10-K

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

ý	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
	SECURITIES EXCHANGE ACT OF 1934
	For the fiscal year ended December 31, 2006
	OR
o	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: 0-25070

LSB FINANCIAL CORP.

(Exact name of registrant as specified in its charter)

INDIANA	35-1934975
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)
101 Main Street, Lafayette, Indiana	47901
(Address of principal executive offices)	(Zip Code)

(765) 742-1064

(Registrant’s telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

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

Title of each class:	Name of each exchange on which registered:
Common Stock, par value $0.01 per share	The NASDAQ Stock Market LLC

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

None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes [   ]     No [X]

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.

Yes [   ]     No [X]

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

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

Large accelerated filer [   ] Accelerated filer [   ] Non-accelerated filer [X]

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

Yes [   ]     No [X]

As of June 30, 2006, the aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was $32,279,466 based on the closing sale price as reported on the NASDAQ National Market.

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class	Outstanding at March 29, 2007
Common Stock, $0.01 par value per share	1,595,709 shares

DOCUMENTS INCORPORATED BY REFERENCE

Document	Parts Into Which Incorporated
Annual Report to Shareholders for the Fiscal Year Ended December 31, 2006	Parts I and II
Proxy Statement for the Annual Meeting of Shareholders to be held April 18, 2007	Part III

Exhibit Index on Page E-1

LSB Financial Corp.

Form 10-K

Index

			Page
Forward-Looking Statements			1
Part I			2
	Item 1.	Business	2
	Item 1A.	Risk Factors	28
	Item 1B.	Unresolved Staff Comments	29
	Item 2.	Properties	30
	Item 3.	Legal Proceedings	30
	Item 4.	Submission of Matters to a Vote of Security Holders	30
	Item 4.5.	Executive Officers of the Registrant	30
Part II			31
	Item 5.	Market for Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	31
	Item 6.	Selected Financial Data	32
	Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	32
	Item 7A.	Quantitative and Qualitative Disclosures about Market Risk	32
	Item 8.	Financial Statements and Supplementary Data	32
	Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	32
	Item 9A.	Controls and Procedures	32
	Item 9B.	Other Information	32
Part III			33
	Item 10.	Directors, Executive Officers and Corporate Governance	33
	Item 11.	Executive Compensation	33
	Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	33
	Item 13.	Certain Relationships and Related Transactions, and Director Independence	34
	Item 14.	Principal Accountant Fees and Services	34
Part IV			35
	Item 15.	Exhibits, Financial Statement Schedules	35

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DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

This document, including information included or incorporated by reference, contains, and future filings by LSB Financial on Form 10-Q and Form 8-K and future oral and written statements by LSB Financial and our management may contain, forward-looking statements about LSB Financial and its subsidiaries which we believe are within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, without limitation, statements with respect to anticipated future operating and financial performance, growth opportunities, interest rates, cost savings and funding advantages expected or anticipated to be realized by management. Words such as “may,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “expect,” “intend,” “plan” and similar expressions are intended to identify these forward-looking statements. Forward-looking statements by LSB Financial and its management are based on beliefs, plans, objectives, goals, expectations, anticipations, estimates and intentions of management and are not guarantees of future performance. We disclaim any obligation to update or revise any forward-looking statements based on the occurrence of future events, the receipt of new information, or otherwise. The important factors we discuss below and elsewhere in this document, including those set forth under “Risk Factors,” as well as other factors discussed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report to Shareholders attached to this Form 10-K as Exhibit 13 and identified in our filings with the Securities and Exchange Commission (“SEC”) and those presented elsewhere by our management from time to time, could cause actual results to differ materially from those indicated by the forward-looking statements made in this document.

The following factors, many of which are subject to change based on various other factors beyond our control, could cause our financial performance to differ materially from the plans, objectives, expectations, estimates and intentions expressed in such forward-looking statements: 

·the strength of the United States economy in general and the strength of the local economies in which we conduct our operations; 

·the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve Board; 

·financial market, monetary and interest rate fluctuations, particularly the relative relationship of short-term interest rates to long-term interest rates;

·the timely development of and acceptance of new products and services of Lafayette Savings Bank and the perceived overall value of these products and services by users, including the features, pricing and quality compared to competitors’ products and services;

·the willingness of users to substitute competitors’ products and services for our products and services;

·the impact of changes in financial services laws and regulations (including laws concerning taxes, accounting standards, banking, securities and insurance); 

·the impact of technological changes;

·acquisitions; 

·changes in consumer spending and saving habits; and

·our success at managing the risks involved in the foregoing.

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PART I

Item 1.Business

General

LSB Financial Corp. (“LSB Financial” or the “Company”) is an Indiana corporation which was organized in 1994 by Lafayette Savings Bank, FSB (“Lafayette Savings”) for the purpose of becoming a thrift institution holding company. Lafayette Savings is a federally chartered stock savings bank headquartered in Lafayette, Indiana. Originally organized in 1869, Lafayette Savings converted to a federal savings bank in 1984. Lafayette Savings’ deposits are insured up to the applicable limits by the Bank Insurance Fund of the Federal Deposit Insurance Corporation (the “FDIC”). In February 1995, Lafayette Savings converted to the stock form of organization through the sale and issuance of 1,029,576 shares of its common stock to LSB Financial. LSB Financial’s principal asset is the outstanding stock of Lafayette Savings. LSB Financial presently has no separate operations and its business consists only of the business of Lafayette Savings. References in this Form 10-K to “we,” “us,” and “our” refer to LSB Financial and/or Lafayette Savings as the context requires.

We have been, and intend to continue to be, a community-oriented financial institution. Our principal business consists of attracting retail deposits from the general public and investing those funds primarily in permanent first mortgage loans secured by owner-occupied, one- to four-family residences, and to a lesser extent, non-owner occupied one- to four-family residential, commercial real estate, multi-family, construction and development, consumer and commercial business loans. We currently serve Tippecanoe County, Indiana and its surrounding counties through our five retail banking offices. At December 31, 2006, we had total assets of $368.4 million, deposits of $255.3 million and shareholders’ equity of $34.8 million.

Our revenues are derived principally from interest on mortgage and other loans and interest on securities.

Our executive offices are located at 101 Main Street, Lafayette, Indiana 47901. Our telephone number at that address is (765) 742-1064.

Market Area

Tippecanoe County and the eight surrounding counties comprise Lafayette Savings’ primary market area. Lafayette is the county seat of Tippecanoe County and West Lafayette is the home of Purdue University. In addition to the jobs provided by these two major employers, Greater Lafayette has a strong manufacturing sector as well as many high-tech industries attracted to the area by the presence of Purdue University. The Purdue Research Park continues to attract high-tech jobs to the area, housing over 140 companies and employing nearly 2,900 people. Further growth is expected in this area. Tippecanoe County consistently shows better growth and lower unemployment rates than Indiana or the national economy because of the diverse employment base. The unemployment rate in Tippecanoe County in December 2006 was 3.7% compared to 4.7% for the State of Indiana and 4.3% nationally. This represents an improvement from 2005 when the comparable numbers were 4.6%, 5.3% and 4.9%, respectively.

Lending Activities

General. Our principal lending activity is the origination of conventional mortgage loans for the purpose of purchasing, constructing, or refinancing owner-occupied one- to four-family residential real estate located in our primary market area. We also originate non-owner occupied one- to four-family residential, multi-family and land development, commercial real estate, consumer and commercial business loans.

We originate both adjustable rate loans and fixed rate loans. We generally originate adjustable rate loans for retention in our portfolio in an effort to increase the percentage of loans with more frequent repricing than traditional long-term fixed rate loans. As a result of continued consumer demand for long-term fixed rate loans, we have continued to originate such loans. We underwrite these mortgages utilizing secondary market guidelines allowing them to be salable, without recourse. The sale of these loans results in additional short-term income and improves our interest-rate risk position. We generally retain servicing rights on loans sold to Freddie Mac, but release the servicing rights on loans sold to other third parties. Furthermore, in order to limit our potential exposure to increasing interest rates caused by our traditional emphasis on originating single-family mortgage loans, we have diversified our portfolio by increasing our emphasis on the origination of short-term or adjustable rate multi-family and commercial real estate loans and commercial

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business and consumer loans. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Asset/Liability Management” in the Annual Report to Shareholders filed as Exhibit 13 to this Form 10-K.

Our loan officers and certain executive officers in combination with a senior loan officer have approval authority on loans up to $500,000 based on the borrower’s aggregate indebtedness and debt services coverage. Our officers’ loan committee has approval authority on loans up to $1.5 million, also qualified by the borrower’s aggregate indebtedness and debt services coverage. The Board of Directors’ loan committee approves all loans where aggregate debt is over $1.5 million or where debt coverage is below certain minimum thresholds. All loans over $500,000 are approved by the Board of Directors’ loan committee.

At December 31, 2006, the maximum amount we could have loaned to any one borrower and the borrower’s related entities was $5.5 million. Our largest lending relationship to a single borrower or a group of related borrowers at December 31, 2006, totaled $4.9 million, consisting of a single land development loan, two loans on commercial properties and a single unsecured line of credit. The second largest lending relationship at December 31, 2006 to a single borrower or a group of related borrowers totaled $4.8 million, consisting of a single loan on a commercial property and a loan secured by a one- to four-family residence. The third largest lending relationship to a single borrower or a group of related borrowers totaled $4.8 million, consisting of a single line of credit secured by various residential properties, a single loan on a multi-family property and two unsecured lines of credit, one of which paid off on January 2, 2007. All of these loans were performing in accordance with their terms at December 31, 2006. At December 31, 2006, we had thirty other loans or lending relationships to a single borrower or group of related borrowers with a principal balance in excess of $2.0 million.

Loan Portfolio Composition. The following table sets forth information concerning the composition of our loan portfolio, including loans held for sale, in dollar amounts and in percentages of the total loan portfolio, before deductions for loans in process, deferred fees and discounts and allowances for losses.

	December 31,
	2002					2003					2004					2005					2006
	Amount		Percent			Amount		Percent			Amount		Percent			Amount		Percent			Amount		Percent
	(Dollars in Thousands)
Real Estate Loans
One- to four-family	$	144,086		50.54	%	$	131,562		45.68	%	$	140,356		42.95	%	$	136,982		40.31	%	$	142,045		43.70	%
Multi-family		35,381		12.41			38,045		13.21			40,279		12.33			40,094		11.80			30,160		9.28
Commercial		46,295		16.24			50,906		17.68			70,644		21.62			83,834		24.67			74,710		22.98
Land and land development		11,064		3.88			12,242		4.25			14,306		4.38			17,596		5.18			18,466		5.68
Construction		18,188		6.38			21,389		7.43			21,277		6.51			18,500		5.44			19,228		5.91
Total real estate loans		255,014		89.45			254,144		88.25			286,862		87.79			297,006		87.40			284,609		87.55
Other Loans
Consumer loans:
Home equity		14,716		5.16			17,581		6.11			21,468		6.58			19,786		5.82			16,276		5.01
Home improvement		221		0.08			16		0.01			432		0.13			412		0.12			417		0.13
Automobile		2,234		0.79			2,102		0.73			1,838		0.56			2,029		0.60			2,285		0.70
Deposit account		111		0.04			66		0.02			82		0.03			121		0.04			285		0.09
Other		1,636		0.57			1,765		0.61			251		0.08			272		0.08			267		0.08
Total consumer loans		18,918		6.64			21,530		7.48			24,071		7.37			22,620		6.66			19,530		6.01
Commercial business loans		11,147		3.91			12,310		4.27			15,823		4.84			20,180		5.94			20,935		6.44
Total other loans		30,065		10.55			33,840		11.75			39,894		12.21			42,800		12.60			40,465		12.45
Total loans		285,079		100.00	%		287,984		100.00	%		326,755		100.00	%		339,806		100.00	%		325,074		100.00	%
Less:
Loans in process		4,914					6,954					5,294					5,508					4,167
Deferred fees and discounts		272					366					439					475					446
Allowance for losses		1,996					3,098					2,095					2,852					2,770
Total loans receivable, net	$	277,897				$	277,566				$	318,927				$	330,971				$	317,691

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The following table shows the composition of our loan portfolio, including loans held for sale, by fixed and adjustable rate at the dates indicated. The one- to four-family fixed rate loans include $3.2 million, $5.7 million and $5.4 million of loans at December 31, 2004, 2005 and 2006, respectively, which carry a fixed rate of interest for the initial five or seven years and then convert to a one-year adjustable rate of interest for the remaining term of the loan.

	December 31,
	2002					2003					2004					2005					2006
	Amount		Percent			Amount		Percent			Amount		Percent			Amount		Percent			Amount		Percent
	(Dollars in Thousands)
Fixed Rate Loans:
Real estate:
One- to four-family	$	45,200		15.85	%	$	41,284		14.34	%	$	43,840		13.42	%	$	41,050		12.08	%	$	41,105		12.65	%
Multi-family		1,658		0.58			3,586		1.24			3,869		1.17			2,934		0.86			2,793		0.86
Commercial		7,913		2.78			6,852		2.38			10,294		3.15			13,893		4.09			10,797		3.32
Construction		4,444		1.56			3,342		1.16			3,221		0.99			2,800		0.82			1,989		0.61
Land and land development		4,478		1.57			8,899		3.09			7,862		2.41			10,629		3.13			7,358		2.26
Total real estate loans		63,693		22.34			63,963		22.21			69,086		21.14			71,306		20.98			64,042		19.70
Consumer		2,915		1.02			2,676		0.93			2,546		0.78			2,814		0.83			3,234		1.00
Commercial business		6,910		2.43			6,678		2.32			9,608		2.94			9,851		2.90			9,372		2.88
Total fixed rate loans		73,518		25.79			73,317		25.46			81,240		24.86			83,971		24.71			96,648		23.58
Adjustable Rate Loans:
Real estate:
One- to four-family		98,886		34.69			90,278		31.35			96,515		29.54			95,931		28.23			100,940		31.05
Multi-family		33,723		11.83			34,459		11.97			36,410		11.14			37,160		10.94			27,367		8.42
Commercial		38,382		13.46			44,054		15.30			60,350		18.47			69,941		20.58			63,913		19.66
Construction		6,620		2.32			8,900		3.09			11,085		3.39			14,797		4.35			16,477		5.07
Land and land development		13,710		4.81			12,490		4.33			13,416		4.11			7,871		2.32			11,870		3.65
Total real estate loans		191,321		67.11			190,182		66.04			217,776		66.65			225,700		66.42			220,567		67.85
Consumer		16,003		5.61			18,854		6.55			21,524		6.60			19,805		5.83			16,296		5.01
Commercial business		4,237		1.49			5,632		1.95			6,215		1.89			10,329		3.04			11,563		3.56
Total adjustable rate loans		211,561		74.21			214,665		74.54			245,515		75.14			255,834		75.29			248,426		76.42
Total loans		285,079		100.00	%		287,984		100.00	%		326,755		100.00	%		339,805		100.00	%		325,074		100.00	%
Less:
Loans in process		4,914					6,954					5,294					5,508					4,167
Deferred fees and discounts		272					366					439					475					446
Allowance for losses		1,996					3,098					2,095					2,852					2,770
Total loans receivable, net	$	277,897				$	277,566				$	318,927				$	330,971				$	317,691

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The following schedule illustrates the maturities of our loan portfolio at December 31, 2006. Loans which have adjustable or renegotiable interest rates are shown as maturing in the period during which the contract is due. The schedule does not reflect the effects of possible prepayments or enforcement of due-on-sale clauses. 

	Real Estate
	Mortgage(1)					Construction, Land and Land Development					Consumer					Commercial Business					Total
Due During Years Ending December 31,	Amount		Weighted Average Rate			Amount		Weighted Average Rate			Amount		Weighted Average Rate			Amount		Weighted Average Rate			Amount		Weighted Average Rate
(Dollars in Thousands)
2007	$	20,538		8.11	%	$	8,868		8.04	%	$	2,891		8.48	%	$	12,055		8.77	%	$	44,352		5.36	%
2008 to 2011		9,785		7.16			13,954		8.44			16,534		8.27			7,006		7.42			47,279		7.96
2012 and following		216,591		6.64			14,873		6.87			105		7.88			1,874		7.42			233,443		6.66
TOTAL	$	246,914		6.87	%	$	37,695		7.72	%	$	19,530		8.30	%	$	20,935		8.20	%	$	325,074		7.07	%

(1) Includes one- to four-family, multi-family and commercial real estate loans.

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The total amount of loans due to mature after December 31, 2007 which have fixed interest rates is $52.5 million, and which have adjustable or renegotiable interest rates is $228.2 million.

One- to Four-Family Residential Real Estate Lending

Our lending program focuses on the origination of permanent loans secured by mortgages on owner-occupied, one- to four-family residences. We also originate loans secured by non-owner occupied, one- to four-family residences. Substantially all of these loans are secured by properties located in our primary market area. We originate a variety of residential loans, including conventional 15- and 30-year fixed rate loans, fixed rate loans convertible to adjustable rate loans, adjustable rate loans and balloon loans.

Our one- to four-family residential adjustable rate loans are fully amortizing loans with contractual maturities of up to 30 years. The interest rates on the majority of the adjustable rate loans originated by us are subject to adjustment at one-, three- or five-year intervals. Our adjustable rate mortgage products generally carry interest rates which are reset to a stated margin over the weekly average of the one-, three- or five-year U.S. Treasury rates. Increases or decreases in the interest rate of our one-year adjustable rate loans are generally limited to 2% annually with a lifetime interest rate cap of 6% over the initial rate. Increases or decreases in the interest rate of three-year and five-year adjustable rate loans are limited to a 3% annual adjustment cap with a 5% lifetime interest rate cap over the initial rate. Our one-year adjustable rate loans may be convertible into fixed rate loans after the first year and before the sixth year upon payment of a fee, do not contain prepayment penalties and do not produce negative amortization. Initial interest rates offered on our adjustable rate loans may be below the fully indexed rate. Borrowers are qualified at 2% over the initial interest rate for our one-year adjustable rate loans and at the initial interest rate for our three-year and five-year adjustable rate loans. We generally retain adjustable rate loans in our portfolio pursuant to our asset/liability management strategy. Five-year adjustable rate mortgage loans represented $12.2 million, three-year adjustable rate mortgage loans represented $74.2 million and one-year adjustable rate mortgage loans represented $4.5 million of our adjustable rate mortgage loans at December 31, 2006. We also offer a floating rate mortgage loan based on national prime rate, generally on non-owner-occupied residential loans. These loans represented $4.7 million of our adjustable rate mortgage loans at December 31, 2006.

We offer fixed rate mortgage loans to owner-occupants with maturities up to 30 years and which conform to Freddie Mac standards. We currently sell in the secondary market the majority of our long-term, conforming, fixed rate loans with terms over 15 years. Loans designated as held for sale are carried on the balance sheet at the lower of cost or market value. At December 31, 2006, we had $1.0 million in loans held for sale. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Asset/Liability Management” in the Annual Report to Shareholders filed as Exhibit 13 to this Form 10-K. Interest rates charged on these fixed rate loans are priced on a daily basis in accordance with Freddie Mac pricing standards. These loans do not include prepayment penalties.

We also offer 30-year fixed rate mortgage loans, which, after five or seven years, convert to our standard one-year adjustable rate mortgage for the remainder of the term. Of these, $5.4 million have less than three years to their adjustment date and are included in adjustable rate loans.

We had $89.1 million in non-owner occupied one- to four-family residential loans at December 31, 2006. These loans are underwritten using the same criteria as owner-occupied, one- to four-family residential loans, but are provided at higher rates than owner-occupied loans. We offer fixed rate, adjustable rate and convertible rate loans, with terms of up to 30 years.

We originate residential mortgage loans with loan-to-value ratios of up to 95% for owner-occupied residential loans and up to 80% for non-owner occupied residential loans. We require private mortgage insurance in an amount intended to reduce our exposure to 80% or less of the lesser of the purchase price or appraised value of the underlying collateral. We occasionally originate FHA loans in excess of 95% loan-to-value, all of which are sold, with the servicing rights released, to a third party.

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In underwriting one- to four-family residential real estate loans, we evaluate both the borrower’s ability to make monthly payments and the value of the property securing the loan. Properties securing owner-occupied one- to four-family residential real estate loans that we make are appraised by independent fee appraisers. We require borrowers to obtain title insurance and fire insurance, extended coverage casualty insurance and flood insurance, if appropriate. Real estate loans that we originate contain a “due on sale” clause allowing us to declare the unpaid principal balance due and payable upon the sale of the security property.

Multi-Family and Commercial Real Estate Lending

We originate permanent loans secured by multi-family and commercial real estate. Our permanent multi-family and commercial real estate loan portfolio includes loans secured by apartment buildings, office buildings, churches, warehouses, retail stores, shopping centers, small business facilities and farm properties, most of which are located within our primary market area.

Permanent multi-family and commercial real estate loans are originated as three-year and five-year adjustable rate loans with up to a 24-year amortization. To a substantially lesser extent, such loans are originated as fixed rate or balloon loans or at a floating rate based on national prime rate, at terms up to 15 years. The adjustable rate loans are tied to an index based on the weekly average of the three-year or five-year U.S. Treasury rate, respectively, plus a stated margin over the index. Multi-family loans and commercial real estate loans have been written in amounts of up to 80% of the lesser of the appraised value of the property or the purchase price, and borrowers are generally personally liable for all or part of the indebtedness.

Appraisals on properties securing multi-family and commercial real estate loans originated in excess of $100,000 by us are performed by independent appraisers designated by us at the time the loan is made and reviewed by management. In addition, our underwriting procedures generally require verification of the borrower’s credit history, income and financial statements, banking relationships and income projections for the property.

Multi-family and commercial real estate loans generally present a higher level of risk than loans secured by one- to four-family residences. This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effects of general economic conditions on income-producing properties and the increased difficulty of evaluating and monitoring these types of loans. Furthermore, the repayment of loans secured by multi-family and commercial real estate is typically dependent upon the successful operation of the related real estate project. If the cash flow from the project is reduced (for example, if leases are not obtained or renewed, or a bankruptcy court modifies a lease term, or a major tenant is unable to fulfill its lease obligations), the borrower’s ability to repay the loan may be impaired.

Construction, Land and Land Development Lending

We make construction loans to individuals for the construction of their residences as well as to builders and developers for the construction of one- to four-family residences, multi-family dwellings and commercial real estate projects. At December 31, 2006, substantially all of these loans were secured by property located within our primary market area.

Construction loans to individuals for their residences typically run six to eight months and are generally structured to be converted to permanent loans at the end of the construction phase. These construction loans are fixed rate loans, with interest rates higher than those we offer on one- to four-family loans. During the construction phase, the borrower pays interest only. Residential construction loans are underwritten pursuant to the same guidelines used for originating permanent residential loans. At December 31, 2006, we had $5.4 million of construction loans to borrowers intending to live in the properties upon completion of construction.

Construction loans to builders of one- to four-family residences generally have terms of six to eight months and require the payment of interest only at a fixed rate for the loan term. We limit builders to one home construction loan at a time, but would consider requests for more than one if the homes are presold. At December 31, 2006, we had $6.5 million of construction loans to builders of one- to four-family residences.

7

We make construction loans to builders of multi-family dwellings and commercial projects with terms up to one year and require payment of interest only at a fixed rate for the construction phase of the loan. These loans are generally structured to be converted to one of our permanent commercial loan products at the end of the construction phase. At December 31, 2006, we had $7.3 million of loans to finance the construction of multi-family dwellings and commercial projects.

We also make loans to builders for the purpose of developing one- to four-family lots and residential condominium projects. These loans typically have terms of two to three years with interest rates tied to national prime. The maximum loan-to-value ratio is 75%. The principal in these loans is typically paid down as lots or units are sold. These loans may be structured as revolving lines of credit with maturities of generally two years or less. At December 31, 2006, we had $14.8 million of development loans to builders. We also make land acquisition loans. At December 31, 2006, we had $3.7 million in loans secured by land.

Construction and development loans are obtained principally through continued business from developers and builders who have previously borrowed from us, as well as referrals from existing customers and realtors, and walk-in customers. The application process includes a submission to us of accurate plans, specifications and costs of the project to be constructed/developed which are used as a basis to determine the appraised value of the subject property. Loans are based on the lesser of current appraised value and/or the cost of construction, which is the land plus the building. At December 31, 2006, our largest construction and development loan was a development loan for a mixed use project for $2.6 million.

Construction and land development loans generally present a higher level of risk than loans secured by one- to four-family residences. Because of the uncertainties inherent in estimating land development and construction costs and the market for the project upon completion, it is relatively difficult to evaluate accurately the total loan funds required to complete a project, the related loan-to-value ratios and the likelihood of ultimate success of the project. Construction and land development loans to borrowers other than owner-occupants also involve many of the same risks discussed above regarding multi-family and commercial real estate loans and tend to be more sensitive to general economic conditions than many other types of loans. We had one non-performing construction and development loan totaling $93,000 at December 31, 2006.

