10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

FORM 10-Q

(Mark One)

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2014

or

oTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                          to                         

Commission File Number:  000-52598

KENTUCKY BANCSHARES, INC.

(Exact name of registrant as specified in its charter)

Kentucky	61-0993464
(State or other jurisdiction of	(I.R.S. Employer Identification No.)
incorporation or organization)

P.O. Box 157, Paris, Kentucky	40362-0157
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code:  (859) 987-1795

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (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).  Yes x No o

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

Large accelerated filer o

Accelerated filer o

Non-accelerated filer x (Do not check if a smaller reporting company)

Smaller reporting company o

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

Number of shares of Common Stock outstanding as of July 31, 2014:  2,721,142.

KENTUCKY BANCSHARES, INC.

Table of Contents

Part I - Financial Information
Item 1. Financial Statements
	Consolidated Balance Sheets	3
	Consolidated Statements of Income and Comprehensive Income (Loss)	4
	Consolidated Statement of Changes in Stockholders’ Equity	6
	Consolidated Statements of Cash Flows	7
	Notes to Consolidated Financial Statements	8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	36
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	47
Item 4.	Controls and Procedures	49
Part II - Other Information		49
Item 6.	Exhibits	50
Signatures		51

2

Item 1 - Financial Statements

KENTUCKY BANCSHARES, INC.

CONSOLIDATED BALANCE SHEETS (unaudited)

(in thousands, except per share data)

	6/30/2014			12/31/2013
Assets
Cash and due from banks	$	14,951		$	22,650
Federal funds sold	88			510
Cash and cash equivalents	15,039			23,160
Securities available for sale	224,168			230,396
Trading Assets	5,242			—
Mortgage loans held for sale	495			223
Loans	496,134			468,655
Allowance for loan losses	(5,614		)	(5,441		)
Net loans	490,520			463,214
Federal Home Loan Bank stock	5,981			6,731
Real estate owned, net	2,306			3,379
Bank premises and equipment, net	16,780			16,709
Interest receivable	3,254			3,618
Mortgage servicing rights	1,245			1,344
Goodwill	13,117			13,117
Other intangible assets	243			317
Other assets	6,906			8,371
Total assets	$	785,296		$	770,579
Liabilities and Stockholders’ Equity
Deposits
Non-interest bearing	$	157,988		$	152,052
Time deposits, $100,000 and over	92,069			96,264
Other interest bearing	347,352			369,084
Total deposits	597,409			617,400
Repurchase agreements and other borrowings	11,297			12,867
Federal funds purchased	4,649			—
Short-term Federal Home Loan Bank advances	20,000			—
Long-term Federal Home Loan Bank advances	61,414			57,847
Subordinated debentures	7,217			7,217
Interest payable	679			736
Other liabilities	7,699			6,839
Total liabilities	710,364			702,906
Stockholders’ equity
Preferred stock, 300,000 shares authorized and unissued	—			—
Common stock, no par value; 10,000,000 shares authorized; 2,721,142 and 2,717,434 shares issued and outstanding on June 30, 2014 and December 31, 2013	12,608			12,570
Retained earnings	62,469			60,229
Accumulated other comprehensive loss	(145		)	(5,126		)
Total stockholders’ equity	74,932			67,673
Total liabilities & stockholders’ equity	$	785,296		$	770,579

See Accompanying Notes

3

KENTUCKY BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (LOSS) (unaudited)

(in thousands, except per share amounts)

	Six Months Ending
	6/30/2014		6/30/2013
INTEREST INCOME:
Loans, including fees	$	11,657	$	11,279
Securities
Taxable	1,355		1,006
Tax exempt	1,451		1,349
Trading assets	80		—
Other	145		159
Total interest income	14,688		13,793
INTEREST EXPENSE:
Deposits	1,074		1,162
Repurchase agreements and other borrowings	48		31
Federal Home Loan Bank advances	623		330
Subordinated debentures	115		115
Total interest expense	1,860		1,638
Net interest income	12,828		12,155
Provision for loan losses	200		600
Net interest income after provision	12,628		11,555
NON-INTEREST INCOME:
Service charges	2,073		2,108
Loan service fee income, net	34		(36		)
Trust department income	461		360
Gain on sale of available for sale securities, net	433		774
Gain on trading assets	162		—
Gain on sale of mortgage loans	398		1,140
Brokerage income	290		177
Debit card interchange income	1,009		953
Other	77		(46		)
Total other income	4,937		5,430
NON-INTEREST EXPENSE:
Salaries and employee benefits	7,263		6,778
Occupancy expenses	1,678		1,547
Repossession expenses, net	23		35
FDIC Insurance	268		262
Legal and professional fees	458		390
Data processing	668		688
Debit card expenses	496		468
Amortization	74		114
Advertising and marketing	441		376
Taxes other than payroll, property and income	422		447
Telephone	176		110
Postage	157		147
Loan fees	160		246
Other	945		1,013
Total other expenses	13,229		12,621
Income before taxes	4,336		4,364
Income taxes	661		870
Net income	$	3,675	$	3,494
Other Comprehensive Income (Loss), net of tax:
Change in Unrealized Gains (losses) on Securities	4,981		(5,976		)
Comprehensive Income (Loss)	$	8,656	$	(2,482	)
Earnings per share
Basic	$	1.36	$	1.29
Diluted	1.36		1.29
Dividends per share	0.50		0.48

See Accompanying Notes

4

KENTUCKY BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (LOSS) (unaudited)

(in thousands, except per share amounts)

	Three Months Ending
	6/30/2014		6/30/2013
INTEREST INCOME:
Loans, including fees	$	5,896	$	5,553
Securities
Taxable	680		527
Tax exempt	718		681
Trading assets	43		—
Other	69		76
Total interest income	7,406		6,837
INTEREST EXPENSE:
Deposits	535		572
Repurchase agreements and other borrowings	25		24
Federal Home Loan Bank advances	309		164
Subordinated debentures	58		56
Total interest expense	927		816
Net interest income	6,479		6,021
Provision for loan losses	100		150
Net interest income after provision	6,379		5,871
NON-INTEREST INCOME:
Service charges	1,062		1,088
Loan service fee income, net	5		16
Trust department income	239		183
Gain on sale of available for sale securities, net	245		485
Gain on trading assets	91		—
Gain on sale of mortgage loans	241		514
Brokerage income	210		109
Debit card interchange income	530		505
Other	45		(73		)
Total other income	2,668		2,827
NON-INTEREST EXPENSE:
Salaries and employee benefits	3,661		3,488
Occupancy expenses	830		829
Repossession expenses, net	25		(32		)
FDIC Insurance	140		130
Legal and professional fees	322		237
Data processing	331		340
Debit card expenses	262		245
Amortization	37		57
Advertising and marketing	232		192
Taxes other than payroll, property and income	197		222
Telephone	87		43
Postage	85		72
Loan fees	83		123
Other	483		499
Total other expenses	6,775		6,445
Income before taxes	2,272		2,253
Income taxes	368		468
Net income	$	1,904	$	1,785
Other Comprehensive Income (Loss), net of tax:
Change in Unrealized Gains (losses) on Securities	1,730		(4,724		)
Comprehensive Income (Loss)	$	3,634	$	(2,939	)
Earnings per share
Basic	$	0.70	$	0.66
Diluted	0.70		0.66
Dividends per share	0.25		0.24

See Accompanying Notes

5

KENTUCKY BANCSHARES, INC.

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited)

(in thousands, except share information)

									Accumulated
									Other			Total
	—Common Stock(1) —					Retained			Comprehensive			Stockholders’
	Shares		Amount			Earnings			Income/(Loss)			Equity
Balances, January 1, 2014	2,717,434		$	12,570		$	60,229		$	(5,126	)	$	67,673
Common stock issued	7,503		—			—			—			—
Stock based compensation expense	—		55			—			—			55
Common stock purchased and retired	(3,795	)	(17		)	(74		)	—			(91		)
Net change in unrealized gain (loss) on securities available for sale, net of tax and reclassifications	—		—			—			4,981			4,981
Net income	—		—			3,675			—			3,675
Dividends declared - $0.50 per share	—		—			(1,361		)	—			(1,361		)
Balances, June 30, 2014	2,721,142		$	12,608		$	62,469		$	(145	)	$	74,932

(1) Common Stock has no par value; amount includes Additional Paid-in Capital

See Accompanying Notes

6

KENTUCKY BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

(in thousands)

	Six Months Ending
	6/30/2014			6/30/2013
Cash Flows From Operating Activities
Net Income	$	3,675		$	3,494
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization	904			945
Securities amortization (accretion), net	303			565
Stock based compensation expense	55			48
Provision for loan losses	200			600
Securities available for sale gains, net	(433		)	(774		)
Net change in trading assets	(5,242		)	—
Originations of loans held for sale	(13,757		)	(34,329		)
Proceeds from sale of loans	13,883			35,536
Losses (gains) on sale of fixed assets	—			105
Losses (gains) on other real estate	(70		)	(30		)
Gain on sale of mortgage loans	(398		)	(1,140		)
Changes in:
Interest receivable	364			373
Write-downs of other real estate, net	10			(10		)
Other assets	1,369			(185		)
Interest payable	(57		)	78
Other liabilities	(1,707		)	708
Net cash from operating activities	(901		)	5,984
Cash Flows From Investing Activities
Purchases of securities available for sale	(34,977		)	(55,086		)
Proceeds from principal payments, sales, maturities and calls of securities	48,883			42,583
Net change in loans	(27,925		)	(23,668		)
Proceeds from sale of Federal Home Loan Bank stock	750			—
Purchases of bank premises and equipment	(705		)	(897		)
Proceeds from the sale of other real estate	1,551			754
Net cash from investing activities	(12,423		)	(36,314		)
Cash Flows From Financing Activities:
Net change in deposits	(19,991		)	(14,681		)
Net change in repurchase agreements and other borrowings	3,079			17,238
Short-term advances from Federal Home Loan Bank	105,000			41,000
Payment on short-term Federal Home Loan Bank advances	(85,000		)	(31,000		)
Long-term advances from Federal Home Loan Bank	6,538			8,200
Payments on long-term Federal Home Loan Bank advances	(2,971		)	(5,991		)
Payments on note payable	—			(500		)
Purchase of common stock	(91		)	(87		)
Dividends paid	(1,361		)	(1,307		)
Net cash from financing activities	5,203			12,872
Net change in cash and cash equivalents	(8,121		)	(17,458		)
Cash and cash equivalents at beginning of period	23,160			31,764
Cash and cash equivalents at end of period	$	15,039		$	14,306
Supplemental disclosures of cash flow information
Cash paid during the year for:
Interest expense	$	1,917		$	1,560
Income taxes	700			975
Supplemental disclosures of non-cash investing activities
Real estate acquired through foreclosure	$	419		$	248

See Accompanying Notes

7

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The financial information presented as of any date other than December 31 has been prepared from the Company’s books and records without audit.  The accompanying consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.  Certain financial information that is normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America, but is not required for interim reporting purposes, has been condensed or omitted.  There have been no significant changes to the Company’s accounting and reporting policies as disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.  In the opinion of management, all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of such financial statements, have been included.  The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year.

For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

Basis of Presentation:  The consolidated financial statements include the accounts of Kentucky Bancshares, Inc. (the “Company”, “we”, “our” or “us”), its wholly-owned subsidiary, Kentucky Bank (the “Bank”), and the Bank’s wholly-owned subsidiary, KB Special Assets Unit, LLC.  Intercompany transactions and balances have been eliminated in consolidation.

Nature of Operations:  The Bank operates under a state bank charter and provides full banking services, including trust services, to customers located in Bourbon, Clark, Elliott, Fayette, Harrison, Jessamine, Madison, Rowan, Scott, Woodford and adjoining counties in Kentucky.  Management continues to consider opportunities for branch expansion and will also consider acquisition opportunities that help advance its strategic objectives.  As a state bank, the Bank is subject to regulation by the Kentucky Department of Financial Institutions and the Federal Deposit Insurance Corporation (“FDIC”).  The Company, a bank holding company, is regulated by the Federal Reserve.  On July 9, 2014, a new subsidiary of the Company was incorporated under the name KBI Insurance Company, Inc.  KBI Insurance Company, Inc. is a subsidiary of Kentucky Bancshares, Inc. and is located in Las Vegas, Nevada.  It is a captive insurance subsidiary which insures various liability and property damage policies for Kentucky Bancshares, Inc. and its related subsidiaries.  KBI Insurance Company, Inc. is regulated by the State of Nevada Division of Insurance.

Estimates in the Financial Statements:  The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates and such differences could be material to the financial statements.  The allowance for loan losses, loss contingencies, mortgage servicing rights, real estate owned, goodwill and fair value of financial instruments are particularly subject to change.

Trading Assets:  The Company engages in trading activities for its own account.  Securities that are held principally for resale in the near term are recorded at fair value with changes in fair value included in earnings. Interest and dividends are included in net interest income.

8

Loss Contingencies:  Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated.

Pension Matter:  The Company terminated the Kentucky Bancshares, Inc. Retirement Plan and Trust (the “Plan”) in a standard termination, with a termination date of December 31, 2008.  Prior to such termination, the Pension Protection Act of 2006 (“PPA”) had amended Internal Revenue Code (“IRC”) Section 417(e)(3) in part by changing the definition of “applicable interest rate” in a manner that in most cases (when combined with other changes to IRC Section 417(e)(3)) would result in a decrease in the value of a participant’s or beneficiary’s plan benefits under pension plans such as the Company’s Plan with the new definition applicable (for most plans, including the Plan) to lump sums with annuity starting dates in or after the 2008 plan year.  The Plan had determined in mid-2008 to comply with IRC Section 417(e)(3), as amended by PPA, by using the assumptions governing minimum lump sums, rather than by using the pre-PPA minimum lump sum assumptions, and operated the Plan in compliance with that decision.  As permitted by the IRC, the Plan was amended on February 24, 2009 (after the termination of the Plan on December 31, 2008) to formalize that decision in accordance with Section 1107 of PPA.

The Internal Revenue Service issued a favorable determination as to the Plan termination in July 2010.  Subsequent to Plan termination and distributions to Plan participants, the Plan was selected for audit by the Pension Benefit Guaranty Corporation (“PBGC”).  The PBGC asserted that the February, 2009 amendment to the Plan violated PBGC Regulation Section 4041.8(a) because the amendment served to lower benefits to Plan beneficiaries.  The PBGC filed a Complaint in May 2013 in United States District Court (Eastern District of Kentucky) to require the Company to make additional distributions to Plan beneficiaries.  On March 17, 2014, the United States District Court (Eastern District of Kentucky) issued an Opinion and Order entering judgment in favor of the PBGC and ruling that the Company must comply with the PBGC’s determination respecting the Plan.  The Company is appraising its options with respect to this judgment, and has appealed the decision. The appeal is pending.  However, in light of the court’s opinion, the Company accrued approximately $1.6 million as of December 31, 2013 for this matter.  The accrued balance for this matter remains $1.6 million at June 30, 2014.  Moreover, in the event the subject court decision is not overturned, the Company believes it has claims for further contribution towards payment of this liability from professionals who assisted the Company in the termination of the Plan.

Reclassifications:  Some items in the prior year financial statements were reclassified to conform to the current presentation.  Reclassifications had no effect on prior period net income or stockholders’ equity.

9

Adoption of New Accounting Standards

In January 2014, the FASB issued Accounting Standards Update (“ASU”) 2014-04 - Receivables - Troubled Debt Restructurings by Creditors (Subtopic 310-40) - Reclassification of Residential Real Estate Collateralized Consumer Mortgage loans upon Foreclosure. This standard provides clarification when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan should be removed from the balance sheet and other real estate owned recognized. These amendments clarify that when an in-substance foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan upon either: (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure, or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. For public business entities (PBEs) this ASU is effective for annual periods, and interim periods within those annual periods, beginning after Dec 15, 2014.  For entities that are not PBEs, this ASU is effective for annual periods beginning after Dec 15, 2014, and for interim periods within annual periods beginning after Dec 15, 2015.  Early adoption is permitted.  The effect of adopting this standard is not expected to have a material effect on the Company’s results of operations or financial condition.

In May 2014, FASB issued Accounting Standards Update 2014-09, Revenue from Contracts with Customers (Topic 606). The ASU creates a new topic, Topic 606, to provide guidance on revenue recognition for entities that enter into contracts with customers to transfer goods or services or enter into contracts for the transfer of nonfinancial assets. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Additional disclosures are required to provide quantitative and qualitative information regarding the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The new guidance is effective for annual reporting periods, and interim reporting periods within those annual periods, beginning after December 15, 2016. Early adoption is not permitted. Management is currently evaluating the impact of the adoption of this guidance on the Company’s financial statements.

2. SECURITIES

SECURITIES AVAILABLE FOR SALE

Period-end securities are as follows:

(in thousands)

			Gross		Gross
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gains		Losses			Value
Available for Sale
June 30, 2014
U.S. government agencies	$	69,062	$	19	$	(1,809	)	$	67,272
States and political subdivisions	85,375		2,894		(731		)	87,538
Mortgage-backed - residential	69,681		315		(932		)	69,064
Equity securities	270		24		—			294
Total	$	224,388	$	3,252	$	(3,472	)	$	224,168
December 31, 2013
U.S. government agencies	$	73,930	$	51	$	(4,695	)	$	69,286
States and political subdivisions	91,043		1,614		(2,474		)	90,183
Mortgage-backed - residential	72,920		44		(2,326		)	70,638
Equity securities	270		19		—			289
Total	$	238,163	$	1,728	$	(9,495	)	$	230,396

The amortized cost and fair value of securities at June 30, 2014 by contractual maturity are shown below.  Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.  Securities not due at a single maturity are shown separately.  Further discussion concerning Fair Value Measurements can be found in Note 8.

10

(in thousands)

	Amortized		Fair
	Cost		Value
Due in one year or less	$	467	$	469
Due after one year through five years	8,888		8,897
Due after five years through ten years	80,302		79,607
Due after ten years	64,780		65,837
	154,437		154,810
Mortgage-backed - residential	69,681		69,064
Equity	270		294
Total	$	224,388	$	224,168

Proceeds from sales of securities during the first six months of 2014 and 2013 were $40.0 million and $27.2 million.  Gross gains of $785 thousand and $774 thousand and gross losses of $352 thousand and $0 were realized on those sales, respectively.  The tax provision related to these realized net gains was $147 thousand and $263 thousand, respectively.

Proceeds from sales of securities during the three months ending June 30, 2014 and June 30, 2013 were $23.5 million and $16.7 million.  Gross gains of $477 thousand and $485 thousand and gross losses of $232 thousand and $0 were realized on those sales, respectively.  The tax provision related to these realized gains and losses was $83 thousand and $165 thousand, respectively.

Securities with unrealized losses June 30, 2014 and at December 31, 2013 not recognized in income are as follows:

June 30, 2014

	Less than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
Description of Securities	Value		Loss			Value		Loss			Value		Loss
U.S. Government agencies	$	12,771	$	(142	)	$	53,774	$	(1,667	)	$	66,545	$	(1,809	)
States and municipals	4,426		(66		)	13,892		(665		)	18,318		(731		)
Mortgage-backed - residential	10,695		(167		)	25,753		(765		)	36,448		(932		)
Total temporarily impaired	$	27,892	$	(375	)	$	93,419	$	(3,097	)	$	121,311	$	(3,472	)

December 31, 2013

	Less than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
Description of Securities	Value		Loss			Value		Loss			Value		Loss
U.S. Government agencies	$	57,203	$	(3,812	)	$	8,117	$	(883	)	$	65,320	$	(4,695	)
States and municipals	32,289		(2,106		)	2,879		(368		)	35,168		(2,474		)
Mortgage-backed - residential	62,126		(2,326		)	—		—			62,126		(2,326		)
Total temporarily impaired	$	151,618	$	(8,244	)	$	10,996	$	(1,251	)	$	162,614	$	(9,495	)

The Company evaluates securities for other than temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation.  In analyzing an issuer’s financial condition, we may consider many factors including, (1) whether the securities are issued by the federal government or its agencies, (2) whether downgrades by bond rating agencies have occurred, (3) the results of reviews of the issuer’s financial condition and near-term prospects, (4) the length of time and the extent to which the fair value has been less than cost, and (5) whether we intend to sell the investment security or more likely than not will be required to sell the investment security before its anticipated recovery.

11

Unrealized losses on securities included in the tables above have not been recognized into income because (1) all rated securities are investment grade and are of high credit quality, (2) management does not intend to sell and it is more likely than not that management would not be required to sell the securities prior to their anticipated recovery, (3) management believes the decline in fair value is largely due to changes in interest rates and (4) management believes the declines in fair value are temporary.  The Company believes the fair value is expected to recover as the securities approach maturity.

TRADING ASSETS

The trading assets of $5.2 million are primarily comprised of municipal securities which are held for a very short period of time.

3. LOANS

Loans at period-end are as follows:

(in thousands)

	6/30/14		12/31/13
Commercial	$	33,727	$	34,654
Real estate construction	13,393		11,177
Real estate mortgage:
1-4 family residential	208,620		194,388
Multi-family residential	18,805		16,420
Non-farm & non-residential	131,795		126,791
Agricultural	72,605		68,002
Consumer	16,947		17,065
Other	242		158
Total	$	496,134	$	468,655

Activity in the allowance for loan losses for the six and three month periods indicated was as follows:

	Six Months Ended June 30, 2014
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	230	$	200	$	—	$	201		$	231
Real estate Construction	358		—		8		(7		)	359
Real estate mortgage:
1-4 family residential	2,169		88		16		227			2,324
Multi-family residential	427		—		—		(100		)	327
Non-farm & non-residential	564		—		367		(197		)	734
Agricultural	578		—		25		(57		)	546
Consumer	548		153		41		107			543
Other	51		202		159		25			33
Unallocated	516		—		—		1			517
	$	5,441	$	643	$	616	$	200		$	5,614

	Three Months Ended June, 30 2014
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	208	$	—	$	—	$	23		$	231
Real estate Construction	329		—		4		26			359
Real estate mortgage:
1-4 family residential	2,111		25		4		234			2,324
Multi-family residential	401		—		—		(74		)	327
Non-farm & non-residential	930		—		—		(196		)	734
Agricultural	553		—		1		(8		)	546
Consumer	550		76		23		46			543
Other	11		105		72		55			33
Unallocated	523		—		—		(6		)	517
	$	5,616	$	206	$	104	$	100		$	5,614

12

	Six Months Ended June 30, 2013
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	150	$	11	$	28	$	(16	)	$	151
Real estate Construction	918		578		21		12			373
Real estate mortgage:
1-4 family residential	1,989		141		56		80			1,984
Multi-family residential	414		161		39		189			481
Non-farm & non-residential	628		—		18		31			677
Agricultural	845		86		3		(101		)	661
Consumer	517		252		18		265			548
Other	54		309		206		141			92
Unallocated	532		—		—		(1		)	531
	$	6,047	$	1,538	$	389	$	600		$	5,498

	Three Months Ended June 30, 2013
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	135	$	5	$	—	$	21		$	151
Real estate Construction	497		—		16		(140		)	373
Real estate mortgage:
1-4 family residential	1,974		16		30		(4		)	1,984
Multi-family residential	493		161		39		110			481
Non-farm & non-residential	611		—		10		56			677
Agricultural	747		—		1		(87		)	661
Consumer	511		104		7		134			548
Other	99		172		80		85			92
Unallocated	556		—		—		(25		)	531
	$	5,623	$	458	$	183	$	150		$	5,498

The following tables present the balance in the allowance for loan losses and the recorded investment (excluding accrued interest receivable amounting to $2.0 million as of June 30, 2014 and $2.3 million at December 31, 2013) in loans by portfolio segment and based on impairment method as of June 30, 2014 and December 31, 2013:

As of June 30, 2014

(in thousands)

	Individually		Collectively
	Evaluated for		Evaluated for
	Impairment		Impairment		Total
Allowance for Loan Losses:
Commercial	$	—	$	231	$	231
Real estate construction	—		359		359
Real estate mortgage:
1-4 family residential	326		1,998		2,324
Multi-family residential	50		277		327
Non-farm & non-residential	182		552		734
Agricultural	260		286		546
Consumer	—		543		543
Other	—		33		33
Unallocated	—		517		517
	$	818	$	4,796	$	5,614
Loans:
Commercial	$	—	$	33,727	$	33,727
Real estate construction	—		13,393		13,393
Real estate mortgage:
1-4 family residential	3,196		205,424		208,620
Multi-family residential	345		18,460		18,805
Non-farm & non-residential	3,937		127,858		131,795
Agricultural	9,534		63,071		72,605
Consumer	—		16,947		16,947
Other	—		242		242
	$	17,012	$	479,122	$	496,134

13

As of December 31, 2013

(in thousands)

	Individually		Collectively
	Evaluated for		Evaluated for
	Impairment		Impairment		Total
Allowance for Loan Losses:
Commercial	$	—	$	230	$	230
Real estate construction	—		358		358
Real estate mortgage:
1-4 family residential	228		1,941		2,169
Multi-family residential	76		351		427
Non-farm & non-residential	110		454		564
Agricultural	298		280		578
Consumer	—		548		548
Other	—		51		51
Unallocated	—		516		516
	$	712	$	4,729	$	5,441
Loans:
Commercial	$	—	$	34,654	$	34,654
Real estate construction	—		11,177		11,177
Real estate mortgage:
1-4 family residential	2,873		191,515		194,388
Multi-family residential	274		16,146		16,420
Non-farm & non-residential	2,716		124,075		126,791
Agricultural	7,673		60,329		68,002
Consumer	—		17,065		17,065
Other	—		158		158
	$	13,536	$	455,119	$	468,655

14

The following table presents loans individually evaluated for impairment by class of loans as of and for the six months ended June 30, 2014 (in thousands):

	Unpaid				Allowance for		Average		Interest		Cash Basis
	Principal		Recorded		Loan Losses		Recorded		Income		Interest
	Balance		Investment		Allocated		Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—	$	—	$	—	$	—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	1,302		1,302		—		1,002		—		—
Multi-family residential	—		—		—		—		—		—
Non-farm & non-residential	—		—		—		267		—		—
Agricultural	4,780		4,780		—		2,684		80		80
Consumer	—		—		—		—		—		—
Other	—		—		—		—		—		—
With an allowance recorded:
Commercial	—		—		—		—		—		—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	1,894		1,894		326		1,991		44		44
Multi-family residential	345		345		50		323		5		5
Non-farm & non-residential	3,937		3,937		182		3,043		73		73
Agricultural	4,754		4,754		260		5,034		19		19
Consumer	—		—		—		—		—		—
Other	—		—		—		—				—
Total	$	17,012	$	17,012	$	818	$	14,344	$	221	$	221

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

15

The following table presents loans individually evaluated for impairment by class of loans as of and for the year ended December 31, 2013 (in thousands):

	Unpaid				Allowance for		Average		Interest		Cash Basis
	Principal		Recorded		Loan Losses		Recorded		Income		Interest
	Balance		Investment		Allocated		Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—	$	—	$	—	$	—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	824		793		—		1,217		28		28
Multi-family residential	—		—		—		—		—		—
Non-farm & non-residential	1,650		803		—		1,471		81		81
Agricultural	2,912		2,826		—		2,802		123		123
Consumer	—		—		—		—		—		—
Other	—		—		—		—		—		—
With an allowance recorded:
Commercial	—		—		—		—		—		—
Real estate construction	—		—		—		607		—		—
Real estate mortgage
1-4 family residential	2,080		2,080		228		1,349		96		96
Multi-family residential	274		274		76		443		3		3
Non-farm & non-residential	1,913		1,913		110		1,938		79		79
Agricultural	4,847		4,847		298		4,864		287		287
Consumer	—		—		—		—		—		—
Other	—		—		—		—				—
Total	$	14,501	$	13,536	$	712	$	14,691	$	697	$	697

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

16

The following table presents loans individually evaluated for impairment by class of loans as of and for the six months ended June 30, 2013 (in thousands):

	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,253		21		21
Multi-family residential	—		—		—
Non-farm & non-residential	1,625		40		40
Agricultural	2,873		9		9
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—
Real estate mortgage:
1-4 family residential	874		21		21
Multi-family residential	511		3		3
Non-farm & non-residential	2,641		40		40
Agricultural	4,711		57		57
Consumer	—		—		—
Other	—				—
Total	$	14,488	$	191	$	191

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

17

The following tables present loans individually evaluated for impairment by class of loans for the three months ending June 30, 2014 and June 30, 2013 (in thousands):

	Three Months Ending June 30, 2014
	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,562		—		—
Multi-family residential	—		—		—
Non-farm & non-residential	—		—		—
Agricultural	2,836		77		77
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,377		38		38
Multi-family residential	310		1		1
Non-farm & non-residential	3,553		48		48
Agricultural	4,755		19		19
Consumer	—		—		—
Other	—		—		—
Total	$	14,393	$	183	$	183

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

	Three Months Ending June 30, 2013
	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,035		2		2
Multi-family residential	—		—		—
Non-farm & non-residential	1,065		20		20
Agricultural	2,854		3		3
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,016		7		7
Multi-family residential	669		1		1
Non-farm & non-residential	2,421		20		20
Agricultural	4,744		7		7
Consumer	—		—		—
Other	—		—		—
Total	$	13,804	$	60	$	60

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

18

The following tables present the recorded investment in nonaccrual, loans past due over 90 days still on accrual and accruing troubled debt restructurings by class of loans as of June 30, 2014 and December 31, 2013:

As of June 30, 2014

(in thousands)

			Loans Past Due
			Over 90 Days		Accruing
			Still		Troubled Debt
	Nonaccrual		Accruing		Restructurings
Commercial	$	299	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	2,350		266		487
Multi-family residential	85		—		—
Non-farm & non-residential	988		—		1,853
Agricultural	216		—		4,530
Consumer	—		—		—
Total	$	3,938	$	266	$	6,870

As of December 31, 2013

(in thousands)

			Loans Past Due
			Over 90 Days		Accruing
			Still		Troubled Debt
	Nonaccrual		Accruing		Restructurings
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,171		314		493
Multi-family residential	275		—		—
Non-farm & non-residential	803		—		1,878
Agricultural	717		232		4,530
Consumer	8		8		—
Total	$	2,974	$	554	$	6,901

Nonaccrual loans secured by real estate make up 92.4% of the total nonaccruals at June 30, 2014.

Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.

19

A loan is considered impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement.  All amounts due according to the contractual terms means that both the contractual interest payments and the contractual principal payments of a loan will be collected as scheduled in the loan agreement.  Nonaccrual loans are loans for which payments in full of principal or interest is not expected or which principal or interest has been in default for a period of 90 days or more unless the asset is both well secured and in the process of collection.  Other impaired loans may be loans showing signs of weakness or interruptions in cash flow, but ultimately are current or less than 90 days past due with respect to principal and interest and for which we anticipate full payment of principal and interest but not in accordance with contractual terms.

Additional factors considered by management in determining impairment and non-accrual status include payment status, collateral value, availability of current financial information, and the probability of collecting all contractual principal and interest payments.

During the first six months of 2014, $419 thousand in impaired loans were transferred to other real estate owned.  Additionally, $643 thousand in loan balances were charged off during the first six months of 2014 and $616 thousand in prior loan charge offs were recovered.

The following tables present the aging of the recorded investment in past due and non-accrual loans as of June 30, 2014 and December 31, 2013 by class of loans:

As of June 30, 2014

(in thousands)

	30–59		60–89		Loans Past Due				Total
	Days		Days		Over 90 Days				Past Due &		Loans Not
	Past Due		Past Due		Still Accruing		Non-accrual		Non-accrual		Past Due
Commercial	$	79	$	—	$	—	$	299	$	378	$	33,349
Real estate construction	—		—		—		—		—		13,393
Real estate mortgage:
1-4 family residential	1,788		433		266		2,350		4,837		203,783
Multi-family residential	—		260		—		85		345		18,460
Non-farm & non-residential	777		—		—		988		1,765		130,030
Agricultural	312		—		—		216		528		72,077
Consumer	151		44		—		—		195		16,752
Other	—		—		—		—		—		242
Total	$	3,107	$	737	$	266	$	3,938	$	8,048	$	488,086

As of December 31, 2013

(in thousands)

	30–59		60–89		Greater than				Total
	Days		Days		90 Days				Past Due &		Loans Not
	Past Due		Past Due		Past Due		Non-accrual		Non-accrual		Past Due
Commercial	$	49	$	—	$	—	$	—	$	49	$	34,605
Real estate construction	175		—		—		—		175		11,002
Real estate mortgage:
1-4 family residential	1,981		1,285		314		1,171		4,751		189,637
Multi-family residential	—		—		—		275		275		16,145
Non-farm & non-residential	503		—		—		803		1,306		125,485
Agricultural	155		—		232		717		1,104		66,898
Consumer	102		27		8		8		145		16,920
Other	—		—		—		—		—		158
Total	$	2,965	$	1,312	$	554	$	2,974	$	7,805	$	460,850

20

Troubled Debt Restructurings:

The Company has allocated $398 thousand in specific reserves to customers whose loan terms have been modified in troubled debt restructurings as of June 30, 2014.  The Company allocated $428 thousand for specific reserves to customers whose loan terms had been modified in troubled debt restructuring as of December 31, 2013.  The Company has not committed to lend additional amounts as of June 30, 2014 and December 31, 2013 to customers with outstanding loans that are classified as troubled debt restructurings.  There were no troubled debt restructurings for which there was a payment default within twelve months following the modification during the periods ending June 30, 2014 and 2013.

No loans were modified as troubled debt restructurings during the six months ending June 30, 2014 and 2013.

Credit Quality Indicators:

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as:  current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors.  The Company analyzes loans individually by classifying the loans as to credit risk.  This analysis is performed on a quarterly basis.  The Company uses the following definitions for risk ratings:

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

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

Doubtful.  Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans.

21

As of June 30, 2014 and December 31, 2013, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:

As of June 30, 2014

(in thousands)

			Special
	Pass		Mention		Substandard		Doubtful
Commercial	$	31,932	$	1,241	$	554	$	—
Real estate construction	11,934		1,459		—		—
Real estate mortgage:
1-4 family residential	190,893		10,040		7,666		21
Multi-family residential	16,738		1,555		512		—
Non-farm & non-residential	125,306		5,050		1,439		—
Agricultural	58,709		12,353		1,543		—
Total	$	435,512	$	31,698	$	11,714	$	21

As of December 31, 2013

(in thousands)

			Special
	Pass		Mention		Substandard		Doubtful
Commercial	$	32,771	$	1,587	$	296	$	—
Real estate construction	9,660		1,517		—		—
Real estate mortgage:
1-4 family residential	176,553		10,346		7,489		—
Multi-family residential	14,392		1,579		449		—
Non-farm & non-residential	120,195		5,327		1,269		—
Agricultural	56,713		7,297		3,992		—
Total	$	410,284	$	27,653	$	13,495	$	—

For consumer loans, the Company evaluates the credit quality based on the aging of the recorded investment in loans, which was previously presented.  Non-performing consumer loans are loans which are greater than 90 days past due or on non-accrual status, and total $0 at June 30, 2014 and $16 thousand at December 31, 2013.

22

4.  REAL ESTATE OWNED

Activity in real estate owned, net was as follows:

	Six Months Ended
	2014			2013
	(in thousands)
Beginning of year	$	3,379		$	4,168
Additions	419			335
Sales	(1,540		)	(924		)
(Additions) subtractions to valuation allowance, net	(10		)	10
Recovery from sale in valuation allowance	58			199
End of period	$	2,306		$	3,788

Activity in the valuation allowance was as follows:

	Six Months Ended
	2014			2013
	(in thousands)
Beginning of year	$	1,524		$	1,668
Additions (subtractions) to valuation allowance, net	10			(10		)
Recovery from sale	(58		)	(199		)
End of period	$	1,476		$	1,459

Expenses related to foreclosed assets include:

	Six Months Ended
	2014			2013
	(in thousands)
Net loss (gain) on sales	$	(70	)	$	(30	)
Additions (subtractions) to valuation allowance, net	10			(10		)
Operating expenses (receipts), net of rental income	13			45
Repossession expenses, net	23			35
End of period	$	(47	)	$	5

23

5.  EARNINGS PER SHARE

Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period.  Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock based compensation agreements.

The factors used in the earnings per share computation follow:

	Six Months Ended
	June 30
	2014		2013
	(in thousands)
Basic Earnings Per Share
Net Income	$	3,675	$	3,494
Weighted average common shares outstanding	2,708		2,705
Basic earnings per share	$	1.36	$	1.29
Diluted Earnings Per Share
Net Income	$	3,675	$	3,494
Weighted average common shares outstanding	2,708		2,705
Add dilutive effects of assumed vesting of stock grants	—		4
Weighted average common and dilutive potential common shares outstanding	2,708		2,709
Diluted earnings per share	$	1.36	$	1.29

	Three Months Ended
	June 30
	2014		2013
	(in thousands)
Basic Earnings Per Share
Net Income	$	1,904	$	1,785
Weighted average common shares outstanding	2,708		2,704
Basic earnings per share	$	0.70	$	0.66
Diluted Earnings Per Share
Net Income	$	1,904	$	1,785
Weighted average common shares outstanding	2,708		2,704
Add dilutive effects of assumed vesting of stock grants	—		4
Weighted average common and dilutive potential common shares outstanding	2,708		2,708
Diluted earnings per share	$	0.70	$	0.66

Stock options for 12,725 shares of common stock for the six and three months ended June 30, 2014 and 19,500 shares of common stock for the six and three months ended June 30, 2013 were excluded from diluted earnings per share because their impact was antidilutive.

24

6.  STOCK COMPENSATION

We have four stock based compensation plans as described below.

Two Stock Option Plans

Under our now expired 1999 Employee Stock Option Plan (the “1999 Plan”), we granted certain officers and key employees stock option awards which vest and become fully exercisable at the end of five years and provide for issuance of up to 100,000 options.  Under the now expired 1993 Non-Employee Directors Stock Ownership Incentive Plan (together with the 1999 Plan, the “Stock Option Plans”), we also granted certain directors stock option awards which vest and become fully exercisable immediately and provide for issuance of up to 20,000 options.  For each Stock Option Plan, the exercise price of each option, which has a ten year life, was equal to the market price of our stock on the date of grant.

The combined summary of activity for 2014 in the expired Stock Option Plans follows:

					Weighted
			Weighted		Average
			Average		Remaining	Aggregate
			Exercise		Contractual	Intrinsic
	Shares		Price		Term	Value
Outstanding, beginning of year	19,100		$	31.50
Granted	—		—
Forfeited or expired	(6,375	)	33.56
Exercised	—		—
Outstanding, end of period	12,725		$	30.46	10.9 months	$	—
Vested and expected to vest	12,725		$	30.46	10.9 months	$	—
Exercisable, end of period	12,725		$	30.46	10.9 months	$	—

As of June 30, 2014, there was no unrecognized compensation cost related to nonvested stock options granted under either Stock Option Plan.  Since both Stock Option Plans have expired, no additional options can be granted under either of these plans.

2005 Restricted Stock Grant Plan

On May 10, 2005, our stockholders approved a restricted stock grant plan.  Total shares issuable under the plan are 50,000.  We issued 7,475 shares during 2014 and 6,065 shares during 2013.  There were no shares forfeited during the first six months of 2014 or 2013.  As of June 30, 2014, the restricted stock grant plan allows for additional restricted stock share awards of up to 4,995 shares.

25

A summary of changes in the Company’s nonvested shares for the year follows:

			Weighted-Average			Fair
			Grant-Date			Value
Nonvested Shares	Shares		Fair Value			Per Share
Nonvested at January 1, 2014	15,565		$	280,016		$	17.99
Granted	7,475		181,194			24.24
Vested	(4,756	)	(84,518		)	17.77
Forfeited	—		—			—
Nonvested at June 30, 2014	18,284		$	376,692		$	20.60

As of June 30, 2014, there was $327,197 of total unrecognized compensation cost related to nonvested shares granted under the restricted stock grant plan.  The cost is expected to be recognized over a weighted-average period of 5 years.

2009 Stock Award Plan

On May 13, 2009, our stockholders approved a stock award plan that provides for the granting of both incentive and nonqualified stock options and other share based awards.  Total shares issuable under the plan are 150,000.  We issued no stock grants during the first six months of 2014 and 900 shares during the first six months of 2013.  As of June 30, 2014, 149,100 shares are still available for issuance.

A summary of changes in the Company’s nonvested shares for the year follows:

			Weighted-Average			Fair
			Grant-Date			Value
Nonvested Shares	Shares		Fair Value			Per Share
Nonvested at January 1, 2014	900		$	20,880		$	23.20
Granted	—		—			—
Vested	(180	)	(4,176		)	23.20
Forfeited	—		—			—
Nonvested at June 30, 2014	720		$	16,704		$	23.20

As of June 30, 2014, there was $15,312 of total unrecognized compensation cost related to nonvested shares granted under the restricted stock grant plan.  The cost is expected to be recognized over a weighted-average period of 5 years.

7.  OTHER BORROWINGS

The Company had a $5 million revolving promissory note which was scheduled to mature July 27, 2014.  The Company renewed this note with similar terms as the original note, with the maturity date of July 26, 2015.  The Company has no outstanding balances related to this promissory note at June 30, 2014.

26

8.  FAIR VALUE MEASUREMENTS

ASC Topic 820, “Fair Value Measurements and Disclosures”, defines fair value, establishes a framework for measuring fair value, and sets forth disclosures about fair value measurements.  ASC Topic 825, “Financial Instruments”, allows entities to choose to measure certain financial assets and liabilities at fair value.  The Company has not elected the fair value option for any financial assets or liabilities.

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

Level 1 — Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2 — Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

Level 3 — Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

The Company used the following methods and significant assumptions to estimate the fair value:

Investment Securities and Trading Assets:  The fair values for available for sale investment securities and trading assets are determined by quoted market prices, if available (Level 1).  For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2).  For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3).

Impaired Loans:  The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent third party real estate appraisals.  These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available.  Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.

Other Real Estate Owned:  The fair value of certain commercial and residential real estate properties classified as other real estate owned (OREO) are generally based on third party appraisals of the property, resulting in a Level 3 classification.   In cases where the carrying amount exceeds the fair value, less costs to sell, an impairment loss is recognized.

27

Mortgage Servicing Rights:  Fair value is based on market prices for comparable mortgage servicing contracts, when available, or alternatively based on a valuation model that calculates the present value of estimated future net servicing income, resulting in a Level 3 classification.

Assets and Liabilities Measured on a Recurring Basis

Available for sale investment securities and trading assets are the Company’s only balance sheet items that meet the disclosure requirements for instruments measured at fair value on a recurring basis.  Disclosures are as follows in the tables below.

Fair Value Measurements at June 30, 2014 Using (In thousands):

			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Fair		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)
U. S. government agencies	$	67,272	$	—	$	67,272	$	—
States and municipals	87,538		—		87,538		—
Mortgage-backed - residential	69,064		—		69,064		—
Equity securities	294		294		—		—
Trading Assets	5,242		5,242		—		—
Total	$	229,410	$	5,536	$	223,874	$	—

Available for Sale Investment Securities Fair Value Measurements at December 31, 2013 Using (In thousands):

			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Fair		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)
U. S. government agencies	$	69,286	$	—	$	69,286	$	—
States and municipals	90,183		—		90,183		—
Mortgage-backed - residential	70,638		—		70,638		—
Equity securities	289		289		—		—
Total	$	230,396	$	289	$	230,107	$	—

The Company held no trading assets at December 31, 2013.  Also, there were no transfers between level 1 and level 2 during 2014 or 2013.

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Assets measured at fair value on a non-recurring basis are summarized below:

(In thousands)

	Fair Value Measurements at June 30, 2014 Using:
			Quoted Prices
			In Active		Other
			Markets for	Significant	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
Description	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans:
Real Estate Mortgage:
1-4 family residential	$	1,137	—	—	$	1,137
Multi-family residential	295		—	—	295
Non-farm & non-residential	1,276		—	—	1,276
Agricultural	220				220
Other real estate owned:
Residential	1,180		—	—	1,180
Loan servicing rights	344		—	—	344

(In thousands)

	Fair Value Measurements at December 31, 2013 Using:
			Quoted Prices
			In Active		Other
			Markets for	Significant	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
Description	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans:
Real Estate Mortgage:
1-4 family residential	$	1,420	—	—	$	1,420
Multi-family residential	199		—	—	199
Non-farm & non-residential	36		—	—	36
Agricultural	275		—	—	275
Other real estate owned:
Residential	1,361		—	—	1,361
Loan servicing rights	201		—	—	201

29

Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $2.9 million, which includes a valuation allowance of $370 thousand at June 30, 2014.  During the first six months of 2014, five new loans became impaired resulting in an additional provision for loan losses of $536 thousand.  The total allowance for specific impaired loans increased $106 thousand for the six months ending June 30, 2014 and decreased $28 thousand for the three months ending June 30, 2014. Other real estate owned, which is measured at fair value less costs to sell, had a net carrying amount of $1.2 million, which is made up of the outstanding balance of $2.7 million, net of a valuation allowance of $1.5 million at June 30, 2014.  The Company recorded $10 thousand in write-downs of other real estate owned properties for the six months and three months ending June 30, 2014 and none for the same time periods in 2013

Loan servicing rights, which are carried at the lower of cost or fair value, were carried at their fair value of $344 thousand, which is made up of the outstanding balance of $414 thousand, net of a valuation allowance of $70 thousand at June 30, 2014.  The Bank recorded net write-downs of $12 thousand for the six months ending June 30, 2014 and write-downs of $17 thousand for the three months ending June 30, 2014.  At December 31, 2013, loan servicing rights were carried at their fair value of $201 thousand, which is made up of the outstanding balance of $260 thousand, net of a valuation allowance of $59 thousand.

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at June 30, 2014 and December 31, 2013:

June 30, 2014

(In thousands)

				Range
	Fair	Valuation	Unobservable	(Weighted
	Value	Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	1,137	sales comparison	adjustment for	0%-99%
			differences	(6%)
			between the
			comparable sales
Multi-family residential	295	sales comparison	adjustment for	0%-32%
			differences	(3%)
			between the
			comparable sales
Non-farm & non-residential	1,276	sales comparison	adjustment for	0%-61%
			differences	(20%)
			between the
			comparable sales
Agricultural:	220	sales comparison	adjustment for	5%-44%
			differences	(24%)
			between the
			comparable sales
Other real estate owned:
Residential	1,180	sales comparison	adjustment for	0%-32%
			differences	(6%)
			between the
			comparable sales
		income approach	capitalization rate	8%-8%
				(8%)
Loan Servicing Rights	344	discounted cash flow	constant prepayment	7%-22%
			rates	(11%)

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December 31, 2013

(In thousands)

				Range
	Fair	Valuation	Unobservable	(Weighted
	Value	Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	1,420	sales comparison	adjustment for	0%-99%
			differences	(14%)
			between the
			comparable sales
Multi-family residential	199	sales comparison	adjustment for	12%-32%
			differences	(22%)
			between the
			comparable sales
Non-farm & non-residential	36	sales comparison	adjustment for	0%-61%
			differences	(31%)
			between the
			comparable sales
Agricultural	275	sales comparison	adjustment for	5%-44%
			differences	(20%)
			between the
			comparable sales
Other real estate owned:
Residential	1,361	sales comparison	adjustment for	0%-33%
			differences	(4%)
			between the
			comparable sales
		income approach	capitalization rate	8%-8%
				(8%)
Loan Servicing Rights	201	discounted cash flow	constant prepayment	7%-23%
			rates	(10%)

Fair Value of Financial Instruments

The carrying amounts and estimated fair values of financial instruments, at June 30, 2014 and December 31, 2013 are as follows:

June 30, 2014:

(in thousands)

	Carrying
	Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	15,039	$	15,039	$	—	$	—	$	15,039
Securities	224,168		294		223,874		—		224,168
Trading Assets	5,242		5,242		—				5,242
Mortgage loans held for sale	495		—		500		—		500
Loans, net	490,520		—		—		490,183		490,183
FHLB Stock	5,981		—		—		—		N/A
Interest receivable	3,254		—		1,216		2,038		3,254
Financial liabilities
Deposits	$	597,409	$	415,247	$	184,104	$	—	$	599,351
Securities sold under agreements to repurchase and other borrowings	11,297		—		11,459		—		11,459
Federal Funds Purchased	4,649		4,649		—		—		4,649
FHLB advances	81,414		—		77,953		—		77,953
Subordinated Debentures	7,217		—		—		7,210		7,210
Interest payable	679		—		670		9		679

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December 31, 2013:

(in thousands)

	Carrying
	Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	23,160	$	23,160	$	—	$	—	$	23,160
Securities	230,396		289		230,107		—		230,396
Mortgage loans held for sale	223		—		229		—		229
Loans, net	463,214		—		—		459,796		459,796
FHLB Stock	6,731		—		—		—		N/A
Interest receivable	3,618		—		1,315		2,303		3,618
Financial liabilities
Deposits	$	617,400	$	428,239	$	191,523	$	—	$	619,762
Securities sold under agreements to repurchase and other borrowings	12,867		—		13,013		—		13,013
FHLB advances	57,847		—		52,220		—		52,220
Subordinated Debentures	7,217		—		—		7,217		7,217
Interest Payable	736				727		9		736

The methods and assumptions, not previously presented, used to estimate fair values are described as follows:

Cash and Cash Equivalents - The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.

FHLB Stock - It is not practical to determine the fair value of FHLB stock due to restrictions placed on its transferability.

Loans - Fair values of loans, excluding loans held for sale, are estimated as follows:  For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification.  Fair values for other 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 resulting in a Level 3 classification.  Impaired loans are valued at the lower of cost or fair value as described previously.  The methods used to estimate the fair value of loans do not necessarily represent an exit price.

The fair value of loans held for sale is estimated based upon binding contracts and quotes from third party investors resulting in a Level 2 classification.

Deposits - The fair values disclosed for demand deposits (e.g., interest and non-interest checking, passbook savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amount) resulting in a Level 1 classification.  The carrying amounts of variable rate, fixed-term money market accounts and certificates of deposit approximate their fair values at the reporting date resulting in a Level 1 classification.  Fair values for fixed rate certificates of deposit are estimated using a discounted cash flows calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

Securities Sold Under Agreements to Repurchase and Other Borrowings - The carrying amounts of borrowings under repurchase agreements approximate their fair values resulting in a Level 2 classification.

The carrying amount of the Company’s variable rate borrowings approximate their fair values resulting in a Level 2 classification.

32

Federal Funds Purchased - The carrying amounts of federal funds purchased approximate fair values and are classified as Level 1.

FHLB Advances and Subordinated Debentures - The fair values of the Company’s FHLB advances are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 2 classification.

The fair values of the Company’s Subordinated Debentures are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.

Accrued Interest Receivable/Payable - The carrying amounts of accrued interest approximate fair value resulting in a Level 2 or Level 3 classification based on the level of the related asset/liability.

Off-balance Sheet Instruments - Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing.  The fair value of off-balance sheet instruments is not material.

9.CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT

Changes in Accumulated Other Comprehensive Income by Component (1)  (unaudited)

(in thousands)

	Unrealized
	Gains and Losses on
	Available for Sale
	Securities
	For the Six Months Ending June 30
	2014			2013
Beginning Balance	$	(5,126	)	$	4,283
Unrealized holding gains (losses) for the period, net of tax	5,267			(5,465		)
Reclassification adjustment for:
Securities gains realized in income, net	(433		)	(774		)
Income taxes	(147		)	(263		)
	(286		)	(511		)
Net current period other comprehensive income	4,981			(5,976		)
Ending balance	$	(145	)	$	(1,693	)

(1)All amounts are net of tax.

33

	Unrealized
	Gains and Losses on
	Available for Sale
	Securities
	For the Three Months Ending June 30
	2014			2013
Beginning Balance	$	(1,875	)	$	3,031
Unrealized holding gains (losses) for the period, net of tax	1,892			(4,404		)
Reclassification adjustment for:
Securities gains realized in income, net	(245		)	(485		)
Income taxes	(83		)	(165		)
	(162		)	(320		)
Net current period other comprehensive income	1,730			(4,724		)
Ending balance	$	(145	)	$	(1,693	)

(2)All amounts are net of tax.

The following is significant amounts reclassified out of each component of accumulated other comprehensive Income (Loss) for the six months ending June 30, 2014 and 2013:

June 30, 2014

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(433	)	Securities gains, net
	147			Provision for income taxes
	(286		)	Net of tax

June 30, 2013

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(774	)	Securities gains, net
	263			Provision for income taxes
	(511		)	Net of tax

34

The following is significant amounts reclassified out of each component of accumulated other comprehensive Income (Loss) for the three months ending June 30, 2014 and 2013:

June 30, 2014

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(245	)	Securities gains, net
	83			Provision for income taxes
	(162		)	Net of tax

June 30, 2013

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(485	)	Securities gains, net
	165			Provision for income taxes
	(320		)	Net of tax

35

Item 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

The following discussion provides information about the financial condition and results of operations of the Company and its subsidiaries as of the dates and periods indicated.  This discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and Notes thereto appearing elsewhere in this report and the Management’s Discussion and Analysis in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

This discussion contains forward-looking statements under the Private Securities Litigation Reform Act of 1995 that involve risks and uncertainties.  We intend such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the federal securities laws. These statements are not historical facts, but rather statements based on our current expectations regarding our business strategies and their intended results and our future performance.  Forward-looking statements are preceded by terms such as “expects,” “believes,” “anticipates,” “intends,” “estimates,” “potential,” “may,” and similar expressions.

