10-K405

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

ý
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [No Fee Required]

For the fiscal year ended December 31, 2001

OR

o TRANSITION REPORT PURUSANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [No Fee Required]

For the transition period from                              to                             

Commission file number 0-24100.

HMN FINANCIAL, INC.
(Exact Name of Registrant as Specified in its Charter)

Delaware (State or other jurisdiction of incorporation or organization)	41-1777397 (I.R.S. Employer Identification No.)
1016 Civic Center Drive Northwest PO Box 6057 Rochester, Minnesota (Address of principal executive offices)	55903-6057 (Zip Code)

Registrant's telephone number, including area code: (507) 535-1200

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 $.01 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 twelve months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such requirements for the past 90 days. Yes ý    No o

        Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best or 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. ý

        As of March 5, 2002, the Registrant had issued and outstanding 4,370,066 shares of the Registrant's Common Stock. The aggregate market value of the voting stock held by non-affiliates of the Registrant as of March 5, 2002 was $56.7 million. (The exclusion from such amount of the market value of the shares owned by any person shall not be deemed an admission by the Registrant that such person is an affiliate of the Registrant.)

DOCUMENTS INCORPORATED BY REFERENCE

        Parts of the Registrant's Annual Report for the year ended December 31, 2001, are incorporated by reference in Parts I, II and IV of this Form 10-K. Parts of the Registrant's Proxy Statement dated March 21, 2002, are incorporated by reference in Part III of this Form 10-K.

TABLE OF CONTENTS

PART I
Item 1. Business
	General
	Lending Activities
	Investment Activities
	Sources of Funds
	Other Information
	Service Corporations
	Competition
	Other Corporations Owned by HMN
	Employees
	Regulation
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Submission of Matters to a Vote of Security Holders
PART II
Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters
Item 6. Selected Financial Data
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 7A. Quantitative and Qualitative Disclosure About Market Risk
Item 8. Financial Statements and Supplementary Data
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
PART III
Item 10. Directors and Executive Officers of the Registrant
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners and Management
Item 13. Certain Relationships and Related Transactions
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
Signatures
Index to Exhibits

PART I

ITEM 1. BUSINESS

General

        HMN Financial, Inc. (HMN or the Corporation), was incorporated under the laws of the State of Delaware in March 1994 for the purpose of becoming the savings and loan holding company of Home Federal Savings Bank (Home Federal or the Bank) in connection with the Bank's conversion from a federally chartered mutual savings bank to a federally chartered stock savings bank on June 29, 1994. Home Federal has a community banking philosophy and operates retail banking facilities in Minnesota and Iowa. The Bank has two subsidiaries, Osterud Insurance Agency, Inc. (OAI) and Home Federal Mortgage Services, LLC (HFMS). OAI is wholly owned by the Bank and offers financial planning products and services. HFMS is a mortgage banking and mortgage brokerage business located in Brooklyn Park, Minnesota. Prior to 2001 the business was operated as a wholly owned subsidiary of HMN and was known as HMN Mortgage Services, Inc. (MSI). In January 2001, HMN sold 100% of the MSI stock to the Bank. The Bank formed HFMS and merged MSI into HFMS. Effective February 1, 2001 the business sold a 49% membership interest in HFMS to two individuals. HMN has another wholly owned subsidiary, Security Finance Corporation (SFC). Prior to 2000, SFC invested in commercial loans and commercial real-estate loans located throughout the United States which were originated by third parties. During 2000 SFC sold many of its assets to the Bank and discontinued investing in commercial loans.

        The Company's financial statements identify the Bank and HFMS as reportable operating segments. In addition, HFMS has been segmented further into mortgage servicing rights and mortgage banking activities. The information on pages 51 - 52 of the Company's annual report is incorporated herein by reference.

        As a community-oriented financial institution, HMN seeks to serve the financial needs of communities in its market area. HMN's business involves attracting deposits from the general public and businesses and using such deposits to originate or purchase one-to-four family residential, commercial real estate, and multi-family mortgage loans in addition to consumer, construction, and commercial business loans. HMN also invests in mortgage-backed and related securities, investment securities (consisting primarily of U.S. government and government agency obligations) and other permissible investments. The executive offices of HMN are located at 1016 Civic Center Drive Northwest, PO Box 6057, Rochester, Minnesota 55901-6057. Its telephone number at that address is (507) 535-1200.

Market Area

        HMN serves the Minnesota counties of Fillmore, Freeborn, Houston, Mower, Olmsted and Winona and portions of Steele, Dodge, Goodhue and Wabasha through its main office located in Rochester, Minnesota and its nine branch offices located in Albert Lea, Austin, LaCrescent, Rochester, Spring Valley and Winona, Minnesota. The portion of HMN's market area consisting of Rochester and the contiguous communities is composed of primarily urban and suburban communities, while the balance of HMN's market area consists primarily of rural areas and small towns. Primary industries in HMN's market area include manufacturing, agriculture, health care, wholesale and retail trade, service industries and education. Major employers include IBM, the Mayo Clinic, Hormel, a food processing company, and various small industrial and other companies. HMN's market area is also the home of Winona State University, Rochester Community and Technical College, University of Minnesota—Rochester Center, Winona State University—Rochester Center and Austin's Riverland Community College.

        HMN serves the Iowa counties of Marshall and Tama through its branch offices located in Marshalltown and Toledo. Major industries in the area are Swift & Company—pork processors, Fisher Controls Int.—valve and regulator manufacturing, Lennox Industries—furnace and air conditioner manufacturing, Iowa Veterans Home—hospital care, Marshall Community School District—education, Marshall Medical & Surgical Center—hospital care and Meskwaki Casino—gaming operations.

        Based upon information obtained from the U.S. Census Bureau for 2000, the population of the six primary counties in the Bank's Minnesota market area was as follows: Fillmore—21,122; Freeborn—32,584; Houston—19,718; Mower—38,603; Olmsted—124,277; and Winona—49,985. The median household income for these six counties ranged from approximately $31,850 to $49,000.

        Based upon information obtained from the U.S. Census Bureau for 2000, the population of Marshall County was 39,311 and the population of Tama County was 18,103. The median household income of these two counties ranged from approximately $34,794 to $37,314.

        HFMS is a mortgage banking and mortgage brokerage office located in Brooklyn Park, Minnesota. The office primarily originates single family residential loans for sale in the secondary market or purchases loans from third party originators located primarily in the seven county metropolitan area of Minneapolis and St. Paul and sells the loans and generally the related servicing rights to those loans in the secondary market. In the past HFMS has also purchased mortgage servicing rights from third parties for the purpose of generating loan servicing income.

Lending Activities

        General.    Historically, HMN originated 30-year, fixed-rate mortgage loans secured by one-to-four family residences. Since 1979, in order to reduce its vulnerability to changes in interest rates, HMN has emphasized the origination or purchase of loans for the loan portfolio which have shorter terms to maturity such as 15 year, fixed rate residential loans and Graduated Equity Mortgages (GEMs) which fully amortize in 15 to 20 years. HMN has also emphasized the origination or purchase of Adjustable Rate Mortgage loans (ARMs) for portfolio which have interest rates which are fixed for an initial period of one, three or five years and then generally adjust annually, thereafter, based upon a treasury interest rate index plus a certain margin, subject to annual and lifetime rate adjustment limits. Throughout 2000 and 2001 HMN sold the majority of the fixed rate one-to-four family mortgage loan originations in order to reduce its interest rate risk. In 1998 HMN hired experienced commercial loan officers who have actively pursued commercial real estate and other commercial business loans to small and medium sized businesses during 2000 and 2001. HMN also offers a competitive array of consumer loan products which include both open lines and closed ended home equity loans as well as other consumer loans. The home equity line of credit has an adjustable interest rate based upon the Wall Street Journal prime rate plus a margin.

        Loan Portfolio Composition. The following information concerning the composition of HMN's loan portfolio in dollar amounts and in percentages (before deductions for loans in process, deferred fees and discounts and allowances for losses) as of December 31:

		2001				2000				1999				1998				1997
		Amount		Percent		Amount		Percent		Amount		Percent		Amount		Percent		Amount		Percent
		(Dollars in thousands)
Real Estate Loans:
One-to-four family		$	215,448	44.73	%	$	312,888	59.43	%	$	344,674	70.95	%	$	365,496	79.31	%	$	395,668	87.58	%
Multi-family			14,369	2.98			12,090	2.30			8,489	1.75			4,719	1.02			2,717	0.60
Commercial			70,768	14.69			61,654	11.71			43,894	9.04			28,990	6.29			10,572	2.34
Construction or development			46,977	9.75			20,211	3.84			16,046	3.30			15,155	3.29			5,725	1.27
	Total real estate loans		347,562	72.15			406,843	77.28			413,103	85.04			414,360	89.91			414,682	91.79
Other Loans:
Consumer loans:
Automobile			6,624	1.38			6,363	1.21			4,532	0.94			2,897	0.63			2,437	0.54
Home equity line			35,714	7.42			26,907	5.11			22,437	4.62			19,476	4.22			19,490	4.31
Home equity			26,440	5.49			28,144	5.35			17,349	3.57			9,566	2.08			7,176	1.59
Mobile home			5,456	1.13			4,921	0.93			791	0.16			58	0.01			26	0.01
Other			4,897	1.02			4,561	0.87			3,127	0.64			2,803	0.61			2,736	0.60
	Total consumer loans		79,131	16.44			70,896	13.47			48,236	9.93			34,800	7.55			31,865	7.05
Commercial business loans			54,940	11.41			48,760	9.25			24,435	5.03			11,695	2.54			5,226	1.16
	Total other loans		134,071	27.85			119,656	22.72			72,671	14.96			46,495	10.09			37,091	8.21
	Total loans		481,633	100.00	%		526,499	100.00	%		485,774	100.00	%		460,855	100.00	%		451,773	100.00	%
Less:
Loans in process			4,692				2,953				2,771				7,997				4,562
Unamortized discounts			278				289				297				414				547
Net deferred loan fees			1,212				1,348				1,537				1,948				1,847
Allowance for losses on loans			3,783				3,144				3,273				3,041				2,748
	Total loans receivable, net	$	471,668			$	518,765			$	477,896			$	447,455			$	442,069

        The following table shows the composition of HMN's loan portfolio by fixed- and adjustable-rate loans as of December 31:

			2001				2000				1999				1998				1997
			Amount		Percent		Amount		Percent		Amount		Percent		Amount		Percent		Amount		Percent
			(Dollars in thousands)
Fixed-Rate Loans
Real Estate:
	One-to-four family
	GEM		$	30,727	6.38	%	$	47,811	9.08	%	$	51,309	10.56	%	$	56,211	12.20	%	$	53,258	11.79	%
	Other			110,619	22.97			158,083	30.03			187,796	38.66			227,790	49.43			256,263	56.72
		Total one-to-four family		141,346	29.35			205,894	39.11			239,105	49.22			284,001	61.63			309,521	68.51
	Multi-family			7,644	1.59			7,099	1.35			7,475	1.54			3,432	0.74			2,490	0.55
	GEM			68	0.01			71	0.01			74	0.02			77	0.02			0	0.00
	Commercial			29,756	6.18			27,743	5.27			27,801	5.72			17,768	3.86			1,914	0.42
	Construction or development			15,542	3.22			2,126	0.40			5,011	1.03			9,366	2.03			3,180	0.71
		Total fixed-rate real estate loans		194,356	40.35			242,933	46.14			279,466	57.53			314,644	68.28			317,105	70.19
Consumer loans:
	Savings			594	0.12			695	0.13			733	0.15			994	0.22			1,362	0.30
	Automobile			6,624	1.38			6,363	1.21			4,532	0.93			2,897	0.63			2,437	0.54
	Home equity			26,300	5.46			27,832	5.29			16,962	3.49			9,384	2.04			6,701	1.48
	Mobile home			5,456	1.13			4,921	0.94			791	0.16			58	0.01			26	0.01
	Other			4,093	0.85			3,650	0.69			2,311	0.48			1,553	0.33			1,238	0.27
		Total consumer loans		43,067	8.94			43,461	8.26			25,329	5.21			14,886	3.23			11,764	2.60
	Commercial business loans			37,123	7.71			27,821	5.28			18,936	3.90			10,157	2.20			5,226	1.16
		Total other loans		80,190	16.65			71,282	13.54			44,265	9.11			25,043	5.43			16,990	3.76
		Total fixed-rate loans		274,546	57.00			314,215	59.68			323,731	66.64			339,687	73.71			334,095	73.95
Adjustable-Rate Loans
	Real estate:
	One-to-four family			74,102	15.38			106,994	20.32			105,569	21.73			81,495	17.68			86,147	19.07
	Multi-family			6,657	1.38			4,920	0.93			724	0.15			1,210	0.26			227	0.05
	Commercial			41,012	8.52			33,911	6.44			16,309	3.36			11,222	2.44			8,658	1.92
	Construction or development			31,435	6.53			18,055	3.44			11,035	2.27			5,789	1.26			2,545	0.56
		Total adjustable-rate real estate loans		153,206	31.81			163,910	31.13			133,637	27.51			99,716	21.64			97,577	21.60
	Consumer (home equity and other)			36,064	7.49			27,435	5.21			22,907	4.72			19,914	4.32			20,101	4.45
	Commercial business loans			17,817	3.70			20,939	3.98			5,499	1.13			1,538	0.33			0	0.00
		Total adjustable-rate loans		207,087	43.00			212,284	40.32			162,043	33.36			121,168	26.29			117,676	26.05
		Total loans		481,633	100.00			526,499	100.00			485,774	100.00			460,855	100.00			451,773	100.00
Less
	Loans in process			4,692				2,953				2,771				7,997				4,562
	Unamortized discounts			278				289				297				414				547
	Net deferred loan fees			1,212				1,348				1,537				1,948				1,847
	Allowance for losses on loans			3,783				3,144				3,273				3,041				2,748
		Total loans receivable, net	$	471,668			$	518,765			$	477,896			$	447,455			$	442,069

        The following table illustrates the interest rate sensitivity of HMN's loan portfolio at December 31, 2001. Loans which have adjustable or renegotiable interest rates are shown as maturing in the period during which the contract is due. Scheduled repayments of principal are reflected in the year in which they are scheduled to be paid.

	Real Estate
	One-to-four family				Multi-family and Commercial				Construction				Consumer				Commercial Business				Total
	Amount		Weighted Average Rate		Amount		Weighted Average Rate		Amount		Weighted Average Rate		Amount		Weighted Average Rate		Amount		Weighted Average Rate		Amount		Weighted Average Rate
Due During Years Ending December 31,
2002 (1)	$	17,672	7.32	%	$	7,546	7.69	%	$	20,708	7.19	%	$	13,125	9.07	%	$	23,204	6.63	%	$	82,255	7.40	%
2003		13,270	7.21			10,821	8.33			395	7.07			9,217	8.47			10,338	8.30			44,041	8.00
2004		13,303	7.23			11,014	8.36			1,304	5.85			8,287	8.32			7,956	7.84			41,864	7.81
2005 through 2006		26,274	7.18			12,716	8.32			2,162	7.30			20,247	8.55			9,299	7.47			70,698	7.82
2007 through 2011		57,285	7.13			30,439	8.33			9,777	7.17			24,953	7.85			1,564	7.34			124,018	7.57
2012 through 2026		77,773	7.24			12,578	8.19			6,418	7.52			3,302	10.46			2,579	6.39			102,650	7.46
2027 and following		9,871	7.83			23	9.50			6,213	6.46			0	0.00			0	0.00			16,107	7.30
	$	215,448			$	85,137			$	46,977			$	79,131			$	54,940			$	481,633

(1)

Includes demand loans, loans having no stated maturity, overdraft loans and education loans.

        The total amount of loans due after December 31, 2002 which have predetermined interest rates is $218.7 million, while the total amount of loans due after such dates which have floating or adjustable interest rates is $180.7 million.

        At December 31, 2001 construction or development loans for one-to-four family dwellings totaled $19.0 million, multi-family totaled $7.4 million, and non-residential totaled $20.6 million.

        Under the Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA"), the aggregate amount of loans that the Bank is permitted to make to any one borrower is generally limited to 15% of unimpaired capital and surplus (25% if the security for such loan has a "readily ascertainable" value or 30% for certain residential development loans). At December 31, 2001, based upon the 15% limitation, the Bank's regulatory limit for loans-to-one borrower was approximately $8.6 million. However, at December 31, 2001, the largest dollar amount outstanding to one borrower or group of related borrowers was $7.9 million. The borrowing relationship is secured by a shopping mall located in Winona, Minnesota and other commercial real estate in Rochester, Minnesota. The borrowing relationship was performing in accordance with its terms at December 31, 2001.

        The Bank's Mortgage and Consumer Loan Committee is responsible for review and approval of all loans over the FHLMC/FNMA conforming loan dollar limits (the Limit) originated by the Bank which are not sold in the secondary loan market. For all of 2001 and the majority of 2000 the Limit was $275,000. Approval of one member of the Loan Committee is required on all loans ranging from the Limit up to $500,000. Loans greater than $500,000 must be approved by the Board of Directors of the Bank or its Executive Committee after review and preliminary approval by the Loan Committee. All loans closed each month are ratified by the Board of Directors at its regularly scheduled meetings.

        The Bank's commercial loan officers have the authority to approve loans which meet the guidelines established by the commercial loan policy for loans less than $500,000. The Bank's Commercial Loan Committee is responsible for reviewing and approving commercial loans which range from $500,000 to $4.0 million. Loans of $4.0 million or more must be approved by the Board of Directors or its Executive Commercial Loan Committee.

        All of the Bank's lending is subject to its written underwriting standards and to loan origination procedures. Decisions on loan applications are made on the basis of detailed applications and property valuations (consistent with the Bank's appraisal policy) by the Bank's staff appraiser or an independent appraiser. The loan applications are designed primarily to determine the borrower's ability to repay. The more significant items on the application are verified through use of credit reports, financial statements, tax returns and/or confirmations. The Bank also offers the Home Credit Plus Program which relies on the credit score of the loan applicant instead of income, asset and employment verification procedures. The Bank also offers low or alternative documentation underwriting procedures which conform to FNMA underwriting guidelines.

        Generally, the Bank requires title insurance on its mortgage loans as well as fire and extended coverage casualty insurance in amounts at least equal to the principal amount of the loan or the value of improvements on the property, depending on the type of loan. The Bank also requires flood insurance to protect the property securing its interest when the property is located in a flood plain.

        One-to-four Family Residential Real Estate Lending.    At December 31, 2001 HMN's one-to-four family real estate loans totaled $215.4 million, a decline of $97.5 million compared to $312.9 million at December 31, 2000 which declined by $31.8 million, compared to $344.7 million at December 31, 1999 which declined by $20.8 million compared to $365.5 million at December 31, 1998. During 2001 loan prepayments increased as a result of the low interest rate environment and many loans that were in the portfolio at December 31, 2000 that were refinanced as conventional fixed rate loans during the year were sold to FNMA. The increased prepayments and the related loan sales were the principal cause of the decline of $97.5 million in the one-to-four family loans during 2001. In order to reduce its interest rate risk the Bank sold 80% of all one-to-four family loans originated during 2000. The Bank converted $11.1 million of one-to-four family loans into mortgage-backed securities (securitized) and transferred the securities into the securities available for sale portfolio. The Bank also sold another $5.1 million of one-to-four family loans from the loan portfolio. The impact of the loan securitization and sales when coupled with principal repayments caused the one-to-four family loan portfolio to decline by $31.8 million during 2000. During 1999 the Bank sold 62% of all one-to-four family mortgage loans originated or refinanced. It converted $6.9 million of one-to-four family loans into mortgage-backed securities (securitization) and transferred the securities into the securities available for sale portfolio. The Bank also sold another $10.2 million of one-to-four family loans from the loan portfolio. The impact of the loan securitization and sales when coupled with the principal repayments caused the one-to-four family loan portfolio to decline by $20.8 million during 1999. During 1998, the Bank securitized and sold $27.9 million of one-to-four family residential loans out of its loan portfolio. It also sold approximately 44% of the Bank's one-to-four family residential loans that were originated or refinanced in 1998. The loan securitization and the loan sales, when coupled with the accelerated prepayments experienced in the loan portfolio during 1998, caused the one-to-four family real estate loan portfolio to decline $30.2 million from December 31, 1997 to December 31, 1998.

        The GEM loans require payments which increase after the first year. Under the GEM loans, the monthly payments required for the first year are established based on a 30-year amortization schedule. Depending upon the program selected, the payments may increase in the succeeding years by amounts ranging from 0% to 5%. Most of the GEM loans originated by HMN provide for at least three annual payment increases over the first five years of the loan. The increased payments required under GEM loans are applied to principal and have the effect of shortening the term to maturity; the GEM loans do not permit negative amortization. HMN has primarily offered two GEM programs, one with a contractual maturity of approximately 17 years and one with a contractual maturity of approximately 22 years. The GEMs are generally priced based upon loans with similar contractual maturities. The GEMs were popular with consumers who anticipate future increases in income and who desire an amortization schedule of less than 30 years. During 1999 the GEM program was discontinued by HMN. At December 31, 2001, HMN had $30.7 million of one-to-four family GEM loans, a decrease of $17.1 million from $47.8 million at December 31, 2000, compared to a decrease of $3.5 million from $51.3 million at December 31, 1999, compared to $56.2 million at December 31, 1998, and $53.3 million at December 31, 1997.

        In addition to the GEM loan program, HMN offers other conventional fixed-rate one-to-four family loans with maximum terms of up to 30 years. HMN generally sells the majority of new loan originations or refinances with fixed rates and terms to maturity ranging from 15 years to 30 years that are eligible for sale in the secondary market. The interest rates charged on the fixed-rate loan products are generally set based on the FNMA or FHLMC delivery rates, as well as other competitive factors. At December 31, 2001, HMN had $110.6 million of fixed rate one-to-four family mortgage loans, a decrease of $47.5 million compared to $158.1 million at December 31, 2000, a decrease of $29.7 million compared to $187.8 million at December 31, 1999, $227.8 million at December 31, 1998, and $256.3 million at December 31, 1997.

        HMN also offers one-year ARMs at a margin (generally 275 to 375 basis points) over the yield on the Average Monthly One Year U.S. Treasury Constant Maturity Index for terms of up to 30 years. The ARM loans currently offered by HMN allow the borrower to select (subject to pricing) an initial period of one year, three years, or five years between the loan origination and the date the first interest rate change occurs. Generally, the ARMs provide for up to a 200 basis point annual interest rate change cap and a lifetime cap 600 basis points over or under the initial rate. Initial interest rates offered on the ARM loans during 2001 ranged from 100 basis points below the fully indexed loan rate to 100 basis points over the fully indexed loan rate. All borrowers are qualified for the loan at the fully indexed rate. HMN's originated ARMs do not permit negative amortization of principal, do not contain prepayment penalties and generally are not convertible into fixed-rate loans. See "—Delinquencies and Non-Performing Assets." In the past, the Bank offered one-year ARMs with a margin of 200 to 235 basis points over a specified index and an average annual cap of 145 basis points. At December 31, 2001 the one-to-four family ARMs totaled $74.1 million a decrease of $32.9 million compared to $107.0 million at December 31, 2000, an increase of $1.4 million compared to $105.6 million at December 31, 1999, $81.5 million at December 31, 1998, and $86.1 million at December 31, 1997.

        HMN has also originated a limited number of fixed-rate loans with terms up to 30 years which are insured by the Federal Housing Authority (FHA), Veterans Administration (VA) and Minnesota Home Finance Administration (MHFA).

        In underwriting one-to-four family residential real estate loans, HMN evaluates the borrower's credit history, ability to make principal, interest and escrow payments, and the value of the property that will secure the loan and debt to income ratios. Properties securing one-to-four family residential real estate loans made by HMN are appraised by independent fee appraisers or by HMN's staff appraiser. HMN originates residential mortgage loans with loan-to-value ratios of up to 95% for owner-occupied homes and up to 70% for non-owner occupied homes; however, private mortgage insurance is generally required to reduce HMN's exposure to 80% or less on most loans. HMN generally seeks to underwrite its loans in accordance with secondary market standards.

        HMN's residential mortgage loans customarily include due-on-sale clauses giving it the right to declare the loan immediately due and payable in the event that, among other things, the borrower sells or otherwise disposes of the property subject to the mortgage.

        Commercial Real Estate and Multi-Family Lending.    HMN originates permanent commercial real estate and multi-family loans secured by properties located in its market area. It also purchases commercial real estate and multi-family loans originated by other third parties on properties outside of its market area. Commercial real estate loans totaled $70.8 million at December 31, 2001, an increase of $9.1 million from $61.7 million at December 31, 2000, compared to $43.9 million at December 31, 1999, $29.0 million at December 31, 1998 and $10.6 million at December 31, 1997. Multi-family loans totaled $14.4 million at December 31, 2001, an increase of $2.3 million from $12.1 million at December 31, 2000, compared to $8.5 million at December 31, 1999, compared to $4.7 million at December 31, 1998 and 2.7 million at December 31, 1997.

        The commercial real estate and multi-family loan portfolio includes loans secured by motels, hotels, apartment buildings, churches, small office buildings, small business facilities, shopping malls, nursing homes, golf courses, and other non-residential building properties primarily located in the upper midwestern United States.

        Permanent commercial real estate and multi-family loans are generally originated for a maximum term of 15 years and may have longer amortization periods with balloon maturity features. The interest rates may be fixed for the term of the loan or have adjustable features which are tied to prime or a treasury index. Commercial real estate and multi-family loans are generally written in amounts of up to 75% of the lesser of the appraised value of the property or the purchase price and generally have a debt service coverage ratio of at least 120%. The debt service coverage is the ratio of net cash from operations before payment of debt to debt service. HMN may originate construction loans secured by commercial or multi-family real estate, or may purchase participation interests in third party originated construction loans secured by commercial or multi-family real estate.

        Appraisals on commercial real estate and multi-family real estate properties are performed by independent appraisers prior to the time the loan is made. For transactions less than $250,000, HMN may use an internal valuation. All appraisals on commercial and multi-family real estate are reviewed and approved by a commercial loan officer or credit manager. The Bank's underwriting procedures require verification of the borrower's credit history, income and financial statements, banking relationships, references and income projections for the property. All commercial real estate and multi-family loans over $500,000 must be approved by a majority of the commercial loan committee prior to closing. For commercial real estate and multi-family loans under $500,000, two authorized loan officer's are required to approve the loan. The commercial loan policy generally requires personal guarantees from the proposed borrowers. An initial on-site inspection is required for all collateral properties for loans with balances in excess of $250,000. Annual reviews are performed for aggregate commercial lending relationships that exceed $500,000. The reviews cover financial performance, documentation completeness and accuracy of loan risk ratings.

        At December 31, 2001, HMN's two largest commercial real estate loans totaled $6.1 million and $5.9 million. The first loan is secured by a shopping mall in Winona, Minnesota and the second loan is secured by a theater complex in Rochester, Minnesota. Both of these loans were performing at December 31, 2001.

        Multi-family and commercial real estate loans generally present a higher level of risk than loans secured by one-to-four family residences. This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effects of general economic conditions on income producing properties and the increased difficulty of evaluating and monitoring these types of loans. Furthermore, the repayment of loans secured by multi-family and commercial real estate is typically dependent upon the successful operation of the related real estate project. If the cash flow from the project is reduced (for example, if leases are not obtained or renewed), the borrower's ability to repay the loan may be impaired. At December 31, 2001, HMN had two commercial real estate loans and one multi-family loan which were 90 days or more delinquent.

        Construction Lending.    HMN makes construction loans to individuals for the construction of their residences and to builders for the construction of one-to-four family residences. It also makes a limited number of loans to builders for houses built on speculation. Construction loans also include commercial real estate loans. HMN had $47.0 million of construction loans outstanding at December 31, 2001, an increase of $26.8 million from $20.2 million at December 31, 2000, compared to $16.0 million at December 31, 1999, $15.2 million at December 31, 1998 and $5.7 million at December 31, 1997.

        Almost all loans to individuals for the construction of their residences are structured as permanent loans. Such loans are made on the same terms as residential loans, except that during the construction phase, which typically lasts up to seven months, the borrower pays interest only. Generally, the borrower also pays a construction fee up to $800 at the time of origination. Residential construction loans are underwritten pursuant to the same guidelines used for originating residential loans on existing properties.

        Construction loans to builders or developers of one-to-four family residences generally carry terms of 1 to 15 years with a construction phase of up to seven months. Such loans generally do not permit the payment of interest from loan proceeds.

        Construction loans to owner occupants are generally made in amounts of up to 95% of the lesser of cost or appraised value, but no more than 85% of the loan proceeds can be disbursed until the building is completed. The loan-to-value ratios on loans to builders are limited to 70%. Prior to making a commitment to fund a construction loan, HMN requires an appraisal of the property and financial data and verification of the borrower's income. HMN obtains personal guarantees for substantially all of its construction loans to builders. Personal financial statements of guarantors are also obtained as part of the loan underwriting process. Generally construction loans have been located in HMN's market area.

        Construction loans are obtained principally through continued business from builders and developers who have previously borrowed from the Bank, as well as referrals from existing customers and walk-in customers. The application process includes a submission to the Bank of accurate plans, specifications and costs of the project to be constructed. These items are used as a basis to determine the appraised value of the subject property to be built.

        At December 31, 2001 construction real estate loans totaled $47.0 million of which one-to-four family residential loans totaled $19.0 million, multi-family residential totaled $7.4 million and construction on commercial real estate totaled $20.6 million.

        The nature of construction loans is such that they are more difficult to evaluate and monitor. The risk of loss on a construction loan is dependent largely upon the accuracy of the initial estimate of the property's value upon completion of the project and the estimated cost (including interest) of the project. If the estimate of value proves to be inaccurate, HMN may be confronted, at or prior to the maturity of the loan, with a project having a value which is insufficient to assure full repayment and/or the possibility of having to make substantial investments to complete and sell the project. Because defaults in repayment may not occur during the construction period it may be difficult to identify problem loans at an early stage. In such cases, HMN may be required to modify the terms of the loan.

        Consumer Lending.    HMN originates a variety of different types of consumer loans, including home equity loans (open-ended and closed-ended), automobile, home improvement, mobile home, deposit account and other loans for household and personal purposes. At December 31, 2001, consumer loans totaled $79.1 million, an increase of $8.2 million from $70.9 million at December 31, 2000, compared to $48.2 million at December 31, 1999, $34.8 million at December 31, 1998 and $31.9 million at December 31, 1997.

        Consumer loan terms vary according to the type and value of collateral, length of contract and creditworthiness of the borrower. HMN's consumer loans are made at fixed and adjustable interest rates, with terms of up to 20 years for secured loans and up to three years for unsecured loans.

        HMN's home equity loans are written so that the total commitment amount, when combined with the balance of any other outstanding mortgage liens, may not exceed 100% of the appraised value of the property. The closed-end home equity loans are written with fixed- or adjustable-rates with terms of up to 15 years. The open-end home equity lines are written with an adjustable rate with terms of up to 20 years, a 10 year draw period which requires "interest only" payments and a 10 year repayment period which fully amortizes the outstanding balance. The consumer may access the open-end home equity line either by making a withdrawal at the Bank or writing a check on the home equity line of credit account. HMN's closed ended home equity loans totaled $26.4 million at December 31, 2001, a decrease of $1.7 million from $28.1 million at December 31, 2000, compared to $17.3 million at December 31, 1999, $9.6 million at December 31, 1998 and $7.2 million at December 31, 1997. HMN's open-ended home equity lines totaled $35.7 million at December 31, 2001, an increase of $8.8 million from $26.9 million at December 31, 2000, compared to $22.4 million at December 31, 1999, $19.5 million at December 31, 1998 and $19.5 million at December 31, 1997.

