Management's discussion and analysis of financial condition and results of operations is intended to assist in understanding the financial condition and results of the Company. The information contained in this section should be read in conjunction with the unaudited consolidated financial statements and accompanying notes thereto.

Forward-Looking Statements

This Form 10-Q contains certain "forward-looking statements" which may be identified by the use of words such as "believe," "expect," "anticipate," "should," "planned," "estimated," and "potential." Examples of forward-looking statements include, but are not limited to, estimates with respect to our financial condition, results of operations and business that are subject to various factors that could cause actual results to differ materially from these estimates and most other statements that are not historical in nature. These factors include, but are not limited to, the effect of the current severe disruption in financial markets and the United States government programs introduced to restore stability and liquidity, changes in interest rates, general economic conditions and the weakening state of the United States economy, deposit flows, demand for mortgage and other loans, real estate values, and competition; changes in accounting principles, policies, or guidelines; changes in legislation or regulation; and other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing of products and services.

Critical Accounting Policies and Use of Significant estimates

In the ordinary course of business, we have made a number of estimates and assumptions relating to the reporting of results of operations and financial condition in preparing our financial statements in conformity with accounting principles generally accepted in the United States of America. Actual results could differ significantly from those estimates under different assumptions and conditions. Management believes the following discussion addresses our most critical accounting policies and significant estimates, which are those that are most important to the portrayal of our financial condition and results and require management's most difficult, subjective and complex judgements, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.

Allowance for Loan Losses - The Company believes the allowance for loan losses is the critical accounting policy that requires the most significant judgments and assumptions used in the preparation of the consolidated financial statements. The allowance for loan losses is a material estimate that is particularly susceptible to significant changes in the near term and is established through a provision for loan losses. The allowance is based upon past loan experience and other factors which, in management's judgement, deserve current recognition in estimating loan losses. The evaluation includes a review of all loans on which full collectibility may not be reasonably assured. Other factors considered by management include the size and character of the loan portfolio, concentrations of loans to specific borrowers or industries, existing economic conditions and historical losses on each portfolio category. In connection with the determination of the allowance for loan losses, management obtains independent appraisals for significant properties, which collateralize loans. Management uses the available information to make such determinations. If circumstances differ substantially from the assumptions used in making determinations, future adjustments to the allowance for loan losses may be necessary and results of operations could be affected. While we believe we have established our existing allowance for loan losses in conformity with accounting principles generally accepted in the United States of America, there can be no assurance that regulators, in reviewing the Bank's loan portfolio, will not request an increase in the allowance for loan losses. Because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that increases to the allowance will not be necessary if loan quality deteriorates.

Other Real Estate Owned - Other real estate owned acquired through loan foreclosures are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. The adjustment at the time of foreclosure is recorded through the allowance for loan losses. Due to the subjective nature of establishing fair value when the asset is acquired, the actual fair value of the other real estate owned could differ from the original estimate. If it is determined that fair value declines subsequent to foreclosure, the asset is written down through a charge to non-interest expense. Operating costs associated with the assets after acquisition are also recorded as non-interest expense. Gains and losses on the disposition of other real estate owned are netted and posted to non-interest expense.

Deferred Income Tax Assets/Liabilities - Our net deferred income tax asset arises from differences in the dates that items of income and expense enter into our reported income and taxable income. Deferred tax assets and liabilities are established for these items as they arise. From an accounting standpoint, deferred tax assets are reviewed to determine that they are realizable based upon the historical level of our taxable income, estimates of our future taxable income and the reversals of deferred tax liabilities. In most cases, the realization of the deferred tax asset is based on our future profitability. If we were to experience net operating losses for tax purposes in a future period, the realization of our deferred tax assets would be evaluated for a potential valuation reserve.

Impairment of Goodwill - Goodwill, an intangible asset with an indefinite life, was recorded on our balance sheet in prior periods as a result of acquisition activity. Goodwill is evaluated for impairment annually, unless there are factors present that indicate a potential impairment, in which case, the goodwill impairment test is performed more frequently.