Although we believe that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could be inaccurate, and therefore, there can be no assurance that the forward-looking statements included herein will prove to be accurate.  Factors that could cause actual results to differ from the results discussed in the forward-looking statements include, but are not limited to:  economic conditions (both generally and more specifically in the markets, including the tobacco market and the thoroughbred horse industry, in which we and our Bank operate); competition for our subsidiary’s customers from other providers of financial and mortgage services; government legislation, regulation and monetary policy (which changes from time to time and over which we have no control); changes in interest rates (both generally and more specifically mortgage interest rates); material unforeseen changes in the liquidity, results of operations, or financial condition of our subsidiary’s customers; adequacy of the allowance for losses on loans and the level of future provisions for losses on loans; and other risks detailed in our filings with the Securities and Exchange Commission, all of which are difficult to predict and many of which are beyond our control.

As a result of the uncertainties and the assumptions on which this discussion and the forward-looking statements are based, actual future operations and results in the future may differ materially from those indicated herein.

You should not place undue reliance on any forward-looking statements made by us or on our behalf.  Our forward-looking statements are made as of the date of the report, and we undertake no obligation to republish revised forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

36

Summary

The Company recorded net income of $3.7 million, or $1.36 basic earnings and diluted earnings per share for the first six months ending June 30, 2014 compared to $3.5 million or $1.29 basic earnings and diluted earnings per share for the six month period ended June 30, 2013.  The first six months earnings reflect an increase of 5.2% compared to the same time period in 2013.  The increase in earnings is mostly attributed to an increase of $673 thousand in net interest income, a decrease of $400 thousand in the provision for loan losses, a decrease of $209 thousand in income tax expense, an increase of $162 thousand in gains on trading assets, an increase of $113 thousand in brokerage fee income and an increase of $101 thousand in trust department income. These positive changes to net income during 2014 were partially offset by a decrease of $742 thousand in the gains on the sale of mortgage loans, a decrease of $341 thousand in the gains on the sale of securities, an increase of $485 thousand in salaries & benefits expense and an increase of $131 thousand in occupancy expense.  The earnings for the three months ending June 30, 2014 were $1.9 million or $0.70 basic and diluted earnings per share compared to $1.8 million or $0.66 basic and diluted earnings per share for the three month period ending June 30, 2013.  The earnings for the three month period in 2014 reflect a 6.7% increase compared to the same time period in 2013.  During the second quarter of 2013, the Bank opened a new branch in Lexington, KY and during the first quarter of 2014, the Bank opened a new branch in Richmond, KY.  As expected, additional expenses were incurred with the opening of the two new locations which did affect short-term earnings.  However, management believes this expansion will increase long-term earnings and shareholder equity.

Return on average assets was 0.94% for the six months ending June 30, 2014 and 0.98% for the six months ending June 30, 2013.  Return on average assets was 0.97% for the three months ending June 30, 2014 and 1.00% for the three months ending June 30, 2013.  Return on average equity was 10.18% for the six month period ending June 30, 2014 and 9.43% for the three month period ending June 30, 2013.  Return on average equity was 10.33% for the three months ending June 30, 2014 and 9.63% for the same time period in 2013.

In January 2014, the Bank invested $5.0 million in trading securities which are shown as trading assets on the balance sheet. Management made the decision to invest in these assets after much due diligence because it believed the Company could earn a higher return on this investment, compared to other investments, with minimized additional risk due to the short-term attributes of the assets.  The assets are primarily comprised of municipal securities which are held for a very short period of time and generate additional profits primarily by taking gains on short-term differences in price.  At June 30, 2014, trading assets totaled $5.2 million, which represents income on the investment totaling $242 thousand during the first six months of 2014 and $134 thousand for the three months ending June 30, 2014.

Gross Loans increased $27.4 million from $468.7 million on December 31, 2013 to $496.1 million on June 30, 2014.  The overall increase in loans is attributed to an increase of $14.2 million in 1-4 family residential properties, an increase of $5.0 million in non-farm and non-residential properties, an increase of $4.6 million in agricultural loans, an increase of $2.4 million in multi-family residential properties and an increase of $2.2 million in real estate construction loans.  Commercial loan balances decreased $927 thousand and consumer loan balances decreased $118 thousand.

37

Total deposits decreased from $617.4 million on December 31, 2013 to $597.4 million on June 30, 2014, a decrease of $20.0 million.  Non-interest bearing demand deposit accounts increased $5.9 million from December 31, 2013 to June 30, 2014.  Time deposits $100 thousand and over decreased $4.2 million and other interest bearing deposit accounts decreased $21.7 million from December 31, 2013 to June 30, 2014.  Public fund accounts decreased $29.0 million from December 31, 2013 to June 30, 2014.  Public fund accounts typically decrease during the first three quarters of the year and increase during the last quarter of the year due to tax monies collected during the fourth quarter and then withdrawn from the Bank in the following months.

Borrowings from the Federal Home Loan Bank increased $23.6 million from December 31, 2013 to June 30, 2014.

Net Interest Income

Net interest income is the difference between interest income earned on interest-earning assets and the interest expense paid on interest-bearing liabilities.

Net interest income was $12.8 million for the six months ending June 30, 2014 compared to $12.2 million for the six months ending June 30, 2013, an increase of 5.5%.  The interest spread, excluding tax equivalent adjustments was 3.44% for the first six months of 2014 and down from 3.67% reported for the same period in 2013, a decrease of 23 basis points.  Rates have remained fairly low in the past year.  For the first six months ending June 30, 2014, the cost of total deposits was 0.35% compared to 0.39% for the same time period in 2013.  Increasing non-interest bearing deposit accounts and lower rates on certificates of deposit accounts have helped to lower the cost of deposits.  Net interest income was $6.5 million for the three months ending June 30, 2014 compared to $6.0 million for the three months ending June 30, 2013, an increase of 7.6%.  The interest spread, excluding tax equivalent adjustments, was 3.47% for the three month period ending June 30, 2014 compared to 3.67% for the three month period in 2013, a decrease of 20 basis points.

For the first six months, the yield on assets decreased from 4.19% in 2013 to 3.97% in 2014, excluding tax equivalent adjustments.  The yield on loans decreased 42 basis points in the first three months of 2014 compared to 2013 from 5.31% to 4.89%.  The yield on securities increased 10 basis points in the first six months of 2014 compared to 2013 from 2.31% in 2013 to 2.41% in 2014.  The cost of liabilities was 0.53% for the first six months in 2014 compared to 0.52% in 2013.  Year to date average loans, excluding overdrafts, increased $51.9 million, or 12.2% from June 30, 2013 to June 30, 2014.  Loan interest income increased $378 thousand for the first six months of 2014 compared to the first six months of 2013.  Year to date average total deposits increased from June 30, 2013 to June 30, 2014, up $28.5 million or 4.8%.  Year to date average interest bearing deposits increased $16.9 million, or 3.8%, from June 30, 2013 to June 30, 2014.  Deposit interest expense decreased $88 thousand for the first six months of 2014 compared to the same period in 2013.  Year to date average borrowings increased $46.5 million, or 31.8% from June 30, 2013 to June 30, 2014.  Interest expense on borrowed funds increased $310 thousand for the first six months of 2014 compared to the same period in 2013.

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The volume rate analysis for the six months ending June 30, 2014 indicates that $2.4 million of the increase in interest income is attributable to an increase in loan volume and $356 thousand of the increase in interest income is attributable to an increase in the volume of our security portfolio.  Further, a decrease in loan rates caused a decrease of $2.0 million to interest income while an increase in rates in our security portfolio contributed an increase of $177 thousand to interest income.  The net effect to interest income was an increase of $895 thousand for the first six months of 2014 compared to the same time period in 2013.  The average rate of the Company’s total outstanding deposits and borrowings decreased from 0.68% in 2013 to 0.53% in 2014.  Based on the following volume rate analysis, the lower level of interest rates contributed to a decrease of $596 thousand in interest expense, while the change in volume was responsible for a $818 thousand increase in interest expense.  As a result, the increase in net interest income for the first six months in 2014 is mostly attributed to growth in the Company’s loan and security portfolios.

The accompanying analysis of changes in net interest income in the following table shows the relationships of the volume and rate portions of these changes in 2014.  Changes in interest income and expenses due to both rate and volume are allocated on a pro rata basis.

Changes in Interest Income and Expense

(in thousands)

	Six Months Ending
	2014 vs. 2013
	Increase (Decrease) Due to Change in
	Volume			Rate			Net Change
INTEREST INCOME
Loans	$	2,382		$	(2,004	)	$	378
Investment Securities	356			177			533
Other	(14		)	(2		)	(16		)
Total Interest Income	2,724			(1,829		)	895
INTEREST EXPENSE
Deposits
Demand	26			(57		)	(31		)
Savings	29			(23		)	6
Negotiable Certificates of
Deposit and Other
Time Deposits	(13		)	(50		)	(63		)
Securities sold under agreements to repurchase and other borrowings	48			(31		)	17
Federal Home Loan
Bank advances	728			(435		)	293
Total Interest Expense	818			(596		)	222
Net Interest Income	$	1,906		$	(1,233	)	$	673

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Non-Interest Income

Non-interest income decreased $493 thousand for the six months ending June 30, 2014, compared to the same period in 2013, to $4.9 million.  .  For the three month period ending June 30, 2014 compared to the three months ending June 30, 2013, total non-interest income decreased $159 thousand.

The decrease for the six month period ending June 30, 2014 was primarily due to a decrease of $742 thousand in gains on the sale of mortgage loans and a decrease of $341 thousand in gains on the sale of securities.  Favorable variances to non-interest income included an increase of $162 thousand in gains on trading assets, an increase of $113 thousand in brokerage fee income and an increase of $101 thousand in fee income generated by the trust department.

The gain on the sale of mortgage loans decreased from $1.1 million in the first six months of 2013 to $400 thousand during the first six months of 2014, a decrease of $742 thousand.  For the three months ending June 30, 2014 compared to the same time period in 2013, the gain on the sale of mortgage loans decreased $273 thousand.  The volume of loans originated to sell during the first six months of 2014 decreased $20.6 million compared to the same time period in 2013.  For the three months ending June 30, 2014, the volume of loans originated for sale decreased $10.2 million compared to the same three months in 2013.  The volume of mortgage loan originations and sales is generally inverse to rate changes.  A change in the mortgage loan rate environment can have a significant impact on the related gain on sale of mortgage loans.  Loan service fee income, net of amortization expense, was $34 thousand for the six months ending June 30, 2014 compared to $(36) thousand for the six months ending June 30, 2013, an increase of $70 thousand.  For the three month period ending June 30, 2014, loan service fee income, net of amortization and impairment expense, was $5 thousand compared to $16 thousand for the same time period one year ago.  During the first six months of 2014, the adjustment to the carrying value of the mortgage servicing right was a negative net amount of $12 thousand, as the fair value of this asset decreased.  Of this, a positive valuation adjustment of $5 thousand was recorded in the first quarter of 2014 and a negative valuation adjustment of $17 thousand was recorded during the second quarter of 2014.  During the first six months of 2013, the carrying value of the mortgage servicing right was written down a net amount of $65 thousand, as the fair value of this asset decreased.  Of this, a negative valuation adjustment of $73 thousand was recorded in the first quarter of 2013 and a positive valuation adjustment of $8 thousand was recorded during the second quarter of 2013.

Non-Interest Expense

Total non-interest expenses increased $608 thousand for the six month period ending June 30, 2014 compared to the same period in 2013.  For the three month period ending June 30, 2014 compared to the three months ending June 30, 2013, total non-interest expense increased $330 thousand

For the comparable six month periods, salaries and benefits increased $485 thousand, an increase of 7.2%.  The increase is attributed to additional personnel hired during 2013 for expanding into two new markets and normal pay increases at the beginning of 2014.  The number of full time equivalent employees at June 30, 2014 was 219 compared to 215 one year ago.  Salaries and employee benefits increased $173 thousand, or 5.0%, for the three month period ending June 30, 2014 compared to the same time period in 2013.

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Occupancy expenses increased $131 thousand to $1.7 million for the first six months of 2014 compared to the same time period in 2013.  Rent expense increased $58 thousand due to entering two new markets within the past year and leasing branch facilities in both markets.  Depreciation expense increased $60 thousand during the first six months ending June 30, 2014 compared to the same time period one year ago.  In addition, computer maintenance expense increased $72 thousand.  Occupancy expenses increased $1 thousand for the three month period ending June 30, 2014 compared to the same time period in 2013.

Legal and professional fees increased $68 thousand for the first six months ending June 30, 2014 compared to the same time period in 2013.  Legal and professional fees increased $85 thousand for the three month period ending June 30, 2014 compared to the same time period in 2013.  Repossession expenses decreased $12 thousand for the first six months ending June 30, 2014 compared to the same time period in 2013 and increased $57 thousand for the three months ending June 30, 2014 compared to the same three months one year ago.  Repossession expenses are reported net of rental income earned on repossessed properties.  Repossession expenses were lower in the first six months of 2014 when compared to the same time period in 2013 due to the Company selling many of the properties included in other real estate owned.  FDIC insurance expense increased $7 thousand for the six months ending June 30, 2014 compared to the same time period in 2013 and $10 thousand for the three months ending June 30, 2014 compared to the three months ending June 30, 2013.

Income Taxes

The effective tax rate for the six months ending June 30, 2014 was 15.2% compared to 19.9% in 2013.  The effective tax rate for the three months ending June 30, 2014 was 16.2% compared to 20.8% for the three months ending June 30, 2013.  These effective tax rates are less than the statutory rate as a result of the Company investing in tax-free securities, loans and other investments which generate tax credits for the Company.  Tax-exempt interest income increased $40 thousand for the first six months of 2014 compared to the first six months of 2013.  Also, for the first six months of 2014, the Company had tax credits totaling $488 thousand for investments made in low income housing projects which represented an increase of $67 thousand compared to similar tax credits for the first six months of 2013.

As part of normal business, the Bank typically makes tax free loans to select municipalities in our market and invests in selected tax free securities, primarily in the Commonwealth of Kentucky.  In making these investments, the Company considers the overall impact to managing our net interest margin, credit worthiness of the underlying issuer and the favorable impact on our tax position.  For the six months ending June 30, 2014, the Company averaged $87.5 million in tax free securities and $17.0 million in tax free loans.  As of June 30, 2014, the weighted average remaining maturity for the tax free securities is 132 months, while the weighted average remaining maturity for the tax free loans is 169 months.

Liquidity and Funding

Liquidity is the ability to meet current and future financial obligations.  The Company’s primary sources of funds consist of deposit inflows, loan repayments, maturities and sales of investment securities and Federal Home Loan Bank borrowings.

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Liquidity risk is the possibility that we may not be able to meet our cash requirements in an orderly manner.  Management of liquidity risk includes maintenance of adequate cash and sources of cash to fund operations and to meet the needs of borrowers, depositors and creditors.  Excess liquidity has a negative impact on earnings as a result of the lower yields on short-term assets.

Cash and cash equivalents were $15.0 million as of June 30, 2014 compared to $23.2 million at December 31, 2013.  The decrease in cash and cash equivalents is attributed to a decrease of $7.7 million in cash and due from banks.  In addition to cash and cash equivalents, the securities portfolio provides an important source of liquidity.  Securities available for sale totaled $224.2 million at June 30, 2014 compared to $230.4 million at December 31, 2013.  Securities classified as trading assets totaled $5.2 million at June 30, 2014 and $0 at December 31, 2013.

The securities available for sale and those which are considered to be trading assets are available to meet liquidity needs on a continuing basis.  However, we expect our customers’ deposits to be adequate to meet our funding demands.

Generally, we rely upon net cash inflows from financing activities, supplemented by net cash inflows from operating activities, to provide cash used in our investing activities.  As is typical of many financial institutions, significant financing activities include deposit gathering and the use of short-term borrowings, such as federal funds purchased and securities sold under repurchase agreements along with long-term debt.  Our primary investing activities include purchasing investment securities and loan originations.

For the first six months of 2014, deposits decreased $20.0 million. The Company’s investment portfolio decreased $1.0 million and the Company’s loan portfolio increased $27.4 million.  The borrowed funds the Company have with the Federal Home Loan Bank increased $23.6 million from December 31, 2013 to June 30, 2014.  The Company had outstanding federal funds purchased totaling $4.6 million at June 30, 2014 and $0 at December 31, 2013.

Management is aware of the challenge of funding sustained loan growth.  Therefore, in addition to deposits, other sources of funds, such as Federal Home Loan Bank advances, may be used.  We rely on Federal Home Loan Bank advances for both liquidity and asset/liability management purposes.  These advances are used primarily to fund long-term fixed rate residential mortgage loans.  As of June 30, 2014, we have sufficient collateral to borrow an additional $66 million from the Federal Home Loan Bank.  In addition, as of June 30, 2014, $26 million is available in overnight borrowing through various correspondent banks and the Company has access to $258 million in brokered deposits.  In light of this, management believes there is sufficient liquidity to meet all reasonable borrower, depositor and creditor needs in the present economic environment.

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Capital Requirements

The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies.  Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements.

Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of the Company’s and the Bank’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices.  The Company and Bank capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weightings, and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the following table) of Total and Tier I capital (as defined in the applicable banking regulations) to risk-weighted assets (as defined), and of Tier I capital to average assets (as defined).  Management believes, as of June 30, 2014 and December 31, 2013, that the Company and the Bank meet all capital adequacy requirements to which they are subject.

The most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action.  To be categorized as well capitalized, the Bank must maintain minimum Total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the following table.  There are no conditions or events since that notification that management believes have changed the institution’s category. In July 2013, the FDIC and the other federal bank regulatory agencies issued a final rule that will revise their leverage and risk-based capital requirements and the method of calculating risk-weighted assets to make them consistent with agreements that were reached by the Basel Committee on Banking Supervision and certain provisions of the Dodd-Frank Act. Among other things, the rule establishes a new common equity Tier 1 minimum capital requirement (4.5% of risk-weighted assets), increases the minimum Tier 1 capital to risk-based assets requirement (from 4% to 6% of risk-weighted assets) and assigns a higher risk weight (150%) to exposures that are more than 90 days past due or are on nonaccrual status and to certain commercial real estate facilities that finance the acquisition, development or construction of real property. The final rule also requires unrealized gains and losses on certain “available-for-sale” securities holdings to be included for purposes of calculating regulatory capital requirement unless a one-time opt-in or opt-out is exercised. The rule limits a banking organization’s capital distributions and certain discretionary bonus payments if the banking organization does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets in addition to the amount necessary to meet its minimum risk-based capital requirements. The final rule becomes effective for the Bank on January 1, 2015.  In accordance with the final rule, the capital conservation buffer requirement will be phased in beginning January 1, 2016 and ending January 1, 2019, when the full capital conservation buffer requirement will be effective.

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The Company’s and the Bank’s actual amounts and ratios are presented in the table below:

									To Be Well
									Capitalized
									Under Prompt
					For Capital				Corrective
	Actual				Adequacy Purposes				Action Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
	(Dollars in Thousands)
June 30, 2014
Consolidated
Total Capital (to Risk-Weighted Assets)	$	74,499	14.1	%	$	42,323	8	%	$	N/A	N/A
Tier I Capital (to Risk-Weighted Assets)	68,799		13.0		21,162		4		N/A		N/A
Tier I Capital (to Average Assets)	68,799		8.9		31,018		4		N/A		N/A
Bank Only
Total Capital (to Risk-Weighted Assets)	$	72,978	13.8	%	$	42,314	8	%	$	52,892	10	%
Tier I Capital (to Risk-Weighted Assets)	67,278		12.7		21,157		4		31,735		6
Tier I Capital (to Average Assets)	67,278		8.7		31,008		4		38,760		5
December 31, 2013
Consolidated
Total Capital (to Risk-Weighted Assets)	$	71,993	14.1	%	$	40,872	8	%	N/A		N/A
Tier I Capital (to Risk-Weighted Assets)	66,468		13.0		20,436		4		N/A		N/A
Tier I Capital (to Average Assets)	66,468		8.8		30,079		4		N/A		N/A
Bank Only
Total Capital (to Risk-Weighted Assets)	$	70,827	13.9	%	$	40,859	8	%	$	51,073	10	%
Tier I Capital (to Risk-Weighted Assets)	65,302		12.8		20,429		4		30,644		6
Tier I Capital (to Average Assets)	65,302		8.7		30,070		4		37,588		5

Non-Performing Assets

As of June 30, 2014, our non-performing assets totaled $13.4 million or 1.71% of assets compared to $13.8 million or 1.79% of assets at December 31, 2013 (See table below.)  The Company experienced an increase of $964 thousand in non-accrual loans from December 31, 2013 to June 30, 2014.  As of June 30, 2014, non-accrual loans include $2.4 million in loans secured by 1-4 family properties, $988 thousand in loans secured by non-farm and non-residential properties, $299 thousand in commercial loans, $85 thousand in loans secured by multi-family residential properties and $216 thousand in loans secured by agricultural properties.  Real estate loans composed 92.4% of the non-performing loans as of June 30, 2014 and 99.8% as of December 31, 2013.  Forgone interest income on non-accrual loans totaled $116 thousand for the first six months of 2014 compared to forgone interest of $214 thousand for the same time period in 2013.  Accruing loans that are contractually 90 days or more past due as of June 30, 2014 totaled $266 thousand compared to $554 thousand at December 31, 2013, a decrease of $288 thousand.  The total nonperforming and restructured loans increased $645 thousand from December 31, 2013 to June 30, 2014, resulting in an increase in the ratio of nonperforming and restructured loans to loans of 1 basis point to 2.23%.  In addition, the amount the Company has recorded as other real estate owned decreased $1.1 million from December 31, 2013 to June 30, 2014.  As of June 30, 2014, the amount recorded as other real estate owned totaled $2.3 million compared to $3.4 million at December 31, 2013.  During the first six months of 2014, $419 thousand was added to other real estate properties while $1.5 million in other real estate properties were sold.  The allowance as a percentage of non-performing and restructured loans and other real estate owned increased from 39% at December 31, 2013 to 42% at June 30, 2014.

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Nonperforming and Restructured Assets

	6/30/14			12/31/13
	(in thousands)
Non-accrual Loans	$	3,938		$	2,974
Accruing Loans which are Contractually past due 90 days or more	266			554
Accruing Troubled Debt Restructurings	6,870			6,901
Total Nonperforming and Restructured Loans	11,074			10,429
Other Real Estate	2,306			3,379
Total Nonperforming and Restructured Loans and Other Real Estate	$	13,380		$	13,808
Nonperforming and Restructured Loans as a Percentage of Loans	2. 23		%	2.22		%
Nonperforming and Restructured Loans and Other Real Estate as a Percentage of Total Assets	1.71		%	1.79		%
Allowance as a Percentage of Period-end Loans	1.13		%	1.16		%
Allowance as a Percentage of Non-performing and Restructured Loans and Other Real Estate	42		%	39		%

We maintain a “watch list” of agricultural, commercial, real estate mortgage, and real estate construction loans and review those loans on a regular basis.  Generally, assets are designated as “watch list” loans to ensure more frequent monitoring.  If we determine that there is serious doubt as to performance in accordance with original terms of the contract, then the loan is generally downgraded and often placed on non-accrual status.  We review and evaluate nonaccrual loans, past due loans, and loans graded substandard or worse on a regular basis to determine if the loan should be evaluated for impairment and whether specific allocations are needed.

Provision for Loan Losses

The loan loss provision for the first six months of 2014 was $200 thousand compared to $600 thousand for the first six months of 2013.  The loan loss provision was $100 thousand for the three months ending June 30, 2014 compared to $150 thousand for the three months ending June 30, 2013.  The decrease in the total loan loss provision during the first six months of 2014 compared to the same time period in 2013 is attributed to improved quality of the Bank’s loan portfolio and having a significant recovery of $367 thousand during the first quarter of 2014 for a loan that was charged off in a prior year.

Management evaluates the loan portfolio by reviewing the historical loss rate for each respective loan type and assigns risk multiples to certain categories to account for qualitative factors including current economic conditions.  The average loss rates are reviewed for trends in the analysis, as well as comparisons to peer group loss rates.  Management makes allocations within the allowance for loan losses for specifically classified loans regardless of loan amount, collateral or loan type.  Loan categories are evaluated utilizing subjective factors in addition to the historical loss calculations to determine a loss allocation for each of those types.  As this analysis, or any similar analysis, is an imprecise measure of loss, the allowance is subject to ongoing adjustments.  Therefore, management will often take into account other significant factors that may be necessary or prudent in order to reflect probable incurred losses in the total loan portfolio.

45

Nonperforming loans and restructured loans increased $645 thousand since December 31, 2013 to $11.1 million as of June 30, 2014.  Other real estate properties owned decreased $1.1 million over this same time period.  Additions to Other real estate properties totaled $419 thousand while sales totaled $1.5 million.

The June 30, 2014 unallocated allowance of $517 was comparable to the December 31, 2013 balance of $516 thousand.

Net charge-offs were $27 thousand for the six months ending June 30, 2014 and $1.1 million for the six months ending June 30, 2013.  Net charge-offs were $102 thousand for the three months ending June 30, 2014 and $275 thousand for the three months ending June 30, 2013.  During the first quarter of 2014, the Company recorded a recovery of $367 for one loan which was previously charged-off.  Future levels of charge-offs will be determined by the particular facts and circumstances surrounding individual loans.  Further, the growth the Company has experienced in our loan portfolio, particularly in 1-4 family residential loans, is attributed to passing grade loans which do not require additional reserves as of June 30, 2014.  Based on the above information, management believes the current loan loss allowance is sufficient to meet probable incurred loan losses.

