Edgar Filing: ISABELLA BANK CORP

Large accelerated filer

Accelerated filer

Non-accelerated filer

¨ (Do not check if a smaller reporting company)

Smaller reporting company

Form 10-Q

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 March 31, 2013

¨	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

For the transition period from to

Commission File Number: 0-18415

Isabella Bank Corporation

(Exact name of registrant as specified in its charter)


Michigan		38-2830092
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer identification No.)

401 N. Main St, Mt. Pleasant, MI		48858
(Address of principal executive offices)		(Zip code)

(989) 772-9471

(Registrant’s telephone number, including area code)

N/A

(Former name, former address and former fiscal year, 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 filing requirements for the past 90 days. x Yes ¨ No

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

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

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

APPLICABLE ONLY TO CORPORATE ISSUERS:

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

Common Stock no par value, 7,696,617 as of April 29, 2013

ISABELLA BANK CORPORATION

QUARTERLY REPORT ON FORM 10-Q

Table of Contents



PART I FINANCIAL INFORMATION			4

Item 1 Financial Statements			4

Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations			37

Item 3 Quantitative and Qualitative Disclosures about Market Risk			56

Item 4 Controls and Procedures			56

PART II OTHER INFORMATION			57

Item 1 Legal Proceedings			57

Item 1A Risk Factors			57

Item 2 Unregistered Sales of Equity Securities and Use of Proceeds			57

Item 6 Exhibits			58

SIGNATURES			59

Forward Looking Statements

This report contains certain forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. We intend such forward looking statements to be covered by the safe harbor provisions for forward looking statements contained in the Private Securities Litigation Reform Act of 1995, and is included in this statement for purposes of these safe harbor provisions. Forward looking statements, which are based on certain assumptions and describe future plans, strategies and expectations, are generally identifiable by use of the words “believe,” “expect,” “intend,” “anticipate,” “estimate,” “project,” or similar expressions. Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations and future prospects include, but are not limited to, changes in: interest rates, general economic conditions, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the FRB, the quality or composition of the loan or investment portfolios, demand for loan products, fluctuation in the value of collateral securing our loan portfolio, deposit flows, competition, demand for financial services in our market area, and accounting principles, policies and guidelines. These risks and uncertainties should be considered in evaluating forward looking statements and undue reliance should not be placed on such statements. Further information concerning Isabella Bank Corporation and its business, including additional factors that could materially affect our financial results, is included in our filings with the SEC.

The acronyms and abbreviations identified below may be used throughout this 10-Q, or in our other filings. You may find it helpful to refer back to this page while reading this report.


AFS: Available-for-sale		IFRS: International Financial Reporting Standards
ALLL: Allowance for loan and lease losses		IRR: Interest Rate Risk
AOCI: Accumulated other comprehensive income		JOBS Act: Jumpstart our Business Startups Act
ASC: FASB Accounting Standards Codification		LIBOR: London Interbank Offered Rate
ASU: FASB Accounting Standards Update		Moody’s: Moody’s Investors Service, Inc
ATM: Automated Teller Machine		N/A: Not applicable
BHC Act: Bank Holding Company Act of 1956		N/M: Not meaningful
CFPB: Consumer Financial Protection Bureau		NASDAQ: NASDAQ Stock Market Index
CRA: Community Reinvestment Act		NASDAQ Banks: NASDAQ Bank Stock Index
DIF: Deposit Insurance Fund		NAV: Net asset value
Directors Plan: Isabella Bank Corporation and Related		NOW: Negotiable order of withdrawal
Companies Deferred Compensation Plan for Directors		NSF: Non-sufficient funds
Dividend Reinvestment Plan: Isabella Bank Corporation		OCI: Other comprehensive income (loss)
Stockholder Dividend Reinvestment Plan and Employee		DIFS: Department of Insurance and Financial
Stock Purchase Plan		Services
Dodd-Frank Act: Dodd-Frank Wall Street Reform and		OMSR: Originated mortgage servicing rights
Consumer Protection Act of 2010		OREO: Other real estate owned
ESOP: Employee stock ownership plan		OTC: Over-the-Counter
Exchange Act: Securities Exchange Act of 1934		OTTI: Other-than-temporary impairment
FASB: Financial Accounting Standards Board		PBO: Projected Benefit Obligation
FDI Act: Federal Deposit Insurance Act		PCAOB: Public Company Accounting Oversight
FDIC: Federal Deposit Insurance Corporation		Board
FFIEC: Federal Financial Institutions Examination Council		Rabbi Trust: A trust established to fund
Fitch: Fitch Ratings		the Directors Plan
FRB: Federal Reserve Bank		SEC: U.S. Securities & Exchange Commission
FHLB: Federal Home Loan Bank		SOX: Sarbanes-Oxley Act of 2002
Freddie Mac: Federal Home Loan Mortgage Corporation		S&P: Standard & Poor
FTE: Fully taxable equivalent		TDR: Troubled debt restructuring
GAAP: U.S. generally accepted accounting principles		XBRL: eXtensible Business Reporting Language
GLB Act: Gramm-Leach-Bliley Act of 1999

PART I – FINANCIAL INFORMATION

Item 1 – Interim Condensed Consolidated Financial Statements (Unaudited)

INTERIM CONDENSED CONSOLIDATED BALANCE SHEETS

(Dollars in thousands)


	March 31 2013		December 31 2012
ASSETS
Cash and cash equivalents
Cash and demand deposits due from banks	$	14,921	$	22,634
Interest bearing balances due from banks		4,759		2,286

Total cash and cash equivalents		19,680		24,920
Certificates of deposit held in other financial institutions		3,505		4,465
Trading securities		1,563		1,573
AFS securities (amortized cost of $509,401 in 2013 and $490,420 in 2012)		520,931		504,010
Mortgage loans AFS		1,026		3,633
Loans
Commercial		364,350		371,505
Agricultural		81,196		83,606
Residential real estate		288,962		284,148
Consumer		33,014		33,494

Total loans		767,522		772,753
Less allowance for loan losses		11,909		11,936

Net loans		755,613		760,817
Premises and equipment		25,772		25,787
Corporate owned life insurance		22,819		22,773
Accrued interest receivable		6,160		5,227
Equity securities without readily determinable fair values		18,123		18,118
Goodwill and other intangible assets		46,475		46,532
Other assets		13,038		12,784

TOTAL ASSETS	$	1,434,705	$	1,430,639

LIABILITIES AND SHAREHOLDERS’ EQUITY
Deposits
Noninterest bearing	$	137,322	$	143,735
NOW accounts		183,055		181,259
Certificates of deposit under $100 and other savings		472,765		455,546
Certificates of deposit over $100		236,618		237,127

Total deposits		1,029,760		1,017,667
Borrowed funds		232,410		241,001
Accrued interest payable and other liabilities		7,227		7,482

Total liabilities		1,269,397		1,266,150

Shareholders’ equity
Common stock — no par value 15,000,000 shares authorized; issued and outstanding 7,688,928 shares (including 2,800 shares held in the Rabbi Trust) in 2013 and 7,671,846 shares (including 5,130 shares held in the Rabbi Trust) in 2012		137,012		136,580
Shares to be issued for deferred compensation obligations		3,780		3,734
Retained earnings		20,646		19,168
Accumulated other comprehensive income		3,870		5,007

Total shareholders’ equity		165,308		164,489

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY	$	1,434,705	$	1,430,639

See notes to interim condensed consolidated financial statements.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(Dollars in thousands except per share data)


	Common Stock Shares Outstanding			Common Stock			Shares to be Issued for Deferred Compensation Obligations			Retained Earnings			Accumulated Other Comprehensive Income (Loss)			Totals
Balance, January 1, 2012		7,589,226		$	134,734		$	4,524		$	13,036		$	2,489		$	154,783
Comprehensive income		—			—			—			3,234			597			3,831
Issuance of common stock		25,998			609			—			—			—			609
Common stock transferred from the Rabbi Trust to satisfy deferred compensation obligations		—			95			(95	)		—			—			—
Share based payment awards under equity compensation plan		—			—			169			—			—			169
Common stock purchased for deferred compensation obligations		—			(144	)		—			—			—			(144	)
Common stock repurchased pursuant to publicly announced repurchase plan		(18,452	)		(426	)		—			—			—			(426	)
Cash dividends ($0.20 per share)		—			—			—			(1,515	)		—			(1,515	)

Balance, March 31, 2012		7,596,772		$	134,868		$	4,598		$	14,755		$	3,086		$	157,307

Balance, January 1, 2013		7,671,846			136,580			3,734			19,168			5,007		$	164,489
Comprehensive income (loss)		—			—			—			3,087			(1,137	)		1,950
Issuance of common stock		37,591			902			—			—			—			902
Common stock transferred from the Rabbi Trust to satisfy deferred compensation obligations		—			100			(100	)		—			—			—
Share based payment awards under equity compensation plan		—			—			146			—			—			146
Common stock purchased for deferred compensation obligations		—			(90	)		—			—			—			(90	)
Common stock repurchased pursuant to publicly announced repurchase plan		(20,509	)		(480	)		—			—			—			(480	)
Cash dividends ($0.21 per share)		—			—			—			(1,609	)		—			(1,609	)

Balance, March 31, 2013		7,688,928		$	137,012		$	3,780		$	20,646		$	3,870		$	165,308

See notes to interim condensed consolidated financial statements.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Dollars in thousands except per share data)


	Three Months Ended March 31
	2013		2012
Interest income
Loans, including fees	$	10,330	$	10,940
AFS securities
Taxable		1,834		1,889
Nontaxable		1,234		1,204
Trading securities		14		42
Federal funds sold and other		116		129

Total interest income		13,528		14,204
Interest expense
Deposits		1,874		2,512
Borrowings		947		1,192

Total interest expense		2,821		3,704

Net interest income		10,707		10,500
Provision for loan losses		300		461

Net interest income after provision for loan losses		10,407		10,039

Noninterest income
Service charges and fees		1,544		1,629
Gain on sale of mortgage loans		358		379
Earnings on corporate owned life insurance policies		169		171
Gain on sale of AFS securities		99		1,003
Other		277		359

Total noninterest income		2,447		3,541

Noninterest expenses
Compensation and benefits		5,445		5,301
Furniture and equipment		1,189		1,090
Occupancy		665		641
AFS security impairment loss
Total OTTI impairment loss		—		486
Portion of loss reported in other comprehensive income		—		(204	)

Net AFS security impairment loss		—		282
Other		1,892		2,259

Total noninterest expenses		9,191		9,573

Income before federal income tax expense		3,663		4,007
Federal income tax expense		576		773

NET INCOME	$	3,087	$	3,234

Earnings per share
Basic	$	0.40	$	0.43

Diluted	$	0.39	$	0.41

Cash dividends per basic share	$	0.21	$	0.20

See notes to interim condensed consolidated financial statements.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Dollars in thousands)


	Three Months Ended March 31
	2013			2012
Net income	$	3,087		$	3,234

Unrealized gains on AFS securities:
Unrealized (losses) gains arising during the period		(1,961	)		799
Reclassification adjustment for net realized gains included in net income		(99	)		(1,003	)
Reclassification adjustment for impairment loss included in net income		—			282

Net unrealized (losses) gains		(2,060	)		78
Tax effect (1)		923			519

OCI, net of tax		(1,137	)		597

Comprehensive income	$	1,950		$	3,831

(1)	See “Note 10—Federal Income Taxes” for tax effect reconciliation.

See notes to interim condensed consolidated financial statements.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)


	Three Months Ended March 31
	2013			2012
OPERATING ACTIVITIES
Net income	$	3,087		$	3,234
Reconciliation of net income to net cash provided by operations:
Provision for loan losses		300			461
Impairment of foreclosed assets		24			17
Depreciation		625			597
Amortization and impairment of originated mortgage servicing rights		204			121
Amortization of acquisition intangibles		57			66
Net amortization of AFS securities		578			528
AFS security impairment loss		—			282
Gain on sale of AFS securities		(99	)		(1,003	)
Net unrealized losses on trading securities		10			16
Net gain on sale of mortgage loans		(358	)		(379	)
Net unrealized gains on borrowings measured at fair value		—			(33	)
Increase in cash value of corporate owned life insurance policies		(169	)		(171	)
Share-based payment awards under equity compensation plan		146			169
Origination of loans held for sale		(21,587	)		(25,966	)
Proceeds from loan sales		24,552			26,154
Net changes in operating assets and liabilities which provided (used) cash:
Trading securities		—			291
Accrued interest receivable		(933	)		(196	)
Other assets		(385	)		(195	)
Accrued interest payable and other liabilities		(255	)		(548	)

Net cash provided by operating activities		5,797			3,445

INVESTING ACTIVITIES
Net change in certificates of deposit held in other financial institutions		960			2,284
Activity in AFS securities
Sales		9,857			24,241
Maturities and calls		21,103			19,789
Purchases		(50,420	)		(90,294	)
Loan principal originations, net		4,531			6,510
Proceeds from sales of foreclosed assets		1,194			328
Purchases of premises and equipment		(610	)		(1,025	)
Proceeds from the redemption of corporate owned life insurance policies		123			—

Net cash used in investing activities		(13,262	)		(38,167	)

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)

(Dollars in thousands)


	Three Months Ended March 31
	2013			2012
FINANCING ACTIVITIES
Acceptances and withdrawals of deposits, net		12,093			30,962
Increase in other borrowed funds		(8,591	)		(1,610	)
Cash dividends paid on common stock		(1,609	)		(1,515	)
Proceeds from issuance of common stock		902			609
Common stock repurchased		(480	)		(426	)
Common stock purchased for deferred compensation obligations		(90	)		(144	)

Net cash provided by financing activities		2,225			27,876

DECREASE IN CASH AND CASH EQUIVALENTS		(5,240	)		(6,846	)
Cash and cash equivalents at beginning of period		24,920			28,590

CASH AND CASH EQUIVALENTS AT END OF PERIOD	$	19,680		$	21,744

SUPPLEMENTAL CASH FLOWS INFORMATION:
Interest paid	$	2,842		$	3,784
Federal income taxes paid		200			—
SUPPLEMENTAL NONCASH INVESTING AND FINANCING INFORMATION:
Transfers of loans to foreclosed assets	$	373		$	188

See notes to interim condensed consolidated financial statements.

NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands except per share amounts)

NOTE 1 – BASIS OF PRESENTATION

As used in these notes as well as in the Management’s Discussion and Analysis of Financial Condition and Results of Operations, references to “Isabella,” “we,” “our,” “us,” and similar terms refer to the consolidated entity consisting of Isabella Bank Corporation and its subsidiaries. Isabella Bank Corporation refers solely to the parent holding company, and Isabella Bank refers to Isabella Bank Corporation’s subsidiary, Isabella Bank.

The accompanying unaudited interim condensed consolidated financial statements have been prepared in accordance with GAAP for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In our opinion, all adjustments considered necessary for a fair presentation have been included. Operating results for the three month period ended March 31, 2013 are not necessarily indicative of the results that may be expected for the year ending December 31, 2013. For further information, refer to the consolidated financial statements and footnotes thereto included in our annual report for the year ended December 31, 2012.