Mortgage Servicing Rights - Mortgage servicing rights are very sensitive to movements in interest rates as expected future net servicing income depends on the projected outstanding principal balances of the underlying loans, which can be greatly reduced by prepayments. Prepayments usually increase when mortgage interest rates decline and decrease when mortgage interest rates rise. Mortgage servicing rights are also sensitive to the level of delinquent and nonperforming loans which impair the receipt of net servicing income.

Fair Value Measurements - The fair value of a financial instrument is defined as the amount at which the instrument could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. The Company estimates the fair value of financial instruments using a variety of valuation methods. Where financial instruments are actively traded and have quoted market prices, quoted market prices are used for fair value. When the financial instruments are not actively traded, other observable market inputs, such as quoted prices of securities with similar characteristics, may be used, if available, to determine fair value. When observable market prices do not exist, the Company estimates fair value. Other factors such as model assumptions and market dislocations can affect estimates of fair value. Imprecision in estimating these factors can impact the amount of revenue or loss recorded.

ASC 820, "Fair Value Measurements," establishes a framework for measuring the fair value of financial instruments that considers the attributes specific to particular assets or liabilities and establishes a three-level hierarchy for determining fair value based upon transparency of inputs to each valuation as of the fair value measurement date. The three levels are defined as follows:

? Level 1 - quoted prices (unadjusted) for identical assets or liabilities in active markets
? Level 2 - inputs include quoted prices for similar assets and liabilities in active markets, quoted prices of identical or similar assets or liabilities in markets that are not active, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.
? Level 3 - inputs that are unobservable and significant to the fair value measurement.

At the end of each quarter, the Company assesses the valuation hierarchy for each asset or liability measured. From time to time, assets or liabilities may be transferred within hierarchy levels due to changes in availability of observable market inputs to measure fair value at the measurement date. Transfers into or out of a hierarchy are based upon the fair value at the beginning of the reporting period.

The above listing is not intended to be a comprehensive list of all our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by accounting principles generally accepted in the United States of America, with no need for management's judgement in their application. There are also areas in which management's judgement in selecting any available alternative would not produce a materially different result.

Federal Deposit Insurance Corporation Insurance Coverage

As with all banks insured by the Federal Deposit Insurance Corporation ("FDIC"), the Company's depositors are protected against the loss of their insured deposits by the FDIC. The FDIC has made two changes to the rules that broadened the FDIC insurance. The FDIC increased basic FDIC insurance coverage from $100,000 to $250,000 per depositor until December 31, 2013. In addition, on October 14, 2008 the FDIC instituted a Temporary Liquidity Guaranty Program ("TLGP") which provides full deposit coverage for non-interest bearing transaction deposit accounts, regardless of dollar amount. The FDIC defines a "non-interest bearing transaction account" as a transaction account on which the insured depository institution pays no interest and does not reserve the right to require advance notice of intended withdrawals. This coverage is over and above the $250,000 in coverage otherwise provided to a customer.

The Company has chosen to participate in the TLGP. The additional cost of this program, assessed on a quarterly basis, is a 10 basis point annualized surcharge (2.5 basis points quarterly) on balances in non-interest bearing transaction accounts that exceed $250,000. The Company does not believe this amount will have a material effect on its consolidated financial statements.

On September 29, 2009, the Federal Deposit Insurance Corporation issued a proposed rule pursuant to which all insured depository institutions would be required to prepay their estimated assessments for the fourth quarter of 2009, and for all of 2010, 2011 and 2012. Under the proposed rule, this pre-payment would be due on December 31, 2009. Under the proposed rule, the assessment rate for the fourth quarter of 2009 and for 2010 would be based on each institution's total base assessment rate for the third quarter of 2009, modified to assume that the assessment rate in effect on September 30, 2009 had been in effect for the entire third quarter, and the assessment rate for 2011 and 2012 would be equal to the modified third quarter assessment rate plus an additional 3 basis points. In addition, each institution's base assessment rate for each period would be calculated using its third quarter assessment base, adjusted quarterly for an estimated 5% annual growth rate in the assessment base through the end of 2012.