	Six Months Ended June 30
	(in thousands)
Loan Losses	2014			2013
Balance at Beginning of Period	$	5,441		$	6,047
Amounts Charged-off:
Commercial	200			11
Real Estate Construction	—			578
1-4 family residential	88			141
Multi-family residential	—			161
Non-farm & non-residential	—			—
Agricultural	—			86
Consumer and other	355			561
Total Charged-off Loans	643			1,538
Recoveries on Amounts Previously Charged-off:
Commercial	—			28
Real Estate Construction	8			21
1-4 family residential	16			56
Multi-family residential	—			39
Non-farm & non-residential	367			18
Agricultural	25			3
Consumer and other	200			224
Total Recoveries	616			389
Net Charge-offs	27			1,149
Provision for Loan Losses	200			600
Balance at End of Period	5,614			5,498
Loans
Average	480,557			429,164
At June 30	496,134			452,245
As a Percentage of Average Loans:
Net Charge-offs for the period	0.01		%	0.27		%
Provision for Loan Losses for the period	0.04		%	0.14		%
Allowance as a Multiple of Net Charge-offs annualized	104.0			2.4

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	Three Months Ended June 30
	(in thousands)
Loan Losses	2014			2013
Balance at Beginning of Period	$	5,616		$	5,623
Amounts Charged-off:
Commercial	—			5
Real Estate Construction	—			—
1-4 family residential	25			16
Multi-family residential	—			161
Non-farm & non-residential	—			—
Agricultural	—			—
Consumer and other	181			276
Total Charged-off Loans	206			458
Recoveries on Amounts Previously Charged-off:
Commercial	—			—
Real Estate Construction	4			16
1-4 family residential	4			30
Multi-family residential	—			39
Non-farm & non-residential	—			10
Agricultural	1			1
Consumer and other	95			87
Total Recoveries	104			183
Net Charge-offs	102			275
Provision for Loan Losses	100			150
Balance at End of Period	5,614			5,498
Loans
Average	486,609			431,995
At June 30	496,134			452,245
As a Percentage of Average Loans:
Net Charge-offs for the period	0.02		%	0.06		%
Provision for Loan Losses for the period	0.02		%	0.03		%
Allowance as a Multiple of Net Charge-offs annualized	13.8			5.0

Item 3 — QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Asset/Liability management control is designed to ensure safety and  soundness, maintain liquidity and regulatory capital standards, and achieve acceptable net interest income.  Management considers interest rate risk to be the most significant market risk since a bank’s net income is largely dependent on net interest income.  Our exposure to market risk is reviewed on a regular basis by the Asset/Liability Committee.  Interest rate risk is the potential of economic losses due to future interest rate changes.  These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values.  The objective is to measure the effect on net interest income and to adjust the balance sheet to minimize the inherent risk, while at the same time, maximize income.

Management realizes certain risks are inherent and that the goal is to identify and minimize the risks.  The primary tools used by management are interest rate shock and economic value of equity (EVE) simulations.  The Company has $5.1 million in market risk sensitive instruments which are held for trading purposes.  These assets are held for a very short period of time and are used to generate profits on short-term differences in price.  Using interest rate shock simulations, the following table depicts the change in net interest income resulting from 100 and 300 basis point changes in rates on the Company’s interest earning assets and interest bearing liabilities.

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The projections are based on balance sheet growth assumptions and repricing opportunities for new, maturing and adjustable rate amounts.  As of June 30, 2014, the projected percentage changes are within limits approved by our Board of Directors (“Board”).  Although management does analyze and monitor the projected percentage change in a declining interest rate environment, due to the current rate environment many of the current deposit rates cannot decline an additional 100 basis points.  Therefore, management places more emphasis in the rising rate environment scenarios.  Similar to prior periods, this period’s volatility is slightly lower in each rate shock simulation when compared to the same period a year ago.  The projected net interest income report summarizing our interest rate sensitivity as of June 30, 2014 is as follows:

PROJECTED NET INTEREST INCOME

(dollars in thousands)

	Level
Change in basis points:	- 100			Rates		+ 100			+ 300
Year One (7/14 - 6/15)
Net interest income	$	25,144		$	25,898	$	26,096		$	26,137
Net interest income dollar change	(754		)	N/A		198			239
Net interest income percentage change	-2.9		%	N/A		0.8		%	0.9		%
Board approved limit	>-4.0		%	N/A		>-4.0		%	>-10.0		%

The projected net interest income report summarizing the Company’s interest rate sensitivity as of June 30, 2013 is as follows:

PROJECTED NET INTEREST INCOME

(dollars in thousands)

	Level
Change in basis points:	- 100			Rates		+ 100			+ 300
Year One (7/13 - 6/14)
Net interest income	$	23,528		$	24,507	$	24,899		$	24,989
Net interest income dollar change	(979		)	N/A		392			483
Net interest income percentage change	-3.9		%	N/A		1.6		%	2.0		%
Board approved limit	>-4.0		%	N/A		>-4.0		%	>-10.0		%

Projections from June 30, 2014, year one reflected a decline in net interest income of 2.9% with a 100 basis point decline compared to the 3.9% decline in 2013.  The 100 basis point increase in rates reflected a 0.8% increase in net interest income in 2014 compared to an increase of 1.6% in 2013.

EVE applies discounting techniques to future cash flows to determine the present value of assets, liabilities, and therefore equity.  Based upon applying these techniques to the June 30, 2014 balance sheet, a 100 basis point increase in rates results in a 11.9% decrease in EVE.  A 100 basis point decrease in rates results in a 0.3% decrease in EVE.  These are within the Board approved limits.

48

Item 4 — CONTROLS AND PROCEDURES

As of the end of the period covered by this report and pursuant to Rule 13a-15(b) of the Securities Exchange Act of 1934 (“Exchange Act”), our management, including the Chief Executive Officer and the Chief Financial Officer, carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as that term is defined in Rule 13a-15(e) of the Exchange Act).  Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective, in all material respects, to ensure that information required to be disclosed in the reports the Company files and submits under the Exchange Act is recorded, processed, summarized and reported as and when required.

We also conducted an evaluation of internal control over financial reporting to determine whether any changes occurred during the quarter covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Based on this evaluation, there has been no such change during the quarter covered by this report.

Our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.

Part II - Other Information

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

ISSUER PURCHASES OF EQUITY SECURITIES

Period	(a)  Total  Number of  Shares (or  Units)  Purchased	(b)  Average Price Paid  Per Share  (or Unit)		(c) Total Number  of Shares (or Units) Purchased as Part  of Publicly  Announced Plans Or Programs	(d) Maximum Number (or Approximate Dollar  Value) of Shares (or  Units) that May Yet Be  Purchased Under the  Plans or Programs
4/1/14 – 4/30/14	—	$	—	—	83,929 shares
5/1/14 – 5/31/14	—	—		—	83,929 shares
6/1/14 – 6/30/14	—	—		—	83,929 shares
Total	—	$	—	—	83,929 shares

On October 25, 2000, we announced that our Board approved a stock repurchase program and authorized the Company to purchase up to 100,000 shares of its outstanding common stock.  On November 11, 2002, the Board approved and authorized the Company’s repurchase of an additional 100,000 shares.  On May 20, 2008, the Board of Directors approved and authorized the Company to purchase an additional 100,000 shares.  On May 17, 2011, the Board approved and authorized the Company’s repurchase of an additional 100,000 shares.  Shares will be purchased from time to time in the open market depending on market prices and other considerations.  Through June 30, 2014, 316,071 shares have been purchased.

49

Item 6.	Exhibits
	2.1	Agreement and Plan of Merger with Peoples Bancorp of Sandy Hook is incorporated by reference to Exhibit 2.1 of the Registrant’s Current Report of Form 8-K dated and filed February 24, 2006.
	3.1	Amended and Restated Articles of Incorporation of the Registrant are incorporated by reference to Exhibit 3.1 of the Registrant’s Quarterly Report on Form 10-Q for the quarterly period ending March 31, 2000 and filed May 15, 2000.
	3.2	Bylaws of the Registrant are incorporated by reference to Exhibit 3.1 of the Registrant’s Quarterly Report of Form 10-Q for the quarterly period ending June 30, 2000 and filed August 14, 2000.
	3.3	Articles of Amendment to Amended and Restated Articles of Incorporation of the Registrant are incorporated by reference to Exhibit 3.3 of the Registrant’s Annual Report of Form 10-K for the period ending December 31, 2005 and filed March 29, 2006.
	31.1	Certifications of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
	31.2	Certifications of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
	32	Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
	101*	The following financial information from Kentucky Bancshares, Inc. Quarterly Report on Form 10-Q for the period ended June 30, 2014, filed with the SEC on August 13, 2014, formatted in Extensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets at June 30, 2014 and December 31, 2013, (ii) Consolidated Statements of Income and Comprehensive Income (Loss) for the six and three months ended June 30, 2014 and June 30, 2013, (iii) Consolidated Statement of Stockholders’ Equity for the six months ended June 30, 2014, (iv) Consolidated Statements of Cash Flows for the six months ended June 30, 2014 and June 30, 2013 and (v) Notes to Consolidated Financial Statements.

*Pursuant to Rule 406T of Regulation S-T, the XBRL related information in Exhibit 101 to this Quarterly Report on Form 10-Q shall not be deemed to be “filed” for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Exchange Act of 1934, or otherwise subject to the liability of those sections, and shall not be deemed part of a registration statement, prospectus or other document filed under the Securities Act of 1933 or the Exchange Act of 1934, except as shall be expressly set forth by specific reference in such filings.

50

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.

		KENTUCKY BANCSHARES, INC.
Date	8/13/14	/s/Louis Prichard
		Louis Prichard, President and C.E.O.
Date	8/13/14	/s/Gregory J. Dawson
		Gregory J. Dawson, Chief Financial Officer

51

EX-31.1

Exhibit 31.1

CERTIFICATIONS OF CHIEF EXECUTIVE OFFICER

PURSUANT TO SECTION 302 OF SARBANES-OXLEY ACT

I, Louis Prichard, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Kentucky Bancshares, Inc.;

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

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

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

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

b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

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

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

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

Date:	August 13, 2014
BY	/s/ Louis Prichard
Louis Prichard
President & Chief Executive Officer

EX-31.2

Exhibit 31.2

CERTIFICATIONS OF CHIEF FINANCIAL OFFICER

PURSUANT TO SECTION 302 OF SARBANES-OXLEY ACT

I, Gregory J. Dawson, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Kentucky Bancshares, Inc.;

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

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

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

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

b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

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

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

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

Date:   August 13, 2014

BY	/s/ Gregory J. Dawson
Gregory J. Dawson
Chief Financial Officer

EX-32

Exhibit 32

CERTIFICATIONS OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER

PURSUANT TO 18 U.S.C. SECTION 1350

(AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002)

In connection with the Quarterly Report of Kentucky Bancshares, Inc. (the “Company”) on Form 10-Q for the period ended June 30, 2014, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), the undersigned, the Chief Executive Officer and Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, that:

(1)     The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)     The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Date:	August 13, 2014	By	/s/ Louis Prichard
			Louis Prichard
			President & Chief Executive Officer
Date:	August 13, 2014	By	/s/ Gregory J. Dawson
			Gregory J. Dawson
			Chief Financial Officer

XML

EARNINGS PER SHARE (Details 2) (Stock options)	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
Stock options
Antidilutive securities
Antidilutive shares excluded from computation of diluted earnings per share	12,725	19,500	12,725	19,500

XML

FAIR VALUE MEASUREMENTS (Details 4) (USD $) In Thousands, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Financial Assets
Securities	$ 224,168	$ 230,396
Trading Assets	5,242
Mortgage loans held for sale	495	223
Interest receivable	3,254	3,618
Financial liabilities
Interest payable	679	736
Quoted Prices In Active Markets for Identical Assets (Level 1)
Financial Assets
Cash and cash equivalents	15,039	23,160
Securities	294	289
Trading Assets	5,242
Financial liabilities
Deposits	415,247	428,239
Federal Funds Purchased	4,649
Significant Other Observable Inputs (Level 2)
Financial Assets
Securities	223,874	230,107
Mortgage loans held for sale	500	229
Interest receivable	1,216	1,315
Financial liabilities
Deposits	184,104	191,523
Securities sold under agreements to repurchase and other borrowings	11,459	13,013
FHLB advances	77,953	52,220
Interest payable	670	727
Significant Unobservable Inputs (Level 3)
Financial Assets
Loans, net	490,183	459,796
Interest receivable	2,038	2,303
Financial liabilities
Subordinated debentures	7,210	7,217
Interest payable	9	9
Carrying Value
Financial Assets
Cash and cash equivalents	15,039	23,160
Securities	224,168	230,396
Trading Assets	5,242
Mortgage loans held for sale	495	223
Loans, net	490,520	463,214
FHLB stock	5,981	6,731
Interest receivable	3,254	3,618
Financial liabilities
Deposits	597,409	617,400
Securities sold under agreements to repurchase and other borrowings	11,297	12,867
Federal Funds Purchased	4,649
FHLB advances	81,414	57,847
Subordinated debentures	7,217	7,217
Interest payable	679	736
Fair Value
Financial Assets
Cash and cash equivalents	15,039	23,160
Securities	224,168	230,396
Trading Assets	5,242
Mortgage loans held for sale	500	229
Loans, net	490,183	459,796
Interest receivable	3,254	3,618
Financial liabilities
Deposits	599,351	619,762
Securities sold under agreements to repurchase and other borrowings	11,459	13,013
Federal Funds Purchased	4,649
FHLB advances	77,953	52,220
Subordinated debentures	7,210	7,217
Interest payable	$ 679	$ 736

XML

LOANS (Details 5) (USD $) In Thousands, unless otherwise specified	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013	Dec. 31, 2013
Loans
Nonaccrual	$ 3,938		$ 3,938		$ 2,974
Loans Past Due Over 90 Days Still Accruing	266		266		554
Accruing Troubled Debt Restructurings	6,870		6,870		6,901
Percentage of nonaccrual loans secured by real estate	92.40%		92.40%
Minimum period for which principal or interest is in default for loans to be considered as nonaccrual			90 days
Maximum period past due for loans to be considered as impaired			90 days
Impaired loans transferred to other real estate owned			419	248
Amount recorded in charge offs which contributed to a reduction in nonaccrual loan balances	206	458	643	1,538
Commercial
Loans
Nonaccrual	299		299
Amount recorded in charge offs which contributed to a reduction in nonaccrual loan balances		5	200	11
Real estate construction
Loans
Amount recorded in charge offs which contributed to a reduction in nonaccrual loan balances				578
Prior loan charge offs recovered			616
1-4 family residential
Loans
Nonaccrual	2,350		2,350		1,171
Loans Past Due Over 90 Days Still Accruing	266		266		314
Accruing Troubled Debt Restructurings	487		487		493
Amount recorded in charge offs which contributed to a reduction in nonaccrual loan balances	25	16	88	141
Multi-family residential
Loans
Nonaccrual	85		85		275
Amount recorded in charge offs which contributed to a reduction in nonaccrual loan balances		161		161
Non-farm & non-residential
Loans
Nonaccrual	988		988		803
Accruing Troubled Debt Restructurings	1,853		1,853		1,878
Agricultural
Loans
Nonaccrual	216		216		717
Loans Past Due Over 90 Days Still Accruing					232
Accruing Troubled Debt Restructurings	4,530		4,530		4,530
Amount recorded in charge offs which contributed to a reduction in nonaccrual loan balances				86
Consumer
Loans
Nonaccrual					8
Loans Past Due Over 90 Days Still Accruing					8
Amount recorded in charge offs which contributed to a reduction in nonaccrual loan balances	$ 76	$ 104	$ 153	$ 252

XML

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Details) (Termination of defined benefit plan, USD $) In Millions, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Termination of defined benefit plan
Loss Contingencies
Accrued contingent liability	$ 1.6	$ 1.6

XML

CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT (Details 2) (USD $) In Thousands, unless otherwise specified	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
Reclassifications out of AOCI by component
Securities gains, net	$ (245)	$ (485)	$ (433)	$ (774)
Provision for income taxes	368	468	661	870
Net of tax	(1,904)	(1,785)	(3,675)	(3,494)
Unrealized Gains and Losses on Available for Sale Securities | Amount Reclassified From Accumulated Other Comprehensive Income
Reclassifications out of AOCI by component
Securities gains, net	(245)	(485)	(433)	(774)
Provision for income taxes	83	165	147	263
Net of tax	$ (162)	$ (320)	$ (286)	$ (511)

XML

STOCK COMPENSATION (Details 3) (Stock Option Plans, USD $)	6 Months Ended
	Jun. 30, 2014
Stock Option Plans
Shares
Outstanding, beginning of year (in shares)	19,100
Forfeited or expired (in shares)	(6,375)
Outstanding, end of period (in shares)	12,725
Vested and expected to vest (in shares)	12,725
Exercisable, end of period (in shares)	12,725
Weighted Average Exercise Price
Outstanding, beginning of year (in dollars per share)	$ 31.50
Forfeited or expired (in dollars per share)	$ 33.56
Outstanding, end of period (in dollars per share)	$ 30.46
Vested and expected to vest (in dollars per share)	$ 30.46
Exercisable, end of period (in dollars per share)	$ 30.46
Weighted Average Remaining Contractual Term
Outstanding, end of period	10 years 10 months 24 days
Vested and expected to vest	10 years 10 months 24 days
Exercisable, end of period	10 years 10 months 24 days
Additional disclosures
Unrecognized compensation cost related to nonvested stock options granted	$ 0
Additional options to be granted under the plans (in shares)	0

XML

REAL ESTATE OWNED (Details) (USD $) In Thousands, unless otherwise specified	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
Activity in real estate owned
Beginning of year			$ 3,379	$ 4,168
Additions			419	335
Sales			(1,540)	(924)
(Additions) subtractions to valuation allowance, net			(10)	10
Recovery from sale in valuation allowance			58	199
End of period	2,306	3,788	2,306	3,788
Activity in the valuation allowance
Beginning of year			1,524	1,668
Additions (subtractions) to valuation allowance, net			10	(10)
Recovery from sale			(58)	(199)
End of period	1,476	1,459	1,476	1,459
Expenses related to foreclosed assets
Net loss (gain) on sales			(70)	(30)
Additions (subtractions) to valuation allowance, net			10	(10)
Operating expenses (receipts), net of rental income			13	45
Repossession expenses, net	25	(32)	23	35
End of period			$ (47)	$ 5

XML

FAIR VALUE MEASUREMENTS (Details 3) (USD $) In Thousands, unless otherwise specified	6 Months Ended	12 Months Ended
	Jun. 30, 2014	Dec. 31, 2013
Fair Value Measurements
Loan servicing rights	$ 1,245	$ 1,344
Non-recurring
Fair Value Measurements
Impaired loans, at fair value	2,900
Other real estate owned	1,200
Loan servicing rights	344	201
Non-recurring | Level 3
Fair Value Measurements
Loan servicing rights	344	201
Non-recurring | Discounted cash flow | Level 3
Fair Value Measurements
Loan servicing rights	344	201
Non-recurring | Minimum | Discounted cash flow | Level 3
Fair Value Measurements
constant prepayment rates (as a percent)	7.00%	7.00%
Non-recurring | Maximum | Discounted cash flow | Level 3
Fair Value Measurements
constant prepayment rates (as a percent)	22.00%	23.00%
Non-recurring | Weighted average | Discounted cash flow | Level 3
Fair Value Measurements
constant prepayment rates (as a percent)	11.00%	10.00%
Non-recurring | 1-4 family residential | Level 3
Fair Value Measurements
Impaired loans, at fair value	1,137	1,420
Non-recurring | 1-4 family residential | Sales comparison | Level 3
Fair Value Measurements
Impaired loans, at fair value	1,137	1,420
Other real estate owned	1,180	1,361
Non-recurring | 1-4 family residential | Minimum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	0.00%	0.00%
Non-recurring | 1-4 family residential | Maximum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	99.00%	99.00%
Non-recurring | 1-4 family residential | Weighted average | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	6.00%	14.00%
Non-recurring | Multi-family residential | Level 3
Fair Value Measurements
Impaired loans, at fair value	295	199
Non-recurring | Multi-family residential | Sales comparison | Level 3
Fair Value Measurements
Impaired loans, at fair value	295	199
Non-recurring | Multi-family residential | Minimum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	0.00%	12.00%
Non-recurring | Multi-family residential | Maximum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	32.00%	32.00%
Non-recurring | Multi-family residential | Weighted average | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	3.00%	22.00%
Non-recurring | Non-farm & non-residential | Level 3
Fair Value Measurements
Impaired loans, at fair value	1,276	36
Non-recurring | Non-farm & non-residential | Sales comparison | Level 3
Fair Value Measurements
Impaired loans, at fair value	1,276	36
Non-recurring | Non-farm & non-residential | Minimum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	0.00%	0.00%
Non-recurring | Non-farm & non-residential | Maximum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	61.00%	61.00%
Non-recurring | Non-farm & non-residential | Weighted average | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	20.00%	31.00%
Non-recurring | Agricultural | Level 3
Fair Value Measurements
Impaired loans, at fair value	220	275
Non-recurring | Agricultural | Sales comparison | Level 3
Fair Value Measurements
Impaired loans, at fair value	220	275
Non-recurring | Agricultural | Minimum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	5.00%	5.00%
Non-recurring | Agricultural | Maximum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	44.00%	44.00%
Non-recurring | Agricultural | Weighted average | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	24.00%	20.00%
Non-recurring | Residential | Level 3
Fair Value Measurements
Other real estate owned	$ 1,180	$ 1,361
Non-recurring | Residential | Minimum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	0.00%	0.00%
Non-recurring | Residential | Minimum | Income approach | Level 3
Fair Value Measurements
capitalization rate (as a percent)	8.00%	8.00%
Non-recurring | Residential | Maximum | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	32.00%	33.00%
Non-recurring | Residential | Maximum | Income approach | Level 3
Fair Value Measurements
capitalization rate (as a percent)	8.00%	8.00%
Non-recurring | Residential | Weighted average | Sales comparison | Level 3
Fair Value Measurements
Adjustment for differences between the comparable sales and income data available (as a percent)	6.00%	4.00%
Non-recurring | Residential | Weighted average | Income approach | Level 3
Fair Value Measurements
capitalization rate (as a percent)	8.00%	8.00%

XML

SECURITIES

6 Months Ended

Jun. 30, 2014

SECURITIES

SECURITIES

2. SECURITIES

SECURITIES AVAILABLE FOR SALE

Period-end securities are as follows:

(in thousands)

			Gross		Gross
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gains		Losses			Value
Available for Sale
June 30, 2014
U.S. government agencies	$	69,062	$	19	$	(1,809	)	$	67,272
States and political subdivisions	85,375		2,894		(731		)	87,538
Mortgage-backed - residential	69,681		315		(932		)	69,064
Equity securities	270		24		—			294
Total	$	224,388	$	3,252	$	(3,472	)	$	224,168
December 31, 2013
U.S. government agencies	$	73,930	$	51	$	(4,695	)	$	69,286
States and political subdivisions	91,043		1,614		(2,474		)	90,183
Mortgage-backed - residential	72,920		44		(2,326		)	70,638
Equity securities	270		19		—			289
Total	$	238,163	$	1,728	$	(9,495	)	$	230,396

The amortized cost and fair value of securities at June 30, 2014 by contractual maturity are shown below.  Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.  Securities not due at a single maturity are shown separately.  Further discussion concerning Fair Value Measurements can be found in Note 8.

(in thousands)

	Amortized		Fair
	Cost		Value
Due in one year or less	$	467	$	469
Due after one year through five years	8,888		8,897
Due after five years through ten years	80,302		79,607
Due after ten years	64,780		65,837
	154,437		154,810
Mortgage-backed - residential	69,681		69,064
Equity	270		294
Total	$	224,388	$	224,168

Proceeds from sales of securities during the first six months of 2014 and 2013 were $40.0 million and $27.2 million.  Gross gains of $785 thousand and $774 thousand and gross losses of $352 thousand and $0 were realized on those sales, respectively.  The tax provision related to these realized net gains was $147 thousand and $263 thousand, respectively.

Proceeds from sales of securities during the three months ending June 30, 2014 and June 30, 2013 were $23.5 million and $16.7 million.  Gross gains of $477 thousand and $485 thousand and gross losses of $232 thousand and $0 were realized on those sales, respectively.  The tax provision related to these realized gains and losses was $83 thousand and $165 thousand, respectively.

Securities with unrealized losses June 30, 2014 and at December 31, 2013 not recognized in income are as follows:

June 30, 2014

	Less than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
Description of Securities	Value		Loss			Value		Loss			Value		Loss
U.S. Government agencies	$	12,771	$	(142	)	$	53,774	$	(1,667	)	$	66,545	$	(1,809	)
States and municipals	4,426		(66		)	13,892		(665		)	18,318		(731		)
Mortgage-backed - residential	10,695		(167		)	25,753		(765		)	36,448		(932		)
Total temporarily impaired	$	27,892	$	(375	)	$	93,419	$	(3,097	)	$	121,311	$	(3,472	)

December 31, 2013

	Less than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
Description of Securities	Value		Loss			Value		Loss			Value		Loss
U.S. Government agencies	$	57,203	$	(3,812	)	$	8,117	$	(883	)	$	65,320	$	(4,695	)
States and municipals	32,289		(2,106		)	2,879		(368		)	35,168		(2,474		)
Mortgage-backed - residential	62,126		(2,326		)	—		—			62,126		(2,326		)
Total temporarily impaired	$	151,618	$	(8,244	)	$	10,996	$	(1,251	)	$	162,614	$	(9,495	)

The Company evaluates securities for other than temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation.  In analyzing an issuer’s financial condition, we may consider many factors including, (1) whether the securities are issued by the federal government or its agencies, (2) whether downgrades by bond rating agencies have occurred, (3) the results of reviews of the issuer’s financial condition and near-term prospects, (4) the length of time and the extent to which the fair value has been less than cost, and (5) whether we intend to sell the investment security or more likely than not will be required to sell the investment security before its anticipated recovery.

Unrealized losses on securities included in the tables above have not been recognized into income because (1) all rated securities are investment grade and are of high credit quality, (2) management does not intend to sell and it is more likely than not that management would not be required to sell the securities prior to their anticipated recovery, (3) management believes the decline in fair value is largely due to changes in interest rates and (4) management believes the declines in fair value are temporary.  The Company believes the fair value is expected to recover as the securities approach maturity.

TRADING ASSETS

The trading assets of $5.2 million are primarily comprised of municipal securities which are held for a very short period of time.