The accounting policies are materially the same as those discussed in Note 1 to the Consolidated Financial Statements included in our annual report for the year ended December 31, 2012.

NOTE 2 – COMPUTATION OF EARNINGS PER SHARE

Basic earnings per share represents income available to common shareholders divided by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued. Potential common shares that may be issued relate solely to outstanding shares in the Directors Plan.

Earnings per common share have been computed based on the following:


	Three Months Ended March 31
	2013		2012
Average number of common shares outstanding for basic calculation		7,677,009		7,594,257
Average potential effect of shares in the Directors Plan (1)		165,260		199,882

Average number of common shares outstanding used to calculate diluted earnings per common share		7,842,269		7,794,139

Net income	$	3,087	$	3,234

Earnings per share
Basic	$	0.40	$	0.43

Diluted	$	0.39	$	0.41

(1)	Exclusive of shares held in the Rabbi Trust

NOTE 3 – RECENTLY ADOPTED ACCOUNTING STANDARDS UPDATE

ASU No. 2013-02: “Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income”

In February 2013, ASU No. 2013-02 amended ASC Topic 220, “Comprehensive Income” to require disclosures related to reclassifications out of AOCI in one place. The ASU also requires the disclosure of reclassifications out of AOCI by component. The new authoritative guidance was effective for interim and annual periods beginning after December 15, 2012 and did not have a financial impact, but increased the level of disclosures related to AOCI (see Note 13).

NOTE 4 – TRADING SECURITIES

Trading securities, at fair value, consist of the following investments at:


	March 31 2013		December 31 2012
States and political subdivisions	$	1,563	$	1,573

Included in the net trading losses of $10 during the first three months of 2013 were $10 of net unrealized trading losses on securities that were held in our trading portfolio as of March 31, 2013. Included in the net trading losses of $16 during the first three months of 2012 were $13 of net unrealized trading losses on securities that were held in the trading portfolio as of March 31, 2012.

NOTE 5 – AVAILABLE-FOR-SALE SECURITIES

The amortized cost and fair value of AFS securities, with gross unrealized gains and losses, are as follows at:


	March 31, 2013
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Government sponsored enterprises	$	25,427	$	73	$	9	$	25,491
States and political subdivisions		184,935		8,297		668		192,564
Auction rate money market preferred		3,200		—		109		3,091
Preferred stocks		6,800		66		158		6,708
Mortgage-backed securities		161,475		2,574		516		163,533
Collateralized mortgage obligations		127,564		2,208		228		129,544

Total	$	509,401	$	13,218	$	1,688	$	520,931


	December 31, 2012
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Government sponsored enterprises	$	25,668	$	108	$	—	$	25,776
States and political subdivisions		174,118		9,190		565		182,743
Auction rate money market preferred		3,200		—		422		2,778
Preferred stocks		6,800		—		437		6,363
Mortgage-backed securities		152,256		3,199		110		155,345
Collateralized mortgage obligations		128,378		2,627		—		131,005

Total	$	490,420	$	15,124	$	1,534	$	504,010

The amortized cost and fair value of AFS securities by contractual maturity at March 31, 2013 are as follows:


	Maturing								Securities With Variable Monthly
	Due in One Year or Less		After One Year But Within Five Years		After Five Years But Within Ten Years		After Ten Years		Payments or Noncontractual Maturities		Total
Government sponsored enterprises	$	—	$	72	$	25,355	$	—	$	—	$	25,427
States and political subdivisions		14,237		37,026		90,728		42,944		—		184,935
Auction rate money market preferred		—		—		—		—		3,200		3,200
Preferred stocks		—		—		—		—		6,800		6,800
Mortgage-backed securities		—		—		—		—		161,475		161,475
Collateralized mortgage obligations		—		—		—		—		127,564		127,564

Total amortized cost	$	14,237	$	37,098	$	116,083	$	42,944	$	299,039	$	509,401

Fair value	$	14,311	$	38,576	$	121,573	$	43,595	$	302,876	$	520,931

Expected maturities for government sponsored enterprises and states and political subdivisions may differ from contractual maturities because issuers may have the right to call or prepay obligations.

As auction rate money market preferred and preferred stocks have continual call dates, they are not reported by a specific maturity group. Because of their variable monthly payments, mortgage-backed securities and collateralized mortgage obligations are not reported by a specific maturity group.

A summary of the activity related to sales of AFS securities was as follows for the three month periods ended:


	March 31
	2013		2012
Proceeds from sales of AFS securities	$	9,857	$	24,241

Gross realized gains	$	99	$	1,003

Applicable income tax expense	$	34	$	341

The cost basis used to determine the realized gains or losses of securities sold was the amortized cost of the individual investment security as of the trade date.

Information pertaining to AFS securities with gross unrealized losses at March 31, 2013 and December 31, 2012 aggregated by investment category and length of time that individual securities have been in a continuous loss position, follows:


	March 31, 2013
	Less Than Twelve Months				Twelve Months or More
	Gross Unrealized Losses		Fair Value		Gross Unrealized Losses		Fair Value		Total Unrealized Losses
Government sponsored enterprises	$	9	$	4,990	$	—	$	—	$	9
States and political subdivisions		236		15,413		432		2,296		668
Auction rate money market preferred		—		—		109		3,091		109
Preferred stocks		—		—		158		3,642		158
Mortgage-backed securities		516		52,379		—		—		516
Collateralized mortgage obligations		228		36,974		—		—		228

Total	$	989	$	109,756	$	699	$	9,029	$	1,688

Number of securities in an unrealized loss position:				61				6		67


	December 31, 2012
	Less Than Twelve Months				Twelve Months or More
	Gross Unrealized Losses		Fair Value		Gross Unrealized Losses		Fair Value		Total Unrealized Losses
States and political subdivisions	$	80	$	5,019	$	485	$	2,352	$	565
Auction rate money market preferred		—		—		422		2,778		422
Preferred stocks		—		—		437		3,363		437
Mortgage-backed securities		110		25,499		—		—		110

Total	$	190	$	30,518	$	1,344	$	8,493	$	1,534

Number of securities in an unrealized loss position:				15				6		21

As of March 31, 2013 and December 31, 2012, we conducted an analysis to determine whether any securities currently in an unrealized loss position should be other-than-temporarily impaired. Such analyses considered, among other factors, the following criteria:

•

Has the value of the investment declined more than what is deemed to be reasonable based on a risk and maturity adjusted discount rate?

•

Is the investment credit rating below investment grade?

•

Is it probable the issuer will be unable to pay the amount when due?

•

Is it more likely than not that we will not have to sell the security before recovery of its cost basis?

•

Has the duration of the investment been extended?

During the three month period ended March 31, 2012, we had one state issued student loan auction rate AFS investment security (which is included in states and political subdivisions) that was downgraded by Moody’s from A3 to Caa3. As a result of this downgrade, we engaged the services of an independent investment valuation firm to estimate the amount of credit losses (if any) related to this particular issue as of March 31, 2012. The evaluation calculated a range of estimated credit losses utilizing two different bifurcation methods: 1) Estimated Cash Flow Method and 2) Credit Yield Analysis Method. The two methods were then weighted, with a higher weighting applied to the Estimated Cash Flow Method, to determine the estimated credit related impairment. As a result of this analysis we recognized an OTTI of $282 in earnings in the first quarter of 2012.

A summary of key valuation assumptions used in the aforementioned analysis as of March 31, 2012, follows:


		Discounted Cash Flow Method

Ratings
Fitch		Not Rated
Moody’s		Caa3
S&P		A
Seniority		Senior
Discount rate		LIBOR + 6.35%

		Credit Yield Analysis Method
Credit discount rate		LIBOR + 4.00%
Average observed discounts based on closed transactions		14.00%

To test for additional impairment of this security during the three months ended March 31, 2013, we obtained another investment valuation (from the same firm engaged to perform the initial valuation as of March 31, 2012) as of March 31, 2013. Based on the results of this valuation, no additional OTTI was indicated as of March 31, 2013.

The following table provides a roll-forward of credit related impairment recognized in earnings for the:


	Three Months Ended March 31
	2013		2012
Balance at beginning of period	$	282	$	—
Additions to credit losses for which no previous OTTI was recognized		—		282

Balance at end of period	$	282	$	282

Based on our analysis using the above criteria, the fact that we have asserted that we do not have the intent to sell these securities in an unrealized loss position, and it is unlikely that we will have to sell the securities before recovery of their cost basis, we do not believe that the values of any other securities are other-than-temporarily impaired as of March 31, 2013 or December 31, 2012.

NOTE 6 – LOANS AND ALLOWANCE FOR LOAN LOSSES

We grant commercial, agricultural, residential real estate, and consumer loans to customers situated primarily in Clare, Gratiot, Isabella, Mecosta, Midland, Montcalm, and Saginaw counties in Michigan. The ability of the borrowers to honor their repayment obligations is often dependent upon the real estate, agricultural, light manufacturing, retail, gaming and tourism, higher education, and general economic conditions of this region. Substantially all of the consumer and residential real estate loans are secured by various items of property, while commercial loans are secured primarily by real estate, business assets, and personal guarantees; a portion of loans are unsecured.

Loans that we have the intent and ability to hold in our portfolio are reported at their outstanding principal balance adjusted for any charge-offs, the ALLL, and any deferred fees or costs. Interest income on loans is accrued over the term of the loan based on the principal amount outstanding. Loan origination fees and certain direct loan origination costs are capitalized and recognized as a component of interest income over the term of the loan using the level yield method.

The accrual of interest on commercial, agricultural, and residential real estate loans is typically discontinued at the time the loan is 90 days or more past due unless the credit is well-secured and in the process of collection. Consumer loans are typically charged off no later than 180 days past due. Past due status is based on contractual terms of the loan. In all cases, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful.

For loans that are placed on nonaccrual status or charged off, all interest accrued in the current calendar year, but not collected, is reversed against interest income while interest accrued in prior calendar years, but not collected, is charged against the allowance for loan losses. The interest on these loans is accounted for on the cash basis, until qualifying for return to accrual status. Loans are typically returned to accrual status after six months of continuous performance. For impaired loans not classified as nonaccrual, interest income continues to be accrued over the term of the loan based on the principal amount outstanding.

Commercial and agricultural loans include loans for commercial real estate, commercial operating loans, farmland and agricultural production, and states and political subdivisions. Repayment of these loans is often dependent upon the successful operation and management of a business; thus, these loans generally involve greater risk than other types of lending. We minimize our risk by limiting the amount of loans to any one borrower to $12,500. Borrowers with credit needs of more than $12,500 are serviced through the use of loan participations with other commercial banks. Commercial and agricultural real estate loans generally require loan-to-value limits of less than 80%. Depending upon the type of loan, past credit history, and current operating results, we may require the borrower to pledge accounts receivable, inventory, and property and equipment. Personal guarantees are generally required from the owners of closely held corporations, partnerships, and sole proprietorships. In addition, we require annual financial statements, prepare cash flow analyses, and review credit reports as deemed necessary.

We offer adjustable rate mortgages, fixed rate balloon mortgages, construction loans, and fixed rate mortgage loans which typically have amortization periods up to a maximum of 30 years. Fixed rate loans with an amortization of greater than 15 years are generally sold upon origination to Freddie Mac. Fixed rate residential real estate loans with an amortization of 15 years or less may be held in our portfolio, held for future sale, or sold upon origination. We consider the direction of interest rates, the sensitivity of our balance sheet to changes in interest rates, and overall loan demand to determine whether or not to sell these loans to Freddie Mac.

Our lending policies generally limit the maximum loan-to-value ratio on residential real estate loans to 95% of the lower of the appraised value of the property or the purchase price, with the condition that private mortgage insurance is required on loans with loan to value ratios in excess of 80%. Substantially all loans upon origination have a loan to value ratio of less than 80%. Underwriting criteria for residential real estate loans include: evaluation of the borrower’s ability to make monthly payments, the value of the property securing the loan, ensuring the payment of principal, interest, taxes, and hazard insurance does not exceed 28% of a borrower’s gross income, all debt servicing does not exceed 36% of income, acceptable credit reports, verification of employment, income, and financial information. Appraisals are performed by independent appraisers and reviewed internally. All mortgage loan requests are reviewed by our mortgage loan committee or through a secondary market automated underwriting system; loans in excess of $400 require the approval of our Internal Loan Committee, the Board of Directors’ Loan Committee, or the Board of Directors.

Consumer loans include automobile loans, secured and unsecured personal loans, and overdraft protection related loans. Loans are amortized generally for a period of up to 6 years. The underwriting emphasis is on a borrower’s perceived intent and ability to pay rather than collateral value. No consumer loans are sold to the secondary market.

The ALLL is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the ALLL when we believe the uncollectability of the loan balance is confirmed. Subsequent recoveries, if any, are credited to the ALLL.

The ALLL is evaluated on a regular basis and is based upon a 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 primary factors behind the determination of the level of the ALLL are specific allocations for impaired loans, historical loss percentages, as well as unallocated components. Specific allocations for impaired loans are primarily determined based on the difference between the net realizable value of the loan’s underlying collateral or the net present value of the projected payment stream and our recorded investment. Historical loss allocations were calculated at the loan class and segment levels based on a migration analysis of the loan portfolio over the preceding four years. An unallocated component is maintained to cover uncertainties that we believe affect our estimate of probable losses based on qualitative factors. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

A summary of changes in the ALLL and the recorded investment in loans by segments follows:


	Allowance for Loan Losses Three Months Ended March 31, 2013
	Commercial			Agricultural			Residential Real Estate			Consumer			Unallocated			Total
January 1, 2013	$	6,862		$	407		$	3,627		$	666		$	374		$	11,936
Loans charged-off		(211	)		—			(190	)		(121	)		—			(522	)
Recoveries		57			—			53			85			—			195
Provision for loan losses		189			(86	)		144			102			(49	)		300

March 31, 2013	$	6,897		$	321		$	3,634		$	732		$	325		$	11,909


	Allowance for Loan Losses and Recorded Investment in Loans As of March 31, 2013
	Commercial			Agricultural			Residential Real Estate			Consumer			Unallocated			Total
ALLL
Individually evaluated for impairment	$	1,949		$	32		$	1,803		$	—		$	—		$	3,784
Collectively evaluated for impairment		4,948			289			1,831			732			325			8,125

Total	$	6,897		$	321		$	3,634		$	732		$	325		$	11,909

Loans
Individually evaluated for impairment	$	13,815		$	787		$	10,740		$	72					$	25,414
Collectively evaluated for impairment		350,535			80,409			278,222			32,942						742,108

Total	$	364,350		$	81,196		$	288,962		$	33,014					$	767,522


	Allowance for Loan Losses Three Months Ended March 31, 2012
	Commercial			Agricultural			Residential Real Estate			Consumer			Unallocated			Total
January 1, 2012	$	6,284		$	1,003		$	2,980		$	633		$	1,475		$	12,375
Loans charged-off		(449	)		—			(115	)		(91	)		—			(655	)
Recoveries		86			—			41			67			—			194
Provision for loan losses		(193	)		(144	)		796			16			(14	)		461