Recent Developments

A legislative proposal has been introduced that would eliminate the primary federal regulator of Jacksonville Bancorp, MHC and Jacksonville Bancorp, Inc. and require Jacksonville Bancorp, Inc. to become a bank holding company.

The U.S. Treasury Department recently introduced proposed legislation that would significantly change the current bank regulatory system. The proposal would create a new federal banking regulator, the National Bank Supervisor, and merge the Office of Thrift Supervision, which is the primary federal regulator of Jacksonville Bancorp, MHC and Jacksonville Bancorp, Inc., as well as the Office of the Comptroller of the Currency (the primary federal regulator for national banks) into the new federal bank regulator.

Under this legislation as proposed, Jacksonville Bancorp, Inc. would become a bank holding company subject to regulation and supervision by the Board of Governors of the Federal Reserve System instead of the Office of Thrift Supervision. As a bank holding company, Jacksonville Bancorp, Inc. may become subject to regulatory capital requirements it would not be subject to as a savings and loan holding company and certain additional restrictions on its activities. Compliance with new regulations and being supervised by one or more new regulatory agencies could increase our expenses.

Financial Condition

September 30, 2009 Compared to December 31, 2008

Total assets increased $6.6 million to $294.9 million at September 30, 2009 from $288.3 million at December 31, 2008. Net loans decreased $3.6 million to $179.3 million at September 30, 2009, primarily due to increased loan sales to the secondary market. Available-for-sale investment securities decreased $10.4 million primarily due to $16.6 million in calls of U.S. agency bonds and $16.7 million in sales of investment securities. Mortgage-backed securities increased $20.4 million during this same time frame, primarily due to the reinvestment of funds from investment calls and sales. The reinvestment of the net proceeds from investments into mortgage-backed securities reflects management's decision to restructure a portion of the investment portfolio into lower risk-weighted securities. Deposits grew $15.5 million during the first nine months of 2009. Other borrowings decreased $11.0 million primarily due to the repayment of $8.5 million in advances from the Federal Home Loan Bank during the first quarter of 2009.

Stockholders' equity increased $1.4 million to $25.6 million at September 30, 2009. Changes in stockholders' equity include net income of $966,000, offset by the payment of $199,000 in dividends, and a $1.1 million increase in unrealized gains, net of tax, on available-for-sale securities. The change in unrealized gains or losses on available-for-sale securities results from market conditions and, therefore, can fluctuate daily. Stockholders' equity was also affected by the purchase of $486,000 in treasury stock during the first quarter of 2009.

Results of Operations

Comparison of Operating Results for the Three Months Ended September 30, 2009 and 2008

General: The Company reported net income for the three months ended September 30, 2009, of $537,000, or $0.28 per share of common stock, basic and diluted, compared to net income of $499,000, or $0.25 per share of common stock, basic and diluted, for the three months ended September 30, 2008. Net income increased $38,000 due to increases of $220,000 in net interest income and $27,000 in other income, partially offset by increases of $145,000 in provisions for loan losses and $64,000 in other expenses. During 2009, the Company's operations have benefited from the steepening of the yield curve, as lower short-term market rates of interest resulted in our deposits and borrowings repricing downward faster and more aggressively than our loans, which have yields tied to longer-term rates.

Interest Income: Total interest income for the three months ended September 30, 2009 decreased $323,000 from the same period of 2008. The decrease in interest income reflects decreases in interest income of $69,000 from loans, $177,000 from investment securities, $62,000 from mortgage-backed securities, and $15,000 from other interest-earning assets.

Interest income on loans decreased $69,000 primarily due to a decrease in the average yield to 6.33% during the third quarter of 2009 from 6.68% during the third quarter of 2008. The 35 basis point decrease was partially offset by an increase of $5.6 million in the average balance of the loan portfolio to $183.6 million during the third quarter of 2009 compared to the third quarter of 2008. The increase in the average balance of the portfolio is primarily due to an increase in the commercial real estate portion of the loan portfolio.