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STOCK COMPENSATION (Details 4) (USD $)	6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013
2005 Restricted Stock Grant Plan | Restricted stock
Stock Based Compensation
Number of shares authorized for issuance	50,000
Shares available for issuance	4,995
Shares
Nonvested at the beginning of the period (in shares)	15,565
Granted (in shares)	7,475	6,065
Forfeited (in shares)	0	0
Vested (in shares)	(4,756)
Nonvested at the end of the period (in shares)	18,284
Weighted-Average Grant-Date Fair Value
Nonvested shares, balance at the beginning of the period (in dollars)	$ 280,016
Granted (in dollars)	181,194
Vested (in dollars)	(84,518)
Nonvested shares, balance at the end of the period (in dollars)	376,692
Fair Value Per Share
Nonvested shares, balance at the beginning of the period (in dollars per share)	$ 17.99
Granted (in dollars per share)	$ 24.24
Vested (in dollars per share)	$ 17.77
Nonvested shares, balance at the end of the period (in dollars per share)	$ 20.60
Additional disclosures
Total unrecognized compensation cost related to nonvested shares granted	327,197
Period over which cost is expected to be recognized	5 years
2009 Stock Award Plan
Stock Based Compensation
Number of shares authorized for issuance	150,000	900
Shares available for issuance	149,100
2009 Stock Award Plan | Restricted stock
Shares
Nonvested at the beginning of the period (in shares)	900
Granted (in shares)	0	900
Vested (in shares)	(180)
Nonvested at the end of the period (in shares)	720
Weighted-Average Grant-Date Fair Value
Nonvested shares, balance at the beginning of the period (in dollars)	20,880
Vested (in dollars)	(4,176)
Nonvested shares, balance at the end of the period (in dollars)	16,704
Fair Value Per Share
Nonvested shares, balance at the beginning of the period (in dollars per share)	$ 23.20
Vested (in dollars per share)	$ 23.20
Nonvested shares, balance at the end of the period (in dollars per share)	$ 23.20
Additional disclosures
Total unrecognized compensation cost related to nonvested shares granted	$ 15,312
Period over which cost is expected to be recognized	5 years

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LOANS (Details) (USD $) In Thousands, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Loans
Loans	$ 496,134	$ 468,655
Commercial
Loans
Loans	33,727	34,654
Real estate construction
Loans
Loans	13,393	11,177
1-4 family residential
Loans
Loans	208,620	194,388
Multi-family residential
Loans
Loans	18,805	16,420
Non-farm & non-residential
Loans
Loans	131,795	126,791
Agricultural
Loans
Loans	72,605	68,002
Consumer
Loans
Loans	16,947	17,065
Other
Loans
Loans	$ 242	$ 158

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SECURITIES (Details 3) (USD $) In Thousands, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Securities with unrealized losses
Less than 12 Months, Fair Value	$ 27,892	$ 151,618
Less than 12 Months, Unrealized Loss	(375)	(8,244)
12 Months or More, Fair Value	93,419	10,996
12 Months or More, Unrealized Loss	(3,097)	(1,251)
Total, Fair Value	121,311	162,614
Total, Unrealized Loss	(3,472)	(9,495)
Trading Assets
Trading Assets	5,242
U.S. Government agencies
Securities with unrealized losses
Less than 12 Months, Fair Value	12,771	57,203
Less than 12 Months, Unrealized Loss	(142)	(3,812)
12 Months or More, Fair Value	53,774	8,117
12 Months or More, Unrealized Loss	(1,667)	(883)
Total, Fair Value	66,545	65,320
Total, Unrealized Loss	(1,809)	(4,695)
States and municipals
Securities with unrealized losses
Less than 12 Months, Fair Value	4,426	32,289
Less than 12 Months, Unrealized Loss	(66)	(2,106)
12 Months or More, Fair Value	13,892	2,879
12 Months or More, Unrealized Loss	(665)	(368)
Total, Fair Value	18,318	35,168
Total, Unrealized Loss	(731)	(2,474)
Mortgage-backed - residential
Securities with unrealized losses
Less than 12 Months, Fair Value	10,695	62,126
Less than 12 Months, Unrealized Loss	(167)	(2,326)
12 Months or More, Fair Value	25,753
12 Months or More, Unrealized Loss	(765)
Total, Fair Value	36,448	62,126
Total, Unrealized Loss	$ (932)	$ (2,326)

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OTHER BORROWINGS (Details) (Revolving promissory note, USD $) In Millions, unless otherwise specified	Jun. 30, 2014
Revolving promissory note
OTHER BORROWINGS
Maximum borrowing capacity	$ 5
Outstanding balance	$ 0

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LOANS (Details 2) (USD $) In Thousands, unless otherwise specified	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
Activity in allowance for loan losses
Beginning Balance	$ 5,616	$ 5,623	$ 5,441	$ 6,047
Charge-offs	206	458	643	1,538
Recoveries	104	183	616	389
Provision	100	150	200	600
Ending Balance	5,614	5,498	5,614	5,498
Commercial
Activity in allowance for loan losses
Beginning Balance	208	135	230	150
Charge-offs		5	200	11
Recoveries				28
Provision	23	21	201	(16)
Ending Balance	231	151	231	151
Real estate construction
Activity in allowance for loan losses
Beginning Balance	329	497	358	918
Charge-offs				578
Recoveries	4	16	8	21
Provision	26	(140)	(7)	12
Ending Balance	359	373	359	373
1-4 family residential
Activity in allowance for loan losses
Beginning Balance	2,111	1,974	2,169	1,989
Charge-offs	25	16	88	141
Recoveries	4	30	16	56
Provision	234	(4)	227	80
Ending Balance	2,324	1,984	2,324	1,984
Multi-family residential
Activity in allowance for loan losses
Beginning Balance	401	493	427	414
Charge-offs		161		161
Recoveries		39		39
Provision	(74)	110	(100)	189
Ending Balance	327	481	327	481
Non-farm & non-residential
Activity in allowance for loan losses
Beginning Balance	930	611	564	628
Recoveries		10	367	18
Provision	(196)	56	(197)	31
Ending Balance	734	677	734	677
Agricultural
Activity in allowance for loan losses
Beginning Balance	553	747	578	845
Charge-offs				86
Recoveries	1	1	25	3
Provision	(8)	(87)	(57)	(101)
Ending Balance	546	661	546	661
Consumer
Activity in allowance for loan losses
Beginning Balance	550	511	548	517
Charge-offs	76	104	153	252
Recoveries	23	7	41	18
Provision	46	134	107	265
Ending Balance	543	548	543	548
Other
Activity in allowance for loan losses
Beginning Balance	11	99	51	54
Charge-offs	105	172	202	309
Recoveries	72	80	159	206
Provision	55	85	25	141
Ending Balance	33	92	33	92
Unallocated
Activity in allowance for loan losses
Beginning Balance	523	556	516	532
Provision	(6)	(25)	1	(1)
Ending Balance	$ 517	$ 531	$ 517	$ 531

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LOANS (Details 3) (USD $)	Jun. 30, 2014	Mar. 31, 2014	Dec. 31, 2013	Jun. 30, 2013	Mar. 31, 2013	Dec. 31, 2012
Loans
Accrued interest receivable	$ 2,000,000		$ 2,300,000
Allowance for Loan Losses:
Individually Evaluated for Impairment	818,000		712,000
Collectively Evaluated for Impairment	4,796,000		4,729,000
Total	5,614,000	5,616,000	5,441,000	5,498,000	5,623,000	6,047,000
Loans:
Individually Evaluated for Impairment	17,012,000		13,536,000
Collectively Evaluated for Impairment	479,122,000		455,119,000
Total	496,134,000		468,655,000
Commercial
Allowance for Loan Losses:
Collectively Evaluated for Impairment	231,000		230,000
Total	231,000	208,000	230,000	151,000	135,000	150,000
Loans:
Collectively Evaluated for Impairment	33,727,000		34,654,000
Total	33,727,000		34,654,000
Real estate construction
Allowance for Loan Losses:
Collectively Evaluated for Impairment	359,000		358,000
Total	359,000	329,000	358,000	373,000	497,000	918,000
Loans:
Collectively Evaluated for Impairment	13,393,000		11,177,000
Total	13,393,000		11,177,000
1-4 family residential
Allowance for Loan Losses:
Individually Evaluated for Impairment	326,000		228,000
Collectively Evaluated for Impairment	1,998,000		1,941,000
Total	2,324,000	2,111,000	2,169,000	1,984,000	1,974,000	1,989,000
Loans:
Individually Evaluated for Impairment	3,196,000		2,873,000
Collectively Evaluated for Impairment	205,424,000		191,515,000
Total	208,620,000		194,388,000
Multi-family residential
Allowance for Loan Losses:
Individually Evaluated for Impairment	50,000		76,000
Collectively Evaluated for Impairment	277,000		351,000
Total	327,000	401,000	427,000	481,000	493,000	414,000
Loans:
Individually Evaluated for Impairment	345,000		274,000
Collectively Evaluated for Impairment	18,460,000		16,146,000
Total	18,805,000		16,420,000
Non-farm & non-residential
Allowance for Loan Losses:
Individually Evaluated for Impairment	182,000		110,000
Collectively Evaluated for Impairment	552,000		454,000
Total	734,000	930,000	564,000	677,000	611,000	628,000
Loans:
Individually Evaluated for Impairment	3,937,000		2,716,000
Collectively Evaluated for Impairment	127,858,000		124,075,000
Total	131,795,000		126,791,000
Agricultural
Allowance for Loan Losses:
Individually Evaluated for Impairment	260,000		298,000
Collectively Evaluated for Impairment	286,000		280,000
Total	546,000	553,000	578,000	661,000	747,000	845,000
Loans:
Individually Evaluated for Impairment	9,534,000		7,673,000
Collectively Evaluated for Impairment	63,071,000		60,329,000
Total	72,605,000		68,002,000
Consumer
Allowance for Loan Losses:
Collectively Evaluated for Impairment	543,000		548,000
Total	543,000	550,000	548,000	548,000	511,000	517,000
Loans:
Collectively Evaluated for Impairment	16,947,000		17,065,000
Total	16,947,000		17,065,000
Other
Allowance for Loan Losses:
Collectively Evaluated for Impairment	33,000		51,000
Total	33,000	11,000	51,000	92,000	99,000	54,000
Loans:
Collectively Evaluated for Impairment	242,000		158,000
Total	242,000		158,000
Unallocated
Allowance for Loan Losses:
Collectively Evaluated for Impairment	517,000		516,000
Total	$ 517,000	$ 523,000	$ 516,000	$ 531,000	$ 556,000	$ 532,000

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

6 Months Ended

Jun. 30, 2014

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The financial information presented as of any date other than December 31 has been prepared from the Company’s books and records without audit.  The accompanying consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.  Certain financial information that is normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America, but is not required for interim reporting purposes, has been condensed or omitted.  There have been no significant changes to the Company’s accounting and reporting policies as disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.  In the opinion of management, all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of such financial statements, have been included.  The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year.

For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

Basis of Presentation:  The consolidated financial statements include the accounts of Kentucky Bancshares, Inc. (the “Company”, “we”, “our” or “us”), its wholly-owned subsidiary, Kentucky Bank (the “Bank”), and the Bank’s wholly-owned subsidiary, KB Special Assets Unit, LLC.  Intercompany transactions and balances have been eliminated in consolidation.

Nature of Operations:  The Bank operates under a state bank charter and provides full banking services, including trust services, to customers located in Bourbon, Clark, Elliott, Fayette, Harrison, Jessamine, Madison, Rowan, Scott, Woodford and adjoining counties in Kentucky.  Management continues to consider opportunities for branch expansion and will also consider acquisition opportunities that help advance its strategic objectives.  As a state bank, the Bank is subject to regulation by the Kentucky Department of Financial Institutions and the Federal Deposit Insurance Corporation (“FDIC”).  The Company, a bank holding company, is regulated by the Federal Reserve.  On July 9, 2014, a new subsidiary of the Company was incorporated under the name KBI Insurance Company, Inc.  KBI Insurance Company, Inc. is a subsidiary of Kentucky Bancshares, Inc. and is located in Las Vegas, Nevada.  It is a captive insurance subsidiary which insures various liability and property damage policies for Kentucky Bancshares, Inc. and its related subsidiaries.  KBI Insurance Company, Inc. is regulated by the State of Nevada Division of Insurance.

Estimates in the Financial Statements:  The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates and such differences could be material to the financial statements.  The allowance for loan losses, loss contingencies, mortgage servicing rights, real estate owned, goodwill and fair value of financial instruments are particularly subject to change.

Trading Assets:  The Company engages in trading activities for its own account.  Securities that are held principally for resale in the near term are recorded at fair value with changes in fair value included in earnings. Interest and dividends are included in net interest income.

Loss Contingencies:  Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated.

Pension Matter:  The Company terminated the Kentucky Bancshares, Inc. Retirement Plan and Trust (the “Plan”) in a standard termination, with a termination date of December 31, 2008.  Prior to such termination, the Pension Protection Act of 2006 (“PPA”) had amended Internal Revenue Code (“IRC”) Section 417(e)(3) in part by changing the definition of “applicable interest rate” in a manner that in most cases (when combined with other changes to IRC Section 417(e)(3)) would result in a decrease in the value of a participant’s or beneficiary’s plan benefits under pension plans such as the Company’s Plan with the new definition applicable (for most plans, including the Plan) to lump sums with annuity starting dates in or after the 2008 plan year.  The Plan had determined in mid-2008 to comply with IRC Section 417(e)(3), as amended by PPA, by using the assumptions governing minimum lump sums, rather than by using the pre-PPA minimum lump sum assumptions, and operated the Plan in compliance with that decision.  As permitted by the IRC, the Plan was amended on February 24, 2009 (after the termination of the Plan on December 31, 2008) to formalize that decision in accordance with Section 1107 of PPA.

The Internal Revenue Service issued a favorable determination as to the Plan termination in July 2010.  Subsequent to Plan termination and distributions to Plan participants, the Plan was selected for audit by the Pension Benefit Guaranty Corporation (“PBGC”).  The PBGC asserted that the February, 2009 amendment to the Plan violated PBGC Regulation Section 4041.8(a) because the amendment served to lower benefits to Plan beneficiaries.  The PBGC filed a Complaint in May 2013 in United States District Court (Eastern District of Kentucky) to require the Company to make additional distributions to Plan beneficiaries.  On March 17, 2014, the United States District Court (Eastern District of Kentucky) issued an Opinion and Order entering judgment in favor of the PBGC and ruling that the Company must comply with the PBGC’s determination respecting the Plan.  The Company is appraising its options with respect to this judgment, and has appealed the decision. The appeal is pending.  However, in light of the court’s opinion, the Company accrued approximately $1.6 million as of December 31, 2013 for this matter.  The accrued balance for this matter remains $1.6 million at June 30, 2014.  Moreover, in the event the subject court decision is not overturned, the Company believes it has claims for further contribution towards payment of this liability from professionals who assisted the Company in the termination of the Plan.

Reclassifications:  Some items in the prior year financial statements were reclassified to conform to the current presentation.  Reclassifications had no effect on prior period net income or stockholders’ equity.

Adoption of New Accounting Standards

In January 2014, the FASB issued Accounting Standards Update (“ASU”) 2014-04 - Receivables - Troubled Debt Restructurings by Creditors (Subtopic 310-40) - Reclassification of Residential Real Estate Collateralized Consumer Mortgage loans upon Foreclosure. This standard provides clarification when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan should be removed from the balance sheet and other real estate owned recognized. These amendments clarify that when an in-substance foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan upon either: (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure, or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. For public business entities (PBEs) this ASU is effective for annual periods, and interim periods within those annual periods, beginning after Dec 15, 2014.  For entities that are not PBEs, this ASU is effective for annual periods beginning after Dec 15, 2014, and for interim periods within annual periods beginning after Dec 15, 2015.  Early adoption is permitted.  The effect of adopting this standard is not expected to have a material effect on the Company’s results of operations or financial condition.

In May 2014, FASB issued Accounting Standards Update 2014-09, Revenue from Contracts with Customers (Topic 606). The ASU creates a new topic, Topic 606, to provide guidance on revenue recognition for entities that enter into contracts with customers to transfer goods or services or enter into contracts for the transfer of nonfinancial assets. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Additional disclosures are required to provide quantitative and qualitative information regarding the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The new guidance is effective for annual reporting periods, and interim reporting periods within those annual periods, beginning after December 15, 2016. Early adoption is not permitted. Management is currently evaluating the impact of the adoption of this guidance on the Company’s financial statements.

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LOANS (Details 4) (USD $) In Thousands, unless otherwise specified	3 Months Ended		6 Months Ended		12 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013	Dec. 31, 2013
Unpaid Principal Balance
Total	$ 17,012		$ 17,012		$ 14,501
Recorded Investment
Total	17,012		17,012		13,536
Allowance for Loan Losses Allocated	818		818		712
Average Recorded Investment
Total	14,393	13,804	14,344	14,488	14,691
Interest Income Recognized
Total	183	60	221	191	697
Cash Basis Interest Recognized
Total	183	60	221	191	697
Real estate construction
Average Recorded Investment
With an allowance recorded					607
1-4 family residential
Unpaid Principal Balance
With no related allowance recorded	1,302		1,302		824
With an allowance recorded	1,894		1,894		2,080
Recorded Investment
With no related allowance recorded	1,302		1,302		793
With an allowance recorded	1,894		1,894		2,080
Allowance for Loan Losses Allocated	326		326		228
Average Recorded Investment
With no related allowance recorded	1,562	1,035	1,002	1,253	1,217
With an allowance recorded	1,377	1,016	1,991	874	1,349
Interest Income Recognized
With no related allowance recorded		2		21	28
With an allowance recorded	38	7	44	21	96
Cash Basis Interest Recognized
With no related allowance recorded		2		21	28
With an allowance recorded	38	7	44	21	96
Multi-family residential
Unpaid Principal Balance
With an allowance recorded	345		345		274
Recorded Investment
With an allowance recorded	345		345		274
Allowance for Loan Losses Allocated	50		50		76
Average Recorded Investment
With an allowance recorded	310	669	323	511	443
Interest Income Recognized
With an allowance recorded	1	1	5	3	3
Cash Basis Interest Recognized
With an allowance recorded	1	1	5	3	3
Non-farm & non-residential
Unpaid Principal Balance
With no related allowance recorded					1,650
With an allowance recorded	3,937		3,937		1,913
Recorded Investment
With no related allowance recorded					803
With an allowance recorded	3,937		3,937		1,913
Allowance for Loan Losses Allocated	182		182		110
Average Recorded Investment
With no related allowance recorded		1,065	267	1,625	1,471
With an allowance recorded	3,553	2,421	3,043	2,641	1,938
Interest Income Recognized
With no related allowance recorded		20		40	81
With an allowance recorded	48	20	73	40	79
Cash Basis Interest Recognized
With no related allowance recorded		20		40	81
With an allowance recorded	48	20	73	40	79
Agricultural
Unpaid Principal Balance
With no related allowance recorded	4,780		4,780		2,912
With an allowance recorded	4,754		4,754		4,847
Recorded Investment
With no related allowance recorded	4,780		4,780		2,826
With an allowance recorded	4,754		4,754		4,847
Allowance for Loan Losses Allocated	260		260		298
Average Recorded Investment
With no related allowance recorded	2,836	2,854	2,684	2,873	2,802
With an allowance recorded	4,755	4,744	5,034	4,711	4,864
Interest Income Recognized
With no related allowance recorded	77	3	80	9	123
With an allowance recorded	19	7	19	57	287
Cash Basis Interest Recognized
With no related allowance recorded	77	3	80	9	123
With an allowance recorded	$ 19	$ 7	$ 19	$ 57	$ 287

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STOCK COMPENSATION (Details)	6 Months Ended
	Jun. 30, 2014 item
STOCK COMPENSATION
Number of share based compensation plans	4

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CONSOLIDATED BALANCE SHEETS (USD $) In Thousands, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Assets
Cash and due from banks	$ 14,951	$ 22,650
Federal funds sold	88	510
Cash and cash equivalents	15,039	23,160
Securities available for sale	224,168	230,396
Trading Assets	5,242
Mortgage loans held for sale	495	223
Loans	496,134	468,655
Allowance for loan losses	(5,614)	(5,441)
Net loans	490,520	463,214
Federal Home Loan Bank stock	5,981	6,731
Real estate owned, net	2,306	3,379
Bank premises and equipment, net	16,780	16,709
Interest receivable	3,254	3,618
Mortgage servicing rights	1,245	1,344
Goodwill	13,117	13,117
Other intangible assets	243	317
Other assets	6,906	8,371
Total assets	785,296	770,579
Deposits
Non-interest bearing	157,988	152,052
Time deposits, $100,000 and over	92,069	96,264
Other interest bearing	347,352	369,084
Total deposits	597,409	617,400
Repurchase agreements and other borrowings	11,297	12,867
Federal funds purchased	4,649
Short-term Federal Home Loan Bank advances	20,000
Long-term Federal Home Loan Bank advances	61,414	57,847
Subordinated debentures	7,217	7,217
Interest payable	679	736
Other liabilities	7,699	6,839
Total liabilities	710,364	702,906
Stockholders' equity
Preferred stock, 300,000 shares authorized and unissued
Common stock, no par value; 10,000,000 shares authorized; 2,721,142 and 2,717,434 shares issued and outstanding on June 30, 2014 and December 31, 2013	12,608	12,570
Retained earnings	62,469	60,229
Accumulated other comprehensive loss	(145)	(5,126)
Total stockholders' equity	74,932	67,673
Total liabilities & stockholders' equity	$ 785,296	$ 770,579

XML

FAIR VALUE MEASUREMENTS (Details) (USD $) In Thousands, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Fair value on instruments on recurring basis
Available for sale investment securities	$ 224,168	$ 230,396
Trading Assets	5,242
Transfers from Level 1 to Level 2	0	0
Transfers from Level 2 to Level 1	0	0
Carrying Value
Fair value on instruments on recurring basis
Available for sale investment securities	224,168	230,396
Trading Assets	5,242
Fair Value
Fair value on instruments on recurring basis
Available for sale investment securities		230,396
Quoted Prices In Active Markets for Identical Assets (Level 1)
Fair value on instruments on recurring basis
Available for sale investment securities	294	289
Trading Assets	5,242
Significant Other Observable Inputs (Level 2)
Fair value on instruments on recurring basis
Available for sale investment securities	223,874	230,107
Recurring | Fair Value
Fair value on instruments on recurring basis
Available for sale investment securities	229,410	230,396
Trading Assets	5,242
Recurring | Quoted Prices In Active Markets for Identical Assets (Level 1)
Fair value on instruments on recurring basis
Available for sale investment securities	5,536	289
Trading Assets	5,242
Recurring | Significant Other Observable Inputs (Level 2)
Fair value on instruments on recurring basis
Available for sale investment securities	223,874	230,107
U.S. government agencies
Fair value on instruments on recurring basis
Available for sale investment securities	67,272	69,286
U.S. government agencies | Recurring | Fair Value
Fair value on instruments on recurring basis
Available for sale investment securities	67,272	69,286
U.S. government agencies | Recurring | Significant Other Observable Inputs (Level 2)
Fair value on instruments on recurring basis
Available for sale investment securities	67,272	69,286
States and municipals
Fair value on instruments on recurring basis
Available for sale investment securities	87,538	90,183
States and municipals | Recurring | Fair Value
Fair value on instruments on recurring basis
Available for sale investment securities	87,538	90,183
States and municipals | Recurring | Significant Other Observable Inputs (Level 2)
Fair value on instruments on recurring basis
Available for sale investment securities	87,538	90,183
Mortgage-backed - residential
Fair value on instruments on recurring basis
Available for sale investment securities	69,064	70,638
Mortgage-backed - residential | Recurring | Fair Value
Fair value on instruments on recurring basis
Available for sale investment securities	69,064	70,638
Mortgage-backed - residential | Recurring | Significant Other Observable Inputs (Level 2)
Fair value on instruments on recurring basis
Available for sale investment securities	69,064	70,638
Equity securities
Fair value on instruments on recurring basis
Available for sale investment securities	294	289
Equity securities | Recurring | Fair Value
Fair value on instruments on recurring basis
Available for sale investment securities	294	289
Equity securities | Recurring | Quoted Prices In Active Markets for Identical Assets (Level 1)
Fair value on instruments on recurring basis
Available for sale investment securities	$ 294	$ 289

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CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (Parenthetical) (USD $)	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
Dividends per share (in dollars per share)	$ 0.25	$ 0.24	$ 0.50	$ 0.48

XML

LOANS (Details 7) (USD $) In Thousands, unless otherwise specified	6 Months Ended
	Jun. 30, 2014 item	Jun. 30, 2013 item	Dec. 31, 2013
LOANS
Reserves to customers whose loan terms have been modified in troubled debt restructurings	$ 398		$ 428
Trouble debt restructuring defaulted on payment	$ 0	$ 0
Number of loans modified	0	0

XML

STOCK COMPENSATION (Tables)

6 Months Ended

Jun. 30, 2014

STOCK COMPENSATION

Summary of activity for the expired Stock Option Plans

					Weighted
			Weighted		Average
			Average		Remaining	Aggregate
			Exercise		Contractual	Intrinsic
	Shares		Price		Term	Value
Outstanding, beginning of year	19,100		$	31.50
Granted	—		—
Forfeited or expired	(6,375	)	33.56
Exercised	—		—
Outstanding, end of period	12,725		$	30.46	10.9 months	$	—
Vested and expected to vest	12,725		$	30.46	10.9 months	$	—
Exercisable, end of period	12,725		$	30.46	10.9 months	$	—

2005 Restricted Stock Grant Plan

Stock Based Compensation

Summary of changes in the Company's nonvested shares

			Weighted-Average			Fair
			Grant-Date			Value
Nonvested Shares	Shares		Fair Value			Per Share
Nonvested at January 1, 2014	15,565		$	280,016		$	17.99
Granted	7,475		181,194			24.24
Vested	(4,756	)	(84,518		)	17.77
Forfeited	—		—			—
Nonvested at June 30, 2014	18,284		$	376,692		$	20.60

2009 Stock Award Plan

Stock Based Compensation

Summary of changes in the Company's nonvested shares

			Weighted-Average			Fair
			Grant-Date			Value
Nonvested Shares	Shares		Fair Value			Per Share
Nonvested at January 1, 2014	900		$	20,880		$	23.20
Granted	—		—			—
Vested	(180	)	(4,176		)	23.20
Forfeited	—		—			—
Nonvested at June 30, 2014	720		$	16,704		$	23.20

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LOANS (Details 8) (USD $) In Thousands, unless otherwise specified	6 Months Ended
	Jun. 30, 2014	Dec. 31, 2013
Credit Quality Indicators
Loans	$ 496,134	$ 468,655
Pass
Credit Quality Indicators
Loans	435,512	410,284
Special Mention
Credit Quality Indicators
Loans	31,698	27,653
Substandard
Credit Quality Indicators
Loans	11,714	13,495
Doubtful
Credit Quality Indicators
Loans	21
Commercial
Credit Quality Indicators
Loans	33,727	34,654
Commercial | Pass
Credit Quality Indicators
Loans	31,932	32,771
Commercial | Special Mention
Credit Quality Indicators
Loans	1,241	1,587
Commercial | Substandard
Credit Quality Indicators
Loans	554	296
Real estate construction
Credit Quality Indicators
Loans	13,393	11,177
Real estate construction | Pass
Credit Quality Indicators
Loans	11,934	9,660
Real estate construction | Special Mention
Credit Quality Indicators
Loans	1,459	1,517
1-4 family residential
Credit Quality Indicators
Loans	208,620	194,388
1-4 family residential | Pass
Credit Quality Indicators
Loans	190,893	176,553
1-4 family residential | Special Mention
Credit Quality Indicators
Loans	10,040	10,346
1-4 family residential | Substandard
Credit Quality Indicators
Loans	7,666	7,489
1-4 family residential | Doubtful
Credit Quality Indicators
Loans	21
Multi-family residential
Credit Quality Indicators
Loans	18,805	16,420
Multi-family residential | Pass
Credit Quality Indicators
Loans	16,738	14,392
Multi-family residential | Special Mention
Credit Quality Indicators
Loans	1,555	1,579
Multi-family residential | Substandard
Credit Quality Indicators
Loans	512	449
Non-farm & non-residential
Credit Quality Indicators
Loans	131,795	126,791
Non-farm & non-residential | Pass
Credit Quality Indicators
Loans	125,306	120,195
Non-farm & non-residential | Special Mention
Credit Quality Indicators
Loans	5,050	5,327
Non-farm & non-residential | Substandard
Credit Quality Indicators
Loans	1,439	1,269
Agricultural
Credit Quality Indicators
Loans	72,605	68,002
Agricultural | Pass
Credit Quality Indicators
Loans	58,709	56,713
Agricultural | Special Mention
Credit Quality Indicators
Loans	12,353	7,297
Agricultural | Substandard
Credit Quality Indicators
Loans	1,543	3,992
Consumer
Credit Quality Indicators
Loans	16,947	17,065
Consumer | Non-performing
Credit Quality Indicators
Loans	$ 0	$ 16
Minimum period past due for loans to be considered as non-performing	90 days

XML

CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT (Tables)

6 Months Ended

Jun. 30, 2014

CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT

Schedule of changes in Accumulated Other Comprehensive Income (Loss) by Component

Changes in Accumulated Other Comprehensive Income by Component (1)  (unaudited)

(in thousands)

	Unrealized
	Gains and Losses on
	Available for Sale
	Securities
	For the Six Months Ending June 30
	2014			2013
Beginning Balance	$	(5,126	)	$	4,283
Unrealized holding gains (losses) for the period, net of tax	5,267			(5,465		)
Reclassification adjustment for:
Securities gains realized in income, net	(433		)	(774		)
Income taxes	(147		)	(263		)
	(286		)	(511		)
Net current period other comprehensive income	4,981			(5,976		)
Ending balance	$	(145	)	$	(1,693	)

(1) All amounts are net of tax.