March 31, 2012	$	5,728		$	859		$	3,702		$	625		$	1,461		$	12,375


	Allowance for Loan Losses and Recorded Investment in Loans As of December 31, 2012
	Commercial			Agricultural			Residential Real Estate			Consumer			Unallocated			Total
ALLL
Individually evaluated for impairment	$	2,050		$	91		$	1,796		$	—		$	—		$	3,937
Collectively evaluated for impairment		4,812			316			1,831			666			374			7,999

Total	$	6,862		$	407		$	3,627		$	666		$	374		$	11,936

Loans
Individually evaluated for impairment	$	14,456		$	723		$	10,704		$	75					$	25,958
Collectively evaluated for impairment		357,049			82,883			273,444			33,419						746,795

Total	$	371,505		$	83,606		$	284,148		$	33,494					$	772,753

The following table displays the credit quality indicators for commercial and agricultural credit exposures based on internally assigned credit ratings as of:


	March 31, 2013
	Commercial						Agricultural
	Real Estate		Other		Total		Real Estate		Other		Total
Rating
2 - High quality	$	22,840	$	17,230	$	40,070	$	2,783	$	3,326	$	6,109
3 - High satisfactory		89,670		25,198		114,868		19,426		9,828		29,254
4 - Low satisfactory		126,361		42,821		169,182		25,549		14,618		40,167
5 - Special mention		13,407		1,518		14,925		1,155		2,200		3,355
6 - Substandard		18,195		2,100		20,295		998		1,164		2,162
7 - Vulnerable		3,305		117		3,422		—		—		—
8 - Doubtful		1,479		109		1,588		—		149		149

Total	$	275,257	$	89,093	$	364,350	$	49,911	$	31,285	$	81,196


	December 31, 2012
	Commercial						Agricultural
	Real Estate		Other		Total		Real Estate		Other		Total
Rating
2 - High quality	$	25,209	$	15,536	$	40,745	$	2,955	$	2,313	$	5,268
3 - High satisfactory		83,805		28,974		112,779		16,972		11,886		28,858
4 - Low satisfactory		127,423		45,143		172,566		27,291		15,437		42,728
5 - Special mention		16,046		1,692		17,738		1,008		3,191		4,199
6 - Substandard		20,029		2,224		22,253		1,167		1,217		2,384
7 - Vulnerable		1,512		2,294		3,806		—		—		—
8 - Doubtful		1,596		22		1,618		—		169		169

Total	$	275,620	$	95,885	$	371,505	$	49,393	$	34,213	$	83,606

Internally assigned risk ratings are reviewed, at a minimum, when loans are renewed or when management has knowledge of improvements or deterioration of the credit quality of individual credits. Descriptions of the internally assigned risk ratings for commercial and agricultural loans are as follows:

1.	EXCELLENT – Substantially Risk Free

Credit has strong financial condition and solid earnings history, characterized by:

•

High liquidity, strong cash flow, low leverage.

•

Unquestioned ability to meet all obligations when due.

•

Experienced management, with management succession in place.

•

Secured by cash.

2.	HIGH QUALITY – Limited Risk

Credit with sound financial condition and has a positive trend in earnings supplemented by:

•

Favorable liquidity and leverage ratios.

•

Ability to meet all obligations when due.

•

Management with successful track record.

•

Steady and satisfactory earnings history.

•

If loan is secured, collateral is of high quality and readily marketable.

•

Access to alternative financing.

•

Well defined primary and secondary source of repayment.

•

If supported by guaranty, the financial strength and liquidity of the guarantor(s) are clearly evident.

3.	HIGH SATISFACTORY – Reasonable Risk

Credit with satisfactory financial condition and further characterized by:

•

Working capital adequate to support operations.

•

Cash flow sufficient to pay debts as scheduled.

•

Management experience and depth appear favorable.

•

Loan performing according to terms.

•

If loan is secured, collateral is acceptable and loan is fully protected.

4. LOW SATISFACTORY – Acceptable Risk

Credit with bankable risks, although some signs of weaknesses are shown:

•

Would include most start-up businesses.

•

Occasional instances of trade slowness or repayment delinquency – may have been 10-30 days slow within the past year.

•

Management’s abilities are apparent, yet unproven.

•

Weakness in primary source of repayment with adequate secondary source of repayment.

•

Loan structure generally in accordance with policy.

•

If secured, loan collateral coverage is marginal.

•

Adequate cash flow to service debt, but coverage is low.

To be classified as less than satisfactory, only one of the following criteria must be met.

5. SPECIAL MENTION – Criticized

Credit constitutes an undue and unwarranted credit risk but not to the point of justifying a classification of substandard. The credit risk may be relatively minor yet constitute an unwarranted risk in light of the circumstances surrounding a specific loan:

•

Downward trend in sales, profit levels, and margins.

•

Impaired working capital position.

•

Cash flow is strained in order to meet debt repayment.

•

Loan delinquency (30-60 days) and overdrafts may occur.

•

Shrinking equity cushion.

•

Diminishing primary source of repayment and questionable secondary source.

•

Management abilities are questionable.

•

Weak industry conditions.

•

Litigation pending against the borrower.

•

Collateral or guaranty offers limited protection.

•

Negative debt service coverage, however the credit is well collateralized and payments are current.

6. SUBSTANDARD – Classified

Credit where the borrower’s current net worth, paying capacity, and value of the collateral pledged is inadequate. There is a distinct possibility that we will implement collection procedures if the loan deficiencies are not corrected. In addition, the following characteristics may apply:

•

Sustained losses have severely eroded the equity and cash flow.

•

Deteriorating liquidity.

•

Serious management problems or internal fraud.

•

Original repayment terms liberalized.

•

Likelihood of bankruptcy.

•

Inability to access other funding sources.

•

Reliance on secondary source of repayment.

•

Litigation filed against borrower.

•

Collateral provides little or no value.

•

Requires excessive attention of the loan officer.

•

Borrower is uncooperative with loan officer.

7. VULNERABLE – Classified

Credit is considered “Substandard” and warrants placing on nonaccrual. Risk of loss is being evaluated and exit strategy options are under review. Other characteristics that may apply:

•

Insufficient cash flow to service debt.

•

Minimal or no payments being received.

•

Limited options available to avoid the collection process.

•

Transition status, expect action will take place to collect loan without immediate progress being made.

8. DOUBTFUL – Workout

Credit has all the weaknesses inherent in a “Substandard” loan with the added characteristic that collection and/or liquidation is pending. The possibility of a loss is extremely high, but its classification as a loss is deferred until liquidation procedures are completed, or reasonably estimable. Other characteristics that may apply:

•

Normal operations are severely diminished or have ceased.

•

Seriously impaired cash flow.

•

Original repayment terms materially altered.

•

Secondary source of repayment is inadequate.

•

Survivability as a “going concern” is impossible.

•

Collection process has begun.

•

Bankruptcy petition has been filed.

•

Judgments have been filed.

•

Portion of the loan balance has been charged-off.

9. LOSS – Charge-off

Credits are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. This classification is for charged-off loans but does not mean that the asset has absolutely no recovery or salvage value. These loans are further characterized by:

•

Liquidation or reorganization under bankruptcy, with poor prospects of collection.

•

Fraudulently overstated assets and/or earnings.

•

Collateral has marginal or no value.

•

Debtor cannot be located.

•

Over 120 days delinquent.

Our primary credit quality indicators for residential real estate and consumer loans is the individual loan’s past due aging. The following tables summarize the past due and current loans as of:


	March 31, 2013
	Accruing Interest and Past Due:								Total Past Due
	30-59		60-89		90 Days				and
	Days		Days		or More		Nonaccrual		Nonaccrual		Current		Total
Commercial
Commercial real estate	$	2,692	$	457	$	106	$	4,178	$	7,433	$	267,824	$	275,257
Commercial other		354		43		30		215		642		88,451		89,093

Total commercial		3,046		500		136		4,393		8,075		356,275		364,350

Agricultural
Agricultural real estate		212		—		—		—		212		49,699		49,911
Agricultural other		29		248		—		149		426		30,859		31,285

Total agricultural		241		248		—		149		638		80,558		81,196

Residential real estate
Senior liens		1,311		242		219		1,590		3,362		231,688		235,050
Junior liens		185		121		—		99		405		14,946		15,351
Home equity lines of credit		—		—		125		185		310		38,251		38,561

Total residential real estate		1,496		363		344		1,874		4,077		284,885		288,962

Consumer
Secured		180		7		—		—		187		28,085		28,272
Unsecured		23		2		—		—		25		4,717		4,742

Total consumer		203		9		—		—		212		32,802		33,014

Total	$	4,986	$	1,120	$	480	$	6,416	$	13,002	$	754,520	$	767,522


	December 31, 2012
	Accruing Interest and Past Due:								Total Past Due
	30-59		60-89		90 Days				and
	Days		Days		or More		Nonaccrual		Nonaccrual		Current		Total
Commercial
Commercial real estate	$	1,304	$	161	$	63	$	2,544	$	4,072	$	271,548	$	275,620
Commercial other		606		—		40		2,294		2,940		92,945		95,885

Total commercial		1,910		161		103		4,838		7,012		364,493		371,505

Agricultural
Agricultural real estate		—		—		—		—		—		49,393		49,393
Agricultural other		90		—		—		169		259		33,954		34,213

Total agricultural		90		—		—		169		259		83,347		83,606

Residential real estate
Senior liens		2,000		346		320		2,064		4,730		223,532		228,262
Junior liens		232		—		—		50		282		16,207		16,489
Home equity lines of credit		237		—		—		182		419		38,978		39,397

Total residential real estate		2,469		346		320		2,296		5,431		278,717		284,148

Consumer
Secured		127		33		4		—		164		28,118		28,282
Unsecured		31		3		1		—		35		5,177		5,212

Total consumer		158		36		5		—		199		33,295		33,494

Total	$	4,627	$	543	$	428	$	7,303	$	12,901	$	759,852	$	772,753

Impaired Loans

Loans may be classified as impaired if they meet one or more of the following criteria:

There has been a charge-off of its principal balance (in whole or in part),

The loan has been classified as a TDR, or

The loan is in nonaccrual status.

Impairment is measured on a loan by loan basis for commercial and agricultural loans by comparing the loan’s outstanding balance to the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral, less cost to sell, if the loan is collateral dependent. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Impairment is measured on a loan by loan basis for residential real estate and consumer loans by comparing the loan’s outstanding balance to the present value of expected future cash flows discounted at the loan’s effective interest rate.

We do not recognize interest income on impaired loans in nonaccrual status. For impaired loans not in nonaccrual status, interest income is recognized daily, as earned, according to the terms of the loan agreement. The following is a summary of information pertaining to impaired loans as of, and for the periods ended:


	March 31, 2013						December 31, 2012
	Outstanding Balance		Unpaid Principal Balance		Valuation Allowance		Outstanding Balance		Unpaid Principal Balance		Valuation Allowance
Impaired loans with a valuation allowance
Commercial real estate	$	9,061	$	9,513	$	1,915	$	7,295	$	7,536	$	1,653
Commercial other		59		59		34		2,140		2,140		397
Agricultural real estate		91		91		32		91		91		32
Agricultural other		—		—		—		420		420		59
Residential real estate senior liens		10,457		11,705		1,784		10,450		11,654		1,783
Residential real estate junior liens		99		109		19		72		118		13

Total impaired loans with a valuation allowance	$	19,767	$	21,477	$	3,784	$	20,468	$	21,959	$	3,937

Impaired loans without a valuation allowance
Commercial real estate	$	3,502	$	4,161			$	3,749	$	4,408
Commercial other		1,193		1,353				1,272		1,433
Agricultural real estate		133		133				—		—
Agricultural other		563		683				212		332
Residential real estate senior liens		—		—				—		18
Home equity lines of credit		184		484				182		482
Consumer secured		72		81				75		84

Total impaired loans without a valuation allowance	$	5,647	$	6,895			$	5,490	$	6,757

Impaired loans
Commercial	$	13,815	$	15,086	$	1,949	$	14,456	$	15,517	$	2,050
Agricultural		787		907		32		723		843		91
Residential real estate		10,740		12,298		1,803		10,704		12,272		1,796
Consumer		72		81		—		75		84		—

Total impaired loans	$	25,414	$	28,372	$	3,784	$	25,958	$	28,716	$	3,937


	Three Months Ended
	March 31, 2013				March 31, 2012
	Average Outstanding Balance		Interest Income Recognized		Average Outstanding Balance		Interest Income Recognized
Impaired loans with a valuation allowance
Commercial real estate	$	8,178	$	119	$	5,887	$	98
Commercial other		1,100		1		724		12
Agricultural real estate		91		1		—		—
Agricultural other		210		—		2,466		37
Residential real estate senior liens		10,454		99		7,550		83
Residential real estate junior liens		86		—		190		2

Total impaired loans with a valuation allowance	$	20,119	$	220	$	16,817	$	232

Impaired loans without a valuation allowance
Commercial real estate	$	3,626	$	73	$	7,808	$	67
Commercial other		1,233		40		1,305		31
Agricultural real estate		67		2		190		—
Agricultural other		388		7		584		4
Residential real estate senior liens		—		—		1		—
Home equity lines of credit		183		4		199		4
Consumer secured		74		1		100		2

Total impaired loans without a valuation allowance	$	5,571	$	127	$	10,187	$	108

Impaired loans
Commercial	$	14,137	$	233	$	15,724	$	208
Agricultural		756		10		3,240		41
Residential real estate		10,723		103		7,940		89
Consumer		74		1		100		2

Total impaired loans	$	25,690	$	347	$	27,004	$	340

As of March 31, 2013 and December 31, 2012, we had committed to advance $13 and $9, respectively, in connection with impaired loans, which include TDR’s.

Troubled Debt Restructurings

Loan modifications are considered to be TDR’s when the modification includes terms outside of normal lending practices to a borrower who is experiencing financial difficulties.

Typical concessions granted include, but are not limited to:

Agreeing to interest rates below prevailing market rates for debt with similar risk characteristics.

Extending the amortization period beyond typical lending guidelines for debt with similar risk characteristics.

Forbearance of principal.

Forbearance of accrued interest.

To determine if a borrower is experiencing financial difficulties, we consider if:

The borrower is currently in default on any of their debt.

The borrower would likely default on any of their debt if the concession was not granted.

The borrower’s cash flow was insufficient to service all of their debt if the concession was not granted.

The borrower has declared, or is in the process of declaring, bankruptcy.

The borrower is unlikely to continue as a going concern (if the entity is a business).

