UNITEDSTATES SECURITIESAND EXCHANGECOMMISSION

WASHINGTON, DC  20549

FORM 10-Q

(Mark One)

[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended June 30, 2012

[ ]  Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from_____to____

Commission File Number 000-33501

NORTHRIM BANCORP, INC.

_{(Exact name of registrant as specified in its charter)}

Alaska92-0175752

_{(State or other jurisdiction of incorporation or organization)                    (I.R.S. Employer Identification No.)}

3111 C Street

Anchorage, Alaska 99503

_{(Address of principal executive offices)    (Zip Code)}

(907) 562-0062

_{(Registrant’s telephone number, including area code)}

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

Yes x     No 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes x    No 

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

Large accelerated filer  Accelerated filer x Non-accelerated filer Smaller reporting company 

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

Yes      No  x

The number of shares of the issuer's Common Stock outstanding at August 6, 2012 was 6,470,518.

TABLE OF CONTENTS
PART  I	FINANCIAL INFORMATION
Item 1.	Financial Statements (unaudited)
	Consolidated Balance Sheets: June 30, 2012, December 31, 2011 and June 30, 2011	3
	Consolidated Statements of Income: Three and six months ended June 30, 2012 and 2011	4
	Consolidated Statements of Comprehensive Income: Three and six months ended June 30 2012 and 2011	5
	Consolidated Statements of Changes in Shareholders’ Equity: Six months ended June 30, 2012 and 2011	6
	Consolidated Statements of Cash Flows: Six months ended June 30, 2012 and 2011	7
	Notes to the Consolidated Financial Statements	8
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	24
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	35
Item 4.	Controls and Procedures	35
PART II	OTHER INFORMATION	35
Item 1.	Legal Proceedings	35
Item 1A.	Risk Factors	35
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	35
Item 3.	Defaults Upon Senior Securities	36
Item 4.	Mine Safety Disclosures	36
Item 5.	Other Information	36
Item 6.	Exhibits	36
SIGNATURES		36

2

PART I. FINANCIAL INFORMATION

These consolidated financial statements should be read in conjunction with the financial statements, accompanying notes and other relevant information included in the Northrim Bancorp, Inc’s Annual Report on Form 10-K for the year ended December 31, 2011.

ITEM 1. FINANCIAL STATEMENTS

CONSOLIDATED FINANCIAL STATEMENTS

NORTHRIM BANCORP, INC.

Consolidated Balance Sheets

June 30, 2012,  December 31, 2011 and June 30, 2011

	June 30,		December 31,		June 30,
	2012		2011		2011
		(Unaudited)
		(In Thousands, Except Share Data)
ASSETS
Cash and due from banks	$	34,560	$	30,644	$	33,101
Interest bearing deposits in other banks		76,144		60,886		112,730
Investment securities available for sale		189,247		222,083		182,878
Investment securities held to maturity		3,601		3,819		5,142
Total portfolio investments		192,848		225,902		188,020
Investment in Federal Home Loan Bank stock		2,003		2,003		2,003
Loans held for sale		22,629		27,822		-
Loans		656,850		645,562		634,130
Allowance for loan losses		(16,490)		(16,503)		(15,574)
Net loans		662,989		656,881		618,556
Purchased receivables, net		23,650		30,209		14,743
Accrued interest receivable		2,801		2,898		2,745
Other real estate owned		6,448		5,183		5,083
Premises and equipment, net		27,797		27,993		28,774
Goodwill and intangible assets		8,292		8,421		8,556
Other assets		34,545		34,238		35,026
Total assets	$	1,072,077	$	1,085,258	$	1,049,337
LIABILITIES
Deposits:
Demand	$	298,953	$	324,039	$	296,508
Interest-bearing demand		139,220		141,572		130,736
Savings		83,100		79,610		74,142
Alaska CDs		102,481		102,384		101,945
Money market		164,942		154,987		152,004
Certificates of deposit less than $100,000		42,634		45,468		49,458
Certificates of deposit greater than $100,000		63,443		63,188		79,377
Total deposits		894,773		911,248		884,170
Securities sold under repurchase agreements		15,265		16,348		11,616
Borrowings		4,553		4,626		4,696
Junior subordinated debentures		18,558		18,558		18,558
Other liabilities		8,503		9,043		8,288
Total liabilities		941,652		959,823		927,328
SHAREHOLDERS' EQUITY
Preferred stock, $1 par value, 2,500,000 shares authorized, none issued or outstanding
Common stock, $1 par value, 10,000,000 shares authorized, 6,470,518; 6,466,763; and 6,433,438
shares issued and outstanding at June 30, 2012, December 31, 2011 and June 30, 2011		6,471		6,467		6,433
Additional paid-in capital		53,411		53,164		52,953
Retained earnings		69,482		65,469		61,412
Accumulated other comprehensive income		984		283		1,169
Total Northrim BanCorp shareholders' equity		130,348		125,383		121,967
Noncontrolling interest		77		52		42
Total shareholders' equity		130,425		125,435		122,009
Total liabilities and shareholders' equity	$	1,072,077	$	1,085,258	$	1,049,337