	Unrealized
	Gains and Losses on
	Available for Sale
	Securities
	For the Three Months Ending June 30
	2014			2013
Beginning Balance	$	(1,875	)	$	3,031
Unrealized holding gains (losses) for the period, net of tax	1,892			(4,404		)
Reclassification adjustment for:
Securities gains realized in income, net	(245		)	(485		)
Income taxes	(83		)	(165		)
	(162		)	(320		)
Net current period other comprehensive income	1,730			(4,724		)
Ending balance	$	(145	)	$	(1,693	)

(2) All amounts are net of tax.

Significant amounts reclassified out of each component of AOCI

June 30, 2014

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(433	)	Securities gains, net
	147			Provision for income taxes
	(286		)	Net of tax

June 30, 2013

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(774	)	Securities gains, net
	263			Provision for income taxes
	(511		)	Net of tax

June 30, 2014

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(245	)	Securities gains, net
	83			Provision for income taxes
	(162		)	Net of tax

June 30, 2013

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(485	)	Securities gains, net
	165			Provision for income taxes
	(320		)	Net of tax

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CONSOLIDATED STATEMENTS OF CASH FLOWS (USD $) In Thousands, unless otherwise specified	6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013
Cash Flows From Operating Activities
Net Income	$ 3,675	$ 3,494
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization	904	945
Securities amortization (accretion), net	303	565
Stock based compensation expense	55	48
Provision for loan losses	200	600
Securities available for sale gains, net	(433)	(774)
Net change in trading assets	(5,242)
Originations of loans held for sale	(13,757)	(34,329)
Proceeds from sale of loans	13,883	35,536
Losses (gains) on sale of fixed assets		105
Losses (gains) on other real estate	(70)	(30)
Gain on sale of mortgage loans	(398)	(1,140)
Changes in:
Interest receivable	364	373
Write-downs of other real estate, net	10	(10)
Other assets	1,369	(185)
Interest payable	(57)	78
Other liabilities	(1,707)	708
Net cash from operating activities	(901)	5,984
Cash Flows From Investing Activities
Purchases of securities available for sale	(34,977)	(55,086)
Proceeds from principal payments, sales, maturities and calls of securities	48,883	42,583
Net change in loans	(27,925)	(23,668)
Proceeds from sale of Federal Home Loan Bank stock	750
Purchases of bank premises and equipment	(705)	(897)
Proceeds from the sale of other real estate	1,551	754
Net cash from investing activities	(12,423)	(36,314)
Cash Flows From Financing Activities:
Net change in deposits	(19,991)	(14,681)
Net change in repurchase agreements and other borrowings	3,079	17,238
Short-term advances from Federal Home Loan Bank	105,000	41,000
Payment on short-term Federal Home Loan Bank advances	(85,000)	(31,000)
Long-term advances from Federal Home Loan Bank	6,538	8,200
Payments on long-term Federal Home Loan Bank advances	(2,971)	(5,991)
Payments on note payable		(500)
Purchase of common stock	(91)	(87)
Dividends paid	(1,361)	(1,307)
Net cash from financing activities	5,203	12,872
Net change in cash and cash equivalents	(8,121)	(17,458)
Cash and cash equivalents at beginning of period	23,160	31,764
Cash and cash equivalents at end of period	15,039	14,306
Cash paid during the year for:
Interest expense	1,917	1,560
Income taxes	700	975
Supplemental disclosures of non-cash investing activities
Real estate acquired through foreclosure	$ 419	$ 248

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CONSOLIDATED BALANCE SHEETS (Parenthetical) (USD $)	Jun. 30, 2014	Dec. 31, 2013
CONSOLIDATED BALANCE SHEETS
Preferred stock, shares authorized	300,000	300,000
Preferred stock, shares issued	0	0
Common stock, par value (in dollars per share)	$ 0	$ 0
Common stock, shares authorized	10,000,000	10,000,000
Common stock, shares issued	2,721,142	2,717,434
Common stock, shares outstanding	2,721,142	2,717,434

XML

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Policies)

6 Months Ended

Jun. 30, 2014

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

Basis of Presentation:  The consolidated financial statements include the accounts of Kentucky Bancshares, Inc. (the “Company”, “we”, “our” or “us”), its wholly-owned subsidiary, Kentucky Bank (the “Bank”), and the Bank’s wholly-owned subsidiary, KB Special Assets Unit, LLC.  Intercompany transactions and balances have been eliminated in consolidation.

Nature of Operations

Nature of Operations:  The Bank operates under a state bank charter and provides full banking services, including trust services, to customers located in Bourbon, Clark, Elliott, Fayette, Harrison, Jessamine, Madison, Rowan, Scott, Woodford and adjoining counties in Kentucky.  Management continues to consider opportunities for branch expansion and will also consider acquisition opportunities that help advance its strategic objectives.  As a state bank, the Bank is subject to regulation by the Kentucky Department of Financial Institutions and the Federal Deposit Insurance Corporation (“FDIC”).  The Company, a bank holding company, is regulated by the Federal Reserve.  On July 9, 2014, a new subsidiary of the Company was incorporated under the name KBI Insurance Company, Inc.  KBI Insurance Company, Inc. is a subsidiary of Kentucky Bancshares, Inc. and is located in Las Vegas, Nevada.  It is a captive insurance subsidiary which insures various liability and property damage policies for Kentucky Bancshares, Inc. and its related subsidiaries.  KBI Insurance Company, Inc. is regulated by the State of Nevada Division of Insurance.

Estimates in the Financial Statements

Estimates in the Financial Statements:  The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates and such differences could be material to the financial statements.  The allowance for loan losses, loss contingencies, mortgage servicing rights, real estate owned, goodwill and fair value of financial instruments are particularly subject to change.

Trading Assets

Trading Assets:  The Company engages in trading activities for its own account.  Securities that are held principally for resale in the near term are recorded at fair value with changes in fair value included in earnings. Interest and dividends are included in net interest income.

Loss Contingencies

Loss Contingencies:  Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated.

Pension Matter

Pension Matter:  The Company terminated the Kentucky Bancshares, Inc. Retirement Plan and Trust (the “Plan”) in a standard termination, with a termination date of December 31, 2008.  Prior to such termination, the Pension Protection Act of 2006 (“PPA”) had amended Internal Revenue Code (“IRC”) Section 417(e)(3) in part by changing the definition of “applicable interest rate” in a manner that in most cases (when combined with other changes to IRC Section 417(e)(3)) would result in a decrease in the value of a participant’s or beneficiary’s plan benefits under pension plans such as the Company’s Plan with the new definition applicable (for most plans, including the Plan) to lump sums with annuity starting dates in or after the 2008 plan year.  The Plan had determined in mid-2008 to comply with IRC Section 417(e)(3), as amended by PPA, by using the assumptions governing minimum lump sums, rather than by using the pre-PPA minimum lump sum assumptions, and operated the Plan in compliance with that decision.  As permitted by the IRC, the Plan was amended on February 24, 2009 (after the termination of the Plan on December 31, 2008) to formalize that decision in accordance with Section 1107 of PPA.

The Internal Revenue Service issued a favorable determination as to the Plan termination in July 2010.  Subsequent to Plan termination and distributions to Plan participants, the Plan was selected for audit by the Pension Benefit Guaranty Corporation (“PBGC”).  The PBGC asserted that the February, 2009 amendment to the Plan violated PBGC Regulation Section 4041.8(a) because the amendment served to lower benefits to Plan beneficiaries.  The PBGC filed a Complaint in May 2013 in United States District Court (Eastern District of Kentucky) to require the Company to make additional distributions to Plan beneficiaries.  On March 17, 2014, the United States District Court (Eastern District of Kentucky) issued an Opinion and Order entering judgment in favor of the PBGC and ruling that the Company must comply with the PBGC’s determination respecting the Plan.  The Company is appraising its options with respect to this judgment, and has appealed the decision. The appeal is pending.  However, in light of the court’s opinion, the Company accrued approximately $1.6 million as of December 31, 2013 for this matter.  The accrued balance for this matter remains $1.6 million at June 30, 2014.  Moreover, in the event the subject court decision is not overturned, the Company believes it has claims for further contribution towards payment of this liability from professionals who assisted the Company in the termination of the Plan.

Reclassifications

Reclassifications:  Some items in the prior year financial statements were reclassified to conform to the current presentation.  Reclassifications had no effect on prior period net income or stockholders’ equity.

Adoption of New Accounting Standards

Adoption of New Accounting Standards

In January 2014, the FASB issued Accounting Standards Update (“ASU”) 2014-04 - Receivables - Troubled Debt Restructurings by Creditors (Subtopic 310-40) - Reclassification of Residential Real Estate Collateralized Consumer Mortgage loans upon Foreclosure. This standard provides clarification when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan should be removed from the balance sheet and other real estate owned recognized. These amendments clarify that when an in-substance foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan upon either: (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure, or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. For public business entities (PBEs) this ASU is effective for annual periods, and interim periods within those annual periods, beginning after Dec 15, 2014.  For entities that are not PBEs, this ASU is effective for annual periods beginning after Dec 15, 2014, and for interim periods within annual periods beginning after Dec 15, 2015.  Early adoption is permitted.  The effect of adopting this standard is not expected to have a material effect on the Company’s results of operations or financial condition.

In May 2014, FASB issued Accounting Standards Update 2014-09, Revenue from Contracts with Customers (Topic 606). The ASU creates a new topic, Topic 606, to provide guidance on revenue recognition for entities that enter into contracts with customers to transfer goods or services or enter into contracts for the transfer of nonfinancial assets. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Additional disclosures are required to provide quantitative and qualitative information regarding the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The new guidance is effective for annual reporting periods, and interim reporting periods within those annual periods, beginning after December 15, 2016. Early adoption is not permitted. Management is currently evaluating the impact of the adoption of this guidance on the Company’s financial statements.

XML

Document and Entity Information	6 Months Ended
	Jun. 30, 2014	Jul. 31, 2014
Document and Entity Information
Entity Registrant Name	KENTUCKY BANCSHARES INC /KY/
Entity Central Index Key	0001000232
Document Type	10-Q
Document Period End Date	Jun. 30, 2014
Amendment Flag	false
Current Fiscal Year End Date	--12-31
Entity Current Reporting Status	Yes
Entity Filer Category	Non-accelerated Filer
Entity Common Stock, Shares Outstanding		2,721,142
Document Fiscal Year Focus	2014
Document Fiscal Period Focus	Q2

XML

SECURITIES (Tables)

6 Months Ended

Jun. 30, 2014

SECURITIES

Schedule of securities available for sale

(in thousands)

			Gross		Gross
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gains		Losses			Value
Available for Sale
June 30, 2014
U.S. government agencies	$	69,062	$	19	$	(1,809	)	$	67,272
States and political subdivisions	85,375		2,894		(731		)	87,538
Mortgage-backed - residential	69,681		315		(932		)	69,064
Equity securities	270		24		—			294
Total	$	224,388	$	3,252	$	(3,472	)	$	224,168
December 31, 2013
U.S. government agencies	$	73,930	$	51	$	(4,695	)	$	69,286
States and political subdivisions	91,043		1,614		(2,474		)	90,183
Mortgage-backed - residential	72,920		44		(2,326		)	70,638
Equity securities	270		19		—			289
Total	$	238,163	$	1,728	$	(9,495	)	$	230,396

Schedule of amortized cost and fair value of securities by contractual maturity

(in thousands)

	Amortized		Fair
	Cost		Value
Due in one year or less	$	467	$	469
Due after one year through five years	8,888		8,897
Due after five years through ten years	80,302		79,607
Due after ten years	64,780		65,837
	154,437		154,810
Mortgage-backed - residential	69,681		69,064
Equity	270		294
Total	$	224,388	$	224,168

Schedule of securities with unrealized losses not recognized in income

June 30, 2014

	Less than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
Description of Securities	Value		Loss			Value		Loss			Value		Loss
U.S. Government agencies	$	12,771	$	(142	)	$	53,774	$	(1,667	)	$	66,545	$	(1,809	)
States and municipals	4,426		(66		)	13,892		(665		)	18,318		(731		)
Mortgage-backed - residential	10,695		(167		)	25,753		(765		)	36,448		(932		)
Total temporarily impaired	$	27,892	$	(375	)	$	93,419	$	(3,097	)	$	121,311	$	(3,472	)

December 31, 2013

	Less than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
Description of Securities	Value		Loss			Value		Loss			Value		Loss
U.S. Government agencies	$	57,203	$	(3,812	)	$	8,117	$	(883	)	$	65,320	$	(4,695	)
States and municipals	32,289		(2,106		)	2,879		(368		)	35,168		(2,474		)
Mortgage-backed - residential	62,126		(2,326		)	—		—			62,126		(2,326		)
Total temporarily impaired	$	151,618	$	(8,244	)	$	10,996	$	(1,251	)	$	162,614	$	(9,495	)

XML

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (LOSS) (USD $) In Thousands, except Per Share data, unless otherwise specified	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
INTEREST INCOME:
Loans, including fees	$ 5,896	$ 5,553	$ 11,657	$ 11,279
Securities
Taxable	680	527	1,355	1,006
Tax exempt	718	681	1,451	1,349
Trading assets	43		80
Other	69	76	145	159
Total interest income	7,406	6,837	14,688	13,793
INTEREST EXPENSE:
Deposits	535	572	1,074	1,162
Repurchase agreements and other borrowings	25	24	48	31
Federal Home Loan Bank advances	309	164	623	330
Subordinated debentures	58	56	115	115
Total interest expense	927	816	1,860	1,638
Net interest income	6,479	6,021	12,828	12,155
Provision for loan losses	100	150	200	600
Net interest income after provision	6,379	5,871	12,628	11,555
NON-INTEREST INCOME:
Service charges	1,062	1,088	2,073	2,108
Loan service fee income, net	5	16	34	(36)
Trust department income	239	183	461	360
Gain on sale of available for sale securities, net	245	485	433	774
Gain on trading assets	91		162
Gain on sale of mortgage loans	241	514	398	1,140
Brokerage income	210	109	290	177
Debit card interchange income	530	505	1,009	953
Other	45	(73)	77	(46)
Total other income	2,668	2,827	4,937	5,430
NON-INTEREST EXPENSE:
Salaries and employee benefits	3,661	3,488	7,263	6,778
Occupancy expenses	830	829	1,678	1,547
Repossession expenses, net	25	(32)	23	35
FDIC Insurance	140	130	268	262
Legal and professional fees	322	237	458	390
Data processing	331	340	668	688
Debit card expenses	262	245	496	468
Amortization	37	57	74	114
Advertising and marketing	232	192	441	376
Taxes other than payroll, property and income	197	222	422	447
Telephone	87	43	176	110
Postage	85	72	157	147
Loan fees	83	123	160	246
Other	483	499	945	1,013
Total other expenses	6,775	6,445	13,229	12,621
Income before taxes	2,272	2,253	4,336	4,364
Income taxes	368	468	661	870
Net income	1,904	1,785	3,675	3,494
Other Comprehensive Income (Loss), net of tax:
Change in Unrealized Gains (losses) on Securities	1,730	(4,724)	4,981	(5,976)
Comprehensive Income (Loss)	$ 3,634	$ (2,939)	$ 8,656	$ (2,482)
Earnings per share
Basic (in dollars per share)	$ 0.70	$ 0.66	$ 1.36	$ 1.29
Diluted (in dollars per share)	$ 0.70	$ 0.66	$ 1.36	$ 1.29
Dividends per share (in dollars per share)	$ 0.25	$ 0.24	$ 0.50	$ 0.48

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EARNINGS PER SHARE

6 Months Ended

Jun. 30, 2014

EARNINGS PER SHARE

EARNINGS PER SHARE

5.  EARNINGS PER SHARE

Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period.  Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock based compensation agreements.

The factors used in the earnings per share computation follow:

	Six Months Ended
	June 30
	2014		2013
	(in thousands)
Basic Earnings Per Share
Net Income	$	3,675	$	3,494
Weighted average common shares outstanding	2,708		2,705
Basic earnings per share	$	1.36	$	1.29
Diluted Earnings Per Share
Net Income	$	3,675	$	3,494
Weighted average common shares outstanding	2,708		2,705
Add dilutive effects of assumed vesting of stock grants	—		4
Weighted average common and dilutive potential common shares outstanding	2,708		2,709
Diluted earnings per share	$	1.36	$	1.29

	Three Months Ended
	June 30
	2014		2013
	(in thousands)
Basic Earnings Per Share
Net Income	$	1,904	$	1,785
Weighted average common shares outstanding	2,708		2,704
Basic earnings per share	$	0.70	$	0.66
Diluted Earnings Per Share
Net Income	$	1,904	$	1,785
Weighted average common shares outstanding	2,708		2,704
Add dilutive effects of assumed vesting of stock grants	—		4
Weighted average common and dilutive potential common shares outstanding	2,708		2,708
Diluted earnings per share	$	0.70	$	0.66

Stock options for 12,725 shares of common stock for the six and three months ended June 30, 2014 and 19,500 shares of common stock for the six and three months ended June 30, 2013 were excluded from diluted earnings per share because their impact was antidilutive.

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REAL ESTATE OWNED

6 Months Ended

Jun. 30, 2014

REAL ESTATE OWNED

REAL ESTATE OWNED

4.  REAL ESTATE OWNED

Activity in real estate owned, net was as follows:

	Six Months Ended
	2014			2013
	(in thousands)
Beginning of year	$	3,379		$	4,168
Additions	419			335
Sales	(1,540		)	(924		)
(Additions) subtractions to valuation allowance, net	(10		)	10
Recovery from sale in valuation allowance	58			199
End of period	$	2,306		$	3,788

Activity in the valuation allowance was as follows:

	Six Months Ended
	2014			2013
	(in thousands)
Beginning of year	$	1,524		$	1,668
Additions (subtractions) to valuation allowance, net	10			(10		)
Recovery from sale	(58		)	(199		)
End of period	$	1,476		$	1,459

Expenses related to foreclosed assets include:

	Six Months Ended
	2014			2013
	(in thousands)
Net loss (gain) on sales	$	(70	)	$	(30	)
Additions (subtractions) to valuation allowance, net	10			(10		)
Operating expenses (receipts), net of rental income	13			45
Repossession expenses, net	23			35
End of period	$	(47	)	$	5

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FAIR VALUE MEASUREMENTS (Tables)

6 Months Ended

Jun. 30, 2014

FAIR VALUE MEASUREMENTS

Schedule of assets measured at fair value on a recurring basis

Fair Value Measurements at June 30, 2014 Using (In thousands):

			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Fair		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)
U. S. government agencies	$	67,272	$	—	$	67,272	$	—
States and municipals	87,538		—		87,538		—
Mortgage-backed - residential	69,064		—		69,064		—
Equity securities	294		294		—		—
Trading Assets	5,242		5,242		—		—
Total	$	229,410	$	5,536	$	223,874	$	—

Available for Sale Investment Securities Fair Value Measurements at December 31, 2013 Using (In thousands):

			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Fair		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)
U. S. government agencies	$	69,286	$	—	$	69,286	$	—
States and municipals	90,183		—		90,183		—
Mortgage-backed - residential	70,638		—		70,638		—
Equity securities	289		289		—		—
Total	$	230,396	$	289	$	230,107	$	—

Schedule of assets measured at fair value on a non-recurring basis

(In thousands)

	Fair Value Measurements at June 30, 2014 Using:
			Quoted Prices
			In Active		Other
			Markets for	Significant	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
Description	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans:
Real Estate Mortgage:
1-4 family residential	$	1,137	—	—	$	1,137
Multi-family residential	295		—	—	295
Non-farm & non-residential	1,276		—	—	1,276
Agricultural	220				220
Other real estate owned:
Residential	1,180		—	—	1,180
Loan servicing rights	344		—	—	344

(In thousands)

	Fair Value Measurements at December 31, 2013 Using:
			Quoted Prices
			In Active		Other
			Markets for	Significant	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
Description	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans:
Real Estate Mortgage:
1-4 family residential	$	1,420	—	—	$	1,420
Multi-family residential	199		—	—	199
Non-farm & non-residential	36		—	—	36
Agricultural	275		—	—	275
Other real estate owned:
Residential	1,361		—	—	1,361
Loan servicing rights	201		—	—	201

Schedule of quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis

June 30, 2014

(In thousands)

				Range
	Fair	Valuation	Unobservable	(Weighted
	Value	Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	1,137	sales comparison	adjustment for	0%-99%
			differences	(6%)
			between the
			comparable sales
Multi-family residential	295	sales comparison	adjustment for	0%-32%
			differences	(3%)
			between the
			comparable sales
Non-farm & non-residential	1,276	sales comparison	adjustment for	0%-61%
			differences	(20%)
			between the
			comparable sales
Agricultural:	220	sales comparison	adjustment for	5%-44%
			differences	(24%)
			between the
			comparable sales
Other real estate owned:
Residential	1,180	sales comparison	adjustment for	0%-32%
			differences	(6%)
			between the
			comparable sales
		income approach	capitalization rate	8%-8%
				(8%)
Loan Servicing Rights	344	discounted cash flow	constant prepayment	7%-22%
			rates	(11%)

December 31, 2013

(In thousands)

				Range
	Fair	Valuation	Unobservable	(Weighted
	Value	Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	1,420	sales comparison	adjustment for	0%-99%
			differences	(14%)
			between the
			comparable sales
Multi-family residential	199	sales comparison	adjustment for	12%-32%
			differences	(22%)
			between the
			comparable sales
Non-farm & non-residential	36	sales comparison	adjustment for	0%-61%
			differences	(31%)
			between the
			comparable sales
Agricultural	275	sales comparison	adjustment for	5%-44%
			differences	(20%)
			between the
			comparable sales
Other real estate owned:
Residential	1,361	sales comparison	adjustment for	0%-33%
			differences	(4%)
			between the
			comparable sales
		income approach	capitalization rate	8%-8%
				(8%)
Loan Servicing Rights	201	discounted cash flow	constant prepayment	7%-23%
			rates	(10%)

Schedule of carrying amounts and estimated fair values of financial instruments

June 30, 2014:

(in thousands)

	Carrying
	Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	15,039	$	15,039	$	—	$	—	$	15,039
Securities	224,168		294		223,874		—		224,168
Trading Assets	5,242		5,242		—				5,242
Mortgage loans held for sale	495		—		500		—		500
Loans, net	490,520		—		—		490,183		490,183
FHLB Stock	5,981		—		—		—		N/A
Interest receivable	3,254		—		1,216		2,038		3,254
Financial liabilities
Deposits	$	597,409	$	415,247	$	184,104	$	—	$	599,351
Securities sold under agreements to repurchase and other borrowings	11,297		—		11,459		—		11,459
Federal Funds Purchased	4,649		4,649		—		—		4,649
FHLB advances	81,414		—		77,953		—		77,953
Subordinated Debentures	7,217		—		—		7,210		7,210
Interest payable	679		—		670		9		679

December 31, 2013:

(in thousands)

	Carrying
	Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	23,160	$	23,160	$	—	$	—	$	23,160
Securities	230,396		289		230,107		—		230,396
Mortgage loans held for sale	223		—		229		—		229
Loans, net	463,214		—		—		459,796		459,796
FHLB Stock	6,731		—		—		—		N/A
Interest receivable	3,618		—		1,315		2,303		3,618
Financial liabilities
Deposits	$	617,400	$	428,239	$	191,523	$	—	$	619,762
Securities sold under agreements to repurchase and other borrowings	12,867		—		13,013		—		13,013
FHLB advances	57,847		—		52,220		—		52,220
Subordinated Debentures	7,217		—		—		7,217		7,217
Interest Payable	736				727		9		736

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LOANS (Tables)

6 Months Ended

Jun. 30, 2014

LOANS

Schedule of loans

(in thousands)

