10-K

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-K

þ ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2004

OR

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

For the transition period from______________to____________

Commission File Number 0-15137

MASSBANK Corp.

(Exact name of registrant as specified in its charter)

Delaware
(State or other jurisdiction of
incorporation or organization) 04-2930382
(I.R.S. Employer
Identification No.)

123 HAVEN STREET
Reading, Massachusetts
(Address of principal executive offices)
01867
(Zip Code)

Registrant’s telephone number, including area code: (781) 662-0100

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

None

Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.00 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 þ  No o

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

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934. Yes þ  No o

     As of February 28, 2005, there were 4,405,542 shares of the registrant’s common stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

     Portions of MASSBANK Corp.’s 2004 Annual Report to Stockholders are incorporated by reference in Parts I, II, III and IV of this Form 10-K. Portions of the Definitive Notice of Annual Meeting and Proxy Statement for the 2005 Annual Meeting of Stockholders are incorporated by reference into Part III of this Form 10-K.

     The aggregate market value of the registrant’s voting and non-voting common stock held by non-affiliates of the registrant, computed by reference to the closing price per share of common stock on June 30, 2004, the last day of the registrant’s most recently completed second fiscal quarter, as reported on the NASDAQ National Market, was $134,731,573. Although directors and executive officers of the registrant were assumed to be “affiliates” of the registrant for the purposes of this calculation, this classification is not to be interpreted as an admission of such status.

FORM 10-K
MASSBANK Corp.
For the Year Ended December 31, 2004

TABLE OF CONTENTS

	Page
Description	Number
Part 1
Item 1 Business		4
Executive Officers of the Registrant		26
Item 2 Properties		28
Item 3 Legal Proceedings		28
Item 4 Submission of Matters to a Vote of Security Holders		28
Part II
Item 5 Market for the Registrant’s Common Stock and Related Stockholder Matters		29
Item 6 Selected Financial Data		30
Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations		30
Item 7A Quantitative and Qualitative Disclosures about Market Risk		30
Item 8 Financial Statements and Supplementary Data		30
Item 9 Changes in and Disagreements with Independent Registered Public Accounting Firm on Accounting and Financial Disclosure		31
Item 9A Controls and Procedures		31
Part III
Item 10 Directors and Executive Officers of the Registrant		31
Item 11 Executive Compensation		31
Item 12 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters		31
Item 13 Certain Relationships and Related Transactions		32
Item 14 Principal Accountant Fees and Services		32
Part IV
Item 15 Exhibits and Financial Statement Schedules		32
Signatures		36
Ex-13 2004 Annual Report
Ex-21 Subsidiaries of the Registrant
Ex-23 Consent of KPMG LLP
Ex-31.1 Sect. 302 Certification of the C.E.O.
Ex-31.2 Sect. 302 Certification of the C.F.O.
Ex-32.1 Sect. 906 Certification of the C.E.O.
Ex-32.2 Sect. 906 Certification of the C.F.O.

2

Forward-Looking Statement Disclosure.

     This Annual Report on Form 10-K may contain forward-looking information, including information concerning the Company’s expectations of future business prospects. These forward-looking statements are made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. The Company may also make forward-looking statements in other documents filed with the Securities and Exchange Commission (“SEC”), in its annual and quarterly reports to stockholders, in press releases and other written materials, and in oral statements made by the Company’s officers, directors or employees. You can identify forward-looking statements by the use of the words “may”, “could”, “should”, “believe”, “expect”, “anticipate”, “intend”, “estimate”, “assume”, “will”, “would”, and other expressions which predict or indicate future events and trends and which do not relate to historical matters. These forward-looking statements involve known and unknown risks, uncertainties, and other factors that may cause the Company’s actual results or performance to be materially different from the results and performance expressed or implied by the forward- looking statements. Forward-looking statements include, but are not limited to, statements concerning the Company’s belief, expectations or intentions concerning the Company’s future performance, the financial outlook of the markets it serves and the performance and activities of its competitors. These statements reflect the Company’s current views, are based on numerous assumptions and are subject to numerous risks and uncertainties, and other factors including but not limited to the following:

-   The strength of the local economy and the U.S. economy in general;

-   Unexpected fluctuations in market interest rates;

-   Unexpected fluctuations in the market for equities, bonds, federal funds and other financial instruments;

-   An increase in the level of non-performing assets;

-   An increase in competitive pricing pressures within the Company’s market which may result in the following:

•   An increase in the Company’s cost of funds;

•   A decrease in loan originations;

•   A decrease in deposits; and

•   Limit the ability of the Company to attract and retain banking customers;

-   Adverse legislative or regulatory developments;

-   A significant decline in residential real estate values in the Company’s market area.

-   Adverse impacts resulting from the continuing war on terrorism;

-   An increase in other employee-related costs; and

-   The impact of deflation or inflation, and other factors described in the Company’s annual report.

Internet Access

     The Company maintains a website at www.MASSBANK.com. The Company will make available free of charge on or through its website its annual reports on Form 10-K, its quarterly reports on Form 10-Q, its current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (Exchange Act) as soon as reasonably practicable following its filing of the same with the SEC. In addition, the Company’s code of ethics is posted on the Company’s website.

3

PART I

Item 1. Business

Business of MASSBANK Corp.

General

     MASSBANK Corp. (sometimes referred to as the Company) is a general business corporation incorporated under the laws of the State of Delaware on August 11, 1986. MASSBANK Corp. was organized for the purpose of becoming the holding company for MASSBANK (the “Bank”). The Company is a one-bank holding company registered with the Board of Governors of the Federal Reserve System (Federal Reserve Board) under the Bank Holding Company Act of 1956, as amended. As of and since December 2, 1986, the effective date of the reorganization whereby MASSBANK Corp. became the holding company for the Bank, the Bank has been a wholly owned subsidiary of MASSBANK Corp. The only office of MASSBANK Corp., and its principal place of business, is located at the main office of the Bank at 123 Haven Street, Reading, Massachusetts 01867.

     MASSBANK Corp. currently has no material assets other than its investment in the Bank. The Company’s primary business, therefore, is managing its investment in the stock of the Bank. MASSBANK Corp. is classified by the Commonwealth of Massachusetts as a securities corporation for tax purposes which restricts its business to buying, selling, dealing in, or holding securities on its own behalf. In the future, MASSBANK Corp. may become an operating company or acquire banks or companies engaged in bank-related activities. In addition, MASSBANK Corp. may elect to become a financial holding company and to engage in activities permissible to financial holding companies. See “Supervision and Regulation of the Company and its Subsidiaries.”

     The principal sources of revenues for MASSBANK Corp. are dividends from the Bank and, to a lesser extent, interest income received from its interest- bearing bank deposits. These revenues are used primarily for the payment of dividends to stockholders and for the repurchase of stock pursuant to the Company’s stock repurchase program. MASSBANK Corp.’s assets at December 31, 2004 are represented by its investment in the Bank of $105.3 million, interest- bearing bank deposits of $4.2 million and other assets of $0.5 million. See Note 17 to the Consolidated Financial Statements for Parent Company only financial information. At December 31, 2004, MASSBANK Corp. on a consolidated basis had total assets of $976.2 million, deposits of $849.5 million, and stockholders’ equity of $110.0 million which represents 11.27% of total assets. Book value per share at December 31, 2004 stood at $25.11, compared to $25.17 at year-end 2003.

     The Company does not own or lease any real estate or personal property. Instead it intends to utilize during the immediate future the premises, equipment and furniture of the Bank without the direct payment of rental fees to the Bank.

Competition

     The primary business of MASSBANK Corp. currently is the ongoing business of the Bank. Therefore, the competitive conditions faced by MASSBANK Corp. currently are the same as those faced by the Bank. See “Business of MASSBANK - - Competition.” In addition, many banks and financial institutions have formed holding companies. It is likely that these holding companies will attempt to acquire commercial banks, thrift institutions or companies engaged in bank-related activities. MASSBANK Corp. would face competition in undertaking any such acquisitions and in operating any such entity subsequent to its acquisition.

4

Employees

     MASSBANK Corp. does not employ any persons other than its management which also serves as management of, and is paid by, the Bank. See “Item 10 – Directors and Executive Officers of the Registrant.” MASSBANK Corp. utilizes the support staff of the Bank from time to time and paid the Bank $12,000 in 2004 for the support.

Dividends

     MASSBANK Corp. paid total cash dividends of $1.00 per share in 2004 compared to $0.92 per share in 2003. The Company’s dividend payout ratios (cash dividends paid divided by net income) for 2004 and 2003 were 60% and 52%, respectively.

5

Business of MASSBANK

General

     MASSBANK is a Massachusetts-chartered savings bank founded in 1872 as the Melrose Savings Bank. In 1983, the Reading Savings Bank was merged with and into the Melrose Savings Bank and the name of the resulting institution was changed to MASSBANK for Savings. In 1986, the Bank converted from mutual to stock form of ownership. In 1996, the name of the bank was changed from “MASSBANK for Savings” to “MASSBANK”.

     The Bank is primarily engaged in the business of attracting deposits from the general public through its fifteen full service banking offices in Reading, Chelmsford, Dracut, Everett, Lowell, Medford, Melrose, Stoneham, Tewksbury, Westford and Wilmington, and originating residential and commercial real estate mortgages, construction loans, commercial loans, and a variety of consumer loans. The Bank invests a significant portion of its funds in U.S. Treasury and Government agency securities (including callable agency securities), mortgage-backed securities, federal funds sold, and other authorized investments. The Bank also invests a portion of its funds in equity securities traded on a national securities exchange or quoted on the NASDAQ System. The Bank’s earnings depend largely upon net interest income, which is the difference between the interest and dividend income derived by the Bank from its loans and investments (interest-earning assets) and the interest paid by the Bank on its deposits (interest-bearing liabilities). Net interest income is significantly affected by general economic conditions, particularly changes in interest rates, competition, government legislation and policies affecting fiscal affairs, monetary policies of the Federal Reserve System, and the actions of the bank regulatory authorities. Earnings results are also affected by the Company’s provisions (credit) for loan losses; loan and investment activities, particularly residential mortgage loan and mortgage-backed securities prepayment activity; changes in non-interest income, such as fee-based revenues and securities gains or losses; non-interest expense; and income taxes.

     The Bank’s deposits are insured to applicable limits by the Bank Insurance Fund (BIF) of the Federal Deposit Insurance Corporation (the FDIC) and excess deposit balances are insured by the Depositors Insurance Fund, Inc. (DIF), a private industry-sponsored deposit insurer.

     The Bank recognizes that loan and investment opportunities change over time and that yields derived from such opportunities can vary significantly even when the risks associated with those opportunities are comparable. By developing a relatively liquid loan and investment portfolio, the Bank has attempted to position itself so as to be able to take advantage of these changing opportunities. Consequently, the Bank expects that the relative mix of its loan and investment portfolios will change over time in response to changing market conditions.

6

Market Area

     The Bank is headquartered in Reading, Massachusetts, which is located approximately 15 miles north of Boston. The Bank’s market area includes a significant portion of eastern Massachusetts and is served by a network of 15 branch offices located on a broad arc stretching from Medford and Everett in the south, Dracut in the north, and Westford in the west.

     The Bank’s general market area consists of the municipalities in which it operates banking offices and all of the contiguous cities and towns.

     The Bank currently operates banking offices in the municipalities of Chelmsford, Dracut, Everett, Lowell, Medford, Melrose, Reading, Stoneham, Tewksbury, Westford and Wilmington.

Lending Activities

     The Bank’s net loan portfolio totaled $234.9 million at December 31, 2004.

The following table sets forth information concerning the Bank’s loan portfolio by type of loan at the dates shown:

(In thousands) At December 31,	2004			2003			2002			2001			2000
Mortgage loans:
Residential:
Conventional	$	224,542		$	240,443		$	300,528		$	293,764		$	269,859
FHA and VA		45			84			133			259			471
Commercial		1,623			1,601			2,348			2,641			3,117
Construction		84			81			654			993			683
Total mortgage loans		226,294			242,209			303,663			297,657			274,130
Premium on loans		5			10			20			51			105
Deferred mortgage loan origination fees		(102	)		(333	)		(895	)		(1,239	)		(1,284	)
Mortgage loans, net		226,197			241,886			302,788			296,469			272,951
Other loans:
Consumer:
Installment		327			415			798			1,178			1,829
Guaranteed education		1,616			2,333			3,293			4,937			6,266
Other secured		504			518			515			873			1,169
Home equity lines of credit		7,284			7,549			11,102			12,271			12,624
Unsecured lines of credit		161			166			187			201			224
Total consumer loans		9,892			10,981			15,895			19,460			22,112
Commercial		109			139			116			15,088			15,084
Total other loans		10,001			11,120			16,011			34,548			37,196
Total loans		236,198			253,006			318,799			331,017			310,147
Allowance for loan losses (1)		(1,307	)		(1,554	)		(2,271	)		(2,494	)		(2,594	)
Net loans	$	234,891		$	251,452		$	316,528		$	328,523		$	307,553

(1)   The allowance for loan losses for 2002 and 2001 has been restated to reflect the reclassification of the allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) and to facilitate comparison with the current fiscal year.

7

     The following table shows the maturity distribution and interest rate sensitivity of the Bank’s loan portfolio at December 31, 2004:

	Maturity/Scheduled Payments (1)
	Within		One to		Five to		After
(In thousands)	one year		five years		ten years		ten years		Total
Mortgage loans:
Residential	$	115	$	11,083	$	64,880	$	148,421	$	224,499
Commercial & construction		12		106		508		1,072		1,698
Total mortgage loans		127		11,189		65,388		149,493		226,197
Other loans		393		3,801		4,761		1,046		10,001
Total loans	$	520	$	14,990	$	70,149	$	150,539	$	236,198

(1)   Loan amounts are accumulated as if the entire balance came due on the last contractual payment date. Accordingly, the amounts do not reflect proceeds from contractual loan amortization or anticipated prepayments.

     The following table shows the amounts, included in the table above, which are due after one year and which have fixed or adjustable interest rates:

	Total Due After One Year
		Fixed		Adjustable
(In thousands)		Rate		Rate		Total
Mortgage loans:
Residential		$	202,861	$	21,523	$	224,384
Commercial & construction			84		1,602		1,686
Total mortgage loans			202,945		23,125		226,070
Other loans			833		8,775		9,608
Total loans		$	203,778	$	31,900	$	235,678

     Mortgage Lending. The Bank believes that the repayment periods of long-term first mortgage loans, the general resistance of the public in our market area to variable rate mortgage instruments and the highly competitive nature of the mortgage industry require a prudent approach to mortgage lending. Consequently, as part of its policy of generally attempting to match the maturities of its assets and its liabilities, the Bank has attempted to keep its mortgage loan portfolio to a level at which the Bank believes there is an acceptable risk-to-reward ratio in light of opportunities in the market-place and its long-term objectives. In 2004, however, the Bank’s mortgage loan portfolio decreased $15.7 million or 6.5%. At December 31, 2004 the mortgage loan portfolio totaled $226.2 million compared to $241.9 million at December 31, 2003. The decrease in loans is principally due to loan principal payments, paydowns and payoffs combined with a decline in loan origination activity. Loan originations totaled $60.3 million in 2004, down 27.0% from $82.6 million in 2003. In today’s economic climate, there is a tremendous amount of competition for mortgages in the Bank’s area. Consequently, increasing the size of the loan portfolio will take time. In the meantime, short-term mortgage-backed securities may be used as substitutes for loans as certain of their financial characteristics are very similar to short-term mortgage loans. If interest rates increase in 2005 and the shape of the yield curve is positive, the Bank will likely add mortgage-backed securities to its portfolio.

8

Mortgage Lending (continued)

     Loan originations come from a number of sources, including referrals from real estate brokers, walk-in customers, purchasers of property owned by existing customers and refinancings for existing customers. In addition to actively soliciting loan applications, the Bank conducts an advertising and promotion program, directed both toward the general public and real estate professionals who might refer potential borrowers.

     Substantially all of the real estate loans originated by the Bank during 2004 were secured by real estate located in the Bank’s primary lending area, reflecting the Bank’s commitment to serve the credit needs of the local communities in which it operates banking offices.

     The Bank makes both conventional fixed and adjustable-rate loans on one- to-four family residential properties for a term of ten to thirty years. The Bank currently retains all of the mortgages it originates for its own portfolio. These are primarily 10, 12, 15 or 20 year fixed rate and adjustable rate mortgages (ARMs). The few long-term (30 year) fixed rate mortgage loans that the Bank originates from time to time are also added to the loan portfolio. Adjustable rate mortgage loans have rates that are re-set at either 1, 3, 5, 7 or 10 year intervals and are indexed to various financial indices.

     In addition to its traditional mortgage products, the Bank offers several other loan programs which have been well received by customers. It offers ARM programs featuring an initial fixed rate for 5 or 7 years and a 1 year adjustable rate thereafter. A special first time home buyers program has also been instituted featuring a discounted ARM. This program is designed for first- time home buyers meeting certain income and property location criteria.

     At December 31, 2004, 1-4 family residential mortgage loans totaled $224.5 million, or 95.0% of the total loan portfolio, compared to $240.2 million, or 94.9% of the total loan portfolio, at December 31, 2003. Residential mortgage and construction loan originations decreased to $53.7 million in 2004, from $74.9 million in 2003. Much of this volume was due to mortgage refinancing. Origination volumes are sensitive to interest rates and are affected by the interest rate environment. The low interest rate environment in 2004 created demand for mortgage refinancings, but also a high level of loan paydowns and payoffs for the Bank. Although the Bank originated $53.1 million in residential mortgage loans in 2004, it saw its residential mortgage loan portfolio decline as a result of the prepayment activity.

     The Bank also originates construction loans and mortgage loans secured by commercial or investment property. The commercial and multifamily real estate mortgages and construction loans totaled approximately $1.7 million, or 0.7% of the total loan portfolio at December 31, 2004. In 2004 construction loan originations amounted to $0.6 million. There were no commercial real estate mortgage loan originations in 2004 or 2003.

9

Mortgage Lending (continued)

     The total amount of first mortgage loans held by the Bank at December 31, 2004 was $226.2 million as indicated in the maturity distribution table appearing on page nine. Of this amount, $23.1 million was subject to interest rate adjustments. The remaining $203.1 million represents fixed rate mortgage loans, which constitute 86.0% of the Company’s total loans.

     Fees received for originating loans and related direct incremental loan origination costs are offset and the resulting net amount is deferred and amortized over the life of the related loans.

     The Bank also receives fees relating to existing loans, primarily late charges and prepayment penalties.

     Other Loans. The Bank makes a variety of consumer loans and had a consumer loan portfolio of approximately $9.9 million at December 31, 2004 representing 4.2% of the Bank’s total loan portfolio. Of this amount, $1.6 million or 0.7% of the total loan portfolio are education loans guaranteed by the American Student Assistance Services Corporation.

     The balance of the Bank’s consumer loan portfolio consists of home equity lines of credit and consumer loan contracts such as automobile loans, home improvement loans and other secured and unsecured financings. These loans totaled $8.3 million at December 31, 2004, representing 3.5% of the Bank’s total loan portfolio.

     At December 31, 2004, the Bank also had $0.1 million in outstanding loans to commercial enterprises not secured by real estate.

     Loan Approval. The Bank’s loan approval process for all loans generally includes a review of an applicant’s financial statements, credit history, banking history and verification of income. For mortgage loans, the Bank generally obtains an independent appraisal of the subject property. The Bank has a formal lending policy approved by the Board of Directors of the Bank which delegates levels of loan approval authority to Bank personnel. All loans in excess of established limits require approval of the Bank’s Board of Directors.

     The Bank issues commitments to prospective borrowers to make loans subject to certain conditions for generally up to 60 days. The interest rate applicable to the committed loans is usually the rate in effect at the time a rate lock fee is paid. At December 31, 2004, the Bank had issued commitments on residential first mortgage loans totaling $3,811,000, and had commitments to advance funds on construction loans and unused credit lines, including unused portions of home equity lines of credit, of $89,000 and $33,909,000, respectively. In addition, the Bank had commitments to provide $3,926,000, which represents its participating share of the funding for an affordable housing project in Lowell, Massachusetts, $45,000 in commitments to advance funds for business development in downtown Lowell and unused commercial loan credit lines of $55,000.

     Loan Delinquencies. It is the Bank’s policy to manage its loan portfolio so as to recognize problem loans at an early stage and thereby minimize loan losses. Loans are considered delinquent when any payment of principal or interest is one month or more past due. The Bank generally commences collection procedures, however, when accounts are 15 days past due. It is the Bank’s practice to generally discontinue accrual of interest on all loans for which payments are 90 days or more past due. Loans with delinquent payments 90 or more days past due, as shown in the table on the following page, totaled $74,000 at December 31, 2004, down from $230,000 at year-end 2003.

10

Real Estate Acquired through Foreclosure.

     Real estate acquired through foreclosure is comprised of foreclosed properties where the Bank has actually received title and loans determined to be substantially repossessed. Real estate loans that are substantially repossessed include only those loans for which the Bank has taken possession of the collateral but has not completed legal foreclosure proceedings. Loan losses arising from the acquisition of such properties are charged against the allowance for loan losses. Real estate acquired through foreclosure is recorded at the lower of the carrying value of the loan or the fair value of the property constructively or actually received, less estimated costs to sell the property following foreclosure. Operating expenses and any subsequent provisions to reduce the carrying value to fair value are charged to current period earnings. Gains or losses upon disposition are reflected in earnings as realized. At year-end 2004, MASSBANK had no real estate acquired through foreclosure.

Non-Performing Assets

     The following table shows the composition of non-performing assets at the dates shown:

(In thousands) At December 31,	2004			2003			2002			2001			2000
Nonaccrual loans:
Mortgage loans:
Residential:
Conventional	$	41		$	152		$	269		$	477		$	386
FHA and VA		—			—			2			4			8
Consumer		33			78			149			163			171
Total nonaccrual loans		74			230			420			644			565
Total non-performing assets	$	74		$	230		$	420		$	644		$	565
Percent of non-performing loans to total loans		0.03	%		0.09	%		0.13	%		0.19	%		0.18	%
Percent of non-performing assets to total assets		0.01	%		0.02	%		0.04	%		0.07	%		0.06	%

     The reduction in interest income associated with nonaccrual loans is as follows:

(In thousands) Years Ended December 31,	2004		2003			2002		2001		2000
Interest income that would have been recorded under original terms	$	4	$	17		$	31	$	60	$	48
Interest income actually recorded		1		20			27		37		36
Reduction (increase) in interest income	$	3	$	(3	)	$	4	$	23	$	12

11

Allowance for Loan Losses and Allowance for Loan Losses on Off-Balance Sheet Credit Exposures

     The Company maintains an allowance for probable losses that are inherent in the Company’s loan portfolio. The allowance for loan losses is increased (decreased) by provisions (credits) charged to operations based on the estimated loan loss exposure inherent in the portfolio. Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for purposes of establishing a sufficient allowance for loan losses. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various loan types based on loss experience factors and an unallocated allowance which is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may effect borrowers’ ability to pay, and trends in loan delinquencies and charge-offs. Realized losses, net of recoveries, are charged directly to the allowance. While management uses the information available in establishing the allowance for loan losses, future adjustments to the allowance may be necessary if economic conditions differ from the assumptions used in making the evaluation. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance based on judgments different from those of management. In 2004, the Bank recorded a negative provision for loan losses of $242 thousand due to the quality of loans in the portfolio and a decrease in the size of the Bank’s loan portfolio. This compares to a negative provision for loan loses of $502 thousand in 2003

     The Company also maintains an allowance for probable losses on its outstanding loan commitments. The allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) is maintained based on expected drawdowns of committed loans and their loss experience factors and management’s assessment of various other factors including current and anticipated economic conditions that may effect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.

     The allowance for loan losses on off-balance sheet credit exposures totaled $588 thousand and $626 thousand, respectively, at December 31, 2004 and 2003. In 2004, the Company recorded a negative provision for off-balance sheet credit exposures of $39 thousand compared to a provision of $16 thousand in 2003. The credit or provision is included in other non-interest expense.

The following table sets forth the activity in the allowance for loan losses during the years indicated:

(In thousands) Years ended December 31,	2004			2003			2002			2001			2000
Balance at beginning of year	$	1,554		$	2,271		$	2,494		$	2,594		$	2,555
Provision (credit) for loan losses		(242	)		(502	)		—			40			60
Transfer to allowance for loan losses on off-balance sheet credit exposures		—			(226	)		(235	)		(149	)		—
Charge-offs: Consumer loans		(5	)		(4	)		(4	)		(22	)		(24	)
Recoveries:
Residential real estate		—			—			6			25			2
Commercial real estate		—			—			—			5			—
Consumer loans		—			15			10			1			1
Net recoveries (charge-offs)		(5	)		11			12			9			(21	)
Balance at end of year	$	1,307		$	1,554		$	2,271		$	2,494		$	2,594
Allowance for loan losses as a percent of total loans outstanding at year-end		0.55	%		0.61	%		0.83	%		0.80	%		0.84	%
Allowance for loan losses as a percent of nonaccrual loans		1766.2	%		675.7	%		632.1	%		10.4	%		459.1	%

12

Investment Activities

     The Bank believes that investment opportunities in United States Government, corporate and other securities are at times more attractive than the opportunities present in the loan market. As compared to loans, these investments of the Bank are generally shorter-term and hence more liquid, are subject to lower risk of loss, and present an opportunity for appreciation. In addition, these investments often permit the Bank to better match the maturities of its assets and its liabilities.

     The Bank’s investment portfolio is managed by its officers in accordance with an investment policy approved by the Bank’s Board of Directors. The objectives of that policy are to provide a level of liquidity, earnings and diversification consistent with the exercise of prudent investment judgment. The policy authorizes the senior management of the Bank to make and execute investment decisions and requires that those persons report all investment transactions to the Bank’s Board of Directors at each of its regular meetings. In addition, management is required to report all gains or losses on all securities transactions at each meeting of the Bank’s Board of Directors. Purchases and sales of securities by the Bank are generally required to be made on a competitive basis and all investments must be permitted by applicable law.

     The Bank invests in a wide variety of securities and obligations, including: Federal funds sold (which are sold only to institutions included on the Bank’s internally-prepared approved list of adequately capitalized institutions); commercial paper and bankers’ acceptances; United States Treasury and Government agency obligations (including callable agency securities); United States agency guaranteed and other mortgage-backed securities; investment grade corporate debt securities (generally limited to those rated A or better by Standard & Poor’s); mutual funds; and equity securities traded on a national securities exchange or quoted on the NASDAQ System.

     Under the investment policy management determines the appropriate classification of securities at the time of purchase. Those debt securities that the Company has the intent and the ability to hold to maturity are classified as securities held to maturity and are carried at amortized historical cost.

     Those securities held for indefinite periods of time and not intended to be held to maturity are classified as available for sale. Securities held for indefinite periods of time include securities that management intends to use as part of its asset/liability management strategy and that may be sold in response to changes in market conditions, interest rates, prepayment risk, the need to increase regulatory capital and other factors. The Company records investment securities available for sale at aggregate market value with the net unrealized holding gains or losses reported, net of tax effect, as a separate component of stockholders’ equity until realized. As of December 31, 2004, stockholders’ equity included accumulated other comprehensive income of approximately $1.8 million, representing the net unrealized gains on securities available for sale, less applicable income taxes.

     Securities that are bought and held principally for the purpose of sale in the near term are classified as trading securities. Trading generally reflects active and frequent buying and selling, and trading securities are generally used with the objective of generating profits on short-term differences in price caused by market volatility. Investments classified as trading securities are stated at market value with unrealized gains and losses included in earnings.

13

Investment Activities (continued)

     Income on debt securities available for sale is accrued and included in interest and dividend income.

     The specific identification method is used to determine realized gains or losses on sales of securities available for sale which are also reported in non-interest income under the caption “gains on securities available for sale, net.” When a security suffers a loss in value which is considered other than temporary, such loss is recognized by a charge to earnings.

     Most of the Company’s mortgage-backed securities are currently classified as available for sale. At times of low loan demand, short-term mortgage-backed securities may be used as substitutes for loans as certain of their financial characteristics are very similar to short-term mortgage loans.

     At December 31, 2004, the Company’s investments, which consist of securities available for sale (including mortgage-backed securities), securities held to maturity, trading securities, short-term investments (including federal funds sold) and interest-bearing deposits in banks totaled $704.6 million, representing 72.2% of the Company’s total assets.