See notes to the consolidated financial statements

3

NORTHRIM BANCORP, INC.

Consolidated Statements of Income

For the Three and Six Months Ended June 30, 2012 and 2011

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2012		2011		2012		2011
		(Unaudited)
	(In Thousands, Except Per Share Data)
Interest Income
Interest and fees on loans	$	10,305	$	10,709	$	20,530	$	21,396
Interest on investment securities-available for sale		718		663		1,467		1,534
Interest on investment securities-held to maturity		37		59		75		120
Interest on deposits in other banks		63		55		103		88
Total Interest Income		11,123		11,486		22,175		23,138
Interest Expense
Interest expense on deposits,
borrowings and junior subordinated debentures		627		904		1,325		1,881
Net Interest Income		10,496		10,582		20,850		21,257
Provision for loan losses		89		550		178		1,099
Net Interest Income After Provision for Loan Losses		10,407		10,032		20,672		20,158
Other Operating Income
Purchased receivable income		712		565		1,424		1,191
Employee benefit plan income		616		593		1,156		1,093
Service charges on deposit accounts		569		594		1,137		1,118
Electronic banking income		493		467		976		916
Equity in earnings from RML		405		270		706		218
Rental income		204		191		402		387
Gain on sale of securities		246		-		273		263
Other income		480		390		858		662
Total Other Operating Income		3,725		3,070		6,932		5,848
Other Operating Expense
Salaries and other personnel expense		5,154		5,200		10,860		10,516
Occupancy		920		997		1,916		1,907
Marketing expense		435		443		872		880
Equipment expense		342		292		636		596
Insurance expense		301		295		419		731
Professional and outside services		287		304		676		617
Software expense		270		277		521		517
Amortization of low income housing tax investments		234		235		462		451
Internet banking expense		185		158		357		311
OREO (income) expense, net rental income and gains on sale		118		(742)		215		(881)
Intangible asset amortization expense		65		71		129		141
Other operating expense		984		1,059		1,990		2,129
Total Other Operating Expense		9,295		8,589		19,053		17,915
Income Before Provision for Income Taxes		4,837		4,513		8,551		8,091
Provision for income taxes		1,551		1,198		2,577		2,232
Net Income		3,286		3,315		5,974		5,859
Less: Net income attributable to the noncontrolling interest		144		133		256		222
Net Income Attributable to Northrim BanCorp	$	3,142	$	3,182	$	5,718	$	5,637
Earnings Per Share, Basic	$	0.49	$	0.49	$	0.88	$	0.88
Earnings Per Share, Diluted	$	0.48	$	0.49	$	0.87	$	0.86
Weighted Average Shares Outstanding, Basic		6,469,909		6,431,060		6,468,724		6,429,895
Weighted Average Shares Outstanding, Diluted		6,573,729		6,549,744		6,570,094		6,548,557

See notes to the consolidated financial statements

4

NORTHRIM BANCORP, INC.