Consumer Lending

We originate a variety of different types of consumer loans, including home equity loans, direct automobile loans, home improvement loans, deposit account loans and other secured and unsecured loans for household and personal purposes. Consumer loan terms vary according to the type and value of collateral, length of contract and creditworthiness of the borrower. The largest component of consumer lending is home equity loans, which totaled $16.3 million or 5.0% of the total loan portfolio at December 31, 2006. We are currently offering a revolving line of credit home equity loan on which the total commitment amount, when combined with the balance of the first mortgage lien and other priority liens, may not exceed 90% of the appraised value of the property, with a five-year term and minimum monthly payment requirement of interest only. At December 31, 2006, we had $18.4 million of unused credit available under our home equity line of credit program.

Our underwriting standards for consumer loans include a determination of the applicant’s payment history on other debts and the applicant’s ability to meet existing obligations and payments on the proposed loan. Although creditworthiness of the applicant is of primary consideration, our underwriting process also includes a comparison of the value of the security, if any, in relation to the proposed loan amount. Consumer loans may entail greater credit risk than do residential mortgage loans, particularly in the case of consumer loans which are unsecured or are secured by rapidly depreciable assets, such as automobiles. In such cases, any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation. In addition, consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances. Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.

8

Commercial Business Lending

Our current commercial business lending activities encompass predominantly secured and unsecured lines of credit and loans secured by small business equipment and vehicles. At December 31, 2006, we had $4.0 million of unsecured loans and lines of credit outstanding (with $2.7 million of unused credit available) and $8.8 million of loans and lines of credit (with $1.4 million of unused credit available) secured by inventory or accounts receivable, small business equipment and vehicles. We also had $1.1 million of unused credit available on letters of credit.

Unlike residential mortgage loans, which generally are made on the basis of the borrower’s ability to make repayment from his or her employment and other income and which are secured by real property the value of which tends to be more easily ascertainable, commercial business loans typically are made on the basis of the borrower’s ability to make repayment from the cash flow of the borrower’s business. As a result, the availability of funds for the repayment of commercial business loans may be substantially dependent on the success of the business itself, which is likely to be dependent upon the general economic environment. Our commercial business loans are sometimes, but not always, secured by business assets. However, the collateral securing the loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business.

We recognize the increased risks associated with commercial business lending. Our commercial business lending policy emphasizes credit file documentation and analysis of the borrower’s character, capacity to repay the loan, the adequacy of the borrower’s capital and collateral as well as an evaluation of the industry conditions affecting the borrower. Analysis of the borrower’s past, present and future cash flows is also an important aspect of our credit analysis.

Loan Originations, Purchases and Sales

Real estate loans are originated by our staff of salaried loan officers and our residential mortgage loan originators who receive applications from existing customers, walk-in customers, and referrals from realtors. While we originate both adjustable rate and fixed rate loans, our ability to originate loans is dependent upon the relative customer demand for loans in our market. Demand is affected by the interest rate environment. Currently, the majority of conforming fixed rate residential mortgage loans with maturities of 15 years and over are originated for sale in the secondary market. Based on our interest-rate risk considerations, we occasionally will keep fixed rate residential mortgage loans in our portfolio to generate income and to be available for substitution in the event a loan committed for sale fails to close as expected. These loans are sold either to Freddie Mac while we retain the servicing rights, or to ABN Amro with servicing released. These loans are originated to satisfy customer demand and to generate fee income and are sold to achieve the goals of our asset/liability management program.

When loans are sold to Freddie Mac, we retain the responsibility for collecting and remitting loan payments, inspecting the properties, making certain that insurance and real estate tax payments are made on behalf of borrowers, and otherwise servicing the loans. We receive a servicing fee for performing these services. We serviced mortgage loans for others totaling $148.8 million at December 31, 2006.

In periods of rising interest rates, our ability to originate large dollar volumes of real estate loans may be substantially reduced or restricted, with a resultant decrease in related operating earnings. In addition, our ability to sell loans may substantially decrease as potential buyers reduce their purchasing activities.

We occasionally purchase a limited amount of participation interests in real estate loans from other financial institutions outside our primary market area. We review and underwrite all loans to be purchased to insure that they meet our underwriting standards.

9

The following table shows our loan and mortgage-backed security origination, purchase, sale and repayment activities for the periods indicated. One- to four-family fixed rate loans include $2.2 million, $1.3 million and $1.5 million of loans originated during 2004, 2005 and 2006 respectively, which carry a fixed rate of interest for the initial five or seven years and then convert to a one-year adjustable rate of interest for the remaining term of the loan.

	Year Ended December 31,
	2004		2005		2006
	(In Thousands)
Originations by type:
Adjustable rate:
Real estate - one- to four-family	$	23,355	$	17,065	$	14,408
- multi-family		7,857		4,734		1,027
- commercial		22,547		17,575		14,156
- construction, land and land development		22,377		17,864		17,896
Non-real estate - consumer		6,703		224		3,105
- commercial business		3,821		4,243		8,651
Total adjustable rate		86,660		61,705		59,243
Fixed rate:
Real estate - one- to four-family		39,640		25,300		25,932
- multi-family		1,229		450		653
- commercial		5,355		10,577		7,610
- construction, land and land development		18,330		15,922		8,904
Non-real estate - consumer		2,096		2,614		2,435
- commercial business		8,204		6,609		5,708
Total fixed rate		74,855		61,472		51,242
Total loans originated		161,515		123,177		110,485
Purchases:
Total loans purchased		2,267		1,958		403
Total mortgage-backed securities purchased		---		---		5,547
Total purchases		2,267		1,958		5,950
Sales and Repayments:
Real estate - one- to four-family		28,966		19,193		16,645
- multi-family		---		333		---
- commercial		---		3,368		1,000
Total loans sold		28,966		22,894		17,645
Principal repayments		94,695		88,367		107,805
Total loans sold and repayments		123,661		111,261		125,450
Mortgage-backed securities:
Principal repayments		519		355		411
Increase (decrease) in other items, net		230		153		(150	)
Net increase (decrease)	$	39,832	$	13,672	$	(9,576	)

10

Asset Quality

Loan payments are generally due the first day of each month. When a borrower fails to make a required payment on a loan, we attempt to cause the delinquency to be cured by contacting the borrower. In the case of residential loans, a late notice is sent for accounts seven or more days delinquent. If the delinquency is not cured by the 15th day, the borrower will be assessed a late charge. Additional written and oral contacts may be made with the borrower between 20 and 30 days after the due date. If the full scheduled payment on the loan is not received prior to the 1st day of the succeeding month, the loan is considered 30 days past due and more formal collection procedures may be instituted. If the delinquency continues for a period of 60 days, we usually send a default letter to the borrower and, after 90 days, institute appropriate action to foreclose on the property. If foreclosed, the property is sold at public auction and we may purchase it. Delinquent consumer loans are handled in a similar manner. Our procedures for repossession and sale of consumer collateral are subject to various requirements under Indiana consumer protection laws.

Delinquent Loans. The following table sets forth information concerning delinquent loans at December 31, 2006, in dollar amounts and as a percentage of each category of our loan portfolio. The amounts represent the total remaining principal balances of the related loans, rather than the actual payment amounts which are overdue.

	Loans Delinquent For:
	60-89 Days							90 Days and Over							Total Delinquent Loans
	Number		Amount		Percent of Loan Category			Number		Amount		Percent of Loan Category			Number		Amount		Percent of Loan Category
	(Dollars in Thousands)
Real Estate:
One- to four-family		25	$	1,985		1.40	%		100	$	6,811		4.80	%		125	$	8,796		6.19	%
Multi-family		1		131		0.43			1		328		1.09			2		458		1.52
Commercial		3		1,103		1.48			1		267		0.36			4		1,370		1.83
Construction and land development		4		612		1.62			2		61		0.16			6		673		1.78
Consumer		2		8		0.04			2		41		0.21			4		49		0.25
Commercial Business		3		36		0.17			1		3		0.01			4		39		0.19
Total		38	$	3,875		1.19	%		107	$	7,511		2.31	%		145	$	11,385		3.50	%

11

Non-Performing Assets. The table below sets forth the amounts and categories of non-performing assets. Interest income on loans is accrued over the term of the loans based upon the principal outstanding except where serious doubt exists as to the collectibility of a loan, in which case the accrual of interest is discontinued. The amounts shown do not reflect reserves set up against such assets. See “ - Allowance for Loan Losses.”

	December 31,
	2002			2003			2004			2005			2006
	(Dollars in Thousands)
Non-accruing loans:
One- to four-family	$	2,417		$	2,146		$	2,863		$	5,309		$	6,851
Multi-family		137			0			0			841			328
Commercial real estate		173			102			501			1,652			---
Construction and land development		258			1,307			547			547			93
Consumer		93			69			34			76			89
Commercial business		232			104			262			8			3
Total		3,310			3,728			4,207			8,432			7,364
Accruing loans delinquent more than 90 days:
One- to-four-family		---			456			484			127			147
Commercial real estate		---			62			---			---			---
Total		---			518			484			127			147
Foreclosed assets:
One- to four-family		79			167			742			1,366			2,228
Commercial real estate								102			331			1,709
Construction or development		163			163			387			300			232
Consumer		37			---			---			7			---
Commercial business		---			10			---			---			---
Total		279			340			1,231			2,003			4,169
Total non-performing assets	$	3,589		$	4,586		$	5,922		$	10,563		$	11,680
Total as a percentage of total assets		1.12	%		1.44	%		1.67	%		2.83	%		3.17	%
Total assets	$	319,096		$	319,272		$	355,045		$	372,664		$	368,400

12

For the year ended December 31, 2006, gross interest income which would have been recorded had the non-accruing loans been current in accordance with their original terms was $494,000, none of which was included in interest income.

Other Loans of Concern. In addition to the non-performing assets set forth in the table above under the caption “Non-Performing Assets,” as of December 31, 2006, there was also an aggregate of $21.8 million in net book value of loans with respect to which past payment history of the borrowers may cause management to have doubts as to the ability of the borrowers to comply with present loan repayment terms and which may result in the future inclusion of such items in the non-performing asset categories. Included in the other loans of concern are (i) 92 loans to six borrowers who each had an average of 15 one- to four-family rental properties with a total outstanding balance of $6.4 million, where management has concerns about the ability of the borrowers to keep the rental properties leased and about the cash flow of the borrowers; (ii) a land development loan to a single borrower with an outstanding balance of $2.5 million, where management has concerns about the scheduled take-down of the lots; and (iii) four commercial business loans to a single borrower with an outstanding balance of $2.0 million, secured by various types of collateral, where management has concerns about the cash flow of the borrower.

Classified Assets. Federal regulations provide for the classification of loans and other assets, such as debt and equity securities considered by the Office of Thrift Supervision (the “OTS”) to be of lesser quality, as “substandard,” “doubtful” or “loss.” An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. “Substandard” assets include those characterized by the “distinct possibility” that the insured institution will sustain “some loss” if the deficiencies are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions, and values, “highly questionable and improbable.” Assets classified as “loss” are those considered “uncollectible” and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted. Assets which do not currently expose the institution to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are required to be designated “special mention” by management.

When an insured institution classifies problem assets as either substandard or doubtful, it may establish general allowances for loan losses in an amount deemed prudent by management. General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When an insured institution classifies problem assets as “loss,” it is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge off such amount. An institution’s determination as to the classification of its assets and the amount of its valuation allowances is subject to review by the OTS and the FDIC, which may order the establishment of additional general or specific loss allowances.

In connection with the filing of our periodic reports with the OTS and in accordance with our classification of assets policy, we regularly review the problem assets in our portfolio to determine whether any assets require classification in accordance with applicable regulations. At December 31, 2006, we had classified $17.4 million of our loans as substandard, $4 million as doubtful and none as loss. At December 31, 2006, we had designated $4.6 million in loans as special mention.

Allowance for Loan Losses. We establish our provision for loan losses based on a systematic analysis of risk factors in the loan portfolio. The analysis includes consideration of concentrations of credit, past loss experience, current economic conditions, the amount and composition of the loan portfolio, estimated fair value of the underlying collateral, delinquencies, and other factors. We also consider the loss experience of similar portfolios in comparable lending markets as well as using the services of a consultant to assist in the evaluation of our growing commercial loan portfolio. On at least a quarterly basis, a formal analysis of the adequacy of the allowance is prepared and reviewed by management and the Board of Directors. This analysis serves as a point-in-time assessment of the level of the allowance and serves as a basis for provisions for loan losses.

Our analysis of the loan portfolio begins by assigning each new loan a risk rating at the time the loan is originated, corresponding to one of ten risk categories. If the loan is a commercial credit, the borrower will also be assigned a rating. Adjustments are made to these ratings on a quarterly basis, based on the performance of the individual loan. Loans no longer performing as agreed are assigned a lower risk rating, eventually resulting in their being regarded as classified loans. A collateral re-evaluation form is completed on all classified loans, identifying expected losses, generally based on an analysis of the collateral securing those loans. A portion of the loan loss reserve is allocated to the classified loans in the amount identified as at risk.

13

Portions of the allowance are also allocated to non-classified loan portfolios which have been segregated into categories of loans having similar characteristics and similar inherent risk. These categories include loans on: one- to four-family owner-occupied properties, one- to four-family non-owner-occupied properties, multi-family rental properties, non-residential properties, land and land development projects, construction projects, second mortgages and home equity loans, unsecured commercial business loans, secured commercial business loans, and consumer loans. Factors considered in determining the percentage allocation for each category include: historical loss experience, underwriting standards, trends in property values, trends in delinquent and non-performing loans, and economic trends affecting our market. Although we believe we use the best information available to make such determinations, future adjustments to reserves may be necessary, and net income could be significantly affected, if circumstances differ substantially from the assumptions used in making the initial determinations. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Results of Operations - Provision for Loan Losses” in the Annual Report to Shareholders filed as Exhibit 13 to this Form 10-K.

The following table sets forth an analysis of our allowance for loan losses.

	Year Ended December 31,
	2002			2003			2004			2005			2006
	(Dollars in Thousands)
Balance at beginning of period	$	1,432		$	1,996		$	3,098		$	2,095		$	2,852
Charge-offs:
One- to four-family		15			---			566			218			585
Commercial real estate		---			---			---			16			274
Construction or development		75			---			876			184			278
Consumer		56			84			76			52			4
Commercial business		--			45			2			22			8
Total charge-offs		146			129			1,520			492			1,149
Recoveries:
One- to four-family		3			---			---			---			---
Construction or development		---			---			3			42			46
Consumer		7			6			11			7			3
Commercial business		---			---			3			---			---
Total recoveries		10			6			17			49			49
Net charge-offs		136			123			1,503			443			1,100
Additions charged to operations		700			1,225			500			1,200			1,018
Balance at end of period	$	1,996		$	3,098		$	2,095		$	2,852		$	2,770
Net charge-offs to average loans outstanding		0.05	%		0.05	%		0.50	%		0.13	%		0.34	%
Allowance for loan losses to non-performing assets		55.61	%		67.55	%		35.37	%		26.99	%		23.72	%
Allowance for loan losses to net loans at end of period		0.72	%		1.12	%		0.66	%		0.86	%		0.87	%

14

The allocation of our allowance for losses on loans, including loans held for sale, at the dates indicated is summarized as follows:

	At December 31,
	2002							2003							2004							2005							2006
	Amount of Loan Loss Allowance		Loan Amounts by Category		Percent of Loans in Each Category to Total Loans			Amount of Loan Loss Allowance		Loan Amounts By Category		Percent of Loans in Each Category to Total Loans			Amount of Loan Loss Allowance		Loan Amounts By Category		Percent of Loans in Each Category to Total Loans			Amount of Loan Loss Allowance		Loan Amounts By Category		Percent of Loans in Each Category to Total Loans			Amount of Loan Loss Allowance		Loan Amounts By Category		Percent of Loans in Each Category to Total Loans
	(Dollars in Thousands)
Real estate:
One- to four-family	$	698	$	144,086		50.54	%	$	815	$	131,562		45.68	%	$	470	$	140,355		42.95	%	$	636	$	136,981		40.31	%	$	1,201	$	142,045		43.70	%
Multi-family		180		35,381		12.41			225		38,045		13.21			211		40,279		12.33			219		40,094		11.80			116		30,160		9.28
Commercial real estate		325		46,295		16.24			500		50,906		17.68			586		70,644		21.62			620		83,834		24.67			459		74,710		22.98
Land and land development		362		11,064		3.88			372		12,242		4.25			253		14,306		4.38			354		17,596		5.18			390		18,466		5.68
Construction		33		18,188		6.38			651		21,389		7.43			162		21,277		6.51			192		18,500		5.44			260		19,228		5.91
Consumer		193		18,918		6.64			145		21,530		7.48			155		24,071		7.37			171		22,620		6.66			126		19,530		6.01
Commercial business		163		11,147		3.91			107		12,310		4.27			143		15,823		4.84			363		20,180		5.94			120		20,935		6.44
Unallocated		42		---		---			283		---		---			114		---		---			297		---		---			98		---		---
Total	$	1,996	$	285,079		100.00	%	$	3,098	$	287,984		100.00	%	$	2,094	$	326,755		100.00	%	$	2,852	$	339,805		100.00	%	$	2,770	$	325,074		100.00	%

15

Investment Activities

We must maintain minimum levels of securities that qualify as liquid assets under the OTS regulations. Liquidity may increase or decrease depending upon the availability of funds and comparative yields on investments in relation to the return on loans. Historically, we have maintained liquid assets at levels we believe adequate to meet the requirements of normal operations, including potential deposit outflows. Cash flow projections are regularly reviewed and updated to assure that adequate liquidity is maintained. At December 31, 2006 our liquidity ratio, liquid assets as a percentage of net withdrawable savings deposits and current borrowings was 6.09%. Our level of liquidity is a result of management’s asset/liability strategy. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Asset/Liability Management” and “- Liquidity and Capital Resources” in the Annual Report to Shareholders filed as Exhibit 13 to this Form 10-K.

Federally chartered savings institutions have the authority to invest in various types of liquid assets, including United States Treasury obligations, securities of various federal agencies, certain certificates of deposit of insured banks and savings institutions, certain bankers’ acceptances, repurchase agreements and federal funds. Subject to various restrictions, federally chartered savings institutions may also invest their assets in investment grade commercial paper and corporate debt securities and mutual funds whose assets conform to the investments that a federally chartered savings institution is otherwise authorized to make directly.

Generally, we invest funds among various categories of investments and maturities based upon our asset/liability management policies, concern for the highest investment quality, liquidity needs and performance objectives. It is our general policy to purchase securities which are U.S. Government securities, investment grade municipal and corporate bonds, commercial paper, federal agency obligations and interest-bearing deposits with the Federal Home Loan Bank.

16

The following table sets forth the composition of our securities portfolio at the dates indicated. As of December 31, 2006, our investment portfolio did not contain securities of any issuer with an aggregate book value in excess of 10% of our shareholders’ equity, excluding those issued by the U.S. Government and its agencies.

	December 31,
	2004					2005					2006
	Carrying Value		% of Total			Carrying Value		% of Total			Carrying Value		% of Total
	(Dollars in Thousands)
Debt securities:
Federal agency obligations	$	2,345		21.49	%	$	4,480		29.79	%	$	3,159		21.96	%
Municipal bonds		4,458		40.85			6,361		42.30			7,228		50.25
Subtotal		6,803		62.34			10,841		72.09			10,387		72.21
Other:
Federal Home Loan Bank stock		4,110		37.66			4,197		27.91			3,997		27.79
Total debt securities and Federal Home Loan Bank stock	$	10,913		100.00	%	$	15,038		100.00	%		14,384		100.00	%
Average remaining life of debt securities	3.83 years					3.52 years					4.30 years
Other interest-earning assets:
Interest-bearing deposits with Federal Home Loan Bank	$	6,818		100.00	%	$	7,687		100.00	%	$	8,336		100.00	%
Mortgage-backed securities:
Fannie Mae certificates	$	307		26.85	%	$	234		30.35	%	$	3,101		52.31	%
Freddie Mac certificates		837		73.15	%		536		69.65	%		2,828		47.69	%
Total mortgage-backed securities	$	1,144		100.00	%	$	770		100.00	%		5,929		100.00	%

17

The following table sets forth the composition and contractual maturities of our securities portfolio at December 31, 2006. Expected maturities will differ from contractual maturities because issuers have the right to call or prepay obligations with or without call or prepayment penalties. At December 31, 2006, all of our securities were classified as available for sale and as such were reported at fair value. The weighted average yields on tax exempt obligations have been computed on a tax equivalent basis.

	December 31, 2006
	Less than 1 year			1 to 5 Years			5 to 10 Years			Over 10 Years			Total Investment Securities
	(Dollars in Thousands)
Federal agency obligations	$	2,159		$	1,000		$	---		$	---		$	3,159
Municipal bonds		781			2,819			2,256			1,372			7,228
Fannie Mae certificates		---			188			---			2,913			3,101
Freddie Mac certificates		344			52			---			2,432			2,828
Total investment securities	$	3,284		$	4,059		$	2,256		$	6,717		$	16,316
Weighted average yield		3.74	%		4.71	%		5.60	%		5.30	%		4.66	%

Sources of Funds

General. Our primary sources of funds are deposits, repayment and prepayment of loans, interest earned on or maturation of investment securities and short-term investments, borrowings and funds provided from operations.

Deposits. We offer a variety of deposit accounts. Our deposits consist of passbook and statement savings accounts, money market accounts, NOW accounts and certificate accounts. In addition, we periodically solicit broker originated certificates of deposit when issues are available that meet our interest rate and liquidity needs. Brokered deposits at December 31, 2006 totaled $65.6 million. We rely primarily on competitive pricing policies, on-line and off-line advertising, and customer service to attract and retain these deposits.

The flow of deposits is influenced significantly by general economic conditions, changes in money market and prevailing interest rates and competition. The variety of deposit accounts we offer has allowed us to be competitive in obtaining funds and to respond with flexibility to changes in consumer demand. We manage the pricing of our deposits in keeping with our asset/liability management, profitability and growth objectives. Based on our experience, we believe that our savings, interest- and non-interest-bearing checking accounts are relatively stable sources of deposits. However, our ability to attract and maintain certificates of deposit, and the rates paid on these deposits, has been and will continue to be significantly affected by market conditions.

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The following table sets forth our savings flows during the periods indicated.

	Year Ended December 31,
	2004			2005			2006
	(Dollars in Thousands)
Opening balance	$	225,485		$	256,631		$	265,993
Deposits		1,190,435			1,188,778			1,165,305
Withdrawals		(1,163,515	)		(1,184,682	)		(1,182,612	)
Interest credited		4,226			5,266			6,618
Ending balance	$	256,631		$	265,993		$	255,304
Net increase (decrease)	$	31,146		$	9,362		$	(10,689	)
Percent increase (decrease)		13.81	%		3.65	%		(4.02	)%

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The following table sets forth the dollar amount of savings deposits in the various types of deposit programs offered by us at the dates indicated.

	December 31,
	2004					2005					2006
	Amount		Percent of Total			Amount		Percent of Total			Amount		Percent of Total
	(Dollars in Thousands)
Transaction and Savings Deposits:
Noninterest-bearing	$	16,502		6.43	%	$	18,401		6.91	%	$	18,358		7.18	%
Savings accounts (0.50% - 0.75% at December 31, 2006)		18,775		7.31			18,633		7.00			18,764		7.34
NOW Accounts (0.00% - 0.50% at December 31, 2006)		29,550		11.51			26,977		10.13			25,881		10.12
Money Market Accounts (1.0% - 4.40% at December 31, 2006)		18,393		7.16			13,099		4.92			12,273		4.80
Total Non-Certificates		83,220		32.41			77,110		28.96			75,276		29.44
Certificates:
0.00 - 1.99%		38,599		15.04			4,727		1.78			642		0.25
2.00 - 3.99%		103,810		40.43			125,744		47.23			90,877		35.55
4.00 - 5.99%		30,876		12.02			58,395		21.93			88,493		34.62
6.00 - 7.99%		126		0.05			17		0.00			17		0.01
Total certificates		173,411		67.53			188,883		70.94			180,029		70.43
Accrued interest		157		0.06			266		0.10			323		0.13
Total deposits	$	256,788		100.00	%	$	266,259		100.00	%		255,628		100.00	%

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The following table shows rate and maturity information for our certificates of deposit as of December 31, 2006.

	0.00- 1.99%			2.00- 3.99%			4.00- 5.99%			6.00- 7.99%			Total			Percent of Total
	(Dollars in Thousands)
Certificate accounts maturing in quarter ending:
March 31, 2007	$	347		$	26,873		$	8,400		$	---		$	35,620			19.79	%
June 30, 2007		225			15,863			16,014			---			32,102			17.83
September 30, 2007		70			16,391			19,625			---			36,086			20.04
December 31, 2007		---			4,761			22,664			---			27,425			15.23
March 31, 2008		---			12,196			1,389			---			13,585			7.55
June 30, 2008		---			3,372			4,559			---			7,931			4.41
September 30, 2008		---			2,473			6,682			---			9,155			5.09
December 31, 2008		---			2,954			1,743			---			4,697			2.61
March 31, 2009		---			2,216			4,112			---			6,328			3.52
June 30, 2009		---			705			32			---			737			0.41
September 30, 2009		---			661			267			---			928			0.52
December 31, 2009		---			724			232			---			956			0.53
Thereafter		---			1,688			2,774			17			4,479			2.49
Total	$	642		$	90,877		$	88,493		$	17		$	180,029			100.00	%
Percent of total		0.36	%		50.48	%		49.15	%		0.01	%		100.00	%		100.00	%

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The following table indicates the amount of our certificates of deposit by time remaining until maturity as of December 31, 2006.

