Summary of MONARCH COMMUNITY BANCORP INC

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the condensed consolidated financial statements of the Corporation and the accompanying notes.
The Corporation is not aware of any market or institutional trends, events, or circumstances that will have or are likely to have a material effect on liquidity, capital resources, or results of operations except as discussed herein. Also, the Corporation is not aware of any current recommendations by regulatory authorities that will have such effect if implemented.
FORWARD-LOOKING STATEMENTS
In addition to historical information, the following discussion contains "forward-looking statements" that involve risks and uncertainties. All statements regarding the expected financial position, business and strategies are forward-looking statements and the Corporation intends for them to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. The words "anticipates," "believes," "estimates," "seeks," "expects," "plans," "intends," and similar expressions, as they relate to the Corporation or management, are intended to identify forward-looking statements. The Corporation believes that the expectations reflected in these forward-looking statements are reasonable based on our current beliefs and assumptions; however, these expectations may prove to be incorrect.
Factors which could have a material adverse effect on our operations include, but are not limited to, changes in interest rates, changes in the relative difference between short and long-term interest rates, general economic conditions, legislative/regulatory changes, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board, the quality or composition of the loan or investment portfolios, including levels of non-performing assets, demand for loan products, deposit flows, competition, demand for financial services in our market area, our operating costs and accounting principles and guidelines. These risks and uncertainties should be considered in evaluating forward-looking statements and you should not rely too much on these statements.
CRITICAL ACCOUNTING POLICIES
The nature of the financial services industry is such that, other than described below, the use of estimates and management judgment is not likely to present a material risk to the financial statements. In cases where estimates or management judgment are required, internal controls and processes are established to provide assurance that such estimates and management judgments are materially correct to the best of management's knowledge.
Allowance for Loan Losses. Accounting for loan classifications, accrual status, and determination of the allowance for loan losses is based on regulatory guidance. This guidance includes, but is not limited to, generally accepted accounting principles, the uniform retail credit classification and account management policy issued by the Federal Financial Institutions Examination Council, the joint policy statement on the allowance for loan losses methodologies issued by the Federal Financial Institutions Examination Council and guidance issued by the Securities and Exchange Commission. Accordingly, the allowance for loan losses includes a reserve calculation based on an evaluation of loans determined to be impaired, risk ratings, historical losses, loans past due, collateral values and cost of disposal and other subjective factors. Foreclosed Assets. Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value at the date of the foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by

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management and the assets are carried at the lower of carrying amount or fair value less estimated selling expenses, which consist primarily of commissions that will be paid to an independent real estate agent upon sale of the property. Revenue and expenses from operations and changes in the valuation allowance are included in net expenses from foreclosed assets.
Goodwill and Other Intangible Assets. Goodwill represents the excess of the cost of an acquisition over the fair value of net identifiable tangible and intangible assets acquired. Under the provisions of SFAS 142, goodwill is no longer amortized into the income statement over an estimated life, but rather is tested at least annually for impairment. Impairment of goodwill is evaluated by reporting unit and is based on a comparison of the recorded balance of goodwill to the applicable market value or discounted cash flows. To the extent that impairment may exist, the current carrying amount is reduced by the estimated shortfall. Intangible assets which have finite lives are amortized over their estimated useful lives and are subject to impairment testing.
FINANCIAL CONDITION
Assets
Total assets increased $11.4 million, or 3.9%, to $303.3 million at March 31, 2009 compared to $291.8 million at December 31, 2008. Management attributes this growth to a strategy for 2009 that emphasizes growth in our investment portfolio. The increase in assets is also a by product of management's continued focus on the growth of core deposits which has generated increased cash balances.
Securities
Securities increased to $14.9 million at March 31, 2009 compared to $8.9 million at December 31, 2008. The increase was attributable to $6.0 million in securities being purchased primarily to offset costs associated with the Capital Purchase Program (CPP). Those costs include an annual dividend of 5%, and amortization of the discount on the preferred stock of .16%. The tax equivalent cost of the capital is 8%. Management expects securities to continue to increase through the 2009 as a result of continued efforts to reduce the cost affect of the CPP.
Loans
The Bank's net loan portfolio decreased by $7.9 million, or 3.2%, from $247.5 million at December 31, 2008 to $239.6 million at March 31, 2009. The following table presents information concerning the composition of our loan portfolio in dollar amounts and in percentages as of the dates indicated:

                                         March 31, 2009            December 31, 2008
                                      Amount       Percent        Amount       Percent
                                                   (Dollars in thousands)
      Real Estate Loans:
      One-to-four family             $ 117,908         48.4     $  124,855         49.8
      Multi-family                       5,533          2.3          5,728          2.2
      Commercial                        77,550         31.9         75,730         30.2
      Construction or development        7,942          3.2          9,499          3.8