Consolidated Statements of Comprehensive Income

For the Three and Six Months Ended June 30, 2012 and 2011

	Three Months Ended June 30, 2011				Six Months Ended June 30, 2011
Net income			$	3,315			$	5,859
Other comprehensive income, net of tax:
Unrealized gains arising during the period	$	934			$	784
Reclassification adjustment for net gain realized in earnings		-				(263)
Net change in unrealized gains	$	934			$	521
Other comprehensive income				934				521
Comprehensive income				4,249				6,380
Less: comprehensive income attributable to the noncontrolling interest				(133)				(222)
Comprehensive income attributable to Northrim BanCorp			$	4,116			$	6,158
	Three Months Ended June 30, 2012					Six Months Ended June 30, 2012
Net income			$	3,286			$	5,974
Other comprehensive income, net of tax:
Unrealized gains arising during the period	$	92			$	974
Reclassification adjustment for net gain realized in earnings		(246)				(273)
Net change in unrealized gains	$	(154)			$	701
Other comprehensive income				(154)				701
Comprehensive income				3,132				6,675
Less: comprehensive income attributable to the noncontrolling interest				(144)				(256)
Comprehensive income attributable to Northrim BanCorp			$	2,988			$	6,419

See notes to the consolidated financial statements

5

NORTHRIM BANCORP, INC.

Consolidated Statements of Changes inShareholders’ Equity

For the Six Months Ended June 30, 2012 and 2011

								Accumulated
	Common Stock			Additional				Other		Non-
	Number		Par	Paid-in		Retained		Comprehensive		controlling
	of Shares		Value	Capital		Earnings		Income		Interest			Total
	(Unaudited)
	(In Thousands)
Six Months Ended June 30, 2011
Balance as of January 1, 2011	6,427	$	6,427	$	52,658	$	57,339	$	648	$	50	$	117,122
Cash dividend declared	-		-		-		(1,564)		-		-		(1,564)
Stock based compensation expense	-		-		263		-		-		-		263
Exercise of stock options	6		6		(6)		-		-		-		-
Excess tax benefits from share-based payment arrangements	-		-		38		-		-		-		38
Distributions to noncontrolling interest	-		-		-		-		-		(230)		(230)
Change in unrealized holding gain
on available for sale securities, net of tax	-		-		-		-		521		-		521
Net income attributable to the noncontrolling interest	-		-		-		-		-		222		222
Net income attributable to Northrim BanCorp	-		-		-		5,637		-		-		5,637
Six Months Ended June 30, 2011	6,433	$	6,433	$	52,953	$	61,412	$	1,169	$	42	$	122,009
Six Months Ended June 30, 2012
Balance as of January 1, 2012	6,467	$	6,467	$	53,164	$	65,469	$	283	$	52	$	125,435
Cash dividend declared	-		-		-		(1,705)		-		-		(1,705)
Stock based compensation expense	-		-		225		-		-		-		225
Exercise of stock options	4		4		(6)		-		-		-		(2)
Excess tax benefits from share-based payment arrangements	-		-		28		-		-		-		28
Distributions to noncontrolling interest	-		-		-		-		-		(231)		(231)
Change in unrealized holding gain
on available for sale securities, net of tax	-		-		-		-		701		-		701
Net income attributable to the noncontrolling interest	-		-		-		-		-		256		256
Net income attributable to Northrim BanCorp	-		-		-		5,718		-		-		5,718
Six Months Ended June 30, 2012	6,471	$	6,471	$	53,411	$	69,482	$	984	$	77	$	130,425

See notes to the consolidated financial statements

6

NORTHRIM BANCORP, INC.