The following is a summary of information pertaining to TDR’s granted in the periods ended:


	Loans Restructured in the Three Month						Loans Restructured in the Three Month
	Period ended March 31, 2013						Period ended March 31, 2012
	Number of Loans		Pre- Modification Recorded Investment		Post- Modification Recorded Investment		Number of Loans		Pre- Modification Recorded Investment		Post- Modification Recorded Investment
Commercial other		—	$	—	$	—		21	$	4,586	$	4,586
Agricultural other		1		134		134		6		561		561
Residential real estate senior liens		8		799		783		5		721		721

Total		9	$	933		917	$	32		5,868	$	5,868


	Loans Restructured in the Three Month								Loans Restructured in the Three Month
	Period Ended March 31, 2013								Period Ended March 31, 2012
	Below Market Interest Rate				Below Market Interest Rate and Extension of Amortization Period				Below Market Interest Rate				Below Market Interest Rate and Extension of Amortization Period
	Number of Loans		Pre- Modification Recorded Investment		Number of Loans		Pre- Modification Recorded Investment		Number of Loans		Pre- Modification Recorded Investment		Number of Loans		Pre- Modification Recorded Investment
Commercial other		—	$	—		—	$	—		21	$	4,586		—	$	—
Agricultural other		1		134		—		—		6		561		—		—
Residential real estate senior liens		3		209		5		590		—		—		—		—
Residential real estate junior liens		—		—		—		—		—		—		5		721

Total		4	$	343		5	$	590		27	$	5,147		5	$	721

We did not restructure any loans through the forbearance of principal or accrued interest in the three month periods ended March 31, 2013 or 2012.

Based on our historical loss experience, losses associated with TDR’s are not significantly different than other impaired loans within the same loan segment. As such, TDR’s, including TDR’s that have been modified in the past 12 months that subsequently defaulted, are analyzed in the same manner as other impaired loans within their respective loan segment.

Following is a summary of loans that defaulted in the three month periods ended March 31, 2013 and 2012, which were modified within 12 months prior to the default date:


	Three Months Ended March 31, 2013								Three Months Ended March 31, 2012
	Number of Loans		Pre- Default Recorded Investment		Charge-Off Recorded Upon Default		Post- Default Recorded Investment		Number of Loans		Pre- Default Recorded Investment		Charge-Off Recorded Upon Default		Post- Default Recorded Investment
Commercial other		—	$	—	$	—	$	—		1	$	82	$	42	$	40
Residential real estate senior liens		—		—		—		—		1		47		43		4
Consumer secured		1		8		8		—		—		—		—		—

Total		1	$	8	$	8	$	—		2	$	129	$	85	$	44

The following is a summary of TDR loan balances as of:


	March 31 2013		December 31 2012
Troubled debt restructurings	$	19,402	$	19,355

NOTE 7 – EQUITY SECURITIES WITHOUT READILY DETERMINABLE FAIR VALUES

Included in equity securities without readily determinable fair values are restricted securities, which are carried at cost, and investments in nonconsolidated entities accounted for under the equity method of accounting.

Equity securities without readily determinable fair values consist of the following as of:


	March 31 2013		December 31 2012
FHLB Stock	$	7,850	$	7,850
Investment in Corporate Settlement Solutions		7,050		7,040
FRB Stock		1,879		1,879
Investment in Valley Financial Corporation		1,000		1,000
Other		344		349

Total	$	18,123	$	18,118

NOTE 8 – BORROWED FUNDS

Borrowed funds consist of the following obligations as of:


	March 31 2013		December 31 2012
FHLB advances	$	152,000	$	152,000
Securities sold under agreements to repurchase without stated maturity dates		64,122		66,147
Securities sold under agreements to repurchase with stated maturity dates		16,288		16,284
Federal funds purchased		—		6,570

Total	$	232,410	$	241,001

The FHLB advances are collateralized by a blanket lien on all qualified 1-4 family residential real estate loans and certain mortgage-backed securities and collateralized mortgage obligations. Advances are also secured by our holdings of FHLB stock. As of March 31, 2013, we had the ability to borrow up to an additional $116,058, based on assets pledged as collateral. During the first quarter of 2013 and 2012, we reduced funding costs by modifying the term of $30,000 and $60,000, respectively, of FHLB advances.

The following table lists the maturity and weighted average interest rates of FHLB advances as of:


	March 31 2013					December 31 2012
	Amount		Rate			Amount		Rate
Fixed rate advances due 2014	$	10,000		0.48	%	$	10,000		0.48	%
Fixed rate advances due 2015		32,000		0.84	%		42,000		1.12	%
Fixed rate advances due 2016		10,000		2.15	%		10,000		2.15	%
Fixed rate advances due 2017		30,000		1.95	%		40,000		2.15	%
Fixed rate advances due 2018		30,000		2.49	%		20,000		2.86	%
Fixed rate advances due 2019		20,000		3.11	%		20,000		3.73	%
Fixed rate advances due 2020		10,000		1.98	%		10,000		1.98	%
Fixed rate advances due 2023		10,000		3.90	%		—		—

Total	$	152,000		2.02	%	$	152,000		2.05	%

Securities sold under agreements to repurchase are classified as secured borrowings. Securities sold under agreements to repurchase without stated maturity dates generally mature within one to four days from the transaction date. Securities sold under agreements to repurchase are reflected at the amount of cash received in connection with the transaction. The securities underlying the agreements have a carrying value and a fair value of $132,414 and $143,322 at March 31, 2013 and December 31, 2012, respectively. Such securities remain under our control. We may be required to provide additional collateral based on the fair value of underlying securities.

The following table provides a summary of short term borrowings for the three month periods ended March 31:


	2013							2012
	Maximum Month End Balance		Quarter to Date Average Balance		Weighted Average Interest Rate During the Period			Maximum Month End Balance		Quarter to Date Average Balance		Weighted Average Interest Rate During the Period
Securities sold under agreements to repurchase without stated maturity dates	$	64,527	$	63,573		0.15	%	$	56,923	$	56,172		0.23	%
Federal funds purchased		4,400		1,215		0.50	%		—		71		0.48	%

We had pledged certificates of deposit held in other financial institutions, trading securities, AFS securities, and 1-4 family residential real estate loans in the following amounts at:


	March 31 2013		December 31 2012
Pledged to secure borrowed funds	$	310,742	$	308,628
Pledged to secure repurchase agreements		132,414		143,322
Pledged for public deposits and for other purposes necessary or required by law		24,988		22,955

Total	$	468,144	$	474,905

We had no investment securities that are restricted to be pledged for specific purposes.

NOTE 9 – OTHER NONINTEREST EXPENSES

A summary of expenses included in other noninterest expenses are as follows for the:


	Three Months Ended March 31
	2013		2012
FDIC insurance premiums	$	272	$	215
Marketing and community relations		242		494
Directors fees		199		210
Audit fees		139		176
Education and travel		122		127
Postage and freight		99		101
Printing and supplies		86		109
Consulting fees		72		187
All other		661		640

Total other	$	1,892	$	2,259

NOTE 10 – FEDERAL INCOME TAXES

The reconciliation of the provision for federal income taxes and the amount computed at the federal statutory tax rate of 34% of income before federal income tax expense is as follows for the:


	Three Months Ended March 31
	2013			2012
Income taxes at 34% statutory rate	$	1,245		$	1,362
Effect of nontaxable income
Interest income on tax exempt municipal securities		(401	)		(391	)
Earnings on corporate owned life insurance policies		(57	)		(58	)
Other		(228	)		(151	)
Total effect of nontaxable income		(686	)		(600	)
Effect of nondeductible expenses		17			11

Federal income tax expense	$	576		$	773

Included in OCI for the three month periods ended March 31, 2013 and 2012 are changes in unrealized holding gains, related to auction rate money market preferred and preferred stocks. For federal income tax purposes, these securities are considered equity investments. As such, no deferred federal income taxes related to unrealized holding gains or losses are expected or recorded.

A summary of OCI follows for the:


	Three Months Ended
	March 31, 2013								March 31, 2012
	Auction Rate Money Market Preferred and Preferred Stocks		All Other AFS Securities			Total			Auction Rate Money Market Preferred and Preferred Stocks		All Other AFS Securities			Total
Unrealized gains arising during the period	$	658	$	(2,619	)	$	(1,961	)	$	1,604	$	(805	)	$	799
Reclassification adjustment for net realized gains included in net income		—		(99	)		(99	)		—		(1,003	)		(1,003	)
Reclassification adjustment for impairment loss included in net income		—		—			—			—		282			282

Net unrealized gains (losses)		658		(2,718	)		(2,060	)		1,604		(1,526	)		78
Tax effect		—		923			923			—		519			519

Unrealized gains (losses), net of tax	$	658	$	(1,795	)	$	(1,137	)	$	1,604	$	(1,007	)	$	597

NOTE 11 – DEFINED BENEFIT PENSION PLAN

We maintain a noncontributory defined benefit pension plan, which was curtailed effective March 1, 2007. As a result of the curtailment, future salary increases are no longer considered and plan benefits are based on years of service and the individual employee’s five highest consecutive years of compensation out of the last ten years of service through March 1, 2007. We contributed $215 and $135 to the plan during the three month period ended March 31, 2013 and 2012, respectively. We do not anticipate any further contributions to the plan in 2013.

Following are the components of net periodic benefit cost for the three month periods ended March 31:


	2013			2012
Interest cost on PBO	$	113		$	118
Expected return on plan assets		(143	)		(127	)
Amortization of unrecognized actuarial net loss		83			73

Net periodic benefit cost	$	53		$	64

NOTE 12 – FAIR VALUE

Following is a description of the valuation methodologies, key inputs, and an indication of the level of the fair value hierarchy in which the assets or liabilities are classified.

Cash and demand deposits due from banks: The carrying amounts of cash and short term investments, including Federal funds sold, approximate fair values. As such, we classify cash and demand deposits due from banks as Level 1.

Certificates of deposit held in other financial institutions: Interest bearing balances held in unaffiliated financial institutions include certificates of deposit and other short term interest bearing balances that mature within 3 years. Fair value is determined using prices for similar assets with similar characteristics. As such, we classify certificates of deposits held in other financial institutions as Level 2.

Investment securities: Investment securities are recorded at fair value on a recurring basis. Level 1 fair value measurement is based upon quoted prices for identical instruments. Level 2 fair value measurement is based upon quoted prices for similar instruments. If quoted prices are not available, fair values are measured using independent pricing models or other model based valuation techniques

such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss and liquidity assumptions. The values for Level 1 and Level 2 investment securities are generally obtained from an independent third party. On a quarterly basis, we compare the values provided to alternative pricing sources.

Mortgage loans AFS: Mortgage loans AFS are carried at the lower of cost or fair value. The fair value of mortgage loans available-for-sale are based on what price secondary markets are currently offering for portfolios with similar characteristics. As such, we classify loans subject to nonrecurring fair value adjustments as Level 2.

Loans: For variable rate loans with no significant change in credit risk, fair values are based on carrying values. Fair values for fixed rate loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. The resulting amounts are adjusted to estimate the effect of changes in the credit quality of borrowers since the loans were originated. As such, we classify loans as level 3 assets.

We do not record loans at fair value on a recurring basis. However, from time to time, loans are classified as impaired and a specific allowance for loan losses may be established. Loans for which it is probable that payment of interest and principal will be significantly different than the contractual terms of the original loan agreement are considered impaired. Once a loan is identified as impaired, we measure the estimated impairment. The fair value of impaired loans is estimated using one of several methods, including collateral value, market value of similar debt, enterprise value, liquidation value, or discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceed the recorded investments in such loans.

We review the net realizable values of the underlying collateral for collateral dependent impaired loans on at least a quarterly basis for all loan types. To determine the collateral value, management utilizes independent appraisals, broker price opinions, or internal evaluations. These valuations are reviewed to determine whether an additional discount should be applied given the age of market information that may have been considered as well as other factors such as costs to carry and sell an asset if it is determined that the collateral will be liquidated in connection with the ultimate settlement of the loan. We use these valuations to determine if any charge-offs or specific reserves are necessary. We may obtain new valuations in certain circumstances, including when there has been significant deterioration in the condition of the collateral, if the foreclosure process has begun, or if the existing valuation is deemed to be outdated.

Impaired loans where an allowance is established based on the net realizable value of collateral require classification in the fair value hierarchy. Due to the inherent level of estimation in the valuation process, we record impaired loans as nonrecurring Level 3.

The table below lists the quantitative information about impaired loans measured utilizing Level 3 fair value measurements as of:


	March 31, 2013
Valuation Techniques	Fair Value		Unobservable Input	Range
Discounted cash flow	$	8,752	Duration of cash flows Reduction in interest rate from original loan terms		11-120 Months 5.00% - 6.63%
			Discount applied to collateral appraisal:
			Real Estate		20% - 30%
			Equipment		50%
Discounted appraisal value	$	12,878	Livestock		50%
			Cash crop inventory		50%
			Other inventory		75%
			Accounts receivable		75%


	December 31, 2012
Valuation Techniques	Fair Value		Unobservable Input	Range
Discounted cash flow	$	10,522	Duration of cash flows Reduction in interest rate from original loan terms		14-120 Months 5.00% - 6.25%
			Discount applied to collateral appraisal:
			Real Estate		20% - 30%
			Equipment		50%
Discounted appraisal value	$	11,499	Livestock		50%
			Cash crop inventory		50%
			Other inventory		75%
			Accounts receivable		75%

Accrued interest: The carrying amounts of accrued interest approximate fair value. As such, we classify accrued interest as Level 1.

Goodwill and other intangible assets: Acquisition intangibles and goodwill are evaluated for potential impairment on at least an annual basis. Acquisition intangibles and goodwill are typically qualitatively evaluated to determine if it is more likely than not that the carrying balance is impaired. If it is determined that the carrying balance of acquisition intangibles or goodwill is more likely than not to be impaired, we perform a cash flow valuation to determine the extent of the potential impairment. If the testing resulted in impairment, we would classify goodwill and other acquisition intangibles subjected to nonrecurring fair value adjustments as Level 3. During 2013 and 2012 there were no impairments recorded on goodwill and other acquisition intangibles.

Equity securities without readily determinable fair values: Included in equity securities without readily determinable fair values are FHLB Stock and FRB Stock as well as our ownership interests in Corporate Settlement Solutions and Valley Financial Corporation. The investment in Corporate Settlement Solutions, a title insurance company, was made in the 1st quarter 2007. The Corporation is not the managing entity of Corporate Settlement Solutions, LLC, and accounts for its investment in that entity under the equity method of accounting. Valley Financial Corporation is the parent company of 1st State Bank in Saginaw, Michigan, which is a de novo bank that opened in 2005. The Corporation made investments in Valley Financial Corporation in 2004 and in 2007.

The lack of an active market, or other independent sources to validate fair value estimates coupled with the impact of future capital calls and transfer restrictions, is an inherent limitation in the valuation process. As the fair values of these investments are not readily determinable, they are not disclosed under a specific fair value hierarchy; however, they are reviewed quarterly for impairment. If we were to record an impairment adjustment related to these securities, it would be classified as a nonrecurring Level 3 fair value adjustment. During 2013 and 2012, there were no impairments recorded on equity securities without readily determinable fair values.

Foreclosed assets: Upon transfer from the loan portfolio, foreclosed assets are adjusted to and subsequently carried at the lower of carrying value or fair value less costs to sell. Net realizable value is based upon independent market prices, appraised values of the collateral, or management’s estimation of the value of the collateral. Due to the inherent level of estimation in the valuation process, we record foreclosed assets as nonrecurring Level 3.