      Total real estate loans          208,933         85.8        215,812         86.0
      Other loans:
      Consumer loans:
      Home equity                       20,622          8.5         20,677          8.2
      Other                              5,414          2.2          5,737          2.3

      Total consumer loans              26,036         10.7         26,414         10.5
      Commercial Business Loans          8,414          3.5          8,609          3.5

      Total other loans                 34,450         14.2                        14.0

      Total Loans                      243,383        100.0 %      250,835        100.0 %


      Allowance for loan losses          3,210                       2,719
      Less: Net deferred loan fees         546                         574
      Total Loans, net               $ 239,627                  $  247,542

One-to-four family loans decreased $6.9 million as a result of the Bank's continued strategy to sell a large portion of new one to four family loan originations. The Bank adopted this strategy in 2007 as a method to manage interest rate risk. Commercial real estate loans increased $1.8 million. The Bank has made inroads in the local market but also continued to originate large commercial real

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estate loans outside the market area for the last several years. The Bank has originated loans in areas outside the market area where the economy is perceived to be better than the local economy. The Bank also relies on good underwriting standards and maintaining current financial information to mitigate the risk associated with lending outside the market area. The Bank expects future loan growth to come primarily from commercial lending with a focus on in-market lending.
The allowance for loan losses was $3.2 million at March 31, 2009 compared to $2.7 million at December 31, 2008, an increase of $.5 million. This increase was primarily due to a provision for loan losses of $722,000, which was offset by net charge offs of $230,000 for the three months ended March 2009, (see "Provision for Loan Losses" below). Charge-offs for the three months ended March 31, 2009 included $161,000 of one-to-four family mortgage loans, $12,000 commercial loans not secured by real estate and $100,000 of consumer loans (including overdrafts). Recoveries consisted of $19,000 in consumer loans (including overdrafts), $23,000 in commercial loans not secured by real estate and $1,000 in one to four family mortgages. See "Provision for Loan Losses" below for further explanation regarding charge-offs. Deposits
Total deposits increased $9.1 million, or 4.7%, from $192.2 million at December 31, 2008 to $201.3 million at March 31, 2009. The increase can be attributed to an increase of $5.3 million in local certificates of deposit, an increase of $4.1 million in demand and Now accounts, an increase in money market accounts of $1.4 million and an increase of $376,000 in savings accounts. Brokered deposits decreased $2.0 million as management continues to try to reduce its reliance on wholesale funding. The increase in local certificates of deposits and money market accounts is largely due to management's efforts to remain competitive with interest rates in these categories of deposits. The increase in money markets accounts has provided funding so it has not been necessary for management to borrow additional FHLB advances or increase brokered deposits. Brokered deposits have been managed to provide additional liquidity or reduce excess liquidity depending on current conditions. Management expects future deposit growth to come from increased sales and marketing efforts to attract lower cost savings and checking accounts as well as product enhancement. Federal Home Loan Bank Advances
Total Federal Home Loan Bank (FHLB) advances decreased to $56.7 million as of March 31, 2009 from $60.2 at December 31, 2008. Total proceeds from and repayments of FHLB advances for the three months ended March 31, 2009 total were $0 and $3.5 million respectively. Management is attempting to reduce its reliance on borrowed funds through the growth of deposits, including brokered deposits. Should this strategy not succeed, management anticipates the need for future borrowings to fund loan growth. See "Net Interest Income" below, and also see "Liquidity" later in this report regarding available borrowings. Equity
Total equity was $43.1 million at March 31, 2009 compared to $36.3 million at December 31, 2008. This represents 14.2% and 12.4% of total assets at March 31, 2009 and December 31, 2008, respectively. Increases in equity primarily resulted from the issuance of preferred stock in the amount of $6.8 million associated with the Capital Purchase Program and $179,000 in year-to-date net income. Decreases in equity for the three months ended March 31, 2009 included $184,000 in dividend payments. Management intends to utilize funds provided by the issuance of the preferred stock to invest in securities and pursue lending opportunities. Management considers its equity position to be strong.
RESULTS OF OPERATIONS
Net Interest Income
Net interest income before any provision for loan losses increased $26,000 for the quarter ended March 31, 2009 compared to the same period in 2008. The Bank's net interest margin decreased to 3.07% for the quarter ended March 31, 2009 from 3.25% for the quarter ended March 31, 2008 as a result of a the yield on earning assets declining faster that the cost of funds. This is attributable to the falling rate environment consistent through 2008 and 2009. Interest income from loans represented 97.0% of total interest income for the three months ended March 31, 2009 compared to 94.7% for the same period in 2008. The Bank's ability to maintain its net interest margin is heavily dependent on future loan demand and its ability to attract core deposits to offset the effect of higher cost certificates of deposits and borrowings. The Bank continues to be challenged in its efforts to increase lower costing core deposits. Management continues to put its efforts towards meeting this challenge.
The following table presents, for the periods indicated, 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. No tax equivalent adjustments were made.

