10-K

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2004

Commission File Number 000-22283

VIRGINIA FINANCIAL GROUP, INC.

(Exact name of registrant as specified in its charter)

Virginia	54-1829288
State or other jurisdiction of incorporation or organization	(I. R. S. Employer Identification Number)
102 S. Main Street, Culpeper, Virginia	22701
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code (540) 829-1603

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

Title of each class	Name of each exchange on which registered:
None	None

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

Common Stock, $5.00 par value per share

(Title of Class)

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

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).    Yes  x    No  ¨

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

The aggregate market value of the voting and non-voting common equity held by non-affiliates as of June 30, 2004 was $245,960,324 which is the last business day of the registrant’s most recently completed second quarter.

As of March 1, 2005, there were 7,163,734 shares of common stock, $5.00 par value, issued and outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Notice of Annual Meeting and definitive Proxy Statement dated March 16, 2005 are incorporated by reference into Part III.

PART I

Item 1. BUSINESS

GENERAL

Virginia Financial Group, Inc. (VFG) is a bank holding company incorporated under the laws of the Commonwealth of Virginia. Currently, VFG is one of the largest independent bank holding companies headquartered in the Commonwealth of Virginia with total assets of approximately $1.4 billion. VFG’s trust affiliate, Virginia Commonwealth Trust Company, manages fee and commission based assets of approximately $515 million. Affiliates of the Corporation include: Planters Bank & Trust Company of Virginia - in Staunton, Second Bank & Trust - in Culpeper, Virginia Heartland Bank - in Fredericksburg, Virginia Commonwealth Trust Company - in Culpeper and VFG Limited Liability Trust. The organization has a network of thirty-seven branches serving a contiguous market throughout central, south central and southwest Virginia. Virginia Commonwealth Trust Corporation has offices in Culpeper, Fredericksburg, Harrisonburg and Staunton. During 2003, VFG opened loan production offices in the Cities of Charlottesville and Lynchburg.

VFG’s affiliate banks are community-oriented and offer services customarily provided by full-service banks, including individual and commercial demand and time deposit accounts, commercial and consumer loans, residential mortgages, credit card services and deposit services. VFG’s affiliate banks offer internet banking access for banking services, and online bill payment for both consumers and commercial customers. Lending is focused on individuals and small and middle-market businesses in the local market of VFG’s affiliate banks. VFG’s trust affiliate provides a variety of wealth management and personal trust services including estate administration, employee benefit plan administration and planning specifically addressing the investment and financial management needs of its customers. Utilizing a “super-community” banking strategy, each affiliate is run autonomously, with the holding company providing common services such as corporate finance, marketing, human resources, compliance, audit and loan review.

EMPLOYEES

At December 31, 2004, VFG had 512 full time equivalent employees. No employees are represented by any collective bargaining unit. VFG considers relations with its employees to be good.

COMPETITION

VFG and its affiliates incur strong competition in each of its primary markets from large regional and national financial institutions, savings and loans, credit unions and other community banking organizations. In addition, consumer finance companies, asset managers and mortgage companies all provide competition. Out-of-state bank holding companies are providing increased competition through merger and acquisition of Virginia banks.

VFG’s deposit market share at June 30, 2004 represented 1% of the total banking deposits in the Commonwealth of Virginia. Competition for deposits is influenced by rates paid, customer loyalty factors, product offerings and convenience of branch network.

The competition in the industry has also increased as a result of the passage of the Gramm-Leach-Bliley Act of 1999 (the “Act”), which drew new lines between the types of activities that are financial in nature and permitted for banking organizations, and those activities that are commercial in nature and not permitted. The Act imposes Community Reinvestment requirements on financial service organizations that seek to qualify for the expanded powers to engage in broader financial activities and affiliations with financial companies that are permitted.

The Act created a new form of financial organization called a financial holding company that may own banks, insurance companies and securities firms. A financial holding company is authorized to engage in any activity that is financial in nature, incidental to an activity that is financial in nature, or is a complimentary activity. These activities may include insurance, securities transactions, and traditional banking related activities. The Act establishes a consultative and cooperative procedure between the Federal Reserve and the Secretary of the Treasury for purposes of determination as to the scope of activities permitted by the Act.

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No material part of the business of the affiliate banks is dependent upon a single or a few customers and the loss of one or more customers would not have a materially adverse effect upon the business of the banks. Management is not aware of any indications that the business of the banks or material portion thereof is, or may be, seasonal.

REGULATION, SUPERVISION AND GOVERNMENT POLICY

Bank Holding Company

VFG is registered as a bank holding company under the Federal Bank Holding Corporation Act of 1956, as amended, and is subject to supervision and regulation by the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”) and State Corporation Commission (“SCC”). As a bank holding company, VFG is required to furnish to the Federal Reserve Board an annual report of its operations at the end of each fiscal year and to furnish such additional information as the Federal Reserve Board may require pursuant to the Bank Holding Corporation Act. The Federal Reserve Board and SCC also may conduct examinations of VFG and/or its affiliates.

A bank holding company must satisfy special criteria to qualify for the expanded powers authorized by the Act, including the maintenance of a well-capitalized and well-managed status for all affiliate banks and a satisfactory community reinvestment rating.

Capital Requirements

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

Quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain minimum amounts and ratios of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets, and of Tier 1 capital to average assets. Management believes, as of December 31, 2004, that the Corporation and its affiliate banks meet all capital adequacy requirements to which it is subject.

As of December 31, 2004, the most recent notification from the Federal Reserve Bank categorized the Corporation as “well capitalized” under the regulatory framework for prompt corrective action. To be categorized as “well capitalized,” the Corporation must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios. There are no conditions or events since notification that management believes have changed the institution’s category.

Dividends

VFG is a separate operating entity from its affiliates, and thus has liquidity needs that are funded primarily from the revenues of its affiliates. The parent Corporation’s cash outflows consist of dividends to shareholders and unallocated corporate expenses. The main source of funding for the parent Corporation is the management fees and dividends it receives from its banking and trust affiliates. Under the current supervisory regulation, prior approval from such agencies is required if the community bank pays cash dividends that exceed certain levels as defined. During 2004, the banking affiliates and the non-bank subsidiary paid $7.5 in management fees to the Corporation, and no dividends were paid to VFG. As of December 31, 2004, the aggregate amount of additional unrestricted funds, which could be transferred from the banking affiliates to VFG without prior regulatory approval totaled $21.3 million or 16.8% of the consolidated net assets.

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Sarbanes-Oxley Act of 2002

The Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley), which was signed into law in July, 2002, impacts all companies with securities registered under the Securities Exchange Act of 1934, including the Corporation. Sarbanes-Oxley created new requirements in the areas of corporate governance and financial disclosure including, among other things, (i) increased responsibility for the Chief Executive Officers and Chief Financial Officers with respect to the content of filings with the SEC; (ii) enhanced requirements for audit committees, including independence and disclosure of expertise; (iii) enhanced requirements for auditor independence and the types of non-audit services that auditors can provide; (iv) accelerated filing requirements for SEC reports; (v) increased disclosure and reporting obligations for companies, their directors and executive officers; and (vi) new and increased civil and criminal penalties for violations of securities laws. Certifications of the Chief Executive Officer and Chief Financial Officer can be found in the “Exhibits” section of this document. Management’s “Statement of Management’s Responsibility” can be found in Item 8 of this report.

BANK REGULATION

Each of VFG’s affiliate banks are subject to supervision and regulation by the Federal Reserve Board and the SCC. The various laws and regulations administered by the regulatory agencies affect corporate practices, including business practices related to payment and charging of interest, documentation and disclosures, and affect the ability to open and close offices or purchase other affiliates.

USA Patriot Act. VFG’s affiliate banks are subject to the requirements of the USA Patriot Act, which provides for the facilitation of information sharing among governmental entities and financial institutions for the purpose of combating terrorism and money laundering. The Act places a significantly increased reporting responsibility and regulatory oversight on financial institutions to share information with the federal government concerning activities that may involve money laundering or terrorist activities. Two of the Corporation’s banking affiliates are currently in a supervisory agreement related to the Act compliance issued in February 2004. The Corporation believes it is compliance with both the requirements of the Act and the supervisory agreements.

Insurance of Accounts. VFG’s affiliate banks have deposits which are insured by the Federal Deposit Insurance Corporation (FDIC), and the banks are subject to insurance premium assessments by the FDIC. The actual assessment is to be paid by each member bank based on a risk assessment by the FDIC. Each bank pays a base assessment, and may also be assigned a risk premium component. Among other factors, the FDIC uses capitalization levels to determine the proper risk classification and premium component. Each of VFG’s affiliate banks paid only the base assessment premium in 2004.

Community Reinvestment Act. VFG’s affiliate banks are subject to the requirements of the Community Reinvestment Act (CRA). The CRA imposes on financial institutions an affirmative and ongoing obligation to meet the needs of the local communities, including low and moderate income neighborhoods. Each bank’s efforts in meeting such goals are evaluated by regulatory agencies as defined above based on twelve assessment factors. Restrictions on operating activities may be imposed if unsatisfactory ratings are assessed. The Corporation believes it is currently in compliance with CRA.

Privacy Legislation. Several new regulations issued by federal banking agencies also provide new protections against the transfer and use of customer information by financial institutions. A financial institution must provide to its customers information regarding its polices and procedures with respect to the handling of customers personal information. Each institution must conduct an internal risk assessment of its ability to protect customer information. These privacy provisions generally prohibit a financial institution from providing a customer’s personal financial information to unaffiliated parties without prior notice and approval from the customer.

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ACCESS TO FILINGS

The Corporation’s Annual Report on Form 10-K and filings on Form 10-Q and 8-K, and any amendments are available at www.vfgi.net. A copy of the Corporation’s filings will be sent, without charge, to any shareholder upon written request to: Lee M. Kerns, Administrative Assistant, at 102 South Main Street, P. O. Box 71, Culpeper, Virginia 22701.

Item 2. PROPERTIES

VFG and its affiliates own or lease buildings that are used in the normal course of business. The Corporation’s headquarters is located at 102 S. Main Street in Culpeper, Virginia. The Corporation’s affiliate banks own or lease thirty-seven branch locations and two loan production offices in Virginia. Additional information regarding lease commitments can be found in Note 17 of the 2004 Consolidated Financial Statements.

All of the Corporation’s properties are in good operating condition and are adequate for the Corporation’s present needs.

Item 3. LEGAL PROCEEDINGS

VFG is party to various legal proceedings originating from the ordinary course of business. Management and counsel are of the opinion that settlement of these items will not have a material effect on the financial position of the Corporation.

Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted during the fourth quarter of the fiscal year covered by this report to a vote of security holders of the Corporation through a solicitation of proxies or otherwise.

EXECUTIVE OFFICERS OF REGISTRANT

The executive officers of the Corporation are appointed each year at the organizational meeting of the Board of Directors, which follows the annual meeting of the shareholders, and at other Board of Directors meetings as appropriate. Each of the executive officers has been employed by the Corporation in the position or positions indicated in the list and pertinent notes below. Messrs. Barham and Farrar have been employed by the Company as executive officers for more than five years.

Name	Age	Current Position
O.R. Barham, Jr.	54	Mr. Barham has been President and Chief Executive Officer of the Corporation since January 18, 2002. Mr. Barham served as a director of the Corporation since 1996. Prior to January 18, 2002, he served as President and Chief Executive Officer of Virginia Commonwealth Financial Corporation and its predecessor, Second National Financial Corporation.
Jeffrey W. Farrar	44	Mr. Farrar is Executive Vice President and Chief Financial Officer of the Corporation since January 18, 2002. Mr. Farrar served as Executive Vice President and Chief Financial Officer of Virginia Commonwealth Financial Corporation and its predecessor, Second National Financial Corporation, since 1996.
Litz Van Dyke	41	Mr. Van Dyke is Executive Vice President and Chief Operating Officer of the Corporation. Mr. Van Dyke joined the Corporation in September 2004, and previously served in a similar capacity for FNB Corporation of Christiansburg, Virginia.

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PART II

Item 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

The Corporation’s stock trades on the NASDAQ National Market, and currently trades under the trading symbol VFGI. As of March 1, 2005, there were approximately 4,600 shareholders of record. There were not repurchases of stock conducted during 2004. Listed below are the high and low prices for the common stock, as reported by NASDAQ, and dividends paid for the last eight quarters ended December 31, 2004.

	Sales Price								Dividends Per Share
	2004				2003				2004		2003
	High		Low		High		Low
1st Quarter	$	37.18	$	33.52	$	30.34	$	26.35	$	0.19	$	0.18
2nd Quarter		35.90		28.82		31.86		26.70		0.19		0.19
3rd Quarter		34.75		30.10		33.99		27.97		0.20		0.19
4th Quarter		37.82		31.68		38.50		30.10		0.20		0.19

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Item 6. SELECTED FINANCIAL DATA

The following is selected financial data for the Corporation for the last five years.

	Years Ended December 31,
(In thousands, except per share data)	2004			2003			2002			2001			2000
Statement of Operations Data:
Interest Income	$	70,402		$	62,827		$	63,723		$	69,132		$	68,404
Interest Expense		19,628			19,357			23,101			32,155			32,110
Net Interest Income		50,774			43,470			40,622			36,977			36,294
Provision for Loan Losses		2,534			1,290			1,602			1,378			1,366
Total Noninterest Income		14,544			15,227			12,721			10,677			8,258
Total Noninterest Expense		41,016			38,866			35,030			32,081			27,785
Net Income		15,203			13,492			12,335			9,881			11,114
Performance Ratios:
Return on Average Assets		1.07	%		1.13	%		1.15	%		1.00	%		1.21	%
Return on Average Equity		12.40	%		11.47	%		11.09	%		9.48	%		11.29	%
Net Interest Margin		4.04	%		4.15	%		4.29	%		4.23	%		4.39	%
Efficiency Ratio (1)		61.03	%		63.55	%		62.07	%		61.87	%		61.40	%
Per Share Data:
Net Income - Basic	$	2.12		$	1.89		$	1.70		$	1.35		$	1.51
Net Income - Diluted		2.11			1.88			1.69			1.35			1.51
Cash Dividends		0.78			0.75			0.72			0.68			0.68
Book Value	$	17.75		$	16.75		$	15.94		$	14.64			13.80
Market Price Per Share	$	36.66		$	35.52		$	29.80		$	22.25		$	21.58
Cash Dividend Payout Ratio		36.76	%		39.81	%		42.65	%		55.20	%		43.68	%
Balance Sheet Data:
Assets	$	1,449,608		$	1,387,211		$	1,114,905		$	1,040,704		$	959,023
Loans		1,061,575			922,689			700,979			666,682			633,828
Securities		292,158			364,298			299,262			267,496			241,847
Deposits		1,257,164			1,210,774			959,822			897,459			815,137
Stockholders’ Equity		127,089			119,830			114,371			106,707			100,886
Asset Quality Ratios:
Total allowance for loan losses		1.10	%		1.06	%		1.31	%		1.24	%		1.16	%
to total loans outstanding
Non-performing assets to year-end loans and other property owned		0.38	%		0.80	%		1.15	%		0.76	%		0.45	%

1) Efficiency ratio is computed by dividing non-interest expense, net of expenses associated with other real estate owned and non-recurring merger and integration expenses, by the sum of net interest income and non-interest income on a tax-equivalent basis..

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Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

VIRGINIA FINANCIAL GROUP, INC.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion provides management’s analysis of the consolidated financial results of operations, financial condition, liquidity and capital resources of Virginia Financial Group, Inc. and its affiliates (VFG). This discussion and analysis should be read in conjunction with the audited financial statements and footnotes appearing elsewhere in this report.

EXECUTIVE OVERVIEW

Virginia Financial Group, Inc. (VFG) is a bank holding company incorporated under the laws of the Commonwealth of Virginia. Currently, VFG is one of the largest independent bank holding companies headquartered in the Commonwealth of Virginia. VFG’s trust affiliate, Virginia Commonwealth Trust Company, is currently one of the largest independent trust companies headquartered in the Commonwealth of Virginia. Affiliates of VFG include: Planters Bank & Trust Company of Virginia - in Staunton, Second Bank & Trust - in Culpeper, Virginia Heartland Bank - in Fredericksburg, Virginia Commonwealth Trust Company - in Culpeper and VFG Limited Liability Trust. The organization has a network of thirty-seven branches serving a contiguous market throughout central, south central and southwest Virginia. Virginia Commonwealth Trust Company has offices in Culpeper, Charlottesville, Fredericksburg, Harrisonburg and Staunton.

VFG’s affiliate banks are community-oriented and offer services customarily provided by full-service banks, including individual and commercial demand and time deposit accounts, commercial and consumer loans, residential mortgages, credit card services and deposit services. VFG’s affiliate banks offer internet banking access for banking services, and online bill payment for both consumers and commercial customers. Lending is focused on individuals and small and middle-market businesses in the local market of VFG’s affiliate banks. VFG’s trust affiliate provides a variety of wealth management and personal trust services including estate administration, employee benefit plan administration and planning specifically addressing the investment and financial management needs of its customers. Each affiliate is run autonomously, with the holding company providing common services such as corporate finance, marketing, human resources, compliance, audit and loan review.

VFG’s earnings per diluted share grew 12.2% in 2004 versus 2003. Net revenue was $65.3 million for the year ended December 31, 2004 as compared to $58.7 in 2003. VFG earned $15.2 million or $2.11 per diluted share, an increase of 12.7% over 2003 earnings of $13.5 million or $1.88 per diluted share. VFG generated approximately $21.0 million in cash flow from operating activities in 2004. It paid dividends to stockholders of $5.6 million and invested $3.6 million in capital expenditures and borrowed approximately $25.6 million in long term debt.

Improvements in asset mix fueled by strong loan growth and continuing improvement in overall efficiency were primary factors. While the historically low rate environment continued to apply pressure on financial service companies like VFG, the Federal Reserve Board’s raising of short term target rates in the second half of 2004 did provide some relief and slight improvement in net interest margin. Non-interest income growth in our retail banking segments substantially offset reductions in revenue associated with mortgage activity.

VFG’s focus for 2005 will be to continue its focus on quality improvement, strengthen its management depth, and expand its market presence. The Corporation anticipates that its supervisory agreement related to Bank Secrecy Act (BSA) compliance will be resolved in the first half of 2005, and has plans underway to immediately open several branches thereafter, including Charlottesville and Lynchburg, the locations of two highly successful loan production offices that are ready to support a retail branch network. Other initiatives include the roll out of a new customer relationship management system and a state-of-the art monitoring system for BSA compliance.

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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

In addition to historical information, Management’s Discussion and Analysis contains forward-looking statements. The forward-looking statements are subject to certain risks and uncertainties, which could cause actual results to differ materially from historical results, or those anticipated. When we use words such as “believes”, “expects”, “anticipates” or similar expressions, we are making forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s analysis only as of the date thereof. The Corporation wishes to caution the reader that factors, such as those listed below, in some cases have affected and could affect the Corporation’s actual results, causing actual results to differ materially from those in any forward looking statement. These factors include: (i) expected cost savings from the Corporation’s acquisitions and dispositions, (ii) competitive pressure in the banking industry or in the Corporation’s markets may increase significantly, (iii) changes in the interest rate environment may reduce margins, (iv) general economic conditions, either nationally or regionally, may be less favorable than expected, resulting in, among other things, credit quality deterioration, (v) changes may occur in banking legislation and regulation, or the Corporation may not be released from its supervisory agreement with the Federal Reserve related to Bank Secrecy Compliance within anticipated timeframes, (vi) changes may occur in general business conditions and (vii) changes may occur in the securities markets.

NON-GAAP FINANCIAL MEASURES

This report refers to the efficiency ratio, which is computed by dividing non-interest expense excluding expenses on other real estate owned and non-operating charges incurred in 2003 and 2002 by the sum of net interest income on a tax equivalent basis and non-interest income. This is a non-GAAP financial measure that we believe provides investors with important information regarding our operational efficiency. Such information is not in accordance with generally accepted accounting principles (GAAP) and should not be construed as such. Management believes such financial information is meaningful to the reader in understanding operating performance, but cautions that such information not be viewed as a substitute for GAAP. VFG, in referring to its net income, is referring to income under generally accepted accounting principles, or “GAAP”.

CRITICAL ACCOUNTING POLICIES

General

The Corporation’s financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). The financial information contained within our statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. We use historical loss factors as one factor in determining the inherent loss that may be present in our loan portfolio. Actual losses could differ significantly from the historical factors that we use. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.

Allowance for Loan Losses

The VFG’s affiliate Banks conduct an analysis of the loan portfolio on a regular basis. This analysis is used in assessing the sufficiency of the allowance for loan losses and in the determination of the necessary provision for loan losses. The review process generally begins with lenders identifying problem loans to be reviewed on an individual basis for impairment. When a loan has been identified as impaired, then a specific reserve may be established based on the Banks calculation of the loss embedded in the individual loan. In addition to impairment testing, the Banks have an eight point grading system for each non-homogeneous loan in the portfolio. The loans meeting the criteria for impairment are segregated from performing loans within the portfolio. Loans are then grouped by loan type and, in the case of commercial loans, by risk rating. Each loan type is assigned an allowance factor based on historical loss experience, economic conditions, and overall portfolio quality including delinquency rates. The total of specific

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reserves required for impaired classified loans and the calculated reserves by loan category are then compared to the recorded allowance for loan losses. This is the methodology used to determine the sufficiency of the allowance for loan losses and the amount of the provision for loan losses. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

Impaired Loans

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

Larger groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Corporation does not separately identify individual consumer and residential loans for impairment disclosures, unless such loans are subject to a restructuring agreement.

Goodwill

The Corporation adopted Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (“SFAS 142”), effective January 1, 2002. Accordingly, goodwill is no longer subject to amortization over its estimated useful life, but is subject to at least an annual assessment for impairment by applying a fair value based test. The Corporation performed an annual test of goodwill impairment on September 30, 2004. Based on the results of these tests, the Corporation concluded that there was no impairment and no write-downs were recorded. Additionally, under SFAS 142, acquired intangible assets (such as core deposit intangibles) are separately recognized if the benefit of the asset can be sold, transferred, licensed, rented, or exchanged, and amortized over their useful life. Branch acquisition transactions were outside the scope of SFAS 142 and, accordingly, intangible assets related to such transactions continued to amortize upon the adoption of SFAS 142. The cost of purchased deposit relationships and other intangible assets, based on independent valuation, are being amortized over their estimated lives not to exceed fifteen years.

RESULTS OF OPERATIONS

NET INTEREST INCOME

The primary source of VFG’s traditional banking revenue is net interest income, which represents the difference between interest income on earning assets and interest expense on liabilities used to fund those assets. Earning assets include loans, securities, and federal funds sold. Interest bearing liabilities deposits and borrowings. To compare the tax-exempt yields to taxable yields, amounts are adjusted to pretax equivalents based on a 35% Federal corporate income tax rate.

Net interest income is affected by changes in interest rates, volume of interest bearing assets and liabilities, and the composition of those assets and liabilities. The “interest rate spread” and “net interest margin” are two common statistics related to changes in net interest income. The interest rate spread represents the difference between the yields earned on interest earning assets and the rates paid for interest bearing liabilities. The net interest margin is defined as

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the percentage of net interest income to average earning assets. Earning assets obtained through noninterest bearing sources of funds such as regular demand deposits and stockholders’ equity result in a net interest margin that is higher than the interest rate spread.

2004 Compared to 2003

Tax equivalent net interest income in 2004 was $52.6 million, an increase of $6.9 million or 15.1% compared to $45.7 million in 2003. VFG was able to increase its net interest income in 2004 versus 2003 primarily due to an increase in average earning assets of $199.8 million or 18.1% to $1.301 billion. The increase in average earning assets was a result of a $221.6 million increase in the average balance of loans receivable. The increase in average loans was a result of organic loan growth and the Corporation’s purchase of $78.9 million in loans in connection with the acquisition of eight branches from First Virginia in September, 2003.

The average interest rate spread was 3.71% in 2004, down slightly from 3.72% in 2003. The net interest margin was 4.04% in 2004, down from 4.15% in 2003. The decrease in the Corporation’s net interest margin was a result of several factors, including a decrease in the yield on average earning assets to 5.55% from 5.90% in 2003. The historically low rate environment coupled with an increased allocation to prime based lending were contributing factors. In addition, proceeds from higher yielding bonds in the securities portfolio were needed to fund some of the loan growth experienced, thus securities provided less spread than if such loans had been funded with lower cost deposits. Interest expense as a percentage of average earning assets decreased to 1.51% from 1.76% in 2003, but this decrease was less than the contraction of yield on assets noted above, thus resulting in the decrease in net interest margin.

2003 Compared to 2002

Tax equivalent net interest income in 2003 was $45.7 million compared to $42.7 million in 2002. VFG was able to increase its net interest income in 2003 versus 2002 primarily due to an increase in average earning assets. Average earning assets increased $106.5 million to $1.102 billion at December 31, 2003, an increase of 10.7% over $995.1 million in 2002. The increase in average earning assets can be attributed to loan and securities growth from two new loan production offices, the purchase of eight First Virginia branches and organic growth for the period. The average interest rate spread was 3.72% in 2003, up slightly from 3.71% in 2002. The net interest margin was 4.15% in 2003, down from 4.29% in 2002.

Several factors influenced this change in 2003 as compared to 2002. First, VFG maintained a slightly asset sensitive interest rate risk position during 2003, when short term rates continued to drift to historical lows, causing interest earning assets to reprice quicker than interest bearing liabilities, as a greater portion of such assets are variable rate and immediately reprice when rates fall. Secondly, the short term investment yield on the $98 million in cash received in connection with the First Virginia branch acquisition, coupled with the sudden increase in average earning assets in connection with that branch acquisition, placed some additional short term pressure on the margin.

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The following table presents net interest income on a fully taxable equivalent basis, interest rate spread and net interest margin for the years ending December 31, 2004, 2003 and 2002.

	2004							2003							2002
Dollars in thousands	Average Balance			Income/ Expense		Average Rate		Average Balance			Income/ Expense		Average Rate		Average Balance			Income/ Expense		Average Rate
ASSETS
Loans receivable, net (1) (2)	$	991,911		$	58,463	5.89	%	$	770,280		$	50,152	6.51	%	$	675,416		$	50,340	7.45	%
Investment securities
Taxable		233,429			9,160	3.92	%		237,025			9,263	3.91	%		213,592			9,680	4.53	%
Tax exempt (2)		66,610			4,403	6.61	%		77,312			5,419	7.01	%		76,501			5,307	6.94	%
Total investments		300,039			13,563	4.52	%		314,337			14,682	4.67	%		290,093			14,987	5.17	%
Interest bearing deposits		416			4	0.96	%		398			4	1.01	%		399			7	1.75	%
Federal funds sold		9,044			152	1.68	%		16,632			188	1.13	%		29,193			468	1.60	%
Total earning assets		1,301,410			72,182	5.55	%		1,101,647			65,026	5.90	%		995,101			65,802	6.61	%
Allowance for loan losses		(10,776	)						(9,406	)						(8,799	)
Total nonearning assets		132,570							104,632							82,777
Total assets	$	1,423,204						$	1,196,873						$	1,069,079
LIABILITIES AND STOCKHOLDERS EQUITY
Interest-bearing deposits
Interest checking	$	195,131		$	950	0.49	%	$	143,875		$	1,078	0.75	%	$	119,041		$	1,196	1.00	%
Money market		176,386			1,649	0.94	%		164,555			1,867	1.13	%		137,401			2,368	1.72	%
Savings		140,925			948	0.67	%		117,814			1,087	0.92	%		102,220			1,533	1.50	%
Time deposits:
Less than $100,000		370,746			10,233	2.76	%		331,936			10,774	3.25	%		322,346			13,273	4.12	%
$100,000 and more		121,135			4,079	3.37	%		93,913			3,628	3.86	%		85,695			3,646	4.25	%
Total interest-bearing deposits		1,004,323			17,859	1.78	%		852,093			18,434	2.16	%		766,703			22,016	2.87	%
Federal funds purchased & repurchase agreements		23,801			238	1.00	%		22,280			189	0.85	%		18,077			266	1.47	%
Trust Preferred Securities		16,281			683	4.20	%		—			—	0.00	%		—			—	0.00	%
Other borrowings		10,277			143	1.39	%		1,995			40	2.01	%		804			8	1.00	%
Federal Home Loan Bank advances		12,960			705	5.44	%		10,355			694	6.70	%		12,332			811	6.58	%
Total interest-bearing liabilities		1,067,642			19,628	1.84	%		886,723			19,357	2.18	%		797,916			23,101	2.90	%
Demand deposits		224,877							184,507							155,061
Other liabilities		8,035							8,063							4,847
Total liabilities		1,300,554							1,079,293							957,824
Stockholders’ equity		122,650							117,580							111,255
Total liabilities and stockholders’ equity	$	1,423,204						$	1,196,873						$	1,069,079
Net interest income (tax equivalent)				$	52,554						$	45,669						$	42,701
Average interest rate spread						3.71	%						3.72	%						3.71	%
Interest expense as a percent of average earning assets						1.51	%						1.76	%						2.32	%
Net interest margin						4.04	%						4.15	%						4.29	%

(1) Includes nonaccrual loans

(2) Income and yields are reported on a taxable equivalent basis using a 35% tax rate.

11

The next table analyzes the changes in net interest income for the periods broken down by their rate and volume components. The change in interest due to both rate and volume has been allocated proportionately to change due to volume versus change due to rate.

	Years Ended December 31,
	2004 vs. 2003 Increase (Decrease) Due to changes in:									2003 vs. 2002 Increase (Decrease) Due to changes in:
(Dollars in thousands)	Volume			Rate			Total			Volume			Rate			Total
Interest Income:
Loans	$	13,428		$	(5,117	)		8,311		$	6,583		$	(6,771	)	$	(188	)
Securities, taxable		(127	)		24			(103	)		988			(1,405	)		(417	)
Securities, tax-exempt		(719	)		(297	)		(1,016	)		58			54			112
Interest-bearing bank deposits		—			—			—			(7	)		4			(3	)
Federal funds sold		(105	)		69			(36	)		(167	)		(113	)		(280	)
Total Interest Income	$	12,477		$	(5,321	)	$	7,156		$	7,455		$	(8,231	)	$	(776	)
Interest Expense:
Time and savings deposits:
Interest checking	$	312		$	(440	)		(128	)	$	213		$	(331	)	$	(118	)
Money market		110			(328	)		(218	)		396			(896	)		(500	)
Savings		189			(328	)		(139	)		212			(658	)		(446	)
Time deposits
Less than $100,000		1,193			(1,734	)		(541	)		379			(2,878	)		(2,499	)
$100,000 and more		952			(501	)		451			331			(350	)		(19	)
Total time and savings deposits		2,756			(3,331	)		(575	)		1,531			(5,113	)		(3,582	)
Federal funds and repurchase agreements		14			35			49			52			(129	)		(77	)
Trust Preferred		683			—			683			—			—			—
Federal Home Loan Bank advances		156			(145	)		11			(132	)		15			(117	)
Other short term borrowings		119			(16	)		103			19			13			32
Total Interest Expense	$	3,728		$	(3,457	)	$	271		$	1,470		$	(5,214	)	$	(3,744	)
Net Interest Income	$	8,749		$	(1,864	)	$	6,885		$	5,985		$	(3,017	)	$	2,968

NON-INTEREST INCOME

2004 Compared to 2003

Non-interest income decreased to $14.5 million in 2004, a decrease of $683 thousand or 4.5% compared to 2003. Retail banking fees increased to $7.5 million, an increase of $1.8 million or 30.3% from 2003. Increased fees associated with deposit growth and improved fee structure associated with new products accounted for this increase.

Gain on sale of mortgage loans from mortgage banking activities decreased to $2.5 million, a decrease of $1.7 million or 41.2%. Mortgage banking income began to see contraction as mortgage rates moved up and refinance activity down during the second half of 2004. VFG originated $148.2 million and sold $150.1 million of secondary mortgage loans during 2004, compared to $233.6 million originated and $249.8 million sold in 2003.

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Commissions and fees from fiduciary activities associated with our trust and wealth management activities were essentially flat at $2.8 million for both 2004 and 2003. At December 31, 2004, VFG’s trust affiliate had assets under management and brokerage assets of $515 million. Investment fee income associated with brokerage services, which function as a division of the trust operations, experienced an increase in fees to $663 thousand in 2004, an increase of $81 thousand or 13.9% over 2003.

Other operating income decreased to $1.1 million in 2004, a decrease of $214 thousand or 16.3% compared to 2003. The decrease in 2004 is attributable to a reduction in associated fees from insurance income, cash management services and fees from non-customer ATM charges.

2003 Compared to 2002

Non-interest income increased to $15.2 million in 2003, an increase of $2.5 million or 19.7% compared to 2002. Retail banking fees increased to $5.8 million, an increase of $1.5 million or 34.2% from 2002. Increased fees associated with deposit growth and improved fee structure associated with new products accounted for this increase.

Gain on sale of mortgage loans from mortgage banking activities increased to $4.2 million, an increase of $1.0 million or 32.7%. Mortgage banking income was favorably influenced by refinance activity consistent with trends in the mortgage industry. VFG originated $233.6 million and sold $249.8 million of secondary mortgage loans during 2003, compared to $166.0 million originated and $169.3 million sold in 2002.

Commissions and fees from fiduciary activities associated with our trust and wealth management activities decreased to $2.8 million for 2003, a decrease of $186 thousand or 6.2% from 2002. While market valuations improved in 2003 versus 2002, this improvement was offset by a decrease in assets under management. At December 31, 2003, VFG’s trust affiliate had assets under management and brokerage assets of $490.3 million. Investment fee income associated with brokerage services, which function as a division of the trust operations, experienced an increase in fees to $582 thousand in 2003, an increase of $129 thousand or 28.5% over 2002.

Other operating income decreased to $1.3 million in 2003, a decrease of $208 thousand or 13.6% compared to 2002. The decrease in 2003 was attributable to a reduction in associated fees from insurance income, cash management services and fees from non-customer ATM charges.

NON-INTEREST EXPENSE

The following table presents the components of non-interest expense and the variance or percentage change:

	2004 vs. 2003						2003 vs. 2002
In thousands)	2004		2003		%		2003		2002		%
Compensation and employee benefits	$	22,669	$	21,742	4.3	%	$	21,742	$	19,934	9.1	%
Net occupancy		2,721		2,318	17.4	%		2,318		1,939	19.5	%
Supplies and equipment		4,333		4,229	2.5	%		4,229		3,457	22.3	%
Data processing		1,464		1,146	27.7	%		1,146		959	19.5	%
Professional Fees		922		961	-4.1	%		961		620	55.0	%
Telecommunications		1,055		858	23.0	%		858		584	46.9	%
Other		7,852		7,612	3.2	%		7,612		7,537	1.0	%
	$	41,016	$	38,866	5.5	%	$	38,866	$	35,030	11.0	%

Non-interest expenses increased to $41.0 million in 2004, an increase of $2.2 million or 5.5% over 2003. This increase was mainly attributable to the following factors:

• Compensation and benefits associated with a full year of overhead from two new loan production offices and eight branches purchased from First Virginia beginning with the fourth quarter of 2003.

• A decrease in employee benefit costs, particularly health and welfare plans.

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• A decrease in commission based compensation and benefits associated with secondary market mortgage activity.

• A full year of occupancy costs associated with the new loan production offices and new branch.

• Amortization of core deposit intangibles associated with the First Virginia branch acquisition.

• Increase in bank franchise taxes, marketing and advertising, and postage, all of which experienced increases year to year due primarily to the growth of VFG.

Non-interest expenses increased to $38.9 million in 2003, an increase of $3.8 million or 11.0% over 2002 associated primarily with increases in compensation and benefits. This increase was mainly attributable to the following factors:

• Compensation and benefits associated with two loan production offices that opened mid-year, and eight branches purchased from First Virginia beginning in the fourth quarter of 2003.

• Increases in employee benefit costs, particularly pension and health and welfare plans, consistent with the increase in health care cost trends nationwide.

• Commission based compensation and benefits associated with secondary market mortgage activity.

• Occupancy costs associated with the aforementioned new offices.

• Amortization and depreciation associated with system upgrades in 2002 and new office up-fit.

• Increase in bank franchise taxes, marketing and advertising, and postage, all of which experienced increases year to year due primarily to the growth of VFG.

Included in other expenses are merger and integration expenses for 2003 which were directly associated with transaction costs associated with the purchase of the eight branches from First Virginia. Included in 2002 expenses were integration expenses of $548 thousand consisting of costs associated with professional fees, termination fees related to service contracts and asset write-offs related to conversion of the banking affiliates into a common core processing system.

INCOME TAXES

For the year ended December 31, 2004, income taxes were $6.6 million, resulting in an effective tax rate of 30.2% compared to $5.0 million or 27.2% in 2003 and $4.4 million or 26.2% in 2002. The increase in the effective tax rate for 2004 as compared to 2003 and 2002 can be attributed to less tax-exempt interest income in each successive year combined with the Corporation’s movement to a full statutory rate of 35%.

ASSET QUALITY

The allowance for loan losses represents an amount that, in management’s judgment, will be adequate to absorb losses on existing loans in the portfolio that may become uncollectible. The following table represents VFG’s activity in its allowance for loan losses:

	December 31,
(In thousands)	2004			2003			2002			2001			2000
Allowance for loan losses, January 1	$	9,743		$	9,180		$	8,266		$	7,383		$	6,550
Loans Charged Off
Real estate - construction		48			—			6			—			—
Real estate - mortgage		82			180			200			414			95
Non-farm, Non-residential		30			—			—			—			—
Commercial, financial and agricultural		124			191			330			143			55
Consumer loans		518			585			427			546			565
All other loans		—			—			—			—			—
Total Loans Charged Off		802			956			963			1,103			715
Recoveries
Real estate - construction		—			—			—			—			—
Real estate - mortgage		4			1			89			13			44
Commercial, financial and agricultural		83			11			14			350			25
Consumer loans		144			217			172			245			113
All other loans		—			—			—			—			—
Total Recoveries		231			229			275			608			182
Net Charge-offs		571			727			688			495			533
Provision for Loan Losses		2,534			1,290			1,602			1,378			1,366
Allowance for loan losses, December 31	$	11,706		$	9,743		$	9,180		$	8,266		$	7,383
Ratio of allowance for loan losses to total loans outstanding at end of year		1.10	%		1.06	%		1.31	%		1.24	%		1.16	%
Ratio of net charge offs (recoveries to average loans outstanding during the year		0.06	%		0.09	%		0.10	%		0.08	%		0.09	%

14

The balance of the allowance for loan losses was $11.7 million as of December 31, 2004, compared to $9.7 million in 2003 and $9.1 million in 2002. The reserve for loan losses was 1.10% of outstanding loans as of December 31, 2004, 1.06% as of December 31, 2003 and 1.31% as of December 31, 2002. The decrease in the allowance as a percentage of loans during 2004 and 2003 is attributable to declining average historical losses experience, coupled with improvement noted in nonperforming assets and general economic conditions. The increase in 2004 from 2003 was attributable to additional risk associated with an increasing commercial real estate portfolio.

Net charge-offs were $571 thousand during 2004, compared to $727 thousand during 2003 and $688 thousand during 2002. The percentage of net charge-offs to average loans was 0.06% for 2004, 0.09% for 2003 and 0.10% for 2002, reflecting a constant level of charge-off experience.

The following table summarizes the allocation of the allowance for loan losses by loan type:

	December 31,
(In thousands)	2004			2003			2002			2001			2000
Allocation of allowance for possible loan losses, end of year
Real estate - construction	$	684		$	567		$	319		$	415		$	454
Real estate - mortgage		7,702			5,425			4,759			2,050			1,745
Commercial, financial and agricultural		982			408			2,603			2,592			1,869
Consumer Loans		839			639			710			2,004			1,558
All Other Loans		51			50			47			65			—
Unallocated		1,448			2,654			742			1,140			1,757
Total allowance for loan losses	$	11,706		$	9,743		$	9,180		$	8,266		$	7,383
Ratio of loans to total year-end loans
Real estate - construction		11.02	%		10.22	%		8.13	%		9.27	%		7.98	%
Real estate - mortgage		76.45	%		75.85	%		73.61	%		68.73	%		68.41	%
Commercial, financial and agricultural		8.03	%		8.00	%		9.14	%		11.64	%		11.14	%
Consumer Loans		4.18	%		5.21	%		7.80	%		9.01	%		11.05	%
All Other Loans		0.32	%		0.72	%		1.32	%		1.35	%		1.42	%
		100.00	%		100.00	%		100.00	%		100.00	%		100.00	%

The largest allowance allocation is to the real estate-mortgage loan portfolio, which represents approximately 55.7% of the allowance balance at December 31, 2004. The increase in 2004 was primarily the result of commercial real estate loan growth, which normally carries a higher risk rating and allowance allocation than 1-4 family mortgages. The real estate – mortgage category represented 76.4% of total loans outstanding at year end, of which approximately 55% represented a non-homogeneous portfolio consisting of loans collateralized by commercial real estate. During 2004, VFG eliminated the allocation of allowances to off balance sheet items, and has combined prior period allocations with the unallocated component.

The following table presents information concerning the aggregate amount of nonperforming assets:

	December 31,
(In thousands)	2004			2003			2002			2001			2000
Non-accrual loans	$	2,552		$	2,677		$	940		$	3,185		$	1,873
Troubled debt restructurings		1,451			4,525			6,547			1,307			—
Other property owned		5			136			577			547			1,009
Total non-performing assets	$	4,008		$	7,338		$	8,064		$	5,039		$	2,882
Loans past due 90 days accruing interest	$	—		$	25		$	104		$	121		$	936
Non-performing assets to total assets		0.28	%		0.53	%		0.72	%		0.48	%		0.30	%
Non-performing assets to year-end loans and other property owned		0.38	%		0.80	%		1.15	%		0.75	%		0.45	%

15

Non-performing assets consist of VFG’s non-accrual loans, troubled-debt restructurings, and real estate owned. Loans are generally placed on non-accrual status when the collection of principal and interest is ninety days or more past due, or earlier, if collection is uncertain based on an evaluation of the net realizable value of the collateral and the financial strength of the borrower. For those loans which are carried on non-accrual status, interest is recognized on a cash basis. At December 31, 2004, total non-performing assets totaled $4.0 million, a decrease of $3.3 million from 2003. For 2003, total nonperforming assets were $7.3 million, a decrease of $726 thousand from 2002. The decrease in 2004 is attributed to a reduction in restructured loans of $3.1 million. The decrease in 2003 as compared to 2002 was due to a decrease in restructured loans of $2.0 million and a decrease in other real estate owned of $441 thousand. All remaining restructured loans are performing as agreed and, in the opinion of management, are adequately reserved. Non-accrual loans consist of predominately all single-family mortgage loans that are well collateralized.

FINANCIAL CONDITION

Securities

The following table shows the maturities of available for sale debt and equity securities at amortized cost and market value as of December 31, 2004 and approximate weighted average yields of such securities. Yields on state and political subdivision securities are shown on a tax equivalent basis, assuming a 35% federal income tax rate. VFG attempts to maintain diversity in its portfolio, maintain durations that are consistent with its asset/liability management and hold a significant allocation of securities in states and political subdivisions that provide tax benefits.

(Dollars in thousands)	Book Value		Market Value		Weighted Average Maturity		Weighted Average TE Yield
US Treasury Securities
Within one year	$	4,529	$	4,618	0.88	years	2.11	%
After one year to five years		2,490		2,578	1.13	years	6.00	%
Total		7,019		7,196	0.96	years	3.49	%
Federal Agencies
Within one year	$	56,637	$	56,743	0.21	years	2.49	%
After one year to five years		60,642		60,195	2.53	years	3.13	%
Total		117,279		116,938	1.41	years	2.82	%
Collateralized Mortgage Obligations
After one year to five years	$	2,635	$	2,666	3.54	years	6.16	%
After ten years		1,798		1,793	25.30	years	4.00	%
Total		4,433		4,459	12.37	years	5.28	%
Mortgage Backed Securities
After one year to five years	$	5,222	$	5,271	2.73	years	4.69	%
After five years to ten years		61,317		60,846	7.82	years	4.03	%
After ten years		2,645		2,763	17.02	years	6.16	%
Total		69,184		68,880	7.78	years	4.16	%
State and Municipals
Within one year	$	3,890	$	3,929	0.45	years	6.15	%
After one year to five years		27,536		28,571	3.48	years	5.63	%
After five years to ten years		36,488		38,126	6.78	years	6.42	%
After ten years		6,838		7,377	13.47	years	7.34	%
Total		74,752		78,003	5.85	years	5.69	%
Corporate Bonds
Within one year	$	3,005	$	3,027	0.44	years	5.23	%
After one year to five years		6,047		6,290	2.26	years	5.69	%
Total		9,052		9,317	1.66	years	5.53	%
Total Fixed Income Securities
Within one year	$	68,061	$	68,317	0.27	years	2.65	%
After one year to five years		104,572		105,571	2.59	years	3.83	%
After five years to ten years		97,805		98,972	7.42	years	4.92	%
After ten years		11,281		11,933	15.78	years	5.88	%
Total		281,719		284,793	4.24	years	4.01	%
Equity Securities		1,270		1,565
Restricted Stock		5,406		5,406
Other Securities		732		732
Total Securities	$	289,127	$	292,496

16

There is no issuer of securities in which the aggregate book value of that issuer, other than securities of the U. S. Treasury and U. S. Government agencies, exceeds 10% of stockholders equity.

Loan Portfolio

At December 31, 2004, loans, net of unearned income and the allowance for loan losses, totaled $1.050 billion, an increase of $136.9 million or 15.0% from $912.9 million in 2003. The commercial real estate portfolio, which is a component of the real estate – mortgage portfolio, experienced strong growth during the period. This portfolio amounted to $507.7 million at December 31, 2004 and now represents 47.8% of the total portfolio. At December 31, 2004, off balance sheet unused loan commitments and standby letters of credit amounted to $378.3 million, compared to $313.9 million at December 31, 2003. These commitments may be secured or unsecured. On December 31, 2004, VFG had no concentration of loans to any one industry in excess of 10% of its loan portfolio.

The following table summarizes the loan receivable portfolio by loan type:

	December 31,
(In thousands)	2004			2003			2002			2001			2000
Real estate - construction	$	116,888		$	94,372		$	57,032		$	61,899		$	50,654
Real estate - mortgage		811,197			698,107			516,512			458,795			434,258
Commercial, financial and agricultural		85,256			76,075			64,146			77,672			70,709
Consumer loans		44,379			50,163			54,738			60,180			70,128
All other loans		3,448			4,353			9,233			9,041			9,009
Total loans before deduction of unearned income		1,061,168			923,070			701,661			667,587			634,758
Less: Unearned Income		407			(381	)		(682	)		(905	)		(930	)
Total loans before allowance for loan losses		1,061,575			922,689			700,979			666,682			633,828
Less: allowance for loan losses		(11,706	)		(9,743	)		(9,180	)		(8,266	)		(7,383	)
Net loans	$	1,049,869		$	912,946		$	691,799		$	658,416		$	626,445

The following tables set forth the maturity of the loan portfolio as of December 31, 2004:

(In thousands)	One year or less		After one but less than five years		After five years		Total
Real estate - construction	$	78,051	$	28,787	$	10,050	$	116,888
Real estate - mortgage		227,111		365,770		218,316		811,197
Commercial, financial and agricultural		53,545		27,560		4,151		85,256
Consumer loans		8,830		33,011		2,538		44,379
All other loans		2,103		921		424		3,448
Total loans (1)	$	369,640	$	456,049	$	235,479	$	1,061,168
(1)    Excluding loans held for sale and before deduction of unearned income.
For maturities over one year:
Fixed rates							$	498,246
Variable rates								193,282
							$	691,528

Deposits

Deposits at December 31, 2004 amounted to $1.257 billion, an increase of $46.4 million or 3.8% from $1.211 billion in 2003. The recent trend has been moderate internal growth in deposit funding, supplemented by non-retail funding and

17

acquisitions. Demand and savings deposits increased by $31.0 million, while time deposits increased $15.4 million in 2004. For 2003, excluding the assumption of deposits from the branch acquisition, demand and savings deposits increased by $57.4 million, while time deposits decreased $7.9 million. The overall cost of deposit funds decreased to 1.78% in 2004, compared to 2.16% in 2003 and 2.87% in 2002.

The following table illustrates average outstanding deposits and rates paid:

	2004				2003				2002
(In thousands)	Amount		Rate		Amount		Rate		Amount		Rate
Noninterest bearing demand deposits	$	224,877	—		$	184,507	—		$	155,061	—
Interest-bearing deposits:
Interest checking		195,131	0.49	%		143,875	0.75	%		119,041	1.01	%
Money market		176,386	0.94	%		164,555	1.13	%		137,401	1.72	%
Savings		140,925	0.67	%		117,814	0.92	%		102,220	1.50	%
Time deposits:
Less than $100,000		370,746	2.76	%		331,936	3.25	%		322,346	4.12	%
$100,000 and more		121,135	3.37	%		93,913	3.86	%		85,695	4.25	%
Total interest-bearing deposits		1,004,323	1.78	%		852,093	2.16	%		766,703	2.87	%
Total average deposits	$	1,229,200			$	1,036,600			$	921,764

Maturities of time deposits of $100,000 and over.

(In thousands)
At December 31, 2004
Within three months	$	11,779
Three to six months		13,672
Six to twelve months		25,423
Over twelve months		78,548
	$	129,422

Capital Adequacy

The management of capital in a regulated financial services industry must properly balance return on equity to stockholders while maintaining sufficient capital levels and related risk-based capital ratios to satisfy regulatory requirements. Additionally, capital management must also consider acquisition opportunities that may exist, and the resulting accounting treatment. VFG’s capital management strategies have been developed to provide attractive rates of returns to stockholders, while maintaining its “well-capitalized” position at each of the banking subsidiaries.

The primary source of additional capital to VFG is earnings retention, which represents net income less dividends declared. During 2004 VFG retained $9.6 million, or 63.2% of its net income. Stockholders’ equity increased by $7.3 million, reflecting a decrease of $2.6 million in other comprehensive income, which relates primarily to a decrease in unrealized gains on securities available-for-sale during the period.

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

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Quantitative measures established by regulation to ensure capital adequacy require VFG and its banking affiliates to maintain minimum amounts and ratios of total and Tier 1 capital to average assets. Management believes, as of December 31, 2004, and 2003 that VFG and the subsidiary banks met all minimum capital adequacy requirements to which they are subject and are categorized as “well capitalized. “There are no conditions or events since the notification that management believes have changed the subsidiary banks’ category.