	Maturity
	3 Months or Less		Over 3 to 6 Months		Over 6 to 12 Months		Over 12 months		Total
	(In Thousands)
Certificates of deposit less than $100,000, excluding public funds	$	15,975	$	18,262	$	23,648	$	19,963	$	77,848
Certificates of deposit of $100,000 or more, excluding public funds		18,974		13,792		35,651		27,714		96,132
Public funds		670		48		4,212		1,120		6,049
Total certificates of deposit	$	35,619	$	32,103	$	63,511	$	48,796	$	180,029

Borrowings. Our other available sources of funds include borrowings from the Federal Home Loan Bank of Indianapolis and other borrowings. As a member of the Federal Home Loan Bank of Indianapolis, we are required to own capital stock in the Federal Home Loan Bank and are authorized to apply for borrowings from the Federal Home Loan Bank. Each Federal Home Loan Bank credit program has its own interest rate, which may be fixed or variable, and the programs have a range of maturities. The Federal Home Loan Bank of Indianapolis may prescribe the acceptable uses for these funds, as well as limitations on the size of the borrowings and repayment provisions.

We utilize Federal Home Loan Bank borrowings as part of our asset/liability management strategy in order to extend the maturity of our liabilities in a cost-effective manner. We may be required to pay a commitment fee upon application and may be subject to a prepayment fee if we prepay the advance. See Note 8 of the Notes to the Consolidated Financial Statements contained in the Annual Report to Shareholders attached as Exhibit 13 to this Form 10-K.

The following table sets forth the maximum month-end balance and average balance of Federal Home Loan Bank advances for the periods indicated.

	Year Ended December 31,
	2004		2005		2006
	(Dollars in Thousands)
Maximum Balance Federal Home Loan Bank Advances	$	72,351	$	74,008	$	76,618
Average Balance Federal Home Loan Bank Advances		67,965		70,906		70,513

The following table sets forth certain information as to the Federal Home Loan Bank advances at the dates indicated.

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	Year Ended December 31.
	2004			2005			2006
	(Dollars in Thousands)
Federal Home Loan Bank Advances	$	66,808		$	72,033		$	76,618
Weighted average interest rate of Federal Home Loan Bank Advances		4.50	%		4.39	%		4.96	%

Subsidiaries and Other Activities

Lafayette Savings owns a service corporation, L.S.B. Service Corporation. In April 1994, Lafayette Savings made an initial investment of $51,000 in L.S.B. Service Corporation when it became a 14.16% limited partner in a low-income housing project in Lafayette, Indiana, pursuant to a 10-year commitment totaling $500,000. During 2006, L.S.B. Service Corporation received a $5,000 tax credit related to its investment in the project and recorded net losses of $525. At December 31, 2006, our total investment in L.S.B. Service Corporation was $512,000.

Lafayette Savings formed Lafayette Insurance and Investments, Inc., an Indiana corporation, on December 31, 1996. Lafayette Insurance and Investments, Inc. began offering various insurance, annuity and investment products and services to our customers in June of 1997. At December 31, 2006, our total investment in Lafayette Insurance and Investments, Inc. was $23,000. During 2002, Lafayette Insurance and Investments, Inc. became inactive and remained so in 2006.

Competition

We face strong competition, both in originating real estate and other loans and in attracting deposits. Competition in originating real estate loans comes primarily from other savings institutions, commercial banks, credit unions and mortgage bankers making loans secured by real estate located in Tippecanoe County, our primary market area. Other savings institutions, commercial banks, credit unions and finance companies provide vigorous competition in consumer lending.

We attract the majority of our deposits through our branch offices, primarily from the communities in which those branch offices are located; therefore, competition for those deposits is principally from other savings institutions, commercial banks and credit unions located in the same communities as well as mutual funds and other financial intermediaries. We compete for these deposits by offering a variety of deposit accounts at competitive rates, convenient business hours and branch locations and Internet banking with interbranch deposit and withdrawal privileges.

There are 21 other savings institutions, credit unions and banks in our primary market area. We estimate our share of the savings market and mortgage loans in Tippecanoe County to be approximately 14%.

Regulation

General. Lafayette Savings is a federally chartered savings bank, the deposits of which are federally insured and backed by the full faith and credit of the United States Government. Accordingly, we are subject to broad federal regulation, primarily by the OTS, and oversight extending to all of our operations. Lafayette Savings is a member of the Federal Home Loan Bank of Indianapolis and is subject to certain limited regulation by the Board of Governors of the Federal Reserve System. As the thrift holding company of Lafayette Savings, LSB Financial is also subject to federal regulation and oversight by the OTS.

Insurance of Deposits. The Bank's deposits are insured to applicable limits by the Federal Deposit Insurance Corporation (“FDIC”). The Federal Deposit Insurance Reform Act of 2005 (the “Reform Act”), which was signed into law in February 2006, has resulted in significant changes to the federal deposit insurance program:

· Effective March 31, 2006, the Bank Insurance Fund (“BIF”) and the Savings Association Insurance Fund (“SAIF”) were merged to create a new fund, called the Deposit Insurance Fund (“DIF”)

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·   The current $100,000 deposit insurance coverage is subject to adjustment for inflation beginning in 2010 and every succeeding five years  

·   Deposit insurance coverage for individual retirement accounts and certain other retirement accounts has been increased from $100,000 to $250,000 and also will subject to adjustment for inflation  

  Pursuant to the Reform Act, the FDIC is authorized to set the reserve ratio for the DIF annually at between 1.15% and 1.5% of estimated insured deposits and the FDIC has been given discretion to set assessment rates according to risk regardless of the level of the fund reserve ratio. On November 2, 2006, the FDIC adopted final regulations that set the designated reserve ratio for the DIF at 1.25% beginning January 1, 2007.

Insured depository institutions that were in existence on December 31, 1996 and paid assessments prior to that date (or their successors) are entitled to a one-time credit against future assessments based on their past contributions to the BIF or SAIF. In 2006, the Bank received a one-time credit of $163,379 against future assessments.

Also on November 2, 2006, the FDIC adopted final regulations that establish a new risk-based premium system. Under the new system, the FDIC will evaluate each institution's risk based on three primary sources of information: supervisory ratings for all insured institutions, financial ratios for most institutions, and long-term debt issuer ratings for large institutions that have such ratings. An institution’s assessments will be based on the insured institution's ranking in one of four risk categories. Effective January 1, 2007, well-capitalized institutions with the CAMELS ratings of 1 or 2 will be grouped in Risk Category I and will be assessed for deposit insurance at an annual rate of between five and seven cents for every $100 of domestic deposits. Institutions in Risk Categories II, III and IV will be assessed at annual rates of 10, 28 and 43 cents, respectively. An increase in assessments could have a material adverse effect on the Company’s earnings.

FDIC-insured institutions remain subject to the requirement to pay assessments to the FDIC to fund interest payments on bonds issued by the Financing Corporation (“FICO”), an agency of the Federal government established to recapitalize the predecessor to the SAIF. These assessments will continue until the FICO bonds mature in 2017. For the quarter ended December 31, 2006, the FICO assessment rate was equal to 1.24 cents for each $100 in domestic deposits maintained at an institution.

Federal Regulation of Savings Associations. The OTS has extensive authority over the operations of savings institutions. As part of this authority, we are required to file periodic reports with the OTS and are subject to periodic examinations by the OTS and the FDIC.

The OTS also has extensive enforcement authority over all savings institutions and their holding companies. This enforcement authority includes, among other things, the ability to assess civil money penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions.

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Lafayette Savings’ general permissible lending limit for loans to one borrower is equal to the greater of $500,000 or 15% of unimpaired capital and surplus, except for loans fully secured by certain readily marketable collateral, in which case this limit is increased to 25% of unimpaired capital and surplus. At December 31, 2006, our lending limit under this restriction was $5.5 million.

Regulatory Capital Requirements. To be considered adequately capitalized, under the prompt corrective action regulations, a savings association must maintain the following capital ratios: a leverage ratio (the ratio of Tier 1 capital to total assets) of at least 4% (unless its supervisory condition allows a 3% ratio), a Tier 1 risk-based ratio (the ratio of Tier 1 capital to risk-weighted assets) of at least 4%, and a total risk-based capital ratio (the ratio of total capital to risk-weighted assets) of at least 8%. Total capital consists of Tier 1 and Tier 2 capital.

Tier 1 capital generally consists of common stockholders’ equity, noncumulative perpetual preferred stock and other tangible capital plus certain intangible assets, including a limited amount of purchased credit card receivables. Tier 2 capital consists generally of certain permanent and maturing capital instruments and allowances for loan and lease losses up to 1.25% of risk-weighted assets. When determining total capital, Tier 2 capital may not exceed Tier 1 capital. At December 31, 2006, we had no intangible assets which were included in Tier 1 capital, other than mortgage servicing rights of $1.2 million.

To determine the amount of risk-weighted assets, all assets, including certain off-balance sheet items, will be multiplied by a risk weight, ranging from 0% to 100%, based on the risk inherent in the type of asset. For example, the OTS has assigned a risk weight of 50% for prudently underwritten permanent one- to four-family first lien mortgage loans not more than 90 days delinquent and having a loan-to-value ratio of not more than 90% at origination unless insured to such ratio by an insurer approved by Fannie Mae or Freddie Mac.

To be considered well capitalized, a savings association must have a leverage ratio of at least 5%, a Tier 1 risk-based ratio of at least 6% and a total risk-based capital ratio of 10%. As of December 31, 2006, Lafayette Savings qualified as well capitalized, with a leverage ratio of 9.2%, a Tier 1 risk-based capital ratio of 12.1% and a total risk-based capital ratio of 13.0%. The OTS may reclassify a savings association in a lower capital category or require it to hold additional capital based upon supervisory concerns on a case-by-case basis.

Under the prompt corrective action regulations, the OTS and the FDIC are authorized, and under certain circumstances required, to take certain actions against a savings association that is not at least adequately capitalized. Such an association must submit a capital restoration plan and, until the plan is approved by the OTS, may not increase its assets, acquire another institution, establish a branch or engage in any new activities, and generally may not make capital distributions. For a savings association controlled by a holding company, the capital restoration plan must include a guarantee by the holding company limited to the lesser of 5% of the association’s assets when it failed the “adequately capitalized” standard or the amount needed to satisfy the plan, and, in the event of the bankruptcy of the holding company, the guaranty would have priority over the claims of general creditors. Additional and more stringent restrictions may be applicable, depending on the financial condition of the association and other circumstances. If an association becomes critically undercapitalized, because it has a ratio of tangible equity to total assets of 2% or less, appointment of a receiver or conservator may be required.

Limitations on Dividends and Other Capital Distributions. OTS regulations impose various restrictions on savings institutions with respect to their ability to make distributions of capital, which include dividends, stock redemptions or repurchases, cash-out mergers and other transactions charged to the capital account.

A savings association that is a subsidiary of a holding company, such as Lafayette Savings, may make a capital distribution with prior notice to the OTS, in an amount that does not exceed its net income for the calendar year-to-date plus retained net income for the previous two calendar years (less any dividends previously paid) if the savings association has a regulatory rating in the two top examination categories, is not of supervisory concern, and would remain well-capitalized following the proposed distribution. All other institutions or those seeking to exceed the noted amounts must obtain approval from the OTS for a capital distribution before making the distribution.

Qualified Thrift Lender Test. All savings institutions are required to meet a qualified thrift lender test to avoid certain restrictions on their operations. This test requires a savings institution to have at least 65% of its portfolio assets in qualified thrift investments on a monthly average for nine out of every 12 months on a rolling basis. As an alternative, the savings institution may maintain 60% of its assets in those assets specified in Section 7701(a)(19) of the Internal Revenue Code of 1986, as amended. Under either test, these assets primarily consist of residential housing related loans and investments. At December 31, 2006, Lafayette Savings met the test.

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Any savings institution that fails to meet the qualified thrift lender test must either convert to a national bank or restrict its branching rights, new activities and investments and dividends to those permissible for a national bank. If the institution has not requalified or converted to a national bank within three years after the failure, it must sell all investments and stop all activities not permissible for a national bank. If any institution that fails the qualified thrift lender test is controlled by a holding company, then within one year after the failure, the holding company must register as a bank holding company and become subject to all restrictions on bank holding companies.

Transactions with Affiliates. Generally, transactions between a savings association or its subsidiaries and its affiliates are required to be on terms as favorable to the association as transactions with non-affiliates. In addition, certain of these transactions, such as loans to an affiliate, are restricted to a percentage of the association’s capital and are subject to collateralization requirements. Affiliates of Lafayette Savings include LSB Financial and any company which is under common control with Lafayette Savings. In addition, a savings association may not lend to any affiliate engaged in activities not permissible for a bank holding company or acquire the securities of an affiliate. The OTS has the discretion to further restrict transactions of a savings association with an affiliate on a case-by-case basis.

Community Reinvestment Act. Under the Community Reinvestment Act, every FDIC insured institution has a continuing and affirmative obligation consistent with safe and sound banking practices to help meet the credit needs of its entire community, including low- and moderate-income neighborhoods. The Community Reinvestment Act requires the OTS, in connection with our examination, to assess our record of meeting the credit needs of our community and to take this record into account in its evaluation of certain applications, such as a merger or the establishment of a branch, by Lafayette Savings. An unsatisfactory rating may be used as the basis for the denial of an application by the OTS. We were examined for Community Reinvestment Act compliance in 2004 and received a rating of “Outstanding.”

Holding Company Regulation. LSB Financial is a unitary savings and loan holding company subject to regulatory oversight by the OTS. LSB Financial is required to register and file reports with the OTS and is subject to regulation and examination by the OTS. In addition, the OTS has enforcement authority over us and our non-savings institution subsidiaries.

LSB Financial generally is not subject to activity restrictions. If LSB Financial acquired control of another savings institution as a separate subsidiary, it would become a multiple savings and loan holding company, and its activities and any of its subsidiaries (other than Lafayette Savings or any other savings institution) would generally become subject to additional restrictions. 

USA PATRIOT Act of 2001. On October 26, 2001, President Bush signed the USA PATRIOT Act of 2001 (the “PATRIOT Act”). The PATRIOT Act, among other things, is intended to strengthen the ability of U.S. law enforcement to combat terrorism on a variety of fronts. The PATRIOT Act contains sweeping anti-money laundering and financial transparency laws and requires financial institutions to implement additional policies and procedures with respect to, or additional measures designed to address, any or all the following matters, among others: money laundering, suspicious activities and currency transaction reporting, and currency crimes. Many of the provisions in the PATRIOT Act were to have expired December 31, 2005, but the U.S. Congress authorized renewals that extended the provisions until March 10, 2006. In early March 2006, the U.S. Congress approved the USA PATRIOT Improvement and Reauthorization Act of 2005 (the “Reauthorization Act”) and the USA PATRIOT Act Additional Reauthorizing Amendments Act of 2006 (the “PATRIOT Act Amendments”), and they were signed into law by President Bush on March 9, 2006. The Reauthorization Act makes permanent all but two of the provisions that had been set to expire and provides that the remaining two provisions, which relate to surveillance and the production of business records under the Foreign Intelligence Surveillance Act, will expire in four years. The PATRIOT Act Amendments include provisions allowing recipients of certain subpoenas to obtain judicial review of nondisclosure orders and clarifying the use of certain subpoenas to obtain information from libraries. We do not anticipate that these changes will materially affect our operations.

Sarbanes-Oxley Act of 2002. On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”). The Sarbanes-Oxley Act’s stated goals include enhancing corporate responsibility, increasing penalties for accounting and auditing improprieties at publicly traded companies and protecting investors by improving the accuracy and reliability of corporate disclosures pursuant to the securities laws. The Sarbanes-Oxley Act generally applies to all companies that file or are required to file periodic reports with the SEC under the Securities Exchange Act of 1934 (the “Exchange Act”).

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Among other things, the Sarbanes-Oxley Act creates the Public Company Accounting Oversight Board as an independent body subject to SEC supervision with responsibility for setting auditing, quality control and ethical standards for auditors of public companies. The Sarbanes-Oxley Act also requires public companies to make faster and more extensive financial disclosures, requires the chief executive officer and chief financial officer of public companies to provide signed certifications as to the accuracy and completeness of financial information filed with the SEC, and provides enhanced criminal and civil penalties for violations of the federal securities laws.

The Sarbanes-Oxley Act also addresses functions and responsibilities of audit committees of public companies. The statute makes the audit committee directly responsible for the appointment, compensation and oversight of the work of the company’s outside auditor, and requires the auditor to report directly to the audit committee. The Sarbanes-Oxley Act authorizes each audit committee to engage independent counsel and other advisors, and requires a public company to provide the appropriate funding, as determined by its audit committee, to pay the company’s auditors and any advisors that its audit committee retains. The Sarbanes-Oxley Act also requires public companies to include an internal control report and assessment by management, along with an attestation to this report prepared by the company’s registered public accounting firm, in their annual reports to stockholders.

Although LSB Financial will incur additional expense in complying with the provisions of the Sarbanes-Oxley Act and the resulting regulations, management does not expect that such compliance will have a material impact on LSB Financial’s results of operations or financial condition.

Other Recent Legislative Developments. The Securities and Exchange Commission in 2006 adopted significant changes to its proxy statement disclosure rules relating to executive compensation. Among other things, several tables, more detailed narrative disclosures, and a new compensation discussion and analysis section are required in proxy statements. These changes have required and will require a significant commitment of managerial resources and will result in increased costs to us which could adversely affect results of operations, or cause fluctuations in results of operations, in the future.

Federal and State Taxation

Federal Taxation. Savings institutions that meet certain definitional tests relating to the composition of assets and other conditions prescribed by the Internal Revenue Code of 1986, as amended, are permitted to establish reserves for bad debts and to make annual additions which may, within specified formula limits, be taken as a deduction in computing taxable income for federal income tax purposes. The amount of the bad debt reserve deduction is computed under the experience method. 

In addition to the regular income tax, corporations, including savings institutions, generally are subject to a minimum tax. An alternative minimum tax is imposed at a minimum tax rate of 20% on alternative minimum taxable income, which is the sum of a corporation’s regular taxable income (with certain adjustments) and tax preference items, less any available exemption. The alternative minimum tax is imposed to the extent it exceeds the corporation’s regular income tax and net operating losses can offset no more than 90% of alternative minimum taxable income. 

A portion of our reserves for losses on loans which are presented on the statement of financial condition of retained earnings, may not, without adverse tax consequences, be utilized for the payment of cash dividends or other distributions to a shareholder, including distributions on redemption, dissolution or liquidation, or for any other purpose except to absorb bad debt losses. As of December 31, 2006, the portion of our reserves subject to this treatment for tax purposes totaled approximately $1.9 million. We file consolidated federal income tax returns with our subsidiaries on a calendar year basis using the accrual method of accounting. We have not been audited by the IRS during the last five fiscal years.

Indiana Taxation. The State of Indiana imposes an 8.5% franchise tax on corporations transacting the business of a financial institution in Indiana. Included in the definition of corporations transacting the business of a financial institution in Indiana are holding companies of thrift institutions, as well as thrift institutions. Net income for franchise tax purposes will constitute federal taxable income before net operating loss deductions and special deductions, adjusted for certain items, including Indiana income taxes and bad debts. Other applicable Indiana taxes include sales, use and property taxes.

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Employees

At December 31, 2006, we had a total of 96 employees, including 7 part-time employees. Our employees are not represented by any collective bargaining group. Management considers its employee relations to be good.

Item 1A.    Risk Factors

Investors should consider carefully the risks and uncertainties described below, which are some of the factors that could materially adversely affect our operating results and financial condition. The risks and uncertainties described below are not necessarily the only ones that we may face.

Changes in market interest rates could adversely affect our financial condition and results of operations.

Our results of operations depend primarily on the levels of net interest income, which is the difference between the interest income earned on loans and securities and other interest-earning assets, and the interest expense on deposits and borrowed funds. Net interest income is dependent upon the volume of interest-earning assets and interest-bearing liabilities and upon the interest rate which is earned or paid on these items.

We are subject to interest-rate risk to the degree that our interest-bearing liabilities mature or reprice at different times, or on a different basis, than our interest-earning assets. Rising rates generally increase borrower preference for variable rate products which we typically keep in our portfolio. Additionally, existing adjustable rate loans can be expected to reprice to higher rates, both of which could be expected to have a favorable impact on interest income. Alternatively, continuing low interest rates could have a negative impact on our interest income as new loans are put on the books at comparatively low rates and our existing adjustable rate loans reprice to lower rates.

While we attempt to adjust our asset/liability mix in order to limit the magnitude of interest-rate risk, interest-rate risk management is not an exact science. Rather, it involves estimates as to how changes in the general level of interest rates will impact the yields earned on assets and the rates paid on liabilities. Moreover, rate changes can vary depending upon the level of rates and competitive factors. Further discussion of interest-rate risk can be found under the caption “Asset/Liability Management” in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Annual Report to Shareholders filed as Exhibit 13 to this Form 10-K.

The preparation of our financial statements requires the use of estimates that may vary from actual results.

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make significant estimates that affect the financial statements. One of our most critical estimates is the level of the allowance for loan losses. Due to the inherent nature of these estimates, we cannot provide absolute assurance that we will not have to increase the allowance for loan losses and/or sustain loan losses that are significantly higher than the provided allowance. While management attempts to provide an allowance for loan losses at a level adequate to cover probable incurred losses based on loan portfolio growth, past loss experience, general economic conditions, information about specific borrower situations, and other factors, future adjustments to reserves may become necessary, and net income could be significantly affected if circumstances differ substantially from assumptions used with respect to such factors. Additionally, various regulatory agencies, as an integral part of their examination process, periodically review our allowance for loan losses. These agencies may require the recognition of additions to the allowance based upon their judgments of information available at the time of their examination.

An economic slowdown in Tippecanoe County could affect our business.

Our primary market area for deposits and loans is Tippecanoe County, Indiana. An economic slowdown in this area could hurt our business. Possible consequences of such a downturn could include the following:

·increases in loan delinquencies and foreclosures;

·declines in the value of real estate and other collateral for loans; and

·a decline in the demand for our products and services.

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We are subject to extensive regulation which limits the manner and scope of our business activities.

Our operations are subject to extensive regulation by federal, state and local governmental authorities and are subject to various laws and judicial and administrative decisions imposing requirements and restrictions on them. Policies adopted or required by these governmental authorities can affect our business operations and the availability, growth and distribution of Lafayette Savings’ investments, borrowings and deposits. In addition, the OTS periodically conducts examinations of LSB Financial and Lafayette Savings and may impose various requirements or sanctions. See “Regulation” in the description of our Business in Item 1 above for detailed information on the laws and regulations to which we are subject.

Changes in laws, regulations and policies could adversely affect our business.

Proposals to change the laws governing financial institutions are frequently raised in Congress and before bank regulatory authorities. Changes in applicable laws or policies could materially affect our business, and the likelihood of any major changes in the future and their effects are impossible to determine. Moreover, it is impossible to predict the ultimate form any proposed legislation might take or how it might affect us.

Our increased emphasis on short-term or adjustable rate multi-family, commercial real estate and land development lending and commercial business and consumer lending may expose us to increased credit risk.

One of the greatest risks facing lenders is credit risk, that is, the risk of losing principal and interest due to a borrower’s failure to perform according to the terms of a loan agreement. At December 31, 2006, $123.4 million, or 37.94%, of our total loan portfolio consisted of multi-family, commercial real estate and land development loans. Multi-family, commercial real estate and land development loans generally involve a greater degree of credit risk than one- to four-family loans because they typically have large balances and are more affected by adverse conditions in the economy. Because payments on land development loans, loans secured by multi-family properties and commercial real estate often depend upon the successful operation and management of the properties and the businesses which operate from within them, repayment of such loans may be affected by factors outside the borrower’s control, such as adverse conditions in the real estate market or the economy or changes in government regulation.

At December 31, 2006, $20.9 million, or 6.44%, of our total loan portfolio consisted of commercial loans. Commercial loans generally have greater credit risk than residential mortgage loans because repayment of these loans often depends on the successful business operations of the borrowers. These loans also typically have much larger loan balances than residential mortgage loans.

At December 31, 2006, $19.5 million, or 6.01%, of our total loan portfolio consisted of consumer loans. Consumer loans generally involve greater risk than residential mortgage loans because they are unsecured or secured by assets that depreciate in value. Although we undertake a variety of underwriting, monitoring and reserving protections with respect to these types of loans, there can be no guarantee that we will not suffer unexpected losses.

Competition in our primary market area may reduce our ability to attract and retain deposits and obtain loans.