14

     The following table sets forth the composition of the Company’s investment portfolio as of the dates indicated:

Investment Portfolio

(In thousands) At December 31,	2004			2003			2002
Federal funds sold:
Overnight federal funds	$	193,728		$	145,684		$	221,586
Term federal funds		—			45,000			—
Total federal funds sold		193,728			190,684			221,586
Money market investment funds		302			23,337			27,077
Interest-bearing deposits in banks:
Money market accounts		220			511			87
Certificates of deposit		2,718			5,685			4,854
Total short-term investments and interest-bearing bank deposits	$	196,968		$	220,217		$	253,604
Percent of total assets		20.2	%		21.8	%		25.1	%

(In thousands) At December 31,	2004			2003			2002
Securities held to maturity: (a)
Mortgage-backed securities	$	4,877			—			—
Securities available for sale: (b)(c)
U.S. Treasury obligations		125,097		$	123,642		$	103,246
U.S. Government agency obligations		188,519			198,463			73,838
Equity securities		7,428			11,466			13,833
Mortgage-backed securities		122,709			95,658			189,105
Total securities available for sale		443,753			429,229			380,022
Trading securities: (b)
U.S. Treasury obligations		57,878			72,408			36,228
Equity securities		1,131			222			19
Investments in mutual funds		4			3			2
Total trading securities		59,013			72,633			36,249
Total securities	$	507,643		$	501,862		$	416,271
Percent of total assets		52.0	%		49.7	%		41.2	%
Total investments	$	704,611		$	722,079		$	669,875
Total investments as a percent of total assets		72.2	%		71.4	%		66.4	%

(a)	At amortized cost.
(b)	At market value.
(c)	The market value of callable agency securities included in securities available for sale at December 31, 2004, 2003 and 2002, totaled $158.8 million, $192.4 million and $73.8 million, respectively.

15

     The following table presents the amortized cost of debt securities available for sale at December 31, 2004 maturing within stated periods with the weighted average interest yield from securities falling within the range of maturities:

Debt Securities Available for Sale

				U.S.
	U. S.			Government			Mortgage-
	Treasury			agency			backed
(Dollars in thousands)	obligations			obligations (2)			securities (1)			Total
Maturing within 1 year
Amount	$	77,895		$	10,010		$	7		$	87,912
Yield		2.10	%		1.99	%		9.25	%		2.09	%
Maturing after 1 but within 5 years
Amount		45,633			155,987			7,988			209,608
Yield		2.74	%		3.04	%		6.54	%		3.11	%
Maturing after 5 but within 10 years
Amount		1,963			23,995			28,829			54,787
Yield		4.30	%		4.30	%		6.64	%		5.53	%
Maturing after 10 but within 15 years
Amount		—			40			81,755			81,795
Yield		—			4.20	%		5.20	%		5.19	%
Maturing after 15 years
Amount		—						199			199
Yield		—						4.72	%		4.72	%
Total
Amount	$	125,491		$	190,032		$	118,778		$	434,301
Yield		2.36	%		3.14	%		5.63	%		3.60	%

(1)	Mortgage-backed securities are shown based on contractual maturities. Actual maturities will differ from contractual maturities due to scheduled amortization and prepayments.
(2)	The amortized cost of callable securities included in securities available for sale totaled $160.0 million as of December 31, 2004.

     At December 31, 2004, the Company did not have an investment in any issuer (other than securities of the U.S. Government and Government Agencies) in excess of 10% of stockholders equity.

16

Deposits and Other Sources of Funds

     General. Deposits have been the Bank’s primary source of funds for making investments and loans. In addition to deposits, the Bank’s other major sources of funds are derived from amortization and prepayment of loans and mortgage-backed securities, from sales, calls or maturities of investment securities, and from operations. Deposit flows can vary significantly and are influenced by prevailing interest rates, money market conditions, economic conditions and competition. The Bank can respond to changing market conditions and competition through the pricing of its deposit accounts. Management can attempt to control the level of its deposits to a significant degree through its pricing policies. Another important factor in attracting deposits is convenience. In addition to the Bank’s fifteen conveniently located banking offices, customers can access accounts through the Bank’s Automated Teller Machine (ATM) network. The Bank is a member of the Transaxion (TX), NYCE and CIRRUS System, Inc. (CIRRUS) networks which allow access to ATMs in over 100,000 locations worldwide. Additionally, MASSBANK has joined with over 400 other financial institutions to form the SUM Program. This program allows MASSBANK customers to access over 2,500 SUM ATM’s throughout the Northeast and Midwest without having to pay an access or surcharge fee.

     Deposits. A substantial amount of the Bank’s deposits are derived from customers who live or work within the Bank’s market area. The Bank does not solicit deposits through any outside agents. The Bank’s deposits at December 31, 2004 consist of regular, silver and smart savings accounts, holiday club savings accounts, NOW and Super NOW accounts, regular and business checking accounts, money market deposit accounts, IRA and Keogh accounts, and term deposit accounts.

     Deposits decreased by $33.0 million or 3.7% to $849.5 million at December 31, 2004, from $882.5 million at year-end 2003. Management believes that increased competition for deposits and more attractive returns from alternative investments, such as stocks and mutual funds, were the principal reasons for deposit outflows. These competing investment vehicles have recently produced higher returns than bank deposits.

     Borrowed Funds. From time to time the Bank has obtained funds through repurchase agreements with its customers and federal funds purchased. The Bank also has the ability, although it has never exercised it, to borrow from the Federal Reserve Bank and The Depositors Insurance Fund, Inc. The Bank did not have any borrowed funds in 2004 or 2003.

17

DEPOSITS

     The following table shows the composition of the deposits as of the dates indicated:

	2004					2003					2002
			Percent					Percent					Percent
			of					of					of
(In thousands) at December 31,	Amount		Deposits			Amount		Deposits			Amount		Deposits
Demand and NOW
NOW	$	58,991		6.95	%	$	56,108		6.36	%	$	57,293		6.48	%
Demand accounts (non interest-bearing)		28,662		3.37			28,948		3.28			28,034		3.17
Total demand and NOW		87,653		10.32			85,056		9.64			85,327		9.65
Savings:
Regular savings and special notice accounts		549,657		64.71			595,575		67.49			535,122		60.54
Money market accounts		11,656		1.37			12,256		1.39			13,825		1.57
Total savings		561,313		66.08			607,831		68.88			548,947		62.11
Time certificates of deposit:
Fixed rate certificates		145,249		17.10			129,210		14.64			170,527		19.29
Variable rate certificates		55,250		6.50			60,411		6.84			79,127		8.95
Total time certificates of deposit		200,499		23.60			189,621		21.48			249,654		28.24	%
Total deposits	$	849,465		100.00	%	$	882,508		100.00	%	$	883,928		100.00	%

     In the following table the average amount of deposits and average rate is shown for each of the years as indicated.

	2004					2003					2002
	Average		Average			Average		Average			Average		Average
(In thousands) Years Ended December 31,	Balance		Rate			Balance		Rate			Balance		Rate
NOW accounts	$	56,273		0.30	%	$	55,150		0.45	%	$	54,570		0.66	%
Demand (non interest-bearing) accounts		28,020		—			27,483		—			27,329		—
Escrow deposits of borrowers		773		0.27			950		0.16			1,065		0.40
Money market accounts		11,727		0.53			13,466		0.63			14,959		1.41
Savings accounts		573,512		1.48			581,998		1.88			456,775		2.62
Time certificates of deposit		192,386		2.08			213,282		2.15			315,987		3.22
	$	862,691		1.48	%	$	892,329		1.78	%	$	870,685		2.61	%

18

Investment Management and Trust Services

     The Bank’s Trust and Investment Services Division offers a variety of investment, trust and estate planning services and also serves as trustee, executor, and executor’s agent for bank customers.

     As of December 31, 2004 the Trust Division had approximately $25.0 million (market value) of assets in custody and under management.

Competition

     The Bank faces substantial competition both in originating loans and in attracting deposits. Competition in originating loans comes primarily from other thrift institutions, commercial banks, credit unions and mortgage banking companies. The Bank competes for loans principally on the basis of interest rates and loan fees, the types of loans originated and the quality of services provided to borrowers.

     In attracting deposits, the Bank’s primary competitors are other thrift institutions, commercial banks, mutual funds and credit unions located in its market area. The Bank’s attraction and retention of deposits depends on its ability to provide investment opportunities that satisfy the requirements of customers with respect to rate of return, liquidity, risk and other factors. The Bank attracts a significant amount of deposits through its branch offices primarily from the communities in which those branch offices are located. The Bank competes for these deposits by offering competitive rates, convenient branch and ATM locations and convenient business hours.

     The Bank also faces strong competition from banks and other financial services providers in the bank’s market area for both loans and deposits.

19

Supervision and Regulation of the Company and its Subsidiary

     The business in which the Company and its subsidiary are engaged is subject to extensive supervision, regulation and examination by various bank regulatory authorities and other governmental agencies. State and federal banking laws have as their principal objective either the maintenance of the safety and soundness of financial institutions and the federal deposit insurance system or the protection of consumers or classes of consumers, and depositors in particular, rather than the specific protection of stockholders of a bank or its parent company.

     Set forth below is a brief description of certain laws and regulations that relate to the regulation of the Company. To the extent the following material describes statutory or regulatory provisions, it is qualified in its entirety by reference to the particular statute or regulation.

Regulation of the Company. As a registered bank holding company, we are subject to regulation under the Bank Holding Company Act of 1956, as amended, (BHCA) and to inspection, examination and supervision by the Board of Governors of the Federal Reserve System, (FRB). The Company is also subject to laws of the Commonwealth of Massachusetts and the jurisdiction of the Massachusetts Board of Bank Incorporation (BBI) and the Massachusetts Commissioner of Banks (Commissioner). The Company is incorporated in the State of Delaware and is therefore also subject to Delaware corporation law.

The FRB has the authority to issue orders to bank holding companies to cease and desist from unsound banking practices and violations of conditions imposed by, or violations of agreements with, the FRB. The FRB is also empowered to assess civil money penalties against companies or individuals who violate the BHCA or orders or regulations thereunder, to order termination of non-banking activities of non-banking subsidiaries of bank holding companies, and to order termination of ownership and control of a non-banking subsidiary by a bank holding company. Under the BHCA, the Company may not generally engage in activities or acquire more than 5% of any class of voting securities of any company engaged in activities other than banking or activities that are closely related to banking. However, if the Company elects to be treated as a financial holding company, the Company may engage in activities that are financial in nature or incidental or complimentary to such financial activities, as determined by the FRB and the Secretary of the Department of the Treasury. The Company has not elected financial holding company status. Under certain circumstances, the Company may be required to give notice to or seek approval of the FRB before engaging in activities other than banking.

Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994. (Riegle-Neal), Riegle-Neal permits adequately capitalized and adequately managed bank holding companies, as determined by the FRB, to acquire banks in any state subject to certain concentration limits and other conditions. Riegle-Neal also generally authorizes the interstate merger of banks. In addition, among other things, Riegle-Neal permits banks to establish new branches on an interstate basis provided that the law of the host state specifically authorizes such action. However, as a bank holding company, we are required to obtain prior FRB approval before acquiring more than 5% of a class of voting securities, or substantially all of the assets of a bank holding company, bank or savings association.

Control Acquisitions. The Change in Bank Control Act prohibits a person or group of persons from acquiring “control” of a bank holding company, such as the Company, unless the FRB has been notified and has not objected to the transaction. Under a rebuttable presumption established by the FRB, the acquisition of 10% or more of a class of voting securities of a bank holding company with a class of securities registered under Section 12 of the Securities Exchange Act of 1934, as amended, would, under the circumstances set forth in the presumption, constitute acquisition of control of the bank holding company.

20

Supervision and Regulation of the Company and its Subsidiary (continued)

In addition, a company is required to obtain the approval of the FRB under the BHCA before acquiring 25% (5% in the case of an acquirer that is a bank holding company) or more of any class of outstanding voting securities of a bank holding company, or otherwise obtaining control or a “controlling influence” over that bank holding company. Massachusetts law also imposes certain limitations on the ability of persons and entities to acquire control of banking institutions and their parent companies.

Bank Holding Company Dividends. The FRB has authority to prohibit bank holding companies from paying dividends if such payment is deemed to be an unsafe or unsound practice. The FRB has indicated generally that it may be an unsafe or unsound practice for bank holding companies to pay dividends unless the bank holding company’s net income over the preceding year is sufficient to fund the dividends and the expected rate of earnings retention is consistent with the organization’s capital needs, asset quality and overall financial condition. In addition, Delaware corporate law includes limitations on a corporation’s payment of dividends if such dividends exceed the corporation’s surplus or current net profits. The Company depends upon dividends received from its subsidiary bank to fund its activities, including the payment of dividends. As described below, the Federal Deposit Insurance Corporation (FDIC) may regulate the amount of dividends payable by the subsidiary bank. The inability of the bank to pay the dividend may have an adverse effect on the Company.

Regulation of the Bank. The Company’s subsidiary bank (Bank) is subject to regulation, supervision and examination by the Massachusetts Division of Banks (Division) and the FDIC.

Insurance of Accounts and FDIC Regulation. The Bank pays deposit insurance premiums to the FDIC based on an assessment rate established by the FDIC for Bank Insurance Fund-member institutions. The FDIC has established a risk-based premium system under which the FDIC classifies institutions based on their capital ratios and on other relevant factors and generally assesses higher rates on those institutions that tend to pose greater risks to the federal deposit insurance funds. The Federal Deposit Insurance Act (FDIA) does not require the FDIC to charge all banks deposit insurance premiums when the ratio of deposit insurance reserves to insured deposits is maintained above specified levels. However, as a result of general economic conditions and recent bank failures, it is possible that the ratio of deposit insurance reserves to insured deposits could fall below the minimum ratio that FDIA requires, which would result in the FDIC setting deposit insurance assessment rates sufficient to increase deposit insurance reserves to the required ratio. We cannot predict whether the FDIC will be required to increase deposit insurance assessments above their current levels.

Bank Holding Company Support of Subsidiary Banks. Under FRB policy, a bank holding company is expected to act as a source of financial and managerial strength to each of its subsidiary banks and to commit resources to their support. This support may be required at times when the bank holding company may not have the resources to provide it. Similarly, under the cross-guarantee provisions of FDIA, the FDIC can hold any FDIC-insured depository institution liable for any loss suffered or anticipated by the FDIC in connection with (1) the “default” of a commonly controlled FDIC-insured depository institution; or (2) any assistance provided by the FDIC to a commonly controlled FDIC-insured depository institution “in danger of default.” Our subsidiary bank is an FDIC- insured depository institution.

21

Supervision and Regulation of the Company and its Subsidiary (continued)

Regulatory Capital Requirements. The FRB and the FDIC have issued substantially similar risk-based and leverage capital guidelines applicable to United States banking organizations. In addition, these regulatory agencies may from time to time require that a banking organization maintain capital above the minimum levels, whether because of its financial condition or actual or anticipated growth.

The FRB risk-based guidelines define a three-tier capital framework. Tier 1 capital includes common shareholders’ equity and qualifying preferred stock, less goodwill and other adjustments. Tier 2 capital consists of preferred stock not qualifying as Tier 1 capital, mandatory convertible debt, limited amounts of subordinated debt, other qualifying term debt and the allowance for credit losses up to 1.25 percent of risk-weighted assets. Tier 3 capital includes subordinated debt that is unsecured, fully paid, has an original maturity of at least two years, is not redeemable before maturity without prior approval by the FRB and includes a lock-in clause precluding payment of either interest or principal if the payment would cause the issuing bank’s risk-based capital ratio to fall or remain below the required minimum. The sum of Tier 1 and Tier 2 capital less investments in unconsolidated subsidiaries represents qualifying total capital. Risk-based capital ratios are calculated by dividing Tier 1 and total capital by risk-weighted assets. Assets and off-balance sheet exposures are assigned to one of four categories of risk-weights, based primarily on relative credit risk. The minimum Tier 1 capital ratio is four percent and the minimum total capital ratio is eight percent. The Company’s tier 1 capital (to risk-weighted assets) calculation equals 39.16%.

The leverage ratio is determined by dividing Tier 1 capital by adjusted average total assets. Although the stated minimum ratio is 100 to 200 basis points above three percent, banking organizations are required to maintain a ratio of at least five percent to be classified as well capitalized. The Company’s leverage ratio is 11.15%.

The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA), among other things, identifies five capital categories for insured depository institutions (well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized) and requires the federal bank regulatory agencies to implement systems for “prompt corrective action” for insured depository institutions that do not meet minimum capital requirements within such categories. FDICIA imposes progressively more restrictive constraints on operations, management and capital distributions, depending on the category in which an institution is classified. Failure to meet the capital guidelines could also subject a banking institution to capital raising requirements. An “undercapitalized” bank must develop a capital restoration plan and its parent holding company must guarantee that bank’s compliance with the plan. The liability of the parent holding company under any such guarantee is limited to the lesser of five percent of the bank’s assets at the time it became “undercapitalized” or the amount needed to comply with the plan. Furthermore, in the event of the bankruptcy of the parent holding company, such guarantee would take priority over the parent’s general unsecured creditors. In addition, FDICIA requires the various regulatory agencies to prescribe certain non-capital standards for safety and soundness relating generally to operations and management, asset quality and executive compensation and permits regulatory action against a financial institution that does not meet such standards.

22

Supervision and Regulation of the Company and its Subsidiary (continued)

The various regulatory agencies have adopted substantially similar regulations that define the five capital categories identified by FDICIA, using the total risk-based capital, Tier 1 risk-based capital and leverage capital ratios as the relevant capital measures. Such regulations establish various degrees of corrective action to be taken when an institution is considered under-capitalized. Under the regulations, a “well capitalized” institution must have a Tier 1 risk-based capital ratio of at least six percent, a total risk-based capital ratio of a least ten percent and a leverage ratio of at least five percent and not be subject to a capital directive order. Regulators also must take into consideration (a) concentrations of credit risk; (b) interest rate risk (when the interest rate sensitivity of an institution’s assets does not match the sensitivity of its liabilities or its off-balance-sheet position); and (c) risks from non-traditional activities, as well as an institution’s ability to manage those risks, when determining the adequacy of an institution’s capital. This evaluation will be made as a part of the institution’s regular safety and soundness examination. In addition, the Company, and any Bank with significant trading activity, must incorporate a measure for market risk in their regulatory capital calculations.

Limitations on Bank Dividends. The FDIC has the authority to use its enforcement powers to prohibit a bank from paying dividends if, in its opinion, the payment of dividends would constitute an unsafe or unsound practice. Federal law also prohibits the payment of dividends by a bank that will result in the bank failing to meet its applicable capital requirements on a pro forma basis.

Customer Information Security. The FDIC and other bank regulatory agencies have adopted final guidelines for establishing standards for safeguarding nonpublic personal information about customers that implement provisions of the Gramm-Leach Bliley Act (1999) (GLBA), which establishes a comprehensive framework to permit affiliations among commercial banks, insurance companies, securities firms, and other financial service providers by revising and expanding the BHCA framework. Specifically, the Information Security Guidelines established by the GLBA require each financial institution, under the supervision and ongoing oversight of its Board of Directors or an appropriate committee thereof, to develop, implement and maintain a comprehensive written information security program designed to ensure the security and confidentiality of customer information, to protect against anticipated threats or hazards to the security or integrity of such information; and to protect against unauthorized access to or use of such information that could result in substantial harm or inconvenience to any customer.

Privacy. The GLBA requires financial institutions to implement policies and procedures regarding the disclosure of nonpublic personal information about consumers to nonaffiliated third parties. In general, the statute requires financial institutions to explain to consumers their policies and procedures regarding the disclosure of such nonpublic personal information, and, unless otherwise required or permitted by law, financial institutions are prohibited from disclosing such information except as provided in their policies and procedures.

23

Supervision and Regulation of the Company and its Subsidiary (continued)

USA Patriot Act. The USA Patriot Act of 2001, designed to deny terrorists and others the ability to obtain anonymous access to the U.S. financial system, has significant implications for depository institutions, broker-dealers and other businesses involved in the transfer of money. The USA Patriot Act, together with the implementing regulations of various federal regulatory agencies, have caused financial institutions, including banks, to adopt and implement additional, or amend existing, policies and procedures with respect to, among other things, anti-money laundering compliance, suspicious activity and currency transaction reporting, customer identity verification and customer risk analysis. The statute and its underlying regulations also permit information sharing for counter-terrorist purposes between federal law enforcement agencies and financial institutions, as well as among financial institutions, subject to certain conditions, and require the FRB (and other federal banking agencies) to evaluate the effectiveness of an applicant in combating money laundering activities when considering applications filed under Section 3 of the BHCA or under the Bank Merger Act. Management believes that the Company is in compliance with all the requirements prescribed by the USA Patriot Act and all applicable final implementing regulations.

The Community Reinvestment Act. The Community Reinvestment Act (CRA) requires lenders to identify the communities served by the institution’s offices and other deposit taking facilities and to make loans and investments and provide services that meet the credit needs of these communities. Regulatory agencies examine each of the banks and rate such institutions’ compliance with CRA as “Outstanding”, “Satisfactory”, “Needs to Improve”, or “Substantial Noncompliance”. Failure of an institution to receive at least a “Satisfactory” rating could inhibit such institution or its holding company from undertaking certain activities, including engaging in activities newly permitted as a financial holding company under the GLBA and acquisitions of other financial institutions. The FRB must take into account the record of performance of banks in meeting the credit needs of the entire community served, including low-and moderate-income neighborhoods. The Bank has achieved a rating of Satisfactory on their last examination. The Commonwealth of Massachusetts also has enacted substantially similar community reinvestment requirements.

24

Employees

     MASSBANK Corp. utilizes the support staff of the Bank from time to time for which a $12,000 fee was paid to the Bank in 2004. No separate compensation is being paid to the executive officers of MASSBANK Corp., all of whom are executive officers of the Bank and receive compensation as such. As of December 31, 2004, the Bank had 111 full-time employees (including 32 officers) and 49 part-time employees (including 1 officer). None of the Bank’s employees is represented by a collective bargaining group, and management believes that its employee relations are good. The Bank provides its employees with formal training in product knowledge, sales techniques, mortgage origination, fair lending, privacy and various other bank related functions and topics. In addition, each supervisor at the Bank receives management training before assuming his or her supervisory duties and periodically thereafter. The Bank maintains a comprehensive employee benefits program for qualified employees that includes a qualified pension plan, an Employee Stock Ownership Plan (ESOP), health and dental insurance, life and long-term disability insurance and tuition assistance.

Subsidiaries

     The Bank has three wholly owned subsidiaries: Readibank Investment Corporation, Melbank Investment Corporation, and Readibank Properties, Inc.

     Readibank Investment Corporation and Melbank Investment Corporation were established for the purpose of managing portions of the Bank’s investment portfolio. They are classified by the Commonwealth of Massachusetts as securities corporations for tax purposes which restricts their business to buying, selling, dealing in, or holding securities on their own behalf. As securities corporations they are currently taxed at a lower rate than the Bank. Legislative proposals have recently been discussed which may impact this favorable tax treatment.

     Assets of Readibank Investment Corporation and Melbank Investment Corporation totaled $162.9 million and $164.5 million, respectively, at December 31, 2004.

     Readibank Properties, Inc. was incorporated primarily for the purpose of real estate development projects. These projects were completed many years ago and this subsidiary is currently inactive. Its assets totaled $618 thousand at December 31, 2004, consisting primarily of an inter-company receivable from the Bank.

25

Executive Officers of the Registrant

     The executive officers of the Company and the Bank and the age of each officer as of December 31, 2004 are as follows:

Name	Age		Office
Gerard H. Brandi		56	Chairman of the Board of Directors, President and Chief Executive Officer of the Company and the Bank
David F. Carroll		57	Vice President of the Bank
Reginald E. Cormier		56	Senior Vice President, Treasurer and Chief Financial Officer of the Company and the Bank
Thomas J. Queeney		42	Vice President and Senior Trust Officer of the Bank
William F. Rivers		49	Vice President of the Bank
Donald R. Washburn		61	Senior Vice President of the Bank
Donna H. West		59	Senior Vice President of the Bank and Assistant Secretary of the Company

     Gerard H. Brandi. Mr. Brandi has served in various capacities with MASSBANK since he joined the Bank in 1975 as Vice President of the Lending Division. He served as Senior Vice President from 1978 to 1981, Executive Vice President and Senior Lending Officer from 1981 to 1983, and Executive Vice President and Treasurer from 1983 to 1986. Mr. Brandi was named President of the Company and the Bank in 1986, Chief Executive Officer in 1992 and Chairman in 1993.

     David F. Carroll. Mr. Carroll retired on December 31, 2004. He had been employed by the Bank since 1983 and had been Vice President of Operations since 1984. He served as Vice President of the Lending Division for a year before becoming Vice President of Operations.

     Reginald E. Cormier. Mr. Cormier joined the Bank as Treasurer in September, 1987 and served in this capacity until his promotion to Vice President, Treasurer and Chief Financial Officer in January, 1995. In December 1999, he was promoted to Senior Vice President, Treasurer and Chief Financial Officer.

     Thomas J. Queeney. Mr. Queeney joined the Bank in 1986 as a Management Trainee in Loan Origination. He became an Assistant Manager in 1987 and was promoted to Assistant Treasurer in 1988. He then served as a Marketing and Investor Relations Representative until his promotion to Loan Servicing Manager in 1990. In 1992, he was promoted to Loan Officer and Commercial Lending Manager. He was promoted to Assistant Vice President, Lending in 1997, where he served until his promotion to AVP/Trust Administrator in July of 1998. In January of 1999, he was promoted to Vice President and Senior Trust Officer.

     William F. Rivers. Mr. Rivers joined the Bank as Vice President of Operations and Mr. David Carroll’s successor in 2004. Prior to joining the Bank Mr. Rivers worked for Medford Bank for over 28 years. His most recent position there was Senior Vice President, Operations & Administration.

26

Executive Officers of the Registrant (continued)

     Donald R. Washburn. Mr. Washburn joined the Bank in 1973 as a Loan Officer. He became an Assistant Vice President in January, 1977 and a Vice President in the Lending Division in June, 1980. Mr. Washburn served as Vice President of the Operations Division from February, 1983 to January, 1984, as Vice President of the Community Banking Division from January, 1984 to January, 1986 and as Vice President of the Lending Division from January, 1986 until his promotion to Senior Vice President of the Lending Division in June, 1994.

     Donna H. West. Mrs. West has been employed by the Bank since 1979 and has served as Vice President of the Community Banking Division since October, 1987. Starting at the Bank as an Assistant Branch Manager in 1979, Mrs. West became a Branch Manager in 1981, an Assistant Treasurer and Branch Manager in 1982, an Assistant Treasurer and Regional Branch Administrator in 1984 and an Assistant Vice President and Regional Branch Administrator in 1986. She served in this capacity until her October, 1987 promotion to Vice President of the Community Banking Division. In June, 1994, Mrs. West was promoted to Senior Vice President of the Community Banking Division.

27

Item 2. Properties

     The main office of MASSBANK Corp. and MASSBANK is located at 123 Haven Street, Reading, Massachusetts. Additionally, the Bank has fourteen branches and three operations facilities. The Bank owns its main office, three operations facilities and nine of its branches. All of the remaining branches and other facilities are leased under various leases. At December 31, 2004, management believes that the Bank’s existing facilities are adequate for the conduct of its business.

     The following table sets forth certain information relating to the Bank’s existing facilities.