LIQUIDITY

Liquidity is identified as the ability to generate or acquire sufficient amounts of cash when needed and at a reasonable cost to accommodate withdrawals, payments of debt, and increased loan demand. These events may occur daily or at other short-term intervals in the normal operation of the business. Experience helps management predict time cycles in the amount of cash required. In assessing liquidity, management gives consideration to relevant factors including stability of deposits, quality of assets, economic conditions in the market served, concentrations of business and industry, competition, and VFG’s overall financial condition. VFG’s primary source of liquidity is cash, securities in our available for sale portfolio, a $15 million line of credit with a correspondent bank and the trust preferred securities market. In addition, the Banks have substantial lines of credit from their correspondent banks and access to the Federal Reserve discount window and Federal Home Loan Bank of Atlanta to support liquidity as conditions dictate.

The liquidity of the parent Corporation also represents an important aspect of liquidity management. The parent Corporation’s cash outflows consist of overhead associated with corporate expenses, executive management, finance, marketing, human resources, audit and compliance and loan review functions. It also includes outflows associated with dividends to shareholders. The main sources of funding for the parent Corporation are the management fees and dividends it receives from its banking and trust subsidiaries, a working line of credit with a correspondent bank, and availability of the trust preferred security market as deemed necessary. During 2004, the banking subsidiaries and the non-bank subsidiary paid $7.5 million in management fees and transferred no dividends to VFG. As of December 31, 2004, the aggregate amount of additional unrestricted funds, which could be transferred from the banking subsidiaries to the VFG without prior regulatory approval totaled $21.3 million or 16.8% of the consolidated net assets. The parent Corporation generated approximately $20.0 million in cash flow from financing activities (trust preferred issuance)in 2004. It paid dividends to stockholders of $5.6 million, invested $3.0 million in subsidiaries and utilized trust preferred proceeds to invest $6 million in securities and pay down $6.5 million in short term debt.

Contractual Obligations

The impact that our contractual obligations as of December 31, 2004 are expected to have on our liquidity and cash flow in future periods is as follows:

			Payments Due by Period
(In thousands)	Total		One year or less		1-3 years		3-5 years		More than 5 years
Long-Term Debt	$	34,679	$	4,060	$	5,000	$	—	$	25,619
Operating Leases		3,330		475		689		342		1,824
Total	$	38,009	$	4,535	$	5,689	$	342	$	27,443

In the judgment of management, VFG maintains the ability to generate sufficient amounts of cash to cover normal requirements and any additional needs which may arise, within realistic limitations.

Off-Balance Sheet Arrangements

As of December 31, 2004, we have not participated in any material unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities. VFG does have significant commitments to fund loans in the ordinary course of business. Such commitments and resulting off-balance sheet risk are further discussed in Note 19 to the consolidated financial statements.

19

RECENT ACCOUNTING PRONOUNCEMENTS

This information is incorporated above by reference from Item 8, “Financial Statements and Supplemental Data” under the heading “Note 1 – Summary of Accounting Policies”.

Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

INTEREST RATE SENSITIVITY

Financial institutions can be exposed to several market risks that may impact the value or future earnings capacity of an organization. These risks involve interest rate risk, foreign currency exchange risk, commodity price risk and equity market price risk. VFG’s primary market risk is interest rate risk. Interest rate risk is inherent because as a financial institution, VFG derives a significant amount of its operating revenue from “purchasing” funds (customer deposits and borrowings) at various terms and rates. These funds are then invested into earning assets (loans, leases, investments, etc. ) at various terms and rates. This risk is further discussed below.

Equity market risk is not a significant risk to VFG as equity investments on a cost basis comprise less than 1% of corporate assets. VFG does not have any exposure to foreign currency exchange risk or commodity price risk.

Interest rate risk is the exposure to fluctuations in VFG’s future earnings (earnings at risk) and value (value at risk) resulting from changes in interest rates. This exposure results from differences between the amounts of interest earning assets and interest bearing liabilities that reprice within a specified time period as a result of scheduled maturities and repayment and contractual interest rate changes.

The primary objective of VFG’s asset/liability management process is to maximize current and future net interest income within acceptable levels of interest rate risk while satisfying liquidity and capital requirements. Management recognizes that a certain amount of interest rate risk is inherent and appropriate, yet is not essential to VFG’s profitability. Thus the goal of interest rate risk management is to maintain a balance between risk and reward such that net interest income is maximized while risk is maintained at a tolerable level.

The Corporation assumes interest rate risk (the risk that general interest rate levels will change) as a result of its normal operations. As a result, the fair values of the Corporation’s financial instruments will change when interest rate levels change and that change may be either favorable or unfavorable to the Corporation. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest rate risk. However, borrowers with fixed rate obligations are less likely to prepay in a rising rate environment and more likely to prepay in a falling rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment. Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Corporation’s overall interest rate risk.

Management endeavors to control the exposures to changes in interest rates by understanding, reviewing and making decisions based on its risk position. The corporate and bank subsidiaries asset/liability committees are responsible for these decisions. VFG primarily uses the securities portfolios and FHLB advances to manage its interest rate risk position. Additionally, pricing, promotion and product development activities are directed in an effort to emphasize the loan and deposit term or repricing characteristics that best meet current interest rate risk objectives. At present, VFG does not use off-balance sheet instruments. The committees operate under management policies defining guidelines and limits on the level of risk. These policies are approved by the Boards of Directors.

VFG uses simulation analysis to assess earnings at risk and net present value analysis to assess value at risk. These methods allow management to regularly monitor both the direction and magnitude of VFG’s interest rate risk exposure.

20

These modeling techniques involve assumptions and estimates that inherently cannot be measured with complete precision. Key assumptions in the analyses include maturity and repricing characteristics of both assets and liabilities, prepayments on amortizing assets, other imbedded options, non-maturity deposit sensitivity and loan and deposit pricing. These assumptions are inherently uncertain due to the timing, magnitude and frequency of rate changes and changes in market conditions and management strategies, among other factors. However, the analyses are useful in quantifying risk and provide a relative gauge of VFG’s interest rate risk position over time.

Earnings at Risk

Simulation analysis evaluates the effect of upward and downward changes in market interest rates on future net interest income. The analysis involves changing the interest rates used in determining net interest income over the next twelve months. The resulting percentage change in net interest income in various rate scenarios is an indication of VFG’s shorter-term interest rate risk. The analysis utilizes a “static” balance sheet approach. The measurement date balance sheet composition (or mix) is maintained over the simulation time period with maturing and repayment dollars being rolled back into like instruments for new terms at current market rates. Additional assumptions are applied to modify volumes and pricing under the various rate scenarios. These include prepayment assumptions on mortgage assets, the sensitivity of non-maturity deposit rates, and other factors deemed significant.

The simulation analysis results are presented in the table below. These results, as of December 31, 2004, indicate that VFG would expect net interest income to increase over the next twelve months by 8.2% assuming an immediate upward shift in market interest rates of 200 basis points and to decrease by 10.2% if rates shifted downward in the same manner. This profile reflects a moderate interest rate risk position and is well within the guidelines set by policy.

Value at Risk

The net present value analysis provides information on the risk inherent in the balance sheet that might not be taken into account in the simulation analysis due to the shorter time horizon used in that analysis. The net present value of the balance sheet is defined as the discounted present value of expected asset cash flows minus the discounted present value of the expected liability cash flows. The analysis involves changing the interest rates used in determining the expected cash flows and in discounting the cash flows. The resulting percentage change in net present value in various rate scenarios is an indication of the longer term repricing risk and options embedded in the balance sheet.

The net present value analysis results are presented in the table below. These results as of December 31, 2004 indicate that the net present value would decrease 3.3% assuming an immediate upward shift in market interest rates of 200 basis points and to decrease 1.7% if rates shifted downward in the same manner. The risk position of VFG is within the guidelines set by policy.

1-Year Net Interest Income Simulation (000’s)
-200 bp shock	$	(5,524	)	-10.22	%
+200 bp shock	$	4,420		8.18	%
Static Net Present Value Change
-200 bp shock	$	(6,012	)	-3.33	%
+200 bp shock	$	(3,105	)	-1.72	%

21

Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Shareholders and Directors

Virginia Financial Group, Inc. and Affiliates

Culpeper, Virginia

We have audited the accompanying consolidated balance sheets of Virginia Financial Group, Inc. and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of income, changes in stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2004. We also have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting appearing under Item 9A, that Virginia Financial Group, Inc. and subsidiaries maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control— Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Virginia Financial Group, Inc. and subsidiaries’ management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on these financial statements, an opinion on management’s assessment, and an opinion on the effectiveness of Virginia Financial Group, Inc. and subsidiaries’ internal control over financial reporting based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about

22

whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audit of financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed 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. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Virginia Financial Group, Inc. and subsidiaries as of December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, management’s assessment that Virginia Financial Group, Inc. and subsidiaries maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Furthermore, in our opinion, Virginia Financial Group, Inc. and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

Winchester, Virginia

February 21, 2005

23

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

December 31, 2004 and 2003

Dollars in Thousands

	2004		2003
Assets
Cash and due from banks	$	37,532	$	43,719
Federal funds sold		502		1,222
Interest-bearing deposits in banks		1,292		237
Securities (market value: 2004, $292,496; 2003, $364,926)		292,158		364,298
Loans held for sale		5,715		5,174
Loans, net of allowance for loan losses, 2004, $11,706; 2003, $9,743		1,049,869		912,946
Bank premises and equipment, net		27,858		27,311
Interest receivable		5,716		5,914
Core deposit intangibles, net		5,553		6,247
Goodwill		14,033		14,033
Other real estate owned		5		136
Other assets		9,375		5,974
Total assets	$	1,449,608	$	1,387,211
Liabilities and Stockholders’ Equity
Liabilities
Non-interest bearing	$	238,735	$	216,560
Interest bearing		1,018,429		994,214
Total deposits	$	1,257,164	$	1,210,774
Federal funds purchased and securities sold under agreement to repurchase		21,155		33,155
Trust preferred capital notes		20,619		—
Short-term borrowings		815		6,526
Federal Home Loan Bank advances		14,060		9,140
Interest payable		2,120		2,223
Other liabilities		6,586		5,563
Commitments and contingent liabilities		—		—
Total liabilities	$	1,322,519	$	1,267,381
Stockholders’ Equity
Preferred stock; no par value; 5,000,000 shares authorized; no shares issued and outstanding;	$	—	$	—
Common stock; $5 par value; 25,000,000 shares authorized; 2004: 7,161,499 shares issued and outstanding; 2003: 7,152,885 shares issued and outstanding;		35,807		35,764
Surplus		7,774		7,578
Retained earnings		81,869		72,255
Accumulated other comprehensive income, net		1,639		4,233
Total stockholders’ equity	$	127,089	$	119,830
Total liabilities and stockholders’ equity	$	1,449,608	$	1,387,211

See Notes to Consolidated Financial Statements.

24

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Income

For the Three Years Ended December 31, 2004

(Dollars in Thousands, except per share data)

	2004			2003		2002
Interest Income
Interest and fees on loans	$	58,232		$	49,849	$	50,085
Interest on deposits in other banks		4			59		7
Interest and dividends on securities:
Taxable		8,770			8,851		9,347
Tax-exempt		2,854			3,522		3,502
Dividends		390			358		314
Interest income on federal funds sold		152			188		468
Total interest income	$	70,402		$	62,827	$	63,723
Interest Expense
Interest on deposits	$	17,859		$	18,434	$	22,016
Interest on federal funds purchased and securities sold under agreements to repurchase		238			189		266
Interest on FHLB advances		705			694		811
Interest on trust preferred capital notes		683			—		—
Interest on short-term borrowings		143			40		8
Total interest expense	$	19,628		$	19,357	$	23,101
Net interest income	$	50,774		$	43,470	$	40,622
Provision for loan losses		2,534			1,290		1,602
Net interest income after provision for loan losses	$	48,240		$	42,180	$	39,020
Noninterest Income
Retail banking fees	$	7,522		$	5,772	$	4,300
Commissions and fees from fiduciary activities		2,804			2,802		2,988
Investment fee income		663			582		453
Other operating income		1,102			1,316		1,524
Gain on sale of fixed assets		6			96		11
Gain on sale of securities available for sale		3			441		231
Gain (loss) on sale of other real estate owned		(20	)		26		55
Gain on sale of mortgage loans		2,464			4,192		3,159
Total noninterest income	$	14,544		$	15,227	$	12,721

See Notes to Consolidated Financial Statements.

25

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Income (continued)

For the Three Years Ended December 31, 2004

(Dollars in Thousands, except per share data)

	2004		2003		2002
Noninterest Expense
Compensation and employee benefits	$	22,669	$	21,742	$	19,934
Net occupancy expense		2,721		2,318		1,939
Supplies and equipment expenses		4,333		4,229		3,457
Data processing		1,464		1,146		959
Professional fees		922		961		620
Telecommunications		1,055		858		584
Other operating expense		7,852		7,612		7,537
Total noninterest expense	$	41,016	$	38,866	$	35,030
Income before income taxes	$	21,768	$	18,541	$	16,711
Provision for income taxes		6,565		5,049		4,376
Net income	$	15,203	$	13,492	$	12,335
Earnings per share, basic	$	2.12	$	1.89	$	1.70
Earnings per share, assuming dilution	$	2.11	$	1.88	$	1.69

See Notes to Consolidated Financial Statements.

26

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

For the Three Years Ended December 31, 2004

(Dollars in Thousands)

	2004			2003			2002
Cash Flows from Operating Activities
Net income	$	15,203		$	13,492		$	12,335
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		3,066			2,887			2,462
Amortization of intangible assets		694			291			158
Provision for loan losses		2,534			1,290			1,602
Write-downs of other real estate		61			—			—
Deferred tax benefit		(918	)		(449	)		(584	)
(Gain) loss on other real estate owned		20			(26	)		(55	)
Gain on sale of fixed assets		(6	)		(96	)		(11	)
Gain on sale of securities available for sale		(3	)		(441	)		(231	)
Gain on sale of mortgage loans		(2,464	)		(4,201	)		(3,159	)
Proceeds from sale of mortgage loans		150,094			249,825			169,298
Origination of mortgage loans for sale		(148,171	)		(233,570	)		(165,983	)
Amortization of security premiums and accretion of discounts, net		719			785			500
Changes in assets and liabilities:
Decrease (increase) in interest receivable		198			(296	)		37
Decrease (increase) in other assets		217			(46	)		467
(Decrease) increase in interest payable		(103	)		294			(651	)
(Decrease) increase in other liabilities		(198	)		100			857
Net cash provided by operating activities	$	20,943		$	29,839		$	17,042
Cash Flows from Investing Activities
Proceeds from maturities and calls of investment securities		—		$	1,225		$	750
Proceeds from maturities and principal payments of securities available for sale		86,361			209,676			86,813
Proceeds from sales and calls of securities available for sale		36,536			46,708			39,001
Purchases of securities available for sale		(54,954	)		(326,403	)		(151,546	)
Net increase in loans		(139,468	)		(143,946	)		(35,676	)
Proceeds from sale of fixed assets		9			290			65
Purchase of premises and equipment		(3,616	)		(3,856	)		(4,248	)
Proceeds from sale of other real estate		906			993			774
Additions to other real estate		(1,245	)		(239	)		(375	)
(Increase) decrease in cash surrender value of life insurance		9			59			(68	)
Acquisition of branches, net of cash acquired		—			99,547			—
Net cash used in investing activities	$	(75,462	)	$	(115,946	)	$	(64,510	)

See Notes to Consolidated Financial Statements.

27

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows (continued)

For the Three Years Ended December 31, 2004

(Dollars in Thousands)

	2004			2003			2002
Cash Flows from Financing Activities
Net increase in demand, money market and savings deposits	$	31,005		$	57,355		$	74,317
Net increase (decrease) in certificates of deposit		15,385			(7,866	)		(11,954	)
Net increase (decrease) in federal funds purchased sold under agreement to repurchase		(12,000	)		14,000			2,225
Net (decrease) increase in short-term borrowings		(5,711	)		5,486			(12	)
Issuance of trust preferred capital notes		20,619			—			—
Proceeds from Federal Home Loan Bank advances		5,000			—			—
Principal payments on Federal Home Loan Bank advances		(80	)		(3,080	)		(80	)
Acquisition of common stock		—			(818	)		(4,033	)
Proceeds from exercise of stock options		38			32			130
Cash paid in lieu of fractional shares		—			—			(22	)
Cash dividends paid		(5,589	)		(5,371	)		(5,261	)
Net cash provided by financing activities	$	48,667		$	59,738		$	55,310
Increase (decrease) in cash and cash equivalents	$	(5,852	)	$	(26,369	)	$	7,842
Cash and Cash Equivalents
Beginning		45,178			71,547			63,705
Ending	$	39,326		$	45,178		$	71,547
Supplemental Disclosures of Cash Flow Information
Cash payments for:
Interest	$	19,731		$	19,062		$	23,752
Income taxes	$	7,525		$	5,414		$	5,075
Supplemental Schedule of Noncash Activities
Other real estate acquired in settlement of loans	$	39		$	288		$	691
Unrealized (loss) gain on securities available for sale	$	3,481		$	(3,414	)	$	7,031
Restricted common stock issued	$	201		$	101		$	187
Minimum pension liability adjustment	$	(509	)	$	372		$	(372	)
Details of acquisition of branches
Fair value of assets acquired	$	—		$	84,835		$	—
Fair value of liabilities assumed		—			(201,506	)		—
Purchase price in excess of net assets aquired	$	—			18,614		$	—
Cash received	$	—		$	(98,057	)	$	—
Less cash acquired		—			(1,490	)		—
Net cash received for acquisition	$	—		$	(99,547	)	$	—

See Notes to Consolidated Financial Statements.

28

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Changes in Stockholders’ Equity

For the Three Years Ended December 31, 2004

(Dollars in Thousands)

	Common Stock			Capital Surplus			Retained Earnings			Accumulated Other Comprehensive Income			Comprehensive Income			Total
Balance, December 31, 2001	$	36,436		$	11,329		$	57,060		$	1,882					$	106,707
Comprehensive income:
Net income								12,335					$	12,335			12,335
Other comprehensive income, net of tax:
Unrealized holding gains arising during the period (net of tax, $2,542)		—			—			—			—			4,720			—
Reclassification adjustment (net of tax, $81)		—			—			—			—			(150	)		—
Minimum pension liability adjustment (net of tax of $130)		—			—			—			—			(242	)		—
Other comprehensive income		—			—			—			4,328		$	4,328			4,328
Total comprehensive income		—			—			—			—		$	16,663			—
Cash dividends ($.72 per share)		—			—			(5,261	)		—						(5,261	)
Issuance of common stock		42			145			—			—						187
Exercise of stock options		49			81			—			—						130
Cash paid in lieu of fractional shares		(4	)		(18	)		—			—						(22	)
Repurchase of common stock		(639	)		(3,394	)		—			—						(4,033	)
Balance, December 31, 2002	$	35,884		$	8,143		$	64,134		$	6,210					$	114,371
Comprehensive income:
Net income								13,492					$	13,492			13,492
Other comprehensive loss, net of tax:
Unrealized holding losses arising during the period (net of tax, $1,040)		—			—			—			—			(1,932	)		—
Reclassification adjustment (net of tax, $154)		—			—			—			—			(287	)		—
Minimum pension liability adjustment (net of tax of $130)		—			—			—			—			242			—
Other comprehensive loss		—			—			—			(1,977	)	$	(1,977	)		(1,977	)
Total comprehensive income		—			—			—			—		$	11,515			—
Cash dividends ($.75 per share)		—			—			(5,371	)		—						(5,371	)
Issuance of common stock		14			87			—			—						101
Exercise of stock options		9			23			—			—						32
Repurchase of common stock		(143	)		(675	)		—			—						(818	)
Balance, December 31, 2003	$	35,764		$	7,578		$	72,255		$	4,233					$	119,830
Comprehensive income:
Net income								15,203					$	15,203			15,203
Other comprehensive loss, net of tax:
Unrealized holding losses arising during the period (net of tax, $1,217)		—			—			—			—			(2,261	)		—
Reclassification adjustment (net of tax, $1)		—			—			—			—			(2	)		—
Minimum pension liability adjustment (net of tax of $178)		—			—			—			—			(331	)		—
Other comprehensive loss		—			—			—			(2,594	)	$	(2,594	)		(2,594	)
Total comprehensive income		—			—			—			—		$	12,609			—
Cash dividends ($.78 per share)		—			—			(5,589	)		—						(5,589	)
Issuance of common stock		30			171			—			—						201
Exercise of stock options		13			25			—			—						38
Balance, December 31, 2004	$	35,807		$	7,774		$	81,869		$	1,639					$	127,089

See Notes to Consolidated Financial Statements.

29

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Note 1. Significant Accounting Policies

Nature of Operations and Consolidation

Virginia Financial Group, Inc. (the “Corporation”) is a Virginia multi-bank holding Company headquartered in Culpeper, Virginia. The Corporation owns Second Bank & Trust and its subsidiary, Second Service Company; Virginia Heartland Bank and its subsidiary, Virginia Heartland Service Corporation; Planters Bank & Trust Company of Virginia and its subsidiary, Planters Insurance Agency, Inc.; Virginia Commonwealth Trust Company and VFG Limited Liability Trust. The consolidated statements include the accounts of the Corporation and its wholly-owned subsidiaries. All significant inter-company accounts have been eliminated. FASB Interpretation No. 46 (R) requires that the Corporation no longer consolidate VFG Limited Liability Trust. The subordinated debt of the trust is reflected as a liability on the Corporation’s balance sheet.

The Corporation, through its member banks, provides a full array of banking services through thirty seven retail offices in Central and Southwest Virginia. Among such services are those traditionally offered by banks including commercial and consumer demand and time deposit accounts, mortgage, commercial and consumer loans. The Corporation also provides a network of automated transaction locations, phone banking and a transactional internet banking product. Virginia Commonwealth Trust Company provides comprehensive wealth management, financial and estate-planning services through all three community banks.

Risks and Uncertainties

In its normal course of business, the Corporation encounters two significant types of risk: economic and regulatory. There are three main components of economic risk: interest rate risk, credit risk and market risk. The Corporation is subject to interest rate risk to the degree that its interest-bearing liabilities mature or reprice more rapidly or on a different basis than its interest-earning assets. Credit risk is the risk of default on the Corporation’s loan portfolio that results from the borrowers’ inability or unwillingness to make contractually required payments. Market risk reflects changes in the value of collateral underlying loans receivable, securities and the valuation of real estate held by the Corporation.

The determination of the allowance for loan losses and the valuation of real estate are based on estimates that are particularly susceptible to significant changes in the economic environment and market conditions. Management believes that, as of December 31, 2004, the allowance for loan losses and the valuation of real estate are adequate based on information currently available. A worsening or protracted economic decline or substantial increase in interest rates would increase the likelihood of losses due to credit and market risks and could create the need for substantial increases in the allowance for loan losses.

The Corporation is subject to the regulations of various regulatory agencies, which can change significantly from year to year. In addition, the Corporation undergoes periodic examinations by regulatory agencies, which may subject it to further changes based on the regulators’ judgments about information available to them at the time of their examinations.

Basis of Presentation

The accounting and reporting policies of the Corporation conform to accounting principles generally accepted in the United States of America and to accepted practice within the banking industry. The following is a description of the more significant of those policies and practices.

30

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Use of Estimates

In preparing consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the balance sheet and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the valuation of foreclosed real estate and deferred tax assets.

Securities

Debt securities that management has the positive intent and ability to hold to maturity are classified as “held to maturity” and recorded at amortized cost. Securities not classified as held to maturity, including equity securities with readily determinable fair values, are classified as “available for sale” and recorded at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income.

Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of held to maturity and available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near term prospects of the issuer, and (3) the intent and ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated fair value. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

Loans

The Corporation, through its banking subsidiaries, grants mortgage, commercial and consumer loans to customers. A substantial portion of the loan portfolio is represented by mortgage loans. The ability of the Corporation’s debtors to honor their contracts is dependent upon the real estate and general economic conditions in the Corporation’s market area.

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off generally are reported at their outstanding unpaid principal balances adjusted for charge-offs, the allowance for loan losses and any deferred fees or costs on originated loans. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loan yield using the interest method.

The accrual of interest on mortgage and commercial loans is discontinued at the time the loan is 90 days delinquent unless the credit is well-secured and in process of collection. Installment loans and other personal loans are typically charged off no later than 180 days past due. In all cases, loans are placed on nonaccrual or charged-off at an earlier date if collection of principal or interest is considered doubtful.

All interest accrued but not collected for loans that are placed on nonaccrual or charged-off is reversed against interest income. The interest on these loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

31

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Allowance for Loan Losses

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

The Corporation’s affiliate Banks conduct an analysis of the loan portfolio on a regular basis. This analysis is used in assessing the sufficiency of the allowance for loan losses and in the determination of the necessary provision for loan losses. The review process generally begins with lenders identifying problem loans to be reviewed on an individual basis for impairment. When a loan has been identified as impaired, then a specific reserve may be established based on the Banks calculation of the loss embedded in the individual loan. In addition to impairment testing, the Banks have an eight point grading system for each non-homogeneous loan in the portfolio. The loans meeting the criteria for impairment are segregated from performing loans within the portfolio. Loans are then grouped by loan type and, in the case of commercial loans, by risk rating. Each loan type is assigned an allowance factor based on historical loss experience, economic conditions, and the overall portfolio quality including delinquency rates. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses, reflecting the imprecision inherent in the underlying assumptions used in these methodologies. The total of specific reserves required for impaired classified loans, calculated reserves by loan category and the unallocated reserve are then compared to the recorded allowance for loan losses. This is the methodology used to determine the sufficiency of the allowance for loan losses and the amount of the provision for loan losses.

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

Larger groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Corporation does not separately identify individual consumer and residential loans for impairment disclosures, unless such loans are subject to a restructuring agreement.

Loans Held For Sale

Loans originated and intended for sale in the secondary market are carried at the lower of aggregate cost or fair value, as determined by aggregate outstanding commitments from investors or current investor yield requirements. Net unrealized losses are recognized through a valuation allowance by charges to income.

Mortgage loans held for sale are generally sold with the mortgage servicing rights released by the Corporation. Gains or losses on sales of mortgage loans are recognized based on the difference between the selling price and the carrying value of the related mortgage loans sold.

32

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Rate Lock Commitments

The Corporation enters into commitments to originate loans whereby the interest rate on the loan is determined prior to funding (rate lock commitments). Rate lock commitments on mortgage loans that are intended to be sold are considered to be derivatives. Accordingly, such commitments, along with any related fees received from potential borrowers, are recorded at fair value in derivative assets or liabilities, with changes in fair value recorded in the net gain or loss on sale of mortgage loans. Fair value is based on fees currently charged to enter into similar agreements, and for fixed-rate commitments also considers the difference between current levels of interest rates and the committed rates. Prior to July 1, 2002, such commitments were recorded to the extent of fees received. Fees received were subsequently included in the net gain or loss on sale of mortgage loans.

Bank Premises and Equipment

Land is carried at cost. Premises and equipment are stated at cost less accumulated depreciation and amortization. Premises and equipment are depreciated over their estimated useful lives ranging from three years to thirty-nine years; leasehold improvements are amortized over the lives of the respective leases or the estimated useful life of the leasehold improvement, whichever is less. Software is amortized over three years. Depreciation and amortization are recorded on the straight-line method.

Costs of maintenance and repairs are charged to expense as incurred. Costs of replacing structural parts of major units are considered individually and are expensed or capitalized as the facts dictate. Gains and losses on routine dispositions are reflected in current operations.

Goodwill and Intangible Assets

The Corporation adopted Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (“SFAS 142”), effective January 1, 2002. Accordingly, goodwill is no longer subject to amortization over its estimated useful life, but is subject to at least an annual assessment for impairment by applying a fair value based test. The Corporation performed an annual test of goodwill impairment on September 30, 2004. Based on the results of these tests, the Corporation concluded that there was no impairment and no write-downs were recorded. Additionally, under SFAS 142, acquired intangible assets (such as core deposit intangibles) are separately recognized if the benefit of the asset can be sold, transferred, licensed, rented, or exchanged, and amortized over their useful life. Branch acquisition transactions were outside the scope of SFAS 142 and, accordingly, intangible assets related to such transactions continued to amortize upon the adoption of SFAS 142. The cost of purchased deposit relationships and other intangible assets, based on independent valuation, are being amortized over their estimated lives not to exceed fifteen years. Amortization expense charged to operations was $694 thousand in 2004, $291 thousand in 2003, and $158 thousand in 2002.

Income Taxes

Deferred income tax assets and liabilities are determined using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the temporary differences between the book and tax bases of the various balance sheet assets and liabilities and gives current recognition to changes in tax rates and laws.

33

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Retirement Plans

The Corporation has a noncontributory, defined benefit pension plan covering certain of its employees meeting certain age and service requirements. The Corporation’s funding policy is to make the maximum contribution permitted by the Employee Retirement Income Security Act. The plan is no longer available for employees hired after June 30, 2002.

The Corporation also has a contribution retirement plan which covers certain of its full-time salaried employees. Contributions are at the discretion of the Board of Directors.

Stock Compensation Plan

At December 31, 2004, the Corporation has a stock-based employee compensation plan which is described more fully in Note 12. The Corporation accounts for the plan under the recognition and measurement principles of APB Opinion 25, Accounting for Stock Issued to Employees, and related interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under the plan had an exercise price equal to the market value of the underlying common stock on the date of the grant. The following table illustrates the effect on net income and earnings per share if the Corporation had applied the fair value recognition provisions of FASB Statement No. 123, Accounting for Stock-Based Compensation, to stock-based compensation.

	2004			2003			2002
Net income, as reported	$	15,203		$	13,492		$	12,335
Additional expense had the Corporation adopted SFAS No. 123		(73	)		(47	)		(10	)
Pro forma net income	$	15,130		$	13,445		$	12,325
Earnings per share:
Basic - as reported	$	2.12		$	1.89		$	1.70
Basic - pro forma	$	2.11		$	1.88		$	1.70
Diluted - as reported	$	2.11		$	1.88		$	1.69
Diluted - pro forma	$	2.10		$	1.87		$	1.69

The fair value of each option grant is estimated on the date of the grant using the Black-Scholes option-pricing model with the following weighted average

	Year Ended December 31
	2004		2003		2002
Dividend yield	2.4	%	2.3	%	2.3	%
Expected life	10 yrs		10 yrs		10 yrs
Expected volatility	30.4	%	31.0	%	31.4	%
Risk-free interest rate	4.4	%	4.1	%	4.1	%

34

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Earnings Per Share

Basic earnings per share represent income available to common stockholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflects additional common shares that would have been outstanding if dilutive potential common stock had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Corporation relate solely to outstanding stock options and restricted stock and are determined using the treasury method.

Dividend Reinvestment Plan

The Corporation has in effect a Dividend Reinvestment Plan, which provides an automatic conversion of dividends into common stock for enrolled stockholders. It is based on the stock’s fair market value on each dividend record date, and allows for voluntary contributions to purchase stock.

Cash and Cash Equivalents

For purposes of the consolidated statements of cash flows, cash and cash equivalents include cash on hand, amounts due from banks, and federal funds sold. Generally, federal funds are purchased and sold for one day periods.

Trust Assets

Securities and other property held by the Virginia Commonwealth Trust Company in a fiduciary or agency capacity are not assets of the Corporation and are not included in the accompanying consolidated financial statements.

Other Real Estate

Real estate acquired through, or in lieu of, foreclosure are held for sale and are initially recorded at the lower of the loan balance or fair value at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of the carrying amount or fair value less cost to sell. Revenues and expenses from operations and changes in the valuation are included in other operating expenses.

Advertising

The Corporation follows the policy of charging the costs of advertising to expense as incurred. Advertising expense of $602 thousand, $671 thousand, and $519 thousand were incurred in 2004, 2003 and 2002, respectively.

Reclassifications

Certain reclassifications have been made to prior period balances to conform to the current year presentation.

Recent Accounting Pronouncements

Interpretation No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”). This Interpretation provides guidance with respect to the identification of variable interest entities when the assets, liabilities, non-controlling interests, and results of operations of a variable interest entity need to be included in a Corporation’s consolidated financial statements. An entity is deemed a variable interest entity, subject to the interpretation, if the equity investment at risk is not sufficient to permit the entity to finance its activities without additional subordinated financial support from

35

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

other parties, or in cases in which the equity investors lack one or more of the essential characteristics of a controlling financial interest, which include the ability to make decisions about the entity’s activities through voting rights, the obligations to absorb the expected losses of the entity if they occur, or the right to receive the expected residual returns of the entity if they occur. Due to significant implementation issues, the FASB modified the wording of FIN 46 and issued FIN 46R in December of 2003. FIN46R deferred the effective date for the provisions of FIN 46 to entities other than Special Purpose Entities (“SPEs”) until financial statements issued for periods ending after March 15, 2004. SPEs were subject to the provisions of either FIN 46 or FIN 46R as of December 15, 2003. Management has evaluated the Corporation’s investments in variable interest entities and potential variable interest entities or transactions, particularly in limited liability partnerships involved in low income housing development and trust preferred securities structures because these entities or transactions constitute the Corporation’s primary FIN 46 and FIN 46R exposure. The adoption of FIN 46 and FIN 46R did not have a material effect on the Corporation’s consolidated financial position or consolidated results of operations.

In December 2003, the Accounting Standards Executive Committee (“AcSEC”) of the American Institute of Certified Public Accountants issued Statement of Position (“SOP”) 03-3, “Accounting for Certain Loans or Debt Securities Acquired in a Transfer. “The SOP is effective for loans acquired in fiscal years beginning after December 15, 2004. The scope of the SOP applies to unhealthy “problem” loans that have been acquired, either individually in a portfolio, or in a business acquisition. The SOP addresses accounting for differences between contractual cash flows and cash flows expected to be collected from an investor’s initial investment in loans or debt securities (loans) acquired in a transfer if those differences are attributable, at least in part, to credit quality. The SOP does not apply to loans originated by the Corporation. The Corporation intends to adopt the provisions of SOP 03-3 effective January 1, 2005, and does not expect the initial implementation to have a significant effect on the Corporation’s consolidated financial position or consolidated results of operations.

On March 9, 2004, the SEC Staff issued Staff Accounting Bulletin No. 105, “Application of Accounting Principles to Loan Commitments” (“SAB 105”). SAB 105 clarifies existing accounting practices relating to the valuation of issued loan commitments, including interest rate lock commitments (“IRLC”), subject to SFAS No. 149 and Derivative Implementation Group Issue C13, “Scope Exceptions: When a Loan Commitment is included in the Scope of Statement 133. ” Furthermore, SAB 105 disallows the inclusion of the values of a servicing component and other internally developed intangible assets in the initial and subsequent IRLC valuation. The provisions of SAB 105 were effective for loan commitments entered into after March 31, 2004. The Corporation has adopted the provisions of SAB 105. Since the provisions of SAB 105 affect only the timing of the recognition of mortgage banking income, management does not anticipate that this guidance will have a material adverse effect on the Corporation’s consolidated financial position or results of operations.

Emerging Issues Task Force Issue No. (EITF) 03-1 “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” was issued and is effective March 31, 2004. The EITF 03-1 provides guidance for determining the meaning of “other –than-temporarily impaired” and its application to certain debt and equity securities within the scope of Statement of Financial Accounting Standards No. 115 “Accounting for Certain Investments in Debt and Equity Securities” (“SFAS No. 115”) and investments accounted for under the cost method. The guidance requires that investments which have declined in value due to credit concerns or solely due to changes in interest rates must be recorded as other-than-temporarily impaired unless the Corporation can assert and demonstrate its intention to hold the security for a period of time sufficient to allow for a recovery of fair value up to or beyond the cost of the investment which might mean maturity. This issue also requires disclosures assessing the ability and intent to hold investments in instances in which an investor determines that an investment with a fair value less than cost is not other-than-temporarily impaired. On September 30, 2004, the Financial Accounting Standards Board decided to delay the effective date for the measurement and recognition guidance contained in Issue 03-1. This delay does not suspend the requirement to recognize other-than-temporary impairments as required by existing authoritative literature. The disclosure guidance in Issue 03-1 was not delayed.

36

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

EITF No. 03-16, “Accounting for Investments in Limited Liability Companies” was ratified by the Board and is effective for reporting periods beginning after June 15, 2004. APB opinion No. 18, “The Equity Method of Accounting Investments in Common Stock,” prescribes the accounting for investments in common stock of corporations that are not consolidated. AICPA Accounting Interpretation 2, “Investments in Partnerships Ventures,” of Opinion 18, indicates that “many of the provisions of the Opinion would be appropriate in accounting” for partnerships. In EITF Abstracts, Topic No. D-46, “Accounting for Limited Partnership Investments,” the SEC staff clarified its view that investments of more than 3 to 5 percent are considered to be more than minor and, therefore, should be accounted for using the equity method. Limited liability companies (LLCs) have characteristics of both corporations and partnerships, but are dissimilar from both in certain respects. Due to those similarities and differences, diversity in practice exists with respect to accounting for non-controlling investments in LLCs. . The consensus reached was that an LLC should be viewed as similar to a corporation or similar to a partnership for purposes of determining whether a non-controlling investment should be accounted for using the cost method or the equity method of accounting. Management has evaluated the Corporation’s investments in LLCs for cost versus equity method of accounting treatment. The implementation of this interpretation did not have a material impact on the Corporation’s consolidated financial position or consolidated results of operations.

In December 2004, the FASB issued Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment.” This Statement establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. It also addresses transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments. The Statement focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions. The Statement requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award (with limited exceptions). That cost will be recognized over the period during which an employee is required to provide service in exchange for the award – the requisite service period (usually the vesting period). The entity will initially measure the cost of employee services received in exchange for an award of liability instruments based on its current fair value; the fair value of that award will be re-measured subsequently at each reporting date through the settlement date. Changes in fair value during the requisite service period will be recognized as compensation cost over that period. The grant-date fair value of employee share options and similar instruments will be estimated using option-pricing models adjusted for the unique characteristics of those instruments (unless observable market prices for the same or similar instruments are available). If an equity award is modified after the grant date, incremental compensation cost will be recognized in an amount equal to the excess of the fair value of the modified award over the fair value of the original award immediately before the modification. This Statement is effective for public entities that do not file as small business issuers—as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. Under the transition method, compensation cost is recognized on or after the required effective date for the portion of outstanding awards for which the requisite service has not yet been rendered, based on the grant-date fair value of those awards calculated under Statement 123 for either recognition or pro forma disclosures. Management is evaluating the effects of the pronouncement, and currently conforms to the disclosure requirements of Statement 123.

Note 2. Acquisition/Disposition of Branches

On September 26, 2003, the Corporation purchased eight branches from the following First Virginia member banks: First Virginia Bank-Southwest, First Virginia Bank-Blue Ridge and First Virginia Bank-Colonial. The branches are located in Covington, Tazewell, Woodstock, Rocky Mount and Farmville. The branches were divested in connection with the BB&T Corporation/First Virginia Banks Inc. merger. The purchase price of $19.1 million represented a 9.5% premium on the deposits assumed at the date of consummation.

37

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

The acquisition included the assumption of certain deposit accounts and purchase of selected loans, fixed assets and real estate as follows:

Assets Purchased (at fair value):
Cash	$	1,490
Loans		78,889
Real estate and personal property		4,447
Goodwill		14,033
Core deposit intangible		4,830
Other assets		8
Total assets acquired	$	103,697
Liabilities Assumed (at fair value):
Deposit accounts	$	201,465
Other liabilities		41
Total liabilities assumed	$	201,506
Net Liabilities Assumed	$	97,809

Of the $19.1 million of acquired intangible assets, $4.8 million was assigned to core deposit intangibles to be amortized over a nine year period. The unamortized balance of accumulated core deposit intangibles, including previous branch acquisitions, was $5.6 million and $6.2 million at December 31, 2004 and 2003, respectively. The estimated aggregate amortization expense for core deposit intangibles for each of the five succeeding years is $588 thousand, respectively.

In addition, $1.1 million was assigned as a premium on the certificates of deposit assumed, while $1.5 million was assigned as a premium on the loans purchased. Weighted average lives for the certificates of deposit and loans receivable were one year and seven years, respectively. The unamortized balance of the CD premium was none and $801 thousand at December 31, 2004 and 2003, respectively. The unamortized balance of the loans receivable premium was $1.0 and $1.4 million at December 31, 2004 and 2003, respectively. The estimated aggregate loan premium amortization for each of the five succeeding years is as follows:

2005	$	306
2006		253
2007		200
2008		146
2009		93
	$	998

On November 9, 2004, the Corporation through its subsidiary, Planters Bank & Trust Company of Virginia, signed a definitive agreement to sell two branches located in Tazewell County, Virginia to the Bank of Tazewell County, an affiliate of National Bankshares, Inc. headquartered in Blacksburg, Virginia.

The branch sale, which is subject to regulatory approval, includes all deposit accounts, and the purchase of selected loans, fixed assets and real estate. At December 31, 2004, the two branches reported deposits of $23.4 million and loans of $8.9 million. The proposed transaction is expected to close in the first quarter of 2005.

38

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Note 3. Restrictions on Cash

To comply with Federal Reserve Regulations, the subsidiary banks are required to maintain certain average reserve balances. The daily average reserve requirement was $23.7 million and $18.3 million for December 31, 2004 and 2003, respectively.

Note 4. Securities

The amortized cost and estimated fair value of the securities being held to maturity, with gross unrealized gains and losses, as of December 31, 2004 and 2003, are as follows:

	2004
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)		Estimated Fair Value
State and municipal	$	5,849	$	338	$	—	$	6,187
	2003
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)		Estimated Fair Value
State and municipal	$	5,837	$	628		—	$	6,465

The amortized cost and estimated fair value of the securities being held to maturity as of December 31, 2004, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without any penalties.

	2004
	Amortized Cost		Estimated Fair Value
Due in one year or less	$	1,574	$	1,597
Due through five years		3,308		3,529
Due after ten years		967		1,061
Total	$	5,849	$	6,187

39

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Amortized cost and estimated fair value of securities available for sale, with gross unrealized gains and losses as of December 31, 2004 and 2003, are as follows:

	2004
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)			Estimated Fair Value
U. S. Treasury	$	7,019	$	177	$	—		$	7,196
U. S. Government agencies		117,279		425		(766	)		116,938
State and municipals		68,903		2,989		(76	)		71,816
Corporate bonds		9,052		265		—			9,317
Collateralized mortgage obligations		4,433		30		(4	)		4,459
Mortgage backed securities		69,184		314		(618	)		68,880
Equity securities		1,270		372		(77	)		1,565
Restricted stock		5,406		—		—			5,406
Other		732		—		—			732
Total		283,278	$	4,572	$	(1,541	)	$	286,309
	2003
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)			Estimated Fair Value
U. S. Treasury	$	33,048	$	504	$	—		$	33,552
U. S. Government agencies		127,418		1,906		(753	)		128,571
State and municipals		79,818		3,982		(53	)		83,747
Corporate bonds		10,004		601		—			10,605
Collateralized mortgage obligations		6,453		147		(15	)		6,585
Mortgage backed securities		88,876		592		(619	)		88,849
Equity securities		1,575		491		(272	)		1,794
Restricted stock		4,257		—		—			4,257
Other		501		—		—			501
Total	$	351,950	$	8,223	$	(1,712	)	$	358,461

The book value of securities pledged to secure deposits and for other purposes amounted to $79.8 million and $60.9 million at December 31, 2004 and 2003, respectively.

The amortized cost and estimated fair value of the securities available for sale as of December 31, 2004, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without any penalties.

	2004
	Amortized Cost		Estimated Fair Value
Due in one year or less	$	66,487	$	66,720
Due after one year through five years		93,407		94,105
Due after five years through ten years		36,488		38,126
Due after ten years		5,871		6,316
Equity securities		1,270		1,565
Mortgage-backed securities		73,617		73,339
Restricted stock		5,406		5,406
Other		732		732
Total	$	283,278	$	286,309

40

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Proceeds from sales and calls of securities available for sale were $36.5 million, $46.7 million, and $39.0 million for the years ended December 31, 2004, 2003 and 2002 respectively. Gross gains of $235 thousand, $512 thousand, and $275 thousand and gross losses of $232 thousand, $71 thousand, and $44 thousand were realized on these sales during 2004, 2003 and 2002, respectively. The tax provision applicable to these net realized gains amounted to $1 thousand, $154 thousand, and $81 thousand, respectively. There were no sales of securities held to maturity during 2004, 2003 or 2002.

Information pertaining to securities with gross unrealized losses at December 31, 2004, and 2003 aggregated by investment category and length of time that individual securities have been in a continuous loss position follows.

	Less than 12 months				12 months or more				Total
Description of Securities	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
2004
U.S. Treasury obligations and direct obligations of U.S. government agencies	$	37,512	$	600	$	9,834	$	166	$	47,346	$	766
Federal Agency mortgage backed securities		10,523		101		32,845		517		43,368		618
Obligations of State, County and municipal entities		6,307		60		777		16		7,084		76
Collaterallized mortgage obligations		1,793		4		—		—		1,793		4
Subtotal debt securities		56,135		765		43,456		699		99,591		1,464
Preferred stock		—		—		516		77		516		77
Total temporarily impaired securities	$	56,135	$	765	$	43,972	$	776	$	100,107	$	1,541
2003
U.S. Treasury obligations and direct obligations of U.S. government agencies	$	42,341	$	753	$	—	$	—	$	42,341	$	753
Federal Agency mortgage backed securities		53,559		619		—		—		53,559		619
Obligations of State, County and municipal entities		4,649		53		—		—		4,649		53
Collaterallized mortgage obligations		1,994		15		—		—		1,994		15
Subtotal debt securities		102,543		1,440		—		—		102,543		1,440
Common stock		—		—		79		231		79		231
Preferred stock		552		41		—		—		552		41
Total temporarily impaired securities	$	103,095	$	1,481	$	79	$	231	$	103,174	$	1,712

There are a total of 61 securities that have unrealized losses as of December 31, 2004, 20 U.S. Treasuries or agency securities, 21 U.S. Agency MBS securities, 18 municipal securities, one CMO, and one preferred stock security. The debt securities are obligations of entities that are excellent credit risks. The impairment as noted is the result of interest rate market conditions and does not reflect on the ability of the issuers to repay the debt obligations. The preferred stock category represents ownership in preferred stock of the Federal Home Loan Mortgage Corporation (Freddie Mac). Freddie Mac’ credit rating did not change during 2004 as measured by Moody’s and S&P. The impairment is the result of interest rate market conditions and there is a high probability of full recovery of investment.

41

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

The fixed income nature of this investment causes significant movement in value in relation to the fixed income market. However, there is no change in the dividend stream or credit quality as a result. The Corporation maintains the ability and intent to hold such securities for the foreseeable future.

Note 5. Loans

A summary of the balances of loans follows:

	December 31,
	2004			2003
Real estate loans:
Construction and land development	$	116,888		$	94,372
Farmland		9,631			10,193
1-4 family residential		293,859			283,631
Multifamily, nonresidential and junior liens		507,707			404,283
Loans to farmers (except those secured by real estate)		1,590			2,223
Commercial and industrial loans (except those secured by real estate)		83,666			73,852
Consumer installment loans		42,575			48,154
Deposit overdrafts		1,804			2,009
All other loans		3,448			4,353
Total loans	$	1,061,168		$	923,070
Deferred loan costs (fees)		407			(381	)
Allowance for loan losses		(11,706	)		(9,743	)
Net loans	$	1,049,869		$	912,946

Note 6. Allowance for Loan Losses

Changes in the allowance for loan losses for the years ended December 31, 2004, 2003 and 2002 were as follows:

	2004			2003			2002
Balance, beginning	$	9,743		$	9,180		$	8,266
Recoveries		231			229			275
Provision for loan losses		2,534			1,290			1,602
Total	$	12,508		$	10,699		$	10,143
Loans charged off		(802	)		(956	)		(963	)
Balance, ending	$	11,706		$	9,743		$	9,180

42

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Information about impaired loans as of and for the years ended December 31, 2004, 2003 and 2002, is as follows:

	2004		2003		2002
Impaired loans for which an allowance has been provided	$	3,410	$	3,128	$	8,299
Impaired loans for which no allowance has been provided		4,905		3,474		89
Total impaired loans	$	8,315	$	6,602	$	8,388
Allowance provided for impaired loans, included in the allowance for loan losses		1,166		1,281		1,836
Average balance in impaired loans	$	9,379	$	6,809	$	7,977
Interest income recognized on impaired loans	$	574	$	347	$	579
Interest income recognized on a cash basis on impaired loans	$	594	$	324	$	553

Nonaccrual loans excluded from the impaired loan disclosure under FASB 114 amounted to $1.4 million, $1.8 million, and $443 thousand at December 31, 2004, 2003 and 2002, respectively. If interest on these loans had been accrued, such income would have approximated $118 thousand, $108 thousand, and $37 thousand for 2004, 2003 and 2002, respectively.

Loans past due greater than 90 days and still accruing interest were none, $25 thousand, and $104 thousand for the years ended December 31, 2004, 2003 and 2002, respectively.

Note 7. Bank Premises and Equipment

A summary of the cost and accumulated depreciation and amortization of bank premises, equipment and software follows:

	2004		2003
Land	$	5,955	$	4,535
Buildings and leasehold improvements		22,230		21,908
Furniture, equipment and software		23,751		22,162
Construction in progress		339		116
	$	52,275	$	48,721
Less accumulated depreciation and amortization		24,417		21,410
	$	27,858	$	27,311

Depreciation and amortization expense amounted to $3.1 million in 2004, $2.9 million in 2003, and $2.5 million in 2002.

43

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Note 8. Deposits

The aggregate amount of time deposits in denominations of $100,000 or more at December 31, 2004 and 2003 was $129.4 million and $111.1 million, respectively.

At December 31, 2004, the scheduled maturities of time deposits were as follows:

2005	$	233,570
2006		114,540
2007		62,885
2008		48,341
2009		40,276
Thereafter		6
	$	499,618

Note 9. Short-Term Borrowings

The Corporation has a line of credit agreement with a correspondent bank for general working capital needs. The $15 million line is unsecured, calls for variable interest payments and is payable on demand. The balance outstanding at December 31, 2004 and 2003 was none and $6.5 million, respectively.

