Losses on other real estate (ORE)		941			1,210			382			11,687
ORE expenses		323			529			1,039			3,326
Intangible asset amortization		513			732			1,636			2,338
Other expense		10,265			10,138			33,312			38,172
Total noninterest expense		72,055			65,411			205,494			216,511
Income (Loss) before Income Taxes		22,265			20,376			73,514			(34,356	)
Income tax provision (benefit)		1,274			(12,568	)		(275,514	)		(22,779	)
Net Income (Loss)		20,991			32,944			349,028			(11,577	)
Dividend on redeemable preferred stock		(6,130	)		(5,761	)		(18,127	)		(17,088	)
Net Income (Loss) Attributable to Common Shareholders	$	14,861		$	27,183		$	330,901		$	(28,665	)
Net Income (Loss) Per Common Share:
Basic	$	0.37		$	0.68		$	8.19		$	(0.73	)
Diluted		0.37			0.68			8.19			(0.73	)
Average Common Shares Outstanding:
Basic		39,489			39,433			39,469			39,418
Diluted		39,489			39,433			39,469			39,418

See notes to consolidated financial statements.

3

Consolidated Statements of Comprehensive Income (Unaudited)

Citizens Republic Bancorp, Inc.

	Three Months Ended September 30,						Nine Months Ended September 30,
(in thousands)	2012			2011			2012			2011
Net Income (Loss)	$	20,991		$	32,944		$	349,028		$	(11,577	)
Other comprehensive income
Unrealized gain on securities available for sale		10,887			2,817			13,944			15,120
Reclassification adjustment for net (gain) loss on securities included in net income		—			(3	)		—			1,373
Unrealized gain on securities transferred from available for sale to held to maturity		—			—			—			18,510
Amortization of unrealized gain on securities transferred to held to maturity		(1,715	)		(1,675	)		(5,571	)		(1,887	)
Unrealized loss on qualifying cash flow hedges, net of change and reclassifications		(2,065	)		(1,428	)		(8,110	)		(3,816	)
Other comprehensive income (loss), before income taxes		7,107			(289	)		263			29,300
Income tax provision (benefit) related to other comprehensive income items		2,488			(137	)		92			10,219
Other comprehensive income (loss)		4,619			(152	)		171			19,081
Comprehensive income	$	25,610		$	32,792		$	349,199		$	7,504

See notes to consolidated financial statements

4

Consolidated Statements of Changes in Shareholders’ Equity (Unaudited)

Citizens Republic Bancorp, Inc.

(in thousands)	Preferred Stock		Common Stock						Retained Earnings (Deficit)			Accumulated Other Comprehensive Income (Loss)			Total
			Shares			Amount
Balance at December 31, 2011	$	285,114		40,049		$	1,434,803		$	(694,560	)	$	(5,820	)	$	1,019,537
Comprehensive income, net of tax:
Net income										349,028						349,028
Other comprehensive income, net of tax effect of ($92)													171			171
Total comprehensive income																349,199
Accretion of preferred stock discount		5,466								(5,466	)					—
Accrued dividend on redeemable preferred stock										(12,661	)					(12,661	)
Proceeds from restricted stock activity				155			—									—
Recognition of stock-based compensation							2,558									2,558
Shares purchased				(25	)		(436	)								(436	)
Balance at September 30, 2012	$	290,580		40,179		$	1,436,925		$	(363,659	)	$	(5,649	)	$	1,358,197
Balance at December 31, 2010	$	278,300		39,635		$	1,431,829		$	(678,242	)	$	(20,156	)	$	1,011,731
Comprehensive income, net of tax:
Net loss										(11,577	)					(11,577	)
Other comprehensive income, net of tax effect of ($10,219)													19,081			19,081
Total comprehensive income																7,504
Accretion of preferred stock discount		5,060								(5,060	)					—
Accrued dividend on redeemable preferred stock										(12,028	)					(12,028	)
Proceeds from restricted stock activity				401			—									—
Recognition of stock-based compensation							1,950									1,950
Shares purchased				(1	)		(14	)								(14	)
Balance at September 30, 2011	$	283,360		40,035		$	1,433,765		$	(706,907	)	$	(1,075	)	$	1,009,143

See notes to consolidated financial statements.

5

Consolidated Statements of Cash Flows (unaudited)

Citizens Republic Bancorp, Inc.

	Nine Months Ended September 30,
(in thousands)	2012			2011
Operating Activities:
Net income (loss)	$	349,028		$	(11,577	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Provision for loan losses		18,891			123,801
Net (increase) decrease in current and deferred income taxes		(284,786	)		(12,559	)
Depreciation and amortization		7,591			8,495
Amortization of intangibles		1,636			2,338
Amortization and fair value adjustments of purchase accounting mark to market, net		(2,897	)		(3,782	)
Fair value adjustment on loans held for sale and other real estate		2,116			7,766
Net amortization on investment securities		28,505			14,959
Investment securities losses		—			1,373
Loans originated for sale		(142,883	)		(115,998	)
Proceeds from loans held for sale		140,525			127,027
Net gains from loan sales		(3,317	)		(4,516	)
Net (gains) losses on other real estate		(1,738	)		3,863
Recognition of stock-based compensation expense		2,558			1,950
Other		(9,091	)		(13,394	)
Net cash provided by operating activities		106,138			129,746
Investing Activities:
Net decrease in money market investments		89,814			126,061
Securities available for sale:
Proceeds from sales		2,500			11,744
Proceeds from maturities and payments		291,999			402,623
Purchases		(525,031	)		(569,472	)
Securities held to maturity:
Proceeds from maturities and payments		205,253			51,452
Purchases		(91,746	)		(95,987	)
Net decrease in loans and leases		11,956			301,862
Proceeds from sales of other real estate		9,796			27,612
Net increase in properties and equipment		(1,626	)		(2,736	)
Net cash (used in) provided by investing activities		(7,085	)		253,159
Financing Activities:
Net decrease in deposits		(91,976	)		(186,930	)
Net increase (decrease) in short-term borrowings		2,698			(1,080	)
Principal reductions in long-term debt		(52	)		(175,048	)
Shares purchased		(436	)		(14	)
Net cash used in financing activities		(89,766	)		(363,072	)
Net increase in cash and due from banks		9,287			19,833
Cash and due from banks at beginning of period		153,418			127,585
Cash and due from banks at end of period	$	162,705		$	147,418
Supplemental Cash Flow Information:
Interest paid	$	53,082		$	71,665
Income tax paid, net		7,600			3,000
Supplemental Disclosures of noncash items
Securities transferred to held to maturity from available for sale		—			943,092
Properties transferred to other real estate owned		—			1,347
Loans transferred to other real estate owned		4,614			11,932
Loans transferred to held for sale		24,048			90,481
Held for sale loans transferred to other real estate		—			522
Accretion of preferred stock discount		5,466			5,060
Accrued dividend on redeemable preferred stock		12,661			12,028

See notes to consolidated financial statements.

6

Notes to Consolidated Financial Statements (Unaudited)

Citizens Republic Bancorp, Inc.

Note 1. Basis of Presentation and Accounting Policies

The accompanying unaudited consolidated financial statements of Citizens Republic Bancorp, Inc. (“Citizens”) have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2012 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012. Certain amounts have been reclassified to conform with the current year presentation. Citizens’ significant accounting policies are described in Note 1 of the Notes to Consolidated Financial Statements included in Citizens’ 2011 Annual Report on Form 10-K. For interim reporting purposes, Citizens follows the same basic accounting policies, as updated by the information contained in this report. For further information, refer to the Consolidated Financial Statements and footnotes included in Citizens’ 2011 Annual Report on Form 10-K. Citizens maintains an internet website at www.citizensbanking.com where the Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to those reports are available without charge, as soon as reasonably practicable after Citizens files each such report with, or furnishes it to, the U.S. Securities and Exchange Commission (“SEC”). The information on Citizens’ website does not constitute a part of this report.

Citizens has two active wholly owned trusts formed for the purpose of issuing securities which qualify as regulatory capital and are considered Variable Interest Entities (“VIEs”). Citizens is not the primary beneficiary, and consequently, the trusts are not consolidated in the Consolidated Financial Statements. Each of the two active trusts issued trust preferred securities to investors in 2006 and 2003. The gross proceeds from the issuances were used to purchase junior subordinated deferrable interest debentures issued by Citizens, which is the sole asset of each trust. The trust preferred securities held by these entities qualify as Tier 1 capital and are classified as “long-term debt” on the Consolidated Balance Sheets, with the associated interest expense recorded in “long-term debt” on the Consolidated Statements of Operations. The expected losses and residual returns of these entities are absorbed by the trust preferred security holders, and consequently Citizens is not exposed to loss related to these VIEs.

New Accounting Pronouncements

The Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (the “Codification” or “ASC”) Accounting Standard Update (“ASU”)

FASB ASU 2012-02, “Intangibles — Goodwill and Other (Topic 350) — Testing Indefinite-Lived Intangible Assets for Impairment”

The objective of the amendments in this update is to reduce the cost and complexity of performing an impairment test for indefinite-lived intangible assets by simplifying how an entity tests those assets for impairment and to improve consistency in impairment testing guidance among long-lived asset categories. The amendments permit an entity first to assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired as a basis for determining whether it is necessary to perform the quantitative impairment test in accordance with Subtopic 350-30, Intangibles — Goodwill and Other — General Intangibles Other than Goodwill. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. This ASU was adopted by Citizens in the third quarter of 2012. The adoption of the amendments did not have a material impact on Citizens’ financial condition, results of operations or liquidity.

7

FASB ASU 2011-12, “Comprehensive Income (Topic 220): Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05”

The amendments in this ASU defer the ASU 2011-05 requirement that companies present reclassification adjustments for each component of accumulated other comprehensive income (“AOCI”) in both net income and other comprehensive income (“OCI”) on the face of the financial statements. Companies are still required to present reclassifications out of AOCI on the face of the financial statements or disclose those amounts in the notes to the financial statements. This ASU also defers the requirement to report reclassification adjustments in interim periods.

FASB ASU 2011-08, “Intangibles — Goodwill and Other (Topic 350): Testing Goodwill for Impairment”

The amendments in this ASU are intended to simplify goodwill impairment testing by permitting assessment of qualitative factors to determine whether events and circumstances lead to the conclusion that it is necessary to perform the two-step goodwill impairment test currently required under Topic 350. Entities will not be required to calculate the fair value of a reporting unit unless they conclude that it is more likely than not that the unit’s carrying value is greater than its fair value based on an assessment of events and circumstances; however, they may bypass the qualitative assessment during any reporting period. The amendment also provides examples of events and circumstances that entities should consider. This ASU was adopted by Citizens in the first quarter of 2012. The adoption of the amendments did not have a material impact on Citizens’ financial condition, results of operations or liquidity.

FASB ASU 2011-05, “Comprehensive Income (Topic 220): Presentation of Comprehensive Income”

The amendments in this ASU will result in more converged guidance on how comprehensive income is presented under GAAP and International Financial Reporting Standards (“IFRS”), although some differences remain. The new guidance gives companies two choices of how to present items of net income, items of other comprehensive income and total comprehensive income: They can create one continuous statement of comprehensive income or two separate consecutive statements. Companies will no longer be allowed to present OCI only in the statement of shareholders’ equity. Earnings per share would continue to be based on net income attributable to common shareholders. Although existing guidance related to items that must be presented in OCI has not changed, companies will be required to display reclassification adjustments for each component of OCI in both net income and OCI. Also, companies will need to present the components of OCI in their interim and annual financial statements. This ASU was adopted by Citizens in the first quarter of 2012, applied retrospectively. The adoption of the amendments did not have a material impact on Citizens’ financial condition, results of operations or liquidity; however, the adoption did have an impact on Citizens’ presentation of comprehensive income.

FASB ASU 2011-04, “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs”

The ASU amends the fair value measurement and disclosure guidance in Topic 820 to converge GAAP and IFRS requirements for measuring amounts at fair value as well as disclosures about these measurements. Many of the amendments clarify existing concepts and are generally not expected to result in significant changes to how Citizens applies the fair value principles. This ASU was adopted by Citizens in the first quarter of 2012, applied prospectively. The adoption of the amendments did not have a material impact on Citizens’ financial condition, results of operations or liquidity; however, the adoption did require additional fair value disclosures.