        The underwriting standards employed by the Bank for consumer loans include a determination of the applicant's payment history on other debts and ability to meet existing obligations and payments on the proposed loan. Although creditworthiness of the applicant is of primary consideration, the underwriting process also includes a comparison of the value of the security, if any, in relation to the proposed loan amount. Consumer loans may entail greater credit risk than do residential mortgage loans, particularly in the case of consumer loans which are unsecured or are secured by rapidly depreciable assets, such as automobiles. In such cases, any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation. In addition, consumer loan collections are dependent on the borrower's continuing financial stability, and thus are more likely to be affected by adverse personal circumstances. Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans. At December 31, 2001, $311,000 of the consumer loan portfolio was non-performing. There can be no assurance that delinquencies will not increase in the future.

        Commercial Business Lending.    In order to satisfy the demand for financial services available to individuals and businesses in its market area, historically HMN has maintained a portfolio of commercial business loans primarily to small retail operations, small manufacturing concerns and professional firms. More recently HMN has expanded it's commercial business loans to include loans collateralized by inventory and/or receivables and leasehold interests on equipment HMN's commercial business loans generally have terms ranging from six months to five years and may have either fixed or variable interest rates. HMN's commercial business loans generally include personal guarantees and are usually, but not always, secured by business assets such as inventory, equipment, leasehold interests in equipment fixtures, real estate and accounts receivables. The underwriting process for commercial business loans includes consideration of the borrower's financial statements, tax returns, projections of future business operations and inspection of the subject collateral, if any. HMN has also purchased participation interests in commercial business loans from third party originators. The underlying collateral for the loans are generally inventory or equipment and generally have repayment periods of less than ten years. Commercial business loans totaled $54.9 million at December 31, 2001, an increase of $6.1 million from $48.8 million at December 31, 2000, compared to $24.4 million at December 31, 1999, $11.7 million at December 31, 1998 and $5.2 million at December 31, 1997.

        Unlike residential mortgage loans, which generally are made on the basis of the borrower's ability to make repayment from his or her income, and which are secured by real property whose value tends to be more easily ascertainable, commercial business loans are of higher risk and typically are made on the basis of the borrower's ability to make repayment from the cash flow of the borrower's business. As a result, the availability of funds for the repayment of commercial business loans may be substantially dependent on the success of the business itself. Further, the collateral securing the loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business. At December 31, 2001, $890,000 of loans in the commercial business loan portfolio were non-performing. There can be no assurance that delinquencies will not increase in the future.

Originations, Purchases and Sales of Loans and Mortgage-Backed and Related Securities

        Real estate loans are generally originated by HMN's staff of salaried and commissioned loan officers. Loan applications are taken in all branch offices.

        While HMN originates both fixed- and adjustable-rate loans, its ability to originate loans is dependent upon the relative customer demand for loans in its market. Demand for adjustable-rate loans is affected by the interest rate environment. HMN originated for portfolio $8.6 million of one-to-four family adjustable rate loans during 2001, a decrease of $3.9 million from $12.5 million for 2000, compared to $6.0 million for 1999. HMN also originated for portfolio $13.4 million of fixed rate one-to-four family loans during 2001, an increase of $10.7 million from $2.7 million for 2000, compared to $8.2 million for 1999.

        During the past two years HMN has focused its portfolio loan origination efforts on commercial real estate, commercial business and consumer loans because the loans generally have terms to maturity and adjustable interest rate characteristics which are generally more beneficial to HMN than single family fixed-rate conventional loans. HMN originated $109.6 million of commercial real estate, commercial business and consumer loans (which excludes commercial real estate loans in construction or development) during the year ended December 31, 2001, a decrease of $3.3 million from originations of $112.9 million for 2000, compared to originations of $108.3 million for 1999.

        In order to supplement loan demand in HMN's market area and geographically diversify its loan portfolio, HMN purchases real estate loans from selected sellers, with yields based upon current market rates. HMN carefully reviews and underwrites all loans to be purchased to ensure that they meet HMN's underwriting standards. The seller generally continues to service the purchased loans. HMN purchased $12.4 million of loans during 2001, a decrease of $8.2 million from $20.6 million during 2000, compared to $69.6 million for 1999. The majority of the purchased one-to-four family loans have interest rates that are fixed for a one, three or five year period and then adjust annually thereafter or were 15 year fixed-rate loans. The commercial real estate and commercial business loans purchased have terms and interest rates that are similar in nature to HMN's originated commercial and business portfolio. All purchased loans are reviewed to determine that each loan meets certain underwriting requirements. Refer to Note 4 of the Notes to Consolidated Financial Statements in the Annual Report for more information on purchased loans.

        HMN has substantial holdings of mortgage-backed and related securities which are held, depending on the investment intent, in the "available for sale" portfolio. HMN purchased no mortgage-backed securities during 2001, $2.1 million for 2000 and $20.4 million in purchases during 1999. HMN sold $2.1 million of mortgage-backed securities during the year ended December 31, 2001, a decrease of $27.9 million from sales of $30.0 million for 2000, compared to sales of $29.3 million for 1999. See—"Investment Activities."

        The following table shows the loan and mortgage-backed and related securities origination, purchase, acquisition, sale and repayment activities of HMN for the periods indicated.

LOANS HELD FOR INVESTMENT

			Year Ended December 31,
			2001			2000		1999
			(Dollars in thousands)
Originations by type:
Adjustable-rate:
Real-estate—one-to-four family			$	8,581		12,479		5,965
		—multi-family		1,765		160		818
		—commercial		8,947		7,953		12,336
		—construction or development		49,314		28,727		10,171
Non-real estate—consumer				21,199		20,374		17,481
		—commercial business		13,262		20,681		16,671
	Total adjustable-rate			103,068		90,374		63,442
Fixed-rate:
Real estate—one-to-four family				13,350		2,698		8,240
		—multi-family		56		738		2,597
		—commercial		7,003		8,194		15,791
		—construction or development		16,731		4,502		9,544
Non-real estate—consumer				30,756		36,706		23,267
		—commercial business		26,571		18,062		19,305
	Total fixed-rate			94,467		70,900		78,744
	Total loans originated			197,535		161,274		142,186
Purchases:
Real estate—one-to-four family				0		10,133		47,975
		—commercial		2,371		2,045		10,673
		—construction or development		1,715		4,750		6,793
Non-real estate—commercial business				8,360		3,671		4,123
	Total loans purchased			12,446		20,599		69,564
Sales and repayments:
Real estate—commercial				2,398		2,240		685
Construction or development				99		0		0
Non-real estate—consumer				0		207		246
		—commercial business		439		0		0
	Total sales			2,936		2,447		931
Loans securitized and transferred to securities				0		11,129		6,925
Transfers to (from) loans held for sale				2,214		(5,081	)	10,187
Principal repayments				221,495		134,347		163,691
	Total reductions			226,645		142,842		181,734
Increase (decrease) in other items, net				(28,202	)	1,694		(5,097	)
	Net increase (decrease)		$	(44,866	)	40,725		24,919

LOANS HELD FOR SALE

	Year Ended December 31,
	2001			2000	1999
	(Dollars in thousands)
Originations by type:
Adjustable-rate:
Real-estate—one-to-four family	$	664		1,724	837
Total adjustable-rate		664		1,724	837
Fixed-rate:
Real estate—one-to-four family		235,614		58,928	66,065
—construction or development		2,559		1,240	485
Total fixed-rate		238,173		60,168	66,550
Total loans originated		238,837		61,892	67,387
Purchases:
Real estate-one-to-four family		544,053		51,826	93,177
Total loans purchased		544,053		51,826	93,177
Sales and repayments:
Real estate—one-to-four family		724,219		104,815	179,770
Total sales		724,219		104,815	179,770
Transfers to (from) loans held for investment		(2,214	)	5,081	(10,187	)
Total reductions		722,005		109,896	169,583
Net increase (decrease)	$	60,885		3,822	(9,019	)

MORTGAGE-BACKED AND RELATED SECURITIES

	Year Ended December 31,
	2001			2000		1999
	(Dollars in thousands)
Loans securitized and transferred to securities	$	0		11,129		6,925
Purchases:
Mortgage-backed securities:
CMOs and REMICs		0		2,112		20,385
		0		2,112		20,385
Sales:
Mortgage-backed securities:
Adjustable-rate(1)		0		3,776		6,913
Fixed-rate(1)		0		1,674		1,143
CMOs and REMICs		2,069		24,574		21,281
Total sales		2,069		30,024		29,337
Principal repayments		(7,081	)	(8,615	)	(40,342	)
Net decrease	$	(9,150	)	(25,398	)	(42,369	)

(1)

Consists of pass-through securities.

Delinquencies and Non-Performing Assets

        Delinquency Procedures.    When a borrower fails to make a required payment on a loan, HMN attempts to cure the delinquency by contacting the borrower. A late notice is sent on all loans over 16 days delinquent. Additional written and verbal contacts may be made with the borrower between 30 and 60 days after the due date. If the loan is contractually delinquent 90 days, HMN usually sends a 30-day demand letter to the borrower and after the loan is contractually delinquent 120 days, institutes appropriate action to foreclose on the property. If foreclosed, the property is sold at a sheriff's sale and may be purchased by HMN. Delinquent consumer loans are generally handled in a similar manner. HMN's procedures for repossession and sale of consumer collateral are subject to various requirements under state consumer protection laws.

        Real estate acquired by HMN as a result of foreclosure or by deed in lieu of foreclosure is classified as real estate in judgment for six months to one year and thereafter as real estate owned until it is sold. When property is acquired or expected to be acquired by foreclosure or deed in lieu of foreclosure, it is recorded at the lower of cost or estimated fair value, less the estimated cost of disposition. After acquisition, all costs incurred in maintaining the property are expensed. Costs relating to the development and improvement of the property, however, are capitalized to the extent of fair value less disposition cost.

        The following table sets forth HMN's loan delinquencies by type, by amount and by percentage of type at December 31, 2001.

		Loans Delinquent For:
		60-89 Days					90 Days and Over					Total Delinquent Loans
		Number	Amount		Percent of Loan Category		Number	Amount		Percent of Loan Category		Number	Amount		Percent of Loan Category
		(Dollars in thousands)
One-to-four family real estate		8	$	420	0.19	%	8	$	420	0.19	%	16	$	840	0.39	%
Multi-family		0		0	0.00		1		61	0.42		1		61	0.42
Commercial		0		0	0.00		2		126	0.18		2		126	0.18
Consumer		36		589	0.74		32		312	0.39		68		901	1.14
Commercial business		5		471	0.86		6		596	1.08		11		1,067	1.94
	Total	49	$	1,480	0.31	%	49	$	1,515	0.31	%	98	$	2,995	0.62	%

        Classification of Assets.    Federal regulations require that each savings institution classify its own assets on a regular basis. In addition, in connection with examinations of savings institutions, the Office of Thrift Supervision (OTS) and FDIC examiners have authority to identify problem assets and, if appropriate, require them to be classified. There are three classifications for problem assets: Substandard, Doubtful and Loss. Substandard assets have one or more defined weaknesses and are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected. Doubtful assets have the weaknesses of Substandard assets, with the additional characteristics that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions and values questionable, and there is a high possibility of loss. An asset classified as Loss is considered uncollectible and of such little value that continuance as an asset on the balance sheet of the institution is not warranted. Assets classified as Substandard or Doubtful require the institution to establish prudent general allowances for loan losses. If an asset or portion thereof is classified as Loss, the institution must either establish specific allowances for loan losses in the amount of 100% of the portion of the asset classified as Loss, or charge off such amount. If an institution does not agree with an examiner's classification of an asset, it may appeal this determination to the District Director of the OTS. On the basis of management's review of its assets, at December 31, 2001, the Bank had classified a total of $3,486,000 of its loans and other assets as follows:

		Real Estate
		One-to-Four Family		Construction or Development	Commercial and Multi-Family	Consumer	Commercial Business	Total
		(Dollars in thousands)
Substandard		$	795	0	187	225	1,551	2,758
Doubtful			0	0	0	43	0	43
Loss			0	0	0	128	557	685
	Total	$	795	187	0	396	2,108	3,486

        The Bank's classified assets consist of the non-performing loans and loans and other assets of concern discussed herein. As of the date hereof, these asset classifications are materially consistent with those of the OTS and FDIC.

        Non-Performing Assets.    Loans are reviewed quarterly and any loan whose collectibility is doubtful is placed on non-accrual status. Loans are placed on nonaccrual status when either principal or interest is 90 days or more past due, unless, in the judgment of management, the loan is well collateralized and in the process of collection. Interest accrued and unpaid at the time a loan is placed on non-accrual status is charged against interest income. Subsequent payments are either applied to the outstanding principal balance or recorded as interest income, depending on the assessment of the ultimate collectibility of the loan. Restructured loans include the Bank's troubled debt restructurings (which involved forgiving a portion of interest or principal on any loans or making loans at a rate materially less than the market rate). Foreclosed and repossessed assets include assets acquired in settlement of loans. The following table sets forth the amounts and categories of non-performing assets in the Bank's portfolio.

			December 31,
			2001			2000			1999			1998			1997
			(Dollars in thousands)
Non-accruing loans:
Real estate:
	One-to-four family		$	771			775			165			317			177
	Commercial real estate			187			0			0			73			79
	Consumer			311			142			177			86			7
	Commercial business			890			95			0			0			0
		Total		2,159			1,012			342			476			263
Accruing loans delinquent 90 days or more:
	One-to-four family			24			405			476			312			365
	Consumer			0			0			0			0			37
		Total		24			405			476			312			402
Other assets (impaired securities)				1,390			0			0			0			0
Foreclosed and repossessed assets:
Real estate:
	One-to-four family			0			195			0			18			142
	Consumer			155			0			0			0			0
	Commercial business			33			0			0			0			0
		Total		188			195			0			18			142
Total non-performing assets			$	3,761			1,612			818			806			807
Total as a percentage of total assets				0.52	%		0.23	%		0.12	%		0.12	%		0.12	%
Total non-performing loans			$	2,183		$	1,417		$	818		$	788		$	665
Total as a percentage of total loans receivable, net				0.46	%		0.27	%		0.17	%		0.18	%		0.15	%

        For the year ended December 31, 2001, gross interest income which would have been recorded had the non-accruing loans been current in accordance with their original terms amounted to $207,330. The amounts that were included in interest income on such loans during 2001 were $125,040.

        Total non-performing assets were $3.8 million at December 31, 2001, an increase of $2.2 million, compared to $1.6 million at December 31, 2000, $818,000 at December 31, 1999, $806,000 at December 31, 1998, and $807,000 at December 31, 1997. Non-performing assets had the following activity during 2001: charge-offs of $124,000, transfers in of $3,263,000 and transfers out due to performance of $990,000. Non-performing assets had the following activity during 2000: charge-offs of $8,000, transfers in of $1,128,000 and transfers out due to performance of $326,000. Non-performing assets had the following activity during 1999: sales of $18,000, transfers in of $423,000 and transfers out due to performance of $393,000. Non-performing assets had the following activity during 1998: sales of $142,000, transfers in of $389,000 and transfers out due to performance of $248,000. The increase in non-performing assets from 2000 to 2001 is primarily the result of classifying $1.4 million of impaired securities as non-performing assets, increases in specific reserves on commercial business loans of $382,000, and an increase in non-accrual loans of $1.1 million due to a slowing economy.

        Other Loans of Concern.    In addition to the non-performing assets set forth in the table above, as of December 31, 2001 there were $85,075 of loans with known information about the possible credit problems of the borrowers or the cash flows of the secured properties that have caused management to have concerns as to the ability of the borrowers to comply with present loan repayment terms which may result in the future inclusion of such items in the non-performing asset categories.

        Management has considered the Bank's non-performing and "of concern" assets in establishing its allowance for loan losses.

        Allowance for losses on loans.    The following table sets forth an analysis of the Bank's allowance for loan losses for the year ended:

			2001			2000		1999		1998		1997
			(Dollars in thousands)
Balance at beginning of year			$	3,144		3,273		3,041		2,748		2,341
Acquired allowance for loan losses				0		0		0		0		122
Provision for losses				1,150		180		240		310		300
Charge-offs
Real estate:
	One-to-four family			0		0		(1	)	(2	)	(4	)
Consumer				(170	)	(59	)	(9	)	(17	)	(7	)
Commercial business				(347	)	(253	)	0		0		(12	)
		Total charge-offs		(517	)	(312	)	(10	)	(19	)	(23	)
Recoveries
	Consumer			6		3		2		0		8
	Commercial business			0		0		0		2		0
		Total recoveries		6		3		2		2		0
Net charge-offs				(511	)	(309	)	(8	)	(17	)	(15	)
Balance at end of year			$	3,783		3,144		3,273		3,041		2,748
Ratio of net charge-offs during the year to average loans outstanding during the year				0.10	%	0.06	%	0.00	%	0.00	%	0.01	%
Ratio of allowance for losses on loans to total non-performing loans, at end of year				173.29	%	221.87	%	400.29	%	385.79	%	413.17	%

        The distribution of the Bank's allowance for losses on loans at the dates indicated is summarized as follows:

		December 31,
		2001				2000				1999				1998				1997
		Amount		Percent of Loans in Each Category to Total Loans		Amount		Percent of Loans in Each Category to Total Loans		Amount		Percent of Loans in Each Category to Total Loans		Amount		Percent of Loans in Each Category to Total Loans		Amount		Percent of Loans in Each Category to Total Loans
		(Dollars in thousands)
Real Estate:
	One-to-four family	$	215	44.73	%	$	302	59.43	%	$	527	70.95	%	$	544	79.31	%	$	560	87.58	%
	Multi-family		203	2.98			111	2.30			133	1.75			142	1.02			80	0.60
	Commercial		903	14.69			802	11.71			533	9.04			797	6.29			198	2.34
	Construction or development		560	9.75			408	3.84			231	3.30			455	3.29			172	1.27
Consumer			565	16.44			414	13.47			674	9.93			546	7.55			527	7.05
Commercial business			1,337	11.41			665	9.25			291	5.03			328	2.54			46	1.16
Unallocated			0	0.00			442	0.00			884	0.00			229	0.00			1,165	0.00
	Total	$	3,783	100.00	%	$	3,144	100.00	%	$	3,273	100.00	%	$	3,041	100.00	%	$	2,748	100.00	%

        The allowance for losses on loans is established through a provision for losses on loans charged to earnings based on management's evaluation of the risk inherent in its entire loan portfolio and changes in the nature and volume of its loan activity. Such evaluation, which includes a review of all loans of which full collectibility may not be reasonably assured, considers specific occurrences, general and local economic conditions, loan portfolio composition, historical and local experience and other factors that warrant recognition in providing for an adequate allowance for loan losses. For a more detailed explanation of HMN's allowance for loan losses, please refer to pages 20-21 of HMN's Annual Report.

Investment Activities

        HMN and the Bank utilize the available for sale securities portfolio in virtually all aspects of asset/liability management strategy. In making investment decisions, the Investment-Asset/Liability Committee considers, among other things, the yield and interest rate objectives, the credit risk position and the projected cash flow requirements.

        Securities.    Federally chartered savings institutions have the authority to invest in various types of liquid assets, including United States Treasury obligations, securities of various federal agencies, certain certificates of deposit of insured banks and savings institutions, certain bankers' acceptances, repurchase agreements and federal funds. Subject to various restrictions, federally chartered savings institutions may also invest their assets in commercial paper, investment grade corporate debt securities and mutual funds whose assets conform to the investments that a federally chartered savings institution is otherwise authorized to make directly.

        The investment strategy of HMN and the Bank has been directed toward a mix of high-quality assets (primarily government and agency obligations) with short and intermediate terms to maturity. At December 31, 2001, HMN did not own any investment securities of a single issuer which exceeded 10% of HMN's stockholder's equity other than U.S. government or federal agency obligations.

        The Bank invests a portion of its liquid assets in interest-earning overnight deposits of the Federal Home Loan Bank of Des Moines ("FHLB") and various money market mutual funds. Other investments include high grade medium-term (up to three years) corporate debt securities, medium-term federal agency notes, and a variety of other types of mutual funds which invest in adjustable-rate, mortgage-backed securities, asset-backed securities, repurchase agreements and U.S. Treasury and agency obligations. HMN invests in the same type of investment securities as the Bank and also invests in taxable and tax exempt municipal obligations and corporate equities such as preferred and common stock. See Note 3 of the Notes to Consolidated Financial Statements in the Annual Report for additional information regarding HMN's securities portfolio.

        The following table set forth the composition of HMN's securities portfolio, excluding mortgage-backed and related securities, at the dates indicated.

			December 31,
			2001							2000							1999
			Amortized Cost		Adjusted To		Market Value	% of Total		Amortized Cost		Adjusted To		Market Value	% of Total		Amortized Cost		Adjusted To		Market Value	% of Total
			(Dollars in thousands)
Securities available for sale:
	U.S. government and agency obligations		$	34,576	210		34,786	41.04	%	$	35,216	(1,206	)	34,010	37.59	%	$	39,298	(1,691	)	37,607	40.34	%
	U.S. Treasury obligations			0	0		0	0.00			1,482	(2	)	1,480	1.64			3,984	(42	)	3,942	4.23
	Municipal obligations			728	(9	)	719	0.85			1,104	(6	)	1,098	1.21			1,532	(4	)	1,528	1.64
	Corporate debt			9,546	96		9,642	11.37			16,235	(501	)	15,734	17.39			19,695	(276	)	19,419	20.83
	Corporate equity(1)			4,821	(91	)	4,730	5.58			8,587	(768	)	7,819	8.64			8,587	(1,440	)	7,147	7.67
	Stock of federal agencies(1)			3,768	21		3,789	4.47			3,768	(82	)	3,686	4.07			3,768	(711	)	3,057	3.28
		Subtotal		53,439			53,666	63.31			66,392			63,827	70.54			76,864			72,700	77.99
FHLB stock				12,245			12,245	14.44			12,245			12,245	13.53			11,470			11,470	12.30
		Total investment securities and FHLB stock		65,684			65,911	77.75			78,637			76,072	84.07			88,334			84,170	90.29
Average remaining life of investment securities excluding FHLB stock				2.8 years							4.3 years							4.6 years
Other Interest-earning Assets:
	Cash equivalents			18,864			18,864	22.25			14,417			14,417	15.93			9,051				9.71
		Total	$	84,548			84,775	100.00	%	$	93,054			90,489	100.00	%	$	97,385				100.00	%
Average remaining life or term to repricing of investment securities and other interest-earning assets, excluding FHLB stock				2.1 years							3.7 years							4.2 years

(1)

Average life assigned to corporate equity holdings and stock of federal agencies is five years.

        The composition and maturities of the investment securities portfolio, excluding Federal Home Loan Bank stock, mortgage-backed securities and other related securities, are indicated in the following table.

		December 31, 2001
		1 Year or Less			After 1 through 5 Years		After 5 through 10 Years		Over 10 Years		No Stated Maturity		Total Securities
		Amortized Cost			Amortized Cost		Amortized Cost		Amortized Cost		Amortized Cost		Amortized Cost		Adjusted To		Market Value
		(Dollars in thousands)
Securities available for sale:
	U.S. government securities	$	0		34,462		0		114		0		34,576		210		34,786
	Municipal obligations		0		0		728		0		0		728		(9	)	719
	Corporate debt		7,909		1,637		0		0		0		9,546		96		9,642
	Corporate equity		0		0		0		0		4,821		4,821		(91	)	4,730
	Stock of federal agencies		0		0		0		0		3,768		3,768		21		3,789
Total stock		$	7,909		36,099		728		114		8,589		53,439				53,666
Weighted average yield(1)			6.67	%	4.56	%	8.34	%	8.50	%	5.24	%	5.05	%

(1)

Yields are computed on a tax equivalent basis.

        Mortgage-Backed and Related Securities.    In order to supplement loan production (particularly those of interest rate sensitive loans) and achieve its asset/liability management goals, HMN invests in mortgage-backed and related securities. All of the mortgage-backed and related securities owned by HMN are issued, insured or guaranteed either directly or indirectly by a federal agency or are rated "AA" or higher. HMN had $66.2 million of mortgage-backed and related securities all classified as available for sale at December 31, 2001, a decrease of $9.2 million from $75.4 million at December 31, 2000, compared to $100.8 at December 31, 1999 and $143.1 at December 31, 1998.

        The contractual maturities of the mortgage-backed and related securities portfolio without any prepayment assumptions at December 31, 2001 is as follows:

			5 Years or Less			5 to 10 Years		10 to 20 Years		Over 20 Years		December 31, 2001 Balance Outstanding
			(Dollars in thousands)
Securities available for sale:
	Federal Home Loan Mortgage Corporation		$	0		325		1,803		1,571		3,699
	Federal National Mortgage Association			0		0		261		0		261
	Government National Mortgage Association			5		0		60		0		65
	Collateralized Mortgage Obligations			0		244		3,341		58,620		62,205
		Total	$	5		569		5,465		60,191		66,230
Weighted average yield				9.00	%	6.58	%	6.75	%	3.77	%	4.04	%

        At December 31, 2001, HMN did not have any non-agency mortgage-backed or related securities in excess of 10% of its stockholders' equity.

        CMOs are securities derived by reallocating the cash flows from mortgage-backed securities or pools of mortgage loans in order to create multiple classes, or tranches, of securities with coupon rates and average lives that differ from the underlying collateral as a whole. The terms to maturity of any particular tranche is dependent upon the prepayment speed of the underlying collateral as well as the structure of the particular CMO. Although a significant proportion of HMN's CMOs are in tranches which have been structured (through the use of cash flow priority and "support" tranches) to give somewhat more predictable cash flows, the cash flow and hence the value of CMOs is subject to change.

        At December 31, 2001, HMN had $54.6 million invested in CMOs which have floating interest rates that change either monthly or quarterly, compared to $58.2 million at December 31, 2000 and $68.0 million at December 31, 1999.

        Refer to Management's Discussion and Analysis—Market Risk in the Annual Report for information on changes in market value of the mortgage-backed or related securities under different rate shock environments.

        Mortgage-backed and related securities can serve as collateral for borrowings and, through sales and repayments, as a source of liquidity. In addition, mortgage-backed and related securities available for sale can be sold to respond to changes in economic conditions.

Sources of Funds

        General.    The Bank's primary sources of funds are deposits, payments (including prepayments) of loan principal, interest earned on loans and securities, repayments of securities, borrowings and other funds provided from operations.

        Deposits.    The Bank offers a variety of deposit accounts having a wide range of interest rates and terms. The Bank's deposits consist of passbook, negotiable order of withdrawal (NOW), money market, non-interest bearing checking and certificate accounts (including individual retirement accounts) to retail consumers and commercial business accounts. The Bank relies primarily on competitive pricing policies and customer service to attract and retain these deposits.

        The variety of deposit accounts offered by the Bank has allowed it to be competitive in obtaining funds and to respond with flexibility to changes in consumer demand. As customers have become more interest rate conscious, the Bank has become more susceptible to short-term fluctuations in deposit flows. The Bank manages the pricing of its deposits in keeping with its asset/liability management, profitability and growth objectives. Based on its experience, the Bank believes that its passbook and NOW accounts are relatively stable sources of deposits. However, the ability of the Bank to attract and maintain certificate deposits, and the rates paid on these deposits, has been and will continue to be significantly affected by market conditions.

        The following table sets forth the savings flows at the Bank during the periods indicated.

		Year Ended December 31,
		2001			2000		1999
		(Dollars in thousands)
Opening balance		$	421,691		400,382		433,869
Deposits			1,075,211		785,319		667,957
Withdrawals			(1,091,668	)	(780,460	)	(716,263	)
Interest credited			16,609		16,450		14,819
	Ending balance		421,843		421,691		400,382
Net increase (decrease)		$	152		21,309		(33,487	)
Percent increase (decrease)			0.04	%	5.32	%	(7.72	)%

        The following table sets forth the dollar amount of savings deposits in the various types of deposit programs offered by the Bank as of December 31:

			2001				2000				1999
			Amount		Percent of Total		Amount		Percent of Total		Amount		Percent of Total
			(Dollars in thousands)
Transactions and Savings Deposits(1):
Non-interest checking			$	18,148	4.30	%	$	12,923	3.07	%	$	7,706	1.92	%
NOW Accounts—0.64%(2)				40,225	9.54			33,068	7.84			25,896	6.47
Passbook Accounts—0.75%(3)				32,738	7.76			32,742	7.76			34,470	8.61
Money Market Accounts—1.89%(4)				45,002	10.67			34,427	8.16			31,821	8.00
	Total Non-Certificates		$	136,113	32.27	%	$	113,160	26.83	%	$	99,893	25.00	%
Certificates:
1.00 - 1.99%			$	2,785	0.66	%	$	0	0.00	%	$	0	0.00	%
2.00 - 2.99%				34,924	8.28			244	0.06			0	0.00
3.00 - 3.99%				64,330	15.25			15,884	3.77			16,609	4.10
4.00 - 4.99%				64,097	15.19			38,420	9.11			88,176	22.02
5.00 - 5.99%				35,909	8.51			52,714	12.50			151,827	37.92
6.00 - 6.99%				70,282	16.66			159,765	37.89			43,875	10.96
7.00 - 7.99%				13,403	3.18			41,504	9.84			2	0.00
	Total Certificates			285,730	67.73			308,531	73.17			300,489	75.00
		Total Deposits	$	421,843	100.00	%	$	421,691	100.00	%	$	400,382	100.00	%

(1)

Reflects rates paid on transaction and savings deposits at December 31, 2001.

(2)

The rate on NOW accounts for 2000 and 1999 was 1.0%.

(3)

The rate on Passbook Accounts for 2000 and 1999 was 2.0%.

(4)

The rate on Money Market Accounts for 2000 was 3.96% and 1999 was 3.41%.

        The following table shows rate and maturity information for the Bank's certificates of deposit as of December 31, 2001.

Certificate accounts maturing in quarter ending:		1.00- 1.99%			2.00- 2.99%		3.00- 3.99%		4.00- 4.99%		5.00- 5.99%		6.00- 6.99%		7.00- 7.99%		Total		Percent of Total
		(Dollars in thousands)
March 31, 2002			1,229		5,329		15,695		10,481		3,034		43,350		12,263		91,381		17.44
June 30, 2002			1,097		4,242		18,550		9,639		7,828		8,448		265		50,069		17.35
September 30, 2002			105		13,353		11,569		7,476		1,052		1,061		760		35,376		10.39
December 31, 2002			106		6,086		506		1,997		332		1,263		4		10,294		20.28
March 31, 2003			5		503		359		969		1,504		892		0		4,232		18.96
June 30, 2003			53		3,024		1,206		871		1,188		42		0		6,384		1.84
September 30, 2003			57		4		1,195		1,016		1,763		104		0		4,139		1.51
December 31, 2003			45		1,809		110		1,092		3,100		178		0		6,334		1.27
March 31, 2004			18		1		201		6,379		3,990		172		0		10,761		0.84
June 30, 2004			16		142		301		9,307		9,676		40		0		19,482		0.61
September 30, 2004			18		186		11,529		10,483		934		0		0		23,150		1.07
December 31, 2004			6		239		889		352		224		5		0		1,715		1.50
Thereafter			30		6		2,220		4,035		1,284		14,727		111		22,413		6.94
	Total	$	2,785		34,924		64,330		64,097		35,909		70,282		13,403		285,730		100.00	%
	Percent of total		0.97	%	12.22	%	22.51	%	22,43	%	12.57	%	24.61	%	4.69	%	100.00	%

        The following table indicates the amount of the Bank's certificates of deposit and other deposits by time remaining until maturity as of December 31, 2001.

		Maturity
		3 Months or Less		Over 3 to 6 Months	Over 6 to 12 Months	Over 12 months	Total
		(Dollars in thousands)
Certificates of deposit less than $100,000		$	76,579	42,846	40,811	74,376	234,612
Certificates of deposit of $100,000 or more			11,202	5,723	4,234	24,234	45,393
Public funds of $100,000 or more(1)			3,600	1,500	625	0	5,725
	Total certificates of deposit	$	91,381	50,069	45,670	98,610	285,730
Passbook of $100,000 or more		$	1,200	0	0	0	1,200
Accounts of $100,000 or more		$	16,002	7,223	4,859	24,234	52,318

(1)

Deposits from governmental and other public entities.

