UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x Quarterly Report Pursuant To Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2012

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 No. 000-54578

West End Indiana Bancshares, Inc.

(Exact name of registrant as specified in its charter)

Maryland	36-4713616
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification Number)
34 South 7th Street, Richmond, Indiana	47374
(Address of Principal Executive Offices)	Zip Code

(765) 962-9587

(Registrant’s telephone number)

N/A

(Former name or former address, if changed since last report)

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 requirements for the past 90 days.

YES x     NO o

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

YES x     NO o

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

Large accelerated filer o	Accelerated filer o
Non-accelerated filer o	Smaller reporting company x
(Do not check if smaller reporting company)

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

YES x     NO o

1,401,008 shares of the Registrant’s common stock, par value $0.01 per share, were issued and outstanding as of November 13, 2012.

West End Indiana Bancshares, Inc.

Form 10-Q

Index

		Page
Part I. Financial Information
Item 1.	Condensed Consolidated Financial Statements
	Condensed Consolidated Balance Sheets	1
	Condensed Consolidated Statements of Income	2
	Condensed Consolidated Statement of Comprehensive Income	3
	Condensed Consolidated Statements of Cash Flows	4
	Condensed Consolidated Statement of Changes in Stockholders Equity	5
	Notes to Condensed Consolidated Financial Statements (unaudited)	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	27
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	36
Item 4.	Controls and Procedures	36
Part II. Other Information
Item 1.	Legal Proceedings	37
Item 1A.	Risk Factors	37
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	37
Item 3.	Defaults upon Senior Securities	37
Item 4.	Mine Safety Disclosures	37
Item 5.	Other Information	37
Item 6.	Exhibits	37
	Signature Page	38

Part I. – Financial Information

Item 1. Financial Statements

West End Indiana Bancshares, Inc.

Condensed Consolidated Balance Sheets

	September 30, 2012			December 31, 2011
	(Unaudited)
Assets
Cash and due from banks	$	1,804,314		$	1,941,859
Interest-bearing demand deposits		15,100,163			20,792,596
Cash and cash equivalents		16,904,477			22,734,455
Investment securities available for sale		59,957,339			47,878,375
Loans held for sale		901,109			532,854
Loans, net of allowance for loan losses of $ 1,858,856 and $1,904,180		155,946,734			154,058,240
Premises and equipment		3,562,444			3,644,473
Federal Home Loan Bank stock		1,722,100			1,722,100
Interest receivable		1,044,619			1,029,716
Bank-owned life insurance		4,851,728			4,742,129
Foreclosed real estate held for sale		640,432			736,011
Other assets		2,243,166			3,723,565
Total assets	$	247,774,148		$	240,801,918
Liabilities and Equity
Liabilities
Deposits	$	191,786,821		$	182,975,128
Federal Home Loan Bank advances		24,000,000			27,000,000
Interest payable		105,604			116,909
Stock conversion proceeds in escrow		—			11,687,439
Other liabilities		1,184,148			984,659
Total liabilities		217,076,573			222,764,135
Commitments and Contingencies
Stockholders’ Equity
Common stock, $.01 par value per share:     Issued and outstanding – 1,401,008		14,010			—
Additional paid in capital		12,913,241			—
Retained earnings		18,304,207			17,878,263
Unearned employee stock ownership plan (ESOP)		(1,078,770	)		—
Accumulated other comprehensive income		544,887			159,520
Total stockholders’ equity		30,697,575			18,037,783
Total liabilities and equity	$	247,774,148		$	240,801,918

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

1

West End Indiana Bancshares, Inc.

Condensed Consolidated Statements of Income

	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	(Unaudited)
Interest and Dividend Income
Loans receivable, including fees	$	2,515,416		$	2,518,417		$	7,469,187		$	7.581.441
Investment securities		286,633			278,624			810,184			702,544
Other		18,636			13,743			64,174			42,478
Total interest income		2,820,685			2,810,784			8,343,545			8,326,463
Interest Expense
Deposits		474,818			644,486			1,510,291			2,056,225
Federal Home Loan Bank advances		129,057			152,803			432,536			403,435
Total interest expense		603,875			797,289			1,942,827			2,459,660
Net Interest Income		2,216,810			2,013,495			6,400,718			5,866,803
Provision for loan losses		340,000			300,000			850,000			1,275,000
Net Interest After Provision for Loan Losses		1,876,810			1,713,495			5,550,718			4,591,803
Other Income
Service charges on deposit accounts		142,598			154,119			397,711			429,454
Loan servicing income, net		16,574			(87,495	)		41,512			24,090
Debit card income		54,488			50,340			162,676			146,009
Gain on sale of loans		184,634			295,659			385,999			675,131
Net realized gains on sales of available-for-sale securities		57,258			31,212			58,330			95,129
Gain on cash surrender value of life insurance		35,412			38,145			109,599			114,435
Gain (loss) on sale of other assets		(13,890	)		(87,083	)		(36,883	)		(146,979	)
Other income		2,931			29,004			38,839			83,777
Total other income		480,005			423,901			1,157,783			1,421,046
Other Expense
Salaries and employee benefits		942,528			1,001,607			2,984,749			2,813,466
Net occupancy		117,132			119,195			338,676			351,627
Data processing fees		82,765			68,610			250,036			212,829
Professional fees		103,741			62,066			335,512			181,595
Advertising		61,767			62,145			141,882			142,354
ATM charges		44,702			66,510			167,109			191,225
Postage and courier		44,165			44,375			130,684			127,079
FDIC insurance premiums		49,337			40,995			144,117			196,473
Donation to establish the West End Bank Charitable Foundation		-			-			505,000			-
Other expenses		365,362			391,960			1,017,181			999,059
Total other expenses		1,811,499			1,857,463			6,014,946			5,215,707
Income Before Income Tax		545,316			279,933			693,555			797,142
Income tax expense		238,840			86,265			267,611			268,835
Net Income	$	306,476		$	193,668		$	425,944		$	528,307
Earnings Per Share
Basic	$	.24			N/A		$	.34			N/A
Diluted		.24			N/A			.34			N/A

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

2

West End Indiana Bancshares, Inc.

Condensed Consolidated Statement of Comprehensive Income

	Three Months Ended September 30					Nine Months Ended September 30
	2012		2011			2012		2011
	(Unaudited)
Net Income	$	306,476	$	193,668		$	425,944	$	528,307
Other comprehensive income, net of tax
Unrealized gains on securities available for sale		250,151		(50,899	)		420,592		87,198
Unrealized holding gains arising during the period, net of tax expense of $164,016 and $(33,365), $275,764 and $57,186		34,578		18,848			35,225		57,448
Less:  Reclassification adjustment for gains included in net income, net of tax expense of $22,680, $12,363, $23,105 and $37,680		215,573		(69,747	)		385,367		29,750
	$	522,049	$	123,921		$	811,311	$	558,057

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

3

West End Indiana Bancshares, Inc.

Condensed Consolidated Statement of Cash Flows

	Nine Months Ended September 30,
	2012			2011
	(Unaudited)
Operating Activities
Net income	$	425,944		$	528,307
Items not requiring (providing) cash
Provision for loan losses		850,000			1,275,000
Depreciation and amortization		169,205			178,675
Investment securities amortization, net		762,592			591,249
Investment securities gains		(58,330	)		(95,129	)
Loss (gain) on sale of other assets		36,883			146,979
Loan originated for sale in the secondary market		(12,696,636	)		(4,235,403	)
Proceeds from loan sales in the secondary market		12,624,412			3,968,543
Gain on loans sold		(385,999	)		(675,131	)
Common stock contributed to Foundation		380,000			-
Net change in
Interest receivable		(14,903	)		(75,180	)
Interest payable		(11,305	)		16,483
Cash surrender value of life insurance		(109,599	)		(114,435	)
Prepaid FDIC insurance		133,454			184,023
Other adjustments		698,720			(317,348	)
Net cash provided by operating activities		2,804,438			1,376,633
Investing Activities
Purchases of securities available for sale		(32,690,906	)		(21,118,746	)
Proceeds from maturities of securities available for sale		10,582,499			11,057,487
Proceeds from sales of securities available for sale		9,963,233			5,501,772
Proceeds from redemption of FHLB stock		-			148,500
Purchases of FHLB stock		-			(12,500	)
Proceeds from sale of loans		-			1,878,159
Net change in loans		(2,867,879	)		(2,171,112	)
Purchase of premises and equipment		(87,176	)		(175,612	)
Proceeds from sale of foreclosed real estate		192,304			45,598
Other investing activities		(1,850	)		38,927
Net cash used in investing activities		(14,909,775	)		(4,807,527	)
Financing Activities
Net change in demand deposits, money market, NOW and savings accounts		10,628,925			7,405,147
Net change in certificates of deposit		(1,817,232	)		(3,613,255	)
Repayment of FHLB advances		(3,000,000	)		(10,000,000	)
Proceeds from FHLB advances		-			15,000,000
Proceeds from stock conversion		463,666
Net cash provided by financing activities		6,275,359			8,791,892
Net Change in Cash and Cash Equivalents		(5,829,978	)		5,360,998
Cash and Cash Equivalents, Beginning of Year		22,734,455			8,293,606
Cash and Cash Equivalents, End of Year	$	16,904,477		$	13,654,604
Additional Cash Flows Information
Interest paid	$	1,954,132		$	2,443,177
Income taxes paid		124,000			354,000
Real estate acquired in settlement of loans		261,611			725,800
Sale and financing of foreclosed real estate		132,226			575,108
Release of stock conversion escrow to equity, net		10,952,861			-

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

4

West End Indiana Bancshares, Inc.