The table below lists the quantitative information related to foreclosed assets measured utilizing Level 3 fair value measurements as of:


	March 31, 2013
Valuation Technique	Fair Value		Unobservable Input	Range

			Discount applied to collateral appraisal:


Discounted appraisal value	$	1,173	Real Estate		20% - 30%

	December 31, 2012
Valuation Technique	Fair Value		Unobservable Input	Range

			Discount applied to collateral appraisal:


Discounted appraisal value	$	2,018	Real Estate		20% - 30%

Originated mortgage servicing rights: OMSR is subject to impairment testing. A valuation model, which utilizes a discounted cash flow analysis using interest rates and prepayment speed assumptions currently quoted for comparable instruments and a discount rate determined by management, is used for impairment testing. If the valuation model reflects a value less than the carrying value, originated mortgage servicing rights are adjusted to fair value through a valuation allowance as determined by the model. As such, we classify loan servicing rights subject to nonrecurring fair value adjustments as Level 2.

Deposits: The fair value of demand, savings, and money market deposits are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts), and are classified as Level 1. Fair values for variable rate certificates of deposit approximate their recorded carrying value. Fair values for fixed rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits. As such, certificates of deposit are classified as Level 2.

Borrowed funds: The carrying amounts of federal funds purchased, borrowings under overnight repurchase agreements, and other short-term borrowings maturing within ninety days approximate their fair values. The fair values of other borrowed funds are estimated using discounted cash flow analyses based on current incremental borrowing arrangements. As such, other borrowed funds are classified as Level 2.

Commitments to extend credit, standby letters of credit and undisbursed loans: Fair values for off balance sheet lending commitments are based on fees currently charged to enter into similar agreements, taking into consideration the remaining terms of the agreements and the counterparties' credit standings. As we do not charge fees for lending commitments outstanding, it is not practicable to estimate the fair value of these instruments.

The preceding methods described may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. Furthermore, although we believe our valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different fair value measurement.

Estimated Fair Values of Financial Instruments Not Recorded at Fair Value in their Entirety on a Recurring Basis

Disclosure of the estimated fair values of financial instruments, which differ from carrying values, often requires the use of estimates. In cases where quoted market values in an active market are not available, we use present value techniques and other valuation methods to estimate the fair values of our financial instruments. These valuation methods require considerable judgment and the resulting estimates of fair value can be significantly affected by the assumptions made and methods used.

The carrying amount and estimated fair value of financial instruments not recorded at fair value in their entirety on a recurring basis on our consolidated balance sheets are as follows as of:


	March 31, 2013
	Carrying Value			Estimated Fair Value			(Level 1)		(Level 2)		(Level 3)
ASSETS
Cash and demand deposits due from banks	$	19,680		$	19,680		$	19,680	$	—	$	—
Certificates of deposit held in other financial institutions		3,505			3,511			—		3,511		—
Mortgage loans available-for-sale		1,026			1,092			—		1,092		—
Total loans		767,522			778,334			—		—		778,334
Less allowance for loan losses		(11,909	)		(11,909	)		—		—		(11,909	)

Net loans		755,613			766,425			—		—		766,425

Accrued interest receivable		6,160			6,160			6,160		—		—
Equity securities without readily determinable fair values (1)		18,123			18,123			—		—		—
Originated mortgage servicing rights		2,293			2,293			—		2,293		—
LIABILITIES
Deposits without stated maturities		569,258			569,258			569,258		—		—
Deposits with stated maturities		460,502			467,812			—		467,812		—
Borrowed funds		232,410			239,425			—		239,425		—
Accrued interest payable		730			730			730		—		—


	December 31, 2012
	Carrying Value			Estimated Fair Value			(Level 1)		(Level 2)		(Level 3)
ASSETS
Cash and demand deposits due from banks	$	24,920		$	24,920		$	24,920	$	—	$	—
Certificates of deposit held in other financial institutions		4,465			4,475			—		4,475		—
Mortgage loans available-for-sale		3,633			3,680			—		3,680		—
Total loans		772,753			784,964			—		—		784,964
Less allowance for loan losses		(11,936	)		(11,936	)		—		—		(11,936	)

Net loans		760,817			773,028			—		—		773,028

Accrued interest receivable		5,227			5,227			5,227		—		—
Equity securities without readily determinable fair values (1)		18,118			18,118			—		—		—
Originated mortgage servicing rights		2,285			2,285			—		2,285		—
LIABILITIES
Deposits without stated maturities		553,332			553,332			553,332		—		—
Deposits with stated maturities		464,335			472,630			—		472,630		—
Borrowed funds		241,001			248,822			—		248,822		—
Accrued interest payable		751			751			751		—		—

(1)

Due to the characteristics of equity securities without readily determinable fair values, they are not disclosed under a specific fair value hierarchy. If we were to record an impairment adjustment related to these securities, such amount would be classified as a nonrecurring Level 3 fair value adjustment.

Financial Instruments Recorded at Fair Value

The table below presents the recorded amount of assets and liabilities measured at fair value on:


	March 31, 2013											December 31, 2012
Description	Total		(Level 1)			(Level 2)			(Level 3)			Total		(Level 1)			(Level 2)			(Level 3)
Recurring items
Trading securities
States and political subdivisions		1,563		—			1,563			—		$	1,573		—			1,573			—
AFS Securities
Government-sponsored enterprises		25,491		—			25,491			—			25,776		—			25,776			—
States and political subdivisions		192,564		—			192,564			—			182,743		—			182,743			—
Auction rate money market preferred		3,091		—			3,091			—			2,778		—			2,778			—
Preferred stocks		6,708		6,708			—			—			6,363		6,363			—			—
Mortgage-backed securities		163,533		—			163,533			—			155,345		—			155,345			—
Collateralized mortgage obligations		129,544		—			129,544			—			131,005		—			131,005			—

Total AFS Securities		520,931		6,708			514,223			—			504,010		6,363			497,647			—
Nonrecurring items
Impaired loans (net of the allowance for loan losses)		21,441		—			—			21,441			22,021		—			—			22,021
OMSR		2,293		—			2,293			—			2,285		—			2,285			—
Foreclosed assets		1,173		—			—			1,173			2,018		—			—			2,018

		547,401		6,708			518,079			22,614			531,907		6,363			501,505			24,039

Percent of assets and liabilities measured at fair value				1.23	%		94.64	%		4.13	%				1.20	%		94.28	%		4.52	%

The changes in fair value of assets and liabilities recorded at fair value through earnings on a recurring basis and changes in assets and liabilities recorded at fair value on a nonrecurring basis, for which an impairment, or reduction of an impairment, was recognized in the:


	Three Months Ended March 31
	2013									2012
Description	Trading Losses			Other Gains and (Losses)			Total			Trading Losses			Other Gains and (Losses)			Total
Recurring items
Trading securities	$	(10	)	$	—		$	(10	)	$	(16	)	$	—		$	(16	)
Borrowed funds		—			—			—			—			33			33
Nonrecurring items
Foreclosed assets		—			(24	)		(24	)		—			(17	)		(17	)
OMSR		—			17			17			—			74			74

Total	$	(10	)	$	(7	)	$	(17	)	$	(16	)	$	90		$	74

NOTE 13 – ACCUMULATED OTHER COMPREHENSIVE INCOME

The following table summarizes the changes in accumulated other comprehensive income by component for the three months ended:


	Unrealized Holding Gains (Losses) on AFS Securities			Defined Benefit Pension Plan			Total
Balance, January 1, 2012	$	5,942		$	(3,453	)	$	2,489

OCI before reclassifications		799			—			799
Amounts reclassified from AOCI		(721	)		—			(721	)

Subtotal		78			—			78
Tax effect		519			—			519

Other comprehensive loss, net of tax		597			—			597

Balance, March 31, 2012	$	6,539		$	(3,453	)	$	3,086

Balance, January 1, 2013	$	8,678		$	(3,671	)	$	5,007

OCI before reclassifications		(1,961	)		—			(1,961	)
Amounts reclassified from AOCI		(99	)		—			(99	)

Subtotal		(2,060	)		—			(2,060	)
Tax effect		923			—			923

OCI, net of tax		(1,137	)		—			(1,137	)

Balance, March 31, 2013	$	7,541		$	(3,671	)	$	3,870

The following table details reclassification adjustments and the related affected line items on our interim condensed consolidated statements of income for the three month periods ended March 31:


Details about AOCI components	Amount Reclassified from AOCI					Affected Line Item in the Interim Condensed Consolidated Statements of Income
	2013		2012
Unrealized holding gains on AFS securities
	$	99	$	1,003		Gain on sale of AFS securities
		—		(282	)	Net AFS impairment loss

		99		721		Income before federal income tax expense
		34		245		Federal income tax expense

	$	65	$	476		Net income

NOTE 14 – PARENT COMPANY ONLY FINANCIAL INFORMATION


Interim Condensed Balance Sheets	March 31		December 31
	2013		2012
ASSETS
Cash on deposit at the Bank	$	887	$	332
AFS Securities		4,000		3,939
Investments in subsidiaries		116,420		115,781
Premises and equipment		2,091		2,041
Other assets		52,541		52,398

TOTAL ASSETS	$	175,939	$	174,491

LIABILITIES AND SHAREHOLDERS’ EQUITY
Other liabilities	$	10,631	$	10,002
Shareholders’ equity		165,308		164,489

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY	$	175,939	$	174,491


	Three Months Ended
Interim Condensed Statements of Income	March 31
	2013		2012
Income
Dividends from subsidiaries	$	1,500	$	1,625
Interest income		43		46
Management fee and other		508		415

Total income		2,051		2,086
Expenses
Compensation and benefits		712		610
Occupancy and equipment		111		85
Audit fees		65		94
Other		204		232

Total expenses		1,092		1,021

Income before income tax benefit and equity in undistributed earnings of subsidiaries		959		1,065
Federal income tax benefit		189		197

		1,148		1,262
Undistributed earnings of subsidiaries		1,939		1,972

Net income	$	3,087	$	3,234


Interim Condensed Statements of Cash Flows	Three Months Ended
	March 31
	2013			2012
OPERATING ACTIVITIES
Net income	$	3,087		$	3,234
Adjustments to reconcile net income to cash provided by operations
Undistributed earnings of subsidiaries		(1,939	)		(1,972	)
Undistributed earnings of equity securities without readily determinable fair values		(6	)		—
Share-based payment awards		146			169
Depreciation		36			26
Net amortization of AFS securities		1			2
Changes in operating assets and liabilities which used cash
Other assets		(137	)		(37	)
Accrued interest and other liabilities		(271	)		(496	)

NET CASH PROVIDED BY OPERATING ACTIVITIES		917			926
INVESTING ACTIVITIES
Maturities, calls, and sales of AFS securities		—			120
Purchases of equipment and premises		(86	)		(57	)
Repayment of advances to subsidiaries		101			—

NET CASH PROVIDED BY INVESTING ACTIVITIES		15			63
FINANCING ACTIVITIES
Net increase (decrease) in other borrowed funds		900			(597	)
Cash dividends paid on common stock		(1,609	)		(1,515	)
Proceeds from the issuance of common stock		902			609
Common stock repurchased		(480	)		(426	)
Common stock purchased for deferred compensation obligations		(90	)		(144	)

NET CASH USED IN FINANCING ACTIVITIES		(377	)		(2,073	)

INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS		555			(1,084	)
Cash and cash equivalents at beginning of year		332			1,474

CASH AND CASH EQUIVALENTS AT END OF YEAR	$	887		$	390

NOTE 15 – OPERATING SEGMENTS

Our reportable segments are based on legal entities that account for at least 10% of net operating results. The operations of the Bank as of March 31, 2013 and 2012 and each of the three month periods then ended, represented 90% or more of our consolidated total assets and operating results. As such, no additional segment reporting is presented.

Item 2 – Management's Discussion and Analysis of Financial Condition and Results of Operations

ISABELLA BANK CORPORATION FINANCIAL REVIEW

(All dollars in thousands, except per share data)

This section reviews the financial condition and results of our operations for the three month periods ended March 31, 2013 and 2012. This analysis should be read in conjunction with our 2012 annual report and with the unaudited interim condensed consolidated financial statements and notes, beginning on page 4 of this report.

Executive Summary

Net income for the first quarter of 2013 declined by $147 when compared to the same period in 2012. The primary driver for this decline was the strategic restructuring of investment securities and borrowings in the first quarter of 2012 which led to a one-time increase in net income of $603.

Despite the uncertainty of the current economic environment and increased regulatory compliance costs, we continue to deliver consistent returns. While improvement in the financial landscape has resulted in decreases in net loans charged-off and corresponding reductions in the provision for loan losses, a large degree of economic uncertainty remains. Our continued success throughout these challenging times is a direct result of our unwavering focus on community banking principles, prudent underwriting standards, and long term sustainable growth. This focus has enabled us to continue to meet the needs of the communities we serve, which translates into increased shareholder value.

As we continue to provide superior customer service, we recently broke ground on a new branch in Big Rapids, Michigan, which is expected to open this fall. The new location will complement our existing Big Rapids office and provide additional shareholder value for years to come.

Recent Legislation

The Health Care and Education Act of 2010, the Patient Protection and Affordable Care Act, the Dodd-Frank Act, and the JOBS Act, have already had, and are expected to continue to have, a significant negative impact on our operating results. Of these three acts, the Dodd-Frank Act has had, and is likely to have, the most significant impact, along with its establishment of the CFPB. This particular act made sweeping changes in the regulation of financial institutions aimed at strengthening the oversight of the federal government over the operation of the financial services sector and increasing the protection of consumers within the financial services sector. As a result of the implementation of some of the provisions, we have had increases in compensation costs and this trend is expected to continue.

The CFPB has begun to issue substantial proposed and final rules regarding consumer lending, including residential mortgage lending. These rules will likely further increase our compensation and outside advisor costs to provide and ensure the compliance efforts required by the CFPB.

In August 2012, the FRB and other financial regulatory agencies proposed new capital requirements for all financial institutions. In general, the proposal adds a new capital standard of equity capital to assets and increases the minimum capital ratios to be considered well capitalized, all in partial compliance with the Basel III Accords. While these proposals are not yet final, as written the transition period for them to take effect begins in 2013. The proposals could significantly impact our capital requirements, which could impact our ability to increase, or even pay, dividends.