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                                    Three Months Ended March 31,                          Three Months Ended March 31,
                                                2009                                                  2008
                             Average             Interest                          Average             Interest
                           Outstanding           Earned/          Yield/         Outstanding           Earned/          Yield/
                             Balance               Paid            Rate            Balance               Paid            Rate
                                                                  (dollars in thousands)
Fed Funds and
overnight deposits         $     10,800                  2           0.08        $      9,268         $       58           2.54 %
Investment securities             9,937                 93           3.80              10,993                119           4.39
Other securities                  4,174                 26           2.53               4,174                 50           4.86
Loans receivable                248,694         $    3,954           6.45             230,676              4,058           7.13

Total earning assets       $    273,605         $    4,075           6.04        $    255,111         $    4,285           6.81


Demand and NOW
Accounts                   $     31,347         $       20           0.26        $     31,276         $       25           0.32
Money market accounts            41,547                227           2.22              27,899                231           3.36
Savings accounts                 18,341                 19           0.42              19,147                 20           0.42
Certificates of
deposit                         104,690              1,053           4.08             108,370              1,278           4.78
Federal Home Loan
Bank Advances                    58,666                658           4.55              52,756                659           5.07
Fed Funds Purchased                  86                  -           0.00                   -                  -           0.00

Total interest
bearing liabilities        $    254,677              1,977           3.15        $    239,448              2,213           3.75

Net interest income                             $    2,098                                            $    2,072

Net interest spread                                                  2.89                                                  3.06 %

Net interest margin                                                  3.07                                                  3.25 %

Provision for Loan Losses
The Bank recorded a provision for loan losses of $722,000 for the quarter ended March 31, 2009 compared to $308,000 for the quarter ended March 31, 2008. Net charge-offs for the quarter ended March 31, 2009 totaled $230,000 compared to $347,000 for the same period a year ago.
Management believes the increase in provision was necessary to maintain adequate reserves. The level of non-performing assets, net charge-offs, loan impairment, and loan growth were primary considerations in determining the need for the increased provision. Nonperforming assets including the amount of real estate in judgment and foreclosed and repossessed properties, increased from $4.6 million at the end of 2008 to $7.7 million as of March 31, 2009. This increase was largely due to an increase nonperforming loans, specifically in commercial real estate and one to four family residential mortgage loans. The amount of one to four family residential mortgage loans over 90 days past due increased $1.5 million in the first quarter of 2009 compared to December 31, 2008. Management also classified a large commercial loan relationship in the amount of $865,000 as non-performing during the quarter. As mentioned previously net-charge offs decreased of March 31, 2009 compared to the same period ago. Management continues to be aggressive in valuing repossessed properties in efforts to sell quickly. This continues to be a challenge due to the current housing market and the weakened economy. The net charge-offs consisted primarily of one to four family loans, consumer loans and commercial loans not secured by real estate.
The following table presents non-performing assets and certain asset quality ratios at March 31, 2009 and December 31, 2008.

                                                                   March 31, 2009          December 31,2008
                                                                                (In thousands)
Non-performing loans                                              $          5,506        $            2,571
Real estate in judgement                                                     1,191                     1,327
Foreclosed and repossessed assets                                            1,011                       749

Total non-performing assets                                       $          7,708        $            4,647

Non-performing loans to total loans                                           2.26 %                    1.04 %
Non-performing assets to total assets                                         2.54 %                    1.59 %
Allowance for loan losses to non-performing loans                            58.30 %                  105.76 %
Allowance for loan losses to net loans receivable                             1.34 %                    1.10 %

The Bank had 53 non-performing loan relationships as of March 31, 2009 compared to 24 non-performing loan relationships as of December 31, 2008.