        For additional information regarding the composition of the Bank's deposits, see Note 11 of the Notes to Consolidated Financial Statements in the Annual Report. For additional information on certificate maturities and the impact on HMN's liquidity see Liquidity starting on page 23 of the Annual Report.

        Borrowings.    The Bank's other available sources of funds include advances from the FHLB and other borrowings. As a member of the FHLB, the Bank is required to own capital stock in the FHLB and is authorized to apply for advances from the FHLB. Each FHLB credit program has its own interest rate, which may be fixed or variable, and range of maturities. The FHLB may prescribe the acceptable uses for these advances, as well as limitations on the size of the advances and repayment provisions. Consistent with its asset/liability management strategy, the Bank has utilized FHLB advances from time to time to extend the term to maturity of its liabilities. Also, the Bank has used FHLB borrowings to fund loan demand and other investment opportunities and to offset deposit outflows. At December 31, 2001, the Bank had $217.8 million of FHLB advances outstanding. On such date, the Bank had a collateral pledge arrangement with the FHLB of Des Moines pursuant to which the Bank may borrow up to an additional $36.4 million for liquidity purposes. See Note 12 of the Notes to Consolidated Financial Statements in the Annual Report.

        At December 31, 2001, HMN had an undrawn $2.5 million revolving line of credit with Wells Fargo Bank Minnesota, N.A. The credit line matures September 30, 2002 and floats at the Federal Funds rate plus 250 basis points. See Note 13 of the Notes to Consolidated Financial Statements in the Annual Report.

        The following table sets forth the maximum month-end balance and average balance of FHLB advances and the revolving line of credit ("Other Borrowings") for the periods indicated.

	Year Ended December 31,
	2001		2000	1999
	(Dollars in thousands)
Maximum Balance:
FHLB advances and Other Borrowings	$	240,900	244,900	230,900
FHLB short-term borrowings and Other Borrowings		38,000	67,000	60,500
Average Balance:
FHLB advances and Other Borrowings		221,890	232,862	197,861
FHLB short-term borrowings and Other Borrowings		20,470	50,708	28,614

        The following table sets forth certain information as to the Bank's FHLB advances at the dates indicated.

	December 31,
	2001			2000		1999
	(Dollars in thousands)
FHLB short-term borrowings and Other Borrowings	$	9,500		38,000		60,500
Weighted average interest rate of FHLB short-term borrowings and Other Borrowings		4.42	%	6.79	%	5.67	%

Service Corporations of the Bank

        As a federally chartered savings bank, the Bank is permitted by OTS regulations to invest up to 2% of its assets in the stock of, or loans to, service corporation subsidiaries, and may invest an additional 1% of its assets in service corporations where such additional funds are used for inner-city or community development purposes. In addition to investments in service corporations, federal institutions are permitted to invest an unlimited amount in operating subsidiaries engaged solely in activities in which a federal savings bank may engage directly.

        Osterud Insurance Agency, Inc. (OAI), a Minnesota corporation, was organized in 1983. OAI operated as an insurance agency until 1986 when its assets were sold. OAI remained inactive until 1993 when it began offering credit life insurance, annuity products and mutual fund products to the Bank's customers and others. OAI recorded a net loss of $14,800 for the year ended December 31, 2001.

        Home Federal Mortgage Services, LLC (HFMS), a Minnesota Limited Liability Corporation, was formed in 2001. HFMS is a mortgage banking and mortgage brokerage business located in Brooklyn Park, Minnesota. Prior to 2001 the business was operated as a wholly owned subsidiary of HMN and was known as HMN Mortgage Services, Inc. (MSI). In January 2001, HMN sold 100% of the MSI stock to the Bank. The Bank formed HFMS and merged MSI into HFMS. Effective February 1, 2001 the business sold a 49% membership interest in HFMS to two individuals. HFMS recorded a net loss of $824,000 for the year ended December 31, 2001.

Competition

        The Bank faces strong competition both in originating real estate loans and in attracting deposits. Competition in originating loans comes primarily from mortgage bankers, commercial banks, credit unions and other savings institutions, which also make loans secured by real estate located in the Bank's market area and through internet banking operations which are throughout the continental United States. The Bank competes for loans principally on the basis of the interest rates and loan fees it charges, the types of loans it originates and the quality of services it provides to borrowers.

        Competition for deposits is principally from money market and mutual funds, securities firms, commercial banks and other savings institutions located in the same communities and through internet banking operations which are throughout the continental United States. The ability of the Bank to attract and retain deposits depends on its ability to provide an investment opportunity that satisfies the requirements of investors as to rate of return, liquidity, risk, convenient locations and other factors. The Bank competes for these deposits by offering a variety of deposit accounts at competitive rates, convenient business hours and a customer oriented staff.

        HFMS faces strong competition both in originating one-to-four family residential real estate loans and purchasing one-to-four family loans from third party originators for resale in the secondary market. HFMS currently competes primarily in Minnesota and the states surrounding Minnesota with Wells Fargo Home Mortgage, Principal Residential Mortgage, Inc. and many other purchasers of loan located in the Minneapolis-St. Paul metropolitan area and the numerous communities surrounding the metropolitan area. HFMS competes for the one-to-four family loan originations based upon interest rates and fees it charges to prospective borrowers. HFMS competes for the purchase of loans primarily based upon the price it pays for loans including the servicing release premium it pays plus the fees it charges for services provided to it customers.

Other Corporations Owned by HMN

        During 2001 HMN had two other wholly owned subsidiaries, HMN Mortgage Services, Inc. (MSI) and Security Finance Corporation (SFC). On January 23, 2001 all of the stock of MSI was sold to Home Federal Savings Bank and on January 31, 2001 it was merged into Home Federal Mortgage Services LLC. HFMS operates a mortgage banking and mortgage brokerage facility located in Brooklyn Park, Minnesota. Brooklyn Park is located in the Minneapolis/St. Paul Metropolitan area. HFMS's primary function is to originate and/or purchase single family residential loans for resale on the secondary market to FNMA, FHLMC or other third parties. It also, from time to time, purchases mortgage servicing rights from other lenders. Prior to 2001 SFC invested in commercial loans and commercial real estate loans located throughout the United States which were originated by third parties. During 2000 SFC sold the majority of its investments and loans to the Bank and has discontinued investing in commercial loans.

Employees

        At December 31, 2001, HMN had a total of 188 full-time equivalent employees. None of the employees of HMN or its subsidiaries are represented by any collective bargaining unit. Management considers its employee relations to be good.

REGULATION

Regulation And Supervision

        The banking industry is highly regulated. HMN, as a savings and loan holding company, is subject to regulation by the Office of Thrift Supervision (OTS). The Bank, a federal savings bank, is subject to extensive regulation and examination by the OTS, which is the Bank's primary federal regulator. The Federal Deposit Insurance Corporation (FDIC) also has some authority to regulate the Bank. Subsidiaries of HMN and the Bank are also subject to state regulation and/or licensing in connection with certain insurance or mortgage banking activities. HMN and the Bank are subject to numerous laws and regulations. These laws and regulations impose restrictions on activities, set minimum capital requirements, impose lending and deposit restrictions and establish other restrictions. References in this section to applicable statutes and regulations are brief and incomplete summaries only. You should consult the statutes and regulations for a full understanding of the details of their operation.

Holding Company Regulation

        If a holding company owns more than one savings association, it is a multiple savings and loan holding company (SLHC); if it owns only one savings association, it is a unitary SLHC. HMN is a unitary savings and loan holding company. The Home Owners Loan Act (HOLA) generally limits multiple SLHCs and their non-association subsidiaries to traditional savings association activities and services and to activities authorized for bank holding companies. Unitary SLHCs, in the past, have not been subject to restrictions on the activities that could be conducted by holding companies. See "Recent Developments" for more on unitary SLHCs.

Acquisitions by Savings and Loan Holding Companies. Acquisition of a savings institution or a savings and loan holding company is generally subject to OTS approval and the public must have an opportunity to comment on the proposed acquisition. Without prior approval from the OTS, HMN may not acquire more than 5% of the voting stock of any savings institution that is not one of its subsidiaries.

Annual Reporting; Examinations. Under HOLA and OTS regulations HMN, as a savings and loan holding company, must file periodic reports with the OTS. In addition, HMN must comply with OTS recordkeeping requirements. HMN is subject to holding company examination by the OTS. The OTS may take enforcement action if the activities of a SLHC constitute a serious risk to the financial safety, soundness or stability of a subsidiary savings association.

Affiliate Transactions. The Bank, as a holding company subsidiary that is a depository institution, is subject to both qualitative and quantitative limitations on transactions with HMN and HMN's other subsidiaries. See "Federal Restrictions on Transactions with Affiliates" below.

Capital Adequacy. HMN is not currently subject to any regulatory capital requirements, the Bank is subject to various capital requirements. See "Capital Requirements" below. The OTS has proposed a regulation which, if adopted, would establish circumstances under which the OTS could review capital adequacy of SLHC.

Bank Regulation

        As a federally-chartered savings association, the Bank is subject to regulation and supervision by the OTS. Federal statutes empower federal savings institutions, such as the Bank, to conduct, subject to various conditions and limitations, business activities that include: accepting deposits and paying interest on them; making loans on residential and other real estate; making a limited amount of consumer loans; making a limited amount of commercial loans; investing in corporate obligations, government debt securities, and other securities; and offering various trust and banking services to their customers.

        OTS regulations further delineate such institutions' lending and investment powers. Savings associations are expected to conduct lending activities in a prudent, safe and sound manner. OTS regulations set aggregate limits on certain types of loans including commercial loans and consumer loans. OTS regulations also establish limits on loans to a single borrower. As of December 31, 2001, the Bank's loan limit to one borrower was approximately $8.6 million. Federal savings institutions generally may not invest in noninvestment-grade debt securities. Federal savings institutions may establish subsidiaries to conduct any activity the institution is authorized to conduct and may establish service corporation subsidiaries for limited preapproved activities.

Qualified Thrift Lender Test. Savings associations, including the Bank, must be qualified thrift lenders ("QTL"). A savings association generally satisfies the QTL test if at least 65% of a specified asset base consists of things such as loans to small businesses, credit card loans; and certain assets related to domestic residential real estate. Savings associations may qualify as QTLs in other ways. Savings associations that do not qualify as QTLs are subject to significant restrictions on their operations. As of December 31, 2001, the Bank met the QTL test.

OTS Assessments. HOLA authorizes the OTS to charge assessments to recover the costs of examining savings associations and their affiliates. The assessment is done semi-annually. The OTS bases the assessment on three factors: 1) asset size; 2) condition; and 3) complexity of the institution. The Bank's OTS assessment for the year ended December 31, 2001, was approximately $141,000.

Federal Restrictions on Transactions with Affiliates. All banks and savings institutions are subject to affiliate and insider transaction rules applicable to member banks of the Federal Reserve System set forth in Sections 23A, 23B, 22(g) and 22(h) of the Federal Reserve Act, as well as such additional limitations as the institution's primary federal regulator may adopt. These provisions prohibit or limit a savings institution from extending credit to, or entering into certain transactions with affiliates, principal stockholders, directors and executive officers of the savings institution and its affiliates. For these purposes, the term "affiliate" generally includes a holding company such as HMN and any company under common control with the savings institution. Section 23A limits transactions with any one affiliate to 10% of the bank's capital and surplus and with all affiliates in the aggregate to 20%. In addition, the federal law governing unitary savings and loan holding companies prohibits the Bank from making any loan to any affiliate whose activity is not permitted for a subsidiary of a bank holding company. This law also prohibits the Bank from making any equity investment in any affiliate that is not its subsidiary.

Restrictions on Subsidiary Savings Institution Dividends. Federal law limits the ability of a depository institution, such as, the Bank to pay dividends or make other capital distributions. The Bank, as a subsidiary of a savings and loan holding company, must file a notice with the OTS at least 30 days before the proposed declaration of a dividend or approval of the proposed capital distribution by its board of directors. In addition, a savings association must obtain prior approval from the OTS if it fails to meet certain regulatory conditions. In March of 2000, the Bank received notification from the OTS that subject to certain restrictions (which could only be calculated at the time of distribution) a dividend from the Bank to HMN of $3.0 million could be paid during 2000 without violating the dividend limitations mentioned above. There were no dividends paid from the Bank to HMN during 2001.

FDIC Insurance

        The FDIC insures the deposits of the Bank. The FDIC administers two separate deposit insurance funds, the Bank Insurance Fund (BIF) and the Savings Association Insurance Fund (SAIF). The BIF is a deposit insurance fund for commercial banks and some savings banks. The SAIF is a deposit insurance fund for most savings banks. The Bank is a member of the SAIF.

        The FDIC has established a risk-based system for setting deposit insurance assessments. Under the risk-based assessment system, an institution's insurance assessments vary according to the level of capital the institution holds and the degree to which it is the subject of supervisory concern. In addition, regardless of the potential risk to the insurance fund, federal law requires the FDIC to establish assessment rates that will maintain each insurance fund's ratio of reserves to insured deposits at $1.25 per $100. Both funds currently exceed this reserve ratio. During 2001, the assessment rate for both SAIF and BIF deposits ranged from zero to 0.27% of covered deposits. The Bank qualified for the lowest rate on SAIF deposits in 2001.

        In addition to deposit insurance assessments, the FDIC is authorized to collect assessments against insured deposits to be paid to the Finance Corporation (FICO) to service FICO debt incurred in the 1980s. The FICO assessment rate is adjusted quarterly. In 2001 the Bank paid an assessment of approximately $78,000.

Capital Requirements

        Since 1989 the federal bank regulators, including the OTS, have had a risk-based capital framework in place. The regulators use a combination of risk-based guidelines and leverage ratios to evaluate capital adequacy.

        The following table sets forth the current regulatory requirement for capital ratios for savings associations as compared with our capital ratios at December 31, 2001:

	Core or Tier 1 Capital to Adjusted Total Assets		Tangible Capital to Adjusted Total Assets		Core or Tier 1 Capital to Risk- Weighted Assets		Total Capital to Risk-Weighted Assets
Regulatory Minimum	3.00	%(1)	1.50	%	4.00	%	8.00	%
The Bank's Actual	7.81		7.81		11.90		12.57

(1)

Most savings associations are required to maintain a leverage ratio of 4.00% or more.

Capital Categories and Prompt Corrective Action

        The Federal Deposit Insurance Corporation Improvement Act (FDICIA) created a statutory framework that increased the importance of meeting applicable capital requirements. FDICIA established five capital categories: (1) well-capitalized; (2) adequately capitalized; (3) undercapitalized; (4) significantly undercapitalized; and (5) critically undercapitalized. The activities in which a depository institution may engage and regulatory responsibilities of federal banking regulators vary depending upon whether an institution is well-capitalized, adequately capitalized or under capitalized. Under capitalized institutions are subject to various restrictions such as limitations on dividends and growth.

        An institution's category depends upon where its capital levels are in relation to relevant capital measures, which include a risk-based capital measure, a leverage ratio capital measure, and certain other factors. The federal banking agencies (including the OTS) adopted regulations that implement this statutory framework. Under these regulations, an institution is treated as well-capitalized if its ratio of total capital to risk-weighted assets is 10.00% or more, its ratio of core capital to risk-weighted assets is 6.00% or more, its ratio of core capital to adjusted total assets (leverage ratio) is 5.00% or more, and it is not subject to any federal supervisory order or directive to meet a specific capital level. In order to be adequately capitalized, an institution must have a total risk-based capital ratio of not less than 8.00%, a Tier 1 risk-based capital ratio of not less than 4.00%, and a leverage ratio of not less than 4.00%. Any institution that is neither well capitalized nor adequately capitalized will be considered undercapitalized. The Bank currently is considered well capitalized.

Other Regulations and Examination Authority

        The FDIC has adopted regulations to protect the deposit insurance funds and depositors, including regulations governing the deposit insurance of various forms of accounts. Federal regulation of depository institutions is intended for the protection of depositors (and the BIF and the SAIF), and not for the protection of stockholders or other creditors. In addition, a provision in the Omnibus Budget Reconciliation Act of 1993 requires that in any liquidation or other resolution of any FDIC-insured depository institution, claims for administrative expenses of the receiver and for deposits in U.S. branches (including claims of the FDIC as subrogee of the insured institution) shall have priority over the claims of general unsecured creditors.

        The OTS may sanction any OTS-regulated bank that does not operate in accordance with OTS regulations, policies and directives. The FDIC has additional authority to terminate insurance of accounts, after notice and hearing, upon a finding that the insured institution is or has engaged in any unsafe or unsound practice that has not been corrected, is operating in an unsafe or unsound condition, or has violated any applicable law, regulation, rule, or order of or condition imposed by the FDIC.

Federal Home Loan Bank System

        The Bank is a member of the Federal Home Loan Bank of Des Moines (FHLB), which is one of the 12 regional Federal Home Loan Banks (FHB), that administers the home financing credit function of savings associations. Each FHB serves as a reserve or central bank for its members within its assigned region. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHB System. It makes loans to members (i.e., advances) in accordance with policies and procedures established by the board of directors of the FHB. These policies and procedures are subject to the regulation and oversight of the Federal Housing Financing Board. All advances from the FHLB are required to be fully secured by sufficient collateral as determined by the FHB. Long-term advances are required to be used for residential home financing and small business and agricultural loans.

        As a member, the Bank is required to purchase and maintain stock in the FHLB of Des Moines. As of December 31, 2001, the Bank had $12.2 million in FHLB stock, which was in compliance with this requirement. In past years, the Bank has received dividends on its FHLB stock. Over the past five calendar years such dividends have averaged approximately 6.0%.

Federal Reserve Regulation

        Under Federal Reserve Board regulations, the Bank is required to maintain reserves against transaction accounts (primarily interest-bearing and non-interest-bearing checking accounts). Because reserves must generally be maintained in cash or in non-interest-bearing accounts, the effect of the reserve requirements is to increase an institution's cost of funds. These regulations generally require that the Bank maintain reserves against net transaction accounts. The reserve levels are subject to adjustment by the Federal Reserve Board. A savings bank, like other depository institutions maintaining reservable accounts, may, under certain conditions, borrow from the Federal Reserve Bank discount window.

        Numerous other regulations promulgated by the Federal Reserve Board affect the business operations of the Bank. These include regulations relating to equal credit opportunity, electronic fund transfers, collection of checks, truth in lending, truth in savings and availability of funds.

Community Reinvestment Act

        The Community Reinvestment Act (CRA) requires financial institutions regulated by the federal financial supervisory agencies to ascertain and help meet the credit needs of their delineated communities, including low-to moderate-income neighborhoods within those communities, while maintaining safe and sound banking practices. The regulatory agency assigns one of four possible ratings to an institution's CRA performance and is required to make public an institution's rating and written evaluation. The four possible ratings of meeting community credit needs are outstanding, satisfactory, needs improvement and substantial noncompliance.

        Under regulations that apply to all CRA performance evaluations after July 1, 1997, many factors play a role in assessing a financial institution's CRA performance. The institution's regulator must consider its financial capacity and size, legal impediments, local economic conditions and demographics, including the competitive environment in which it operates. The evaluation does not rely on absolute standards, and the institutions are not required to perform specific activities or to provide specific amounts or types of credit. The Bank maintains a CRA statement for public viewing, as well as an annual CRA highlights document. These documents describe the Bank's credit programs and services, community outreach activities, public comments and other efforts to meet community credit needs. The Bank's last CRA exam was November 11, 2001 and the Bank received a "satisfactory" rating.

Gramm-Leach-Biley Act

        In November of 1999 the Gramm-Leach-Biley Act ("GLB Act"), was signed into law. The GLB Act made significant changes to laws regulating the financial services industry. Changes included: (1) a new framework under in which bank holding companies can own securities firms, insurance companies and other financial companies; (2) prohibitions on new unitary SLHCs from engaging in non-financial activities or affiliating with non-financial entities; (3) new consumer protections associated with the transfer and use of non-public personal information by financial institutions; and (4) modifications to the Federal Home Loan Bank System. Unitary SLHCs, such as HMN, that were in existence or had an application filed with the OTS on or before May 4, 1999, are not subject to the new restrictions on unitary SLHCs. As a result, the GLB Act does not affect HMN's ability to control non-financial firms. The provisions permitting affiliations between bank holding companies and other financial companies does not increase HMN's authority to affiliate. As a unitary SLHC, HMN was generally permitted to have such affiliations prior to enactment of the GLB Act. We do not expect the consumer privacy provisions to impact business. The impact on HMN of other changes are uncertain.

Recent Developments

USA Patriot Act

        On October 26, 2001, the President signed the USA Patriot Act of 2001 (the "Patriot Act") into law. Patriot Act contains sweeping anti-money laundering and financial transparency provisions, including (i) due diligence requirements for financial institutions that administer, maintain, or manage private bank accounts or correspondent accounts for non-United States persons; (ii) standards for verifying customer identification at account opening; and (iii) Rules to promote cooperation among financial institutions, regulators, and law enforcement entities in identifying parties that may be involved in terrorism or money laundering.

        The Patriot Act grants the Secretary of the Treasury broad authority to establish regulations and to impose requirements and restrictions on financial institutions' operations. HMN has not determined the impact that Patriot Act will have on its operations, but the impact is not expected to be material.

ITEM 2. PROPERTIES

        The following table sets forth information concerning the main office and each branch office of HMN at December 31, 2001. The Bank uses all properties listed below except for the mortgage banking/brokerage office which is used by HFMS. At December 31, 2001, HMN's premises had an aggregate net book value of approximately $6.6 million.

Location	Year Acquired	Owned or Leased
Corporate Office:
1016 Civic Center Drive NW Rochester, Minnesota	2001	Leased
Full Service Branches:
715 North Broadway Spring Valley, Minnesota	1998	Owned
201 Oakland Avenue West Austin, Minnesota	1960	Owned
Crossroads Shopping Center Rochester, Minnesota	1962	Owned
4th & Center(1) Winona, Minnesota	1973	Owned
175 Center Street Winona, Minnesota	1998	Owned
208 South Walnut LaCrescent, Minnesota	1975	Owned
1016 Civic Center Drive NW Rochester, Minnesota	2001	Leased
1110 6th St. NW(1) Rochester, Minnesota	1982	Owned
143 West Clark Street Albert Lea, Minnesota	1993	Owned
303 W. Main St. Marshalltown, Iowa	1997	Owned
1301 County Road Toledo, Iowa	2001	Owned
29 S. Center St. Marshalltown, Iowa	1997	Owned
111 S. Broadway, Suite 200 Rochester, Minnesota	2000	Leased
3530 55th St. NW Rochester, Minnesota	2001	Leased
101 North Broadway(2) Spring Valley, Minnesota	1975	Owned
Mortgage Banking/Brokerage Office:
7101 Northland Circle, Suite 200 Brooklyn Park, Minnesota	1997	Leased

(1)

The property previously was used by the Bank and is currently being held for sale.

(2)

The property previously was used by the Bank for corporate offices and is currently used for file storage.

ITEM 3. LEGAL PROCEEDINGS

        From time to time, the Bank and HMN are involved as plaintiff or defendant in various legal proceedings arising in the normal course of its business. While the ultimate outcome of these various legal proceedings cannot be predicted with certainty, it is the opinion of management that the resolution of these legal actions should not have a material effect on HMN's consolidated financial condition or results of operations.

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

        None.

PART II

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SECURITY HOLDER MATTERS

        The information on pages 23, 45, 56 and the back cover page of the Annual Report to Security Holders for the year ended December 31, 2001 is incorporated herein by reference.

ITEM 6. SELECTED FINANCIAL DATA

        The information on page 11 of the Annual Report to Security Holders for the year ended December 31, 2001 is incorporated herein by reference.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

        The information on pages 12 through 28 of the Annual Report to Security Holders for the year ended December 31, 2001 is incorporated herein by reference.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

        The information on pages 25 through 27 of the Annual Report to Security Holders for the year ended December 31, 2001 is incorporated herein by reference.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

        The information on pages 29 through 56 of the Annual Report to Security Holders for the year ended December 31, 2001 is incorporated herein by reference.

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

        None.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

        The information regarding directors on pages 3 through 5 and the information regarding beneficial ownership reporting compliance on page 15 of the Registrant's definitive Proxy Statement dated March 21, 2002 is incorporated herein by reference.

Executive Officers of the Registrant Who Are Not Directors

        Officers are elected annually by the Board of Directors of HMN and the Bank. The business experience of each executive officer of both HMN and the Bank who is not also a director of HMN is set forth below.

        Dwain C. Jorgensen.    Mr. Jorgensen, age 53, is Senior Vice President Operations of HMN and the Bank. Mr. Jorgensen has held such positions with the Bank since 1998. Prior to such time, he served as Vice President, Controller and Chief Accounting Officer of HMN and the Bank from 1989 to 1998. From 1983 to 1989, Mr. Jorgensen was an Assistant Vice President and Operations Officer with the Bank.

        Jon J. Eberle.    Mr. Eberle, age 36, is Vice President Controller of HMN and the Bank. Mr. Eberle has been Vice President since 2000 and has been Controller since 1998. Prior to such time, he served as Internal Auditor for HMN and the Bank from 1994 to 1998.

ITEM 11. EXECUTIVE COMPENSATION

        The information on pages 8 through 13 of the Registrant's definitive Proxy Statement dated March 21, 2002 is incorporated herein by reference.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

        The information on pages 1, 2, 3, and 4 of the Registrant's definitive Proxy Statement dated March 21, 2002 is incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

        The information on page 13 of the Registrant's definitive Proxy Statement dated March 21, 2002 is incorporated herein by reference.

PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)  Financial Statements, Financial Statement Schedules and Exhibits

        1.    Financial Statements

        The following information appearing in the Registrant's Annual Report to Security Holders for the year ended December 31, 2001, is incorporated by reference in this Form 10-K Annual Report as Exhibit 13.

Annual Report Section	Pages in 2001 Annual Report
Five Year Consolidated Financial Highlights	11
Consolidated Balance Sheets—December 31, 2001 and 2000	29
Consolidated Statements of Income—Each of the Years in the Three-Year Period Ended December 31, 2001	30
Consolidated Statements of Comprehensive Income—Each of the Years in the Three-Year Period Ended December 31, 2001	30
Consolidated Statement of Stockholders' Equity—Each of the Years in the Three-Year Period Ended December 31, 2001	31
Consolidated Statements of Cash Flows—Each of the Years in the Three-Year Period Ended December 31, 2001	32
Notes to Consolidated Financial Statements	33–52
Independent Auditors' Report	53
Selected Quarterly Financial Data	54–55
Other Financial Data	56
Common Stock Price Information	56

2.    Financial Statement Schedules

        All financial statement schedules have been omitted as information is not required under the related instructions, is not applicable or has been included in the Notes to Consolidated Financial Statements.

3.    Exhibits

Regulation S-K Exhibit Number		Document	Reference to Prior Filing or Exhibit Number Attached Hereto	Sequential Page Numbering Where Attached Exhibits Are Located in This Form 10-K Report
2		Agreement and Plan of Merger dated July 1, 1997	1*	Not applicable
3		Amended and Restated Certificate of Incorporation	2*	Not applicable
		Amended and Restated By-laws	3*	Not applicable
4		Form of Common Stock Certificate	4*	Not applicable
10.1	†	Employment Agreement for Mr. Weise dated June 29, 1994	5*	Not applicable
		Extension of Employment Contract	6*	Not applicable
		Second Extension of Employment Contract	7*	Not applicable
		Third Extension of Employment Contract	8*	Not applicable
		Fourth Extension of Employment Contract	9*	Not applicable
10.2a	†	Employment Agreement for Mr. Gardner dated June 29, 1994	5*	Not applicable
		Extension of Employment Contract	6*	Not applicable
		Second Extension of Employment Contract	7*	Not applicable
		Third Extension of Employment Contract	8*	Not applicable
		Fourth Extension of Employment Contract	9*	Not applicable
10.2b	†	Early Retirement Agreement for Mr. Gardner dated October 24, 2000	11*	Not applicable
10.3a	†	Change in Control Agreement for Mr. McNeil dated as of November 1, 2000	11*	Not applicable
10.3b	†	Employment Agreement for Mr. McNeil dated as of November 1, 2000	11*	Not applicable
10.4a	†	Change in Control Agreement for Mr. Johnson dated as of November 1, 2000	11*	Not applicable
10.4b	†	Employment Agreement for Mr. Johnson dated as of November 1, 2000	11*	Not applicable
10.5	†	Directors Deferred Compensation Plan	5*	Not applicable
10.6	†	Amended and Restated HMN Financial, Inc. Recognition and Retention Plan dated July 29, 1998	10*	Not applicable
10.7	†	Amended and Restated HMN Financial, Inc. Stock Option and Incentive Plan dated July 29, 1998	10*	Not applicable
11		Statement re: Computation of per share earnings	Exhibit 11	Filed electronically
13		Annual Report to Security Holders	Exhibit 13	Filed electronically
21		Subsidiaries of Registrant	Exhibit 21	Filed electronically

23
Consent of KPMG LLP dated March 27, 2002
Exhibit 23
Filed electronically

†

Management contract of compensatory arrangement.

1*

Incorporated by reference to the same numbered exhibit to the Company's Current Report on Form 8-K dated July 1, 1997, filed on July 10, 1997.

2*

Incorporated by reference to the same numbered exhibit to the Company's Quarterly Report on Form 10-Q for the period ended March 31, 1998 (File No. 0-24100).

3*

Incorporated by reference to the same numbered exhibit to the Company's Quarterly Report on Form 10-Q for the period ended September 30, 1997 (File No. 0-24100).

4*

Incorporated by reference to the same numbered exhibit to the Company's Registration Statement on Form S-1 dated April 1, 1994 (File No. 33-77212).

5*

Incorporated by reference to the same numbered exhibit to the Company's Annual Report on Form 10-K for the period ended December 31, 1994 (File No. 0-24100).

6*

Incorporated by reference to the same numbered exhibit to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 1997 (File No. 0-24100).

7*

Incorporated by reference to the same numbered exhibit to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 1998 (File No. 0-24100).

8*

Incorporated by reference to the same numbered exhibit to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 1999 (File No. 0-24100).

9*

Incorporated by reference to the same numbered exhibit to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2000 (File No. 0-24100).

10*

Incorporated by reference to the same numbered exhibit to the Company's Quarterly Report on Form 10-Q for the period ended September 30, 1998 (File No. 0-24100).

11*

Incorporated by reference to the same numbered exhibit to the Company's Annual Report on Form 10-K for the period ended December 31, 2000 (File No. 0-24100).

(b)  Reports on Form 8-K:

        1.    On April 25, 2001, under Item 5., containing a press release declaring a dividend and announcing the appointment of the Company's Chairman.

SIGNATURES

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

		HMN FINANCIAL, INC.
Date:	March 27, 2002	By:	/s/  MICHAEL MCNEIL Michael McNeil (Duly Authorized Representative)

        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.