RESULTS OF OPERATIONS

Selected Financial Data

The following table outlines our quarterly results of operations and provides certain performance measures for:


	Three Months Ended March 31
	2013			2012
INCOME STATEMENT DATA
Interest income	$	13,528		$	14,204
Interest expense		2,821			3,704

Net interest income		10,707			10,500
Provision for loan losses		300			461
Noninterest income		2,447			3,541
Noninterest expenses		9,191			9,573
Federal income tax expense		576			773

Net Income	$	3,087		$	3,234

PER SHARE
Basic earnings	$	0.40		$	0.43
Diluted earnings		0.39			0.41
Dividends		0.21			0.20
Market value*		25.00			24.00
Tangible book value*		14.95			14.15
BALANCE SHEET DATA
At end of period
Loans	$	767,522		$	743,132
Total assets		1,434,705			1,369,220
Deposits		1,029,760			989,126
Shareholders’ equity		165,308			157,307
Average balance
Loans	$	766,741		$	743,921
Total assets		1,432,202			1,356,106
Deposits		1,027,695			978,714
Shareholders’ equity		164,514			156,121
PERFORMANCE RATIOS
Return on average total assets (annualized)		0.86	%		0.95	%
Return on average shareholders’ equity (annualized)		7.51	%		8.29	%
Return on average tangible equity (annualized)		10.86	%		12.19	%
Net interest margin yield (FTE annualized)		3.54	%		3.70	%
Loan to deposit*		74.53	%		75.13	%
Nonperforming loans to total loans*		0.90	%		0.94	%
Nonperforming assets to total assets*		0.56	%		0.64	%
ALLL to nonperforming loans*		172.69	%		176.48	%
CAPITAL RATIOS
Shareholders’ equity to assets*		11.52	%		11.49	%
Tier 1 capital to average assets*		8.28	%		8.19	%
Tier 1 risk-based capital*		13.61	%		13.20	%
Total risk-based capital*		14.86	%		14.45	%

*	At end of period

AVERAGE BALANCES, INTEREST RATE, AND NET INTEREST INCOME

The following schedules present the daily average amount outstanding for each major category of interest earning assets, nonearning assets, interest bearing liabilities, and noninterest bearing liabilities. This schedule also presents an analysis of interest income and interest expense for the periods indicated. All interest income is reported on a FTE basis using a 34% tax rate. Nonaccruing loans, for the purpose of the following computations, are included in the average loan amounts outstanding. FRB and FHLB restricted equity holdings are included in accrued income and other assets.

The following table displays the results for the three month periods ended March 31:


	2013								2012
	Average Balance			Tax Equivalent Interest		Average Yield / Rate			Average Balance			Tax Equivalent Interest		Average Yield / Rate
INTEREST EARNING ASSETS
Loans	$	766,741		$	10,330		5.39	%	$	743,921		$	10,940		5.88	%
Taxable investment securities		343,518			1,834		2.14	%		285,140			1,889		2.65	%
Nontaxable investment securities		155,668			2,009		5.16	%		138,628			1,965		5.67	%
Trading account securities		1,570			21		5.35	%		4,417			64		5.80	%
Other		30,376			116		1.53	%		48,579			129		1.06	%

Total earning assets		1,297,873			14,310		4.41	%		1,220,685			14,987		4.91	%
NONEARNING ASSETS
Allowance for loan losses		(12,085	)							(12,608	)
Cash and demand deposits due from banks		18,661								20,313
Premises and equipment		25,937								25,000
Accrued income and other assets		101,816								102,719

Total assets	$	1,432,202							$	1,356,109

INTEREST BEARING LIABILITIES
Interest bearing demand deposits	$	186,798			41		0.09	%	$	172,906			54		0.12	%
Savings deposits		241,401			91		0.15	%		207,221			122		0.24	%
Time deposits		461,537			1,742		1.51	%		479,689			2,336		1.95	%
Borrowed funds		230,573			947		1.64	%		211,412			1,192		2.26	%

Total interest bearing liabilities		1,120,309			2,821		1.01	%		1,071,228			3,704		1.38	%
NONINTEREST BEARING LIABILITIES
Demand deposits		137,959								118,898
Other		9,420								9,859
Shareholders’ equity		164,514								156,121

Total liabilities and shareholders’ equity	$	1,432,202							$	1,356,106

Net interest income (FTE)				$	11,489							$	11,283

Net yield on interest earning assets (FTE)							3.54	%							3.70	%

Net Interest Income

Net interest income is our primary source of income. Interest income includes loan fees of $821 and $647 for the three month periods ended March 31, 2013 and 2012, respectively. For analytical purposes, net interest income is adjusted to an FTE basis by adding the income tax savings from interest on tax exempt loans and securities, thus making year to year comparisons more meaningful.

VOLUME AND RATE VARIANCE ANALYSIS

The following table sets forth the effect of volume and rate changes on interest income and expense for the periods indicated. For the purpose of this table, changes in interest due to volume and rate were determined as follows:

Volume Variance—change in volume multiplied by the previous year’s rate.

Rate Variance—change in the FTE rate multiplied by the previous year’s volume.

The change in interest due to both volume and rate has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.


	Three Months Ended March 31, 2013 Compared to March 31, 2012 Increase (Decrease) Due to
	Volume			Rate			Net
CHANGES IN INTEREST INCOME
Loans	$	328		$	(938	)	$	(610	)
Taxable AFS securities		348			(403	)		(55	)
Nontaxable AFS securities		229			(185	)		44
Trading securities		(38	)		(5	)		(43	)
Other		(58	)		45			(13	)

Total changes in interest income		809			(1,486	)		(677	)
CHANGES IN INTEREST EXPENSE
Interest bearing demand deposits		4			(17	)		(13	)
Savings deposits		18			(49	)		(31	)
Time deposits		(86	)		(508	)		(594	)
Borrowed funds		101			(346	)		(245	)

Total changes in interest expense		37			(920	)		(883	)

Net change in interest margin (FTE)	$	772		$	(566	)	$	206

As shown in the following table, we continue to experience downward pressure on our net yield on interest earning assets. This pressure is a direct result of FRB monetary policy which has reduced yields on interest earning assets more than rates on interest bearing liabilities. The persistent low interest rate environment coupled with an increase in the concentration of AFS securities and trading securities as a percentage of earnings assets has also placed downward pressure on net interest margin yield.


	Average Yield / Rate For The Three Month Periods Ended:
	March 31 2013			December 31 2012			September 30 2012			June 30 2012			March 31 2012
Total earning assets		4.41	%		4.61	%		4.76	%		4.84	%		4.91	%
Total interest bearing liabilities		1.01	%		1.12	%		1.18	%		1.27	%		1.38	%

Net yield on interest earning assets (FTE)		3.54	%		3.65	%		3.73	%		3.73	%		3.70	%

Given that the historically low interest rate environment is expected to continue for the foreseeable future, the net yield on interest earning assets is not likely to increase in the near future. We anticipate continued reduction in rates earned on loans without a proportionate decline in funding rate will continue to cause downward pressure in net interest margin yield. Any additional interest income will most likely be contingent upon increases in volume and likely at lower interest margins than current earning assets.

Allowance for Loan Losses

The viability of any financial institution is ultimately determined by its management of credit risk. Loans outstanding represent our single largest concentration of risk. The ALLL is our estimation of probable losses inherent in the existing loan portfolio. We allocate the ALLL throughout the loan portfolio based on our assessment of the underlying risks associated with each loan segment. Our assessments include allocations based on specific impairment allocations, historical losses, internally assigned credit ratings, and past due and nonaccrual balances. A portion of the ALLL is not allocated to any one loan segment, but is instead a reflection of other qualitative risks within the loan portfolio.

The following tables summarize our charge-off and recovery activity for the three month periods ended March 31:


	2013			2012			Variance
Allowance for loan losses - January 1	$	11,936		$	12,375		$	(439	)
Loans charged off
Commercial and agricultural		211			449			(238	)
Residential real estate		190			115			75
Consumer		121			91			30

Total loans charged off		522			655			(133	)

Recoveries
Commercial and agricultural		57			86			(29	)
Residential real estate		53			41			12
Consumer		85			67			18

Total recoveries		195			194			1
Provision for loan losses		300			461			(161	)

Allowance for loan losses - March 31	$	11,909		$	12,375		$	(466	)

Net loans charged off	$	327		$	461		$	(134	)
Year to date average loans outstanding		766,741			743,921			22,820

Net loans charged off to average loans outstanding		0.04	%		0.06	%		-0.02	%

Total amount of loans outstanding - March 31	$	767,522		$	743,132		$	24,390

Allowance for loan losses as a% of loans		1.55	%		1.67	%		-0.11	%

As shown in the preceding table, the level of net charge-offs continues to decline. This trend has allowed us to reduce our provision, which has led to a decline in the ALLL in both amount and as a percentage of loans. We do not expect any significant increases in net loans charged off throughout the remainder of 2013 and as such, we anticipate the provision for loan losses to approximate current levels. For further discussion of the allocation of the ALLL, see “Note 6 – Loans and Allowance for Loan Losses” of the interim condensed consolidated financial statements.

Loans Past Due and Loans in Nonaccrual Status

Increases in past due and nonaccrual loans can have a significant impact on the ALLL. To determine the potential impact, and corresponding estimated losses, we analyze our historical loss trends on loans past due greater than 30 days and nonaccrual loans. We monitor all loans that are past due and in nonaccrual status for indicators of additional deterioration.


	Total Past Due and Nonaccrual
	March 31 2013		December 31 2012		September 30 2012		June 30 2012		March 31 2012
Commercial and agricultural	$	8,713	$	7,271	$	11,004	$	9,459	$	7,811
Residential real estate		4,077		5,431		4,879		4,496		4,261
Consumer		212		199		284		179		98

Total	$	13,002	$	12,901	$	16,167	$	14,134	$	12,170

A summary of loans past due and in nonaccrual status, including the composition of the ending balance of nonaccrual loans by type, is included in “Note 6 – Loans and Allowance for Loan Losses” of our interim condensed consolidated financial statements.

Troubled Debt Restructurings

We have taken a proactive approach to avoid foreclosures on borrowers who are willing to work with us in modifying their loans, thus making them more affordable. While this approach has allowed certain borrowers to develop a payment structure that will allow them to continue making payments in lieu of foreclosure, it has contributed to a significant increase in the level of loans classified as TDR. The implementation of ASU No. 2011-02 “A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring” has also contributed to the increased level of TDR’s. The modifications have been extremely successful for us and our customers as very few of the modified loans have resulted in foreclosures. At the time of the TDR, the loan is reviewed to determine whether or not to classify the loan as accrual or nonaccrual. The majority of new modifications result in terms that satisfy our criteria for continued interest accrual. TDR’s that have been placed in nonaccrual status may be placed back on accrual status after six months of continued performance.

We restructure debt with borrowers who due to temporary financial difficulties are unable to service their debt under the original terms. We may extend the amortization period, reduce interest rates, forgive principal, or a combination of these modifications. Typically, the modifications are for a period of five years or less. There were no TDR’s that were Government sponsored as of March 31, 2013 or December 31, 2012.

Losses associated with TDR’s, if any, are included in the estimation of the ALLL in the quarter in which a loan is identified as a TDR, and we review the ALLL estimation each reporting period to ensure its continued appropriateness.

The following tables provide a roll-forward of TDR’s for the:


	Three Months Ended March 31, 2013
	Accruing Interest						Nonaccrual						Total
	Number						Number						Number
	of						of						of
	Loans			Balance			Loans			Balance			Loans			Balance
January 1, 2013		115		$	16,531			19		$	2,824			134		$	19,355
New modifications		8			819			1			98			9			917
Principal payments		—			(265	)		—			(37	)		—			(302	)
Loans paid-off		(3	)		(130	)		(1	)		(200	)		(4	)		(330	)
Balances charged-off (1)		—			(15	)		—			(211	)		—			(226	)
Transfers to OREO		—			—			(1	)		(12	)		(1	)		(12	)
Transfers to nonaccrual status		(1	)		(40	)		1			40			—			—

March 31, 2013		119		$	16,900			19		$	2,502			138		$	19,402


	Three Months Ended March 31, 2012
	Accruing Interest						Nonaccrual						Total
	Number						Number						Number
	of						of						of
	Loans			Balance			Loans			Balance			Loans			Balance
January 1, 2012		112		$	17,738			12		$	1,018			124		$	18,756
New modifications		24			4,651			8			1,217			32			5,868
Principal payments		—			(355	)		—			(61	)		—			(416	)
Loans paid-off		(9	)		(1,041	)		—			—			(9	)		(1,041	)
Balances charged-off		—			—			(3	)		(65	)		(3	)		(65	)
Transfers to accrual status		1			21			(1	)		(21	)		—			—
Transfers to nonaccrual status		(1	)		(50	)		1			50			—			—

March 31, 2012		127		$	20,964			17		$	2,138			144		$	23,102

(1)	Balances charged-off represent a partial charge-off. As such, the number of loans was unaffected.

The following table summarizes our TDR’s as of:


	March 31, 2013						December 31, 2012
	Accruing						Accruing						Total
	Interest		Nonaccrual		Total		Interest		Nonaccrual		Total		Change
Current	$	16,254	$	996	$	17,250	$	16,301	$	941	$	17,242	$	8
Past due 30-59 days		646		263		909		158		561		719		190
Past due 60-89 days		—		—		—		72		41		113		(113	)
Past due 90 days or more		—		1,243		1,243		—		1,281		1,281		(38	)

Total troubled debt restructurings	$	16,900	$	2,502	$	19,402	$	16,531	$	2,824	$	19,355	$	47

Additional disclosures about TDR’s are included in “Note 6 – Loans and Allowance for Loan Losses” of our interim condensed consolidated financial statements.

Impaired Loans

The following is a summary of information pertaining to impaired loans as of:


	March 31, 2013						December 31, 2012
			Unpaid						Unpaid
	Outstanding		Principal		Valuation		Outstanding		Principal		Valuation
	Balance		Balance		Allowance		Balance		Balance		Allowance
TDR’s
Commercial real estate	$	8,896	$	9,521	$	1,319	$	9,227	$	9,640	$	1,333
Commercial other		1,086		1,116		34		1,167		1,197		38
Agricultural real estate		224		224		32		91		91		32
Agricultural other		519		639		—		569		689		59
Residential real estate senior liens		8,623		9,036		1,500		8,224		8,670		1,429
Residential real estate junior liens		—		—		—		21		57		4
Consumer secured		54		54		—		56		56		—

Total TDR’s		19,402		20,590		2,885		19,355		20,400		2,895

Other impaired loans
Commercial real estate		3,667		4,153		596		1,817		2,304		320
Commercial other		166		296		—		2,245		2,376		359
Agricultural other		44		44		—		63		63		—
Residential real estate senior liens		1,834		2,669		284		2,226		3,002		354
Residential real estate junior liens		99		109		19		51		61		9
Home equity lines of credit		184		484		—		182		482		—
Consumer secured		18		27		—		19		28		—

Total other impaired loans		6,012		7,782		899		6,603		8,316		1,042

Total impaired loans	$	25,414	$	28,372	$	3,784	$	25,958	$	28,716	$	3,937

Additional disclosure related to impaired loans is included in “Note 6 – Loans and Allowance for Loan Losses” of our interim condensed consolidated financial statements.

Nonperforming Assets

The following table summarizes our nonperforming assets as of:


	March 31			December 31
	2013			2012
Nonaccrual loans	$	6,416		$	7,303
Accruing loans past due 90 days or more		480			428

Total nonperforming loans		6,896			7,731
OREO		1,173			2,008
Repossessed assets		—			10

Total nonperforming assets	$	8,069		$	9,749

Nonperforming loans as a % of total loans		0.90	%		1.00	%

Nonperforming assets as a % of total assets		0.56	%		0.68	%

Loans are placed in nonaccrual status when the foreclosure process has begun, generally after a loan is 90 days past due, unless they are well secured. Upon transferring the loans to nonaccrual status, we perform an evaluation to determine the net realizable value of the underlying collateral. This evaluation is used to help determine if any charge-offs are necessary. Loans may be placed back on accrual status after six months of continued performance.