Federal funds purchased generally mature within one to four days from the transaction date. The balance outstanding at December 31, 2004 and 2003 was $5 million and $15.0 million, respectively.

Securities sold under agreements to repurchase, which are classified as secured borrowings, generally mature within one to four days from the transaction date. Securities sold under agreements to repurchase are reflected at the amount of cash received in connection with the transaction. Additional collateral may be required based on the fair value of the underlying securities. The balance outstanding at December 31, 2004 and 2003 was $16.2 million and $18.2 million, respectively.

Second Bank & Trust has an agreement with the Federal Reserve Bank where it can borrow funds deposited by customers. This agreement calls for variable interest and is payable on demand. U.S. Government securities are pledged as collateral. The targeted threshold maximum amount available under this agreement is $7.0 million. The balance outstanding at December 31, 2004 and 2003 was $814.5 thousand and $26.5 thousand, respectively. The Corporation, through its subsidiary banks, has uncollateralized, unused lines of credit totaling $92.4 million with nonaffiliated banks at December 31, 2004.

Note 10. Federal Home Loan Bank Advances

The Corporation’s fixed-rate, long-term debt of $14.1 million at December 31, 2004 matures through 2010. At December 31, 2004 and 2003, the interest rates on fixed-rate, long-term debt ranged from 1.96% to 7.07% and from 6.60% to 7.07% respectively. The weighted average interest rate at December 31, 2004 and 2003 was 5.12% and 6.85% respectively. Average balance outstanding during 2004 and 2003 was $13.3 million and $10.2 million respectively. The advance structures employed by the Corporation include $9 million fixed rate credit advances, $5 million convertible advances, and $60 thousand remaining on a principal reducing credit advance. Each structure requires quarterly interest payments, and the principal reducing credit also requires a quarterly payment of principal. The convertible advance is callable in the event that three month LIBOR reaches 8.5%.

The banking subsidiaries have available a combined $233 million line of credit with the Federal Home Loan Bank of Atlanta. Advances on the line are secured by securities and by a blanket lien on loan portfolios of Second Bank &

44

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Trust, Virginia Heartland Bank and Planters Bank & Trust Company of Virginia. The blanket lien covers the 1 to 4 family dwelling loans, home equity loans, and commercial loans. As of December 31, 2004 only 1 to 4 family loans were pledged totaling $109 million.

The contractual maturities of long-term debt are as follows:

	2004
Due in 2005	$	4,060
Due in 2006		5,000
Due in 2010		5,000
Total long-term debt	$	14,060

Note 11. Trust Preferred Capital Notes

During the first quarter of 2004, VFG Limited Liability Trust, a wholly-owned subsidiary of the Corporation, was formed for the purpose of issuing redeemable Capital Securities (commonly referred to as Trust Preferred Capital Notes). On March 18, 2004, $20 million of Trust Preferred Capital Notes were issued through a private transaction. The Trust issued $619 thousand in common equity to the Corporation. The securities have a LIBOR-indexed floating rate of interest which adjusts, and is payable, quarterly. The interest rate at December 31, 2004 was 5.29%. The securities may be redeemed at par beginning in June, 2009 and each quarterly anniversary of such date until the securities mature on June 17, 2034. The principal asset of the Trust is $20.6 million of the Virginia Financial Group’s junior subordinated debt securities with the like maturities and like interest rates to the Capital Securities.

The Trust Preferred Capital Notes may be included in Tier 1 capital for regulatory capital adequacy determination purposes up to 25% of Tier I capital after its inclusion. The portion of the Trust Preferred not considered as Tier I capital may be included in Tier II capital.

The obligations of the Corporation with respect to the issuance of the capital securities constitute a full and unconditional guarantee by the Corporation of the Trust’s obligations with respect to the capital securities.

Subject to certain exceptions and limitations, the Corporation may elect from time to time to defer interest payments on the junior subordinated debt securities, which would result in a deferral of distribution payments on the related capital securities.

Note 12. Stock-Based Compensation

Under the Corporation’s incentive stock option plan, the Corporation may grant options to purchase common stock to its directors, officers and employees of up to 750,000 shares of the Corporation’s common stock. The plan requires that options be granted at an exercise price equal to at least 100% of the fair market value of the common stock on the date of the grant. Such options vest over a five-year period and will expire in no more than ten years after the date of grant.

45

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

A summary of the status of the plan at December 31, 2004, 2003 and 2002 and changes during the years ended on those dates is as follows:

	2004					2003					2002
	Number of Shares			Weighted Average Exercise Price		Number of Shares			Weighted Average Exercise Price		Number of Shares			Weighted Average Exercise Price
Outstanding at beginning of year		79,008		$	20.33		70,399		$	18.12		63,093		$	14.32
Granted		11,250			34.48		11,834			30.36		17,900			31.60
Forfeited		(2,000	)		31.87		(1,440	)		—		(776	)		—
Exercised		(2,634	)		14.59		(1,785	)		17.93		(9,818	)		13.58
Outstanding at end of year		85,624		$	22.10		79,008		$	20.33		70,399		$	18.12
Exercisable at end of year		56,847					54,294					53,275
Weighted-average fair value per option of options granted during the year	$	12.14				$	10.22				$	10.86

A further summary about the options outstanding and exercisable at December 31, 2004 is as follows:

Options Outstanding					Options Exercisable
Weighted Average Remaining Contractual Life	Range of Exercise Price	Number Outstanding	Weighted Average Exercise Price		Number Exercisable	Weighted Average Exercise Price
9 years	$32.88 - $35.75	11,250	$	34.48	—		—
8 years	$29.58 - $32.00	9,834		30.05	1,967	$	30.05
7 years	$28.95 - $32.80	16,100		31.60	6,440		31.60
6 years	$13.90 - $14.99	47,748		14.50	47,748		14.50
3 years	$10.82	692		10.82	692		10.82
		85,624			56,847

Note 13. Employee Benefit Plans

The Corporation and its banking subsidiaries maintain several tax qualified and non-qualified employee benefit plans for employees, which are described below.

The Corporation has a noncontributory pension plan which conforms to the Employee Retirement Income Security Act of 1974 (ERISA). The amount of benefits payable under the plan is determined by an employee’s period of credited

46

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

service. The amount of normal retirement benefit will be determined based on a Pension Equity Credit formula. The employee receives credits based on their age and years of service. The plan provides for early retirement for participants with five years of service and the attainment of age 55. A participant who terminates employment with 2 or more years of service will be entitled to a benefit. The benefits are payable in single or joint/survivor annuities as well as a lump sum payment upon retirement or separation of service.

Utilizing a measurement date of October 1, 2004 for the 2004 plan year, information about the plan follows:

	2004			2003
Change in Benefit Obligation
Benefit obligation, beginning	$	4,234		$	3,883
Service cost		196			228
Interest cost		270			267
Actuarial (gain) loss		277			99
Benefits paid		(570	)		(243	)
Benefit obligation, ending	$	4,407		$	4,234
Change in Plan Assets
Fair value of plan assets, beginning	$	3,659		$	3,040
Actual return on plan assets		(19	)		539
Employer contributions		129			323
Benefits paid		(570	)		(243	)
Fair value of plan assets, ending	$	3,199		$	3,659
Funded status	$	(1,208	)	$	(576	)
Unrecognized net actuarial gain		1,251			669
Unrecognized prior service cost		71			103
Prepaid benefit cost included in other assets	$	114		$	196
Accumulated Benefit Obligation	$	3,779		$	3,646
Amount Recognized in Consolidated Balance Sheets
Prepaid benefit cost	$	114		$	196
Accrued benefit liability		(580	)		—
Deferred tax asset		178			—
Intangible asset		71			—
Accumulated other comprehensive income, net		331			—
Net amount recognized	$	114		$	196
Information for pension plans with an accumulated benefit obligation in excess of plan assets
Projected benefit obligation	$	4,407			N/A
Accumulated benefit obligation		3,779			N/A
Fair value of plan assets		3,199			N/A
Increase in minimum liability included in other comprehensive income		580			N/A

47

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Components of Net Periodic Benefit Cost

	2004			2003			2002
Service cost		196			228			320
Interest cost		270			267			254
Expected return on plan assets		(304	)		(252	)		(313	)
Amortization of prior service cost		32			32			36
Amortization of net obligation at transition		—			(43	)		(43	)
Recognized net actuarial gain		18			38			—
Net Periodic benefit cost	$	212		$	270		$	254

Weighted-Average Assumptions for Benefit Obligation as of October 1,
	2004		2003
Discount Rate	6.00	%	6.50	%
Expected Return on Plan Assets	8.50	%	8.50	%
Rate of Compensation Increase	4.00	%	4.00	%

Weighted-Average Assumptions for Net Periodic Benefit as of October 1,
	2004		2003
Discount Rate	6.50	%	7.00	%
Expected Return on Plan Assets	8.50	%	8.50	%
Rate of Compensation Increase	4.00	%	4.00	%

The Corporation selects the expected long-term rate-of-return-on-assets assumption in consultation with their investment advisors and actuary. This rate is intended to reflect the average rate of earnings expected to be earned on the funds invested or to be invested to provide plan benefits. Historical performance is reviewed—especially with respect to real rates of return (net of inflation)—for the major asset classes held or anticipated to be held by the trust, and for the trust itself. Undue weight is not given to recent experience—that may not continue over the measurement period—with higher significance placed on current forecasts of future long-term economic conditions.

Because assets are held in a qualified trust, anticipated returns are not reduced for taxes. Further—solely for this purpose—the plan is assumed to continue in force and not terminate during the period during which assets are invested. However, consideration is given to the potential impact of current and future investment policy, cash flow into and out of the trust, and expenses (both investment and non-investment) typically paid from plan assets (to the extent such expenses are not explicitly estimated within periodic cost).

The plan’s weighted average asset allocations at December 31, 2004, and December 31, 2003, by asset category are as follows:

	Plan Assets at December 31
Asset Category	2004		2003
Money Markets and Equivalents	—		10.7	%
Equity Securities	77.6	%	76.0	%
Debt Securities	22.4	%	13.3	%
Total	100.0	%	100.0	%

48

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

The investment policy and strategies for the plan assets can best be described as a capital growth and with current cash income strategy. The target allocation for equities is 75% of the total portfolio through the use of large and mid capitalization companies. The remaining asset allocation is to fixed income investments and money market funds. The portfolio is diversified by limiting the holding in any one equity issue to no more than 5% of total equities and one industry to no more than 25%. All fixed income investments are rated as investment grade with the majority of the assets in corporate issues. The Assets are managed by the Corporation’s wholly own trust Corporation, Virginia Commonwealth Trust Corporation. The portfolio does not include any position in Virginia Financial Group, Inc.

The Corporation’s best estimate of contributions to the plan for 2005 is $263 thousand.

Estimated future benefit payments, which reflect expected future service, as appropriate, are as follows:

2005	$	263
2006		271
2007		262
2008		320
2009		317
2009-2014		2,427
	$	3,860

The Corporation has a contribution retirement plan covering certain employees. Contributions amounted to $692 thousand, $348 thousand, and $473 thousand for the three years ended December 31, 2004, respectively.

The Corporation has a 401 (k) Savings Plan eligible to all employees with matching contributions equal to 50% of the first 6% of salary reduction contributions made by the employee. The Corporation contributed a matching contribution of $599 thousand, $566 thousand, and $158 thousand for the three years ended December 31, 2004, respectively.

The Corporation has a Non-Qualified Directors Deferred Compensation Plan. This plan allows for the deferral of pre-tax income associated with payment of director fees. Directors may elect to defer all or a portion of their annual directors fees. Monthly board fees are contributed directly to a trust with various investment options, and are held until such time the director is entitled to receive a distribution.

The Corporation also has a non-qualified Executive Deferred Compensation Plan for key employees. Pursuant to the plan, the President and any other employees selected by the Board of Directors may defer receipt of a certain amount of pre-tax income and cash incentive compensation for a period of no less than three years or until retirement, subject to termination of employment or certain other events, including an imminent change in control. The Board may make contributions at its discretion. The deferred compensation charged to expense totaled $22 thousand, $21 thousand, and $25 thousand for the three years ended December 31, 2004, respectively.

The Corporation has an incentive bonus plan under which employees receive compensation directly related to affiliate and Corporation profitability and budget performance. Compensation under the plan is calculated under pre-determined guidelines set by the Holding Company Board of Directors. The amount charged to operations was $520 thousand, $850 thousand, and $1.3 million for the three years ended December 31, 2004, respectively.

The Corporation’s Virginia Heartland Bank affiliate has supplemental retirement agreements with the Bank’s former executive officers which provide benefits payable over fifteen years. The present value of the estimated liability under the agreements is being accrued using a discount rate of 10% and 7.5%, respectively, ratably over the remaining years to the date of eligibility for benefits. The deferred compensation expense charged to expense totaled $49 thousand, $112 thousand, and $149 thousand for the three years ended December 31, 2004, respectively.

49

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Note 14. Income Taxes

The components of the net deferred tax asset, included in the Consolidated Balance Sheets, are as follows:

	December 31,
	2004		2003
Deferred tax assets:
Allowance for loan losses	$	3,827	$	2,939
Nonaccrual loan interest		180		109
Deferred compensation		1,021		687
Minimum pension liability		178		—
Core deposit intangible		94		19
Other		14		11
	$	5,314	$	3,765
Deferred tax liabilities:
Accrued pension asset	$	40	$	50
Premises and equipment		528		442
Securities available for sale		1,061		2,279
FHLB stock dividend		59		59
Goodwill		409		81
Other		91		42
	$	2,188	$	2,953
Net deferred tax asset	$	3,126	$	812

The income tax expense charged to operations for the years ended December 31, 2004, 2003 and 2002 consists of the following:

	2004			2003			2002
Current tax expense	$	7,483		$	5,496		$	4,960
Deferred tax benefit		(918	)		(447	)		(584	)
	$	6,565		$	5,049		$	4,376

50

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

The income tax provision differs from the amount of income tax determined by applying the U.S. federal income tax rate to pretax income due to the following:

	2004					2003					2002
	Amount			Rate		Amount			Rate		Amount			Rate
Computed “expected” tax expense	$	7,619		35.0	%	$	6,489		35.0	%	$	5,849		35.0	%
Increase (decrease) in income taxes resulting from:
Tax-exempt interest income, net		(1,066	)	-4.9	%		(1,265	)	-6.8	%		(1,320	)	-7.9	%
Other		12		0.1	%		26		0.1	%		15		0.1	%
Reduction for taxable income <$10 million		—		—			(201	)	-1.1	%		(168	)	-1.0	%
	$	6,565		30.2	%	$	5,049		27.2	%	$	4,376		26.2	%

Note 15. Related Party Transactions

In the ordinary course of business, the Banks grant loans to principal officers, directors and affiliates of the Corporation.

Aggregate loan transactions with related parties were as follows:

Beginning balance	$	11,675		$	9,776
New loans		24,577			14,886
Repayments		(16,126	)		(12,987	)
Ending balance	$	20,126		$	11,675

Note 16. Earnings Per Share

The following shows the weighted average number of shares used in computing earnings per share and the effect on weighted average number of shares of diluted potential common stock. Potential dilutive common stock had no effect on income available to common stockholders.

	2004			2003			2002
	Shares	Per Share Amount		Shares	Per Share Amount		Shares	Per Share Amount
Basic earnings per share	7,158,574	$	2.12	7,155,814	$	1.89	7,268,797	$	1.70
Effect of dilutive securities:
Restricted stock	12,241			8,624			1,949
Stock options	30,935			28,046			26,280
Diluted earnings per share	7,201,750	$	2.11	7,192,484	$	1.88	7,297,026	$	1.69

Stock options representing 6,283, 8,865 and 2,400 shares at December 31, 2004, 2003 and 2002, respectively, were not included in the calculation of earnings per share as their effect would have been anti-dilutive.

51

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Note 17. Commitments and Contingent Liabilities

The Corporation has noncancellable leases covering certain premises and equipment.

Total rent expense applicable to operating leases was $553 thousand, $402 thousand, and $327 thousand for 2004, 2003 and 2002, respectively, and was included in occupancy expense.

The following is a schedule by year of future minimum lease requirements required under the long-term noncancellable lease agreements:

2005	$	475
2006		385
2007		304
2008		234
2009		108
Thereafter		1,824
Total	$	3,330

In the normal course of business there are outstanding various commitments and contingent liabilities, which are not reflected in the accompanying financial statements. Management does not anticipate any material losses as a result of these transactions.

See Note 19 with respect to financial instruments with off-balance sheet risk.

Note 18. Restrictions on Transfers to Parent

Federal and state banking regulations place certain restrictions on dividends paid and loans or advances made by the Banks to the Corporation.

During 2004, the banking subsidiaries and the non-bank subsidiary did not paid dividends to the Parent Corporation. As of December 31, 2004, the aggregate amount of additional unrestricted funds, which could be transferred from the banking subsidiaries to the Parent Corporation without prior regulatory approval totaled $21.3 million or 16.8% of the consolidated net assets.

In addition, dividends paid by the Banks to the Corporation would be prohibited if the effect thereof would cause the Banks’ capital to be reduced below applicable minimum capital requirements.

Note 19. Financial Instruments with Off-Balance-Sheet Risk

The Corporation, through its banking subsidiaries, is party to credit related financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk and interest rate risk in excess of the amount recognized in the balance sheet. The contract amount of those instruments reflects the extent of involvement the Corporation has in particular classes of financial instruments.

52

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

The Corporation’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Corporation uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments.

At December 31, 2004 and 2003 the following financial instruments were outstanding whose contract amounts represent credit risk:

	2004		2003
Commitments to extend credit	$	366,815	$	300,555
Standby letters of credit		11,525		13,396
Mortgage loans sold with potential recourse		26,963		25,394

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The commitments for equity lines of credit may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if it is deemed necessary by the Corporation, is based on management’s credit evaluation of the customer.

Unfunded commitments under commercial lines of credit, revolving credit lines and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. These lines of credit are usually uncollateralized and do not always contain a specified maturity date and may not be drawn upon to the total extent to which the Corporation is committed.

Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Corporation generally holds collateral supporting those commitments, if deemed necessary.

The Corporation, through its banking subsidiaries, originates loans for sale to secondary market investors subject to contractually specified and limited recourse provisions. In 2004, the Corporation originated $148 million and sold $148 million to investors, compared to $234 million originated and $246 million sold in 2003. Most contracts with investors contain certain recourse language which may vary from 90 days up to nine months. The Corporation may have an obligation to repurchase a loan if the mortgagor has defaulted early in the loan term. Mortgages subject to recourse are collateralized by single family residences, have loan-to-value ratios of 80% or less, or have private mortgage insurance or are insured or guaranteed by an agency of the United States government. At December 31, 2004, the Corporation had locked-rate commitments to originate mortgage loans amounting to approximately $15.1 million and loans held for sale of $5.7 million. The Corporation has entered into commitments, on a best-effort basis to sell loans of approximately $20.8 million. Risks arise from the possible inability of counterparties to meet the terms of their contracts. The Corporation does not expect any counterparty to fail to meet its obligations.

The Corporation maintains cash accounts in other commercial banks. The amount on deposit at December 31, 2004 exceeded the insurance limits of the Federal Deposit Insurance Corporation by $1.4 million.

53

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Note 20. Fair Value of Financial Instruments and Interest Rate Risk

The fair value of a financial instrument is the current amount that would be exchanged between willing parties, other than in a forced liquidation. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Corporation’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Corporation.

The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:

Cash and Short-Term Investments

For those short-term instruments, the carrying amount is a reasonable estimate of fair value.

Securities

For securities and marketable equity securities held for investment purposes, fair values are based on quoted market prices or dealer quotes. For other securities held as investments, fair value equals quoted market price, if available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. Restricted stock is carried at cost.

Loans Held for Sale

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

Loans

For variable-rate loans that re-price frequently and with no significant changes in credit risk, fair values are based on carrying values. The fair values for other loans were estimated using discounted cash flow analyses, using interest rates currently being offered.

Deposit Liabilities

The fair value of demand deposits, savings accounts, and certain money market deposits is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities.

Short-Term Borrowings

The carrying amounts of federal funds purchased, borrowings under repurchase agreements, and other short-term borrowings maturing within 90 days approximate their fair values. Fair values of other short-term borrowings are estimated using discounted cash flow analyses on the Corporation’s current incremental borrowing rates for similar types of borrowing arrangements.

Federal Home Loan Bank Advances

The fair values of the Corporation’s Federal Home Loan Bank advances are estimated using discounted cash flow analyses based on the Corporation’s current incremental borrowing rates for similar types of borrowing arrangements.

Trust Preferred Capital Notes

The values of the Corporation’s Trust Preferred Capital Notes are variable rate instruments that reprice frequently, therefore, carrying value is assumed to approximate fair value.

54

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Accrued Interest

The carrying amounts of accrued interest approximate fair value.

Off-Balance-Sheet Financial Instruments

The fair value of commitments to extend credit is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates.

The fair value of stand-by letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date.

At December 31, 2004, and 2003, the fair value of loan commitments and stand-by letters of credit was immaterial.

The estimated fair values of the Corporation’s financial instruments are as follows:

	2004				2003
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets:
Cash and short-term investments	$	39,326	$	39,326	$	45,178	$	45,178
Securities		292,158		292,496		364,298		364,926
Loans held for sale		5,715		5,715		5,174		5,174
Loans, net		1,049,869		1,042,651		912,946		904,045
Interest receivable		5,716		5,716		5,914		5,914
Financial liabilities:
Deposits	$	1,257,164	$	1,196,265	$	1,210,774	$	1,171,560
Federal funds purchased and securities sold under agreements to repurchase		21,155		21,155		33,155		33,155
Trust preferred capital notes		20,619		20,619		—		—
Other borrowings		815		815		6,526		6,526
Federal Home Loan Bank advances		14,060		14,566		9,140		10,155
Interest payable		2,120		2,120		2,223		2,223

Note 21. Regulatory Matters

The Corporation (on a consolidated basis) and the subsidiary banks are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Corporation’s and subsidiary banks’ financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation and the subsidiary banks must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Prompt corrective action provisions are not applicable to bank holding companies.

55

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

Quantitative measures established by regulation to ensure capital adequacy require the Corporation and the subsidiary banks to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as of December 31, 2004 and 2003, that the Corporation and subsidiary banks met all capital adequacy requirements to which they are subject.

As of December 31, 2004, the most recent notification from the Federal Reserve Bank and the Federal Deposit Insurance Corporation categorized the subsidiary banks as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the institutions must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the following tables. There are no conditions or events since the notification that management believes have changed the institutions’ category.

56

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share data)

	Actual				Minimum Capital Requirement				Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
	(Amount in Thousands)
As of December 31, 2004:
Total Capital (to Risk Weighted Assets):
Consolidated	$	137,564	12.37	%	$	88,983	8.00	%		N/A
Second Bank & Trust	$	38,322	11.44	%	$	26,808	8.00	%	$	33,509	10.00	%
Virginia Heartland Bank	$	22,440	11.02	%	$	16,286	8.00	%	$	20,357	10.00	%
Planters Bank & Trust	$	66,281	11.70	%	$	45,308	8.00	%	$	56,635	10.00	%
Tier 1 Capital (to Risk Weighted Assets):
Consolidated	$	125,725	11.30	%	$	44,492	4.00	%		N/A
Second Bank & Trust	$	34,911	10.42	%	$	13,404	4.00	%	$	20,106	6.00	%
Virginia Heartland Bank	$	20,137	9.89	%	$	8,143	4.00	%	$	12,214	6.00	%
Planters Bank & Trust	$	60,289	10.65	%	$	22,654	4.00	%	$	33,981	6.00	%
Tier 1 Capital (to Average Assets):
Consolidated	$	125,725	8.77	%	$	57,327	4.00	%		N/A
Second Bank & Trust	$	34,911	8.02	%	$	17,422	4.00	%	$	21,777	5.00	%
Virginia Heartland Bank	$	20,137	8.26	%	$	9,752	4.00	%	$	12,191	5.00	%
Planters Bank & Trust	$	60,289	7.90	%	$	30,524	4.00	%	$	38,155	5.00	%
As of December 31, 2003:
Total Capital (to Risk Weighted Assets):
Consolidated	$	104,948	10.57	%	$	79,394	8.0	%		N/A
Second Bank & Trust	$	29,371	10.04	%	$	23,407	8.0	%	$	29,259	10.0	%
Virginia Heartland Bank	$	19,016	10.49	%	$	14,507	8.0	%	$	18,134	10.0	%
Planters Bank & Trust	$	56,484	10.92	%	$	41,380	8.0	%	$	51,726	10.0	%
Tier 1 Capital (to Risk Weighted Assets):
Consolidated	$	95,107	9.58	%	$	39,697	4.0	%		N/A
Second Bank & Trust	$	26,599	9.09	%	$	11,703	4.0	%	$	17,555	6.0	%
Virginia Heartland Bank	$	16,808	9.27	%	$	7,254	4.0	%	$	10,880	6.0	%
Planters Bank & Trust	$	51,670	9.99	%	$	20,690	4.0	%	$	31,035	6.0	%
Tier 1 Capital (to Average Assets):
Consolidated	$	95,107	7.03	%	$	54,086	4.0	%		N/A
Second Bank & Trust	$	26,599	6.39	%	$	16,651	4.0	%	$	20,814	5.0	%
Virginia Heartland Bank	$	16,808	7.62	%	$	8,827	4.0	%	$	11,034	5.0	%
Planters Bank & Trust	$	51,670	6.76	%	$	30,573	4.0	%	$	38,217	5.0	%

57

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands)

Note 22. Parent Corporation Only Financial Statements

VIRGINIA FINANCIAL GROUP, INC.

(Parent Corporation Only)

Balance Sheets

December 31, 2004 and 2003

	2004		2003
Assets
Cash and due from banks	$	740	$	1,243
Securities available for sale		8,014		2,169
Investment in subsidiaries		137,649		120,648
Premises and equipment, net		1,962		2,670
Income taxes receivable		90		206
Accrued interest receivable		24		—
Other assets		3,051		2,228
Total assets	$	151,530	$	129,164
Liabilities
Trust preferred capital notes	$	20,619	$	—
Short-term borrowings		—		6,500
Other liabilities		3,822		2,834
Total liabilities	$	24,441	$	9,334
Stockholders’ Equity
Preferred stock	$	—	$	—
Common stock		35,807		35,764
Surplus		7,774		7,578
Retained earnings		81,869		72,255
Accumulated other comprehensive income, net		1,639		4,233
Total stockholders’ equity	$	127,089	$	119,830
Total liabilities and stockholders’ equity	$	151,530	$	129,164

58

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands)

VIRGINIA FINANCIAL GROUP, INC.

(Parent Corporation Only)

Statements of Income

Years Ended December 31, 2004, 2003 and 2002

	2004			2003			2002
Income
Dividends from subsidiaries	$	—		$	16,650		$	6,555
Interest on investments
Taxable		112			65			162
Nontaxable		—			121			184
Dividends		30			78			82
Management fee income		7,520			5,364			2,018
Miscellaneous income		111			22			—
Gain (loss) on sale of securities		(232	)		383			(37	)
	$	7,541		$	22,683		$	8,964
Expenses
Salaries and employee benefits	$	4,881		$	4,678		$	2,164
Supplies and equipment		1,724			1,336			507
Professional fees		643			288			185
Director fees		275			317			261
Interest expense		723			35			—
Other		1,551			1,584			581
	$	9,797		$	8,238		$	3,698
Net income (loss) before income tax benefit and (distributed) undistributed equity of subsidiaries	$	(2,256	)	$	14,445		$	5,266
Income tax benefit		885			792			604
Net income (loss) before undistributed (distributed) equity in subsidiaries	$	(1,371	)	$	15,237		$	5,870
Undistributed (distributed) equity in subsidiaries		16,574			(1,745	)		6,465
Net income	$	15,203		$	13,492		$	12,335

59

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands)

(Parent Corporation Only)

Statements of Cash Flows

Years Ended December 31, 2004, 2003 and 2002

	2004			2003			2002
Cash Flows from Operating Activities
Net income	$	15,203		$	13,492		$	12,335
Adjustments to reconcile net income to net cash provided by operating activities:
Accretion of discounts on securities purchased, net		(57	)		13			24
Depreciation		1,084			892			389
Deferred tax benefit		(71	)		(35	)		(242	)
Loss (gain) on sale of securities		232			(383	)		37
(Undistributed) distributed earnings of subsidiaries		(16,574	)		1,745			(6,465	)
(Increase) decrease in taxes receivable		116			13			(24	)
(Increase) decrease in accrued interest		(24	)		126			(7	)
(Increase) decrease in other assets		(85	)		(309	)		(63	)
(Decrease) increase in other liabilities		408			506			(15	)
Net cash provided by operating activities	$	232		$	16,060		$	5,969
Cash Flows from Investing Activities
Proceeds from sales of securities available for sale	$	1,323		$	9,442		$	5,990
Capital contributed to subsidiary		(3,000	)		(22,000	)		—
Purchases of securities available for sale		(7,237	)		(1,556	)		(429	)
Purchase of other real estate		(547	)		—			(318	)
Purchase of furniture and equipment		(376	)		(1,507	)		(2,337	)
Proceeds from sale of equipment		—			—			14
Proceeds from sale of other real estate		534			—			—
Net cash provided by (used in) investing activities	$	(9,303	)	$	(15,621	)	$	2,920
Cash Flows from Financing Activities
Increase (decrease) from short-term borrowings	$	(6,500	)	$	6,500		$	—
Cash dividends paid		(5,589	)		(5,371	)		(5,261	)
Cash paid in lieu of fractional shares		—			—			(22	)
Issuance of trust preferred capital notes		20,619			—			—
Proceeds from exercise of stock options		38			32			130
Acquisition of common stock		—			(818	)		(4,033	)
Net cash provided by (used in) financing activities	$	8,568		$	343		$	(9,186	)
Increase (decrease) in cash and cash equivalents	$	(503	)	$	782		$	(297	)
Cash and Cash Equivalents
Beginning		1,243			461			758
Ending	$	740		$	1,243		$	461

60

VIRGINIA FINANCIAL GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Dollars in Thousands)

Note 23. Unaudited Interim Financial Information

The results of operations for each of the quarters during the two years ended December 31, 2004 and 2003 are summarized below:

	2004 Quarter Ended
	March 31,		June 30,		September 30,		December 31,
Interest income	$	17,380	$	17,255	$	17,936	$	17,831
Interest expense		4,888		4,693		4,775		5,272
Net interest income		12,492		12,562		13,161		12,559
Provision for loan losses		681		636		636		581
Total net interest income after provision		11,811		11,926		12,525		11,978
Non interest income		3,457		3,949		3,642		3,496
Non interest expense		10,435		10,635		10,433		9,513
Income before income taxes		4,833		5,240		5,734		5,961
Provision for income taxes		1,378		1,555		1,743		1,889
Net income		3,455		3,685		3,991		4,072
Net income per share
basic		0.48		0.51		0.56		0.57
diluted		0.48		0.51		0.55		0.56
	2003 Quarter Ended
	March 31,		June 30,		September 30,		December 31,
Interest income	$	15,272	$	15,203	$	15,389	$	16,963
Interest expense		4,991		4,764		4,622		4,980
Net interest income		10,281		10,439		10,767		11,983
Provision for loan losses		323		322		323		322
Total net interest income after provision		9,958		10,117		10,444		11,661
Non interest income		3,659		3,870		4,176		3,522
Non interest expense		9,150		9,195		9,907		10,614
Income before income taxes		4,467		4,792		4,713		4,569
Provision for income taxes		1,173		1,203		1,181		1,492
Net income		3,294		3,589		3,532		3,077
Net income per share
basic		0.46		0.50		0.49		0.43
diluted		0.46		0.50		0.49		0.43

61

Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

Not applicable.

Item 9A. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures.

As of December 31, 2004, VFG’s management, including VFG’s Chief Executive Officer (CEO) and Chief Financial Officer (CFO), have conducted an evaluation of the effectiveness of its disclosure controls and procedures pursuant to Rule 13a-15(b) of the Exchange Act. Based on that evaluation, the CEO and CFO concluded that VFG’s disclosure controls and procedures are effective and that information required to be disclosed by the Corporation in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and regulations and that such information is accumulated and communicated to the Corporation’s management, including the Corporation’s Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that the Corporation’s disclosure controls and procedures will detect or uncover every situation involving the failure of persons within the Corporation or its affiliates to disclose material information otherwise required to be set forth in the Corporation’s periodic reports.

Management’s Report on Internal Control Over Financial Reporting

The management of Virginia Financial Group, Inc. (the “Corporation”) is responsible for the preparation, integrity and fair presentation of the financial statements included in this Annual Report. The financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America and reflect management’s judgments and estimates concerning the effects of events and transactions that are accounted for or disclosed.

Management is also responsible for establishing and maintaining an effective internal control over financial reporting. The Corporation’s internal control over financial reporting includes those policies and procedures that pertain to the Corporation’s ability to record, process, summarize and report reliable financial data. The internal control system contains monitoring mechanisms, and appropriate actions are taken to correct identified deficiencies. Management believes that internal controls over financial reporting, which are subject to scrutiny by management and the Corporation’s internal auditors, support the integrity and reliability of the financial statements. Management recognizes that there are inherent limitations in the effectiveness of any internal control system, including the possibility of human error and the circumvention or overriding of internal controls. Accordingly, even effective internal control over financial reporting can provide only reasonable assurance with respect to financial statement preparation. In addition, because of changes in conditions and circumstances, the effectiveness of internal control over financial reporting may vary over time.

Management assessed the Corporation’s system of internal control over financial reporting as of December 31, 2004. This assessment was conducted based on the Committee of Sponsoring Organizations (“COSO”) of the Treadway Commission “Internal Control - Integrated Framework”. Based on this assessment, management believes that the Corporation maintained effective internal control over financial reporting as of December 31, 2004. Management’s assessment concluded that there were no material weaknesses within the Corporation’s internal control structure.

The 2004 end-of-year financial statements have been audited by the independent registered public accounting firm of Yount, Hyde & Barbour, P.C. (“YHB”). Personnel from YHB were given unrestricted access to all financial records and related data, including minutes of all meetings of the Board of Directors and Committees thereof. Management believes that all representations made to the independent auditors were valid and appropriate. The resulting report from YHB accompanies the financial statements. YHB has also issued an attestation report on management’s assessment of the effectiveness of internal controls over financial reporting. That report has also been made a part of this Annual Report.

The Board of Directors of the Corporation, acting through its Audit and Compliance Committee (the “Committee”), is responsible for the oversight of the Corporation’s accounting policies, financial reporting and internal control. The Audit and Compliance Committee of the Board of Directors is comprised entirely of outside directors who are independent of management. The Audit and Compliance Committee is responsible for the appointment and compensation of the independent auditors and approves decisions regarding the appointment or removal of members of the internal audit function. The Committee meets periodically with management, the independent auditors, and the internal auditors to insure that they are carrying out their responsibilities. The Committee is also responsible for performing an oversight role by reviewing and monitoring the financial accounting, and auditing procedures of the Corporation in addition to reviewing the Corporation’s financial reports. The independent auditors and the internal auditors have full and unlimited access to the Audit and Compliance Committee, with or without the presence of the management of the Corporation, to discuss the adequacy of internal control over financial reporting, and any other matters which they believe should be brought to the attention of the Audit and Compliance Committee.

/s/ O. R. Barham, Jr.	/s/ Jeffrey W. Farrar
President and Chief Executive Officer	Executive Vice President and Chief Financial Officer

Changes in Internal Control Over Financial Reporting.

There has been no change in VFG’s internal control over financial reporting during the fiscal quarter ended December 31, 2004 that has materially affected, or is reasonably likely to materially affect, VFG’s internal control over financial reporting.

Item 9B. OTHER INFORMATION

Not applicable.

PART III

Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information with respect to the directors of the Corporation is contained on pages 6 through 8 of the Corporation’s 2005 Proxy Statement under the caption, “Election of Directors,” and is incorporated herein by reference. The information regarding the Section 16(a) reporting requirements of the directors and executive officers is contained on page 8 of the 2005 Proxy Statement under the caption, “Section 16(a) Beneficial Ownership Reporting Compliance,” and is incorporated herein by reference. The

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information concerning executive officers of the Corporation is included in Part 1 of this Form 10-K under the caption, “Executive Officers of the Registrant. “Information with respect to the Corporation’s Audit and Compliance Committee is contained on pages 15 through 16 of the Corporation’s 2005 Proxy Statement under the caption “Corporate Governance and Board Matters,” and is incorporated herein by reference.

VFG has adopted a code of ethics for its executive officers (including the principal executive officer and chief financial officer) as well as a Directors Code of Professional Conduct for its directors. These documents can be found under corporate governance at www.vfgi.net. Stockholders may request a free printed copy of each from:

Virginia Financial Group, Inc.

Attention: Investor Relations

102 S. Main Street

Culpeper, Virginia 22701

Audit and Compliance Committee Financial Expert

The Board of Directors has determined that Jan S. Hoover, Vice Chairperson of the Audit and Compliance Committee, is a financial expert and is independent under the rules of the Exchange Act and NASDAQ Stock Market, Inc. as currently in effect.

Item 11. EXECUTIVE COMPENSATION

Information regarding executive and director compensation is set forth under the caption “Executive Compensation” in the 2005 Proxy Statement, and is incorporated herein by reference. The information on page 17 of the 2005 Proxy Statement under the caption “Stock Performance Graph” is incorporated by reference.

Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Information regarding security interest of certain beneficial owners and management is set forth under the caption “Security Interest of Certain Beneficial Owners and Management” in the Proxy Statement, and is incorporated herein by reference. The information on page 9 of the 2005 Proxy Statement under the caption “Securities Authorized for Issuance under Equity Compensation Plans” is incorporated herein by reference.

Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information regarding certain relationships and related transactions is set forth under “Certain Relationships and Related Transactions” in the 2005 Proxy Statement, and is incorporated herein by reference.

Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

Information regarding principal auditor fees and services is set forth under “Principal Accountant Fees and Services” in the 2005 Proxy Statement, and is incorporated herein by reference.

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PART IV

Item 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

The following documents are filed as part of this report:

(a)(1) Financial Statements

The financial statements are filed as part of this report under Item 8 – “Financial Statements and Supplemental Data.”

(b)(2) Financial Statement Schedules

All schedules are omitted since they are not required, are not applicable, or the required information is shown in the consolidated financial statements or notes thereto.

(a)(3) Exhibits

The following exhibits are either filed as part of this Report or are incorporated herein by reference:

Exhibit No. 2.1	Agreement and Plan of Reorganization, dated as of June 12, 2001, between Virginia Financial Corporation and Virginia Commonwealth Financial Corporation, incorporated by reference to Appendix A to Form S-4 Amendment No. 2 filed on November 20, 2001 (File No. 333-69216).
Exhibit No. 2.2	Purchase and Assumption Agreement, dated as of June 11, 2003, by and between BB&T Corporation, First Virginia Bank-Southwest, First Virginia Bank-Blue Ridge and First Virginia Bank-Colonial and Planters Bank & Trust Company of Virginia and Second Bank & Trust, incorporated by reference to Exhibit 2.1 to Form 8-K filed on September 29, 2003.
Exhibit No. 3.1	Articles of Incorporation, incorporated by reference to Exhibit 3.1 to Form 8-K filed on January 30, 2002.
Exhibit No. 3.2	Bylaws, incorporated by reference to Exhibit 3.2 to Form 8-K filed on January 30, 2002.
Exhibit No. 10.1*	Virginia Financial Corporation Stock Option Agreement, dated as of June 12, 2001, between Virginia Financial Corporation and Virginia Commonwealth Financial Corporation, incorporated by reference to Appendix B to Form S-4 Amendment No. 2 filed on November 20, 2001 (File No. 333-69216).
Exhibit No. 10.2*	Virginia Commonwealth Financial Corporation Stock Option Agreement, dated as of June 12, 2001, between Virginia Financial Corporation and Virginia Commonwealth Financial Corporation, incorporated by reference to Appendix C to Form S-4 Amendment No. 2 filed on November 20, 2001 (File No. 333-69216).

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Exhibit No. 10.3*	Virginia Financial Group, Inc. Stock Incentive Plan, dated January 18, 2002, incorporated by reference to Exhibit 99.0 to Form S-8 filed on February 26, 2002.
Exhibit No. 10.4*	Employment Agreement dated March 7, 2005 between Virginia Financial Group, Inc. and O.R. Barham, Jr.
Exhibit No. 10.5*	Employment Agreement dated March 7, 2005 between Virginia Financial Group, Inc. and Jeffrey W. Farrar.
Exhibit No. 10.6*	Employment Agreement, dated October 4, 2004, between Virginia Financial Group, Inc. and Litz H. Van Dyke, incorporated by reference to Exhibit 10.1 to Form 8-K filed on October 6, 2004.
Exhibit No. 10.7*	Employment Agreement, dated October 22, 2001, between Virginia Financial Group, Inc. and William D. Stegall.
Exhibit No. 10.8*	Employment Agreement, dated June 15, 2000, between Virginia Financial Group, Inc. and Christopher J. Honenberger.
Exhibit No. 10.9*	Non-Qualified Directors Deferred Compensation Plan.
Exhibit No. 10.10*	Non-Qualified Executive Deferred Compensation Plan.
Exhibit No. 10.11	Virginia Financial Group, Inc. Executive Incentive Plan dated March 1, 2005.
Exhibit No. 10.12	Schedule of Virginia Financial Group, Inc. Non-Employee Directors’ Annual Compensation
Exhibit No. 10.13	Schedule of 2005 Base Salaries for Named Executive Officers of Virginia Financial Group, Inc.
Exhibit No. 10.14	Agreement, dated November 9, 2004, between Planters Bank & Trust Company of Virginia and Bank of Tazewell County.
Exhibit No. 11	Computation of per share earnings, incorporated by reference to note 1 of the consolidated financial statements incorporated by reference herein.
Exhibit No. 13	2004 Annual Report to Shareholders.
Exhibit No. 21	Subsidiaries of Registrant.
Exhibit No. 23	Consent of Independent Auditors.
Exhibit No. 31.1	Certification of Chief Executive Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.
Exhibit No. 31.2	Certification of Chief Financial Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.

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Exhibit No. 32 Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

* Denotes management contract.

Signatures

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

Virginia Financial Group, Inc.	Virginia Financial Group, Inc.
Culpeper, Virginia	Culpeper, Virginia
/s/ O.R. Barham, Jr.	/s/ Jeffrey W. Farrar
O.R. Barham, Jr.	Jeffrey W. Farrar
President and Chief Executive Officer	Executive Vice President and Principal Accounting Officer
Date: March 14, 2005	Date: March 14, 2005

Signature	Capacity	Date
/s/ Taylor E. Gore	Chairman of the Board of Directors	March 14, 2005
Taylor E. Gore
/s/ Lee S. Baker	Director	March 14, 2005
Lee S. Baker
/s/ Benham M. Black	Director	March 14, 2005
Benham M. Black
/s/ Fred D. Bowers	Director	March 14, 2005
Fred D. Bowers
/s/ E. Page Butler	Director	March 14, 2005
E. Page Butler
/s/ Gregory L. Fisher	Director	March 14, 2005
Gregory L. Fisher

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Signature	Capacity	Date
/s/ Christopher M. Hallberg	Director	March 14, 2005
Christopher M. Hallberg
/s/ Jan S. Hoover	Director	March 14, 2005
Jan S. Hoover
/s/ Martin F. Lightsey	Director	March 14, 2005
Martin F. Lightsey
/s/ P. William Moore, Jr.	Director	March 14, 2005
P. William Moore, Jr.
/s/ H. Wayne Parrish	Director	March 14, 2005
H. Wayne Parrish
/s/ Thomas F. Williams, Jr.	Director	March 14, 2005
Thomas F. Williams, Jr.

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EX-10.4

Exhibit 10.4

EMPLOYMENT AGREEMENT

THIS EMPLOYMENT AGREEMENT, dated as of this 7th day of March 2005, by and between Virginia Financial Group, Inc., a Virginia corporation (the “Company”), and O.R. Barham, Jr. (the “Executive”).

WHEREAS, the Company considers the availability of the Executive’s services to be important to the management and conduct of the Company’s business and desires to secure the continued availability of the Executive’s services; and

WHEREAS, the Executive is willing to make his services available to the Company on the terms and subject to the conditions set forth herein.

In consideration of the mutual covenants and agreements set forth herein, the parties agree as follows:

Part I: General Employment Terms

1. Employment and Duties. The Company will employ the Executive as President and Chief Executive Officer of the Company on the terms and subject to the conditions of this Agreement. The Executive accepts such employment and agrees to perform the managerial duties and responsibilities of President and Chief Executive Officer. The Executive agrees to devote his time and attention on a full-time basis to the discharge of such duties and responsibilities of an executive nature as may be assigned him by the Board of Directors of the Company. The Executive may accept any elective or appointed positions or offices with any duly recognized associations or organizations whose activities or purposes are closely related to the banking business or service to which would generate good will for the Company and its subsidiaries.

2. Term. The term of this Agreement (the “Term”) is effective as of January 1, 2005 and will continue through December 31, 2007, unless terminated or extended as hereinafter provided. This Agreement shall be extended for successive one-year periods following the original term unless either party notifies the other in writing at least ninety (90) days prior to the end of the original term, or the end of any additional one-year renewal term, that the Agreement shall not be extended beyond its current term.

3. Compensation.

(a) Base Salary. The Company shall pay the Executive an annual base salary not less than $319,000 in 2005, $330,000 in 2006, and $342,000 in 2007. The base salary shall be paid to the Executive in accordance with established payroll practices of the Company. In connection with the annual performance review of the Executive, the Company will review the succeeding year’s base salary amount on or before November 30^th of each year to consider whether any adjustments should be made to the base salary

for such year; however, the base salary shall not be less than the minimum amounts referred to above for the first three years of this Agreement, nor shall the base salary be less than $342,000 during any renewal term.

(b) Annual Bonus. During the term of this Agreement, the Executive will be eligible to participate in an annual incentive plan that will establish measurable criteria and incentive compensation levels payable to the Executive for corporate performance in relation to defined threshold benchmarks. The Compensation Committee or the Board of Directors of the Company, as the case may be, and the Executive will mutually establish the targeted corporate performance levels for the Company on an annual basis consistent with the Company’s business plan and objectives. Achievement of the targeted corporate performance levels will result in an annual cash bonus payment equal to at least 35% of the Executive’s then current annual base salary. To the extent the Company exceeds the targeted performance levels, the incentive plan will provide a means by which the annual bonus will be increased. Similarly, the incentive plan will provide a means by which the annual bonus will be decreased if the targeted performance levels are not achieved, provided certain minimum threshold benchmarks have been satisfied. Any bonus payments due hereunder shall be paid to the Executive no later than 75 days after the end of the year.

(c) Stock Compensation. Subject to the annual approval of the Compensation Committee or the Board of Directors, as the case may be, the Executive will receive during the term of this Agreement an annual stock award under the Company’s 2001 Incentive Stock Plan with a value equal to at least 30% of his then current base salary. The stock award, which will consist of stock options, restricted stock grants or stock appreciation rights, or any combination thereof, will include such vesting and other terms and conditions as determined in the sole discretion of the Compensation Committee or the Board of Directors in accordance with the 2001 Incentive Stock Plan. The valuation of the stock award will be determined using the Black-Scholes or similar methodology as determined by the Company.

(d) Supplemental Retirement Plan. As soon as reasonably practicable, the Company will establish a supplemental retirement plan for the Executive to provide for certain supplemental nonqualified cash benefits at retirement using a defined contribution approach funded by an annual contribution from the Company in an amount equal to at least 10% of the Executive’s then current annual base salary.

(e) Deferred Compensation Contribution. During the term of this Agreement, the Company will make an annual contribution for the Executive’s benefit to the Executive Deferred Compensation Plan, or any successor plan, in an amount equal to at least 5% of the Executive’s then current annual base salary. At his sole option, the Executive may direct the Company to make this annual contribution to the supplemental retirement plan to be established for his benefit in accordance with the preceding section.

4. Benefits.

(a) During the term of this Agreement, the Executive shall be eligible to participate in any plans, programs or forms of compensation or benefits that the Company

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or its subsidiaries provide to the class of employees that includes the Executive, on a basis not less favorable than that provided to such class of employees, including, without limitation, group medical, disability and life insurance, vacation and sick leave, and a retirement plan; provided however, a reasonable transition period following any change in control, merger, statutory share exchange, consolidation, acquisition or transaction involving the Company or any of its subsidiaries shall be permitted in order to make appropriate adjustments in compliance with this Section 4(a). The Company will allow the Executive to continue to make salary deferral contributions to the Executive Deferred Compensation Plan.

(b) The Executive shall be entitled to five weeks vacation annually without loss of pay.

(c) The Company will pay the Executive’s country club initiation fee and dues on such basis as may be determined by the Board of Directors of the Company from time to time.

(d) During the term of this Agreement, the Company shall provide the Executive with an appropriate automobile or automobile allowance as determined by the Board of Directors of the Company.

5. Reimbursement of Expenses. The Company shall reimburse the Executive promptly, upon presentation of adequate substantiation, including receipts, for the reasonable travel, entertainment, lodging and other business expenses incurred by the Executive, including, without limitation, those expenses incurred by the Executive and his spouse in attending trade and professional association conventions, meetings and other related functions. However, the Company reserves the right to review these expenses periodically and determine, in its sole discretion, whether future reimbursement of such expenses to the Executive will continue without prior Board approval of the expenses.

6. Termination of Employment.

(a) Death or Incapacity. The Executive’s employment under this Agreement shall terminate automatically upon the Executive’s death. In the event of termination due to the death of the Executive, his survivors, designees or estate shall continue to receive, in addition to all other benefits accruing upon death, full compensation hereunder for a period of three (3) months following the month in which his death occurred. If the Company determines that the Incapacity, as hereinafter defined, of the Executive has occurred, it may terminate the Executive’s employment and this Agreement upon thirty (30) days’ written notice provided that, within thirty (30) days after receipt of such notice, the Executive shall not have returned to full-time performance of his assigned duties. “Incapacity” shall mean the failure of the Executive to perform his assigned duties with the Company on a full-time basis as a result of mental or physical illness or injury as determined by a physician selected by the Company for the greater of ninety (90) consecutive calendar days or the longest waiting period under any long term disability insurance contract or program provided to him as an employee.