We operate in a competitive market for both originating real estate and other loans and attracting deposits. Competition in originating real estate loans comes primarily from other savings institutions, commercial banks, credit unions and mortgage bankers making loans secured by real estate located in our primary market area. Other savings institutions, commercial banks, credit unions and finance companies provide vigorous competition in consumer lending. In addition, non-bank competitors are generally not subject to the extensive regulation applicable to us. Competition for loan originations and deposits may limit our future growth and earnings prospects.

Item 1B.  Unresolved Staff Comments

Not Applicable.

29

Item 2.   Properties

We conduct our business at our main office and four other locations in Lafayette and West Lafayette, Indiana. We own our main office and three branch offices. The fourth branch office is leased with the term of the lease expiring in 2009. The total net book value of our premises and equipment (including land, building and leasehold improvements and furniture, fixtures and equipment) at December 31, 2006 was approximately $6.8 million. We have also purchased an office building adjacent to the main office location as our growth rate has required space for additional personnel and will for the next few years.

We maintain an on-line database of depositor and borrower customer information. The net book value of our data processing, computer equipment and software at December 31, 2006 was $323,000.

Item 3.   Legal Proceedings

We are, from time to time, involved as plaintiff or defendant in various legal actions arising in the normal course of business. While the ultimate outcome of these proceedings cannot be predicted with certainty, it is the opinion of management, after consultation with counsel representing us in the proceedings, that the resolution of any prior and pending proceedings should not have a material effect on our financial condition or results of operations.

Item 4.   Submission of Matters to a Vote of Security Holders

No matter was submitted to a vote of security holders, through the solicitation of proxies or otherwise, during the quarter ended December 31, 2006.

Item 4.5   Executive Officers of the Registrant

The executive officers of LSB Financial are identified below. The executive officers are elected annually by the Board of Directors of LSB Financial.

Randolph F. Williams (age 58). Mr. Williams is President and Chief Executive Officer of LSB Financial and its wholly-owned subsidiary, Lafayette Savings. Mr. Williams was appointed to the Board of Directors of LSB Financial in September 2001. He was appointed President of LSB Financial in September 2001 and Chief Executive Officer in January 2002. Mr. Williams served as President and Chief Operating Officer of Delaware Place Bank in Chicago, Illinois from 1996 until joining LSB Financial. Mr. Williams has over 25 years of banking-related experience.

Mary Jo David (age 57). Ms. David is Vice President, Chief Financial Officer and Secretary of LSB Financial and Lafayette Savings. She has held these positions with the Company since its formation in 1994 and with Lafayette Savings since 1992 and was elected a Director of LSB Financial and Lafayette Savings in 1999.

Harry A. Dunwoody (age 60). Mr. Dunwoody has served as Senior Vice President of Lafayette Savings since 1989 and was elected as a Director of the Bank in 1993. He has held the same positions with the Company since its formation in 1994. He is responsible for residential and consumer lending originations for the bank.

30

PART II

Item 5.   Market for Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

(a)We have not sold any equity securities during the period covered by this report that were not registered under the Securities Act of 1933. Additionally, pages 59-60 of our 2006 Annual Report to Shareholders attached to this document as Exhibit 13 is incorporated herein by reference. In addition, the “Equity Compensation Plan Information” contained in Part III, Item 12 of this Form 10-K is incorporated herein by reference.

(b)We have no information to furnish pursuant to Rule 463 of the Securities Act of 1933 and Item 701(f) of Regulation S-K.

(c)The following table sets forth the number and price paid for repurchased shares.

Issuer Purchases of Equity Securities
Month of Purchase	Total Number of Shares Purchased1	Average Price Paid per Share	Total Number of Shares Purchased as Part of Publicly Announced Plan2	Maximum Number (or Approximate Dollar Value) of Shares that May Yet Be Purchased Under the Plan
October 1 - October 31, 2006	--	--	--	12,217
November 1 - November 30, 2006	3,000	$25.40	3,000	9,217
December 1 - December 31, 2006	--	--	--	--
Total	3,000	$25.40	3,000	9,217

1 There were no shares repurchased other than through a publicly announced plan or program.

2 We have in place a plan, announced September 27, 2004, to repurchase 5% of our common stock.

31

Item 6.   Selected Financial Data

The material under the heading “Selected Financial Information” on pages 2 and 3 of our 2006 Annual Report to Shareholders attached to this document as Exhibit 13 is incorporated herein by reference.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Pages 4 through 25 of our 2006 Annual Report to Shareholders attached to this document as Exhibit 13 are incorporated herein by reference.

Item 7A.   Quantitative and Qualitative Disclosures about Market Risk

Pages 19 and 20 of our 2006 Annual Report to Shareholders attached to this document as Exhibit 13 are incorporated herein by reference.

Item 8.   Financial Statements and Supplementary Data

Pages 25 and 28 through 55 of our 2006 Annual Report to Shareholders attached to this document as Exhibit 13 are incorporated herein by reference.

Item 9.   Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

Not applicable.

Item 9A.   Controls and Procedures

Evaluation of disclosure controls and procedures. An evaluation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) promulgated under the Exchange Act), as of December 31, 2006 (the “Evaluation Date”), was carried out under the supervision and with the participation of our Chief Executive Officer, Chief Financial Officer and several other members of our senior management. Our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures in effect as of the Evaluation Date are effective in ensuring that the information required to be disclosed by us in the reports we file or submit under the Act is (i) accumulated and communicated to our management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner and (ii) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

Changes in internal controls over financial reporting. There have been no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Act) identified in connection with our evaluation of controls that occurred during the quarter ended December 31, 2006, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Item 9B.   Other Information

We have no information that was required to be reported on a Form 8-K in the fourth quarter covered by this 10-K, but was not reported on a Form 8-K during the fourth quarter.

32

PART III

Item 10.Directors, Executive Officers and Corporate Governance

Information concerning LSB Financial directors is incorporated herein by reference to the sections of the definitive Proxy Statement for the Annual Meeting of Shareholders to be held in April 2007 under the caption “Proposal I - Election of Directors.” Information concerning LSB Financial executive officers is included in Item 4.5 in Part I of this Form 10-K and is incorporated herein by reference.

The information relating to corporate governance required by this item is incorporated herein by reference to the section of our definitive Proxy Statement for the Annual Meeting of Shareholders to be held in April 2007 under the caption “Corporate Governance.”

Section 16(a) of the Exchange Act requires our directors and executive officers and persons who own more than 10% of a registered class of our equity securities, to file with the SEC initial reports of ownership and reports of changes in ownership of our common stock and our other equity securities by the end of the second business day following a change. Officers, directors and greater than 10% stockholders are required by SEC regulation to furnish us with copies of all Section 16(a) forms they file.

To our knowledge, based solely on a review of the copies of such reports furnished to us and written representations that no other reports were required, during the fiscal year ended December 31, 2006, all Section 16(a) filing requirements applicable to our officers, directors and 10% beneficial owners were complied with except as disclosed in our definitive Proxy Statement for the Annual Meeting of Shareholders to be held in April 2007 under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” incorporated herein by reference.

LSB Financial has a written code of ethics that applies to all of our directors, officers and employees. The code of ethics is available on our website at www.lsbank.com.

Item 11.Executive Compensation

Information concerning executive compensation is incorporated herein by reference to the sections of our definitive Proxy Statement for the Annual Meeting of Shareholders to be held in April 2007 with the captions “Compensation Committee Interlocks and Insider Participation,” “Compensation Discussion and Analysis,” “Executive Compensation,” “Compensation of Directors,” and “Compensation Committee Report.”

Item 12.Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

Information concerning security ownership of certain beneficial owners and management is incorporated herein by reference to the section of our definitive Proxy Statement for the Annual Meeting of Shareholders to be held in April 2007 with the caption “Principal Holders of Common Stock.”

33

Equity Compensation Plan Information. The following table summarizes our equity compensation plans as of December 31, 2006.

Plan Category	Number of securities to be issued upon exercise of outstanding options warrants and rights (a)		Weighted-average exercise price of outstanding options warrants and rights (b)		Number of Securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) (c)
Equity compensation plans approved by security holders(1)		43,575(2)		18.34 (3)		0
Equity compensation plans not approved by security holders		---		---		---
(1) LSB Financial Corp.’s 1995 Stock Option and Incentive Plan terminated on August 22, 2005 so no further options may be granted under the Stock Option and Incentive Plan. LSB Financial Corp.’s Recognition and Retention Plan terminated by its terms on August 22, 2005, so no further awards may be made under the Recognition and Retention Plan. (2) Includes 43,575 shares under LSB Financial Corp.’s Stock Option and Incentive Plan and no shares under LSB Financial Corp.’s Recognition and Retention Plan. (3) The total in Column (b) includes only the weighted-average price of stock options, as the restricted shares awarded under the Recognition and Retention Plan have no exercise price.

Item 13.Certain Relationships and Related Transactions, and Director Independence

Information concerning director independence and certain relationships and transactions is incorporated herein by reference to the sections of our definitive Proxy Statement for the Annual Meeting of Shareholders to be held in April 2007 with the captions “Corporate Governance” and “Transactions with Related Persons.”

Item 14.Principal Accountant Fees and Services

Information concerning principal accountant fees and services are incorporated herein by reference to the sections of our definitive Proxy Statement for the Annual Meeting of Shareholders to be held in April 2007 with the captions “Accountants” and “Accountant’s Fees.”

34

PART IV

Item 15.Exhibits, Financial Statement Schedules

(a)The following documents are filed as part of this report:

	Annual Report Page No(s).
Financial Statements:
Report of BKD, LLP, Independent Registered Public Accounting Firm	27
Consolidated Balance Sheets at December 31, 2006 and 2005	28
Consolidated Statements of Income for the Years Ended December 31, 2006, 2005 and 2004	29
Consolidated Statements of Stockholders’ Equity for the Years Ended December 31, 2006, 2005 and 2004	30
Consolidated Statements of Cash Flows for the Years Ended December 31, 2006, 2005 and 2004	31
Notes to Consolidated Financial Statements	32-55
Financial Statement Schedules: All schedules are omitted as the required information either is not applicable or is included in the consolidated financial statements or related notes.

(b)The exhibits filed herewith or incorporated by reference herein are set forth on the Index to Exhibits.

35

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

		LSB FINANCIAL CORP.
Date:	3/26/07	By:	/s/ Randolph F. Williams
			Randolph F. Williams, President,
			Chief Executive Officer and Director
			(Duly Authorized Representative)

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

/s/ Mariellen M. Neudeck		/s/ Randolph F. Williams
Mariellen M. Neudeck, Chairman of the Board		Randolph F. Williams, President, Chief
		Executive Officer and Director
		(Principal Executive and Operating Officer)
Date:	3/29/07	Date:	3/26/07
/s/ Harry A. Dunwoody		/s/ James A. Andrew
Harry A. Dunwoody, Senior Vice President and Director		James A. Andrew, Director
Date:	3/27/07	Date:	3/27/07
/s/ Philip W. Kemmer		/s/ Peter Neisel
Philip W. Kemmer, Director		Peter Neisel, Director
Date:	3/27/07	Date:	3/27/07
/s/ Jeffrey A. Poxon		/s/ Thomas R. McCully
Jeffrey A. Poxon, Director		Thomas R. McCully, Director
Date:	3/27/07	Date:	3/27/07
/s/ Mary Jo David		/s/ Kenneth P. Burns
Mary Jo David, Vice President, Chief		Kenneth P. Burns, Director
Financial Officer, Secretary-Treasurer and Director
(Principal Financial and Accounting Officer)
Date:	3/29/07	Date:	3/27/07

36

INDEX TO EXHIBITS

Regulation S-K Exhibit Number	Document
3.1	Articles of Incorporation, filed on September 21, 1994 as an exhibit to Registrant’s Registration Statement on Form S-1 (File No. 33-84266), are incorporated by reference.
3.2	Bylaws, as amended and restated, filed as Exhibit 3.2 to the Registrant’s Annual Report on Form 10-KSB for the fiscal year ended December 31, 2002 (File No. 0-25070) are incorporated herein by reference.
4	Registrant’s Specimen Stock Certificate, filed on September 21, 1994 as an exhibit to Registrant’s Registration Statement on Form S-1 (File No. 33-84266), is incorporated herein by reference.
10.1*	Registrant’s 1995 Stock Option and Incentive Plan, filed as Exhibit 10.1 to the Registrant’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25070), is incorporated herein by reference.
10.2*	Registrant’s 1995 Recognition and Retention Plan, filed as Exhibit 10.2 to the Registrant’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25070), is incorporated herein by reference.
10.3*	Form of 1995 Stock Option and Incentive Plan Non-Qualified Stock Option Agreement, filed as Exhibit 10.4 to the Registrant’s Annual Report on Form 10-KSB for the fiscal year ended December 31, 2004 (File No. 0-25070), is incorporated herein by reference.
10.4*	Form of 1995 Stock Option and Incentive Plan Incentive Stock Option Agreement, filed as Exhibit 10.5 to the Registrant’s Annual Report on Form 10-KSB for the fiscal year ended December 31, 2004 (File No. 0-25070), is incorporated herein by reference.
10.5*	Form of Recognition and Retention Plan Restricted Stock Agreement, filed as Exhibit 10.6 to the Registrant’s Annual Report on Form 10-KSB for the fiscal year ended December 31, 2004 (File No. 0-25070), is incorporated herein by reference.
10.6*	Deferred Compensation Agreement between Lafayette Savings Bank and Randolph F. Williams, filed as Exhibit 10.1 to the Registrant’s Current Report on Form 8-K for the event occurring on September 29, 2005 (File No. 0-25070), is incorporated herein by reference.
10.7*	Employment Agreement dated February 9, 2006 between LSB Financial Corp. and Randolph F. Williams filed as Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed on February 14, 2006 (File No. 0-25070) is incorporated herein by reference.
10.8*	Employment Agreement dated February 9, 2006 between LSB Financial Corp. and Mary Jo David filed as Exhibit 10.2 to the Registrant’s 8-K filed on February 14, 2006 (File No. 0-25070) is incorporated herein by reference.
13	Annual Report to Shareholders for the Year Ended December 31, 2006.
21	Subsidiaries of Registrant.
23	Consent of BKD, LLP, Independent Registered Public Accounting Firm.

E-1

31.1	Rule 13a - 14(a) Certification (Chief Executive Officer).
31.2	Rule 13a - 14(a) Certification (Chief Financial Officer).
32	Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
* Indicates exhibits that describe or evidence management contracts and plans required to be filed as exhibits.

E-2

EX-13

EXHIBIT 13

ANNUAL REPORT TO SHAREHOLDERS FOR THE YEAR

ENDED DECEMBER 31, 2006

 

LSBFINANCIALCORP.

TABLE OF CONTENTS

Letter to Shareholders	1
Selected Financial Information	2
Management’s Discussion and Analysis	4
Disclosure Regarding Forward-Looking Statements	26
Auditors’ Report	27
Consolidated Financial Statements	28
Directors and Executive Officers	56
Shareholder Information	58
		FINANCIAL HIGHLIGHTS
		December 31, 2006
		(Dollars in Thousands)
		Total assets	$368,400
		Total loans, net of allowance	317,691
		Securities and short-term investments	24,652
		Deposits	255,304
		Borrowings	76,618
		Shareholders’ equity	34,840
		Shareholders’ equity as percent of assets	9.46%
		Net Income	$3,350

ANNUAL MEETING

The Annual Meeting of Shareholders of LSB Financial Corp. will be held April 18, 2007 at 9:00 a.m. local time at the LSB Building, located at 22 N. Second Street, Lafayette, Indiana.

LSBFINANCIALCORP.

Dear Fellow Shareholder:

Looking back at 2006’s less than ideal financial environment, we can all be pleased to see the bank’s 11th consecutive year of increased earnings: net income in 2006 was $3,350,000, a 2.51 percent over the previous year.

These positive results are particularly gratifying within the context of the challenges posed by the difficult rate environment and the sluggish local economy last year. The yield curve was inverted throughout 2006, but we have faced difficult rate environments before. A sustained, local economic downturn, however, is unusual.

The loss of employment opportunities from the ongoing economic slowdown was exacerbated by a long anticipated property tax adjustment. Typically we have been buffered from economic slowdowns by a broad range of employment opportunities presented by strong government, education, manufacturing, and services sectors. But higher tax payments combined with employment losses resulted in real estate foreclosures at levels not seen in recent memory. These foreclosed properties returning to the market combined with an increase in newly constructed homes (overbuilt residential housing) caused property values to stagnate here and across the country.

Nevertheless, we can celebrate numerous positive achievements during 2006:

§ Unlike many financial institutions in the Midwest, we were able to increase our net interest margin to 3.48 percent by taking advantage of the lower demand for funds.

§ Excluding fees on the sale of mortgages, noninterest income grew 20 percent, and our efficiency ratio remained one of the best in the state.

§ Since less capital was needed to support loan demand, the board of directors boosted the cash dividend paid during the year to $0.68 per share, an increase of 11.5 percent over the previous year, representing a payout ratio of nearly 33 percent.

§ In September we declared a 5 percent stock dividend. The effect of the two dividends (see above item) was a 16.5 percent increase in return on investment!

§ We remain one of the top- performing thrifts in Indiana, with a return on equity of 9.88 percent and a return on assets of 0.91 percent.

In a move to maximize long-term shareholder value, the board of directors, on January 22, 2007, voted to continue to maintain our stock repurchase program and authorized a 100,000 share buyback of the company’s stock.

You no doubt notice that our stock price at year-end was down slightly over the previous year. A bank of our size can do little to control the markets or the movement of our price. However, we believe that, if we perform well and share those rewards with the shareholders, the market will look on us favorably.

Our success is, in large part, a result of the commitment of everyone employed at Lafayette Savings Bank. Their willingness to embrace the changes needed to improve our company has been heartening. On the cover of this report, you will see five words—commitment, integrity, initiative, respect, and responsibility—chosen by our employees as best reflecting the core values of the bank. Every employee in the company is accountable for holding to these values, which serve as the foundation for my confidence as we push into 2007. We believe the restructuring we did in 2006 will serve us well this year. Our board, our managers, and our entire staff are committed to exceeding our shareholders’ expectations. Thank you for your support, and we hope you will recommend Lafayette Savings Bank to your family, friends, and neighbors.

Respectfully,

Randolph F. Williams

President & Chief Executive Officer

1

SELECTED FINANCIAL INFORMATION

The selected financial data presented below should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations, as well as the audited Consolidated Financial Statements contained elsewhere in this Annual Report.

	December 31,
	2006		2005		2004		2003		2002
	(Dollars in Thousands)
Selected Financial Condition Data:
Total assets	$	368,400	$	372,664	$	355,045	$	319,272	$	319,096
Loans receivable, including loans held for sale, net		317,691		330,971		318,927		277,566		277,897
Securities available-for-sale		16,316		11,611		7,947		14,050		11,779
Short-term investments		8,336		7,687		6,818		7,491		14,357
Deposits		255,304		265,993		256,631		225,485		221,590
Total borrowings		76,618		72,033		66,808		64,851		70,473
Shareholders’ equity		34,840		32,821		30,393		27,727		25,502

	December 31,
	2006		2005		2004		2003		2002
	(Dollars in Thousands, except share data)
Selected Operations Data:
Total interest income	$	23,263	$	21,498	$	19,286	$	19,070	$	20,098
Total interest expense		11,142		9,664		8,416		8,529		9,930
Net interest income		12,121		11,834		10,870		10,541		10,168
Provision for loan losses		1,018		1,200		500		1,225		700
Net interest income after provision for loan losses		11,103		10,634		10,370		9,316		9,468
Deposit account service charges		1,766		1,423		889		820		707
Gain on sales of mortgage loans		214		322		593		1,810		984
Gain on sales of securities		---		---		---		---		---
Other non-interest income		858		764		747		677		445
Total non-interest income		2,838		2,509		2,240		3,307		2,136
Total non-interest expense		8,593		8,111		7,554		7,742		7,197
Income before taxes		5,348		5,032		5,056		4,881		4,407
Income taxes		1,998		1,764		1,792		1,932		1,692
Net income	$	3,350	$	3,268	$	3,264	$	2,949	$	2,715
Earnings per share	$	2.08	$	2.03	$	2.10	$	1.92	$	1.76
Earnings per share, assuming dilution		2.07		2.02		2.03		1.85		1.70
Dividends paid per share		.68		.61		.51		.44		.38

2

	December 31,
	2006			2005			2004			2003			2002
Selected Financial Ratios and Other Data:
Performance Ratios:
Return on assets (ratio of net income to average total assets)		0.91	%		0.89	%		0.95	%		0.94	%		0.90	%
Return on equity (ratio of net income to average equity)		9.88			10.21			11.19			11.03			10.99
Average interest rate spread during period		3.33			3.23			3.20			3.36			3.33
Net interest margin(1)		3.48			3.37			3.32			3.50			3.50
Operating expense to average total assets		2.33			2.20			2.20			2.46			2.37
Average interest-earning assets to average interest-bearing liabilities		1.05x			1.05x			1.05x			1.05x			1.05x
Quality Ratios:
Non-performing assets to total assets at end of period		3.17	%		2.83	%		1.67	%		1.28	%		1.12	%
Allowance for loan losses to non-performing loans		23.72			27.00			35.38			67.57			60.30
Allowance for loan losses to loans receivable		0.86			0.85			0.66			1.12			0.72
Capital Ratios:
Shareholders’ equity to total assets at end of period		9.46			8.81			8.56			8.68			7.99
Average shareholders’ equity to average total assets		9.19			8.69			8.50			8.49			8.15
Dividend payout ratio		32.69			30.05			24.54			22.31			22.34
Other Data:
Number of full-service offices		5			5			5			5			5

⁽¹⁾ Net interest income divided by average interest-earning assets.

3

MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Executive Overview

General

LSB Financial Corp., an Indiana corporation (“LSB Financial” or the “Company”), is the holding company of Lafayette Savings Bank, FSB (“Lafayette Savings” or the “Bank”). LSB Financial has no separate operations and its business consists only of the business of Lafayette Savings. References in this Annual Report to “we,” “us” and “our” refer to LSB Financial and/or Lafayette Savings as the context requires.

Lafayette Savings is and intends to continue to be, an independent, community-oriented financial institution. The Bank has been in business for 137 years and differs from many of our competitors in having a local board and local decision-making in all areas of business. In general our business consists of attracting or acquiring deposits and lending that money out primarily as real estate loans to construct and purchase single-family residential properties, and to a lesser extent, multi-family and commercial properties and to fund land development projects. We also make a limited number of commercial business and consumer loans.

We have an experienced and committed staff and enjoy a good reputation for understanding the people of the community and their financial needs and for finding a way to meet those needs. We contribute time and money to improve the quality of life in our market area and many of our employees volunteer for local non-profit agencies. We believe this sets us apart from the other 17 banks and credit unions that compete with us. We also believe that operating independently under the same name for over 137 years is a benefit to us—especially now, as acquisitions and consolidations of local financial institutions continue. Focusing time and additional marketing dollars on acquiring customers who may be feeling disenfranchised by their no-longer-local bank has proved to be a successful strategy.

The greater Lafayette area enjoys diverse employment including major manufacturers such as Subaru, Caterpillar, Wabash National and Greater Lafayette Health Services; a strong education sector with Purdue University and a large local campus of Ivy Tech Community College; government offices of Lafayette, West Lafayette and Tippecanoe County and a growing high-tech presence with the Purdue Research Park. In the past this diversity insulated us from economic downturns but the slowdowns of the last few years have had a noticeable effect on the area.

In addition to having to deal with the effects of several plant closings and numerous layoffs, the community is also working through the effects of the overbuilding of one-to-four family housing by local and out-of-town construction companies. Many of the houses were then sold to marginally qualified borrowers, often financed by out-of town lenders, to people who would otherwise have populated the rental market. Holders of rental properties were faced with increased vacancies at the same time the state imposed substantially higher property tax rates. The influx of these new houses along with increasing numbers of foreclosed properties have kept the housing market fairly flat. As a result even well-established landlords and builders are choosing to leave or being forced out of the market.

4

While the unemployment situation continues to slowly improve, we have a number of borrowers who have fallen substantially behind on their loans. The majority of these loans are secured by real estate and we believe we have sufficient reserves to cover probable losses. The challenge is to get delinquent borrowers back on a workable payment schedule or to get control of their properties through an overburdened court system.

The funds used to make loans come primarily from deposits from customers in our market area, from brokered deposits and from Federal Home Loan Bank (“FHLB”) advances. In addition we maintain an investment portfolio of available-for-sale securities to provide liquidity as needed. Our intention is to seek out the least expensive source of funds but if the need is immediate we will acquire pre-payable FHLB advances which can then be replaced with local or brokered deposits as they become available. Our reliance on brokered funds as a percentage of total deposits increased slightly in 2006 from 25.2% to 25.7% although the actual dollar amount decreased $1.5 million. We generally prefer brokered deposits when the rates are competitive with the cost of raising money locally. The deposits are available with a range of terms and the money is completely predictable as it cannot be withdrawn early except in the case of the death of a depositor and there is no option to have the money rollover at maturity. While we always welcome local deposits, the cost and convenience of brokered funds make them a useful alternative. We will also continue to rely on FHLB advances to provide immediate liquidity and also to help manage interest rate risk.

