PATHFINDER BANCORP INC
The material risks and uncertainties that management believes affect the Company are  described  below.  The  risks and uncertainties described below are not the only ones facing the Company. Additional risks and uncertainties that management is  not  aware  of or that management currently deems immaterial may also impair the  Company's  business operations. This report is qualified in its entirety by these  risk factors. If any of the following risks actually occur, the Company's financial  condition and results of operations could be materially and adversely affected.  CHANGES  IN  INTEREST  RATES  CAN  HAVE  AN  ADVERSE  EFFECT  ON  PROFITABILITY  The  Company's  earnings  and  cash  flows  are  largely  dependent upon its net interest  income.  Net interest income is the difference between interest income earned  on  interest  earning assets such as loans and investment securities and interest  expense  paid  on  interest  bearing  liabilities such as deposits and borrowed  funds.  Interest  rates  are highly sensitive to many factors that are beyond  the  Company's  control,  including  general  economic  conditions, competition,  and  policies of various governmental and regulatory agencies and, in  particular, the Board of Governors of the Federal Reserve System. Changes in monetary  policy,  including changes in interest rates, could influence not only the  interest  the  Company  receives on loans and investment securities and the amount  of  interest  it pays on deposits and borrowings, but such changes could also  affect  (i)  the Company's ability to originate loans and obtain deposits, (ii) the fair value of the Company's financial assets and liabilities, and (iii) the  average  duration  of the Company's assets and liabilities. If the interest rates  paid  on deposits and other borrowings increase at a faster rate than the interest  rates  received  on  loans  and  other  investments, the Company's net interest  income,  and therefore earnings, could be adversely affected. Earnings could  also  be  adversely  affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other  borrowings.       Although  management  believes  it  has  implemented  effective  asset  and liability  management  strategies  to reduce the potential effects of changes in interest  rates  on  the  Company's  results  of  operations,  any  substantial,  - --------------------------------------------------------------------------------                                      Page 9   unexpected,  prolonged  change  in  market  interest rates could have a material adverse  effect  on the Company's financial condition and results of operations. See  Item  7A,  "Quantitative  and  Qualitative  Disclosures  About Market Risk" located elsewhere in this report for further discussion related to the Company's management  of  interest  rate  risk.  ALLOWANCE FOR LOAN LOSSES MAY BE INSUFFICIENT  The  Company's loan customers may not repay their loans according to their terms and  the  collateral  securing the payment of these loans may be insufficient to assure  repayment.  The  Company  may  experience significant loan losses, which would  have  a  material  adverse  effect  on earnings. Management makes various assumptions  and  judgments  about  the  collectibility  of  the loan portfolio, including the creditworthiness of borrowers and the value of the real estate and other  assets  serving  as  collateral  for  the  repayment  of  loans.  The  Company  maintains  an allowance for loan losses in an attempt to cover any loan losses inherent in the portfolio. In determining the size of the allowance, management  relies on an analysis of the loan portfolio based on historical loss experience,  volume  and  types  of  loans, trends in classification, volume and trends in delinquencies and non-accruals, national and local economic conditions and  other  pertinent  information.  If  those  assumptions  are  incorrect, the allowance  may not be sufficient to cover future loan losses and adjustments may be  necessary to allow for different economic conditions or adverse developments in  the  loan  portfolio.  In addition, regulatory agencies review the Company's allowance  for  loan  losses and may require additions to the allowance based on their  judgment  about  information  available  to  them  at  the  time of their examination. An increase in the Company's allowance for loan losses could reduce its  earnings.  EXTENSIVE REGULATION AND SUPERVISION  The  Company,  primarily  through its principal subsidiaries Pathfinder Bank and Pathfinder  Commercial  Bank  and  certain  non-bank subsidiaries, is subject to extensive  federal and state regulation and supervision. Banking regulations are primarily intended to protect depositors' funds, federal deposit insurance funds and  the  banking  system as a whole, not shareholders. These regulations affect the  Company's  lending  practices,  capital  structure,  investment  practices, dividend policy and growth, among other things. The Company is also subject to a number of federal laws, which, among other things, require it to lend to various sectors  of the economy and population, and establish and maintain comprehensive programs relating to anti-money laundering and customer identification. Congress and federal regulatory agencies continually review banking laws, regulations and policies  for  possible  changes. Changes to statutes, regulations or regulatory policies,  including  changes  in  interpretation or implementation of statutes, regulations  or  policies,  could  affect  the  Company  in  substantial  and unpredictable  ways. Such changes could subject the Company to additional costs, limit  the types of financial services and products it may offer and/or increase the  ability  of  non-banks  to offer competing financial services and products, among  other  things. Failure to comply with laws, regulations or policies could result  in  sanctions  by  regulatory  agencies,  civil  money  penalties and/or reputation  damage,  which could have a material adverse effect on the Company's business,  financial  condition  and  results  of  operations.  