Condensed Consolidated Statement of Changes in Stockholders’ Equity

For the Nine Months Ended September 30, 2012

												Accumulated
	Common Stock				Additional				Unearned			Other		Total
	Shares				Paid-In		Retained		ESOP			Comprehensive		Stockholders’
	Outstanding		Amount		Capital		Earnings		Shares			Income		Equity
	(Unaudited)
Balances at December 31, 2011		—	$	—	$	—	$	17,878,263	$	—		$	159,520	$	18,037,783
Net income		—		—		—		425,944		—			—		425,944
Unrealized gains on securities		—		—		—		—		—			385,367		385,367
ESOP shares earned		—		—		9,924		—		42,030			—		51,954
Issuance of common stock, net of     offering costs		1,363,008		13,630		12,523,697		—		—			—		12,537,327
Unearned ESOP shares		—		—		—		—		(1,120,800	)		—		(1,120,800	)
Stock contributed to charitable foundation		38,000		380		379,620		—		—			—		380,000
Balances at September 30, 2012		1,401,008	$	14,010	$	12,913,241	$	18,304,207	$	(1,078,770	)	$	544,887	$	30,697,575

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

5

West End Indiana Bancshares, Inc.

Form 10-Q

Notes to Condensed Consolidated Financial Statements

NOTE 1:  Nature of Operations and Conversion

West End Bank, S.B. (the “Bank”) is an Indiana-chartered savings bank that was organized in 1894.  The Bank reorganized into a mutual holding company structure in 2007.  The Bank is headquartered in Richmond, Indiana.

The Bank provides financial services to individuals, families and businesses through its four banking offices located in the Indiana counties of Union and Wayne and two additional limited service branches located in an elementary school and high school in Richmond, Indiana at which the Bank offers more limited banking services and at which it provides banking seminars to students who assist in the branch operations.  Our principal business consists of attracting retail deposits from the general public in our market area and investing those deposits, together with funds generated from operations, and to a lesser extent, borrowings, in one- to four- family residential real estate loans, indirect automobile loans, commercial and multi-family real estate loans, and to a lesser extent, second mortgages and equity lines of credit, construction loans and commercial business loans.  We also purchase investment securities consisting primarily of SBA loan pools, municipal bonds, and mortgage-backed securities.

On January 11, 2012, in accordance with a Plan of Conversion and Reorganization ( the “Conversion”), West End Bank, MHC (MHC), the Bank’s former federally chartered mutual holding company completed a mutual-to-stock conversion pursuant to which the Bank became the wholly owned subsidiary of West End Indiana Bancshares, Inc. (the “Company”), a Maryland corporation.  In connection with the Conversion, the Company sold 1,363,008 shares of common stock, at an offering price of $10 per share, and issued an additional 38,000 shares of its common stock to the West End Bank Charitable Foundation (the “Foundation”), resulting in an aggregate issuance of 1,401,008 shares of common stock.  The Company’s stock began being quoted for listing on the OTC Bulletin Board on January 11, 2012, under the symbol “WEIN.”

The proceeds from the stock offering net of issuance costs of $1,092,000 amounted to $12,537,000.

As set forth above, in connection with the Conversion, the Bank established and funded the Foundation with 38,000 shares of the Company’s common stock and $125,000 in cash.  This contribution resulted in recognition of expense in the quarter ended March 31, 2012, based on the $10 per share offering price.  The Foundation supports charitable causes and community development activities in the Bank’s areas of operations.

Also, in connection with the Conversion, the Bank established an employee stock ownership plan (“ESOP”), which purchased 112,080 shares of the Company’s common stock at a price of $10 per share.

6

In accordance with Federal conversion regulations, at the time of the Conversion from a mutual holding company to a stock holding company, the Company was required to substantially restrict retained earnings by establishing a liquidation account and the Bank established a parallel liquidation account.  The liquidation account will be maintained for the benefit of eligible holders who continue to maintain their accounts at the Bank after conversion.  The liquidation account will be reduced annually to the extent that eligible account holders have reduced their qualifying deposits.  Subsequent increases will not restore an eligible account holder’s interest in the liquidation account.  In the event of a complete liquidation of the Bank, and only in such event, each account holder will be entitled to receive a distribution for the liquidation account in an amount proportionate to the adjusted qualifying account balances then held.  The Bank may not pay dividends if those dividends would reduce equity capital below the required liquidation account amount.

The Conversion was accounted for as a change in corporate form with the historical basis of the MHC’s consolidated assets, liabilities and equity unchanged as a result.

NOTE 2:  Basis of Presentation

The accompanying unaudited consolidated condensed financial statements were prepared in accordance with instructions for Form 10-Q and, therefore, do not include information or footnotes necessary for a complete presentation of financial position, results of operations, and cash flows in conformity with generally accepted accounting principles.  Accordingly, these financial statements should be read in conjunction with the consolidated financial statements and notes thereto of the Company included in the Annual Report on Form 10-K for the year ended December 31, 2011.  However, in the opinion of management, all adjustments (consisting of only normal recurring accruals) which are necessary for a fair presentation of the financial statements have been included.  The results of operations for the three-month and nine-month periods ended September 30, 2012, are not necessarily indicative of the results which may be expected for the entire year.  The consolidated condensed balance sheet of the Company as of December 31, 2011 has been derived from the audited consolidated balance sheet of the Company as of that date.

NOTE 3:  Principles of Consolidation

The consolidated financial statements include the accounts of West End Indiana Bancshares, Inc. and its wholly owned subsidiary, West End Bank, S.B.  All significant intercompany accounts and transactions have been eliminated in consolidation.

7

NOTE 4: Securities

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

	September 30, 2012 (Unaudited)
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Approximate Fair Value
	(In Thousands)
Available for sale
Municipal bonds	$	12,069	$	296	$	(72	)	$	12,293
SBA loan pools		6,586		176		—			6,762
Mortgage-backed securities - GSE residential		40,400		604		(102	)		40,902
Total available for sale	$	59,055	$	1,076	$	(174	)	$	59,957

	December 31, 2011
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Approximate Fair Value
	(In Thousands)
Available for sale
Municipal Bonds	$	2,705	$	38	$	(1	)	$	2,742
SBA loan pools		7,505		41		(3	)		7,543
Mortgage-backed securities – GSE residential		37,404		378		(189	)		37,593
Total available for sale	$	47,614	$	457	$	(193	)	$	47,878

The amortized cost and fair value of securities available for sale at September 30, 2012 and December 31, 2011, 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.

	September 30, 2012 (Unaudited)				December 31, 2011
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
	(In Thousands)
One to five years	$	—	$	—	$	—	$	—
Five to ten years		3,347		3,377		762		775
After ten years		8,722		8,916		1,943		1,967
		12,069		12,293		2,705		2,742
SBA loan pools		6,586		6,762		7,505		7,543
Mortgage-backed securities - GSE residential		40,400		40,902		37,404		37,593
Totals	$	59,055	$	59,957	$	47,614	$	47,878

The carrying value of securities pledged as collateral, to secure public deposits and for other purposes, was $ 598,000 at September 30, 2012 (unaudited).  Securities pledged at December 31, 2011 were $741,000.

8

Activities related to the sales of securities available for sale for the three and nine months ended September 30, 2012 (unaudited) and 2011 (unaudited) are summarized as follows:

	Three Months Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
	(In Thousands)
Proceeds from sales of available-for sale securities	$	9,182	$	4,373	$	9,963	$	5,502
Gross gains on sales		73		31		74		95
Gross losses on sales		16		—		16		—

Certain investments in debt securities are reported in the consolidated financial statements at an amount less than their historical cost.  Total fair value of these investments at September 30, 2012 and December 31, 2011 was $ 19,939,000 (unaudited) and $16,377,000, which is approximately 33% and 34% of the Company’s available-for-sale investment portfolio.  These declines primarily resulted from changes 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.

Securities with unrealized losses at September 30, 2012 (unaudited) were as follows:

	Less Than 12 Months					12 Months or Longer				Total
	Fair Value		Unrealized Losses			Fair Value		Gross Unrealized Losses		Fair Value		Gross Unrealized Losses
	(In Thousands)
Available-for-sale securities
Municipal bonds	$	5,343	$	(72	)	$	—	$	—	$	5,343	$	(72	)
Mortgage-backed securities - GSE residential		14,596		(102	)		—		—		14,596		(102	)
	$	19,939	$	(174	)	$	—	$	—	$	19,939	$	(174	)

Securities with unrealized losses at December 31, 2011 were as follows:

	Less Than 12 Months					12 Months or Longer				Total
	Fair Value		Unrealized Losses			Fair Value		Gross Unrealized Losses		Fair Value		Gross Unrealized Losses
	(In Thousands)
Available-for-sale securities
Municipal	$	850	$	(1	)	$	—	$	—	$	850	$	(1	)
SBA loan pools		3,207		(3	)		—		—		3,207		(3	)
Mortgage-backed securities - GSE residential		12,320		(189	)		—		—		12,320		(189	)
	$	16,377	$	(193	)	$	—	$	—	$	16,377	$	(193	)

9

NOTE 5:  Loans and Allowance

The Company’s loan and allowance policies are as follows:

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 unearned income, charge-offs, the allowance for loan losses, any unamortized deferred fees or costs on originated loans and unamortized premiums or discounts on purchased loans.