Our primary source of income is net interest income, which is the difference between the interest income earned on our loan and investment portfolio and the interest expense incurred on deposits and borrowings. Our net interest income depends on the balance of our loan and investment portfolios and the size of our net interest margin - the difference between the income generated from loans and the cost of funding. A major area of concern in the growth of net interest income is the continuing inversion of the yield curve. Since January 2004 short-term rates have continued to increase steadily while long term rates have remained comparatively flat. Because deposits are generally tied to shorter term market rates and loans are generally tied to longer-term rates the shrinking spread between the two has made it more difficult to maintain desired operating income levels. Our expectation for 2007 is that both short-term and long-term rates will be relatively flat through most of the year, with the possibility of both declining slightly in the third or fourth quarters resulting in a yield curve that remains inverted throughout most of the year.

Rate changes can be expected to have an impact on interest income. Rising rates generally increase borrower preference for variable rate products which we typically keep in our portfolio. Additionally, existing adjustable rate loans can be expected to reprice to higher rates, both of which could be expected to have a favorable impact on our interest income. Alternatively, continuing low interest rates could have a negative impact on our interest income as new loans are put on the books at comparatively low rates and our existing adjustable rate loans reprice to lower rates. Even if rates do fall, because so many borrowers refinanced their mortgages in the last few years, we do not expect to see a return to a high volume of refinancing. However, low rates may be expected to encourage borrowers to initiate additional real estate related purchases.

Our primary expense is interest on deposits and FHLB advances which are used to fund loan growth. We offer customers in our market area time deposits for terms ranging from three months to five years, checking accounts and savings accounts. We also purchase brokered

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deposits and FHLB advances as needed to provide funding or improve our interest rate risk position. Generally when interest rates are low, depositors will choose shorter-term products and conversely when rates are high, depositors will choose longer-term products.

We consider expected changes in interest rates when structuring our interest-earning assets and our interest-bearing liabilities. When rates are expected to increase we try to book shorter-term assets that will reprice relatively quickly to higher rates over time, and book longer term liabilities that will remain for a longer time at lower rates. Conversely, when rates are expected to fall, we would like our balance sheet to be structured such that loans will reprice more slowly to lower rates and deposits will reprice more quickly. We currently offer a three-year and a five-year certificate of deposit that allows depositors one opportunity to have their rate adjusted to the market rate at a future date to encourage them to choose longer-term deposit products. However, since we are not able to predict market interest rate fluctuations, our assets-liability management strategy may not prevent interest rate changes from having an adverse effect on our results of operations and financial condition.

Our results of operations may also be affected by general and local competitive conditions, particularly those with respect to changes in market rates, government policies and actions of regulatory authorities.

2006 Summary

Our strategy in 2006 included increasing the size of the consumer residential lending department, purchasing additional mortgage-backed securities and bank owned life insurance to offset slower commercial loan demand, working to reduce non-performing loans and dispose of other real estate owned, controlling the cost of funds and focusing on growth in other income.

Because of the slow improvement in the local economy, the overbuilding in the residential sector, and interagency regulatory concern with commercial real estate lending, our focus for new lending in 2006 was on the consumer residential side. While our overall loan portfolio including loans held for sale was down $13.3 million from 2005, residential mortgage loans increased by $5.1 million. We also sold $15.7 million of residential loans on the secondary market for a gain of $214,000. Because of the increase in the average yield on loans partly due to upward repricing adjustable rate mortgages, interest income on loans increased by $1.5 million. We also purchased $5.5 million of mortgage-backed securities and $2.5 million of bank owned life insurance to offset slow loan growth.

The slowdown in the economy for the last few years caused an increase in delinquencies, foreclosures and bankruptcies, although bankruptcy filings have fallen since the change in the bankruptcy law in 2005. We conduct ongoing assessments of these situations and in 2006 allocated $1.0 million to loan loss reserves, down slightly from 2005. We charged off $1.1 million against 53 loans either written off or taken into other real estate owned in 2006. While our delinquencies continue to be higher than we like, based on our analysis we believe we have sufficient reserves to cover inherent losses.

Because of the slower loan growth we were able to avoid paying premium prices when replacing maturing deposits or funding loans. Because of this, our cost of funds increased 46 basis points compared to a 56 basis point increase in our return on loans and investments resulting in a 10 basis point increase in our net interest margin.

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Other non-interest income, excluding the gain on sale of loans, increased by $437,000 primarily from a $343,000 increase in service charges and fees on deposit accounts resulting from our Courtesy Coverage Plan where the Bank agrees to cover customer overdrafts and charges a fee for the service.

The results of our business strategy in 2006 are illustrated in the chart on the following page and include:

Residential mortgage loans (including loans held for sale) increased by 3.7% from $137.0 million to $142.0 million.

All other real estate loans, net, including multi-family, land, land development, construction and commercial real estate loans decreased 10.9% from $142.6 million to $138.4 million.

Commercial business lending increased 3.7% from $20.2 million to $20.9 million.

At December 31, 2006, 76.4% of our gross loan portfolio had adjustable interest rates.

Total deposit accounts decreased from $266.0 million at December 31, 2005 to $255.3 million at December 31, 2006, with core deposits decreasing from $77.1 million to $75.3 million over the same period.

2007 Overview

We expect that in 2007 there will be some increase in commercial lending as planned growth in automobile production, the construction of new health care facilities and construction at Purdue University and Purdue Research Park begin to revive the economy. We expect consumer residential lending to stay stable or increase with the improving economy and the restructure of our consumer lending department. However, loan growth overall is expected to be modest. While we do not expect short term rates to rise substantially, we expect the yield curve to remain inverted throughout the year.

Our operating results will continue to be affected by several factors involving the disposition of properties in foreclosure or held in other real estate owned, including the level of the provision for loan losses, gains and losses on the sale of properties once we acquire title to them, the loss of interest income on non-performing assets and non-interest expenses incurred in obtaining, marketing and disposing of the properties. We expect to dispose of a significant number of properties securing loans that are currently non-performing and expect an existing search to result in the hiring of a person to focus on working through the disposition of these properties. We monitor these and all other loans in our portfolio carefully and perform specific impairment analyses on any loans over 90 days delinquent. Based on our analysis, we believe that our current loan loss reserve is sufficient to cover probable losses.

Significant external factors impact our results of operations including the general economic environment, changes in the level of market interest rates, government policies, actions by regulatory authorities and competition. Our cost of funds is influenced by interest

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rates on competing investments and general market rates of interest. Lending activities are influenced by the demand for real estate loans and other types of loans, which are in turn affected by the interest rates at which such loans are made, general economic conditions affecting loan demand and the availability of funds for lending activities.

We intend to continue to follow a strategy for growth that includes (1) maintaining a strong capital position, (2) managing our vulnerability to changes in interest rates by emphasizing adjustable-rate and/or shorter-term loans, (3) optimizing our net interest margin by supplementing our traditional mortgage lending with prudent multi-family and commercial real estate, consumer and construction loans, (4) expanding commercial business lending, (5) investing in mortgage-backed securities if loan volume does not reach anticipated levels and (6) funding our growth by using a mix of local and brokered deposits and FHLB advances, whichever is most cost-effective.

Critical Accounting Policies

Generally accepted accounting principles are complex and require management to apply significant judgments to various accounting, reporting and disclosure matters. Management of LSB Financial Corp. must use assumptions and estimates to apply these principles where actual measurement is not possible or practical. For a complete discussion of LSB Financial Corp.’s significant accounting policies, see Note 1 to the Consolidated Financial Statements as of December 31, 2006. Certain policies are considered critical because they are highly dependent upon subjective or complex judgments, assumptions and estimates. Changes in such estimates may have a significant impact on the financial statements. Management has reviewed the application of these policies with the Audit Committee of LSB Financial Corp.’s Board of Directors. These policies include the following:

Allowance for Loan Losses

The allowance for loan losses represents management’s estimate of probable losses inherent in Lafayette Savings’ loan portfolios. In determining the appropriate amount of the allowance for loan losses, management makes numerous assumptions, estimates and assessments.

The strategy also emphasizes diversification on an industry and customer level, regular credit quality reviews and quarterly management reviews of large credit exposures and loans experiencing deterioration of credit quality.

Lafayette Savings’ allowance consists of three components: probable losses estimated from individual reviews of specific loans, probable losses estimated from historical loss rates, and probable losses resulting from economic or other deterioration above and beyond what is reflected in the first two components of the allowance.

Larger commercial loans that exhibit probable or observed credit weaknesses and all loans that are rated substandard or lower are subject to individual review. Where appropriate, reserves are allocated to individual loans based on management’s estimate of the borrower’s ability to repay the loan given the availability of collateral, other sources of cash flow and legal options available to the Bank. Included in the review of individual loans are those that are impaired as provided in SFAS 114, Accounting by Creditors for Impairment of a Loan. Any

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allowances for impaired loans are determined by the present value of expected future cash flows discounted at the loan’s effective interest rate or fair value of the underlying collateral. Historical loss rates are applied to other commercial loans not subject to specific reserve allocations.

Homogenous smaller balance loans, such as consumer installment and residential mortgage loans are not individually risk graded. Reserves are established for each pool of loans based on the expected net charge-offs for one year. Loss rates are based on the average net charge-off history by loan category.

Historical loss rates for commercial and consumer loans may be adjusted for significant factors that, in management’s judgment, reflect the impact of any current conditions on loss recognition. Factors which management considers in the analysis include the effects of the national and local economies, trends in the nature and volume of loans (delinquencies, charge-offs and nonaccrual loans), changes in mix, asset quality trends, risk management and loan administration, changes in the internal lending policies and credit standards, collection practices and examination results from bank regulatory agencies and the Bank’s internal loan review.

Allowances on individual loans are reviewed quarterly and historical loss rates are reviewed annually and adjusted as necessary based on changing borrower and/or collateral conditions and actual collection and charge-off experience.

Lafayette Savings’ primary market area for lending is Tippecanoe County, Indiana. When evaluating the adequacy of allowance, consideration is given to this regional geographic concentration and the closely associated effect of changing economic conditions on Lafayette Savings’ customers.

Mortgage Servicing Rights

Mortgage servicing rights (MSRs) associated with loans originated and sold, where servicing is retained, are capitalized and included in other intangible assets in the consolidated balance sheet. The value of the capitalized servicing rights represents the present value of the future servicing fees arising from the right to service loans in the portfolio. Critical accounting policies for MSRs relate to the initial valuation and subsequent impairment tests. The methodology used to determine the valuation of MSRs requires the development and use of a number of estimates, including anticipated principal amortization and prepayments of that principal balance. Events that may significantly affect the estimates used are changes in interest rates, mortgage loan prepayment speeds and the payment performance of the underlying loans. The carrying value of the MSRs is periodically reviewed for impairment based on a determination of fair value. For purposes of measuring impairment, the servicing rights are compared to a valuation prepared based on a discounted cash flow methodology, utilizing current prepayment speeds and discount rates. Impairment, if any, is recognized through a valuation allowance and is recorded as amortization of intangible assets.

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Financial Condition

Financial Condition at December 31, 2006 compared to Financial Condition at December 31, 2005.

SELECTED FINANCIAL CONDITION DATA
(Dollars in thousands)
	December 31,		December 31,					$%
	2006		2005		Difference			Difference
Total assets	$	368,400	$	372,664	$	(4,264	)		(1.14	)%
Loans receivable, including loans held for sale, net		317,691		330,971		(13,280	)		(4.01	)
Residential mortgage loans		142,045		136,981		5,063			3.70
Home equity lines of credit		16,277		19,786		(3,509	)		(17.74	)
Other real estate loans		138,397		154,516		(16,119	)		(10.43	)
Commercial business loans		20,935		20,180		755			3.74
Consumer loans		3,254		2,834		420			14.81
Loans sold		15,720		19,193		(3,473	)		(18.10	)
Nonperforming loans		7,364		8,432		(1,068	)		(12.67	)
Loans past due 90 days, still accruing		147		127		20			15.75
Other real estate owned		4,169		2,004		2,165			108.03
Nonperforming assets		11,680		10,563		1,117			10.57
Available-for-sale securities		16,316		11,611		4,705			40.52
Short-term investments		8,336		7,687		649			8.44
Deposits		255,304		265,993		(10,689	)		(4.02	)
Core deposits		75,277		77,110		(1,833	)		(2.38	)
Brokered deposits		65,617		67,138		(1,521	)		(2.27	)
FHLB advances		76,618		72,033		4,585			6.37
Shareholders’ equity (net)		34,840		32,821		2,019			6.15

According to the chart above, the net balance in our loan portfolio decreased by $13.3 million from December 31, 2005 to December 31, 2006. The increase in residential mortgage loans was the result of the restructuring of the consumer loan area and the hiring of four new loan originators. The decrease in other real estate loans was primarily due to the slowly recovering local economy, the overbuilding in the last few years and the tightening of credit due to the interagency regulatory focus on commercial real estate.

In mid-2006 we began offering ABN Amro loan products and selling these mortgages to ABN Amro on the secondary market to enhance our product line and compete more effectively in the local market. We sold $16.3 million of residential loans to Freddie Mac and ABN Amro in 2006 compared with $19.2 million sold to Freddie Mac in 2005. These loans were sold based on asset/liability considerations and to increase income from the gain on sale of loans. See “Asset/Liability Management.”

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The $4.7 million increase in our securities was primarily due to the purchase of $5.5 million in mortgage-backed securities offset by scheduled maturities. The mortgage-backed securities were purchased to help address the shortfall in loan growth.

Deposit balances decreased by $10.7 million as lower loan demand made it unnecessary to replace runoff. Because loan demand was slower we were under less pressure to compete for more expensive funds and were able to slightly increase our margins in 2006.

We utilize advances available through the FHLB to provide additional funding for loan growth as well as for asset/liability management purposes. At December 31, 2006 we had $76.6 million in FHLB advances outstanding. Based on the collateral we currently have listed under a blanket collateral arrangement with the FHLB we could borrow up to $12.9 million in additional advances. We have other collateral available if needed. These advances are generally available on the same day as requested and allow us the flexibility of keeping our daily cash levels tighter than would otherwise be prudent.

Non-performing assets, which include non-accruing loans, accruing loans 90 day past due and foreclosed assets, increased from $10.6 million at December 31, 2005 to $11.7 million at December 31, 2006. Non-performing assets at December 31, 2006 consisted of $7.4 million of loans on residential real estate, $93,000 on land or commercial real estate, $41,000 on consumer loans and $3,000 on commercial business loans. Foreclosed assets consisted of $2.2 million of residential property and $1.9 million of commercial real estate or land. At December 31, 2006, our allowance for losses equaled 0.86% of total loans (including loans held for sale) compared to 0.85% at December 31, 2005. The allowance for loan losses at December 31, 2006 totaled 23.72% of nonperforming assets compared to 27.00% at December 31, 2005, and 36.88% of non-performing loans at December 31, 2006 compared to 33.32% at December 31, 2005. Our non-performing assets equaled 3.17% of total assets at December 31, 2006 compared to 2.83% at December 31, 2005.

When a non-performing loan is added to our classified loan list, an impairment analyses is completed to determine expected losses upon final disposition of the property. An adjustment to loss losses reserves is made at that time for any anticipated losses. This analysis is updated quarterly thereafter. Because of the large numbers of foreclosures - according to Forbes, Indiana reported foreclosure rates among the top ten in the nation in 2006 - the court systems frequently have backlogs in scheduling loan hearings. It may take up to two years to move a foreclosed property through the system to the point where we can obtain title to and dispose of it. We attempt to acquire properties through deeds-in-lieu-of-foreclosure if there are no other liens on the properties. In 2005 we acquired 22 properties through foreclosure and an agreement from a borrower to deliver deeds-in-lieu-of-foreclosure on 29 other properties. In 2006 we acquired those 29 properties and an additional 18 properties through foreclosure. As a result, $1.1 million was charged against loan loss reserves for the impairment or disposition of properties in 2006. although we believe we use the best information available to determine the adequacy of our allowance for loan losses, future adjustments to the allowance may be necessary, and net income could be significantly affected if circumstances and/or economic conditions cause substantial changes in the estimates we use in making the determinations about the levels of the allowance for losses. Additionally, various regulatory agencies, as an integral part of their examination process, periodically review our allowance for loan losses. These agencies may require the recognition of additions to the allowance based upon their judgments of information available at the time of their examination.

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Shareholders’ equity increased $2.0 million or 6.15% during 2006 primarily as a result of net income of $3.4 million partially offset by our payment of dividends on common stock and the repurchase of 24,500 shares of our stock as part of a stock repurchase plan. Shareholders’ equity to total assets was 9.46% at December 31, 2006 compared to 8.81% at December 31, 2005.

Results of Operations

Our results of operations depend primarily on the levels of net interest income, which is the difference between the interest income earned on loans and securities and other interest earning assets, and the interest expense on deposits and borrowed funds. Our results of operation are also dependent upon the level of our non-interest income, including fee income and service charges, gains or losses on the sale of loans and the level of our non-interest expenses, including general and administrative expenses. Net interest income is dependent upon the volume of interest-earning assets and interest-bearing liabilities and upon the interest rate which is earned or paid on these items. Our results of operations are also affected by the level of the provision for loan losses. We, like other financial institutions, are subject to interest rate risk to the degree that our interest-bearing liabilities mature or reprice at different times, or on a different basis, than our interest-earning assets.

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Average Balances, Interest Rates and Yields

The following table presents for the periods indicated the total dollar amount of interest income earned on average interest-earning assets and the resultant yields on such assets, as well as the interest expense paid on average interest-bearing liabilities, and the rates paid on such liabilities. No tax equivalent adjustments were made. All average balances are monthly average balances. Non-accruing loans have been included in the table as loans carrying a zero yield.

	Year Ended December 31,
	2006							2005							2004
	Average Outstanding Balance		Interest Earned/ Paid		Yield/ Rate			Average Outstanding Balance		Interest Earned/ Paid		Yield/ Rate			Average Outstanding Balance		Interest Earned/ Paid		Yield/ Rate
Interest-Earning Assets:
Loans receivable(1)	$	323,216	$	22,443		6.94	%	$	329,544	$	20,906		6.34	%	$	302,443	$	18,695		6.18	%
Mortgage-backed securities		2,274		98		4.31			937		41		4.38			1,355		55		4.06
Other investments		18,527		521		2.81			16,624		371		2.23			19,252		359		1.86
FHLB stock		4,115		201		4.88			4,186		180		4.30			4,044		177		4.38
Total interest-earning assets		348,132		23,263		6.68			351,291		21,498		6.12			327,094		19,286		5.90
Non-interest earning assets		20,635							16,893							16,126
Total assets	$	368,767						$	368,184						$	343,220
Liabilities and Shareholders’ Equity:
Interest-Bearing Liabilities:
Savings deposits	$	18,851		164		0.87		$	19,084		138		0.72		$	19,253		135		0.70
Demand and NOW deposits		56,169		377		0.67			60,553		359		0.59			60,970		363		0.60
Time deposits		187,110		7,280		3.89			183,412		6,106		3.33			164,135		4,830		2.94
Borrowings		70,513		3,321		4.71			70,906		3,061		4.32			67,965		3,088		4.54
Total interest-bearing liabilities		332,649		11,142		3.35			333,955		9,664		2.89			312,323		8,416		2.69
Other liabilities		2,224							2,231							1,727
Total liabilities		334,873							336,186							314,050
Shareholders’ equity		33,894							31,998							29,170
Total liabilities and shareholders’ equity	$	368,767						$	368,184						$	343,220
Net interest income			$	12,121						$	11,834						$	10,870
Net interest rate spread						3.33	%						3.23	%						3.20	%
Net earning assets	$	15,483						$	17,336						$	14,771
Net yield on average interest-earning assets						3.48	%						3.37	%						3.32	%
Average interest-earning assets to average interest-bearing liabilities		1.05x							1.05x							1.05x

_________________

⁽¹⁾ Calculated net of deferred loan fees, loan discounts, loans in process and loss reserves.

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Rate/Volume Analysis of Net Interest Income

The following table presents the dollar amount of changes in interest income and interest expense for the major categories of interest-earning assets and interest-bearing liabilities. The change in total interest income and total interest expense is allocated between those related to changes in the outstanding balances and those due to changes in interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and change due to rate.

	Year Ended December 31,
	2005 vs. 2006								2004 vs. 2005
	Increase (Decrease) Due to						Total Increase		Increase (Decrease) Due to						Total Increase
	Volume			Rate			Decrease		Volume			Rate			Decrease
	(In thousands)
Interest-earning assets:
Loans receivable	$	(408	)	$	1,945		$	1,537	$	1,709		$	502		$	2,211
Mortgage-backed securities		58			(1	)		57		(18	)		4			(14	)
Other investments		46			104			150		(47	)		59			12
FHLB stock		(3	)		24			21		6			(3	)		3
Total interest-earning assets	$	(307	)	$	2,072			1,765	$	1,650		$	(562	)		2,212
Interest-bearing liabilities:
Savings deposits	$	(2	)	$	28		$	26	$	(1	)	$	4		$	3
Demand deposits and NOW accounts		(27	)		45			18		(2	)		(2	)		(4	)
Time deposits		1256			1,049			1,174		602			674			1,276
Borrowings		(17	)		277			260		131			(158	)		(27	)
Total interest-bearing liabilities	$	79		$	1,399		$	1,478	$	730		$	518		$	1,248
Net interest income							$	287							$	964

Comparison of Operating Results for the Years Ended December 31, 2006 and December 31, 2005.

General. Net income for the year ended December 31, 2006 was $3.4 million, an increase of $82,000 or 2.51% over net income for the year ended December 31, 2005. This increase was primarily due to a $287,000 increase in net interest income, a $182,000 decrease in the provision for loan losses and a $329,000 increase in non-interest income offset by a $482,000 increase in non-interest expense and a $234,000 increase in income taxes.

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Our return on average assets was 0.91% for the year ended 2006, compared to 0.89% for the year ended 2005. Return on equity was 9.88% for the year ended 2006 compared to 10.21% for 2005. During 2006 we paid regular quarterly cash dividends on common stock totaling $1.1 million or $0.68 per share for the year, representing a dividend payout ratio, dividends declared per share divided by diluted net income per share, of approximately 33%.

Net Interest Income. Net interest income for the year ended December 31, 2006 increased $287,000 over the same period in 2005. Our net interest margin (net interest income divided by average interest-earnings assets) increased from 3.36% at December 31, 2005 to 3.48% at December 31, 2006. Most of our variable rate loans adjusting in 2006 adjusted upwards as they are tied to shorter-term indexes and short-term rates have been increasing for the last several years. Interest expenses on deposits and advances increased as well, but because of slower loan growth we had less need to acquire higher rate funding.

Interest income on loans increased $1.5 million for the year ended December 31, 2006 compared to the year ended December 31, 2005. The average volume of loans in our portfolio decreased by $6.3 million while the average yield increased from 6.34% for the year ended December 31, 2005 to 6.94% for the year ended December 31, 2006. We expect to see continued slow to moderate growth in our residential loan portfolio through most of 2007 with steady interest rates and a gradually strengthening local economy but continuing problems with an overbuilt housing market. We expect slow growth in our commercial real estate and commercial business loan production as the new jobs created at Subaru, in health care and at Purdue and Purdue Research Park begin to generate more commercial activity. We intend to keep some of our shorter term fixed rate loans in our portfolio while originating more competitively priced and non-typically structured loans for sale on the secondary market.

Interest income on investments and FHLB stock increased $228,000 for the year ended December 31, 2006 compared to the year ended December 31, 2005. This was primarily due to a $3.2 million increase in average investments as we purchased $5.5 million in mortgage-backed securities to offset some of the shortfall in loan production.

Interest expense for the year ended December 31, 2006 increased $1.5 million over the same period in 2005. This increase was primarily due to an increase in the average rate paid on interest-bearing liabilities from 2.89% in 2005 to 3.35% in 2006 reflecting the generally higher short-term rates over the period. The higher rates were offset slightly by a $1.3 million decrease in average interest-bearing liabilities. $1.2 million of the increase was caused by a $3.7 million increase in the average balance of time accounts and an increase in the average rate from 3.33% to 3.89%. $277,000 of the increase was caused by an increase in the average rate of FHLB advances from 4.32% to 4.71%.

Provision for Loan Losses. We establish our provision for loan losses based on a systematic analysis of risk factors in the loan portfolio. The analysis includes

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consideration of concentrations of credit, past loss experience, current economic conditions, the amount and composition of the loan portfolio, estimated fair value of the underlying collateral, delinquencies and other relevant factors. From time to time, we also use the services of a consultant to assist in the evaluation of our growing commercial real estate loan portfolio. On at least a quarterly basis, a formal analysis of the adequacy of the allowance is prepared and reviewed by management and the Board of Directors. This analysis serves as a point in time assessment of the level of the allowance and serves as a basis for provisions for loan losses.