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(b) Termination by Company With or Without Cause. The Company may terminate the Executives employment during the term of this Agreement, with or without Cause. For purposes of this Agreement, “Cause” shall mean:

(i) continual or deliberate neglect by the Executive in the performance of his material duties and responsibilities as established from time to time by the Board of Directors of the Company, or the Executive’s willful failure to follow reasonable instructions or policies of the Company after being advised in writing of such failure and being given a reasonable opportunity and period (as determined by the Company) to remedy such failure;

(ii) conviction of, indictment for (or its procedural equivalent), or entering of a guilty plea or plea of no contest with respect to a felony, a crime of moral turpitude or any other crime with respect to which imprisonment is a possible punishment, or the commission of an act of embezzlement or fraud against the Company or any subsidiary or affiliate thereof;

(iii) any breach by the Executive of a material term of this Agreement, or violation in any material respect of any code or standard of behavior generally applicable to officers of the Company, after being advised in writing of such breach or violation and being given a reasonable opportunity and period (as determined by the Company) to remedy such breach or violation;

(iv) dishonesty of the Executive with respect to the Company or any subsidiary or affiliate thereof, or breach of a fiduciary duty owed to the Company or any subsidiary or affiliate thereof; or

(v) the willful engaging by the Executive in conduct that is reasonably likely to result, in the good faith judgment of the Company, in material injury to the Company, monetarily or otherwise.

(c) Termination by Executive for Good Reason. The Executive may terminate his employment for Good Reason. For purposes of this Agreement, “Good Reason” shall mean:

(i) the continued assignment to the Executive of duties inconsistent with the Executive’s position, authority, duties or responsibilities as contemplated by Section 1 hereof or, in the event of a Change in Control (as hereinafter defined), Section 10(a);

(ii) any action taken by the Company which results in a substantial reduction in the status of the Executive, including a diminution in his position, authority, duties or responsibilities, excluding for this purpose an isolated, insubstantial and/or inadvertent action not taken in had faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive;

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(iii) the relocation of the Executive to any other primary place of employment which might require him to move his residence which, for this purpose, includes any reassignment to a place of employment located more than 50 miles from the Executive’s initially assigned place of employment, without the Executive’s express written consent to such relocation; provided, however, this subsection (iii) shall not apply in connection with the relocation of the Executive if the Company decides to relocate its headquarters; or

(iv) any failure by the Company, or any successor entity following a Change in Control, to comply with the provisions of Sections 3 and 4 or Section 10(b) hereof or to honor any other term or provision of this Agreement, other than an isolated, insubstantial or inadvertent failure not occurring in bad faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive.

(d) Incapacity. If payments under a long term disability policy or plan shall cease due to discontinuance of the plan for failure for any reason of the provider of such policy to continue to make payments, the Company will provide the benefits to the Executive in accordance with the terms of such policy or plan as if it were still in full force and effect. Notwithstanding the above, in no event shall the Company’s obligation under this subparagraph be for more than two years.

7. Obligations of the Company Upon Termination.

(a) Without Cause; Good Reason. Except as set forth in Sections 7(b) and 7(c) below, if, during the term of this Agreement, the Company shall terminate the Executive’s employment without Cause or the Executive shall terminate employment for Good Reason, the Company will pay to the Executive in a lump sum within thirty (30) days after the termination of employment the sum of the Executive’s annual base salary through the date of termination to the extent not theretofore paid and the balance of the Executive’s annual base salary for a period of eighteen (18) months from the date of termination of employment. The Company shall also maintain in full force and effect for the Executive’s continued benefit, until eighteen (18) months from the date of termination of employment, all health and insurance plans as required by federal law, and provided that the Executive’s continued participation is possible under the general terms and provisions of such plans and programs. If the Company reasonably determines that maintaining such health and insurance plans in full force and effect for the benefit of the Executive until eighteen months from the date of termination of employment is not feasible, the Company shall pay the Executive a lump sum equal to the estimated cost of maintaining such plans for the Executive for eighteen months. In addition, stock option and similar agreements with the Executive evidencing the grant of a stock option or other award under the Company’s Stock Incentive Plan, or any successor plan, will provide that the vesting of such stock awards will accelerate and become immediately exercisable and fully vested as of the date of termination of employment without Cause or for Good Reason. In the case of stock options, the Executive will have at least ninety (90) days after termination of employment, or such longer period as may be provided for in the separate stock option agreement, to exercise the option.

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(b) Non-Competition. Notwithstanding the foregoing, all such payments and benefits under Section 7(a) otherwise continuing for periods after the Executive’s termination of employment shall cease to be paid, and the Company shall have no further obligation due with respect thereto, in the event the Executive engages in “Competition” or makes any “Unauthorized Disclosure of Confidential Information.” In addition, in exchange for the payments on termination as provided herein, other provisions of this Agreement and other valuable consideration hereby acknowledged, the Executive agrees that he will not engage in competition for a period of eighteen (18) months after the Executive’s employment with the Company ceases for any reason, including the expiration or nonrenewal of this Agreement. For purposes hereof:

(i) “Competition” means the Executive’s engaging without the written consent of the board of directors of the Company or a person authorized thereby, in an activity as an officer, a director, an employee, a partner, a more than one percent shareholder or other owner, an agent, a consultant, or in any other individual or representative capacity within 50 miles of the Company’s headquarters or any branch office of the Company or any of its subsidiaries (unless the Executive’s duties, responsibilities and activities, including supervisory activities, for or on behalf of such activity, are not related in any way to such competitive activity) if it involves:

(A) engaging in or entering into the business of any banking, lending or any other business activity in which the Company or any of its affiliates is actively engaged at the time the Executive’s employment ceases, or

(B) soliciting or contacting, either directly or indirectly, any of the customers or clients of the Company or any of its affiliates for the purpose of competing with the products or services provided by the Company or any of its affiliates, or

(C) employing or soliciting for employment any employees of the Company or any of its affiliates for the purpose of competing with the Company or any of its affiliates.

(ii) “Unauthorized Disclosure of Confidential Information” means the use or disclosure of information in violation of Section 8 of this Agreement.

(iii) For purposes of this Agreement, “customers” or “clients” of the Company or any of its affiliates means individuals or entities to whom the Company or any of its affiliates has provided banking, lending, or other similar financial services at any time from the Effective Date through the date the Executive’s employment with the Company ceases.

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(c) Death or Incapacity. If the Executive’s employment is terminated by reason of death or incapacity in accordance with Section 6(a) hereof, this Agreement shall terminate without further obligation to the Executive or his legal representatives under this Agreement except as otherwise specified in Section 6(a).

(d) Cause; Other Than for Good Reason. If the Executive’s employment shall be terminated for Cause or for other than Good Reason, this Agreement shall terminate without any further obligation of the Company to the Executive other than to pay to the Executive his annual base salary through the date of termination. The Executive will still be required to comply with the non-competition and confidentiality covenants set forth in Section 7(b).

(e) Remedies. The Executive acknowledges that the restrictions set forth in paragraph 7(b) of this Agreement are just, reasonable, and necessary to protect the legitimate business interests of the Company. The Executive further acknowledges that if he breaches or threatens to breach any provision of paragraph 7(b), the Company’s remedies at law will be inadequate, and the Company will be irreparably harmed. Accordingly, the Company shall he entitled to an injunction, both preliminary and permanent, restraining the Executive from such breach or threatened breach, such injunctive relief not to preclude the Company from pursuing all available legal and equitable remedies. In addition to all other available remedies, if the Executive violates the provisions of paragraph 7(b), the Executive shall pay all costs and fees, including attorneys’ fees, incurred by the Company in enforcing the provisions of that paragraph. If, on the other hand, it is finally determined by a court of competent jurisdiction that a breach or threatened breach did not occur under paragraph 7(b) of this Agreement, the Company shall reimburse the Executive for reasonable legal fees incurred to defend that claim.

8. Confidentiality. The Executive recognizes that as an employee of the Company he will have access to and may participate in the origination of non-public, proprietary and confidential information and that he owes a fiduciary duty to the Company. Confidential information may include, but is not limited to, trade secrets, customer lists and information, internal corporate planning, methods of marketing and operation, and other data or information of or concerning the Company or its customers that is not generally known to the public or in the banking industry. The Executive agrees that he will never use or disclose to any third party any such confidential information, either directly or indirectly, except as may be authorized in writing specifically by the Company.

Part II: Change in Control

9. Employment After a Change in Control. If a Change in Control of the Company occurs during the term of this Agreement, and the Executive is employed by the Company on the date the Change in Control occurs (the “Change in Control Date”), the Company will continue to employ the Executive in accordance with the terms and conditions

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of this Agreement for the period beginning on the Change in Control Date and ending on the third anniversary of such date (the “Change in Control Employment Period”). If a Change in Control occurs on account of a series of transactions, the Change in Control Date is the date of the last of such transactions. Notwithstanding any other term or provision of this Agreement, in the event of a Change in Control of the Company, Sections 9 through 15 in this Part II shall become effective and govern the terms and conditions of the Executive’s employment.

10. Terms of Employment.

(a) Position and Duties. During the Change in Control Employment Period, (i) the Executive’s position, authority, duties and responsibilities will be at least commensurate in all material respects with the most significant of those held, exercised and assigned at any time during the 90-day period immediately preceding the Change in Control Date, and (ii) the Executive’s services will be performed at the location where the Executive was employed immediately preceding the Change in Control Date or any office that is the headquarters of the Company and is less than 35 miles from such location; it being understood and agreed that this subsection (ii) shall supercede the provisions of Section 6(c)(iv) dealing with the relocation of the Executive following a Change in Control.

(b) Compensation and Benefits.

(i) Base Salary. During the Change in Control Employment Period, the Executive will receive an annual base salary (the “Annual Base Salary”) at least equal to the base salary paid or payable to the Executive by the Company and its affiliated companies for the twelve-month period immediately preceding the Change of Control Date. During the Change in Control Employment Period, the Annual Base Salary will be reviewed at least annually and will be increased at any time and from time to time as will be substantially consistent with increases in base salary generally awarded in the ordinary course of business to other peer executives of the Company and its affiliated companies. Any increase in the Annual Base Salary will not serve to limit or reduce any other obligation to the Executive under this Agreement. The Annual Base Salary will not be reduced after any such increase, and the term Annual Base Salary as used in this Agreement will refer to the Annual Base Salary as so increased. The term “affiliated companies” includes any company controlled by, controlling or under common control with the Company.

(ii) Annual Bonus. During the Change in Control Employment Period, the Executive will be entitled to participate in an annual incentive plan generally applicable to other peer executives of the Company and its affiliated companies, but in no event will such incentive plan provide the Executive with a less favorable opportunity to earn an annual bonus that is similarly structured to the annual incentive plan as in effect at any time during the six months immediately preceding the Change in Control Date.

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(iii) Incentive, Savings and Retirement Plans. During the Change in Control Employment Period, the Executive will be entitled to participate in all incentive (including stock incentive), savings and retirement, insurance plans, policies and programs applicable generally to other peer executives of the Company and its affiliated companies, but in no event will such plans, policies and programs provide the Executive with incentive opportunities (including an annual stock award with a value equal to at least 20% of his then current base salary as provided in Section 3(c)), savings opportunities and retirement benefit opportunities, in each case, less favorable, in the aggregate, than those provided by the Company and its affiliated companies for the Executive under such plans, policies and programs as in effect at any time during the six months immediately preceding the Change in Control Date.

(iv) Welfare Benefit Plans. During the Change in Control Employment Period, the Executive and/or the Executive’s family, as the case may be, will be eligible for participation in and will receive all benefits under welfare benefit plans, policies and programs provided by the Company and its affiliated companies to the extent applicable generally to other peer executives of the Company and its affiliated companies, but in no event will such plans, policies and programs provide the Executive with benefits that are less favorable, in the aggregate, than the most favorable of such plans, policies and programs in effect at any time during the six months immediately preceding the Change in Control Date.

(v) Fringe Benefits. During the Change in Control Employment Period, the Executive will be entitled to fringe benefits in accordance with the comparable plans, policies and programs of the Company and its affiliated companies in effect for the Executive at any time during the six months immediately preceding the Change in Control Date or, if more favorable to the Executive, as in effect generally from time to time after the Change in Control Date with respect to other peer executives of the Company and its affiliated companies.

(vi) Vacation. During the Change in Control Employment Period, the Executive will be entitled to paid vacation in accordance with the comparable plans, policies and programs of the Company and its affiliated companies in effect for the Executive at any time during the six months immediately preceding the Change in Control Date or, if more favorable to the Executive, as in effect generally from time to time after the Change in Control Date with respect to other peer executives of the Company and its affiliated companies.

11. Termination of Employment Following Change in Control.

(a) Death or Incapacity. The Executive’s employment will terminate automatically upon the Executive’s death or Incapacity during the Change in Control Employment Period.

(b) Cause. The Company may terminate the Executive’s employment during the Change in Control Employment Period for Cause (as defined in Section 6(b)).

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(c) Good Reason. The Executive’s employment may be terminated during the Change in Control Employment Period by the Executive for Good Reason (as defined in Section 6(c). Any good faith determination of Good Reason made by the Executive during the Change in Control Employment Period shall be conclusive.

(d) Other Termination. The Board of Directors may request in writing that the Executive relinquish his position and terminate his employment in order to facilitate or ensure that an acquisition occur that does not meet the definition in section 15 of a “Change in Control.” In this event, the Executive’s employment will be deemed terminated without Cause, and he will be entitled to the benefits under Section 12.

(e) Notice of Termination. Any termination during the Change in Control Employment Period by the Company or by the Executive for Good Reason shall be communicated by written Notice of Termination to the other party hereto. For purposes of this Agreement, a “Notice of Termination” shall mean a notice which shall indicate the specific termination provision in this Agreement relied upon.

(f) Date of Termination. “Date of Termination” means (i) if the Executive’s employment is terminated by the Company for Cause, or by the Executive for Good Reason, the date of receipt of the Notice of Termination or any later date specified therein, as the case may be, (ii) if the Executive’s employment is terminated by the Company other than for Cause or Incapacity, the date specified in the Notice of Termination (which shall not be less than 30 nor more than 60 days from the date such Notice of Termination is given), and (iii) if the Executive’s employment is terminated for Incapacity, 30 days after Notice of Termination is given, provided that the Executive shall not have returned to the full-time performance of his duties during such 30-day period.

12. Compensation Upon Termination.

(a) Termination Without Cause or for Good Reason. The Executive will be entitled to the following benefits if, during the Change in Control Employment Period, the Company terminates his employment without Cause or the Executive terminates his employment with the Company or any affiliated company for Good Reason.

(i) Accrued Obligations. The Accrued Obligations are the sum of: (1) the Executive’s Annual Base Salary through the Date of Termination at the rate in effect just prior to the time a Notice of Termination is given; (2) the amount, if any, of any incentive or bonus compensation theretofore earned which has not yet been paid; (3) the product of the Annual Bonus paid or payable, including by reason of deferral, for the most recently completed year and a fraction, the numerator of which is the number of days in the current year through the Date of Termination and the denominator of which is 365; and (4) any benefits or awards (including both the cash and stock components) which pursuant to the terms of any plans, policies or programs have been earned or become payable, but which have not yet been paid to the Executive (but not including amounts that previously had been deferred at the

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Executive’s request, which amounts will be paid in accordance with the Executive’s existing directions). The Accrued Obligations will be paid to the Executive in a lump sum cash payment within ten days after the Date of Termination;

(ii) Salary Continuance Benefit. The Salary Continuance Benefit is an amount equal to 2.99 times the Executive’s Final Compensation. For purposes of this Agreement, “Final Compensation” means the Annual Base Salary in effect at the Date of Termination, plus the highest Annual Bonus paid or payable for the two most recently completed years and any amount contributed by the Executive during the most recently completed year pursuant to a salary reduction agreement or any other program that provides for pre-tax salary reductions or compensation deferrals. The Salary Continuance Benefit will be paid to the Executive in a lump sum cash payment not later than the 45^th day following the Date of Termination;

(iii) Welfare Continuance Benefit. For 36 months following the Date of Termination, the Executive and his dependents will continue to be covered under all health and dental plans, disability plans, life insurance plans and all other welfare benefit plans (as defined in Section 3(1) of ERISA) (“Welfare Plans”) in which the Executive or his dependents were participating immediately prior to the Date of Termination (the “Welfare Continuance Benefit”). The Company will pay all or a portion of the cost of the Welfare Continuance Benefit for the Executive and his dependents under the Welfare Plans on the same basis as applicable, from time to time, to active employees covered under the Welfare Plans and the Executive will pay any additional costs. If participation in any one or more of the Welfare Plans included in the Welfare Continuance Benefit is not possible under the terms of the Welfare Plan or any provision of law would create an adverse tax effect for the Executive or the Company due to such participation, the Company will provide substantially identical benefits directly or through an insurance arrangement. The Welfare Continuance Benefit as to any Welfare Plan will cease if and when the Executive has obtained coverage under one or more welfare benefit plans of a subsequent employer that provides for equal or greater benefits to the Executive and his dependents with respect to the specific type of benefit. The Executive or his dependents will become eligible for COBRA continuation coverage as of the date the Welfare Continuance Benefit ceases for all health and dental benefits.

(b) Death. If the Executive dies during the Change in Control Employment Period, this Agreement will terminate without any further obligation on the part of the Company under this Agreement, other than for (i) payment of the Accrued Obligations and three months of the Executive’s Base Salary (which shall be paid to the Executive’s beneficiary designated in writing or his estate, as applicable, in a lump sum cash payment within 30 days of the date of death); (ii) the timely payment or provision of the Welfare Continuance Benefit to the Executive’s spouse and other dependents for 36 months following the date of death; and (iii) the timely payment of all death and retirement benefits pursuant to the terms of any plan, policy or arrangement of the Company and its affiliated companies.

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(c) Incapacity. If the Executive’s employment is terminated because of the Executive’s Incapacity during the Change in Control Employment Period, this Agreement will terminate without any further obligation on the part of the Company under this Agreement, other than for (i) payment of the Accrued Obligations and three months of the Executive’s Base Salary (which shall be paid to the Executive in a lump sum cash payment within 30 days of the Date of Termination); (ii) the timely payment or provision of the Welfare Continuance Benefit for 36 months following the Date of Termination; and (iii) the timely payment of all disability and retirement benefits pursuant to the terms of any plan, policy or arrangement of the Company and its affiliated companies.

(d) Cause; Other than for Good Reason. If the Executive’s employment is terminated for Cause during the Change in Control Employment Period, this Agreement will terminate without further obligation to the Executive other than the payment to the Executive of the Annual Base Salary through the Date of Termination, plus the amount of any compensation previously deferred by the Executive. If the Executive terminates employment during the Change in Control Employment Period, excluding a termination either for Good Reason, this Agreement will terminate without further obligation to the Executive other than for the Accrued Obligations (which will be paid in a lump sum in cash within 30 days of the Date of Termination) and any other benefits to which the Executive may be entitled pursuant to the terms of any plan, program or arrangement of the Company and its affiliated companies.

(e) Possible Reduction in Payment and Benefits. Following any Change in Control, to the extent that any amount of pay or benefits provided under to the Executive under this Agreement would cause the Executive to be subject to excise tax under sections 280G and 4999 of the Internal Revenue Code of 1986, as amended (the “Code”), and after taking into consideration all other amounts payable to the Executive under other Company plans, programs, policies, and arrangements, then the amount of pay and benefits provided under this Agreement shall be reduced to the extent necessary to avoid imposition of any such excise taxes. The Executive may select the payments and benefits to be limited or reduced, including an election not to have the vesting of certain benefits, including stock options, accelerate as a result of a Change in Control.

(f) Acceleration of Vesting of Stock Awards. Except as may be otherwise agreed to by the Executive, all stock option and similar agreements with the Executive evidencing the grant of a stock option or other award under the Company’s Stock Incentive Plan, or any successor plan, will provide that (i) the vesting of such stock awards will accelerate and become immediately exercisable and fully vested as of the Change in Control Date, and (ii) in the case of stock options, the Executive will have at least ninety (90) days after termination of employment, or such longer period as may be provided for in the separate stock option agreement, to exercise the stock option.

13. Fees and Expenses; Mitigation; Noncompetition.

(a) The Company will pay or reimburse the Executive for all costs and expenses, including without limitation court costs and reasonable attorneys’ fees, incurred by

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the Executive (i) in contesting or disputing any termination of the Executive’s employment or (ii) in seeking to obtain or enforce any right or benefit provided by this Agreement, in each case provided the Executive’s claim is substantially upheld by a court of competent jurisdiction.

(b) The Executive shall not be required to mitigate the amount of any payment the Company becomes obligated to make to the Executive in connection with this Agreement, by seeking other employment or otherwise. Except as specifically provided above with respect to the Welfare Continuance Benefit, the amount of any payment provided for in Section 12 shall not be reduced, offset or subject to recovery by the Company by reason of any compensation earned by the Executive as the result of employment by another employer after the Date of Termination, or otherwise.

(c) The Executive will not be required to comply with the noncompetition covenant in Section 7(b) if his employment is terminated during the Change in Control Employment Period without Cause or he terminates for Good Reason.

14. Continuance of Welfare Benefits Upon Death. If the Executive dies while receiving a Welfare Continuation Benefit, the Executive’s spouse and other dependents will continue to be covered under all applicable Welfare Plans during the remainder of the 36-month coverage period. The Executive’s spouse and other dependents will become eligible for COBRA continuation coverage for health and dental benefits at the end of such 36-month period.

15. Change of Control Defined. For purposes of this Agreement, a “Change of Control” shall mean:

(a) the acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) of the Securities Exchange Act of 1934, as amended (the “Exchange Act’) of beneficial ownership (within the meaning of Rule 13d-3 under the Exchange Act), of securities of the Company representing 20% or more of the combined voting power of the then outstanding securities; provided, however, that the following acquisitions shall not constitute a Change of Control:

(i) acquisition directly from the Company (excluding an acquisition by virtue of the exercise of a conversion privilege);

(ii) any acquisition by the Company;

(iii) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company; or

(iv) any acquisition pursuant to a reorganization, merger or consolidation by any corporation owned or proposed to be owned, directly or indirectly, by shareholders of the Company if the shareholders’ ownership of

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securities of the corporation resulting from such transaction constitutes a majority of the ownership of securities of the resulting entity and at least a majority of the members of the board of directors of the corporation resulting from such transaction were members of the incumbent board as defined in this Agreement at the time of the execution of the initial agreement providing for such reorganization, merger or consolidation; or

(b) where individuals who, as of the inception of this Agreement, constitute the board of directors of the Company (the “Incumbent Board”) cease for any reason to constitute at least a majority of such board of directors; provided, however, that any individual becoming a director subsequent to the effective date of this Agreement whose election, or nomination for election by the shareholders was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 of Regulation 14A promulgated under the Exchange Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the board of directors; or

(c) the shareholders of the Company approve, or the Company otherwise consummates,

(i) a merger, statutory share exchange, or consolidation of the Company with any other corporation, except as provided in subparagraph (a)(iv) of this section, or

(ii) the sale or other disposition of all or substantially all of the assets of the Company.

Part III: Miscellaneous

16. Documents. All documents, record, tapes and other media of any kind or description relating to the business of the Company or any of its affiliates (the “Documents”), whether or not prepared by the Executive, shall be the sole and exclusive property of the Company. The Documents (and any copies) shall be returned to the Company upon the Executive’s termination of employment for any reason or at such earlier time or times as the Board of Directors or its designee may specify.

17. Severability. If any provision of this Agreement, or part thereof, is determined to be unenforceable for any reason whatsoever, it shall be severable from the remainder of this Agreement and shall not invalidate or affect the other provisions of this Agreement, which shall remain in full force and effect arid shall be enforceable according to their terms. No covenant shall be dependent upon any other covenant or provision herein, each of which stands independently.

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18. Modification. The parties expressly agree that should a court find any provision of this Agreement, or part thereof, to be unenforceable or unreasonable, the court may modify the provision, or part thereof, in a manner which renders that provision reasonable, enforceable, and in conformity with the public policy of Virginia.

19. Governing Law. This agreement shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

20. Notices. All written notices required by this Agreement shall be deemed given when delivered personally or sent by registered or certified mail, return receipt requested, to the parties at their addresses set forth on the signature page of this Agreement. Each party may, from time to time, designate a different address to which notices should be sent.

21. Amendment. This Agreement may not be varied, altered, modified or in any way amended except by an instrument in writing executed by the parties hereto or their legal representatives.

22. Binding Effect. This Agreement shall be binding upon the Executive and on the Company, its successors and assigns effective on the date first above written subject to the approval by the board of directors of the Company. The Company will require any successor to all or substantially all of the business and/or assets of the Company to assume expressly and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place.

23. No Construction Against Any Party. This Agreement is the product of informed negotiations between the Executive and the Company. If any part of this Agreement is deemed to be unclear or ambiguous, it shall be construed as if it were drafted jointly by all parties. The Executive and the Company agree that neither party was in a superior bargaining position regarding the substantive terms of this Agreement.

24. Entire Agreement. This Agreement constitutes the entire agreement of the parties with respect to the matters addressed herein and it supersedes all other prior agreements and understandings, both written and oral, express or implied, with respect to the subject matter of this Agreement.

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IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first written herein.

VIRGINIA FINANCIAL GROUP, INC.
By:
	Taylor E. Gore
	Chairman of the Board
	O.R. Barham, Jr.

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EX-10.5

Exhibit 10.5

EMPLOYMENT AGREEMENT

THIS EMPLOYMENT AGREEMENT, dated as of this 7th day of March 2005, by and between Virginia Financial Group, Inc., a Virginia corporation (the “Company”), and Jeffrey W. Farrar (the “Executive”).

WHEREAS, the Company considers the availability of the Executive’s services to be important to the management and conduct of the Company’s business and desires to secure the continued availability of the Executive’s services; and

WHEREAS, the Executive is willing to make his services available to the Company on the terms and subject to the conditions set forth herein.

In consideration of the mutual covenants and agreements set forth herein, the parties agree as follows:

Part I: General Employment Terms

1. Employment and Duties. The Company will employ the Executive as Executive Vice President and Chief Financial Officer of the Company on the terms and subject to the conditions of this Agreement. The Executive accepts such employment and agrees to perform the managerial duties and responsibilities of Executive Vice President and Chief Financial Officer. The Executive agrees to devote his time and attention on a full-time basis to the discharge of such duties and responsibilities of an executive nature as may be assigned him by the Board of Directors of the Company. The Executive may accept any elective or appointed positions or offices with any duly recognized associations or organizations whose activities or purposes are closely related to the banking business or service to which would generate good will for the Company and its subsidiaries.

2. Term. The term of this Agreement (the “Term”) is effective as of January 1, 2005 and will continue through December 31, 2007, unless terminated or extended as hereinafter provided. This Agreement shall be extended for successive one-year periods following the original term unless either party notifies the other in writing at least ninety (90) days prior to the end of the original term, or the end of any additional one-year renewal term, that the Agreement shall not be extended beyond its current term.

3. Compensation.

(a) Base Salary. The Company shall pay the Executive an annual base salary not less than $173,000 in 2005, $179,000 in 2006, and $185,000 in 2007. The base salary shall be paid to the Executive in accordance with established payroll practices of the Company. In connection with the annual performance review of the Executive, the Company will review the succeeding year’s base salary amount on or before November 30^th of each year to consider whether any adjustments should be made to the base salary

for such year; however, the base salary shall not be less than the minimum amounts referred to above for the first three years of this Agreement, nor shall the base salary be less than $185,000 during any renewal term.

(b) Annual Bonus. During the term of this Agreement, the Executive will be eligible to participate in an annual incentive plan that will establish measurable criteria and incentive compensation levels payable to the Executive for corporate performance in relation to defined threshold benchmarks. The Compensation Committee or the Board of Directors of the Company, as the case may be, will consult with management to establish the targeted corporate performance levels for the Company on an annual basis consistent with the Company’s business plan and objectives. Achievement of the targeted corporate performance levels will result in an annual cash bonus payment equal to at least 28% of the Executive’s then current annual base salary. To the extent the Company exceeds the targeted performance levels, the incentive plan will provide a means by which the annual bonus will be increased. Similarly, the incentive plan will provide a means by which the annual bonus will be decreased if the targeted performance levels are not achieved, provided certain minimum threshold benchmarks have been satisfied. Any bonus payments due hereunder shall be paid to the Executive no later than 75 days after the end of the year.

(c) Stock Compensation. Subject to the annual approval of the Compensation Committee or the Board of Directors, as the case may be, the Executive will receive during the term of this Agreement an annual stock award under the Company’s 2001 Incentive Stock Plan with a value equal to at least 20% of his then current base salary. The stock award, which will consist of stock options, restricted stock grants or stock appreciation rights, or any combination thereof, will include such vesting and other terms and conditions as determined in the sole discretion of the Compensation Committee or the Board of Directors in accordance with the 2001 Incentive Stock Plan. The valuation of the stock award will be determined using the Black-Scholes or similar methodology as determined by the Company.

4. Benefits.

(a) During the term of this Agreement, the Executive shall be eligible to participate in any plans, programs or forms of compensation or benefits that the Company or its subsidiaries provide to the class of employees that includes the Executive, on a basis not less favorable than that provided to such class of employees, including, without limitation, group medical, disability and life insurance, vacation and sick leave, and a retirement plan; provided however, a reasonable transition period following any change in control, merger, statutory share exchange, consolidation, acquisition or transaction involving the Company or any of its subsidiaries shall be permitted in order to make appropriate adjustments in compliance with this Section 4(a). The Company will allow the Executive to continue to make salary deferral contributions to the Executive Deferred Compensation Plan.

(b) The Executive shall be entitled to five weeks vacation annually without loss of pay.

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(c) The Company will pay the Executive’s country club initiation fee and dues on such basis as may be determined by the Board of Directors of the Company from time to time.

(d) During the term of this Agreement, the Company shall provide the Executive with an appropriate automobile or automobile allowance as determined by the Board of Directors of the Company.

5. Reimbursement of Expenses. The Company shall reimburse the Executive promptly, upon presentation of adequate substantiation, including receipts, for the reasonable travel, entertainment, lodging and other business expenses incurred by the Executive, including, without limitation, those expenses incurred by the Executive and his spouse in attending trade and professional association conventions, meetings and other related functions. However, the Company reserves the right to review these expenses periodically and determine, in its sole discretion, whether future reimbursement of such expenses to the Executive will continue without prior Board approval of the expenses.

6. Termination of Employment.

(a) Death or Incapacity. The Executive’s employment under this Agreement shall terminate automatically upon the Executive’s death. In the event of termination due to the death of the Executive, his survivors, designees or estate shall continue to receive, in addition to all other benefits accruing upon death, full compensation hereunder for a period of three (3) months following the month in which his death occurred. If the Company determines that the Incapacity, as hereinafter defined, of the Executive has occurred, it may terminate the Executive’s employment and this Agreement upon thirty (30) days’ written notice provided that, within thirty (30) days after receipt of such notice, the Executive shall not have returned to full-time performance of his assigned duties. “Incapacity” shall mean the failure of the Executive to perform his assigned duties with the Company on a full-time basis as a result of mental or physical illness or injury as determined by a physician selected by the Company for the greater of ninety (90) consecutive calendar days or the longest waiting period under any long term disability insurance contract or program provided to him as an employee.

(b) Termination by Company With or Without Cause. The Company may terminate the Executives employment during the term of this Agreement, with or without Cause. For purposes of this Agreement, “Cause” shall mean:

(i) continual or deliberate neglect by the Executive in the performance of his material duties and responsibilities as established from time to time by the Board of Directors of the Company, or the Executive’s willful failure to follow reasonable instructions or policies of the Company after being advised in writing of such failure and being given a reasonable opportunity and period (as determined by the Company) to remedy such failure;

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(ii) conviction of, indictment for (or its procedural equivalent), or entering of a guilty plea or plea of no contest with respect to a felony, a crime of moral turpitude or any other crime with respect to which imprisonment is a possible punishment, or the commission of an act of embezzlement or fraud against the Company or any subsidiary or affiliate thereof;

(iii) any breach by the Executive of a material term of this Agreement, or violation in any material respect of any code or standard of behavior generally applicable to officers of the Company, after being advised in writing of such breach or violation and being given a reasonable opportunity and period (as determined by the Company) to remedy such breach or violation;

(iv) dishonesty of the Executive with respect to the Company or any subsidiary or affiliate thereof, or breach of a fiduciary duty owed to the Company or any subsidiary or affiliate thereof; or

(v) the willful engaging by the Executive in conduct that is reasonably likely to result, in the good faith judgment of the Company, in material injury to the Company, monetarily or otherwise.

(c) Termination by Executive for Good Reason. The Executive may terminate his employment for Good Reason. For purposes of this Agreement, “Good Reason” shall mean:

(i) the continued assignment to the Executive of duties inconsistent with the Executive’s position, authority, duties or responsibilities as contemplated by Section 1 hereof or, in the event of a Change in Control (as hereinafter defined), Section 10(a);

(ii) any action taken by the Company which results in a substantial reduction in the status of the Executive, including a diminution in his position, authority, duties or responsibilities, excluding for this purpose an isolated, insubstantial and/or inadvertent action not taken in had faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive;

(iii) the relocation of the Executive to any other primary place of employment which might require him to move his residence which, for this purpose, includes any reassignment to a place of employment located more than 50 miles from the Executive’s initially assigned place of employment, without the Executive’s express written consent to such relocation; provided, however, this subsection (iii) shall not apply in connection with the relocation of the Executive if the Company decides to relocate its headquarters; or

(iv) any failure by the Company, or any successor entity following a Change in Control, to comply with the provisions of Sections 3 and 4 or Section 10(b) hereof or to honor any other term or provision of this Agreement,

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other than an isolated, insubstantial or inadvertent failure not occurring in bad faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive.

(d) Incapacity. If payments under a long term disability policy or plan shall cease due to discontinuance of the plan for failure for any reason of the provider of such policy to continue to make payments, the Company will provide the benefits to the Executive in accordance with the terms of such policy or plan as if it were still in full force and effect. Notwithstanding the above, in no event shall the Company’s obligation under this subparagraph be for more than two years.

7. Obligations of the Company Upon Termination.

(a) Without Cause; Good Reason. Except as set forth in Sections 7(b) and 7(c) below, if, during the term of this Agreement, the Company shall terminate the Executive’s employment without Cause or the Executive shall terminate employment for Good Reason, the Company will pay to the Executive in a lump sum within thirty (30) days after the termination of employment the sum of the Executive’s annual base salary through the date of termination to the extent not theretofore paid and the balance of the Executive’s annual base salary for a period of eighteen (18) months from the date of termination of employment. The Company shall also maintain in full force and effect for the Executive’s continued benefit, until eighteen (18) months from the date of termination of employment, all health and insurance plans as required by federal law, and provided that the Executive’s continued participation is possible under the general terms and provisions of such plans and programs. If the Company reasonably determines that maintaining such health and insurance plans in full force and effect for the benefit of the Executive until eighteen months from the date of termination of employment is not feasible, the Company shall pay the Executive a lump sum equal to the estimated cost of maintaining such plans for the Executive for eighteen months. In addition, stock option and similar agreements with the Executive evidencing the grant of a stock option or other award under the Company’s Stock Incentive Plan, or any successor plan, will provide that the vesting of such stock awards will accelerate and become immediately exercisable and fully vested as of the date of termination of employment without Cause or for Good Reason. In the case of stock options, the Executive will have at least ninety (90) days after termination of employment, or such longer period as may be provided for in the separate stock option agreement, to exercise the option.

(b) Non-Competition. Notwithstanding the foregoing, all such payments and benefits under Section 7(a) otherwise continuing for periods after the Executive’s termination of employment shall cease to be paid, and the Company shall have no further obligation due with respect thereto, in the event the Executive engages in “Competition” or makes any “Unauthorized Disclosure of Confidential Information.” In addition, in exchange for the payments on termination as provided herein, other provisions of this Agreement and other valuable consideration hereby acknowledged, the Executive agrees that he will not engage in competition for a period of eighteen (18) months after the

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Executive’s employment with the Company ceases for any reason, including the expiration or nonrenewal of this Agreement. For purposes hereof:

(i) “Competition” means the Executive’s engaging without the written consent of the board of directors of the Company or a person authorized thereby, in an activity as an officer, a director, an employee, a partner, a more than one percent shareholder or other owner, an agent, a consultant, or in any other individual or representative capacity within 50 miles of the Company’s headquarters or any branch office of the Company or any of its subsidiaries (unless the Executive’s duties, responsibilities and activities, including supervisory activities, for or on behalf of such activity, are not related in any way to such competitive activity) if it involves:

(A) engaging in or entering into the business of any banking, lending or any other business activity in which the Company or any of its affiliates is actively engaged at the time the Executive’s employment ceases, or

(B) soliciting or contacting, either directly or indirectly, any of the customers or clients of the Company or any of its affiliates for the purpose of competing with the products or services provided by the Company or any of its affiliates, or

(C) employing or soliciting for employment any employees of the Company or any of its affiliates for the purpose of competing with the Company or any of its affiliates.

(ii) “Unauthorized Disclosure of Confidential Information” means the use or disclosure of information in violation of Section 8 of this Agreement.

(iii) For purposes of this Agreement, “customers” or “clients” of the Company or any of its affiliates means individuals or entities to whom the Company or any of its affiliates has provided banking, lending, or other similar financial services at any time from the Effective Date through the date the Executive’s employment with the Company ceases.

(c) Death or Incapacity. If the Executive’s employment is terminated by reason of death or incapacity in accordance with Section 6(a) hereof, this Agreement shall terminate without further obligation to the Executive or his legal representatives under this Agreement except as otherwise specified in Section 6(a).

(d) Cause; Other Than for Good Reason. If the Executive’s employment shall be terminated for Cause or for other than Good Reason, this Agreement shall terminate without any further obligation of the Company to the Executive other than to pay to the Executive his annual base salary through the date of termination. The Executive will still be required to comply with the non-competition and confidentiality covenants set forth in Section 7(b).

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(e) Remedies. The Executive acknowledges that the restrictions set forth in paragraph 7(b) of this Agreement are just, reasonable, and necessary to protect the legitimate business interests of the Company. The Executive further acknowledges that if he breaches or threatens to breach any provision of paragraph 7(b), the Company’s remedies at law will be inadequate, and the Company will be irreparably harmed. Accordingly, the Company shall he entitled to an injunction, both preliminary and permanent, restraining the Executive from such breach or threatened breach, such injunctive relief not to preclude the Company from pursuing all available legal and equitable remedies. In addition to all other available remedies, if the Executive violates the provisions of paragraph 7(b), the Executive shall pay all costs and fees, including attorneys’ fees, incurred by the Company in enforcing the provisions of that paragraph. If, on the other hand, it is finally determined by a court of competent jurisdiction that a breach or threatened breach did not occur under paragraph 7(b) of this Agreement, the Company shall reimburse the Executive for reasonable legal fees incurred to defend that claim.

8. Confidentiality. The Executive recognizes that as an employee of the Company he will have access to and may participate in the origination of non-public, proprietary and confidential information and that he owes a fiduciary duty to the Company. Confidential information may include, but is not limited to, trade secrets, customer lists and information, internal corporate planning, methods of marketing and operation, and other data or information of or concerning the Company or its customers that is not generally known to the public or in the banking industry. The Executive agrees that he will never use or disclose to any third party any such confidential information, either directly or indirectly, except as may be authorized in writing specifically by the Company.

Part II: Change in Control

9. Employment After a Change in Control. If a Change in Control of the Company occurs during the term of this Agreement, and the Executive is employed by the Company on the date the Change in Control occurs (the “Change in Control Date”), the Company will continue to employ the Executive in accordance with the terms and conditions of this Agreement for the period beginning on the Change in Control Date and ending on the third anniversary of such date (the “Change in Control Employment Period”). If a Change in Control occurs on account of a series of transactions, the Change in Control Date is the date of the last of such transactions. Notwithstanding any other term or provision of this Agreement, in the event of a Change in Control of the Company, Sections 9 through 15 in this Part II shall become effective and govern the terms and conditions of the Executive’s employment.

10. Terms of Employment.

(a) Position and Duties. During the Change in Control Employment Period, (i) the Executive’s position, authority, duties and responsibilities will be at least

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commensurate in all material respects with the most significant of those held, exercised and assigned at any time during the 90-day period immediately preceding the Change in Control Date, and (ii) the Executive’s services will be performed at the location where the Executive was employed immediately preceding the Change in Control Date or any office that is the headquarters of the Company and is less than 35 miles from such location; it being understood and agreed that this subsection (ii) shall supercede the provisions of Section 6(c)(iv) dealing with the relocation of the Executive following a Change in Control.

(b) Compensation and Benefits.

(i) Base Salary. During the Change in Control Employment Period, the Executive will receive an annual base salary (the “Annual Base Salary”) at least equal to the base salary paid or payable to the Executive by the Company and its affiliated companies for the twelve-month period immediately preceding the Change of Control Date. During the Change in Control Employment Period, the Annual Base Salary will be reviewed at least annually and will be increased at any time and from time to time as will be substantially consistent with increases in base salary generally awarded in the ordinary course of business to other peer executives of the Company and its affiliated companies. Any increase in the Annual Base Salary will not serve to limit or reduce any other obligation to the Executive under this Agreement. The Annual Base Salary will not be reduced after any such increase, and the term Annual Base Salary as used in this Agreement will refer to the Annual Base Salary as so increased. The term “affiliated companies” includes any company controlled by, controlling or under common control with the Company.

(ii) Annual Bonus. During the Change in Control Employment Period, the Executive will be entitled to participate in an annual incentive plan generally applicable to other peer executives of the Company and its affiliated companies, but in no event will such incentive plan provide the Executive with a less favorable opportunity to earn an annual bonus that is similarly structured to the annual incentive plan as in effect at any time during the six months immediately preceding the Change in Control Date.

(iii) Incentive, Savings and Retirement Plans. During the Change in Control Employment Period, the Executive will be entitled to participate in all incentive (including stock incentive), savings and retirement, insurance plans, policies and programs applicable generally to other peer executives of the Company and its affiliated companies, but in no event will such plans, policies and programs provide the Executive with incentive opportunities (including an annual stock award with a value equal to at least 30% of his then current base salary as provided in Section 3(c)), savings opportunities and retirement benefit opportunities, in each case, less favorable, in the aggregate, than those provided by the Company and its affiliated companies for the Executive under such plans, policies and programs as in effect at any time during the six months immediately preceding the Change in Control Date.

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(iv) Welfare Benefit Plans. During the Change in Control Employment Period, the Executive and/or the Executive’s family, as the case may be, will be eligible for participation in and will receive all benefits under welfare benefit plans, policies and programs provided by the Company and its affiliated companies to the extent applicable generally to other peer executives of the Company and its affiliated companies, but in no event will such plans, policies and programs provide the Executive with benefits that are less favorable, in the aggregate, than the most favorable of such plans, policies and programs in effect at any time during the six months immediately preceding the Change in Control Date.

(v) Fringe Benefits. During the Change in Control Employment Period, the Executive will be entitled to fringe benefits in accordance with the comparable plans, policies and programs of the Company and its affiliated companies in effect for the Executive at any time during the six months immediately preceding the Change in Control Date or, if more favorable to the Executive, as in effect generally from time to time after the Change in Control Date with respect to other peer executives of the Company and its affiliated companies.

(vi) Vacation. During the Change in Control Employment Period, the Executive will be entitled to paid vacation in accordance with the comparable plans, policies and programs of the Company and its affiliated companies in effect for the Executive at any time during the six months immediately preceding the Change in Control Date or, if more favorable to the Executive, as in effect generally from time to time after the Change in Control Date with respect to other peer executives of the Company and its affiliated companies.

11. Termination of Employment Following Change in Control.

(a) Death or Incapacity. The Executive’s employment will terminate automatically upon the Executive’s death or Incapacity during the Change in Control Employment Period.

(b) Cause. The Company may terminate the Executive’s employment during the Change in Control Employment Period for Cause (as defined in Section 6(b)).

(c) Good Reason. The Executive’s employment may be terminated during the Change in Control Employment Period by the Executive for Good Reason (as defined in Section 6(c). Any good faith determination of Good Reason made by the Executive during the Change in Control Employment Period shall be conclusive.

(d) Other Termination. The Board of Directors may request in writing that the Executive relinquish his position and terminate his employment in order to facilitate or ensure that an acquisition occur that does not meet the definition in section 15 of a “Change in Control.” In this event, the Executive’s employment will be deemed terminated without Cause, and he will be entitled to the benefits under Section 12.

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(e) Notice of Termination. Any termination during the Change in Control Employment Period by the Company or by the Executive for Good Reason shall be communicated by written Notice of Termination to the other party hereto. For purposes of this Agreement, a “Notice of Termination” shall mean a notice which shall indicate the specific termination provision in this Agreement relied upon.

(f) Date of Termination. “Date of Termination” means (i) if the Executive’s employment is terminated by the Company for Cause, or by the Executive for Good Reason, the date of receipt of the Notice of Termination or any later date specified therein, as the case may be, (ii) if the Executive’s employment is terminated by the Company other than for Cause or Incapacity, the date specified in the Notice of Termination (which shall not be less than 30 nor more than 60 days from the date such Notice of Termination is given), and (iii) if the Executive’s employment is terminated for Incapacity, 30 days after Notice of Termination is given, provided that the Executive shall not have returned to the full-time performance of his duties during such 30-day period.

12. Compensation Upon Termination.

(a) Termination Without Cause or for Good Reason. The Executive will be entitled to the following benefits if, during the Change in Control Employment Period, the Company terminates his employment without Cause or the Executive terminates his employment with the Company or any affiliated company for Good Reason.

(i) Accrued Obligations. The Accrued Obligations are the sum of: (1) the Executive’s Annual Base Salary through the Date of Termination at the rate in effect just prior to the time a Notice of Termination is given; (2) the amount, if any, of any incentive or bonus compensation theretofore earned which has not yet been paid; (3) the product of the Annual Bonus paid or payable, including by reason of deferral, for the most recently completed year and a fraction, the numerator of which is the number of days in the current year through the Date of Termination and the denominator of which is 365; and (4) any benefits or awards (including both the cash and stock components) which pursuant to the terms of any plans, policies or programs have been earned or become payable, but which have not yet been paid to the Executive (but not including amounts that previously had been deferred at the Executive’s request, which amounts will be paid in accordance with the Executive’s existing directions). The Accrued Obligations will be paid to the Executive in a lump sum cash payment within ten days after the Date of Termination;

(ii) Salary Continuance Benefit. The Salary Continuance Benefit is an amount equal to 2.99 times the Executive’s Final Compensation. For purposes of this Agreement, “Final Compensation” means the Annual Base Salary in effect at the Date of Termination, plus the highest Annual Bonus paid or payable for the two most recently completed years and any amount contributed by the Executive during the most recently completed year pursuant to a salary reduction agreement or any other program that provides for pre-tax salary reductions or compensation deferrals. The Salary Continuance Benefit will be paid to the Executive in a lump sum cash payment not later than the 45^th day following the Date of Termination;

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(iii) Welfare Continuance Benefit. For 36 months following the Date of Termination, the Executive and his dependents will continue to be covered under all health and dental plans, disability plans, life insurance plans and all other welfare benefit plans (as defined in Section 3(1) of ERISA) (“Welfare Plans”) in which the Executive or his dependents were participating immediately prior to the Date of Termination (the “Welfare Continuance Benefit”). The Company will pay all or a portion of the cost of the Welfare Continuance Benefit for the Executive and his dependents under the Welfare Plans on the same basis as applicable, from time to time, to active employees covered under the Welfare Plans and the Executive will pay any additional costs. If participation in any one or more of the Welfare Plans included in the Welfare Continuance Benefit is not possible under the terms of the Welfare Plan or any provision of law would create an adverse tax effect for the Executive or the Company due to such participation, the Company will provide substantially identical benefits directly or through an insurance arrangement. The Welfare Continuance Benefit as to any Welfare Plan will cease if and when the Executive has obtained coverage under one or more welfare benefit plans of a subsequent employer that provides for equal or greater benefits to the Executive and his dependents with respect to the specific type of benefit. The Executive or his dependents will become eligible for COBRA continuation coverage as of the date the Welfare Continuance Benefit ceases for all health and dental benefits.

(b) Death. If the Executive dies during the Change in Control Employment Period, this Agreement will terminate without any further obligation on the part of the Company under this Agreement, other than for (i) payment of the Accrued Obligations and three months of the Executive’s Base Salary (which shall be paid to the Executive’s beneficiary designated in writing or his estate, as applicable, in a lump sum cash payment within 30 days of the date of death); (ii) the timely payment or provision of the Welfare Continuance Benefit to the Executive’s spouse and other dependents for 36 months following the date of death; and (iii) the timely payment of all death and retirement benefits pursuant to the terms of any plan, policy or arrangement of the Company and its affiliated companies.

(c) Incapacity. If the Executive’s employment is terminated because of the Executive’s Incapacity during the Change in Control Employment Period, this Agreement will terminate without any further obligation on the part of the Company under this Agreement, other than for (i) payment of the Accrued Obligations and three months of the Executive’s Base Salary (which shall be paid to the Executive in a lump sum cash payment within 30 days of the Date of Termination); (ii) the timely payment or provision of the Welfare Continuance Benefit for 36 months following the Date of Termination; and (iii) the timely payment of all disability and retirement benefits pursuant to the terms of any plan, policy or arrangement of the Company and its affiliated companies.

(d) Cause; Other than for Good Reason. If the Executive’s employment is terminated for Cause during the Change in Control Employment Period, this Agreement will

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terminate without further obligation to the Executive other than the payment to the Executive of the Annual Base Salary through the Date of Termination, plus the amount of any compensation previously deferred by the Executive. If the Executive terminates employment during the Change in Control Employment Period, excluding a termination either for Good Reason, this Agreement will terminate without further obligation to the Executive other than for the Accrued Obligations (which will be paid in a lump sum in cash within 30 days of the Date of Termination) and any other benefits to which the Executive may be entitled pursuant to the terms of any plan, program or arrangement of the Company and its affiliated companies.

(e) Possible Reduction in Payment and Benefits. Following any Change in Control, to the extent that any amount of pay or benefits provided under to the Executive under this Agreement would cause the Executive to be subject to excise tax under sections 280G and 4999 of the Internal Revenue Code of 1986, as amended (the “Code”), and after taking into consideration all other amounts payable to the Executive under other Company plans, programs, policies, and arrangements, then the amount of pay and benefits provided under this Agreement shall be reduced to the extent necessary to avoid imposition of any such excise taxes. The Executive may select the payments and benefits to be limited or reduced, including an election not to have the vesting of certain benefits, including stock options, accelerate as a result of a Change in Control.