		Owned	Lease	Renewal
		or	Expiration	Option
Location		Leased	Date	Through
MAIN OFFICE:	123 Haven Street, Reading, MA	Owned	—	—
BRANCH	291 Chelmsford Street, Chelmsford, MA	Owned	—	—
OFFICES:	17 North Road, Chelmsford, MA	Owned	—	—
	45 Broadway Road, Dracut, MA	Leased	2012	2022
	738 Broadway, Everett, MA	Owned	—	—
	50 Central Street, Lowell, MA	Owned	—	—
	755 Lakeview Avenue, Lowell, MA	Owned	—	—
	4110 Mystic Valley Pkwy, Medford, MA	Leased	2005	—
	476 Main Street, Melrose, MA	Owned	—	—
	27 Melrose Street, Towers Plaza,
	Melrose, MA	Leased	2014	—
	240 Main Street, Stoneham, MA	Leased	2009	2014
	1800 Main Street, Tewksbury, MA	Owned	—	—
	203 Littleton Road, Westford, MA	Owned	—	—
	370 Main Street, Wilmington, MA	Owned	—	—
	219 Lowell Street, Lucci’s Plaza,
	Wilmington, MA	Leased	2006	—
OPERATIONS	159 Haven Street, Reading, MA	Owned	—	—
FACILITIES:	169 Haven Street, Reading, MA	Owned	—	—
	11 North Road, Chelmsford, MA	Owned	—	—

Item 3. Legal Proceedings

     From time to time, MASSBANK Corp. and/or the Bank are involved as a plaintiff or defendant in various legal actions incident to their business. As of December 31, 2004, none of these actions individually or in the aggregate is believed by management to be material to the financial condition of MASSBANK Corp. or the Bank.

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

     None during the fourth quarter of 2004.

28

PART II

Item 5. Market for Registrant’s Common Stock and Related Stockholder Matters

     The information contained under the caption “MASSBANK Corp. and Subsidiaries Stockholder Data” in the Registrant’s 2004 Annual Report to Stockholders is incorporated herein by reference.

Issuer Purchases of Equity Securities

     The following table sets forth purchases made by the Company of its shares of common stock under the stock repurchase program during the year ended December 31, 2004:

					Total Number
					of Shares		Maximum Number
					Purchased as		of Shares That
					Part of Publicly		May Yet Be
	Total Number		Average Price		Announced		Purchased Under
	of Shares		Paid Per		Repurchase		The Repurchase
Period	Purchased		Share		Program (1)		Program
January 1 – January 31, 2004		—		—		—		100,000
March 1 – March 31, 2004		5,000	$	39.05		5,000		95,000
May 1 – May 31, 2004		33,000	$	33.72		33,000		62,000
June 1 – June 30, 2004		5,000	$	33.05		5,000		57,000
November 1 – November 30, 2004		15,823	$	37.25		15,823		41,177
December 1 – December 31, 2004		15,000	$	37.00		15,000		26,177
		73,823	$	35.46		73,823		26,177
January 19, 2005		—		—		—		100,000
								126,177

(1)   On January 22, 2004, the Registrant announced that its Board of Directors had authorized management to repurchase up to 100,000 shares of its common stock in the open market or through private transactions during the next twelve months. On January 19, 2005 the Registrant announced that its Board of Directors had extended, for another year, the stock repurchase program which it authorized in January 2004. Additionally, the Board approved an increase of 100,000 in the number of shares of the Registrant’s common stock authorized for repurchase in the current program, bringing the total shares available for repurchase to 126,177.

29

Item 5. (Continued)

     In addition, the following number of shares were purchased by the Company’s Directors’ Deferred Compensation Plan and Trust during the year Ended December 31, 2004:

	Total Number		Average Price
	of Shares		Paid Per
Period	Purchased		Share
March 1, - March 31, 2004		1,000	$	39.40
June 1, - June 30, 2004		400	$	33.30
November 1, - November 30, 2004		500	$	37.25
		1,900	$	37.55

Item 6. Selected Financial Data

     The information contained under the caption “MASSBANK Corp. and Subsidiaries — Selected Consolidated Financial Data” in the Registrant’s 2004 Annual Report to Stockholders is incorporated herein by reference.

     This selected consolidated financial data should be read in conjunction with the consolidated statements and related notes thereto appearing in the Registrant’s 2004 Annual Report to Stockholders which are incorporated herein by reference.

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

     The information contained under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Registrant’s 2004 Annual Report to Stockholders is incorporated herein by reference.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

     The information contained under the captions “Asset and Liability Management”, “Interest Rate Risk” and “Other Market Risks” included in Management’s Discussion and Analysis of Financial Condition and Results of Operations section of the Registrant’s 2004 Annual Report to Stockholders is incorporated herein by reference.

Item 8. Financial Statements and Supplementary Data

     The Registrant’s consolidated financial statements and notes thereto, together with the reports of KPMG LLP, contained in the Registrant’s 2004 Annual Report to Stockholders are incorporated herein by reference. The unaudited quarterly financial data set forth on page 60 of such Annual Report is incorporated herein by reference.

30

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

     None.

Item 9A. Controls and Procedures

     As required by Rule 13a-15 under the Securities Exchange Act of 1934 (Exchange Act), the Company carried out an evaluation under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the period covered by this report. Based upon their evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective to ensure that material information relating to the Company required to be disclosed by us in reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. In designing and evaluating the disclosure controls and procedures, the Company’s management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurances of achieving the desired control objectives, and management necessarily was required to apply its judgment in designing and evaluating the controls and procedures. The Company currently is in the process of further reviewing and documenting its disclosure controls and procedures, and its internal control over financial reporting, and may from time to time make changes aimed at enhancing their effectiveness and to ensure that our systems evolve with our business.

Changes in Internal Control Over Financial Reporting.

     There were no changes in our internal control over financial reporting during the fourth quarter of fiscal year 2004 that have materially affected, or that are reasonably likely to materially affect, our internal controls over financial reporting.

PART III

Item 10. Directors and Executive Officers of the Registrant

     The information appearing under the caption “Election of Directors” and “Compliance with Section 16(A) of the Exchange Act” in the Registrant’s definitive proxy statement relating to its 2005 Annual Meeting of Stockholders is incorporated herein by reference. Information required by this item concerning the Executive Officers of the Registrant is contained in Part I of this Form 10-K.

Item 11. Executive Compensation

     The information appearing under the caption “Executive Compensation” in the Registrant’s definitive proxy statement relating to its 2005 Annual Meeting of Stockholders is incorporated herein by reference.

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

     The information appearing under the captions “Election of Directors”, “Principal Stockholders” and “Equity Compensation Plan Information” in the Registrant’s definitive proxy statement relating to its 2005 Annual Meeting of Stockholders is incorporated herein by reference.

31

Item 13. Certain Relationships and Related Transactions

     The information contained in Note 5 of the Consolidated Financial Statements under the caption “Loans” in the Registrant’s 2004 Annual Report to Stockholders is incorporated herein by reference.

Item 14. Principal Accountant Fees and Services

     The information required by this item appears in the definitive proxy statement filed pursuant to Regulation 14A for the 2005 Annual Meeting of our stockholders and is incorporated by reference.

PART IV

Item 15. Exhibits and Financial Statement Schedules

     The following financial statements and financial statement schedules are contained herein or are incorporated herein by reference:

(a)1. Financial Statements

	Reference to 2004
	Annual Report
	to Stockholders
	(Pages)*
Reports of Independent Registered Public Accounting Firm		30
Consolidated Balance Sheets at December 31, 2004 and 2003		32
Consolidated Statements of Income for the three years ended December 31, 2004		33
Consolidated Statements of Cash Flows for the three years ended December 31, 2004		34-35
Consolidated Statements of Changes in Stockholders’ Equity for the three years ended December 31, 2004		36
Notes to Consolidated Financial Statements		37-60

*        Incorporated, by reference to pages 29 through 60 of the Registrant’s 2004 Annual Report to Stockholders attached to this filing as Exhibit 13.

   2. Financial Statement Schedules

     All schedules are omitted as the required information is either not applicable or is included in the consolidated financial statements or related notes.

   3. Exhibits

Exhibit No.	Description of Exhibit
3.1	Restated Certificate of Incorporation of the Registrant — incorporated by reference to Exhibit 3.1 of the Registrant’s Form S-4 Registration Statement (Reg. No. 33-7916).

32

Exhibit No.	Description of Exhibit
3.2	By-Laws of the Registrant — incorporated by reference to Exhibit 3 of the Registrant’s Form 10-Q for the quarter ended September 30, 1991.
4.1	Shareholder Rights Agreement dated as of January 18, 2000, between the Company and The First National Bank of Boston, as Rights Agent — incorporated herein by reference to the Exhibit to the Company’s Report on Form 8-K dated as of January 20, 2000.
10.1	MASSBANK Corp. 1986 Stock Option Plan, as amended - incorporated by reference to Exhibit 28.1 to the Registrant’s Form S-8 Registration Statement (Reg. No. 33-11949).
10.1.2	Amendment to MASSBANK Corp. 1986 Stock Option Plan dated April 19, 1991 — incorporated by reference to Exhibit 10.1.2 to the Registrant’s annual report on Form 10-K for the year ended December 31, 1992.
10.1.3	MASSBANK Corp. 1994 Stock Incentive Plan — incorporated by reference to Exhibit 10.1 to the Registrant’s Form S-8 Registration Statement (Reg. No. 33-82110).
10.1.4	Amendment to MASSBANK Corp. 1994 Stock Incentive Plan dated April 21, 1998 — incorporated by reference to Exhibit 10.1.4 to the Registrant’s annual report on Form 10-K for the year ended December 31, 1997.
10.1.5	MASSBANK Corp. 2004 Stock Option and Incentive Plan – incorporated by reference to exhibit 10.1.5 to the Registrant’s Form S-8 Registration Statement (Ref. No. 33-333118028).
10.2	MASSBANK for Savings Employees’ Stock Ownership Plan and Trust Agreement — incorporated by reference to Exhibit 10.2 of the Registrant’s Form S-4 Registration Statement (Reg. No. 33-7916).
10.2.1	Amendments to the MASSBANK for Savings Employee’s Stock Ownership Plan and Trust Agreement — incorporated by reference to Exhibit 10.2.1 to the Registrant’s annual report on Form 10-K for the year ended December 31, 1993.
10.2.2	Amendments to the MASSBANK for Savings Employee’s Stock Ownership Plan and Trust Agreement — incorporated by reference to Exhibit 10.2.2 to the Registrant’s annual report on Form 10-K for the year ended December 31, 1997.
10.2.3	Amended and Restated MASSBANK Employees’ Stock Ownership Plan and Trust Agreement incorporated by reference to Exhibit 10.2.3 to the Registrant’s annual report on Form 10K for the year ended December 31, 2003.
10.3.16	Amended and Restated Employment Agreement with Gerard H. Brandi dated as of October 28, 2002 – incorporated by reference to exhibit 10.3.16 to the Registrant’s quarterly report on Form 10-Q for the period ended September 30, 2002.

33

Exhibit No.	Description of Exhibit
10.3.17	Amended and Restated Employment Agreement with David F. Carroll dated as of October 28, 2002 – incorporated by reference to exhibit 10.3.17 to the Registrant’s quarterly report on Form 10-Q for the period ended September 30, 2002.
10.3.18	Amended and Restated Employment Agreement with Reginald E. Cormier dated as of October 28, 2002 – incorporated by reference to exhibit 10.3.18 to the Registrant’s quarterly report on Form 10-Q for the period ended September 30, 2002.
10.3.19	Amended and Restated Employment Agreement with Donald R. Washburn dated as of October 28, 2002 – incorporated by reference to exhibit 10.3.19 to the Registrant’s quarterly report on Form 10-Q for the period ended September 30, 2002.
10.3.20	Amended and Restated Employment Agreement with Donna H. West dated as of October 28, 2002 – incorporated by reference to exhibit 10.3.20 to the Registrant’s quarterly report on Form 10-Q for the period ended September 30, 2002.
10.3.21	Form of Employment Agreement with Thomas J. Queeney dated as of October 28, 2002 – incorporated by reference to exhibit 10.3.21 to the Registrant’s quarterly report on Form 10-Q for the period ended September 30, 2002.
10.4	Form of Executive Supplemental Retirement Agreement, as amended, with Gerard H. Brandi — incorporated by reference to Exhibit 10.4 of Registrant’s annual report on Form 10-K for the year ended December 31, 1986.
10.4.1	Amendments to the Executive Supplemental Retirement Agreement with Gerard H. Brandi are incorporated by reference to Exhibit 10.4.1 of the Registrant’s annual report on Form 10-K for the year ended December 31, 1996.
10.5	Amended Deferred Compensation Plan for Directors of MASSBANK Corp. adopted March 8, 2000 – incorporated by reference to Exhibit 10.5 of the Registrant’s annual report on Form 10-K for the year ended December 31, 2000.
10.6	Deferred Compensation Program for Bank employees dated November 14, 1994 – incorporated by reference to Exhibit 10.6 of the Registrant’s annual report on Form 10-K for the year ended December 31, 2001.
11	The computation of per share earnings can be readily determined from the material contained in the Annual Report on Form 10-K for the fiscal year ended December 31, 2004.

34

Exhibit No.	Description of Exhibit
12	Statement re: Computation of Ratios — Not applicable as MASSBANK Corp. does not have any debt securities registered under Section 12 of the Securities Exchange Act of 1934.
13	2004 Annual Report to Stockholders — except for those portions of the 2004 Annual Report to Stockholders which are expressly incorporated by reference in this report, such 2004 Annual Report to Stockholders is furnished for the information of the SEC and is not to be deemed “filed” with the SEC.
21	Subsidiaries of the Registrant.
23	Consent of Independent Registered Public Accounting Firm – KPMG LLP.
31.1	Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer.
31.2	Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 by Chief Financial Officer.
32.1	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer.
32.2	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief Financial Officer.
(b)	Exhibits to this Form 10-K are attached or incorporated by reference as stated in the Index to Exhibits.

35

Signatures

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

MASSBANK CORP.

/s/ Gerard H. Brandi

Gerard H. Brandi

Chairman, President and Chief Executive Officer

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

/s/ Gerard H. Brandi	Chairman, President,
Gerard H. Brandi	Chief Executive Officer and
	Director	March 14, 2005
/s/ Reginald E. Cormier	Senior Vice President, Treasurer
Reginald E. Cormier	and Chief Financial Officer
	(Principal Financial and
	Accounting Officer)	March 14, 2005
/s/ Mathias B. Bedell	Director	March 14, 2005
Mathias B. Bedell
/s/ Allan S. Bufferd	Director	March 14, 2005
Allan S. Bufferd
/s/ Kathleen M. Camilli	Director	March 14, 2005
Kathleen M. Camilli
/s/ Peter W. Carr	Director	March 14, 2005
Peter W. Carr
/s/ Alexander S. Costello	Director	March 14, 2005
Alexander S. Costello

36

/s/Robert S. Cummings	Director	March 14, 2005
Robert S. Cummings
/s/Stephen E. Marshall	Director	March 14, 2005
Stephen E. Marshall
/s/Nancy L. Pettinelli	Director	March 14, 2005
Nancy L. Pettinelli
/s/Herbert G. Schurian	Director	March 14, 2005
Herbert G. Schurian
/s/Donald B. Stackhouse	Director	March 14, 2005
Donald B. Stackhouse

37

EX-13

F i n a n c i a l   H i g h l i g h t s

Massbank Corp. and Subsidiaries

Selected Consolidated Financial Data

(In thousands) At December 31,	2004		2003		2002		2001		2000
Balance Sheet Data:
Total assets	$	976,168	$	1,010,733	$	1,009,367	$	971,317	$	938,702
Mortgage loans		226,197		241,886		302,788		296,469		272,951
Other loans		10,001		11,120		16,011		34,548		37,196
Allowance for loan losses		1,307		1,554		2,271		2,494		2,594
Allowance for loan losses on off-balance sheet credit exposures		588		626		384		149		—
Investments(1)		704,611		722,079		669,875		618,545		607,096
Deposits		849,465		882,508		883,928		849,684		823,625
Stockholders’ equity		110,015		110,927		117,285		114,904		108,243

(In thousands)Years Ended December 31,	2004			2003			2002		2001		2000
Operating Data:
Interest and dividend income	$	33,581		$	38,137		$	47,103	$	55,117	$	60,280
Interest expense		12,729			15,854			22,701		32,391		35,397
Net interest income		20,852			22,283			24,402		22,726		24,883
Provision (credit) for loan losses		(242	)		(502	)		—		40		60
Gains on securities, net		1,229			639			1,718		4,363		3,525
Other non-interest income		1,257			1,283			1,205		1,450		1,463
Non-interest expense		12,302			12,615			12,037		11,721		12,513
Income before income taxes		11,278			12,092			15,288		16,778		17,298
Income tax expense		3,898			4,229			5,474		6,019		6,187
Net income	$	7,380		$	7,863		$	9,814	$	10,759	$	11,111

Years ended December 31,	2004			2003			2002			2001			2000
Other Data:
Yield on average interest-earning assets		3.52	%		3.87	%		4.85	%		5.88	%		6.67	%
Cost of average interest-bearing liabilities		1.48			1.78			2.61			3.87			4.32
Interest rate spread		2.04			2.09			2.24			2.01			2.35
Net interest margin		2.19			2.26			2.52			2.43			2.76
Non-interest expense to average assets(3)		1.26			1.25			1.21			1.23			1.35
Efficiency ratio (2)(3)		51.5			49.9			43.9			41.1			41.9
Return on assets (net income/average assets)		0.75			0.78			0.99			1.13			1.20
Return on equity (net income/average stockholders’ equity)		6.71			7.08			8.39			9.53			10.93
Percent non-performing loans to total loans		0.03			0.09			0.13			0.19			0.18
Percent non-performing assets to total assets		0.01			0.02			0.04			0.07			0.06
Stockholders’ equity to assets, at year-end		11.27			10.97			11.62			11.83			11.53
Book value per share, at year-end(4)	$	25.11		$	25.17		$	25.45		$	24.34		$	22.83
Market price – close, at year-end(4)		37.45			43.01			28.30			23.867			19.50
Earnings per share:(4)
Basic		1.67			1.77			2.09			2.30			2.30
Diluted		1.64			1.73			2.04			2.24			2.25
Cash dividends paid per share(4)		1.00			0.92			0.88			0.84			0.79
Dividend payout ratio		60	%		52	%		42	%		37	%		34	%

⁽¹⁾ Consist of securities held to maturity and available for sale, trading securities, short-term investments, term federal funds sold and interest-bearing deposits in banks.

⁽²⁾ Determined by dividing non-interest expense (including the provision (credit) for loan losses) by fully taxable equivalent net interest income plus non-interest income.

⁽³⁾ Includes non-recurring non-interest expense of $363 thousand in 2000 related to the successful litigation to protect the Company’s principal trademark.

⁽⁴⁾ All share information presented has been adjusted to reflect the 3-for-2 split of the Company’s common stock effective April 19, 2002.

3

Management’s Discussion and Analysis of

Financial Condition and Results of Operations

General

The following discussion should be read in conjunction with the consolidated financial statements and related notes included in this report. Certain amounts reported for prior years have been reclassified to conform to the 2004 presentation.

     The preparation of consolidated financial statements requires management to make estimates and assumptions, in the application of certain of its accounting policies, about the effect of matters that are inherently uncertain. These estimates and assumptions affect the reported amounts of certain assets, liabilities, revenues and expenses. Different amounts could be reported under different conditions, or if different assumptions were used in the application of these accounting policies. The accounting policies considered significant in this respect are the determination of the allowance for loan losses and allowance for loan losses on off-balance sheet credit exposures, and the determination of investment securities considered other than temporarily impaired. These significant accounting policies are discussed in the Provisions (Credit) for Loan Losses and Investment Securities Other Than Temporarily Impaired sections of this discussion and analysis and in Note 1 of the “Notes to Consolidated Financial Statements.”

     The financial condition and results of operations of Massbank Corp. (the “Company”) essentially reflect the operations of its subsidiary, Massbank (the “Bank”).

     The Bank’s principal business has historically consisted of offering savings and other deposits to the general public and using the funds from these deposits to primarily make loans secured by residential real estate and consumer loans, and make investments in debt and equity securities. Most residential mortgage loans granted by the Bank are for terms of 10, 12, 15 or 20 years and are generally low credit risk loans. The Bank’s debt securities portfolio consists primarily of U.S. Treasury and Government agency securities and Government agency mortgage-backed securities.

     The Company’s consolidated net income depends largely upon net interest income, which is the difference between interest and dividend income from loans and investments (“interest-earning assets”), and interest expense on deposits (interest-bearing liabilities). Net interest income is significantly affected by general economic conditions, particularly changes in interest rates, competition, government legislation and policies affecting fiscal affairs, monetary policies of the Federal Reserve System, and the actions of the bank regulatory authorities. Earnings results are also affected by the Company’s provision (credit) for loan losses; loan and investment activities, particularly residential mortgage loan and mortgage-backed securities prepayment activity; changes in non-interest income, such as fee-based revenues and securities gains or losses; non-interest expense; and income taxes.

Forward-Looking Statement Disclosure

This annual report may contain forward-looking information, including information concerning the Company’s expectations of future business prospects. These forward-looking statements are made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the Company’s actual results or performance to be materially different from the results and performance expressed or implied by the forward-looking statements. Forward-looking statements include, but are not limited to, statements concerning the Company’s belief, expectations or intentions concerning the Company’s future performance, the financial outlook of the markets it serves and the performance and activities of its competitors. These statements reflect the Company’s current views, are based on numerous assumptions and are subject to numerous risks and uncertainties, including unexpected fluctuations in market interest rates, unexpected fluctuations in the markets for equities, bonds, federal funds and other financial instruments, an increase in the level of nonperforming assets, an increase in competitive pricing pressures within the Company’s market, adverse legislative or regulatory developments, adverse impacts resulting from the continuing war on terrorism, an increase in other employee-related costs, the impact of deflation or inflation, and other factors described in this report.

9

Critical Accounting Policies

The Company’s consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles. As such, the Company is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the balance sheet dates and the reported amounts of income and expense during the reporting periods. Actual amounts could differ from such estimates.

     The Company believes that the following accounting policies are among the most critical because they involve significant judgments and uncertainties and could potentially result in materially different results under different assumptions and conditions.

Provisions (Credit) for Loan losses

The provision (credit) for loan losses represents a charge or credit against current earnings and an addition to or deduction from the allowance for loan losses. In determining the amount to provide for loan losses, the key factor is the adequacy of the allowance for loan losses (“loan allowance”). Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for purposes of establishing a sufficient loan allowance. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various types of loans based on loss experience factors and an unallocated allowance. The unallocated allowance is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may affect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.

     The provision (credit) for loan losses on off-balance sheet credit exposures represents a charge or credit against current earnings (reported in other non-interest expense) and an addition to or deduction from the allowance for loan losses on off-balance sheet credit exposures (“off-balance sheet exposures”). In determining the amount to provide for off-balance sheet exposures, the key factor is the adequacy of the balance. The balance of the off-balance sheet exposures is maintained based on expected drawdowns of committed loans, their loss experience factors, management’s assessment of various other factors including current and anticipated economic conditions that may affect the borrowers’ ability to pay and trends in loan delinquencies and charge-offs.

     Any significant changes in assumptions and/or conditions could result in higher than estimated losses that could adversely affect the Company’s earnings results. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowances. Such agencies may require the Bank to recognize additional allowances based on judgements different from those of management, which could also adversely affect the Company’s earnings results.

Investment Securities other than Temporarily Impaired

Management judgment is involved in the evaluation of declines in value (“impairment”) of individual investment securities held by the Company. Declines in value that are deemed other than temporary are recognized in the income statement through write-downs in the recorded value of the affected securities. Management considers many factors in their analysis of other than temporarily impaired securities, including industry analyst reports, sector credit ratings, volatility in market price and other relevant information, such as the financial condition, earnings capacity and near term prospects of the company and the length of time and extent to which the market value has been less than cost.

     Whenever a debt or equity security is deemed to be “other than temporarily impaired” due to a fundamental deterioration in its financial condition as determined by management’s analysis, it is written down to its current fair market value. U.S. Treasury Securities and other securities backed by the U.S. Government are never considered impaired due to a fundamental deterioration in financial condition.

     If “due to general market conditions” an investment security declines in price from its cost basis by 25% or more for more than a year, between 30% and 40% for more than nine months, between 40% and 50% for more than six months or over 50% for more than ninety days, and in each case the value of the investment security has been below its cost basis for the entire period in question, then the security is considered “other than temporarily impaired” and it is written down to its current fair market value and the loss is recognized in earnings. U.S. Treasury and Government Agency securities fluctuate in value based on changes in market interest rates and other factors; however, they can be redeemed at par value if held to maturity and therefore, if their maturity date is less than one year into the future regardless of their market value they are considered only temporarily impaired. Any unfavorable change in general market conditions could cause an increase in the Company’s impairment write downs of investment securities. This would have an adverse effect on the Company’s earnings results. Other than temporary impairment write downs of investment securities in 2003 and 2002 totaled $9 thousand and $67 thousand, respectively. There were no other than temporary impairment write downs of investment securities in 2004.

     Securities deemed temporarily impaired are carried at market value in the asset section of the Company’s balance sheet. Any change in value is reflected in accumulated other comprehensive income in the stockholders’ equity section of the Company’s balance sheet.

10

Financial Overview

Massbank Corp. provides a broad range of banking services through its subsidiary, Massbank (“the Bank”). The Bank offers a full range of retail and commercial deposit products through its fifteen banking offices located in Eastern Massachusetts. The Bank’s lending business includes residential and commercial real estate mortgages, construction loans, commercial loans and a variety of consumer loans. The Bank’s loan portfolio is concentrated among borrowers from the municipalities in which it operates banking offices and all of the contiguous cities and towns. The Bank also invests a significant portion of its funds in U.S. Treasury and Government agency securities, mortgage-backed securities, federal funds sold and other authorized investments. The Bank’s earnings depend largely upon net interest income. Securities gains are also an important source of revenue for the Bank.

     The Bank faces strong competition from banks and other financial services providers in our market area. The principal methods of competition are through interest rates, financing terms and other customer conveniences. Among the external factors affecting Massbank’s operating results are market interest rates, the shape of the U.S. Treasury securities yield curve, the condition of the financial markets and both regional and national economic conditions.

     In 2004, the Company generated net income of $7.4 million, or $1.64 per diluted share, compared with $7.9 million, or $1.73 per diluted share, in 2003. Return on assets and return on equity were 0.75% and 6.71%, respectively, in 2004, compared to 0.78% and 7.08%, respectively, in 2003. Our net interest margin was under continued pressure in 2004 as a result of the asset sensitive position of our balance sheet and the low interest rate environment.

     Decreases in 2004 earnings and operating ratios were mainly due to a decrease in net interest income driven by both a decline in yield and a decline in the size of the Bank’s loan and mortgage-backed securities portfolios. This is the result of the significant refinancing and prepayment activity experienced in 2003 and to a lesser extent in 2004.

     The Company’s earnings and operating ratios were positively affected by an increase in net securities gains in 2004 and an increase in the Federal Funds rate in the second half of 2004. The Federal Reserve Bank Board’s Federal Open Market Committee (FOMC) raised the target rate for Federal Funds by 25 basis points five times from the end of June to year-end 2004, increasing the rate from 1.00% to 2.25%. In 2005, we would expect to benefit from any sustained increases in interest rates, partially offset by any decreases in the difference between the five year Treasury yield and the yield on Federal Funds (curve flattening).

Years ended December 31, 2004 compared to 2003:

(In thousands) Years ended December 31,	2004			2003			change
Income Statement Data
Interest and dividend income:
Mortgage and other loans	$	14,247		$	18,516		$	(4,269	)
Mortgage-backed securities		6,571			8,250			(1,679	)
Federal funds sold		2,438			2,266			172
Other securities and investments		10,325			9,105			1,220
Total interest and dividend income		33,581			38,137			(4,556	)
Total interest expense		12,729			15,854			3,125
Net interest income		20,852			22,283			(1,431	)
Provision (credit) for loan losses		(242	)		(502	)		(260	)
Gains on securities, net		1,229			639			590
Other non-interest income		1,257			1,283			(26	)
Non-interest expense		12,302			12,615			313
Income tax expense		3,898			4,229			331
Net income	$	7,380		$	7,863		$	(483	)
Diluted earnings per share (in dollars):	$	1.64		$	1.73		$	(0.09	)

(In thousands) Years ended December 31,	2004		2003		change
Average Balance Sheet Data
Earning assets:
Mortgage and other loans	$	243,351	$	284,001	$	(40,650	)
Mortgage-backed securities		115,847		133,037		(17,190	)
Federal funds sold		186,615		209,463		(22,848	)
Other securities and investments		409,454		361,354		48,100
Total average earning assets	$	955,267	$	987,855	$	(32,588	)
Total average deposits	$	862,691	$	892,329	$	(29,638	)

11

Earnings results for 2004 included the following that are more fully discussed in other sections of management’s discussion and analysis:

•   Reduction in net interest income of $1.4 million due essentially to a decline in yield and a decline in the size of the Bank’s loan and mortgage-backed securities portfolios due to the significant refinancing and prepayment activity experienced in 2003 and to a lesser extent in 2004.