FASB ASU 2011-03, “Transfers and Servicing (Topic 860): Reconsideration of Effective Control for Repurchase Agreements”

The amendments in this ASU are intended to improve the accounting for repurchase agreements by removing from the assessment of effective control the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets. This ASU was adopted by Citizens in the first quarter of 2012 and applies

8

prospectively to transactions or modifications of existing transactions that occur on or after January 1, 2012. The adoption of the amendments did not have a material impact on Citizens’ financial condition, results of operations or liquidity.

Pending Accounting Pronouncements

FASB ASU 2011-11, “Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities”

The amendments in this ASU allow existing GAAP guidance for balance sheet offsetting, including industry-specific guidance. However, new disclosures are required to enable users of financial statements to understand significant quantitative differences in balance sheets prepared under GAAP and IFRS related to the offsetting of financial instruments. ASU 2011-11 is effective for Citizens in the first quarter of 2013, and will be applied retrospectively for all prior periods presented. Citizens does not expect the adoption of the amendments to have a material impact on Citizens’ financial condition, results of operations or liquidity.

Note 2. Investment Securities

The amortized cost, estimated fair value and gross unrealized gains and losses on investment securities follow.

	September 30, 2012								December 31, 2011
(in thousands)	Amortized Cost		Estimated Fair Value		Gross Unrealized				Amortized Cost		Estimated Fair Value		Gross Unrealized
					Gains		Losses						Gains		Losses
Securities available for sale:
Collateralized mortgage obligations	$	404,391	$	411,731	$	7,857	$	517	$	364,262	$	365,302	$	6,811	$	5,771
Mortgage-backed		971,546		1,018,853		47,307		—		784,476		823,852		39,408		32
State and municipal		104,093		110,696		6,620		17		116,411		123,308		7,019		122
Other		289		287		51		53		280		271		24		33
Total available for sale	$	1,480,319	$	1,541,567	$	61,835	$	587	$	1,265,429	$	1,312,733	$	53,262	$	5,958
Securities held to maturity:
Collateralized mortgage obligations (1)	$	304,462	$	313,835	$	9,373	$	—	$	350,160	$	356,031	$	5,871	$	—
Mortgage-backed (1)		907,361		955,140		47,779		—		988,930		1,018,765		29,883		48
State and municipal		101,681		109,335		7,654		—		104,964		112,754		7,836		46
Total held to maturity	$	1,313,504	$	1,378,310	$	64,806	$	—	$	1,444,054	$	1,487,550	$	43,590	$	94

⁽¹⁾ Amortized cost includes adjustments for the unamortized portion of unrealized gains on securities transferred from available for sale.

Securities with amortized cost of $560.1 million at September 30, 2012 and $665.8 million at December 31, 2011 were pledged to secure public deposits, repurchase agreements and other liabilities.

In June 2011, Citizens transferred certain mortgage-backed securities from the available for sale to the held to maturity category in accordance with Topic 320 “Investments-Debt and Equity Securities.” Management determined that it had the positive intent and ability to hold these investments to maturity. The securities transferred had a total amortized cost of $924.6 million and a fair value of $943.1 million. The unrealized gain of $18.5 million is being amortized over the remaining life of the securities as an adjustment of the yield, offset against the amortization of the unrealized gain maintained in accumulated other comprehensive income.

9

The amortized cost and estimated fair value of debt securities by maturity are shown below.

(in thousands)	September 30, 2012
	Amortized Cost		Estimated Fair Value
Securities available for sale:
State and municipal
Contractual maturity within one year	$	14,591	$	14,804
After one year through five years		14,785		15,410
After five years through ten years		57,915		62,130
After ten years		16,802		18,352
Subtotal		104,093		110,696
Collateralized mortgage obligations and mortgage-backed		1,375,937		1,430,584
Other		289		287
Total available for sale	$	1,480,319	$	1,541,567
Securities held to maturity:
State and municipal
Contractual maturity within one year	$	3,560	$	3,660
After one year through five years		21,656		23,081
After five years through ten years		51,300		54,771
After ten years		25,165		27,823
Subtotal		101,681		109,335
Collateralized mortgage obligations and mortgage-backed		1,211,823		1,268,975
Total held to maturity	$	1,313,504	$	1,378,310

A total of 16 securities had unrealized losses at September 30, 2012, compared with 45 securities as of December 31, 2011. These securities, with unrealized losses aggregated by investment category and length of time in a continuous unrealized loss position, are as follows.

September 30, 2012 (in thousands)	Less than 12 Months				More than 12 Months				Total
	Estimated   Fair Value		Unrealized   Losses		Estimated   Fair Value		Unrealized   Losses		Estimated   Fair Value		Unrealized   Losses
Securities available for sale:
Collateralized mortgage obligations	$	44,532	$	137	$	9,693	$	380	$	54,225	$	517
State and municipal		303		1		233		16		536		17
Other		—		—		149		53		149		53
Total available for sale	$	44,835	$	138	$	10,075	$	449	$	54,910	$	587

December 31, 2011 (in thousands)	Less than 12 Months				More than 12 Months				Total
	Estimated   Fair Value		Unrealized   Losses		Estimated   Fair Value		Unrealized   Losses		Estimated   Fair Value		Unrealized   Losses
Securities available for sale:
Collateralized mortgage obligations	$	56,326	$	2,858	$	20,097	$	2,913	$	76,423	$	5,771
Mortgage-backed		26,016		31		122		1		26,138		32
State and municipal		1,191		27		1,062		95		2,253		122
Other		—		—		234		33		234		33
Total available for sale	$	83,533	$	2,916	$	21,515	$	3,042	$	105,048	$	5,958
Securities held to maturity:
Mortgage-backed	$	9,093	$	48	$	—	$	—	$	9,093	$	48
State and municipal		—		—		950		46		950		46
Total held to maturity	$	9,093	$	48	$	950	$	46	$	10,043	$	94

10

Citizens performs a review of securities with unrealized losses at each reporting period. Citizens assesses each holding to determine whether and when a security will recover in value, whether it intends to sell the security and whether it is more likely than not that Citizens will be required to sell the security before the value is recovered. In assessing the recovery of value, the key factors reviewed include the length of time and the extent the fair value has been less than the carrying cost, adverse conditions, if any, specifically related to the security, industry or geographic area, historical and implied volatility of the fair value of the security, credit quality factors affecting the issuer or the underlying collateral, payment structure of the security, payment history of the security, changes to the credit rating of the security, recoveries or declines in value subsequent to the balance sheet date or any other relevant factors. Evaluations are performed on a more frequent basis as the degree to which fair value is below carrying cost or the length of time that the fair value has been continuously below carrying cost increases. As of September 30, 2012, Citizens has concluded that all issuers have the ability to pay contractual cash flows. The unrealized losses displayed in the above tables are believed to be temporary and thus no impairment loss has been realized in the Consolidated Statements of Operations. Citizens has not decided to sell securities with any significant unrealized losses nor does Citizens believe it will be required to sell securities before the value is recovered, but may change its intent in response to significant, unanticipated changes in policies, regulations, legislation or other previously mentioned criteria.

The collateralized mortgage obligations (“CMO”) sector includes securities where the underlying collateral consists of agency issued or whole loan mortgages. At September 30, 2012, the whole loan CMOs had a market value of $54.2 million with gross unrealized losses of $0.5 million. Citizens performs a thorough credit review on a quarterly basis for the underlying mortgage collateral as well as the supporting credit enhancement and structure. The results of the September 30, 2012 credit review demonstrated no material degradation in the holdings.

Citizens has determined there is no other-than-temporary impairment at September 30, 2012.

Citizens maintains several nonqualified deferred compensation plans for its executive officers, senior management, and directors permitting the deferral of a portion of compensation. Citizens obligation under the plans represents an unsecured promise to pay benefits in the future. Changes in this obligation are recognized as salaries and employee benefits expense in the Consolidated Statements of Operations. In the event of bankruptcy or insolvency, assets of the plans would be available to satisfy the claims of general creditors. Plan participants choose to receive a return on their account balances equal to the return on various investment options. The assets held by the plans as well as the corresponding obligations were $8.8 million and $8.5 million at September 30, 2012 and December 31, 2011, respectively. The assets of the plans are classified as trading securities and are carried at fair value within Other Assets in the Consolidated Balance Sheets. Realized and unrealized gains and losses from plan assets are recorded in Other Income in the Consolidated Statements of Operations. Realized gains of $1.0 million and realized losses of $0.6 million for the nine months ended September 30, 2012 and 2011, respectively, were recognized during the period for trading assets as of the report date.

No security sales were completed during 2012. During the third quarter of 2011, Citizens completed sales of available for sale securities with an amortized cost of $3.9 million, recording a net loss of less than $0.1 million. Citizens completed sales of available for sale securities with an amortized cost of $13.1 million during the first nine months ended September 30, 2011, recording a net loss of $1.4 million.

Note 3. Loans

Citizens has certain lending policies and procedures in place that are designed to maximize loan income within an acceptable level of risk. Citizens seeks to control its credit risk by using established guidelines to review its aggregate outstanding commitments and loans to particular borrowers, industries, and geographic areas. Collateral is secured based on the nature of the credit and management’s credit assessment of the customer. Total portfolio loans outstanding are recorded net of unearned income, unamortized premiums and discounts, deferred loan fees and costs, and fair value adjustments.

11

The quality of Citizens loan portfolios is assessed as a function of net loan losses, levels of nonperforming loans and delinquencies, and credit quality ratings. These credit quality ratings are an important part of the overall credit risk management process and evaluation of the allowance for loan losses (see Note 4 — Allowance for Loan Losses).

Past Due Loans, Nonaccrual Loans and Nonperforming Assets.Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Loans are generally placed on nonaccrual status when the collection of principal or interest, in full, is considered doubtful or payment of principal or interest is past due 90 days or more. When loans are placed on nonaccrual status, all interest previously accrued but unpaid is reversed against current year interest income. Cash collected on nonaccrual loans is generally applied to outstanding principal. Loans are normally restored to accrual status if and when interest and principal payments are current, it is believed that the financial condition of the borrower has improved to the extent that future principal and interest payments will be met on a timely basis, and the borrower has maintained the loan in a current status for a period of not less than six months. Nonperforming assets are comprised of nonaccrual loans, loans past due over 90 days and still accruing interest, nonperforming loans held for sale, and other repossessed assets acquired.

The following tables provide a summary of loans by class, including the delinquency status of those loans that continue to accrue interest and those loans that are nonaccrual.

	September 30, 2012
(in thousands)	Loans Accruing   30-89 Days   Past Due		Loans 90+ Days Past   Due & Still  Accruing		Non-Accruing Loans		Total Past Due Loans		Current Portfolio Loans		Total  Portfolio Loans
Land hold	$	—	$	—	$	326	$	326	$	4,658	$	4,984
Land development		—		—		3		3		7,518		7,521
Construction		—		—		—		—		6,689		6,689
Income producing		1,104		—		12,904		14,008		753,194		767,202
Owner-occupied		4,598		—		13,146		17,744		531,461		549,205
Total commercial real estate		5,702		—		26,379		32,081		1,303,520		1,335,601
Commercial and industrial		253		57		3,139		3,449		1,413,103		1,416,552
Small business (1)		627		—		6,051		6,678		265,766		272,444
Total commercial		6,582		57		35,569		42,208		2,982,389		3,024,597
Residential mortgage		6,029		—		15,271		21,300		548,995		570,295
Direct consumer		11,435		3		10,552		21,990		843,787		865,777
Indirect consumer		7,514		—		2,391		9,905		960,330		970,235
Total consumer		24,978		3		28,214		53,195		2,353,112		2,406,307
Total financing receivables	$	31,560	$	60	$	63,783	$	95,403	$	5,335,501	$	5,430,904