Consolidated Statements of Cash Flows

For the Six Months Ended June 30, 2012 and 2011

		Six Months Ended
		June 30,
		2012		2011
		(Unaudited)
		(In Thousands)
Operating Activities:
Net income	$	5,974	$	5,859
Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:
Gain on sale of securities, net		(273)		(263)
Depreciation and amortization of premises and equipment		821		868
Amortization of software		98		102
Intangible asset amortization		129		141
Amortization of investment security premium, net of discount accretion		145		117
Deferred tax (benefit) liability		(240)		(396)
Stock-based compensation		225		263
Excess tax benefits from share-based payment arrangements		(28)		(38)
Deferral of loan fees and costs, net		253		(346)
Provision for loan losses		178		1,099
Purchases of loans held for sale		(86,576)		-
Proceeds from the sale of loans held for sale		91,769		5,558
Gain on sale of other real estate owned		(26)		(805)
Impairment on other real estate owned		81		-
Equity in undistributed earnings from mortgage affiliate		37		181
Net changes in assets and liabilities:
(Increase) decrease in accrued interest receivable		97		656
Decrease in other assets		(784)		(4)
(Decrease) in other liabilities		(535)		(341)
Net Cash Provided by Operating Activities		11,345		12,651
Investing Activities:
Investment in securities:
Purchases of investment securities-available-for-sale		(39,603)		(56,832)
Proceeds from sales/maturities of securities-available-for-sale		73,760		88,987
Proceeds from calls/maturities of securities-held-to-maturity		215		992
Purchases of domestic certificates of deposit		(1,500)		(2,000)
Investment in purchased receivables, net of repayments		6,559		1,786
(Increase) decrease in loans, net		(13,231)		37,115
Proceeds from sale of other real estate owned		199		7,294
Investment in other real estate owned		(18)		(28)
Loan to Elliott Cove, net of repayments		93		110
Purchases of premises and equipment		(625)		(627)
Net Cash (Used) Provided by Investing Activities		25,849		76,797
Financing Activities:
(Decrease) increase in deposits		(16,475)		(7,966)
(Decrease) in securities sold under repurchase agreements		(1,083)		(1,258)
(Decrease) increase in borrowings		(73)		(690)
Distributions to noncontrolling interest		(231)		(230)
Excess tax benefits from share-based payment arrangements		28		38
Cash dividends paid		(1,686)		(1,544)
Net Cash (Used) Provided by Financing Activities		(19,520)		(11,650)
Net Increase in Cash and Cash Equivalents		17,674		77,798
Cash and Cash Equivalents at Beginning of Period		79,530		66,033
Cash and Cash Equivalents at End of Period	$	97,204	$	143,831
Supplemental Information:
Income taxes paid	$	3,197	$	2,844
Interest paid	$	1,327	$	1,942
Transfer of loans to other real estate owned	$	1,499	$	982
Loans made to facilitate sales of other real estate owned	$	199	$	780
Cash dividends declared but not paid	$	19	$	20

See notes to the consolidated financial statements

7

NOTESTO THE CONSOLIDATEDFINANCIALSTATEMENTS

(Unaudited)

June 30, 2012 and 2011

1.  Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared by Northrim BanCorp, Inc. (the “Company”) in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and with instructions to Form 10-Q under the Securities Exchange Act of 1934, as amended. Accordingly, they do not include all of the information and footnotes 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.  Certain reclassifications have been made to prior year amounts to maintain consistency with the current year with no impact on net income or total shareholders’ equity.  The Company determined that it operates as a single operating segment.  Operating results for the interim period ended June 30, 2012, are not necessarily indicative of the results anticipated for the year ending December 31, 2012.  These consolidated financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2011.

2.  Significant Accounting Policies and Recent Accounting Pronouncements

The Company’s significant accounting policies are discussed in Note 1 to the audited consolidated financial statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2011.