•   A negative provision for loan losses that was $260 thousand less than the prior year. The negative provision is due to a reduction in the size of the loan portfolio and a low level of problem loans.

•   An increase in net securities gains of $590 thousand.

•   A decrease in non-interest expense of $313 thousand primarily attributable to a reduction in the number of bank employees.

•   A decrease in income tax expense of $331 thousand due to lower income before taxes and a reduction in the Company’s effective income tax rate.

Condensed Consolidated Balance Sheets

(In thousands) at December 31,	2004			2003			change
Short-term investments	$	194,250		$	214,532		$	(20,282	)
Interest-bearing deposits in banks		2,718			5,685			(2,967	)
Securities available for sale, at market value		443,753			429,229			14,524
Securities held to maturity, at amortized cost		4,877			—			4,877
Trading securities, at market value		59,013			72,633			(13,620	)
Total investments		704,611			722,079			(17,468	)
Total loans		236,198			253,006			(16,808	)
Allowance for loan losses		(1,307	)		(1,554	)		247
Net loans		234,891			251,452			(16,561	)
Other assets		36,666			37,202			(536	)
Total assets	$	976,168		$	1,010,733		$	(34,565	)
Total deposits	$	849,465		$	882,508		$	(33,043	)
Escrow deposits of borrowers		1,074			1,139			( 65	)
Other liabilities		15,614			16,159			(545	)
Total liabilities		866,153			899,806			(33,653	)
Total stockholders’ equity		110,015			110,927			(912	)
Total liabilities and stockholders’ equity	$	976,168		$	1,010,733		$	(34,565	)

Financial Condition

The Company’s total assets decreased $34.6 million, or 3.4% to $976.2 million at December 31, 2004 from $1.011 billion at December 31, 2003. This was due essentially to a decline of $33.0 million in total deposits.

Investments

At December 31, 2004 the Company’s investment portfolio consisted of short-term investments, interest-bearing deposits in banks and securities available for sale, held to maturity and trading totaling $704.6 million or 72.2% of assets. This reflects a decrease of $17.5 million compared to $722.1 million representing 71.4% of total assets at December 31, 2003. The Company’s investment portfolio is concentrated in U.S. Treasury and Government agency securities and mortgage-backed securities. U.S. Treasury and Government agency securities totaled $371.5 million at year-end. This included $158.8 million in callable agency securities. The portfolio of mortgage-backed securities consists primarily of 15-year contractual life mortgage-backed securities issued by GNMA, FNMA and FHLMC. The Company’s strategy is to purchase liquid investments with short to intermediate maturities that generally match the Company’s deposit structure. This strategy helps ensure that the Company’s overall interest rate risk position stays within policy requirements. The Company also holds $7.4 million in equity securities at December 31, 2004. This portfolio has been reduced from $11.5 million at December 31, 2003. In 2004, the Company increased its mortgage-backed securities portfolio from $95.7 million at December 31, 2003 to $127.6 million at December 31, 2004 to help improve its net interest margin. If interest rates increase in 2005 and the shape of the yield curve is positive, the Company will likely add to its mortgage-backed securities portfolio. We believe that this addition would tend to improve the Company’s net interest margin.

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Loans

Massbank’s loan portfolio at December 31, 2004 was $236.2 million, compared to $253.0 million at December 31, 2003, and was comprised of $224.6 million of residential mortgage loans, $1.6 million of commercial mortgage loans, $9.9 million of consumer loans and $0.1 million of commercial loans. This compares to $240.3 million of residential mortgage loans, $1.6 million of commercial mortgage loans, $11.0 million of consumer loans and $0.1 million of commercial loans at December 31, 2003.

     The loan portfolio decreased by 6.6% during 2004 to $236.2 million principally due to loan principal payments, pay downs and payoffs combined with a decline in loan origination activity. Loan originations totaled $60.3 million in 2004, down 27.0% from $82.6 million in 2003.

Non-Performing Assets

Non-accrual loans, generally those loans that are 90 days or more delinquent declined to $74 thousand at December 31, 2004 from $230 thousand at December 31, 2003. This represents 0.03% of total loans at December 31, 2004. The Bank had no real estate acquired through foreclosure at year-end 2004.

Deposits

Deposits have traditionally been the Bank’s primary source of funds for lending and investment activities. Massbank attracts deposits within its primary market area by offering a variety of deposit instruments including demand and NOW accounts, money market accounts, different types of savings accounts, certificates of deposit and retirement savings plans. Deposit flows vary significantly and are influenced by prevailing interest rates, market conditions, economic conditions and competition. The Bank’s management attempts to manage its deposits through selective pricing and marketing.

     Total deposits at December 31, 2004 were $849.5 million, compared to $882.5 million at December 31, 2003. Increased competition for deposits and more attractive returns on other investment opportunities were the principal reasons for the deposit outflows.

     In 2004, savings deposits decreased $46.5 million or 7.7% year-over-year, to $561.3 million from $607.8 million at year-end 2003. Conversely, certificates of deposit increased by $10.9 million or 5.7% to $200.5 million at year-end 2004 as customers began to shift deposits from savings accounts to certificates of deposit seeking a higher rate of return on their deposits. Demand and NOW deposits totaled $87.7 million at December 31, 2004 compared to $85.1 million at December 31, 2003. For information concerning deposit balances at year-end 2004 and 2003, their average cost and the maturity distribution and related rate structure of the Bank’s time certificates of deposit, see Note 10 of Notes to Consolidated Financial Statements.

Stockholders’ Equity

Total stockholders’ equity decreased $0.9 million to $110.0 million at December 31, 2004, representing a book value of $25.11 per share, from $110.9 million representing a book value of $25.17 per share at December 31, 2003.

     The decrease in total stockholders’ equity was due principally to the Company’s repurchase of 73,823 shares of treasury stock at a cost of $2.6 million, the payment of dividends to stockholders of $4.4 million and the decrease in other comprehensive income of $2.2 million due primarily to the decline in market value of the Bank’s debt securities portfolio. This was partially offset by the net income for the year of $7.4 million and the payments and related tax benefits received from the exercise of stock options by the Company’s officers and directors of $0.9 million.

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Results of Operations

Comparison of the years 2004 and 2003

Net Interest Income

Net interest income is the primary source of Massbank’s operating income. The level of net interest income is affected by the volume and mix of average interest-earning assets and interest-bearing liabilities, market interest rates and other factors.

     Net interest income on a fully taxable equivalent (FTE) basis totaled $20.9 million in 2004 compared to $22.4 million in 2003. The decrease was primarily attributable to a decrease in net interest margin. The Company’s net interest margin (net interest income on a FTE basis divided by average interest earning assets) for the year ended December 31, 2004 decreased to 2.19% from 2.26% in the prior year. Total average earning assets decreased $32.6 million or 3.3% to $955.3 million in 2004, from $987.9 million in 2003.

     The tables on pages 26 and 27 set forth, among other things, the extent to which changes in interest rates and changes in the average balances of interest earning assets and interest-bearing liabilities have affected interest income and expense during the years indicated. Information is provided for each category of interest-earning assets and interest-bearing liabilities, on changes due to (1) volume and (2) interest rates.

     Interest on investment securities available for sale on a FTE basis was $9.0 million for 2004 compared to $7.6 million for 2003. The increase in interest income was due to the increase in the average balance of investment securities available for sale from $259.1 million in 2003 to $324.2 million in 2004, offset in part by a lower yield on these securities due primarily to securities maturing and securities purchased in 2004 at lower market interest rates.

     Interest on mortgage-backed securities available for sale and held to maturity was $6.6 million for 2004 compared to $8.3 million for 2003. The average balance of mortgage-backed securities was $115.8 million with an average yield of 5.67% for 2004 compared to an average balance of $133.0 million with an average yield of 6.20% for 2003. The prepayment activity experienced in 2003 and 2004 reduced the balance and the yield on the bank’s mortgage-backed securities portfolio. In addition, mortgage-backed securities purchased in 2004 were at lower yields due to the low interest rate environment.

     Interest on trading securities was $1.1 million for 2004, essentially unchanged from the prior year. The average balance of trading securities was $69.3 million for 2004 compared to $72.5 million for 2003. The yield on these securities improved to 1.65% for the recent year, from 1.53% for 2003.

     Interest income on Federal funds sold and short-term investments was $2.7 million for 2004 and 2003. The average balance of these investments decreased from $239.1 million for 2003 to $202.5 million for 2004. This was offset by a higher yield on these investments due to a rise in short-term interest rates. The Federal Reserve Bank Board’s Federal Open Market Committee raised the target interest rate for Federal Funds five times from the end of June to year-end 2004, increasing the rate from 1.00% to 2.25%.

     Interest on loans fell to $14.2 million for 2004, from $18.5 million for 2003. The average balance for mortgage and other loans for 2004 was $243.4 million with an average yield of 5.85%. This compares to an average balance for mortgage and other loans of $284.0 million for 2003 with an average yield of 6.52%. The decline in average balances is due to principal payments, pay downs and prepayments on mortgages and lower loan origination volume for 2004 compared to 2003. Loans originations totaled $60.3 million in 2004 compared to $82.6 million in 2003. The decline in yields year to year is due to the low market interest rate environment that resulted in higher refinancing and prepayment activity on the Bank’s portfolio of higher yielding fixed rate loans, with proceeds being reinvested and new loans being originated at lower yields.

     Interest on total deposits was $12.7 million for 2004 compared to $15.9 million for 2003. The average balance of total deposits was $862.7 million with an average cost of 1.48% for 2004 compared to an average balance of $892.3 million with an average cost of 1.78% for 2003. The decrease in average balance was due primarily to increased competition for deposits and more attractive returns on other investment opportunities. The decrease in average cost of deposits in 2004 was the result of the relatively low interest rate environment.

Provisions (credit) for Loan Losses

In 2004, the Bank recorded a negative provision for loan losses of $242 thousand due to the quality of loans in the portfolio and a decrease in the size of the Bank’s loan portfolio. This compares to a negative provision for loan losses of $502 thousand in 2003. The Bank’s loan portfolio decreased $16.8 million or 6.6% from $253.0 million at December 31, 2003 to $236.2 million at December 31, 2004. In determining the amount to provide for loan losses, the key factor is the adequacy of the allowance for loan losses. Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for the purposes of establishing a sufficient allowance for loan losses. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various loan types based on loss experience factors, and an unallocated allowance which is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may effect the

14

borrowers’ ability to pay, and trends in loan delinquencies and charge-offs. At December 31, 2004, the allowance for loan losses was $1.3 million representing 0.55% of total loans and 1766% of non-accrual loans. This compares to an allowance for loan losses of $1.6 million representing 0.61% of total loans and 676% of non-accrual loans at December 31, 2003. Non-accrual loans totaled $74 thousand at December 31, 2004, down from $230 thousand a year earlier. The Bank’s net charge-offs totaled $5 thousand in 2004 compared to net recoveries of $11 thousand in 2003.

     The Bank also maintains an allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) that totaled $588 thousand and $626 thousand, respectively, at December 31, 2004 and 2003. In 2004, the Company recorded a negative provision for off-balance sheet credit exposures of $39 thousand compared to a charge of $16 thousand in 2003. The credit or provision is included in other non-interest expense.

Non-Interest Income

Non-interest income consists of gains or losses on securities, deposit account service fees and other non-interest income. Non-interest income for the year ended December 31, 2004 increased $564 thousand or 29.3% to $2.5 million, from $1.9 million for the year ended December 31, 2003. The increase is due primarily to an increase in net gains on securities available for sale and trading securities of $590 thousand, from $639 thousand in 2003 to $1.2 million in 2004. Net securities gains in 2004 were comprised of $1.5 million in net gains on equity securities and $299 thousand in net losses on debt securities. This compares to $347 thousand in net gains on equity securities and $292 thousand in net gains on debt securities in 2003. Management, consistent with many analysts, is cautious concerning its outlook regarding the likely performance of the equity markets over the next several years, expecting only moderate returns in the near term.

     Deposit account service fees and other non-interest income combined were $1.3 million in 2004 and 2003.

Non-Interest Expense

Non-interest expense totaled $12.3 million for the year ended December 31, 2004 compared to $12.6 million for the prior year, a decrease of $313 thousand or 2.5%. Salaries and employee benefits, the largest component of non-interest expense, decreased $264 thousand or 3.4% to $7.4 million in 2004 from $7.7 million in 2003. The decrease in salaries and employee benefits is due principally to a reduction in the number of bank employees.

     The Company’s other expenses consisting of occupancy and equipment, data processing, advertising and marketing, deposit insurance and other expenses totaled $4.2 million in 2004 reflecting a decrease of $286 thousand from the prior year. This was partially offset by an increase in professional services expenses of $237 thousand, from $394 thousand in 2003 to $631 thousand in 2004. The increase is principally a result of the higher fees paid to our independent registered public accounting firm to complete their audit of the Company’s internal control over financial reporting as required by the Sarbanes-Oxley Act of 2002. In 2003, the Company paid $146 thousand in audit fees to its independent registered public accounting firm. In 2004, the fees for the audits of the Company’s financial statements and internal control over financial reporting totaled $353 thousand.

Income Tax Expense

For the years ended December 31, 2004 and 2003, income tax expense amounted to $3.9 million and $4.2 million, respectively. The decrease in income tax expense is primarily due to lower income before taxes and a decrease in the Company’s effective income tax rate. The Company’s effective income tax rate for the year ended December 31, 2004 was 34.56%, down from 34.97% for the year ended December 31, 2003.

15

Financial Overview

Comparison of the years 2003 and 2002

Massbank Corp.’s earnings for 2003 were $7.9 million, or $1.73 per diluted share, compared to $9.8 million, or $2.04 per diluted share, in 2002. Basic earnings per share for 2003 were $1.77 compared to $2.09 in the prior year. Return on assets and return on equity were 0.78% and 7.08%, respectively, in 2003, compared to 0.99% and 8.39%, respectively, in 2002.

     Decreases in earnings and operating ratios were mainly due to the historically low market interest rate environment in 2003 which resulted in significant mortgage-backed securities and residential mortgage loan prepayment activity, and a Federal Reserve Bank monetary policy that reduced the Federal Funds rate to 1% for most of 2003, due to concerns about the slowdown in the U.S. economy. The Company’s earnings and operating ratios were also affected by the decline in net gains on equity securities in 2003.

Years Ended December 31, 2003 compared to 2002:

(In thousands) Years ended December 31,	2003			2002		change
Income Statement Data
Interest and dividend income:
Mortgage loans	$	17,682		$	20,819	$	(3,137	)
Mortgage-backed securities		8,250			14,863		(6,613	)
Federal funds sold		2,266			2,974		(708	)
Other		9,939			8,447		1,492
Total interest and dividend income		38,137			47,103		(8,966	)
Total interest expense		15,854			22,701		6,847
Net interest income		22,283			24,402		(2,119	)
Provision (credit) for loan losses		(502	)		—		502
Gains on securities, net		639			1,718		(1,079	)
Other non-interest income		1,283			1,205		78
Non-interest expense		12,615			12,037		(578	)
Taxes		4,229			5,474		1,245
Net income	$	7,863		$	9,814	$	(1,951	)
Diluted earnings per share (in dollars):	$	1.73		$	2.04	$	(0.31	)

(In thousands) Years ended December 31,	2003		2002		change
Average Balance Sheet Data
Earning assets:
Mortgage loans	$	270,826	$	308,710	$	(37,884	)
Mortgage-backed securities		133,037		233,627		(100,590	)
Federal funds sold		209,463		183,968		25,495
Other		374,529		246,877		127,652
Total average earning assets	$	987,855	$	973,182	$	14,673
Total average deposits	$	892,329	$	870,685	$	21,644

Earnings results for 2003 included the following that are more fully discussed in other sections of this discussion and analysis:

•   Reduction in net interest income of $2.1 million due essentially to the extraordinary prepayment activity on mortgage- backed securities and residential mortgages that significantly reduced interest income on these (higher yielding) earning assets and a reduction in interest income on Federal funds sold due to a lower Federal funds rate.

•   Negative provision for loan losses in the amount of $502 thousand due to the quality of loans in the portfolio and a decrease in the Bank’s loan portfolio.

•   A reduction in net securities gains taken during the year in the amount of $1.1 million.

•   An increase in non-interest expense in the amount of $578 thousand primarily attributable to broad based salary increases of $106 thousand, an increase in health and other benefit costs for employees of $51 thousand, an increase of $237 in deferred compensation expense related to the Bank’s supplemental retirement plan for certain executive officers that is offset by a corresponding increase in other non-interest income and an increase of $250 thousand in occupancy and equipment expense.

•   A reduction in income tax expense of $1.2 million due to lower income before income taxes and a reduction in the Company’s effective income tax rate.

16

Condensed Consolidated Balance Sheets

(In thousands) at December 31,	2003			2002			change
Short-term investments	$	214,532		$	248,750		$	(34,218	)
Interest-bearing deposits in banks		5,685			4,854			831
Securities available for sale, at market value		429,229			380,022			49,207
Trading securities, at market value		72,633			36,249			36,384
Total investments		722,079			669,875			52,204
Total loans		253,006			318,799			(65,793	)
Allowance for loan losses		(1,554	)		(2,271	)		717
Net loans		251,452			316,528			(65,076	)
Other assets		37,202			22,964			14,238
Total assets	$	1,010,733		$	1,009,367		$	1,366
Total deposits	$	882,508		$	883,928		$	(1,420	)
Escrow deposits of borrowers		1,139			1,387			(248	)
Other liabilities		16,159			6,767			9,392
Total liabilities		899,806			892,082			7,724
Total stockholders’ equity		110,927			117,285			(6,358	)
Total liabilities and stockholders’ equity	$	1,010,733		$	1,009,367		$	1,366

Financial Condition

The Company’s total assets were $1.011 billion at December 31, 2003 compared to $1.009 billion at December 31, 2002 reflecting virtually no asset growth in 2003. This was due to a decrease in stockholders’ equity and deposits declining slightly in 2003.

Investments

At December 31, 2003 the Company’s investment portfolio, consisting of securities available for sale and trading, short-term investments and interest-bearing bank deposits totaled $722.1 million or 71.4% of total assets, an increase of $52.2 million or 7.8%, compared to $669.9 million representing 66.4% of total assets at December 31, 2002. The increase in investments was essentially due to an increase of $36.4 million in trading securities consisting primarily of U.S. Treasury obligations, and an increase of $49.2 million in securities available for sale, partially offset by a reduction in short-term investments. The mix of available for sale securities in 2003, as in 2002, continued to shift from a large concentration of mortgage-backed securities to U.S. Treasury and Government agency securities, including callable government agency securities totaling $192.4 million at year-end 2003. The bank’s mortgage-backed securities portfolio declined by $93.4 million in 2003, from $189.1 million at year-end 2002 to $95.7 million at year-end 2003. The decrease in mortgage-backed-securities (MBS) results from significant prepayment activity in 2003. In addition, because of the historically low interest rate environment in 2003 and the anticipation of higher rates in 2004, the bank only purchased $9.9 million in MBS in 2003. Instead, the Bank increased its holdings of callable agency securities in order to help improve its net interest spread.

17

Loans

The loan portfolio, net of allowance for loan losses, decreased $65.1 million or 20.6% in 2003. At December 31, 2003 the loan portfolio, net of allowance for loan losses, totaled $251.5 million representing 24.9% of total assets compared to $316.5 million representing 31.4% of total assets at December 31, 2002. The decrease in loans is due to a year of low interest rates that dramatically increased the number of refinances, pay downs and payoffs for the Bank. Although the Bank originated $82.6 million in loans in 2003, it saw its loan portfolio decline as a result of the extraordinary prepayment activity.

     The Bank’s loan portfolio consists predominately of residential mortgages. Residential mortgage loans amounted to $240.3 million at December 31, 2003, representing 95% of the loan portfolio. At year-end 2003, 90.4% and 9.6% of the Company’s residential mortgage loans were fixed rate and variable rate loans, respectively. See Note 5 of Notes to Consolidated Financial Statements for a table setting forth the composition of the loan portfolio at year-end 2003.

Non-Performing Assets

Non-accrual loans, generally those loans that are 90 days or more delinquent, declined to $230 thousand at December 31, 2003 from $420 thousand at December 31, 2002. This represents 0.09% of total loans at December 31, 2003. The Bank had no real estate acquired through foreclosure at year-end 2003.

Deposits

Deposits have traditionally been the Bank’s primary source of funds for lending and investment activities. Massbank attracts deposits within its primary market area by offering a variety of deposit instruments including demand and NOW accounts, money market accounts, different types of savings accounts, certificates of deposit and retirement savings plans. Deposit flows vary significantly and are influenced by prevailing interest rates, market conditions, economic conditions and competition. The Bank’s management attempts to manage its deposits through selective pricing and marketing.

     Total deposits at December 31, 2003 amounted to $882.5 million, reflecting a decrease of $1.4 million from the prior year total of $883.9 million. Deposits in 2003 remained essentially unchanged from the prior year. Increased competition for deposits in the latter part of 2003 and more attractive returns on equity securities were the principal reasons for deposit outflows.

     Savings deposits continued to increase in 2003 as in the prior year, increasing $58.9 million or 10.7% year-over-year, to $607.8 million from $548.9 million at year-end 2002. Conversely, certificates of deposit decreased by $60.0 million or 24.0% to $189.6 million as customers continued the trend of shifting their deposits upon maturity from certificates of deposit to savings accounts seeking liquidity in this low interest rate environment. Demand and NOW account deposits amounted to $85.1 million at December 31, 2003 compared to $85.3 million at December 31, 2002.

Stockholders’ Equity

Total stockholders’ equity decreased $6.4 million to $110.9 million at December 31, 2003, representing a book value of $25.17, per share from $117.3 million representing a book value of $25.45 per share at December 31, 2002.

     The decrease in stockholders’ equity was essentially the result of the Company’s repurchase of 278,751 shares of treasury stock in 2003 at a cost of $8.1 million, the payment of dividends to stockholders of $4.1 million and the decrease in other comprehensive income of $3.7 million due primarily to the decline in market value of the Bank’s debt securities portfolio. This was partially offset by the net income for the year of $7.9 million and the payments and related tax benefits received from the exercise of stock options by the Company’s officers and directors of $1.7 million.

18

Results Of Operations

Comparison of the years 2003 and 2002

Net Interest Income

Net interest income is the primary source of Massbank’s operating income. The level of net interest income is affected by the volume and mix of average interest-earning assets and interest-bearing liabilities, market interest rates and other factors.

     Net interest income on a fully taxable equivalent (FTE) basis totaled $22.4 million in 2003 compared to $24.5 million in 2002. This decrease was primarily attributable to a decrease in net interest margin partially offset by growth in average earning assets. The Company’s net interest margin for the year ended December 31, 2003 decreased to 2.26% from 2.52% in the prior year. Average earning assets increased $14.7 million or 1.5% to $987.9 million in 2003, from $973.2 million in 2002. The tables on pages 26 and 27 set forth, among other things, the extent to which changes in interest rates and changes in the average balances of interest-earning assets and interest-bearing liabilities have affected interest income and expense during the years indicated. Information is provided for each category of interest-earning assets and interest-bearing liabilities, on changes due to (1) volume and (2) interest rates.

Interest and Dividend Income

Interest and dividend income on a fully taxable equivalent basis totaled $38.2 million for the year ended December 31, 2003, compared to $47.2 million for the year ended December 31, 2002. The decrease in interest and dividend income was the result of a decline in yield on average earning assets partially offset by the increased interest income from higher average earning assets. The yield on average earning assets dropped 98 basis points to 3.87% in 2003 from 4.85% the prior year. The average earning assets of the Company increased $14.7 million in 2003.

     The yield on earning assets has declined for three consecutive years due to declining market interest rates, including the Federal Funds rate that is currently at 1%, and the change in the mix of the Company’s average earning assets. The interest income from the Bank’s mortgage-backed securities (MBS) and loans declined significantly in 2003 from the prior year as a result of extraordinary prepayment activity in the historically low interest rate environment of 2003. With respect to the MBS portfolio, the Bank only added $9.9 million in MBS to the portfolio in 2003 because of low market interest rates. Additionally, because the Bank maintained a significant portion of its earning assets in Federal funds sold in 2003, the decrease in Federal funds rate also contributed to a reduction in interest income in 2003.

     As shown in the rate/volume analysis table on page 27, the decline in yield on average earning assets in 2003 resulted in decreased interest and dividend income of $3.6 million from 2002 levels. The total effect of the change in mix of the Company’s average earning assets on interest and dividend income in 2003, partially offset by the effect of higher average earning assets was a $5.4 million decrease from 2002. This resulted in a net decrease in interest and dividend income of $9.0 million compared to the prior year.

Interest Expense

Total interest expense decreased $6.8 million or 30.2% to $15.9 million for the year ended December 31, 2003 from $22.7 million for the year ended December 31, 2002. The decrease in interest expense is due primarily to the lower interest rate environment in 2003 and the continued shift in the deposit mix from certificate of deposit accounts to savings accounts. (This trend is expected to start to reverse if market interest rates rise). This resulted in a decrease in the Company’s average cost of funds, from 2.61% in 2002 to 1.78% in 2003. The decrease in average cost of funds was partially offset by an increase in interest expense resulting from an increase in the Company’s average deposits. Average deposits in 2003 increased $21.6 million or 2.5% to $892.3 million, from $870.7 million in the prior year.

     As shown in the rate/volume analysis table on page 27, the effect on total interest expense from changes in interest-bearing deposit rates was a decrease of $6.8 million from 2002 levels. The total effect of higher average deposits on interest expense was mitigated by the change in mix of the Company’s average deposits resulting in essentially no change in interest expense due to volume when compared to 2002.

19

Provisions (credit) for Loan Losses

In 2003, the Bank recorded a negative provision for loan losses of $502 thousand due to the quality of loans in the portfolio and a decrease in the Bank’s loan portfolio. This compares to a zero provision for loan losses in the prior year. The Bank’s loan portfolio decreased $65.8 million or 20.6% from $318.8 million at December 31, 2002 to $253.0 million at December 31, 2003. In determining the amount to provide for loan losses, the key factor is the adequacy of the allowance for loan losses. Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for the purposes of establishing a sufficient allowance for loan losses. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various loan types based on loss experience factors, and an unallocated allowance which is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may affect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs. At December 31, 2003, the allowance for loan losses was $1.6 million representing 0.61% of total loans and 676% of non-accrual loans. Non-accrual loans totaled $230 thousand at December 31, 2003, down from $420 thousand a year earlier. The Bank recorded $11 thousand in net loan recoveries in 2003 compared to $12 thousand in 2002.

     The Bank also maintains an allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) that totaled $626 thousand at December 31, 2003. This compares to $384 thousand at December 31, 2002.

     In 2003, the Company recorded a provision for off-balance sheet credit exposures of $16 thousand. There was no charge to earnings in 2002. This provision is included in other non-interest expense.

Non-Interest Income

Non-interest income consists of gains or losses on securities, deposit account service fees and other non-interest income. Non-interest income for the year ended December 31, 2003 decreased $1.0 million or 34.2% to $1.9 million, from $2.9 million for the year ended December 31, 2002. The decrease is due primarily to a decrease in net gains on securities available for sale and trading securities of $1.1 million, from $1.7 million in 2002 to $639 thousand in 2003. Net securities gains in 2003 were comprised of $347 thousand in net gains on equity securities and $292 thousand in net gains on debt securities. This compares to net gains on equity securities of $1.2 million and net gains on debt securities of $484 thousand in 2002.

     Deposit account service fees and other non-interest income combined increased $78 thousand to $1.3 million in 2003 from $1.2 million the prior year.

Non-Interest Expense

Non-interest expense totaled $12.6 million for the year ended December 31, 2003 compared to $12.0 million for the prior year, an increase of $578 thousand or 4.8%. Salaries and employee benefits, the largest component of non-interest expense, increased $394 thousand or 5.4% to $7.7 million in 2003 from $7.3 million in 2002. The increase in salaries and employee benefits is primarily the result of broad based salary increases of $106 thousand and an increase in health and other benefit costs for employees of $51 thousand. Also reflected is an increase of $237 thousand in deferred compensation expense related to the Bank’s supplemental retirement plan for certain executive officers. This expense, however, is essentially offset by a corresponding increase in other non-interest income. Occupancy and equipment expense increased $250 thousand to $2.2 million in 2003 due to an increase in depreciation expense of $123 thousand and increases in a variety of other occupancy and equipment related costs. Additionally, the Company’s data processing, advertising and marketing, deposit insurance and other expenses combined totaled $2.7 million in 2003 reflecting a decrease of $66 thousand compared to the prior year.