For loans amortized at cost, interest income is accrued based on the unpaid principal balance.  Loan origination fees, net of certain direct origination costs, as well as premiums and discounts, are deferred and amortized as a level yield adjustment over the respective term of the loan.

For all loan classes, the accrual of interest is discontinued at the time the loan is 90 days past due unless the credit is well-secured and in process of collection.  Past due status is based on contractual terms of the loan.  For all loan classes, the entire balance of the loan is considered past due if the minimum payment contractually required to be paid is not received by the contractual due date.  For all loan classes, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful.

Consistent with regulatory guidance, charge-offs on all loan segments are taken when specific loans, or portions thereof, are considered uncollectible.  The Company’s policy is to promptly charge these loans off in the period the uncollectible loss is reasonably determined.

For all loan portfolio segments except residential and consumer loans, the Company promptly charges-off loans, or portions thereof, when available information confirms that specific loans are uncollectible based on information that includes, but is not limited to, (1) the deteriorating financial condition of the borrower, (2) declining collateral values, and/or (3) legal action, including bankruptcy, that impairs the borrower’s ability to adequately meet its obligations.  For impaired loans that are considered to be solely collateral dependent, a partial charge-off is recorded when a loss has been confirmed by an updated appraisal or other appropriate valuation of the collateral.

The Company charges-off residential and consumer loans, or portions thereof, when the Company reasonably determines the amount of the loss.  The Company adheres to timeframes established by applicable regulatory guidance which provides for the charge-down of 1-4 family first and junior lien mortgages to the net realizable value less costs to sell when the loan is 180 days past due, charge-off of unsecured open-end loans when the loan is 180 days past due, and charge down to the net realizable value when other secured loans are 120 days past due.  Loans at these respective delinquency thresholds for which the Company can clearly document that the loan is both well-secured and in the process of collection, such that collection will occur regardless of delinquency status, need not be charged off.

For all classes, all interest accrued but not collected for loans that are placed on nonaccrual or charged off are reversed against interest income.  The interest on these loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual.  Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.  Nonaccrual loans are returned to accrual status when, in the opinion of management, the financial position of the borrower indicates there is no longer any reasonable doubt as to the timely collection of interest or principal.  The Company requires a period of satisfactory performance of not less than six months before returning a nonaccrual loan to accrual status.

10

When cash payments are received on impaired loans in each loan class, the Company records the payment as interest income unless collection of the remaining recorded principal amount is doubtful, at which time payments are used to reduce the principal balance of the loan.  Troubled debt restructured loans recognize interest income on an accrual basis at the renegotiated rate if the loan is in compliance with the modified terms.

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.

The allowance consists of allocated and general components.  The allocated component relates to loans that are classified as impaired.  For those loans that are classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan.  The general component covers non-impaired loans and is based on historical charge-off experience by segment.  The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Company over the prior three years.  Management believes the three year historical loss experience methodology is appropriate in the current economic environment.Other adjustments (qualitative/environmental considerations) for each segment may be added to the allowance for each loan segment after an assessment of internal or external influences on credit quality that are not fully reflected in the historical loss or risk rating 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 duebased on the loan’s current payment status and the borrower’s financial condition including available sources of cash flows.  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 non-homogenous type loans such as commercial, non-owner residential and construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price or the fair value of the collateral if the loan is collateral dependent.  For impaired loans where the Company utilizes the discounted cash flows to determine the level of impairment, the Company includes the entire change in the present value of cash flows as bad debt expense.

11

The fair values of collateral dependent impaired loans are based on independent appraisals of the collateral.  In general, the Company acquires an updated appraisal upon identification of impairment and annually thereafter for commercial, commercial real estate and multi-family loans.  If the most recent appraisal is over a year old, and a new appraisal is not performed, due to lack of comparable values or other reasons, the existing appraisal is utilized and discounted 20% - 30% based on the age of the appraisal, condition of the subject property, and overall economic conditions.  After determining the collateral value as described, the fair value is calculated based on the determined collateral value less selling expenses.  The potential for outdated appraisal values is considered in our determination of the allowance for loan losses through our analysis of various trends and conditions including the local economy, trends in charge-offs and delinquencies, etc. and the related qualitative adjustments assigned by the Company.

Segments of loans with similar risk characteristics are collectively evaluated for impairment based on the segment’s historical loss experience adjusted for changes in trends, conditions and other relevant factors that affect repayment of the loans.  Accordingly, the Company does not separately identify individual consumer and residential loans for impairment measurements, unless such loans are the subject of a restructuring agreement due to financial difficulties of the borrower.

Categories of loans include:

	(Unaudited)
	September 30,		December 31,
	2012		2011
	(In Thousands)
Commercial	$	8,026	$	9,017
Real estate loans
Residential		57,110		56,868
Commercial and multi-family		31,674		30,295
Construction		1,309		2,786
Second mortgages and equity lines of credit		4,193		4,562
Consumer loans
Indirect		46,097		44,324
Other		9,506		8,218
		157,915		156,070
Less
Net deferred loan fees, premiums and discounts		109		108
Allowance for loan losses		1,859		1,904
Total loans	$	155,947	$	154,058

The risk characteristics of each loan portfolio segment are as follows:

Commercial

Commercial loans are primarily based on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower.  The cash flows of borrowers, however, may not be as expected and the collateral securing these loans may fluctuate in value.  Most commercial loans are secured by the assets being financed or other business assets such as accounts receivable or inventory and may incorporate a personal guarantee; however, some short-term loans may be made on an unsecured basis.  In the case of loans secured by accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from its customers.

12

Commercial and Multi-Family Real Estate

These loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate.  Commercial and multi-family real estate lending typically involves higher loan principal amounts and the repayment of these loans is generally dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan.

Commercial and multi-family real estate loans may be more adversely affected by conditions in the real estate markets or in the general economy.  The properties securing the Company’s commercial and multi-family real estate portfolio are diverse in terms of type and geographic location.  Management monitors and evaluates commercial real estate loans based on collateral, geography and risk grade criteria.  In addition, management tracks the level of owner-occupied commercial real estate loans versus non-owner occupied loans.

Construction

Construction loans are underwritten utilizing feasibility studies, independent appraisal reviews and financial analysis of the developers and property owners.  Construction loans are generally based on estimates of costs and value associated with the complete project.  These estimates may be inaccurate.  Construction loans often involve the disbursement of substantial funds with repayment substantially dependent on the success of the ultimate project.  Sources of repayment for these types of loans may be pre-committed permanent loans from approved long-term lenders, sales of developed property or an interim loan commitment from the Company until permanent financing is obtained.  These loans are closely monitored by on-site inspections and are considered to have higher risks than other real estate loans due to their ultimate repayment being sensitive to interest rate changes, governmental regulation of real property, general economic conditions and the availability of long-term financing.

Residential, Second Mortgages and Equity Lines of Credit and Consumer

With respect to residential loans that are secured by 1-4 family residences, the Company generally establishes a maximum loan-to-value ratio and requires private mortgage insurance if that ratio is exceeded.  Second mortgages and equity lines of credit loans are typically secured by a subordinate interest in 1-4 family residences, and consumer loans are secured by consumer assets such as automobiles or recreational vehicles.  Some consumer loans are unsecured such as small installment loans.  Repayment of these loans is primarily dependent on the personal income of the borrowers, which can be impacted by economic conditions in their market areas such as unemployment levels.  Risk is mitigated by the fact that the loans are of smaller individual amounts and spread over a large number of borrowers.

13

The following presents by portfolio segment, the activity in the allowance for loan losses for the three and nine months ended September 30, 2012 and 2011 (unaudited).

				Real Estate
	Commercial			Residential			Commercial and Multi-Family			Construction			Seconds and Equity Line			Consumer			Total
	(In Thousands)
Three Months Ended September 30, 2012:
Balance, beginning of period	$	130		$	647		$	624		$	3		$	36		$	560		$	2,000
Provision for losses		(6	)		98			112			(2	)		(12	)		150			340
Recoveries on loans		—			1			---			—			5			17			23
Loans charged off		—			(168	)		(144	)		—			—			(192	)		(504	)
Balance, end of period	$	124		$	578		$	592		$	1		$	29		$	535		$	1,859
Nine Months Ended September 30, 2012:
Balance, beginning of period	$	145		$	642		$	593		$	4		$	29		$	491		$	1,904
Provision for losses		31			208			143			(3	)		15			456			850
Recoveries on loans		—			2			—			—			7			43			52
Loans charged off		(52	)		(274	)		(144	)		—			(22	)		(455	)		(947	)
Balance, end of period	$	124		$	578		$	592		$	1		$	29		$	535		$	1,859

				Real Estate
	Commercial			Residential			Commercial and Multi-Family			Construction			Seconds and Equity Line			Consumer			Total
	(In Thousands)
Three Months Ended September 30, 2011:
Balance, beginning of period	$	102		$	682		$	470		$	4		$	9		$	473		$	1,740
Provision for losses		11			94			11			1			85			98			300
Recoveries on loans		—			2			—			—			—			13			15
Loans charged off		—			(39	)		—			—			(62	)		(71	)		(172	)
Balance, end of period	$	113		$	739		$	481		$	5		$	32		$	513		$	1,883
Nine Months Ended September 30, 2011:
Balance, beginning of period	$	107		$	700		$	336		$	7		$	18		$	531		$	1,699
Provision for losses		25			452			409			(2	)		87			304			1,275
Recoveries on loans		—			7			—			—			—			41			48
Loans charged off		(19	)		(420	)		(264	)		—			(73	)		(363	)		(1,139	)
Balance, end of period	$	113		$	739		$	481		$	5		$	32		$	513		$	1,883