The  Company's compliance  with  certain of these laws will be considered by banking regulators when  reviewing  bank  merger  and  bank holding company acquisitions. While the Company  has  policies  and  procedures designed to prevent any such violations, there  can  be  no  assurance  that  such  violations  will  not  occur. See the "Regulation  and  Supervision"  section  in  Item  1,  "Business" and Note 17 to consolidated  financial statements included in Item 8, "Financial Statements and Supplementary  Data",  which  are  located  elsewhere  in  this  report.  LOCAL MARKET ECONOMIES  The  Company's business is concentrated in Oswego and parts of Onondaga counties of  New  York  State.  The  economy  in  the  Company's  market  area  is manufacturing-oriented and dependent on the State University of New York College at Oswego.  As a result, its financial condition, results of operations and cash flows  are subject to changes if there are changes in the economic conditions in these  areas. A prolonged period of economic recession or other adverse economic conditions  in  one  or  both of these areas could have a negative impact on the Company. The Company can provide no assurance that conditions in its market area economies  will  not deteriorate in the future and that such deterioration would not  have  a  material  adverse  effect  on  the  Company.  - --------------------------------------------------------------------------------                                    Page 10   COMPETITION  IN  THE  FINANCIAL  SERVICES  INDUSTRY  The  Company faces substantial competition in all areas of its operations from a variety  of  different  competitors,  many of which are larger and may have more financial  resources.  The  Company  competes  with other providers of financial services  such  as  other  bank holding companies, commercial and savings banks, savings  and  loan  associations,  credit unions, money market and mutual funds, mortgage  companies,  title  agencies, asset managers, insurance companies and a growing  list  of  other  local,  regional and national institutions which offer financial  services.  If  the  Company is unable to compete effectively, it will lose market share and income generated from loans, deposits, and other financial products  will  decline.
None  - --------------------------------------------------------------------------------                                    Page 11
The  Bank  conducts  its business through its main office located in Oswego, New York,  and  six  full  service  branch  offices  located  in Oswego County.  The following  table  sets  forth certain information concerning the main office and each  branch  office  of  the Bank at December 31, 2005.  The aggregate net book value  of  the  Bank's  premises  and equipment was $8.0 million at December 31, 2005.  For additional information regarding the Bank's properties, see Note 7 to Notes  to  Financial  Statements       LOCATION                         OPENING DATE  OWNED/LEASED - -------------------------------------------------------------------------------- Main Office                              1874  Owned 214 West First Street Oswego, New York  13126  Plaza Branch                             1989  Owned (1) Route 104, Ames Plaza Oswego, New York  13126  Mexico Branch                            1978  Owned Norman & Main Streets Mexico, New York  13114  Oswego East Branch                       1994  Owned 34 East Bridge Street Oswego, New York  13126  Lacona Branch                            2002  Owned 1897 Harwood Drive Lacona, New York 13083  Fulton Branch                            2003  Owned (2) 5 West First Street South Fulton, New York  13069  Central Square Branch                    2005  Owned 3025 East Ave Central Square, New York  13036  - --------------------------------------------------------------------------------  (1)  The  building  is  owned;  the  underlying  land  is  leased with an annual      rent  of  $19,000 (2)  The building is owned; the underlying land is leased      with an annual rent of $23,000  ITEM  3:  LEGAL  PROCEEDINGS  There  are  various  claims  and  lawsuits  to which the Company is periodically involved  incident to the Company's business.  In the opinion of management such claims and lawsuits in the aggregate are not expected to have a material adverse impact  on  the  Company's  consolidated  financial  condition  and  results  of operations.  ITEM  4:  SUBMISSION  OF  MATTERS  TO  A  VOTE  OF  SECURITY  HOLDERS  No matters were submitted during the fourth quarter of fiscal 2005 to a vote of the Company's shareholders. - --------------------------------------------------------------------------------                                    Page 12   PART II  ITEM  5:  MARKET  FOR REGISTRANT'S COMMON STOCK, RELATED SECURITY HOLDER MATTERS AND  ISSUER  PURCHASES  OF  EQUITY  SECURITIES  Pathfinder  Bancorp, Inc.'s common stock currently trades on the Nasdaq SmallCap market  under  the  symbol  "PBHC".  