(f) Acceleration of Vesting of Stock Awards. Except as may be otherwise agreed to by the Executive, all stock option and similar agreements with the Executive evidencing the grant of a stock option or other award under the Company’s Stock Incentive Plan, or any successor plan, will provide that (i) the vesting of such stock awards will accelerate and become immediately exercisable and fully vested as of the Change in Control Date, and (ii) in the case of stock options, the Executive will have at least ninety (90) days after termination of employment, or such longer period as may be provided for in the separate stock option agreement, to exercise the stock option.

13. Fees and Expenses; Mitigation; Noncompetition.

(a) The Company will pay or reimburse the Executive for all costs and expenses, including without limitation court costs and reasonable attorneys’ fees, incurred by the Executive (i) in contesting or disputing any termination of the Executive’s employment or (ii) in seeking to obtain or enforce any right or benefit provided by this Agreement, in each case provided the Executive’s claim is substantially upheld by a court of competent jurisdiction.

(b) The Executive shall not be required to mitigate the amount of any payment the Company becomes obligated to make to the Executive in connection with this Agreement, by seeking other employment or otherwise. Except as specifically provided above with respect to the Welfare Continuance Benefit, the amount of any payment provided for in Section 12 shall not be reduced, offset or subject to recovery by the Company by reason of any compensation earned by the Executive as the result of employment by another employer after the Date of Termination, or otherwise.

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(c) The Executive will not be required to comply with the noncompetition covenant in Section 7(b) if his employment is terminated during the Change in Control Employment Period without Cause or he terminates for Good Reason.

14. Continuance of Welfare Benefits Upon Death. If the Executive dies while receiving a Welfare Continuation Benefit, the Executive’s spouse and other dependents will continue to be covered under all applicable Welfare Plans during the remainder of the 36-month coverage period. The Executive’s spouse and other dependents will become eligible for COBRA continuation coverage for health and dental benefits at the end of such 36-month period.

15. Change of Control Defined. For purposes of this Agreement, a “Change of Control” shall mean:

(a) the acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) of the Securities Exchange Act of 1934, as amended (the “Exchange Act’) of beneficial ownership (within the meaning of Rule 13d-3 under the Exchange Act), of securities of the Company representing 20% or more of the combined voting power of the then outstanding securities; provided, however, that the following acquisitions shall not constitute a Change of Control:

(i) acquisition directly from the Company (excluding an acquisition by virtue of the exercise of a conversion privilege);

(ii) any acquisition by the Company;

(iii) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company; or

(iv) any acquisition pursuant to a reorganization, merger or consolidation by any corporation owned or proposed to be owned, directly or indirectly, by shareholders of the Company if the shareholders’ ownership of securities of the corporation resulting from such transaction constitutes a majority of the ownership of securities of the resulting entity and at least a majority of the members of the board of directors of the corporation resulting from such transaction were members of the incumbent board as defined in this Agreement at the time of the execution of the initial agreement providing for such reorganization, merger or consolidation; or

(b) where individuals who, as of the inception of this Agreement, constitute the board of directors of the Company (the “Incumbent Board”) cease for any reason to constitute at least a majority of such board of directors; provided, however, that any individual becoming a director subsequent to the effective date of this Agreement whose election, or nomination for election by the shareholders was approved by a vote of

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at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 of Regulation 14A promulgated under the Exchange Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the board of directors; or

(c) the shareholders of the Company approve, or the Company otherwise consummates,

(i) a merger, statutory share exchange, or consolidation of the Company with any other corporation, except as provided in subparagraph (a)(iv) of this section, or

(ii) the sale or other disposition of all or substantially all of the assets of the Company.

Part III: Miscellaneous

16. Documents. All documents, record, tapes and other media of any kind or description relating to the business of the Company or any of its affiliates (the “Documents”), whether or not prepared by the Executive, shall be the sole and exclusive property of the Company. The Documents (and any copies) shall be returned to the Company upon the Executive’s termination of employment for any reason or at such earlier time or times as the Board of Directors or its designee may specify.

17. Severability. If any provision of this Agreement, or part thereof, is determined to be unenforceable for any reason whatsoever, it shall be severable from the remainder of this Agreement and shall not invalidate or affect the other provisions of this Agreement, which shall remain in full force and effect arid shall be enforceable according to their terms. No covenant shall be dependent upon any other covenant or provision herein, each of which stands independently.

18. Modification. The parties expressly agree that should a court find any provision of this Agreement, or part thereof, to be unenforceable or unreasonable, the court may modify the provision, or part thereof, in a manner which renders that provision reasonable, enforceable, and in conformity with the public policy of Virginia.

19. Governing Law. This agreement shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

20. Notices. All written notices required by this Agreement shall be deemed given when delivered personally or sent by registered or certified mail, return receipt requested, to the parties at their addresses set forth on the signature page of this Agreement. Each party may, from time to time, designate a different address to which notices should be sent.

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21. Amendment. This Agreement may not be varied, altered, modified or in any way amended except by an instrument in writing executed by the parties hereto or their legal representatives.

22. Binding Effect. This Agreement shall be binding upon the Executive and on the Company, its successors and assigns effective on the date first above written subject to the approval by the board of directors of the Company. The Company will require any successor to all or substantially all of the business and/or assets of the Company to assume expressly and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place.

23. No Construction Against Any Party. This Agreement is the product of informed negotiations between the Executive and the Company. If any part of this Agreement is deemed to be unclear or ambiguous, it shall be construed as if it were drafted jointly by all parties. The Executive and the Company agree that neither party was in a superior bargaining position regarding the substantive terms of this Agreement.

24. Entire Agreement. This Agreement constitutes the entire agreement of the parties with respect to the matters addressed herein and it supersedes all other prior agreements and understandings, both written and oral, express or implied, with respect to the subject matter of this Agreement.

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IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first written herein.

VIRGINIA FINANCIAL GROUP, INC.
By:
	Taylor E. Gore
	Chairman of the Board
	Jeffrey W. Farrar

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EX-10.7

Exhibit 10.7

EMPLOYMENT AGREEMENT

THIS EMPLOYMENT AGREEMENT, dated the 22nd day of October, 2001, by and among Virginia Financial Group, Inc. (the “Company”), Planters Bank & Trust Company (the “Bank”), and William Daniel Stegall (the “Executive”).

In consideration of the mutual covenants and agreements set forth herein, the parties agree as follows:

I . Employment and Duties. The Executive agrees to accept and perform the managerial duties and responsibilities of President, Chief Executive Officer, and Director of the Bank, the Company’s wholly owned subsidiary. The Executive agrees to devote his time and attention on a full-time basis to the discharge of such duties and responsibilities of an executive nature as may be assigned him by the board of directors of the Bank or their respective designees. As President and Chief Executive Officer, the Executive shall have general supervision over, responsibility for and control over the other officers, agents and employees of the Bank and its subsidiaries, shall have the power to hire all employees of the Bank and its subsidiaries other than any officer or prospective officer whom the board directs to be employed with a written employment contract entered into or approved by the board of directors of the Company (after notifying the Executive and providing him an opportunity to comment) and other than the employee in charge of the internal auditing function for the Company or the Bank (the “internal auditor”). The Executive shall have the power to discharge all employees of the Bank and its subsidiaries, other than any officer with a written employment contract entered into or approved by the board of directors of the Bank and other than the internal auditor. The Executive may accept any elective or appointed positions or offices with any duly recognized associations or organizations whose activities or purposes are closely related to the banking business or service to which would generate good will for the Company, the Bank, or their respective subsidiaries.

2. Term. The term of employment of the Executive under of this Agreement shall be deemed to have commenced on October 22, 2001 and continues through December 31, 2004, unless terminated or extended as hereinafter provided. This Agreement shall be extended for an additional year annually following the original term unless either party notifies the other in writing at least ninety (90) days prior to the end of the original term, or the end of any additional one-year term, that the Agreement shall not be extended beyond its current term.

3. Salary. During the first year of this Agreement, the Company shall pay the Executive an annual base salary not less than $150,000.00. Such base salary shall be paid to the Executive in accordance with established payroll practices of the Company.

4. Benefits.

(a) During the term of this Agreement, the Executive shall be eligible to participate in any plans, programs or forms of compensation or benefits that the Company or the Bank provide to the class of employees that includes the Executive, on a basis not less favorable than that provided to such class of employees, including, without limitation, group medical, disability and life insurance, vacation and sick leave, and a retirement plan; provided however, a reasonable transition period following any change of control, merger, statutory share exchange, consolidation, acquisition or transaction involving the Company or any of its subsidiaries shall be permitted in order to make appropriate adjustments in compliance with this Section 4(a). The Company will allow the Executive to participate in the Executive Deferred Compensation Plan to help the Executive retire at age 65 at an appropriate percentage of base salary.

(b) The Company shall provide the Executive the opportunity to receive stock options, restricted stock, and other benefits under the Company’s Incentive Stock Option Plan. These benefits are awarded by the Company’s board of directors on recommendation by the Bank’s board of directors and are further described in materials available from the Company’s board. The Executive shall be eligible to participate to the extent and in the manner provided by the board of directors of the Company in its sole discretion. At present, the board has awarded the Executive over the course of this contract the right to earn stock options vesting in 5 years and restricted stock vesting in 3 years that, in aggregate, may equal approximately 20% of the Executive’s initial base annual salary, according to the calculations used by the board, with the additional right to earn acceleration of the vesting of those benefits. The exact numbers of stock options and shares of restricted stock and the planned grant dates will be more particularly disclosed in a letter from the board and other agreements.

(c) The Executive shall be entitled to four weeks vacation annually without loss of pay, prorated for the first calendar year of employment through December 31.

(d) The Bank will pay the Executive’s country club initiation fee and dues to the Country Club of Staunton on such basis as may be determined by the board of directors of the Company from time to time.

(e) During the term of this Agreement, the Bank shall provide the Executive with an appropriate automobile as determined by the board of directors of the Bank.

5. Reimbursement of Expenses. The Bank shall reimburse the Executive promptly, upon presentation of adequate substantiation, including receipts, for the reasonable travel, entertainment, lodging and other business expenses incurred by the Executive, including, without limitation, those expenses incurred by the Executive and his spouse in attending trade and professional association conventions, meetings and other related functions. However, the Bank reserves the right to review these expenses periodically and determine, in its sole discretion, whether future reimbursement of such expenses to the Executive will continue without prior board approval of the expenses.

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6. Termination of Employment.

(a) Death or Incapacity. The Executive’s employment under this Agreement shall terminate automatically upon the Executive’s death. In the event of termination due to death of the Executive, his survivors, designees or estate shall continue to receive, in addition to all other benefits accruing upon death, full compensation hereunder for a period of three (3) months following the month in which his death occurred. If the Bank determines that the Incapacity, as hereinafter defined, of the Executive has occurred, it may terminate the Executive’s employment and this Agreement upon thirty (30) days’ written notice provided that, within thirty (30) days after receipt of such notice, the Executive shall not have returned to full-time performance of his assigned duties. “Incapacity” shall mean the failure of the Executive to perform his assigned duties with the Bank on a full-time basis as a result of mental or physical illness or injury as determined by a physician selected by the Bank for the greater of ninety (90) consecutive calendar days or the longest waiting period under any long term disability insurance contract or program provided to him as an employee.

(b) Termination by Bank With or Without Cause. The Bank may terminate the Executive’s employment during the term of this Agreement, with or without cause. For purposes of this Agreement, “cause” shall include but not be limited to:

(i) willful misconduct of the Executive in connection with the performance of his duties which the Bank believes does or may result in material harm to the Bank or the Company;

(ii) misappropriation of funds or property of the Bank or Company by the Executive;

(iii) fraud, disloyalty or dishonesty;

(iv) the failure of the Executive to perform any of the duties and responsibilities required by his job (other than by reason of Incapacity);

(v) the Executive’s conviction of any felony, misdemeanor, or any other crime involving moral turpitude; or

(vi) breach of the Executive’s fiduciary duties owed to the Bank and the Company or any of their affiliates.

(c) Termination by Executive for Good Reason. The Executive may terminate his employment for Good Reason. For purpose of this Agreement, “Good Reason” shall mean:

(i) the continued assignment to the Executive of duties inconsistent with the Executive’s position, authority, duties or responsibilities as contemplated by Section 1 hereof,

(ii) any action taken by the Bank or the Company which results in a substantial reduction in the status of the Executive, including a diminution in his position, authority, duties or responsibilities, excluding for this purpose an isolated, insubstantial and/or inadvertent action not taken in bad faith and which is remedied by the Bank promptly after receipt of notice thereof given by the Executive;

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(iii) the relocation of the Executive to any other primary place of employment which might require him to move his residence which, for this purpose, includes any reassignment to a place of employment located more than 120 miles from the Executive’s initially assigned place of employment, without the Executive’s express written consent to such relocation;

(iv) any failure by the Bank to comply substantially with the provisions of Sections 3 and 4 hereof, other than an isolated, insubstantial or inadvertent failure not occurring in bad faith and which is remedied by the Bank promptly after receipt of notice thereof given by the Executive; or

Notwithstanding the above, “Good Reason” shall not include the removal of the Executive as an officer of any subsidiary of the Company (including the Bank) in order that he might concentrate his efforts on the Company.

(d) Termination by Resignation. If the Executive resigns or voluntarily leaves the employment of the Bank without Good Reason, the Bank’s and the Company’s obligations to the Executive under this Agreement shall terminate, and the Bank and the Company shall have no further liability to the Executive hereunder after the effective date of such resignation except that the Executive shall not be denied any benefits due to him under any plan subject to the provisions of ERISA or a plan under which he has a vested interest.

(e) Disability. If payments under a long term disability policy or plan shall cease due to discontinuance of the plan for failure for any reason of the provider of such policy to continue to make payments, the Bank will provide the benefits to the Executive in accordance with the terms of such policy or plan as if it were still in full force and effect. Notwithstanding the above, in no event shall the Bank’s obligation under this subparagraph be for more than two years.

7. Obligations of the Bank Upon Termination.

(a) Without Cause; Good Reason. Except as set forth in Sections 7(b) and 7(c) below, if during the term of this Agreement, the Bank shall terminate the Executive’s employment without Cause or the Executive shall terminate employment for Good Reason, the Bank will pay to the Executive in a lump sum within thirty (30) days after the termination of employment the sum of the Executive’s annual base salary through the date of termination to the extent not theretofore paid and the balance of the Executive’s annual base salary for a period of twelve (12) months from the date of termination of employment. In addition, the Bank shall maintain in full force and effect for the Executive’s continued benefit and pay premiums as provided for the Executive prior to withdrawal of the Executive, until twelve (12) months from the date of termination of employment, all health and insurance plans as required by federal law, and provided that the Executive’s continued participation is possible under the general terms and provisions of such plans and programs. If the Bank reasonably determines that maintaining such health and insurance plans in full force and effect for the benefit of the Executive until twelve months from the date of termination of employment is not feasible, the Company shall pay the

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Executive a lump sum equal to the estimated cost of maintaining such plans for the Executive for eighteen months. The Bank also will allow the Executive to continue to participate at his own cost in all health and insurance plans for the period required by applicable federal law.

(b) Non-Competition. Notwithstanding the foregoing, all such payments and benefits under Section 7(a) otherwise continuing for periods after the Executive’s termination of employment shall cease to be paid, and the Bank and the Company shall have no further obligation due with respect thereto, in the event the Executive engages in “Competition” or makes any “Unauthorized Disclosure of Confidential Information.” In addition, in exchange for the payments on termination as provided herein, other provisions of this Agreement and other valuable consideration hereby acknowledged, the Executive agrees that he will not engage in competition for a period of two (2) years after the Executive’s employment with the Bank or the Company ceases for any reason, including the expiration or nonrenewal of this Agreement. For purposes hereof:

(i) “Competition” means the Executive’s engaging, without the written consent of the board of directors of the Bank or a person authorized thereby, in an activity as an officer, a director, an employee, a partner, a more than one percent shareholder or other owner, an agent, a consultant, or in any other individual or representative capacity within 50 miles of any office or branch of the Bank or a Bank affiliate (unless the Executive’s duties, responsibilities and activities, including supervisory activities, for or on behalf of such activity, are not related in any way to such competitive activity) if it involves:

(A) engaging in or entering into the business of any banking, lending or any other business activity in which the Bank or any of its affiliates is actively engaged at the time the Executive’s employment ceases, or

(B) soliciting or contacting, either directly or indirectly, any of the customers or clients of the Bank or any of its affiliates for the purpose of competing with the products or services provided by the Bank or any of its affiliates, or

(C) employing or soliciting for employment any employees of the Bank or any of its affiliates for the purpose of competing with the Bank or any of its affiliates.

(ii) “Unauthorized Disclosure of Confidential Information” means the use or disclosure of information in violation of Section 9 of this Agreement.

(iii) All determinations regarding whether the Executive has engaged in Competition or made an Unauthorized Disclosure of Confidential Information under this Agreement shall be made by the board of the directors of the Bank reasonably and in good faith.

(iv) For purposes of this Agreement, “customers” or “clients” of the Bank or any of its affiliates means individuals or entities to whom the Bank or any of its affiliates has provided banking, lending, or other similar financial services at any time from June 15, 2000 through the date the Executive’s employment with the Bank ceases.

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However, notwithstanding the above, Competition shall not include or prevent the Employee from practicing law, including working as an outside attorney on behalf of financial institutions.

(c) Death or Incapacity. If the Executive’s employment is terminated by reason of death or incapacity in accordance with Section 6(a) hereof, this Agreement shall terminate without further obligation to the Executive or his legal representatives under this Agreement except as otherwise specified in Section 6(a).

(d) Cause; Other Than for Good Reason. If the Executive’s employment shall be terminated for cause, this Agreement shall terminate without further obligation to the Executive other than to pay to the Executive his annual base salary through the date of termination. If the Executive terminates his employment other than for Good Reason, this Agreement shall terminate without further obligation to the Executive.

(e) Remedies. The Executive acknowledges that the restrictions set forth in paragraph 7(b) of this Agreement are just, reasonable, and necessary to protect the legitimate business interests of the Bank. The Executive further acknowledges that if he breaches or threatens to breach any provision of paragraph 7(b), the Bank’s remedies at law will be inadequate, and the Bank will be irreparably harmed. Accordingly, the Bank shall be entitled to an injunction, both preliminary and permanent, restraining the Executive from such breach or threatened breach, such injunctive relief not to preclude the Bank from pursuing all available legal and equitable remedies. In any matter brought by the Executive or the Bank to enforce this Agreement, the Executive and the Bank shall pay their own respective costs and fees, including attorneys’ fees, incurred for bringing or defending such an action.

8. Change of Control.

(a) Notwithstanding any other term or provision of this Agreement, in the event of a Change of Control as hereinafter defined, the Executive may choose either of the following two alternatives, if written notice of his choice is given to the Bank within ninety (90) days of such Change of Control:

(i) the term of this Agreement as provided in Section 2 hereof shall be deemed to have commenced on the occurrence of the Change of Control and shall continue for two (2) consecutive years (24 months) or the balance of the term of this Agreement, whichever is greater; or

(ii) the Executive may resign his employment from the Bank, terminate this Agreement, and receive as severance benefits the continuation for the 24 months immediately following such Change of Control or the provision of written notice under this Agreement, whichever is later, of his salary and benefits as provided in Sections 3 and 4(a) of this Agreement and the vesting and immediate exercisability of any stock options and the receipt of any restricted stock, as provided for in Section 4(b), respectively, provided however, that the aggregate value of all such severance benefits under this Agreement, when added to the value of all other payments or benefits payable to or with respect to the Executive (even though not paid or provided pursuant to this Agreement), which constitute “Parachute payments” under IRC Section 280G shall be reduced to the extent necessary so that none of such benefits and payments

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(whether or not paid or provided pursuant to this Agreement) constitute “excess parachute payments” on which an excise tax is imposed pursuant to IRC Section 4999. Any such reduction shall normally be effected first by reducing taxable payments or benefits and then by reducing nontaxable payments and benefits, with noncash payments or benefits being reduced before cash payments or benefits in each such category, unless the Bank and Executive otherwise agree. The severance benefits to be provided by the Bank under this provision shall be provided without regard to whether the Executive becomes employed by another employer.

(b) Change of Control Defined. For purposes of this Agreement, a “Change of Control” shall mean:

(i) the acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) and 14(d)(2) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) of beneficial ownership (within the meaning of Rule 13d-3 under the Exchange Act), of securities of the Company representing 20% or more of the combined voting power of the then outstanding securities; provided, however, that the following acquisitions shall not constitute a Change of Control:

(A) any acquisition directly from the Company (excluding an acquisition by virtue of the exercise of a conversion privilege);

(B) any acquisition by the Company;

(C) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company; or

(D) any acquisition pursuant to a reorganization, merger or consolidation by any corporation owned or proposed to be owned, directly or indirectly, by shareholders of the Company if the shareholders’ ownership of securities of the corporation resulting from such transaction constitutes a majority of the ownership of securities of the resulting entity and at least a majority of the members of the board of directors of the corporation resulting from such transaction were members of the Incumbent board as defined in this Agreement at the time of the execution of the initial agreement providing for such reorganization, merger or consolidation;

(E) any acquisition resulting from negotiations that began on or before the date of this Agreement; or

(ii) where individuals who, as of the inception of this Agreement, constitute the board of directors of the Company (the “incumbent board”) cease for any reason to constitute at least a majority of such board of directors; provided, however, that any individual becoming a director subsequent to the effective date of this Agreement whose election, or nomination for election by the shareholders was approved by a vote of at least a majority of the directors then comprising the Incumbent board shall be considered as though such individual were a member of the incumbent board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 of Regulation 14A promulgated under the Exchange Act) or other actual or threatened solicitation of ‘proxies or consents by or on behalf of a person other than a member of the board of directors; or

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(iii) the shareholders of the Company approve, or the Company otherwise consummates,

(A) a merger, statutory share exchange, or consolidation of the Company with any other corporation, except as provided in subparagraph (i) D of this section; provided however, that the approval by shareholders of the Company or any of its predecessors of an agreement entered into on or before the date of this Agreement shall not constitute a Change of Control herein, or

(B) the sale or other disposition of all or substantially all of the assets of the Company.

9. Confidentiality. The Executive recognizes that as an employee of the Bank he will have access to and may participate in the origination of non-public, proprietary and confidential information and that he owes a fiduciary duty to the Bank and the Company. Confidential information may include, but is not limited to, trade secrets, customer lists and information, internal corporate planning, methods of marketing and operation, and other data or information of or concerning the Bank or the Company or either of their customers that is not generally known to the public or in the banking industry. The Executive agrees that he will never use or disclose to any third party any such confidential information, either directly or indirectly, except as may be authorized in writing specifically by the Bank.

10. Documents. All documents, record, tapes and other media of any kind or description relating to the business of the Bank or any of its affiliates (the “documents”), whether or not prepared by the Executive, shall be the sole and exclusive property of the Bank. The documents (and any copies) shall be returned to the Bank upon the Executive’s termination of employment for any reason or at such earlier time or times as the board of directors or its designee may specify.

11. Severability. If any provision of this Agreement, or part thereof, is determined to be unenforceable for any reason whatsoever, it shall be severable from the remainder of this Agreement and shall not invalidate or affect the other provisions of this Agreement, which shall remain in full force and effect and shall be enforceable according to their terms. No covenant shall be dependent upon any other covenant or provision herein, each of which stands independently.

12. Modification. The parties expressly agree that should a court find any provision of this Agreement, or part thereof, to be unenforceable or unreasonable, the court may modify the provision, or part thereof, in a manner which renders that provision reasonable, enforceable, and in conformity with the public policy of Virginia.

13. Governing, Law. This agreement shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

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14. Notices. All written notices required by this Agreement shall be deemed given when delivered personally or sent by registered or certified mail, return receipt requested, to the parties at their addresses set forth on the signature page of this Agreement. Each party may, from time to time, designate a different address to which notices should be sent.

15. Amendment. This Agreement may not be varied, altered, modified or in any way amended except by an instrument in writing executed by the parties hereto or their legal representatives.

16. Binding Effect. This Agreement shall be binding upon the Executive and on the Bank, its successors and assigns effective on the date first above written subject to the approval by the board of directors of the Bank and the Company. The Bank will require any successor to all or substantially all of the business and/or assets of the Bank to assume expressly and agree to perform this Agreement in the same manner and to the same extent that the Bank would be required to perform it if no such succession had taken place.

17. No Construction Against Any Party. This Agreement is the product of informed negotiations between the Executive and the Bank. If any part of this Agreement is deemed to be unclear or ambiguous, it shall be construed as if it were drafted jointly by all parties. The Executive and the Bank agree that neither party was in a superior bargaining position regarding the substantive terms of this Agreement.

18. Entire Agreement. This Agreement constitutes the entire agreement of the parties with respect to the matters addressed herein and it supersedes all other prior agreements and understandings, both written and oral, express or implied, with respect to the subject matter of this Agreement.

IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first written herein.

PLANTERS BANK & TRUST COMPANY	VIRGINIA FINANCIAL GROUP, INC.
By	By
Its	Its
24 South Augusta Street Staunton, Virginia 24401-4220	102 South Main Street Culpeper, Virginia 22701 WILLAM DANIEL STEGALL “EXECUTIVE”
	Address:

9

EX-10.8

Exhibit 10.8

EMPLOYMENT AGREEMENT

THIS EMPLOYMENT AGREEMENT, dated as of this 15^th day of June, 2000, by and among Virginia Commonwealth Financial Corporation (the “Company”), Second Bank & Trust (the “Bank”), and Christopher J. Honenberger (the “Executive”).

In consideration of the mutual covenants and agreements set forth herein, the parties agree as follows:

1. Employment and Duties. The Executive agrees to accept and perform the managerial duties and responsibilities of President, Chief Executive Officer, and Director of the Bank, the Company’s wholly owned subsidiary. The Executive agrees to devote his time and attention on a full-time basis to the discharge of such duties and responsibilities of an executive nature as may be assigned him by the board of directors of the Bank or their respective designees. As President and Chief Executive Officer, the Executive shall have general supervision over, responsibility for and control over the other officers, agents and employees of the Bank and its subsidiaries, shall have the power to hire all employees of the Bank and its subsidiaries other than any officer or prospective officer whom the board directs to be employed with a written employment contract entered into or approved by the board of directors of the Company (after notifying the Executive and providing him an opportunity to comment) and other than the employee in charge of the internal auditing function for the Company or the Bank (the “internal auditor”). The Executive shall have the power to discharge all employees of the Bank and its subsidiaries, other than any officer with a written employment contract entered into or approved by the board of directors of the Bank and other than the internal auditor. The Executive may accept any elective or appointed positions or offices with any duly recognized associations or organizations whose activities or purposes are closely related to the banking business or service to which would generate good will for the Company, the Bank, or their respective subsidiaries.

2. Term. The term of employment of the Executive under this agreement shall be deemed to have commenced on June 15, 2000 and continues through December 31, 2002, unless terminated or extended as hereinafter provided. This Agreement shall be extended for an additional year annually following the original term unless either party notifies the other in writing at least ninety (90) days prior to the end of the original term, or the end of any additional one-year term, that the Agreement shall not be extended beyond its current term.

3. Salary. During the first year of this Agreement, the Company shall pay the Executive an annual base salary not less than $120,000.00. Such base salary shall be paid to the Executive in accordance with established payroll practices of the Company.

4. Benefits.

(a) During the term of this Agreement, the Executive shall be eligible to participate in any plans, programs or forms of compensation or benefits that the Company or the Bank provide to the class of employees that includes the Executive, on a basis not less favorable than that provided to such class of employees, including, without limitation, group medical, disability and

life insurance, vacation and sick leave, and a retirement plan; provided however, a reasonable transition period following any change of control, merger, statutory share exchange, consolidation, acquisition or transaction involving the Company or any of its subsidiaries shall be permitted in order to make appropriate adjustments in compliance with this Section 4(a). The Company will allow the Executive to participate in the Executive Deferred Compensation Plan to help the Executive retire at age 65 at an appropriate percentage of base salary.

(b) The Company shall provide the Executive the opportunity to receive stock options, restricted stock, and other benefits under the Company’s Incentive Stock Option Plan. These benefits are awarded by the Company’s board of directors on recommendation by the Bank’s board of directors and are further described in materials available from the Company’s board. The Executive shall be eligible to participate to the extent and in the manner provided by the board of directors of the Company in its sole discretion. At present, the board has awarded the Executive over the course of this contract the right to earn stock options and restricted stock vesting in 10 years that, in aggregate, may equal approximately 20% of the Executive’s base annual salary each of the next three years, according to the calculations used by the board, with the additional right to earn acceleration of the vesting of those benefits. The exact numbers of stock options and shares of restricted stock and the planned grant dates will be more particularly disclosed in a letter from the board.

(c) The Executive shall be entitled to four weeks vacation annually without loss of pay, prorated for the first calendar year of employment through December 31.

(d) The Bank will pay the Executive’s country club initiation fee and dues to the Culpeper Country Club on such basis as may be determined by the board of directors of the Company from time to time.

(e) During the term of this Agreement, the Bank shall provide the Executive with an appropriate automobile as determined by the board of directors of the Bank.

5. Reimbursement of Expenses. The Bank shall reimburse the Executive promptly, upon presentation of adequate substantiation, including receipts, for the reasonable travel, entertainment, lodging and other business expenses incurred by the Executive, including, without limitation, those expenses incurred by the Executive and his spouse in attending trade and professional association conventions, meetings and other related functions. However, the Bank reserves the right to review these expenses periodically and determine, in its sole discretion, whether future reimbursement of such expenses to the Executive will continue without prior board approval of the expenses.

6. Termination of Employment.

(a) Death or Incapacity. The Executive’s employment under this Agreement shall terminate automatically upon the Executive’s death. In the event of termination due to death of the Executive, his survivors, designees or estate shall continue to receive, in addition to all other benefits accruing upon death, full compensation hereunder for a period of three (3) months following the month in which his death occurred. If the Bank determines that the Incapacity, as hereinafter defined, of the Executive has occurred, it may terminate the Executive’s employment

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and this Agreement upon thirty (30) days’ written notice provided that, within thirty (30) days after receipt of such notice, the Executive shall not have returned to full-time performance of his assigned duties. “Incapacity” shall mean the failure of the Executive to perform his assigned duties with the Bank on a full-time basis as a result of mental or physical illness or injury as determined by a physician selected by the Bank for the greater of ninety (90) consecutive calendar days or the longest waiting period under any long term disability insurance contract or program provided to him as an employee.

(b) Termination by Bank with or Without Cause. The Bank may terminate the Executive’s employment during the term of this Agreement, with or without cause. For purposes of this Agreement, “cause” shall include but not be limited to:

(i) willful misconduct of the Executive in connection with the performance of his duties which the Bank believes does or may result in material harm to the Bank or the Company;

(ii) misappropriation of funds or property of the Bank or Company by the Executive;

(iii) fraud, disloyalty or dishonesty;

(iv) the failure of the Executive to perform any of the duties and responsibilities required by his job (other than by reason of Incapacity);

(v) the Executive’s conviction of any felony, misdemeanor, or any other crime involving moral turpitude; or

(vi) breach of the Executive’s fiduciary duties owed to the Bank and the Company or any of their affiliates.

(c) Termination by Executive for Good Reason. The Executive may terminate his employment for Good Reason. For purpose of this Agreement, “Good Reason” shall mean:

(i) the continued assignment to the Executive of duties inconsistent with the Executive’s position, authority, duties or responsibilities as contemplated by Section 1 hereof,

(ii) any action taken by the Bank or the Company which results in a substantial reduction in the status of the Executive, including a diminution in his position, authority, duties or responsibilities, excluding for this purpose an isolated, insubstantial and/or inadvertent action not taken in bad faith and which is remedied by the Bank promptly after receipt of notice thereof given by the Executive;

(iii) the relocation of the Executive to any other primary place of employment which might require him to move his residence which, for this purpose, includes any reassignment to a place of employment located more than 75 miles from the Executive’s initially assigned place of employment, without the Executive’s express written consent to such relocation;

(iv) any failure by the Bank to comply substantially with the provisions of Sections 3 and 4 hereof, other than an isolated, insubstantial or inadvertent failure not occurring in

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bad faith and which is remedied by the Bank promptly after receipt of notice thereof given by the Executive; or

Notwithstanding the above, “Good Reason” shall not include the removal of the Executive as an officer of any subsidiary of the Company (including the Bank) in order that he might concentrate his efforts on the Company.

(d) Termination by Resignation. If the Executive resigns or voluntarily leaves the employment of the Bank without Good Reason, the Bank’s and the Company’s obligations to the Executive under this Agreement shall terminate, and the Bank and the Company shall have no further liability to the Executive hereunder after the effective date of such resignation except that the Executive shall not be denied any benefits due to him under any plan subject to the provisions of ERISA or a plan under which he has a vested interest.

(e) Disability. If payments under a long term disability policy or plan shall cease due to discontinuance of the plan for failure for any reason of the provider of such policy to continue to make payments, the Bank will provide the benefits to the Executive in accordance with the terms of such policy or plan as if it were still in full force and effect. Notwithstanding the above, in no event shall the Bank’s obligation under this subparagraph be for more than two years.

7. Obligations of the Bank Upon Termination.

(a) Without Cause: Good Reason. Except as set forth in Sections 7(b) and 7(c) below, if during the term of this Agreement, the Bank shall terminate the Executive’s employment Without Cause or the Executive shall terminate employment for Good Reason, the Bank will pay to the Executive in a lump sum within thirty (30) days after the termination of employment the sum of the Executive’s annual base salary through the date of termination to the extent not theretofore paid and the balance of the Executive’s annual base salary for a period of twelve (12) months from the date of termination of employment. In addition, the Bank shall maintain in full force and effect for the Executive’s continued benefit and pay premiums as provided for the Executive prior to withdrawal of the Executive, until twelve (12) months from the date of termination of employment, all health and insurance plans as required by federal law, and provided that the Executive’s continued participation is possible under the general terms and provisions of such plans and programs. If the Bank reasonably determines that maintaining such health and insurance plans in full force and effect for the benefit of the Executive until twelve months from the date of termination of employment is not feasible, the Company shall pay the Executive a lump sum equal to the estimated cost of maintaining such plans for the Executive for eighteen months. The Bank also will allow you to continue to participate at your own cost in all health and insurance plans for the period required by applicable federal law.

(b) Non-Competition. Notwithstanding the foregoing, all such payments and benefits under Section 7(a) otherwise continuing for periods after the Executive’s termination of employment shall cease to be paid, and the Bank and the Company shall have no further obligation due with respect thereto, in the event the Executive engages in “Competition” or makes any “Unauthorized Disclosure of Confidential Information.” In addition, in exchange for the payments on termination as provided herein, other provisions of this Agreement and other valuable consideration hereby acknowledged, the Executive agrees that he will not engage in competition for a period of two (2) years after the Executive’s employment with the Bank or the

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Company ceases for any reason, including the expiration or nonrenewal of this Agreement. For purposes hereof:

(i) “Competition” means the Executive’s engaging, without the written consent of the board of directors of the Bank or a person authorized thereby, in an activity as an officer, a director, an employee, a partner, a more than one percent shareholder or other owner, an agent, a consultant, or in any other individual or representative capacity within 75 miles of the Bank’s Culpeper, Virginia headquarters or any branch office of the Bank or any of its subsidiaries (unless the Executive’s duties, responsibilities and activities, including supervisory activities, for or on behalf of such activity, are not related in any way to such competitive activity) if it involves:

(A) engaging in or entering into the business of any banking, lending or any other business activity in which the Bank or any of its affiliates is actively engaged at the time the Executive’s employment ceases, or

(B) soliciting or contacting, either directly or indirectly, any of the customers or clients of the Bank or any of its affiliates for the purpose of competing with the products or services provided by the Bank or any of its affiliates, or

(C) employing or soliciting for employment any employees of the Bank or any of its affiliates for the purpose of competing with the Bank or any of its affiliates.

(ii) “Unauthorized Disclosure of Confidential Information” means the use or disclosure of information in violation of Section 9 of this Agreement.

(iii) All determinations regarding whether the Executive has engaged in Competition or made an Unauthorized Disclosure of Confidential Information under this Agreement shall be made by the board of the directors of the Bank reasonably and in good faith.

(iv) For purposes of this Agreement, “customers” or “clients” of the Bank or any of its affiliates means individuals or entities to whom the Bank or any of its affiliates has provided banking, lending, or other similar financial services at any time from June 15, 2000 through the date the Executive’s employment with the Bank ceases.

However, notwithstanding the above, Competition shall not include or prevent the Employee from practicing law, including working as an outside attorney on behalf of financial institutions.

(c) Death or Incapacity. If the Executive’s employment is terminated by reason of death or incapacity in accordance with Section 6(a) hereof, this Agreement shall terminate without further obligation to the Executive or his legal representatives under this Agreement except as otherwise specified in Section 6(a).

(d) Cause: Other Than for Good Reason. If the Executive’s employment shall be terminated for cause, this Agreement shall terminate without further obligation to the Executive other than to pay to the Executive his annual base salary through the date of termination. If the Executive terminates his employment other than for Good Reason, this Agreement shall terminate without further obligation to the Executive.

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(e) Remedies. The Executive acknowledges that the restrictions set forth in paragraph 7(b) of this Agreement are just, reasonable, and necessary to protect the legitimate business interests of the Bank. The Executive further acknowledges that if he breaches or threatens to breach any provision of paragraph 7(b), the Bank’s remedies at law will be inadequate, and the Bank will be irreparably harmed. Accordingly, the Bank shall be entitled to an injunction, both preliminary and permanent, restraining the Executive from such breach or threatened breach, such injunctive relief not to preclude the Bank from pursuing all available legal and equitable remedies. In addition to all other available remedies, if the Executive violates the provisions of paragraph 7(b), the Executive shall pay all costs and fees, including attorneys’ fees, incurred by the Bank or the Company in enforcing the provisions of that paragraph. If, on the other hand, it is finally determined by a court of competent jurisdiction that a breach or threatened breach did not occur under paragraph 7(b) of this Agreement, the Bank shall reimburse the Executive for reasonable legal fees incurred to defend that claim.

8. Change of Control.

(a) Notwithstanding any other term or provision of this Agreement, in the event of a Change of Control as hereinafter defined, the Executive may choose either of the following two alternatives, if written notice of his choice is given to the Bank within ninety (90) days of such Change of Control:

(i) the term of this Agreement as provided in Section 2 hereof shall be deemed to have commenced on the occurrence of the Change of Control and shall continue for two (2) consecutive years (24 months) or the balance of the term of this Agreement, whichever is greater; or

(ii) the Executive may resign his employment from the Bank, terminate this Agreement, and receive as severance benefits the continuation for the 24 months immediately following such Change of Control or the provision of written notice under this Agreement, whichever is later, of his salary and benefits as provided in Sections 3 and 4(a) of this Agreement and the vesting and immediate exercisability of any stock options and the receipt of any restricted stock, as provided for in Section 4(b), respectively, provided however, that the aggregate value of all such severance benefits under this Agreement, when added to the value of all other payments or benefits payable to or with respect to the Executive (even though not paid or provided pursuant to this Agreement), which constitute “Parachute payments” under IRC Section 280G shall be reduced to the extent necessary so that none of such benefits and payments (whether or not paid or provided pursuant to this Agreement) constitute “excess parachute payments” on which an excise tax is imposed pursuant to IRC Section 4999. Any such reduction shall normally be effected first by reducing taxable payments or benefits and then by reducing nontaxable payments and benefits, with noncash payments or benefits being reduced before cash payments or benefits in each such category, unless the Bank and Executive otherwise agree. The severance benefits to be provided by the Bank under this provision shall be provided without regard to whether the Executive becomes employed by another employer.

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(b) Change of Control Defined. For purposes of this Agreement, a “Change of Control” shall mean:

(i) the acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) and 14(d)(2) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) of beneficial ownership (within the meaning of Rule 13d-3 under the Exchange Act), of securities of the Company representing 20% or more of the combined voting power of the then outstanding securities; provided, however, that the following acquisitions shall not constitute a Change of Control:

(A) any acquisition directly from the Company (excluding an acquisition by virtue of the exercise of a conversion privilege);

(B) any acquisition by the Company;

(C) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company; or

(D) any acquisition pursuant to a reorganization, merger or consolidation by any corporation owned or proposed to be owned, directly or indirectly, by shareholders of the Company if the shareholders’ ownership of securities of the corporation resulting from such transaction constitutes a majority of the ownership of securities of the resulting entity and at least a majority of the members of the board of directors of the corporation resulting from such transaction were members of the Incumbent board as defined in this Agreement at the time of the execution of the initial agreement providing for such reorganization, merger or consolidation;

(E) any acquisition resulting from negotiations that began on or before July 15, 2000; or

(ii) where individuals who, as of the inception of this Agreement, constitute the board of directors of the Company (the “incumbent board”) cease for any reason to constitute at least a majority of such board of directors; provided, however, that any individual becoming a director subsequent to the effective date of this Agreement whose election, or nomination for election by the shareholders was approved by a vote of at least a majority of the directors then comprising the Incumbent board shall be considered as though such individual were a member of the incumbent board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-ll of Regulation 14A promulgated under the Exchange Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the board of directors; or

(iii) the shareholders of the Company approve, or the Company otherwise consummates,

(A) a merger, statutory share exchange, or consolidation of the Company with any other corporation, except as provided in subparagraph (i) D of this section; provided however, that the approval by shareholders of the Company or any of its predecessors of an agreement entered into on or before July 15, 2000 shall not constitute a Change of Control herein, or

(B) the sale or other disposition of all or substantially all of the assets of the Company.

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9. Confidentiality. The Executive recognizes that as an employee of the Bank he will have access to and may participate in the origination of non-public, proprietary and confidential information and that he owes a fiduciary duty to the Bank and the Company. Confidential information may include, but is not limited to, trade secrets, customer lists and information, internal corporate planning, methods of marketing and operation, and other data or information of or concerning the Bank or the Company or either of their customers that is not generally known to the public or in the banking industry. The Executive agrees that he will never use or disclose to any third party any such confidential information, either directly or indirectly, except as may be authorized in writing specifically by the Bank.

10. Documents. All documents, record, tapes and other media of any kind or description relating to the business of the Bank or any of its affiliates (the “documents”), whether or not prepared by the Executive, shall be the sole and exclusive property of the Bank. The documents (and any copies) shall be returned to the Bank upon the Executive’s termination of employment for any reason or at such earlier time or times as the board of directors or its designee may specify.

11. Severability. If any provision of this Agreement, or part thereof, is determined to be unenforceable for any reason whatsoever, it shall be severable from the remainder of this Agreement and shall not invalidate or affect the other provisions of this Agreement, which shall remain in full force and effect and shall be enforceable according to their terms. No covenant shall be dependent upon any other covenant or provision herein, each of which stands independently.

12. Modification. The parties expressly agree that should a court find any provision of this Agreement, or part thereof, to be unenforceable or unreasonable, the court may modify the provision, or part thereof, in a manner which renders that provision reasonable, enforceable, and in conformity with the public policy of Virginia.

13. Governing, Law. This agreement shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

14. Notices. All written notices required by this Agreement shall be deemed given when delivered personally or sent by registered or certified mail, return receipt requested, to the parties at their addresses set forth on the signature page of this Agreement. Each party may, from time to time, designate a different address to which notices should be sent.

15. Amendment. This Agreement may not be varied, altered, modified or in any way amended except by an instrument in writing executed by the parties hereto or their legal representatives.

16. Binding Effect. This Agreement shall be binding upon the Executive and on the Bank, its successors and assigns effective on the date first above written subject to the approval by the board of directors of the Bank and the Company. The Bank will require any successor to all or substantially all of the business and/or assets of the Bank to assume expressly and agree to perform this Agreement in the same manner and to the same extent that the Bank would be required to perform it if no such succession had taken place.

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17. No Construction Against Any Party. This Agreement is the product of informed negotiations between the Executive and the Bank. If any part of this Agreement is deemed to be unclear or ambiguous, it shall be construed as if it were drafted jointly by all parties. The Executive and the Bank agree that neither party was in a superior bargaining position regarding the substantive terms of this Agreement.

18. Entire Agreement. This Agreement constitutes the entire agreement of the parties with respect to the matters addressed herein and it supersedes all other prior agreements and understandings, both written and oral, express or implied, with respect to the subject matter of this Agreement.

IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first written herein.

SECOND BANK & TRUST	VIRGINIACOMMONWEALTH FINANCIAL CORPORATION
By	By
Its	Its
102 South Main Street Culpeper, Virginia 22701	102 South Main Street Culpeper, Virginia 22701
	CHRISTOPHER J. HONENBERGER “EXECUTIVE”

Address:

9

EX-10.9

Exhibit 10.9

VIRGINIA BANKERS ASSOCIATION

MODEL NON-QUALIFIED DEFERRED COMPENSATION PLAN

FOR DIRECTORS

(January, 1998)

ADOPTION AGREEMENT

If the Corporation completing this document has any questions about the adoption of the Plan, the provisions of the Plan, its representative should contact Bette J. Albert, C.L.U. at the Virginia Bankers Association Benefits Corporation, 700 East Main Street, Suite 1411, Post Office Box 462, Richmond, Virginia 23219, telephone number (804) 643-7469 during business hours.

Each Corporation named below hereby adopts the Plan through this Adoption Agreement (the “Adoption Agreement”), to be effective as of the date(s) specified below, and elects the following specifications and provides the following information relating thereto:

In completing this Adoption Agreement, if additional space is required insert additional sheets.

Adoption Agreement Contents

		Page
Option 1	Corporation(s) Adopting Plan Named in Paragraph 1.9 of the Plan	1
Option 2	General Plan Information	2
Option 3	Status of Plan and Effective Date(s)	2
Option 4	Definitions	3
Option 5	Time and Form of Benefit Payments	4
Option 6	Participant Deemed Investment Direction	8

1. CORPORATION(S) ADOPTING PLAN NAMED IN PARAGRAPH 1.9 OF THE PLAN.

(a)    Name of Corporation:          Virginia Financial Group, Inc.	(b)    Corporation’s telephone          Number:          (540) 825-4800
(c)    Address of Corporation:          Post Office Box 71          Culpeper, VA 22701-0071	(d)    Corporation’s EIN:          54-1829288
	(e)    Corporation’s Tax Year End:          12/31

(f) Name, Address and Identifying Information of Other Participating Corporations Adopting the Plan: Second Bank & Trust, P. O. Box 71, Culpepper, VA 22701, EIN No. 54-0185835

Virginia Heartland Bank, P. O. Box 7267, Fredericksburg, VA 22404, EIN No. 54-1424384 Planters Bank and Trust Company of Virginia, P. O. Box 1309, Staunton, VA 24402

2. GENERAL PLAN INFORMATION.

(a) Name of Plan: VBA Director’s Deferred Compensation Plan for Virginia Financial Group, Inc.

(b) Name, Address and EIN of Plan Administrator(s): [If other than Plan Sponsor, appointment must be by resolution.]

3. STATUS OF PLAN AND EFFECTIVE DATE(S).

(a) Effective Date of Plan: The Effective Date of the Plan is December 1, 1997.

(b) Plan Status. The Adoption of the Plan through this Adoption Agreement is:

¨    (1)  Initial Establishment. The initial adoption and establishment of the Plan,

x   (2)  Restated Plan. An amendment and restatement of the Plan (a Restated Plan).

 (A) Effective Date of this Restatement. The Effective Date of this Restatement of the Plan is January 1, 2002.

 (B) Prior Plan. The Plan was last maintained under document dated October 9, 1997 and was known as the VBA Deferred Compensation Plan for Second Bank & Trust.

 (C) Transitional or Special Provisions: [Enter any transitional or special provisions relating to any Rollover Account and the Plan as restated.]

(c) Adoption of Plan by Additional Corporations after Effective Date of Plan. The Effective Date(s) of the Plan with respect to

[Enter name(s) of additional Corporations adopting Plan] is (are)

[Enter date(s) Plan is first effective as to additional Corporation(s).]

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4. DEFINITIONS.

(a)    Compensation          Paragraph 1.8	Compensation is used throughout the basic plan document for different purposes. The following specific rules apply.
	(1)	General Definition. The Compensation definition in paragraph 1.8 of the basic plan document is modified as follows:
		(A)	Retainer. Retainer is more specifically defined to mean:
		(B)	Fees. Fees is more specifically defined to mean:
	(2)	Specific Definitions. When used with respect to Deferral Contributions under the Plan, Compensation shall include:
		¨	(A)   Retainer.
		¨	(B)   Fees.
		x	(C)   Retainers and Fees.
(b)    Eligible Director          Paragraph 1.16	Eligible Director shall mean only the following:
	x	(1)	All Directors. Any individual serving as a Director of the Corporation.
	¨	(2)	All Non-Employee Directors. Any individual serving as a Director of the Corporation, except Directors who are also common law employees of the Corporation.
	¨	(3)	Determination by Board. Any individual who is designated as an Eligible Director by resolution of the ¨ Plan Sponsor’s ¨ Corporation’s Board of Directors. A copy of the resolution shall be attached to and incorporated by reference into the Plan.
(c)    Plan Year          Paragraph 1.20	In the case of Restated Plan which prior to the Effective Date of this Restatement was maintained on the basis of a Plan Year beginning on a date other than January 1, the Plan Year shall begin     on,     and ending on     ,     with a short Plan Year beginning on    ,     and ending on December 31,     . Thereafter, the Plan Year shall be the 12 month period beginning each January 1.
(d)    Valuation Date          Paragraph 1.23	The following date selected by the Corporation:
	¨	(1)	Quarterly. The last day of each calendar quarter.
	x	(2)	Semi-Annually. The last day of June and the last day of December of each Plan Year.
	¨	(3)	Annually. The last day of each Plan Year.