Included in the nonaccrual loan balances above were credits currently classified as TDR’s as of:


	March 31		December 31
	2013		2012
Commercial and agricultural	$	2,080	$	2,325
Residential real estate		422		499

Total	$	2,502	$	2,824

The following table lists individually significant commercial and agricultural loan relationships in nonaccrual status as of March 31, 2013 and December 31, 2012. To be classified as individually significant, the recorded investment in nonaccrual loans to each borrower must have exceeded $1,000 as of the end of either period.


	March 31, 2013				December 31, 2012
	Oustanding		Specific		Oustanding		Specific
	Balance		Allocation		Balance		Allocation
Borrower 1	$	2,004	$	287	$	2,077	$	359
Others not individually significant		4,412				5,226

Total	$	6,416			$	7,303

The reduction in the outstanding balance and specific allocation from December 31, 2012 to March 31, 2013 were the result of regular payments received from the customer. There were no other individually significant credits included in nonaccrual loans as of March 31, 2013 or December 31, 2012.

Additional disclosures about nonaccrual loans are included in “Note 6 – Loans and Allowance for Loan Losses” of our interim condensed consolidated financial statements.

We continue to devote considerable attention to identifying impaired loans and adjusting the net carrying value of these loans to their current net realizable values through the establishment of a specific reserve or the recording of a charge-off. We believe that all loans deemed to be impaired have been identified.

We believe that the level of the ALLL is appropriate as of March 31, 2013 and we will continue to closely monitor overall credit quality and our policies and procedures related to the analysis of the ALLL to ensure that the ALLL remains appropriate.

NONINTEREST INCOME AND EXPENSES

Noninterest Income

Noninterest income consists of service charges and fee income, gains from the sale of mortgage loans, gains and losses on trading securities and borrowings measured at fair value, gains from the sale of investment securities, and other. Significant account balances are highlighted in the accompanying tables with additional descriptions of significant fluctuations:


	Three Months Ended March 31
					Change
	2013		2012		$			%
Service charges and fees
NSF and overdraft fees	$	516	$	558	$	(42	)		-7.5	%
ATM and debit card fees		455		457		(2	)		-0.4	%
Trust fees		263		250		13			5.2	%
Freddie Mac servicing fee		184		191		(7	)		-3.7	%
Service charges on deposit accounts		90		74		16			21.6	%
Net OMSR income		8		63		(55	)		-87.3	%
All other		28		36		(8	)		-22.2	%

Total service charges and fees		1,544		1,629		(85	)		-5.2	%
Gain on sale of mortgage loans		358		379		(21	)		-5.5	%
Earnings on corporate owned life insurance policies		169		171		(2	)		-1.2	%
Gain on sale of AFS securities		99		1,003		(904	)		-90.1	%
Other
Brokerage and advisory fees		147		130		17			13.1	%
All other		130		229		(99	)		-43.2	%

Total other		277		359		(82	)		-22.8	%

Total noninterest income	$	2,447	$	3,541	$	(1,094	)		-30.9	%

Significant changes in noninterest income are detailed below:

•

We continuously analyze various fees related to deposit accounts including service charges and NSF and overdraft fees. Based on these analyses, we make any necessary adjustments to ensure that our fee structure is within the range of our competitors, while at the same time making sure that the fees remain fair to deposit customers. NSF and overdraft fees represent the largest single component of service charges and fees. While we have experienced significant increases in deposit accounts, NSF and overdraft fees have steadily declined. This decline has been the result of reduced overdraft activity by our customers as well as changes in banking regulations. We expect this trend to continue.

•

In recent periods, we have invested considerable efforts to increase our market share in trust and brokerage and advisory services. These efforts have translated into increases in trust fees and brokerage and advisory fees. We expect this trend to continue.

•

Historically low offering rates on residential real estate loans have contributed to increased mortgage refinancing. This increase in activity has resulted in substantial increases in the gain on sale of mortgage loans, while contributing to fluctuations in the value of our OMSR portfolio. While the gain on sale of mortgage loans has declined since last year, we expect refinancing demand to remain elevated for the remainder of 2013.

•

We are continually analyzing our AFS security portfolio for potential sale opportunities. These analyses identified three mortgage-backed securities pools in the first quarter of 2013 that made economic sense to sell. During the first quarter of 2012, we identified several pools of mortgage-backed securities with significant unrealized gains. As the interest rates of the underlying mortgages were significantly higher than the current offering rates for similar mortgages, we elected to realize these gains through the sales of such securities as the investments would have likely been paid off in the near term through refinancing activity. We do not anticipate any significant investment sales during the remainder of 2013.

•

The fluctuation in all other income is spread throughout various categories, none of which are individually significant. We do not anticipate any significant fluctuations from current levels for the remainder of 2013.

Noninterest Expenses

Noninterest expenses include compensation and benefits, furniture and equipment, occupancy, net AFS security impairment loss, and other expenses. Significant account balances are highlighted in the accompanying tables with additional descriptions of significant fluctuations:


	Three Months Ended March 31
						Change
	2013		2012			$			%
Compensation and benefits
Employee salaries	$	3,876	$	3,828		$	48			1.3	%
Employee benefits		1,569		1,473			96			6.5	%

Total compensation and benefits		5,445		5,301			144			2.7	%

Furniture and equipment
Service contracts		536		480			56			11.7	%
Depreciation		464		443			21			4.7	%
ATM and debit card fees		168		151			17			11.3	%
All other		21		16			5			31.3	%

Total furniture and equipment		1,189		1,090			99			9.1	%

Occupancy
Outside services		170		147			23			15.6	%
Depreciation		161		154			7			4.5	%
Utilities		136		126			10			7.9	%
Property taxes		135		129			6			4.7	%
All other		63		85			(22	)		-25.9	%

Total occupancy		665		641			24			3.7	%

Net AFS security impairment loss		—		(282	)		282			N/M

Other
FDIC insurance premiums		272		215			57			26.5	%
Marketing and community relations		242		494			(252	)		-51.0	%
Directors fees		199		210			(11	)		-5.2	%
Audit fees		139		176			(37	)		-21.0	%
Education and travel		122		127			(5	)		-3.9	%
Postage and freight		99		101			(2	)		-2.0	%
Printing and supplies		86		109			(23	)		-21.1	%
Consulting fees		72		187			(115	)		-61.5	%
All other		661		640			21			3.3	%

Total other		1,892		2,259			(367	)		-16.2	%

Total noninterest expenses	$	9,191	$	9,009		$	182			2.0	%

Significant changes in noninterest expenses are detailed below:

•

During the first quarter of 2012, we recorded a credit impairment on an AFS security through earnings due to a bond being downgraded below investment grades. We continuously monitor the AFS security portfolio for other potential other-than-temporary impairments. For further discussion, see “Note 5 – Available-For-Sale Securities” of our notes to interim condensed consolidated financial statements.

•

We have been a consistently strong supporter of the various communities, schools, and charities in the markets we serve. In the 1996, we established a foundation that is generally funded from non-recurring, or extraordinary, revenue sources. The foundation provides centralized oversight for donations to organizations that benefit our communities. Included in marketing and community relations were donations to the foundation of $0 and $250 for the three month periods ended March 31, 2013 and 2012, respectively.

•

During the first quarter of 2012, we incurred consulting fees to review our FHLB advances for potential restructuring options. They were also elevated in 2012 due to the engagement of consultants to review our loan prepayment and deposit decay assumptions as well as to review various information technology projects. Consulting fees are anticipated to approximate current levels for the remainder of 2013.

•

The fluctuations in all other expenses are spread throughout various categories, none of which are individually significant.

ANALYSIS OF CHANGES IN FINANCIAL CONDITION


	March 31 2013			December 31 2012			$ Change			% Change (unannualized)
ASSETS
Cash and cash equivalents	$	19,680		$	24,920		$	(5,240	)		-21.03	%
Certificates of deposit held in other financial institutions		3,505			4,465			(960	)		-21.50	%
Trading securities		1,563			1,573			(10	)		-0.64	%
AFS securities		520,931			504,010			16,921			3.36	%
Mortgage loans available-for-sale		1,026			3,633			(2,607	)		-71.76	%
Loans		767,522			772,753			(5,231	)		-0.68	%
Allowance for loan losses		(11,909	)		(11,936	)		27			N/M
Premises and equipment		25,772			25,787			(15	)		-0.06	%
Corporate owned life insurance		22,819			22,773			46			0.20	%
Accrued interest receivable		6,160			5,227			933			17.85	%
Equity securities without readily determinable fair values		18,123			18,118			5			0.03	%
Goodwill and other intangible assets		46,475			46,532			(57	)		-0.12	%
Other assets		13,038			12,784			254			1.99	%

TOTAL ASSETS	$	1,434,705		$	1,430,639		$	4,066			0.28	%

LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Deposits	$	1,029,760		$	1,017,667		$	12,093			1.19	%
Borrowed funds		232,410			241,001			(8,591	)		-3.56	%
Accrued interest payable and other liabilities		7,227			7,482			(255	)		-3.41	%

Total liabilities		1,269,397			1,266,150			3,247			0.26	%
Shareholders’ equity		165,308			164,489			819			0.50	%

TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY	$	1,434,705		$	1,430,639		$	4,066			0.28	%

As shown above, total assets have remained essentially unchanged since December 31, 2012. While loans declined in the three months of 2013, we anticipate that loans will increase moderately throughout the year.

The following table outlines the changes in the loan portfolio:


	March 31 2013		December 31 2012		$ Change			% Change (unannualized)
Agricultural	$	81,196	$	83,606	$	(2,410	)		-2.88	%
Commercial		364,350		371,505		(7,155	)		-1.93	%
Consumer		33,014		33,494		(480	)		-1.43	%
Residential real estate		288,962		284,148		4,814			1.69	%

Total	$	767,522	$	772,753	$	(5,231	)		-0.68	%

The following table outlines the changes in the deposit portfolio:


	March 31 2013		December 31 2012		$ Change			% Change (unannualized)
Noninterest bearing demand deposits	$	137,322	$	143,735	$	(6,413	)		-4.46	%
Interest bearing demand deposits		183,055		181,259		1,796			0.99	%
Savings deposits		248,881		228,338		20,543			9.00	%
Certificates of deposit		374,280		376,790		(2,510	)		-0.67	%
Brokered certificates of deposit		53,329		55,348		(2,019	)		-3.65	%
Internet certificates of deposit		32,893		32,197		696			2.16	%

Total	$	1,029,760	$	1,017,667	$	12,093			1.19	%

Capital

Capital consists solely of common stock, retained earnings, and accumulated other comprehensive income. We are currently authorized to raise capital through dividend reinvestment, employee and director stock purchases, and shareholder stock purchases. Pursuant to theses authorizations, we issued 37,591 shares or $902 of common stock during the first three months of 2013, as compared to 25,998 shares or $609 of common stock during the same period in 2012. We also offer the Directors Plan which allows participants to purchase stock units, in lieu of cash payments. Pursuant to this plan, we increased shareholders’ equity by $146 and $169 during the three month periods ended March 31, 2013 and 2012, respectively.

We have approved a publicly announced common stock repurchase plan. Pursuant to this plan, we repurchased 20,509 shares or $480 of common stock compared to 18,452 shares for $426 during the first three months of 2013 and 2012, respectively. As of March 31, 2013, we were authorized to repurchase up to an additional 64,901 shares of common stock.

There are no significant regulatory constraints placed on our capital. The FRB’s current recommended minimum primary capital to assets requirement is 6.0%. Our primary capital to adjusted average assets, which consists of shareholders' equity plus the allowance for loan losses less acquisition intangibles, was 8.28% as of March 31, 2013.

The FRB has established a minimum risk based capital standard. Under this standard, a framework has been established that assigns risk weights to each category of on and off balance sheet items to arrive at risk adjusted total assets. Regulatory capital is divided by the risk adjusted assets with the resulting ratio compared to the minimum standard to determine whether a corporation has adequate capital. The minimum standard is 8%, of which at least 4% must consist of equity capital net of goodwill. The following table sets forth the percentages required under the Risk Based Capital guidelines and our values as of:


	March 31			December 31
	2013			2012			Required
Equity Capital		13.61	%		13.23	%		4.00	%
Secondary Capital		1.25	%		1.25	%		4.00	%

Total Capital		14.86	%		14.48	%		8.00	%

Secondary capital includes only the allowance for loan losses. The percentage for the secondary capital under the required column is the maximum amount allowed from all sources.

The FRB and FDIC also prescribe minimum capital requirements for Isabella Bank. At March 31, 2013, the Bank exceeded these minimum capital requirements. Recently passed legislation will likely increase the required level of capital for banks. This increase in capital levels may have an adverse impact on our ability to grow and pay dividends.

Contractual Obligations and Loan Commitments

We are party to credit related financial instruments with off-balance-sheet risk. These financial instruments are entered into in the normal course of business to meet the financing needs of our customers. These financial instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the consolidated balance sheets. The contract or notional amounts of these instruments reflect the extent of involvement we have in a particular class of financial instrument.

The following table summarizes our credit related financial instruments with off-balance-sheet risk as of:


	March 31		December 31
	2013		2012
Unfunded commitments under lines of credit	$	120,672	$	115,233
Commercial and standby letters of credit		3,840		3,935
Commitments to grant loans		34,617		40,507

Unfunded commitments under lines of credit are commitments for possible future extensions of credit to existing customers. These commitments may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements.

Commercial and standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support private borrowing arrangements, including commercial paper, bond financing, and similar transactions. These commitments to extend credit and letters of credit generally mature within one year. The credit risk involved in these transactions is essentially the same as that involved in extending loans to customers. We evaluate each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary upon the extension of credit, is based on a credit evaluation of the borrower. While we consider standby letters of credit to be guarantees, the amount of the liability related to such guarantees on the commitment date is not significant and a liability related to such guarantees is not recorded on the consolidated balance sheets.

Commitments to grant loans are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The amount of collateral obtained, if it is deemed necessary, is based on management’s credit evaluation of the customer. Commitments to grant loans include loans committed to be sold to the secondary market.

Our exposure to credit-related loss in the event of nonperformance by the counter parties to the financial instruments for commitments to extend credit and standby letters of credit could be up to the contractual notional amount of those instruments. We use the same credit policies as we do for extending loans to customers. No significant losses are anticipated as a result of these commitments.

Fair Value

We utilize fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. AFS securities, trading securities, and certain liabilities are recorded at fair value on a recurring basis. Additionally, from time to time, we may be required to record at fair value other assets on a nonrecurring basis, such as loans held-for-sale, foreclosed assets, OMSR, and certain other assets and liabilities. These nonrecurring fair value adjustments typically involve the application of lower of cost or market accounting or write-downs of individual assets.

For further information regarding fair value measurements see “Note 12—Fair Value” of our notes to the interim condensed consolidated financial statements.