	6/30/14		12/31/13
Commercial	$	33,727	$	34,654
Real estate construction	13,393		11,177
Real estate mortgage:
1-4 family residential	208,620		194,388
Multi-family residential	18,805		16,420
Non-farm & non-residential	131,795		126,791
Agricultural	72,605		68,002
Consumer	16,947		17,065
Other	242		158
Total	$	496,134	$	468,655

Schedule of activity in the allowance for loan losses

	Six Months Ended June 30, 2014
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	230	$	200	$	—	$	201		$	231
Real estate Construction	358		—		8		(7		)	359
Real estate mortgage:
1-4 family residential	2,169		88		16		227			2,324
Multi-family residential	427		—		—		(100		)	327
Non-farm & non-residential	564		—		367		(197		)	734
Agricultural	578		—		25		(57		)	546
Consumer	548		153		41		107			543
Other	51		202		159		25			33
Unallocated	516		—		—		1			517
	$	5,441	$	643	$	616	$	200		$	5,614

	Three Months Ended June, 30 2014
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	208	$	—	$	—	$	23		$	231
Real estate Construction	329		—		4		26			359
Real estate mortgage:
1-4 family residential	2,111		25		4		234			2,324
Multi-family residential	401		—		—		(74		)	327
Non-farm & non-residential	930		—		—		(196		)	734
Agricultural	553		—		1		(8		)	546
Consumer	550		76		23		46			543
Other	11		105		72		55			33
Unallocated	523		—		—		(6		)	517
	$	5,616	$	206	$	104	$	100		$	5,614

	Six Months Ended June 30, 2013
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	150	$	11	$	28	$	(16	)	$	151
Real estate Construction	918		578		21		12			373
Real estate mortgage:
1-4 family residential	1,989		141		56		80			1,984
Multi-family residential	414		161		39		189			481
Non-farm & non-residential	628		—		18		31			677
Agricultural	845		86		3		(101		)	661
Consumer	517		252		18		265			548
Other	54		309		206		141			92
Unallocated	532		—		—		(1		)	531
	$	6,047	$	1,538	$	389	$	600		$	5,498

	Three Months Ended June 30, 2013
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	135	$	5	$	—	$	21		$	151
Real estate Construction	497		—		16		(140		)	373
Real estate mortgage:
1-4 family residential	1,974		16		30		(4		)	1,984
Multi-family residential	493		161		39		110			481
Non-farm & non-residential	611		—		10		56			677
Agricultural	747		—		1		(87		)	661
Consumer	511		104		7		134			548
Other	99		172		80		85			92
Unallocated	556		—		—		(25		)	531
	$	5,623	$	458	$	183	$	150		$	5,498

Schedule of allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method

As of June 30, 2014

(in thousands)

	Individually		Collectively
	Evaluated for		Evaluated for
	Impairment		Impairment		Total
Allowance for Loan Losses:
Commercial	$	—	$	231	$	231
Real estate construction	—		359		359
Real estate mortgage:
1-4 family residential	326		1,998		2,324
Multi-family residential	50		277		327
Non-farm & non-residential	182		552		734
Agricultural	260		286		546
Consumer	—		543		543
Other	—		33		33
Unallocated	—		517		517
	$	818	$	4,796	$	5,614
Loans:
Commercial	$	—	$	33,727	$	33,727
Real estate construction	—		13,393		13,393
Real estate mortgage:
1-4 family residential	3,196		205,424		208,620
Multi-family residential	345		18,460		18,805
Non-farm & non-residential	3,937		127,858		131,795
Agricultural	9,534		63,071		72,605
Consumer	—		16,947		16,947
Other	—		242		242
	$	17,012	$	479,122	$	496,134

As of December 31, 2013

(in thousands)

	Individually		Collectively
	Evaluated for		Evaluated for
	Impairment		Impairment		Total
Allowance for Loan Losses:
Commercial	$	—	$	230	$	230
Real estate construction	—		358		358
Real estate mortgage:
1-4 family residential	228		1,941		2,169
Multi-family residential	76		351		427
Non-farm & non-residential	110		454		564
Agricultural	298		280		578
Consumer	—		548		548
Other	—		51		51
Unallocated	—		516		516
	$	712	$	4,729	$	5,441
Loans:
Commercial	$	—	$	34,654	$	34,654
Real estate construction	—		11,177		11,177
Real estate mortgage:
1-4 family residential	2,873		191,515		194,388
Multi-family residential	274		16,146		16,420
Non-farm & non-residential	2,716		124,075		126,791
Agricultural	7,673		60,329		68,002
Consumer	—		17,065		17,065
Other	—		158		158
	$	13,536	$	455,119	$	468,655

Schedule of loans individually evaluated for impairment by class of loans

The following table presents loans individually evaluated for impairment by class of loans as of and for the six months ended June 30, 2014 (in thousands):

	Unpaid				Allowance for		Average		Interest		Cash Basis
	Principal		Recorded		Loan Losses		Recorded		Income		Interest
	Balance		Investment		Allocated		Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—	$	—	$	—	$	—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	1,302		1,302		—		1,002		—		—
Multi-family residential	—		—		—		—		—		—
Non-farm & non-residential	—		—		—		267		—		—
Agricultural	4,780		4,780		—		2,684		80		80
Consumer	—		—		—		—		—		—
Other	—		—		—		—		—		—
With an allowance recorded:
Commercial	—		—		—		—		—		—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	1,894		1,894		326		1,991		44		44
Multi-family residential	345		345		50		323		5		5
Non-farm & non-residential	3,937		3,937		182		3,043		73		73
Agricultural	4,754		4,754		260		5,034		19		19
Consumer	—		—		—		—		—		—
Other	—		—		—		—				—
Total	$	17,012	$	17,012	$	818	$	14,344	$	221	$	221

The following table presents loans individually evaluated for impairment by class of loans as of and for the year ended December 31, 2013 (in thousands):

	Unpaid				Allowance for		Average		Interest		Cash Basis
	Principal		Recorded		Loan Losses		Recorded		Income		Interest
	Balance		Investment		Allocated		Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—	$	—	$	—	$	—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	824		793		—		1,217		28		28
Multi-family residential	—		—		—		—		—		—
Non-farm & non-residential	1,650		803		—		1,471		81		81
Agricultural	2,912		2,826		—		2,802		123		123
Consumer	—		—		—		—		—		—
Other	—		—		—		—		—		—
With an allowance recorded:
Commercial	—		—		—		—		—		—
Real estate construction	—		—		—		607		—		—
Real estate mortgage
1-4 family residential	2,080		2,080		228		1,349		96		96
Multi-family residential	274		274		76		443		3		3
Non-farm & non-residential	1,913		1,913		110		1,938		79		79
Agricultural	4,847		4,847		298		4,864		287		287
Consumer	—		—		—		—		—		—
Other	—		—		—		—				—
Total	$	14,501	$	13,536	$	712	$	14,691	$	697	$	697

The following table presents loans individually evaluated for impairment by class of loans as of and for the six months ended June 30, 2013 (in thousands):

	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,253		21		21
Multi-family residential	—		—		—
Non-farm & non-residential	1,625		40		40
Agricultural	2,873		9		9
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—
Real estate mortgage:
1-4 family residential	874		21		21
Multi-family residential	511		3		3
Non-farm & non-residential	2,641		40		40
Agricultural	4,711		57		57
Consumer	—		—		—
Other	—				—
Total	$	14,488	$	191	$	191

The following tables present loans individually evaluated for impairment by class of loans for the three months ending June 30, 2014 and June 30, 2013 (in thousands):

	Three Months Ending June 30, 2014
	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,562		—		—
Multi-family residential	—		—		—
Non-farm & non-residential	—		—		—
Agricultural	2,836		77		77
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,377		38		38
Multi-family residential	310		1		1
Non-farm & non-residential	3,553		48		48
Agricultural	4,755		19		19
Consumer	—		—		—
Other	—		—		—
Total	$	14,393	$	183	$	183

	Three Months Ending June 30, 2013
	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,035		2		2
Multi-family residential	—		—		—
Non-farm & non-residential	1,065		20		20
Agricultural	2,854		3		3
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,016		7		7
Multi-family residential	669		1		1
Non-farm & non-residential	2,421		20		20
Agricultural	4,744		7		7
Consumer	—		—		—
Other	—		—		—
Total	$	13,804	$	60	$	60

Schedule of recorded investment in nonaccrual, loans past due over 90 days still on accrual and accruing troubled debt restructurings by class of loans

As of June 30, 2014

(in thousands)

			Loans Past Due
			Over 90 Days		Accruing
			Still		Troubled Debt
	Nonaccrual		Accruing		Restructurings
Commercial	$	299	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	2,350		266		487
Multi-family residential	85		—		—
Non-farm & non-residential	988		—		1,853
Agricultural	216		—		4,530
Consumer	—		—		—
Total	$	3,938	$	266	$	6,870

As of December 31, 2013

(in thousands)

			Loans Past Due
			Over 90 Days		Accruing
			Still		Troubled Debt
	Nonaccrual		Accruing		Restructurings
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,171		314		493
Multi-family residential	275		—		—
Non-farm & non-residential	803		—		1,878
Agricultural	717		232		4,530
Consumer	8		8		—
Total	$	2,974	$	554	$	6,901

Schedule of aging of the recorded investment in past due and non-accrual loans

As of June 30, 2014

(in thousands)

	30–59		60–89		Loans Past Due				Total
	Days		Days		Over 90 Days				Past Due &		Loans Not
	Past Due		Past Due		Still Accruing		Non-accrual		Non-accrual		Past Due
Commercial	$	79	$	—	$	—	$	299	$	378	$	33,349
Real estate construction	—		—		—		—		—		13,393
Real estate mortgage:
1-4 family residential	1,788		433		266		2,350		4,837		203,783
Multi-family residential	—		260		—		85		345		18,460
Non-farm & non-residential	777		—		—		988		1,765		130,030
Agricultural	312		—		—		216		528		72,077
Consumer	151		44		—		—		195		16,752
Other	—		—		—		—		—		242
Total	$	3,107	$	737	$	266	$	3,938	$	8,048	$	488,086

As of December 31, 2013

(in thousands)

	30–59		60–89		Greater than				Total
	Days		Days		90 Days				Past Due &		Loans Not
	Past Due		Past Due		Past Due		Non-accrual		Non-accrual		Past Due
Commercial	$	49	$	—	$	—	$	—	$	49	$	34,605
Real estate construction	175		—		—		—		175		11,002
Real estate mortgage:
1-4 family residential	1,981		1,285		314		1,171		4,751		189,637
Multi-family residential	—		—		—		275		275		16,145
Non-farm & non-residential	503		—		—		803		1,306		125,485
Agricultural	155		—		232		717		1,104		66,898
Consumer	102		27		8		8		145		16,920
Other	—		—		—		—		—		158
Total	$	2,965	$	1,312	$	554	$	2,974	$	7,805	$	460,850

Schedule of risk category of loans by class of loans

As of June 30, 2014

(in thousands)

			Special
	Pass		Mention		Substandard		Doubtful
Commercial	$	31,932	$	1,241	$	554	$	—
Real estate construction	11,934		1,459		—		—
Real estate mortgage:
1-4 family residential	190,893		10,040		7,666		21
Multi-family residential	16,738		1,555		512		—
Non-farm & non-residential	125,306		5,050		1,439		—
Agricultural	58,709		12,353		1,543		—
Total	$	435,512	$	31,698	$	11,714	$	21

As of December 31, 2013

(in thousands)

			Special
	Pass		Mention		Substandard		Doubtful
Commercial	$	32,771	$	1,587	$	296	$	—
Real estate construction	9,660		1,517		—		—
Real estate mortgage:
1-4 family residential	176,553		10,346		7,489		—
Multi-family residential	14,392		1,579		449		—
Non-farm & non-residential	120,195		5,327		1,269		—
Agricultural	56,713		7,297		3,992		—
Total	$	410,284	$	27,653	$	13,495	$	—

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FAIR VALUE MEASUREMENTS

6 Months Ended

Jun. 30, 2014

FAIR VALUE MEASUREMENTS

FAIR VALUE MEASUREMENTS

8.  FAIR VALUE MEASUREMENTS

ASC Topic 820, “Fair Value Measurements and Disclosures”, defines fair value, establishes a framework for measuring fair value, and sets forth disclosures about fair value measurements.  ASC Topic 825, “Financial Instruments”, allows entities to choose to measure certain financial assets and liabilities at fair value.  The Company has not elected the fair value option for any financial assets or liabilities.

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

Level 1 — Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2 — Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

Level 3 — Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

The Company used the following methods and significant assumptions to estimate the fair value:

Investment Securities and Trading Assets:  The fair values for available for sale investment securities and trading assets are determined by quoted market prices, if available (Level 1).  For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2).  For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3).

Impaired Loans:  The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent third party real estate appraisals.  These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available.  Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.

Other Real Estate Owned:  The fair value of certain commercial and residential real estate properties classified as other real estate owned (OREO) are generally based on third party appraisals of the property, resulting in a Level 3 classification.   In cases where the carrying amount exceeds the fair value, less costs to sell, an impairment loss is recognized.

Mortgage Servicing Rights:  Fair value is based on market prices for comparable mortgage servicing contracts, when available, or alternatively based on a valuation model that calculates the present value of estimated future net servicing income, resulting in a Level 3 classification.

Assets and Liabilities Measured on a Recurring Basis

Available for sale investment securities and trading assets are the Company’s only balance sheet items that meet the disclosure requirements for instruments measured at fair value on a recurring basis.  Disclosures are as follows in the tables below.

Fair Value Measurements at June 30, 2014 Using (In thousands):

			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Fair		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)
U. S. government agencies	$	67,272	$	—	$	67,272	$	—
States and municipals	87,538		—		87,538		—
Mortgage-backed - residential	69,064		—		69,064		—
Equity securities	294		294		—		—
Trading Assets	5,242		5,242		—		—
Total	$	229,410	$	5,536	$	223,874	$	—

Available for Sale Investment Securities Fair Value Measurements at December 31, 2013 Using (In thousands):

			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Fair		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)
U. S. government agencies	$	69,286	$	—	$	69,286	$	—
States and municipals	90,183		—		90,183		—
Mortgage-backed - residential	70,638		—		70,638		—
Equity securities	289		289		—		—
Total	$	230,396	$	289	$	230,107	$	—

The Company held no trading assets at December 31, 2013.  Also, there were no transfers between level 1 and level 2 during 2014 or 2013.

Assets measured at fair value on a non-recurring basis are summarized below:

(In thousands)

	Fair Value Measurements at June 30, 2014 Using:
			Quoted Prices
			In Active		Other
			Markets for	Significant	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
Description	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans:
Real Estate Mortgage:
1-4 family residential	$	1,137	—	—	$	1,137
Multi-family residential	295		—	—	295
Non-farm & non-residential	1,276		—	—	1,276
Agricultural	220				220
Other real estate owned:
Residential	1,180		—	—	1,180
Loan servicing rights	344		—	—	344

(In thousands)

	Fair Value Measurements at December 31, 2013 Using:
			Quoted Prices
			In Active		Other
			Markets for	Significant	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
Description	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans:
Real Estate Mortgage:
1-4 family residential	$	1,420	—	—	$	1,420
Multi-family residential	199		—	—	199
Non-farm & non-residential	36		—	—	36
Agricultural	275		—	—	275
Other real estate owned:
Residential	1,361		—	—	1,361
Loan servicing rights	201		—	—	201

Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $2.9 million, which includes a valuation allowance of $370 thousand at June 30, 2014.  During the first six months of 2014, five new loans became impaired resulting in an additional provision for loan losses of $536 thousand.  The total allowance for specific impaired loans increased $106 thousand for the six months ending June 30, 2014 and decreased $28 thousand for the three months ending June 30, 2014. Other real estate owned, which is measured at fair value less costs to sell, had a net carrying amount of $1.2 million, which is made up of the outstanding balance of $2.7 million, net of a valuation allowance of $1.5 million at June 30, 2014.  The Company recorded $10 thousand in write-downs of other real estate owned properties for the six months and three months ending June 30, 2014 and none for the same time periods in 2013

Loan servicing rights, which are carried at the lower of cost or fair value, were carried at their fair value of $344 thousand, which is made up of the outstanding balance of $414 thousand, net of a valuation allowance of $70 thousand at June 30, 2014.  The Bank recorded net write-downs of $12 thousand for the six months ending June 30, 2014 and write-downs of $17 thousand for the three months ending June 30, 2014.  At December 31, 2013, loan servicing rights were carried at their fair value of $201 thousand, which is made up of the outstanding balance of $260 thousand, net of a valuation allowance of $59 thousand.

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at June 30, 2014 and December 31, 2013:

June 30, 2014

(In thousands)

				Range
	Fair	Valuation	Unobservable	(Weighted
	Value	Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	1,137	sales comparison	adjustment for	0%-99%
			differences	(6%)
			between the
			comparable sales
Multi-family residential	295	sales comparison	adjustment for	0%-32%
			differences	(3%)
			between the
			comparable sales
Non-farm & non-residential	1,276	sales comparison	adjustment for	0%-61%
			differences	(20%)
			between the
			comparable sales
Agricultural:	220	sales comparison	adjustment for	5%-44%
			differences	(24%)
			between the
			comparable sales
Other real estate owned:
Residential	1,180	sales comparison	adjustment for	0%-32%
			differences	(6%)
			between the
			comparable sales
		income approach	capitalization rate	8%-8%
				(8%)
Loan Servicing Rights	344	discounted cash flow	constant prepayment	7%-22%
			rates	(11%)

December 31, 2013

(In thousands)

				Range
	Fair	Valuation	Unobservable	(Weighted
	Value	Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	1,420	sales comparison	adjustment for	0%-99%
			differences	(14%)
			between the
			comparable sales
Multi-family residential	199	sales comparison	adjustment for	12%-32%
			differences	(22%)
			between the
			comparable sales
Non-farm & non-residential	36	sales comparison	adjustment for	0%-61%
			differences	(31%)
			between the
			comparable sales
Agricultural	275	sales comparison	adjustment for	5%-44%
			differences	(20%)
			between the
			comparable sales
Other real estate owned:
Residential	1,361	sales comparison	adjustment for	0%-33%
			differences	(4%)
			between the
			comparable sales
		income approach	capitalization rate	8%-8%
				(8%)
Loan Servicing Rights	201	discounted cash flow	constant prepayment	7%-23%
			rates	(10%)

Fair Value of Financial Instruments

The carrying amounts and estimated fair values of financial instruments, at June 30, 2014 and December 31, 2013 are as follows:

June 30, 2014:

(in thousands)

	Carrying
	Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	15,039	$	15,039	$	—	$	—	$	15,039
Securities	224,168		294		223,874		—		224,168
Trading Assets	5,242		5,242		—				5,242
Mortgage loans held for sale	495		—		500		—		500
Loans, net	490,520		—		—		490,183		490,183
FHLB Stock	5,981		—		—		—		N/A
Interest receivable	3,254		—		1,216		2,038		3,254
Financial liabilities
Deposits	$	597,409	$	415,247	$	184,104	$	—	$	599,351
Securities sold under agreements to repurchase and other borrowings	11,297		—		11,459		—		11,459
Federal Funds Purchased	4,649		4,649		—		—		4,649
FHLB advances	81,414		—		77,953		—		77,953
Subordinated Debentures	7,217		—		—		7,210		7,210
Interest payable	679		—		670		9		679

December 31, 2013:

(in thousands)

	Carrying
	Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	23,160	$	23,160	$	—	$	—	$	23,160
Securities	230,396		289		230,107		—		230,396
Mortgage loans held for sale	223		—		229		—		229
Loans, net	463,214		—		—		459,796		459,796
FHLB Stock	6,731		—		—		—		N/A
Interest receivable	3,618		—		1,315		2,303		3,618
Financial liabilities
Deposits	$	617,400	$	428,239	$	191,523	$	—	$	619,762
Securities sold under agreements to repurchase and other borrowings	12,867		—		13,013		—		13,013
FHLB advances	57,847		—		52,220		—		52,220
Subordinated Debentures	7,217		—		—		7,217		7,217
Interest Payable	736				727		9		736

The methods and assumptions, not previously presented, used to estimate fair values are described as follows:

Cash and Cash Equivalents - The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.

FHLB Stock - It is not practical to determine the fair value of FHLB stock due to restrictions placed on its transferability.

Loans - Fair values of loans, excluding loans held for sale, are estimated as follows:  For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification.  Fair values for other 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 resulting in a Level 3 classification.  Impaired loans are valued at the lower of cost or fair value as described previously.  The methods used to estimate the fair value of loans do not necessarily represent an exit price.

The fair value of loans held for sale is estimated based upon binding contracts and quotes from third party investors resulting in a Level 2 classification.

Deposits - The fair values disclosed for demand deposits (e.g., interest and non-interest checking, passbook savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amount) resulting in a Level 1 classification.  The carrying amounts of variable rate, fixed-term money market accounts and certificates of deposit approximate their fair values at the reporting date resulting in a Level 1 classification.  Fair values for fixed rate certificates of deposit are estimated using a discounted cash flows calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

Securities Sold Under Agreements to Repurchase and Other Borrowings - The carrying amounts of borrowings under repurchase agreements approximate their fair values resulting in a Level 2 classification.

The carrying amount of the Company’s variable rate borrowings approximate their fair values resulting in a Level 2 classification.

Federal Funds Purchased - The carrying amounts of federal funds purchased approximate fair values and are classified as Level 1.

FHLB Advances and Subordinated Debentures - The fair values of the Company’s FHLB advances are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 2 classification.

The fair values of the Company’s Subordinated Debentures are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.

Accrued Interest Receivable/Payable - The carrying amounts of accrued interest approximate fair value resulting in a Level 2 or Level 3 classification based on the level of the related asset/liability.

Off-balance Sheet Instruments - Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing.  The fair value of off-balance sheet instruments is not material.

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STOCK COMPENSATION

6 Months Ended

Jun. 30, 2014

STOCK COMPENSATION

STOCK COMPENSATION

6.  STOCK COMPENSATION

We have four stock based compensation plans as described below.

Two Stock Option Plans

Under our now expired 1999 Employee Stock Option Plan (the “1999 Plan”), we granted certain officers and key employees stock option awards which vest and become fully exercisable at the end of five years and provide for issuance of up to 100,000 options.  Under the now expired 1993 Non-Employee Directors Stock Ownership Incentive Plan (together with the 1999 Plan, the “Stock Option Plans”), we also granted certain directors stock option awards which vest and become fully exercisable immediately and provide for issuance of up to 20,000 options.  For each Stock Option Plan, the exercise price of each option, which has a ten year life, was equal to the market price of our stock on the date of grant.

The combined summary of activity for 2014 in the expired Stock Option Plans follows:

					Weighted
			Weighted		Average
			Average		Remaining	Aggregate
			Exercise		Contractual	Intrinsic
	Shares		Price		Term	Value
Outstanding, beginning of year	19,100		$	31.50
Granted	—		—
Forfeited or expired	(6,375	)	33.56
Exercised	—		—
Outstanding, end of period	12,725		$	30.46	10.9 months	$	—
Vested and expected to vest	12,725		$	30.46	10.9 months	$	—
Exercisable, end of period	12,725		$	30.46	10.9 months	$	—

As of June 30, 2014, there was no unrecognized compensation cost related to nonvested stock options granted under either Stock Option Plan.  Since both Stock Option Plans have expired, no additional options can be granted under either of these plans.

2005 Restricted Stock Grant Plan

On May 10, 2005, our stockholders approved a restricted stock grant plan.  Total shares issuable under the plan are 50,000.  We issued 7,475 shares during 2014 and 6,065 shares during 2013.  There were no shares forfeited during the first six months of 2014 or 2013.  As of June 30, 2014, the restricted stock grant plan allows for additional restricted stock share awards of up to 4,995 shares.

A summary of changes in the Company’s nonvested shares for the year follows:

			Weighted-Average			Fair
			Grant-Date			Value
Nonvested Shares	Shares		Fair Value			Per Share
Nonvested at January 1, 2014	15,565		$	280,016		$	17.99
Granted	7,475		181,194			24.24
Vested	(4,756	)	(84,518		)	17.77
Forfeited	—		—			—
Nonvested at June 30, 2014	18,284		$	376,692		$	20.60

As of June 30, 2014, there was $327,197 of total unrecognized compensation cost related to nonvested shares granted under the restricted stock grant plan.  The cost is expected to be recognized over a weighted-average period of 5 years.

2009 Stock Award Plan

On May 13, 2009, our stockholders approved a stock award plan that provides for the granting of both incentive and nonqualified stock options and other share based awards.  Total shares issuable under the plan are 150,000.  We issued no stock grants during the first six months of 2014 and 900 shares during the first six months of 2013.  As of June 30, 2014, 149,100 shares are still available for issuance.

A summary of changes in the Company’s nonvested shares for the year follows:

			Weighted-Average			Fair
			Grant-Date			Value
Nonvested Shares	Shares		Fair Value			Per Share
Nonvested at January 1, 2014	900		$	20,880		$	23.20
Granted	—		—			—
Vested	(180	)	(4,176		)	23.20
Forfeited	—		—			—
Nonvested at June 30, 2014	720		$	16,704		$	23.20

As of June 30, 2014, there was $15,312 of total unrecognized compensation cost related to nonvested shares granted under the restricted stock grant plan.  The cost is expected to be recognized over a weighted-average period of 5 years.

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OTHER BORROWINGS

6 Months Ended

Jun. 30, 2014

OTHER BORROWINGS

OTHER BORROWINGS

7.  OTHER BORROWINGS

The Company had a $5 million revolving promissory note which was scheduled to mature July 27, 2014.  The Company renewed this note with similar terms as the original note, with the maturity date of July 26, 2015.  The Company has no outstanding balances related to this promissory note at June 30, 2014.

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CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT

6 Months Ended

Jun. 30, 2014

CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT

CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT

9. CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT

Changes in Accumulated Other Comprehensive Income by Component (1)  (unaudited)

(in thousands)

	Unrealized
	Gains and Losses on
	Available for Sale
	Securities
	For the Six Months Ending June 30
	2014			2013
Beginning Balance	$	(5,126	)	$	4,283
Unrealized holding gains (losses) for the period, net of tax	5,267			(5,465		)
Reclassification adjustment for:
Securities gains realized in income, net	(433		)	(774		)
Income taxes	(147		)	(263		)
	(286		)	(511		)
Net current period other comprehensive income	4,981			(5,976		)
Ending balance	$	(145	)	$	(1,693	)

(1) All amounts are net of tax.

	Unrealized
	Gains and Losses on
	Available for Sale
	Securities
	For the Three Months Ending June 30
	2014			2013
Beginning Balance	$	(1,875	)	$	3,031
Unrealized holding gains (losses) for the period, net of tax	1,892			(4,404		)
Reclassification adjustment for:
Securities gains realized in income, net	(245		)	(485		)
Income taxes	(83		)	(165		)
	(162		)	(320		)
Net current period other comprehensive income	1,730			(4,724		)
Ending balance	$	(145	)	$	(1,693	)

(2) All amounts are net of tax.