The $177,000 decrease in interest income on investment securities reflects a decrease of $18.5 million in the average balance of the portfolio to $36.9 million during the third quarter of 2009, compared to the third quarter of 2008. The decrease in the average balance is primarily due to calls and sales of investment securities, which were partially reinvested into U.S. agency mortgage-backed securities. The average yield of investment securities equaled 3.86% during the third quarters of 2009 and 2008. This reported yield does not reflect the benefit of the higher tax-equivalent yield of our municipal bonds, which is reflected in income tax expense.

Interest income on mortgage-backed securities decreased $62,000 during the third quarter of 2009 compared to the third quarter of 2008. The decreased interest income on mortgage-backed securities reflects a decrease in the average yield to 3.22% from 5.00% during the third quarters of 2009 and 2008, respectively. The decrease in the average yield is primarily due to accelerated premium amortization resulting from higher prepayments on the mortgage-backed securities. The decrease in the average yield was partially offset by an increase of $12.1 million in the average balance of mortgage-backed securities to $48.0 million during the third quarter of 2009.

Interest income on other interest-earning assets, which consist of interest-earning deposit accounts and federal funds sold, decreased $15,000 during the third quarter of 2009 primarily due to a 187 basis point decrease in the average yield. The average yield of these other interest-earning assets decreased to 0.14% during the third quarter of 2009 from 2.01% during the third quarter of 2008, reflecting the decrease in short-term market rates of interest. The average balance of these accounts increased $1.4 million to $4.6 million for the three months ended September 30, 2009 compared to the same period of 2008.

Interest Expense: Total interest expense for the three months ended September 30, 2009 decreased $543,000 compared to the three months ended September 30, 2008. The lower interest expense was due to decreases of $416,000 in the cost of deposits and $127,000 in interest expense on borrowed funds.

The decrease in the cost of deposits is primarily due to a decrease in the average rate paid to 2.18% during the third quarter of 2009 from 3.01% during the third quarter of 2008. The 83 basis point decline reflects the decrease in short-term market rates during 2008. The decrease in the average cost was partially offset by an increase of $10.5 million in the average balance of deposits during this same time frame. The increase primarily reflects increases in savings and money market accounts.

Interest paid on borrowed funds decreased $127,000 primarily due to a 226 basis point decrease in the average rate. The average rate paid on borrowed funds decreased to 0.93% during the third quarter of 2009 compared to 3.19% during the third quarter of 2008, reflecting the decrease in market rates. The average balance of borrowed funds also decreased $9.0 million to $9.8 million during the third quarter of 2009, primarily due to a $7.2 million decrease in the average balance of advances from the Federal Home Loan Bank. The remainder of the balance consists of securities sold under agreements to repurchase.

Provision for Loan Losses: The provision for loan losses is determined by management as the amount needed to replenish the allowance for loan losses, after net charge-offs have been deducted, to a level considered adequate to absorb inherent losses in the loan portfolio, in accordance with accounting principles generally accepted in the United States of America.

The allowance for loan losses increased $782,000 to $2.7 million at September 30, 2009 from $1.9 million at December 31, 2008. The increase is the result of the provision for loan losses exceeding net charge-offs during 2009. The Company recorded net recoveries of $2,000 and $6,000 for the third quarters of 2009 and 2008, respectively. The provision for loan losses increased to $250,000 during the third quarter of 2009 from $105,000 during the third quarter of 2008. The $145,000 increase in the provision reflects an increase in the average balance of the loan portfolio, primarily in commercial real estate, and an increase in watch list credits.

Provisions for loan losses have been made to bring the allowance for loan losses to a level deemed adequate following management's evaluation of the repayment capacity and collateral protection afforded by each problem credit identified by management. This review also considered the local economy and the level of bankruptcies and foreclosures in the Company's market area. The following table sets forth information regarding nonperforming assets at the dates indicated.