⁽¹⁾  Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

12

	December 31, 2012
(in thousands)	Loans Accruing   30-89 Days   Past Due		Loans 90+ Days Past   Due & Still  Accruing		Non-Accruing Loans		Total Past Due Loans		Current Portfolio Loans		Total  Portfolio Loans
Land hold	$	21	$	—	$	—	$	21	$	6,521	$	6,542
Land development		—		—		213		213		12,891		13,104
Construction		—		—		150		150		5,697		5,847
Income producing		2,508		—		21,171		23,679		890,076		913,755
Owner-occupied		2,345		—		23,798		26,143		578,970		605,113
Total commercial real estate		4,874		—		45,332		50,206		1,494,155		1,544,361
Commercial and industrial		212		766		10,633		11,611		1,235,180		1,246,791
Small business (1)		2,242		—		6,313		8,555		288,183		296,738
Total commercial		7,328		766		62,278		70,372		3,017,518		3,087,890
Residential mortgage		9,544		—		11,312		20,856		616,389		637,245
Direct consumer		17,810		4		12,115		29,929		903,385		933,314
Indirect consumer		13,067		—		953		14,020		857,066		871,086
Total consumer		40,421		4		24,380		64,805		2,376,840		2,441,645
Total financing receivables	$	47,749	$	770	$	86,658	$	135,177	$	5,394,358	$	5,529,535

⁽¹⁾  Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

	September 30, 2012
(in thousands)	Loans Accruing   30-89 Days   Past Due		Loans 90+ Days Past   Due & Still  Accruing		Non-Accruing Loans		Total Past Due Loans		Current Portfolio Loans		Total  Portfolio Loans
Land hold	$	—	$	—	$	167	$	167	$	6,651	$	6,818
Land development		216		—		12		228		22,004		22,232
Construction		—		—		257		257		5,153		5,410
Income producing		3,325		—		23,227		26,552		948,710		975,262
Owner-occupied		5,817		—		27,540		33,357		600,822		634,179
Total commercial real estate		9,358		—		51,203		60,561		1,583,340		1,643,901
Commercial and industrial		1,055		1,344		13,603		16,002		1,215,363		1,231,365
Small business (1)		1,539		—		4,933		6,472		293,655		300,127
Total commercial		11,952		1,344		69,739		83,035		3,092,358		3,175,393
Residential mortgage		9,079		—		13,074		22,153		632,408		654,561
Direct consumer		18,629		24		14,704		33,357		921,474		954,831
Indirect consumer		9,898		—		1,256		11,154		876,388		887,542
Total consumer		37,606		24		29,034		66,664		2,430,270		2,496,934
Total financing receivables	$	49,558	$	1,368	$	98,773	$	149,699	$	5,522,628	$	5,672,327

⁽¹⁾  Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

13

Credit Quality Indicators. Citizens categorizes commercial loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. Citizens analyzes commercial loans individually by classifying the loans as to credit risk. This analysis includes loans with an outstanding balance greater than $0.5 million and non-homogeneous loans, such as commercial and industrial and commercial real estate loans. Credit quality indicators are reviewed and updated as applicable on an ongoing basis in accordance with Citizens’ credit policy. Citizens uses the following definitions for risk ratings:

Special Mention. Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.

Substandard. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness that jeopardizes the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Doubtful. Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation for full value, on the basis of currently existing facts, conditions, and values, highly questionable and improbable. Commercial loans considered doubtful are evaluated for impairment as part of the specific allocated allowance.

Loans not meeting the criteria above are considered to be pass rated loans. Commercial loans by risk category of class follow.

	September 30, 2012
(in thousands)	Pass		Special Mention		Substandard		Doubtful		Total
Land hold	$	2,021	$	745	$	2,218	$	—	$	4,984
Land development		7,174		144		203		—		7,521
Construction		6,689		—		—		—		6,689
Income producing		541,963		131,769		93,204		266		767,202
Owner-occupied		445,623		58,424		45,071		87		549,205
Total commercial real estate		1,003,470		191,082		140,696		353		1,335,601
Commercial and industrial		1,266,471		111,694		38,191		196		1,416,552
Small business (1)		236,974		14,975		20,432		63		272,444
Total commercial	$	2,506,915	$	317,751	$	199,319	$	612	$	3,024,597

⁽¹⁾  Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

	December 31, 2011
(in thousands)	Pass		Special Mention		Substandard		Doubtful		Total
Land hold	$	2,427	$	803	$	3,312	$	—	$	6,542
Land development		12,087		252		765		—		13,104
Construction		4,039		1,508		300		—		5,847
Income producing		633,855		164,756		112,458		2,686		913,755
Owner-occupied		475,604		66,576		61,429		1,504		605,113
Total commercial real estate		1,128,012		233,895		178,264		4,190		1,544,361
Commercial and industrial		1,059,316		113,126		74,307		42		1,246,791
Small business (1)		251,790		21,803		22,925		220		296,738
Total commercial	$	2,439,118	$	368,824	$	275,496	$	4,452	$	3,087,890

⁽¹⁾  Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

14

	September 30, 2011
(in thousands)	Pass		Special Mention		Substandard		Doubtful		Total
Land hold	$	2,548	$	820	$	3,450	$	—	$	6,818
Land development		12,397		295		9,540		—		22,232
Construction		3,304		1,525		577		4		5,410
Income producing		627,636		182,762		163,238		1,626		975,262
Owner-occupied		504,172		47,759		77,649		4,599		634,179
Total commercial real estate		1,150,057		233,161		254,454		6,229		1,643,901
Commercial and industrial		1,051,254		99,868		79,944		299		1,231,365
Small business (1)		255,237		23,113		21,623		154		300,127
Total commercial	$	2,456,548	$	356,142	$	356,021	$	6,682	$	3,175,393

⁽¹⁾  Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

For residential and consumer loans, Citizens evaluates credit quality based on the aging status of the loan and by payment activity. Performing loans are considered to have a lower risk of loss and are on accruing status. Nonperforming loans are comprised of nonaccrual loans and loans past due over 90 days and still accruing interest. The following table presents the recorded investment in residential and consumer loans based on payment activity.

	September 30, 2012
(in thousands)	Residential Mortgage		Direct Consumer		Indirect Consumer		Total Consumer Loans
Performing	$	555,024	$	855,222	$	967,844	$	2,378,090
Nonperforming		15,271		10,555		2,391		28,217
Total	$	570,295	$	865,777	$	970,235	$	2,406,307

	December 31, 2011
(in thousand)	Residential Mortgage		Direct Consumer		Indirect Consumer		Total Consumer Loans
Performing	$	625,933	$	921,195	$	870,133	$	2,417,261
Nonperforming		11,312		12,119		953		24,384
Total	$	637,245	$	933,314	$	871,086	$	2,441,645

	September 30, 2011
(in thousands)	Residential Mortgage		Direct Consumer		Indirect Consumer		Total Consumer Loans
Performing	$	641,487	$	940,103	$	886,286	$	2,467,876
Nonperforming		13,074		14,728		1,256		29,058
Total	$	654,561	$	954,831	$	887,542	$	2,496,934

Note 4. Allowance for Loan Losses

The allowance for loan losses is a reserve established through a provision for loan losses charged to expense, which represents management’s best estimate of probable losses that have been incurred within the existing portfolio of loans. The methodology used for measuring the appropriateness of the allowance for loan losses relies on several key elements, which include specific allowances for identified impaired loans, a risk-allocated allowance for the remainder of the portfolio and a general valuation allowance estimate. For additional information regarding Citizens policies and methodology used to estimate the allowance for loan losses, see Note 1 to the Consolidated Financial Statements of Citizens’ 2011 Annual Report on Form 10-K.

15

The activity within the allowance for loan losses is presented below.

(in thousands)	Three Months Ended September 30, 2012
	Allowance for Loan Losses  at June 30, 2012		Provision for Loan Losses			Charge-offs			Recoveries		Net charge-offs			Allowance for Loan Losses at September 30, 2012
Commercial and industrial	$	8,900	$	5,525		$	(4,552	)	$	108	$	(4,444	)	$	9,981
Small business		9,702		673			(1,039	)		120		(919	)		9,456
Commercial real estate		48,567		(5,222	)		(5,452	)		1,008		(4,444	)		38,901
Total commercial		67,169		976			(11,043	)		1,236		(9,807	)		58,338
Residential mortgage		27,686		1,957			(3,261	)		746		(2,515	)		27,128
Direct consumer		31,736		263			(6,067	)		1,277		(4,790	)		27,209
Indirect consumer		9,529		1,999			(3,172	)		1,094		(2,078	)		9,450
Total	$	136,120	$	5,195		$	(23,543	)	$	4,353	$	(19,190	)	$	122,125

(in thousands)	Three Months Ended September 30, 2011
	Allowance for Loan Losses  at June 30, 2011		Provision for Loan Losses			Charge-offs			Recoveries		Net charge-offs			Allowance for Loan Losses at September 30, 2011
Commercial and industrial	$	17,618	$	(4,122	)	$	(994	)	$	721	$	(273	)	$	13,223
Small business		12,933		(1,161	)		(1,132	)		180		(952	)		10,820
Commercial real estate		83,627		(1,065	)		(5,860	)		537		(5,323	)		77,239
Total commercial		114,178		(6,348	)		(7,986	)		1,438		(6,548	)		101,282
Residential mortgage		43,925		11,856			(18,369	)		5		(18,364	)		37,417
Direct consumer		32,688		10,888			(6,398	)		688		(5,710	)		37,866
Indirect consumer		15,501		1,085			(3,430	)		633		(2,797	)		13,789
Total	$	206,292	$	17,481		$	(36,183	)	$	2,764	$	(33,419	)	$	190,354

(in thousands)	Nine Months Ended September 30, 2012
	Allowance for Loan Losses  at December 31, 2011		Provision for Loan Losses			Charge-offs			Recoveries		Net charge-offs			Allowance for Loan Losses at September 30, 2012
Commercial and industrial	$	14,044	$	5,482		$	(10,607	)	$	1,062	$	(9,545	)	$	9,981
Small business		12,230		1,321			(4,575	)		480		(4,095	)		9,456
Commercial real estate		63,999		(8,609	)		(22,542	)		6,053		(16,489	)		38,901
Total commercial		90,273		(1,806	)		(37,724	)		7,595		(30,129	)		58,338
Residential mortgage		36,460		1,765			(12,443	)		1,346		(11,097	)		27,128
Direct consumer		33,020		15,580			(24,762	)		3,371		(21,391	)		27,209
Indirect consumer		12,973		3,352			(9,580	)		2,705		(6,875	)		9,450
Total	$	172,726	$	18,891		$	(84,509	)	$	15,017	$	(69,492	)	$	122,125

16

(in thousands)	Nine Months Ended September 30, 2011
	Allowance for Loan Losses  at December 31, 2010		Provision for Loan Losses		Charge-offs			Recoveries		Net charge-offs			Allowance for Loan Losses at September 30, 2011
Commercial and industrial	$	26,619	$	18,478	$	(34,722	)	$	2,848	$	(31,874	)	$	13,223
Small business		16,334		3,026		(9,063	)		523		(8,540	)		10,820
Commercial real estate		156,623		59,880		(140,952	)		1,688		(139,264	)		77,239
Total commercial		199,576		81,384		(184,737	)		5,059		(179,678	)		101,282
Residential mortgage		47,623		15,989		(26,431	)		236		(26,195	)		37,417
Direct consumer		32,255		22,422		(19,388	)		2,577		(16,811	)		37,866
Indirect consumer		16,577		4,006		(8,541	)		1,747		(6,794	)		13,789
Total	$	296,031	$	123,801	$	(239,097	)	$	9,619	$	(229,478	)	$	190,354

A summary of the allowance for loan losses, segregated by portfolio segment follows.