Income Tax Expense

For the years ended December 31, 2003 and 2002, income tax expense amounted to $4.2 million and $5.5 million, respectively. The decrease in income tax expense is primarily due to lower income before taxes and a decrease in the Company’s effective income tax rate. The Company’s effective income tax rate for the year ended December 31, 2003 was 34.97%, down from 35.81% for the year ended December 31, 2002.

20

Contractual Obligations

The Company’s contractual cash obligations and commitments to extend credit as of December 31, 2004 are as follows:

	Payments Due or Commitments Expiring – By Period
			Less than		One to		Four to		More than
(In thousands)	Total		one year		three years		five years		five years
Contractual cash obligations:
Operating lease obligations	$	1,451	$	296	$	463	$	361	$	331
Data processing service obligations(1)		936		618		318		—		—
Pension benefit obligations		364		364		—		—		—
Supplemental retirement benefit obligations		55		55		—		—		—
Total contractual cash obligations	$	2,806	$	1,333	$	781	$	361	$	331
Other commitments:
Commitments to originate residential mortgage loans	$	3,811	$	3,811	$	—	$	—	$	—
Unused lines of credit		33,909		364		1,463		8,917		23,165
Other loan commitments		4,115		89		—		3,926		100
Total other commitments (2)	$	41,835	$	4,264	$	1,463	$	12,843	$	23,265

⁽¹⁾ The fees charged by our data processing service provider fluctuate based on the number of deposit and loan accounts serviced and therefore have been estimated.

⁽²⁾ 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. These commitments generally have fixed expiration dates. The total commitment amounts do not necessarily represent future cash requirements since many of the commitments may expire without being drawn upon.

21

Liquidity and Capital Resources

The Bank must maintain a sufficient level of cash and assets which can readily be converted into cash in order to meet cash outflows from normal depositor requirements and loan demands. The Bank’s primary sources of funds are deposits, loan and mortgage-backed securities amortization and prepayments, sales, calls or maturities of investment securities and income on earning assets. In addition to loan payments and maturing investment securities, which are relatively predictable sources of funds, the Bank maintains a high percentage of its assets invested in federal funds sold and money market funds, which can readily be converted into cash, and United States Treasury and Government agency securities, which can be sold or pledged to raise funds. At December 31, 2004, the Bank had $194.3 million or 19.9% of total assets and $371.5 million or 38.1% of total assets invested, respectively, in federal funds sold and money market funds, and United States obligations.

      The Bank is a Federal Deposit Insurance Corporation insured institution subject to the FDIC regulatory capital requirements. The FDIC regulations require all FDIC insured institutions to maintain minimum levels of Tier I capital. Highly rated banks (i.e., those with a composite rating of 1 under the CAMELS rating system) are required to maintain a minimum leverage ratio of Tier I capital to total average assets of at least 3.00%. An additional 100 to 200 basis points are required for all but these most highly rated institutions. The Bank is also required to maintain a minimum level of risk-based capital. Under the risk-based capital standards, FDIC insured institutions must maintain a Tier I capital to risk-weighted assets ratio of 4.00% and are generally expected to meet a minimum total qualifying capital to risk-weighted assets ratio of 8.00%. The risk-based capital guidelines take into consideration risk factors, as defined by the regulators, associated with various categories of assets, both on and off the balance sheet. Under the guidelines, capital strength is measured in two tiers which are used in conjunction with risk adjusted assets to determine the risk-based capital ratios. Tier II capital components include supplemental capital components such as qualifying allowance for loan losses, qualifying subordinated debt and up to 45 percent of the pretax net unrealized holding gains on certain available for sale equity securities. Tier I capital plus the Tier II capital components are referred to as total qualifying capital.

     The capital ratios of the Bank and the Company currently exceed the minimum regulatory requirements. At December 31, 2004, the Bank had a leverage Tier I capital to average assets ratio of 10.67%, a Tier I capital to risk-weighted assets ratio of 37.48% and a total capital to risk-weighted assets ratio of 38.32%. The Company, on a consolidated basis, had ratios of leverage Tier I capital to average assets of 11.15%, Tier I capital to risk-weighted assets of 39.16% and total capital to risk-weighted assets of 40.00% at December 31, 2004.

Asset and Liability Management

The goal of asset/liability management is to ensure that liquidity, capital and market risk are prudently managed. Asset/ liability management is governed by policies reviewed and approved annually by the Bank’s Board of Directors (the “Board”). The Board establishes policy limits for long-term interest rate risk assumption and delegates responsibility for monitoring and measuring the Company’s exposure to interest rate risk to the Risk Management and Asset/Liability Committee (the“Committee”). The Committee which is comprised of members of the Company’s Board of Directors, members of senior management and the Bank’s controller, generally meets four times a year to review the economic environment and the volume, mix and maturity of the Company’s assets and liabilities.

22

Interest Rate Risk

The primary goal of interest-rate risk management is to control the Company’s exposure to interest rate risk both within limits approved by the Board and within narrower guidelines approved by the Risk Management and Asset/Liability Committee. These limits and guidelines reflect the Company’s tolerance for interest rate risk over both short-term and long-term time horizons. The Company monitors its interest rate exposures using a variety of financial tools, including income simulation models. These models, produced quarterly, estimate the effect that instantaneous and permanent “market interest rate shocks” of +/-100, 200 and 300 basis points would have on the Company’s net interest income, with no effect given to any steps that management might take to counter the effect of these interest rate movements. These results are compared to a flat interest rate scenario and a consensus forecast that represents the most likely future course of interest rates. The Company also produces a GAP analysis quarterly, reflecting the known or assumed maturity, repricing and other cash flow characteristics of the Company’s interest-earning assets and interest-bearing liabilities.

     Interest rate risk materializes in two forms, market value risk and reinvestment risk.

     Financial instruments calling for future cash flows show market value increases or decreases when rates change. Management monitors the potential change in market value of the Company’s debt securities assuming an immediate (parallel) shift in interest rates of up to 200 basis points up or down. Results are calculated using industry standard analytics and securities data from Bloomberg. The Company uses the results to review the potential changes in market value resulting from immediate rate shifts and to manage the effect of market value changes on the Company’s capital position.

     Reinvestment risk occurs when an asset and the liability funding the asset do not reprice and/or mature at the same time. The difference or mismatch with respect to repricing frequency and/or maturity is a risk to net interest income.

     Complicating management’s efforts to control the Company’s exposure to interest rate risk is the fundamental uncertainty of the maturity, repricing and/or runoff characteristics of a significant portion of the Company’s assets and liabilities. This uncertainty often reflects optional features embedded in these financial instruments. The most important optional features are embedded in the Company’s deposits, loans, mortgage-backed securities and callable U.S. Government agency securities.

     For example, many of the Company’s interest-bearing deposit products (e.g., savings, money market deposit accounts and NOW accounts) have no contractual maturity. Customers have the right to withdraw funds from these deposit accounts freely. Deposit balances may therefore run off unexpectedly due to changes in competitive or market conditions. In addition, when market interest rates rise, customers with time certificates of deposit (“CDs”) often pay a penalty to redeem their CDs and reinvest at higher rates. Given the uncertainties surrounding deposit runoff and repricing, the interest rate sensitivity of the Company’s liabilities cannot be determined precisely.

     Similarly, customers have the right to prepay loans, particularly residential mortgage loans, usually without penalty. As a result, the Company’s mortgage based assets (i.e., mortgage loans and mortgage-backed securities) are subject to prepayment risk. This risk tends to increase when interest rates fall due to the benefits of refinancing. Since the future prepayment behavior of the Company’s customers is uncertain, the interest rate sensitivity of mortgage based assets cannot be determined exactly. Additionally, some of the Company’s callable U.S. Government agency securities may be called prior to maturity. As a result, the interest rate sensitivity of these investment securities cannot be determined precisely.

     Management monitors and adjusts the difference between the Company’s interest-earning assets and interest-bearing liabilities repricing within various time frames (“GAP position”).

     GAP analysis provides a static view of the maturity and repricing characteristics of the Company’s balance sheet positions. The interest rate GAP is prepared by scheduling all interest-earning assets and interest-bearing liabilities according to scheduled or anticipated repricing or maturity. The GAP analysis identifies the difference between an institution’s assets and liabilities that will react to a change in market rates. GAP analysis theory postulates that if the GAP is positive and rates increase, the institution’s net interest spread will increase as more assets than liabilities react to the rate change. If the GAP is negative, more liabilities than assets will react to a change in market rates. If rates rise, the institution’s net interest spread will fall as more liabilities react to market rates than assets. If rates fall and the GAP is positive, the institution’s net interest spread will decrease as more assets than liabilities react to the rate change. If the GAP is negative and rates fall, the institution’s net interest spread will improve as more liabilities react to market rates than assets.

23

Interest Rate Risk (continued)

The Company, despite having a one-year negative GAP position as of year-end 2004, expects its net interest income and net interest spread in 2005 to move in the same direction as the change in market rates rather than in the opposite direction as GAP analysis theory postulates. One of the more significant reasons for this is the fact that a GAP presentation does not reflect the degrees to which interest earning assets and deposit costs respond to changes in market interest rates. The rates on all financial instruments do not always move by the same amount as the general change in market rates. Since the Company has elected to raise rates by a modest amount on some savings and transaction-oriented accounts in response to a change in market rates and expects to raise rates further if market rates continue to rise, these deposits are included in the three months or less category. As a result, the Company’s one-year cumulative GAP position was converted from asset sensitive to liability sensitive as of year-end 2004.

     The Company has historically managed its interest rate GAP primarily by lengthening or shortening the maturity structure of its securities portfolio, by continually modifying the composition of its securities portfolio and by selectively pricing and marketing its various deposit products. In anticipation of higher interest rates in 2005, the Company’s strategy has been to purchase liquid investments with short to intermediate maturities.

     The following table presents the amounts of interest-earning assets and interest-bearing liabilities at December 31, 2004 that are assumed to mature or reprice during the periods indicated. The table also summarizes the Company’s GAP position at December 31, 2004. As of this date, the Company’s one-year cumulative GAP position was negative $301.4 million, representing approximately 30.9% of total assets compared to a negative GAP of $68.8 million or 6.8% of total assets at December 31, 2003. The cumulative GAP-asset ratio measures the direction and extent of imbalance between an institution’s assets and liabilities repricing through the end of a particular period.

	Interest Sensitivity Periods
	3 Months			3 to 6			6 Months			1 to 5			Over
(In thousands)	or Less			Months			to 1 Year			Years			5 Years			Total
Interest-earning assets:
Loans(3)	$	18,476		$	11,863		$	19,670		$	128,587		$	57,602		$	236,198
Short-term investments:
Federal funds sold		193,728			—			—			—			—			193,728
Other		522			—			—			—			—			522
Interest-bearing deposits in banks		671			522			654			871			—			2,718
Securities available for sale(3)		37,042			66,933			46,386			268,437			24,955			443,753
Securities held to maturity		303			285			530			3,239			520			4,877
Trading securities		59,013			—			—			—			—			59,013
Total interest-earning assets	$	309,755		$	79,603		$	67,240		$	401,134		$	83,077		$	940,809
Interest-bearing liabilities:
Deposits(1) (2) (4)	$	704,817		$	25,868		$	27,344		$	62,946		$	902		$	821,877
Total interest-bearing liabilities	$	704,817		$	25,868		$	27,344		$	62,946		$	902		$	821,877
GAP for period	$	(395,062	)	$	53,735		$	39,896		$	338,188		$	82,175		$	118,932
Cumulative GAP – December 31, 2004	$	(395,062	)	$	(341,327	)	$	(301,431	)	$	36,757		$	118,932
Cumulative GAP as a percent of total assets		(40.5	)%		(35.0	)%		(30.9	)%		3.8	%		12.2	%
Cumulative GAP – December 31, 2003	$	(162,516	)	$	(125,816	)	$	(68,836	)	$	268,019		$	120,386

(1)	Excludes non-interest bearing demand accounts of $28,662.
(2)	Includes escrow deposits of borrowers of $1,074.
(3)	Loans and mortgage-backed securities reflect regular amortization of principal and prepayment estimates. Callable U.S. Government agency securities of $158,841 thousand are shown in the period they are expected to be called or reprice, otherwise they are shown based on their maturity date. It is assumed that a security will be called if the coupon rate on the security exceeded market interest rates at year-end 2004.
(4)	It is assumed that the Bank’s Savings and NOW account rates will be increased within 3 months or less.

24

Interest Rate Risk (continued)

The following table shows the Company’s financial instruments that are sensitive to changes in interest rates, categorized by expected call date or maturity, and the instruments’ fair values as of December 31, 2004.

Expected Maturity Date
At December 31, 2004
																						Fair Value
(In thousands)	2005			2006			2007			2008			2009			Thereafter			Total			at 12/31/04
Interest sensitive assets:
Fixed rate securities(5)	$	121,663		$	81,827		$	62,207		$	71,941		$	22,527		$	52,845		$	413,010		$	415,103
Average interest rate(1)		2.97	%		3.22	%		3.66	%		3.80	%		4.86	%		5.17	%		3.65	%
Variable rate securities(2) (5)		12,529			5,000			2,000			4,000			9,000			173			32,702			33,533
Average interest rate(1)		3.36	%		2.16	%		2.15	%		3.00	%		2.67	%		3.93	%		2.87	%
Trading securities(6)		59,013			—			—			—			—			—			59,013			59,013
Average interest rate		2.32	%		—			—			—			—			—			2.32	%
Fixed rate loans		72,523			44,424			34,626			13,900			7,677			30,808			203,958			206,311
Average interest rate		5.59	%		5.58	%		5.64	%		5.81	%		6.02	%		5.24	%		5.58	%
Variable rate loans		6,295			5,247			3,994			3,229			2,629			10,846			32,240			31,735
Average interest rate		5.58	%		5.59	%		5.58	%		5.56	%		5.50	%		5.88	%		5.67	%
Other fixed rate assets(4)		1,847			871			—			—			—			—			2,718			2,718
Average interest rate		3.08	%		2.85	%		—			—			—			—			3.01	%
Other variable rate assets(3)		194,250			—			—			—			—			—			194,250			194,250
Average interest rate		2.17	%		—			—			—			—			—			2.17	%
Total interest sensitive assets	$	468,120		$	137,369		$	102,827		$	93,070		$	41,833		$	94,672		$	937,891		$	942,663
Interest sensitive liabilities:
Savings and money market deposit accounts	$	561,313		$	—		$	—		$	—		$	—		$	—		$	561,313		$	561,313
Average interest rate		1.51	%		—			—			—			—			—			1.51	%
Fixed rate certificates of deposit		81,401			39,080			18,876			2,389			2,601			902			145,249			145,025
Average interest rate		1.92	%		2.55	%		3.01	%		3.21	%		3.84	%		3.61	%		2.29	%
Variable rate certificates of deposit		23,057			20,351			7,257			4,585			—			—			55,250			55,249
Average interest rate		3.04	%		3.05	%		3.14	%		3.15	%		—			—			3.06	%
NOW accounts		58,991			—			—			—			—			—			58,991			58,991
Average interest rate		0.33	%		—			—			—			—			—			0.33	%
Escrow deposits of borrowers		1,074			—			—			—			—			—			1,074			1,074
Average interest rate		0.25	%		—			—			—			—			—			0.25	%
Total interest sensitive liabilities	$	725,836		$	59,431		$	26,133		$	6,974		$	2,601		$	902		$	821,877		$	821,652

(1)	Securities rates presented are on a tax equivalent basis.
(2)	Includes equity securities.
(3)	Consist of Federal funds sold, money market funds and interest-bearing bank money market accounts.
(4)	Consist of interest-bearing deposits in banks.
(5)	Securities presented are at amortized cost.
(6)	Securities presented are at market value.

     The Company uses certain assumptions to estimate fair values and expected maturities. For interest-sensitive assets, except callable government agency securities, expected maturities are based upon contractual maturity, and projected repayments and prepayments of principal. For callable government agency securities expected maturities are based upon the next call date for those securities expected to be called, otherwise, the securities are shown at their expected maturity date. For interest-sensitive deposit liabilities, maturities are based on contractual maturity. The actual maturity of the Company’s financial instruments could vary significantly from what has been presented in the above table if actual experience differs from the assumptions used.

Other Market Risks

The Company’s investment securities portfolio includes equity securities with a market value of approximately $7.4 million at December 31, 2004. The net unrealized gains on these securities totaled $0.9 million at year-end 2004. Movements in equity prices may effect the amount of securities gains or losses which the Company realizes from the sale of these securities and thus may have an impact on earnings.

25

Average Balance Sheets

(In thousands) Years ended December 31,	2004								2003									2002
				Interest		Average							Interest		Average						Interest		Average
	Average			Income/		Yield/				Average			Income/		Yield/			Average			Income/		Yield/
	Balance			Expense(1)		Rate				Balance			Expense(1)		Rate			Balance			Expense(1)		Rate
Assets:
Earning assets:
Federal funds sold	$	186,615		$	2,438		1.31	%		$	209,463		$	2,266		1.08	%	$	183,968		$	2,974		1.62	%
Short-term investments(4)		15,870			239		1.51				29,672			435		1.47			31,063			671		2.16
Securities available for sale:
Investment securities(2)		324,239			9,002		2.78				259,148			7,638		2.95			158,978			5,815		3.66
Mortgage-backed securities(2)		112,445			6,398		5.69				133,037			8,250		6.20			233,627			14,863		6.36
Mortgage-backed securities held to maturity		3,402			173		5.09				—			—		—			—			—		—
Trading securities		69,345			1,145		1.65				72,534			1,113		1.53			31,814			685		2.15
Mortgage loans(3)		232,709			13,578		5.83				270,826			17,682		6.53			308,710			20,819		6.74
Other loans(3)		10,642			669		6.29				13,175			834		6.33			25,022			1,362		5.44
Total earning assets		955,267			33,642		3.52	%			987,855			38,218		3.87	%		973,182			47,189		4.85	%
Allowance for loan losses		(1,460	)								(2,388	)							(2,644	)
Total earning assets less allowance for loan losses		953,807									985,467								970,538
Other assets		25,541									22,410								22,410
Total assets	$	979,348								$	1,007,877							$	992,948
Liabilities:
Deposits:
Demand and NOW	$	85,066			171		0.20	%		$	83,583			247		0.30	%	$	82,964			366		0.44	%
Savings		585,239			8,563		1.46				595,464			11,032		1.85			471,734			12,161		2.58
Time certificates of deposit		192,386			3,995		2.08				213,282			4,575		2.15			315,987			10,174		3.22
Total deposits		862,691			12,729		1.48	%			892,329			15,854		1.78	%		870,685			22,701		2.61	%
Other liabilities		6,660									4,474								5,225
Total liabilities		869,351									896,803								875,910
Stockholders’ Equity		109,997									111,074								117,038
Total liabilities and stockholders’ equity	$	979,348								$	1,007,877							$	992,948
Net interest income (tax-equivalent basis)					20,913									22,364								24,488
Less adjustment of tax-exempt interest income					61									81								86
Net interest income				$	20,852								$	22,283							$	24,402
Interest rate spread(5)							2.04	%								2.09	%							2.24	%
Net interest margin(6)							2.19	%								2.26	%							2.52	%

⁽¹⁾ Income on equity securities is included on a tax equivalent basis.

⁽²⁾ Averages balances include net unrealized gains on securities available for sale.

⁽³⁾ Loans on non-accrual status are included in average balances.

⁽⁴⁾ Short-term investments consist of interest-bearing deposits in banks and investments in money market funds.

⁽⁵⁾ Interest rate spread represents the difference between the yield on earning assets and the cost of the Company’s deposits.

⁽⁶⁾ Net interest margin represents net interest income (tax equivalent basis) divided by average interest-earning assets.

26

Rate/Volume Analysis

The following table presents, for the years indicated, the changes in interest and dividend income and the changes in interest expense attributable to changes in interest rates and changes in the volume of earning assets and interest-bearing liabilities. A change attributable to both volume and rate has been allocated proportionately to the change due to volume and the change due to rate.

	2004 Compared to 2003									2003 Compared to 2002
(In thousands)	Increase (Decrease)									Increase (Decrease)
Years ended December 31,	Due to									Due to
	Volume			Rate			Total			Volume			Rate			Total
Interest and dividend income:
Federal funds sold	$	(265	)	$	437		$	172		$	372		$	(1,080	)	$	(708	)
Short-term investments		(208	)		12			(196	)		(29	)		(207	)		(236	)
Investment securities		1,813			(429	)		1,384			3,081			(1,253	)		1,828
Mortgage-backed securities		(1,011	)		(668	)		(1,679	)		(6,247	)		(366	)		(6,613	)
Trading securities		(50	)		82			32			671			(243	)		428
Mortgage loans		(2,338	)		(1,766	)		(4,104	)		(2,490	)		(647	)		(3,137	)
Other loans		(159	)		(6	)		(165	)		(723	)		195			(528	)
Total interest and dividend income		(2,218	)		(2,338	)		(4,556	)		(5,365	)		(3,601	)		(8,966	)
Interest expense:
Deposits:
Demand and NOW		4			(80	)		(76	)		3			(122	)		(119	)
Savings		(186	)		(2,283	)		(2,469	)		2,757			(3,886	)		(1,129	)
Time certificates of deposit		(437	)		(143	)		(580	)		(2,762	)		(2,837	)		(5,599	)
Total interest expense		(619	)		(2,506	)		(3,125	)		(2	)		(6,845	)		(6,847	)
Net interest income	$	(1,599	)	$	168		$	(1,431	)	$	(5,363	)	$	3,244		$	(2,119	)

Impact of Inflation and Changing Prices

Massbank Corp.’s financial statements presented herein have been prepared in accordance with accounting principles generally accepted in the United States of America which require the measurement of financial position and operating results in terms of historical dollars, without considering changes in the relative purchasing power of money over time, due to the fact that substantially all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution’s performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or in the same magnitude as the prices of goods and services.

27

Recent Accounting Pronouncements

Accounting For Stock-Based Compensation – Transition and Disclosure

In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 123-Revised 2004 (“SFAS 123(R)”), “Share-Based Payment.” This is a revision of SFAS No. 123, Accounting for Stock-Based Compensation, and supersedes APB No. 25, Accounting for Stock issued to Employees. As noted in the notes to consolidated financial statements, we do not record compensation expense for stock-based compensation. Under SFAS 123(R), we will be required to measure the cost of employee services received in exchange for stock based on the grant-date fair value (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 (usually the vesting period). The fair value will be estimated using an option-pricing model. Excess tax benefits, as defined in SFAS 123(R), will be recognized as an addition to paid-in capital. This is effective as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. We are currently in the process of evaluating the impact of SFAS 123(R) on our consolidated financial statements, including different option-pricing models. The pro forma table in Note 1 of the Notes to the Consolidated Financial Statements illustrates the effect on net income and earnings per share if we had applied the fair value recognition provisions of SFAS 123.

Employers’ Disclosures about Pensions and other Postretirement Benefits

In December 2003, the FASB issued FASB Statement No. 132-Revised 2003 (“SFAS 132R”), “Employers’ Disclosures about Pensions and Other Postretirement Benefits.” This standard increases the existing disclosure requirements by requiring more details about pension plan assets, benefit obligations, cash flows, benefit costs and related information. Companies are required to segregate plan assets by category, such as debt, equity and real estate, and to provide certain expected rates of return and other informational disclosures. SFAS 132R also requires companies to disclose various elements of pension and postretirement benefit costs in interim-period financial statements for quarters beginning after December 15, 2003 (see Note 15 of the Notes to the Consolidated Financial Statements). We have complied with the disclosure requirements of SFAS 132R.

28

Massbank Corp.

Management’s Annual Report on Internal Control Over Financial Reporting

Massbank Corp.’s management is responsible for the preparation, content and integrity of the financial statements and other statistical data and analyses compiled for this annual report. The financial statements and related notes have been prepared in conformity with U.S. generally accepted accounting principles and reflect management’s best estimates and judgments. Management believes that the financial statements and notes present fairly Massbank Corp.’s financial position, results of operations and cash flows in all material respects.

     Management is responsible for establishing and maintaining a system of internal control that is intended to protect Massbank Corp.’s assets and the integrity of its financial reporting. This corporate-wide system of controls includes self-monitoring mechanisms, written policies and procedures, proper delegation of authority and organizational division of responsibility, and the selection and training of qualified personnel.

     An annual code of ethics certification process is conducted, and compliance with the code of ethics is required of all Company employees. Although any system of internal control can be compromised by human error or intentional circumvention of required procedures, management believes the Company’s system provides reasonable assurances that financial transactions are recorded and reported properly, providing an adequate basis for reliable financial statements.

     The Board of Directors discharges its responsibility for Massbank Corp.’s financial statements through its Audit Committee. This committee, which draws its members exclusively from the independent directors, also hires the independent registered public accounting firm.

Management’s Assessment of Internal Control Over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting for Massbank Corp. Management has assessed the effectiveness of Massbank Corp.’s internal control and procedures over financial reporting using criteria described in “Internal Control – Integrated Framework,” issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on that assessment, management believes that the Company maintained an effective system of internal control over financial reporting as of December 31, 2004. Massbank Corp.’s independent registered public accounting firm has issued an attestation report, dated March 14, 2005, on management’s assessment of Massbank Corp.s internal control over financial reporting, which is included in this annual report.

Gerard H. Brandi
Chairman, President and CEO

Reginald E. Cormier
Sr. Vice President, Treasurer and CFO

29

report of independent registered public accounting firm

The Board of Directors and Stockholders
Massbank Corp.:

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Massbank Corp. (the “Company”) 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). The Company’s management is responsible 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 management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

     We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit 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 audit provides a reasonable basis for our opinion.

     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, management’s assessment that the Company 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). Also, in our opinion, the Company 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).

     We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of the Company and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of income, cash flows and changes in stockholders’ equity for each of the years in the three-year period ended December 31, 2004, and our report dated March 14, 2005 expressed an unqualified opinion on those consolidated financial statements.

Boston, Massachusetts
March 14, 2005

30

report of independent registered public accounting firm

The Board of Directors and Stockholders

Massbank Corp.:

We have audited the accompanying consolidated balance sheets of Massbank Corp. and subsidiaries (the “Company”) as of December 31, 2004 and 2003, and the related consolidated statements of income, cash flows and changes in stockholders’ equity for each of the years in the three-year period ended December 31, 2004. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

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

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Massbank Corp. 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 U.S. generally accepted accounting principles.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company’s 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), and our report dated March 14, 2005 expressed an unqualified opinion on management’s assessment of, and the effective operation of internal control over financial reporting.

Boston, Massachusetts
March 14, 2005

31

Massbank Corp. and Subsidiaries
Consolidated Balance Sheets

(In thousands except share data) At December 31,	2004			2003
Assets:
Cash and due from banks	$	9,829		$	8,862
Short-term investments (Note 2)		194,250			214,532
Total cash and cash equivalents		204,079			223,394
Interest-bearing deposits in banks		2,718			5,685
Securities available for sale, at market value (amortized cost of $440,835 in 2004 and $422,875 in 2003) (Note 3)		443,753			429,229
Securities held to maturity, at amortized cost (market value of $4,883 in 2004) (Note 3)		4,877			—
Trading securities, at market value (Note 4)		59,013			72,633
Loans (Notes 5 and 7):
Mortgage loans		226,197			241,886
Other loans		10,001			11,120
Total loans		236,198			253,006
Allowance for loan losses (Note 6)		(1,307	)		(1,554	)
Net loans		234,891			251,452
Premises and equipment (Note 9)		6,464			6,943
Accrued interest receivable		3,416			3,854
Goodwill		1,090			1,090
Income tax receivable, net		164			325
Deferred income tax asset, net (Note 12)		588			—
Other assets		15,115			16,128
Total assets	$	976,168		$	1,010,733
Liabilities and Stockholders’ Equity:
Deposits (Note 10):
Demand and NOW	$	87,653		$	85,056
Savings		561,313			607,831
Time certificates of deposit		200,499			189,621
Total deposits		849,465			882,508
Escrow deposits of borrowers		1,074			1,139
Deferred income tax liability, net (Note 12)		—			783
Allowance for loan losses on off-balance sheet credit exposures		588			626
Other liabilities		15,026			14,750
Total liabilities		866,153			899,806
Commitments and contingent liabilities (Notes 8 and 9)
Stockholders’ equity (Notes 12, 14, 15 and 16):
Preferred stock, par value $1.00 per share; 2,000,000 shares authorized, none issued		—			—
Common stock, par value $1.00 per share; 10,000,000 shares authorized, 7,736,430 and 7,688,333 shares issued, respectively		7,736			7,688
Additional paid-in capital		55,313			54,417
Retained earnings		102,003			99,038
		165,052			161,143
Treasury stock at cost, 3,354,703 and 3,280,880 shares, respectively		(56,794	)		(54,177	)
Accumulated other comprehensive income		1,757			3,961
Shares held in rabbi trust at cost, 25,804 and 25,200 shares, respectively (Note 15)		(553	)		(515	)
Deferred compensation obligation		553			515
Total stockholders’ equity		110,015			110,927
Total liabilities and stockholders’ equity	$	976,168		$	1,010,733

See accompanying notes to consolidated financial statements.