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(e)    Effective Date of Coverage Subparagraph 2.1	The effective date of coverage for an Eligible Director shall be [Check one]:
	x	(1)	Quarterly. The first day of the calendar quarter following the date the individual became an Eligible Director.
	¨	(2)	Semi-Annually. The first day of the Plan Year or the first day of the seventh month of the Plan Year next following the date the individual became an Eligible Director.
	¨	(3)	Annually. The first day of the Plan Year following the date the individual became an Eligible Director.
5.      TIME AND FORM OF BENEFIT PAYMENTS.
(a)    Benefit Commencement Date Defined Paragraphs 1.5, 3.3(a) and 6.1	The term Benefit Commencement Date shall mean the first day of calendar quarter coinciding or next following:
	¨	(1)	Termination as Director. The Participant’s termination as a Director of the Corporation for whatever reason.
	x	(2)	Selected By Participant. The date selected by the Participant in accordance with the following:
			(A)	Participant’s Options. The Participant may elect that his Benefit Commencement Date be based on [Select options to be available to Participants]:
			¨	(i)	His termination as a Director of the Corporation.
			x	(ii)	A date certain stated clearly in his election form which shall be without regard to when his service as a Director of the Corporation ends.
			¨	(iii)	The later of a date certain or his termination as a Director of the Corporation.
			¨	(iv)	The earlier of a date certain or his termination as a Director of the Corporation.
			¨	(v)	Describe other options to be available:

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			(B)	Timing of Participant Election. The Participant shall elect his Benefit Commencement Date at the following time:
			¨	(i)	At Time Deferral Election is Made. The Participant’s election of the Benefit Commencement Date shall be made at the time his first Deferred Contribution Election is filed under the Plan.
			x	(ii)	In Plan Year Prior to Date Elected. The Participant’s election of the Benefit Commencement Date shall be made no later than the earlier of (a) the end of the Plan Year prior to the Benefit Commencement Date selected and (b) at least 90 days before the selected date.
(b)    Form of Payment to Participant Paragraph 6.2(a)	The form of benefit payments available to the Participant shall be determined in accordance with the following rules:
	¨	(1)	Selected By Corporation. The Corporation selects the following form of payment:
		¨	(A)	Lump Sum Payment. Deferral Benefits will be paid in the form of a lump sum payment.
		¨	(B)	Periodic Installments. Deferral Benefits will be paid in the form of periodic installment payments made:
				(i)	Frequency:
				¨	(a)    Monthly.
				¨	(b)    Quarterly.
				¨	(c)    Semi-Annually.
				¨	(d)    Annually.
				(ii)	Duration. Over the following period:
				¨	(a)    Five (5) years.
				¨	(b)    Ten (10) years.
				¨	(c)    Fifteen (15) years.
				¨	(d)    Twenty (20) years.
	x	(2)	Selected By Participant. The form of payment shall be selected by the Participant in accordance with the following.
			(A)	Participant’s Options. The Participant may elect from among the following forms of payment [Select options to be available to Participants]:

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		x	(i)	Lump Sum Payment. Deferral Benefits may be paid only in the form of a lump sum payment.
		x	(ii)	Periodic Installments. Deferral Benefits may be paid in the form of periodic installment payments made:
				(a)	Frequency:
				x	(I)     Monthly.
				¨	(II)   Quarterly.
				x	(III)  Semi-Annually.
				x	(IV) Annually.
				(b)	Duration. Over the following period:
				x	(I)     Five (5) years.
				x	(II)   Ten (10) years,
				x	(III)  Fifteen (15) years.
				¨	(IV) Twenty (20) years.
		(B)	Timing of Participant Election. The Participant shall elect his form of payment at the following time:
		¨	(i)	At Time Deferral Election is Made. The Participant’s election of the form of payment shall be made at the time his first Deferred Contribution Election is filed under the Plan.
		x	(ii)	In Plan Year Prior to Date Elected. The Participant’s election of the form of payment shall be made no later than the earlier of (a) the end of the Plan Year prior to the Benefit Commencement Date selected and (b) at least 90 days before the selected date.
(c)    Form of Payment to Beneficiary Paragraph 6.2(b)	The form of benefit payments available to the Beneficiary shall be determined in accordance with the following rules:
	¨	(1)	Selected By Corporation. The Corporation selects the following form of payment:
		¨	(A)	Lump Sum Payment. Deferral Benefits will be paid in the form of a lump sum payment.
		¨	(B)	Periodic Installments. Deferral Benefits will be paid in the form of periodic installment payments made:
				(i)	Frequency:
				¨	(a)    Monthly.

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		¨	(b)	Quarterly.
		¨	(c)	Semi-Annually.
		¨	(d)	Annually.
		(ii)	Duration. Over the following period:
		¨	(a)	Five (5) years.
		¨	(b)	Ten (10) years.
		¨	(c)	Fifteen (15) years.
		¨	(d)	Twenty (20) years.
x    (2)	Selected By Participant. The form of payment shall be selected by the Participant in accordance with the following:
	(A)	Participant’s Options. The Participant may elect from among the following forms of payment [Select options to be available to Participant]:
	x	(i)	Lump Sum Payment. Deferral Benefits may be paid only in the form of a lump sum payment.
	x	(ii)	Periodic Installments. Deferral Benefits may be paid in the form of periodic installment payments made:
				(a)	Frequency:
				x	(I)     Monthly.
				¨	(II)   Quarterly.
				x	(III)  Semi-Annually.
				x	(IV) Annually.
				(b)	Duration. Over the following period;
				x	(I)     Five (5) years.
				x	(II)   Ten (10) years.
				x	(III)  Fifteen (15) years.
				¨	(IV) Twenty (20) years.
	(B)	Timing of Participant Election. The Participant shall elect the Beneficiary’s form of payment at the time his first at any time prior to his death.

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6.      PARTICIPANT DEEMED INVESTMENT DIRECTION          Paragraph 3.6
(a)    Availability Generally	A Participant [Check one]:
		¨	(1)	Not Permitted. May not make deemed investment directions.
		x	(2)	Permitted. May make deemed investment directors for his Deferral Accounts.
(b)    Frequency and Effective Date of Investment Directions	Participants may make their deemed investment directions as [Check one if Option 6(a)(2) is selected]:
		¨	(1)	Quarterly. Quarterly effective as of the first day of each quarter of the Plan Year,
		x	(2)	Semi-Annually. Semi-annually effective as of the first day of each Plan Year,
		¨	(3)	Annually. Annually effective as of the first day of each Plan Year,
		and (if any of the above options are selected) at such other date(s) as the Administrator may from time to time authorize.

IN WITNESS WHEREOF, each Corporation, by its duly authorized representatives, has executed this instrument this 11th day of April, 2003

Virginia Financial Group, Inc.
By
Its	Director of Human Resources

[SEAL]

ATTEST:

Its

By

Its

[SEAL]
ATTEST:
Its	EVP & CEO

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EX-10.10

Exhibit 10.10

VIRGINIA FINANCIAL GROUP, INC.

Executive Deferred Compensation Plan

Amended and Restated

Effective January 1, 2005

TABLE OF CONTENTS

I.	Introduction	3
II.	Definitions	3
III.	Eligibility & Participation	8
IV.	Elections, Deferrals & Matching Contributions	9
V.	Accounts & Account Crediting	10
VI.	Vesting	11
VII.	Distributions	12
VIII.	Administration & Claims Procedure	14
IX.	Amendment, Termination & Reorganization	18
X.	General Provisions	18

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PREAMBLE

The Board of Directors of Virginia Financial Group, Inc., (or its predecessor) previously adopted the Executive Deferred Compensation Plan for the benefit of key executives, effective January 1, 1997 and amended and restated effective January 1, 2001. The Board desires to amend and restate the Plan, effective January 1, 2005 in order to comply with the requirements of Section 409A of the Internal Revenue Code, as enacted by the American Jobs Creation Act of 2004. Except to the extent required by Treasury Regulations, the terms and conditions of the Plan in effect prior to January 1, 2005 shall remain in effect and govern benefits accrued and vested prior to such date.

ARTICLE I—INTRODUCTION

1.1 Name.

The name of this Plan is the Virginia Financial Group, Inc. Executive Deferred Compensation Plan (the Plan).

1.2 Purpose.

The purpose of the Plan is to offer Participants the opportunity to defer voluntarily current Compensation for retirement income and other significant future financial needs for themselves, their families and other dependents, and to provide the Employer, if appropriate, a vehicle to address limitations on its contributions under any tax-qualified defined contribution plan. This Plan is intended to be a nonqualified “top-hat” plan; that is, an unfunded plan of deferred compensation maintained for a select group of management or highly compensated employees pursuant to Sections 201(2), 301(a)(3), and 401(a)(1) of ERISA, and an unfunded plan of deferred compensation under the Code.

1.3 Interpretation.

Throughout the Plan, certain words and phrases have meanings, which are specifically defined for purposes of the Plan. These words and phrases can be identified in that the first letter of the word or words in the phrase is capitalized. The definitions of these words and phrases are set forth in Article II and elsewhere in the Plan document. Wherever appropriate, pronouns of any gender shall be deemed synonymous, as shall singular and plural pronouns. Headings of Articles and Sections are for convenience or reference only, and are not to be considered in the construction or interpretation of the Plan. The Plan shall be interpreted and administered to give effect to its purpose in Section 1.3 and to qualify as a nonqualified, unfunded plan of deferred compensation.

ARTICLE II—DEFINITIONS

2.1 Generally.

Certain words and phrases are defined when first used in later paragraphs of this Agreement.

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Unless the context clearly indicates otherwise, the following words and phrases when used in this Agreement shall have the following respective meanings:

2.2 Account.

“Account” shall mean the interest of a Participant in the Plan as represented by the hypothetical bookkeeping entries kept by the Employer for each Participant. Each Participant’s interest may be divided into one or more separate accounts or sub-accounts, including the Participant Deferral Account and the Matching Contribution Account, which reflect not only the Contributions into the Plan, but also gains and losses, and income and expenses allocated thereto, as well as distributions or any other withdrawals. The value of these accounts or sub-accounts shall be determined as of the Valuation Date. The existence of an account or bookkeeping entries for a Participant (or his Designated Beneficiary) does not create, suggest or imply that a Participant, Designated Beneficiary, or other person claiming through them under this Plan, has a beneficial interest in any asset of the Employer.

2.3 Balance.

“Balance” shall mean the total of Contributions and Deemed Earnings credited to a Participant’s Account under Article V, as adjusted for distributions or other withdrawals in accordance with the terms of this Plan and the standard bookkeeping rules established by the Employer.

2.4 Board Committee.

“Board Committee” or “Committee” shall mean the Personnel and Compensation Committee of the Employer’s Board of Directors, or such other Committee of the Board as may be delegated with the duty of determining Participant eligibility under the Plan.

2.5 Board of Directors.

“Board of Directors” or “Board” shall mean the Board of Directors of the Employer.

2.6 Change of Control.

“Change of Control” shall mean a change in the ownership or effective control of the Employer, or in the ownership of a substantial portion of the assets of the Employer, as provided in Treasury Regulations.

2.7 Code.

“Code” shall mean the Internal Revenue Code of 1986 and the Regulations thereto, as amended from time to time.

2.8 Compensation.

“Compensation” shall mean the base or regular cash salary payable to an Employee by the

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Employer, as well as incentives or bonuses payable to an Employee by the Employer, commissions payable to an Employee by the Employer, including any such amounts which are not includible in the Participant’s gross income under Sections 125, 401(k), 402(h) or 403(b) of the Internal Revenue Code of 1986, as amended.

2.9 Contributions.

“Contributions” shall mean the total of Participant Deferrals and Matching Contributions pursuant to Article IV, which represent each Participant’s credits to his Account.

2.10  Deemed Earnings.

“Deemed Earnings” shall mean the gains and losses (realized and unrealized), and income and expenses credited or debited to Contributions based upon the Deemed Crediting Options in a Participant’s Account as of any Valuation Date.

2.11  Deemed Crediting Options.

“Deemed Crediting Options” shall mean the hypothetical options made available to Plan Participants by the Employer for the purposes of determining the proper crediting of gains and losses, and income and expenses to each Participant’s Account, subject to procedures and requirements established by the Committee. A Participant may reallocate his Account among such Deemed Crediting Options periodically at such frequency and upon such terms as the Committee may determine from time to time.

2.12  Deferral Election Form.

“Deferral Election Form” or “Annual Deferral Election Form” shall mean that written agreement of a Participant. The Deferral Election Form shall be in such form or forms as may be prescribed by the Committee, filed annually with the Employer, according to procedures and at such times as established by the Committee. Among other information the Committee may require of the Participant for proper administration of the Plan, such agreement shall establish the Participant’s election to defer Compensation for a Plan Year under the Plan; the amount of the deferral into the Plan for the Plan Year; the Participant’s elections as to distribution of his Account, and the allocation of his Accounts among the Deemed Crediting Options provided under the Plan; and the Designated Beneficiary.

2.13  Designated Beneficiary.

“Designated Beneficiary” or “Beneficiary” shall mean the person, persons or trust specifically named to be a direct or contingent recipient of all or a portion of a Participant’s benefits under the Plan in the event of the Participant’s death prior to the distribution of his full Account Balance. Such designation of a recipient or recipients may be made and amended, at the Participant’s discretion, on the Deferral Election Form and according to procedures established by the Committee. No beneficiary designation or change of Beneficiary shall become effective until

5

received and acknowledged by the Employer. In the event a Participant does not have a beneficiary properly designated, the beneficiary under this Plan shall be the Participant’s estate.

2.14  Disability.

“Disability” shall mean that a Participant (i) is unable to engage in any substantial gainful activity by reason of any medically determinable physical or mental impairment which can be expected to result in death or can be expected to last for a continuous period of not less than twelve months, or (ii) is, by reason of any medically determinable physical or mental impairment which can be expected to result in death or can be expected to last for a continuous period of not less than twelve months, receiving income replacement benefits for a period of not less than three months under an accident and health plan covering employees of the Participant’s employer.

2.15  Effective Date.

“Effective Date” of the Plan, as amended and restated, shall mean January 1, 2005.

2.16  Eligible Employee.

“Eligible Employee” shall mean a person who (for any Plan Year or portion thereof) is: (1) an Employee of the Employer; (2) a member of a select group of management or a highly compensated employee of the Employer; and (3) selected by the Board Committee to participate in the Plan.

2.17  Employee.

“Employee” shall mean a full time common law employee of the Employer.

2.18  Employer.

“Employer” shall mean Virginia Financial Group, Inc., its designated subsidiaries and any corporate successors and assigns, unless otherwise provided herein.

2.19  ERISA.

“ERISA” shall mean the Employee Retirement Income Security Act of 1974, as amended from time to time.

2.20  Key Employee.

“Key Employee” shall mean any Participant who is (i) one of the top-fifty most highly compensated officers with annual compensation in excess of $130,000 (as adjusted from time to time by Treasury regulations); (ii) a five percent owner of the Employer; or (iii) a one percent owner of the Employer with annual compensation in excess of $150,000 (as adjusted from time to time by Treasury regulations) of a publicly traded corporation.

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2.21  Leave of Absence.

“Leave of Absence” shall mean a period of time, not to exceed twelve (12) consecutive calendar months during which time a Participant shall not be an active Employee of the Employer, but shall be treated for purposes of this Plan as in continuous service with the Employer. A Leave of Absence may be either paid or unpaid, but must be agreed to in writing by both the Employer and the Participant. A Leave Of Absence that continues beyond the twelve (12) consecutive months shall be treated as a Termination of Service as of the first business day of the thirteenth month for purposes of the Plan.

2.22  Matching Contribution.

“Matching Contribution” shall mean an amount credited to a Participant’s Account in accordance with Section 4.4.

2.23  Matching Contribution Account.

“Matching Contribution Account” shall mean that portion of a Participant’s Account established to record Matching Contributions on behalf of a Participant.

2.24  Participant.

“Participant” shall mean an Eligible Employee who participates in the Plan under Article III; a former Eligible Employee who has participated in the Plan and continues to be entitled to a benefit (in the form of an undistributed Account Balance) under the Plan, and any former Eligible Employee who has participated in the Plan under Article III and has not yet exceeded any Leave of Absence.

2.25  Participant Deferral.

“Participant Deferral” shall mean voluntary Participant deferral amounts, which could have been received currently but for the election to defer and are credited to his Account for later distribution, subject to the terms of the Plan.

2.26  Participant Deferral Account.

“Participant Deferral Account” shall mean that portion of a Participant’s Account established to record Participant Deferrals on behalf of a Participant.

2.27  Performance Based Compensation.

“Performance-based compensation” shall mean compensation that is (i) variable and contingent on the satisfaction of pre-established organizational or individual performance criteria; (ii) not readily ascertainable at the time; and (iii) based on services performed over a period of at least twelve months.

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2.28  Plan Year.

“Plan Year” shall mean the twelve (12) consecutive month period constituting a calendar year, beginning on January 1 and ending on December 31. However, in any partial year of the Plan that does not begin on January 1, “Plan Year” shall also mean the remaining partial year ending on December 31.

2.29  Retirement.

“Retirement” shall mean a Participant’s actual separation from service from the Employer having attained age sixty-five (65).

2.30  Separation from Service.

“Separation from Service” shall mean a Participant’s separation from service as an Employee with the Employer, other than for death, Disability, or Leave of Absence. A transfer of employment within and among the Employer and any member of a controlled group, as provided in Code Section 409A (d)(6), shall not be deemed a Separation from Service.

2.31  Unforeseeable Emergency.

“Unforeseeable emergency” shall mean a severe financial hardship to the Participant, the Participant’s spouse, or a dependent (as defined in Section 152(a) of the Code)of the participant, loss of the Participant’s property due to casualty, or other similar extraordinary and unforeseeable circumstances arising as a result of events beyond the control of the Participant.

2.32  Valuation Date.

“Valuation Date” shall mean the close of each business day, as established and amended from time to time by guidelines and procedures of the Committee in its sole and exclusive discretion.

ARTICLE III—ELIGIBILITY & PARTICIPATION

3.1 Eligibility Requirements.

Only an Eligible Employee selected by the Board Committee may become a Participant in this Plan. Moreover, a Participant shall not be permitted to make new Participant Deferrals to the Plan, if he ceases to be an Eligible Employee because he is no longer a member a select group of management or highly compensated employees, or otherwise. The Board Committee shall notify an Eligible Employee of his eligibility for a Plan Year in such form as it may determine most appropriate. Current Participants remain eligible until notified otherwise.

3.2 Participation.

An Eligible Employee shall become a Participant in the Plan by the completion and timely filing with and subsequent acceptance by, the Employer of the Deferral Election Form, in such form and

8

according to the terms and conditions established by the Committee. A Participant (or any Designated Beneficiary who becomes entitled) remains a Participant as to his Account until his Account Balance is fully distributed under the terms of the Plan.

ARTICLE IV—ELECTIONS, DEFERRALS & MATCHING CONTRIBUTIONS

4.1 Participant Election to Defer Compensation.

A. Prior to December 31 or an earlier date set by the Committee, a Participant may elect to defer Compensation for services to be performed in the next following Plan Year by the execution and timely filing, and Employer’s acceptance of, a Deferral Election Form in such form and according to such procedures as the Committee may prescribe from time to time. Each such Deferral Election Form shall be effective for the Plan Year to which the Deferral Election Form pertains.

B. Each Participant may elect annually to have his Compensation for the Plan Year reduced by a whole percentage up to one hundred percent (100%) (up to 50% of base salary, up to 100% of incentive compensation), by timely filing, and the acceptance by the Employer of, his Deferral Election Form detailing such deferral. The amount of this Participant Deferral shall be deferred into the Plan and credited to the Participant’s Account as provided in Article V

C. An election to defer Performance-Based Compensation may be made at such time and in such manner as the Committee may specify, but in any event not later than six months before the end of the period for which it is earned.

D. Under such Deferral Election Form, a Participant shall indicate the amount of such Participant Deferral; designate and allocate such Participant Deferral in or among the elective distribution Account option(s); and, allocate such Accounts among the various Deemed Crediting Options. The Deferral Election Form shall also permit a Participant to elect annually to receive a distribution of his entire Account in the event of a Change of Control during the forthcoming Plan Year. The Deferral Election Form may also request other information, such as a Participant’s Designated Beneficiary, as may be required or useful for the administration of the Plan.

4.2 New Participants and Partial Years.

The initial Deferral Election Form of a new Participant shall be filed with the Employer on a date established by the Committee, but in any event not later than 30 days following the date the Participant becomes eligible to participate in the Plan and shall be effective only with respect to services to be performed subsequent to the election. Such first Deferral Election Form shall be applicable to a Participant’s Compensation beginning with the first payroll in the month after such Form is filed and accepted by the Employer.

4.3 Irrevocable Elections.

An election in a Deferral Election Form to defer Compensation for a Plan Year, once made by a

9

Participant, shall be irrevocable. The Committee, however, shall reduce or eliminate Participant Deferrals upon granting a Participant’s request for a distribution based upon an Unforeseeable Emergency.

4.4 Matching Contributions.

Generally, the Employer may, but shall not be required to, provide a deemed match for Participant Deferrals or a deemed contribution (without regard to Participant Deferrals), in such amounts as it may determine from time to time; provided, however, that the Employer shall provide a deemed contribution for Ottis R. Barham in the amount equal to 5% of his base salary annually. Such Matching Contributions, if any, shall be credited to the Matching Contribution Account of the Participant’s Account.

ARTICLE V—ACCOUNTS & ACCOUNT CREDITING

5.1 Establishment of a Participant’s Account.

A. Bookkeeping Account. The Committee shall cause a deemed bookkeeping Account and appropriate sub-accounts, based upon the primary elective distribution option(s) to be established and maintained in the name of each Participant, according to his annual Deferral Election Form for the Plan Year. This Account shall reflect the amount of Participant Deferrals, Matching Contributions and Deemed Earnings credited on behalf of each Participant under this Plan.

B. Bookkeeping Activity. Participant Deferrals shall be credited to a Participant’s Account on the business day they would otherwise have been made available as cash to the Participant. Matching Contributions shall be credited to a Participant’s Account on the Valuation Date the Employer designates. Deemed Earnings shall be credited or debited to each Participant’s Account, as well as any distributions, any other withdrawals under this Plan, as of a Valuation Date. Accounts shall continue on each Valuation Date until the Participant’s Account is fully distributed under the terms of the Plan.

5.2 Deemed Crediting Options.

The Committee shall establish a portfolio of two or more Deemed Crediting Options, among which a Participant may allocate amounts credited to his Account, which are subject to Participant direction under this Plan. The Committee reserves the right, in its sole and exclusive discretion, to substitute, eliminate and otherwise change this portfolio of Deemed Crediting Options, as well as the right to establish rules and procedures for the selection and offering of these Deemed Crediting Options.

5.3 Allocation Of Account Among Deemed Crediting Options.

A. Each Participant shall elect the manner in which his Account is divided among the Deemed Crediting Options by giving allocation instructions in a Deferral Election Form supplied by and filed with the Committee, or by such other procedure, including electronic

10

communications, as the Committee may prescribe. A Participant’s election shall specify the percentage of his Account (in any whole percentage) to be deemed to be invested in any Deemed Crediting Option.

B. Amounts credited to a Participant’s Account shall be deemed to be invested in accordance with the most recent effective Deemed Crediting Option election. As of the effective date of any new Deemed Crediting Option election, all or a portion of the Participant’s Account shall be reallocated among the designated Deemed Crediting Options and according to the percentages specified in the new instructions, until and unless subsequent instructions shall be filed and become effective. If the Committee receives a Deemed Crediting Option election, which is unclear, incomplete or improper, the Deemed Crediting Option election then in effect shall remain in effect until the subsequent instruction is clarified, completed or otherwise made acceptable to the Committee.

5.4 Valuation and Risk of Decrease in Value.

The Participant’s Account will be valued on the Valuation Date at fair market value. On such date, Deemed Earnings will be allocated to each Participant’s Account. Each Participant and Designated Beneficiary assumes the risk in connection with any decrease in the fair market value of his Account.

5.5 Limited Function of Committee.

By deferring compensation pursuant to the Plan, each Participant hereby agrees that the Employer and Committee are in no way responsible for or guarantor of the investment results of the Participant’s Account. The Committee shall have no duty to review, or to advise the Participant on, the investment of the Participant’s Account; and in fact, shall not review or advise the Participant thereon. Furthermore, the Committee shall have no power to direct the investment of the Participant’s Account other than promptly to carry out the Participant’s deemed investment instructions when properly completed and transmitted to the Committee and accepted according to its rules and procedures.

ARTICLE VI—VESTING

6.1 Vesting of Participant Deferrals.

A Participant shall be fully vested at all times in Participant Deferrals, as well as Deemed Earnings upon Participant Deferrals, credited to his Participant Deferral Account.

6.2 Vesting of Matching Contributions.

A Participant shall be fully at all times in Matching Contributions, as well as Deemed Earnings upon Matching Contributions, credited to his Matching Contribution.

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ARTICLE VII—DISTRIBUTIONS

7.1 Distributions Generally.

A Participant’s Account shall be distributed only in accordance with the provisions of this Article VII. All distributions from Accounts under the Plan shall be made in cash in American currency.

7.2 Automatic Distributions.

A. Participant’s Death. If the Participant dies while employed by the Employer in the capacity, his Account shall be valued as of the Valuation Date next following his date of death and shall be distributed in lump sum to his Designated Beneficiary as soon as administratively feasible.

B. Participant’s Disability. If a Participant becomes disabled while employed by the Employer, his Account shall be valued as of the Valuation Date next following his date of Disability and shall be distributed in lump sum to him as soon as administratively feasible.

C. Separation from Service. If a Participant incurs a Separation from Service, his vested Account shall be valued as of the Valuation Date next following his official date of separation and shall be distributed in lump sum to him as soon as administratively feasible; provided, however, that the Account of a Key Employee shall not be distributed until six months following Separation from Service.

7.3 Elective Distributions.

A Participant shall become entitled to receive a distribution from his Account at such time or times and by such method of payment as elected and specified in the Participant’s applicable annual Deferral Election Form, and/or as may be mandated by the provisions of this Article VII based upon the following distribution options:

A. Retirement Distribution. Upon a Participant’s Retirement from the Employer, his Account shall be distributed according to the method of payment elected in his applicable Deferral Election Form. If the Participant dies while receiving Retirement installment payments, his Designated Beneficiary shall be paid the balance of his Account in a lump sum.

B. In-Service Distributions. If a Participant elects in his annual Deferral Election Form, he can receive a distribution from his Account, as soon as three (3) years after the end of the deferral Plan Year, all of his annual deferral amount, plus amounts credited/debited based on the performance of the Participant’s elected Deemed Crediting Options. The election is made on an annual basis, applies only to the Participant’s current Plan Year contributions, is irrevocable and is payable according to the method of payment elected in the Participant’s applicable annual Deferral Election Form. If the Participant dies while receiving In-Service installment payments, his Designated Beneficiary shall be paid the balance of his Account in a lump sum.

C. Change of Control Distribution. If a Participant shall so elect in his annual Deferral Election Form, a Participant’s elective distribution election(s) shall be overridden and his entire

12

Account shall be distributed to him as set forth in Section 7.4 C if a Change of Control should occur during the Plan Year.

7.4 Timing and Method of Payment for Elective Distributions.

A. Retirement Distribution. At the election of a Participant in the applicable Deferral Election Form, a Participant may receive a Retirement distribution in a lump sum or in payments of up to five (5) annual installments (5 years) with the first installment to begin within ten (10) days of the first business day on or after January 1 in the calendar year following the Participant’s date of Retirement and to be paid thereafter within ten (10) days of the first business day on or after January 1 of each calendar year until the Account has been fully distributed; provided, however, that a Participant who is a Key Employee shall not begin to receive payment earlier than six months following his retirement.

B. In-Service Distributions. At the election of a Participant in the applicable Deferral Election Form, an In-Service distribution may be selected for payment as soon as three (3) years after the end of the deferral Plan Year. Distribution will be either in the form of a lump-sum, occurring no later than thirty (30) days following the distribution date elected on the Deferral Election Form, or in annual installment payments of up to five (5) years beginning with the first business day on or after the commencement date as selected by the Participant in the annual Deferral Election Form and for a duration as selected by the Participant in the annual Deferral Election Form and to be paid thereafter within ten (10) days of the anniversary of the distribution date of each calendar year until the In-Service Distribution amount has been fully distributed. A Participant’s Account shall be valued as of such distribution date elected on the Deferral Election Form.

C. Change of Control Distribution. If so elected by the Participant in his Annual Distribution Election Form, a distribution of all of a Participant’s Account shall be made to him in a lump sum within thirty (30) days of the effective date of a Change of Control, overriding any prior Participant election(s) for distribution. Notwithstanding the foregoing provision, no distribution shall be made to any Participant until the earliest date and upon such conditions as may be set forth under Treasury regulations issued pursuant to Code Section 409A (e). A Participant’s Account shall be valued as of such effective date of the Change of Control. If no such election was made by the Participant in his Annual Distribution Election Form, his distribution election(s) will not be overridden.

D. Installment Payments. In any distribution in which a Participant has elected or will receive distribution in periodic installments, the amount of each periodic installment shall be determined by applying a formula to the Account in which the numerator is the number one and the denominator is the number of remaining installments to be paid. For example, if a Participant elects five (5) annual installments for a Retirement distribution, the first payment will be 1/5 of the Account, the second will be 1/4, the third will be 1/3; the fourth will be 1/2 and so on until the Account is entirely distributed.

E. Failure to Designate a Method of Payment. In any situation in which the Committee is unable to determine the method of payment because of incomplete, unclear, or uncertain

13

instructions in a Participant’s Deferral Election Form, the Participant will be deemed to have elected a lump sum distribution.

F. Subsequent Elections. A Participant who has made an In-Service distribution or a Retirement distribution election may make one or more subsequent elections to postpone the distribution date or to change the form of payment to another form permitted by the Plan. Such Subsequent Election shall be made in writing is such form as is acceptable to the Committee and (i) is made at least twelve months prior to the original distribution date; (ii) provides for an effective date at least twelve months following the Subsequent Election; and (iii) postpones the commencement of payment for a period of not less than five years from the previous distribution date.

7.5 Distributions Resulting from Unforeseeable Emergency.

A Participant may request that all or a portion of his Account be distributed at any time prior to separation from service from the Employer by submitting a written request to the Committee, provided that the Participant has incurred an Unforeseeable Emergency, and the distribution is necessary to alleviate such Unforeseeable Emergency.

Such distribution shall be limited to an amount that does not exceed the amount necessary to satisfy such emergency, plus amounts necessary to pay taxes reasonably anticipated as a result of the distribution, after taking into account the extent to which such hardship is or may be relieved through reimbursement or compensation by insurance or otherwise or by liquidation of the Participant’s assets (to the extent the liquidation of such assets would not itself cause severe financial hardship). Such distribution shall be made as soon as administratively practicable. The Balance not distributed from the Participant’s Account shall remain in the Plan.

7.6 Distributions of Small Accounts.

If at any time the value of the Participant’s Account is less than $5,000 (or such other greater or lesser amount as may be specified as “minimal” under Treasury regulations), the Committee, in its sole and exclusive discretion, may make a distribution in lump sum of the value of the entire Account. If the value of a Participant’s Account is zero upon the Valuation Date of any distribution, the Participant shall be deemed to have received a distribution of such Account and his participation in the Plan terminates.

ARTICLE VIII—ADMINISTRATION & CLAIMS PROCEDURE

8.1 Duties of the Employer.

The Employer shall have overall responsibility for the establishment, amendment, termination, administration, and operation of the Plan. The Employer shall discharge this responsibility by the appointment and removal (with or without cause) of the members of the Committee, to which is delegated overall responsibility for administering, managing and operating the Plan.

14

8.2 The Committee.

The Committee shall consist of one or more members who shall be appointed by, and may be removed by, the Board.

8.3 Committee’s Powers and Duties to Enforce Plan.

The Committee shall be the “Administrator” and “Named Fiduciary” only to the extent required by ERISA for top-hat plans and shall have the complete control and authority to enforce the Plan on behalf of any and all persons having or claiming any interest in the Plan in accordance with its terms. The Committee, in its sole and absolute discretion, shall interpret the Plan and shall determine all questions arising in the administration and application of the Plan. Any such interpretation by the Committee shall be final, conclusive and binding on all persons.

8.4 Organization of the Committee.

The Committee shall act by a majority of its members at the time in office. Committee action may be taken either by a vote at a meeting or by written consent without a meeting. The Committee may authorize any one or more of its members to execute any document or documents on behalf of the Committee. The Committee shall notify the Employer, in writing, of such authorization and the name or names of its member or members so designated in such cases. The Employer thereafter shall accept and rely on any documents executed by said member of the Committee or members as representing action by the Committee until the Committee shall file with the Employer a written revocation of such designation. The Committee may adopt such by-laws and regulations, as it deems desirable for the proper conduct of the Plan and to change or amend these by-laws and regulations from time to time. With the permission of the Employer, the Committee may employ and appropriately compensate accountants, legal counsel, benefit specialists, actuaries, plan administrators and record keepers and any other persons as it deems necessary or desirable in connection with the administration and maintenance of the Plan. Such professionals and advisors shall not be considered members of the Committee for any purpose.

8.5 Limitation of Liability.

A. No member of the Board of Directors, the Employer and no officer or Employee of the Employer shall be liable to any Employee, Participant, Designated Beneficiary or any other person for any action taken or act of omission in connection with the administration or operation of this Plan unless attributable to his own fraud or willful misconduct. Nor shall the Employer be liable to any Employee, Participant, Designated Beneficiary or any other person for any such action taken or act of omission unless attributable to fraud, gross negligence or willful misconduct on the part of a Director, officer or Employee of the Employer. Moreover, each Participant, Designated Beneficiary, and any other person claiming a right to payment under the Plan shall only be entitled to look to the Employer for payment, and shall not have the right, claim or demand against the Committee (or any member thereof), any Director, Officer or Employee of the Employer.

15

B. To the fullest extent permitted by the law and subject to the Employer’s Certificate of Incorporation and By-laws, the Employer shall indemnify the Committee, each of its members, and the Employer’s officers and Directors (and any Employee involved in carrying out the functions of the Employer under the Plan) for part or all expenses, costs, or liabilities arising out of the performance of duties required by the terms of the Plan agreement, except for those expenses, costs, or liabilities arising out of a member’s fraud, willful misconduct or gross negligence.

8.6 Committee Reliance on Records and Reports.

The Committee shall be entitled to rely upon certificates, reports, and opinions provided by an accountant, tax or pension advisor, actuary or legal counsel employed by the Employer or Committee. The Committee shall keep a record of all its proceedings and acts, and shall keep all such books of account, records, and other data as may be necessary for the proper administration of the Plan. The regularly kept records of the Committee and the Employer shall be conclusive evidence of the service of a Participant, Compensation, age, marital status, status as an Employee, and all other matters contained therein and relevant to this Plan. The Committee, in any of its dealings with Participants hereunder, may conclusively rely on any Deferral Election Form, written statement, representation, or documents made or provided by such Participants.

8.7 Costs of the Plan.

All the costs and expenses for maintaining the administration and operation of the Plan shall be borne by the Employer unless the Employer shall give notice (that Plan Participants bear this expense, in whole or in part) to: (a) Eligible Participants at the time they become a Participant by completion and filing of a Deferral Election Form; or (b) to existing Participants during annual re-enrollment. Such notice shall detail the administrative expense to be assessed a Plan Participant, how that expense will be assessed and allocated to the Participant Accounts, and any other important information concerning the imposition of this administrative expense. This administration charge, if any, shall operate as a reduction to the bookkeeping Account of a Participant or his designated Beneficiary, and in the absence of specification otherwise shall reduce the Account, and be charged annually during the month of January.

8.8 Claims Procedure.

A. Claim. Benefits shall be paid in accordance with the terms of this Plan. A Participant, Designated Beneficiary or any person who believes that he is being denied a benefit to which he is entitled under the Plan (hereinafter referred to as a “Claimant”) may file a written request for such benefit with the Employer, setting forth his claim. The request must be addressed to the Committee care of Secretary of the Employer at its then principal place of business.

B. Claim Decision. Upon the receipt of a claim, the Committee shall advise the Claimant that a reply will be forthcoming within ninety (90) days and shall, in fact, deliver such reply within such period. However, the Committee may extend the reply period for an additional ninety (90) days for reasonable cause. Any claim not granted or denied within such time period shall be deemed to have been denied. If the claim is denied in whole or in part, the Committee shall

16

adopt a written opinion, using language calculated to be understood by the Claimant, setting forth:

(1) The specific reason or reasons for such denial;

(2) The specific reference to pertinent provisions of this Agreement on which such denial is based;

(3) A description of any additional material or information necessary for the Claimant to perfect his claim and an explanation why such material or such information is necessary;

(4) Appropriate information as to the steps to be taken if the Claimant wishes to submit the claim for review; and

(5) The time limits for requesting a review under Subsection C and for review under Subsection D hereof.

C. Request for Review. Within sixty (60) days after the receipt by the Claimant of the written opinion described above, the Claimant may request in writing that the Secretary of the Employer review the determination of the Committee. Such request must be addressed to the Secretary of the Employer, at its then principal place of business. The Claimant or his duly authorized representative may, but need not, review the pertinent documents and submit issues and comments in writing for consideration by the Employer. If the Claimant does not request a review of the Committee’s determination by the Secretary of the Employer within such sixty (60) day period, he shall be barred and estopped from challenging the Committee’s determination.

D. Review of Decision. Within sixty (60) days after the Secretary’s receipt of a request for review, he will review the Committee’s determination. After considering all materials presented by the Claimant, the Secretary will render a written opinion, written in a manner calculated to be understood by the Claimant, setting forth the specific reasons for the decision and containing specific references to the pertinent provisions of this Agreement on which the decision is based. If special circumstances require that the sixty (60) day time period be extended, the Secretary will so notify the Claimant and will render the decision as soon as possible, but no later than one hundred twenty (120) days after receipt of the request for review. Any claim not granted or denied within such time period shall be deemed to have been denied.

8.9 Litigation.

It shall only be necessary to join the Employer as a party in any action or judicial proceeding affecting the Plan. No Participant or Designated Beneficiary or any other person claiming under the Plan shall be entitled to service of process or notice of such action or proceeding, except as may be expressly required by law. Any final judgment in such action or proceeding shall be binding on all Participants, Designated Beneficiaries or persons claiming under the Plan.

17

ARTICLE IX—AMENDMENT, TERMINATION & REORGANIZATION

9.1 Amendment.

The Employer by action of its Board of Directors, or duly authorized Committee thereof, in accordance with its by-laws, reserves the right to amend the Plan, by resolution of the Employer, to the extent permitted under the Code and ERISA. However, no amendment to the Plan shall be effective to the extent that it has the effect of decreasing a Participant’s (or Designated Beneficiary’s) accrued benefit prior to the date of the amendment.

9.2 Amendment Required By Law.

Notwithstanding Section 9.1, the Plan may be amended at any time, if in the opinion of the Employer, such amendment is necessary to ensure the Plan is treated as a nonqualified plan of deferred compensation under the Code and ERISA, or to bring it into conformance with Treasury or SEC regulations or requirements for such plans. This includes the right to amend this Plan, so that any Trust, if applicable, created in conjunction with this Plan, will be treated as a grantor Trust under Sections 671 through 679 of the Code, and to otherwise conform the Plan provisions and such Trust, if applicable, to the requirements of any applicable law.

9.3 Termination.

The Employer intends to continue the Plan indefinitely. However, the Employer by action of its Board of Directors or a duly authorized committee thereof, in accordance with its by-laws, reserves the right to terminate the Plan at any time. However, no such termination shall deprive any participant or Designated Beneficiary of a right accrued under the Plan prior to the date of termination.

9.4 Consolidation/Merger.

The Employer shall not enter into any consolidation or merger without the guarantee and assurance of the successor or surviving company or companies to the obligations contained under the Plan. Should such consolidation or merger occur, the term “Employer” as defined and used in this Agreement shall refer to the successor or surviving company.

ARTICLE X—GENERAL PROVISIONS

10.1  Applicable Law.

Except insofar as the law has been superseded by Federal law, Virginia law shall govern the construction, validity and administration of this Plan as created by this Agreement. The parties to this Agreement intend that this Plan shall be a nonqualified unfunded plan of deferred compensation without plan assets and any ambiguities in its construction shall be resolved in favor of an interpretation which will effect this intention.

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10.2  Benefits Not Transferable or Assignable.

A. Benefits under the Plan shall not be subject to anticipation, alienation, sale, transfer, assignment, pledge, encumbrance or charge and any attempt to anticipate, alienate, sell, transfer, assign, pledge, encumber or charge such benefits shall be void, nor shall any such benefits be in any way liable for or subject to the debts, contracts, liabilities, engagements or torts of any person entitled to them. However, a Participant may name a recipient for any benefits payable or which would become payable to a Participant upon his death. This Section shall also apply to the creation, assignment or recognition of a right to any benefit payable with respect to a Participant pursuant to a domestic relations order, including a qualified domestic relations order under Section 414(p) of the Code. In addition, the following actions shall not be treated or construed as an assignment or alienation: (a) Plan Contribution or distribution tax withholding; (b) recovery of distribution overpayments to a Participant or Designated Beneficiary; (c) direct deposit of a distribution to a Participant’s or Designated Beneficiary’s banking institution account; or (d) transfer of Participant rights from one Plan to another Plan, if applicable.

B. The Employer may bring an action for a declaratory judgment if a Participant’s, Designated Beneficiary’s or any Beneficiary’s benefits hereunder are attached by an order from any court. The Employer may seek such declaratory judgment in any court of competent jurisdiction to:

(1) determine the proper recipient or recipients of the benefits to be paid under the Plan;

(2) protect the operation and consequences of the Plan for the Employer and all Participants; and

(3) request any other equitable relief the Employer in its sole and exclusive judgment may feel appropriate.

Benefits which may become payable during the pendency of such an action shall, at the sole discretion of the Employer, either be:

(1) paid into the court as they become payable or

(2) held in the Participant’s or Designated Beneficiary’s Account subject to the court’s final distribution order.

10.3  Not an Employment Contract.

The Plan is not and shall not be deemed to constitute a contract between the Employer and any Employee, or to be a consideration for, or an inducement to, or a condition of, the employment of any Employee. Nothing contained in the Plan shall give or be deemed to give an Employee the right to remain in the employment of the Employer or to interfere with the right to be retained in the employ of the Employer, any legal or equitable right against the Employer, or to interfere with the right of the Employer to discharge any Employee at any time. It is expressly understood by the parties hereto that this Agreement relates to the payment of deferred compensation for the

19

Employee’s services, generally payable after separation from employment with the Employer, and is not intended to be an employment contract.

10.4  Notices.

A. Any notices required or permitted hereunder shall be in writing and shall be deemed to be sufficiently given at the time when delivered personally or when mailed by certified or registered first class mail, postage prepaid, addressed to either party hereto as follows:

If to the Employer:

If to the Participant:

At his last known address, as indicated by the records of the Employer.

or to such changed address as such parties may have fixed by notice. However, any notice of change of address shall be effective only upon receipt.

B. Any communication, benefit payment, statement of notice addressed to a Participant or Designated Beneficiary at the last post office address as shown on the Employer’s records shall be binding on the Participant or Designated Beneficiary for all purposes of the Plan. The Employer shall not be obligated to search for any Participant or Designated Beneficiary beyond sending a registered letter to such last known address.

10.5 Severability.

The Plan as contained in the provisions of this Agreement constitutes the entire Agreement between the parties. If any provision or provisions of the Plan shall for any reason be invalid or unenforceable, the remaining provisions of the Plan shall be carried into effect, unless the effect thereof would be to materially alter or defeat the purposes of the Plan. All terms of the plan and all discretion granted hereunder shall be uniformly and consistently applied to all the Employees, Participants and Designated Beneficiaries.

10.6 Participant is General Creditor with No Rights to Assets.

A. The payments to the Participant or his Designated Beneficiary or any other beneficiary hereunder shall be made from assets which shall continue, for all purposes, to be a part of the general, unrestricted assets of the Employer, no person shall have any interest in any such assets b y virtue of the provisions of this Agreement. The Employer’s obligation hereunder shall be an unfunded and unsecured promise to pay money in the future. To the extent that any person acquires a right to receive payments from the Employer under the provisions hereof, such right shall be no greater than the right of any unsecured general creditor of the Employer; no such person shall have nor require any legal or equitable right, or claim in or to any property or assets of the Employer. The Employer shall not be obligated under any

20

circumstances to fund obligations under this Agreement.

B. The Employer at its sole discretion and exclusive option, may acquire and/or set-aside assets or funds, in a trust or otherwise, to support its financial obligations under this Plan. No such trust established for this purpose shall be established in or transferred to a location that would cause it to be deemed to be an “offshore trust” for purposes of Code Section 409A (b)(1). No such acquisition or set-aside shall impair or derogate from the Employer’s direct obligation to a Participant or Designated Beneficiary under this Plan. However, no Participant or Designated Beneficiary shall be entitled to receive duplicate payments of any Accounts provided under the Plan because of the existence of such assets or funds.

C. In the event that, in its discretion, the Employer purchases an asset(s) or insurance policy or policies insuring the life of the Participant to allow the Employer to recover the cost of providing benefits, in whole or in part hereunder, neither the Participant, Designated Beneficiary nor any other beneficiary shall have any rights whatsoever therein in such assets or in the proceeds therefrom. The Employer shall be the sole owner and beneficiary of any such assets or insurance policy and shall possess and may exercise all incidents of ownership therein. No such asset or policy, policies or other property shall be held in any trust for the Participant or any other person nor as collateral security for any obligation of the Employer hereunder. Nor shall any Participant’s participation in the acquisition of such assets or policy or policies be a representation to the Participant, Designated Beneficiary or any other beneficiary of any beneficial interest or ownership in such assets, policy or policies. A Participant may be required to submit to medical examinations, supply such information and to execute such documents as may be required by an insurance carrier or carriers (to whom the Employer may apply from time to time) as a precondition to participate in the Plan.

10.7  No Trust Relationship Created.

Nothing contained in this Agreement shall be deemed to create a trust of any kind or create any fiduciary relationship between the Employer and the Participant, Designated Beneficiary, other beneficiaries of the Participant, or any other person claiming through the Participant. Funds allocated hereunder shall continue for all purposes to be part of the general assets and funds of the Employer and no person other than the Employer shall, by virtue of the provisions of this Plan, have any beneficial interest in such assets and funds. The creation of a grantor Trust (so called “Rabbi Trust”) under the Code (owned by and for the benefit of the Employer) to hold such assets or funds for the administrative convenience of the Employer shall not give nor be a representation to a Participant, Designated Beneficiary, or any other person, of a property or beneficial ownership interest in such Trust assets or funds even though the incidental advantages or benefits of the Trust to Plan Participants may be communicated to them.

10.8  Limitations on Liability of the Employer.

Neither the establishment of the Plan nor any modification hereof nor the creation of any Account under the Plan nor the payment of any benefits under the Plan shall be construed as giving to any Participant or any other person any legal or equitable right against the Employer or any Director, officer or Employee thereof except as provided by law or by any Plan provision.

21

10.9  Agreement Between Employer and Participant Only.

This Agreement is solely between the Employer and Participant. The Participant, Designated Beneficiary, estate or any other person claiming through the Participant, shall only have recourse against the Employer for enforcement of this Agreement. This Agreement shall be binding upon and inure to the benefit of the Employer and its successors and assigns, and the Participant, successors, heirs, executors, administrators and beneficiaries.

10.10  Independence of Benefits.

The benefits payable under this Agreement are for services already rendered and shall be independent of, and in addition to, any other benefits or compensation, whether by salary, bonus, fees or otherwise, payable to the Participant under any compensation and/or benefit arrangements or plans, incentive cash compensations and stock plans and other retirement or welfare benefit plans, that now exist or may hereafter exist from time to time.

10.11  Unclaimed Property.

Except as may be required by law, the Employer may take any of the following actions if it gives notice to a Participant or Designated Beneficiary of an entitlement to benefits under the Plan, and the Participant or Designated Beneficiary fails to claim such benefit or fails to provide their location to the Employer within three (3) calendar years of such notice:

(1) Direct distribution of such benefits, in such proportions as the Employer may determine, to one or more or all, of a Participant’s next of kin, if their location is known to the Employer;

(2) Deem this benefit to be a forfeiture and paid to the Employer if the location of a Participant’s next of kin is not known. However, the Employer shall pay the benefit, unadjusted for gains or losses from the date of such forfeiture, to a Participant or Designated Beneficiary who subsequently makes proper claim to the benefit.

The Employer shall not be liable to any person for payment pursuant to applicable state unclaimed property laws.

10.12  Required Tax Withholding and Reporting.

The Employer shall withhold and report Federal, state and local income and payroll tax amounts on all Contributions to and distributions and withdrawals from a Participant’s Account as may be required by law from time to time.

VIRGINIA FINANCIAL GROUP, INC.

BY

Title

22

EX-10.11

EXHIBIT 10.11

VIRGINIA FINANCIAL GROUP, INC.

INCENTIVE PLAN FOR EXECUTIVE MANAGERS

INCOME OBJECTIVE

EPS growth

Weighting - 50% of total incentive target

• Start payment threshold – 6.0% fully diluted EPS growth above 2004 actual. Note that 2005 EPS growth below 6% would result in no incentive payment against this objective.

• Target Performance – 10% growth

REVENUE GROWTH

Organic Growth in “Value Added” (Net Interest Income + Non-Interest Income - excluding gain/loss on sale of securities, but including revenue gains from acquisitions)

Weighting - 50% of total incentive target

• Start payment threshold established

• Target Performance reflecting 10% growth)

• Payout for performance above target is capped.

EX-10.12

EXHIBIT 10.12

VIRGINIA FINANCIAL GROUP, INC.

SCHEDULE OF NON-EMPLOYEE DIRECTORS’ ANNUAL COMPENSATION

Effective January 1, 2005

	Amount
Retainer Fees
Service as a Director	$	—
Service as a Committee Chair	$	—
Meeting Fees (1)
Base per month board meeting	$	1,000
Attendance at monthly board meeting	$	500
Base per committee meeting	$	200
Attendance at committee meeting	$	400
Attendance at committee meeting (day of board meeting)	$	300

⁽¹⁾ All non-employee directors receive a base meeting fee of $1,000 per day for Corporation board meetings plus an additional $500 if the meeting is attended. For committee meetings, the base meeting fee is $200 plus an additional $400 unless the meeting is the held on the same day as a board meeting, for which the additional fee is $300.

EX-10.13

EXHIBIT 10.13

BASE SALARIES FOR NAMED EXECUTIVE OFFICERS OF

VIRGINIA FINANCIAL GROUP, INC.

The following are the base salaries (on an annual basis) in effect as of January 1, 2005 of the current named executive officers of Virginia Financial Group, Inc.