(in thousands)	September 30, 2012
	Allowance for Loans  Individually Evaluated for Impairment		Allowance for Loans  Collectively Evaluated for Impairment		General Allowance		Total Allowance for Loan Losses
Commercial and industrial	$	195	$	9,619	$	167	$	9,981
Small business		—		9,295		161		9,456
Commercial real estate		402		37,843		656		38,901
Total commercial		597		56,757		984		58,338
Residential mortgage		3,724		23,005		399		27,128
Direct consumer		428		26,325		456		27,209
Indirect consumer		—		9,289		161		9,450
Total allowance for loan losses	$	4,749	$	115,376	$	2,000	$	122,125

	September 30, 2012
(in thousands)	Recorded Investment of Loans Individually Evaluated for Impairment		Recorded Investment of Loans Collectively Evaluated for Impairment		Deferred (Fees)/Costs			Total Recorded Investment
Commercial and industrial	$	2,360	$	1,419,537	$	(5,345	)	$	1,416,552
Small business(1)		188		271,981		275			272,444
Commercial real estate		35,806		1,300,963		(1,168	)		1,335,601
Total commercial		38,354		2,992,481		(6,238	)		3,024,597
Residential mortgage		17,036		553,551		(292	)		570,295
Direct consumer		7,897		855,504		2,376			865,777
Indirect consumer		—		945,098		25,137			970,235
Total portfolio loans	$	63,287	$	5,346,634	$	20,983		$	5,430,904

⁽¹⁾ Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

17

	December 31, 2011
(in thousands)	Allowance for Loans Individually Evaluated for Impairment		Allowance for Loans Collectively Evaluated for Impairment		General Allowance		Total Allowance for Loan Losses
Commercial and industrial	$	42	$	13,302	$	700	$	14,044
Small business		—		11,730		500		12,230
Commercial real estate		4,110		58,589		1,300		63,999
Total commercial		4,152		83,621		2,500		90,273
Residential mortgage		2,837		33,623		—		36,460
Direct consumer		70		32,950		—		33,020
Indirect consumer		—		12,973		—		12,973
Total allowance for loan losses	$	7,059	$	163,167	$	2,500	$	172,726

	December 31, 2011
(in thousands)	Recorded Investment of Loans Individually Evaluated for Impairment		Recorded Investment of Loans Collectively Evaluated for Impairment		Deferred (Fees)/Costs			Total Recorded Investment
Commercial and industrial	$	8,842	$	1,245,902	$	(7,953	)	$	1,246,791
Small business(1)		557		295,972		209			296,738
Commercial real estate		57,562		1,488,657		(1,858	)		1,544,361
Total commercial		66,961		3,030,531		(9,602	)		3,087,890
Residential mortgage		15,140		623,779		(1,674	)		637,245
Direct consumer		4,607		928,930		(223	)		933,314
Indirect consumer		478		850,868		19,740			871,086
Total portfolio loans	$	87,186	$	5,434,108	$	8,241		$	5,529,535

⁽¹⁾ Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

	September 30, 2011
(in thousands)	Allowance for Loans Individually Evaluated for Impairment		Allowance for Loans Collectively Evaluated for Impairment		General Allowance		Total Allowance for Loan Losses
Commercial and industrial	$	96	$	13,127	$	—	$	13,223
Small business		3		10,817		—		10,820
Commercial real estate		6,148		67,091		4,000		77,239
Total commercial		6,247		91,035		4,000		101,282
Residential mortgage		2,540		34,877		—		37,417
Direct consumer		184		37,682		—		37,866
Indirect consumer		—		13,789		—		13,789
Total allowance for loan losses	$	8,971	$	177,383	$	4,000	$	190,354

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	September 30, 2011
(in thousands)	Recorded Investment of Loans Individually Evaluated for Impairment		Recorded Investment of Loans Collectively Evaluated for Impairment		Deferred (Fees)/Costs			Total Recorded Investment
Commercial and industrial	$	11,588	$	1,219,532	$	245		$	1,231,365
Small business(1)		562		299,361		204			300,127
Commercial real estate		52,452		1,593,357		(1,908	)		1,643,901
Total commercial		64,602		3,112,250		(1,459	)		3,175,393
Residential mortgage		14,392		640,891		(722	)		654,561
Direct consumer		4,615		950,813		(597	)		954,831
Indirect consumer		474		866,996		20,072			887,542
Total portfolio loans	$	84,083	$	5,570,950	$	17,294		$	5,672,327

⁽¹⁾ Amounts contained in “Commercial and industrial” on Consolidated Balance Sheets.

Impaired loans. A loan is impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. If a loan is impaired, a specific valuation allowance is allocated, if necessary, so that the loan is reported net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Interest payments on impaired loans are typically applied to principal unless collectability of the principal amount is reasonably assured, in which case interest is recognized on a cash basis. Impaired loans, or portions thereof, are charged off when deemed uncollectible.

Citizens recognized interest income on nonperforming loans of $0.4 million and $1.9 million for the three and nine months ended September 30, 2012, respectively, and $0.3 million and $1.9 million for the three and nine months ended September 30, 2011, respectively. Had nonaccrual loans performed in accordance with their original contract terms, Citizens would have recognized additional interest income of approximately $1.7 million and $2.7 million for the three and nine months ended September 30, 2012, respectively, and approximately $1.6 million and $3.6 million for the three and nine months ended September 30, 2011, respectively. There were no significant commitments outstanding to lend additional funds to clients whose loans were classified as restructured at September 30, 2012, December 31, 2011, or September 30, 2011.

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A summary of information regarding loans individually reviewed for impairment, segregated by class are set forth in the following table.

	September 30, 2012
											Average Recorded Investment
(in thousands)	Unpaid Contractual Principal Balance		Recorded Investment with No Specific Allowance		Recorded Investment with Specific Allowance		Total Recorded Investment		Specific Related Allowance		Quarter To Date		Year To Date
Nonaccrual loans (impaired)
Income producing	$	17,333	$	10,644	$	657	$	11,301	$	267	$	14,356	$	15,636
Owner-occupied		13,547		7,149		1,664		8,813		129		11,025		13,406
Total commercial real estate		30,880		17,793		2,321		20,114		396		25,381		29,042
Commercial and industrial		10,941		1,623		736		2,359		195		8,296		7,993
Small business		193		188		—		188		—		191		162
Total commercial		42,014		19,604		3,057		22,661		591		33,868		37,197
Residential mortgage		3,762		230		3,532		3,762		814		4,065		4,770
Direct consumer		1,183		301		882		1,183		82		1,158		1,096
Indirect consumer		—		—		—		—		—		—		239
Total consumer		4,945		531		4,414		4,945		896		5,223		6,105
Total nonaccrual loans (impaired)		46,959		20,135		7,471		27,606		1,487		39,091		43,302
Accrual loans (impaired)
Income producing		873		—		873		873		3		439		3,957
Owner-occupied		14,820		14,176		644		14,820		3		15,098		15,188
Total commercial real estate		15,693		14,176		1,517		15,693		6		15,537		19,145
Small business		—		—		—		—		—		—		244
Total commercial		15,693		14,176		1,517		15,693		6		15,537		19,389
Residential mortgage		13,275		2,707		10,568		13,275		2,910		12,019		10,835
Direct consumer		6,713		4,478		2,235		6,713		346		6,782		5,762
Total consumer		19,988		7,185		12,803		19,988		3,256		18,801		16,597
Total accrual loans (impaired)		35,681		21,361		14,320		35,681		3,262		34,338		35,986
Total impaired loans	$	82,640	$	41,496	$	21,791	$	63,287	$	4,749	$	73,429	$	79,288

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	December 31, 2011
											Average Recorded Investment
(in thousands)	Unpaid Contractual Principal Balance		Recorded Investment with No Specific Allowance		Recorded Investment  with Specific Allowance		Total Recorded Investment		Specific Related Allowance		Quarter To Date		Year To Date
Nonaccrual loans (impaired)
Land hold	$	—	$	—	$	—	$	—	$	—	$	—	$	45
Land development		—		—		—		—		—		—		85
Construction		—		—		—		—		—		129		224
Income producing		23,394		9,163		8,838		18,001		2,686		18,989		19,516
Owner-occupied		22,338		13,276		3,694		16,970		1,424		19,267		17,069
Total commercial real estate		45,732		22,439		12,532		34,971		4,110		38,385		36,939
Commercial and industrial		17,197		8,196		646		8,842		42		10,215		12,499
Small business		131		66		—		66		—		66		269
Total commercial		63,060		30,701		13,178		43,879		4,152		48,666		49,707
Residential mortgage		6,610		587		6,023		6,610		1,346		9,075		10,592
Direct consumer		1,168		647		500		1,147		55		1,757		1,519
Indirect consumer		478		478		—		478		—		476		474
Total consumer		8,256		1,712		6,523		8,235		1,401		11,308		12,585
Total nonaccrual loans (impaired)		71,316		32,413		19,701		52,114		5,553		59,974		62,292
Accrual loans (impaired)
Income producing		7,476		7,476		—		7,476		—		7,497		7,524
Owner-occupied		15,115		15,115		—		15,115		—		9,125		6,166
Total commercial real estate		22,591		22,591		—		22,591		—		16,622		13,690
Small business		491		491		—		491		—		494		500
Total commercial		23,082		23,082		—		23,082		—		17,116		14,190
Residential mortgage		8,530		2,088		6,442		8,530		1,491		5,691		3,966
Direct consumer		3,460		3,360		100		3,460		15		2,854		2,570
Total consumer		11,990		5,448		6,542		11,990		1,506		8,545		6,536
Total accrual loans (impaired)		35,072		28,530		6,542		35,072		1,506		25,661		20,726
Total impaired loans	$	106,388	$	60,943	$	26,243	$	87,186	$	7,059	$	85,635	$	83,018

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	September 30, 2011
											Average Recorded Investment
(in thousands)	Unpaid Contractual Principal Balance		Recorded Investment with No Specific Allowance		Recorded Investment  with Specific Allowance		Total Recorded Investment		Specific Related Allowance		Quarter To Date		Year To Date
Nonaccrual loans (impaired)
Land hold	$	—	$	—	$	—	$	—	$	—	$	—	$	551
Land development		—		—		—		—		—		169		761
Construction		491		93		164		257		4		329		1,930
Income producing		27,646		12,432		7,545		19,977		1,626		18,513		28,706
Owner-occupied		24,955		10,384		11,181		21,565		4,518		18,697		20,981
Total commercial real estate		53,092		22,909		18,890		41,799		6,148		37,708		52,929
Commercial and industrial		20,099		10,689		899		11,588		96		12,448		20,920
Small business		131		—		65		65		3		65		698
Total commercial		73,322		33,598		19,854		53,452		6,247		50,221		74,547
Residential mortgage		13,381		1,841		11,540		13,381		2,509		13,749		11,371
Direct consumer		2,471		844		1,524		2,368		169		1,831		1,632
Indirect consumer		474		474		—		474		—		474		472
Total consumer		16,326		3,159		13,064		16,223		2,678		16,054		13,475
Total nonaccrual loans (impaired)		89,648		36,757		32,918		69,675		8,925		66,275		88,022
Accrual loans (impaired)
Income producing		7,519		7,519		—		7,519		—		7,533		5,639
Owner-occupied		3,134		3,134		—		3,134		—		3,144		3,546
Total commercial real estate		10,653		10,653		—		10,653		—		10,677		9,185
Small business		497		497		—		497		—		500		376
Total commercial		11,150		11,150		—		11,150		—		11,177		9,561
Residential mortgage		1,011		850		161		1,011		31		1,068		1,283
Direct consumer		2,247		2,147		100		2,247		15		2,262		2,084
Total consumer		3,258		2,997		261		3,258		46		3,330		3,367
Total accrual loans (impaired)		14,408		14,147		261		14,408		46		14,507		12,928
Total impaired loans	$	104,056	$	50,904	$	33,179	$	84,083	$	8,971	$	80,782	$	100,950

Troubled Debt Restructurings. A modified loan is considered a Troubled Debt Restructuring (“TDR”) when two conditions are met: 1) the borrower is experiencing financial difficulty and 2) concessions are made that would not otherwise be considered for a borrower with similar credit characteristics. While commercial loan modifications vary depending on circumstances, the most common types of modifications for residential and consumer loans include below market rate reductions and/or maturity extensions, and generally do not include forgiveness of principal balances. Modified terms are dependent upon the financial position and needs of the individual borrower.

Citizens classifies TDRs as nonaccruing loans unless the loan qualified for accruing status at the time of the restructure, or the loan has performed according to the new contractual terms for at least six months. To qualify for accruing status at the time of the restructure, the original loan must have been less than 90 days past due at the time of the restructure and the modification must not have resulted in an impairment loss. At September 30, 2012 the majority of Citizens’ TDRs were on accrual status and all were reported as impaired. TDR classifications may be removed if the borrower demonstrates compliance with the modified terms and the restructuring agreement specifies a market rate of interest equal to that which would be provided to a borrower with similar credit at the time of restructuring. Otherwise, the loans remain classified as TDRs.