32

Massbank Corp. and Subsidiaries
Consolidated Statements of Income

(In thousands except share data) Years ended December 31,	2004			2003			2002
Interest and dividend income:
Mortgage loans	$	13,578		$	17,682		$	20,819
Other loans		669			834			1,362
Securities available for sale:
Mortgage-backed securities		6,398			8,250			14,863
Other securities		8,941			7,557			5,729
Mortgage-backed securities held to maturity		173			—			—
Trading securities		1,145			1,113			685
Federal funds sold		2,438			2,266			2,974
Other investments		239			435			671
Total interest and dividend income		33,581			38,137			47,103
Interest expense:
Deposits:
NOW		171			247			366
Savings		8,563			11,032			12,161
Time certificates of deposit		3,995			4,575			10,174
Total interest expense		12,729			15,854			22,701
Net interest income		20,852			22,283			24,402
Provision (credit) for loan losses (Note 6)		(242	)		(502	)		—
Net interest income after provision (credit) for loan losses		21,094			22,785			24,402
Non-interest income:
Deposit account service fees		448			494			567
Gains on securities available for sale, net		1,361			558			1,566
Gains (losses) on trading securities, net		(132	)		81			152
Other		809			789			638
Total non-interest income		2,486			1,922			2,923
Non-interest expense:
Salaries and employee benefits		7,428			7,692			7,298
Occupancy and equipment		2,169			2,248			1,998
Data processing		521			528			528
Professional services		631			394			526
Advertising and marketing		110			154			168
Deposit insurance		160			177			182
Other		1,283			1,422			1,337
Total non-interest expense		12,302			12,615			12,037
Income before income taxes		11,278			12,092			15,288
Income tax expense (Note 12)		3,898			4,229			5,474
Net income	$	7,380		$	7,863		$	9,814
Weighted average common shares outstanding:
Basic		4,408,293			4,439,394			4,697,826
Diluted		4,501,537			4,544,594			4,822,501
Earnings per share (in dollars):
Basic	$	1.67		$	1.77		$	2.09
Diluted		1.64			1.73			2.04

See accompanying notes to consolidated financial statements.

33

Massbank Corp.  and Subsidiaries

Consolidated Statements of Cash Flows

(In thousands) Years ended December 31,	2004			2003			2002
Cash flows from operating activities:
Net income	$	7,380		$	7,863		$	9,814
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Depreciation and amortization		676			721			658
Loan interest capitalized		(8	)		(12	)		(33	)
Amortization of ESOP shares committed to be released		—			—			202
Tax benefit resulting from dividends paid on unallocated shares held by the ESOP		—			—			4
Decrease in accrued interest receivable		438			72			24
Increase in other liabilities		276			11,038			966
(Increase) decrease in income tax receivable, net		161			(126	)		9
Amortization of premiums (accretion of discounts) on securities, net		566			613			450
Net trading securities activity		13,488			(36,303	)		(33,008	)
Gains on securities available for sale, net		(1,361	)		(567	)		(1,633	)
Valuation writedowns of equity securities available for sale		—			9			67
Gains (losses) on trading securities, net		132			(81	)		(152	)
Decrease in deferred mortgage loan origination fees, net of amortization		(231	)		(562	)		(344	)
Deferred income tax expense (benefit)		28			236			(219	)
(Increase) decrease in other assets		847			(12,443	)		(42	)
Provision (credit) for loan losses		(242	)		(502	)		—
Provision for loan losses on off-balance sheet credit exposures		(38	)		16			—
Transfer from allowance for loan losses		—			(226	)		(235	)
Transfer to allowance for loan losses on off-balance sheet credit exposures		—			226			235
Gains on sales of premises and equipment		(4	)		—			—
Decrease in escrow deposits of borrowers		(65	)		(248	)		(16	)
Net cash (used in) provided by operating activities		22,043			(30,276	)		(23,253	)
Cash flows from investing activities:
Purchases of term federal funds		—			(15,000	)		—
Proceeds from maturities of term federal funds		—			15,000			—
Net (increase) decrease in interest-bearing bank deposits		2,967			(831	)		587
Proceeds from sales of investment securities available for sale		28,942			36,810			50,158
Proceeds from maturities and redemption of investment securities held to maturity and available for sale		207,509			175,000			76,500
Purchases of investment securities available for sale		(225,318	)		(355,995	)		(209,923	)
Purchases of mortgage-backed securities available for sale		(63,922	)		(9,937	)		(19,977	)
Purchases of mortgage-backed securities held to maturity		(4,925	)		—			—
Principal repayments of mortgage-backed securities		35,671			97,916			99,266
Principal repayments of securities available for sale		1			2			90
Loans originated		(60,332	)		(82,598	)		(104,631	)
Loan principal payments received		77,369			148,966			117,207
Purchases of premises and equipment		(193	)		(859	)		(465	)
Proceeds from sale of premises and equipment		4			—			—
Net cash (used in) provided by investing activities		(2,227	)		8,474			8,812

(Continued)

34

Massbank Corp. and Subsidiaries
Consolidated Statements of Cash Flows
(Continued)

(In thousands) Years Ended December 31,	2004			2003			2002
Cash flows from financing activities:
Net (decrease) increase in deposits		(33,043	)		(1,420	)		34,215
Payments to acquire treasury stock		(2,617	)		(8,097	)		(7,230	)
Purchase of company stock for deferred compensation plan, net of distributions
Increase in deferred compensation obligation		(38	)		(38	)		(55	)
Options exercised, including tax benefit		944			1,675			2,325
Cash dividends paid on common stock		(4,415	)		(4,068	)		(4,139	)
Net cash (used in) provided by financing activities		(39,131	)		(11,910	)		25,171
Net (decrease) increase in cash and cash equivalents		(19,315	)		(33,712	)		10,730
Cash and cash equivalents at beginning of year		223,394			257,106			246,376
Cash and cash equivalents at end of year	$	204,079		$	223,394		$	257,106
Supplemental cash flow disclosures:
Cash transactions:
Cash paid during the year for interest	$	12,769		$	15,922		$	22,765
Cash paid during the year for taxes, net of refunds		3,401			3,608			5,080

See accompanying notes to consolidated financial statements.

35

Massbank Corp. and Subsidiaries
Consolidated Statements of Changes in Stockholders’ Equity

(In thousands except share data) Years ended December 31, 2004, 2003 and 2002

												Accumulated			Shares					Common
			Additional									other			held in			Deferred		stock
	Common		paid-in			Retained			Treasury			comprehensive			Rabbi			compensation		acquired
	stock		capital			earnings			stock			income			Trust			obligation		by ESOP			Total
Balance at December 31, 2001	$	7,495	$	62,453		$	99,996		$	(61,327	)	$	6,443		$	(422	)	$	422	$	(156	)	$	114,904
Net Income		—		—			9,814			—			—			—			—		—			9,814
Other comprehensive income, net of tax:
Unrealized gains on securities, net of reclassification adjustment (Note 1)		—		—			—			—			1,249			—			—		—			1,249
Comprehensive income		—		—			—			—			—			—			—		—			11,063
Cash dividends paid ($0.88 per share)		—		—			(4,139	)		—			—			—			—		—			(4,139	)
Tax benefit resulting from dividends paid on unallocated shares held by the ESOP		—		—			4			—			—			—			—		—			4
Net decrease in liability to ESOP		—		—			—			—			—			—			—		156			156
Amortization of ESOP shares committed to be released		—		202			—			—			—			—			—		—			202
Purchase of treasury stock		—		—			—			(7,230	)		—			—			—		—			(7,230	)
Purchase of company stock for deferred compensation plan		—		—			—			—			—			(55	)		55		—			—
Exercise of stock options and related tax benefits		115		2,210			—			—			—			—			—		—			2,325
Transfer resulting from three-for-two stock split		—		(12,045	)		(10,432	)		22,477			—			—			—		—			—
Balance at December 31, 2002		7,610		52,820			95,243			(46,080	)		7,692			(477	)		477		—			117,285
Net Income		—		—			7,863			—			—			—			—		—			7,863
Other comprehensive loss, net of tax:
Unrealized losses on securities, net of reclassification adjustment (Note 1)		—		—			—			—			(3,731	)		—			—		—			(3,731	)
Comprehensive income		—		—			—			—			—			—			—		—			4,132
Cash dividends paid ($0.92 per share)		—		—			(4,068	)		—			—			—			—		—			(4,068	)
Purchase of treasury stock		—		—			—			(8,097	)		—			—			—		—			(8,097	)
Purchase of company stock for deferred compensation plan		—		—			—			—			—			(38	)		38		—			—
Exercise of stock options and related tax benefits		78		1,597			—			—			—			—			—		—			1,675
Balance at December 31, 2003		7,688		54,417			99,038			(54,177	)		3,961			(515	)		515		—			110,927
Net Income		—		—			7,380			—			—			—			—		—			7,380
Other comprehensive loss, net of tax:
Unrealized losses on securities, net of reclassification adjustment (Note 1)		—		—			—			—			(2,204	)		—			—		—			(2,204	)
Comprehensive income		—		—			—			—			—			—			—		—			5,176
Cash dividends paid ($1.00 per share)		—		—			(4,415	)		—			—			—			—		—			(4,415	)
Purchase of treasury stock		—		—			—			(2,617	)		—			—			—		—			(2,617	)
Purchase of company stock for deferred compensation plan, net of distributions		—		—			—			—			—			(38	)		38		—			—
Exercise of stock options and related tax benefits		48		896			—			—			—			—			—		—			944
Balance at December 31, 2004	$	7,736	$	55,313		$	102,003		$	(56,794	)	$	1,757		$	(553	)	$	553	$	—		$	110,015

See accompanying notes to consolidated financial statements.

36

     Massbank Corp. and Subsidiaries
     Notes to Consolidated Financial Statements

     Years ended December 31, 2004, 2003 and 2002

1.   Summary of Significant Accounting Policies

MASSBANK Corp. (the “Company”) is a Delaware chartered holding company whose principal subsidiary is MASSBANK (the “Bank”). The Bank operates fifteen full service banking offices in Reading, Melrose, Stoneham, Wilmington, Medford, Chelmsford, Tewksbury, Westford, Dracut, Lowell and Everett, Massachusetts providing a variety of deposit, lending and trust services. As a Massachusetts chartered savings bank whose deposits are insured by the Federal Deposit Insurance Corporation (“FDIC”) and the Depositors Insurance Fund (“DIF”), the activities of the Bank are subject to regulation, supervision and examination by federal and state regulatory authorities, including, but not limited to the FDIC, the Massachusetts Commissioner of Banks and the DIF. In addition, as a bank holding company, the Company is subject to supervision, examination and regulation by the Board of Governors of the Federal Reserve System.

Basis of Presentation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary MASSBANK and its subsidiaries: Readibank Properties, Inc., Readibank Investment Corporation and Melbank Investment Corporation.

     The Company has one reportable operating segment. All significant intercompany balances and transactions have been eliminated in consolidation. The accounting and reporting policies of the Company conform to U.S. generally accepted accounting principles and to general practices within the banking industry. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the balance sheet date and income and expenses for the period. Material estimates that are particularly susceptible to change in the near term relate to the determination of the allowance for loan losses, the allowance for loan losses on off-balance sheet credit exposures and other than temporary declines in value of investment securities requiring impairment write downs due to general market conditions or other factors.

     Certain amounts in the prior years’ consolidated financial statements were reclassified to facilitate comparison with the current fiscal year.

Investments in Debt and Equity Securities

Under its investment policy, management determines the appropriate classification of securities at the time of purchase. Those debt securities that the Company has the intent and the ability to hold to maturity are classified as securities held to maturity and are carried at amortized historical cost.

     Those securities held for indefinite periods of time and not intended to be held to maturity are classified as available for sale. Securities held for indefinite periods of time include securities that management intends to use as part of its asset/liability management strategy and that may be sold in response to changes in market conditions, interest rates, prepayment risk, the need to increase regulatory capital and other factors. The Company records investment securities available for sale at aggregate market value with the net unrealized holding gains or losses reported, net of tax effect, as a separate component of stockholders’ equity until realized. As of December 31, 2004, stockholders’ equity included approximately $1.8 million of accumulated other comprehensive income, representing the net unrealized gains on securities available for sale, less applicable income taxes.

     Securities that are bought and held principally for the purpose of sale in the near term are classified as trading securities. Trading generally reflects active and frequent buying and selling, and trading securities are generally used with the objective of generating profits on short-term differences in price caused by market volatility. Investments classified as trading securities are stated at market value with unrealized gains and losses included in earnings.

     Income on debt securities is accrued and included in interest and dividend income. The specific identification method is used to determine realized gains or losses on sales of securities available for sale which are also reported in non-interest income under the caption “gains on securities available for sale, net.” When a security suffers a loss in value which is considered other than temporary, such loss is recognized by a charge to earnings.

37

1.   Summary of Significant Accounting Policies (continued)

Loans

Loans are reported at the principal amount outstanding, net of unearned fees. Loan origination fees and related direct incremental loan origination costs are offset and the resulting net amount is deferred and amortized over the life of the loan using the level-yield method.

          The Bank generally does not accrue interest on loans which are 90 days or more past due. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed from income and all amortization of deferred loan fees is discontinued. Interest received on nonaccrual loans is either applied against principal or reported as income according to management’s judgment as to the collectibility of principal. Interest accruals are resumed on such loans only when they are brought current with respect to interest and principal and when, in the judgment of management, the loans are estimated to be fully collectible as to both principal and interest.

          Impairment on loans for which it is probable that the creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement are measured on a discounted cash flow method, or at the loan’s observable market price, or at the fair value of the collateral if the loan is collateral dependent. However, impairment must be measured based on the fair value of the collateral if it is determined that foreclosure is probable. Impaired loans consist of all nonaccrual commercial loans.

Allowance for Loan Losses and Allowance for Loan Losses on Off-Balance Sheet Credit Exposures

The Company maintains an allowance for probable losses that are inherent in the Company’s loan portfolio. The allowance for loan losses is increased by provisions charged to operations based on the estimated loan loss exposure inherent in the portfolio. Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for purposes of establishing a sufficient allowance for loan losses. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various loan types based on loss experience factors and an unallocated allowance which is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may affect borrowers’ ability to pay, and trends in loan delinquencies and charge-offs. Realized losses, net of recoveries, are charged directly to the allowance. While management uses the information available in establishing the allowance for loan losses, future adjustments to the allowance may be necessary if economic conditions differ from the assumptions used in making the evaluation. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance based on judgments different from those of management.

     The Company also maintains an allowance for probable losses on its outstanding loan commitments. The allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) is maintained based on expected drawdowns of committed loans and their loss experience factors and management’s assessment of various other factors including current and anticipated economic conditions that may effect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.

38

Premises and Equipment

Land is carried at cost. Premises, equipment and leasehold improvements are stated at cost, less accumulated depreciation and amortization computed primarily by use of the straight-line method over the estimated useful lives of the related assets or terms of the related leases.

Impairment of the long-lived Assets – Except Goodwill

The Company reviews long-lived assets for impairment at least annually or whenever events or changes in business circumstances indicate that the remaining useful life may warrant revision or that the carrying amount of the long-lived asset may not be fully recoverable. The Company performs undiscounted cash flow analyses to determine if impairment exists. If impairment is determined to exist, any related impairment loss is calculated based on the fair value. Impairment losses on assets to be disposed of, if any, are based on the estimated proceeds to be received, less any cost of disposal.

Stock Option Plan


The Company applies the intrinsic-value-based method to account for its fixed-plan stock options. Under this method, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. Statement of Financial Accounting Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation,” established accounting and disclosure requirements using a fair-value-based method of accounting for stock-based employee compensation plans. As allowed by SFAS No. 123, the Company has elected to continue to apply the intrinsic-value-based method of accounting described above, and has adopted only the disclosure requirements of SFAS No. 123, as amended, to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results.

     In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 123-Revised 2004 (“SFAS 123(R)”), “Share-Based Payment.” This is a revision of SFAS No. 123, Accounting for Stock-Based Compensation, and supersedes APB No. 25, Accounting for Stock issued to Employees. Under SFAS 123(R), we will be required to measure the cost of employee services received in exchange for stock based on the grant-date fair value (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 (usually the vesting period). The fair value will be estimated using an option-pricing model. Excess tax benefits, as defined in SFAS 123(R), will be recognized as an addition to paid-in capital. This is effective as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. We are currently in the process of evaluating the impact of SFAS 123(R) on our consolidated financial statements, including different option-pricing models. The following pro forma table illustrates the effect on net income and earnings per share if we had applied the fair value recognition provisions of SFAS 123.

39

1.  Summary of Significant Accounting Policies (continued)

(In thousands except per share data) Years Ended December 31,	2004			2003			2002
Net income, as reported	$	7,380		$	7,863		$	9,814
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		(170	)		(74	)		(75	)
Pro forma net income	$	7,210		$	7,789		$	9,739
Earnings per share:
Basic – as reported	$	1.67		$	1.77		$	2.09
Basic – pro forma		1.64			1.75			2.07
Diluted – as reported	$	1.64		$	1.73		$	2.04
Diluted – pro forma		1.60			1.71			2.02
Weighted average fair value	$	9.55		$	5.44		$	5.76
Expected life	7.3 years			7.3 years			7.2 years
Risk-free interest rate		3.49	%		3.55	%		4.62	%
Expected volatility		21.9	%		21.8	%		21.3	%
Expected dividend yield		2.3	%		3.2	%		3.3	%

Goodwill Impairment

The Company adopted SFAS No. 142, Goodwill and Other Intangibles, effective January 1, 2002. The statement addresses the method of identifying and measuring goodwill and other intangible assets acquired in a business combination, eliminates further amortization of goodwill, and requires periodic impairment evaluations of goodwill. Impairment evaluations are required to be performed annually and may be required more frequently if certain conditions indicating potential impairment exists. In the event that the Company were to determine that its goodwill were impaired, the recognition of an impairment charge could have an adverse impact on its results of operations in the period that the impairment occurred or on its financial position.

Pension Plan

The Bank accounts for pension benefits on the net periodic pension cost method for financial reporting purposes. This method recognizes the compensation cost of an employee’s pension benefit over that employee’s approximate service period. Pension costs are funded in the year of accrual using the aggregate cost method.

Earnings Per Common Share

Basic EPS is computed by dividing net income by the weighted average number of shares of common stock outstanding during the year reduced by the weighted average number of unallocated shares held by the Employee Stock Ownership Plan (“ESOP”). There were no unallocated shares held by the ESOP in 2004 and 2003. Diluted EPS reflects the effect on the weighted average shares outstanding of the number of additional shares outstanding if dilutive stock options were converted into common stock using the treasury stock method.

     The treasury shares acquired in connection with the Company’s directors deferred compensation plan are considered outstanding in the computation of earnings per share and book value per share.

     A reconciliation of the weighted average shares outstanding for the years ended December 31, 2004, 2003 and 2002 follows:

(In thousands) Years Ended December 31,	2004		2003		2002
Basic shares(1)		4,408		4,439		4,698
Dilutive impact of stock options(1)		94		106		125
Diluted shares(1)		4,502		4,545		4,823

⁽¹⁾ All share information presented has been adjusted to reflect the 3-for-2 split of the Company’s common stock effective April 19, 2002.

40

1.   Summary of Significant Accounting Policies (continued)

Comprehensive Income

Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.

The components of other comprehensive income and related tax effects at December 31 are as follows:

(In thousands) Years ended December 31,	2004			2003			2002
Unrealized holding gains (losses) on available-for-sale securities and when issued securities contracts arising during period	$	(2,242	)	$	(5,298	)	$	3,429
Less: reclassification adjustment for gains realized in income		1,361			558			1,566
Net unrealized gains (losses)		(3,603	)		(5,856	)		1,863
Tax (expense) or benefit		1,399			2,125			(614	)
Other comprehensive income (loss)	$	(2,204	)	$	(3,731	)	$	1,249

Cash and Cash Equivalents

For purposes of reporting cash flows, cash and cash equivalents consist of cash and due from banks, and short-term investments with original maturities of less than 90 days.

     As a regulated financial institution, the Bank is required to maintain certain reserve requirements of vault cash and/or deposits with the Federal Reserve Bank of Boston. The amount of this reserve requirement, included in “Cash and Due from Banks,” was $6.2 million and $5.6 million at December 31, 2004 and 2003, respectively.

Income Taxes

The Bank recognizes income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are established for the temporary differences between the accounting basis and the tax basis of the Bank’s assets and liabilities at enacted tax rates expected to be in effect when the amounts related to such temporary differences are realized or settled. The Bank’s deferred tax asset is reviewed and adjustments to such asset are recognized as deferred income tax expense or benefit based upon management’s judgment relating to the realizability of such asset. Based on the Bank’s historical and current pre-tax earnings, management believes it is more likely than not that the Bank will realize its existing gross deferred tax asset.

2. Short-Term Investments

Short-term investments consist of the following:

(In thousands) At December 31,	2004		2003
Federal funds sold	$	193,728	$	190,684
Money market investment fund		302		23,337
Interest-bearing bank money market accounts		220		511
Total short-term investments	$	194,250	$	214,532

The investments above are stated at cost which approximates market value.

41

3. Investment Securities

The amortized cost and market value of investment securities follows:

			Gross		Gross
	Amortized		Unrealized		Unrealized			Market
(In thousands) At December 31, 2004	Cost		Gains		Losses			Value
Securities held to maturity:
Mortgage-backed securities:
Federal National Mortgage Association	$	4,877	$	6	$	—		$	4,883
Total	$	4,877	$	6	$	—		$	4,883
Securities available for sale:
Debt securities:
U.S. Treasury obligations	$	125,491	$	126	$	(520	)	$	125,097
U.S. Government agency obligations		190,032		81		(1,594	)		188,519
Total		315,523		207		(2,114	)		313,616
Mortgage-backed securities:
Government National Mortgage Association		5,622		297		—			5,919
Federal Home Loan Mortgage Corporation		112,929		3,694		(66	)		116,557
Federal National Mortgage Association		94		4		—			98
Collateralized mortgage obligations		133		2		—			135
Total mortgage-backed securities		118,778		3,997		(66	)		122,709
Total debt securities		434,301		4,204		(2,180	)		436,325
Equity securities		6,534		933		(39	)		7,428
Total securities available for sale		440,835	$	5,137	$	(2,219	)	$	443,753
Net unrealized gains on securities available for sale		2,918
Total securities available for sale, net		443,753
Total investment securities, net	$	448,630
The amortized cost and market value of investment securities follows:

			Gross		Gross
	Amortized		Unrealized		Unrealized			Market
(In thousands) At December 31, 2003	Cost		Gains		Losses			Value
Securities available for sale:
Debt securities:
U.S. Treasury obligations	$	122,902	$	900	$	(160	)	$	123,642
U.S. Government agency obligations		199,057		531		(1,125	)		198,463
Total		321,959		1,431		(1,285	)		322,105
Mortgage-backed securities:
Government National Mortgage Association		9,002		617		—			9,619
Federal Home Loan Mortgage Corporation		80,957		4,669		—			85,626
Federal National Mortgage Association		198		8		—			206
Collateralized mortgage obligations		204		3		—			207
Total mortgage-backed securities		90,361		5,297		—			95,658
Total debt securities		412,320		6,728		(1,285	)		417,763
Equity securities		10,555		1,177		(266	)		11,466
Total securities available for sale		422,875	$	7,905	$	(1,551	)	$	429,229
Net unrealized gains on securities available for sale		6,354
Total securities available for sale, net		429,229
Total investment securities, net	$	429,229

42

3.  Investment Securities (continued)

During the years ended December 31, 2004, 2003 and 2002, the Company realized gains and losses on sales and recorded other-than-temporary impairment writedowns of securities available for sale as follows:

(In thousands) At December 31,	2004					2003					2002
	Realized					Realized					Realized
	Gains		Losses			Gains		Losses			Gains		Losses
Sales:
U.S. Treasury obligations	$	35	$	(68	)	$	309	$	—		$	363	$	—
Marketable equity securities		1,720		(326	)		1,303		(1,045	)		4,721		(3,451	)
Other-than-temporary impairment writedowns:
Marketable equity securities		—		—			—		(9	)		—		(67	)
Total realized gains (losses)	$	1,755	$	(394	)	$	1,612	$	(1,054	)	$	5,084	$	(3,518	)

Proceeds from sales of debt securities available for sale during 2004, 2003 and 2002 were $18.3 million, $26.0 million and $35.0 million, respectively. Proceeds from sales of equity securities available for sale during 2004, 2003 and 2002, were $10.6 million, $11.4 million and $14.6 million, respectively.

     There were no sales of investment securities held-to-maturity during 2004, 2003 and 2002.

The amortized cost and market value of debt securities available for sale by contractual maturity are as follows:

(In thousands) At December 31,	2004				2003
	Amortized		Market		Amortized		Market
	Cost		Value		Cost		Value
Investment securities available for sale:
U.S. Treasury obligations:
Maturing within 1 year	$	77,895	$	77,794	$	53,281	$	53,583
Maturing after 1 year but within 5 years		45,633		45,306		62,449		62,891
Maturing after 5 years but within 10 years		1,963		1,997		7,172		7,168
Total		125,491		125,097		122,902		123,642
U.S. Government agency obligations:
Maturing within 1 year		10,010		9,954		—		—
Maturing after 1 year but within 5 years		155,987		154,607		175,015		174,691
Maturing after 5 years but within 10 years		23,995		23,918		22,000		21,708
Maturing after 10 years but within 15 years		40		40		2,042		2,064
Total		190,032		188,519		199,057		198,463
Mortgage-backed securities:
Maturing within 1 year		7		7		40		41
Maturing after 1 year but within 5 years		7,988		8,408		5,160		5,481
Maturing after 5 years but within 10 years		28,829		30,595		34,065		36,328
Maturing after 10 years but within 15 years		81,755		83,495		50,825		53,531
Maturing after 15 years		199		204		271		277
Total		118,778		122,709		90,361		95,658
Total debt securities available for sale		434,301		436,325		412,320		417,763
Net unrealized gains on debt securities available for sale		2,024		—		5,443		—
Total debt securities available for sale, net carrying value	$	436,325	$	436,325	$	417,763	$	417,763

Maturities of mortgage-backed securities are shown at final contractual maturity but are expected to have shorter lives because borrowers have the right to prepay obligations without prepayment penalties.

     Included in U.S. Government agency obligations are investments that can be called prior to final maturity with an amortized cost of $160.0 million and a market value of $158.8 million at December 31, 2004 and an amortized cost of $193.0 million and a market value of $192.4 million at December 31, 2003.