14

The following tables present the balance in the allowance for loan losses and the recorded investment in loans based on portfolio segment and impairment method as of September 30, 2012 and December 31, 2011:

	September 30, 2012 (unaudited)
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Allowance:
Balance, end of year	$	124	$	578	$	592	$	1	$	29	$	535	$	1,859
Individually evaluated for impairment		—		30		405		—		—		—		435
Collectivity evaluated for impairment		124		548		187		1		29		535		1,424
Loans:
Ending balance		8,026		57,110		31,674		1,309		4,193		55,603		157,915
Individually evaluated for impairment		—		44		3,166		—		—		—		3,210
Collectivity evaluated for impairment		8,026		57,066		28,508		1,309		4,193		55,603		154,705

	December 31, 2011
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Allowance:
Balance, end of year	$	145	$	642	$	593	$	4	$	29	$	491	$	1,904
Individually evaluated for impairment		40		92		435		—		—		—		567
Collectivity evaluated for impairment		105		550		158		4		29		491		1,337
Loans:
Ending balance		9,017		56,868		30,295		2,786		4,562		52,542		156,070
Individually evaluated for impairment		49		243		2,869		—		—		—		3,161
Collectivity evaluated for impairment		8,968		56,625		27,426		2,786		4,562		52,542		152,909

The following tables present the credit risk profile of the Bank’s loan portfolio based on rating category and payment activity as of September 30, 2012 and December 31, 2011:

	September 30, 2012 (unaudited)
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Pass	$	7,501	$	56,573	$	25,974	$	1,309	$	4,099	$	55,603	$	151,059
Watch		75		493		182		—		—		—		750
Special Mention		—		—		1,108		—		94		—		1,202
Substandard		450		44		4,410		—		—		—		4,904
Doubtful		—		—		—		—		—		—		—
Loss		—		—		—		—		—		—		—
Total	$	8,026	$	57,110	$	31,674	$	1,309	$	4,193	$	55,603	$	157,915

15

	December 31, 2011
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Pass	$	8,418	$	56,209	$	23,695	$	2,786	$	4,466	$	52,542	$	148,116
Watch		—		351		1,818		—		—		—		2,169
Special Mention		—		—		1,834		—		96		—		1,930
Substandard		550		308		2,948		—		—		—		3,806
Doubtful		49		—		—		—		—		—		49
Loss		—		—		—		—		—		—		—
Total	$	9,017	$	56,868	$	30,295	$	2,786	$	4,562	$	52,542	$	156,070

The Company generally categorizes all classes of loans into risk categories based on relevant information about the ability of borrowers to service their debt such as:  current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors.  Generally, smaller dollar consumer loans are excluded from this grading process and are reflected in the Pass category.  The delinquency trends of these consumer loans are monitored on homogeneous basis and the related delinquent amounts are reflected in the aging analysis table below.  The Company uses the following definitions for risk ratings:

The Pass asset quality rating encompasses assets that have generally performed as expected.  With the exception of some smaller consumer and residential loans, these assets generally do not have delinquency.  Loans assigned this rating include loans to borrowers possessing solid credit quality with acceptable risk.  Borrowers in these grades are differentiated from higher grades on the basis of size (capital and/or revenue), leverage, asset quality, stability of the industry or specific market area and quality/coverage of collateral.  These borrowers generally have a history of consistent earnings and reasonable leverage.   

The Watch asset quality rating encompasses assets that have been brought to the attention of management and may, if not corrected, warrant a more serious quality rating by management. These assets are usually in the first phase of a deficiency situation and may possess similar criteria as Special Mention assets.  This grade includes “pass grade” loans to borrowers which require special monitoring because of deteriorating financial results, declining credit ratings, decreasing cash flow, increasing leverage, marginal collateral coverage or industry stress that has resulted or may result in a changing overall risk profile.

The Special Mention asset quality rating encompasses assets that have potential weaknesses that deserve management’s close attention.  If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the institution’s credit position at some future date.  Special mention assets are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification.  This grade is intended to include loans to borrowers whose credit quality has clearly deteriorated and where risk of further decline is possible unless active measures are taken to correct the situation.  Weaknesses are considered potential at this state and are not yet fully defined.

16

The Substandard asset quality rating encompasses assets that are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any; assets having a well-defined weakness(es) based upon objective evidence; assets characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected; or the possibility that liquidation will not be timely.  Loans categorized in this grade possess a well-defined credit weakness and the likelihood of repayment from the primary source is uncertain.  Significant financial deterioration has occurred and very close attention is warranted to ensure the full repayment without loss.  Collateral coverage may be marginal and the accrual of interest has been suspended.

The Doubtful asset quality rating encompasses assets that have all of the weaknesses of those classified as Substandard.  In addition, these weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.

The Loss asset quality rating encompasses assets that are considered uncollectible and of such little value that their continuance as assets of the bank is not warranted.  A loss classification does not mean that an asset has no recovery or salvage value; instead, it means that it is not practical or desirable to defer writing off or reserving all or a portion of a basically worthless asset, even though partial recovery may be realized in the future.

The following table presents the Bank’s loan portfolio aging analysis as of September 30, 2012 and December 31, 2011:

	September 30, 2012 (Unaudited)
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
30-59 days past due	$	29	$	568	$	8	$	—	$	12	$	1,202	$	1,819
60-89 days past due		—		245		—		—		—		360		605
Greater than 90 days and accruing		—		568		—		—		55		581		1,204
Nonaccrual		—		1,050		526		—		—		—		1,576
Total past due and nonaccrual		29		2,431		534		—		67		2,143		5,204
Current		7,997		54,679		31,140		1,309		4,126		53,460		152,711
Total	$	8,026	$	57,110	$	31,674	$	1,309	$	4,193	$	55,603	$	157,915

	December 31, 2011
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
30-59 days past due	$	—	$	40	$	—	$	16	$	6	$	840	$	902
60-89 days past due		—		353		—		—		—		407		760
Greater than 90 days and accruing		3		107		—		—		8		347		465
Nonaccrual		49		582		594		—		14		—		1,239
Total past due and nonaccrual		52		1,082		594		16		28		1,594		3,366
Current		8,965		55,786		29,701		2,770		4,534		50,948		152,704
Total	$	9,017	$	56,868	$	30,295	$	2,786	$	4,562	$	52,542	$	156,070

17

A loan is considered impaired, in accordance with the impairment accounting guidance (ASC 310-10-35-16), when based on current information and events, it is probable the Company will be unable to collect all amounts due from the borrower in accordance with the contractual terms of the loan.  Impaired loans include nonperforming commercial loans but also include loans modified in troubled debt restructurings where concessions have been granted to borrowers experiencing financial difficulties.  These concessions could include a reduction in the interest rate on the loan, payment extensions, forgiveness of principal, forbearance or other actions intended to maximize collection.

The following table presents impaired loans and specific valuation allowance based on class level at September 30, 2012 (unaudited) and December 31, 2011:

	September 30, 2012
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Impaired loans without a specific allowance:
Recorded investment	$	—	$	—	$	815	$	—	$	—	$	—	$	815
Unpaid principal balance		—		—		959		—		—		—		959
Impaired loans with a specific allowance:
Recorded investment		—		44		2,351		—		—		—		2,395
Unpaid principal balance		—		44		2,351		—		—		—		2,395
Specific allowance		—		30		405		—		—		—		435
Total impaired loans:
Recorded investment		—		44		3,166		—		—		—		3,210
Unpaid principal balance		—		44		3,310		—		—		—		3,354
Specific allowance		—		30		405		—		—		—		435

	December 31, 2011
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Impaired loans without a specific allowance:
Recorded investment	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Unpaid principal balance		—		—		—		—		—		—		—
Impaired loans with a specific allowance:
Recorded investment		49		243		2,869		—		—		—		3,161
Unpaid principal balance		49		243		2,869		—		—		—		3,161
Specific allowance		40		92		435		—		—		—		567
Total impaired loans:
Recorded investment		49		243		2,869		—		—		—		3,161
Unpaid principal balance		49		243		2,869		—		—		—		3,161
Specific allowance		40		92		435		—		—		—		567

18

The following presents by portfolio segment, information related to the average recorded investment and interest income recognized on impaired loans for the three and nine months ended September 30, 2012 and 2011 (unaudited):

			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Three Months Ended September 30, 2012:
Total impaired loan:
Average recorded investment	$	—	$	44	$	2,835	$	—	$	—	$	—	$	2,879
Interest income recognized		—		—		32		—		—		—		32
Interest income recognized on a cash basis		—		—		—		—		—		—		—

			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Nine Months Ended September 30, 2012:
Total impaired loan:
Average recorded investment	$	12	$	122	$	2,852	$	—	$	—	$	—	$	2,986
Interest income recognized		—		—		95		—		—		—		95
Interest income recognized on a cash basis		—		—		—		—		—		—		—

			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Three Months Ended September 30, 2011:
Total impaired loan:
Average recorded investment	$	—	$	581	$	2,869	$	—	$	—	$	—	$	3,450
Interest income recognized		—		—		32		—		—		—		32
Interest income recognized on a cash basis		—		—		—		—		—		—		—

			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Nine Months Ended September 30, 2011:
Total impaired loan:
Average recorded investment	$	—	$	661	$	3,149	$	—	$	—	$	—	$	3,810
Interest income recognized		—		—		95		—		—		—		95
Interest income recognized on a cash basis		—		—		—		—		—		—		—

19

Troubled Debt Restructurings

In the course of working with borrowers, the Company may choose to restructure the contractual terms of certain loans.  In restructuring the loan, the Company attempts to work out an alternative payment schedule with the borrower in order to optimize collectability of the loan.  Any loans that are modified, whether through a new agreement replacing the old or via changes to an existing loan agreement, are reviewed by the Company to identify if a troubled debt restructuring (“TDR”) has occurred.  A troubled debt restructuring occurs when, for economic or legal reasons related to a borrower’s financial difficulties, the Company grants a concession to the borrower that it would not otherwise consider.  Terms may be modified to fit the ability of the borrower to repay in line with its current financial status, and the restructuring of the loan may include the transfer of assets from the borrower to satisfy the debt, a modification of loan terms, or a combination of the two.  If such efforts by the Company do not result in a satisfactory arrangement, the loan is referred to legal counsel, at which time foreclosure proceedings are initiated.  At any time prior to a sale of the property at foreclosure, the Company may terminate foreclosure proceedings if the borrower is able to work out a satisfactory payment plan.