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The recorded investment balance of TDRs approximated $27.8 million at September 30, 2012. TDRs of $21.4 million were on accrual status and TDRs of $6.4 million were on nonaccrual status at September 30, 2012. TDRs are evaluated separately in Citizens’ allowance for loan loss methodology based on the expected cash flows or underlying collateral of loans in this status. At September 30, 2012, the allowance for loan losses included specific reserves of $4.2 million related to TDRs, which included $3.7 million related to mortgage TDRs and $0.5 million related to direct consumer TDRs, compared to $2.7 million of specific reserves related to TDRs at September 30, 2011, which included $2.5 million related to mortgage TDRs and $0.2 million related to direct consumer TDRs . Citizens charged off $0.4 million and $1.1 million for the three and nine months ended September 30, 2012, respectively, and $2.1 million and $6.0 million for the three and nine months ended September 30, 2011, respectively, for the portion of TDRs deemed to be uncollectible.

The following table provides information on loans modified as a TDR.

	Three Months Ended September 30,
	2012									2011
(in thousands)	Number of Loans		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Average Coupon Rate			Number of Loans		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Average Coupon Rate
Residential mortgage		15	$	2,399	$	2,399		2.91	%		10	$	2,265	$	2,411		2.25	%
Direct consumer		5		360		360		3.39			1		331		336		5.10
Total portfolio loans		20	$	2,759	$	2,759		2.97			11	$	2,596	$	2,747		2.60
	Nine Months Ended September 30,
	2012									2011
(in thousands)	Number of Loans		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Average Coupon Rate			Number of Loans		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Average Coupon Rate
Commercial and industrial		2	$	1,839	$	1,500		6.50	%		2	$	1,807	$	1,807		6.45	%
Commercial real estate		—		—		—		—			2		11,988		8,283		7.42
Total commercial		2		1,839		1,500		6.50			4		13,795		10,090		7.25
Residential mortgage		29		4,732		4,732		2.69			32		8,092		8,365		2.76
Direct consumer		57		4,163		4,082		4.30			7		1,599		1,605		6.34
Total portfolio loans		88	$	10,734	$	10,314		3.88			43	$	23,486	$	20,060		5.30

The following table provides information on how loans were modified as a TDR.

	Three Months Ended September 30,				Nine Months Ended September 30,
(in thousands)	2012		2011		2012		2011
Post Modification Recorded Investment
Extended maturity	$	493	$	—	$	2,486	$	2,202
Interest rate adjustments		679		2,215		3,304		6,989
Combination of rate and maturity		1,562		532		3,735		10,869
Other(1)		25		—		789		—
Total	$	2,759	$	2,747	$	10,314	$	20,060

⁽¹⁾  Other includes covenant modification, forebearance and other concessions or combination of concessions that do not consist of interest rate adjustments and/or maturity extensions.

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A TDR loan is considered to have a payment default when one or more payments is over 90 days past due. At September 30, 2012, there were three loans of approximately $0.3 million modified as a TDR within the last twelve months that were in payment default.

Note 5. Long-Term Debt

The components of long-term debt are presented below.

(in thousands)	September 30, 2012		December 31, 2011
Citizens (Parent only):
Subordinated debt:
5.75% subordinated notes due February 2013	$	17,214	$	17,101
Variable rate junior subordinated debenture due June 2033		25,774		25,774
7.50% junior subordinated debentures due September 2066		48,677		48,677
Subsidiaries:
FHLB advances		656,700		658,484
Other borrowed funds		104,116		104,149
Total long-term debt	$	852,481	$	854,185

Citizens restructured $350.0 million of FHLB advances during the first nine months of 2012, extending the average remaining term on these advances to 9.0 years from 3.2 years and reducing the average interest rate to 2.55% from 3.50%. Throughout 2011, Citizens restructured $245.0 million in FHLB advances extending the average remaining term to 5.8 years from 3.3 years and reducing the average interest rate to 3.32% from 4.84%.

During the first quarter of 2010, Citizens decided to defer regularly scheduled quarterly interest payments on its outstanding junior subordinated debentures relating to its two trust preferred securities. While Citizens accrues for this obligation it is currently in arrears with the interest payments as contractually permitted. As of September 30, 2012 and December 31, 2011, the amount of the arrearage on the payments on the subordinated debentures associated with the trust preferred securities is $13.8 million and $9.8 million, respectively.

Note 6. Income Taxes

Citizens recorded income tax expense of $1.3 million for the third quarter of 2012, compared to a benefit of $12.6 million for the third quarter of 2011. The tax benefit in 2011 was largely due to Citizens recording a receivable as a result of a revocation of a tax election. For the first nine months of 2012, the income tax benefit totaled $275.5 million, compared with a benefit of $22.8 million for the same period of 2011. The increase in the tax benefit for 2012 was primarily the result of eliminating the valuation allowance against the deferred tax asset. The deferred tax asset is reviewed on a quarterly basis and based on the analysis of positive and negative evidence at June 30, 2012, including Citizens’ return to profitability over the past five quarters, no deferred tax asset valuation allowance was deemed necessary as of June 30, 2012. As a result, the deferred tax asset valuation allowance was reversed in the second quarter of 2012. As of September 30, 2012, the recorded balance of the deferred tax asset was $268.3 million, reported in Other Assets on the Consolidated Balance Sheets.

Note 7. Fair Values of Assets and Liabilities

Fair value estimates are intended to represent 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. Given that there is no active market for many of Citizens’ financial instruments, Citizens has made estimates using discounted cash flow or other valuation techniques. Inputs to these valuation methods are subjective in nature, involve uncertainties, and require significant judgment and therefore cannot be determined with precision. Accordingly, the derived fair value estimates presented herein are not necessarily indicative of the amounts Citizens could realize in a current market exchange.

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The fair value estimates are based on existing on- and off-balance sheet financial instruments and do not attempt to estimate the value of anticipated future business or the value of assets and liabilities that are not considered financial instruments. For example, Citizens has a substantial trust department that contributes net fee income annually. The trust department is not considered a financial instrument and its value has not been incorporated into the fair value estimates. Other significant assets and liabilities that are not considered financial assets or liabilities include Citizens’ brokerage network, net deferred tax assets (and the related valuation reserves), and premises and equipment. In addition, tax ramifications related to the recognition of unrealized gains and losses such as those within the investment securities portfolio can have a significant effect on estimated fair values and have not been considered in the estimates. For these reasons, the aggregate fair value should not be considered an indication of Citizens’ value.

Citizens groups assets and liabilities which are recorded at fair value into three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. An asset or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement (with Level 1 considered highest and Level 3 considered lowest). A brief description of each level follows.

Level 1 — Valuation is based upon quoted prices for identical instruments in active markets.

Level 2 — Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.

Level 3 — Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates that market participants would use in pricing the asset or liability. Valuation techniques include the use of discounted cash flow models and similar techniques.

The carrying amount, estimated fair value, and placement in the fair value hierarchy of Citizens’ financial instruments that are not measured at fair value follow.

	September 30, 2012
	Carrying Amount		Estimated Fair Value		Fair Value Measurements
(in thousands)					Level 1		Level 2		Level 3
Financial assets:
Cash and due from banks	$	162,705	$	162,705	$	—	$	162,705	$	—
Money market investments		223,818		223,818		—		223,818		—
Securities held to maturity		1,313,504		1,378,310		—		1,378,310		—
FHLB and Federal Reserve stock		122,123		122,123		—		122,123		—
Net portfolio loans		5,308,779		5,163,239		—		—		5,163,239
Loans held for sale		30,062		30,062		—		11,815		18,247
Accrued interest receivable		32,088		32,088		—		32,088		—
Financial liabilities:
Deposits		7,302,965		7,324,879		—		7,324,879		—
Short-term borrowings		42,796		42,796		—		42,796		—
Long-term debt		852,481		933,690		56,952		876,738		—
Accrued interest payable		16,900		16,900		—		16,900		—

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	December 31, 2011
	Carrying Amount		Estimated Fair Value		Fair Value Measurements
(in thousands)					Level 1		Level 2		Level 3
Financial assets:
Cash and due from banks	$	153,418	$	153,418	$	—	$	153,418	$	—
Money market investments		313,632		313,632		—		313,632		—
Securities held to maturity		1,444,054		1,487,550		—		1,487,550		—
FHLB and Federal Reserve stock		117,943		117,943		—		117,943		—
Net portfolio loans		5,356,809		5,101,446		—		—		5,101,446
Loans held for sale		10,402		10,402		—		6,140		4,262
Accrued interest receivable		31,390		31,390		—		31,390		—
Financial liabilities:
Deposits		7,394,941		7,424,427		—		7,424,427		—
Short-term borrowings		40,098		40,098		—		40,098		—
Long-term debt		854,185		927,533		45,931		881,602		—
Accrued interest payable		14,047		14,047		—		14,047		—

The carrying amount approximates fair value for cash, money market investments, and accrued interest. The methods and assumptions used to estimate the fair value of other financial instruments, regardless if the instrument is carried at fair value or not, are set forth below. There were no changes in the valuation methods used to estimate fair value during the period ended September 30, 2012.

Securities Available for Sale.Fair value measurement is based upon quoted prices for similar assets, if available, or matrix pricing models. Matrix pricing is a mathematical technique widely used in the financial industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted prices. The securities in the available for sale portfolio are priced by independent providers. These providers utilize pricing models that vary by asset class and incorporate available trade, bid and other market information and for structured securities, cash flow and, when available, loan performance data. Because many fixed income securities do not trade on a daily basis, the pricing applications apply available information as applicable through processes such as benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing. In addition, Citizens uses model processes to assess interest rate impact and develop prepayment scenarios. The impact of unobservable inputs and proprietary models are not material to the determination of fair values of these securities. In obtaining such valuation information from third parties, Citizens has evaluated their valuation methodologies used to develop the fair values in order to determine whether such valuations are representative of the price at which a transaction would take place in current markets. Further, Citizens completes a comparison of the fair value estimates quarterly by validating the data received to date provided by a separate third party. In order to then evaluate reasonableness of the market data, Citizens also independently prices a sampling of securities using data from an independent source. Should Citizens find variances, the prices are then challenged and prices are adjusted accordingly. To date, there have been no significant findings or adjustments made by Citizens. Citizens’ principal markets for its securities portfolios are the secondary institutional markets, with an exit price that is predominantly reflective of bid level pricing in those markets.

Recurring Level 3 securities include auction rate securities issued by student-loan authorities and a taxable municipal Qualified Zone Academy Bond (“QZAB”). Due to the nature of the auction rate securities and the lack of a secondary market with active fair value indicators, Citizens used an income approach based on a discounted cash flow model utilizing significant unobservable inputs (Level 3) in the valuation process to estimate the transaction price between market participants for each group of securities as of the valuation date. The significant assumptions made in this modeling process included the liquidity and credit premiums, and fail rate formulas utilizing assumed interest payments. Due to the current illiquid market for QZAB bonds, Citizens relies on models containing significant unobservable market-based inputs to determine the fair value of these bonds.

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Securities Held to Maturity.The fair value of securities classified as held to maturity are based upon quoted prices for similar assets, if available, or matrix pricing models. This process is essentially the same as the valuation methodologies and price verification functions used for securities available for sale.

FHLB and Federal Reserve Stock.The carrying amount of FHLB and Federal Reserve stock is used to approximate the fair value of these investments. These securities are not readily marketable, are recorded at cost (par value), and are evaluated for impairment based on the ultimate recoverability of the par value. Citizens considers positive and negative evidence, including the profitability and asset quality of the issuer, dividend payment history and recent redemption experience, when determining the ultimate recoverability of the par value. Citizens believes its investments in FHLB and Federal Reserve stock are ultimately recoverable at par.

Net Portfolio Loans.The fair value of loans and loan commitments is estimated based on discounted cash flows using exit-value rates at September 30, 2012 and December 31, 2011, weighted for varying maturity dates. The cash flows take into consideration current portfolio interest rates and repricing characteristics as well as assumptions relating to prepayment speeds. The discount rates take into consideration the current market interest rate environment, a credit risk component based on the credit characteristics of each loan portfolio, and a liquidity premium reflecting the liquidity or illiquidity of the market. If an entry-value rate was used to estimate fair value of loans and loan commitments, the disclosed fair value would have been higher for the periods presented.

Deposits.The estimated fair value of demand deposits (e.g., noninterest and interest bearing demand, savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for certificates of deposit are based on the discounted value of contractual cash flows at current interest rates. The estimated fair value of deposits does not take into account the value of Citizens’ long-term relationships with depositors, commonly known as core deposit intangibles, which are separate intangible assets, and not considered financial instruments.