Liquidity

Liquidity is monitored regularly by our Market Risk Committee, which consists of members of senior management. The committee reviews projected cash flows, key ratios, and liquidity available from both primary and secondary sources.

Our primary sources of liquidity are cash and demand deposits due from banks, certificates of deposit held in other financial institutions, trading securities, and available-for-sale securities. These categories totaled $545,679 or 38.0% of assets as of March 31, 2013 as compared to $534,968 or 37.4% as of December 31, 2012. Liquidity is important for financial institutions because of their need to meet loan funding commitments, depositor withdrawal requests, and various other commitments including expansion of operations, investment opportunities, and payment of cash dividends. Liquidity varies significantly daily, based on customer activity.

Our primary source of funds is deposit accounts. We also have the ability to borrow from the FHLB, the FRB, and through various correspondent banks as federal funds purchased. These funding methods typically carry a higher interest rate than traditional market deposit accounts. Some borrowed funds, including FHLB Advances, FRB Discount Window Advances, and repurchase agreements, require us to pledge assets, typically in the form of certificates of deposits held in other financial institutions, investment securities, or loans as collateral. As of March 31, 2013, we had available lines of credit of $116,058.

The following table summarizes our sources and uses of cash for the three month periods ended March 31:


	2013			2012			$ Variance
Net cash provided by operating activities	$	5,797		$	3,445		$	2,352
Net cash used in investing activities		(13,262	)		(38,167	)		24,905
Net cash provided by financing activities		2,225			27,876			(25,651	)

Decrease in cash and cash equivalents		(5,240	)		(6,846	)		1,606
Cash and cash equivalents January 1		24,920			28,590			(3,670	)

Cash and cash equivalents March 31	$	19,680		$	21,744		$	(2,064	)

Market Risk

Our primary market risks are interest rate risk and liquidity risk. We have no significant foreign exchange risk and do not utilize interest rate swaps or derivatives, except for interest rate locks and forward loan commitments, in the management of IRR. Any changes in foreign exchange rates or commodity prices would have an insignificant impact on our interest income and cash flows.

IRR is the exposure of our net interest income to changes in interest rates. IRR results from the difference in the maturity or repricing frequency of a financial institution's interest earning assets and its interest bearing liabilities. IRR is the fundamental method by which financial institutions earn income and create shareholder value. Excessive exposure to IRR could pose a significant risk to our earnings and capital.

The FRB has adopted a policy requiring us to effectively manage the various risks that can have a material impact on our safety and soundness. The risks include credit, interest rate, liquidity, operational, and reputational. We have policies, procedures and internal controls for measuring and managing these risks. Specifically, the IRR policy and procedures include defining acceptable types and terms of investments and funding sources, liquidity requirements, limits on investments in long term assets, limiting the mismatch in repricing opportunity of assets and liabilities, and the frequency of measuring and reporting to our Board.

The primary technique to measure interest rate risk is simulation analysis. Simulation analysis forecasts the effects on the balance sheet structure and net interest income under a variety of scenarios that incorporate changes in interest rates, the shape of yield curves, interest rate relationships, and loan prepayments. These forecasts are compared against net interest income projected in a stable interest rate environment. While many assets and liabilities reprice either at maturity or in accordance with their contractual terms, several balance sheet components demonstrate characteristics that require an evaluation to more accurately reflect their repricing behavior. Key assumptions in the simulation analysis include prepayments on loans, probable calls of investment securities, changes in market conditions, loan volumes and loan pricing, deposit sensitivity and customer preferences. These assumptions are inherently uncertain as they are subject to fluctuation and revision in a dynamic environment. As a result, the simulation analysis cannot precisely forecast the impact of rising and falling interest rates on net interest income. Actual results will differ from simulated results due to many other factors, including changes in balance sheet components, interest rate changes, changes in market conditions, and management strategies.

Our interest rate sensitivity is estimated by first forecasting the next twelve months of net interest income under an assumed environment of a constant balance sheet and constant market interest rates (base case). We then compare the results of various simulation analyses to the base case. At March 31, 2013, we projected the change in net interest income during the next twelve months assuming market interest rates were to immediately decrease by 100 basis points and increase by 100, 200, 300, and 400 basis points in a parallel fashion over the entire yield curve during the same time period. We did not project scenarios showing decreases in interest rates beyond 100 basis points as this is considered extremely unlikely given prevailing interest rate levels. These projections were based on our assets and liabilities remaining static over the next twelve months, while factoring in probable calls and prepayments of certain investment securities and real estate residential and consumer loans. While it is extremely unlikely that

interest rates would immediately increase to these levels, we feel that these extreme scenarios help us identify potential gaps and mismatches in the repricing characteristics of assets and liabilities. We regularly monitor our forecasted net interest income sensitivity to ensure that it remains within established limits.

The following table summarizes our interest rate sensitivity as of:


	March 31, 2013
Immediate basis point change asumption (short-term rates)		-100		0	100		200		300		400

Percent change in net income vs. constant rates		-2.32	%	—	-0.46	%	-1.47	%	-1.71	%	-2.33	%


	December 31, 2012
Immediate basis point change asumption (short-term rates)		-100		0	100		200		300		400

Percent change in net income vs. constant rates		-1.61	%	—	0.49	%	-1.58	%	-1.74	%	-2.16	%

The secondary method to measure interest rate risk is gap analysis. Gap analysis measures the cash flows and/or the earliest repricing of our interest bearing assets and liabilities. This analysis is useful for measuring trends in the repricing characteristics of the balance sheet. Significant assumptions are required in this process because of the imbedded repricing options contained in assets and liabilities. Residential real estate and consumer loans allow the borrower to repay the balance prior to maturity without penalty, while commercial and agricultural loans have prepayment penalties. The amount of prepayments is dependent upon many factors, including the interest rate of a given loan in comparison to the current offering rates, the level of sales of used homes, and the overall availability of credit in the market place. Generally, a decrease in interest rates will result in an increase in cash flows from these assets. A significant portion of our securities are callable or have prepayment options. The call and prepayment options are more likely to be exercised in a period of decreasing interest rates. Savings and demand accounts may generally be withdrawn on request without prior notice. The timing of cash flows from these deposits is estimated based on historical experience. Time deposits have penalties that discourage early withdrawals.

The following tables provide information about assets and liabilities that are sensitive to changes in interest rates as of March 31, 2013 and December 31, 2012. The principal amounts of assets and time deposits maturing were calculated based on the contractual maturity dates. Savings and NOW accounts are based on management's estimate of their future cash flows. During the first quarter of 2012, we engaged the services of a third party to analyze our historical loan prepayment speeds and non-contractual deposit decay rates. We have reviewed the results of the analyses in detail and feel that it reasonably reflects the prepayment speeds and decay rates of our loan and deposit portfolios


	March 31, 2013
	2014			2015			2016			2017			2018			Thereafter			Total			Fair Value
Rate sensitive assets
Other interest bearing assets	$	8,024		$	—		$	240		$	—		$	—		$	—		$	8,264		$	8,270
Average interest rates		0.69	%		—			1.25	%		—			—			—			0.71	%
Trading securities	$	1,043		$	520		$	—		$	—		$	—		$	—		$	1,563		$	1,563
Average interest rates		3.12	%		2.72	%		—			—			—			—			2.99	%
AFS securities	$	120,539		$	85,528		$	55,315		$	47,665		$	41,238		$	170,646		$	520,931		$	520,931
Average interest rates		2.38	%		2.31	%		2.52	%		2.69	%		2.81	%		2.43	%		2.46	%
Fixed interest rate loans (1)	$	129,631		$	98,252		$	97,414		$	93,396		$	95,261		$	102,582		$	616,536		$	627,348
Average interest rates		5.51	%		5.53	%		5.42	%		4.89	%		4.50	%		4.48	%		5.08	%
Variable interest rate loans (1)	$	60,038		$	25,878		$	21,891		$	17,884		$	15,065		$	10,230		$	150,986		$	150,986
Average interest rates		5.50	%		4.03	%		4.00	%		3.65	%		3.37	%		3.73	%		4.48	%
Rate sensitive liabilities
Borrowed funds	$	69,365		$	21,045		$	32,000		$	30,000		$	40,000		$	40,000		$	232,410		$	239,425
Average interest rates		0.47	%		0.70	%		1.62	%		1.88	%		2.46	%		3.02	%		1.61	%
Savings and NOW accounts	$	38,743		$	35,003		$	31,428		$	28,245		$	25,410		$	273,107		$	431,936		$	431,936
Average interest rates		0.13	%		0.13	%		0.13	%		0.13	%		0.13	%		0.12	%		0.12	%
Fixed interest rate time deposits	$	204,092		$	79,287		$	68,892		$	51,522		$	38,275		$	17,310		$	459,378		$	466,688
Average interest rates		1.08	%		1.69	%		2.14	%		1.94	%		1.61	%		1.59	%		1.50	%
Variable interest rate time deposits	$	740		$	384		$	—		$	—		$	—		$	—		$	1,124		$	1,124
Average interest rates		0.42	%		0.43	%		—			—			—			—			0.42	%


	December 31, 2012
	2013			2014			2015			2016			2017			Thereafter			Total			Fair Value
Rate sensitive assets
Other interest bearing assets	$	6,411		$	100		$	240		$	—		$	—		$	—		$	6,751		$	6,761
Average interest rates		0.86	%		0.35	%		1.25	%		—			—			—			0.86	%
Trading securities	$	1,051		$	522		$	—		$	—		$	—		$	—		$	1,573		$	1,573
Average interest rates		2.68	%		2.54	%		—			—			—			—			2.63	%
AFS securities	$	124,452		$	83,606		$	49,419		$	42,655		$	35,504		$	168,374		$	504,010		$	504,010
Average interest rates		2.42	%		2.30	%		2.53	%		2.82	%		2.89	%		2.48	%		2.50	%
Fixed interest rate loans (1)	$	138,840		$	96,013		$	91,353		$	85,095		$	109,057		$	89,760		$	610,118		$	622,329
Average interest rates		5.74	%		5.62	%		5.57	%		5.21	%		4.60	%		4.63	%		5.26	%
Variable interest rate loans (1)	$	64,482		$	28,076		$	24,669		$	12,650		$	22,061		$	10,697		$	162,635		$	162,635
Average interest rates		4.90	%		3.77	%		3.96	%		3.89	%		3.36	%		3.90	%		4.21	%
Rate sensitive liabilities
Borrowed funds	$	77,865		$	10,814		$	42,322		$	20,000		$	40,000		$	50,000		$	241,001		$	248,822
Average interest rates		0.46	%		0.65	%		1.14	%		2.67	%		2.15	%		3.03	%		1.59	%
Savings and NOW accounts	$	35,796		$	32,794		$	29,476		$	26,520		$	23,885		$	261,126		$	409,597		$	409,597
Average interest rates		0.13	%		0.13	%		0.12	%		0.12	%		0.12	%		0.11	%		0.12	%
Fixed interest rate time deposits	$	204,972		$	76,373		$	71,685		$	51,232		$	40,523		$	18,399		$	463,184		$	471,479
Average interest rates		1.13	%		1.69	%		2.10	%		2.14	%		1.72	%		1.67	%		1.55	%
Variable interest rate time deposits	$	782		$	369		$	—		$	—		$	—		$	—		$	1,151		$	1,151
Average interest rates		0.46	%		0.45	%		—			—			—			—			0.46	%

(1)	The fair value reported is exclusive of the allocation of the ALLL.

We do not believe that there has been a material change in the nature or categories of our primary market risk exposure, or the particular markets that present the primary risk of loss. As of the date of this report, we do not know of or expect there to be any material change in the general nature of our primary market risk exposure in the near term. As of the date of this report, we do not expect to make material changes in those methods in the near term. We may change those methods in the future to adapt to changes in circumstances or to implement new techniques.

Item 3 – Quantitative and Qualitative Disclosures about Market Risk

The information presented in the “Market Risk” section of the Management’s Discussion and Analysis of Financial Condition and Results of Operations is incorporated herein by reference.

Item 4 – Controls and Procedures

DISCLOSURE CONTROLS AND PROCEDURES

We carried out an evaluation, under the supervision and with the participation of the Principal Executive Officer and Principal Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15(d)-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) as of March 31, 2013, pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Principal Executive Officer and Principal Financial Officer concluded that our disclosure controls and procedures as of March 31, 2013, were effective to ensure that information required to be disclosed in reports that we file or submit under the Exchange Act are recorded, processed, summarized and reported within the time periods specified in SEC rules and forms.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

During the most recent fiscal quarter, no change occurred in our internal control over financial reporting that materially affected, or is likely to materially effect, our internal control over financial reporting.

PART II – OTHER INFORMATION

Item 1 – Legal Proceedings

We are not involved in any material legal proceedings. We are involved in ordinary, routine litigation incidental to our business; however, no such routine proceedings are expected to result in any material adverse effect on operations, earnings, or financial condition.

Item 1A – Risk Factors

There have been no material changes to the risk factors disclosed in Item 1A in our Annual Report on Form 10-K for the year ended December 31, 2012.

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

(A)

None

(B)

None

(C) Repurchases of Common Stock

We have adopted and publically announced a common stock repurchase plan. The plan was last amended on April 26, 2012, to allow for the repurchase of an additional 150,000 shares of common stock. These authorizations do not have expiration dates. As shares are repurchased under this plan, they are retired and revert back to the status of authorized, but unissued shares.

The following table provides information for the three month period ended March 31, 2013, with respect to this plan:


					Total Number of
					Shares Purchased		Maximum Number of
	Shares Repurchased				as Part of Publicly		Shares That May Yet Be
			Average Price		Announced Plan		Purchased Under the
	Number		Per Share		or Program		Plans or Programs
Balance, December 31, 2012								85,410
January 1 - 31, 2013		6,700	$	21.94		6,700		78,710
February 1 - 28, 2013		5,501		23.09		5,501		73,209
March 1 - 31, 2013		8,308		24.80		8,308		64,901

Total		20,509	$	23.40		20,509		64,901

Item 6 - Exhibits

(a)

Exhibits


31(a)		Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 by the Principal Executive Officer

31(b)		Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 by the Principal Financial Officer

32		Section 1350 Certification of Principal Executive Officer and Principal Financial Officer

101.1*		101.INS (XBRL Instance Document)

		101.SCH (XBRL Taxonomy Extension Schema Document)

		101.CAL (XBRL Calculation Linkbase Document)

		101.LAB (XBRL Taxonomy Label Linkbase Document)

		101.DEF (XBRL Taxonomy Linkbase Document)

		101.PRE (XBRL Taxonomy Presentation Linkbase Document)

•

In accordance with Rule 406T of Regulations S-T, the XBRL related information shall not be deemed to be “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be part of any registration statement or other document filed under the Securities Act or the Exchange Act, except as shall be expressly set forth by specific reference in such filing.

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.


	Isabella Bank Corporation

Date: April 29, 2013		/s/ Richard J. Barz
		Richard J. Barz
		Chief Executive Officer
		(Principal Executive Officer)

Date: April 29, 2013		/s/ Dennis P. Angner
		Dennis P. Angner
		President, Chief Financial Officer
		(Principal Financial Officer, Principal Accounting Officer)