Nonaccrual loans, including TDR that has not met the six month minimum performance criterion, are reported in this report as nonperforming loans.  For all loan classes, it is the Company’s policy to have any restructured loans which are on nonaccrual status prior to being restructured remain on nonaccrual status until six months of satisfactory borrower performance, at which time management would consider its return to accrual status.  A loan is generally classified as nonaccrual when the Company believes that receipt of principal and interest is questionable under the terms of the loan agreement.  Most generally, this is at 90 or more days past due.

The balance of nonaccrual restructured loans, which is included in total nonaccrual loans, was $450,000 at September 30, 2012 (unaudited) and December 31, 2011.  If the restructured loan is on accrual status prior to being restructured, it is reviewed to determine if the restructured loan should remain on accrual status.  Loans that are considered TDR are classified as performing, unless they are on nonaccrual status or greater than 90 days past due, as of the end of the most recent quarter.  At September 30, 2012 (unaudited), there was $365,000 accruing TDR.  All TDRs are considered impaired by the Company, unless it is determined that the borrower has met the six month satisfactory performance period under the modified terms.  On at least a quarterly basis, the Company reviews all TDR loans to determine if the loan meets this criterion.

With regard to determination of the amount of the allowance for credit losses, all accruing restructured loans are considered to be impaired.  As a result, the determination of the amount of impaired loans for each portfolio segment within troubled debt restructurings is the same as detailed previously above.

During the three and nine months ended September 30, 2012 (unaudited), there was one new restructuring classified as TDR.  The loan balance at September 30, 2012 (unaudited) was $365,000 with a pre-modification recorded balance and a post modification recorded balance of $365,000.  Modifications included interest only payments for a six month time period and an extended amortization period.  During the three and nine months ended September 30, 2011 (unaudited), there were no new restructurings classified as TDRs. No loans restructured during the last twelve months defaulted during the three and nine months ended September 30, 2012 (unaudited).

20

NOTE 6:  Disclosures About Fair Value of Assets and Liabilities

ASC Topic 820, Fair Value Measurements, defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  Topic 820 also specifies a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  The standard describes six levels of inputs that may be used to measure fair value:

The standard describes three levels of inputs that may be used to measure fair value:

Level 1 Quoted prices in active markets for identical assets or liabilities

Level 2 Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities

Recurring Measurements

The following is a description of the valuation methodologies and inputs used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Available-for-Sale Securities

Where quoted market prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy.  If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows.  The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the security’s terms and conditions.  Additionally, matrix pricing is used for certain investment securities and is a mathematical technique widely used in the banking industry to value investment securities without relying exclusively on quoted prices for specific investment securities but rather relying on the investment securities’ relationship to other benchmark quoted investment securities.  Level 2 securities include SBA loan pools, municipal bonds and mortgage-backed securities.  At September 30, 2012 (unaudited) and December 31, 2011, all mortgage-backed securities are residential government sponsored enterprises.  In certain cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy.

Mortgage-Servicing Rights

Mortgage-servicing rights do not trade in an active, open market with readily observable prices.  Accordingly, fair value is estimated using discounted cash flow models having significant inputs of actual and expected mortgage loan prepayment rates, discount rates, servicing costs and other economic factors, which are determined based on current market conditions.  Due to the nature of the valuation inputs, mortgage-servicing rights are classified within Level 3 of the hierarchy.  Significant changes in any of the inputs could significantly impact the fair value measurement.

21

Fair value determinations for Level 3 measurements are the responsibility of the Finance Department.  The Finance Department contracts with a pricing specialist to generate fair value estimates on a quarterly basis.  The Finance Department challenges the reasonableness of the assumptions used and reviews the methodology to ensure the estimated fair value complies with accounting standards generally accepted in the United States.  Using the data from the quarterly valuation, the Finance Department adjusts to fair value on a monthly basis.

The following tables present the fair value measurements of assets measured at fair value on a recurring basis and the level within the fair value hierarchy in which the fair value measurements fall at September 30, 2012 and December 31, 2011:

			(Unaudited)
			September 30, 2012
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)
Available-for-sale securities:
Municipal bonds	$	12,293	$	—	$	12,293	$	—
SBA loan pools		6,762		—		6,762		—
Mortgage-backed securities - GSE residential		40,902		—		40,902		—
Mortgage-servicing rights		465		—		—		465

			December 31, 2011
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)
Available-for-sale securities:
Municipal bonds	$	2,742	$	—	$	2,742	$	—
SBA loan pools		7,543		—		7,543		—
Mortgage-backed securities - GSE residential		37,593		—		37,593		—
Mortgage-servicing rights		440		—		—		440

22

The following is a reconciliation of the beginning and ending balances of recurring fair value measurements recognized in the accompanying consolidated balance sheets using significant unobservable (Level 3) inputs:

	Mortgage-Servicing Rights
	Three Months Ended September 30						Nine Months Ended September 30
	2012			2011			2012			2011
	(Unaudited) (In Thousands)
Balances, beginning of period	$	443		$	569		$	440		$	496
Total unrealized gains (losses) included in net income		18			(101	)		10			(26	)
Additions (rights recorded on sale of loans)		42			20			90			52
Settlements (payments)		(38	)		(21	)		(75	)		(55	)
Balances, end of period	$	465		$	467		$	465		$	467

Total unrealized gains and losses included in net income reflected in the table above are included in other income.

Nonrecurring Measurements

The following is a description of the valuation methodologies used for instruments measured at fair value on a nonrecurring basis, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Impaired Loans (Collateral Dependent)

Loans, for which it is probable that the Company will not collect all principal and interest due according to contractual terms, are measured for impairment.  Allowable methods for determining the amount of impairment include estimating fair value using the fair value of the collateral for collateral-dependent loans.

The fair values of collateral dependent impaired loans are based on independent appraisals of the collateral.  In general, the Company acquires an updated appraisal upon identification of impairment and annually thereafter for commercial, commercial real estate and multi-family loans.  If the most recent appraisal is over a year old, and a new appraisal is not performed, due to lack of comparable values or other reasons, the existing appraisal is utilized and discounted 20% - 30% based on the age of the appraisal, condition of the subject property, and overall economic conditions.  After determining the collateral value as described, the fair value is calculated based on the determined collateral value less selling expenses.

Impaired loans that are collateral dependent are classified within Level 3 of the fair value hierarchy when impairment is determined using the fair value method.

23

The following tables present the fair value measurements of assets and liabilities measured at fair value on a nonrecurring basis and the level within the fair value hierarchy in which the fair value measurements fall:

			September 30, 2012
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(Unaudited) (In Thousands)
Impaired loans	$	2,396	$	—	$	—	$	2,396

			December 31, 2011
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)
Impaired loans	$	2,594	$	—	$	—	$	2,594

Unobservable (Level 3) Inputs

The following table presents quantitative information about unobservable inputs used in recurring and nonrecurring Level 3 fair value measurements.

		Fair Value at September 30, 2012	Valuation Technique	Unobservable Inputs	Range (Weighted Average)
Impaired loans	$	2,396	Comparative sales based on independent appraisals	Marketability Discount	20.0% - 30.0% (20.0%)
Mortgage-servicing rights	$	465	Discounted Cash Flow	Discount rate Conditional prepayment rate Expected loan servicing years	4.9% -5.5% (5.4%) 12.7% - 20.8% (19.1%) 2.9 - 3.4 (3.07)

The following methods were used to estimate the fair value of all other financial instruments recognized in the accompanying balance sheets at amounts other than fair value.

Cash and Cash Equivalents, Federal Home Loan Bank Stock, Stock Conversion Proceeds in Escrow, Interest Receivable and Interest Payable

The carrying amount approximates fair value.

24

Loans

The fair value of loans is estimated by discounting the future cash flows using the market 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.

Loans Held for Sale

Loans held for sale are based on current market prices.

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.

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.

The following table presents estimated fair values of the Company’s financial instruments at September 30, 2012 and December 31, 2011.