In May 2011, the Financial Accounting Standard Board (“FASB”) issued ASU 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs (“ASU 2011-04”).  Some of the amendments contained in ASU 2011-04 clarify the FASB’s intent about the application of existing fair value measurement requirements, and other amendments change a particular principle or requirement for measuring fair value or for disclosing information about fair value measurements.  This ASU was effective for the Company’s financial statements for annual and interim periods beginning on or after December 15, 2011, and has been applied prospectively.  The adoption of this standard did not have a material impact on the Company’s consolidated financial position or results of operations.

In June 2011, the FASB issued ASU 2011-05, Presentation of Comprehensive Income (“ASU 2011-05”).  ASU 2011-05 amends Topic 220, “Comprehensive Income”, to allow an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  ASU 2011-05 does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income, nor does it change the option for an entity to present components of other comprehensive income either net of related tax effects or before related tax effects.  In December 2011, the FASB issued ASU 2011-12, Deferral of the Effective Date for Amendments to Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update 2011-05 (“ASU 2011-12”).  This ASU defers only those changes in ASU 2011-05 that relate to the presentation of reclassification adjustments.  ASU 2011-12 was issued in order to allow the FASB time to redeliberate whether to present on the face of the financial statements the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income for all periods presented. While the FASB is considering the operational concerns about the presentation requirements for reclassification adjustments and the needs of financial statement users for additional information about reclassification adjustments, the Company will continue to report reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect before the issuance of ASU 2011-05.  ASU 2011-12 was effective for the Company’s financial statements for annual and interim periods beginning after December 31, 2011, and has been applied prospectively.  The adoption of this standard did not have a material impact on the Company’s consolidated financial position or results of operations.

3.  Cash andCashEquivalents

For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks, interest-bearing deposits with other banks, banker’s acceptances, commercial paper, securities purchased under agreement to resell, federal funds sold, and securities with maturities of less than 90 days at acquisition.  

8

4.InvestmentSecurities

The carrying values and approximate fair values of investment securities at the periods indicated are presented below: 

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
		(In Thousands)
June 30, 2012
Securities available for sale
U.S. Treasury and government sponsored entities	$	119,002	$	504	$	3	$	119,503
Municipal securities		18,970		699		1		19,668
U.S. Agency mortgage-backed securities		47		3		-		50
Corporate bonds		46,518		515		186		46,847
Preferred stock		3,037		142		-		3,179
Total securities available for sale	$	187,574	$	1,863	$	190	$	189,247
Securities held to maturity
Municipal securities	$	3,601	$	242	$	-	$	3,843
Total securities held to maturity	$	3,601	$	242	$	-	$	3,843
December 31, 2011
Securities available for sale
U.S. Treasury and government sponsored entities	$	160,529	$	625	$	50	$	161,104
Municipal securities		16,260		675		-		16,935
U.S. Agency mortgage-backed securities		52		2		-		54
Corporate bonds		43,767		343		1,119		42,991
Preferred stock		996		3		-		999
Total securities available for sale	$	221,604	$	1,648	$	1,169	$	222,083
Securities held to maturity
Municipal securities	$	3,819	$	258	$	-	$	4,077
Total securities held to maturity	$	3,819	$	258	$	-	$	4,077
June 30, 2011
Securities available for sale
U.S. Treasury and government sponsored entities	$	137,256	$	874	$	4	$	138,126
Municipal securities		14,023		379		-		14,402
U.S. Agency mortgage-backed securities		58		2		-		60
Corporate bonds		29,553		785		48		30,290
Total securities available for sale	$	180,890	$	2,040	$	52	$	182,878
Securities held to maturity
Municipal securities	$	5,142	$	196	$	-	$	5,338
Total securities held to maturity	$	5,142	$	196	$	-	$	5,338

The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the amortized cost of the investment.  There were five securities with unrealized losses as of June 30, 2012 and 2011, respectively, that have been in a loss position for less than twelve months.  There were no securities with unrealized losses as of June 30, 2012 and June 30, 2011 that have been in an unrealized loss position for more than twelve months.  Because the Company does not intend to sell, nor is it required to sell these investments until a market price recovery or maturity, these investments are not considered other-than-temporarily impaired. 