More specifically, our analysis of the loan portfolio will begin at the time the loan is originated, at which time each loan is assigned a risk rating. If the loan is a commercial credit, the borrower will also be assigned a similar rating. Loans that continue to perform as agreed will be included in one of ten non-classified loan categories. Portions of the allowance are allocated to loan portfolios in the various risk grades, based upon a variety of factors, including historical loss experience, trends in the type and volume of the loan portfolios, trends in delinquent and non-performing loans, and economic trends affecting our market. Loans no longer performing as agreed are assigned a higher risk rating, eventually resulting in their being regarded as classified loans. A collateral re-evaluation is completed on all classified loans. This process results in the allocation of specific amounts of the allowance to individual problem loans, generally based on an analysis of the collateral securing those loans. These components are added together and compared to the balance of our allowance at the evaluation date.

We recorded a $1.0 million provision for loan losses during 2006 as a result of our analysis of our current loan portfolios, compared to $1.2 million during 2005. The provisions were necessary to maintain the allowance for loan losses at a level considered adequate to absorb losses inherent in the loan portfolio and cover anticipated charge-offs. During the year 2006, we charged $1.1 million against loan loss reserves against 53 loans either written off or taken into other real estate owned in 2006. We expect to obtain possession of many properties in 2007 that are currently in the process of foreclosure. The final disposition of these properties may be expected to result in a loss in some cases. The $1.1 million provision for loan losses in 2006 was considered adequate to cover further charge-offs based on our evaluation and our loan mix.

At December 31, 2006, non-performing assets, consisting of non-performing loans, accruing loans 90 days or more delinquent and other real estate owned, totaled $11.7 million compared to $10.6 million at December 31, 2005. In addition to our non-performing assets, we identified $4.6 million in other loans of concern where information about possible credit problems of borrowers causes management to have doubts as to the ability of the borrowers to comply with present repayment terms and that may result in disclosure of such loans as non-performing assets in the future. The vast majority of these loans, as well as our non-performing assets, are well collateralized.

At December 31, 2006, we believe that our allowance for loan losses was adequate to absorb estimated probable losses inherent in our loan portfolio. Our allowance for losses equaled 0.86% of net loans receivable and 23.72% of non-

16

performing assets at December 31, 2006, compared to 0.85% and 27.00% at December 31, 2005, respectively.

Non-Interest Income. Non-interest income for the year ended December 31, 2006 increased by $329,000 or 13.11% compared to the same period in 2005. The increase was primarily due to a $343,000 increase in fees on deposit accounts largely the result of our Courtesy Coverage Program that allows qualified customers to overdraw their checking account by up to $500 for a $30 overdraft fee, and from a $94,000 increase in other non-interest income primarily due to an increase in the cash surrender value of bank owned life insurance. The increase was partially offset by a $108,000 decrease in gains on the sale of mortgage loans sold in the secondary market due to a $3.5 million decrease in loans sold.

Non-Interest Expense. Non-interest expense for the year ended December 31, 2006 increased $482,000 over the same period in 2005. The increase was primarily due to a $265,000 increase in salaries and employee benefits due to increased compliance staff and the salary and other costs of acquiring, maintaining and disposing of foreclosed properties.

Income Tax Expense. Our income tax provision increased by $234,000 for the year ended December 31, 2006 compared to the year ended December 31, 2005 primarily due to income earned in 2006.

Comparison of Operating Results for the Years Ended December 31, 2005 and December 31, 2004.

General. Net income for the year ended December 31, 2005 was $3.3 million, virtually unchanged from net income for the year ended December 31, 2004. While net interest income increased $964,000 in 2005 compared to 2004, and non-interest income increased by $269,000, these increases were largely offset by a $700,000 increase in the provision for loan losses and a $557,000 increase in non-interest expenses.

Our return on average assets was 0.89% for the year ended 2005, compared to 0.95% for the year ended 2004. Return on equity was 10.21% for the year ended 2005, compared to 11.19% for 2004. During 2005 we paid regular quarterly cash dividends on common stock totaling $941,000 for the year, or $.64 per share, representing a dividend payout ratio, dividends declared per share divided by diluted net income per share, of approximately 29%.

Net Interest Income. Net interest income for the year ended December 31, 2005 increased $964,000 over the same period in 2004. Our net interest margin (net interest income divided by average interest-earning assets) increased from 3.32% at December 31, 2004 to 3.36% at December 31, 2005. Many of our adjustable rate mortgages started adjusting upwards in 2005, although the flat yield curve because of continuing low long-term rates is expected to keep the return on fixed rate mortgages fairly flat. Interest expenses on deposits, primarily on time accounts, increased as expected since many of

17

these deposits are tied to rising shorter-term market interest rates. The majority of our longer-term deposits had already rolled down to lower rates and are likely to remain at that level until longer-term market rates begin to increase. Rates on borrowings decreased slightly in 2005, but may be expected to increase as interest rates climb generally.

Interest income on loans increased $2.2 million for the year ended December 31, 2005 compared to the year ended December 31, 2004. The average volume of loans in our portfolio increased by $27.1 million while the average yield increased from 6.18% for the year ended December 31, 2004 to 6.34% for the year ended December 31, 2005. There was also an increase in interest income on investments as we increased the size of that portfolio, and replaced maturing investments with higher yielding products.

Interest expense for the year ended December 31, 2005 increased $1.3 million over the same period in 2004. This increase was primarily due to an increase in the average rate paid on interest-bearing liabilities from 2.69% in 2004 to 2.89% in 2005, reflecting the generally higher interest rates over the period, and by an increase of $21.6 million in average interest-bearing liabilities. Specifically, the higher interest expense was primarily caused by a $1.3 million increase in interest on time accounts from an increase in average balance of $19.3 million and an increase in average rate from 2.94% to 3.33%. This higher expense was offset slightly by a $27,000 decrease in the cost of Federal Home Loan Bank advances resulting primarily from a 24 basis point decrease in the average rate offset by a $2.9 million increase in the average balance.

Provision for Loan Losses. We recorded a $1.2 million provision for loan losses during 2005 as a result of our analysis of our current loan portfolios, compared to $500,000 during 2004. We added an additional $450,000 to our loan loss reserves at December 31, 2005, bringing the total allocation in the fourth quarter to $725,000. A total of $328,000 was allocated to a single borrower where we had concerns about the borrower’s liquidity. The increased provision during 2005 was necessary to maintain the allowance for loan losses at a level considered adequate to absorb losses inherent in the loan portfolio and cover anticipated charge-offs. The Office of Thrift Supervision, which completed an examination of the Bank in 2005, also concluded that increased reserves were appropriate. The increase in bankruptcy filings in the fourth quarter of 2005 prior to the change in the bankruptcy laws in October 2005, the increase in unemployment rates in Tippecanoe County and the adverse effect of increased property tax assessments are all indications of a slowdown in the local economy. During the year 2005, we charged $492,000 against loan loss reserves on 29 loans either written off or taken into other real estate owned. The $1.2 million provision for loan losses in 2005 was considered adequate to cover further charge-offs based on our evaluation and our loan mix.

At December 31, 2005 non-performing assets, consisting of non-accruing loans, accruing loans 90 days or more delinquent and other real estate owned, totaled $10.6 million compared to $5.9 million at December 31, 2004. In addition to our non-performing assets, we identified $2.0 million in other loans of concern where known information about possible credit problems of borrowers caused management to have

18

doubts as to the ability of the borrowers to comply with repayment terms and that may result in disclosure of such loans as non-performing assets in the future. The vast majority of these loans, as well as our non-performing assets, were well collateralized.

At December 31, 2005, we believe that our allowance for loan losses was adequate to absorb estimated probable losses inherent in our loan portfolio. Our allowance for losses equaled 0.85% of net loans receivable and 27.00% of non-performing assets at December 31, 2005 compared to 0.65% and 35.38% at December 31, 2004, respectively.

Non-Interest Income. Non-interest income for the year ended December 31, 2005 increased by $269,000 or 12.01% compared to the same period in 2004. The increase was primarily due to a $534,000 increase in fees on deposit accounts largely the result of the introduction of our Courtesy Coverage Program that allows qualified customers to overdraw their checking account by up to $500 for a $30 per overdraft fee. The increase was partially offset by a $271,000 decrease in gains on the sale of mortgage loans in the secondary market due to a $9.8 million decrease in loans sold.

Non-Interest Expense. Non-interest expense for the year ended December 31, 2005 increased $557,000 over the same period in 2004. The major components of this increase included a $135,000 increase in salaries and employee benefits due primarily to increased compliance staffing and increased health insurance costs, and a $330,000 increase in other expenses including costs of maintaining foreclosed properties and Sarbanes-Oxley compliance costs.

Income Tax Expense. The Company’s income tax provision decreased by $28,000 for the year ended December 31, 2005 compared to the year ended December 31, 2004 primarily as a result of tax savings relating to our bank owned life insurance program and increased lending in an area in Lafayette designated as an urban enterprise zone, qualifying for enterprise zone tax credits.

Asset/Liability Management

We, like other financial institutions, are subject to interest rate risk to the extent that our interest-bearing liabilities reprice on a different basis than our interest-earning assets. The Office of Thrift Supervision (“OTS”), our primary regulator, supports the use of a net portfolio value (“NPV”) approach to the quantification of interest rate risk. In essence, this approach calculates the difference between the present value of expected cash flows from assets and the present value of expected cash flows from liabilities, as well as cash flows from off-balance-sheet contracts. An NPV ratio in any interest rate scenario, is defined as the NPV in that rate scenario divided by the market value of assets in the same scenario—essentially a market value adjusted capital ratio.

It has been and continues to be a priority of the Board of Directors and management to manage interest rate risk to maintain an acceptable level of potential changes to interest income as a result of interest rate changes. Our asset/liability policy,

19

established by the Board of Directors, sets forth acceptable limits on the amount of change in net portfolio value given certain changes in interest rates. We have an asset/liability management committee which meets quarterly to review our interest rate position, and an investment committee which reviews the interest rate risk position and other related matters with the Board of Directors, and makes recommendations for adjusting this position to the full Board of Directors. In addition, the investment committee of the Board of Directors meets semi-annually with our outside investment advisors to review our investment portfolio and strategies relating to interest rate risk. Specific strategies have included the sale of long-term, fixed rate loans to reduce the average maturity of our interest-earning assets and the use of Federal Home Loan Bank advances to lengthen the effective maturity of our interest-bearing liabilities. In the future, our community banking emphasis, including the origination of commercial business loans, is intended to further increase our portfolio of short-term and/or adjustable rate loans.

Presented below, as of December 31, 2006 and 2005, is an analysis of our interest rate risk as measured by the effect on NPV caused by instantaneous and sustained parallel shifts in the yield curve, in 100 basis point increments, up 300 basis points and down 200 basis points, and compared to our Board policy limits. (One hundred basis points equals one percent.) The Board Limit column indicates the lowest allowable limits for NPV after each interest rate shock. Assumptions used in calculating the amounts in this table are OTS assumptions. No information is provided for a negative 300 basis point shift in interest rates, due to a low prevailing interest rate environment making such scenarios unlikely.

Change in		Board Limit		At December 31, 2006				At December 31, 2005
Interest Rate		Post-shock		Post-shock		Change		Post-shock		Change
(Basis Points)		NPV Ratio		NPV Ratio		(Basis Points)		NPV Ratio		(Basis Points)
300	bp	6.00	%	10.38	%	(156	) bp	10.16	%	(80	) bp
200		7.00		11.25		(68	)	10.58		(38	)
100		8.00		11.92		(1	)	10.87		(8	)
0		8.00		11.94		--		10.96		--
-100		8.00		11.96		3		10.74		(22	)
-200		7.00		11.92		(2	)	10.31		(65	)

In evaluating our exposure to interest rate risk, certain shortcomings inherent in the method of analysis presented in the foregoing table must be noted. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Further, in the event of a change in interest rates, prepayments and early withdrawal levels may deviate significantly from those assumed in calculating the table. Finally, the ability of many borrowers to service their debt may decrease in the event of an interest rate increase. As a result, the actual effect of changing interest rates may differ from that presented in the foregoing table.

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Liquidity and Capital Resources

Our primary sources of funds are deposits, repayment and prepayment of loans, interest earned on or maturation of investment securities and short-term investments, borrowings and funds provided from operations. While maturities and the scheduled amortization of loans, investments and mortgage-backed securities are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by general market interest rates, economic conditions and competition.

We monitor our cash flow carefully and strive to minimize the level of cash held in low-rate overnight accounts or in cash on hand. We also carefully track the scheduled delivery of loans committed for sale to be added to our cash flow calculations.

Our primary investing activities are the origination of loans and the purchase of securities. During the year ended December 31, 2006, the Bank originated loans totaling $110.5 million and purchased $8.1 million of securities. These activities were funded primarily by principal repayments and prepayments on loans and maturities of investment securities totaling $111.3 million.The proceeds from the sale of loans totaled $16.1 million for the year ended December 31, 2006. There were no security sales in 2005 or 2006.

Because there was a decrease in the balance of loans in our portfolio in 2006, funds from repayments and prepayments on loans and maturities of investment securities were used to cover the runoff in our deposits, primarily time deposits. We currently use, and intend to continue to use, FHLB advances as a source of funding for loans when advantages on interest rate risk matches can be found.

Liquidity management is both a daily and long-term function for our senior management. We adjust our investment strategy, within the limits established by the investment policy, based upon assessments of expected loan demand, expected cash flows, Federal Home Loan Bank advance opportunities, market yields and the objectives of our asset/liability management program. Base levels of liquidity have generally been invested in interest-earning overnight and time deposits with the Federal Home Loan Bank of Indianapolis. Funds for which a demand is not foreseen in the near future are invested in investment and other securities for the purpose of yield enhancement and asset/liability management.

Our current internal policy for liquidity is 4%. Our liquidity ratio at December 31, 2006 was 6.09% as a percentage of total assets.

We anticipate that we will have sufficient funds available to meet current loan commitments. At December 31, 2006 we had outstanding commitments to originate loans and available lines of credit totaling $35.8 million and commitments to provide borrowers the funds needed to complete current construction projects in the amount of $4.2 million. Certificates of deposit that will mature in one year or less at December 31, 2006 totaled $131.2 million. Based on our experience, our certificates of deposit have

21

been a relatively stable source of long-term funds as such certificates are generally renewed upon maturity since we have established long-term banking relationships with our customers. Therefore, we believe a significant portion of such deposits will remain with us, although that cannot be assured. An exception to this rule would be the brokered certificates of deposit. $42.5 million of the certificates maturing in one year or less at December 31, 2006 were brokered deposits which will be leaving the bank at maturity.

LSB Financial also has a need for, and sources of liquidity. Liquidity is required to fund our operating expenses and fund stock repurchase programs, as well as for the payment of dividends to shareholders. At December 31, 2006, LSB Financial had $46,000 in liquid assets on hand. The primary source of liquidity on an ongoing basis is dividends from Lafayette Savings. Dividends totaling $1.0 million were paid from the Bank to LSB Financial during the year ended December 31, 2006. For the year ended December 31, 2006, LSB Financial paid dividends to shareholders totaling $1.1 million.

Regulatory agencies have established capital adequacy standards which are used in their monitoring and control of the industry. These standards relate capital to levels of risk by assigning different weightings to assets and certain off-balance-sheet activity. As shown in Note 11 to the Consolidated Financial Statements (“Regulatory Matters”), our capital levels exceed the requirements to be considered well capitalized at December 31, 2006.

Off-Balance-Sheet Arrangements

As of the date of this Annual Report, we do not have any off-balance-sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, change in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors. The term “off-balance-sheet arrangement” generally means any transaction, agreement, or other contractual arrangement to which any entity unconsolidated with the Company is a party and under which the Company has (i) any obligation arising under a guarantee contract, derivative instrument or variable interest; or (ii) a retained or contingent interest in assets transferred to such entity or similar arrangement that serves as credit, liquidity or market risk support for such assets.

See Note 16 to the Consolidated Financial Statements regarding off-balance-sheet commitments.

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Contractual Obligations

The Company’s contractual obligations as of December 31, 2006 are summarized in the following table.

	Payments due by period
			Less than		2 to 3		4 to 5		More
Contractual Obligations	Total		1 year		years		years		than 5 years
Long Term Debt (1)	$	76,618	$	32,862	$	25,756	$	18,000	$	0
Capital Leases (2)
Operating Leases (3)		540		360		180
Purchase Obligations (4)
Dividends Declared (5)
Total (6)	$	77,158	$	33,222	$	25,936	$	18,000	$	0

(1) Long term debt includes FHLB advances and subordinated debentures.

(2) LSB Financial Corp. had no capital leases.

(3) Operating leases includes a contract for data processing services.

(4) LSB Financial Corp. had no outstanding purchase obligations.

(5) LSB Financial Corp. had no outstanding dividends declared.

(6) For information regarding the contractual maturities of deposit liabilities, which are not included in the above table, see Note 7 to the Consolidated Financial Statements (“Deposits”).

Impact of Accounting Changes

Future Accounting Matters

In March 2006, the FASB issued Statement of Financial Accounting Standards No. 156 (SFAS No. 156), Accounting for Servicing of Financial Assets, an amendment of FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, which requires that all separately recognized servicing assets and servicing liabilities be initially measured at fair value, if practicable and permits the entities to elect either fair value measurement with changes in fair value reflected in earnings or the amortization and impairment requirements of SFAS No. 140 for subsequent measurement. The subsequent measurement of separately recognized servicing assets and servicing liabilities at fair value eliminates the necessity for entities that manage the risks inherent in servicing assets and servicing liabilities with derivatives to qualify for hedge accounting treatment and eliminates the characterization of declines

in fair value as impairments or direct write-downs. SFAS No. 156 is effective for the Company beginning January 1, 2007. We have evaluated the requirements of SFAS No. 156 and determined that it will not have a material effect on our financial condition or results of operations.

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally

23

accepted accounting standards, and expands disclosures about fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. We do not expect that the adoption of SFAS No. 157 will have a material impact on our financial condition or results of operations.

In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of SFAS No. 109, Accounting for Income Taxes (Interpretation No. 48). Interpretation No. 48 clarifies the accounting for uncertainty in income taxes in financial statements and prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of a tax position taken or expected to be taken. It also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. Interpretation No. 48 is effective for the Company beginning January 1, 2007. We have evaluated the requirements of Interpretation No. 48 and determined that it will not have a material effect on our financial condition or results of operations.

In September 2006, the SEC Staff issued Staff Accounting Bulletin (“SAB”) No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements, which addresses how the effects of prior year uncorrected misstatements should be considered when quantifying misstatements in current year financial statements. SAB No. 108 will require registrants to quantify misstatements using both the balance sheet and income statement approaches and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. When the effect of initial adoption is determined to be material, SAB No. 108 allows registrants to record that effect as a cumulative effect adjustment to beginning retained earnings. The requirements are effective for the Company beginning January 1, 2007. We have evaluated the requirements of SAB No. 108 and determined that it will not have a material effect on our financial condition or results of operations.

In September 2006, the Emerging Issues Task Force Issue 06−4 (EITF 06-4), Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split−Dollar Life Insurance Arrangements, was ratified. EITF 06-4 addresses accounting for separate agreements which split life insurance policy benefits between an employer and employee. EITF 06-4 requires the employer to recognize a liability for future benefits payable to the employee under these agreements. The effects of applying EITF 06-4 must be recognized through either a change in accounting principle through an adjustment to equity or through the retrospective application to all prior periods. For calendar year companies, EITF 06-4 is effective beginning January 1, 2008. Early adoption is permitted as of January 1, 2007. We do not intend to adopt EITF 06-4 until the January 1, 2008 effective date. We do not expect the adoption of EITF 06-4 to have a material effect on our consolidated financial statements.

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Impact of Inflation and Changing Prices

The Consolidated Financial Statements presented herein have been prepared in accordance with generally accepted accounting principles. These principles require the measurement of financial position and operating results in terms of historical dollars, without considering changes in the relative purchasing power of money over time due to inflation.

The Company’s primary assets and liabilities are monetary in nature. As a result, interest rates have a more significant impact on our performance than the effects of general levels of inflation. Interest rates, however, do not necessarily move in the same direction or with the same magnitude as the price of goods and services, since such prices are affected by inflation. In a period of rapidly rising interest rates, the liquidity and maturities structures of our assets and liabilities are critical to the maintenance of acceptable performance levels.

The principal effect of inflation, as distinct from levels of interest rates, on earnings is in the area of noninterest expense. Such expense items as employee compensation, employee benefits and occupancy and equipment costs may be subject to increases as a result of inflation. An additional effect of inflation is the possible increase in the dollar value of the collateral securing loans that the Company has made. The Company is unable to determine the extent, if any, to which properties securing our loans have appreciated in dollar value due to inflation.

Quarterly Results of Operations

Quarter Ending	Interest Income		Interest Expense		Net Interest Income		Provision For Loan Losses		Net Income		Basic Earnings Per Share		Diluted Earnings Per Share
2006
March	$	5,786	$	2,665	$	3,121	$	150	$	908	$	0.56	$	0.56
June		5,724		2,704		3,020		250		828		0.51		0.50
September		5,924		2,832		3,092		318		867		0.53		0.53
December		5,829		2,941		2,888		300		747		0.47		0.46
	$	23,263	$	11,142	$	12,121	$	1,018	$	3,350
2005
March	$	5,122	$	2,245	$	2,877	$	175	$	767	$	0.49	$	0.48
June		5,299		2,348		2,951		125		893		0.55		0.54
September		5,469		2,467		3,002		175		934		0.58		0.57
December		5,608		2,604		3,004		725		674		0.42		0.41
	$	21,498	$	9,664	$	11,834	$	1,200	$	3,268

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DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

This document, including information included or incorporated by reference, contains, and future filings by LSB Financial on Form 10-K, Form 10-Q and Form 8-K and future oral and written statements by LSB Financial and our management may contain, forward-looking statements about LSB Financial and its subsidiaries which we believe are within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, without limitation, statements with respect to anticipated future operating and financial performance, growth opportunities, interest rates, cost savings and funding advantages expected or anticipated to be realized by management. Words such as may, could, should, would, believe, anticipate, estimate, expect, intend, plan and similar expressions are intended to identify forward-looking statements. Forward-looking statements by LSB Financial and its management are based on beliefs, plans, objectives, goals, expectations, anticipations, estimates and intentions of management and are not guarantees of future performance. We disclaim any obligation to update or revise any forward-looking statements based on the occurrence of future events, the receipt of new information or otherwise. The important factors we discuss below and elsewhere in this document, as well as other factors discussed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this document and identified in our filings with the SEC and those presented elsewhere by our management from time to time, could cause actual results to differ materially from those indicated by the forward-looking statements made in this document.

The following factors, many of which are subject to change based on various other factors beyond our control, could cause our financial performance to differ materially from the plans, objectives, expectations, estimates and intentions expressed in such forward-looking statements:

· the strength of the United States economy in general and the strength of the local economies in which we conduct our operations;

· the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve Board;

· financial market, monetary and interest rate fluctuations, particularly the relative relationship of short-term interest rates to long-term interest rates;

· the timely development of and acceptance of new products and services of Lafayette Savings and the perceived overall value of these products and services by users, including the features, pricing and quality compared to competitors’ products and services;

· the willingness of users to substitute competitors’ products and services for our products and services;

· the impact of changes in financial services’ laws and regulations (including laws concerning taxes, accounting standards, banking, securities and insurance);

· the impact of technological changes;

· acquisitions;

· changes in consumer spending and saving habits; and

· our success at managing the risks involved in the foregoing.

26

Report of Independent Registered Public Accounting Firm

Audit Committee, Board of Directors and Stockholders

LSB Financial Corp.

Lafayette, Indiana

We have audited the accompanying consolidated balance sheets of LSB Financial Corp. as of December 31, 2006 and 2005, and the related consolidated statements of income, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2006. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

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

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of LSB Financial Corp. as of December 31, 2006 and 2005, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2006, in conformity with accounting principles generally accepted in the United States of America.

Indianapolis, Indiana

March 12, 2007

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LSB Financial Corp.

Consolidated Balance Sheets

December 31, 2006 and 2005

(Dollars in Thousands, Except Per Share Data)

Assets

	2006			2005
Cash and due from banks	$	1,391		$	1,697
Short-term investments		8,336			7,687
Cash and cash equivalents		9,727			9,384
Available-for-sale securities		16,316			11,611
Loans held for sale		992			—
Loans, net of allowance for loan losses of $2,770 and $2,852		316,699			330,971
Premises and equipment, net		6,600			6,813
Federal Home Loan Bank stock		3,997			4,197
Interest receivable and other assets		8,688			6,973
Bank owned life insurance		5,381			2,715
Total assets	$	368,400		$	372,664
Liabilities and Stockholders’ Equity
Liabilities
Deposits	$	255,304		$	265,993
Federal Home Loan Bank advances		76,618			72,033
Interest payable and other liabilities		1,638			1,817
Total liabilities		333,560			339,843
Commitments and Contingencies
Stockholders’ Equity
Common stock, $.01 par value; authorized 7,000,000 shares; issued and outstanding 2006 - 1,603,209 shares, 2005 - 1,547,806 shares		15			15
Additional paid-in capital		12,227			10,565
Retained earnings		22,623			22,402
Unearned recognition and retention plan (RRP) shares		—			(22	)
Unearned ESOP compensation		—			(49	)
Accumulated other comprehensive loss		(25	)		(90	)
Total stockholders’ equity		34,840			32,821
Total liabilities and stockholders’ equity	$	368,400		$	372,664

See Notes to Consolidated Financial Statements

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LSB Financial Corp.