	(Unaudited)
	September 30, 2012
			Fair Value
			Quoted Prices
			in Active		Significant
			Markets for		Other		Significant
			Identical		Observable		Unobservable		December 31, 2011
	Carrying		Assets		Inputs		Inputs		Carrying		Fair
	Amount		(Level 1)		(Level 2)		(Level 3)		Amount		Value
Financial assets
Cash and cash equivalents	$	16,904	$	16,904	$	—	$	—	$	22,734	$	22,734
Available-for-sale securities		59,957		—		59,957		—		47,878		47,878
Loan held for sale		901		—		901		—		533		533
Loans, net		155,947		—		—		161,340		154,058		157,078
Federal Home Loan Bank stock		1,722		—		1,722		—		1,722		1,722
Interest receivable		1,045		—		1,045		—		1,030		1,030
Mortgage Servicing Rights		465		—		—		465		440		440
Financial liabilities
Deposits		191,787		94,126		98,674		—		182,975		183,807
Federal Home Loan Bank advances		24,000		—		24,453		—		27,000		27,602
Interest payable		106		—		106		—		117		117
Stock conversion proceeds in escrow		—		—		—		—		11,687		11,687

25

NOTE 7:  Recent Accounting Pronouncements

Accounting Standards Update No. 2011-11—Balance Sheet (Topic 210).  In December 2011, FASB issued ASU 2011-11.  The objective of this Update is to provide enhanced disclosures that will enable users of financial statements to evaluate the effect or potential effect of netting arrangements on an entity’s financial position. This includes the effect or potential effect of rights of setoff associated with an entity’s recognized assets and recognized liabilities within the scope of this Update.  The amendments require enhanced disclosures by requiring improved information about financial instruments and derivative instruments that are either (1) offset in accordance with either Section 210-20-45 or Section 815-10-45 or (2) subject to an enforceable master netting arrangement or similar agreement, irrespective of whether they are offset in accordance with either Section 210-20-45 or Section 815-10-45.

An entity is required to apply the amendments for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. An entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented.  The Company will adopt the methodologies prescribed by this ASU by the date required, and does not anticipate that the ASU will have a material effect on its financial position or results of operations.

NOTE 8:  Earnings per Share

	Three Months Ended		Nine Months Ended
	September 30, 2012		September 30, 2012
	(Unaudited)
Net Income	$	306,476	$	425,944
Shares Outstanding for Basic EPS:
Average Shares Outstanding		1,401,008		1,354,989
Less:  Average Unearned ESOP Shares		108,801		106,512
Shares Outstanding for Basic EPS		1,292,207		1,248,477
Additional Dilutive Shares		—		—
Shares Outstanding for Diluted EPS		1,292,207		1,248,477
Basic Earnings Per Share	$	.24	$	.34
Diluted Earnings Per Share	$	.24	$	.34

NOTE 9:  Reclassifications

Certain reclassifications have been made to the 2011 condensed consolidated financial statements to conform to the September 30, 2012 presentation.

26

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

General

Management’s discussion and analysis of the financial condition as of September 30, 2012 and December 31, 2011 results of operations for three and nine months ended September 30, 2012 and 2011 is intended to assist in understanding the financial condition and results of operations of the Company on a consolidated basis.  The information contained in this section should be read in conjunction with the unaudited financial statements and the notes thereto, appearing on Part I, Item 1 of this quarterly report on Form 10-Q.

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This quarterly report contains forward-looking statements, which can be identified by the use of words such as “estimate,” “project,” “believe,” “intend,” “anticipate,” “plan,” “seek,” “expect,” “will,” “may” and words of similar meaning.  These forward-looking statements include, but are not limited to:

● statements of our goals, intentions and expectations;

● statements regarding our business plans, prospects, growth and operating strategies;

● statements regarding the asset quality of our loan and investment portfolios; and

● estimates of our risks and future costs and benefits.

These forward-looking statements are based on our current beliefs and expectations and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control.  In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change.  We are under no duty to and do not take any obligation to update any forward-looking statements after the date of this quarterly report.

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements:

● general economic conditions, either nationally or in our market areas, that are worse than expected;

● competition among depository and other financial institutions;

● our success in continuing to emphasize consumer lending, including indirect automobile lending;

27

● our ability to improve our asset quality even as we increase our non-residential lending;

● our success in maintaining our commercial and multi-family real estate and our non-owner occupied one- to four-family residential real estate and commercial business lending;

● changes in the interest rate environment that reduce our margins or reduce the fair value of our financial instruments;

● adverse changes in the securities markets;

● changes in laws or government regulations or policies affecting financial institutions, including changes in deposit insurance premiums, regulatory fees and capital requirements, which increase our compliance costs;

● our ability to enter new markets successfully and capitalize on growth opportunities;

● changes in consumer spending, borrowing and savings habits;

● changes in accounting policies and practices, as may be adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission and the Public Company Accounting Oversight Board;

● changes in our organization, compensation and benefit plans;

● loan delinquencies and changes in the underlying cash flows of our borrowers;

● changes in our financial condition or results of operations that reduce capital available to pay dividends; and

● changes in the financial condition or future prospects of issuers of securities that we own.

Critical Accounting Policies

There are no material changes to the critical accounting policies disclosed in West End Indiana Bancshares, Inc.’s Annual Report on Form 10-K as filed with the Securities and Exchange Commission on March 29, 2012.

Comparison of Financial Condition at September 30, 2012 and December 31, 2011

Total assets increased $7.0 million, or 2.9%, to $247.8 million at September 30, 2012 from $240.8 million at December 31, 2011.  The increase was primarily the result of an increase in investment securities available for sale and net loans, partially offset by a decrease in cash.

Total cash and cash equivalents decreased $5.8 million, or 25.6%, to $16.9 million at September 30, 2012 from $22.7 million at December 31, 2011.  Cash declined as funds were invested in available-for-sale securities and loans.

Securities classified as available for sale increased $12.1 million, or 25.2%, to $60.0 million at September 30, 2012 from $47.9 million at December 31, 2011, as management deployed funds from increased deposits and additional capital provided by the initial stock offering.  At September 30, 2012, securities classified as available for sale consisted of mortgage-backed securities, municipal bonds, and SBA loan pools.

28

Net loans increased by $1.8 million, or 1.2%, to $155.9 million at September 30, 2012 from $154.1 million at December 31, 2011.   Indirect consumer loans increased $1.8 million, or 4.1%, to $46.1 million at September 30, 2012 from $44.3 million at December 31, 2011.  Commercial and multi-family loans increased $1.4 million, or 4.6%, to $31.7 million at September 30, 2012 from $30.3 million at December 31, 2011 and direct consumer loans increase $1.3 million, or 15.9% to $9.5 million at September 30, 2012 from $8.2 million at December 31, 2011.  These increases were offset by a decrease in construction loans of $1.5 million, or 53.6% to $1.3 million at September 30, 2012 from $2.8 million at December 31, 2011.  Other loan categories had changes of lesser amounts. 1-4 family residential loans increased $200,000 or 0.4% to $57.1 million at September 30, 2012 from $56.9 million at December 31, 2011.

            Total non-performing loans increased to $2.8 million at September 30, 2012 from $1.7 million at December 31, 2011.  The increase was primarily due to an increase in non-performing 1-4 family residential loans from $689,000 at December 31, 2011 to $1.6 million at September 30, 2012.

Other assets decreased $1.5 million, or 40.5%, to $2.2 million at September 30, 2012 from $3.7 million at December 31, 2011.  Significant contributing factors to the decrease was a decline in conversion costs of $710,000, accrued pension expense of $341,000, and prepaid FDIC premiums of $133,000.

Deposits increased $8.8 million, or 4.8%, to $191.8 million at September 30, 2012 from $183.0 million at December 31, 2011.  The increase was a result of increased commercial and retail accounts and normal business trends from existing customers.

Borrowings, consisting entirely of Federal Home Loan Bank advances, decreased $3.0 million or 11.1%, to $24.0 million at September 30, 2012 from $27.0 million at December 31, 2011.

Stock conversion proceeds in escrow, $11.7 million, were applied to stock purchases as of January 10, 2012 and the account was closed.

Total equity increased to $30.7 million at September 30, 2012 from $18.0 million at December 31, 2011.  The increase was a result of the successful completion of our initial public offering which closed on January 10, 2012, which raised net proceeds, net of offering costs of $1,092,000, of $12,537,000 as well as continued improved earnings including net income of $426,000, for the nine months ended September 30, 2012.

Comparison of Operating Results for the Three Months Ended September 30, 2012 and 2011

General.  We recorded net income of $306,000 for the quarter ended September 30, 2012 compared to net income of $194,000 for the quarter ended September 30, 2011.  Net interest income after provision for loan losses increased $163,000 and non-interest income increased $56,000 while noninterest expense decreased $46,000.  Tax expense increased $153,000.

29

Interest Income.  Interest income increased  $10,000, or 0.04%, to $2.82 million for the quarter ended September 30, 2012 from $2.81 million for the quarter ended September 30, 2011, as the increase in the average balance of interest-earning assets was offset by a decrease in the average yield on such assets.  The average balance of total interest-earning assets increased $28.1 million, or 13.7%, to $233.5 million for the September 30, 2012 from $205.4 million for the quarter ended September 30, 2012. The average balance of securities available for sale increased $17.4 million, or 42.4%, to $58.4 million for the quarter ended September 30, 2012 from $41.0 million for the quarter ended September 30, 2011 and other interest-earning assets, primarily cash and cash equivalents, increased $4.0 million, or 40.0% to $14.0 million for the quarter ended September 30, 2012 from $10.0 million for the quarter ended September 30, 2011.  The impact of the increase in total interest-earning assets was partially offset by a 64 basis point decrease in the average yield on interest-earning assets to 4.85% for the 2012 period from 5.49% for the 2011 period.