At June 30, 2012, $33.2 million in securities, or 17%, of the investment portfolio was pledged, as compared to $32.1 million, or 14%, at December 31, 2011, and $24.2 million, or 13%, at June 30, 2011.  We held no securities of any single issuer

9

(other than government sponsored entities) that exceeded 10% of our shareholders’ equity at June 30, 2012,  December 31, 2011 or June 30, 2011.

The amortized cost and fair values of debt securities at June 30, 2012, are distributed by contractual maturity as shown below.  Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.  Although preferred stock has no stated maturity, it is aggregated in the calculation of weighted average yields presented below in the category of investments that mature in ten years or more.

	Amortized Cost		Fair Value		Weighted Average Yield
		(In Thousands)
US Treasury and government sponsored entities
Within 1 year	$	29,996	$	30,034	0.76	%
1-5 years		89,006		89,469	0.73	%
Total	$	119,002	$	119,503	0.74	%
U.S. Agency mortgage-backed securities
5-10 years	$	47	$	50	4.45	%
Total	$	47	$	50	4.45	%
Corporate bonds
Within 1 year	$	3,160	$	3,195	2.88	%
1-5 years		43,358		43,652	2.45	%
Total	$	46,518	$	46,847	2.48	%
Preferred stock
Over 10 years		3,037		3,179	5.88	%
Total	$	3,037	$	3,179	5.88	%
Municipal securities
Within 1 year	$	2,414	$	2,422	1.79	%
1-5 years		9,897		10,137	2.01	%
5-10 years		7,305		7,776	4.58	%
Over 10 years		2,955		3,176	4.79	%
Total	$	22,571	$	23,511	3.18	%

The proceeds and resulting gains and losses, computed using specific identification, from sales of investment securities for the six months ending June 30, 2012 and 2011, respectively, are as follows:

	Proceeds		Gross Gains		Gross Losses
	(In Thousands)
2012
Available for sale securities	$	30,424	$	273	$	-
2011
Available for sale securities	$	6,987	$	263	$	-

A summary of interest income for the six months ending June 30, 2012 and 2011 on available for sale investment securities is as follows:

		2012		2011
		(In Thousands)
US Treasury and government sponsored entities	$	553	$	816
U.S. Agency mortgage-backed securities		1		1
Other		630		482
Total taxable interest income	$	1,184	$	1,299
Municipal securities	$	283	$	235
Total tax-exempt interest income		283		235
Total	$	1,467	$	1,534

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For the periods ending June 30, 2012,  December 31, 2011 and June 30, 2011, we held Federal Home Loan Bank of Seattle (“FHLB”) stock with a book value approximately equal to its market value in the amount of $2.0 million for each period. The Company evaluated its investment in FHLB stock for other-than-temporary impairment as of June 30, 2012, consistent with its accounting policy.  Based on the Company’s evaluation of the underlying investment, including the long-term nature of the investment, the liquidity position of the FHLB of Seattle, the actions being taken by the FHLB of Seattle to address its regulatory capital situation, and the Company’s intent and ability to hold the investment for a period of time sufficient to recover the par value, the Company did not recognize an other-than-temporary impairment loss. Even though the Company did not recognize an other-than-temporary impairment loss during the six-month period ending June 30, 2012, continued deterioration in the FHLB of Seattle’s financial position may result in future impairment losses.

5.  LoansHeldforSale

The Company has purchased residential loans from our mortgage affiliate, Residential Mortgage Holding Company LLC (“RML”), from time to time since 1999.  The Company then sells these loans in the secondary market.  The Company purchased $86.6 million and sold $91.8 in loans in the three-month period ending June 30, 2012.   The Company sold $5.6 million loans and did not purchase any loans in the three-month period ending June 30, 2011. 