Consolidated Statements of Income

Years Ended December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

	2006		2005		2004
Interest and Dividend Income
Loans	$	22,443	$	20,906	$	18,695
Securities
Taxable		501		334		384
Tax-exempt		192		162		148
Other		127		96		59
Total interest and dividend income		23,263		21,498		19,286
Interest Expense
Deposits		7,821		6,603		5,328
Borrowings		3,321		3,061		3,088
Total interest expense		11,142		9,664		8,416
Net Interest Income		12,121		11,834		10,870
Provision for Loan Losses		1,018		1,200		500
Net Interest Income After Provision for Loan Losses		11,103		10,634		10,370
Noninterest Income
Deposit account service charges and fees		1,766		1,423		889
Net gains on loan sales		214		322		593
Net realized gains on sales of available-for-sale securities		—		—		11
Other		858		764		747
Total noninterest income		2,838		2,509		2,240
Noninterest Expense
Salaries and employee benefits		4,590		4,325		4,190
Net occupancy and equipment expense		1,205		1,081		1,136
Computer service		425		428		371
Advertising		297		369		279
Other		2,076		1,908		1,578
Total noninterest expense		8,593		8,111		7,554
Income Before Income Tax		5,348		5,032		5,056
Provision for Income Taxes		1,998		1,764		1,792
Net Income	$	3,350	$	3,268	$	3,264
Basic Earnings Per Share	$	2.08	$	2.03	$	2.10
Diluted Earnings Per Share	$	2.07	$	2.02	$	2.03

See Notes to Consolidated Financial Statements

29

LSB Financial Corp.

Consolidated Statements of Stockholders’ Equity

Years Ended December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

													Accumulated
													Other
				Additional						Benefit			Comprehensive
	Common			Paid-in			Retained			Plans			Income
	Stock			Capital			Earnings			Compensation			(Loss)			Total
Balance, January 1, 2004		14			8,020			19,841			(239	)		91			27,727
Comprehensive income
Net income								3,264									3,264
Change in unrealized appreciation (depreciation) on available-for-sale securities, net of taxes														(97	)		(97	)
Total comprehensive income																	3,167
Dividends on common stock, $.53 per share								(801	)								(801	)
Purchase and retirement of stock (6,615 shares)					(168	)											(168	)
Stock options exercised (20,050 shares)					140												140
Tax benefit related to stock options exercised and RRP					60												60
Amortization of RRP expense											29						29
ESOP shares earned					183						56						239
Balance, December 31, 2004		14			8,235			22,304			(154	)		(6	)		30,393
Comprehensive income
Net income								3,268									3,268
Change in unrealized appreciation (depreciation) on available-for-sale securities, net of taxes														(84	)		(84	)
Total comprehensive income																	3,184
5% stock dividend on common stock		1			2,228			(2,229	)								—
Dividends on common stock, $.64 per share								(941	)								(941	)
Purchase and retirement of stock (32,087 shares)					(860	)											(860	)
Stock options exercised (89,484 shares)					329												329
Tax benefit related to stock options exercised and RRP					440												440
Amortization of RRP expense											29						29
ESOP shares earned					193						54						247
Balance, December 31, 2005		15			10,565			22,402			(71	)		(90	)		32,821
Reclassification of unearned compensation upon adoption of SFAS 123(R)					(22	)					22						—
Comprehensive income
Net income								3,350									3,350
Change in unrealized appreciation (depreciation) on available-for-sale securities, net of taxes														65			65
Total comprehensive income																	3,415
5% stock dividend on common stock		1			2,074			(2,075	)								—
Dividends on common stock, $.68 per share								(1,054	)								(1,054	)
Purchase and retirement of stock (24,500 shares)		(1	)		(682	)											(683	)
Stock options exercised (3,114 shares)					51												51
Tax benefit related to stock options exercised and RRP					2												2
Amortization of stock option compensation					25												25
Amortization of RRP expense					22												22
ESOP shares earned					192						49						241
Balance, December 31, 2006	$	15		$	12,227		$	22,623		$	0		$	(25	)	$	34,840

See Notes to Consolidated Financial Statements

30

LSB Financial Corp.

Consolidated Statements of Cash Flows

Years Ended December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

	2006			2005			2004
Operating Activities
Net income	$	3,350		$	3,268		$	3,264
Items not requiring (providing) cash
Depreciation		488			420			506
Provision for loan losses		1,018			1,200			500
Amortization of premiums and discounts on securities		44			42			205
Deferred income taxes		124			(503	)		270
Federal Home Loan Bank stock dividend		—			(87	)		(182	)
ESOP - shares earned		241			247			239
Gain on sale of loans		(134	)		(130	)		(339	)
Loans originated for sale		(16,953	)		(18,013	)		(28,904	)
Proceeds on loans sold		16,095			19,193			28,996
Compensation cost of stock options		25			—			—
Changes in
Interest receivable and other assets		(2,024	)		(561	)		(1,080	)
Interest payable and other liabilities		(179	)		603			92
Net cash provided by operating activities		2,095			5,679			3,567
Investing Activities
Purchases of available-for-sale securities		(8,112	)		(4,209	)		(2,684	)
Proceeds from maturities of available-for-sale securities		3,471			364			7,064
Proceeds from the sales of available-for-sale securities		---			—			1,366
Net change in loans		13,254			(14,294	)		(41,614	)
Purchase of premises and equipment		(275	)		(484	)		(156	)
Reclamation of Federal Home Loan Bank Stock		200			—			—
Purchase of life insurance policies		(2,500	)		—			—
Net cash provided by (used in) investing activities		6,038			(18,623	)		(36,024	)
Financing Activities
Net change in demand deposits, money market, NOW and savings accounts		(1,835	)		(6,110	)		5,776
Net change in certificates of deposit		(8,854	)		15,472			25,369
Proceeds from Federal Home Loan Bank advances		65,000			58,500			28,500
Repayment of Federal Home Loan Bank advances		(60,415	)		(53,275	)		(26,543	)
Proceeds from stock options exercised		51			329			140
Repurchase of stock		(683	)		(860	)		(168	)
Dividends paid		(1,054	)		(941	)		(801	)
Net cash provided by (used in) financing activities		(7,790	)		13,115			32,273
Increase (Decrease) in Cash and Cash Equivalents		343			171			(184	)
Cash and Cash Equivalents, Beginning of Year		9,384			9,213			9,397
Cash and Cash Equivalents, End of Year	$	9,727		$	9,384		$	9,213
Supplemental Cash Flows Information
Interest paid	$	11,067		$	9,744		$	8,426
Income taxes paid		2,036			1,172			1,781
Supplemental Non-Cash Disclosures
Capitalization of mortgage servicing rights	$	80		$	192		$	254

See Notes to Consolidated Financial Statements

31

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 1: Nature of Operations and Summary of Significant Accounting Policies

Nature of Operations

LSB Financial Corp. (“Company”) is a thrift holding company whose principal activity is the ownership and management of its wholly-owned subsidiary, Lafayette Savings Bank (the “Bank”). The Bank is primarily engaged in providing a full range of banking and financial services to individual and corporate customers in Tippecanoe and surrounding counties in Indiana. The Bank is subject to competition from other financial institutions. The Bank is subject to the regulation of certain federal and state agencies and undergoes periodic examinations by those regulatory authorities.

The Bank’s wholly-owned subsidiaries, LSB Service Corporation (LSBSC) and Lafayette Insurance and Investments, Inc. (LI&I) provide various financial services to its customers. A substantial portion of the loan portfolio is secured by single and multi-family residential mortgages.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company, the Bank, LSBSC and LI&I. All significant intercompany accounts and transactions have been eliminated in consolidation.

Use of Estimates

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

Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses, fair value of servicing rights and financial instruments. In connection with the determination of the allowance for loan losses, management obtains independent appraisals for significant properties.

Cash Equivalents

The Company considers all liquid investments with original maturities of three months or less to be cash equivalents.

32

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Securities

Available-for-sale securities, which include any security for which the Company has no immediate plan to sell but which may be sold in the future, are carried at fair value. Unrealized gains and losses are recorded, net of related income tax effects, in other comprehensive income.

Amortization of premiums and accretion of discounts are recorded as interest income from securities. Realized gains and losses are recorded as net security gains (losses). Gains and losses on sales of securities are determined on the specific-identification method.

Loans Held for Sale

Mortgage loans originated and intended for sale in the secondary market are carried at the lower of cost or fair value in the aggregate. Net unrealized losses, if any, are recognized through a valuation allowance by charges to income.

Loans

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoffs are reported at their outstanding principal balances adjusted for any charge-offs, the allowance for loan losses, any deferred fees or costs on originated loans and unamortized premiums or discounts on purchased loans. Interest income is reported on the interest method and includes amortization of net deferred loan fees and costs over the loan term. Generally, loans are placed on non-accrual status at ninety days past due and interest is considered a loss, unless the loan is well-secured. Accrued interest for loans placed on non-accrual status is reversed against interest income.

Allowance for Loan Losses

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

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

33

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

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

Large groups of smaller balance homogenous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential loans for impairment measurements.

Premises and Equipment

Depreciable assets are stated at cost less accumulated depreciation. Depreciation is charged to expense using the straight-line and accelerated methods over the estimated useful lives of the assets ranging from 3 to 39 years.

Federal Home Loan Bank Stock

Federal Home Loan Bank stock is a required investment for institutions that are members of the Federal Home Loan Bank system. The required investment in the common stock is based on a predetermined formula.

Foreclosed Assets Held for Sale

Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses from operations and changes in the valuation allowance are included in net income or expense from foreclosed assets.

34

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Servicing Rights

Servicing rights on originated loans that have been sold are capitalized by allocating the total cost of the mortgage loans between the mortgage servicing rights and the loans based on their relative fair values. Capitalized servicing rights are amortized in proportion to and over the period of estimated servicing revenues. Impairment of mortgage-servicing rights is assessed based on the fair value of those rights. Fair values are estimated using discounted cash flows based on a current market interest rate. For purposes of measuring impairment, the rights are stratified based on the predominant risk characteristics of the underlying loans. The predominant characteristic currently used for stratification is type of loan. The amount of impairment recognized is the amount by which the capitalized mortgage servicing rights for a stratum exceed their fair value and is recorded through a valuation allowance.

Stock Options

At December 31, 2006, the Company has a stock-based employee compensation plan, which is described more fully in Note 13. Prior to 2006, the Company accounted for this plan under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. Accordingly, in 2005, no stock-based employee compensation cost is reflected in net income, as all options granted under this plan had an exercise price equal to the market value of the underlying common stock at the grant date.

Effective January 1, 2006, the Company adopted the fair value recognition provisions of Statement of Financial Accounting Standards (SFAS) No. 123R, Share-Based Payment. The Company selected the modified prospective application. Accordingly, after January 1, 2006, the Company began expensing the fair value of stock options granted, modified, repurchased or cancelled.

	Year Ended December 31
	2005			2004
Net income, as reported	$	3,268		$	3,264
Less: Total stock-based employee compensation cost determined under the fair value based method, net of income taxes		(44	)		(25	)
Pro forma net income	$	3,224		$	3,239
Earnings per share:
Basic - as reported	$	2.03		$	2.10
Basic - pro forma		2.00			2.09
Diluted - as reported		2.02			2.03
Diluted - pro forma		1.99			2.01

35

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Income Taxes

Deferred tax assets and liabilities are recognized for the tax effects of differences between the financial statement and tax bases of assets and liabilities. A valuation allowance is established to reduce deferred tax assets if it is more likely than not that a deferred tax asset will not be realized. The Company files consolidated income tax returns with its subsidiary.

Earnings Per Share

Earnings per share have been computed based upon the weighted-average common shares outstanding during each year. Unearned ESOP shares and RRP shares which have not vested have been excluded from the computation of average shares outstanding. During 2006 and 2005, the Company paid a five percent stock dividend. Accordingly, all share and per share data have been restated to reflect the stock dividend for all years presented.

Operating Segments

While the chief decision-makers monitor the revenue streams of the various products and services, the identifiable segments are not material and operations are managed and financial performance is evaluated on a Company-wide basis. Accordingly, all of the financial service operations are considered by management to be aggregated in one reportable operating segment.

Reclassifications

Certain reclassifications have been made to the 2005 and 2004 financial statements to conform to the 2006 financial statement presentation. These reclassifications had no effect on net income.

Note 2: Restriction on Cash and Due From Banks

The Bank is required to maintain reserve funds in cash and/or on deposit with the Federal Reserve Bank. The reserve required at December 31, 2006 was $1,006.

36

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 3: Securities

The amortized cost and approximate fair values of securities are as follows:

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Approximate Fair Value
Available-for-sale Securities:
December 31, 2006
U. S. Government sponsored agencies	$	3,172	$	2	$	(15	)	$	3,159
Mortgage-backed securities		5,912		24		(7	)		5,929
State and political subdivision		7,273		9		(54	)		7,228
	$	16,357	$	35	$	(76	)	$	16,316
December 31, 2005
U. S. Government sponsored agencies	$	4,544	$	—	$	(64	)	$	4,480
Mortgage-backed securities		786		1		(17	)		770
State and political subdivision		6,431		4		(74	)		6,361
	$	11,761	$	5	$	(155	)	$	11,611

The amortized cost and fair value of available-for-sale securities at December 31, 2006, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

	Amortized Cost		Fair Value
Within one year	$	2,959	$	2,940
One to five years		3,863		3,819
Five to ten years		2,250		2,256
After ten years		1,373		1,372
		10,445		10,387
Mortgage-backed securities		5,912		5,929
Totals	$	16,357	$	16,316

37

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Gross gains of $0, $0 and $11 resulting from sales of available-for-sale securities were realized for 2006, 2005 and 2004, respectively, less tax expense of $4 in 2004.

Certain investments in debt securities are reported in the financial statements at an amount less than their historical cost. Total fair value of these investments at December 31, 2006 and 2005 was $7,294 and $10,204, which is approximately 45% and 88% of the Company’s available-for-sale investment portfolio. These declines primarily resulted from recent increases in market interest rates.

Based on evaluation of available evidence, including recent changes in market interest rates, credit rating information and information obtained from regulatory filings, management believes the declines in fair value for these securities are temporary.

Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified.

The following table shows our investments’ gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at December 31, 2006:

	Less than 12 Months					12 Months or More					Total
Description of Securities	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
U. S. Government sponsored agencies	$	—	$	—		$	2,159	$	(15	)	$	2,159	$	(15	)
Mortgage-backed securities		—		—			450		(7	)		450		(7	)
State and political subdivisions		1,284		(5	)		3,401		(49	)		4,685		(54	)
Total temporarily impaired securities	$	1,284	$	(5	)	$	6,010	$	(71	)	$	7,294	$	(76	)

The following table shows our investments’ gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at December 31, 2005:

	Less than 12 Months					12 Months or More					Total
Description of Securities	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
U. S. Government sponsored agencies	$	2,166	$	(14	)	$	2,314	$	(50	)	$	4,480	$	(64	)
Mortgage-backed securities		—		—			611		(17	)		611		(17	)
State and political subdivisions		3,019		(23	)		2,094		(51	)		5,113		(74	)
Total temporarily impaired securities	$	5,185	$	(37	)	$	5,019	$	(118	)	$	10,204	$	(155	)

38

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 4: Loans and Allowance for Loan Losses

Categories of loans at December 31, include:

	2006			2005
Real Estate
One-to-four family residential	$	141,052		$	136,981
Multi-family residential		30,160			40,095
Commercial real estate		74,710			83,834
Construction and land development		37,695			36,096
Commercial		20,935			20,180
Consumer and other		3,253			2,834
Home equity lines of credit		16,276			19,786
Total loans		324,081			339,806
Less
Net deferred loan fees, premiums and discounts		(445	)		(475	)
Undisbursed portion of loans		(4,167	)		(5,508	)
Allowance for loan losses		(2,770	)		(2,852	)
Net loans	$	316,699		$	330,971

Activity in the allowance for loan losses was as follows:

	2006			2005			2004
Balance, beginning of year	$	2,852		$	2,095		$	3,098
Provision charged to expense		1,018			1,200			500
Losses charged off, net of recoveries of $49 for 2006, $49 for 2005 and $17 for 2004		(1,100	)		(443	)		(1,503	)
Balance, end of year	$	2,770		$	2,852		$	2,095

Impaired loans totaled $6,829 and $5,864 at December 31, 2006 and 2005, respectively. An allowance for loan losses of $387 and $368 relates to impaired loans of $6,682 and $5,864 at December 31, 2006 and 2005, respectively.

Interest of $254, $169 and $140 was recognized on average impaired loans of $5,486, $3,268 and $4,454 for 2006, 2005 and 2004, respectively. Interest of $224, $25 and $99 was recognized on impaired loans on a cash basis during 2006, 2005 and 2004, respectively.

At December 31, 2006 and 2005, accruing loans delinquent 90 days or more totaled $147 and $127, respectively. Non-accruing loans at December 31, 2006 and 2005 were $7,364 and $8,432, respectively.

39

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 5: Premises and Equipment

Major classifications of premises and equipment, stated at cost, are as follows:

	2006			2005
Land	$	1,326		$	1,326
Buildings and improvements		6,367			6,433
Equipment		3,408			3,068
		11,101			10,827
Less accumulated depreciation		(4,501	)		(4,014	)
Net premises and equipment	$	6,600		$	6,813

Note 6: Loan Servicing

Mortgage loans serviced for others are not included in the accompanying consolidated balance sheets. The unpaid principal balances of mortgage loans serviced for others was $148,771 and $157,551 at December 31, 2006 and 2005, respectively.

The aggregate fair value of capitalized mortgage servicing rights at December 31, 2006, 2005 and 2004 approximated the carrying value. Comparable market values and a valuation model that calculates the present value of future cash flows were used to estimate fair value. For purposes of measuring impairment, risk characteristics including product type, investor type, and interest rates, were used to stratify the originated mortgage servicing rights.

	2006			2005			2004
Mortgage servicing rights
Balance, beginning of year	$	1,323		$	1,312		$	1,373
Additions		80			192			254
Direct write-downs		—			—			(50	)
Amortization of servicing rights		(142	)		(181	)		(265	)
Balance, end of year	$	1,261		$	1,323		$	1,312

Activity in the valuation allowance for mortgage servicing rights was as follows:

	2006		2005		2004
Balance, beginning of year	$	—	$	—	$	153
Additions		—		—		—
Reductions		—		—		(153	)
Balance, end of year	$	—	$	—	$	—

40

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 7: Deposits

Deposits at year-end are summarized as follows:

	2006					2005
	Amount		Percent			Amount		Percent
Non interest-bearing deposits	$	18,358		7.19	%	$	18,401		6.92	%
NOW accounts		38,153		14.94			40,076		15.07
Savings accounts		18,764		7.35			18,633		7.00
		75,275		29.48			77,110		28.99
Certificates of deposit
0.00% to 1.99%		642		0.25			4,727		1.78
2.00% to 3.99%		90,877		35.60			125,744		47.27
4.00% to 5.99%		88,493		34.66			58,395		21.95
6.00% to 7.99%		17		.01			17		.01
		180,029		70.52			188,883		71.01
	$	255,304		100.00	%	$	265,993		100.00	%

At December 31, 2006, scheduled maturities of certificates of deposit are as follows:

2007	$	131,232
2008		35,368
2009		8,949
2010		3,990
Thereafter		490
	$	180,029

Time deposits of $100 or more, including brokered deposits, were $101,811 and $106,159 at December 31, 2006 and 2005.

Deposits from related parties held by the Company at December 31, 2006 and 2005 totaled $1,535 and $1,601, respectively.

Total brokered deposits totaled approximately $65,617 and $67,138 at December 31, 2006 and 2005, respectively.

41

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 8: Federal Home Loan Bank Advances

Federal Home Loan Bank advances totaled $76,618 and $72,033 at December 31, 2006 and 2005. At December 31, 2006, the advances range in interest rates from 3.37% to 6.73% and are secured by mortgage loans totaling $129,808.

Aggregate annual maturities of the advance at December 31, 2006, are:

2007	$	32,862
2008		15,256
2009		10,500
2010		15,500
Thereafter		2,500
	$	76,618

Advances totaling $18,500 may, at certain dates, be converted to adjustable rate advances by the FHLB. If converted, the advances may be prepaid without penalty.

Note 9: Income Taxes

The provision for income taxes includes these components:

	2006		2005			2004
Taxes currently payable	$	1,874	$	2,267		$	1,522
Deferred income taxes		124		(503	)		270
Income tax expense	$	1,998	$	1,764		$	1,792

A reconciliation of income tax expense at the statutory rate to the Company’s actual income tax expense is shown below:

	2006			2005			2004
Computed at the statutory rate (34%)	$	1,818		$	1,712		$	1,719
Increase (decrease) resulting from
Tax exempt interest		(60	)		(50	)		(46	)
Tax credits		—			(24	)		(42	)
State income taxes		214			214			246
ESOP expense		65			66			62
Other		(39	)		(154	)		(147	)
Actual tax expense	$	1,998		$	1,764		$	1,792

42

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

The tax effects of temporary differences related to deferred taxes shown on the balance sheets were:

	2006		2005
Deferred tax assets
Allowance for loan losses	$	1,076	$	1,134
Non-accrual loan income		92		270
Unrealized loss on available-for-sale securities		17		60
Deferred compensation and benefits		113		100
		1,298		1,564
Deferred tax liabilities
Depreciation		364		399
Mortgage servicing rights		531		557
FHLB stock dividends		164		172
Other		141		171
		1,200		1,299
Net deferred tax asset	$	98	$	265

Retained earnings at December 31, 2006 and 2005, include approximately $1,861 for which no deferred federal income tax liability has been recognized. This amount represents an allocation of income to bad debt deductions for tax purposes only. Reduction of amounts so allocated for purposes other than tax bad debt losses or adjustments arising from carryback of net operating losses would create income for tax purposes only, which would be subject to the then-current corporate income tax rate. The deferred income tax liabilities on the preceding amounts that would have been recorded if they were expected to reverse into taxable income in the foreseeable future were approximately $737 at December 31, 2006 and 2005.

Note 10: Other Comprehensive Income (Loss)

Other comprehensive loss components and related taxes were as follows:

	2006		2005			2004
Unrealized losses on available-for-sale securities	$	108	$	(139	)	$	(157	)
Less: reclassification adjustment for gain realized in the income state, net of tax expense of $0, $0 and $4, respectively		—		—			7
Net unrealized losses on available-for-sale securities		108		(139	)		(164	)
Tax benefit		43		(55	)		(67	)
Other comprehensive loss	$	65	$	(84	)	$	(97	)

43

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 11: Regulatory Matters

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

Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below). Management believes, as of December 31, 2006 and 2005, that the Bank meets all capital adequacy requirements to which it is subject.

As of December 31, 2006, the most recent notification from the Office of Thrift Supervision categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the Bank’s category.

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

	Actual					For Capital Adequacy Purposes					To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
As of December 31, 2006
Total risk-based capital (to risk-weighted assets)	$	36,533		13.0	%	$	22,532		8.0	%	$	28,164		10.0	%
Tier I capital (to risk-weighted assets)		34,037		12.1			11,266		4.0			16,899		6.0
Tier I capital (to adjusted total assets)		34,037		9.2			11,055		3.0			18,425		5.0
Tier I capital (to adjusted tangible assets)		34,037		9.2			7,370		2.0			N/A		N/A
Tangible capital (to adjusted tangible assets)		34,037		9.2			5,527		1.5			N/A		N/A
As of December 31, 2005
Total risk-based capital (to risk-weighted assets)	$	34,001		11.7	%	$	23,187		8.0	%	$	28,984		10.0	%
Tier I capital (to risk-weighted assets)		31,306		10.8			11,594		4.0			17,390		6.0
Tier I capital (to adjusted total assets)		31,306		8.4			11,163		3.0			18,606		5.0
Tier I capital (to adjusted tangible assets)		31,306		8.4			7,442		2.0			N/A		N/A
Tangible capital (to adjusted tangible assets)		31,306		8.4			5,582		1.5			N/A		N/A

44

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

The Bank is subject to certain restrictions on the amount of dividends that it may declare without prior regulatory approval. At December 31, 2006, approximately $993 of retained earnings were available for dividend declaration without prior regulatory approval.

LSB converted from a mutual to a stock institution, and a “liquidation account” was established at $8,066, which was net worth reported in the conversion prospectus. Eligible depositors who have maintained their accounts, less annual reduction to the extent they have reduced their deposits, would receive a distribution from this account if the Bank liquidated. Dividends may not reduce shareholders’ equity below the required liquidation account balance.

Note 12: Employee Benefits

The Bank maintains an ESOP which purchased 8% of the stock offered in the conversion using funds provided by an $824 loan from LSB which will be repaid by contributions to the ESOP by the Bank in the future. Pursuant to the ESOP, the shares are to be allocated to participants annually, over a 12-year period, based upon employee compensation levels during the year. The number of shares earned each year is determined by the ESOP loan agreement. Shares no longer required to be held as collateral for that loan are committed to be released and are earned by participants. Dividends paid on allocated shares are charged to retained earnings and dividends on unallocated shares are used to reduce the debt.