By:	/s/  TIMOTHY R. GEISLER Timothy R. Geisler, Chairman
Date:	March 27, 2002
By:	/s/  MICHAEL MCNEIL Michael McNeil, President (Principal Executive Officer)	By:	/s/  TIMOTHY P. JOHNSON Timothy P. Johnson, Executive Vice President and Director (Principal Financial Officer)
Date:	March 27, 2002	Date:	March 27, 2002
By:	/s/  ALLAN R. DEBOER Allan R. DeBoer, Director	By:	/s/  DUANE D. BENSON Duane D. Benson, Director
Date:	March 27, 2002	Date:	March 27, 2002
By:	/s/  TIMOTHY R. GEISLER Timothy R. Geisler, Director	By:	/s/  SUSAN K. KOLLING Susan K. Kolling, Director
Date:	March 27, 2002	Date:	March 27, 2002
By:	/s/  MAHLON C. SCHNEIDER Mahlon C. Schneider, Director	By:	/s/  JON J. EBERLE Jon J. Eberle, Vice President and Controller
Date:	March 27, 2002	Date:	March 27, 2002

INDEX TO EXHIBITS

Regulation S-K Exhibit Number	Document	Sequential Page Numbering Where Attached Exhibits Are Located in This Form 10-K Report
11	Statement re: Computation of per share earnings	Filed electronically
13	Annual Report to Security Holders	Filed electronically
21	Subsidiaries of Registrant	Filed electronically
23	Consent of KPMG LLP dated March 27, 2002	Filed electronically

EX-11

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Exhibit 11

HMN Financial, Inc.
Computation of Earnings Per Common Share

		Year Ended December 31,
		2001		2000	1999
Weighted average number of common shares outstanding used in basic earnings per common share calculation			3,761,115	3,831,353	4,340,551
Net dilutive effect of:
	Options		212,854	137,568	181,930
	Restricted stock awards		509	1,767	16,828
Weighted average number of shares outstanding adjusted for effect of dilutive securities			3,974,478	3,970,688	4,539,309
Income available to common shareholders		$	5,457,616	6,702,310	6,390,991
Basic earnings per common share		$	1.45	1.75	1.47
Diluted earnings per common share		$	1.37	1.69	1.41

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Exhibit 11

HMN Financial, Inc. Computation of Earnings Per Common Share

EX-13

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FIVE-YEAR CONSOLIDATED FINANCIAL HIGHLIGHTS

Selected Operations Data:

		Year Ended December 31,
		2001			2000		1999	1998		1997
		(Dollars in thousands, except per share data)
Total interest income		$	51,468		52,917		47,104	48,795		41,090
Total interest expense			30,444		33,001		28,911	31,898		25,643
	Net interest income		21,024		19,916		18,193	16,897		15,447
Provision for loan losses			1,150		180		240	310		300
	Net interest income after provision for loan losses		19,874		19,736		17,953	16,587		15,147
Fees and service charges			1,563		1,297		848	518		440
Mortgage servicing fees			470		341		335	337		47
Securities gains (losses), net			(671	)	(23	)	122	2,799		1,250
Gain on sales of loans			2,934		1,216		1,932	2,177		469
Earnings (losses) in limited partnerships			(1,311	)	(121	)	550	(3,725	)	220
Other non-interest income			599		613		506	524		296
	Total non-interest income		3,584		3,323		4,293	2,630		2,722
Other non-interest expense			15,749		12,559		11,895	13,160		9,022
	Total non-interest expense		15,749		12,559		11,895	13,160		9,022
Income tax expense			2,634		3,798		3,960	1,999		3,268
Income before minority interest			5,075		6,702		6,391	4,058		5,579
Minority interest			(383	)	0		0	0		0
	Net income	$	5,458		6,702		6,391	4,058		5,579
Per common share and common share equivalents:
	Basic	$	1.45		1.75		1.47	0.82		1.01
	Diluted		1.37		1.69		1.41	0.77		0.94

Selected Financial Condition Data:

	December 31,
	2001			2000		1999		1998		1997
	(Dollars in thousands, except per share data)
Total assets	$	721,114		716,016		699,186		694,658		691,232
Securities available for sale		119,895		139,206		173,477		181,625		205,859
Loans held for sale		68,018		7,861		4,083		13,095		2,287
Loans receivable, net		471,668		518,765		447,896		447,455		442,069
Deposits		421,843		421,691		400,382		433,869		467,348
Federal Home Loan Bank advances		217,800		221,900		229,400		185,400		127,650
Stockholders' equity		72,161		66,626		64,561		68,445		84,470
Book value per share		16.41		15.17		13.57		12.93		13.59
Tangible book value per share		15.39		14.09		12.48		11.87		12.62
Number of full service offices		12		11		10		10		10
Number of mortgage origination offices		1		1		1		1		2
Key Ratios(1)
Stockholders' equity to total assets at year end		10.01	%	9.31	%	9.23	%	9.85	%	12.22	%
Average stockholders' equity to average assets		9.91		9.56		10.13		10.63		14.36
Return on stockholders' equity (ratio of net income to average equity)		7.57		9.81		9.18		5.38		6.84
Return on assets (ratio of net income to average assets)		0.75		0.94		0.93		0.57		0.98
Dividend payout ratio		39.71		27.22		24.11		36.62		0.00

(1)

Average balances were calculated based upon amortized cost without the market value impact of SFAS 115.

11

MANAGEMENT'S DISCUSSION AND ANALYSIS

FINANCIAL REVIEW

      The financial review presents management's discussion and analysis of the consolidated financial condition and results of operations of HMN Financial, Inc. and its subsidiaries (HMN). This review should be read in conjunction with the consolidated financial statements and other financial data beginning on page 29.

General

      HMN was incorporated under the laws of the State of Delaware for the purpose of becoming the savings and loan holding company of Home Federal Savings Bank (the Bank) in connection with the Bank's conversion from a federally chartered mutual savings bank to a federally chartered stock savings bank, pursuant to its plan of conversion. The conversion was completed on June 29, 1994.

      HMN's net income is significantly dependent on its net interest income, which is the difference between interest earned on its loans and investments (interest income), and the interest paid on interest-bearing liabilities such as deposits and Federal Home Loan Bank (FHLB) advances (interest expense). Net interest income is determined by (i) the difference between the yield earned on interest-earning assets and rates paid on interest-bearing liabilities (interest rate spread) and (ii) the relative amounts of interest-earning assets and interest-bearing liabilities. HMN's interest rate spread is affected by regulatory, economic and competitive factors that influence interest rates, loan demand and deposit flows. Net interest margin is calculated by dividing net interest income by the average interest-earning assets and is normally expressed as a percentage. Net interest income and net interest margin are affected by changes in interest rates, the volume and the mix of interest-earning assets and interest-bearing liabilities, and the level of non-performing assets. HMN's net income is also affected by the generation of non-interest income, which primarily consists of gains or losses from the sale of securities, gains from the sale of loans, service charges, fees, earnings or losses in limited partnership investments and other income. In addition, net income is also affected by the level of operating expenses, provisions made for loan losses, and amortization and valuation adjustments required on mortgage servicing assets.

      The operations of financial institutions, including the Bank, are significantly affected by prevailing economic conditions, competition and the monetary and fiscal policies of governmental agencies. Lending activities are influenced by the demand for and supply of housing, competition among lenders, the level of interest rates and the availability of funds. Deposit flows and costs of deposits are influenced by prevailing market rates of interest primarily on competing investments, account maturities and the levels of personal income and savings in the market area of the Bank. The interest rates charged by the FHLB on advances to the Bank also have a significant impact on the Bank's overall cost of funds.

Critical Accounting Policies

      Critical accounting policies are those policies that management believes are the most important to the portrayal of the company's financial condition and operating results that require difficult, subjective, or complex judgement. These judgements are often the result of the need to make estimates about the effect of matters that are inherently uncertain and therefore actual results could differ significantly from the estimates used. Management considers the following items to be the critical accounting policies of HMN.

Allowance for loan losses

      The allowance for losses on loans is based on periodic analysis of the loan portfolio by management. In this analysis, management considers factors including, but not limited to, specific occurrences that include loan impairment, changes in the size of the portfolios, general economic conditions, loan portfolio composition, and historical experience. The allowance for loan losses is established for known problem loans, as well as for loans which are not currently known to require specific allowances. Loans are charged off to the extent they are deemed to be uncollectible. The adequacy of the allowance for loan losses is dependent upon management's estimates of variables affecting valuation, appraisals of collateral, evaluations of performance and status, and the amounts and timing of future cash flows expected to be received on impaired loans. Such estimates, appraisals, evaluations and cash flows may be subject to frequent adjustments due to changing economic prospects of borrowers or properties. The estimates are reviewed periodically and adjustments, if any, are recorded in the provision for loan losses in the periods in which the adjustments become known. Although management believes that the allowance for loan losses is maintained at an amount considered adequate to provide for probable loan losses inherent in the portfolio, future adjustments may be necessary if conditions differ substantially from those in the assumptions used to determine the allowance for loan losses.

Mortgage Servicing Rights

      Mortgage servicing rights are capitalized and amortized in proportion to, and over the period of, estimated net servicing income. HMN periodically evaluates its capitalized mortgage servicing rights for impairment. Loan type and note rate are the predominant risk characteristics of the underlying loans used to stratify capitalized mortgage servicing rights for purposes of measuring impairment. The valuation of the mortgage servicing rights is based on the estimated prepayment speeds and default rates of the stratified portfolio. Changes in the mix of loans, interest rates, prepayment speeds, or default rates from the estimates used in the valuation of the mortgage servicing rights may

12

have a material effect on the amortization and valuation of mortgage servicing rights. Although management believes that the assumptions used and the values determined are reasonable, future adjustments may be necessary if economic conditions differ substantially from the economic conditions in the assumptions used to determine the value of the servicing rights.

Investment in Limited Partnerships

      HMN has investments in limited partnerships which invest in mortgage servicing assets, the common stock of other financial institutions and low to moderate income housing projects which generate tax credits for HMN. HMN generally accounts for the earnings or losses from the limited partnerships on the equity method with the exception of the limited partnership which invests in mortgage servicing assets. HMN adjusts its investment in this limited partnership recorded under the equity method for an amount that represents HMN's proportionate share of adjusting the mortgage servicing assets to the lower of amortized cost or appraised market value of the mortgage servicing assets.

Income Taxes

      Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. These calculations are based on many complex factors including estimates of the timing of reversals of temporary differences, the interpretation of Federal and State income tax laws, and a determination of the differences between the tax and the financial reporting basis of assets and liabilities. Actual results could differ significantly from the estimates and interpretations used in determining the current and deferred income tax liabilities.

Results of Operations

      Net income for the year ended December 31, 2001 was $5.5 million, compared to $6.7 million for 2000 and $6.4 million for 1999. Basic earnings per share were $1.45 for the year ended December 31, 2001, compared to $1.75 for 2000 and $1.47 per share for 1999. Diluted earnings per share were $1.37 for the year ended December 31, 2001, compared to $1.69 for 2000 and $1.41 for 1999.

      In comparing the year ended December 31, 2001 to the year ended December 31, 2000, net interest income increased by $1.1 million primarily due to an increase in the average outstanding balance of loans held for sale and lower interest rates being paid on FHLB advances and deposits. Non-interest income increased by $261,000 primarily due to increased fees and service charges. The $1.7 million increase in gains recognized on the sale of loans was entirely offset by a decrease of $1.2 million in earnings from limited partnerships, and an increase in losses on its securities portfolio of $648,000. Non-interest expense increased by $3.2 million primarily due to increased compensation, occupancy and other operating costs.

      In comparing the year ended December 31, 2000 to the year ended December 31, 1999, net interest income increased by $1.7 million primarily due to an increase in the average outstanding balance of commercial and consumer loans. Non-interest income decreased by $970,000 primarily due to decreased gains recognized on the sale of loans and securities and losses recognized from investments in limited partnerships. Non-interest expense increased by $664,000 primarily due to increased compensation and occupancy expenses.

      Return on average assets was 0.75%, 0.94% and 0.93%, for 2001, 2000 and 1999, respectively. Return on average equity was 7.57%, 9.81% and 9.18% for 2001, 2000 and 1999, respectively. The impact of recording the $1.2 million loss on a limited partnership investment caused the 2001 return on average assets to decline by 0.11% and the return on average equity to decline by 1.09%, while the impact of recording the $1.0 million impairment losses on securities caused the 2001 return on assets to decrease by 0.09% and the 2001 return on average equity to decrease by 0.88%.

Net Interest Income

      The following table presents the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. Non-accruing loans have been included in the table as loans carrying a zero yield.

13

MANAGEMENT'S DISCUSSION AND ANALYSIS

		Year Ended December 31,
		2001						2000						1999
		Average Outstanding Balance		Interest Earned/ Paid		Yield/ Rate		Average Outstanding Balance		Interest Earned/ Paid		Yield/ Rate		Average Outstanding Balance		Interest Earned/ Paid		Yield/ Rate
		(Dollars in thousands)
Interest-earning assets:
Securities available for sale:
	Mortgage-backed and related securities	$	71,230	3,867		5.43	%	$	93,565	6,695		7.15	%	$	117,026	6,891		5.89	%
	Other marketable securities(1)		38,106	2,248		5.90			73,947	4,659		6.30			68,882	4,262		6.17
Loans held for sale			54,009	3,764		6.97			4,521	394		8.72			6,044	381		6.30
Loans receivable, net(2)			503,063	40,806		8.11			498,359	40,116		8.05			453,040	34,711		7.66
Federal Home Loan Bank stock			12,245	537		4.38			12,024	832		6.92			10,176	641		6.30
Other interest-earning assets including cash equivalents			16,715	246		1.47			7,831	221		2.83			7,878	218		2.77
Total interest-earning assets		$	695,368	51,468		7.40		$	690,247	52,917		7.67		$	663,046	47,104		7.10
Interest-bearing liabilities:
Non-interest checking		$	13,055	0		0.00	%	$	8,834	0		0.00	%	$	7,760	0		0.00	%
NOW accounts			33,457	380		1.13			27,001	311		1.15			24,337	239		0.98
Passbooks			32,707	455		1.39			33,922	683		2.02			35,805	716		2.00
Money market accounts			39,924	1,271		3.18			32,071	1,237		3.86			30,856	1,005		3.26
Certificate accounts			299,336	16,472		5.50			304,540	16,901		5.55			313,472	15,966		5.09
Federal Home Loan
	Bank advances		221,891	11,866		5.35			232,484	13,864		5.96			197,861	10,978		5.55
Other borrowed money			0	0		0.00			57	5		8.04			88	7		8.21
Total interest-bearing liabilities		$	640,370	30,444		4.75		$	638,909	33,001		5.17		$	610,179	28,911		4.74
Net interest income				21,024						19,916						18,193
Net interest rate spread						2.65	%					2.50	%					2.36	%
Net earning assets		$	54,998					$	51,338					$	52,867
Net interest margin						3.02	%					2.89	%					2.74	%
Average interest-earning assets to average interest-bearing liabilities				108.59	%					108.04	%					108.66	%

(1)

Tax exempt income was not significant; therefore, the yield was not presented on a tax equivalent basis. The tax exempt income was $70,702 for 2001, $35,521 for 2000 and $13,751 for 1999.

(2)

Calculated net of deferred loan fees, loan discounts, loans in process and loss reserve.

14

      Net interest income for the year ended December 31, 2001 was $21.0 million, an increase of $1.1 million, or 5.6%, from $19.9 million for the year ended in 2000. Interest income for 2001 was $51.5 million, a decrease of $1.4 million, or 2.7%, compared to $52.9 million for 2000. Interest income decreased by $3.5 million due to a decrease in the average outstanding balance of securities available for sale during 2001 and it decreased by $1.7 million due to a decrease in the weighted average interest rate earned on the securities portfolio. These decreases were partially offset by an increase in interest income of $3.4 million on loans held for sale. During 2001 the Federal Reserve decreased the Federal Funds interest rate eleven times and interest rates on treasury instruments with maturities of two years and longer generally decreased. The Wall Street Journal prime rate decreased from approximately 9.50% at the beginning of 2001 to 4.75% at the end of 2001. As a result, loans with rates that were indexed to prime, such as commercial loans and consumer lines of credit, earned less interest income than loans that were indexed to treasury instruments.

      Interest expense for the year ended December 31, 2001 was $30.4 million, a decrease of $2.6 million, or 7.7%, from $33.0 million for the year ended in 2000. The average outstanding balance on advances from the FHLB decreased by $10.6 million during 2001 which, along with lower interest rates paid on the FHLB advances, caused interest expense to decrease by $2.0 million. Due to the lowering rate environment during 2001, HMN paid lower rates on certificates of deposit which caused an outflow of certificates of deposit of $5.2 million. The effect of lower interest rates paid on less certificates of deposit resulted in a decrease in interest expense of $429,000.

      Net interest income for the year ended December 31, 2000 was $19.9 million, an increase of $1.7 million, or 9.5%, from $18.2 million for the year ended in 1999. Interest income for 2000 was $52.9 million, an increase of $5.8 million, or 12.3%, compared to $47.1 million for 1999. Interest income increased by $3.6 million due to an increase in the average outstanding balance of loans receivable during 2000 and it increased by $1.8 million due to an increase in the weighted average interest rate earned on the loan portfolio. During 2000 HMN focused its efforts on originating and purchasing commercial real estate, commercial business, and consumer loans which generally have higher interest rates and shorter terms to maturity than single family residential loans.

      Interest expense for the year ended December 31, 2000 was $33.0 million, an increase of $4.1 million, or 14.1%, from $28.9 million for the year ended in 1999. The average outstanding balance on advances from the FHLB increased by $34.6 million during 2000 which caused interest expense to increase by $2.9 million after taking into account the effect of increased interest rates being paid on FHLB advances. In order to reduce the outflow of deposits HMN paid higher rates on certificates of deposit, which also caused interest expense to increase by $935,000 after taking into account the impact of certificate of deposit outflow.

      Net interest margin was 3.02%, 2.89% and 2.74% for the years ended December 31, 2001, 2000 and 1999, respectively. Average net earning assets were $55.0 million, $51.3 million and $52.9 million for the years ended December 31, 2001, 2000 and 1999, respectively. HMN has actively purchased its own common stock in the open market which reduced interest earning assets. During 2001, 2000 and 1999 HMN paid $1.6 million, $5.1 million and $7.3 million, respectively, to purchase its common stock in the open market. The common stock purchases were the principal reason for the decline in interest earning assets in 1999 and 2000. The increase in interest earning assets in 2001 is the result of net income exceeding stock repurchases and fixed asset additions.

      The schedule on the following page presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between changes related to changes in outstanding balances and that due to the changes of interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume).

15

MANAGEMENT'S DISCUSSION AND ANALYSIS

			Year Ended December 31,
			2001 vs. 2000								2000 vs. 1999
			Increase (Decrease) Due to								Increase (Decrease) Due to
								Total Increase (Decrease)								Total Increase (Decrease)
			Volume(1)			Rate(1)					Volume(1)			Rate(1)
			(Dollars in thousands)
Interest-earning assets:
	Securities available for sale:
		Mortgage-backed and related securities	$	(1,406	)	(1,422	)		(2,828	)	$	2,724		(2,920	)		(196	)
		Other marketable securities		(2,132	)	(279	)		(2,411	)		311		86			397
	Loans held for sale, net			3,428		(58	)		3,370			(28	)	41			13
	Loans receivable, net			451		239			690			3,594		1,811			5,405
	Federal Home Loan Bank stock			16		(311	)		(295	)		124		67			191
	Other, including cash equivalents			44		(19	)		25			(1	)	4			3
		Total interest-earning assets	$	401		(1,850	)		(1,449	)	$	6,724		(911	)		5,813
Interest-bearing liabilities:
	NOW accounts		$	72		(3	)		69			28		44			72
	Passbooks			(23	)	(205	)		(228	)		(39	)	6			(33	)
	Money market accounts			121		(87	)		34			41		191			232
	Certificates			(287	)	(142	)		(429	)		(437	)	1,372			935
	Federal Home Loan Bank advances			(612	)	(1,386	)		(1,998	)		2,021		865			2,886
	Other borrowed money			(5	)	0			(5	)		(2	)	0			(2	)
		Total interest-bearing liabilities	$	(734	)	(1,823	)		(2,557	)	$	1,612		2,478			4,090
Net interest income								$	21,024							$	19,916

(1)

For purposes of this table, changes attributable to both rate and volume which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate.

      The following table sets forth the weighted average yields on HMN's interest-earning assets, the weighted average interest rates on interest-bearing liabilities and the interest rate spread between the weighted average yields and rates as of the date indicated. Non-accruing loans have been included in the table as loans carrying a zero yield.

			At December 31, 2001
Weighted average yield on:
	Securities available for sale:
		Mortgage-backed and related securities	4.02	%
		Other marketable securities	4.37
	Loans held for sale		7.04
	Loans receivable, net		7.89
	Federal Home Loan Bank advances		4.00
	Other interest-earning assets		1.38
	Combined weighted average yield on interest-earning assets		6.92
Weighted average rate on:
	NOW accounts		0.64	%
	Passbooks		0.75
	Money market accounts		1.89
	Certificates		4.52
	Federal Home Loan Bank stock		4.75
	Combined weighted average rate on interest-bearing liabilities		3.85
	Interest rate spread		3.08

Provision For Losses on Loans

      *The provision for losses on loans is considered a critical accounting policy of HMN. It is determined based on management's evaluation of the loan portfolio including its evaluation of national and regional economic indicators (including the possibility at each year end that there could be an increase in general interest rates), such as national and regional unemployment data, single family loan delinquencies as reported separately by the Federal National Mortgage Association (FNMA) and the Federal Home Loan Bank Mortgage Corporation (FHLMC), local single family construction permits, local economic growth rates, and the current regulatory and general economic environment. HMN will continue to monitor and modify its allowance for losses as these conditions dictate. Although HMN maintains its allowance for losses at a level it considers adequate to

*This paragraph contains a forward-looking statement(s). Refer to information regarding Forward-looking Information on page 27 of this discussion.

16

provide for estimated losses, there can be no assurance that such losses will not exceed the estimated amount or that additional provisions for loan losses will not be required in future periods.

      The provision for losses on loans for 2001 was $1,150,000, compared to $180,000 for 2000 and $240,000 for 1999. The provision for loan losses increased in 2001 primarily due to the growth that was experienced in the commercial and consumer loan portfolios which generally require a larger provision due to the greater inherent credit risk of these loans. The provision also increased because of increases in specific commercial loan reserves of $382,000, as well as a slowing economy which resulted in more non accrual loans. Based upon management's evaluation of the loan portfolio and its understanding of the economic conditions in the areas where it has a concentration of loans, the provision was deemed adequate for each of the years in the three year period ended December 31, 2001. HMN incurred $517,000 of loan charge-offs during 2001 and it recovered $6,000 of loans previously charged-off. HMN incurred $312,000 of loan charge-offs during 2000 and it recovered $3,000 of loans previously charged-off. HMN incurred $9,800 of loan charge-offs during 1999 and it recovered $1,600 of loans previously charged-off. For more information on the allowance for loan losses refer to Notes 1 and 5 of the Notes to Consolidated Financial Statements.

Non-Interest Income

      Non-interest income was $3.6 million for 2001, compared to $3.3 million for 2000 and $4.3 million for 1999. The following table presents certain components of non-interest income:

		Year Ended December 31,						Percentage Increase (Decrease)
		2001			2000		1999	2001/2000		2000/1999
		(Dollars in thousands)
Fees and service charges		$	1,563		1,297		848	20.5	%	52.9	%
Mortgage servicing fees			470		341		335	37.8		1.8
Securities gains (losses), net			(671	)	(23	)	122	(2,817.4	)	(118.9	)
Gain on sales of loans			2,934		1,216		1,932	141.3		(37.1	)
Earnings (losses) in limited partnerships			(1,311	)	(121	)	550	(983.5	)	(122.0	)
Other non-interest income			599		613		506	(2.3	)	21.1
	Total non-interest income	$	3,584		3,323		4,293	7.9		(22.6	)

      Fees and service charges earned for the year ended December 31, 2001 increased by $266,000 from fees and service charges earned in 2000, primarily due to increased fees and service charges on an increased number of deposit accounts. During 2001 HMN continued to concentrate on developing more retail and commercial checking account relationships which created more opportunities for fee income. The charges for some services were also increased during 2001. Fees and service charges earned for the year ended December 31, 2000 increased by $449,000 from fees and service charges earned in 1999, primarily due to increased fees and service charges on deposit accounts.

      Mortgage servicing fees for the year ended December 31, 2001 increased by $129,000 from the mortgage servicing fees earned in 2000, primarily due to the increased number of single family loans that were serviced for others. During 2001 the lower interest rates caused loan originations and loan sales to increase significantly and the servicing rights on all of the loans sold by the Bank were retained. Mortgage servicing fees for the year ended December 31, 2000 increased $6,000 from the mortgage servicing fees earned in 1999. The increase was due to more mortgage servicing rights being capitalized than were amortized.

      The ability to realize gains on the sale of securities is dependent on the type of securities in the securities portfolio and upon changes in the general interest rate environment. During 2001 interest rates in general were declining and the opportunity to sell investments at a gain was present, however, economic conditions caused HMN to recognize impairment losses totaling $1.0 million, which negated the gains recognized on securities that were sold. Management reviews the securities in its portfolio on a regular basis for impairment. As a result of these reviews, HMN recognized impairment losses of $610,000 on corporate debt securities because the underlying debtor corporations filed for bankruptcy. HMN also recognized a $410,000 impairment loss on a preferred stock whose decline in market value did not rebound as anticipated when interest rates decreased during 2001. During a portion of 2000 and throughout 1999 interest rates in general were rising and the opportunity to sell securities at a gain diminished.

      Over the past three years, in order to reduce its interest rate risk and increase its other non-interest income, the Bank, which originates all of its 1-4 family loans at its retail facilities, sold many of its originated or refinanced fixed rate 1-4 family loans to FNMA. The mortgage banking business operated by Home Federal Mortgage Services, LLC (HFMS), and formerly operated by HMN Mortgage Services, Inc. (MSI), also sold the majority of their mortgage origination and loan brokerage activity. The lower interest rate environment in 2001 caused loan originations and brokerage activity to increase significantly. For the year ended December 31, 2001, HMN recognized $2.9 million of net gain on the sale of $724.2 million of primarily single family mortgage loans. The Bank accounted for $2.1 million of the

17

net gain on sale on $136.2 million of originated and refinanced loans sold. HFMS accounted for $842,000 of the net gain on sale on $588.1 million of loans. During 2001 HFMS brokered $349.6 million of loans from correspondent lenders at lower profit margins than its other brokerage and origination activity. The significant increase in loan volume from these correspondents resulted in pair off fees because loans were not delivered into their forward sales commitments on a timely basis. This resulted in a lower gain on sale of loans for HFMS as a percentage of loans sold. The lower profit margins coupled with the additional compensation costs relating to processing the increased loan volume resulted in HFMS generating a loss for 2001. Refer to Note 23 of the Notes to Consolidated Financial Statements for additional information relating to the results of operations for HFMS. For the year ended December 31, 2000, HMN recognized $1.2 million of net gain on the sale of $103.7 million of primarily single family mortgage loans. The Bank accounted for $752,000 of the net gain on the sale of loans and $31.6 million of the loans. For the year ended December 31, 1999, HMN recognized $1.9 million of net gains on the sale of $176.4 million of primarily single family mortgage loans. The Bank accounted for $995,000 of the net gain on sale and $46.5 million of the loans.

      For the years ended December 31, 2001, 2000 and 1999, HMN recognized net losses of $1.3 million, $121,000 and net earnings of $550,000, respectively, from its limited partnership investments. A major portion of HMN's investment in limited partnerships resides in a partnership that owns mortgage servicing rights. HMN considers the valuation of mortgage servicing rights, and thus the investment in this limited partnership, to be a critical accounting policy that is subject to significant estimates. Generally, as interest rates rise the value of fixed rate mortgage servicing rights increases and as interest rates fall the value of mortgage servicing rights declines due to changes in the anticipated cash flows caused by prepayments on the loans being serviced. During 2001 and 2000 significant declines in interest rates on single family mortgages caused HMN to recognize a loss on its investment in the mortgage servicing limited partnership. During 1999 interest rates generally rose, which allowed HMN to reverse previously established impairment reserves and recognize earnings from its limited partnership investments. For more information on investments in limited partnerships refer to Notes 1 and 9 of the Notes to Consolidated Financial Statements.

      Other non-interest income consists primarily of fees and commissions earned on the sale of financial planning products and services. For the year ended December 31, 2001 other non-interest income was $599,000, compared to $613,000 for 2000 and $506,000 for 1999. The changes in other non-interest income from 1999 to 2001 are principally due to changes in volume of sales.

Non-Interest Expense

      Non-interest expense for the year ended December 31, 2001 was $15.7 million, compared to $12.6 million for the year ended in 2000 and $11.9 million for 1999. The following table presents the components of non-interest expense:

		Year Ended December 31,				Percentage Increase (Decrease)
		2001		2000	1999	2001/2000		2000/1999
		(Dollars in thousands)
Compensation and benefits		$	7,915	6,391	6,052	23.8	%	5.6	%
Occupancy			2,239	1,891	1,571	18.4		20.4
Federal deposit insurance premiums			80	83	254	(3.6	)	(67.3	)
Advertising			426	303	284	40.6		6.7
Data processing			964	790	719	22.0		9.9
Amortization of mortgage servicing rights, net of valuation adjustments and servicing costs			758	334	471	126.9		(29.1	)
Other			3,367	2,767	2,544	21.7		8.8
	Total non-interest expense	$	15,749	12,559	11,895	25.4		5.6

      The $3.2 million increase in non-interest expense from 2000 to 2001 was primarily due to a $1.5 million increase in compensation and benefit expense, which primarily resulted from commissions paid on the increased single family residential loan volume as well as additional staff to process the increased volume. Occupancy expense increased by $348,000 due to additional facilities maintained during 2001 including the new corporate headquarters in Rochester and a full year of depreciation on facilities opened or remodeled during 2000. Data processing increased by $174,000 due to the increased costs of various services offered to customers including Internet banking services. Advertising expenses increased $123,000 as a result of a more developed marketing plan, and other expenses increased by $600,000 primarily due to increases in fees for professional services and other operating costs. Amortization of mortgage servicing rights increased $424,000 from 2000 to 2001. Because of the lower interest rates in 2001 many loans that were being serviced by the Bank were refinanced. When a serviced loan was paid off, the remaining value of the servicing of that loan was recorded as additional amortization expense in the month in which the loan was repaid.

18

      The $664,000 increase in non-interest expense from 1999 to 2000 was primarily due to a $248,000 charge to compensation and benefit expense which related to an early retirement program for an executive officer. Occupancy expense increased by $320,000 due to additional operating costs and depreciation on facilities that were remodeled throughout 2000 and software enhancements made during 2000. The $137,000 decrease in amortization of mortgage servicing rights from 1999 to 2000 was due to decreased amortization expense because of generally rising interest rates in 2000.

Income Taxes

      HMN considers the calculation of current and deferred income taxes to be a critical accounting policy that is subject to significant estimates. Actual results could differ significantly from the estimates and interpretations used in determining the current and deferred income tax liabilities. During 2001 HMN recorded income tax expense of $2.6 million, compared to $3.8 million and $4.0 million for 2000 and 1999, respectively. The change in income tax expense between the years is primarily the result of changes in taxable income between the years. Refer to Note 1 and Note 14 of the Notes to Consolidated Financial Statements for additional information relating to income taxes.

Financial Condition

Loans Receivable, Net

      The following table sets forth the information on HMN's loan portfolio in dollar amounts and in percentages (before deductions for loans in process, deferred fees and discounts and allowances for losses) as of the dates indicated.