The following is significant amounts reclassified out of each component of accumulated other comprehensive Income (Loss) for the six months ending June 30, 2014 and 2013:

June 30, 2014

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(433	)	Securities gains, net
	147			Provision for income taxes
	(286		)	Net of tax

June 30, 2013

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(774	)	Securities gains, net
	263			Provision for income taxes
	(511		)	Net of tax

The following is significant amounts reclassified out of each component of accumulated other comprehensive Income (Loss) for the three months ending June 30, 2014 and 2013:

June 30, 2014

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(245	)	Securities gains, net
	83			Provision for income taxes
	(162		)	Net of tax

June 30, 2013

Details about	Amount			Affected Line Item
Accumulated Other	Reclassified From			in the Statement
Comprehensive	Accumulated Other			Where Net
Income Components	Comprehensive Income			Income is Presented
Unrealized gains and losses on available-for-sale securities	$	(485	)	Securities gains, net
	165			Provision for income taxes
	(320		)	Net of tax

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LOANS (Details 6) (USD $) In Thousands, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Aging of recorded investment in past due and non-accrual loans
30-59 Days Past Due	$ 3,107	$ 2,965
60-89 Days Past Due	737	1,312
Greater than 90 Days Past Due	266	554
Non-accrual	3,938	2,974
Total Past Due and Non-accrual	8,048	7,805
Loans Not Past Due	488,086	460,850
Commercial
Aging of recorded investment in past due and non-accrual loans
30-59 Days Past Due	79	49
Non-accrual	299
Total Past Due and Non-accrual	378	49
Loans Not Past Due	33,349	34,605
Real estate construction
Aging of recorded investment in past due and non-accrual loans
30-59 Days Past Due		175
Total Past Due and Non-accrual		175
Loans Not Past Due	13,393	11,002
1-4 family residential
Aging of recorded investment in past due and non-accrual loans
30-59 Days Past Due	1,788	1,981
60-89 Days Past Due	433	1,285
Greater than 90 Days Past Due	266	314
Non-accrual	2,350	1,171
Total Past Due and Non-accrual	4,837	4,751
Loans Not Past Due	203,783	189,637
Multi-family residential
Aging of recorded investment in past due and non-accrual loans
60-89 Days Past Due	260
Non-accrual	85	275
Total Past Due and Non-accrual	345	275
Loans Not Past Due	18,460	16,145
Non-farm & non-residential
Aging of recorded investment in past due and non-accrual loans
30-59 Days Past Due	777	503
Non-accrual	988	803
Total Past Due and Non-accrual	1,765	1,306
Loans Not Past Due	130,030	125,485
Agricultural
Aging of recorded investment in past due and non-accrual loans
30-59 Days Past Due	312	155
Greater than 90 Days Past Due		232
Non-accrual	216	717
Total Past Due and Non-accrual	528	1,104
Loans Not Past Due	72,077	66,898
Consumer
Aging of recorded investment in past due and non-accrual loans
30-59 Days Past Due	151	102
60-89 Days Past Due	44	27
Greater than 90 Days Past Due		8
Non-accrual		8
Total Past Due and Non-accrual	195	145
Loans Not Past Due	16,752	16,920
Other
Aging of recorded investment in past due and non-accrual loans
Loans Not Past Due	$ 242	$ 158

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EARNINGS PER SHARE (Tables)

6 Months Ended

Jun. 30, 2014

EARNINGS PER SHARE

Schedule of factors used in the earnings per share computation

	Six Months Ended
	June 30
	2014		2013
	(in thousands)
Basic Earnings Per Share
Net Income	$	3,675	$	3,494
Weighted average common shares outstanding	2,708		2,705
Basic earnings per share	$	1.36	$	1.29
Diluted Earnings Per Share
Net Income	$	3,675	$	3,494
Weighted average common shares outstanding	2,708		2,705
Add dilutive effects of assumed vesting of stock grants	—		4
Weighted average common and dilutive potential common shares outstanding	2,708		2,709
Diluted earnings per share	$	1.36	$	1.29

	Three Months Ended
	June 30
	2014		2013
	(in thousands)
Basic Earnings Per Share
Net Income	$	1,904	$	1,785
Weighted average common shares outstanding	2,708		2,704
Basic earnings per share	$	0.70	$	0.66
Diluted Earnings Per Share
Net Income	$	1,904	$	1,785
Weighted average common shares outstanding	2,708		2,704
Add dilutive effects of assumed vesting of stock grants	—		4
Weighted average common and dilutive potential common shares outstanding	2,708		2,708
Diluted earnings per share	$	0.70	$	0.66

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SECURITIES (Details) (USD $) In Thousands, unless otherwise specified	Jun. 30, 2014	Dec. 31, 2013
Securities Available for Sale
Amortized Cost	$ 224,388	$ 238,163
Gross Unrealized Gains	3,252	1,728
Gross Unrealized Losses	(3,472)	(9,495)
Fair Value	224,168	230,396
U.S. government agencies
Securities Available for Sale
Amortized Cost	69,062	73,930
Gross Unrealized Gains	19	51
Gross Unrealized Losses	(1,809)	(4,695)
Fair Value	67,272	69,286
States and political subdivisions
Securities Available for Sale
Amortized Cost	85,375	91,043
Gross Unrealized Gains	2,894	1,614
Gross Unrealized Losses	(731)	(2,474)
Fair Value	87,538	90,183
Mortgage-backed - residential
Securities Available for Sale
Amortized Cost	69,681	72,920
Gross Unrealized Gains	315	44
Gross Unrealized Losses	(932)	(2,326)
Fair Value	69,064	70,638
Equity securities
Securities Available for Sale
Amortized Cost	270	270
Gross Unrealized Gains	24	19
Fair Value	$ 294	$ 289

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CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME BY COMPONENT (Details) (USD $) In Thousands, unless otherwise specified	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
Changes in accumulated other comprehensive income (loss) by component
Beginning Balance	$ (1,875)	$ 3,031	$ (5,126)	$ 4,283
Unrealized holding gains (losses) for the period, net of tax	1,892	(4,404)	5,267	(5,465)
Reclassification adjustment for:
Securities gains realized in income, net	(245)	(485)	(433)	(774)
Income taxes	(83)	(165)	(147)	(263)
Securities gains realized in income, net of income taxes	(162)	(320)	(286)	(511)
Net current period other comprehensive income	1,730	(4,724)	4,981	(5,976)
Ending Balance	$ (145)	$ (1,693)	$ (145)	$ (1,693)

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STOCK COMPENSATION (Details 2) (Stock Options)	6 Months Ended
	Jun. 30, 2014
Stock Option Plans
Stock Based Compensation
Life of awards	10 years
1999 Plan
Stock Based Compensation
Vesting period	5 years
Number of shares authorized for issuance	100,000
1993 Non-Employee Directors Stock Ownership Incentive Plan
Stock Based Compensation
Number of shares authorized for issuance	20,000

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CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (USD $) In Thousands, except Share data, unless otherwise specified		Total	Common Stock		Retained Earnings	Accumulated Other Comprehensive Income/(Loss)
Balances at Dec. 31, 2013		$ 67,673	$ 12,570	[1]	$ 60,229	$ (5,126)
Balances (in shares) at Dec. 31, 2013	[1]		2,717,434
Increase (Decrease) in Stockholders' Equity
Common stock issued (in shares)	[1]		7,503
Stock based compensation expense		55	55	[1]
Common stock purchased and retired		(91)	(17)	[1]	(74)
Common stock purchased and retired (in shares)	[1]		(3,795)
Net change in unrealized gain (loss) on securities available for sale, net of tax and reclassifications		4,981				4,981
Net income		3,675			3,675
Dividends declared - $0.50 per share		(1,361)			(1,361)
Balances at Jun. 30, 2014		$ 74,932	$ 12,608	[1]	$ 62,469	$ (145)
Balances (in shares) at Jun. 30, 2014	[1]		2,721,142

[1] Common Stock has no par value; amount includes Additional Paid-in Capital

XML

LOANS

6 Months Ended

Jun. 30, 2014

LOANS

LOANS

3. LOANS

Loans at period-end are as follows:

(in thousands)

	6/30/14		12/31/13
Commercial	$	33,727	$	34,654
Real estate construction	13,393		11,177
Real estate mortgage:
1-4 family residential	208,620		194,388
Multi-family residential	18,805		16,420
Non-farm & non-residential	131,795		126,791
Agricultural	72,605		68,002
Consumer	16,947		17,065
Other	242		158
Total	$	496,134	$	468,655

Activity in the allowance for loan losses for the six and three month periods indicated was as follows:

	Six Months Ended June 30, 2014
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	230	$	200	$	—	$	201		$	231
Real estate Construction	358		—		8		(7		)	359
Real estate mortgage:
1-4 family residential	2,169		88		16		227			2,324
Multi-family residential	427		—		—		(100		)	327
Non-farm & non-residential	564		—		367		(197		)	734
Agricultural	578		—		25		(57		)	546
Consumer	548		153		41		107			543
Other	51		202		159		25			33
Unallocated	516		—		—		1			517
	$	5,441	$	643	$	616	$	200		$	5,614

	Three Months Ended June, 30 2014
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	208	$	—	$	—	$	23		$	231
Real estate Construction	329		—		4		26			359
Real estate mortgage:
1-4 family residential	2,111		25		4		234			2,324
Multi-family residential	401		—		—		(74		)	327
Non-farm & non-residential	930		—		—		(196		)	734
Agricultural	553		—		1		(8		)	546
Consumer	550		76		23		46			543
Other	11		105		72		55			33
Unallocated	523		—		—		(6		)	517
	$	5,616	$	206	$	104	$	100		$	5,614

	Six Months Ended June 30, 2013
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	150	$	11	$	28	$	(16	)	$	151
Real estate Construction	918		578		21		12			373
Real estate mortgage:
1-4 family residential	1,989		141		56		80			1,984
Multi-family residential	414		161		39		189			481
Non-farm & non-residential	628		—		18		31			677
Agricultural	845		86		3		(101		)	661
Consumer	517		252		18		265			548
Other	54		309		206		141			92
Unallocated	532		—		—		(1		)	531
	$	6,047	$	1,538	$	389	$	600		$	5,498

	Three Months Ended June 30, 2013
	(in thousands)
	Beginning									Ending
	Balance		Charge-offs		Recoveries		Provision			Balance
Commercial	$	135	$	5	$	—	$	21		$	151
Real estate Construction	497		—		16		(140		)	373
Real estate mortgage:
1-4 family residential	1,974		16		30		(4		)	1,984
Multi-family residential	493		161		39		110			481
Non-farm & non-residential	611		—		10		56			677
Agricultural	747		—		1		(87		)	661
Consumer	511		104		7		134			548
Other	99		172		80		85			92
Unallocated	556		—		—		(25		)	531
	$	5,623	$	458	$	183	$	150		$	5,498

The following tables present the balance in the allowance for loan losses and the recorded investment (excluding accrued interest receivable amounting to $2.0 million as of June 30, 2014 and $2.3 million at December 31, 2013) in loans by portfolio segment and based on impairment method as of June 30, 2014 and December 31, 2013:

As of June 30, 2014

(in thousands)

	Individually		Collectively
	Evaluated for		Evaluated for
	Impairment		Impairment		Total
Allowance for Loan Losses:
Commercial	$	—	$	231	$	231
Real estate construction	—		359		359
Real estate mortgage:
1-4 family residential	326		1,998		2,324
Multi-family residential	50		277		327
Non-farm & non-residential	182		552		734
Agricultural	260		286		546
Consumer	—		543		543
Other	—		33		33
Unallocated	—		517		517
	$	818	$	4,796	$	5,614
Loans:
Commercial	$	—	$	33,727	$	33,727
Real estate construction	—		13,393		13,393
Real estate mortgage:
1-4 family residential	3,196		205,424		208,620
Multi-family residential	345		18,460		18,805
Non-farm & non-residential	3,937		127,858		131,795
Agricultural	9,534		63,071		72,605
Consumer	—		16,947		16,947
Other	—		242		242
	$	17,012	$	479,122	$	496,134

As of December 31, 2013

(in thousands)

	Individually		Collectively
	Evaluated for		Evaluated for
	Impairment		Impairment		Total
Allowance for Loan Losses:
Commercial	$	—	$	230	$	230
Real estate construction	—		358		358
Real estate mortgage:
1-4 family residential	228		1,941		2,169
Multi-family residential	76		351		427
Non-farm & non-residential	110		454		564
Agricultural	298		280		578
Consumer	—		548		548
Other	—		51		51
Unallocated	—		516		516
	$	712	$	4,729	$	5,441
Loans:
Commercial	$	—	$	34,654	$	34,654
Real estate construction	—		11,177		11,177
Real estate mortgage:
1-4 family residential	2,873		191,515		194,388
Multi-family residential	274		16,146		16,420
Non-farm & non-residential	2,716		124,075		126,791
Agricultural	7,673		60,329		68,002
Consumer	—		17,065		17,065
Other	—		158		158
	$	13,536	$	455,119	$	468,655

The following table presents loans individually evaluated for impairment by class of loans as of and for the six months ended June 30, 2014 (in thousands):

	Unpaid				Allowance for		Average		Interest		Cash Basis
	Principal		Recorded		Loan Losses		Recorded		Income		Interest
	Balance		Investment		Allocated		Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—	$	—	$	—	$	—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	1,302		1,302		—		1,002		—		—
Multi-family residential	—		—		—		—		—		—
Non-farm & non-residential	—		—		—		267		—		—
Agricultural	4,780		4,780		—		2,684		80		80
Consumer	—		—		—		—		—		—
Other	—		—		—		—		—		—
With an allowance recorded:
Commercial	—		—		—		—		—		—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	1,894		1,894		326		1,991		44		44
Multi-family residential	345		345		50		323		5		5
Non-farm & non-residential	3,937		3,937		182		3,043		73		73
Agricultural	4,754		4,754		260		5,034		19		19
Consumer	—		—		—		—		—		—
Other	—		—		—		—				—
Total	$	17,012	$	17,012	$	818	$	14,344	$	221	$	221

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

The following table presents loans individually evaluated for impairment by class of loans as of and for the year ended December 31, 2013 (in thousands):

	Unpaid				Allowance for		Average		Interest		Cash Basis
	Principal		Recorded		Loan Losses		Recorded		Income		Interest
	Balance		Investment		Allocated		Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—	$	—	$	—	$	—
Real estate construction	—		—		—		—		—		—
Real estate mortgage:
1-4 family residential	824		793		—		1,217		28		28
Multi-family residential	—		—		—		—		—		—
Non-farm & non-residential	1,650		803		—		1,471		81		81
Agricultural	2,912		2,826		—		2,802		123		123
Consumer	—		—		—		—		—		—
Other	—		—		—		—		—		—
With an allowance recorded:
Commercial	—		—		—		—		—		—
Real estate construction	—		—		—		607		—		—
Real estate mortgage
1-4 family residential	2,080		2,080		228		1,349		96		96
Multi-family residential	274		274		76		443		3		3
Non-farm & non-residential	1,913		1,913		110		1,938		79		79
Agricultural	4,847		4,847		298		4,864		287		287
Consumer	—		—		—		—		—		—
Other	—		—		—		—				—
Total	$	14,501	$	13,536	$	712	$	14,691	$	697	$	697

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

The following table presents loans individually evaluated for impairment by class of loans as of and for the six months ended June 30, 2013 (in thousands):

	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,253		21		21
Multi-family residential	—		—		—
Non-farm & non-residential	1,625		40		40
Agricultural	2,873		9		9
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—
Real estate mortgage:
1-4 family residential	874		21		21
Multi-family residential	511		3		3
Non-farm & non-residential	2,641		40		40
Agricultural	4,711		57		57
Consumer	—		—		—
Other	—				—
Total	$	14,488	$	191	$	191

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

The following tables present loans individually evaluated for impairment by class of loans for the three months ending June 30, 2014 and June 30, 2013 (in thousands):

	Three Months Ending June 30, 2014
	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,562		—		—
Multi-family residential	—		—		—
Non-farm & non-residential	—		—		—
Agricultural	2,836		77		77
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,377		38		38
Multi-family residential	310		1		1
Non-farm & non-residential	3,553		48		48
Agricultural	4,755		19		19
Consumer	—		—		—
Other	—		—		—
Total	$	14,393	$	183	$	183

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

	Three Months Ending June 30, 2013
	Average		Interest		Cash Basis
	Recorded		Income		Interest
	Investment		Recognized		Recognized
With no related allowance recorded:
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,035		2		2
Multi-family residential	—		—		—
Non-farm & non-residential	1,065		20		20
Agricultural	2,854		3		3
Consumer	—		—		—
Other	—		—		—
With an allowance recorded:
Commercial	—		—		—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,016		7		7
Multi-family residential	669		1		1
Non-farm & non-residential	2,421		20		20
Agricultural	4,744		7		7
Consumer	—		—		—
Other	—		—		—
Total	$	13,804	$	60	$	60

The recorded investment in loans excludes accrued interest receivable and loan origination fees, net due to immateriality.

The following tables present the recorded investment in nonaccrual, loans past due over 90 days still on accrual and accruing troubled debt restructurings by class of loans as of June 30, 2014 and December 31, 2013:

As of June 30, 2014

(in thousands)

			Loans Past Due
			Over 90 Days		Accruing
			Still		Troubled Debt
	Nonaccrual		Accruing		Restructurings
Commercial	$	299	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	2,350		266		487
Multi-family residential	85		—		—
Non-farm & non-residential	988		—		1,853
Agricultural	216		—		4,530
Consumer	—		—		—
Total	$	3,938	$	266	$	6,870

As of December 31, 2013

(in thousands)

			Loans Past Due
			Over 90 Days		Accruing
			Still		Troubled Debt
	Nonaccrual		Accruing		Restructurings
Commercial	$	—	$	—	$	—
Real estate construction	—		—		—
Real estate mortgage:
1-4 family residential	1,171		314		493
Multi-family residential	275		—		—
Non-farm & non-residential	803		—		1,878
Agricultural	717		232		4,530
Consumer	8		8		—
Total	$	2,974	$	554	$	6,901

Nonaccrual loans secured by real estate make up 92.4% of the total nonaccruals at June 30, 2014.

Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.

A loan is considered impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement.  All amounts due according to the contractual terms means that both the contractual interest payments and the contractual principal payments of a loan will be collected as scheduled in the loan agreement.  Nonaccrual loans are loans for which payments in full of principal or interest is not expected or which principal or interest has been in default for a period of 90 days or more unless the asset is both well secured and in the process of collection.  Other impaired loans may be loans showing signs of weakness or interruptions in cash flow, but ultimately are current or less than 90 days past due with respect to principal and interest and for which we anticipate full payment of principal and interest but not in accordance with contractual terms.

Additional factors considered by management in determining impairment and non-accrual status include payment status, collateral value, availability of current financial information, and the probability of collecting all contractual principal and interest payments.

During the first six months of 2014, $419 thousand in impaired loans were transferred to other real estate owned.  Additionally, $643 thousand in loan balances were charged off during the first six months of 2014 and $616 thousand in prior loan charge offs were recovered.

The following tables present the aging of the recorded investment in past due and non-accrual loans as of June 30, 2014 and December 31, 2013 by class of loans:

As of June 30, 2014

(in thousands)

	30–59		60–89		Loans Past Due				Total
	Days		Days		Over 90 Days				Past Due &		Loans Not
	Past Due		Past Due		Still Accruing		Non-accrual		Non-accrual		Past Due
Commercial	$	79	$	—	$	—	$	299	$	378	$	33,349
Real estate construction	—		—		—		—		—		13,393
Real estate mortgage:
1-4 family residential	1,788		433		266		2,350		4,837		203,783
Multi-family residential	—		260		—		85		345		18,460
Non-farm & non-residential	777		—		—		988		1,765		130,030
Agricultural	312		—		—		216		528		72,077
Consumer	151		44		—		—		195		16,752
Other	—		—		—		—		—		242
Total	$	3,107	$	737	$	266	$	3,938	$	8,048	$	488,086

As of December 31, 2013

(in thousands)

	30–59		60–89		Greater than				Total
	Days		Days		90 Days				Past Due &		Loans Not
	Past Due		Past Due		Past Due		Non-accrual		Non-accrual		Past Due
Commercial	$	49	$	—	$	—	$	—	$	49	$	34,605
Real estate construction	175		—		—		—		175		11,002
Real estate mortgage:
1-4 family residential	1,981		1,285		314		1,171		4,751		189,637
Multi-family residential	—		—		—		275		275		16,145
Non-farm & non-residential	503		—		—		803		1,306		125,485
Agricultural	155		—		232		717		1,104		66,898
Consumer	102		27		8		8		145		16,920
Other	—		—		—		—		—		158
Total	$	2,965	$	1,312	$	554	$	2,974	$	7,805	$	460,850

Troubled Debt Restructurings:

The Company has allocated $398 thousand in specific reserves to customers whose loan terms have been modified in troubled debt restructurings as of June 30, 2014.  The Company allocated $428 thousand for specific reserves to customers whose loan terms had been modified in troubled debt restructuring as of December 31, 2013.  The Company has not committed to lend additional amounts as of June 30, 2014 and December 31, 2013 to customers with outstanding loans that are classified as troubled debt restructurings.  There were no troubled debt restructurings for which there was a payment default within twelve months following the modification during the periods ending June 30, 2014 and 2013.

No loans were modified as troubled debt restructurings during the six months ending June 30, 2014 and 2013.

Credit Quality Indicators:

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as:  current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors.  The Company analyzes loans individually by classifying the loans as to credit risk.  This analysis is performed on a quarterly basis.  The Company uses the following definitions for risk ratings:

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

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

Doubtful.  Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans.

As of June 30, 2014 and December 31, 2013, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:

As of June 30, 2014

(in thousands)

			Special
	Pass		Mention		Substandard		Doubtful
Commercial	$	31,932	$	1,241	$	554	$	—
Real estate construction	11,934		1,459		—		—
Real estate mortgage:
1-4 family residential	190,893		10,040		7,666		21
Multi-family residential	16,738		1,555		512		—
Non-farm & non-residential	125,306		5,050		1,439		—
Agricultural	58,709		12,353		1,543		—
Total	$	435,512	$	31,698	$	11,714	$	21

As of December 31, 2013

(in thousands)

			Special
	Pass		Mention		Substandard		Doubtful
Commercial	$	32,771	$	1,587	$	296	$	—
Real estate construction	9,660		1,517		—		—
Real estate mortgage:
1-4 family residential	176,553		10,346		7,489		—
Multi-family residential	14,392		1,579		449		—
Non-farm & non-residential	120,195		5,327		1,269		—
Agricultural	56,713		7,297		3,992		—
Total	$	410,284	$	27,653	$	13,495	$	—

For consumer loans, the Company evaluates the credit quality based on the aging of the recorded investment in loans, which was previously presented.  Non-performing consumer loans are loans which are greater than 90 days past due or on non-accrual status, and total $0 at June 30, 2014 and $16 thousand at December 31, 2013.

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SECURITIES (Details 2) (USD $)	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013	Dec. 31, 2013
Amortized Cost
Due in one year or less	$ 467,000		$ 467,000
Due after one year through five years	8,888,000		8,888,000
Due after five years through ten years	80,302,000		80,302,000
Due after ten years	64,780,000		64,780,000
Securities due at a single maturity date	154,437,000		154,437,000
Total	224,388,000		224,388,000		238,163,000
Fair Value
Due in one year or less	469,000		469,000
Due after one year through five years	8,897,000		8,897,000
Due after five years through ten years	79,607,000		79,607,000
Due after ten years	65,837,000		65,837,000
Securities due at a single maturity date	154,810,000		154,810,000
Fair Value	224,168,000		224,168,000		230,396,000
Proceeds from sales of securities	23,500,000	16,700,000	40,000,000	27,200,000
Gross gains realized on sales of securities	477,000	485,000	785,000	774,000
Gross losses realized on sales of securities	232,000	0	352,000	0
Tax provision related to realized gains	83,000	165,000	147,000	263,000
Mortgage-backed - residential
Amortized Cost
Total	69,681,000		69,681,000		72,920,000
Fair Value
Fair Value	69,064,000		69,064,000		70,638,000
Equity
Amortized Cost
Total	270,000		270,000		270,000
Fair Value
Fair Value	$ 294,000		$ 294,000		$ 289,000

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EARNINGS PER SHARE (Details) (USD $) In Thousands, except Per Share data, unless otherwise specified	3 Months Ended		6 Months Ended
	Jun. 30, 2014	Jun. 30, 2013	Jun. 30, 2014	Jun. 30, 2013
Basic Earnings Per Share
Net Income	$ 1,904	$ 1,785	$ 3,675	$ 3,494
Weighted average common shares outstanding	2,708	2,704	2,708	2,705
Basic earnings per share (in dollars per share)	$ 0.70	$ 0.66	$ 1.36	$ 1.29
Diluted Earnings Per Share
Net income	$ 1,904	$ 1,785	$ 3,675	$ 3,494
Weighted average common shares outstanding	2,708	2,704	2,708	2,705
Add dilutive effects of assumed vesting of stock grants		4		4
Weighted average common and dilutive potential common shares outstanding	2,708	2,708	2,708	2,709
Diluted earnings per share (in dollars per share)	$ 0.70	$ 0.66	$ 1.36	$ 1.29

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REAL ESTATE OWNED (Tables)

6 Months Ended

Jun. 30, 2014

REAL ESTATE OWNED

Schedule of activity in real estate owned, net

	Six Months Ended
	2014			2013
	(in thousands)
Beginning of year	$	3,379		$	4,168
Additions	419			335
Sales	(1,540		)	(924		)
(Additions) subtractions to valuation allowance, net	(10		)	10
Recovery from sale in valuation allowance	58			199
End of period	$	2,306		$	3,788

Schedule of activity in the valuation allowance

	Six Months Ended
	2014			2013
	(in thousands)
Beginning of year	$	1,524		$	1,668
Additions (subtractions) to valuation allowance, net	10			(10		)
Recovery from sale	(58		)	(199		)
End of period	$	1,476		$	1,459

Schedule of expenses related to foreclosed assets

	Six Months Ended
	2014			2013
	(in thousands)
Net loss (gain) on sales	$	(70	)	$	(30	)
Additions (subtractions) to valuation allowance, net	10			(10		)
Operating expenses (receipts), net of rental income	13			45
Repossession expenses, net	23			35
End of period	$	(47	)	$	5