43

3.   Investment Securities (continued)

The fair value and unrealized losses of temporarily impaired investments aggregated by category of investments is as follows:

(In thousands) At December 31, 2004	Less than 12 months					12 months or longer					Total
			Unrealized					Unrealized					Unrealized
Description of Securities	Fair value		Losses			Fair Value		Losses			Fair Value		Losses
Debt securities:
U.S. Treasury obligations	$	81,077	$	(520	)	$	—	$	—		$	81,077	$	(520	)
U.S. Government agency obligations		116,846		(1,152	)		21,557		(442	)		138,403		(1,594	)
Mortgage-backed securities		7,619		(66	)		—		—			7,619		(66	)
Total debt securities		205,542		(1,738	)		21,557		(442	)		227,099		(2,180	)
Equity securities		594		(39	)		—		—			594		(39	)
Total temporarily impaired securities	$	206,136	$	(1,777	)	$	21,557	$	(442	)	$	227,693	$	(2,219	)

At December 31, 2004 the Company had U.S. Treasury and Government agency securities, mortgage-backed securities and equity securities investment positions that had been in a loss position for less than twelve months that it considered temporarily impaired. This is due to the volatility of market interest rates and the price volatility of equity securities. U.S. Treasury and Government agency securities, and mortgage-backed securities fluctuate in value based on changes in market interest rates and other factors, however, they can be redeemed at par or face value if held to maturity and therefore if their maturity date is less than one year into the future regardless of their market value they are considered only temporarily impaired.

     At December 31, 2004 the Company had four U.S. Government agency securities that had been in a continuous unrealized loss position for twelve or more months that it considered temporarily impaired. The total unrealized losses on these four securities were $169 thousand, $109 thousand, $98 thousand and $66 thousand, respectively, representing a 1.7%, 1.8%, 2.5% and 3.3% loss in value, respectively.

     Management considers industry analyst reports, sector credit ratings, volatility in market price and other relevant information, such as the financial condition, earnings capacity and near term prospects of the company, in determining whether an equity security’s impairment is due to a fundamental deterioration in its financial condition or due to general market conditions. If the impairment is due to a fundamental deterioration in its financial condition as determined by the Company’s analysis, it is written down to its current fair market value and the loss is recognized. If the impairment is due to general market conditions and the equity or debt security declines in price from its cost basis by more than 25% for more than a year, between 30% and 40% for more than nine months, between 40% and 50% for more than six months or over 50% for more than ninety days, and in each case the value of the investment security has been below its cost basis for the entire period in question, then the security is considered “other than temporarily impaired” and it is written down to its current fair market value and the loss is recognized.

The fair value and unrealized losses of temporarily impaired investments aggregated by category of investments is as follows:

(In thousands) At December 31, 2003	Less than 12 months					12 months or longer					Total
	Unrealized							Unrealized					Unrealized
Description of Securities	Fair value		Losses			Fair Value		Losses			Fair Value		Losses
Debt securities:
U.S. Treasury obligations	$	30,350	$	(160	)	$	—	$	—		$	30,350	$	(160	)
U.S. Government agency obligations		98,867		(1,125	)		—		—			98,867		(1,125	)
Total debt securities		129,217		(1,285	)		—		—			129,217		(1,285	)
Equity securities		1,436		(164	)		2,622		(102	)		4,058		(266	)
Total temporarily impaired securities	$	130,653	$	(1,449	)	$	2,622	$	(102	)	$	133,275	$	(1,551	)

At December 31, 2003 the Company had thirty-one U.S. Treasury and Government agency securities and eight equity securities investment positions that had been in a loss position for less than twelve months that it considered temporarily impaired. This is due to the volatility of market interest rates and the price volatility of equity securities. U.S. Treasury and Government agency securities fluctuate in value based on changes in market interest rates and other factors, however, they can be redeemed at par value if held to maturity and therefore if their maturity date is less than one year into the future regardless of their market value they are considered only temporarily impaired.

     At December 31, 2003 the Company had three equity investment positions that had been in a continuous unrealized loss position for twelve or more months that it considered temporarily impaired. The total unrealized losses on these three securities were $77 thousand, $22 thousand and $3 thousand, respectively, representing a 4.2%, 3.8% and 0.9% loss in value, respectively.

44

3.   Investment Securities (continued)

The amortized cost and market value of U.S. Government agency securities available for sale that can be called prior to maturity by scheduled maturity and next call date are as follows:

(In thousands) At December 31,	2004				2003
	Amortized		Market		Amortized		Market
Based on Scheduled Maturity	Cost		Value		Cost		Value
Investment securities available for sale
U.S. Government agency obligations:
Maturing within 1 year	$	4,000	$	3,969	$	—	$	—
Maturing after 1 but within 2 years		28,998		28,682		13,000		13,011
Maturing after 2 but within 3 years		40,000		39,697		43,998		44,048
Maturing after 3 but within 4 years		40,000		39,666		42,000		41,990
Maturing after 4 but within 5 years		23,000		22,909		69,992		69,636
Maturing after 5 but within 10 years		23,995		23,918		22,000		21,708
Maturing after 10 but within 15 years		—		—		2,000		2,021
Total	$	159,993	$	158,841	$	192,990	$	192,414

	Amortized		Market		Amortized		Market
Based on Next Call Date	Cost		Value		Cost		Value
Investment securities available for sale
U.S. Government agency obligations:
Callable within 1 year	$	151,993	$	150,857	$	178,990	$	178,287
Callable after 1 but within 2 years		8,000		7,984		10,000		10,124
Callable after 2 but within 3 years		—		—		4,000		4,003
Total	$	159,993	$	158,841	$	192,990	$	192,414

4.   Trading Securities

The carrying amount and market value of trading securities are as follows:

(In thousands) At December 31,	2004		2003
	Market		Market
	Value		Value
U.S. Treasury obligations	$	57,878	$	72,408
Marketable equity securities		1,131		222
Investments in mutual funds		4		3
Total trading securities	$	59,013	$	72,633

During the years ended December 31, 2004, 2003 and 2002, the Company realized gains and losses on sales of trading securities as follows:

(in thousands) Years ended December 31,	2004					2003					2002
	Realized					Realized					Realized
	Gains		Losses			Gains		Losses			Gains		Losses
U.S. Treasury obligations	$	101	$	(40	)	$	145	$	(262	)	$	77	$	(50	)
Marketable equity securities		72		(19	)		88		—			30		—
Total realized gains (losses)	$	173	$	(59	)	$	233	$	(262	)	$	107	$	(50	)

Proceeds from sales of trading securities during 2004, 2003 and 2002 were $46.4 million, $72.9 million and $49.5 million, respectively. Mark-to-market adjustments included in income in 2004, 2003 and 2002 were $(246) thousand, $110 thousand and $95 thousand, respectively.

45

5.    Loans

The Bank’s lending activities are conducted principally in the local communities in which it operates banking offices, and to a lesser extent, in selected areas of Massachusetts and southern New Hampshire.

     The Bank offers single family and multi-family residential mortgage loans and a variety of consumer loans. The Bank also offers mortgage loans secured by commercial or investment property such as apartment buildings and commercial or corporate facilities; loans for the construction of residential homes, multi-family properties and for land development; and business loans for other commercial purposes. Most loans granted by the Bank are either collateralized by real estate or guaranteed by federal or local governmental authorities. The ability of single family residential and consumer borrowers to honor their repayment commitments is generally dependent on the level of overall economic activity within the borrowers’ geographic areas. The ability of commercial real estate and commercial loan borrowers to honor their repayment commitments is generally dependent on the economic health of the real estate sector in the borrowers’ geographic areas and the overall economy.
The composition of the Bank’s loan portfolio is summarized as follows:

(In thousands) At December 31,	2004			2003
Mortgage loans:
Residential:
Conventional:
Fixed rate	$	203,010		$	217,487
Variable rate		21,532			22,956
FHA and VA		45			84
Commercial		1,623			1,601
Construction		84			81
Total mortgage loans		226,294			242,209
Premium on loans		5			10
Deferred mortgage loan origination fees		(102	)		(333	)
Mortgage loans, net		226,197			241,886
Other loans:
Consumer:
Installment		327			415
Guaranteed education		1,616			2,333
Other secured		504			518
Home equity lines of credit		7,284			7,549
Unsecured		161			166
Total consumer loans		9,892			10,981
Commercial		109			139
Total other loans		10,001			11,120
Total loans $	$	236,198		$	253,006

In the ordinary course of business, the Bank makes loans to its directors, officers and their associates and affiliated companies (“related parties”) at substantially the same terms as those prevailing at the time of origination for comparable transactions with unrelated borrowers. An analysis of total related party loans for the year ended December 31, 2004 follows:

(In thousands)
Balance at December 31, 2003	$	1,586
Additions		1,091
Repayments		(902	)
1,2
Balance at December 31, 2004	$	1,775

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6.  Allowance for Loan Losses

An analysis of the activity in the allowance for loan losses is as follows:

(In thousands) Years ended December 31,	2004			2003			2002
Balance at beginning of year	$	1,554		$	2,271		$	2,494
Provision (credit) for loan losses		(242	)		(502	)		—
Transfer to allowance for loan losses on off-balance sheet credit exposures		—			(226	)		(235	)
Recoveries of loans previously charged-off		—			15			16
Total		1,312			1,558			2,275
Charge-offs:
Mortgage loans		—			—			—
Other loans		(5	)		(4	)		(4	)
Balance at end of year	$	1,307		$	1,554		$	2,271

The following table shows the allocation of the allowance for loan losses by category of loans at December 31, 2004, 2003 and 2002.

(In thousands) At December 31,	2004					2003					2002
			Percentage					Percentage					Percentage
			of Loans					of Loans					of Loans
	Amount		to Total			Amount		to Total			Amount		to Total
Mortgage loans:
Residential	$	767		95	%	$	934		95	%	$	1,309		94	%
Commercial		79		1			76		1			9		1
Consumer loans		154		4			185		4			198		5
Commercial loans		46		—			48		—			69		—
Unallocated		261		—			311		—			686		—
Total	$	1,307		100	%	$	1,554		100	%	$	2,271		100	%

An integral component of the Company’s risk management process is to ensure the proper allocation of the allowance for loan losses based upon an analysis of risk characteristics, demonstrated losses and other factors. The unallocated component of the allowance for loan losses represents management’s view that there are probable losses that have been incurred within the portfolio but have not yet been specifically identified. The unallocated portion of the allowance for loan losses is based on management’s assessment of many factors including the risk characteristics of the loan portfolio, concentrations of credit, current and anticipated economic conditions that may affect borrowers’ ability to pay, and trends in loan delinquencies and charge-offs. The unallocated portion of the allowance for loan losses may change periodically after evaluating factors impacting assumptions utilized in the calculation of the allocated portion of the allowance for loan losses. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance based on judgments different from those of management.

7.   Non-performing Assets

The following schedule summarizes non-performing assets at the dates shown:

(In thousands) At December 31,	2004			2003			2002
Total nonaccrual loans	$	74		$	230		$	420
Total non-performing assets	$	74		$	230		$	420
Percent of non-performing loans to total loans		0.03	%		0.09	%		0.13	%
Percent of non-performing assets to total assets		0.01	%		0.02	%		0.04	%

47

7.  Non-performing Assets  (continued)

The reduction in interest income associated with nonaccrual loans is as follows:

(In thousands) Years ended December 31,	2004		2003			2002
Interest income that would have been recorded under original terms	$	4	$	17		$	31
Interest income actually recorded		1		20			27
Reduction (increase) in interest income	$	3	$	(3	)	$	4
During 2004, 2003 and 2002 the Company had no impaired loans.

8.  Financial Instruments with Off-Balance Sheet Risk

The Bank is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit and involve, to varying degrees, elements of credit risk in excess of the amount recognized in the consolidated balance sheet. The contract or notional amounts reflect the extent of involvement the Bank has in particular classes of these instruments. The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument is represented by the contractual or notional amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

	Contract or Notional Amount
(In thousands) At December 31,	2004		2003
Financial instruments whose contract amounts represent credit risk:
Commitments to originate residential mortgage loans	$	3,811	$	3,300
Unadvanced portions of construction loans		89		479
Unused credit lines, including unused portions of equity lines of credit		33,909		37,410
Other loan commitments		4,026		3,996

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 by the customer. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer’s credit-worthiness on a case-by-case basis. The amount of collateral obtained, if any, is based on management’s credit evaluation of the borrower.

9.   Premises and Equipment

A summary of premises and equipment and their estimated useful lives used for depreciation purposes is as follows:

					Estimated
					Useful Life
(In thousands) At December 31,	2004		2003		(In Years)
Premises:
Land	$	2,392	$	2,392		—
Buildings		6,003		5,917		25-45
Building and leasehold improvements		2,527		2,487		2-30
Equipment		5,139		5,069		2-15
		16,061		15,865
Less: accumulated depreciation and amortization		9,597		8,922
Total premises and equipment, net	$	6,464	$	6,943

The Bank is obligated under a number of noncancelable operating leases for various banking offices. These operating leases expire at various dates through 2014 with options for renewal. Rental expenses for the years ended December 31, 2004, 2003 and 2002 amounted to $294 thousand, $274 thousand, and $277 thousand, respectively.

48

9.	Premises and Equipment(continued)
	The minimum rental commitments, with initial or remaining terms of one year or more exclusive of operating costs and real estate taxes to be paid by the Bank under these leases, as of December 31, 2004, are as follows:

(In thousands) Years ending December 31,	Payments
2005	$	296
2006		245
2007		218
2008		219
2009		142
Later years		331
Total	$	1,451

10.	Deposits
	Deposits are summarized as follows:

(In thousands) At December 31,	2004					2003
	Amount		Rate			Amount		Rate
Demand and NOW:
NOW accounts	$	58,991		0.33	%	$	56,108		0.37	%
Demand accounts		28,662		—			28,948		—
Total demand and NOW		87,653		0.22			85,056		0.24
Savings:
Savings accounts		549,657		1.52			595,575		1.64
Money market accounts		11,656		0.97			12,256		0.45
Total savings		561,313		1.51			607,831		1.62
Time certificates of deposit:
Fixed rate certificates		145,249		2.29			129,210		2.00
Variable rate certificates		55,250		3.06			60,411		1.68
Total time certificates of deposit		200,499		2.51			189,621		1.89
Total deposits	$	849,465		1.61	%	$	882,508		1.55	%

The maturity distribution and related rate structure of the Bank’s time certificates of deposit at December 31, 2004 follows:

(In thousands) At December 31,	2004
			Average
	Amount		Interest Rate
Due within 3 months	$	35,287		2.18	%
Due within 3–6 months		30,324		2.01
Due within 6–12 months		38,847		2.27
Due within 1–2 years		59,431		2.72
Due within 2–3 years		26,133		3.05
Due within 3–5 years		9,575		3.35
Thereafter		902		3.61
Total	$	200,499		2.51	%

49

10.	Deposits (continued)
	At December 31, 2004 and 2003, the Bank had individual time certificates of deposit of $100 thousand or more maturing as follows:

(In thousands) At December 31,	2004		2003
Due within 3 months	$	8,662	$	4,605
Due within 3–6 months		7,380		5,442
Due within 6–12 months		10,010		13,792
Due within 1–2 years		17,219		10,374
Due within 2–3 years		9,538		5,221
Due within 3–5 years		3,589		3,198
Thereafter		302		1,279
Total	$	56,700	$	43,911

11.	Fair Value of Financial Instruments
	The Bank is required to disclose estimated fair values for its financial instruments. Fair value estimates, methods, and assumptions are set forth below for the Bank’s financial instruments.
	Cash and Due from Banks, Short-Term Investments and Accrued Interest Receivable
	The carrying amounts for these financial instruments approximate fair value because of the short-term nature of these financial instruments.
	Interest-Bearing Deposits in Banks
	The carrying amounts of the interest-bearing deposits in banks reported in the balance sheet at December 31, 2004 and 2003 approximate fair value.
	Securities
	The fair value of investment securities is based principally on quoted market prices and dealer quotes.
	Statement 107 specifies that fair values should be calculated based on the value of one unit without regard to any premium or discount that may result from concentrations of ownership of a financial instrument, possible tax ramifications, or estimated transaction costs.
	The carrying amount and estimated fair values of the Company’s investment securities are as follows:

(In thousands) At December 31,	2004				2003
	Carrying		Calculated		Carrying		Calculated
	Amount		Fair Value		Amount		Fair Value
Securities available for sale	$	443,753	$	443,753	$	429,229	$	429,229
Securities held to maturity		4,877		4,883		—		—
Trading securities		59,013		59,013		72,633		72,633
Total securities	$	507,643	$	507,649	$	501,862	$	501,862

Loans

Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as residential mortgage, commercial real estate, consumer and commercial.

     The fair values of residential and commercial real estate, and certain consumer loans are calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan. The estimate of maturity is based on the Bank’s historical experience with repayments for each loan classification, modified, as required, by an estimate of the effect of current economic and lending conditions. For variable rate commercial loans and certain variable rate consumer loans, including home equity lines of credit, carrying value approximates fair value. Assumptions regarding credit risk, cash flows, and discount rates are judgmentally determined using available market information.

50

11.	Fair Value of Financial Instruments (continued)
	The following table presents information for loans:

(In thousands) At December 31,	2004					2003
	Carrying			Calculated		Carrying			Calculated
	Amount			Fair Value		Amount			Fair Value
Real estate:
Residential:
Variable	$	21,529		$	21,059	$	22,949		$	22,991
Fixed		203,054			205,432		217,344			220,972
Commercial:
Variable		1,614			1,593		1,593			1,605
Consumer		9,892			9,871		10,981			11,015
Commercial		109			91		139			114
Total loans		236,198			238,046		253,006			256,697
Allowance for loan losses		(1,307	)		—		(1,554	)		—
Net loans	$	234,891		$	238,046	$	251,452		$	256,697

Deposits

The fair value of deposits with no stated maturity, such as demand deposits, NOW accounts, savings accounts, and money market accounts for purposes of this disclosure, is equal to the amount payable on demand as of December 31, 2004 and 2003. The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities.

(In thousands) At December 31,	2004				2003
	Carrying		Estimated		Carrying		Estimated
	Amount		Fair Value		Amount		Fair Value
Demand accounts	$	28,662	$	28,662	$	28,948	$	28,948
NOW accounts		58,991		58,991		56,108		56,108
Savings accounts		549,657		549,657		595,575		595,575
Money market accounts		11,656		11,656		12,256		12,256
Time certificates of deposit		200,499		200,274		189,621		190,655
Total deposits		849,465		849,240		882,508		883,542
Escrow deposits of borrowers		1,074		1,074		1,139		1,139
Total		$850,539	$	850,314	$	883,647	$	884,681

The fair value estimates and the carrying amounts above do not include the benefit that results from the low-cost funding provided by the deposit liabilities compared to the cost of borrowing funds in the market.

Commitments to Extend Credit

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 Bank estimates the fair value of the cost to terminate commitments to advance funds on construction loans and for residential mortgage loans in the pipeline at December 31, 2004 and 2003 to be immaterial. Unused credit lines, including unused portions of equity lines of credit, are at floating interest rates and therefore there is no fair value adjustment. The Bank’s other loan commitments approximate fair value.

51

11.	Fair Value of Financial Instruments (continued)
	Limitations
	Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Bank’s entire holdings of a particular financial instrument. Because no active market exists for a portion of the Bank’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
	Fair value estimates are determined without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. For example, the Bank has a trust department that contributes fee income annually. The trust department is not considered a financial instrument, and its value has not been incorporated into the fair value estimates. Other significant assets and liabilities that are not considered financial assets or liabilities include deferred tax liabilities, premises and equipment and goodwill. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of the estimates.
12.	Income Taxes
	Income tax expense (benefit) was allocated as follows:

(In thousands) Years ended December 31,	2004		2003		2002
Current income tax expense:
Federal	$	3,606	$	3,702	$	5,210
State		264		291		438
Total current tax expense		3,870		3,993		5,648
Deferred income tax expense (benefit):
Federal		23		175		(132	)
State		5		61		(42	)
Total deferred tax expense (benefit)		28		236		(174	)
Total income tax expense	$	3,898	$	4,229	$	5,474

Income tax expense attributable to income from operations for the years ended December 31, differed from the amounts computed by applying the federal income tax rate of 35 percent as a result of the following:

(In thousands) Years ended December 31,	2004			2003			2002
Computed “expected” income tax expense at statutory rate	$	3,947			4,232		$	5,351
Increase (reduction) in income taxes resulting from:
Reduction in federal income tax rate		(98	)		(97	)		(101	)
State and local income taxes, net of federal benefit		175			229			257
Dividends received deduction		(40	)		(54	)		(57	)
Dividends paid to ESOP deduction		(73	)		(67	)		(34	)
Other		(13	)		(14	)		58
Income tax expense	$	3,898		$	4,229		$	5,474
Effective income tax rate		34.56	%		34.97	%		35.81	%

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12.	Income Taxes (continued)
	At December 31, 2004 and 2003, the Bank had gross deferred tax assets and gross deferred tax liabilities as follows:

(In thousands) Years ended December 31,	2004		2003
Deferred tax assets:
Loan losses	$	792	$	914
Deferred loan fees, net		11		7
Deferred compensation and pension cost		745		715
Depreciation		37		29
Purchase accounting		179		263
Other		95		48
Gross deferred tax asset		1,859		1,976
Deferred tax liabilities:
Unrealized gains on securities available for sale		1,156		2,555
Other unrealized securities gains		106		106
Other		9		98
Gross deferred tax liability		1,271		2,759
Net deferred tax asset (liability)	$	588	$	(783	)

	Based on the Company’s historical and current pretax earnings, management believes it is more likely than not that the Company will realize the gross deferred tax asset existing at December 31, 2004. The primary sources of recovery of the gross federal deferred tax asset are federal income taxes paid in 2004, 2003 and 2002 that are available for carryback and the expectation that the existing net deductible temporary differences will reverse during periods in which the Company generates net taxable income. Since there is no carryback provision for state income tax purposes, management believes the existing net deductible temporary differences which give rise to the gross deferred state income tax asset will reverse during periods in which the Company generates net taxable income. There can be no assurance, however, that the Company will generate any earnings or any specific level of continuing earnings.
	As a result of the Tax Reform Act of 1996, the special tax bad debt provisions were amended to eliminate the reserve method. However, the tax effect of the pre-1988 bad debt reserve amount of approximately $7.3 million remains subject to recapture in the event that the Bank pays dividends in excess of its reserves and profits.
13.	Earnings per Share
	The following is a calculation of earnings per share for the years indicated:

Years Ended December 31,	2004				2003				2002
(In thousands except share data)	Basic		Diluted		Basic		Diluted		Basic			Diluted
Net income	$	7,380	$	7,380	$	7,863	$	7,863	$	9,814		$	9,814
Average shares outstanding		4,408,293		4,408,293		4,439,394		4,439,394		4,708,783			4,708,783
Dilutive stock options		—		93,244		—		105,200		—			124,675
Unallocated Employee Stock Ownership Plan (“ESOP”) shares not committed to be released		—		—		—		—		(10,957	)		(10,957	)
Weighted average shares outstanding		4,408,293		4,501,537		4,439,394		4,544,594		4,697,826			4,822,501
Earnings per share (in dollars)	$	1.67	$	1.64	$	1.77	$	1.73	$	2.09		$	2.04

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14.	Stockholders’ Equity
	The Company may not declare or pay cash dividends on its shares of common stock if the effect thereof would cause its stockholders’ equity to be reduced below or to otherwise violate legal or regulatory requirements. Substantially all of the Company’s retained earnings are unrestricted at December 31, 2004.
	The Bank is a Federal Deposit Insurance Corporation insured institution subject to the FDIC regulatory capital requirements. The FDIC regulations require all FDIC insured institutions to maintain minimum levels of Tier I capital. Highly rated banks (i.e., those with a composite rating of 1 under the CAMELS rating system) are required to maintain a minimum leverage ratio of Tier I capital to total average assets of at least 3.00%. An additional 100 to 200 basis points are required for all but these most highly rated institutions. The Bank is also required to maintain a minimum level of risk-based capital. Under the risk-based capital standards, FDIC insured institutions must maintain a Tier I capital to risk-weighted assets ratio of 4.00% and are generally expected to meet a minimum total qualifying capital to risk-weighted assets ratio of 8.00%. The risk-based capital guidelines take into consideration risk factors, as defined by the regulators, associated with various categories of assets, both on and off the balance sheet. Under the guidelines, capital strength is measured in two tiers which are used in conjunction with risk adjusted assets to determine the risk-based capital ratios. Tier II capital components include supplemental capital components such as qualifying allowance for loan losses, qualifying subordinated debt and up to 45 percent of the pretax net unrealized holding gains on certain available for sale equity securities. Tier I capital plus the Tier II capital components are referred to as total qualifying capital.
	The capital ratios of the Company and its principal subsidiary “Massbank” set forth below currently exceed the minimum ratios for “well capitalized” banks as defined by federal regulators.
	As of December 31, 2004, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes would cause a change in the Bank’s categorization.

(In thousands)						For Capital					To Be Well
At December 31, 2004	Actual					Adequacy Purposes					Capitalized(1)
	Amount		Ratio			Amount		Ratio			Amount		Ratio
Tier I Capital (to Average Assets):
Massbank Corp. (consolidated)	$	107,168		11.15	%	$	28,829		3.00	%		N/A		—
Massbank (the “Bank”)		102,501		10.67			28,828		3.00		$	48,047		5.00	%
Tier I Capital (to Risk-Weighted Assets):
Massbank Corp. (consolidated)		107,168		39.16			10,947		4.00			N/A		—
Massbank (the “Bank”)		102,501		37.48			10,938		4.00			16,408		6.00
Total Capital (to Risk-Weighted Assets):
Massbank Corp. (consolidated)		109,464		40.00			21,893		8.00			N/A		—
Massbank (the “Bank”)		104,797		38.32			21,877		8.00			27,346		10.00

⁽¹⁾ This column presents the minimum amounts and ratios that a financial institution must have to be categorized as well capitalized.

(In thousands)						For Capital					To Be Well
At December 31, 2003	Actual					Adequacy Purposes					Capitalized(1)
	Amount		Ratio			Amount		Ratio			Amount		Ratio
Tier I Capital (to Average Assets):
Massbank Corp. (consolidated)	$	105,876		10.57	%	$	30,054		3.00	%		N/A		—
Massbank (the “Bank”)		101,908		10.17			30,054		3.00		$	50,090		5.00	%
Tier I Capital (to Risk-Weighted Assets):
Massbank Corp. (consolidated)		105,876		34.56			12,254		4.00			N/A		—
Massbank (the “Bank”)		101,908		33.29			12,246		4.00			18,369		6.00
Total Capital (to Risk-Weighted Assets):
Massbank Corp. (consolidated)		108,466		35.40			24,509		8.00			N/A		—
Massbank (the “Bank”)		104,498		34.13			24,492		8.00			30,615		10.00

⁽¹⁾ This column presents the minimum amounts and ratios that a financial institution must have to be categorized as well capitalized.

54

15.	Employee Benefits
	Pension Plan
	The Bank sponsors a noncontributory defined benefit pension plan that covers all employees who meet specified age and length of service requirements, which is administered by the Savings Banks Employees Retirement Association (“SBERA”). The plan provides for benefits to be paid to eligible employees at retirement based primarily upon their years of service with the Bank and compensation levels near retirement. Contributions to the plan reflect benefits attributed to employees’ service to date, as well as service expected to be earned in the future. Pension plan assets consist principally of equity securities; mutual funds – bonds, mutual funds – equities, and all assets mutual funds; and money market funds and cash.
	The following table sets forth the plan’s funded status and amounts recognized in the Company’s consolidated financial statements for the plan years ended October 31, 2004, 2003, and 2002, the plan’s latest valuation dates:

(In thousands) Years ended December 31,	2004			2003			2002
Actuarial present value of vested benefits	$	7,260		$	6,548		$	5,929
Total accumulated benefit obligation		7,280			6,617			5,969
Change in benefit obligation:
Projected benefit obligation at beginning of year	$	8,389		$	7,645		$	7,009
Service cost		430			386			386
Interest cost		524			516			493
Amendments		—			—			129
Actuarial loss (gain)		456			91			(173	)
Benefits paid		(311	)		(249	)		(199	)
Projected benefit obligation at end of year	$	9,488		$	8,389		$	7,645
Change in plan assets:
Fair value of plan assets at beginning of year	$	7,038		$	5,963		$	6,804
Actual return on plan assets		740			902			(643	)
Employer contribution		367			420			—
Benefits paid		(311	)		(249	)		(199	)
Other		—			2			1
Fair value of plan assets at end of year	$	7,834		$	7,038		$	5,963
Deficiency of plan assets over projected benefit obligation	$	(1,654	)	$	(1,351	)	$	(1,682	)
Certain changes in the items shown are not recognized as they occur, but are amortized systematically over subsequent periods. Unrecognized amounts to be amortized and the amounts included in the consolidated balance sheets are shown below:
Unrecognized net actuarial loss	$	(712	)	$	(459	)	$	(915	)
Transition asset		64			84			106
Past service cost		(114	)		(121	)		(129	)
Accrued benefit cost		(892	)		(855	)		(744	)
Deficiency of plan assets over projected benefit obligation	$	(1,654	)	$	(1,351	)	$	(1,682	)
Assumptions used in determining the actuarial present value of the projected benefit obligation were as follows:
Discount rate		5.75	%		6.25	%		6.75	%
Rate of compensation increase		4.00	%		4.00	%		4.00	%
Assumptions used to develop the net periodic benefit cost data were:
Discount rate		6.25	%		6.75	%		7.00	%
Expected return on plan assets		7.75	%		7.75	%		7.75	%
Rate of compensation increase		4.00	%		4.00	%		4.50	%
Components of net periodic pension expense:
Service cost	$	430		$	385		$	386
Interest cost		524			516			494
Expected return on plan assets		(545	)		(462	)		(527	)
Transition obligation		(21	)		(21	)		(21	)
Past service cost		7			7			—
Recognized net actuarial (gain) loss		8			107			(4	)
Net periodic pension expense	$	403		$	532		$	328

55

15.	Employee Benefits(continued)
	The approximate composition of pension plan assets as of the end of the plan years ended October 31, 2004 and 2003 is as follows:

Years ended October 31,	2004			2003
Asset Category:
Cash and money market funds		2	%		21	%
Equity securities		51	%		47	%
Mutual funds - - equities		15	%		8	%
Mutual funds - - bonds		23	%		24	%
Mutual funds - - all assets		9	%		—
		100	%		100	%

The expected long-term rate of return on plan assets is based on prevailing yields on high quality fixed income investments increased by a premium of 3% — 5% for equity investments.