				December 31,
				2001				2000				1999				1998				1997
				Amount		Percent		Amount		Percent		Amount		Percent		Amount		Percent		Amount		Percent
				(Dollars in thousands)
Real Estate Loans:
	One-to-four family			$	215,448	44.73	%	$	312,888	59.43	%	$	344,674	70.95	%	$	365,496	79.31	%	$	395,668	87.58	%
	Multi-family				14,369	2.98			12,090	2.30			8,489	1.75			4,719	1.02			2,717	0.60
	Commercial				70,768	14.69			61,654	11.71			43,894	9.04			28,990	6.29			10,572	2.34
	Construction or development				46,977	9.75			20,211	3.84			16,046	3.30			15,155	3.29			5,725	1.27
		Total real estate			347,562	72.15			406,843	77.28			413,103	85.04			414,360	89.91			414,682	91.79
Other Loans:
	Consumer Loans:
		Automobile			6,624	1.38			6,363	1.21			4,532	0.94			2,897	0.63			2,437	0.54
		Home equity line			35,714	7.42			26,907	5.11			22,437	4.62			19,476	4.22			19,490	4.31
		Home equity			26,440	5.49			28,144	5.35			17,349	3.57			9,566	2.08			7,176	1.59
		Mobile home			5,456	1.13			4,921	0.93			791	0.16			58	0.01			26	0.01
		Other			4,897	1.02			4,561	0.87			3,127	0.64			2,803	0.61			2,736	0.60
			Total consumer loans		79,131	16.44			70,896	13.47			48,236	9.93			34,800	7.55			31,865	7.05
	Commercial business loans				54,940	11.41			48,760	9.25			24,435	5.03			11,695	2.54			5,226	1.16
			Total other loans		134,071	27.85			119,656	22.72			72,671	14.96			46,495	10.09			37,091	8.21
			Total loans		481,633	100.00	%		526,499	100.00	%		485,774	100.00	%		460,855	100.00	%		451,773	100.00	%
Less:
	Loans in process				4,692				2,953				2,771				7,997				4,562
	Unamortized discounts				278				289				297				414				547
	Net deferred loan fees				1,212				1,348				1,537				1,948				1,847
	Allowance for losses				3,783				3,144				3,273				3,041				2,748
			Total loans receivable, net	$	471,668			$	518,765			$	477,896			$	447,455			$	442,069

19

M A N A G E M E N T ' S  D I S C U S S I O N  A N D  A N A L Y S I S

      *HMN established a commercial lending department in 1998 in order to facilitate a change in the mix of assets on its balance sheet. The purpose of changing the mix was to reduce interest rate risk and enhance performance by increasing its investment in shorter term and generally higher yielding commercial real estate and commercial business loans and reduce its investment in longer term one-to-four family real estate loans. HMN intends to continue to change its asset mix by continuing to originate more commercial real estate, commercial business and consumer loans while selling the majority of the newly originated one-to-four family loans with amortization terms of 20 years or longer.

      The one-to-four family real estate loans were $215.4 million at December 31, 2001, a decrease of $97.5 million, or 31.1%, compared to $312.9 million at December 31, 2000. During 2001 loan prepayments increased as a result of the low interest rate environment and many loans that were in the portfolio at December 31, 2000 that were refinanced as conventional fixed rate loans during the year were sold to FNMA. The increased prepayments and the related loan sales were the principal cause of the decline in the one-to-four family loan portfolio.

      The one-to-four family real estate loans were $312.9 million at December 31, 2000, a decrease of $31.8 million, or 9.2%, compared to $344.7 million at December 31, 1999. Loan production decreased in 2000 as a result of rising interest rates and because HMN stopped purchasing one-to-four family loans from a third party originator during 2000. HMN originated or purchased $140.3 million in one-to-four family loans from a third party originator during 2000, a decrease of $82.0 million, or 36.9%, compared to $222.3 million in one-to-four family loans during 1999. The reduced loan volume was the principal cause of the decline in the one-to-four family loan portfolio.

      The one-to-four family real estate loans were $344.7 million at December 31, 1999, a decrease of $20.8 million, or 5.7%, compared to $365.5 million at December 31, 1998. Loan production decreased in 1999 as a result of rising interest rates. The reduced loan volume and the increased percentage of loans sold were the principal cause of the decline in the one-to-four family loan portfolio.

      Commercial real estate loans were $70.8 million at December 31, 2001, an increase of $9.1 million, compared to $61.7 million at December 31, 2000. Commercial business loans were $54.9 million at December 31, 2001, an increase of $6.1 million, compared to $48.8 million at December 31, 2000. The continued emphasis on commercial real estate and commercial business loans resulted in the origination or purchase of commercial real estate loans totaling $18.3 million in 2001, compared to $18.2 million in 2000. Commercial business loans originated or purchased in 2001 were $48.2 million, compared to $42.4 million in 2000. The increased production was the principal reason for the increase in commercial real estate and commercial business loans in 2001.

      Commercial real estate loans were $61.7 million at December 31, 2000, an increase of $17.8 million, compared to $43.9 million at December 31, 1999. Commercial business loans were $48.8 million at December 31, 2000, an increase of $24.4 million, compared to $24.4 million at December 31, 1999. Increased production was the principal reason for the increase in commercial real estate and commercial business loans in 2000.

      Commercial real estate loans were $43.9 million at December 31, 1999, an increase of $14.9 million compared to $29.0 million at December 31, 1998. Commercial business loans were $24.4 million at December 31, 1999, an increase of $12.7 million compared to $11.7 million at December 31, 1998. The Bank was in the process of expanding its commercial loan and commercial deposit offerings in order to increase its investment in commercial real estate and commercial business loans.

      Home equity line loans were $35.7 million at December 31, 2001, compared to $26.9 million at December 31, 2000, and $22.4 million at December 31, 1999. Due to the general decline in interest rates during 2001 many borrowers consolidated their debt into home equity lines and paid off closed end home equity loans when refinancing their first mortgage. Home equity loans were $26.4 million at December 31, 2001, compared to $28.1 million at December 31, 2000 and $17.3 million at December 31, 1999.

Allowances for Loan Losses

      The determination of the allowance for loan losses and the related provision is considered to be a critical accounting policy that is subject to significant estimates. The current level of the allowance for loan losses is a result of management's assessment of the risks within the portfolio based on the information obtained through the credit evaluation process. HMN utilizes a risk-rating system on non-homogenous commercial real estate and commercial business loans that includes regular credit reviews to identify and quantify the risk in the commercial portfolio. The allowance for all loans is based on the Bank's and the industry's historical loan loss experience, evaluation of economic conditions, regular reviews of delinquencies and loan portfolio quality and evolving standards imposed by the Office of Thrift Supervision (OTS) and other factors that, in management's judgement, deserve recognition. The allowance is allocated to individual loan categories based upon the relative risk characteristics of the loan portfolios and the actual loss experience. HMN increases its allowance for loan losses by charging the provision for loan losses against income. The methodology for establishing the allowance for loan losses takes into consideration probable losses that have been identified in connection with specific loans as well as losses in the loan portfolio for which specific

      *This paragraph contains a forward-looking statement(s). Refer to information regarding Forward-looking Information on page 27 of this discussion.

20

reserves are not required. Management conducts quarterly reviews of the loan portfolio and evaluates the need to establish general allowances on the basis of these reviews.

      *Management continues to actively monitor asset quality and to charge off loans against the allowance for loan losses when appropriate. Although management believes it uses the best information available to make determinations with respect to the allowance for loan losses, future adjustments may be necessary if economic conditions differ substantially from the economic conditions in the assumptions used to determine the size of the allowance for losses.

      The allowance for loan losses was $3.8 million, or 0.79%, of total loans at December 31, 2001, compared to $3.1 million, or 0.60%, of total loans at December 31, 2000, $3.3 million, or 0.69%, of total loans at December 31, 1999, $3.0 million, or 0.68%, of total loans at December 31, 1998, and $2.7 million, or 0.62%, of total loans at December 31, 1997. The following table reflects the activity in the allowance for loan losses and selected statistics:

			December 31,
			2001			2000		1999		1998		1997
			(Dollars in thousands)
Balance at the beginning of year			$	3,144		3,273		3,041		2,748		2,341
	Acquired allowance for loan losses			0		0		0		0		122
	Provision for losses			1,150		180		240		310		300
	Charge-offs:
		One-to-four family		0		0		(1	)	(2	)	(4	)
		Consumer		(170	)	(59	)	(9	)	(17	)	(7	)
		Commercial business		(347	)	(253	)	0		0		(12	)
	Recoveries			6		3		2		2		8
		Net charge-offs		(511	)	(309	)	(8	)	(17	)	(15	)
Balance at end of year			$	3,783		3,144		3,273		3,041		2,748
Year end allowance for loan losses as a percent of year end gross loan balance				0.79	%	0.60	%	0.69	%	0.68	%	0.62	%
Ratio of net loan charge-offs to average loans outstanding				0.10		0.06		0.00		0.00		0.01
Allowance for loan losses as a percentage of total assets at year end				0.52		0.44		0.47		0.44		0.40

      The following table reflects the allocation of the allowance for loan losses:

		At December 31,						Allocations as a Percentage of Total Loan Outstanding by Type
		2001		2000	1999	1998	1997	2001		2000	1999	1998	1997
		(Dollars in thousands)
Real estate loans:
	One-to-four family	$	215	302	527	544	560	44.73	%	59.43	70.95	79.31	87.58
	Multi-family		203	111	133	142	80	2.98		2.30	1.75	1.02	0.60
	Commercial		903	802	533	797	198	14.69		11.71	9.04	6.29	2.34
	Construction or development		560	408	231	455	172	9.75		3.84	3.30	3.29	1.27
Consumer			565	414	674	546	527	16.44		13.47	9.93	7.55	7.05
Commercial business			1,337	665	291	328	46	11.41		9.25	5.03	2.54	1.16
Unallocated			0	442	884	229	1,165	0.00		0.00	0.00	0.00	0.00
Total		$	3,783	3,144	3,273	3,041	2,748	100.00	%	100.00	100.00	100.00	100.00

      The allocated one-to-four family real estate allowance declined in recent years due to a decline in the one-to-four family loan portfolio.

      The allocation of the allowance for loan losses increased from 2000 to 2001 for commercial, construction or development, multi-family real estate, consumer and commercial business loans because of the increase in the respective portfolios. The commercial business loan allocation also increased because of increases in specific reserves of $382,000.

      *This paragraph contains a forward-looking statement(s). Refer to information regarding Forward-looking Information on page 27 of this discussion.

21

MANAGEMENT'S DISCUSSION AND ANALYSIS

Allowance for Real Estate Losses

      Real estate properties acquired or expected to be acquired through loan foreclosures are initially recorded at the lower of the related loan balance, less any specific allowance for loss, or fair value less estimated selling costs. Valuations are periodically performed by management and an allowance for losses is established if the carrying value of a property exceeds its fair value less estimated selling costs. There was no activity in the allowance for real estate losses during 2001 or 2000 and the balance of the allowance for real estate losses was zero at December 31, 2001. During 1999 there was a recapture of an $8,000 allowance that had been established in 1997.

Non-performing Assets

      Non-performing assets (comprised of non-accrual loans, restructured loans, impaired securities, real estate acquired through foreclosure, and repossessed assets) totaled $3.8 million at December 31, 2001, compared to $1.6 million at December 31, 2000, $818,000 at December 31, 1999, $806,000 at December 31, 1998 and $807,000 at December 31, 1997. The increase from 2000 to 2001 is primarily the result of classifying $1.4 million of impaired securities as non-performing assets, increases in specific reserves on commercial business loans of $382,000, and an increase in non-accrual loans of $1.1 million due to a slowing economy. Non-performing assets had the following activity during 2001: charge-offs of $124,000, transfers in of $3,263,000 and transfers out due to performance of $990,000. Non-performing assets had the following activity during 2000: charge-offs of $8,000, transfers in of $1,128,000 and transfers out due to performance of $326,000. Non-performing assets had the following activity during 1999: sales of $18,000, transfers in of $423,000 and transfers out due to performance of $393,000. Non-performing assets had the following activity during 1998: sales of $142,000, transfers in of $389,000 and transfers out due to performance of $248,000. Non-performing assets are summarized in the following table:

			December 31,
			2001			2000		1999		1998		1997
			(Dollars in thousands)
	Non-accrual loans		$	2,159		1,012		342		476		263
	Accruing loans delinquent 90 days or more			24		405		476		312		402
	Restructured loans			0		0		0		0		0
	Other assets (impaired securities)			1,390		0		0		0		0
	Foreclosed and repossessed assets			188		195		0		18		142
		Total non-performing assets	$	3,761		1,612		818		806		807
Non-performing assets as a percentage of total assets				0.52	%	0.23	%	0.12	%	0.12	%	0.12	%
Total non-performing loans			$	2,183		1,417		818		788		665
Non-performing loans as a percentage of loans receivable, net				0.46	%	0.27	%	0.17	%	0.18	%	0.15	%
Allowance for loan losses to non-performing loans				173.29	%	221.87	%	400.29	%	385.79	%	413.17	%

      The non-performing assets reflected above primarily consist of one-to-four family mortgage loans, consumer loans, commercial business loans, and impaired securities.

Mortgage Servicing Rights

      HMN considers the capitalization and valuation of servicing rights to be a critical accounting policy that is subject to significant estimates. Servicing rights are valued quarterly by an unrelated third party specializing in the valuation of servicing rights and are reviewed by HMN. The assumptions used to value the mortgage servicing rights are based on loan types, note rates, default rates, and prepayment speeds, among other assumptions. Changes in the mix of loans, interest rates, default rates or prepayment speeds may have a material effect on the amortization and valuation of mortgage servicing rights. Although management believes that the assumptions used and the values determined are reasonable based upon current circumstances, adjustments may be necessary if future economic conditions differ substantially from the economic condition in the assumptions used to determine the value of the servicing rights. Refer to Note 1 and Note 7 of the Notes to Consolidated Financial Statements for additional information relating to mortgage servicing rights.

22

Contractual Obligations and Commercial Commitments

      HMN has certain obligations and commitments to make future payments under contracts. At December 31, 2001, the aggregate contractual obligations (excluding bank deposits) and commercial commitments are as follows:

		Payments Due by Period
		Total		Less than 1 Year	1-3 Years	4-5 Years	After 5 Years
		(Dollars in thousands)
Contractual Obligations:
	Total borrowings	$	217,800	9,500	97,400	0	110,900
	Unconditional contract obligations		1,498	1,498	0	0	0
	Annual rental commitments under non-cancellable operating leases		1,590	433	644	503	10
		$	220,888	11,431	98,044	503	110,910
		Amount of Commitment-Expiration by Period
Other Commerical Commitments:
	Commercial lines of credit	$	3,189	2,922	207	60	0
	Commitments to lend		38,744	13,670	559	11,280	13,235
	Standby letters of credit		1,240	1,041	199	0	0
		$	43,173	17,633	965	11,340	13,235

Regulatory Capital Requirements

      Federal savings institutions are required to satisfy three capital requirements: (i) a requirement that "tangible capital" equal or exceed 1.5% of adjusted total assets, (ii) a requirement that "core capital" equal or exceed 3% of adjusted total assets, and (iii) a requirement that "risk-based capital" equal or exceed 8% of risk-weighted assets. With certain exceptions, all three capital standards must generally conform to and be no less stringent than, the capital standards published by the Comptroller of the Currency for national banks.

      As a result of the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA), banking and thrift regulators are required to take prompt regulatory action against institutions which are undercapitalized. FDICIA requires banking and thrift regulators to categorize institutions as "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized," or "critically undercapitalized". A savings institution will be deemed to be well capitalized if it: (i) has a total risk-based capital ratio of 10% or greater, (ii) has a Tier 1 (core) risk-based capital ratio of 6% or greater, (iii) has a leverage (core) ratio of 5% or greater, and (iv) is not subject to any order or written directive by the OTS to meet and maintain a specific capital level for any capital measure. The Bank is of the opinion that it is considered well capitalized at December 31, 2001. Refer to Note 18 of the Notes to Consolidated Financial Statements for a table which reflects the Bank's capital compared to its capital requirements.

Dividends

      During 2001 HMN declared and paid dividends as follows:

Record date	Payable date	Dividend per share		Dividend payout ratio
February 22, 2001	March 8, 2001	$	0.12	29.27	%
May 24, 2001	June 11, 2001	$	0.12	30.00	%
August 28, 2001	September 11, 2001	$	0.14	43.75	%
November 23, 2001	December 12, 2001	$	0.14	28.00	%

      On January 22, 2002 HMN declared a cash dividend of $0.14 per share payable on March 7, 2002 to holders of record on February 21, 2002. The annualized dividend payout ratio for the past four quarters was 31.90%.

      The declaration of dividends are subject to, among other things, HMN's financial condition and results of operations, the Bank's compliance with its regulatory capital requirements, including the capital requirements, tax considerations, industry standards, economic conditions, regulatory restrictions, general business practices and other factors. Refer to Note 17 of the Notes to Consolidated Financial Statements for information on regulatory limitations on dividends from the Bank to HMN and more information on dividends.

Liquidity

      *HMN manages its liquidity position to ensure that the funding needs of borrowers and depositors are met timely and in the most cost effective manner. Asset liquidity is the ability to convert assets to cash through the maturity of the asset or the sale of the asset. Liability liquidity results from the ability of the Bank to attract depositors or borrow funds from third party sources such as the FHLB.

      *This paragraph contains a forward-looking statement(s). Refer to information regarding Forward-looking Information on page 27 of this discussion.

23

MANAGEMENT'S DISCUSSION AND ANALYSIS

      The primary investing activities are the origination or purchase of loans and the purchase of securities. Principal and interest payments on mortgages and securities along with the proceeds from the sale of loans held for sale are the primary sources of cash for HMN. Additional cash can be obtained by selling securities from the available for sale portfolio or by selling loans. Loans could also be securitized by FNMA or FHLMC and used as collateral for additional borrowing with the FHLB.

      The primary financing activity is the attraction of retail deposits. The Bank also obtains funds by utilizing brokered certificates of deposit. The Bank has the ability to borrow additional funds from the FHLB by pledging additional securities or loans. Refer to Note 12 of the Notes to Consolidated Financial Statements for more information on additional advances that could be drawn upon based upon existing collateral levels with the FHLB. Information on outstanding advance maturities and related early call features was also included in Note 12.

      *HMN anticipates that its liquidity requirements for 2002 will be similar to the cash flows it experienced in 2001 with the following exceptions: expenditures for premises and equipment are anticipated to be $1.6 million which is less than the 2001 expenditures; net increase in loans receivable is anticipated to be $54 million; and the funds provided from deposits and/or FHLB advances will be in the range of $50 to $55 million.

      HMN's most liquid assets are cash and cash equivalents, which consist of short-term highly liquid investments with original maturities of less than three months that are readily convertible to known amounts of cash and interest-bearing deposits. The level of these assets is dependent on the operating, financing, and investing activities during any given period.

      Cash and cash equivalents at December 31, 2001 were $23.0 million, an increase of $8.6 million, compared to $14.4 million at December 31, 2000. Net cash used by operating activities during 2001 was $49.9 million. HMN conducted the following major investing activities during 2001: proceeds from the sale of securities available for sale were $19.1 million, principal received on payments and maturities of securities available for sale were $37.8 million, purchases were $34.5 million of securities available for sale, proceeds of sales of loans receivable were $12,000, and net decrease in loans receivable which was due primarily to principal repayments of $44.2 million. HMN spent $2.4 million for the purchase of equipment and updating its premises, and received $317,000 from the sale of real estate. Net cash provided by investing activities during 2001 was $64.6 million. HMN conducted the following major financing activities during 2001: purchase of treasury stock of $1.6 million, received $646,000 from exercise of HMN common stock options, paid $1.9 million in dividends to HMN stockholders, proceeds from FHLB advances of $267.7 million and repayments of FHLB advances totaled $271.8 million. Net cash used by financing activities was $6.1 million.

      *HMN has certificates of deposit with outstanding balances of $187.1 million that mature during 2002. Based upon past experience management anticipates that the majority of the deposits will renew for another term. HMN believes that deposits which do not renew will be replaced with deposits from a combination of other customers or brokered deposits. FHLB advances or the sale of securities could also be used to replace unanticipated outflows of deposits. Management does not anticipate that it will have a liquidity problem due to maturing deposits.

      *HMN has $9.5 million of FHLB advances which mature in 2002 and it has $25.0 million of FHLB advances with maturities beyond 2002 which have call features that may be exercised by the FHLB during 2002. If the call features are exercised, HMN has the option of requesting any advance otherwise available to it pursuant to the Credit Policy of the FHLB. Since HMN has the ability to request another advance to replace the advance that is being called, management does not anticipate that it will have a liquidity problem due to advances being called by the FHLB during 2002.

      *The Credit Policy of the FHLB may change such that the current collateral pledged to secure the advances is no longer acceptable or the formulas for determining the excess pledged collateral may change and the Bank may not have additional collateral to pledge to secure the existing advances could cause the FHLB advances to become a liquidity problem during 2002.

      On July 24, 2001, HMN's Board of Directors authorized the extension of the stock repurchase program to August 22, 2002. The plan authorized HMN to repurchase up to 344,800 shares of HMN's common stock in the open market. At December 31, 2001 there remained 244,800 shares approved to be purchased under the plan.

Merger and Acquisitions

      From time to time HMN reviews the possibility of acquiring or merging with different companies which would complement the business conducted by HMN. HMN's Board of Directors has adopted the policy of not disclosing to the public its intent to acquire or merge until a formal definitive agreement has been signed by all parties involved with the transaction except as otherwise required by law.

Impact of Inflation and Changing Prices

      The Consolidated Financial Statements and Notes presented herein have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operation results that are primarily in terms of historical dollars without considering the changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of operations. Unlike most industrial companies, nearly all of the assets and liabilities of HMN are monetary in nature. As a result, interest rates have a greater impact on HMN's performance than do the effects of general levels of inflation. Interest rates do not necessarily

      *This paragraph contains a forward-looking statement(s). Refer to information regarding Forward-looking Information on page 27 of this discussion.

24

move in the same direction or to the same extent as the prices of goods and services.

Market Risk

      Market risk is the risk of loss from adverse changes in market prices and rates. HMN's market risk arises primarily from interest rate risk inherent in its investing, lending and deposit taking activities. Management actively monitors and manages its interest rate risk exposure.

      HMN's profitability is affected by fluctuations in interest rates. A sudden and substantial increase in interest rates may adversely impact HMN's earnings to the extent that the interest rates borne by assets and liabilities do not change at the same speed, to the same extent, or on the same basis. HMN monitors the projected changes in net interest income that occur if interest rates were to suddenly change up or down. The Rate Shock Table located in the Asset/Liability Management section of this report discloses HMN's projected changes in net interest income based upon immediate interest rate changes called rate shocks.

      *HMN utilizes a model which uses the discounted cash flows from its interest-earning assets and its interest-bearing liabilities to calculate the current market value of those assets and liabilities. The model also calculates the changes in market value of the interest-earning assets and interest-bearing liabilities due to different interest rate changes.

      HMN believes that over the next twelve months interest rates could conceivably fluctuate in a range of 200 basis points up or 100 basis points down from where the rates were at December 31, 2001. HMN does not have a trading portfolio. The following table discloses the projected changes in market value to HMN's interest-earning assets and interest-bearing liabilities based upon incremental 100 basis point changes in interest rates from interest rates in effect on December 31, 2001.

		Market Value
Other than trading portfolio Basis point change in interest rates
		-100			0		+100		+200
		(Dollars in thousands)
Cash and cash equivalents		$	23,009		23,019		22,975		22,958
Securities available for sale:
	Fixed-rate CMOs		7,661		7,611		7,561		7,513
	Variable-rate CMOs		53,654		54,595		55,184		55,189
	Fixed-rate available for sale mortgage-backed and related securities		2,531		2,454		2,370		2,288
	Variable-rate available for sale mortgage-backed and related securities		1,583		1,570		1,558		1,544
	Fixed-rate available for sale other marketable securities		54,935		53,551		52,215		50,914
	Variable-rate available for sale other marketable securities		117		114		111		111
Federal Home Loan Bank stock			12,234		12,245		12,213		12,203
Fixed-rate loans held for sale			69,220		68,018		64,460		63,439
Loans receivable, net:
	Fixed-rate real estate loans		212,666		207,563		201,420		195,294
	Variable-rate real estate loans		126,931		124,487		122,059		119,680
	Fixed-rate other loans		87,948		86,749		84,923		83,281
	Variable-rate other loans		76,646		75,551		73,158		71,467
Mortgage servicing rights, net			1,021		1,904		2,497		2,744
Investment in limited partnerships			1,103		1,524		1,931		2,073
Total market risk sensitive assets			731,259		720,955		704,635		690,698
Deposits:
	NOW accounts		59,369		59,369		59,369		59,369
	Passbooks		32,739		32,739		32,739		32,739
	Money market accounts		44,006		44,006		44,006		44,006
	Certificates		293,339		290,649		287,965		285,388
Federal Home Loan Bank advances:
	Fixed-rate advances		193,908		187,453		183,291		180,263
	Variable-rate advances		37,535		37,427		37,401		37,374
Total market risk sensitive liabilities			660,896		651,643		644,771		639,139
Off-balance sheet financial instruments:
	Commitments to extend credit		1,162		(313	)	(1,163	)	(1,663	)
	Commitments to sell or deliver loans		(2,954	)	1,294		2,956		4,223
Interest rate swap			(183	)	(182	)	(182	)	(181	)
Net market risk		$	72,338		68,513		58,253		49,180
Percentage change from current market value			5.29	%	0.00	%	(14.98	)%	(28.22	)%

      *This paragraph contains a forward-looking statement(s). Refer to information regarding Forward-looking Information on page 27 of this discussion.

25

The preceding table was prepared utilizing the following assumptions (the "Model Assumptions") regarding prepayment and decay ratios which were determined by management based upon their review of historical prepayment speeds and future prepayment projections. Fixed rate loans were assumed to prepay at annual rates of between 7% to 38%, depending on the note rate and the period to maturity. Adjustable rate mortgages ("ARMs") were assumed to prepay at annual rates of between 11% and 28%, depending on the note rate and the period to maturity. Growing Equity Mortgage (GEM) loans were assumed to prepay at annual rates of between 12% and 43% depending on the note rate and the period to maturity. Mortgage-backed securities and Collateralized Mortgage Obligations (CMOs) were projected to have prepayments based upon the underlying collateral securing the instrument and the related cash flow priority of the CMO tranche owned. Certificate accounts were assumed not to be withdrawn until maturity. Passbook and money market accounts were assumed to decay at an annual rate of 20%. FHLB advances were projected to be called at the first call date where the projected interest rate on similar remaining term advances exceeded the interest rate on HMN's callable advance. Refer to Note 12 of the Notes to Consolidated Financial Statements for more information on call provisions of the FHLB advances.

      *Certain shortcomings are inherent in the method of analysis presented in the foregoing table. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types of assets and liabilities may lag behind changes in market interest rates. The model assumes that the difference between the current interest rate being earned or paid compared to a treasury instrument or other interest index with a similar term to maturity (the "Interest Spread") will remain constant over the interest changes disclosed in the table. Changes in Interest Spread could impact projected market value changes. Certain assets, such as ARMs, have features which restrict changes in interest rates on a short-term basis and over the life of the assets. The market value of the interest-bearing assets which are approaching their lifetime interest rate caps could be different from the values disclosed in the table. In the event of a change in interest rates, prepayment and early withdrawal levels may deviate significantly from those assumed in calculating the foregoing table. The ability of many borrowers to service their debt may decrease in the event of a substantial sustained interest rate increase.

Asset/Liability Management

      *HMN's management reviews the impact that changing interest rates will have on its net interest income projected for the twelve months following December 31, 2001 to determine if its current level of interest rate risk is acceptable. The following table projects the estimated impact on net interest income of immediate interest rate changes called rate shocks.

Rate Shock in Basis Points	Net Interest Income		Percentage Change
+200	$	23,414,000	5.36	%
+100		23,417,000	5.38	%
0		22,222,000	0.00	%
-100		19,184,000	(13.67	)%

      The preceding table was prepared utilizing the Model Assumptions regarding prepayment and decay ratios which were determined by management based upon their review of historical prepayment speeds and future prepayment projections prepared by third parties.

      *Certain shortcomings are inherent in the method of analysis presented in the foregoing table. In the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the foregoing table. The ability of many borrowers to service their debt may decrease in the event of a substantial increase in interest rates and could impact net interest income.

      In an attempt to manage its exposure to changes in interest rates, management closely monitors interest rate risk. HMN has an Asset/Liability Committee which meets at least on a monthly basis to discuss changes made to the interest rate risk position and projected profitability. The committee makes recommendations for adjustments to the asset liability position of the Bank to the Board of Directors of the Bank. This committee also reviews the Bank's portfolio, formulates investment strategies and oversees the timing and implementation of transactions to assure attainment of the Board's objectives in the most effective manner. In addition, the Board reviews on a quarterly basis the Bank's asset/liability position, including simulations of the effect on the Bank's capital of various interest rate scenarios.

      In managing its asset/liability mix, the Bank, at times, depending on the relationship between long- and short-term interest rates, market conditions and consumer preference, may place more emphasis on managing net interest margin than on better matching the interest rate sensitivity of its assets and liabilities in an effort to enhance net interest income. Management believes that the increased net interest income resulting from a mismatch in the maturity of its asset and liability portfolios can, during periods of declining or stable interest rates, provide high enough returns to justify the increased exposure to sudden and unexpected increases in interest rates.

      To the extent consistent with its interest rate spread objectives, the Bank attempts to reduce its interest rate risk and has taken a number of steps to restructure its assets and

26

liabilities. The Bank has primarily focused its fixed rate one-to-four family residential lending program on loans that are saleable to third parties and will portfolio only certain fixed rate loans that meet certain risk characteristics. The Bank will portfolio adjustable rate loans which reprice over a one year, three year and five year period. At times, depending on its interest rate sensitivity, the Bank may sell seasoned fixed rate single family loans with shorter contractual maturities than thirty years in order to reduce interest rate risk and record a gain on the sale of loans.

Forward-looking Information

      The following paragraphs within Management's Discussion and Analysis of Financial Condition and Results of Operations contain forward-looking statements and actual results may differ materially from the expectations disclosed within this Discussion and Analysis. These forward-looking statements are subject to risks and uncertainties, including those discussed below. HMN assumes no obligations to publicly release results of any revision or updates to these forward-looking statements to reflect future events or unanticipated occurrences.

Provision For Losses on Loans

      The provision for losses on loans is the result of management's evaluation of the loan portfolio including its evaluation of national and regional economic indicators (including the possibility at each year end that there would be an increase in general interest rates), such as national and regional unemployment data, single family loan delinquencies as reported separately by the Federal National Mortgage Association (FNMA) and the Federal Home Loan Bank Mortgage Corporation (FHLMC), local single family construction permits and local economic growth rates and the current regulatory and general economic environment. HMN will continue to monitor and modify its allowance for losses as these conditions dictate. Although HMN maintains its allowance for losses at a level it considers adequate to provide for estimated losses, there can be no assurance that such losses will not exceed the estimated amount or that additional provisions for loan losses will not be required in future periods.

Loans Receivable, Net

      HMN established a commercial lending department in 1998 in order to facilitate a change in the mix of assets on its balance sheet. The purpose of changing the mix was to reduce interest rate risk and enhance performance by increasing its investment in shorter term and generally higher yielding commercial real estate and commercial business loans and reduce its investment in longer term one-to-four family real estate loans. HMN intends to continue to change its asset mix by continuing to originate more commercial real estate, commercial business, and consumer loans while selling the majority of the newly originated one-to-four family loans with amortization terms of 20 years or longer.

Allowance for Loan Losses

      Management continues to actively monitor asset quality and to charge off loans against the allowance for loan losses when appropriate. Although management believes it uses the best information available to make determinations with respect to the allowance for loan losses, future adjustments may be necessary if economic conditions differ substantially from the economic conditions in the assumptions used to determine the size of the allowance for losses.

Liquidity

      HMN manages its liquidity position to ensure that the funding needs of borrowers and depositors are met timely and in the most cost effective manner. Asset liquidity is the ability to convert assets to cash through the maturity of the asset or the sale of the asset. Liability liquidity results from the ability of the Bank to attract depositors or borrow funds from third party sources such as the FHLB.

      HMN anticipates that its liquidity requirements for 2002 will be similar to the cash flows it experienced in 2001 with the following exceptions: expenditures for premises and equipment are anticipated to be $1.6 million which is less than the 2001 expenditures; net increase in loans receivable is anticipated to be $54 million; and the deposits and/or FHLB advances will be in the range of $50 to $55 million.

      The actual cash flows of HMN may be different than the anticipated cash flows discussed for 2002 due to unforeseen economic conditions or unanticipated events such as the desire of customers to close all of their accounts.