Interest income on loans remained unchanged at $2.5 million for the quarters ended September 30, 2012 and 2011, as the increase in the average balance of loans was offset by a decrease in the average yield on our loans.  The average balance of net loans increased $6.7 million, or 4.3%, to $161.0 million for the quarter ended September 30, 2012 from $154.3 million for the quarter ended September 30, 2011. However, the average yield on our loan portfolio decreased 28 basis points to 6.26% for the quarter ended September 30, 2012 from 6.54% for the quarter ended September 30, 2011, reflecting the lower market interest rate environment.

Interest income on investment securities, other interest earning assets and FHLB of Indianapolis stock increased.  As noted above, average balance of our securities available for sale increased $17.4 million, or 42.4%, to $58.4 million for the quarter ended September 30, 2012 from $41.0 million for the quarter ended September 30, 2011, as management deployed funds from increased deposits and proceeds from the initial stock offering to purchase these securities. The average yield on our securities portfolio decreased by 76 basis points, to 1.97% for the quarter ended September 30, 2012 from 2.73% for the quarter ended September 30, 2011, reflecting lower market interest rates and the initial implementation of an investment and tax strategy that includes an investment in municipal bonds.

Interest Expense.  Interest expense decreased $193,000, or 24.2%, to $604,000 for the quarter ended September 30, 2012 from $797,000 for the quarter ended September 30, 2011.  The decrease resulted primarily from a decrease in interest expense on deposits. The average rate paid on deposits decreased 51 basis points to 1.04% for the quarter ended September 30, 2012 from 1.55% for the quarter ended September 30, 2011, as the Bank repriced its deposit rates in the declining market interest rate environment. The average balance of interest-bearing deposits increased $16.3 million, or 9.7%, to $182.8 million for the quarter ended September 30, 2012 from $166.5 million for the quarter ended September 30, 2011. The increase in the average balance of deposits resulted primarily from increases in the average balance of our interest-bearing checking accounts.  Our successful marketing efforts to attract new commercial and retail customer accounts continues to increase our core deposits, consisting of interest and noninterest bearing checking, money market and savings accounts.

The average balance of our money market accounts increased by $6.8 million, or 19.5%, to $41.7 million for the quarter ended September 30, 2012 from $34.9 million for the quarter ended September 30, 2011 due to marketing efforts that included an expansion of electronic services and products.  In addition, the interest expense on our money market accounts declined to $53,000 from $81,000, due to the decrease of 42 basis points in the cost of these deposits to 0.51% for the September 2012 quarter from 0.93% for the September 2011 quarter, reflecting lower market interest rates.  Interest expense onour certificates of deposit decreased by $125,000, or 23.9%, to $399,000 for the quarter ended September 30, 2012 from $524,000 for the year-earlier period as a result of a decrease of 59 basis points in the average rate paid on these deposits to 1.62% for the 2012 period from 2.21% for the 2011 period which more than offset the increase in average balance of certificates of deposit of $3.7 million, or 3.9% to $98.8 million from $95.1 million.

30

Interest expense on borrowed funds, consisting entirely of Federal Home Loan Bank advances, decreased by $24,000, or 15.7%, to $129,000 for the quarter ended September 30, 2012 from $153,000 for the quarter ended September 30, 2011, as the average rate paid on these funds declined to 2.05% offset in part by reflecting an increase in the average balance of our outstanding advances.

Net Interest Income.  Net interest income increased by $203,000, or 10.1%, to $2.2 million for the quarter ended September 30, 2012 from $2.0 million for the quarter ended September 30, 2011.  The increase reflected an increase in our average balance of interest-bearing assets to average bearing liabilities to 112.2% as of September 30, 2012 from 107.5% as of September 30, 2011 offset by a decrease in the net interest rate spread to 3.69% from 3.82%, and in our net interest margin to 3.80% from 3.92%.

Provision for Loan Losses.  Based on our analysis of the factors described in “Critical Accounting Policies — Allowance for Loan Losses” which is included in our annual report on Form 10-K for the year ended December 31, 2011, we recorded a provision for loan losses of $340,000 for the quarter ended September 30, 2012, an increase of $40,000, or 13.3% from $300,000 for the quarter ended September 30, 2011.  Net charge offs increased $324,000 to $481,000 for the three month period ended September 30, 2012 from $157,000 for the three month period ended September 30, 2011.  These charge offs represent two 1-4 family mortgage loans and one commercial real estate loan previously identified and reserved for these expected losses.  At September 30, 2012, non-performing loans including troubled debt restructurings, totaled $2.8 million, or 1.8% of total loans, as compared to $2.5 million, or 1.6% of total loans, at September 30, 2011.  The allowance for loan losses to total loans decreased to 1.18% at September 30, 2012 from 1.23% at September 30, 2011.The decrease in the reserve was a result of loans charged off in 2012 that had been expensed through a specific reserve in the allowance in 2011 and a modest improvement in trends of impaired loans as compared to the second quarter of 2012.  To the best of our knowledge, we have provided for all losses that are both probable and reasonable to estimate at September 30, 2012 and 2011.

Noninterest Income.  Noninterest income increased by $56,000, or 13.2%, to $480,000 for the quarter ended September 30, 2012 from $424,000 for the quarter ended September 30, 2011.  The increase was primarily an increase in loan servicing income of $104,000 due to increased loan sales to Freddie Mac and a decrease in loss on the sale of other assets of $73,000, partially offset by decreases in gains on sale of loans of $111,000 due to the no SBA sales in 2012 and service charges on deposit accounts of $11,000 due to regulatory changes to processing of overdrafted accounts.

Noninterest Expense.Noninterest expense decreased $46,000, or 2.5%, to $1.81 million for the quarter ended September 30, 2012 from $1.86 million for the quarter ended September 30, 2011.  The change was primarily due to decreases of $59,000 to pension expense and $22,000 to ATM Charges partially offset by an increase of $42,000 to professional services. Salaries and employee benefits declined primarily due to a decline in pension expense. Professional services increased due to the additional costs associated with reporting requirements of a public company.  To a lesser extent, advertising and data processing also increased as expected due to planned projects implemented, including website redesign and enhanced core processing systems.

31

April 24, 2012 the Bank’s Board of Directors elected to freeze the Pentegra Defined Benefit Plan for West End Bank, S.B. employees. The company participates in the Pentegra Defined Benefit Plan for Financial Institutions, a noncontributory multi-employer pension plan covering all qualified employees.  As of the effective date of July 1, 2012 no new participants will be added to the plan and the accrual of benefits to active participants at that date will be suspended.  It is expected that this change will result in significant savings to employee benefit expense.  The minimum required contribution for the plan year July 1, 2011 to June 30, 2012 was $530,000.  As a result of the freeze on the plan, for the July 1, 2012 to June 30, 2013 period, the estimated minimum required contribution is $263,000 as presented by Pentegra.  The Pentegra study analysis was based on July 1, 2011 plan data including the number of active participants and plan payroll.  The actual minimum required contribution will be provided by Pentegra in the July 1, 2012 actuarial valuation and report provided in the fourth quarter of 2012.

Income Tax Expense.  We recorded $239,000 in income tax expense for the quarter ended September 30, 2012 compared to $86,000 in income tax expense for the 2011 period, reflecting income of $545,000 before income tax expense during the 2012 quarter versus income before income tax expense of $280,000 for the quarter ended September 30, 2011.

Comparison of Operating Results for the Nine Months Ended September 30, 2012 and 2011

General.  Net income decreased to $426,000 for the nine months ended September 30, 2012 from $528,000 for the nine months ended September 30, 2011.  The decrease in net income was due primarily to a one-time expense of $505,000 to fund the West End Bank Charitable Foundation in connection with the closing of our initial stock offering.    On the core results of the Company’s operations, there was an increase in net interest income after provision for loan losses of $959,000 to $5.6 million for the nine months ended September 30, 2012 from $4.6 million for the nine months ended September 30, 2011.

Interest Income.  Interest income increased $17,000, or 0.2%, as the increase in the average balance of interest-earning assets was offset by a decrease in the average yield on such assets.  The average balance of total interest-earning assets increased $27.2 million, or 13.3%, to $232.0 million for the nine months ended September 30, 2012 from $204.6 million for the nine months ended September 30, 2011.  The increase in total interest-earning assets was offset by a 62 basis point decrease in the average yield on interest-earning assets to 4.81% for the 2012 period from 5.43% for the 2011 period, as a result of generally declining market interest rates.

Interest income and fees on loans decreased $112,000, or 1.5%, to $7.5 million for the nine months ended September 30, 2012 from $7.6 million for the nine months ended September 30, 2011, as the increase in the average balance of loans was more than offset by a decrease in the average yield on loans.  The average balance of loans increased $3.0 million, or 1.9%, to $158.1 million for the nine months ended September 30, 2012 from $155.1 million for the nine months ended September 30, 2011. The average yield on the loan portfolio decreased 21 basis points to 6.32% for the nine months ended September 30, 2012 from 6.53% for the six months ended September 30, 2011, reflecting the lower market interest rate environment.

32

Interest income on investment securities, other interest-earning assets and FHLB of Indianapolis stock increased $107,000, or 15.2%, to $810,000 for the nine months ended September 30, 2012 from $703,000 for the nine months ended September 30, 2011.  The increase resulted primarily from an increase in the average balance of securities available for sale, which increased $12.0 million, or 29.7%, to $52.5 million for the nine months ended September 30, 2012 from $40.5 million for the 2011 period, as funds from increased deposits were deployed to purchase these securities. The average yield on the securities portfolio decreased to 2.06% for the nine months ended September 30, 2012 from 2.32% for the nine months ended September 30, 2011.