O. R. Barham, Jr.           Chairman and Chief Executive Officer	$	319,000
Jeffrey W. Farrar           Executive Vice President and Chief Financial Officer	$	173,000
Litz Van Dyke           Executive Vice President and Chief Operating Officer	$	185,000
James T. Huerth (Employed January 3, 2005)           President and Chief Executive Officer of           Planters Bank & Trust Company of Virginia	$	185,000
William D. Stegall           Consultant           Virginia Financial Group, Inc.	$	178,000
Christopher J. Honenberger           President and Chief Executive Officer of           Second Bank & Trust	$	165,800

EX-10.14

Exhibit 10.14

[Execution Copy]

PURCHASE AND ASSUMPTION AGREEMENT

Between

PLANTERS BANK & TRUST COMPANY OF VIRGINIA

(“Seller”)

and

BANK OF TAZEWELL COUNTY

(“Buyer”)

November 9, 2004

PURCHASE AND ASSUMPTION AGREEMENT

ARTICLE I TRANSFER OF ASSETS AND LIABILITIES			1
	Section 1.1.	Transferred Assets	1
	Section 1.2.	Purchase Price	2
	Section 1.3.	Deposit Liabilities	3
	Section 1.4.	Loans Transferred	6
	Section 1.5.	Safe Deposit Business	8
	Section 1.6.	Employee Matters	9
	Section 1.7.	Records and Data Processing	10
	Section 1.8.	Security	11
	Section 1.9.	Taxes and Fees; Proration of Certain Expenses	11
	Section 1.10.	Real Property	11
ARTICLE II CLOSING AND EFFECTIVE TIME			14
	Section 2.1.	Effective Time	14
	Section 2.2.	Closing	15
	Section 2.3.	Post-Closing Adjustments	17
ARTICLE III INDEMNIFICATION			18
	Section 3.1.	Seller’s Indemnification of Purchaser	18
	Section 3.2.	Purchaser’s Indemnification of Seller	18
	Section 3.3.	Claims for Indemnity	19
	Section 3.4.	Limitations on Indemnification	19
ARTICLE IV REPRESENTATIONS AND WARRANTIES OF SELLER			20
	Section 4.1.	Corporate Organization	20
	Section 4.2.	No Violation	20
	Section 4.3.	Corporate Authority	20
	Section 4.4.	Enforceable Agreement	20
	Section 4.5.	No Brokers	20
	Section 4.6.	Personal Property	20
	Section 4.7.	Real Property	21
	Section 4.8.	Condition of Property	21
	Section 4.9.	Loans	21
	Section 4.10.	Compliance with Certain Laws	22
	Section 4.11.	Community Reinvestment Act Representation	22
	Section 4.12.	Leases	22
	Section 4.13.	Limitation of Representations and Warranties	22

ii

ARTICLE V REPRESENTATIONS AND WARRANTIES OF PURCHASER			23
	Section 5.1.	Corporate Organization	23
	Section 5.2.	No Violation	23
	Section 5.3.	Corporate Authority	23
	Section 5.4.	Enforceable Agreement	23
	Section 5.5.	No Brokers	23
ARTICLE VI OBLIGATIONS OF PARTIES PRIOR TO AND AFTER EFFECTIVE TIME			24
	Section 6.1.	Access to Information	24
	Section 6.2.	Delivery of Magnetic Media Records	24
	Section 6.3.	Application for Approval to Effect Purchase of Assets and Assumption of Liabilities	24
	Section 6.4.	Conduct of Business; Maintenance of Properties	24
	Section 6.5.	No Solicitation by Seller.	26
	Section 6.6.	Further Actions	26
	Section 6.7.	Fees and Expenses	26
	Section 6.8.	Breaches with Third Parties	26
	Section 6.9.	Insurance	26
	Section 6.10.	Public Announcements	27
	Section 6.11.	Tax Reporting	27
ARTICLE VII CONDITIONS TO PURCHASER’S OBLIGATIONS			27
	Section 7.1.	Representations and Warranties True	27
	Section 7.2.	Obligations Performed	27
	Section 7.3.	No Adverse Litigation	27
	Section 7.4.	Regulatory Approval	28
ARTICLE VIII CONDITIONS TO SELLER’S OBLIGATIONS			28
	Section 8.1.	Representations and Warranties True	28
	Section 8.2.	Obligations Performed	28
	Section 8.3.	No Adverse Litigation	28
	Section 8.4.	Regulatory Approval	28
ARTICLE IX TERMINATION			29
	Section 9.1.	Methods of Termination	29
	Section 9.2.	Procedure Upon Termination	29
	Section 9.3.	Payment of Expenses	30
ARTICLE X MISCELLANEOUS PROVISIONS			30
	Section 10.1.	Amendment and Modification	30
	Section 10.2.	Waiver or Extension	30
	Section 10.3.	Assignment	31

iii

Section 10.4.	Confidentiality	31
Section 10.5.	Addresses for Notices, Etc.	31
Section 10.6.	Counterparts	32
Section 10.7.	Headings	32
Section 10.8.	Governing Law	32
Section 10.9.	Sole Agreement	32
Section 10.10.	Severability	32
Section 10.11.	Parties In Interest	32

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PURCHASE AND ASSUMPTION AGREEMENT

THIS PURCHASE AND ASSUMPTION AGREEMENT (this “Agreement”) is entered into as of November 9, 2004, between Planters Bank & Trust Company of Virginia (“Seller”), a Virginia chartered bank, and Bank of Tazewell County, a Virginia chartered bank (“Purchaser”).

W I T N E S S E T H:

WHEREAS, Seller desires to transfer, upon the terms and conditions set forth herein, certain assets and deposit liabilities of two of its branch offices, which branches are listed on Schedule 1 hereto (the “Banking Centers”); and

WHEREAS, Purchaser wishes to acquire certain assets and deposit liabilities relating to the Banking Centers upon the terms and conditions set forth herein.

NOW, THEREFORE, in consideration of the premises and mutual agreements hereinafter set forth, Seller and Purchaser agree as follows:

ARTICLE I

TRANSFER OF ASSETS AND LIABILITIES

1.1. Transferred Assets.

(a) As of the Effective Time (as defined in Section 2.1) and upon the terms and conditions set forth herein, Seller will sell, assign, transfer, convey and deliver to Purchaser, and Purchaser will purchase from Seller, all of the transferable rights, title and interest of Seller in the following assets associated with the Banking Centers and identified in this Agreement and the Exhibits hereto, and not otherwise excluded from sale pursuant to the provisions of Subsection 1.1(b) below:

(1) subject to Section 1.10, all real estate and improvements thereon upon which the Banking Centers are operated, together with all rights and appurtenances pertaining thereto;

(2) the furniture, fixtures, leasehold improvements, equipment and other tangible personal property located at each Banking Center and used in conducting the business at the Banking Centers as of the Effective Time (the “Personal Property”);

(3) all leases affecting the Banking Centers, including all leases of real property (the “Real Property Leases”) as listed on Exhibit 1.1(a)(3), and all equipment leases for equipment located at the Banking Centers (the “Equipment Leases”); and all assignable operating contracts of the

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Banking Centers excluding any master contracts (the “Assignable Contracts”) all of which Real Property Leases, Equipment Leases and Assignable Contracts are listed on Exhibit 1.1(a)(3);

(4) all safe deposit contracts and leases for the safe deposit boxes located at the Banking Centers as of the Effective Time (the “Safe Deposit Contracts”);

(5) all Loans transferred pursuant to Section 1.4;

(6) all Coins and Currency located at the Banking Centers as of the Effective Time (the “Coins and Currency”); and

(7) all merchant services accounts associated with Deposit Liabilities (as defined in Section 1.3(a)) located at the Banking Centers.

(b) Excluded from the assets, properties and rights being transferred, conveyed and assigned to Purchaser under this Agreement are the assets listed on Exhibit 1.1(b) hereto, Seller’s rights in and to the name “Planters Bank”, “Planters Bank & Trust Company” and “Planters Bank & Trust Company of Virginia,” and any of Seller’s corporate logos, trademarks, trade names, signs, paper stock, forms and other supplies containing any such logos, trademarks or trade names, and trade names and logos of third parties with whom Seller has contracted to provide services to its customers (the “Excluded Assets”). Seller shall coordinate with Purchaser to remove the Excluded Assets from the Banking Centers on or prior to the Effective Time.

1.2. Purchase Price.

(a) As consideration for the purchase of the Banking Centers, Purchaser shall pay Seller a purchase price (the “Purchase Price”) equal to the sum of the following:

(1) With respect to the Real Property, $211,700 (the “Property Value”).

(2) A premium for the Deposit Liabilities (as defined in Section 1.3(a)) and franchise value related to the Banking Centers equal to the lesser of (i) 6.125% of the Deposit Liabilities or (ii) $1,304,363.00, the amount of such premium to remain confidential, unless required to be disclosed by law or in connection with any regulatory application, notice, requirement or examination;

(3) The Net Book Value (as defined in Section 1.2(d)), including accrued interest, for the Loans as set forth in Section 1.4;

(4) The Net Book Value (as defined in Section 1.2(d)) of the Personal Property; and

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(5) The face amount of the Coins and Currency as of the Effective Time.

(b) In addition, Purchaser shall assume, as of the Effective Time, all of the duties, obligations and liabilities of Seller arising on or after the Effective Time relating to the Real Property, the Real Property Leases, the Equipment Leases, the Assignable Contracts, the Safe Deposit Contracts, and the Deposit Liabilities (including all accrued interest relating thereto); provided, that any cash items paid by Seller and not cleared prior to the Effective Time shall not be the responsibility of Purchaser, subject to the terms of Section 1.3.

(c) Seller shall deliver a balance sheet substantially in the form of Exhibit 2.2(b)(14) (the “Pre-Closing Balance Sheet”) prepared in accordance with generally accepted accounting principles consistently applied as of a date not earlier than 30 calendar days prior to the Effective Time anticipated by the parties (the “Pre-Closing Balance Sheet Date”) reflecting the assets to be sold and assigned hereunder and the liabilities to be transferred and assumed hereunder, all based on the estimated Property Value of the Real Property and the estimated Net Book Value of other assets and liabilities as of the Effective Time; Seller agrees to pay to Purchaser at the Closing (as defined in Section 2.1), in immediately available funds, the excess amount, if any, of the amount of Deposit Liabilities assumed by Purchaser pursuant to subsection (b) above as reflected by the Pre-Closing Balance Sheet over the aggregate Purchase Price computed in accordance with subsection (a) above, as reflected by the Pre-Closing Balance Sheet. Purchaser agrees to pay Seller at the Closing, in immediately available funds, the excess, if any, of the aggregate Purchase Price computed in accordance with subsection (a) above, as reflected by the Pre-Closing Balance Sheet over the amount of Deposit Liabilities assumed by Purchaser pursuant to subsection (b) above as reflected by the Pre-Closing Balance Sheet. Amounts paid at Closing shall be subject to subsequent adjustment based on the Post-Closing Balance Sheet (as defined in Section 2.3).

(d) For purposes of this Agreement, “Net Book Value” means the value determined from the Post-Closing Balance Sheet; provided, however, that such value shall not include the loan loss reserve attributable to any Loan (as defined in Section 1.4) or any general reserve.

1.3. Deposit Liabilities.

(a) “Deposit Liabilities” shall mean all of Seller’s duties, obligations and liabilities relating to the deposit accounts (except as set forth in Section 1.3(b)) located at the Banking Centers as of the Effective Time (including accrued but unpaid or uncredited interest thereon). A projected list of the Deposit Liabilities is attached hereto as Exhibit 1.3(a) which shall be updated as soon as practicable after Closing.

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(b) Except for those liabilities and obligations specifically assumed by Purchaser under Section 1.2(b), Purchaser is not assuming any other liabilities or obligations of Seller or otherwise. Subject to the limitations on indemnification set forth in Section 3.4, liabilities not assumed include, but are not limited to, the following:

(1) Seller’s official checks, cashier checks, letters of credit, money orders, interest checks and expense checks issued prior to closing, consignments of U.S. Government “E” and “EE” bonds and any and all traveler’s checks.

(2) Liabilities or obligations of Seller with respect to any litigation, suits, claims, demands or governmental proceedings arising, commenced or made known to Seller prior to Closing or arising from events occurring prior to Closing.

(3) Deposit accounts associated with lines of credit where the line of credit is excluded in accordance with Section 1.4(b).

(4) Deposit accounts associated with qualified retirement plans where Seller is the trustee of such plan or the sponsor of a prototype plan used by such plan.

(5) Self-directed individual retirement accounts, if any, it being understood that all other types of IRA Deposit Liabilities are intended to be transferred.

(6) Deposit accounts associated with a loan where such loan is excluded in accordance with Section 1.4(b)(5).

(c) Seller does not represent or warrant that any deposit customers whose accounts are assumed by Purchaser will become or continue to be customers of Purchaser after the Effective Time.

(d) Purchaser agrees to pay in accordance with law and customary banking practices all properly drawn and presented checks, drafts and withdrawal orders presented to Purchaser by mail, over the counter or through the check clearing system of the banking industry, by depositors of the accounts assumed, whether drawn on the checks, withdrawal or draft forms provided by Seller or by Purchaser, and in all other respects to discharge, in the usual course of the banking business, the duties and obligations of Seller with respect to the balances due and owing to the depositors whose accounts are assumed by Purchaser.

(e) If, after the Effective Time, any depositor, instead of accepting the obligation of Purchaser to pay the Deposit Liabilities assumed, shall demand payment from Seller for all or any part of any such assumed Deposit Liabilities, Seller shall not

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be liable or responsible for making any such payment; provided, that if Seller shall pay the same, Purchaser agrees to reimburse Seller for any payments less the premium paid for such Deposit Liability, and Seller shall not be deemed to have made any representations or warranties to Purchaser with respect to any checks, drafts or withdrawal orders processed after the Effective Time drawn on such Deposit Liabilities, and any such representations or warranties implied by law are hereby expressly disclaimed. Seller and Purchaser shall make arrangements to provide for the daily settlement with immediately available funds by Purchaser of checks, drafts, withdrawal orders, returns and other items presented to and paid by Seller within 60 calendar days after the Effective Time and drawn on or chargeable to accounts that have been assumed by Purchaser; provided, however, that Seller shall be held harmless and indemnified by Purchaser for acting in accordance with such arrangements.

(f) Purchaser agrees, at its cost and expense, (1) to assign new account numbers to depositors of assumed accounts, (2) to notify such depositors, on or before the Effective Time, in a form and on a date mutually acceptable to Seller and Purchaser, of Purchaser’s assumption of Deposit Liabilities, and (3) to furnish such depositors with checks on the forms of Purchaser and with instructions to utilize Purchaser’s checks and to destroy unused check, draft and withdrawal order forms of Seller. (If Purchaser so elects, Purchaser may offer to buy from such depositors their unused Seller check, draft and withdrawal order forms.) In addition, Seller will notify its affected customers by letter of the pending assignment of the Deposit Liabilities to Purchaser, which notice shall be at Seller’s cost and expense and shall be in a form and mailed at a time agreeable to Seller and Purchaser.

(g) Purchaser agrees to pay promptly to Seller an amount equivalent to the amount of any checks, drafts or withdrawal orders credited to an assumed account as of the Effective Time that are properly returned to Seller after the Effective Time.

(h) As of the Effective Time, Purchaser will assume and discharge Seller’s duties and obligations in accordance with the terms and conditions and laws, rules and regulations that apply to the certificates, accounts and other Deposit Liabilities assumed under this Agreement.

(i) As of the Effective Time, Purchaser will maintain and safeguard in accordance with applicable law and sound banking practices all account documents, deposit contracts, signature cards, deposit slips, canceled items and other records related to the Deposit Liabilities assumed under this Agreement, subject to Seller’s right of access to such records as provided in this Agreement.

(j) Seller will render a final statement to each depositor of an account assumed under this Agreement as to transactions occurring through the Effective Time; provided, however, that Seller is not be obligated to render a final statement on any account not ordinarily receiving periodic statements in the ordinary course of Seller’s

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business. Purchaser acknowledges that Seller is entitled to impose normal fees and service charges on a per-item basis at Closing, but Seller will not impose periodic fees or blanket charges in connection with such final statements.

(k) Seller will timely provide to Purchaser 1099 data for Purchaser to comply with all laws, rules and regulations regarding 2005 tax reporting of transactions of such accounts through the Effective Time.

(l) As of the Effective Time, Purchaser, at its expense, will notify all Automated Clearing House (“ACH”) originators of the transfers and assumptions made pursuant to the Agreement; provided, however, that Seller may, at its option, notify all such originators itself (on behalf of Seller and Purchaser) also at the ultimate expense of Purchaser. For a period of 120 calendar days beginning at the Effective Time, Seller will honor all ACH items related to accounts assumed under this Agreement which are routed or presented to Seller. Seller will make no charge to Purchaser for honoring such items, and will electronically transmit such ACH data to Purchaser. If Purchaser cannot receive an electronic transmission, Seller will make available to Purchaser at Seller’s operations center receiving items from the Automated Clearing House tapes containing such ACH data. Items routed or presented after the 120-day period shall be returned to the presenting party. Seller and Purchaser shall make arrangements to provide for the daily settlement with immediately available funds by Purchaser of any ACH items honored by Seller, and Seller shall be held harmless and indemnified by Purchaser for acting in accordance with this arrangement to accept ACH items.

(m) Following the Effective Time, Purchaser agrees to use its best efforts to collect from Purchaser’s customers amounts equal to any Visa or MasterCard charge backs under the MasterCard and Visa Merchant Agreements between Seller and its customers, or amounts equal to any deposit items returned to Seller after the Effective Time which were honored by Seller prior to the Effective Time, and remit such amounts so collected to Seller. Purchaser agrees to immediately freeze and remit to Seller any funds, up to the amount of the charged back or returned item that had been previously credited by Seller, if such funds are available at the time of notification by Seller to Purchaser of the charged back or returned item and such charge back is permitted. Notwithstanding the foregoing, Purchaser shall have no duty to remit funds for any item or charge that has been improperly returned or charged to Seller.

1.4. Loans Transferred.

(a) Seller will transfer to Purchaser as of the Effective Time, subject to the terms and conditions of this Agreement, all of Seller’s right, title and interest in (including collateral relating thereto) loans maintained, serviced and listed in Seller’s records as loans of the Banking Centers (collectively, the “Loans”); provided, however, the Loans shall not include any loans described in subsection (b) below. Such Loans (as well as any security interest related thereto) shall be transferred by

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means of a blanket (collective) assignment and not individually (except as may be otherwise required by law). Purchaser shall inform Seller not less than 45 calendar days prior to the proposed Closing, of any case in which filing information relating to any collateral for the Loans will be required for preparation of any assignments of liens. A projected list of the Loans is attached hereto as Exhibit 1.4(a) and will be updated as soon as practicable after Closing.

(b) Notwithstanding the provisions of subsection (a) above, the Loans shall not include:

(1) nonaccruals (which term shall mean loans in which the collateral securing same has been repossessed, or in which collection efforts have been instituted, or claim and delivery or foreclosure proceedings have been filed) and classified loans;

(2) loans 90 calendar days or more past due;

(3) loans upon which insurance has been force-placed;

(4) loans in connection with which the borrower has filed a petition for relief under the United States Bankruptcy Code prior to the Effective Time;

(5) (a) loans identified by Purchaser in writing within 30 calendar days after Purchaser’s due diligence review of the Banking Center’s loans on October 26, 2004 (the “Due Diligence Review”) as not being purchased because of failure to meet the credit or aggregate loan exposure standards of Purchaser; and (b) loans closed by Seller on or after October 26, 2004 up to and including the Effective Time, identified in writing by Purchaser within 30 calendar days after the Effective Time as not being purchased because of failure to meet the credit or aggregate loan exposure standards of Purchaser;

(6) loans identified by Purchaser within 30 calendar days after the Effective Time as having any collateral perfection deficiency; and

(7) loan loss reserves.

(c) Seller and Purchaser agree that Purchaser will become the beneficiary of credit life insurance written on direct consumer installment Loans and debt cancellation and disability coverage agreements written on any Loans. If Purchaser becomes the beneficiary of credit life insurance or debt cancellation and disability coverage written on any Loans, Seller and Purchaser agree to cooperate in good faith to develop a mutually satisfactory method by which the current insurer will make rebate payments to and satisfy claims of the holders of such certificates of insurance after the Effective Time. The parties’ obligations in this section are subject to any restrictions contained in existing insurance contracts as well as

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applicable laws and regulations. The parties shall cooperate to resolve any issues related to payment of premiums. If the parties determine that loans subject to debt cancellation and disability coverage cannot be adequately serviced by Purchaser, the parties shall exclude such Loans from purchase hereunder.

(d) In connection with the transfer of any Loans requiring notice to the borrower, Purchaser shall comply with all notice and reporting requirements of the Loan documents or of any law or regulation.

(e) All Loans transferred to Purchaser shall be valued at their Net Book Value, such value to include accrued interest.

(f) All Loans will be transferred without recourse to Seller and without any warranties or representations as to their collectibility or the creditworthiness of any of the obligors of such Loans.

(g) Purchaser will at its expense issue new coupon books for payment of Loans for which Seller provides coupon books with instructions to utilize Purchaser’s coupons and to destroy coupons furnished by Seller.

(h) For a period of 30 calendar days after the Effective Time, Seller will forward to Purchaser payments received by Seller with respect to any Loans. Purchaser shall reimburse Seller upon demand for checks returned on payments forwarded to Purchaser; however, to the extent possible, Seller will deduct the amount of such returned checks from any amounts owed by Seller to Purchaser.

(i) As of the Effective Time, Seller shall transfer and assign all files, documents and records related to the Loans (the “Records”) to Purchaser, and Purchaser will be responsible for maintaining and safeguarding all the Records in accordance with applicable law and sound banking practices.

(j) If the balance due on any Loan purchased pursuant to this Section 1.4 has been reduced by Seller as a result of a payment by check received prior to the Effective Time, which item is returned after the Effective Time, the asset value represented by the Loan transferred shall be correspondingly increased and an amount in cash equal to such increase shall be paid by Purchaser to Seller promptly upon demand.

(k) Seller shall grant to Purchaser as of the Effective Time a limited power of attorney, in substantially the form attached hereto as Exhibit 1.4(k) (the “Power of Attorney”).

1.5. Safe Deposit Business.

(a) As of the Effective Time, Purchaser will assume and discharge Seller’s obligations with respect to the safe deposit box business at the Banking Centers arising on or after the Effective Time in accordance with the terms and conditions

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of the Safe Deposit Contracts, and Purchaser will maintain all facilities necessary for the use of such safe deposit boxes by persons entitled to use them; provided, that nothing herein shall be deemed to prohibit Purchaser, after the Effective Time, from discontinuing the safe deposit box services or facilities at the Banking Centers (all in accordance with applicable law and any contractual obligations regarding the same).

(b) As of the Effective Time, Seller shall transfer and assign the records related to such safe deposit box business to Purchaser, and Purchaser shall maintain and safeguard all such records and be responsible for granting access to and protecting the contents of safe deposit boxes at the Banking Centers.

(c) Safe deposit box rental payments (not including late payment fees) collected by either Seller or Purchaser applying to periods both before and after the Effective Time shall be prorated as of the Effective Time.

1.6. Employee Matters.

(a) Purchaser shall offer employment to all employees (the “Employees”) employed by Seller at the Banking Centers as of the Effective Time (other than employees whose function does not relate exclusively to operation of one or more of the Banking Centers), in their then respective current functional positions and locations with base salaries not less than levels at the Effective Time and benefits generally equivalent to benefits offered by Purchaser to similarly situated employees of Purchaser. Except for Purchaser’s qualified and nonqualified pension plans (if any), Employees who become employees of Purchaser as of the Effective Time (“Transferred Employees”) shall receive full credit for their prior service with Seller under Purchaser’s benefit plans and policies, including its vacation and sick leave policies, to the same extent as if the service had been with Purchaser. As of the Effective Time, the Transferred Employees and their dependents, if any, covered under Seller’s health insurance plan preceding the Effective Time shall be covered under Purchaser’s health insurance plan without being subject to any waiting period or pre-existing condition limitations or exclusions. Transferred Employees shall not be required to satisfy the deductible and employee payments required by Purchaser’s comprehensive medical and/or dental plans for the calendar year of the Effective Time (i) to the extent of amounts previously credited during such calendar year under comparable plans maintained by Seller, or (ii) to the extent the same is waived in its entirety by the applicable insurer, as determined by the applicable insurer in its sole discretion. With respect to Purchaser’s qualified and nonqualified pension plans, Transferred Employees shall receive full credit for prior service with Seller (and with other entities to the extent service with any such entity is treated by Seller as service with it) for purposes of determining their participation eligibility and vesting rights to the same extent as if the service had been with Purchaser. Benefits under Purchaser’s pension plans for Transferred Employees shall be determined solely with reference to service with Purchaser.

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(b) Seller makes no representations or warranties about whether any of its employees will remain at the Banking Centers and become and remain employed by Purchaser after the Effective Time. Seller will use its commercially reasonable best efforts to maintain the employees as employees of Seller at the Banking Centers until the Effective Time. Purchaser shall have no responsibilities or rights with respect to any employee of Seller whose employment shall be terminated for any reason prior to the Effective Time or who shall elect not to become an employee of Purchaser. Seller agrees that for a period of 12 months after the Effective Time, it will not solicit for employment any Transferred Employee who remains employed by Purchaser.

(c) For a period of six months after the Effective Time, Purchaser will not terminate a Transferred Employee without cause without paying to such Transferred Employee a severance benefit no less than one week’s salary for each year of service to the Seller (and with other entities to the extent service with any such entity is treated by Seller as service with it). Purchaser agrees that, for a period of 12 months after the Effective Time, it will not solicit for employment or employ any employee of Seller (other than Transferred Employees) who is employed at a location in a county in which any Banking Center is located or in any contiguous county; provided, however, that such prohibition shall not apply to solicitations which are directed to the general public.

1.7. Records and Data Processing.

(a) As of the Effective Time, Purchaser shall become responsible for maintaining the files, documents and records transferred to it hereunder. Purchaser will preserve and safekeep them as required by applicable law and sound banking practice. After the Effective Time, Purchaser will permit Seller and its representatives, at reasonable times and upon reasonable notice, to examine, inspect, copy and reproduce (at Seller’s expense) any such files, documents or records as Seller deems necessary.

(b) As of the Effective Time, Seller shall transfer to Purchaser the files, documents and records relating to the assets and liabilities transferred pursuant to this Agreement. Following the Effective Time, Seller will permit Purchaser and its representatives, at reasonable times and upon reasonable notice, to examine, inspect, copy and reproduce (at Purchaser’s expense) files, documents or records retained by Seller regarding the assets and liabilities transferred under this Agreement as Purchaser deems necessary.

(c) It is understood that certain of Seller’s records may be available only in the form of photocopies, film copies or other non-original and non-paper media.

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1.8. Security.

As of the Effective Time, Purchaser shall become solely responsible for the security of and insurance on all persons and property located in or about the Banking Centers.

1.9. Taxes and Fees; Proration of Certain Expenses.

Purchaser shall be responsible for the payment of all fees and taxes related to this transaction, except that (i) Purchaser shall not be responsible for, or have any liability with respect to, taxes on any income to Seller arising out of the transactions herein, and (ii) with respect to any transfers of Real Property, Purchaser shall pay the real estate transfer and recordation taxes, fees and costs incurred in connection therewith. Purchaser shall not be responsible for any income tax liability of Seller arising from the business or operations of the Banking Centers before the Effective Time, and Seller shall not be responsible for any tax liabilities arising from the business or operations of the Banking Centers after the Effective Time. Utility payments, telephone charges, real property taxes, personal property taxes, rent, salaries, deposit insurance premiums, other ordinary operating expenses of the Banking Centers and other expenses related to the liabilities assumed or assets purchased hereunder shall be prorated between the parties as of the Effective Time. To the extent any such item has been prepaid by Seller for a period extending beyond the Effective Time, there shall be a proportionate monetary adjustment in favor of Seller.

1.10. Real Property.

(a) Title and Leasehold Matters.

(i) Seller agrees to deliver to Purchaser as soon as practicable after execution of this Agreement copies of all title and lease information in possession of Seller, including but not limited to title insurance policies, attorneys’ opinions on title, surveys, covenants, deeds, notes and mortgages, leases and easements relating to the Real Property. Such delivery shall constitute no warranty by Seller as to the accuracy or completeness thereof or that Purchaser is entitled to rely thereon.

(ii) Purchaser agrees to notify Seller in writing within 30 calendar days after the date of this Agreement of any mortgages, pledges, material liens, encumbrances, reservations, tenancies, encroachments, overlaps or other title exceptions or zoning or similar land use violations (excluding legal but nonconforming uses) related to the Real Property to which Purchaser reasonably objects (the “Title Defects”). Purchaser agrees that Title Defects shall not include real property taxes not yet due and payable, or easements, restrictions, tenancies, and rights of way which do not materially interfere with the use of the Real Property as a banking center or defects which Purchaser can obtain protection from through purchase of title insurance at regular rates (or higher rates if the excess over the regular

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rate is paid by Seller). Seller shall make a good faith effort to correct any such Title Defect to Purchaser’s reasonable satisfaction at least 10 calendar days prior to Closing; provided, however, that Seller shall not be obligated to bring any lawsuit or make any payments of money (except to pay liens that Seller does not dispute in good faith) to cure a Title Defect. If Seller is unable or unwilling to cure any such Title Defects to Purchaser’s reasonable satisfaction, Purchaser shall have the option to (upon written notice to Seller) receive title in its then existing condition (with a corresponding Purchase Price adjustment that is agreeable to both parties), or to accept the assets and assume the liabilities of the Banking Center without the Real Property on which the Banking Center is located (in which event the Purchase Price shall be reduced by a reasonable estimate of the moving expenses to be incurred by Purchaser in relocating operations of the Banking Center from the Real Property to another business premises). Upon termination of this Agreement with respect to the Real Property of a Banking Center pursuant to this Section 1.10, neither party shall have any further liability to the other party under this Agreement with respect to such Real Property and the Purchase Price shall be adjusted accordingly.

(iii) Purchaser shall have the right to update title matters at Closing for any changes which may have arisen between the date of Purchaser’s original title search and the Closing Date. If such update indicates that any Title Defects have been placed of record since the date of Purchaser’s original title search, and Purchaser reasonably objects thereto, then Seller may elect to delay the Closing with respect to the affected Banking Center for up to 30 calendar days while Seller makes a good faith effort to cure any such Title Defect to Purchaser’s reasonable satisfaction; provided that Seller shall not be obligated to bring any lawsuit or make any payments of money (except to pay liens that Seller does not dispute in good faith) to cure a Title Defect. If Seller is unable or unwilling to cure any such Title Defect within such 30 day period, Purchaser shall have the option to (upon written notice to Seller) receive title in the then existing condition (with a corresponding Purchase Price adjustment agreeable to both parties) or to accept the assets and assume the liabilities of the Banking Center without the Real Property on which the Banking Center is located, in which event neither party shall have any further liability to the other party under this Agreement with respect to the Real Property of such Banking Center and the Purchase Price shall be adjusted accordingly.

(iv) Purchaser shall accept the terms of any Real Property Lease as is. If the Real Property Lease is not assignable without consent of the landlord, and if the landlord does not consent to assignment of such Lease as is, Seller and Purchaser agree to use reasonable efforts to reach agreement with the landlord with respect to any modifications of such Lease in order to obtain such assignment. Purchaser agrees to take such commercially reasonable actions as Seller may request in order to assist Seller to obtain assignment of the Real Property Lease.

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(b) Environmental Matters.

Purchaser shall have the right to conduct such investigation of environmental matters with respect to the Real Property as it may reasonably require and shall report the results of any such investigation, together with its objections to any material violation of applicable environmental law which impacts the Real Property or the use thereof as a banking center, if any, to Seller no later than 60 calendar days after the date of this Agreement; provided, that without the prior written consent of Seller, Purchaser shall not conduct any ground water monitoring or install any test well or undertake any other investigation which requires a permit or license from, or the reporting of the investigation or the results thereof to, a local or state environmental regulatory authority or the United States Environmental Protection Agency. Seller has no actual knowledge of any material violation of applicable environmental law that materially impacts the Real Property or the use thereof as a Banking Center. If Purchaser objects to any material violation of applicable environmental law which materially impacts the Real Property or the use thereof as a Banking Center (“Environmental Issue”), which is discovered by Purchaser’s investigation as provided for in subsection (d) below, Seller and Purchaser shall address such Environmental Issue as set forth in subsection (d) below.

(c) Facilities Inspection.

Purchaser shall have the right, for and during the period ending 60 calendar days following the date of execution of this Agreement (the “Inspection Period”), to inspect the physical condition of the Real Property, including, without limitation, compliance of the Real Property with the provisions of the Americans with Disabilities Act (collectively, “Inspection Issues”). These inspections shall be conducted during regular business hours by qualified inspectors or employees of Purchaser or its affiliates following not less than three business days notice to Seller. Prior to entry upon the property, Purchaser will confirm to Seller the existence of general liability insurance in coverage amounts reasonably acceptable to Seller. Any physical disturbance to the Real Property shall be subject to Seller’s prior approval, which may be subject to such reasonable repair and restoration conditions as Seller may impose (including, without limitation, the obligation to repair any disturbed area to its condition immediately prior to that disturbance). Purchaser promptly shall provide Seller with copies of any and all written reports in connection with those inspections, at no cost to Seller, upon Seller’s request.

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(d) Correction of Defects.

If Purchaser discovers a defect in a Banking Center with respect to Inspection Issues or Environmental Issues (a “Defect”) that would require an expenditure of funds to correct, Purchaser shall promptly give written notice thereof to Seller describing the Defect in detail, and Seller shall have the obligation to pay up to the sum of $25,000 to cure such Defect at such Banking Center prior to the Effective Time if reasonably possible or as soon thereafter as can be reasonably accomplished. If the estimated cost to cure a Defect exceeds $25,000, Purchaser shall pay the additional cost to cure such Defect in excess of $25,000 up to $50,000. If the estimated cost to cure such Defect exceeds $50,000, Seller shall pay the additional cost to cure such Defect in excess of $50,000 up to $100,000. If the estimated cost to cure such Defect exceeds $100,000, Seller shall have the option to pay the additional cost to cure the Defect or, in the alternative, to lease the Banking Center which has a Defect to Purchaser for a period of two years. Such lease shall be negotiated in good faith by the parties at a market rate upon commercial property and lease terms consistent with the area and Banking Center involved. If the parties are unable to reach agreement on such a lease at least 45 calendar days prior to the Closing Date, each party shall select a commercial real estate professional who shall provide a market rate for lease of the Banking Center in question. The lease rate shall be set at the average of the two market rates so determined. Other lease terms shall be as negotiated by the parties or, failing agreement by the parties, as mutually agreed by the commercial real estate professionals. This method of resolving defects shall be applied to each Banking Center. Purchaser shall provide to Seller copies of all reports from consultants or experts engaged by Purchaser documenting the existence of a Defect and estimated cost to cure the Defect. In the event Seller shall not agree that a Defect exists or that it is required to be remediated, Seller and Purchaser agree to negotiate in good faith to resolve the issue. If they cannot do so, then Seller shall have the option to pay the additional cost to cure the Defect or, in the alternative, to lease the Banking Center which has a Defect to Purchaser for a period of two years pursuant to the procedures provided in this Section 1.10(d).

ARTICLE II

CLOSING AND EFFECTIVE TIME

2.1. Effective Time.

The purchase of assets and assumption of liabilities provided for in this Agreement shall occur at a closing (the “Closing”) to be held at a mutually agreeable time and location following the date of all approvals by regulatory agencies and after all statutory waiting periods have expired, or at such other place, time or date on which the parties shall mutually agree. The effective time (the “Effective Time”) shall be 4:00 p.m. local time, on the day on which the Closing occurs (the “Closing Date”). Each of Purchaser and Seller agrees that it will be prepared to consummate the Closing no later than March 31, 2005.

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2.2. Closing.

(a) All actions taken and documents delivered at the Closing shall be deemed to have been taken and executed simultaneously, and no action shall be deemed taken nor any document delivered until all have been taken and delivered.

(b) At the Closing, subject to all the terms and conditions of this Agreement, Seller shall deliver or make reasonably available to Purchaser:

(1) A special warranty deed transferring title to the Real Property to Purchaser;

(2) A Bill of Sale, in substantially the form attached hereto as Exhibit 2.2(b)(2) (the “Bill of Sale”), transferring to Purchaser all of Seller’s interest in the Personal Property, the Loans and other assets;

(3) An Assignment and Assumption Agreement, in substantially the form attached hereto as Exhibit 2.2(b)(3) (the “Assignment and Assumption Agreement”), assigning all of Seller’s interest in the Equipment Leases, the Assignable Contracts, the Real Property Leases, the Safe Deposit Contracts, and the Deposit Liabilities;

(4) Consents from third persons that are required to effect the assignments set forth in the Assignment and Assumption Agreement, including, but not limited to, the lessors under the Equipment Leases and the Real Property Leases to the extent required, and subject to Section 1.10(a)(iv) with respect to any Real Property Lease. With respect to any Equipment Lease for which the required consent is not obtained from the lessor prior to the Closing, in lieu of such consent Seller may provide either (at Seller’s sole option), a special indemnity in form and content reasonably satisfactory to Purchaser against any loss to Purchaser resulting from the failure to obtain such consent, or the substitution by Seller and delivery hereunder to Purchaser of equipment comparable to the equipment subject to such Equipment Lease;

(5) Keys to the safe deposit boxes, the Safe Deposit Contracts and all other records of Seller to the safe deposit box business at the Banking Centers;

(6) Seller’s files and records related to the Loans and to any collateral securing the Loans;

(7) Seller’s records related to the Deposit Liabilities assumed by Purchaser;

(8) Immediately available funds in the net amount shown as owing to Purchaser by Seller on the Closing Statement, if any;

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(9) The Coins and Currency;

(10) Such of the other assets to be purchased as shall be capable of physical delivery;

(11) A certificate of a proper officer of Seller, dated as of the date of Closing, certifying to the fulfillment of all conditions which are the obligation of Seller and that all of the representations and warranties of Seller set forth in this Agreement remain true and correct in all material respects as of the Effective Time;

(12) A certified copy of a resolution of the Board of Directors of Seller, or its Executive Committee, approving the sale of the Banking Centers contemplated hereby;

(13) Such certificates and other documents as Purchaser and its counsel may reasonably require to evidence the receipt by Seller of all necessary corporate and regulatory authorizations and approvals for the consummation of the transactions provided for in this Agreement;

(14) A Closing Statement, substantially in the form attached hereto as Exhibit 2.2(b)(14) (the “Closing Statement”);

(15) An affidavit of Seller certifying that Seller is not a “foreign person” as defined in the federal Foreign Investment in Real Property Tax Act of 1980; and

(16) The Power of Attorney substantially in the form attached hereto as Exhibit 1.4(k).

It is understood that the items listed in subsections (b)(5) and (9) shall be transferred after the Banking Centers have closed for business on the Closing Date and that the records listed in subsections (b)(6) and (7) will be transferred as soon as practicable after the Closing, but in no event more than five business days after the Closing. For purposes of this Agreement, the term “business day” shall mean any day that Seller is open for business.

(c) At the Closing, subject to all the terms and conditions of this Agreement, Purchaser shall deliver to Seller:

(1) The Assignment and Assumption Agreement;

(2) A certificate and receipt acknowledging the delivery and receipt of possession of the property and records referred to in this Agreement;

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(3) Immediately available funds in the net amount shown as owing to Seller by Purchaser on the Closing Statement, if any;

(4) A certificate of a proper officer of Purchaser, dated as of the Closing Date, certifying to the fulfillment of all conditions which are the obligation of Purchaser and that all of the representations and warranties of Purchaser set forth in this Agreement remain true and correct in all material respects as of the Effective Time;

(5) A certified copy of a resolution of the Board of Directors, or its Executive Committee, of Purchaser approving the purchase of the Banking Centers contemplated hereby;

(6) Such certificates and other documents as Seller and its counsel may reasonably require to evidence the receipt of Purchaser of all necessary corporate and regulatory authorizations and approvals for the consummation of the transactions provided for in this Agreement; and

(7) The Closing Statement.

(d) All instruments, agreements and certificates described in this Section 2.2 shall be in form and substance reasonably satisfactory to the parties’ respective legal counsel.

2.3. Post-Closing Adjustments.

(a) Not later than 30 business days after the Effective Time, Seller shall deliver to Purchaser a balance sheet dated as of the Effective Time and prepared in accordance with generally accepted accounting principles consistently applied reflecting the assets sold and assigned and the liabilities transferred and assumed hereunder (including any adjustments to the same required by Sections 1.4(b)(5) and (6)) (the “Post-Closing Balance Sheet”). Additionally, Seller shall deliver to Purchaser within such 30-business day period a list of Loans purchased, individually identified by account number, which list shall be appended to the Bill of Sale. Seller shall afford Purchaser and its accountants and attorneys the opportunity to review all work papers and documentation used by Seller in preparing the Post-Closing Balance Sheet. Within 15 business days following delivery of the Post-Closing Balance Sheet (the “Adjustment Payment Date”), Seller and Purchaser shall effect the transfer of any funds as may be necessary to reflect changes in such assets and liabilities between the Pre-Closing Balance Sheet and the Post-Closing Balance Sheet together with interest thereon computed from the Effective Time to the Adjustment Payment Date at the applicable Federal Funds Rate (as hereinafter defined).

(b) In the event that a dispute arises as to the appropriate amounts to be paid to either party on the Adjustment Payment Date, each party shall pay to the other on such

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Adjustment Payment Date all amounts other than those as to which a dispute exists. Any disputed amounts retained by a party which are later found to be due to the other party shall be paid to such other party promptly upon resolution with interest thereon from the Adjustment Payment Date to the date paid at the applicable Federal Funds Rate. In the event of such a dispute, either party may submit the matter to a firm of certified public accountants mutually agreeable to Seller and Purchaser (the “Mediator”), which shall determine such dispute in accordance with the terms and conditions of this Agreement within 30 calendar days after the submission. The parties shall each pay one-half of the fees and expenses of the Mediator, except that the Mediator may assess the full amount of its fees and expenses against either party if it determines that party negotiated the Post-Closing Balance Sheet in bad faith. The Post-Closing Balance Sheet, as agreed upon by the parties and determined under this subsection, shall be final and binding upon the parties.

(c) The Federal Funds Rate shall mean the rate quoted for Federal Funds in the Money Rates Column of the Wall Street Journal, adjusted daily, for the period beginning with the first calendar day following the Effective Time and ending with the Adjustment Payment Date.

ARTICLE III

INDEMNIFICATION

3.1. Seller’s Indemnification of Purchaser.

Subject to limitations in this ARTICLE III, Seller shall indemnify, hold harmless and defend Purchaser from and against any costs, expenses, liabilities, losses or damages, including without limitation reasonable attorneys’ fees and expenses (a “Loss”) incurred by Purchaser caused by any breach by Seller of any representation or warranty contained herein, and any Loss arising out of any claims, actions, suits or proceedings commenced prior to the Effective Time or arising out of events occurring prior to the Effective Time relating to operations at the Banking Centers, except to the extent of liabilities assumed or payable hereunder by Purchaser. Claims for indemnity must be made within the time frame set forth in Section 3.3(a).

3.2. Purchaser’s Indemnification of Seller.

Subject to limitations in this ARTICLE III, Purchaser shall indemnify, hold harmless and defend Seller from and against any Loss incurred by Seller caused by any breach by Purchaser of any representation or warranty contained herein and any Loss arising out of any claims, actions, suits or proceedings arising out of events occurring following the Effective Time relating to operations at the Banking Centers. Claims for indemnity must be made within the time frame set forth in Section 3.3(a).

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3.3. Claims for Indemnity.

(a) A claim for indemnity under Sections 3.1 or 3.2 of this Agreement shall be made by the claiming party prior to the expiration of 12 months after the Effective Time by the giving of notice thereof to the other party. Such notice shall set forth in reasonable detail the basis upon which such claim for indemnity is made. In the event that any such claim is made within such prescribed 12 month period, the indemnity relating to such claim shall survive until such claim is resolved. Claims not made within such 12 month period shall cease and no indemnity shall be made therefor.

(b) In the event that any person or entity not a party to this Agreement shall make any demand or claim or file or threaten to file any lawsuit, which demand, claim or lawsuit may result in any liability, damage or loss to one party hereto of the kind for which such party is entitled to indemnification pursuant to Section 3.1 or 3.2, then, after notice is provided by the indemnified party to the indemnifying party of such demand, claim or lawsuit, the indemnifying party shall have the option, at its cost and expense, to retain counsel for the indemnified party to defend any such demand, claim or lawsuit. In the event that the indemnifying party shall fail to respond within ten business days after receipt of such notice of any such demand, claim or lawsuit, then the indemnified party shall retain counsel and conduct the defense of such demand, claim or lawsuit as it may in its discretion deem proper, at the cost and expense of the indemnifying party. In effecting any settlement of any such demand, claim or lawsuit, an indemnified party shall act in good faith, shall consult with the indemnifying party and shall enter into only such settlement as the indemnifying party shall approve (the indemnifying party’s approval will be implied if it does not respond within ten business days of its receipt of the notice of such settlement offer).

3.4. Limitations on Indemnification.

Notwithstanding anything to the contrary contained in this Article III, no indemnification shall be required to be made by either party until the aggregate amount of all claims for indemnity by a party exceeds $10,000. Once such aggregate amount exceeds the $10,000 threshold, such party shall thereupon be entitled to indemnification for all amounts in excess of such threshold. IN ADDITION, THE PARTIES SHALL HAVE NO OBLIGATIONS UNDER THIS ARTICLE III FOR ANY CONSEQUENTIAL LIABILITY, DAMAGE OR LOSS THE INDEMNIFIED PARTY MAY SUFFER AS THE RESULT OF ANY DEMAND, CLAIM OR LAWSUIT.

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ARTICLE IV

REPRESENTATIONS AND WARRANTIES OF SELLER

Seller hereby represents and warrants to Purchaser as follows:

4.1. Corporate Organization.

Seller is a Virginia chartered bank duly organized, validly existing and in good standing under the laws of the Commonwealth of Virginia. Seller has the corporate power and authority to own its properties, to carry on its business as currently conducted and to effect the transactions contemplated herein.

4.2. No Violation.

The Banking Centers have been operated in all material respects in accordance with applicable laws, rules and regulations. Neither the execution and delivery of this Agreement, nor the consummation of the transactions contemplated herein, will violate or conflict with (a) Seller’s Articles of Incorporation or Bylaws; (b) any material provision of any material agreement or any other material restriction of any kind to which Seller is a party or by which Seller is bound; (c) any material statute, law, decree, regulation or order of any governmental authority; or (d) any material provision which will result in a default under, or which will cause the acceleration of the maturity of, any material obligation or loan to which Seller is a party.

4.3. Corporate Authority.

The execution and delivery of this Agreement, and the consummation of the transactions contemplated herein, have been duly authorized by Seller, and no further corporate authorization is necessary for Seller to consummate the transactions contemplated hereunder.

4.4. Enforceable Agreement.

This Agreement has been duly authorized, executed and delivered by Seller and is the legal, valid and binding agreement of Seller, enforceable in accordance with its terms.

4.5. No Brokers.

In the negotiation of this Agreement, there has been no participation or intervention by any person, firm or corporation engaged by Seller that would give rise to any claim against Purchaser for a finder’s fee, commission, or similar payment.

4.6. Personal Property.

Seller owns, and will convey to Purchaser at the Closing, all of Seller’s right, title and interest to all of the Personal Property free and clear of any claims, mortgages, liens, security interests, pledges or encumbrances of any kind, except as may otherwise be set forth in this Agreement.

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4.7. Real Property.

Seller makes the following representations regarding the Real Property:

(a) Seller has no knowledge of any condemnation proceedings pending against the Real Property.

(b) Except as set forth in Exhibit 1.1(a)(3), Seller has not entered into any agreement regarding the Real Property, and the Real Property is not subject to any claim, demand, suit, lien, proceeding or litigation of any kind, pending or outstanding, or to the knowledge of Seller, threatened or likely to be made or instituted, which would in any way be binding upon Purchaser or its successors or assigns or materially affect or limit Purchaser’s or its successors’ or assigns’ use and enjoyment of the Real Property or which would materially limit or restrict Purchaser’s right or ability to enter into this Agreement and consummate the sale and purchase contemplated hereby.

(c) Purchaser shall receive at Closing good and marketable fee simple title to the Real Property and, at Closing, will receive the Real Property outright subject to no mortgage, pledge, lien, security interest, lease, charge, encumbrance or conditional sales or other title retention agreement except for real property taxes not yet due and payable, and easements and rights of way which do not materially interfere with the use of the Real Property as a banking center. Purchaser’s sole remedy for a breach of the representations and warranties in this Section 4.7 shall be to elect not to purchase the Real Property on which a Banking Center is located as provided in Section 1.10.

4.8. Condition of Property.

Except as may be otherwise specifically set forth in this Agreement, the Real Property and Personal Property to be purchased by Purchaser hereunder are sold AS IS, WHERE IS, with no warranties or representations whatsoever, except as may be expressly represented or warranted in this Agreement.

4.9. Loans.

(i) Purchaser shall receive good title to each Loan being purchased hereunder and each is a valid loan in conformity with applicable laws and regulation; (ii) the documentation relating to each Loan accurately reflects the payment history, the outstanding balance of the Loan, and all receipts pertaining to the Loan from the obligor(s) thereof and all credits to which such obligor(s) are entitled, (iii) to the best of Seller’s knowledge and without any independent investigation, all signatures on and executions of any documents by Seller in connection with each Loan are genuine; (iv) with respect to each Loan that is secured, Purchaser shall, upon taking necessary action to transfer any lien, have a valid and enforceable lien on the collateral described in the documents relating to such Loan, and such lien has the priority described in the loan files relating

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to such Loans (except as enforceability may be limited by bankruptcy laws and other similar laws relating to creditors’ rights and principles of equity), (v) no taxes or other liability of Seller shall accrue against or be collected from Purchaser out of any Loan by reason of the purchase thereof by Purchaser, (vi) all license, franchise, intangible, stamp or other tax or fee due and owing to any state where a Loan originated, or any political subdivision thereof, arising from or growing out of the acquisition, collection or holding of any Loan, have been paid, and (vii) neither Seller nor any of its agents, officers, employees or representatives in any manner has been guilty of any civil or criminal fraud with respect to the creation of any Loan or with respect to the transfer, assignment and sale of the same to Purchaser hereunder.

4.10. Compliance with Certain Laws.

To the best of Seller’s knowledge and without any independent investigation, the deposits relating to the Deposit Liabilities and the Loans were opened, extended or made, and have been maintained, in accordance with all applicable federal and state laws, regulations, rules and orders.