      HMN has certificates of deposit with outstanding balances of $187.1 million that mature during 2002. Based upon past experience management anticipates that the majority of the deposits will renew for another term. HMN believes that deposits which do not renew will be replaced with deposits from a combination of other customers or brokered deposits. FHLB advances or the sale of securities could also be used to replace unanticipated outflows of deposits. Management does not anticipate that it will have a liquidity problem due to maturing deposits.

      Competitive pricing by other institutions, the desire of a competitor to pay interest rates on deposits that are above the current rates paid by HMN, or the desire by customers to put more of their funds into nontraditional bank products such as stocks and bonds could be circumstances that would cause the maturing certificates to become a liquidity problem.

      HMN has $9.5 million of FHLB advances which mature in 2002 and it has $25.0 million of FHLB

27

advances with maturities beyond 2002 which have call features that may be exercised by the FHLB during 2002. If the call features are exercised, HMN has the option of requesting any advance otherwise available to it pursuant to the Credit Policy of the FHLB. Since HMN has the ability to request another advance to replace the advance that is being called, management does not anticipate that it will have a liquidity problem due to advances being called by the FHLB during 2002.

      The Credit Policy of the FHLB may change such that the current collateral pledged to secure the advances is no longer acceptable or the formulas for determining the excess pledged collateral may change and the Bank may not have additional collateral to pledge to secure the existing advances could cause the FHLB advances to become a liquidity problem during 2002.

Market Risk

      HMN utilizes a model which uses the discounted cash flows from its interest-earning assets and its interest-bearing liabilities to calculate the current market value of those assets and liabilities. The model also calculates the changes in market value of the interest-earning assets and interest-bearing liabilities due to different interest rate changes.

      HMN's actual market value changes for interest earnings assets and interest bearing liabilities may differ from the projected market values disclosed in the table in the Market Risk Section.

      Certain shortcomings are inherent in the method of analysis in the table presented in the Market Risk section. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types of assets and liabilities may lag behind changes in market interest rates. The model assumes that the difference between the current interest rate being earned or paid compared to a treasury instrument or other interest rate index with a similar term to maturity (the"Interest Spread") will remain constant over the interest changes disclosed in the table. Changes in Interest Spread could impact projected market value changes. Certain assets, such as ARMs, have features which restrict changes in interest rates on a short-term basis and over the life of the assets. The market value of the interest-bearing assets which are approaching their lifetime interest rate caps could be different from the values disclosed in the table. In the event of a change in interest rates, prepayment and early withdrawal levels may deviate significantly from those assumed in calculating the foregoing table. The ability of many borrowers to service their debt may decrease in the event of an interest rate increase.

      HMN believes that over the next twelve months interest rates could conceivably fluctuate in a range of 200 basis points up or 100 basis points down from where the rates were at December 31, 2001. HMN does not have a trading portfolio. The table in the Market Risk Section discloses the projected changes in market value to HMN's interest-earning assets and interest-bearing liabilities based upon incremental 100 basis point changes in interest rates from interest rates in effect on December 31, 2001.

      Actual interest rates could fluctuate by more than 200 basis points up or 100 basis points down from rates in effect on December 31, 2001 due to additional terroristic activity in the world. Many foreign countries have economies which may substantially impact the economy of the United States. Negative occurrences in foreign economies could cause general interest rates to fluctuate by more than 200 basis points up or 100 basis points down in the United States.

Asset/Liability Management

      HMN's management reviews the impact that changing interest rates will have on its net interest income projected for the twelve months following December 31, 2001 to determine if its current level of interest rate risk is acceptable. HMN's actual net interest income caused by interest rate changes may differ from the amounts reflected in the table which projects the estimated impact on net interest income of immediate interest rate changes called rate shocks.

      Certain shortcomings are inherent in the method of analysis presented in the table. In the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the foregoing table. The ability of many borrowers to service their debt may decrease in the event of a substantial increase in interest rates and could impact net interest income.

28

CONSOLIDATED BALANCE SHEETS

December 31, 2001 and 2000		2001			2000
ASSETS
Cash and cash equivalents		$	23,019,553		14,416,861
Securities available for sale:
	Mortgage-backed and related securities (amortized cost $65,878,534 and $76,199,237)		66,229,732		75,379,719
	Other marketable securities (amortized cost $53,439,401 and $66,392,057)		53,665,502		63,826,770
			119,895,234		139,206,489
Loans held for sale			68,017,570		7,861,029
Loans receivable, net			471,667,772		518,765,209
Accrued interest receivable			3,508,828		4,311,747
Federal Home Loan Bank stock, at cost			12,245,000		12,245,000
Mortgage servicing rights, net			1,903,636		1,188,928
Premises and equipment, net			10,860,756		9,459,710
Investment in limited partnerships			1,523,650		2,838,364
Goodwill			3,800,938		3,980,974
Core deposit intangible			685,509		794,363
Prepaid expenses and other assets			3,985,625		947,201
	Total assets	$	721,114,071		716,015,875
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits		$	421,843,369		421,690,548
Federal Home Loan Bank advances			217,800,000		221,900,000
Accrued interest payable			1,017,456		1,575,521
Advance payments by borrowers for taxes and insurance			1,015,570		650,348
Accrued expenses and other liabilities			6,535,734		3,355,110
Deferred tax liabilities			976,900		218,700
	Total liabilities		649,189,029		649,390,227
Commitments and contingencies
Minority interest			(236,309	)	0
Stockholders' equity:
	Serial preferred stock: ($.01 par value) Authorized 500,000 shares; issued and outstanding none		0		0
	Common stock ($.01 par value): Authorized 11,000,000; issued shares 9,128,662		91,287		91,287
Additional paid-in capital			59,168,782		59,584,176
Retained earnings, subject to certain restrictions			76,956,978		73,380,588
Accumulated other comprehensive income (loss)			367,744		(2,037,005	)
Unearned employee stock ownership plan shares			(5,124,746	)	(5,318,067	)
Unearned compensation restricted stock awards			(7,350	)	(9,800	)
Treasury stock, at cost 4,732,521 and 4,737,521 shares			(59,291,344	)	(59,065,531	)
	Total stockholders' equity		72,161,351		66,625,648
Total liabilities and stockholders' equity		$	721,114,071		716,015,875

See accompanying notes to consolidated financial statements.

29

CONSOLIDATED STATEMENTS OF INCOME

Year ended December 31, 2001, 2000 and 1999			2001			2000		1999
Interest income:
	Loans receivable		$	44,569,397		40,510,151		35,091,002
	Securities available for sale:
		Mortgage-backed and related		3,867,079		6,694,550		6,891,308
		Other marketable		2,248,383		4,658,871		4,262,344
	Cash equivalents			246,449		221,465		218,373
	Other			536,619		832,392		641,141
		Total interest income		51,467,927		52,917,429		47,104,168
Interest expense:
	Deposits			18,578,348		19,132,506		17,925,739
	Federal Home Loan Bank advances and other borrowed money			11,865,682		13,868,974		10,985,256
		Total interest expense		30,444,030		33,001,480		28,910,995
		Net interest income		21,023,897		19,915,949		18,193,173
Provision for loan losses				1,150,000		180,000		240,000
	Net interest income after provision for loan losses			19,873,897		19,735,949		17,953,173
Non-interest income:
	Fees and service charges			1,563,031		1,297,014		848,249
	Mortgage servicing fees			470,081		340,935		334,603
	Securities gains (losses), net			(670,958	)	(23,122	)	122,395
	Gain on sales of loans			2,934,317		1,215,702		1,932,164
	Earnings (losses) in limited partnerships			(1,311,568	)	(120,922	)	550,053
	Other			598,625		613,275		505,546
		Total non-interest income		3,583,528		3,322,882		4,293,010
Non-interest expense:
	Compensation and benefits			7,914,452		6,391,326		6,051,719
	Occupancy			2,239,152		1,890,947		1,571,333
	Federal deposit insurance premiums			79,714		83,233		254,198
	Advertising			426,357		303,046		283,886
	Data processing			963,958		789,995		718,468
	Amortization of mortgage servicing rights, net of valuation adjustments and servicing costs			758,352		333,692		471,105
	Other			3,366,698		2,766,382		2,543,983
		Total noninterest expense		15,748,683		12,558,621		11,894,692
		Income before income tax expense		7,708,742		10,500,210		10,351,491
Income tax expense				2,634,385		3,797,900		3,960,500
	Income before minority interest			5,074,357		6,702,310		6,390,991
Minority interest				(383,259	)	0		0
	Net income		$	5,457,616		6,702,310		6,390,991
Basic earnings per share			$	1.45		1.75		1.47
Diluted earnings per share			$	1.37		1.69		1.41
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Net income			$	5,457,616		6,702,310		6,390,991
Other comprehensive income (loss), net of tax:
	Unrealized gains on hedging valuation			35,795		0		0
		Less: minority interest in hedging valuation		21,950		0		0
		Net unrealized gains on hedging valuation		13,845		0		0
	Unrealized gains (losses) on securities:
		Unrealized holding gains (losses) arising during period		1,988,754		1,136,524		(2,274,666	)
		Less: reclassification adjustment for gains (losses) included in net income		(402,150	)	(14,214	)	75,239
Other comprehensive income (loss)				2,404,749		1,150,738		(2,349,905	)
Comprehensive income			$	7,862,365		7,853,048		4,041,086

See accompanying notes to consolidated financial statements.

30

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

Years ended December 31, 2001, 2000 and 1999		Common Stock		Additional Paid-In Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)		Unearned Employee Stock Ownership Plan Shares		Unearned Compensation Restricted Stock Awards		Treasury Stock		Total Stockholders' Equity
Balance, December 31, 1998		$	91,287	59,739,020		63,424,378		(837,838	)	(5,705,152	)	(276,867	)	(47,989,489	)	68,445,339
	Net income					6,390,991										6,390,991
	Other comprehensive loss							(2,349,905	)							(2,349,905	)
	Treasury stock purchases													(7,271,668	)	(7,271,668	)
	Tax benefits of restricted stock awards			26,743												26,743
	Employee stock options exercised			(183,098	)									438,646		255,548
	Tax benefit of exercised stock options			27,636												27,636
	Amortization of restricted stock awards											170,830				170,830
	Restricted stock awards cancelled											9,529		(9,529	)	0
	Earned employee stock ownership plan shares			64,414						193,301						257,715
	Dividends paid					(1,392,361	)									(1,392,361	)
Balance, December 31, 1999		$	91,287	59,674,715		68,423,008		(3,187,743	)	(5,511,851	)	(96,508	)	(54,832,040	)	64,560,868
	Net income					6,702,310										6,702,310
	Other comprehensive income							1,150,738								1,150,738
	Treasury stock purchases													(5,091,726	)	(5,091,726	)
	Tax benefits of restricted stock awards			35,200												35,200
	Employee stock options exercised			(257,101	)									858,235		601,134
	Tax benefit of exercised stock options			76,165												76,165
	Amortization of restricted stock awards											86,708				86,708
	Earned employee stock ownership plan shares			55,197						193,784						248,981
	Dividends paid					(1,744,730	)									(1,744,730	)
Balance, December 31, 2000		$	91,287	59,584,176		73,380,588		(2,037,005	)	(5,318,067	)	(9,800	)	(59,065,531	)	66,625,648
	Net income					5,457,616										5,457,616
	Other comprehensive income							2,404,749								2,404,749
	Treasury stock purchases													(1,584,152	)	(1,584,152	)
	Employee stock options exercised			(712,140	)									1,358,339		646,199
	Tax benefit of exercised stock options			191,695												191,695
	Tax benefits of restricted stock awards			2,479												2,479
	Amortization of restricted stock awards											2,450				2,450
	Earned employee stock ownership plan shares			102,572						193,321						295,893
	Dividends paid					(1,881,226	)									(1,881,226	)
Balance, December 31, 2001		$	91,287	59,168,782		76,956,978		367,744		(5,124,746	)	(7,350	)	(59,291,344	)	72,161,351

See accompanying notes to consolidated financial statements.

31

CONSOLIDATED STATEMENTS OF CASH FLOWS

Years ended December 31, 2001, 2000 and 1999				2001			2000		1999
Cash flows from operating activities:
	Net income			$	5,457,616		6,702,310		6,390,991
	Adjustments to reconcile net income to cash provided (used) by operating activities:
		Provision for loan losses			1,150,000		180,000		240,000
		Depreciation			1,037,897		896,741		757,695
		Amortization of (discounts) premiums, net			107,719		(73,113	)	57,513
		Amortization of deferred loan fees			(513,671	)	(212,200	)	(617,163	)
		Amortization of goodwill			180,036		180,024		180,035
		Amortization of core deposit intangible			108,854		232,440		232,442
		Amortization of other purchase accounting adjustments			(10,210	)	(40,662	)	29,123
		Amortization of mortgage servicing rights and net valuation adjustments			724,513		302,277		431,658
		Capitalized mortgage servicing rights			(1,458,322	)	(367,531	)	(549,639	)
		Deferred income taxes			(821,600	)	353,400		414,100
		Securities losses (gains), net			670,958		23,122		(122,395	)
		Gain on sales of real estate			(17,293	)	0		0
		Gain on sales of loans			(2,934,317	)	(1,215,702	)	(1,932,164	)
		Proceeds from sales of loans held for sale			753,564,329		109,204,874		180,597,578
		Disbursements on loans held for sale			(809,722,094	)	(110,703,659	)	(167,022,259	)
		Principal collected on loans held for sale			179,020		38,601		1,099
		Amortization of restricted stock awards			2,450		86,708		170,830
		Amortization of unearned ESOP shares			193,321		193,784		193,301
		Earned employee stock ownership shares priced above original cost			102,572		55,197		64,414
		Decrease (increase) in accrued interest receivable			802,919		(451,293	)	92,309
		Increase (decrease) in accrued interest payable			(558,065	)	142,410		347,098
		Equity (earnings) losses of limited partnerships			1,311,568		120,922		(550,053	)
		Equity losses of minority interest			(383,259	)	0		0
		Increase in other assets			(1,937,860	)	(112,976	)	(728,182	)
		Increase in other liabilities			2,890,551		870,222		623,010
		Other, net			(16,615	)	7,367		23,448
			Net cash (used) provided by operating activities		(49,888,983	)	6,413,263		19,324,789
Cash flows from investing activities:
	Proceeds from sales of securities available for sale				19,135,721		41,454,275		32,185,211
	Principal collected on securities available for sale				24,062,724		9,198,142		42,684,941
	Proceeds collected on maturity of securities available for sale				13,695,000		14,500,000		27,084,000
	Purchases of securities available for sale				(34,461,933	)	(17,958,537	)	(88,572,057	)
	Proceeds from sales of loans receivable				12,156		204,264		223,097
	Purchase of Federal Home Loan Bank stock				0		(775,000	)	(1,632,100	)
	Net decrease (increase) in loans receivable				44,264,172		(53,310,741	)	(42,190,734	)
	Proceeds from sale of real estate				316,797		0		16,625
	Purchases of premises and equipment				(2,438,943	)	(1,826,017	)	(905,993	)
			Net cash provided (used) by investing activities		64,585,694		(8,513,614	)	(31,107,010	)
Cash flows from financing activities:
	Increase (decrease) in deposits				334,938		21,364,898		(33,375,878	)
	Purchase of treasury stock				(1,584,152	)	(5,091,726	)	(7,271,668	)
	Stock options exercised				646,199		601,134		255,548
	Dividends to stockholders				(1,881,226	)	(1,744,730	)	(1,392,361	)
	Proceeds from Federal Home Loan Bank advances				267,700,000		167,800,000		129,700,000
	Repayment of Federal Home Loan Bank advances				(271,800,000	)	(175,300,000	)	(85,700,000	)
	Decrease in other borrowed money				0		0		(2,500,000	)
	Minority interest in mortgage services				125,000		0		0
	Increase (decrease) in advance payments by borrowers for taxes and insurance				365,222		(163,744	)	157,003
			Net cash (used) provided by financing activities		(6,094,019	)	7,465,832		(127,356	)
			Increase (decrease) in cash and cash equivalents		8,602,692		5,365,481		(11,909,577	)
Cash and cash equivalents, beginning of year					14,416,861		9,051,380		20,960,957
Cash and cash equivalents, end of year				$	23,019,553		14,416,861		9,051,380
Supplemental cash flow disclosures:
	Cash paid for interest			$	31,002,095		32,859,070		28,563,897
	Cash paid for income taxes				3,713,121		3,340,300		3,716,750
Supplemental noncash flow disclosures:
	SBA certificates transferred from loans to securities available for sale			$	0		0		2,528,442
	Loans securitized and transferred to securities available for sale				0		11,129,146		6,913,219
	Loans transferred to loans held for sale				2,172,128		1,095,640		2,662,480
	Transfer of loans to real estate				86,123		244,258		0
	Transfer of real estate to loans				0		50,140		0

See accompanying notes to consolidated financial statements.

32

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2001, 2000 and 1999

NOTE 1 Description of the Business and Summary of Significant Accounting Policies

      HMN Financial, Inc. (HMN) is a stock savings bank holding company which owns 100 percent of Home Federal Savings Bank (the Bank or Home Federal). Home Federal has a community banking philosophy and operates retail banking facilities in Minnesota and Iowa. The Bank has two subsidiaries, Osterud Insurance Agency, Inc. (OAI), doing business as Home Federal Investment Services and Home Federal Mortgage Services, LLC (HFMS). OAI is wholly owned by the Bank and offers financial planning products and services. HFMS is a mortgage banking and mortgage brokerage business located in Brooklyn Park, Minnesota. Prior to 2001 the business was operated as a wholly owned subsidiary of HMN and was known as HMN Mortgage Services, Inc. (MSI). In January 2001, HMN sold 100% of the MSI stock to the Bank. The Bank formed HFMS and merged MSI into HFMS. Effective February 1, 2001 the business sold a 49% membership interest in HFMS to two individuals. HMN has another wholly owned subsidiary, Security Finance Corporation (SFC). Prior to 2000, SFC invested in commercial loans and commercial real-estate loans located throughout the United States which were originated by third parties. During 2000 SFC sold many of its assets to the Bank and discontinued investing in commercial loans.

      The consolidated financial statements included herein are for HMN, SFC, MSI, through January 31, 2001, the Bank and the Bank's subsidiaries, OAI and HFMS. All significant intercompany accounts and transactions have been eliminated in consolidation.

      Material Estimates  In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ from those estimates.

      Estimates that are particularly susceptible to change relate to the determination of the allowance for losses on loans and the valuation of mortgage servicing rights. In connection with the determination of the allowance for loan losses, management obtains independent appraisals for significant properties.

      Management believes that the allowance for loan losses is adequate to cover probable losses inherent in the portfolio at the date of the balance sheet. While management uses available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the allowance for loan losses. Such agencies may require additions to the allowance based on their judgment about information available to them at the time of their examination.

      Mortgage servicing rights are stratified by loan type and note rate and are valued quarterly using prepayment and default rate assumptions. While management believes that the assumptions used and the values determined are reasonable, future adjustments may be necessary if economic conditions differ substantially from the economic conditions in the assumptions used to determine the value of the mortgage servicing rights.

      Cash Equivalents  For purposes of the statements of cash flows, HMN considers highly liquid investments with original maturities of three months or less to be cash equivalents.

      Securities  HMN classifies its debt and equity securities in one of three categories: trading, available for sale, or held to maturity. Trading securities are bought and held principally for the purpose of selling them in the near term. Securities available for sale include securities that management intends to use as part of its asset/liability strategy or that may be sold in response to changes in interest rate, changes in prepayment risk, or similar factors. Securities held to maturity represent securities which HMN has the positive intent and ability to hold to maturity.

      Securities available for sale are carried at market value. Net unrealized gains and losses, net of tax effect, are included as a separate component of stockholders' equity. Declines in the value of securities available for sale that are considered other-than-temporary are recorded in noninterest income.

      Securities held to maturity are carried at cost, adjusted for amortization of premiums and discounts, as management has the ability and intent to hold them to maturity.

      Premiums and discounts are amortized using the level-yield method over the period to maturity. Gains and losses on the sale of securities are determined using the specific-identification method and recognized on trade date.

      Loans Held for Sale  Mortgage loans originated or purchased which are intended for sale in the secondary market are carried at the lower of cost or estimated market value in the aggregate. Net fees and costs associated with acquiring and/or originating loans held for sale are deferred and included in the basis of the loan in determining the gain or loss on the sale of the loans. Gains are recognized on settlement date. Net unrealized losses are recognized through a valuation allowance by charges to income.

      Loans Receivable, Net  Loans receivable, net are considered long-term investments and, accordingly, are carried at amortized cost. Loan origination fees received, net of certain loan origination costs, are deferred as an adjustment to the carrying value of the related loans, and are amortized into income using the interest method over the estimated life of the loans.

      Premiums and discounts on loans are amortized into interest income using the interest method over the period to contractual maturity, adjusted for estimated prepayments.

      The allowance for loan losses is maintained at an amount considered adequate by management to provide for probable loan losses inherent in the portfolio. The allowance for loan losses is based on periodic analysis of the loan portfolio by management. In this analysis, management considers factors including, but not limited

33

to, specific occurrences which include loan impairment, changes in the size of the portfolios, general economic conditions, loan portfolio composition and historical experience. The allowance for loan losses is established for known problem loans, as well as for loans which are not currently known to require specific allowances. Loans are charged off to the extent they are deemed to be uncollectible. The adequacy of the allowance for loan losses is dependent upon management's estimates of variables affecting valuation, appraisals of collateral, evaluations of performance and status, and the amounts and timing of future cash flows expected to be received on impaired loans. Such estimates, appraisals, evaluations and cash flows may be subject to frequent adjustments due to changing economic prospects of borrowers or properties. The estimates are reviewed periodically and adjustments, if any, are recorded in the provision for loan losses in the periods in which the adjustments become known.

      Interest income is recognized on an accrual basis except when collectibility is in doubt. When loans are placed on a non-accrual basis, generally when the loan is 90 days past due, previously accrued but unpaid interest is reversed from income. Interest is subsequently recognized as income to the extent cash is received when, in management's judgment, principal is collectible.

      All impaired loans, including all loans that are restructured in a troubled debt restructuring involving a modification of terms, are measured at the present value of expected future cash flows discounted at the loan's initial effective interest rate. The fair value of the collateral of an impaired collateral-dependent loan or an observable market price, if one exists, may be used as an alternative to discounting. If the measure of the impaired loan is less than the recorded investment in the loan, impairment will be recognized through the allowance for loan losses. A loan is considered impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impaired loans are all loans which are delinquent as to principal and interest for 120 days or greater and all loans that are restructured in a troubled debt restructuring involving a modification of terms. All portfolio loans are reviewed for impairment on an individual basis.

      Mortgage Servicing Rights  Mortgage servicing rights are capitalized and amortized in proportion to, and over the period of, estimated net servicing income. HMN periodically evaluates its capitalized mortgage servicing rights for impairment. Loan type and note rate are predominant risk characteristics of the underlying loans used to stratify capitalized mortgage servicing rights for purposes of measuring impairment. Any impairment is recognized through a valuation allowance.

      Real Estate, Net  Real estate properties acquired through loan foreclosures are initially recorded at the lower of the related loan balance, less any specific allowance for loss, or fair value less estimated selling costs. Valuations are periodically performed by management and an allowance for losses is established if the carrying value of a property exceeds its fair value less estimated selling costs.

      Premises and Equipment  Land is carried at cost. Office buildings, improvements, furniture and equipment are carried at cost less accumulated depreciation.

      Depreciation is computed on a straight-line basis over estimated useful lives of 10 to 40 years for office buildings and improvements and 3 to 12 years for furniture and equipment.

      Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of  HMN reviews long-lived assets and certain identifiable intangibles for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable.

      Investment in Limited Partnerships  HMN has investments in limited partnerships which invest in mortgage servicing assets, the common stock of other financial institutions and low to moderate income housing projects which generate tax credits for HMN. HMN generally accounts for the earnings or losses from the limited partnerships on the equity method with the exception of the limited partnership which invests in mortgage servicing assets. HMN adjusts its investment in this limited partnership recorded under the equity method for an amount that represents HMN's proportionate share of adjusting the mortgage servicing assets to the lower of amortized cost or appraised market value of the mortgage servicing assets.

      Intangible Assets  Goodwill resulting from acquisitions is amortized on a straight line basis over 25 years. Deposit base intangible is amortized on an accelerated basis as the deposits run off. Management reviews intangible assets for impairment as events or circumstances indicate that the assets may not be recoverable. Effective January 1, 2002, HMN adopted Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets, which requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually.

Stock-Based Compensation

      Effective January 1, 1996, HMN adopted SFAS No. 123, Accounting for Stock-Based Compensation. It elected to continue using the accounting methods prescribed by Accounting Principles Board (APB) Opinion No. 25 and related interpretations which measure compensation cost using the intrinsic value method. HMN has included in Note 15, "Employee Benefits" the impact of the fair value of employee stock-based compensation plans on net income and earnings per share on a pro forma basis for awards granted after January 1, 1995.

      Income Taxes  Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

34

      Earnings per Share  Basic earnings per share (EPS) excludes dilution and is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. Refer to Note 16 for disclosure of EPS calculations.

      Comprehensive Income  Comprehensive income is defined as the change in equity during a period from transactions and other events from nonowner sources. Comprehensive income is the total of net income and other comprehensive income, which for HMN is comprised of unrealized gains and losses on securities available for sale and unrealized gains on hedging valuations qualifying for cash flow hedge accounting treatment pursuant to SFAS No. 133.

      Segment Information  The amount of each segment item reported is the measure reported to the chief operating decision maker for purposes of making decisions about allocating resources to the segment and assessing its performance. Adjustments and eliminations made in preparing an enterprise's general-purpose financial statements and allocations of revenues, expenses and gains or losses are included in determining reported segment profit or loss if they are included in the measure of the segment's profit or loss that is used by the chief operating decision maker. Similarly, only those assets that are included in the measure of the segment's assets that is used by the chief operating decision maker is reported for that segment.

      New Accounting Standards  In July 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001 as well as all purchase method business combinations completed after June 30, 2001. SFAS No. 141 also specifies criteria intangible assets acquired in a purchase method business combination must meet to be recognized and reported apart from goodwill, noting that any purchase price allocable to an assembled workforce may not be accounted for separately. SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 also requires that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of.

      HMN adopted the provisions of SFAS No. 141 effective July 1, 2001 and adopted SFAS No. 142 effective January 1, 2002. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001 continued to be amortized prior to the adoption of SFAS No. 142.

      SFAS No. 141 requires that upon adoption of SFAS No. 142, HMN evaluate its existing intangible assets and goodwill that were acquired in a prior purchase business combination, and to make any necessary reclassifications in order to conform with the new criteria in SFAS No. 141 for recognition apart from goodwill. Upon adoption of SFAS No. 142, HMN will be required to reassess the useful lives and residual values of all intangible assets acquired in purchase business combinations, and make any necessary amortization period adjustments by the end of the first interim period after adoption. In addition, to the extent an intangible asset is identified as having an indefinite useful life, HMN will be required to test the intangible asset for impairment in accordance with the provisions of SFAS No. 142 within the first interim period. Any impairment loss will be measured as of the date of adoption and recognized as the cumulative effect of a change in accounting principle in the first interim period.

      In connection with the transitional goodwill impairment evaluation, SFAS No. 142 will require HMN to perform an assessment of whether there is an indication that goodwill [and equity-method goodwill] is impaired as of the date of adoption. To accomplish this HMN must identify its reporting units and determine the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of the date of adoption. HMN will then have up to six months from the date of adoption to determine the fair value of each reporting unit and compare it to the reporting unit's carrying amount. To the extent a reporting unit's carrying amount exceeds its fair value, an indication exists that the reporting unit's goodwill may be impaired and HMN must perform the second step of the transitional impairment test. In the second step, HMN must compare the implied fair value of the reporting unit's goodwill, determined by allocating the reporting unit's fair value to all of it assets (recognized and unrecognized) and liabilities in a manner similar to a purchase price allocation in accordance with SFAS No. 141, to its carrying amount, both of which would be measured as of the date of adoption. This second step is required to be completed as soon as possible, but no later than the end of the year of adoption. Any transitional impairment loss will be recognized as the cumulative effect of a change in accounting principle in HMN's income statement.

      And finally, any unamortized negative goodwill and negative equity-method goodwill existing at the date SFAS No. 142 is adopted must be written off as the cumulative effect of a change in accounting principle.

      On January 1, 2002, the adoption date, HMN had unamortized goodwill in the amount of $3,800,938, unamortized identifiable intangible assets in the amount of $685,509 and no unamortized negative goodwill, all of which will be subject to the transition provisions of SFAS No. 141 and 142. Amortization expense related to goodwill was $180,036 and $180,024 for the years ended December 31, 2001 and 2000, respectively. Because of the extensive effort needed to comply with adopting SFAS No. 141 and 142, it is

35

not practicable to reasonably estimate the impact of adopting these Statements on HMN's financial statements at the date of this report, including whether any transitional impairment losses will be required to be recognized as the cumulative effect of a change in accounting principle.

      In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment of Disposal of Long-Lived Assets. This Statement supersedes FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets to Be Disposed Of, and the accounting and reporting provisions of APB Opinion No. 30, Reporting the Results of Operations—Reporting the Effects of Disposal of a Segment of a Business, And Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for the disposal of a segment of a business (as previously defined in that Opinion). The Statement also amends Accounting Research Bulletin (ARB) No. 51, Consolidated Financial Statements, to eliminate the exception to consolidation for a subsidiary for which control is likely to be temporary. The Statement is effective for financial statements issued for fiscal years beginning after December 15, 2001. Management is currently studying the impact of adopting SFAS No. 144.

      Derivative Financial Instruments  HMN uses derivative financial instruments in order to manage the interest rate risk on residential loans held for sale and its commitments to extend credit for residential loans. HMN also uses interest rate swaps to manage interest rate risk. Derivative financial instruments include commitments to extend credit and forward mortgage loan sales commitments. See Note 20 for additional information concerning these derivative financial instruments.

      Reclassifications  Certain amounts in the consolidated financial statements for prior years have been reclassified to conform with the current year presentation.

NOTE 2  Other Comprehensive Income

      The gross unrealized gains in hedging valuation for the year ended December 31, 2001 was $45,000, the income tax expense would have been $9,000 and therefore, the net gain was $36,000. The gross minority interest in hedging valuation for the year ended December 31, 2001 was $22,000. The net unrealized gains deferred to other comprehensive income was $14,000. There was no hedging valuation in the years ended December 31, 2000 and December 31, 1999. The gross unrealized holding gains on securities for the year ended December 31, 2001 were $3,291,000, the income tax expense would have been $1,302,000 and therefore, the net gain was $1,989,000. The gross reclassification adjustment for 2001 was $671,000, the income tax benefit would have been $269,000 and therefore, the net reclassification adjustment was $402,000. The gross unrealized holding gains on securities for the year ended December 31, 2000 were $1,886,000, the income tax expense would have been $749,000 and therefore, the net gain was $1,137,000. The gross reclassification adjustment for 2000 was $23,000, the income tax benefit would have been $9,000 and therefore, the net reclassification adjustment was $14,000. The gross unrealized holding losses for the year ended December 31, 1999 were $3,818,000, the income tax benefit would have been $1,543,000 and therefore, the net losses were $2,275,000. The gross reclassification adjustment for 1999 was $122,000, the income tax expense would have been $47,000 and therefore, the net reclassification adjustment was $75,000.