6.  Loans

The composition of the loan portfolio by segment, excluding loans held for resale, is presented below:

		June 30, 2012				December 31, 2011				June 30, 2011
	Dollar		Percent		Dollar		Percent		Dollar		Percent
	Amount		of Total		Amount		of Total		Amount		of Total
		(In Thousands)
Commercial	$	240,395	36.6	%	$	252,689	39.1	%	$	232,765	36.7	%
Real estate construction		40,922	6.2	%		40,182	6.2	%		47,639	7.5	%
Real estate term		340,530	51.8	%		315,860	48.9	%		314,093	49.5	%
Home equity lines and other consumer		38,260	5.8	%		39,834	6.2	%		42,458	6.7	%
Subtotal	$	660,107			$	648,565			$	636,955
Less: Unearned origination fee,
net of origination costs		(3,257)	(0.5)	%		(3,003)	(0.5)	%		(2,825)	(0.4)	%
Total loans	$	656,850			$	645,562			$	634,130

At June 30, 2012,  approximately 19% of the portfolio was scheduled to mature over the next 12 months, and 20% was scheduled to mature between July 1, 2013, and June 30, 2017.

As part of the on-going monitoring of the credit quality of the Company’s loan portfolio, management tracks certain credit quality indicators including trends in past due and nonaccrual loans, gross and net charge offs, and movement in loan balances within the risk classifications.  The Company utilizes a risk grading matrix to assign a risk classification to each of its loans.  Loans are graded on a scale of 1 to 8.  A description of the general characteristics of the eight risk classifications are as follows:  

11

· Risk Code 1 - Excellent:  Loans in this grade are those where the borrower has substantial financial capacity, above average profit margins, and excellent liquidity.  Cash flow has been consistent and is well in excess of debt servicing requirements.  Loans in this grade may be secured by cash and/or negotiable securities having a readily ascertainable market value and may also be fully guaranteed by the U.S. Government, and other approved government and financial institutions.  Loans in this grade have borrowers with exceptional credit ratings and would compare to AA ratings as established by Standard & Poor's. 

· Risk Code 2 – Good:  Loans in this grade are those to borrowers who have demonstrated satisfactory asset quality, earnings history, liquidity and other adequate margins of creditor protection.  Borrowers exhibit positive fundamentals in terms of working capital, cash flow sufficient to service the debt, and debt to worth ratios.  Borrowers for loans in this grade are capable of absorbing normal economic or other setbacks without difficulty.  The borrower may exhibit some weaknesses or varying historical profitability.  Management is considered adequate in all cases.  Borrowing facilities may be unsecured or secured by customary acceptable collateral with well-defined market values.  Additional support for the loan is available from secondary repayment sources and/or adequate guarantors.

· Risk Code 3 – Satisfactory:  Loans in this grade represent moderate credit risk due to some instability in borrower capacity and financial condition.  These loans generally require average loan officer attention.  Characteristics of assets in this classification may include: marginal debt service coverage, newly established ventures, limited or unstable earnings history, some difficulty in absorbing normal setbacks, and atypical maturities, collateral or other exceptions to established loan policies.  In all cases, such weaknesses are offset by well secured collateral positions and/or acceptable guarantors.

· Risk Code 4 - Watch List:  Loans in this grade are acceptable, but additional attention is needed.  This is an interim classification reserved for loans that are intrinsically creditworthy but which require specific attention.  Loans may have documentation deficiencies that are deemed correctable, may be contrary to current lending policies, or may have insufficient credit or financial information.  Loans in this grade may also be characterized by borrower failure to comply with loan covenants or to provide other required information.  If such conditions are not resolved within 90 days from the date of the assignment of Risk Code 4, the loan may warrant further downgrade.