Short-Term Borrowings.The carrying amounts of federal funds purchased, securities sold under agreement to repurchase and other short-term borrowings approximate their fair values because they frequently reprice to a market rate.

Long-Term Debt.The fair value is estimated using observable market prices and by discounting future cash flows using current interest rates for similar financial instruments.

Derivative Instruments.Substantially all derivative instruments held or issued by Citizens are traded in over-the-counter markets where quoted market prices are not readily available. Derivative instruments are priced by independent providers using observable market assumptions with adjustments based on widely accepted valuation techniques. For those derivatives, Citizens measures fair value with models that use primarily market observable inputs, such as yield curves and option volatilities, and include the value associated with counterparty credit risk (credit valuation adjustments). Citizens assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions, and determined that the credit valuation adjustments were not significant to the overall valuation of its derivatives.

Deferred Compensation Assets.Citizens has a portfolio of mutual fund investments classified as trading securities which hedge the deferred compensation liabilities for various employees, former employees and directors. These investments are traded on active exchanges with valuations obtained from readily available pricing sources for market transactions involving identical assets. Additionally, Citizens invests in a Guaranteed Income Fund which is supported by a group annuity insurance contract issued by Prudential Retirement Insurance and Annuity Company. The investment is recorded at contract value and, based on the nature of the fund, generally approximates fair value. The Guaranteed Income Fund has no maturity date and is secured only by Prudential’s general account. Therefore, the Guaranteed Income Fund is recorded as recurring Level 3.

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Impaired Loans.A loan is impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impairment is typically measured based on the fair value of the underlying collateral. The fair value of the underlying collateral is determined, where possible, using market prices derived from appraisals, which are considered to be Level 2. Fair value may also be measured using the present value of expected future cash flows discounted at the loan’s effective interest rate. Since certain assumptions and unobservable inputs related to loss severity are currently being used in both techniques, impaired loans are recorded as Level 3 in the fair value hierarchy. Citizens measures impairment on all nonaccrual commercial and industrial and commercial real estate loans for which it has established specific reserves as part of the specific allocated allowance component of the allowance for loan losses. Citizens measures impairment on all residential mortgage loans over 120 days past due.

Loans Held for Sale.Residential mortgage loans held for sale are comprised of loans originated for sale in the ordinary course of business and selected nonperforming residential mortgage loans. The fair value of residential mortgage loans originated for sale in the secondary market is based on purchase commitments or quoted prices for similar loans and are classified as nonrecurring Level 2. The fair value of nonperforming residential mortgage loans is based on the fair value of the underlying collateral, net of estimated costs to sell, using market prices derived from indicative pricing models which utilize projected assumptions about loss severity Citizens believes potential investors would make or appraisals and are classified as nonrecurring Level 3.

Commercial loans held for sale are comprised primarily of loans identified for sale that are recorded at the lower of carrying amount or market value based on appraisals of the underlying collateral, which are also subject to management adjustments for loss severity based on current market conditions and recent sales activity. Fair value may also be measured using the present value of expected future cash flows discounted at the loan’s effective interest rate. Citizens records commercial loans held for sale as nonrecurring Level 3.

Other Real Estate.Other real estate (“ORE”) is comprised of commercial and residential real estate acquired through foreclosure proceedings or acceptance of a deed-in-lieu of foreclosure. Commercial properties and former branch locations are carried at fair value at the time of acquisition based on the fair value of the underlying real property, net of estimated costs to sell. This is determined using market prices derived from appraisals, which are considered to be Level 2. However, certain assumptions and unobservable inputs related to loss severity are currently being used by appraisers and management, therefore, qualifying the assets as Level 3 in the fair value hierarchy. Residential real estate is recorded at the fair value of the underlying real property, net of estimated costs to sell, using market prices derived from indicative pricing models which utilize projected assumptions Citizens believes potential investors would make or appraisals and are classified as nonrecurring Level 3. Losses arising from the initial acquisition of such properties are charged against the allowance for loan losses at the time of transfer. Subsequent valuation adjustments to reflect fair value, as well as gains and losses on disposal of these properties, are charged to noninterest expense as incurred. Citizens records ORE properties as nonrecurring Level 3.

Repossessed Assets.Repossessed assets consist of consumer assets acquired to satisfy the consumer’s outstanding delinquent debt. These assets consist of automobiles, boats, recreational vehicles and other personal items. These assets are carried at fair value, net of estimated costs to sell, based on internally developed procedures. Citizens records repossessed assets as nonrecurring Level 3.

Some of the assets and liabilities discussed above are measured on a recurring basis while others are measured on a nonrecurring basis, with the determination based upon applicable existing accounting pronouncements. For example, investment securities available for sale, derivative instruments, and deferred compensation assets are recorded at fair value on a recurring basis. Other assets, such as loans held for sale, impaired loans, other real estate, and repossessed assets are recorded at fair value on a nonrecurring basis. Goodwill and core deposit intangibles are measured for impairment on a nonrecurring basis and are written down when the value of the individual asset has declined below carrying value.

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The following table presents the balances of assets and liabilities that were measured at fair value on a recurring basis.

September 30, 2012
(in thousands)	Total		Level 1		Level 2		Level 3
Securities available for sale:
Collateralized mortgage obligations	$	411,731	$	—	$	411,725	$	6
Mortgage-backed		1,018,853		—		1,018,853		—
State and municipal		110,696		—		109,988		708
Other		287		—		54		233
Total available for sale		1,541,567		—		1,540,620		947
Other assets:
Derivatives designated as hedging instruments		1,217		—		1,217		—
Derivatives not designated as hedging instruments		14,898		—		14,898		—
Deferred compensation assets		8,796		6,915		—		1,881
Total other assets		24,911		6,915		16,115		1,881
Total	$	1,566,478	$	6,915	$	1,556,735	$	2,828
Other liabilities:
Derivatives designated as hedging instruments	$	7,515	$	—	$	7,515	$	—
Derivatives not designated as hedging instruments		15,521		—		15,521		—
Total	$	23,036	$	—	$	23,036	$	—

December 31, 2011
(in thousands)	Total		Level 1		Level 2		Level 3
Securities available for sale:
Collateralized mortgage obligations	$	365,302	$	—	$	365,294	$	8
Mortgage-backed		823,852		—		823,852		—
State and municipal		123,308		—		121,862		1,446
Other		271		—		38		233
Total available for sale		1,312,733		—		1,311,046		1,687
Other assets:
Derivatives designated as hedging instruments		3,791		—		3,791		—
Derivatives not designated as hedging instruments		17,088		—		17,088		—
Deferred compensation assets		8,477		6,791		—		1,686
Total other assets		29,356		6,791		20,879		1,686
Total	$	1,342,089	$	6,791	$	1,331,925	$	3,373
Other liabilities:
Derivatives designated as hedging instruments	$	2,317	$	—	$	2,317	$	—
Derivatives not designated as hedging instruments		17,614		—		17,614		—
Total	$	19,931	$	—	$	19,931	$	—

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There were no transfers between levels within the fair value hierarchy nor were there any purchases, sales, or issuances during the three and nine month periods ended September 30, 2012. The following table presents the reconciliation of Level 3 assets held by Citizens.

			Net Realized/Unrealized Gains (Losses)
	Balance at Beginning of Period		Recorded in Earnings				Recorded in Other Comprehensive Income (Pretax)			Purchases		Sales			Settlements			Balance at End of Period
(in thousands)			Realized (1)		Unrealized
Three Months Ended September 30, 2012
Securities available for sale
Collateralized mortgage obligations	$	6	$	—	$	—	$	—		$	—	$	—		$	—		$	6
State and municipal		1,447		612		—		99			—		—			(1,450	)		708
Other		233		3		—		(3	)		—		—			—			233
Deferred compensation assets		1,851		—		—		—			538		(508	)		—			1,881
Total	$	3,537	$	615	$	—	$	96		$	538	$	(508	)	$	(1,450	)	$	2,828
Nine Months Ended September 30, 2012
Securities available for sale
Collateralized mortgage obligations	$	8	$	—	$	—	$	—		$	—	$	—		$	(2	)	$	6
State and municipal		1,446		628		—		84			—		—			(1,450	)		708
Other		233		10		—		(10	)		—		—			—			233
Deferred compensation assets		1,686		—		—		—			825		(630	)		—			1,881
Total	$	3,373	$	638	$	—	$	74		$	825	$	(630	)	$	(1,452	)	$	2,828

⁽¹⁾ Net realized gains and losses, including discount accretions, are contained in the line item “Interest Income” on the Consolidated Statements of Operations.

The following table includes assets measured at fair value on a nonrecurring basis that have had a fair value adjustment.

September 30, 2012 (in thousands)	Initial Carrying Value		Fair Value
			Total		Level 1		Level 2		Level 3
Impaired loans	$	78,200	$	31,101	$	—	$	—	$	31,101
Commercial loans held for sale		36		—		—		—		—
Residential mortgage loans held for sale		708		214		—		—		214
Other real estate		3,764		2,244		—		—		2,244
Repossessed assets		2,566		1,412		—		—		1,412
Total	$	85,274	$	34,971	$	—	$	—	$	34,971

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The following table represents quantitative information about Level 3 fair value measurements.

(in thousands)	Fair Value at September 30, 2012		Valuation Technique	Unobservable Input			Range (Weighted Average)
Securities available for sale:
Collateralized mortgage obligations	$	6	Cost		None	(1)		None
State and municipal		708	Discounted Cash Flow		Liquidity Premium			1.0%-1.5%(1.4%)
					Credit Premium			1.3%-2.7%(2.3%)
					Fail Rate			1.2%-2.0%(1.8%)
Other		233	Discounted Cash Flow		Liquidity Premium			2.0%-2.5%(2.4%)
					Credit Premium			2.8%-5.5%(4.5%)
					Fail Rate			1.2%-1.5%(1.4%)
Deferred compensation assets		1,881	Contract Value		None	(2)		None
Impaired loans		31,101	Comparative Sales		Loss Severity Discount			0% - 100% (65%)
Residential mortgage loans held for sale		214	Comparative Sales		Loss Severity Discount			6% - 100% (70%)
Other real estate		2,244	Comparative Sales		Loss Severity Discount			2% - 100% (40%)
Repossessed assets		1,412	Comparative Sales		Loss Severity Discount			45% - 45% (45%)

⁽¹⁾  Carrying value approximates fair value.

⁽²⁾  Contract value approximates fair value.

The significant unobservable inputs used in the fair value measurement of Citizens’ recurring Level 3 securities are the liquidity and credit premiums and fail rate formula. A change in these inputs to a different amount would not result in a material change in fair value.

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Note 8. Pension Benefit Cost

Effective December 31, 2006, Citizens’ defined benefit pension plan was “frozen,” preserving prior earned benefits but discontinuing the accrual of further benefits. Citizens recognizes the change in the funded status (i.e. the difference between the fair value of plan assets and the projected benefit obligations) of its retirement plans as an adjustment to accumulated other comprehensive income, net of tax. This adjustment represents the unrecognized actuarial losses and unrecognized prior service costs. The components of retirement benefit cost are presented below.

	Three Months Ended September 30,						Nine Months Ended September 30,
(in thousands)	2012			2011			2012			2011
Defined benefit pension plans
Interest cost	$	847		$	955		$	2,610		$	2,865
Expected return on plan assets		(1,055	)		(1,018	)		(3,165	)		(3,053	)
Amortization of unrecognized:
Prior service cost		8			8			23			23
Net actuarial loss		761			833			2,346			2,498
Net pension cost		561			778			1,814			2,333
Supplemental pension plans
Interest cost		11			189			221			567
Amortization of unrecognized:
Net actuarial loss		6			5			29			14
Net pension cost		17			194			250			581
Postretirement benefit plans
Interest cost		19			(43	)		59			245
Amortization of unrecognized:
Prior service cost		(229	)		(107	)		(688	)		(251	)
Net actuarial (gain) loss		(45	)		37			(135	)		(107	)
Net postretirement benefit cost		(255	)		(113	)		(764	)		(113	)
Defined contribution retirement and 401(k) plans
Employer contributions		403			—			1,341			—
Total periodic benefit cost	$	726		$	859		$	2,641		$	2,801

Citizens maintains multiple employee benefit plans, including defined benefit pension, supplemental pension, postretirement healthcare, and defined contribution retirement 401(k). Citizens made a cash contribution of $2.7 million to the defined benefit pension plan during the first nine months of 2012 and does not expect to make an additional contribution for the remainder of the year. During the first nine months of 2012, Citizens contributed $0.4 million to the supplemental pension plans and anticipates that an additional $0.1 million of contributions will be made during the remaining three months of the year. Citizens contributed $0.1 million to the postretirement benefit plan during the first nine months of 2012 and anticipates making an additional $0.1 million in contributions for the remaining portion of the year. Citizens suspended the 401(k) matching funds and annual discretionary contributions during the third quarter of 2009. The Board of Directors approved the reinstatement of the 401(k) matching funds effective January 1, 2012. Contributions to the 401(k) savings plan will be matched 50% on the first 2% of salary deferred and 25% on the next 6% deferred.