ESOP expense for the years ended December 31, 2006, 2005 and 2004 was $241, $247 and $239, respectively.

	2006		2005		2004
Allocated shares		97,303		97,991		88,081
Shares released for allocation		9,320		10,513		10,225
Unearned shares		—		9,320		19,858
Total ESOP shares		106,623		117,824		118,164
Fair value of unearned shares at December 31	$	—	$	245	$	468

The LSB Recognition and Retention Plan (RRP) has awarded stock to certain officers and directors of the Company. Stock awarded under the RRP is restricted as to certain rights at the time of issuance. These restrictions are removed over a 5-year period. If an employee leaves LSB prior to vesting, the remaining restricted shares are returned to the Company. During 2006 and 2005, no shares were forfeited by RRP participants. The cost of awarded shares is amortizedover the vesting period. Expense recorded for the RRP totaled $22, $29 and $29 for 2006, 2005 and 2004.

45

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 13: Stock Option Plan

The Company’s Incentive Stock Option Plan (the Plan), which is shareholder approved, permits the grant of stock options to its directors, officers and other key employees. The Plan authorized the grant of options for up to 238,050 shares of the Company’s common stock, which generally vest at a rate of 20 percent a year and have a 10-year contractual term. The Company believes that such awards better align the interests of its directors and employees with those of its shareholders. Option awards are generally granted with an exercise price equal to the market price of the Company’s stock at the date of grant. Certain option awards provide for accelerated vesting if there is a change in control (as defined in the Plans). The Company generally issues shares from its authorized shares to satisfy option exercises.

The fair value of each option award is estimated on the date of grant using a binomial option valuation model that uses the assumptions noted in the following table. Expected volatility is based on historical volatility of the Company’s stock and other factors. The Company uses historical data to estimate option exercise and employee termination within the valuation model. The expected term of options granted is derived from the output of the option valuation model and represents the period of time that options granted are expected to be outstanding. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant.

	2005			2004
Weighted-average volatility		.19	%		.20	%
Expected dividends		2.45	%		2.52	%
Expected term (in years)		7-9			7-9
Risk-free rate		6.46	%		5.03	%

A summary of option activity under the Plan as of December 31, 2006, and changes during the years then ended, is presented below:

	2006
	Shares			Weighted-Average Exercise Price		Weighted-Average Remaining Contractual Term		Aggregate Intrinsic Value
Outstanding, beginning of year		47,643		$	17.83
Granted		—			—
Exercised		(3,114	)		16.37
Forfeited or expired		(955	)		23.24
Outstanding, end of year		43,575		$	18.34		5.78 years	$	269
Exercisable, end of year		27,494		$	15.84		4.69 years	$	238

46

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

The weighted-average grant-date fair value of options granted during the years 2006, 2005 and 2004 was $0, $6.15 and $4.79, respectively. The total intrinsic value of options exercised during the years ended December 31, 2006, 2005 and 2004, was $33, $1,500 and $325, respectively.

As of December 31, 2006, there was $24 of total unrecognized compensation cost related to nonvested share-based compensation arrangements granted under the Plan. That cost is expected to be recognized over a weighted-average period of 3 years.

During 2006, the Company recognized $25 of share-based compensation expense and $2 of tax benefit related to the share based compensation expense.

Note 14: Earnings Per Share

Earnings per share (EPS) were computed as follows:

	Year Ended December 31, 2006
	Income		Weighted- Average Shares		Per Share Amount
Net income	$	3,350		1,607,315
Basic earnings per share
Income available to common stockholders					$	2.08
Effect of dilutive securities
Stock options				11,317
Diluted earnings per share
Income available to common stockholders and assumed conversions	$	3,350		1,618,632	$	2.07

There were no options outstanding at December 31, 2006 that were considered anti-dilutive.

47

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

	Year Ended December 31, 2005
	Income		Weighted- Average Shares		Per Share Amount
Net income	$	3,268		1,609,573
Basic earnings per share
Income available to common stockholders					$	2.03
Effect of dilutive securities
Stock options				12,470
Diluted earnings per share
Income available to common stockholders and assumed conversions	$	3,268		1,622,043	$	2.02

There were no options outstanding at December 31, 2005 that were considered anti-dilutive.

	Year Ended December 31, 2004
	Income		Weighted- Average Shares		Per Share Amount
Net income	$	3,264		1,554,257
Basic earnings per share
Income available to common stockholders					$	2.10
Effect of dilutive securities
Stock options				56,024
Diluted earnings per share
Income available to common stockholders and assumed conversions	$	3,264		1,610,281	$	2.03

There were no options outstanding at December 31, 2004 that were considered anti-dilutive.

48

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 15: Disclosures About Fair Value of Financial Instruments

The following table presents estimated fair values of the Company’s financial instruments. The fair values of certain of these instruments were calculated by discounting expected cash flows, which involves significant judgments by management and uncertainties. Fair value is the estimated amount at which financial assets or liabilities could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Because no market exists for certain of these financial instruments and because management does not intend to sell these financial instruments, the Company does not know whether the fair values shown below represent values at which the respective financial instruments could be sold individually or in the aggregate.

	December 31, 2006				December 31, 2005
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets
Cash and cash equivalents	$	9,727	$	9,727	$	9,384	$	9,384
Available-for-sale securities		16,316		16,316		11,611		11,611
Loans including loans held for sale, net of allowance for loan losses		317,691		318,597		330,971		330,643
Federal Home Loan Bank stock		3,997		3,997		4,197		4,197
Interest receivable		1,834		1,834		1,663		1,663
Financial liabilities
Deposits		255,304		253,863		265,993		263,443
Federal Home Loan Bank advances		76,618		76,485		72,033		72,077
Interest payable		498		498		416		416

The following methods and assumptions were used to estimate the fair value of each class of financial instruments.

Cash and Cash Equivalents, Interest-Bearing Deposits and Federal Home Loan Bank Stock

The carrying amount approximates fair value.

Securities

Fair values equal quoted market prices, if available. If quoted market prices are not available, fair value is estimated based on quoted market prices of similar securities.

49

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Loans

The fair value of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities. Loans with similar characteristics were aggregated for purposes of the calculations.

Deposits

Deposits include demand deposits, savings accounts, NOW accounts and certain money market deposits. The carrying amount approximates fair value. The fair value of fixed-maturity time deposits is estimated using a discounted cash flow calculation that applies the rates currently offered for deposits of similar remaining maturities.

Interest Receivable and Interest Payable

The carrying amount approximates fair value.

Federal Home Loan Bank Advances

Rates currently available to the Company for debt with similar terms and remaining maturities are used to estimate the fair value of existing debt.

Commitments to Originate Loans, Letters of Credit and Lines of Credit

Loan commitments and letters-of-credit generally have short-term, variable rate features and contain clauses which limit the Bank’s exposure to changes in customer credit quality. Accordingly, their carrying values, which are immaterial at the respective balance sheet dates, are reasonable estimates of fair value.

Note 16: Commitments and Contingent Liabilities

Some financial instruments, such as loan commitments, credit lines, letters of credit, and overdraft protection, are issued to meet customer financing needs. These are agreements to provide credit or to support the credit of others, as long as conditions established in the contract are met, and usually have expiration dates. Commitments may expire without being used. Off-balance-sheet risk to credit loss exists up to the face amount of these instruments, although material losses are not anticipated. The same credit policies are used to make such commitments as are used for loans, including obtaining collateral at exercise of the commitment.

50

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

At year-end, these financial instruments are summarized as follows:

	2006		2005
Commitments to extend credit
Fixed rate	$	2,068	$	7,891
Variable rate		2,067		4,058
Unused portions of lines of credit		35,869		46,264
Letters of credit		566		2,561

The commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established under the contract. Generally, such commitments are for no more than 60 days. At December 31, 2006, the fixed rate loan commitments were at rates ranging from 5.63% to 6.63%. Unused portions of lines of credit include balances available on commercial and home equity loans and are variable rate.

Note 17: Condensed Financial Information (Parent Company Only)

Presented below is condensed financial information as to financial position, results of operations and cash flows of the Company:

Condensed Balance Sheets
	December 31
	2006		2005
Assets
Cash	$	46	$	646
Securities available-for-sale		195		205
Loan to ESOP		—		69
Investment in the Bank		34,012		31,216
Other assets		607		731
Total assets	$	34,860	$	32,867
Liabilities	$	20	$	46
Stockholders' Equity		34,840		32,821
Total liabilities and stockholders' equity	$	34,860	$	32,867

51

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Condensed Statements of Income
	Year Ending December 31
	2006			2005			2004
Income
Dividends from the Bank	$	1,007		$	2,158		$	675
Other income		12			12			13
Total income		1,019			2,170			688
Expenses		(221	)		(224	)		(202	)
Income Before Income Tax and Equity in Undistributed Income of Subsidiaries		798			1,946			486
Income Tax Benefit		108			89			79
Income Before Equity in Undistributed Income of Subsidiaries		906			2,035			565
Equity in Undistributed Income of Subsidiaries		2,444			1,233			2,699
Net Income	$	3,350		$	3,268		$	3,264

Condensed Statements of Cash Flows
	Year Ending December 31
	2006			2005			2004
Operating Activities
Net income	$	3,350		$	3,268		$	3,264
Equity in undistributed income of the Bank		(2,444	)		(1,233	)		(2,699	)
Change in other assets		98			(42	)		146
Net cash provided by operating activities		1,004			1,993			711
Investing Activities
Proceeds from paydowns of securities		10			9			8
Proceeds from ESOP loan repayment		69			68			69
Net cash provided by investing activities		79			77			77
Financing Activities
Dividends paid		(1,054	)		(941	)		(801	)
Stock options exercised		53			329			140
Repurchase of stock		(682	)		(860	)		(168	)
Net cash used in financing activities		(1,683	)		(1,472	)		(829	)
Net Change in Cash		(600	)		598			(41	)
Cash at Beginning of Year		646			48			89
Cash at End of Year	$	46		$	646		$	48

52

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 18: Recent Accounting Pronouncements

Future Accounting Matters

In March 2006, the FASB issued Statement of Financial Accounting Standards No. 156 (SFAS No. 156), Accounting for Servicing of Financial Assets, an amendment of FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, which requires that all separately recognized servicing assets and servicing liabilities be initially measured at fair value, if practicable and permits the entities to elect either fair value measurement with changes in fair value reflected in earnings or the amortization and impairment requirements of SFAS No. 140 for subsequent measurement. The subsequent measurement of separately recognized servicing assets and servicing liabilities at fair value eliminates the necessity for entities that manage the risks inherent in servicing assets and servicing liabilities with derivatives to qualify for hedge accounting treatment and eliminates the characterization of declines in fair value as impairments or direct write−downs. SFAS No. 156 is effective for the Company beginning January 1, 2007. We have evaluated the requirements of SFAS No. 156 and determined that it will not have a material effect on our financial condition or results of operations.

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting standards, and expands disclosures about fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after

November 15, 2007, and interim periods within those fiscal years. We do not expect that the adoption of SFAS No. 157 will have a material impact on our financial condition or results of operations.

In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of SFAS No. 109, Accounting for Income Taxes (Interpretation No. 48). Interpretation No. 48 clarifies the accounting for uncertainty in income taxes in financial statements and prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of a tax position taken or expected to be taken. It also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. Interpretation No. 48 is effective for the Company beginning January 1, 2007. We have evaluated the requirements of Interpretation No. 48 and determined that it will not have a material effect on our financial condition or results of operations.

53

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

In September 2006, the SEC Staff issued Staff Accounting Bulletin (“SAB”) No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements, which addresses how the effects of prior year uncorrected misstatements should be considered when quantifying misstatements in current year financial statements. SAB No. 108 will require registrants to quantify misstatements using both the balance sheet and income−statement approaches and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. When the effect of initial adoption is determined to be material, SAB No. 108 allows registrants to record that effect as a cumulative effect adjustment to beginning retained earnings. The requirements are effective for the Company beginning January 1, 2007. We have evaluated the requirements of SAB No. 108 and determined that it will not have a material effect on our financial condition or results of operations.

In September 2006, the Emerging Issues Task Force Issue 06−4 (EITF 06-4), Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split−Dollar Life Insurance Arrangements, was ratified. EITF 06-4 addresses accounting for separate agreements which split life insurance policy benefits between an employer and employee. The Issue requires the employer to recognize a liability for future benefits payable to the employee under these agreements. The effects of applying EITF 06-4 must be recognized through either a change in accounting principle through an adjustment to equity or through the retrospective application to all prior periods. For calendar year companies, EITF 06-4 is effective beginning January 1, 2008. Early adoption is permitted as of January 1, 2007. We do not expect the adoption of EITF 06-4 to have a material effect on our consolidated financial statements.

On February 15, 2007, the FASB issued its Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities—Including an Amendment of FASB Statement No. 115. FAS 159 permits entities to elect to report most financial assets and liabilities at their fair value with changes in fair value included in net income. The fair value option may be applied on an instrument-by-instrument or instrument class-by-class basis. The option is not available for deposits, withdrawable on demand, pension plan assets and obligations, leases, instruments classified as stockholders’ equity, investments in consolidated subsidiaries and variable interest entities and certain insurance policies. The new standard is effective at the beginning of the Company’s fiscal year beginning January 1, 2008, and early application may be elected in certain circumstances. The Company expects to first apply the new standard at the beginning of its 2008 fiscal year. The Company is currently evaluating and has not yet determined the impact the new standard is expected to have on its financial position, results of operations or cash flows.

54

LSB Financial Corp.

Notes to Consolidated Financial Statements

December 31, 2006, 2005 and 2004

(Dollars in Thousands, Except Per Share Data)

Note 19: Quarterly Results of Operations (Unaudited)

Quarter Ending	Interest Income		Interest Expense		Net Interest Income		Provision for Loan Losses		Net Income		Basic Earnings Per Share		Diluted Earnings Per Share
2006
March	$	5,786	$	2,665	$	3,121	$	150	$	908		0.56		0.56
June		5,724		2,704		3,020		250		828		0.51		0.50
September		5,924		2,832		3,092		318		867		0.53		0.53
December		5,829		2,941		2,888		300		747		0.47		0.46
	$	23,263	$	11,142	$	12,121	$	1,018	$	3,350
2005
March	$	5,122	$	2,245	$	2,877	$	175	$	767		0.49		0.48
June		5,299		2,348		2,951		125		893		0.55		0.54
September		5,469		2,467		3,002		175		934		0.58		0.57
December		5,608		2,604		3,004		725		674		0.42		0.41
	$	21,498	$	9,664	$	11,834	$	1,200	$	3,268

55

LSBFINANCIALCORP.

and

LafayetteSavingsBank, FSB

Directors and ExecutiveOfficers

Directors

Randolph F. Williams President and Chief Executive Officer, LSB Financial and Lafayette Savings   Mariellen M. Neudeck Chairman of the Board, LSB Financial and Lafayette Savings Vice President, Greater Lafayette Health Services, Inc., retired   James A. Andrew President and Owner, Henry Poor Lumber Co. and Homeworks   Kenneth P. Burns Executive Vice President and Treasurer, Purdue University, retired   Mary Jo David Vice President, Chief Financial Officer and Secretary-Treasurer of LSB Financial and Lafayette Savings   Harry A. Dunwoody Senior Vice President of LSB Financial and Lafayette Savings   Philip W. Kemmer Transportation Supervisor, Lafayette School Corp., retired   Thomas R. McCully Partner, Stuart & Branigin   Peter Neisel Owner, President and CEO, Schwab Corp., retired   Jeffrey A. Poxon SeniorVice President, Investments and Chief Investment Officer, The Lafayette Life Insurance Company    

Executive Officers

Randolph F. Williams President and Chief Executive Officer   Harry A. Dunwoody Senior Vice President Mary Jo David Vice President, Chief Financial Officer and Secretary-Treasurer  

56

DIRECTORS AND OFFICERS

James A. Andrew. Mr. Andrew is President and owner of Henry Poor Lumber Co. and Homeworks, retailers of building materials. He is also involved in residential and commercial land development.

Kenneth P. Burns. Mr. Burns served as Executive Vice President and the Treasurer of Purdue University prior to his retirement on August 31, 2005.

Philip W. Kemmer. Mr. Kemmer is currently employed by Greater Lafayette Public Transportation Corporation. Formerly he served as Transportation Supervisor for the Lafayette School Corp. until his retirement from that position in July 2003. Prior to joining the Lafayette School Corp., Mr. Kemmer was the business administrator for the Assembly of God Church from July 1995 through December 1999.

Randolph F. Williams. Mr. Williams is President and Chief Executive Officer of LSB Financial and its wholly-owned subsidiary, Lafayette Savings. Mr. Williams was appointed to the Board of Directors of LSB Financial in September 2001. He was appointed President of LSB Financial in September 2001 and Chief Executive Officer in January 2002. Mr. Williams served as President and Chief Operating Officer of Delaware Place Bank in Chicago, Illinois from 1996 until joining LSB Financial. Mr. Williams has over 25 years of banking-related experience.

Mary Jo David. Ms. David is Vice President, Chief Financial Officer and Secretary of LSB Financial and Lafayette Savings. She has held these positions with LSB Financial since its formation in 1994 and with Lafayette Savings since 1992 and was elected a Director of LSB Financial and Lafayette Savings in 1999.

Harry A. Dunwoody. Mr. Dunwoody has served as Senior Vice President of Lafayette Savings since 1989 and was elected as a Director of the Bank in 1993. He has held the same positions with LSB Financial since its formation in 1994. He is responsible for residential and consumer lending originations for the bank.

Thomas R. McCully. Mr. McCully is a partner in the law firm of Stuart & Branigin LLP and has worked there since 1966.

Mariellen M. Neudeck. Ms. Neudeck, retired as of June 30, 2001, was a Vice President of Greater Lafayette Health Services, Inc. where she was responsible for 18 professional services departments operating in two hospitals. She was elected as Chairman of the Board of Lafayette Savings in 1993 and of LSB Financial in 1994.

Peter Neisel. Mr. Neisel, retired as of December 31, 2002, was the Owner, President and Chief Executive Officer of Schwab Corp., a manufacturer and seller of office equipment.

Jeffrey A. Poxon. Mr. Poxon is the Senior Vice President-Investments and Chief Investment Officer of The Lafayette Life Insurance Company.

57

SHAREHOLDER INFORMATION

Corporate Office   101 Main Street Lafayette, Indiana 47902     Branch Offices   1020A Sagamore Park Centre West Lafayette, IN 47906   1501 Sagamore Parkway North Lafayette, Indiana 47905   833 Twyckenham Boulevard Lafayette, Indiana 47905   3510 S.R. 38 E Lafayette, Indiana 47905   Independent Auditors   BKD, LLP 201 N. Illinois Street, Suite 700 P.O. Box 44998 Indianapolis, Indiana 46244-0998     Transfer Agent   Computershare Investor Services 350 Indiana Street, Suite 800 Golden, Colorado 80401     Local Counsel   Stuart & Branigin LLP 300 Main Street, Suite 800 Lafayette, Indiana 47902     Special Counsel   Barnes & Thornburg LLP 11 South Meridian Street Indianapolis, Indiana 46204  

Form 10-K Report

A copy of LSB Financial’s Annual Report on Form 10-K without exhibits for the fiscal year ended December 31, 2006, as filed with the SEC, will be furnished without charge to shareholders of LSB Financial upon written request to the Secretary, LSB Financial Corp., 101 Main Street, P.O. Box 1628, Lafayette, Indiana 47902, or by calling (765) 742-1064. Copies of the exhibits filed with the Form 10-K may be obtained by shareholders at a charge of $0.25 per page.

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Common Stock

As of February 23, 2007, there were approximately 1059 holders of record of LSB Financial Common Stock and 1,603,209 shares of issued and outstanding common stock. LSB Financial’s stock is quoted on the Nasdaq National Stock Market under the symbol “LSBI.”

The following table sets forth, for the periods shown, the high and low sale price of the common stock and cash dividends per share declared. All amounts have been adjusted to reflect stock dividends and stock splits declared by the Company to date. The last stock dividend was declared in 2006.

Quarter Ended	High(1)	Low(1)	Cash Dividends Declared
March 31, 2005	25.26	23.22	0.15
June 30, 2005	25.17	23.13	0.15
September 30, 2005	27.16	24.72	0.15
December 31, 2005	26.71	25.39	0.15
March 31, 2006	29.02	27.14	0.16
June 30, 2006	27.63	25.48	0.16
September 30, 2006	25.95	25.24	0.16
December 31, 2006	26.12	24.50	0.16

(1) High and low sales prices of LSB Financial Common Stock have been adjusted to reflect a 5% stock dividend payable to shareholders of record on October 6, 2006.

Dividend payment decisions are made with consideration of a variety of factors including earnings, financial condition, market considerations and regulatory restrictions. Restrictions on dividend payments are described in Note 11 of the Notes to Consolidated Financial Statements included in this Annual Report.

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Performance Graph

The following graph shows the performance of the Company’s common stock since December 31, 2001, in comparison to the NASDAQ Composite Index, the NASDAQ Bank Index and the SNL Bank and Thrift Index.

* $100 invested on 12/31/01 in stock or index, including reinvestment of dividends.

Fiscal Year Ending December 31

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EX-21

EXHIBIT 21

SUBSIDIARIES OF THE REGISTRANT

Parent	Subsidiary	Jurisdiction of Incorporation of Subsidiary
LSB Financial Corp.	Lafayette Savings Bank, FSB	Federal
Lafayette Savings Bank, FSB	L.S.B. Service Corporation	Indiana
Lafayette Savings Bank, FSB	Lafayette Insurance and Investments, Inc.	Indiana

The financial statements of LSB Financial Corp. are consolidated with those of its subsidiaries.

EX-23

EXHIBIT 23

Consent of Independent Registered Public Accounting Firm

We consent to the incorporation by reference in the Registration Statements on Form S-8 File Nos. 33-98518 and 33-98516 of LSB Financial Corp. of our Report of Independent Registered Public Accounting Firm, dated March 12, 2007 on the consolidated balance sheets of LSB Financial Corp. as of December 31, 2006 and 2005 and on the consolidated statements of income, changes in shareholders’ equity and cash flows for the three years ended December 31, 2006, which report is included in Form 10-K of LSB Financial Corp. for the year ended December 31, 2006.

Indianapolis, Indiana

March 27, 2007

EX-31.1

EXHIBIT 31.1

CERTIFICATION

I, Randolph F. Williams, certify that:

1. I have reviewed this annual report on Form 10-K of LSB Financial Corp. (the “Registrant”);

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the consolidated financial statements, and other financial information included in this report, fairly present in all material respects the consolidated financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report;

4. The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have:

a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b. Evaluated the effectiveness of the Registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report based on such evaluation; and

c. Disclosed in this report any change in the Registrant’s internal control over financial reporting that occurred during the Registrant’s most recent fiscal quarter (the Registrant’s fourth fiscal quarter in the case of an annual report) that have materially affected, or are reasonably likely to materially affect, the Registrant’s internal control over financial reporting.

5. The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant’s auditors and the audit committee of the Registrant’s board of directors (or persons performing the equivalent functions):

a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Registrant’s ability to record, process, summarize and report financial information; and

b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant’s internal control over financial reporting.

Dated:	March 28, 2007	/s/ Randolph F. Williams
		Randolph F. Williams
		President and Chief Executive Officer

EX-31.2

EXHIBIT 31.2

CERTIFICATION

I, Mary Jo David, certify that:

1. I have reviewed this annual report on Form 10-K of LSB Financial Corp. (the “Registrant”);

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the consolidated financial statements, and other financial information included in this report, fairly present in all material respects the consolidated financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report;

4. The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have:

a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b. Evaluated the effectiveness of the Registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report based on such evaluation; and

c. Disclosed in this report any change in the Registrant’s internal control over financial reporting that occurred during the Registrant’s most recent fiscal quarter (the Registrant’s fourth fiscal quarter in the case of an annual report) that have materially affected, or are reasonably likely to materially affect, the Registrant’s internal control over financial reporting.

5. The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant’s auditors and the audit committee of the Registrant’s board of directors (or persons performing the equivalent functions):

a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Registrant’s ability to record, process, summarize and report financial information; and

b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant’s internal control over financial reporting.

Dated:	March 29, 2007	/s/ Mary Jo David
		Mary Jo David
		Vice President and Chief Financial Officer

EX-32

EXHIBIT 32

CERTIFICATION

By signing below, each of the undersigned hereby certifies pursuant to 18 U.S.C. § 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, in his or her capacity as an officer of LSB Financial Corp. (the “Registrant”) that (i) this report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and (ii) the information contained in this report fairly presents, in all material respects, the consolidated financial condition of the Registrant at the end of such period and the results of operations of the Registrant for such period.

Signed this 28 day of March, 2007.

/s/ Randolph F. Williams	/s/ Mary Jo David
Randolph F. Williams	Mary Jo David
President and Chief Executive Officer	Vice President and Chief Financial Officer

A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to LSB Financial Corp. and will be retained by LSB Financial Corp. and furnished to the Securities and Exchange Commission or its staff upon request.