· Risk Code 5 - Special Mention:  Loans in this grade have had a deterioration of financial condition or collateral value, but are still reasonably secured by collateral or net worth of the borrower.  Although the Company is presently protected from loss, potential weaknesses are apparent which, if not corrected, could cause future problems.  Loans in this classification warrant more than the ordinary amount of attention but have not yet reached the point of concern for loss.  Loans in this category have deteriorated sufficiently that they would have difficulty in refinancing.  Loans in this classification may show one or more of the following characteristics: inadequate loan documentation, deteriorating financial condition or control over collateral, economic or market conditions which may adversely impact the borrower in the future, unreliable or insufficient credit or collateral information, adverse trends in operations that are not yet jeopardizing repayment, or adverse trends in secondary repayment sources.

· Risk Code 6 – Substandard:  Loans in this grade are no longer adequately protected due to declining net worth of the borrower, lack of earning capacity, or insufficient collateral.  The possibility for loss of some portion of the loan principal cannot be ruled out.  Loans in this grade exhibit well-defined weaknesses that bring normal repayment into doubt.  Some of these weaknesses may include: unprofitable or poor earnings trends of the borrower or property, declining liquidity, excessive debt, significant unfavorable industry comparisons, secondary repayment sources are not available, or there is a possibility of a protracted work-out.

· Risk Code 7 – Doubtful:  Loans in this grade exhibit the same weaknesses as those classified Substandard, but the traits are more pronounced.  Collection in full is improbable, however the extent of the loss may be indeterminable due to pending factors which may yet occur that could salvage the loan, such as possible pledge of additional collateral, sale of assets, merger, acquisition or refinancing.  Borrowers in this grade may be on the verge of insolvency or bankruptcy, and stringent action is required on the part of the loan officer.

· Risk Code 8 – Loss:  Loans in this grade are those that are largely non-collectible or those in which ultimate recovery is too distant in the future to warrant continuance as a bankable asset.  This classification does not mean that the asset has 12       absolutely no recovery or salvage value, but rather it is not practical or desirable to defer charging the loan off even though recovery may be affected in the future.

· A risk rating is assigned for each loan at origination.  The risk ratings for commercial, real estate construction, and real estate term loans may change throughout the life of the loan as a multitude of risk factors change.  The risk rating for consumer loans may change as loans become delinquent.  Delinquent loans are those that are thirty days or more past due. 

The loan portfolio, segmented by risk class for the periods indicated, is shown below:

	Commercial		Real estate construction		Real estate term		Home equity lines and other consumer		Total
		(In Thousands)
June 30, 2012
Risk Code 1 - Excellent	$	968	$	-	$	-	$	426	$	1,394
Risk Code 2 - Good		61,999		289		62,521		818		125,627
Risk Code 3 - Satisfactory		159,236		36,769		264,425		34,274		494,704
Risk Code 4 - Watch		6,837		451		1,370		1,909		10,567
Risk Code 5 - Special Mention		8,717		370		3,910		167		13,164
Risk Code 6 - Substandard		2,215		3,043		8,132		666		14,056
Risk Code 7 - Doubtful		423		-		172		-		595
Subtotal	$	240,395	$	40,922	$	340,530	$	38,260	$	660,107
Less: Unearned origination fees, net of origination costs										(3,257)
									$	656,850
December 31, 2011
Risk Code 1 - Excellent	$	540	$	-	$	-	$	575	$	1,115
Risk Code 2 - Good		65,315		-		55,617		849		121,781
Risk Code 3 - Satisfactory		164,767		29,063		247,330		35,914		477,074
Risk Code 4 - Watch		8,033		3,579		1,102		1,497		14,211
Risk Code 5 - Special Mention		9,671		-		3,339		364		13,374
Risk Code 6 - Substandard		3,694		7,540		8,026		635		19,895
Risk Code 7 - Doubtful		669		-		446		-		1,115
Subtotal	$	252,689	$	40,182	$	315,860	$	39,834	$	648,565
Less: Unearned origination fees, net of origination costs										(3,003)