                                                   September 30,     December 31,
                                                       2009              2008
                                                       (Dollars in thousands)
    Non-accruing loans:
    One-to-four family residential                 $         560     $         445
    Commercial and agricultural real estate                  242                34
    Multi-family residential                                 137               152
    Commercial and agricultural business                     781                48
    Home equity/Home improvement                             381               318
    Automobile                                                13                 3
    Other consumer                                             -                 5
    Total                                          $       2,114     $       1,005

    Accruing loans delinquent more than 90 days:
    One-to-four family residential                 $         238     $         163
    Automobile                                                 5                18
    Other consumer                                            14                 5
    Total                                          $         257     $         186

    Foreclosed assets:
    One-to-four family residential                 $         318     $         565
    Commercial and agricultural real estate                  203               204
    Automobiles                                                -                 9
    Total                                          $         521     $         778

    Total nonperforming assets                     $       2,892     $       1,969

    Total as a percentage of total assets                   0.98 %            0.68 %

The increase in commercial and agricultural business non-accruing loans is mostly due to the deterioration of two commercial relationships during the second quarter of 2009. The nonperforming portion of these two credits contributed $768,000 of the $923,000 increase in nonperforming assets during the first nine months of 2009. The following table shows the aggregate principal amount of potential problem credits on the Company's watch list at September 30, 2009 and December 31, 2008. All non-accruing loans are automatically placed on the watch list.

                                   September 30, 2009       December 31, 2008
                                                 (In thousands)
       Special Mention credits    $              5,912     $             7,369
       Substandard credits                       5,778                   2,388
       Doubtful credits                              3                       -
       Total watch list credits   $             11,693     $             9,757

While substandard credits have increased $3.4 million, the net increase in watch list credits equals $1.9 million during 2009. The nonperforming commercial credits of $768,000 discussed above and the $1.3 million of related debt, which is performing, account for $2.1 million of the increase in substandard credits. The remainder of the increase in substandard credits primarily reflects the downgrade of two commercial lines from special mention to substandard during the second quarter. The net increase in watch list credits also reflects the addition of several smaller borrowers who are performing as agreed, but have been added to the watch list by management for additional monitoring.

Other Income: Total other income for the three months ended September 30, 2009 increased $27,000 from the comparable period in 2008. The increase in other income is primarily attributable to increases of $56,000 in service charges on deposit accounts, $48,000 in net income from mortgage banking operations, and $43,000 in gains on sales of securities, partially offset by a decrease of $99,000 in commission income. The increase in gains on sales of securities reflects the sale of $11.0 million in securities during the third quarter, in order to realize the gains and restructure a portion of the portfolio into lower risk-weighted investments. The increase in mortgage banking income is due to a higher volume of loan sales to the secondary market and an increase in the net capitalization of mortgage servicing rights. The decrease in commission income is due to reduced brokerage activity, which reflects current market conditions.

Other Expenses: Total other expenses for the three months ended September 30, 2009 increased $64,000 from the same period in 2008. The increase in other expenses reflects an increase of $106,000 in FDIC deposit insurance premium assessments, partially offset by a decrease of $33,000 in occupancy expense. The increase in FDIC premiums reflects the higher assessment rates for 2009. Occupancy expense has benefited from reduced maintenance costs.

Income Taxes: The provision for income taxes equaled $149,000 during the three months ended September 30, 2009 and 2008. The income tax expense for the third quarter of 2009 reflects a higher level of income, partially offset by an increase in the benefit of tax-exempt investment income.

Comparison of Operating Results for the Nine Months Ended September 30, 2009 and 2008

General: The Company reported net income for the nine months ended September 30, 2009, of $966,000, or $0.50 per share, basic and diluted, compared to net income of $1,286,000, or $0.65 per share, basic and diluted, for the nine months ended September 30, 2008. Net income decreased $320,000 during the nine months ended September 30, 2009 compared to the same period of 2008, primarily due to increases of $2.0 million in the provision for loan losses and $199,000 in other expenses. The impact on net income from the provision for loan losses was partially offset by increases of $945,000 in net interest income and $582,000 in other income and a decrease of $336,000 in income taxes.

Interest Income: Total interest income decreased $929,000 during the nine months ended September 30, 2009, compared to the same period in 2008. The decrease in . . .