The pension plan assets for which Citizens determines fair value include a short-term pooled money fund, equity, and fixed income securities, all of which fall into Level 2 in the fair value hierarchy at September 30, 2012. Citizens’ pension plan assets are invested solely in pooled separate account funds, which are managed by Prudential. The net asset values (“NAV”) are based on the value of the underlying assets owned by the fund,

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minus its liabilities, and then divided by the number of units outstanding. The NAV’s unit price of the pooled separate accounts is not quoted on any market; however, the unit price is based on the underlying investments which are traded in an active market and are priced by independent providers. Citizens has evaluated their valuation methodologies used to develop the fair values in order to determine whether such valuations are representative of an exit price in Citizens’ principal markets. Further, Citizens has developed an internal, independent price verification function that performs annual testing on valuations received from third parties. There are no significant restrictions on Citizens’ ability to sell any of the investments in the pension plan.

The estimated fair values of Citizens’ pension plan assets follows.

September 30, 2012
(in thousands)	Total		Level 1		Level 2		Level 3
Asset Category
Short-term pooled money fund	$	2,880	$	—	$	2,880	$	—
Equity securities
Large cap		19,005		—		19,005		—
Mid-cap		4,639		—		4,639		—
Small-cap		6,631		—		6,631		—
International equity		9,967		—		9,967		—
Fixed income securities
Intermediate term fixed		22,105		—		22,105		—
Total	$	65,227	$	—	$	65,227	$	—

Note 9. Stock-Based Compensation

Citizens has a stock-based compensation plan authorizing the granting of incentive and nonqualified stock options, nonvested stock awards (also known as restricted stock), restricted stock units, and performance awards to employees and non-employee directors. At September 30, 2012, Citizens had 934,192 shares of common stock reserved for future issuance under the current plan. The compensation cost for share based awards is recognized over the requisite service period of the award. The requisite service period is presumed to be the stated vesting period or the estimated time that will be required to satisfy any performance conditions. Restricted shares are included in outstanding stock totals, and are entitled to receive dividends and have voting rights. Restricted stock units have no voting or dividend rights but have dividend equivalent rights entitling them to additional shares at the time the units are settled for common stock. There have been no options granted since 2006 and no recognized costs associated with stock options since 2009.

The following table sets forth the total stock-based compensation expense resulting from restricted stock units and restricted stock awards included in the Consolidated Statements of Operations.

	Three Months Ended September 30,						Nine Months Ended September 30,
(in thousands)	2012			2011			2012			2011
Restricted stock compensation and restricted stock unit compensation	$	1,100		$	713		$	2,717		$	2,079
Income tax benefit		(385	)		(250	)		(951	)		(728	)
Total stock-based compensation expense after income taxes	$	715		$	463		$	1,766		$	1,351

New shares are issued when stock options are exercised. Citizens presents excess tax benefits from the exercise of stock options, if any, as financing cash inflows and as operating cash outflows on the Consolidated Statements of Cash Flows.

As of September 30, 2012, $6.5 million of total unrecognized compensation cost related to restricted stock is expected to be recognized over a weighted average period of 1.8 years.

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The following table summarizes restricted stock activity.

	Number of Shares			Weighted-Average Per Share Grant Date Fair Value
Restricted stock at December 31, 2011		825,969		$	9.27
Granted		299,788			16.85
Vested		(81,299	)		11.33
Forfeited		(26,127	)		11.59
Restricted stock at September 30, 2012(1)		1,018,331		$	11.28

⁽¹⁾ Includes 75,814 vested shares under restriction prohibiting sale until conditions are met, including two years from grant date and certain TARP payments are made.

The total fair value of restricted stock vested during the nine months ended September 30, 2012 was $1.3 million.

Note 10. Earnings Per Common Share

Earnings per common share is computed using the two-class method. As of September 30, 2012, potential common stock that would be generated from restrictions lapsing on unvested shares as well as additional shares issued through the exercise of stock options and warrants totaled 2,919,231 shares. As a result of being anti-dilutive, these shares were excluded from the computation of dilutive earnings per share. A reconciliation of the numerators and denominators of the basic and diluted earnings per common share computations follows.

	Three Months Ended September 30,						Nine Months Ended September 30,
(in thousands, except per share amounts)	2012			2011			2012			2011
Numerator:
Net Income (loss)	$	20,991		$	32,944		$	349,028		$	(11,577	)
Dividend on redeemable preferred stock		(6,130	)		(5,761	)		(18,127	)		(17,088	)
Net income (loss) attributable to common shareholders		14,861			27,183			330,901			(28,665	)
Net income allocated to participating securities		374			553			7,571			—
Net income (loss) after allocation to participating securities	$	14,487		$	26,630		$	323,330		$	(28,665	)
Denominator:
Weighted average shares outstanding		40,507			40,251			40,393			39,997
Less: participating securities included in weighted average shares outstanding		(1,018	)		(818	)		(924	)		(579	)
Weighted average shares outstanding for basic and dilutive earnings per common share		39,489			39,433			39,469			39,418
Basic net income (loss) per common share	$	0.37		$	0.68		$	8.19		$	(0.73	)
Diluted net income (loss) per common share		0.37			0.68			8.19			(0.73	)

During the first quarter of 2010, Citizens suspended quarterly cash dividend payments on its fixed-rate cumulative perpetual preferred stock, Series A Preferred Stock, issued to and owned by the U.S. Department of the Treasury as part of the Treasury’s Capital Purchase Program. Citizens has both the intent and ability in the future to pay these dividends and therefore accrues for this obligation. Citizens is currently in arrears in the amount of $44.2 million and $31.5 million with the dividend payments on the Series A Preferred Stock as of September 30, 2012 and December 31, 2011, respectively. For additional information about the Series A Preferred Stock, see Note 14 to the Consolidated Financial Statements of Citizens’ 2011 Annual Report on Form 10-K.

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Note 11. Lines of Business

Citizens is managed along the following business lines: Regional Banking, Specialty Consumer, Specialty Commercial, Wealth Management, and Other. Selected line of business information for the three and nine months ended September 30, 2012 and 2011 is provided below. Certain amounts have been reclassified to conform with the current year presentation. These reclassifications do not have a significant effect on any one line of business and do not change the total results of Citizens. There are no significant intersegmental revenues. For additional information about the business lines, see Note 15 to the Consolidated Financial Statements of Citizens’ 2011 Annual Report on Form 10-K.

(in thousands)	Regional Banking		Specialty Consumer			Specialty Commercial			Wealth Mgmt		Other			Total
Earnings Summary - Three Months Ended September 30, 2012
Net interest income (taxable equivalent)	$	53,366	$	8,985		$	16,622		$	29	$	(1,694	)	$	77,308
Provision for loan losses		5,692		4,045			(4,542	)		—		—			5,195
Net interest income (loss) after provision		47,674		4,940			21,164			29		(1,694	)		72,113
Noninterest income		17,817		179			531			3,635		1,548			23,710
Noninterest expense		50,555		4,092			3,104			2,394		11,910			72,055
Income (loss) before income taxes		14,936		1,027			18,591			1,270		(12,056	)		23,768
Income tax expense (benefit) (taxable equivalent)		5,228		359			6,507			445		(9,762	)		2,777
Net income (loss)	$	9,708	$	668		$	12,084		$	825	$	(2,294	)	$	20,991
Average assets(in millions)	$	2,989	$	1,600		$	1,244		$	22	$	3,869		$	9,724
Earnings Summary - Three Months Ended September 30, 2011
Net interest income (taxable equivalent)	$	53,340	$	9,962		$	12,917		$	125	$	4,323		$	80,667
Provision for loan losses		5,292		15,267			(3,078	)		—		—			17,481
Net interest income (loss) after provision		48,048		(5,305	)		15,995			125		4,323			63,186
Noninterest income		18,662		59			2,262			3,620		(176	)		24,427
Noninterest expense		53,429		4,010			3,329			2,567		2,076			65,411
Income (loss) before income taxes		13,281		(9,256	)		14,928			1,178		2,071			22,202
Income tax expense (benefit) (taxable equivalent)		4,649		(3,240	)		5,224			412		(17,787	)		(10,742	)
Net income (loss)	$	8,632	$	(6,016	)	$	9,704		$	766	$	19,858		$	32,944
Average assets(in millions)	$	3,196	$	1,650		$	1,041		$	18	$	3,691		$	9,596

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(in thousands)	Regional Banking			Specialty Consumer			Specialty Commercial			Wealth Mgmt		Other			Total
Earnings Summary - Nine Months Ended September 30, 2012
Net interest income (taxable equivalent)	$	156,909		$	25,882		$	48,670		$	87	$	661		$	232,209
Provision for loan losses		24,024			6,666			(11,799	)		—		—			18,891
Net interest income after provision		132,885			19,216			60,469			87		661			213,318
Noninterest income		52,512			546			1,914			10,819		4,505			70,296
Noninterest expense		151,905			12,692			9,573			7,377		23,947			205,494
Income (loss) before income taxes		33,492			7,070			52,810			3,529		(18,781	)		78,120
Income tax expense (benefit) (taxable equivalent)		11,722			2,475			18,484			1,235		(304,824	)		(270,908	)
Net income	$	21,770		$	4,595		$	34,326		$	2,294	$	286,043		$	349,028
Average assets(in millions)	$	3,016		$	1,576		$	1,225		$	22	$	3,720		$	9,559
Earnings Summary - Nine Months Ended September 30, 2011
Net interest income (taxable equivalent)	$	162,701		$	28,132		$	34,247		$	423	$	15,370		$	240,873
Provision for loan losses		56,710			26,533			40,558			—		—			123,801
Net interest income (loss) after provision		105,991			1,599			(6,311	)		423		15,370			117,072
Noninterest income		53,208			1,716			3,181			11,355		1,435			70,895
Noninterest expense		164,598			13,997			12,100			7,226		18,590			216,511
Income (loss) before income taxes		(5,399	)		(10,682	)		(15,230	)		4,552		(1,785	)		(28,544	)
Income tax expense (benefit) (taxable equivalent)		(1,890	)		(3,739	)		(5,331	)		1,593		(7,600	)		(16,967	)
Net income (loss)	$	(3,509	)	$	(6,943	)	$	(9,899	)	$	2,959	$	5,815		$	(11,577	)
Average assets(in millions)	$	3,324		$	1,645		$	1,055		$	18	$	3,677		$	9,719

Note 12. Commitments, Contingent Liabilities and Guarantees

In accordance with GAAP, the unaudited Consolidated Financial Statements do not reflect various loan commitments (unfunded loans and unused lines of credit) and letters of credit originated in the normal course of business. Loan commitments are made to accommodate the financial needs of clients. Letters of credit guarantee future payment of client financial obligations to third parties. They are normally issued for services provided or to facilitate the shipment of goods. Both arrangements have essentially the same level of credit risk as that associated with extending loans to clients and are subject to Citizens’ normal credit policies. Inasmuch as these arrangements generally have fixed expiration dates or other termination clauses, most expire unfunded and do not necessarily represent future liquidity requirements. Collateral is obtained based on Citizens’ assessment of the client and may include receivables, inventories, real property, and equipment.

Amounts available to clients under loan commitments and standby letters of credit follow.

(in thousands)	September 30, 2012		December 31, 2011
Loan commitments and letters of credit:
Commitments to extend credit	$	943,985	$	932,435
Asset-based lending participations		86,467		151,194
Financial standby letters of credit		109,611		125,401
Performance standby letters of credit		1,756		3,571
Deferred standby letter of credit fees		601		1,123

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At September 30, 2012 and December 31, 2011, a liability of $1.9 million was recorded for possible losses on commitments to extend credit. In accordance with applicable accounting standards related to guarantees, Citizens defers fees collected in connection with the issuance of standby letters of credit. The fees are then recognized in income proportionately over the life of the standby letter of credit agreement.