36

NOTE 3  Securities Available for Sale

      A summary of securities available for sale at December 31, 2001 and 2000 is as follows:

		Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Fair Value
December 31, 2001:
Mortgage-backed securities:
	FHLMC	$	3,604,282	94,185	0	3,698,467
	FNMA		256,482	4,730	0	261,212
	GNMA		63,051	1,932	0	64,983
Collateralized mortgage obligations:
	FHLMC		22,018,460	82,623	81,587	22,019,496
	FNMA		26,577,974	144,767	50,611	26,672,130
	Other		13,358,285	155,159	0	13,513,444
			65,878,534	483,396	132,198	66,229,732
Other marketable securities:
	U.S. Government and agency obligations		35,304,271	210,087	9,456	35,504,902
	Corporate debt		9,545,532	96,109	0	9,641,641
	Corporate equity		8,589,598	63,744	134,383	8,518,959
			53,439,401	369,940	143,839	53,665,502
		$	119,317,935	853,336	276,037	119,895,234
December 31, 2000:
Mortgage-backed securities:
	FHLMC	$	4,318,192	5,331	3,271	4,320,252
	FNMA		266,853	0	7,973	258,880
	GNMA		81,328	0	865	80,463
Collateralized mortgage obligations:
	FHLMC		24,111,859	7,885	362,508	23,757,236
	FNMA		29,927,398	16,268	440,393	29,503,273
	Other		17,493,607	78,682	112,674	17,459,615
			76,199,237	108,166	927,684	75,379,719
Other marketable securities:
	U.S. Government and agency obligations		37,802,316	12,682	1,227,343	36,587,655
	Corporate debt		16,234,831	25,709	526,849	15,733,691
	Corporate equity		12,354,910	236,914	1,086,400	11,505,424
			66,392,057	275,305	2,840,592	63,826,770
		$	142,591,294	383,471	3,768,276	139,206,489

      Proceeds from securities available for sale which were sold during 2001 were $19,135,721, resulting in gross gains of $349,563 and gross losses of $521. The Company also recognized losses of $1,020,000 resulting from other than temporary impairment. Proceeds from securities available for sale which were sold during 2000 were $41,454,275, resulting in gross gains of $101,689 and gross losses of $124,811. Proceeds from securities available for sale which were sold during 1999 were $32,185,211, resulting in gross gains of $167,461 and gross losses of $45,066.

      The following table indicates amortized cost and estimated fair value of securities available for sale at December 31, 2001, based upon contractual maturity adjusted for scheduled repayments of principal and projected prepayments of principal based upon current economic conditions and interest rates. Actual maturities may differ from the maturities in the following table because obligors may have the right to call or prepay obligations with or without call or prepayment penalties:

		Amortized Cost		Fair Value
Due less than one year		$	69,888,320	70,297,278
Due after one year through five years			39,447,052	39,677,880
Due after five years through ten years			1,190,971	1,197,940
Due after ten years			201,994	203,177
No stated maturity			8,589,598	8,518,959
	Total	$	119,317,935	119,895,234

      The allocation of mortgage-backed securities and collateralized mortgage obligations in the table above is based upon the anticipated future cash flow of the securities using estimated mortgage prepayment speeds.

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NOTE 4  Loans Receivable, Net

      A summary of loans receivable at December 31 is as follows:

		2001			2000
Residential real estate loans:
	1-4 family conventional	$	233,652,113		321,108,675
	1-4 family FHA		488,510		1,032,120
	1-4 family VA		271,356		548,499
			234,411,979		322,689,294
	5 or more family		21,786,780		17,152,215
			256,198,759		339,841,509
Commercial real estate:
	Lodging		23,354,781		23,587,765
	Retail/office		31,776,565		20,333,446
	Nursing home/health care		34,229		3,466,000
	Land developments		4,080,658		3,344,395
	Golf courses		3,901,784		3,009,250
	Warehouse		2,512,748		3,376,881
	Construction		6,366,679		619,917
	Other		19,335,460		9,264,108
			91,362,904		67,001,762
Other loans:
	Autos		6,623,906		6,362,312
	Home equity line		35,713,842		26,907,234
	Home equity		26,439,557		28,144,157
	Other consumer		2,497,502		2,951,519
	Commercial business		54,940,192		48,759,903
	Savings		594,330		695,190
	Mobile home		5,456,362		4,920,549
	Other		1,805,390		914,864
			134,071,081		119,655,728
Total loans			481,632,744		526,498,999
Less:
	Unamortized discounts		278,161		288,828
	Net deferred loan fees		1,211,438		1,348,618
	Allowance for losses		3,783,112		3,143,746
	Loans in process		4,692,261		2,952,598
		$	471,667,772		518,765,209
Weighted average contractual interest rate			7.64	%	8.17	%
Commitments to originate, fund or purchase loans		$	29,738,750		7,799,563
Commitments to deliver loans to secondary market			89,375,910		9,783,453
Loans serviced for others			234,911,618		147,905,114

      Included in total commitments to originate or purchase loans are fixed rate loans aggregating approximately $27,435,250 and $1,355,960 as of December 31, 2001 and 2000, respectively. The interest rates on these commitments ranged from 5.50% to 8.00% at December 31, 2001 and from 7.00% to 10.25% at December 31, 2000.

      At December 31, 2001 and 2000, loans on nonaccrual status totaled $2,159,228 and $1,011,662, respectively. Had the loans performed in accordance with their original terms throughout 2001, HMN would have recorded gross interest income of $207,330 for these loans. Interest income of $125,040 has been recorded on these loans for the year ended December 31, 2001.

      At December 31, 2001 and 2000 there were no loans included in loans receivable, net with terms that had been modified in a troubled debt restructuring.

      There were no material commitments to lend additional funds to customers whose loans were classified as restructured or nonaccrual at December 31, 2001.

      At December 31, 2001, 2000 and 1999, the recorded investment in loans that are considered to be impaired was $2,183,483, $1,416,916 and $817,743, respectively, for which the related allowance for credit losses was $637,233, $117,533 and $95,919, respectively. The average investment in impaired loans during 2001, 2000 and 1999 was $1,385,071, $869,168 and $709,903, respectively. For the years ended December 31, 2001, 2000 and 1999, HMN recognized interest income on impaired loans of $125,040, $68,447 and $41,485, respectively. All of the interest income that was recognized during 2001, 2000 and 1999 for impaired loans was recognized using the cash basis method of income recognition.

      The aggregate amount of loans to executive officers and directors of HMN was $1,324,983, $476,815 and $616,735, at December 31, 2001, 2000 and 1999, respectively. During 2001 repayments on loans to executive officers and directors aggregated $302,869, loans originated aggregated $862,039, and loans added to the executive officer and director listing due to a change in status of the officer or director were $288,998. During 2000 repayments on loans to executive officers and directors were $55,131, new loans to executive officers and directors totaled $3,000, and loans removed from the executive officer listing due to change in status of the officer were $87,789.

      At December 31, 2001, 2000 and 1999, HMN was servicing real estate loans for others with aggregate unpaid principal balances of approximately $234,911,618, $147,905,114 and $128,831,412, respectively.

      HMN originates residential, commercial real estate and other loans primarily in southern Minnesota and Iowa. HMN has also purchased loans from a third party broker located in the Southeastern United States. At December 31, 2001 and 2000, HMN owned single family and multi-family residential loans located in the following states:

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		2001				2000
		Amount		Percent of Total		Amount		Percent of Total
Alabama		$	6,067,456	2.4	%	$	10,119,409	3.0	%
California			2,230,094	0.9			3,334,374	1.0
Connecticut			988,450	0.4			1,115,624	0.3
Florida			4,701,262	1.8			1,483,843	0.4
Georgia			29,548,729	11.5			45,384,328	13.4
Illinois			2,747,398	1.1			3,584,504	1.0
Iowa			15,874,165	6.2			22,339,473	6.6
Maine			1,395,209	0.5			2,144,840	0.6
Massachusetts			3,545,252	1.4			6,001,002	1.8
Minnesota			155,020,259	60.5			196,915,290	57.9
New Hampshire			1,218,104	0.5			1,908,595	0.6
North Carolina			13,181,582	5.1			18,603,691	5.5
Ohio			2,084,060	0.8			3,913,362	1.2
South Carolina			5,206,465	2.0			8,735,174	2.5
Tennessee			2,169,542	0.9			3,668,201	1.1
Wisconsin			8,030,367	3.1			8,067,458	2.4
Other states			2,190,365	0.9			2,522,341	0.7
	Total	$	256,198,759	100.0	%	$	339,841,509	100.0	%

      Amounts under one million dollars are included in "Other states".

      At December 31, 2001 and 2000, HMN owned commercial real estate loans located in the following states:

		2001				2000
		Amount		Percent of Total		Amount		Percent of Total
Alabama		$	1,778,301	1.9	%	$	0	0.0	%
Colorado			1,740,529	1.9			1,754,703	2.6
Iowa			5,562,462	6.1			4,314,396	6.4
Minnesota			73,329,031	80.2			51,746,588	77.2
Montana			2,335,601	2.6			2,388,225	3.6
Nebraska			881,739	1.0			722,091	1.1
New Mexico			702,422	0.8			845,544	1.3
Oregon			1,268,194	1.4			1,326,419	2.0
Texas			3,689,143	4.0			3,813,942	5.7
Wisconsin			75,482	0.1			89,854	0.1
	Total	$	91,362,904	100.0	%	$	67,001,762	100.0	%

NOTE 5  Allowance for Loan and Real Estate Losses

      The allowance for losses is summarized as follows:

		Loans			Real estate		Total
Balance, December 31, 1998		$	3,041,485		8,000		3,049,485
	Provision for losses		240,000		0		240,000
	Charge-offs		(9,792	)	(8,000	)	(17,792	)
	Recoveries		1,618		0		1,618
Balance, December 31, 1999			3,273,311		0		3,273,311
	Provision for losses		180,000		0		180,000
	Charge-offs		(312,455	)	0		(312,455	)
	Recoveries		2,890		0		2,890
Balance, December 31, 2000		$	3,143,746		0		3,143,746
Provision for losses			1,150,000		0		1,150,000
	Charge-offs		(516,337	)	0		(516,337	)
	Recoveries		5,703		0		5,703
Balance, December 31, 2001		$	3,783,112		0		3,783,112

NOTE 6  Accrued Interest Receivable

      Accrued interest receivable at December 31 is summarized as follows:

	2001		2000
Securities available for sale	$	568,014	1,037,030
Loans receivable		2,940,814	3,274,717
	$	3,508,828	4,311,747

NOTE 7  Investment in Mortgage Servicing Rights

      A summary of mortgage servicing activity is as follows:

		2001			2000
Mortgage servicing rights
	Balance, beginning of year	$	1,188,928		1,148,774
	Originations		1,458,321		367,531
	Amortization		(724,513	)	(327,377	)
	Balance, end of year		1,922,736		1,188,928
Valuation reserve
	Balance, beginning of year		0		(25,100	)
	Additions		(19,100	)	0
	Reductions		0		25,100
	Balance, end of year		(19,100	)	0
	Mortgage servicing rights, net		1,903,636		1,188,928
	Fair value of mortgage servicing rights	$	1,939,000		1,476,000

      Mortgage servicing costs, which include professional services related to valuing mortgage servicing rights, were $14,739 and $31,415, respectively, in 2001 and 2000.

      All of the loans being serviced were single family loans serviced for FNMA under the mortgage-backed security program or the individual loan sale program. The following is a summary of the risk characteristics of the loans being serviced at December 31, 2001:

	Loan Principal Balance		Weighted Average Interest Rate		Weighted Average Remaining Term	Number of Loans
Original term 30 year fixed rate	$	100,642,000	7.23	%	338	1,159
Original term 15 year fixed rate		125,597,000	6.55		163	1,845
Seven year balloon		122,000	7.07		315	2
Adjustable rate		3,374,000	7.28		303	26

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NOTE 8  Real Estate

      A summary of real estate at December 31 is as follows:

	2001		2000
Real estate acquired through foreclosure	$	0	194,606
		0	194,606
Allowance for losses		0	0
	$	0	194,606

NOTE 9  Investment in Limited Partnerships

      Investments in limited partnerships at December 31 were as follows:

Primary partnership activity	2001		2000
Mortgage servicing rights	$	991,941	2,257,941
Common stock of financial institutions		265,955	285,524
Low to moderate income housing		265,754	294,899
	$	1,523,650	2,838,364

      During 2001 HMN's proportionate loss from the mortgage servicing partnership was $1,266,000, its proportionate share of losses from the common stock investments in financial institutions was $19,568 and its proportionate loss on low income housing was $26,000. During 2001 HMN received low income housing credits totaling $84,000 which were credited to current income tax benefits.

      During 2000 HMN's proportionate earnings from the mortgage servicing partnership was $35,848, its proportionate share of losses from the common stock investments in financial institutions was $130,053 and its proportionate loss on low income housing was $26,718. During 2000 HMN received low income housing credits totaling $84,000 which were credited to current income tax benefits. During 1999 HMN's proportionate earnings from the mortgage servicing partnership was $599,574, its proportionate share of earnings from the common stock investments in financial institutions was $387 and its proportionate loss on low income housing was $49,908. During 1999 HMN received low income housing credits totaling $84,000 which were credited to current income tax benefits.

NOTE 10  Premises and Equipment

      A summary of premises and equipment at December 31 is as follows:

	2001		2000
Land	$	1,580,096	1,479,910
Office buildings and improvements		8,375,777	7,615,356
Furniture and equipment		7,737,924	6,159,587
		17,693,797	15,254,853
Less accumulated depreciation		6,833,041	5,795,143
	$	10,860,756	9,459,710

NOTE 11  Deposits

      Deposits and their weighted average interest rates at December 31 are summarized as follows:

	2001						2000
	Weighted Average Rate		Amount		Percent of Total		Weighted Average Rate		Amount		Percent of Total
Noninterest checking	0.00	%	$	18,147,377	4.3	%	0.00	%	$	12,922,925	3.1	%
NOW accounts	0.64			40,226,061	9.5		1.50			33,067,936	7.8
Passbooks	0.75			32,738,309	7.8		2.00			32,741,841	7.7
Money market accounts	1.89			45,001,866	10.7		4.43			34,427,015	8.2
				136,113,613	32.3					113,159,717	26.8
Certificates:
1-1.99%				2,784,991	0.7					0	0.0
2-2.99%				34,924,430	8.3					244,204	0.1
3-3.99%				64,330,025	15.2					15,883,674	3.8
4-4.99%				64,096,795	15.2					38,420,432	9.1
5-5.99%				35,908,810	8.5					52,713,635	12.5
6-6.99%				70,282,159	16.6					159,764,813	37.9
7-7.99%				13,402,546	3.2					41,504,073	9.8
Total certificates	4.52			285,729,756	67.7		6.02			308,530,831	73.2
Total deposits	3.38		$	421,843,369	100.0	%	5.02		$	421,690,548	100.0	%

      At December 31, 2001 and 2000, HMN had $52,318,424 and $46,235,796, respectively, of certificate accounts with balances at $100,000 or more. At December 31, 2001 and 2000, HMN had $15,000,000 and $10,000,000 of certificate accounts, respectively, that had been acquired through a broker.

40

      Certificates had the following maturities at December 31:

	2001				2000
Remaining Term to Maturity	Amount (In Thousands)		Weighted Average Rate		Amount (In Thousands)		Weighted Average Rate
1-6 months	$	141,450	5.13	%	$	107,347	5.78	%
7-12 months		45,670	3.50			94,639	6.13
13-36 months		76,196	4.44			85,165	6.13
Over 36 months		22,414	3.02			21,380	6.24
	$	285,730	4.52		$	308,531	6.02

      At December 31, 2001 mortgage loans and mortgage-backed and related securities with an amortized cost of approximately $71,677,416 were pledged as collateral for certain deposits and $595,000 of letters of credit from the Federal Home Loan Bank (FHLB) were pledged as additional collateral on Bank deposits.

      Interest expense on deposits is summarized as follows for the years ended December 31:

	2001		2000	1999
NOW	$	315,149	310,503	239,216
Passbook		454,628	683,613	715,707
Money market		897,875	1,237,646	1,004,910
Certificates		16,910,696	16,900,744	15,965,906
	$	18,578,348	19,132,506	17,925,739

NOTE 12  Federal Home Loan Bank Advances

      Federal Home Loan Bank advances consisted of the following at December 31, 2001 and 2000:

	2001				2000
Year of Maturity
	Amount		Rate		Amount		Rate
2001						38,000,000	6.79	%
2002	$	9,500,000	4.42	%		9,500,000	6.16
2003		64,400,000	3.47			54,400,000	6.44
2004		33,000,000	5.01			20,000,000	5.79
2008		90,000,000	5.40			90,000,000	5.40
2010		10,000,000	6.48			10,000,000	6.48
2011		10,900,000	4.81			0	0.00
		217,800,000	4.75			221,900,000	6.01
Lines of Credit		0	0.00			0	0.00
	$	217,800,000	4.75		$	221,900,000	6.01

      Many of the advances listed above have call provisions which allow the FHLB to request that the advance be paid back or refinanced at the rates then being offered by the FHLB. As of December 31, 2001, HMN had advances from the FHLB with the following call features:

Year of Maturity	Callable Quarterly in Year 2002		Callable Quarterly in Year 2003	Callable Quarterly in Year 2004	Callable Quarterly in Year 2005
2004	$	15,000,000	0	0	0
2008		10,000,000	80,000,000	0	0
2010		0	0	0	10,000,000
2011		0	0	10,900,000	0
	$	25,000,000	80,000,000	10,900,000	10,000,000

      At December 31, 2001 the advances from the FHLB were collateralized by the Bank's FHLB stock and mortgage loans with unamortized principal balances of approximately $355,500,000 and securities with unamortized principal balances of approximately $10,500,000. The Bank has the ability to draw additional borrowings of $36,400,000 based upon the mortgage loans and securities that are currently pledged subject to a requirement to purchase FHLB stock.

NOTE 13  Other Borrowed Money

      HMN had established a $2,500,000 revolving line of credit with a bank that was not drawn at December 31, 2001 or 2000. The line of credit matures September 30, 2002. The interest rate on the line floats with the Federal Funds Rate plus 250 basis points.

41

NOTE 14  Income Taxes

      Income tax expense for the years ended December 31 is as follows:

			2001			2000	1999
Current:
	Federal		$	2,773,200		2,663,500	2,751,700
	State			682,785		781,000	794,700
	Total current			3,455,985		3,444,500	3,546,400
Deferred:
	Federal			(638,000	)	275,700	317,300
	State			(183,600	)	77,700	96,800
		Total deferred		(821,600	)	353,400	414,100
			$	2,634,385		3,797,900	3,960,500

      The reasons for the difference between "expected" income tax expense utilizing the federal corporate tax rate of 34% and the actual income tax expense are as follows:

		2001			2000		1999
Federal expected income tax expense		$	2,751,300		3,570,100		3,519,500
Items affecting federal income tax:
	Dividend received deduction		(108,200	)	(92,400	)	(121,600	)
	Reduction of tax rate due to resolution of tax law		0		(200,400	)	0
	State income taxes, net of federal income tax benefit		329,500		568,600		587,200
	Reduction of tax rate due to employee stock ownership plan dividends		(313,000	)	0		0
	Low income housing credits		(84,000	)	(84,000	)	(84,000	)
	Other, net		58,785		36,000		59,400
		$	2,634,385		3,797,900		3,960,500

      The tax effects of temporary differences that give rise to the deferred tax assets and deferred tax liabilities are as follows at December 31:

			2001			2000
Deferred tax assets:
	Allowances for loan and real estate losses		$	1,504,500		1,250,200
	Investment in limited partnership			118,900		0
	Discounts on assets and liabilities acquired from MFC			22,200		22,200
	Deferred compensation and pension costs			243,100		258,300
	Restricted stock awards			0		1,200
	Mortgage loan servicing rights			3,850		21,600
	Impairment losses on securities available for sale			407,700		0
	Net unrealized loss on securities available for sale			0		1,347,800
		Total gross deferred tax assets		2,300,250		2,901,300
	Valuation allowance			0		0
		Net deferred tax assets		2,300,250		2,901,300
Deferred tax liabilities:
	Tax bad debt reserve over base year			480,000		720,000
	Premium on assets acquired from MFC			273,600		317,200
	Investment in limited partnership			0		300,900
	Net unrealized gain on market value adjustments to securities available for sale			223,000		0
	FHLB stock			465,600		465,600
	Deferred loan fees and costs			437,400		370,700
	Premises and equipment basis difference			633,350		495,200
	Originated mortgage servicing rights			726,800		414,600
	Other			35,500		26,400
	Unamortized discount on loan sale			1,900		9,400
		Total gross deferred tax liabilities		3,277,150		3,120,000
		Net deferred tax liabilities	$	(976,900	)	(218,700	)

      Retained earnings at December 31, 2001 included approximately $8,800,000 for which no provision for income taxes was made. This amount represents allocations of income to bad debt deductions for tax purposes. Reduction of amounts so allocated for purposes other than absorbing losses will create income for tax purposes, which will be subject to the then-current corporate income tax rate.

NOTE 15  Employee Benefits

      At December 31, 2001 substantially all full-time employees of the Bank are included in a trusteed noncontributory retirement plan sponsored by the Financial Institutions Retirement Fund (FIRF). The actuarial present value of accumulated plan benefits and net assets

42

available for benefits relating to the Bank's employees is not available at December 31, 2001 because such information is not accumulated for each participating institution. As of June 30, 2001, the FIRF valuation report reflected that the Bank was obligated to make contributions for the plan year ending June 30, 2002 totaling $155,000. Effective February 1, 2002, the Bank reduced the benefits provided in the plan so that the annual contribution required for that period would approximate $8,100. No contributions were required in 2000 or 1999 because the retirement plan was fully funded. For the years ended December 31, 2001, 2000 and 1999 the amounts charged to operating expenses were $700, $5,749 and $5,500, respectively.

      HMN has a qualified, tax-exempt savings plan with a cash or deferred feature qualifying under Section 401(k) of the Internal Revenue Code (the 401(k) Plan). All employees who have attained age 21 are eligible to participate in the Plan. Participants are permitted to make salary reduction contributions to the 401(k) Plan of up to 12% of the participant's annual salary. Each participant's salary reduction is matched by HMN in an amount equal to 25% of the participant's salary reduction up to a maximum contribution of 8% of the participant's annual salary. Contributions above 8% are not matched by HMN. Generally all participant contributions and earnings are fully and immediately vested. HMN's matching contribution is made monthly but an employee must be employed by HMN on the last day of the plan year in order to vest the current year's employer match. Effective January 1, 1997, for new employees HMN's contributions are vested on a five year cliff basis in addition to the requirement of being employed at year end. HMN's matching contributions are expensed when made. HMN's contributions to the 401(k) Plan were $71,200, $60,700 and $63,400 in 2001, 2000 and 1999, respectively.

      During 1994 HMN adopted an Employee Stock Ownership Plan (the ESOP) which met the requirements of Section (e)(7) of the Internal Revenue Code and Section 407 (d)(6) of the Employee Retirement Income Security Act of 1974, as amended (ERISA) and, as such the ESOP was empowered to borrow in order to finance purchases of the common stock of HMN. The ESOP borrowed $6,085,770 from HMN to purchase 912,866 shares of common stock in the initial public offering of HMN. In December of 1997 the Bank merged with Marshalltown Financial Corporation (MFC). As a result of the merger, in February 1998, the ESOP borrowed $1,476,000 to purchase 76,933 shares of HMN common stock to provide the employees from MFC with an ESOP benefit. The ESOP debt requires quarterly payments of principal plus interest at 7.52%. HMN has committed to make quarterly contributions to the ESOP necessary to repay the loan including interest. HMN contributed $525,224, $526,568 and $525,220 to the ESOP, respectively, during 2001, 2000 and 1999.

      As the debt is repaid, ESOP shares which were initially pledged as collateral for its debt, are committed to be released from collateral and allocated to active employees, based on the proportion of debt service paid in the year. HMN accounts for its ESOP in accordance with Statement of Position 93-6, Employers' Accounting for Employee Stock Ownership Plans. Accordingly, the shares pledged as collateral are reported as unearned ESOP shares in stockholders' equity. As shares are determined to be ratably released from collateral, HMN reports compensation expense equal to the current market price of the shares, and the shares become outstanding for earnings per share computations. ESOP compensation benefit expense was $365,921, $287,073 and $302,027, respectively, for 2001, 2000 and 1999.

      All employees of the Bank are eligible to participate in the ESOP after they attain age 21 and complete one year of service during which they worked at least 1,000 hours. A summary of the ESOP share allocation is as follows for the years ended:

	2001			2000		1999
Shares allocated to participants beginning of the year	$	246,710		245,294		246,721
Shares allocated to participants		24,317		24,382		24,317
Shares purchased with dividends from allocated shares		7,884		4,012		7,268
Shares distributed to participants		(45,214	)	(26,978	)	(33,012	)
Shares allocated to participants end of year		233,697		246,710		245,294
Unreleased shares beginning of the year		669,064		693,446		717,763
Shares released during year		(24,317	)	(24,382	)	(24,317	)
Unreleased shares end of year		644,747		669,064		693,446
Total ESOP shares end of year		878,444		915,774		938,740
Fair value of unreleased shares at December 31	$	9,987,131		8,739,648		7,801,268

      In June of 1995, HMN as part of a Recognition and Retention Plan (RRP) awarded 126,729 shares of restricted common stock to its officers and directors. The shares vested over a five year period and were issued from treasury stock. In April 1997, 3,000 shares of restricted common stock were awarded to a director. Those shares vest over a five year period beginning in 1998. Compensation and benefit expense related to the restricted stock was $2,450, $86,708, and $170,830, respectively, for 2001, 2000 and 1999.

      In June 1995, HMN adopted the 1995 Stock Option and Incentive Plan (the SOP). During 1995, options exercisable for 821,569 shares of HMN common stock were granted to certain officers and directors at an exercise price of $9.211 per share. The options vest over a five year period and may be exercised within 10 years of the grant date. In December 1996, options exercisable for 1,500 shares of common stock were granted to officers at an exercise price of $12.089. In April 1997, options for 18,000 shares of common stock were granted to a director at an exercise price of $13.007. In April 1999, options for 80,000 shares of common stock were granted to an officer and directors at an exercise price of $11.50. In April 2000, options for 30,000 shares were granted to directors at an exercise price of $11.25.

      In March 2001, HMN adopted the HMN Financial, Inc. 2001 Omnibus Stock Plan (2001 Plan). The purpose of the 2001 Plan was to promote the interests of HMN and its stockholders by providing key personnel with an opportunity to acquire a proprietary interest in HMN and reward them for achieving a high level of corporate performance and thereby develop a stronger incentive to put forth maximum effort for the success and growth of HMN. The total number of shares of HMN common stock available for distribution under the 2001 Plan in either restricted stock or stock options is 400,000 subject to adjustment for future stock splits, stock dividends and similar changes to the capitalization of HMN. No awards were made pursuant to the 2001 Plan during 2001.

43

      The fair value of the options granted under the SOP were $2.59, $4.11, $6.08, $5.55 and $4.49 for 2000, 1999, 1998, 1997 and 1995, respectively. A summary of stock option activity under the SOP is detailed as follows:

		Options available for grant		Options outstanding		Weighted average exercise price
1995 Stock Option and Incentive Plan
	December 31, 1998	111,799		727,246		$	9.308
	Exercised			(49,516	)		9.211
	Forfeited	6,848		(6,848	)		9.211
	Granted April 27, 1999	(80,000	)	80,000			11.500
	December 31, 1999	38,647		750,882			9.549
	Exercised			(91,742	)		9.211
	Forfeited	750		(750	)		12.089
	Granted May 23, 2000	(30,000	)	30,000			11.250
	December 31, 2000	9,397		688,390			9.665
	Exercised			(171,271	)		9.211
	Forfeited	15,000		(15,000	)		11.500
	December 31, 2001	24,937		502,119			9.765
2001 Omnibus Stock Plan
	December 31, 2001 (potential award)	400,000		0

      The following table summarizes information about stock options outstanding at December 31, 2001:

Options Outstanding				Options Exercisable
Exercise Price		Number outstanding	Weighted average remaining contractual life in years	Number	Price
$	9.211	389,119	3.4	389,119	$	9.211
	13.007	18,000	5.3	14,300		13.007
	11.500	65,000	7.3	26,000		11.500
	11.250	30,000	8.4	6,000		11.250
		502,119		435,519

      HMN uses the intrinsic value method as described in APB Opinion No. 25 and related interpretations to account for its stock incentive plans. Accordingly, no compensation cost has been recognized for the option plan. Proceeds from stock options exercised are credited to common stock and additional paid-in capital. There are no charges or credits to expense with respect to the granting or exercise of options since the options were issued at fair value on the respective grant dates. Had compensation cost for HMN's stock-based plan been determined in accordance with the fair value method recommended by SFAS No. 123, HMN's net income and earnings per share would have been adjusted to the pro forma amounts indicated below:

			2001		2000	1999
Net income:
	As reported		$	5,457,616	6,702,310	6,390,991
	Pro forma			5,464,421	6,508,031	6,169,114
Earnings per common share:
	As reported:
		Basic	$	1.45	1.75	1.47
		Diluted		1.37	1.69	1.41
	Pro forma:
		Basic		1.45	1.70	1.42
		Diluted		1.37	1.64	1.36

      The preceding disclosed pro forma effects of applying SFAS No. 123 to compensation costs, may not be representative of the effects on reported pro forma net income for future years.

      The fair value for each option grant for the SOP is estimated on the date of the grant using the Option Designer Model. The model incorporated the following assumptions for each year of grant:

	2000		1999		1998		1997		1995
Risk free interest rate	6.49	%	5.59	%	6.80	%	6.21	%	6.28	%
Expected life	9 years		9 years		10 years		10 years		10 years
Expected volarity	15.60	%	30.00	%	18.00	%	18.00	%	20.00	%
Expected dividends	5.0	%	2.1	%	None		None		None

NOTE 16  Earnings per Share

          The following table reconciles the weighted average shares outstanding and the income available to common shareholders used for basic and diluted EPS:

		Year Ended December 31,
		2001		2000	1999
Weighted average number of common shares outstanding used in basic earnings per common share calculation			3,761,115	3,831,353	4,340,551
Net dilutive effect of:
	Options		212,854	137,568	181,930
	Restricted stock awards		509	1,767	16,828
Weighted average number of shares outstanding adjusted for effect of dilutive securities			3,974,478	3,970,688	4,539,309
Income available to common shareholders		$	5,457,616	6,702,310	6,390,991
Basic earnings per common share		$	1.45	1.75	1.47
Diluted earnings per common share		$	1.37	1.69	1.41

44

NOTE 17  Stockholders' Equity

          Starting in 1995 and continuing throughout 2001, HMN has repurchased its common stock in the open market. HMN purchased 105,200 shares during 2001, 439,000 shares during 2000 and 568,400 shares during 1999 for $1,584,152, $5,091,726 and $7,271,668, respectively. The shares were placed in treasury stock.

      HMN declared and paid dividends as follows:

Record date	Payable date	Dividend per share
February 24, 1999	March 10, 1999	$	0.08
May 26, 1999	June 10, 1999	$	0.08
August 25, 1999	September 10, 1999	$	0.08
November 23, 1999	December 10, 1999	$	0.08
February 24, 2000	March 10, 2000	$	0.10
May 25, 2000	June 12, 2000	$	0.10
August 28, 2000	September 11, 2000	$	0.12
November 22, 2000	December 11, 2000	$	0.12
February 22, 2001	March 8, 2001	$	0.12
May 24, 2001	June 11, 2001	$	0.12
August 28, 2001	September 11, 2001	$	0.14
November 23, 2001	December 12, 2001	$	0.14

      On January 22, 2002 HMN declared a cash dividend of $0.14 per share payable on March 7, 2002 to holders of record on February 21, 2002.

      HMN's certificate of incorporation authorizes the issuance of up to 500,000 shares of preferred stock, but to date no shares have been issued.

      In order to grant a priority to eligible accountholders in the event of future liquidation, the Bank, at the time of conversion established a liquidation account equal to its regulatory capital as of September 30, 1993. In the event of future liquidation of the Bank, an eligible accountholder who continues to maintain their deposit account shall be entitled to receive a distribution from the liquidation account. The total amount of the liquidation account will be decreased as the balance of eligible accountholders are reduced subsequent to the conversion, based on an annual determination of such balance.