4.11. Community Reinvestment Act Representation.

Seller is in compliance with the Community Reinvestment Act and its implementing regulations, and there are no threatened or pending actions, proceedings, or allegations by any person or regulatory agency which may cause any regulatory authority to deny any application required to be filed pursuant to this Agreement. In addition, Seller has not been advised of any supervisory concerns regarding its compliance with the Community Reinvestment Act.

4.12. Leases.

The Real Property Leases and the Equipment Leases are in full force and effect and are fully transferable and assignable to Purchaser, except to the extent that consent of the lessor or another party is required by the terms of the respective lease documents. Purchaser’s sole remedy for failure of Seller to obtain any such required consent with respect to the Real Property Leases shall be as provided in Section 1.10(a)(iv), and with respect to the Equipment Leases shall be as provided in Section 2.2(b)(4).

4.13. Limitation of Representations and Warranties.

Except as may be expressly represented or warranted in this Agreement by Seller, Seller makes no representations or warranties whatsoever with regard to any asset being transferred to Purchaser or any liability or obligation being assumed by Purchaser or as to any other matter or thing.

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ARTICLE V

REPRESENTATIONS AND WARRANTIES OF PURCHASER

Purchaser hereby represents and warrants to Seller as follows:

5.1. Corporate Organization.

Purchaser is a Virginia chartered bank duly organized, validly existing and in good standing under the laws of the Commonwealth of Virginia. Purchaser has the corporate power and authority to own the properties being acquired, to assume the liabilities being transferred and to effect the transactions contemplated herein.

5.2. No Violation.

Neither the execution and delivery of this Agreement, nor the consummation of the transactions contemplated herein, will violate or conflict with (a) the Articles of Incorporation or Bylaws of Purchaser; any material provision of any material agreement or any other material restriction of any kind to which Purchaser is a party or by which Purchaser is bound; (b) any material statute, law, decree, regulation or order of any governmental authority; or (d) any material provision which will result in a default under, or cause the acceleration of the maturity of, any material obligation or loan to which Purchaser is a party.

5.3. Corporate Authority.

The execution and delivery of this Agreement, and the consummation of the transactions contemplated herein, prior to the Effective Time will have been duly authorized by Purchaser, and no further corporate authorization on the part of Purchaser is necessary to consummate the transactions contemplated hereunder.

5.4. Enforceable Agreement.

This Agreement has been duly authorized, executed and delivered by Purchaser and is the legal, valid and binding agreement of Purchaser enforceable in accordance with its terms.

5.5. No Brokers.

In the negotiation of this Agreement, there has been no participation or intervention by any person, firm or corporation engaged by Purchaser that would give rise to any claim against Seller for a finder’s fee, commission, or similar payment.

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ARTICLE VI

OBLIGATIONS OF PARTIES PRIOR TO AND AFTER EFFECTIVE TIME

6.1. Access to Information.

Purchaser acknowledges that it has conducted satisfactory due diligence with respect to the assets and liabilities to be acquired by Purchaser hereunder. Notwithstanding the foregoing, Seller shall afford to the officers and authorized representatives of Purchaser, upon prior notice and subject to Seller’s normal security requirements, access to the properties, books and records pertaining to the Banking Centers to in order to facilitate the consummation of the transactions herein contemplated, provided, that such access shall be at reasonable times and shall not interfere with the normal business and operations of the Banking Centers or the affairs of Seller relating to the Banking Centers. Nothing in this Section 6.1 shall require Seller to breach any obligation of confidentiality or to reveal any proprietary information, trade secrets or marketing or strategic plans. It is understood that certain of Seller’s records may be available only in the form of photocopies, film copies or other non-original and non-paper media.

6.2. Delivery of Magnetic Media Records.

Seller shall make available to Purchaser, at Seller’s data processing center, magnetic media records in Seller’s field format not later than 30 calendar days after the execution of this Agreement, and Seller shall further make available to Purchaser such records updated as of the Closing Date, which records shall contain the information related to the items described in Subsections 2.2(b)(6) and (b)(7). Such updated records shall be made available at such time after Closing as agreed to by the parties. Seller may, with the consent of Purchaser, provide such reports in paper format instead of magnetic media format.

6.3. Application for Approval to Effect Purchase of Assets and Assumption of Liabilities.

Within 30 calendar days following the execution of this Agreement, Purchaser shall prepare and file applications required by law with the appropriate regulatory authorities for approval to purchase and assume the aforesaid assets and liabilities, to establish branches at the locations of the Banking Centers (or relocations to the extent contemplated herein), and to effect in all other respects the transactions contemplated herein. Purchaser agrees to process such applications in a diligent manner and on a priority basis and to provide Seller promptly with a copy of such applications as filed (except for any confidential portions thereof) and all material notices, orders, opinions, correspondence and other documents with respect thereto, and to use its best efforts to obtain all necessary regulatory approvals. Purchaser knows of no reason why such applications should not receive all such approvals. Purchaser shall promptly notify Seller upon receipt by Purchaser of notification that any application provided for hereunder has been denied. Seller shall provide such assistance and information to Purchaser as shall be reasonably necessary for Purchaser to comply with the requirements of the applicable regulatory authorities.

6.4. Conduct of Business; Maintenance of Properties.

(a) From the date hereof until the Effective Time, Seller covenants that it will:

(i) Carry on the business of the Banking Centers substantially in the same manner as on the date hereof, use all reasonable efforts to preserve intact its current business organization, and preserve its business relationships with depositors, customers and others having business relationships with it and whose accounts will be retained at the Banking Centers; provided, that Seller need not, in its sole discretion, advertise or promote new or substantially new customer services in the principal market areas of the Banking Centers;

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(ii) Cooperate with and assist Purchaser in assuring the orderly transition of the business of the Banking Centers to Purchaser from Seller; and

(iii) Maintain the Real Property and the Personal Property in its current condition, ordinary wear and tear excepted.

(b) Between the date hereof and the Effective Time, Seller shall not, without the prior consent of Purchaser:

(i) Acquire or dispose of any fixed assets with respect to the Banking Centers, other than pursuant to commitments made on or before the date of this Agreement, and except for replacement of furniture, furnishings and equipment and normal maintenance and refurbishing in the ordinary course of business of the Banking Centers, provided that this Section shall not require the replacement of any such items by Seller;

(ii) Increase or agree to increase the salary, remuneration or compensation or other employment benefits of persons employed at the Banking Centers other than in accordance with Seller’s customary policies or bank-wide changes consistent with past practices, or pay or agree to pay any uncommitted bonus to any such employees other than regular bonuses granted based on historical practice;

(iii) Change any pricing in deposit accounts at the Banking Centers on other than a regional basis, except as may be required in the ordinary course of business consistent with past practices;

(iv) Materially increase the staffing levels at any Banking Center or effect changes in branch personnel employed as of the Effective Time other than in the ordinary course of business consistent with past practices; or

(v) Enter into any agreement to sell, grant or convey the Real Property or any part thereof, including easements or rights of way over the Real Property.

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6.5. No Solicitation by Seller.

For a period of 12 months after the Effective Time, Seller will not specifically target and solicit customers of the Banking Centers utilizing any customer or mailing list which consists primarily of customers of the Banking Centers; provided, that these restrictions shall not apply to general mass mailings, telemarketing calls, statement stuffers and other similar communications directed to current customers of Seller or Seller’s affiliates, or to the public or newspaper, radio or television advertisements of a general nature, or otherwise prevent Seller from taking such actions as may be required to comply with any applicable federal or state laws, rules or regulations. In addition, these restrictions shall not apply to (a) the solicitation of (i) commercial accounts normally established and maintained in offices other than the Banking Centers or (ii) any credit or debit card customer which has an agreement with Seller for merchant services which is not transferred to Purchaser, or (b) the installation and operation by Seller of automated teller machines at any location.

6.6. Further Actions.

Each party hereto shall execute and deliver such instruments and take such other actions as the other party may reasonably require in order to carry out the intent of this Agreement.

6.7. Fees and Expenses.

Except as otherwise provided herein, Purchaser shall be responsible for the costs of all title examinations, title insurance fees, surveys, its own attorneys’ and accountants’ fees and expenses and other expenses arising in connection therewith. Seller shall be responsible for its own attorneys’ and accountants’ fees and expenses related to this transaction.

6.8. Breaches with Third Parties.

If the assignment of any material claim, contract, license, lease, commitment, sales order or purchase order (or any material claim or right or any benefit arising thereunder) without the consent of a third party would constitute a breach thereof or materially affect the rights of Purchaser or Seller thereunder, then such assignment is hereby made subject to such consent or approval being obtained. The failure to obtain such consent shall not constitute a breach of this Agreement by Seller.

6.9. Insurance.

As of the Effective Time, insurance coverage maintained in connection with the Banking Centers and the activities conducted thereon, except for coverage relating to periods preceding the Effective Time will be terminated. Purchaser shall be responsible for all insurance protection for the Banking Centers’ premises and the activities conducted thereon immediately following the Effective Time.

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6.10. Public Announcements.

Seller and Purchaser agree that, from the date hereof, neither shall make any public announcement or public comment, regarding this Agreement or the transactions contemplated herein without first consulting with the other party hereto and reaching an agreement upon the substance and timing of such announcement or comment. Further, Seller and Purchaser acknowledge the sensitivity of this transaction to the Employees and no announcements or communications with the public or these Employees shall be made without the prior approval of Seller.

6.11. Tax Reporting.

Seller shall provide Purchaser all 1099 data for Purchaser to comply with all 2005 tax reporting obligations in connection with transferred assets and liabilities on or before the Effective Time, and Purchaser shall comply with all tax reporting obligations with respect to the transferred assets and liabilities after the Effective Time.

ARTICLE VII

CONDITIONS TO PURCHASER’S OBLIGATIONS

The obligations of Purchaser to complete the transactions contemplated in this Agreement are conditioned upon fulfillment, on or before the Closing, of each of the following conditions:

7.1. Representations and Warranties True.

The representations and warranties made by Seller in this Agreement shall be true in all material respects on and as of the Effective Time as though such representations and warranties were made at and as of such time, except to the extent otherwise provided herein or consented to by Purchaser.

7.2. Obligations Performed.

Seller shall (a) deliver or make available to Purchaser those items required by Section 2.2, and (b) perform and comply in all material respects with all obligations and agreements required by this Agreement to be performed or complied with by it prior to or at the Effective Time.

7.3. No Adverse Litigation.

As of the Effective Time, no action, suit or proceeding shall be pending or threatened against Seller which is reasonably likely to (a) materially and adversely affect the business, properties and assets of the Banking Centers, or (b) materially and adversely affect the transactions contemplated herein.

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7.4. Regulatory Approval.

(a) Purchaser shall have received all necessary regulatory approvals of the transactions provided in this Agreement, all notice and waiting periods required by law to pass shall have passed, no proceeding to enjoin, restrain, prohibit or invalidate such transactions shall have been instituted or threatened, and any conditions of any regulatory approval shall have been met.

(b) Such approvals shall not have imposed any condition which is materially disadvantageous or burdensome to Purchaser.

ARTICLE VIII

CONDITIONS TO SELLER’S OBLIGATIONS

The obligations of Seller to complete the transactions contemplated in this Agreement are conditioned upon fulfillment, on or before the Closing, of each of the following conditions:

8.1. Representations and Warranties True.

The representations and warranties made by Purchaser in this Agreement shall be true in all material respects at and as of the Effective Time as though such representations and warranties were made at and as of such time, except to the extent otherwise provided herein or consented to by Seller.

8.2. Obligations Performed.

Purchaser shall (a) deliver to Seller those items required by Section 2.2, and (b) perform and comply in all material respects with all obligations and agreements required by this Agreement to be performed or complied with by it prior to or at the Effective Time.

8.3. No Adverse Litigation.

As of the Effective Time, no action, suit or proceeding shall be pending or threatened against Purchaser or Seller which might materially and adversely affect the transactions contemplated hereunder.

8.4. Regulatory Approval.

(a) Purchaser shall have received from the appropriate regulatory authorities approval of the transactions contemplated herein, waiting periods required by law to pass shall have passed, no proceeding to enjoin, restrain, prohibit or invalidate such transactions shall have been instituted or threatened, and any conditions of any regulatory approval shall have been met.

(b) Such approvals shall not have imposed any condition which is materially disadvantageous or burdensome to Seller.

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ARTICLE IX

TERMINATION

9.1. Methods of Termination.

This Agreement may be terminated in any of the following ways:

(a) by either Purchaser or Seller, in writing five calendar days in advance of such termination, if the Closing has not occurred by March 31, 2005;

(b) at any time on or prior to the Effective Time by the mutual consent in writing of Purchaser and Seller;

(c) by Purchaser in writing if the conditions set forth in Article VII (with the exception of delivery of items required to be delivered at Closing) of this Agreement shall not have been met by Seller or waived in writing by Purchaser within 30 calendar days following the date of all approvals by regulatory agencies and after all statutory waiting periods have expired;

(d) by Seller in writing if the conditions set forth in Article VIII of this Agreement shall not have been met by Purchaser or waived in writing by Seller within 30 calendar days following the date of all approvals by regulatory agencies and after all statutory waiting periods have expired;

(e) any time prior to the Effective Time, by Purchaser or Seller in writing if the other shall have been in breach of any representation and warranty in any material respect (as if such representation and warranty had been made on and as of the date hereof and on the date of the notice of breach referred to below), or in breach of any covenant, undertaking or obligation contained herein, and such breach has not been cured by the earlier of 30 calendar days after the giving of notice to the breaching party of such breach or the Effective Time; provided, however, that there shall be no cure period in connection with any breach of Section 6.3, so long as such breach by Purchaser was not caused by any action or inaction of Seller, and Seller may terminate this Agreement immediately if regulatory applications are not filed within 30 calendar days after the date of this Agreement as provided in that Section; or

(f) by Seller in writing at any time after any applicable regulatory authority has denied approval of any application of Purchaser for approval of the transactions contemplated herein.

9.2. Procedure Upon Termination.

In the event of termination pursuant to Section 9.1, and except as otherwise stated therein, written notice thereof shall be given to the other party, and this Agreement shall terminate immediately upon receipt of such notice unless an extension is consented to by the party having the right to terminate.

29

If this Agreement is terminated as provided herein,

(a) each party will return all documents, work papers and other materials of the other party, including photocopies or other duplications thereof, relating to this transaction, whether obtained before or after the execution hereof, to the party furnishing the same; and

(b) all information received by either party hereto with respect to the business of the other party (other than information which is a matter of public knowledge or which has heretofore been published in any publication for public distribution or filed as public information with any governmental authority) shall not at any time be used for any business purpose by such party or disclosed by such party to third persons.

9.3. Payment of Expenses.

Should the transactions contemplated herein not be consummated because of a party’s breach of this Agreement, in addition to such damages as may be recoverable in law or equity, the other party shall be entitled to recover from the breaching party, upon demand, itemization and documentation, its reasonable outside legal, accounting, consulting and other out-of-pocket expenses.

ARTICLE X

MISCELLANEOUS PROVISIONS

10.1. Amendment and Modification.

The parties hereto, by mutual consent of their duly authorized officers, may amend, modify and supplement this Agreement in such manner as may be agreed upon by them in writing.

10.2. Waiver or Extension.

Except with respect to required approvals of the applicable governmental authorities, either party, by written instrument signed by a duly authorized officer, may extend the time for the performance of any of the obligations or other acts of the other party and may waive (a) any inaccuracies in the representations and warranties contained herein or in any document delivered pursuant hereto or (b) compliance with any of the undertakings, obligations, covenants or other acts contained herein.

30

10.3. Assignment.

This Agreement and all of the provisions hereof shall be binding upon, and shall inure to the benefit of, the parties hereto and their permitted assigns, but neither this Agreement nor any of the rights, interests or obligations hereunder shall be assigned by either of the parties hereto without the prior written consent of the other.

10.4. Confidentiality

Seller and Purchaser agree that the Confidentiality Agreement between Seller and Purchaser (the “Confidentiality Agreement”) shall survive the execution hereof and the consummation of the transactions contemplated herein.

10.5. Addresses for Notices, Etc.

All notices, requests, demands, consents and other communications provided for hereunder and under the related documents shall be in writing and transmitted by nationally recognized air courier (charges prepaid), telecopied or personally delivered (with receipt thereof acknowledged) to the applicable party at the address indicated below:

If to Seller:	Mr. Jeffrey W. Farrar
	Executive Vice President and
	Chief Financial Officer
	P.O. Box 71
	102 S. Main Street
	Culpeper, Virginia 22701
	Fax Number: 540-825-0834
If to Purchaser:	Mr. James G. Rakes
	Chairman, President and
	Chief Executive Officer
	National Bankshares, Inc.
	101 Hubbard Street
	Blacksburg, Virginia 24062
	Fax Number: 540-951-6324
With a copy to:	Marilyn B. Buyhoff, Esq.
	Secretary and General Counsel
	National Bankshares, Inc.
	101 Hubbard Street
	Blacksburg, Virginia 24062
	Fax Number: 540-951-6324

or, as to each party, at such other address as shall be designated by such party by notice to the other party complying with the terms of this Section.

31

10.6. Counterparts.

This Agreement may be executed simultaneously in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument.

10.7. Headings.

The headings of the Sections and Articles of this Agreement are inserted for convenience only and shall not constitute a part thereof.

10.8. Governing Law.

This Agreement shall be governed by, and construed in accordance with, the laws of the Commonwealth of Virginia.

10.9. Sole Agreement.

Except for the Confidentiality Agreement, this Agreement and the exhibits and attachments hereto represent the sole agreement between the parties respecting the transactions contemplated hereby, and all prior or contemporaneous written or oral proposals, agreements in principle, representations, warranties and understandings between the parties with respect to such matters are superseded hereby and merged herein.

10.10. Severability.

If any provision of this Agreement is invalid or unenforceable, the balance of this Agreement shall remain in effect.

10.11. Parties In Interest.

Nothing in this Agreement, express or implied, including, without limitation the provisions of Section 1.6(a), is intended or shall be construed to confer upon or give to any person (other than the parties hereto, their successors and permitted assigns) any rights or remedies under or by reason of this Agreement, or any term, provision, condition, undertaking, warranty, representation, indemnity, covenant or agreement contained herein.

[Signature Pages Follow]

32

IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed by their duly authorized officers as of the date first written above.

PLANTERS BANK & TRUST COMPANY OF VIRGINIA

By:

Name:

Title:

BANK OF TAZEWELL COUNTY

By:

Name:

Title:

33

EX-13

Exhibit 13

CORPORATE PROFILE

VIRGINIA FINANCIAL GROUP, INC. IS A $1.4 BILLION FINANCIAL SERVICES HOLDING COMPANY SERVING individual and business customers in central, western and southern Virginia through its three community banks—Planters Bank & Trust in Staunton, Second Bank & Trust in Culpeper and Virginia Heartland Bank in Fredericksburg. Its fourth enterprise, Virginia Commonwealth Trust Company, provides wealth management, and trust and estate-planning services through the three banks.

FINANCIAL HIGHLIGHTS

	2004			2003			2002
Total Revenue	$	65,318		$	58,697		$	53,343
Net Income	$	15,203		$	13,492		$	12,335
Diluted Earnings per Share	$	2.11		$	1.88		$	1.69
Assets	$	1,449,608		$	1,387,211		$	1,114,905
Stockholders’ Equity	$	127,089		$	119,830		$	114,371
Return on Average Equity		12.40	%		11.47	%		11.09	%
Efficiency Ratio		61.03	%		63.55	%		62.07	%
Dividends per Common Share	$	0.78		$	0.75		$	0.72
Book Value per Share	$	17.75		$	16.75		$	15.94
Market Capitalization	$	262,541		$	254,070		$	213,867
Employees		512			510			431
Financial Centers		37			37			30

Virginia Financial Group, Inc. 1

O. R. Barham, Jr.

President and CEO

“ As the banking industry continues to consolidate, we are continually asked whether we can or will remain independent. My answer is yes on both counts.”

TO OUR SHAREHOLDERS, CUSTOMERS AND FRIENDS:

I AM PLEASED TO REPORT THAT VIRGINIA FINANCIAL GROUP, INC. HAD ANOTHER RECORD YEAR IN 2004 AND IS POSITIONED FOR CONTINUED PROGRESS IN 2005.

Diluted earnings per share increased by 12.2%, to $2.11, versus $1.88 in 2003. Net income rose to $15.2 million, a gain of 12.7% from $13.5 million the previous year.

We gained in overall size as well. Total assets rose from $1.387 billion to $1.450 billion, representing growth of just under 5%. Gross loans increased from $923.1 million to $1.061 billion, a gain of $138.1 million or 15.0%.

VFG also performed well on the basis of other measures. Non-performing loans as a percentage of total loans declined from already-low levels, indicating that our loan portfolio is even sounder than before. Return on average equity (ROE) rose to 12.4% from 11.47%, a step in the right direction. Return on average assets (ROA) dipped slightly from 1.13% in 2003 to 1.07%, still a very creditable result.

PROGRESS ON SEVERAL FRONTS

Virginia Financial Group has now completed its third year in its present form, as a holding company for three community banks and a trust company. We have made significant progress toward the model enterprise we envisage—a banking organization distinctly local in its relationships with its customers and the communities it serves, but with the broader vision, advanced technology, financial heft and capable people needed to thrive in a competitive financial marketplace.

It is worth noting what has been achieved over these past three years.

• We have successfully established Virginia Financial Group as a sound and growing regional banking entity, not merely a collection of community banks. While our banks retain local control over the things that matter most to customers—loan decisions and interest rates, for example—we have created consistently excellent products and services throughout VFG and established the systems to support them.

• We have both expanded our branch network and made it accessible to all of our customers. Although each bank retains its own customers, our successful branding initiative has made our distinctive logo a familiar sight in all the communities we serve, and our customers know they can transact their banking business wherever they see it. We currently operate 37 full service branches, plus two loan production offices. In 2003, we enlarged our network by purchasing eight branches from First Virginia Banks, but recently sold off two in Tazewell County that did not complement our business.

• We have invested in the technology necessary to support our growth and to make our operations more efficient and convenient for our customers. This includes our state-of-the-art core processing system,

2 Virginia Financial Group, Inc.

which supports our network of branches and ATM machines and all our accounting and information processing operations. We have improved our popular on-line banking system, established a web-based customer relationship management system, and implemented an automated monitoring program to prevent money-laundering.

• Systems are important, but people are the critical ingredient in a successful banking enterprise. We set great store by the quality of our people, for they are the public face of our banks and of VFG. They put their integrity, professional skills and personal qualities on the line every day in serving our customers with the personal touch that is our hallmark.

We are strengthening our organization by hiring and retaining the best talent we can find. Two experienced senior executives who recently joined us reflect this effort: Litz H. Van Dyke, who is Executive Vice President and Chief Operating Officer of VFG, a new position, and James T. Huerth, who became President and Chief Executive Officer of Planters Bank and Trust in January 2005 as part of a planned leadership succession. He succeeded William D. Stegall, who assumed new duties at the holding company. We also added Tara Y. Harrison as the company’s new Director of Internal Audit and Richard L. Saunders as Chief Credit Officer.

AN EFFECTIVE GROWTH STRATEGY

We continue to pursue our growth strategy of carefully expanding along the main north-south corridors of central, western and southern Virginia. The two loan production offices we opened in 2003 in Charlottesville and Lynchburg, two attractive and economically vibrant areas, were well received. We intend to convert them by mid-2005 to full service, de novo branches. Land acquisition, planning and design are well advanced. We plan for 2005 to be an active year for new branch openings.

While these branching plans reflect the thoughtful, deliberate approach envisaged by our strategy, we can also be opportunistic acquirers. We will look closely at potential acquisitions that may surface to determine whether they might be a good “fit.”

INDEPENDENCE AND SHAREHOLDER VALUE

As banking continues to consolidate, we are continually asked whether we will remain independent, and whether we can. My answer is yes on both counts. We believe that it is important for Virginia and our region, and for our customers, that we are a Virginia based and owned bank. It also helps distinguish VFG in the marketplace. Our shareholders—largely residents of the communities we serve, including many customers—also stand to benefit.

We intend to maintain our independence by keeping our business strong, profitable and growing. Over time, stock prices really do reflect earnings and prospects for future earnings, and we are confident that the value of our shareholders’ investments will continue to grow. In 2004, shareholders saw a total return of about 8%, comprising a modest increase in stock price as of year end plus increased dividends totaling $.78 per share. Added to the 37% gain in total return in 2002 and 22% in 2003, this represents a three-year return of about 67%, a strong performance.

Recognizing that underlying value is not always fully reflected in stock prices in the short term, we intend to expand our efforts to broaden share ownership in VFG. Greater awareness of our profitability and prospects should result in increased trading and, we hope, a rising stock price.

A POSITIVE OUTLOOK

We are optimistic about the year ahead. Absent unforeseen shocks, our national economy appears likely to continue its steady growth, and our region as well. Our markets and our business model will prosper in such a climate of stable economic growth.

I am grateful for the dedication, initiative and skill of our employees, who do so much for our customers and our communities, and for the unflagging support of our customers and our shareholders. We at VFG will continue to work hard to deserve your loyalty.

Sincerely,

O. R. Barham, Jr.

President and Chief Executive Officer

Virginia Financial Group, Inc. 3

Q & A

A Conversation with Management

The following are frequently asked questions that management and the board receive from shareholders and interested investors.

1. Q: You say VFG wants to remain independent, but how can you make that goal a reality?

A: We are determined to remain independent, and we believe the best way to assure this is to make our banking business very successful, to a point where its true underlying value is reflected in a high and rising stock price. That will benefit our shareholders and eliminate any pressures to sell, while at the same time making VFG prohibitively expensive for any company to acquire.

2. Q: You pride yourselves on your very local approach to banking, and your close ties and responsiveness to the community. As a large and growing regional banking organization, how can you maintain that?

A: The traditions and practice of community banking at its best are at the root of our success, and will continue to enable us to retain our local focus and flavor. Even as our enterprise grows, our local banks will continue to concentrate on their customers and communities. We will be able to offer products and services on a par with the best of the big banks—mainly we do now—but the local bank will still be the customer’s point of access. And serving the customer is still what banking is about.

3. Q: What is VFG’s strategy and outlook for the future?

A: Our mission is to become Virginia’s premier financial provider, able to successfully compete with all competitors. We intend to achieve this through development of superior products, people and technology. While we subscribe to becoming the largest Virginia-based institution, it will only be as a by-product of our focus on quality improvement. Quality goals include those of our stockholders, which we will achieve through earnings performance, dividend growth and maintenance of an excellent financial condition.

De novo branching will be a larger part of our strategy in 2005. Priorities for the immediate future will be to develop our Charlottesville and Lynchburg market presence, and continue to cultivate our dominant market share in the other communities we serve. VFG’s new market focus for the next 2-3 years will continue to be small to middle market communities or cities that have solid emerging growth prospects. Later we will target more populous areas in order to find additional growth.

4. Q: To what do you attribute VFG’s record earnings performance in 2004?

A: Simply put, VFG’s earnings performance was driven by improvements in asset mix fueled by excellent loan and deposit growth for the past two years. This growth coupled with well conceived structuring of asset and liability maturities allowed the Company to substantially maintain its margins and realize double digit growth in its revenue stream. Declines in mortgage revenue were substantially offset by growth in our retail banking and brokerage revenue streams. From an overhead perspective, VFG was successful in driving down costs and streamlining its multi-bank holding company model in 2004, resulting in significant improvement in overall efficiency.

4 Virginia Financial Group, Inc.

5. Q: How did the subsidiaries perform?

A: Our Planters Bank and Virginia Heartland Bank affiliates achieved over 25% earnings growth in 2004. Second Bank’s earnings were down 10%, but its profitability remained strong as measured by a return on average equity of 15.32%. Virginia Commonwealth Trust Company was essentially break-even in 2004, a by-product of several initiatives to re-engineer this line of business that are expected to result in financial gains for 2005.

From a balance sheet perspective, Second Bank and Virginia Heartland Bank achieved 19% and 18% growth in loans, funded by 12% growth in deposits. Planters had the largest dollar increase in loans for the year, amounting to $57 million. Virginia Commonwealth Trust experienced a healthy 7% growth in assets under management.

6. Q: How will rising interest rates affect the bank’s profitability? How will they affect our region’s economy?

A: Like all banks, we try to anticipate the direction that interest rates will take and to rearrange our asset/liability mix enough so our profits are not hurt, and may be helped, by the changes. If we manage this correctly, VFG will do well regardless of whether rates go up or down.

As for the region’s economy, a modest rise in interest rates probably will not hurt noticeably, as long as it occurs gradually so that people and businesses have time to adjust.

7. Q: Given the ongoing consolidation in the banking industry, and VFG’s desire to continue to grow, what asset size are you targeting?

A: Size should be a by-product of our quality. Obviously, we need to maintain sufficient size to be competitive, but a mere focus on growth can negatively affect quality of service and employee morale. Quality of service, financial condition and concern for our employees will all determine the type and amount of growth we can successfully manage. It is our desire for VFG to become the largest Virginia based institution, but only as a by-product of our focus on quality.

8. Q: Given your emphasis on quality, how then would you describe the culture of VFG?

A: VFG’s culture is evolving. One of the challenges of a multi-bank structure is to establish a successful common culture throughout the organization. The culture we are moving towards is a culture of empowered, involved and caring owners (employees). We want employees acting as if they own VFG, and of course, many of them already own shares. We want them to make decisions like owners, not order takers. To that end, we are training and implementing systems to improve everyone’s ability to recognize, motivate and measure this type of behavior. We want our employees to be recognized and rewarded for acting as an owner. We are not there yet, but the cultural shift has begun.

9. Q: What is VFG’s dividend policy and what is the rationale for it?

A: We believe it is sound and appropriate for VFG to pay an attractive dividend to our shareholders. They have supported our growth by investing in our enterprise, and dividends are a way of giving them at least some immediate return in recognition of our success. Accordingly, we have raised our dividend payments every year—$.68 per share in 2001, $.72 in 2002, $.75 in 2003 and $.78 in 2004. This generally works out to between 2% and 3%, depending on the stock price at the time. We intend to keep on boosting the dividend, gradually but steadily, as we increase our size and our earnings. Of course, profits that we pay out as dividends cannot be re-invested for future growth, so we are balancing immediate rewards to the shareholder against future ones. We believe our approach achieves the appropriate balance.

Virginia Financial Group, Inc. 5

Our FUTURE GROWTH

The growth of Virginia Financial Group, Inc. in size and reach serves the interests of shareholders and customers alike. Enlarging our network of branches—each available to any VFG customer— is an important element of that growth. Although we most recently expanded our network via acquisition, acquiring eight existing branches from another bank in 2003, we are currently extending the reach of our network by establishing new branches in desirable markets. The three de novo branches shown on these pages are scheduled to begin operating in the second half of 2005.

LYNCHBURG: PLANTERS BANK & TRUST

The success of the loan production office that Planters Bank established in Lynchburg in 2003 encouraged the bank to establish a retail branch network in this market. This building will serve as the main office, and the current location of our loan production office will be converted to a retail branch as well. The City of Lynchburg and its four surrounding counties comprise a prosperous area of some 200,000 people, with a diverse economy that includes six institutions of higher education, two hospitals and a well-educated work force. The bank hopes to have both branches open in the second half of 2005.

6 Virginia Financial Group, Inc.

CHARLOTTESVILLE: SECOND BANK & TRUST

Charlottesville, another attractive small city in the heart of a vibrant region, also proved receptive when Second Bank & Trust established a loan production office there in 2003. The intellectual and economic horsepower generated by the University of Virginia makes Charlottesville a major magnet for business, and as site of Thomas Jefferson’s Monticello and the homes of Presidents James Madison and James Monroe, the area enjoys a large tourist business as well. Property has been acquired for the bank’s first full service branch, the design of which is pictured below, with an anticipated opening in late 2005. Several other sites have been identified and are in various stages of acquisition.

FREDERICKSBURG:

VIRGINIA HEARTLAND BANK

Virginia Heartland Bank is expanding its already strong presence in the area centered on Fredericksburg by creating a de novo branch in south Stafford County. The bank has branches in the City of Fredericksburg, and in Spotsylvania and Caroline counties, as well as one in Stafford County. The new branch design, which will be our second entry into this fast growing market, is pictured above. It is expected to open for business late in 2005.

Virginia Financial Group, Inc. 7

TECHNOLOGY

The changes that keep us moving forward

Advanced technology plays a vital role in support of our long tradition of building and maintaining the strong customer relationships on which community banking depends.

Modern technology enables our enterprise to record and organize the details of thousands of transactions daily. It lets both bank staff and customers use machines and electronic means—online banking and our ATM network, for example—to accomplish banking transactions formerly handled manually, face to face. But it is a two-edged sword, increasing efficiency, productivity and customer convenience, but at the same time reducing the need and opportunity for personal contact between customer and banker.

We at Virginia Financial Group strive to achieve an appropriate balance, deploying the latest technology to make banking faster and easier for customers and employees alike, but never forgetting the personal touch that distinguishes our banks from so many competitors.

Early in 2005, we completed the implementation of two advanced systems, one which is customer focused and the other which is regulatory focused. Our Customer Relationship Management (CRM) system, called Connections—reflects our effort to enhance customer relationships. The other, driven by regulatory requirements of the Bank Secrecy Act, advances our abilities to monitor large currency transactions.

Our new CRM software tracks each contact between a customer and the bank, enabling us to serve the customer better in a variety of ways. Being able to see the customer’s various accounts and combined relationship, where appropriate, lets bank personnel suggest additional products or services the customer might need

8 Virginia Financial Group, Inc.

or find useful. A detailed description of any such product or service is instantly retrievable. If the customer indicates he may soon need a mortgage, for example, our staff creates an instant referral to one of the bank’s mortgage originators, who can then access the same customer account information. The system also helps bank staff members communicate more effectively with their customers. Better service, delivered with a personal touch, is the result for the customer. The bank benefits from the additional business generated, from stronger customer relationships, and from the system’s ability to analyze the needs and profitability of the customer base.

Our new system for monitoring large cash movements reflects the other side of the coin of technology-driven efficiency and effectiveness. It is designed to uncover and prevent money laundering or money transfers to terrorist groups. Banks have long been obligated to report such transfers, but since 9/11 they have been under increased pressure to do it more effectively and more comprehensively. VFG’s automated monitoring project was undertaken after federal bank examiners urged the company to strengthen its monitoring effort, traditionally handled manually. The new automated system, scheduled for implementation in the second quarter of 2005, provides compliance officers a complete picture of transaction activity, and better enables the Company to ensure compliance with what has become an increasingly significant responsibility on the part of financial institution industry.

Virginia Financial Group, Inc. 9

The RIGHT PEOPLE

People are the strength of Virginia Financial Group. Through their skill and dedication, the men and women of VFG and its constituent businesses distinguish our growing enterprise in the financial marketplace. We value their friendly, can-do approach to their work, and are proud of their professional achievements and community contributions. Here are a few of the people of Virginia Financial Group.

Jim & PLANTERS BANK & TRUST

(JAMES HUERTH, PRESIDENT & CEO, PLANTERS BANK & TRUST)

“I’ve come full circle, from a super-regional bank back to community banking where I started, because here you can know your employees and clients, and not just be an 800-number or e-mail address to them. It’s wonderful to be in an organization where you meet clients and employees one-on-one, where I can say I have met every employee, and where we can make quick local decisions, with a focus on one community rather than hundreds.”

Karen & SECOND BANK & TRUST

(KAREN INGRAM, BRANCH MANAGER, SECOND BANK & TRUST)

“We’re a family-oriented company. We do things as a team. When we interview, we look for people who are people persons, involved in their communities, customer-oriented. I’ve had people say that how we treat our customers is like nothing they’ve ever experienced before in banking. We really reach out to say thank you to our customers. On our customer surveys, we get ratings of ‘excellent’ because we’re already doing what customers expect—providing prompt, courteous service.”

10 Virginia Financial Group, Inc.

Sonia & VIRGINIA HEARTLAND BANK

(SONIA THOMAS, CUSTOMER SERVICE REPRESENTATIVE, VIRGINIA HEARTLAND BANK)

“I can’t say enough about this company. They have restored my faith in banking—my previous employer seemed to forget about customer service. I like the fact that this bank is so involved with the community. A lot of local charities have touched employees closely, so that’s really important to me. I also like the fact that they are interested in my continuing my education and that they offer courses—I am taking a consumer lending course.”

Litz & VIRGINIA FINANCIAL GROUP

(LITZ VAN DYKE, EXECUTIVE VICE PRESIDENT & CHIEF OPERATING OFFICER, VFG)

“I cut my teeth on community banking, and I believe in it. It is defined not by size but by the way you do business—the way you deal with customers. I saw VFG well positioned for growth in our region, operating in strong growth markets and with a sound strategy and vision. They’ve put together a competent team of bankers, and I saw my skills as a good fit.”

Kim & VIRGINIA COMMONWEALTH TRUST

(KIM RAMEY, TRUST OFFICER)

“When I came to the trust department 11 years ago we had four people. Now we have 26 people in five locations. The biggest change came in 1999, when we became a separate trust company, able to serve outside clients, not just clients of the bank. The bank and the trust company provide each other with referrals. What makes us different is that each of us has his own area of expertise but we work closely together in serving our clients.”

Virginia Financial Group, Inc. 11

VIRGINIA FINANCIAL GROUP BOARD OF DIRECTORS

Lee S. Baker

Manager/Owner,

Staunton Tractor, Inc.

O. R. Barham, Jr.

President & CEO,

Virginia Financial Group, Inc.

Benham M. Black

Attorney-at-Law,

Black, Noland & Read, PLC

Fred D. Bowers

Secretary,

Virginia Financial Group, Inc.

E. Page Butler

President,

Butler Construction of Virginia, Inc.

Gregory L. Fisher

President/Owner,

Eddins Ford, Inc.

Taylor E. Gore

Chairman,

Virginia Financial Group, Inc.

Christopher M. Hallberg

President,

Hallberg & O’Malley Financial Group

Jan S. Hoover

Vice President,

Arehart Associates, Inc.

Martin F. Lightsey

Chairman,

Specialty Blades, Inc.

P. William Moore, Jr.

Chairman,

Moore Brothers, Inc.

H. Wayne Parrish

Vice-Chairman,

Virginia Financial Group, Inc.

Owner,

Parrish Appraisal Service

Thomas F. Williams, Jr.

Partner,

Franklin, Williams & Cowan

AFFILIATE DIRECTORS

DIRECTORS OF SECOND BANK & TRUST

Mansour Azimipour

Owner & President,

A & K Development Corporation

O. R. Barham, Jr.

President & CEO,

Virginia Financial Group, Inc.

Willie A. Coppage

Vice President, E. A. Clore Sons, Inc.

President, Blue Ridge Movers, Inc.

John J. Davies, III

Partner, Davies, Barrell, Will,

Lewellyn & Edwards, PC

Charles K. Gyory, Chairman

President,

Willow Run Company, Inc.

Christopher J. Honenberger

President & CEO,

Second Bank & Trust

Alan W. Myers

General Manager,

Blue Ridge Growers, Inc.

Joseph A. Troilo, Jr.

President & CEO,

Rosson & Troilo Motor

Company, Inc.

DIRECTORS OF PLANTERS BANK & TRUST

Lee A. Beam

President,

Staunton Steam Laundry, Inc.

O. R. Barham, Jr.

President & CEO,

Virginia Financial Group, Inc.

H. C. Stuart Cochran, Chairman

Agent, Bankers Insurance

Christopher C. Earhart

President, Dixie Gas and Oil Corp;

Managing Partner, EADD, LLC

G. Raymond Ergenbright

Commissioner of Revenue,

Staunton, VA

James T. Huerth

President & CEO,

Planters Bank & Trust

William B. McClung

Attorney-at-Law,

McClung & Associates, P.C.

John N. Neff

President & CEO,

Nielsen Builders, Inc.

Greg C. Raetz

CPA, Raetz & Hawkins, P.C.

William D. Stegall

Consultant,

Virginia Financial Group, Inc.

DIRECTORS OF VIRGINIA HEARTLAND BANK

Mona D. Albertine

Owner, Jabberwocky Children’s

Books and Toys

O. R. Barham, Jr.

President & CEO,

Virginia Financial Group, Inc.

James A. Branscome

Owner and President,

Freeman Beverage Co., Inc.

Ronald E. Davis

President & CEO,

Virginia Heartland Bank

James S. Day, Jr., Chairman

President & CEO,

DeJarnette & Beale

Insurance Agency

William J. Howell

Attorney-at-Law,

Member and Speaker,

Virginia House of Delegates

Robert C. O’Neill

President, Cullen, Inc.

Douglas G. Stewart

Managing Director,

Stewart Wealth Management Group

of Wachovia Securities

Keith L. Wampler

CPA and Managing Partner,

PBGH, LLP

Thomas Y. Welsh

Professional Engineer & Partner,

Sullivan, Donahoe & Ingalls

12 Virginia Financial Group, Inc.

SHAREHOLDER REFERENCE

BOARD OF DIRECTORS

Lee S. Baker

Member of Personnel and

Compensation Committee

O. R. Barham, Jr.

President & CEO and member

of Executive Committee and Virginia

Commonwealth Trust Company Board

Benham M. Black

Chairman of Governance and

Nominating Committee

Fred D. Bowers

Member of Executive Committee

E. Page Butler

Member of Governance and

Nominating Committee

Gregory L. Fisher

Chairman of Audit and

Compliance Committee

Taylor E. Gore

Chairman of the Board; Member of

Executive Committee and voting,

ex-officio member of all Committees

Christopher M. Hallberg

Chairman of Virginia Commonwealth

Trust Company Board and member of

Governance and Nominating Committee

Jan S. Hoover

Vice-Chairman of Audit and Compliance

Committee and member of Virginia

Commonwealth Trust Company Board

Martin F. Lightsey

Member of Executive Committee and

Personnel and Compensation Committee

P. William Moore, Jr.

Member of Audit and

Compliance Committee and Virginia

Commonwealth Trust Company Board

H. Wayne Parrish

Chairman of Personnel and

Compensation Committee

Thomas F. Williams, Jr.

Vice-Chairman of Personnel and

Compensation Committee and member of

Governance and Nominating Committee

Corporate Headquarters

102 South Main Street

Culpeper, Virginia 22701

(540) 829-1633

(540) 825-0834 (Fax)

www.vfgi.net

Investor Relations

Shareholders, analysts, and others seeking information about Virginia Financial Group, Inc. are invited to contact:

Jeffrey W. Farrar

Executive Vice President and

Chief Financial Officer

(540) 829-1633

(540) 825-0834 (Fax)

farrarj@vfgi.net

Copies of the Company’s earnings releases and other financial publications are available without charge upon request.

Information about the Company’s financial performance may also be found at www.vfgi.net. Earnings releases, dividend announcements, and other press releases are typically available at this site within 10 minutes of issuance. In addition, shareholders wishing to receive e-mail notification each time a news release, corporate event, or SEC filing has been posted may arrange to do so by visiting the web site and following the instructions listed under “E-mail Notification.”

Shareholder Account Inquiries

To expedite changes of address, the transfer of shares, the consolidation of accounts, or the replacement of stock certificates or dividend checks, shareholders are asked to contact the Company’s stock registrar, transfer agent, and dividend disbursement agent directly:

Registrar and Transfer Company

Attention: Investor Relations

10 Commerce Drive

Cranford, New Jersey 07016

(800) 368-5948

info@rtco.com

www.rtco.com

In all correspondence with Registrar and Transfer Company, be sure to mention Virginia Financial Group, Inc. and to provide your name as it appears on your stock certificate, along with your social security number, daytime phone number, and current address.

In addition, individual investors may report a change of address, request a shareholder account transcript, place a stop on a certificate, or obtain a variety of forms, including a duplicate 1099, by logging onto www.rtco.com and clicking on “Investor Services.”

Dividend Reinvestment and Stock Purchase Plan

Under the Company’s Dividend Reinvest-ment and Stock Purchase Plan, registered shareholders may purchase additional shares of Virginia Financial Group, Inc. by reinvesting their cash dividends and by making optional cash contributions up to twelve times a year. For more information about the Plan, contact the Plan Administrator, Registrar and Transfer Company, at (800) 368-5948 or log onto www.vfgi.net and click on “Stock Purchase Program” to view the Plan Prospectus. Please contact Virginia Financial Group for an enrollment form.

Annual Meeting of Shareholders

The Company’s Annual Meeting of Share-holders will be held at 10:00 a.m. Eastern Time on Tuesday, April 19, 2005, at the Omni Hotel, 235 West Main Street, Charlottesville, Virginia. Shareholders of record as of March 4, 2005 are eligible to vote.

Independent Auditors

Yount, Hyde & Barbour, P.C.

50 South Cameron Street

Winchester, Virginia 22601

Stock Listing

Shares of Virginia Financial Group, Inc. are traded under the symbol “VFGI” on The Nasdaq National Market^®. Price information appears daily in major regional newspapers under similar abbreviations of the Company’s name and can be viewed at www.vfgi.net.

Management’s Report on Internal Control Over Financial Reporting

The management of Virginia Financial Group, Inc. (the “Corporation”) is responsible for the preparation, integrity and fair presentation of the financial statements included in this Annual Report. The financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America and reflect management’s judgments and estimates concerning the effects of events and transactions that are accounted for or disclosed.

Management is also responsible for establishing and maintaining an effective internal control over financial reporting. The Corporation’s internal control over financial reporting includes those policies and procedures that pertain to the Corporation’s ability to record, process, summarize and report reliable financial data. The internal control system contains monitoring mechanisms, and appropriate actions are taken to correct identified deficiencies. Management believes that internal controls over financial reporting, which are subject to scrutiny by management and the Corporation’s internal auditors, support the integrity and reliability of the financial statements. Management recognizes that there are inherent limitations in the effectiveness of any internal control system, including the possibility of human error and the circumvention or overriding of internal controls. Accordingly, even effective internal control over financial reporting can provide only reasonable assurance with respect to financial statement preparation. In addition, because of changes in conditions and circumstances, the effectiveness of internal control over financial reporting may vary over time.

Management assessed the Corporation’s system of internal control over financial reporting as of December 31, 2004. This assessment was conducted based on the Committee of Sponsoring Organizations (“COSO”) of the Treadway Commission “Internal Control – Integrated Framework”. Based on this assessment, management believes that the Corporation maintained effective internal control over financial reporting as of December 31, 2004. Management’s assessment concluded that there were no material weaknesses within the Corporation’s internal control structure.

The 2004 end-of-year financial statements have been audited by the independent accounting firm of Yount, Hyde & Barbour, P.C. (“YHB”). Personnel from YHB were given unrestricted access to all financial records and related data, including minutes of all meetings of the Board of Directors and Committees thereof. Management believes that all representations made to the independent auditors were valid and appropriate. The resulting report from YHB accompanies the financial statements. YHB has also issued an attestation report on management’s assessment of the effectiveness of internal controls over financial reporting. That report has also been made a part of this Annual Report.

The Board of Directors of the Corporation, acting through its Audit and Compliance Committee (the “Committee”), is responsible for the oversight of the Corporation’s accounting policies, financial reporting and internal control. The Audit and Compliance Committee of the Board of Directors is comprised entirely of outside directors who are independent of management. The Audit and Compliance Committee is responsible for the appointment and compensation of the independent auditors and approves decisions regarding the appointment or removal of members of the internal audit function. The Committee meets periodically with management, the independent auditors, and the internal auditors to insure that they are carrying out their responsibilities. The Committee is also responsible for performing an oversight role by reviewing and monitoring the financial accounting, and auditing procedures of the Corporation in addition to reviewing the Corporation’s financial reports. The independent auditors and the internal auditors have full and unlimited access to the Audit and Compliance Committee, with or without the presence of the management of the Corporation, to discuss the adequacy of internal control over financial reporting, and any other matters which they believe should be brought to the attention of the Audit and Compliance Committee.

O.R. Barham, Jr.	Jeffrey W. Farrar
President and Chief Executive Officer	Executive Vice President and Chief Financial Officer
Date: March 14, 2005	Date: March 14, 2005

EX-21

Exhibit 21

Subsidiaries of Registrant

Planters Bank & Trust Company of Virginia

Planters Insurance Agency, Inc.

Second Bank & Trust

Second Service Company

Virginia Heartland Bank

Virginia Heartland Service Corporation

Virginia Commonwealth Trust Company

VFG Limited Liability Trust

EX-23

EXHIBIT 23

CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

We hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (No. 333-83410) and Form S-4 (No. 333-69216), of our report, dated February 21, 2005, relating to the consolidated financial statements of Virginia Financial Group, Inc. and subsidiaries, included in the 2004 Annual Report of Shareholders and incorporated by reference in the Annual Report on Form 10-K for the year ended December 31, 2004.

/s/ Yount, Hyde & Barbour, P.C.

Winchester, Virginia

March 15, 2005

EX-31.1

Exhibit 31. 1

CERTIFICATIONS

I, O. R. Barham, Jr., certify that:

1. I have reviewed this annual report on Form 10-K of Virginia Financial Group, 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 (the registrant’s fourth fiscal quarter in the case of an annual report) 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 the registrant’s board of directors (or persons performing the equivalent functions):

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

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

Date: March 14, 2005

/s/ O. R. Barham, Jr.

O. R. Barham, Jr.

President & Chief Executive Officer

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EX-31.2

Exhibit 31. 2

I, Jeffrey W. Farrar, certify that:

1. I have reviewed this annual report on Form 10-K of Virginia Financial Group, 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 (the registrant’s fourth fiscal quarter in the case of an annual report) 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 the registrant’s board of directors (or persons performing the equivalent functions):

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

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

Date: March 14, 2005

/s/ Jeffrey W. Farrar

Jeffrey W. Farrar, CPA

Executive Vice President and Chief Financial Officer

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EX-32

Exhibit 32

Section 1350 Certifications

Certification 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

The undersigned, as the Chief Executive Officer and Chief Financial Officer of Virginia Financial Group, Inc., respectively, certify that the Annual Report on Form 10-K for the year ended December 31, 2004, which accompanies this certification fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 and the information contained in the Annual Report on Form 10-K fairly presents, in all material respects, the financial condition and results of operations of Virginia Financial Group, Inc.

Date: March 14, 2005	/s/ O. R. Barham, Jr.
	President and Chief Executive Officer
Date: March 14, 2005	/s/ Jeffrey W. Farrar
	Executive Vice President and Chief Financial Officer

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

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