Prior to June 2008, when Citizens sold its residential mortgage originations to several secondary market participants, it made various standard representations and warranties. The specific representations and warranties made by Citizens depended on the nature of the transaction and the requirements of the buyer. In the event of a breach of the representations and warranties, Citizens may be required to either repurchase the mortgage loans (generally at unpaid principal balance plus accrued interest) with the identified defects or indemnify the investor. For the three month periods ended September 30, 2012 and 2011, Citizens repurchased $2.3 million and $1.0 million of loans, respectively, pursuant to such provisions. Citizens recorded $1.3 million and $0.5 million for the three month periods ended September 30, 2012 and 2011, respectively, in Other Expense on the Consolidated Statements of Operations related to repurchasing or indemnifying such loans. For the nine month periods ended September 30, 2012 and 2011, Citizens repurchased $4.7 million and $1.5 million of loans, respectively, pursuant to such provisions. Citizens recorded $4.9 million and $3.5 million for the nine month periods ended September 30, 2012 and 2011, respectively, in Other Expense on the Consolidated Statements of Operations related to repurchasing or indemnifying such loans.

Note 13. Derivatives and Hedging Activities

Risk Management Objective of Using Derivatives.Citizens is exposed to certain risks arising from both its business operations and economic conditions. Citizens manages economic risks, including interest rate, liquidity, and credit risk, primarily through the amount, sources, and duration of its assets and liabilities and the use of derivative financial instruments. Specifically, Citizens enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. Citizens’ derivative financial instruments are used to manage differences in the amount, timing, and duration of its known or expected cash receipts and cash payments principally related to certain variable-rate loan assets and fixed and floating rate liabilities. When entering into an interest rate swap, Citizens and a counterparty agree to exchange cash flows based on a specified notional amount multiplied by an interest rate. Typically Citizens will pay a fixed rate and receive a floating rate (or vice versa), though paying one floating rate and receiving another is possible. In all cases the underlying notional amount is not exchanged. When Citizens purchases an interest rate cap, it receives variable-rate amounts from a counterparty if a specific interest rate index rises above the strike rate on the contract in exchange for an upfront premium.

Fair Values of Derivative Instruments on the Consolidated Balance Sheets. The table below presents the fair value of Citizens’ derivative financial instruments as well as their classification on the Consolidated Balance Sheets.

	Other Assets				Other Liabilities
(in thousands)	September 30, 2012		December 31, 2011		September 30, 2012		December 31, 2011
Derivatives designated as hedging instruments Interest rate products	$	1,217	$	3,791	$	7,515	$	2,317
Derivativesnotdesignated as hedging instruments Interest rate products		14,898		17,088		15,521		17,614
Total derivatives	$	16,115	$	20,879	$	23,036	$	19,931

Cash Flow Hedges of Interest Rate Risk.Citizens’ objective in using cash flow hedges is to add stability to net interest income through managing its income exposure to changes in market interest rates. To accomplish this objective, Citizens uses interest rate swaps and caps as part of its interest rate risk management strategy. Citizens

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had twelve interest rate caps and swaps with an aggregate notional amount of $385.0 million at September 30, 2012 and December 31, 2011 that were designated as cash flow hedges of interest rate risk.

The effective portion of changes in the fair value of derivatives that are designated and qualify as cash flow hedges is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. During 2012 and 2011, such derivatives were used to hedge the variable cash inflows and outflows associated with existing pools of prime and LIBOR-based loan assets and liabilities. The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings. No hedge ineffectiveness was recognized during the three and nine months ended September 30, 2012 and 2011.

Amounts reported in accumulated other comprehensive income related to derivatives are reclassified to interest income as interest payments are received on Citizens’ variable-rate assets. Citizens accelerated the reclassification of unrealized gains in accumulated other comprehensive income of less than $0.1 million for the nine months ended September 30, 2012 and $0.2 million and $0.7 million for the three and nine months ended September 30, 2011, respectively, to earnings as a result of the hedged forecasted transactions becoming probable not to occur. There was no reclassification of unrealized gains accelerated for the three months ended September 30, 2012. During the next twelve months, Citizens estimates that there will be no derivatives reclassified as an increase to interest income and $2.6 million as an increase to interest expense.

The following tables summarize the impact of cash flow hedges on the Consolidated Financial Statements.

	Derivative Impact on OCI Gain (Loss)
Derivatives Relationship (in thousands)	Recognized in OCI						Location Reclassified in Statement of Operations	Reclassified from Accumulated OCI into Statement of Operations
	Three Months Ended September 30,							Three Months Ended September 30,
	2012			2011				2012			2011
Cash flow hedges:
							Interest income	$	34		$	547
Interest rate products	$	(2,665	)	$	(697	)	Interest expense		(634	)		—
							Other income		—			182
Total	$	(2,665	)	$	(697	)		$	(600	)	$	729
	Derivative Impact on OCI Gain (Loss)
Derivatives Relationship (in thousands)	Recognized in OCI						Location Reclassified in Statement of Operations	Reclassified from Accumulated OCI into Statement of Operations
	Nine Months Ended September 30,							Nine Months Ended September 30,
	2012			2011				2012			2011
Cash flow hedges:							Interest income	$	406		$	2,418
Interest rate products	$	(9,541	)	$	(680	)	Interest expense		(1,843	)		—
							Other income		6			717
Total	$	(9,541	)	$	(680	)		$	(1,431	)	$	3,135

Fair Value Hedges of Interest Rate Risk.Citizens is exposed to changes in the fair value of certain of its fixed-rate assets and liabilities due to changes in market interest rates. Citizens utilizes derivatives designated as fair value hedges to mitigate this market value risk. At September 30, 2012, Citizens had no derivatives designated as fair value hedges.

For derivatives that are designated and qualify as fair value hedges, the gain or loss on the derivative as well as the offsetting loss or gain on the hedged item attributable to the hedged risk are recognized in earnings. Citizens includes the gain or loss on the hedged items in the same line item in the Statements of Operations as the

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offsetting loss or gain on the related derivatives. During the three and nine months ended September 30, 2012 and the three months ended September 30, 2011, Citizens did not recognize any gains in interest expense related to hedge ineffectiveness. Citizens recognized gains of $0.7 million in interest expense related to hedge ineffectiveness for the nine months ended September 30, 2011. Citizens recognized no net reduction to interest expense during the three and nine months ended September 30, 2012 and the three months ended September 30, 2011. Citizens recognized a net reduction to interest expense of $0.4 million during the nine months ended September 30, 2011, which includes net settlements of the derivatives and any amortization adjustment in the basis of the hedged item. In addition, during the three and nine months ended September 30, 2012 and September 30, 2011, Citizens recognized a net reduction to interest expense of $0.1 million, $0.4 million, $0.2 million and $0.6 million, respectively, related to the amortization adjustment of the basis in the hedged items that were in a hedging relationship with hedges that were terminated.

The following table summarizes the impact of fair value hedges on the Consolidated Financial Statements.

	Derivative Contract (Loss) Gain							Hedged Item Gain (Loss)
Derivatives Relationship (in thousands)	Location in Statement of Operations		Three Months Ended September 30,					Location in Statement of Operations		Three Months Ended September 30,
			2012		2011					2012		2011
Fair value hedges:
Interest rate products		Interest expense	$	—	$	—			Interest expense	$	—	$	—
	Derivative Contract (Loss) Gain							Hedged Item Gain (Loss)
Derivatives Relationship (in thousands)	Location in Statement of Operations		Nine Months Ended September 30,					Location in Statement of Operations		Nine Months Ended September 30,
			2012		2011					2012		2011
Fair value hedges:
Interest rate products		Interest expense	$	—	$	(1,107	)		Interest expense	$	—	$	1,818

Derivatives Not Designated as Hedges.Citizens does not use derivatives for trading or speculative purposes and does not use credit derivatives for any purpose. Derivatives not designated as hedges are used to manage Citizens’ exposure to interest rate movements and other identified risks but do not satisfy the conditions for hedge accounting. Changes in the fair value of derivatives not designated in hedging relationships are recorded directly into earnings. Additionally, Citizens holds interest rate derivatives, including interest rate swaps and option products, resulting from a service Citizens provides to certain clients. Citizens executes interest rate derivatives with commercial banking clients to facilitate their respective risk management strategies. Those derivatives are simultaneously hedged by offsetting derivatives that Citizens executes with a third party, such that Citizens minimizes its net risk exposure resulting from such transactions. As of September 30, 2012 and December 31, 2011, Citizens had 140 derivative transactions with an aggregate notional amount of $501.3 million and 156 derivative transactions with an aggregate notional amount of $527.4 million, respectively, related to this program.

The following table summarizes the impact of derivatives not designated as hedges on the Consolidated Financial Statements.

			Amount of (Loss) Gain Recognized in Statement of Operations
Derivatives Relationship (in thousands)	Location of (Loss) Gain Recognized in Statement  of Operations		Three Months Ended September 30,
			2012			2011
Derivativesnotdesignated as hedges - Interest rate products		Other income	$	(83	)	$	(268	)
			Amount of (Loss) Gain
Derivatives Relationship (in thousands)	Location of (Loss) Gain Recognized in Statement of Operations		Nine Months Ended September 30,
			2012			2011
Derivativesnotdesignated as hedges - Interest rate products		Other income	$	(96	)	$	(458	)

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Credit-Risk-Related Contingent Features. Citizens has agreements with its derivative counterparties that contain a provision where if Citizens defaults on any of its indebtedness, including a default where repayment of the indebtedness has not been accelerated by the lender, then it could also be declared in default on its derivative obligations. Citizens also has agreements with certain derivative counterparties that contain a provision where if it fails to maintain its status as a well or adequately capitalized institution, then the counterparty could terminate the derivative positions and Citizens would be required to settle its obligations under the agreements.

As of September 30, 2012, the fair value of derivatives in a net liability position with all counterparties, which includes accrued interest, but excludes any adjustment for nonperformance risk related to these agreements, was $21.8 million. As of September 30, 2012, Citizens had minimum collateral posting requirements with its derivative counterparties resulting in assigned collateral of $30.6 million. As of September 30, 2012 no circumstances could have been triggered to require Citizens to pledge additional collateral.

In addition, if Citizens’ credit rating is reduced below investment grade, then a termination event is deemed to have occurred with one of its counterparties and the counterparty has the right to terminate all affected transactions under the related agreement. Citizens has breached these provisions with respect to a Moody’s rating below investment grade at August 6, 2009 and may be required to settle its obligations under the agreement at the termination value. Citizens may be required to pay additional amounts due in excess of amounts previously posted as collateral. As of September 30, 2012, the termination value approximated $5.6 million.

Citizens does not offset fair value amounts recognized for the right to reclaim cash collateral (a receivable) or the obligation to return cash collateral (a payable) against recognized fair value amounts of derivatives executed with the same counterparty under a master netting agreement. Citizens has the right to reclaim collateral assigned of $30.6 million.

Note 14. Regulatory Matters

On April 19, 2012, Citizens announced that, effective April 17, 2012, the Federal Reserve Bank of Chicago and the Michigan Office of Financial and Insurance Regulation have terminated their written agreement with Citizens, and its subsidiary, Citizens Bank dated July 28, 2010.

Note 15. Business Combination

On September 13, 2012, Citizens and FirstMerit announced the signing of a definitive agreement under which FirstMerit will acquire Citizens in a stock-for-stock merger transaction. Under the terms of the agreement, Citizens’ shareholders will receive a fixed 1.37 shares of FirstMerit common stock in exchange for each share of Citizens’ common stock.

Subject to receipt of requisite approvals, FirstMerit also expects to repay Citizens’ approximately $345 million of TARP preferred stock, which includes $45 million of estimated deferred dividends, held by the Treasury at closing. The merger has been unanimously approved by the Boards of Directors of both Citizens and FirstMerit and is subject to customary closing conditions, including receipt of regulatory approvals and approval by both companies’ shareholders. In the third quarter of 2012, Citizens recorded $4.4 million of merger-related expenses in professional services. The transaction is expected to close in the second quarter of 2013.

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