     The Bank expects to contribute $364 thousand to its pension plan in 2005.

     The investment policies and strategies for the Bank’s pension plan are as follows: Massbank (the “Bank”) is a member of the Savings Banks Employees Retirement Association (“SBERA”) within which the Bank maintains a Defined Benefit pension plan. SBERA offers a common and collective trust as the underlying investment structure for pension plans participating in the Association. The target allocation mix for the common and collective trust portfolio calls for an equity-based investment deployment range from 55% to 75% of total portfolio assets. The remainder of the portfolio is allocated to fixed income. The approximate investment allocation of the portfolio is shown in the table above. The Trustees of SBERA, through the Association’s Investment Committee, select investment managers for the common and collective trust portfolio. A professional investment advisory firm is retained by the Investment Committee to provide allocation analysis, performance measurement and to assist with manager searches. The overall investment objective is to diversify equity investments across a spectrum of investment types (e.g., small cap, large cap, international, etc.) and styles (e.g., growth, value, etc.).

The Bank expects to make benefit payments for the plan years ending October 31, as follows:

(In thousands) Years ending October 31,	Payments
2005	$	926
2006		655
2007		748
2008		490
2009		1,445
2010		523

	Payments
2011		1,367
2012		1,058
2013		1,154
2014		1,919
2015		1,102

 

Profit Sharing and Incentive Compensation Bonus Plans

The Bank’s Profit Sharing and Incentive Compensation Bonus Plans provide for payments to employees under certain circumstances based upon a year-end measurement of the Company’s net income and attainment of individual goals and objectives by certain key officers. There were no profit sharing or incentive compensation bonus distributions in 2004 and 2003 because the criteria for making such distributions were not met. Because some of the target goals and individual goals and objectives were met in 2002, bonuses were awarded to officers and non-officer employees of the Bank in the amount of $67 thousand. There were no profit sharing distributions in 2002 because the criteria for making such distributions were not met.

     The Board of Directors approved a holiday distribution to all officers, excluding the CEO, and non-officer employees in 2004 in the amount of $47 thousand. In 2003, a holiday distribution was made to non-officer employees in the amount of $44 thousand.

Employee Stock Ownership Plan

The Bank has an Employees’ Stock Ownership Plan (“ESOP”) for the benefit of each employee who has completed at least 1,000 hours of service with the Company in the previous twelve months. Under the plan, the ESOP has borrowed funds from a third party bank to invest in the Company’s common stock. The balance of the ESOP loan was repaid in 2002.

     Shares of the Company’s common stock purchased with the loan proceeds were held in a suspense account. As the loan was repaid, a proportionate number of shares were released for allocation to plan participants, annually. In 2004 and 2003, the Bank contributed $145,000 and $161,000, respectively to the ESOP to invest in the Company’s common stock. These shares were allocated to plan participants, on a pro rata basis, based on compensation.

     At December 31, 2004, the ESOP held 209,321 shares of the Company’s common stock which have been allocated to plan participants and no unallocated shares.

     Dividends on allocated shares held by the ESOP are allocated to plan participants proportionately based on the number of shares in the participant’s allocated accounts.

     The Company’s total expense applicable to the ESOP amounted to $205 thousand, $135 thousand and $373 thousand for the years ended December 31, 2004, 2003 and 2002, respectively.

56

15.	Employee Benefits (continued)
	Employee Agreements
	The Bank has entered into employment agreements with certain executive officers which provide that the officer will receive a minimum amount of annual compensation from the Bank for a specified period. The agreements also provide for the continued payment of compensation to the officer for a specified period after termination under certain circumstances, including if the officer’s termination follows a “change of control,” generally defined to mean a person or group attaining ownership of 25% or more of the shares of the Company.
	Executive Supplemental Retirement Agreements
	The Bank maintains executive supplemental retirement agreements for certain executive officers. These agreements provide retirement benefits designed to supplement benefits available through the Bank’s retirement plan for employees. The Company made contributions of $52 thousand, $50 thousand and $59 thousand to a rabbi trust for the benefits payable under the agreements in 2004, 2003 and 2002.
	Directors Deferred Compensation Plan
	In 1988, the Company established a deferred compensation plan for its directors. The plan allows the Company’s directors to defer receipt of all or a portion of their compensation until: (1) their attaining the age of 72, or (2) their termination as a director of the Company. In 2000, the plan was amended to allow the directors’ compensation to be invested in Company stock held in an irrevocable trust. At December 31, 2004, the trust held 25,804 shares of Massbank Corp. stock. The shares are considered outstanding in the computation of earnings per share and book value per share.
	Stock Option Plan
	Effective April 20, 2004, the Board of Directors adopted and the shareholders approved the Corporation’s 2004 Stock Option and Incentive Plan (the “2004 Plan”). This new plan replaced the Corporation’s 1994 Stock Incentive Plan, which expired in January 2004. The 2004 Plan provides for awards of incentive stock options, non-qualified stock options, stock appreciation rights, a limited number of restricted stock awards and cash replacement awards. The total number of shares of common stock that can be issued under this plan is 400,000 shares, subject to adjustment for stock splits, stock dividends and similar events. Of this amount, no more than 100,000 shares of common stock may be issued as awards of restricted stock under the 2004 Plan. Under the 2004 Plan, the Corporation may not grant stock options with an exercise price less than 100% of the fair market value of the Corporation’s common stock on the date of grant. The maximum option term is ten years.
	As of December 31, 2004, there were 104,942 non-qualified stock options and 195,145 incentive stock options outstanding to purchase shares under the 1994 and 2004 plans.
	A summary of the status of the Company’s fixed stock option plan as of December 31, 2004, 2003 and 2002, and changes during the years ended on those dates is presented below. All share information presented has been adjusted for stock splits.

Years ended December 31,	2004					2003					2002
				Weighted					Weighted					Weighted
	Shares			Average		Shares			Average		Shares			Average
	Under			Exercise		Under			Exercise		Under			Exercise
Fixed Options	Option			Price		Option			Price		Option			Price
Outstanding at beginning of year		318,334		$	20.94		376,122		$	19.27		475,651		$	17.09
Granted		30,250			42.76		22,600			28.56		32,250			27.63
Exercised		(48,097	)		13.22		(78,138	)		14.90		(130,277	)		13.26
Forfeited		(400	)		42.90		(2,250	)		29.50		(1,502	)		28.55
Outstanding at end of year		300,087		$	24.35		318,334		$	20.94		376,122		$	19.27
Options exercisable at year-end		300,087					318,334					376,122

The following table summarizes information about fixed stock options outstanding and exercisable at December 31, 2004:

At December 31, 2004	Options Outstanding			Options Exercisable
			Weighted Avg.	Weighted Avg.				Weighted Avg.
Range of	Number		Remaining	Exercise		Number		Exercise
Exercise Prices	Outstanding		Contractual Life	Price		Exercisable		Price
$11.56 to $16.38		47,487	0.8 years	$	14.55		47,487	$	14.55
19.00 to 20.67		102,250	3.9 years		19.82		102,250		19.82
25.00 to 29.60		120,300	4.9 years		27.47		120,300		27.47
34.50 to 42.90		30,050	9.0 years		42.72		30,050		42.72
$11.56 to $42.90		300,087	4.3 years	$	24.35		300,087	$	24.35

57

16.	Shareholder Rights Plan
	The Company has in effect a Shareholder Rights Plan, pursuant to which the Board of Directors authorized the issuance of one preferred stock purchase right for each share of common stock of the Company outstanding. Under the Plan, the Rights automatically become part of and trade with the Company’s shares of common stock. Although the Rights are not exercisable initially, they become exercisable if a person becomes an “acquiring person” by acquiring 11% or more of the Company’s common stock or if a person commences a tender offer that could result in that person owning 11% or more of the common stock of Massbank Corp. In the event that a person becomes an “acquiring person,” each holder of a Right (other than the acquiring person) would be entitled to acquire such number of shares of preferred stock which are equivalent to Massbank Corp. common stock having a value of twice the exercise price of the Right. The exercise price of a Right initially shall be $136.00 per one one-thousandth of a share of the Company’s preferred stock. If Massbank Corp. is acquired in a merger or other business combination transaction after any such event, each holder of a Right would be entitled to purchase, at the then-current exercise price, shares of the acquiring company’s common stock having a value of twice the exercise price of the Right. The Rights will expire on January 19, 2010, but may be redeemed at the option of the Board of Directors for $0.01 per Right at any time prior to the time at which any person becomes an acquiring person or until the expiration date of the Shareholder Rights Plan.
17.	Parent Company Financial Statements
	The following are the condensed financial statements for Massbank Corp. (the “Parent Company”) only:

Balance Sheets
(In thousands except share data) At December 31,	2004			2003
Assets:
Cash	$	18		$	5
Interest-bearing deposits in banks		4,229			3,742
Investment in subsidiaries		105,348			106,959
Due from subsidiaries		196			—
Income tax receivable, net		187			209
Deferred income tax asset, net		21			28
Other assets		29			1
Total assets	$	110,028		$	110,944
Liabilities:
Other liabilities	$	13		$	17
Total liabilities		13			17
Stockholders’ Equity (Notes 12, 14, 15 and 16):
Preferred stock, par value $1.00 per share; 2,000,000 shares authorized, none issued Common stock, par value $1.00 per share; 10,000,000 shares authorized, 7,736,430 and 7,688,333 shares issued, respectively		7,736			7,688
Additional paid-in capital		55,313			54,417
Retained earnings		102,003			99,038
		165,052			161,143
Treasury stock at cost, 3,354,703 and 3,280,880 shares, respectively		(56,794	)		(54,177	)
Accumulated other comprehensive income		1,757			3,961
Shares held in rabbi trust at cost 2,254 and 3,000 shares, respectively		(59	)		(72	)
Deferred compensation obligation		59			72
Total stockholders’ equity		110,015			110,927
Total liabilities and stockholders’ equity	$	110,028		$	110,944

58

17.   Parent Company Financial Statements (continued)

Statements of Income
(In thousands) Years ended December 31,	2004		2003			2002
Income:
Dividends received from subsidiaries	$	7,100	$	9,300		$	11,000
Interest and dividend income		18		15			76
Total interest and dividend income		7,118		9,315			11,076
Non-interest expense		179		166			172
Income before income taxes		6,939		9,149			10,904
Income tax benefit		108		93			40
Income before equity in undistributed earnings of subsidiaries		7,047		9,242			10,944
Equity in undistributed earnings of subsidiaries		333		(1,379	)		(1,130	)
Net income	$	7,380	$	7,863		$	9,814

The Parent Company only Statements of Changes in Stockholders’ Equity are identical to the consolidated statements and therefore are not presented here.

Statements of Cash Flows
(In thousands) Years ended December 31,	2004			2003			2002
Cash flows from operating activities:
Net income	$	7,380		$	7,863		$	9,814
Adjustments to reconcile net income to net cash provided by operating activities:
Equity in undistributed earnings of subsidiaries		(333	)		1,379			1,130
Decrease (increase) in current income tax receivable, net		22			151			(164	)
Decrease (increase) in deferred income tax asset, net		7			(6	)		(6	)
Increase in other assets		(28	)		—			—
(Decrease) increase in other liabilities		(4	)		(1,095	)		1,098
Increase in amount due from subsidiaries		(196	)		—			—
(Decrease) increase in amount due to subsidiaries		—			(42	)		(246	)
Net cash provided by operating activities		6,848			8,250			11,626
Cash flow from financing activities:
Payments to acquire treasury stock		(2,617	)		(8,097	)		(7,230	)
Purchase of company stock for deferred compensation plan, net of distributions		13			(13	)		(16	)
(Decrease) increase in deferred compensation obligation		(13	)		13			16
Options exercised, including tax benefits		684			1,253			1,874
Dividends paid on common stock		(4,415	)		(4,068	)		(4,139	)
Tax benefit resulting from dividends paid on unallocated shares held by the ESOP		—			—			4
Net cash used in financing activities		(6,348	)		(10,912	)		(9,491	)
Net increase (decrease) in cash and cash equivalents		500			(2,662	)		2,135
Cash and cash equivalents at beginning of year		3,747			6,409			4,274
Cash and cash equivalents at end of year	$	4,247		$	3,747		$	6,409

During the years ended December 31,2004,2003 and 2002, the Company made cash payments for income taxes of $20 thousand, $32 thousand and $40 thousand, respectively, and no payments for interest.

     In addition, the Company made cash payments to the state of Delaware for franchise taxes in the amount of $48 thousand, $38 thousand and $38 thousand during the years ended December 31, 2004,2003 and 2002, respectively.

59

18.   Ten-Year Statistical Summary (Unaudited)

(In thousands except per share data)
Years ended December 31,	2004			2003			2002			2001			2000			1999			1998			1997			1996			1995
Net income	$	7,380		$	7,863		$	9,814		$	10,759		$	11,111		$	11,311		$	10,914		$	10,167		$	9,427		$	8,759
Diluted earnings per share		1.64			1.73			2.04			2.24			2.25			2.17			1.98			1.85			1.72			1.56
Cash dividends paid per share		1.00			0.92			0.88			0.84			0.79			0.74			0.68			0.59			0.46			0.36	1/2
Book value per share, at year-end		25.11			25.17			25.45			24.34			22.83			20.43			21.05			19.38			17.17			16.56
Return on average assets		0.75	%		0.78	%		0.99	%		1.13	%		1.20	%		1.20	%		1.17	%		1.12	%		1.08	%		1.04	%
Return on average equity		6.71	%		7.08	%		8.39	%		9.53	%		10.93	%		10.66	%		10.05	%		10.51	%		10.65	%		10.65	%

19.   Quarterly Data (Unaudited)

Years ended December 31,	2004												2003
(In thousands except	4th			3rd			2nd			1st			4th			3rd			2nd		1st
per share data)	Quarter			Quarter			Quarter			Quarter			Quarter			Quarter			Quarter		Quarter
Interest and dividend income	$	8,679		$	8,436		$	8,121		$	8,345		$	8,690		$	9,226		$	9,860	$	10,361
Interest expense		3,304			3,225			3,096			3,104			3,483			3,622			4,136		4,613
Net interest income		5,375			5,211			5,025			5,241			5,207			5,604			5,724		5,748
Provision (credit) for loan losses		(55	)		(74	)		(51	)		(62	)		(52	)		(450	)		—		—
Net interest income after provision (credit) for loan losses		5,430			5,285			5,076			5,303			5,259			6,054			5,724		5,748
Gains on securities, net		287			182			186			574			335			72			192		40
Other non-interest income		361			267			342			287			346			271			400		266
Non-interest expense		3,200			2,978			2,964			3,160			3,204			3,133			3,229		3,049
Income before income taxes		2,878			2,756			2,640			3,004			2,736			3,264			3,087		3,005
Income tax expense		992			945			906			1,055			941			1,127			1,101		1,060
Net income	$	1,886		$	1,811		$	1,734		$	1,949		$	1,795		$	2,137		$	1,986	$	1,945
Earnings per share (in dollars):(1)
Basic	$	0.43		$	0.41		$	0.39		$	0.44		$	0.41		$	0.49		$	0.45	$	0.43
Diluted		0.42			0.40			0.39			0.43			0.40			0.48			0.44		0.42
Weighted average common shares outstanding:(1)
Basic		4,392			4,398			4,416			4,427			4,397			4,378			4,428		4,557
Diluted		4,477			4,483			4,502			4,545			4,523			4,490			4,531		4,637

⁽¹⁾ Computation of earnings per share is further described in Note 1.

60

Massbank Corp. and Subsidiaries Stockholder Data

Years ended December 31, 2004 and 2003

Massbank Corp.’s common stock is currently traded on the Nasdaq Stock Market under the symbol “MASB.” At December 31, 2004 there were 4,381,727 shares outstanding and 655 shareholders of record. Shareholders of record do not reflect the number of persons or entities who hold their stock in nominee or “street” name.

     The following table includes the quarterly ranges of high and low closing sales prices for the common stock, as reported by Nasdaq, and dividends declared per share for the periods indicated.

	Price per Share				Cash
					Dividends
	High		Low		Declared
Year ended December 31,	2004
Fourth Quarter	$	38.41	$	36.50	$	0.25
Third Quarter		37.39		34.25		0.25
Second Quarter		41.99		32.05		0.25
First Quarter		43.48		38.79		0.25

Year ended December 31,	2003
Fourth Quarter	$	44.27	$	37.23	$	0.23
Third Quarter		37.72		31.91		0.23
Second Quarter		36.20		27.47		0.23
First Quarter		28.90		27.50		0.23

61

Massbank Branch Offices d/b/a

Massbank of Reading*

123 Haven Street
Reading, MA 01867
(781) 942-8188
(978) 446-9200

Massbank of Chelmsford

291 Chelmsford Street
Chelmsford, MA 01824
(978) 256-3751

17 North Road
Chelmsford, MA 01824
(978) 256-3733

Massbank of Dracut

45 Broadway Road
Dracut, MA 01826
(978) 441-0040

Massbank of Everett

738 Broadway
Everett, MA 02149
(617) 387-5115

Massbank of Lowell

50 Central Street
Lowell, MA 01852
(978) 446-9200

755 Lakeview Avenue
Lowell, MA 01850
(978) 446-9216

Massbank of Medford

4110 Mystic Valley Parkway
Wellington Circle Plaza
Medford, MA 02155
(781) 395-4899

Massbank of Melrose
476 Main Street
Melrose, MA 02176
(781) 662-0100

27 Melrose Street
Towers Plaza
Melrose, MA 02176
(781) 662-0165

Massbank of Stoneham

240 Main Street
Stoneham, MA 02180
(781) 662-0177

Massbank of Tewksbury

1800 Main Street
Tewksbury, MA 01876
(978) 851-0300

Massbank of Westford

203 Littleton Road
Westford, MA 01886
(978) 692-3467

Massbank of Wilmington
370 Main Street
Wilmington, MA 01887
(978) 658-4000

219 Lowell Street
Lucci’s Plaza
Wilmington, MA 01887
(978) 658-5775

*Main Office

62

Corporate Information

Massbank Corp.
123 Haven Street
Reading, MA 01867
(781) 662-0100
(978) 446-9200
FAX (781) 942-1022

Savings and Mortgage
24-Hour-Rate Lines
(781) 662-0154
(978) 446-9285

Notice of Shareholders’ Meeting

The Annual Meeting of the
Shareholders of Massbank Corp.
will be held at 10:00 A.M.
on Tuesday, April 19, 2005 at the
Sheraton Ferncroft Resort
50 Ferncroft Road
Danvers, MA 01923

Trademark

Massbank and its logo are
registered trademarks of
the Company

Form 10-K

Shareholders may obtain without
charge a copy of the Company’s
2004 Form 10-K. Written requests
should be addressed to:
Shareholder Services
Massbank Corp.
159 Haven Street
Reading, MA 01867

Dividend Reinvestment and
Stock Purchase Plan

Shareholders may obtain a brochure
containing a detailed description of
the plan by writing to:
Shareholder Services
Massbank Corp.
159 Haven Street
Reading, MA 01867

Transfer Agent

American Stock Transfer &
Trust Company
59 Maiden Lane
New York, NY 10038
(800) 937-5449
(877) 777-0800
Website address:
www.amstock.com

Independent Registered
Public Accounting Firm

KPMG LLP
99 High Street
Boston, MA 02110

Legal Counsel

Goodwin Procter LLP
Exchange Place
Boston, MA 02109

63

Officers and Directors
Massbank Corp.

Officers

Gerard H. Brandi
Chairman, President and
Chief Executive Officer

Reginald E. Cormier
Senior Vice President, Treasurer and
Chief Financial Officer

Robert S. Cummings
Secretary

Donna H. West
Assistant Secretary

Board of Directors

*Mathias B. Bedell
Retired, Bedell Brothers Insurance
Agency, Inc.

*Gerard H. Brandi

Chairman, President and
Chief Executive Officer,
Massbank Corp.

Allan S. Bufferd
Treasurer,
Massachusetts Institute of Technology

Kathleen M. Camilli
President
Camilli Economics, LLC

†Peter W. Carr
Retired, Guilford Transportation
Industries

†Alexander S. Costello
Teacher, Brooks School

*Robert S. Cummings
Senior Counsel,
Nixon Peabody LLP

*Stephen E. Marshall
Retired, C.H. Cleaves Insurance
Agency, Inc.

Nancy L. Pettinelli
Executive Director,
Visiting Nurse Association

†*Herbert G. Schurian
Certified Public Accountant

*Dr. Donald B. Stackhouse
Retired, Dental Health Concepts

*Member, Executive Committee
†Member, Audit Committee

Officers and Directors
Massbank

Officers

Gerard H. Brandi
Chairman, President and
Chief Executive Officer

Donald R. Washburn
Senior Vice President, Lending

Donna H. West
Senior Vice President,
Community Banking

Reginald E. Cormier
Senior Vice President, Treasurer
and Chief Financial Officer

David F. Carroll
Vice President, Operations

William F. Rivers
Vice President, Operations

Richard J. Flannigan
Vice President and
Senior Trust Officer

Thomas J. Queeney
Vice President and
Senior Trust Officer

Carol A. Axelrod
Loan Officer

Kathleen M. Baldassari
Assistant Treasurer

Kenneth R. Berard
Assistant Treasurer

David M. Bianco
Assistant Treasurer

Andrea S. Bradford
Assistant Vice President

Ernest G. Campbell, Jr.
Collections Officer

Marianne J. Carpenter
Assistant Vice President

Lisa A. DiCicco
Trust Operations Officer

Claudeia F. Downing
Assistant Treasurer

Karen L. Flammia
Assistant Vice President

Scott M. Forbes
Mortgage Origination Officer

Rachael E. Garneau
Assistant Treasurer

Martin J. Heneghan
Assistant Controller

Brian W. Hurley
Assistant Vice President

Anne M. Lee
Director of Human Resources

Kenneth A. Masson
Assistant Vice President,
Marketing

Laura M. O’Connor
Assistant Treasurer

Erik C. Olson
Auditor

Joseph P. Orefice
Information Technology Officer

Karen L. O’Rourke
Assistant Treasurer

Charles E. Samour
Security Officer

Melanie M. Sullivan
Assistant Treasurer

Margaret E. White
Assistant Treasurer

Patricia A. Witts
Assistant Treasurer

Michael J. Woods
Assistant Vice President

Board of Directors
and
Executive Committee

Mathias B. Bedell
Gerard H. Brandi, Chairman
Robert S. Cummings, Clerk
Stephen E. Marshall
Herbert G. Schurian
Dr. Donald B. Stackhouse
Donna H. West

64

EX-21

                                                                      Exhibit 21

            List of Subsidiaries of MASSBANK Corp.

MASSBANK Corp. is the parent company of:

      MASSBANK (the "Bank")

MASSBANK has three wholly-owned subsidiaries:

      Readibank Properties, Inc.
      Readibank Investment Corporation
      Melbank Investment Corporation

EX-23

                                                                      EXHIBIT 23

            Consent of Independent Registered Public Accounting Firm

The Board of Directors
MASSBANK Corp.

We consent to incorporation by reference in the registration statements on Form
S-8, (File Nos. 33-11949, 33-82110 and 33-118028) of MASSBANK Corp. of our
reports dated March 14, 2005, with respect to the consolidated balance sheets of
MASSBANK Corp. and subsidiaries as of December 31, 2004 and 2003, and the
related consolidated statements of income, cash flows and changes in
stockholders' equity for each of the years in the three-year period ended
December 31, 2004, management's assessment of the effectiveness of internal
control over financial reporting as of December 31, 2004 and the effectiveness
of internal control over financial reporting as of December 31, 2004, which
reports appear in the Annual Report on Form 10-K of MASSBANK Corp.

/s/ KPMG LLP

Boston, Massachusetts
March 14, 2005

EX-31.1

                                                                    Exhibit 31.1

                                  CERTIFICATION

I, Gerard H. Brandi certify that:

1.    I have reviewed this annual report on Form 10-K of MASSBANK Corp. (the
      "Registrant");

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

3.    Based on my knowledge, the 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
            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 Registrant's board
      of directors (or persons performing the equivalent function):

      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/ Gerard H. Brandi
                                  ---------------------------------------
                                      Gerard H. Brandi, President and CEO
                                      (principal executive officer)

EX-31.2

                                                                    Exhibit 31.2

                                  CERTIFICATION

I, Reginald E. Cormier certify that:

1.    I have reviewed this annual report on Form 10-K of MASSBANK Corp. (the
      "Registrant");

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

3.    Based on my knowledge, the 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
            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 Registrant's board
      of directors (or persons performing the equivalent function):

      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/ Reginald E. Cormier
                                  ---------------------------------------------
                                  Reginald E. Cormier, Sr. V.P., Treasurer & CFO
                                  (principal financial officer)

EX-32.1

                                                                    Exhibit 32.1

                CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350
                             AS ADOPTED PURSUANT TO
                  SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

      In connection with the Annual Report on Form 10-K of MASSBANK Corp. (the
"Registrant") for the year ended December 31, 2004 (the "Report") as filed with
the Securities and Exchange Commission on the date hereof, I, Gerard H. Brandi,
President and Chief Executive Officer of the Registrant, certify, pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 that:

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

      2.    To my knowledge, the information contained in the Report fairly
            presents, in all material respects, the financial condition and
            results of operations of the Registrant as of and for the period
            covered by the report.

Dated: March 14, 2005

                                               /s/ Gerard H. Brandi
                                               -----------------------
                                               Gerard H. Brandi
                                               President and
                                               Chief Executive Officer

The foregoing certification is being furnished solely pursuant to 18 U.S.C.
Section 1350 and is not being filed as part of the Report or as a separate
disclosure document.

EX-32.2

                                                                    Exhibit 32.2

                CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350
                             AS ADOPTED PURSUANT TO
                  SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

      In connection with the Annual Report on Form 10-K of MASSBANK Corp. (the
"Registrant") for the year ended December 31, 2004 (the "Report") as filed with
the Securities and Exchange Commission on the date hereof, I, Reginald E.
Cormier, Sr. Vice President, Treasurer and Chief Financial Officer of the
Registrant, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 that:

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

      2.    To my knowledge, the information contained in the Report fairly
            presents, in all material respects, the financial condition and
            results of operations of the Registrant as of and for the period
            covered by the report.

Dated: March 14, 2005

                                               /s/ Reginald E. Cormier
                                               --------------------------------
                                               Reginald E. Cormier
                                               Sr. Vice President, Treasurer
                                               Chief Financial Officer

The foregoing certification is being furnished solely pursuant to 18 U.S.C.
Section 1350 and is not being filed as part of the Report or as a separate
disclosure document.