      The Bank may not declare or pay a cash dividend to HMN if the total amount of the dividends for the year exceeds the Bank's net income for the year plus the Bank's retained net income for the preceding two years without filing a capital distribution application with the OTS. Additional limitations on dividends declared or paid on, or repurchases of, the Bank's capital stock are tied to the Bank's level of compliance with its regulatory capital requirements.

NOTE 18  Federal Home Loan Bank Investment and Regulatory Capital Requirements

      The Bank, as a member of the Federal Home Loan Bank System, is required to hold a specified number of shares of capital stock, which is carried at cost, in the Federal Home Loan Bank of Des Moines. The Bank has met the requirements as of December 31, 2001.

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

      Quantitative measures established by regulations to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the following table) of Tier I or Core capital, and Risk-based capital (as defined in the regulations) to total assets (as defined). Management believes, as of December 31, 2001, that the Bank meets all capital adequacy requirements to which it is subject.

      Management believes that based upon the Bank's capital calculations at December 31, 2001 and other conditions consistent with the Prompt Corrective Actions Provisions of the OTS regulations, the Bank would be categorized as well capitalized.

45

      At December 31, 2001 the Bank's capital amounts and ratios are also presented for actual capital, required capital, and excess capital including amounts and ratios in order to qualify as being well capitalized under the Prompt Corrective Actions regulations:

		Actual					Required To Be Adequately Capitalized				Excess Capital				To Be Well Capitalized Under Prompt Corrective Actions Provision
		Amount			Percent of Assets(1)		Amount		Percent of Assets(1)		Amount		Percent of Assets(1)		Amount		Percent of Assets(1)
Bank stockholder's equity		$	60,213
Plus:
	Net unrealized loss (gain) on certain securities available for sale and cash flow hedges		(393	)
Less:
	Goodwill and other intangibles		4,486
	Excess mortgage servicing rights.		99
Tier I or core capital			55,235
	Tier I capital to adjusted total assets				7.81	%	$	28,299	4.00	%	$	26,936	3.81	%	$	35,374	5.00	%
	Tier I capital to risk-weighted assets				11.90	%	$	18,561	4.00	%	$	36,674	7.90	%	$	27,842	6.00	%
Plus:
	Allowable allowance for loan losses		3,098
	Risk-based capital	$	58,333				$	37,122			$	21,211			$	46,403
	Risk-based capital to risk-weighted assets.				12.57	%			8.00	%			4.57	%			10.00	%

(1)

Based upon the Bank's adjusted total assets for the purpose of the Tier I or core capital ratios and risk-weighted assets for the purpose of the risk-based capital ratio.

NOTE 19  Financial Instruments with Off-Balance Sheet Risk

        HMN is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the balance sheet. The contract amounts of these instruments reflect the extent of involvement by HMN.

      HMN's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contract amount of these commitments. HMN uses the same credit policies in making commitments as it does for on-balance sheet instruments.

		Contract Amount
		2001		2000
		(In Thousands)
Financial instruments whose contract amount represents credit risk:
	Commitments to extend credit	$	115,883	64,980
	Commitment of counter party to purchase loans		89,376	9,783
Financial instruments whose contract amount represents interest rate risk:
	Interest rate swap	$	15,000	10,000

      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. Since a portion 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 creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on the loan type and on management's credit evaluation of the borrower. Collateral consists primarily of residential real estate and personal property.

      Commitments of counter party to purchase loans represents commitments to sell loans to FNMA and are entered into in the normal course of business by the Bank.

      Interest rate swaps are derivative instruments that involve the contractual exchange of fixed and floating rate interest payment obligations based on a notional principal amount. The contractual arrangement is made to enhance management of interest rate risk exposure caused by fluctuations in interest rates. In 2000, HMN entered into an interest rate swap with a notional amount of $10,000,000. The interest rate swap is used as a fair value hedge for a certificate of deposit.

NOTE 20  Derivative Instruments and Hedging Activities

      HMN adopted SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended, in the first quarter of 2001 when it had an outstanding interest rate swap of $10 million. A transition adjustment of $75,637 was recorded on January 1, 2001 as an increase to other assets and also as an increase to the related certificate of deposit. The swap for $10 million was called in July 2001, and HMN simultaneously called the certificate of deposit

46

relating to that swap. In July HMN entered into another interest rate swap for $15 million. Under the new interest rate swap, HMN pays interest based upon the three month London Inter-Bank Offer Rate (LIBOR) and receives interest payments based upon a fixed rate of 6.0% on a notional value of $15 million in a fair value hedge with no ineffectiveness. The hedge is offsetting a callable certificate of deposit for $15 million that was issued by HMN. At December 31, 2001 the interest rate swap had a market value adjustment of $182,117 which is included in other liabilities. The corresponding certificate of deposit was adjusted by the same amount and is reflected in deposits in the consolidated balance sheet of HMN. The interest rate swap was deemed to be totally effective and therefore no gain or loss was recorded in the income statement.

      HMN originates and purchases single family residential loans for sale into the secondary market and enters into commitments to sell in order to mitigate the interest rate risk associated with holding the loans until they are sold. At the beginning of the second quarter of 2001, commitments to sell loans held for sale were designated as a cash flow hedge of a forecasted transaction and were accounted for in accordance with SFAS No. 133 with no ineffectiveness recognized in the income statement. The derivative recorded in the balance sheet is a consolidated number that is partially owned by a minority interest. At December 31, 2001, the carrying value of the derivatives were marked by a $44,795 increase in other assets, the deferred tax liability was $9,000, the minority interest amount was $21,950, and the unrealized gain in other comprehensive income was $13,845.

      As the loans held for sale are ultimately sold, the gains currently in accumulated other comprehensive income will be reclassified into the gains and losses on sale of loans in the income statement. It is estimated that all the loans held for sale at December 31, 2001 will be sold in the next three months.

      HMN has commitments outstanding to extend credit to future borrowers or to purchase loans that had not closed prior to the end of the year which it refers to as its mortgage pipeline. Most of the time, as commitments to originate or purchase loans enter the mortgage pipeline, HMN simultaneously enters into commitments to sell the mortgage pipeline into the secondary market in order to reduce the interest rate risk from when the loan is committed until it is sold. These commitments are freestanding derivatives. As a result of marking the mortgage pipeline and the related commitments to sell the loan to market for the year ended December 31, 2001, HMN recorded an increase to other assets of $294,388 and an increase to other liabilities of $294,388. The net impact on the income statement of recording these derivatives at fair value was zero. Some commitments to originate or purchase loans did not have a corresponding commitment to sell at December 31, 2001. The commitments were marked to market which resulted in an increase to other liabilities of $18,527 and a loss in the gains or losses on sales of loans of $18,527.

      Loans held for sale include loans that do not qualify for hedge accounting. A significant portion of these loans have corresponding commitments to sell associated with them. As a result of marking these loans to the lower of cost or market and recording the commitment to sell at fair value, loans held for sale were reduced by $999,314 and other assets were increased by $999,314. The net impact on the income statement was zero. A portion of these loans did not have a commitment associated with them and the lower of cost or market adjustment resulted in a reduction of loans held for sale of $141,822 and a loss in gains or losses on sales of loans of $141,822.

NOTE 21  Fair Value of Financial Instruments

      SFAS No. 107, Disclosures about Fair Values of Financial Instruments, requires disclosure of estimated fair values of HMN's financial instruments, including assets, liabilities and off-balance sheet items for which it is practicable to estimate fair value. The fair value estimates are made as of December 31, 2001 and 2000 based upon relevant market information, if available, and upon the characteristics of the financial instruments themselves. Because no market exists for a significant portion of HMN's financial instruments, fair value estimates are based upon judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. The 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 based only on existing financial instruments without attempting to estimate the value of anticipated future business or the value of assets and liabilities that are not considered financial instruments. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on the fair value estimates and have not been considered in any of the estimates.

      The estimated fair value of HMN's financial instruments are shown on the following page. Following the table, there is an explanation of the methods and assumptions used to estimate the fair value of each class of financial instruments.

47

		December 31,
		2001						2000
		Carrying Amount			Estimated Fair Value		Contract Amount	Carrying Amount	Estimated Fair Value	Contract Amount
		(In Thousands)
Financial assets:
	Cash and cash equivalents	$	23,019		23,019			14,417	14,417
	Securities available for sale		119,895		119,895			139,206	139,206
	Loans held for sale		68,018		68,018			7,861	7,861
	Loans receivable, net		471,668		494,350			518,765	527,635
	Federal Home Loan Bank stock		12,245		12,245			12,245	12,245
	Accrued interest receivable		3,509		3,509			4,312	4,312
Financial liabilities:
	Deposits		421,843		426,763			421,691	421,675
	Federal Home Loan Bank advances		217,800		224,880			221,900	219,559
	Accrued interest payable		1,017		1,017			1,576	1,576
Off-balance sheet financial instruments:
	Commitments to extend credit		(313	)	(313	)	115,883	0	63	64,980
	Commitments to sell loans		1,294		1,294		89,376	0	0	9,783
	Interest rate swap		(182	)	(182	)	15,000	0	76	10,000

      Cash and Cash Equivalents  The carrying amount of cash and cash equivalents approximates their fair value.

      Securities Available for Sale  The fair values of securities were based upon quoted market prices.

      Loans Held for Sale  The fair value of loans held for sale were based upon quoted market prices for loans with similar interest rates and terms to maturity.

      Loans Receivable  The fair values of loans receivable were estimated for groups of loans with similar characteristics. The fair value of the loan portfolio, with the exception of the adjustable rate portfolio, was calculated by discounting the scheduled cash flows through the estimated maturity using anticipated prepayment speeds and using discount rates that reflect the credit and interest rate risk inherent in each loan portfolio. The fair value of the adjustable loan portfolio was estimated by grouping the loans with similar characteristics and comparing the characteristics of each group to the prices quoted for similar types of loans in the secondary market.

      Federal Home Loan Bank Stock  The carrying amount of FHLB stock approximates its fair value.

      Accrued Interest Receivable  The carrying amount of accrued interest receivable approximates its fair value since it is short-term in nature and does not present unanticipated credit concerns.

      Deposits  Under SFAS No. 107, the fair value of deposits with no stated maturity such as checking, savings and money market accounts, is equal to the amount payable on demand. The fair value of certificates of deposit is based on the discounted value of contractual cash flows using as discount rates the rates that were offered by HMN as of December 31, 2001 and 2000 for deposits with maturities similar to the remaining maturities of the existing certificates of deposit.

      The fair value estimate for deposits does not include the benefit that results from the low cost funding provided by HMN's existing deposits and long-term customer relationships compared to the cost of obtaining different sources of funding. This benefit is commonly referred to as the core deposit intangible.

      Federal Home Loan Bank Advances and Other Borrowed Money  The fair values of advances and other borrowed money with fixed maturities are estimated based on discounted cash flow analysis using as discount rates the interest rates charged by the FHLB or Wells Fargo Bank Minnesota, N.A. at December 31, 2001 and 2000 for borrowings of similar remaining maturities.

      Accrued Interest Payable  The carrying amount of accrued interest payable approximates its fair value since it is short-term in nature.

      Commitments to Extend Credit  The fair value of commitments to extend credit for 2000 are estimated using the fees normally charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counter parties. The fair value of commitments to extend credit for 2001 are estimated using quoted market prices.

      Interest Rate Swap  The fair value of interest rate swaps is estimated based upon the present value of the anticipated cash flows that will be received from the interest rate swap, taking into account the existing spread between the fixed interest rate and the variable interest rate and the remaining time to the anticipated call date.

48

NOTE 22  HMN Financial, Inc. Financial Information (Parent Company Only)

      The following are the condensed financial statements for the parent company only as of December 31, 2001 and 2000 and for the years ended December 31, 2001, 2000 and 1999.

			2001			2000		1999
Condensed Balance Sheets
Assets:
	Cash and cash equivalents		$	2,910,068		56,829
	Securities available for sale			7,433,709		7,818,735
	Loans receivable from subsidiaries			714,882		4,460,392
	Investment in subsidiaries			60,390,180		54,215,145
	Investment in limited partnership			265,955		285,524
	Accrued interest receivable			119,827		208,810
	Prepaid expenses and other assets			281,369		143,737
	Deferred tax asset			220,700		325,700
		Total assets	$	72,336,690		67,514,872
Liabilities and Stockholders' Equity
	Other borrowed money		$	0		750,000
	Accrued expenses and other liabilities			175,339		139,224
		Total liabilities		175,339		889,224
	Serial preferred stock			0		0
	Common stock			91,287		91,287
	Additional paid-in capital			59,168,782		59,584,176
	Retained earnings			76,956,978		73,380,588
	Net unrealized loss on securities available for sale			367,744		(2,037,005	)
	Unearned employee stock option plan shares			(5,124,746	)	(5,318,067	)
	Unearned compensation restricted stock awards			(7,350	)	(9,800	)
	Treasury stock, at cost, 4,737,521 and 4,370,285 shares			(59,291,344	)	(59,065,531	)
		Total stockholders' equity		72,161,351		66,625,648
		Total liabilities and stockholders' equity	$	72,336,690		67,514,872
Condensed Statements of Income
	Interest income		$	651,478		802,647		962,179
	Interest expense			(14,557	)	(34,443	)	(36,027	)
	Securities gains (losses), net			(130,344	)	0		42,547
	Equity in earnings of subsidiaries			5,282,142		6,592,861		5,997,933
	Earnings (loss) in limited partnership			(19,568	)	(130,053	)	387
	Other income			0		3,073		9,658
	Compensation and benefits			(48,601	)	(45,219	)	(16,480	)
	Occupancy			(6,324	)	(6,132	)	(6,349	)
	Advertising			0		0		(190	)
	Data processing			(2,722	)	(3,762	)	(1,323	)
	Other			(458,788	)	(499,462	)	(450,344	)
		Income before income tax expense		5,252,716		6,679,510		6,501,991
	Income tax expense (benefit)			(204,900	)	(22,800	)	111,000
		Net income	$	5,457,616		6,702,310		6,390,991
Condensed Statements of Cash Flows
Cash flows from operating activities:
	Net income		$	5,457,616		6,702,310		6,390,991
	Adjustments to reconcile net income to cash provided (used) by operating activities:
		Equity in earnings of subsidiaries		(5,282,142	)	(6,592,861	)	(5,997,933	)
		Equity in (earnings) loss in limited partnership		19,568		130,053		(387	)
		Amortization of discounts, net		0		0		(25,091	)
		Securities gains (losses), net		130,344		0		(42,547	)
		(Decrease) increase in provision for deferred income taxes		(171,800	)	(11,200	)	200
		Earned employee stock ownership shares priced above original cost		102,572		55,197		64,414
		Decrease in restricted stock awards		2,450		86,708		170,830
		Decrease in unearned ESOP shares		193,321		193,784		193,301
		(Increase) decrease in accrued interest receivable		88,983		(65,756	)	201,861
		Increase in accrued expenses and other liabilities		41,073		64,586		37,943
		Decrease in other assets		51,583		360,244		207,113
	Other, net			0		(1	)	54,379
	Net cash provided by operating activities			633,568		923,064		1,255,074

49

Cash flows from investing activities:
	Proceeds from sales of securities available for sale		$	3,634,968		0		655,104
	Proceeds collected on maturity of securities available for sale			0		0		4,931,000
	Purchases of securities available for sale			(2,688,600	)	0		(5,834,479	)
	Decrease of investments in subsidiaries			1,096,972		548,462		0
	Net decrease in loans receivable from subsidiaries			3,745,510		302,239		7,672,001
		Net cash provided by investing activities		5,788,850		850,701		7,423,626
Cash flows from financing activities:
	Purchase of treasury stock			(1,584,152	)	(5,091,726	)	(7,271,668	)
	Stock options exercised			646,199		601,134		255,548
	Dividends to stockholders			(1,881,226	)	(1,744,730	)	(1,392,361	)
	Increase (decrease) in other borrowed money			(750,000	)	750,000		(3,525,000	)
	Proceeds from dividends on Bank stock			0		3,000,000		4,000,000
	Net cash used by financing activities			(3,569,179	)	(2,485,322	)	(7,933,481	)
	Increase (decrease) in cash and cash equivalents			2,853,239		(711,557	)	745,219
Cash and cash equivalents, beginning of year				56,829		768,386		23,167
Cash and cash equivalents, end of year			$	2,910,068		56,829		768,386

50

NOTE 23  Business Segments

      HMN's wholly owned subsidiary, Home Federal Savings Bank and its 51% owned subsidiary, Home Federal Mortgage Services, LLC (HFMS) have been identified as reportable operating segments in accordance with the provisions of SFAS No. 131. HFMS was deemed to be a segment because it is a separate corporation which operates independently from the Bank. HFMS has been segmented further into Mortgage Servicing Rights and Mortgage Banking activities. The mortgage servicing segment owns servicing rights on loans which have either been sold to FNMA or securitized into mortgage backed instruments which were issued by FNMA. HFMS receives a servicing fee which is based upon the outstanding balance of the loan being serviced and pays a subservicer a monthly fee to service the loan. HFMS's mortgage banking activity includes an origination function and it also purchases loans from other loan originators. All loans acquired either by origination or by purchase are intended to be resold in the secondary loan market.

      Security Finance Corporation, Osterud Insurance Agency and HMN, the holding company, did not meet the quantitative thresholds for determining reportable segments and therefore are included in the "Other" category.

      HMN evaluates performance and allocates resources based on the segment's net income or loss, return on average assets and return on average equity. The segments follow generally accepted accounting principles as described in the summary of significant accounting policies.

      Each corporation is managed separately with its own president, who reports directly to either HMN's chief operating decision maker, or the board of directors.

      The following table sets forth certain information about the reconciliations of reported profit or loss and assets for each of HMN's reportable segments.

51

					Home Federal Mortgage Services, LLC
		Home Federal Savings Bank			Mortgage Servicing Rights		Mortgage Banking		Total Reportable Segments		Other		Eliminations		Consolidated Total
		(Dollars in Thousands)
At or for the year ended December 31, 2001:
	Interest income—external customers	$	47,583		0		3,457		51,040		428		0		51,468
	Non-interest income—external customers		3,649		52		872		4,573		323		0		4,896
	Earnings (losses) on limited partnerships		(1,292	)	0		0		(1,292	)	(20	)	0		(1,312	)
	Intersegment interest income		2,800		0		0		2,800		225		(3,025	)	0
	Intersegment non-interest income (expense)		(246	)	0		0		(246	)	5,282		(5,036	)	0
	Interest expense		30,553		0		2,900		33,453		16		(3,025	)	30,444
	Amortization of mortgage servicing rights and net valuation adjustments and servicing costs		640		118		0		758		0		0		758
	Other non-interest expense		12,350		0		2,215		14,565		1,002		(576	)	14,991
	Income tax expense (benefit)		2,880		0		(28	)	2,852		(218	)	0		2,634
	Minority interest		(383	)	0		0		(383	)	0		0		(383	)
	Net income (loss)		5,304		(66	)	(758	)	4,480		5,438		(4,460	)	5,458
	Total assets		711,491		76		56,751		768,318		72,547		(119,751	)	721,114
	Net interest margin		2.90	%	NM		NM		NM		NM		NM		3.02	%
	Return on average assets		0.90		(39.43	)%	(1.37	)%	NM		NM		NM		0.75
	Return on average realized common equity		11.39		(1,122.38	)	(83.63	)	NM		NM		NM		7.57
At or for the year ended December 31, 2000:
	Interest income—external customers	$	52,001		0		313		52,314		603		0		52,917
	Non-interest income—external customers		2,801		60		568		3,429		15		0		3,444
	Earnings (losses) on limited partnerships		9		0		0		9		(130	)	0		(121	)
	Intersegment interest income		30		0		0		30		282		(312	)	0
	Intersegment non-interest income		387		0		0		387		6,593		(6,980	)	0
	Interest expense		32,997		0		243		33,240		73		(312	)	33,001
	Amortization of mortgage servicing rights and net valuation adjustments and servicing costs		260		73		0		333		0		0		333
	Other non-interest expense		11,046		0		1,004		12,050		563		(387	)	12,226
	Income tax expense (benefit)		3,954		(5	)	(147	)	3,802		(4	)	0		3,798
	Net income (loss)		6,791		(8	)	(219	)	6,564		6,731		(6,593	)	6,702
	Total assets		702,767		180		5,599		708,576		67,379		(59,939	)	716,016
	Net interest margin		2.81	%	NM		NM		NM		NM		NM		2.89	%
	Return on average assets		0.95		(5.67	)%	(7.27	)%	NM		NM		NM		0.94
	Return on average realized common equity		12.53		(21.05	)	(27.00	)	NM		NM		NM		9.81
At or for the year ended December 31, 1999:
	Interest income—external customers	$	46,013		0		307		46,320		784		0		47,104
	Non-interest income—external customers		2,153		98		1,056		3,307		436		0		3,743
	Earnings on limited partnerships		550		0		0		550		0		0		550
	Intersegment interest income		29		0		0		29		413		(442	)	0
	Intersegment non-interest income		395		0		0		395		5,998		(6,393	)	0
	Interest expense		28,904		0		291		29,195		158		(442	)	28,911
	Amortization of mortgage servicing rights and net valuation adjustments and servicing costs		229		242		0		471		0		0		471
	Other non-interest expense		9,856		0		1,121		10,977		810		(364	)	11,423
	Income tax expense (benefit)		3,862		(57	)	(20	)	3,785		176		0		3,961
	Net income (loss)		6,049		(87	)	(29	)	5,933		6,487		(6,029	)	6,391
	Total assets		683,400		222		4,235		687,857		67,389		(56,060	)	699,186
	Net interest margin		2.66	%	NM		NM		NM		NM		NM		2.74	%
	Return on average assets		0.91		(33.11	)%	(0.53	)%	NM		NM		NM		0.93
	Return on average realized common equity		12.24		(100.03	)	(1.70	)	NM		NM		NM		9.18

NM—Not meaningful

52

INDEPENDENT AUDITORS' REPORT

The Board of Directors
HMN Financial, Inc.
Rochester, Minnesota:

      We have audited the accompanying consolidated balance sheets of HMN Financial, Inc. and subsidiaries (the Company) as of December 31, 2001 and 2000, and the related consolidated statements of income, comprehensive income, stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2001. 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 auditing standards generally accepted in the United States of America. 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 HMN Financial, Inc. and subsidiaries at December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2001, in conformity with accounting principles generally accepted in the United States of America.

Minneapolis, Minnesota
January 29, 2002

53

SELECTED QUARTERLY FINANCIAL DATA

		December 31, 2001			September 30, 2001		June 30, 2001
		(Dollars in Thousands, Except Per Share Data)
Selected Operations Data (3 months ended):
Interest income		$	12,207		12,576		13,142
Interest expense			6,636		7,487		7,928
	Net interest income		5,571		5,089		5,214
Provision for loan losses			400		300		300
	Net interest income after provision for loan losses		5,171		4,789		4,914
Noninterest income:
	Fees and service charges		432		417		363
	Mortgage servicing fees		142		114		107
	Securities gains (losses), net		(410	)	71		(610	)
	Gain on sales of loans		219		592		1,272
	Earnings (losses) in limited partnerships		(788	)	105		(325	)
	Other noninterest income		149		120		200
Total noninterest income			(256	)	1,419		1,007
Noninterest expense:
	Compensation and benefits		2,035		1,924		2,042
	Occupancy		631		528		515
	Federal deposit insurance premiums		19		20		20
	Advertising		132		95		114
	Data processing		254		239		241
	Amortization of mortgage servicing rights and net valuation adjustments		251		158		209
	Other noninterest expense		1,096		813		616
Total noninterest expense			4,418		3,777		3,757
	Income before income tax expense		497		2,431		2,164
Income tax expense			278		571		787
	Income before minority interest	$	219		1,860		1,377
Minority interest		$	(353	)	(163	)	105
	Net income	$	572		2,023		1,272
Basic earnings per share		$	0.15		0.53		0.34
Diluted earnings per share		$	0.14		0.50		0.32
Financial Ratios:
Return on average assets(1)			0.31	%	1.12		0.70
Return on average equity(1)			3.08		11.06		7.11
Average equity to average assets			9.91		9.84		9.69
Dividend payout ratio			28.00		43.75		30.00
Net interest margin(1)(2)			3.20		2.93		2.98
(Dollars in thousands)
Selected Financial Condition Data:
Total assets		$	721,114		721,427		731,345
Securities available for sale:
	Mortgage-backed and related securities		69,230		68,585		72,453
	Other marketable securities		53,666		27,324		40,856
Loans held for sale			68,018		66,650		46,608
Loans receivable, net			471,668		499,543		503,476
Deposits			421,843		429,414		412,439
Federal Home Loan Bank advances			217,800		209,800		239,800
Stockholders' equity			72,161		72,300		71,142

(1)

Annualized

(2)

Net interest income divided by average interest-earning assets.

54

March 31, 2001		December 31, 2000		September 30, 2000		June 30, 2000	March 31, 2000
13,543		13,692		13,526		13,039	12,661
8,393		8,733		8,568		7,995	7,705
5,150		4,959		4,958		5,044	4,956
150		45		45		45	45
5,000		4,914		4,913		4,999	4,911
351		336		356		348	257
107		90		95		77	79
278		16		(5	)	35	(69	)
851		401		338		294	183
(304	)	(199	)	(41	)	82	37
130		191		121		181	126
1,413		835		864		1,017	613
1,913		1,724		1,482		1,488	1,696
565		510		491		465	426
21		21		21		21	21
85		78		93		89	44
230		211		203		191	185
140		104		84		76	69
842		940		623		619	590
3,796		3,588		2,997		2,949	3,031
2,617		2,161		2,780		3,067	2,493
998		572		1,077		1,187	963
1,619		1,589		1,703		1,880	1,530
28		0		0		0	0
1,591		1,589		1,703		1,880	1,530
0.43		0.43		0.45		0.48	0.38
0.40		0.41		0.44		0.47	0.37
0.88		0.88		0.94		1.06	0.87
9.18		9.26		9.91		11.07	9.00
9.56		9.56		9.59		9.65	9.70
29.27		27.27		25.53		27.03	27.78
2.97		2.84		2.83		2.95	2.93
730,490		716,016		722,157		716,209	705,704
73,132		75,380		87,542		89,488	97,190
42,361		63,827		70,664		67,290	69,479
45,231		7,861		6,386		6,066	3,398
519,307		518,765		506,831		505,280	486,632
421,456		421,691		423,717		401,630	401,453
231,800		221,900		227,900		244,900	233,900
69,198		66,626		64,109		64,212	63,552

55

OTHER FINANCIAL DATA

      The following table sets forth the maximum month-end balance and average balance of FHLB advances.

		Year Ended December 31,
		2001		2000	1999
		(Dollars in Thousands)
Maximum Balance:
	Federal Home Loan Bank advances	$	240,900	244,900	230,900
	Federal Home Loan Bank short-term borrowings		38,000	67,000	60,500
Average Balance:
	Federal Home Loan Bank advances		221,890	232,862	197,861
	Federal Home Loan Bank short-term borrowings		20,470	50,708	28,614

      The following table sets forth certain information as to the Bank's FHLB advances.

		December 31,
		2001				2000			1999
		Amount		Weighted Average Rate		Amount	Weighted Average Rate		Amount	Weighted Average Rate
		(Dollars in Thousands)
Federal Home Loan Bank short-term borrowings		$	9,500	4.42	%	38,000	6.79	%	60,500	5.67
Other Federal Home Loan Bank long-term advances			208,300	4.76		183,900	5.85		168,900	5.53
	Total	$	217,800	4.75		221,900	6.01		229,400	5.57

      Refer to Note 12 of the Notes to Consolidated Financial Statements for more information on the Bank's FHLB advances.

COMMON STOCK INFORMATION

      The common stock of HMN Financial, Inc. is listed on the Nasdaq Stock Market under the symbol: HMNF. The common stock outstanding is 9,128,662 shares of which 4,732,521 shares are in treasury stock at December 31, 2001. As of December 31, 2001 there were 742 stockholders of record and 871 estimated beneficial stockholders. The following table represents the stock price information for HMN Financial, Inc. as furnished by Nasdaq for each quarter starting in December 31, 2001 and regressing back to March 31, 1996.

	Dec. 31, 2001		Sept. 28, 2001	June 29, 2001	March 30, 2001	Dec. 29, 2000	Sept. 29, 2000	June 30, 2000	March 31, 2000
HIGH	$	15.85	17.10	17.15	15.06	13.25	13.88	11.75	12.13
LOW		13.27	14.35	13.50	13.00	12.31	10.88	10.13	9.63
CLOSE		15.49	15.10	17.10	14.75	13.06	12.44	11.00	10.13
	Dec. 31, 1999		Sept. 30, 1999	June 30, 1999	March 31, 1999	Dec. 31, 1998	Sept. 30, 1998	June 30, 1998	March 31, 1998
HIGH	$	12.75	13.50	13.13	13.50	14.75	16.06	20.67	21.33
LOW		10.88	11.88	10.50	11.38	10.38	13.25	15.50	17.50
CLOSE		11.25	12.25	11.63	11.38	11.75	14.50	15.88	20.00
	Dec. 31, 1997		Sept. 30, 1997	June 30, 1997	March 31, 1997	Dec. 31, 1996	Sept. 30, 1996	June 28, 1996	March 29, 1996
HIGH	$	21.67	17.33	16.25	16.50	12.42	11.00	11.00	10.75
LOW		16.17	14.58	12.42	12.00	10.67	10.08	9.75	9.67
CLOSE		21.67	16.50	15.33	13.36	12.08	10.67	11.00	9.75

56

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FIVE-YEAR CONSOLIDATED FINANCIAL HIGHLIGHTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SELECTED QUARTERLY FINANCIAL DATA
OTHER FINANCIAL DATA
COMMON STOCK INFORMATION

EX-21

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Exhibit 21

Subsidiaries of Registrant

Name & Address	Year & State Inc.	Date and % of Voting Shares, Partnership Interests, Voting Trust Certificates, Capital Contributions	Description of Activity
Home Federal Savings Bank 101 North Broadway Spring Valley, MN 55975	1934 Federal Charter	6/29/94 HMN owns 100% of voting shares	Federally Chartered Stock Savings Bank
Osterud Insurance Agency, Inc. 101 North Broadway Spring Valley, MN 55975	1983 MN	Bank owns 100%	Offers credit life and annuity products to the Bank's customers and others
Home Federal Mortgage Services, LLC(1) 7101 Northland Circle, Suite 200 Brooklyn Park, MN 55428	2000 DE	1/31/01 Bank owns 51% of voting shares	Mortgage Banking/ Brokerage Office
Security Finance Corporation 101 North Broadway Spring Valley, MN 55975	1929 MN	12/29/95 HMN owns 100% of voting shares	Corporation invests in securities and loans

(1)

On January 23, 2001 the HMN sold 100% of HMN Mortgage Services, Inc. to the Bank. On January 31, 2001 the Bank merged HMN Mortgage Services, Inc. into Home Federal Mortgage Services LLC.

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Exhibit 21

Subsidiaries of Registrant

EX-23

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Exhibit 23

4200 Wells Fargo Center
90 South Seventh Street
Minneapolis, MN 55402 Telephone  612-305-5000
Fax  612-305-5100

Consent of Independent Public Accountants

The Board of Directors
HMN Financial, Inc.:

      We consent to incorporation by reference of our report dated January 29, 2002, relating to the consolidated balance sheets of HMN Financial, Inc. as of December 31, 2001 and 2000, and the related consolidated statements of income, comprehensive income, stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2001, which report appears in the December 31, 2001 annual report on Form 10-K of HMN Financial, Inc., in the following Registration Statements of HMN Financial, Inc.: Nos. 33-88228, 33-94388, 33-94386 and 333-64232 on Form S-8.

Minneapolis, Minnesota
March 27, 2002

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Exhibit 23

Consent of Independent Public Accountants