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Non-interest Income
Non-interest income for the quarter ended March 31, 2009 increased $374,000, or 37.4%, from $999,000 to $1.4 million compared to the same period a year ago. This increase is attributable to an increase in gain on sale of loans offset by a decrease in fees and services charges.
Net gain on sale loans increased $444,000 for the quarter ended March 31, 2009 from $266,000 to $710,000 compared to the same period a year ago. The increase is largely due to the falling rate environment which has generated a significant amount of one to four family residential mortgage refinancing. Management expects this trend to continue through most of 2009. Fees and service charges decreased $56,000 for the quarter ended March 31, 2009 from $571,000 to $515,000 compared to the same period a year ago. This decrease was a result of a decrease in overdraft fees of $48,000 and a decrease in all other fees and charges of $8,000. Future increases in this source of income are dependent on the Bank increasing the number of checking account customers. Management does not expect significant increases in Bounce Protection income from its existing customer base.
Non-interest Expense
Noninterest expense increased $189,000, or 8.1%, for the three months ended March 31, 2009 compared to the same period ending a year ago. Amortization of mortgage servicing rights increased $80,000 as a result of a continued increase in mortgage loan payoffs due to refinancing associated with the decrease of interest rates in the fourth quarter of 2008. Other general and administrative expenses increased $69,000, from $257,000 to $346,000; this is primarily due to the increase in FDIC insurance expense. Management expects an increase in FDIC insurance expense later this year due to the one time special assessment issued to all banks by the FDIC. Professional services increased $43,000, from $86,000 to 129,000. The increase is due to an increase in legal fees associated with the issuance of preferred stock and common stock warrants as part of the Capital Purchase Program transaction. ATM/Debit card processing increased $15,000 from $46,000 to $61,000 due to an increase in the issuance of atm/debit cards. This was primarily due to the reissuance of atm/debit cards associated with a compromised card processing vendor. Increases in salaries and employee benefits, occupancy and equipment expense and data processing totaled $18,000 for the quarter ended March 31, 2009 compared to the same period a year ago and are attributable to normal yearly increases. Repossessed property expense decreased $26,000, from $58,000 to $32,000, resulting from write downs on properties held in real estate owned taken in the first quarter of 2008. Management expects expenses associated with repossessed properties to be similar to that experienced in 2008 or higher as a result of the increased amount repossessed properties. Amortization of Core deposit intangible decreased $11,000 from $54,000 to 43,000, as amortization of this asset continues to slow from year to year.
Federal Income Tax Expense
The Company's provision for federal income taxes decreased $50,000 for the quarter ended March 31, 2009 compared to the same period in 2008 as our net income before taxes decreased $203,000. The effective tax rate for the quarter ended March 31, 2009 was 25.1% compared to 24.9% for the same period in 2008. The difference between the effective tax rates and the federal corporate income tax rate of 34% is attributable to the low income housing credits available to the Bank from the investment in the limited partnership as well as fluctuation of permanent book and tax differences such as non-taxable income and non-deductible expenses.
LIQUIDITY
The Bank's liquidity, represented by cash, overnight funds and investments, is a product of our operating, investing, and financing activities. The Bank's primary sources of funds are deposits, amortization, prepayments and maturities of outstanding loans, and funds provided from operations. While scheduled payments from the amortization of loans are a relatively predictable source of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. The Bank also generates cash through borrowings. The Bank utilizes Federal Home Loan Bank advances to leverage its capital base and provide funds for its lending and investment activities, and to enhance its interest rate risk management. Liquidity management is both a daily and long-term function of business management. Excess liquidity is generally invested in short-term investments such as overnight deposits. On a longer-term basis, the Bank maintains a strategy of investing in various investments and lending products. The Bank uses its sources of funds primarily to meet its ongoing commitments, to pay maturing certificates of deposit and savings withdrawals and to fund loan commitments. Certificates of deposit scheduled to mature in one year

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or less at March 31, 2009 totaled $58.3 million. Management believes that a significant portion of these certificates of deposit will remain with the Bank provided the Bank pays a rate of interest that is competitive both in the local and national markets.
If necessary, additional funding sources include additional deposits and Federal Home Loan Bank advances. Deposits can be obtained in the local market area and from out of market sources; however, this may require the Bank to offer interest rates higher than those of the competition. At March 31, 2009 and based on current collateral levels, the Bank could borrow an additional $15.9 million from the Federal Home Loan Bank at prevailing interest rates. This borrowing capacity can be increased in the future if the Bank pledges additional collateral to the Federal Home Loan Bank. The Company anticipates that it will continue to have sufficient funds, through deposits and borrowings, to meet its current commitments.
The Bank's total cash and cash equivalents increased by $13.1 million during the three months ended March 31, 2009 compared to a $682,000 increase for the same period in 2008. The primary sources of cash for the three months ended March 31, 2009 were $6.8 million increase in cash generated by the issuance of preferred stock, $9.1 million increase in deposits, $34.3 million in proceeds from the sale of mortgage loans, $2.7 million in maturities of available-for-sale investment securities and $6.8 of principal loan collections in excess of loan originations compared to $13.3 million increase in deposits, $12.4 million in proceeds from the sale of mortgage loans, $6.0 million in proceeds from FHLB advances and $1.0 million in maturities of available-for-sale investment securities. The primary uses of cash for the three months ended March 31, 2009 were $35.0 million of mortgage loans originated for sale, $3.5 million in repayments of FHLB advances $1.0 million in repayment of Fed funds purchased, and $8.6 million in purchases of available-for-sale investment securities compared to $13.1 million of mortgage loans originated for sale, $13.0 million in repayments of FHLB advances and $6.6 million loan originations in excess of principal collections.