Interest Expense.  Interest expense decreased $517,000, or 21.0%, to $1.9 million for the nine months ended September 30, 2012 from $2.5 million for the nine months ended September 30, 2011, as the decrease in the average cost of deposits more than offset the increase in the average balance of deposits.  The average rate we paid on deposits decreased 55 basis points to 1.09% for the nine months ended September 30, 2012 from 1.64% for the nine months ended September 30, 2011, as deposits repriced downward in the declining interest rate environment.  The most significant decrease in interest expense was on our certificates of deposit which decreased $416,000.  The average balance of interest-bearing deposits increased $17.0 million, or 10.1%, to $184.7 million for the nine months ended September 30, 2012 from $167.8 million for the nine months ended September 30, 2011.  The increase in the average balance of our deposits resulted from increases in all core deposits including interest and noninterest bearing checking, money market, savings accounts and certificates of deposit, reflecting our marketing efforts and increased core deposit balances from commercial loan customers.

The average balance of our certificates of deposit increased by $1.8 million, or 1.9%, to $98.5 million for the nine months ended September 30, 2012 from $96.7 million for the nine months ended September 30, 2011.  The interest expense on our certificates of deposit declined from $1.7 million to $1.3 million, due to the decrease of 60 basis points in the cost of these deposits to 1.70% for the nine months ended September 2012 period from 2.30% for the nine months ended September 2011 period, which more than offset the increase in the average balances held.  The average balance of core interest-bearing deposit accounts increased $15.1 million, or 21.2%, to $86.2 million for the nine months ended September 30, 2012 from $71.1 million for the nine months ended September 30, 2011, as customers increased their liquidity and cross-marketing efforts with our commercial customers were increased.

The decrease in interest expense on deposits was minimally offset by an increase in interest expense, $29,000, on Federal Home Loan Bank advances as the increase of average balance on those borrowings exceeded the decrease of average rate paid.

Net Interest Income.  Net interest income increased $534,000, or 9.1%, to $6.4 million for the nine months ended September 30, 2012 from $5.9 million for the nine months ended September 30, 2011.  The increase reflected an increase in the average balance of our interest-earning assets to average interest-bearing liabilities to 109.7% for the quarter ended September 30, 2012 compared to 107.3% for the quarter ended September 30, 2011 offset by a decrease in the interest rate spread to 3.69% for the nine months ended September 30, 2012 from 3.71% for the nine months ended September 30, 2011, and a decrease in net interest margin to 3.68% for the nine months ended September 30, 2012 from 3.82% for nine months ended September 30, 2011.

Provision for Loan Losses.  A provision for loan losses of $850,000 was recorded for the nine months ended September 30, 2012 and $1.3 million for the nine months ended September 30, 2011.  The allowance for loan losses was $1.9 million, or 1.18% of total loans, at September 30, 2012, compared to $1.9 million, or 1.23% of total loans, at September 30, 2011.  Total nonperforming loans were $2.8 million at September 30, 2012, compared with $2.5 million at September 30, 2011.  Net charges offs decreased $196,000 to $895,000 for the nine months ended September 30, 2012 from $1.1 million for the nine month period of the prior year.  To the best of our knowledge, we have provided for all losses that are both probable and reasonable to estimate.

33

Noninterest Income.  Noninterest income decreased by $263,000, or 18.5%, to $1.2 million for the nine months ended September 30, 2012 from $1.4 million for the nine months ended September 30, 2011.  The decrease was primarily due to decreases in gains on sale of loans of $289,000, gains on the sale of securities of $37,000, service charges on deposit accounts of $32,000, and loan servicing income of $17,000 partially offset by a decrease on losses on the sale of other assets of $110,000.  Gain on sale of loans decreased $289,000 to $386,000 for the nine months ended September 30, 2012 as compared to $675,000 for the same period in 2011.  The decrease was due to gains of $500,000 recorded on the sale of SBA loans during the 2011 period which was not repeated in the 2012 period, offset in part this year by increased sales of loans to Freddie Mac as a result of the continued low rate environment.

Noninterest Expense.Noninterest expense increased $799,000, or 15.3%, to $6.0 million for the nine months ended September 30, 2012 from $5.2 million for the nine months ended September 30, 2011.  Notable changes included an increase in salaries and employee benefits of $171,000, an increase in professional fees of $154,000, a decrease in FDIC insurance premiums of $52,000 and an increase in charitable donations as a contribution of $505,000 was made to fund the West End Bank Charitable Foundation.  Salaries and employee benefits increased due to normal cost of living adjustments, increased medical insurance premiums and increased contributions to the employee defined benefit plan in the first six months of the year prior to freezing of the plan for accrual of future benefits.  Professional fees increased $154,000 for the 2012 period due to increased reporting requirements for public companies.  The decrease in FDIC insurance premiums resulted from a change in the prescribed method used to calculate our quarterly contribution.

34

Income Tax Expense.  A $268,000 income tax expense was recorded for the nine months ended September 30, 2012 compared to a $269,000 income tax expense for the 2011 period, reflecting income of $694,000 before income tax expense for the nine months ended September 30, 2012, compared to income before income tax expense of $797,000 for the nine months ended September 30, 2011.  Our effective tax rate was 38.6% for the nine months ended September 30, 2012, compared to 33.7% for the nine months ended September 30, 2011.  The increase in the effective tax rate was due the tax treatment of the $505,000 donation to the West End Bank Charitable Foundation by the state.

Liquidity and Capital Resources.  Our primary sources of funds are deposits, principal and interest payments on loans and securities, proceeds from sale of loans, proceeds from maturities and calls of securities, and Federal Home Loan Bank advances.  While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions, and competition.  Our most liquid assets are cash and short-term investments including interest-bearing demand deposits.  The levels of these assets are dependent on our operating, financing, lending, and investing activities during any given period.

Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities.  Net cash provided by operating activities was $2.8 million and $1.4 for the nine months ended September 30, 2012 and 2011, respectively.  Net cash used in investing activities, which consists primarily of disbursements for loan originations and the purchase of securities, offset by principal collections on loans, proceeds from the sale of portfolio loans and securities and proceeds from maturing securities and pay downs on mortgage-backed securities, was $14.9 million for the nine months ended September 30, 2012 compared to cash used by investing activities of $4.8 million for the nine months ended September 30, 2011.  The 2012 period reflected our purchase of $32.7 million in securities held as available-for-sale compared to the purchase of $21.1 million for the same period in 2011.  Net cash provided by financing activities, consisting primarily of the activity in deposit accounts and Federal Home Loan Bank advances, was $6.3 million and $8.8 million for the nine months ended September 30, 2012 and 2011, respectively, resulting from our strategy of growing our core deposit accounts from our commercial borrowers and a general growth in all deposit categories resulting from customers seeking the relative stability of insured accounts in the uncertain economic environment, while paying down FHLB advances.

At September 30, 2012, we exceeded all of our regulatory capital requirements with a Tier 1 (core) capital level of $25.2 million, or 10.3% of adjusted total assets, which is above the required level of $9.8 million, or 4%; and total risk-based capital of $27.1 million, or 17.5% of risk-weighted assets, which is above the required level of $19.5 million, or 8%.  Accordingly West End Bank, S.B. was categorized as well capitalized at September 30, 2012.  Management is not aware of any conditions or events since the most recent notification that would change our category.

At September 30, 2012, we had outstanding commitments to originate loans of $19.5 million and stand-by letters of credit of $1.1 million.  We anticipate that we will have sufficient funds available to meet our current loan origination commitments.  Certificates of deposit that are scheduled to mature in less than one year from September 30, 2012 totaled $51.7 million.  Management expects that a substantial portion of the maturing certificates of deposit will be renewed.  However, if a substantial portion of these deposits is not retained, we may utilize Federal Home Loan Bank advances or raise interest rates on deposits to attract new accounts, which may result in higher levels of interest expense.

35

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Not applicable, as the Registrant is a smaller reporting company.

Item 4. Controls and Procedures

An evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and the and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of September 30, 2012.  Based on that evaluation, the Company’s management, including the Chief Executive Officer and the Chief Financial Officer, concluded that the Company’s disclosure controls and procedures were effective.

During the quarter ended September 30, 2012, there have been no changes in the Company’s internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

36

Part II – Other Information

Item 1. Legal Proceedings

We are subject to various legal actions arising in the normal course of business.  In the opinion of management, the resolution of these legal actions is not expected to have a material adverse effect on our financial condition or results of operations.

Item 1A. Risk Factors

Not applicable, as the Registrant is a smaller reporting company.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

(a) There were no sales of unregistered securities during the period covered by this Report.

(b) Not applicable.

(c) There were no issuer repurchases of securities during the period covered by this Report.

Item 3. Defaults Upon Senior Securities

None.

Item 4. Mine Safety Disclosure

Not Applicable

Item 5. Other Information

None.

Item 6. Exhibits

31.1	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32	Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS	XBRL Instance Document.
101.SCH	XBRL Schema Document.
101.CAL	XBRL Calculation Linkbase Document.
101.DEF	XBRL Definition Linkbase Document.
101.LAB	XBRL Label Linkbase Document.
101.PRE	XBRL Presentation Linkbase Document.

37

SIGNATURES

Pursuant to the requirements 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.

	WEST END INDIANA BANCSHARES, INC.
Date:  November 13, 2012	/s/ John P. McBride
	John P. McBride
	President and Chief Executive Officer
Date:  November 13, 2012	/s/ Shelley D. Miller
	Shelley D. Miller
	Senior Vice President and Chief Financial Officer

38