There were 415 shareholders of record as of March  3,  2006.  The  following  table  sets forth the high and low closing bid prices  and  dividends paid per share of common stock for the periods indicated:                                               DIVIDEND QUARTER ENDED:        HIGH     LOW         PAID - ----------------------------------------------- December 31, 2005   $15.050  $12.360  $  0.1025 September 30, 2005   15.250   13.050     0.1025 June 30, 2005        18.000   14.250     0.1025 March 31, 2005       17.950   16.250     0.1025 - ----------------------------------------------- December 31, 2004   $18.500  $16.250  $  0.1025 September 30, 2004   16.630   14.770     0.1025 June 30, 2004        19.070   15.050      0.100 March 31, 2004       20.999   17.010      0.100 - -----------------------------------------------   DIVIDENDS AND DIVIDEND HISTORY  The Company has historically paid regular quarterly cash dividends on its common stock,  and  the Board of Directors presently intends to continue the payment of regular  quarterly  cash dividends, subject to the need for those funds for debt service and other purposes.  Payment of dividends on the common stock is subject to  determination and declaration by the Board of Directors and will depend upon a  number  of factors, including capital requirements, regulatory limitations on the  payment  of  dividends,  Pathfinder  Bank  and  its subsidiaries results of operations  and  financial  condition,  tax considerations, and general economic conditions.  The  Company's  mutual holding company, Pathfinder Bancorp, M.H.C., may  elect  to  waive  or  receive  dividends  each  time the Company declares a dividend.  The  election  to  waive  the  dividend  receipt  requires  prior non-objection  of  the Office of Thrift Supervision.  Pathfinder Bancorp, M.H.C. elected  to  waive  its  dividend  for  the  quarters  ended  March 31, 2005 and September  30,  2005.  During  2006, Pathfinder Bancorp, M.H.C. expects to waive two  quarterly  dividends.  - --------------------------------------------------------------------------------                                    Page 13   ITEM  6:  SELECTED  FINANCIAL  DATA  Pathfinder  Bancorp,  Inc.  ("the  Company") is the parent company of Pathfinder Bank  and  Pathfinder  Statutory  Trust  I.  Pathfinder Bank has three operating subsidiaries  - Pathfinder Commercial Bank, Pathfinder REIT Inc., and Whispering Oaks Development, Inc.  The  following selected consolidated financial data sets forth certain financial highlights  of  the  Company  and  should  be  read  in  conjunction  with  the consolidated  financial  statements  and  related  notes,  and the "Management's Discussion  and  Analysis  of  Financial  Condition  and  Results of Operations" included  elsewhere  in  this  annual  report  on  Form  10-K.                                                              2005       2004       2003       2002       2001 - ----------------------------------------------------------------------------------------------------- YEAR END (In thousands) Total assets                                    $296,948   $302,037   $277,940   $279,056   $244,514 Loans receivable, net                            187,889    185,125    187,002    179,001    162,588 Deposits                                         236,377    236,672    206,894    204,522    169,589 Equity                                            20,928     21,826     21,785     23,230     22,185 FOR THE YEAR (In thousands) Net interest income                             $  8,742   $  8,905   $  9,337   $  8,789   $  7,853 Noninterest income                                 2,040      3,047      2,608      2,094      1,864 Core noninterest income (a)                        2,333      1,996      1,740      1,511      1,355 Noninterest expense                               10,060      9,307      9,094      7,964      6,863 Net income                                           462      1,405      1,652      1,156      1,602 PER SHARE Net income (basic)                              $   0.19   $   0.58   $   0.68   $   0.45   $   0.62 Book value                                          8.50       8.91       8.96       8.90       8.64 Tangible book value (b)                             6.77       7.04       7.03       7.02       7.63 Cash dividends declared                            0.410      0.405       0.40       0.30       0.26 RATIOS Return on average assets                            0.15%      0.47%      0.59%      0.45%      0.68% Return on average equity                            2.16       6.45       7.61       5.01       7.34 Return on average tangible equity (b)               2.72       8.17       9.77       7.03       8.29 Average equity to average assets                    6.95       7.29       7.77       8.94       9.22 Dividend payout ratio (c)                         147.84      47.54      39.41      36.76      28.37 Allowance for loan losses to loans receivable       0.89       0.98       0.91       0.82       1.03 Net interest rate spread                            3.07       3.22       3.53       3.47       3.35 Noninterest income to average assets                0.66       1.02       0.93       0.81       0.79 Core noninterest income to average assets (a)       0.76       0.67       0.62       0.59       0.57 Noninterest expense to average assets               3.28       3.12       3.26       3.09       2.90 Efficiency ratio (d)                               93.30      77.87      76.13      73.18      70.61        (a)  Core  noninterest  income  excludes  net  (losses)  gains on sales and           impairment of investment securities and net (losses) gains on sales of           loans and foreclosed real estate.       (b)  Tangible equity excludes intangible assets.       (c)  The  dividend  payout  ratio  is  calculated  using dividends declared           and  not  waived  by  the  Company's  mutual  holding  company parent,           Pathfinder Bancorp, M.H.C., divided by net income.       (d)  The  efficiency  ratio  is  calculated  as noninterest expense divided           by the sum of net interest income and noninterest income.  - --------------------------------------------------------------------------------                                    Page 14   ITEM  7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF  OPERATIONS  INTRODUCTION  Throughout  the  Management's  Discussion  and  Analysis ("MD&A") the term, "the Company",  refers  to  the  consolidated  entity  of  Pathfinder  Bancorp,  Inc. Pathfinder  Bank  and Pathfinder Statutory Trust I are wholly owned subsidiaries of  Pathfinder  Bancorp,  Inc.,  however,  Pathfinder  Statutory  Trust  I  is deconsolidated  for  reporting  purposes  (see  Note 10).  Pathfinder Commercial Bank,  Pathfinder  REIT,  Inc.  and  Whispering Oaks Development, Inc. represent wholly  owned subsidiaries of Pathfinder Bank.  At December 31, 2005, Pathfinder Bancorp,  M.H.C,  the  Company's mutual holding company parent, whose activities are  not  included  in  the MD&A, held 64.3% of the Company's outstanding common stock  and  the  public  held  35.7%.  When  used in this Annual Report the words or phrases "will likely result", "are expected  to",  "will  continue",  "is  anticipated",  "estimate",  "project" or similar  expression are intended to identify "forward-looking statements" within the  meaning  of  the  Private  Securities  Litigation Reform Act of 1995.  Such statements  are  subject  to  certain  risks and uncertainties, including, among other  things,  changes  in  economic  conditions  in the Company's market area, changes  in  policies  by  regulatory  agencies, fluctuations in interest rates, demand for loans in the Company's market areas and competition, that could cause actual results to differ materially from historical earnings and those presently anticipated  or  projected.  The  Company wishes to caution readers not to place undue  reliance  on  any such forward-looking statements, which speak only as of the  date  made.  The  Company  wishes to advise readers that the factors listed above  could  affect  the  Company's  financial  performance and could cause the Company's  actual  results  for  future  periods  to  differ materially from any opinions  or  statements expressed with respect to future periods in any current statements.  The  Company  does  not  undertake, and specifically declines any obligation, to publicly  release  the  results  of  any  revisions,  which  may  be made to any forward-looking  statements to reflect events or circumstances after the date of such  statements  or  to  reflect the occurrence of anticipated or unanticipated events.  The  Company's business strategy is to operate as a well-capitalized, profitable and  independent  community bank dedicated to providing value-added products and services  to our customers.  Generally, the Company has sought to implement this strategy  by  emphasizing  retail  deposits  as  its primary source of funds and maintaining  a  substantial part of its assets in locally-originated residential first  mortgage  loans,  loans to business enterprises operating in its markets, and  in  investment  securities.  Specifically,  the Company's business strategy incorporates  the  following  elements:  (i)  operating  as  an  independent community-oriented  financial institution; (ii) maintaining capital in excess of regulatory  requirements;  (iii)  emphasizing  investment  in one-to-four family residential mortgage loans, loans to small businesses and investment securities; and  (iv)  maintaining  a  strong  retail  deposit  base.  The  Company's  net  income  is  primarily dependent on its net interest income, which  is  the  difference  between interest income earned on its investments in mortgage  and  other loans, investment securities and other assets, and its cost of  funds  consisting  of  interest  paid on deposits and other borrowings.  The Company's  net income also is affected by its provision for loan losses, as well as  by  the  amount  of  noninterest income, including income from fees, service charges and servicing rights, net gains and losses on sales of securities, loans and  foreclosed  real  estate,  and  noninterest  expense  such  as  employee compensation  and benefits, occupancy and equipment costs, data processing costs and  income  taxes.  Earnings  of the Company also are affected significantly by general  economic  and  competitive  conditions,  particularly changes in market interest rates, government policies and actions of regulatory authorities, which events  are beyond the control of the Company.  In particular, the general level of  market  rates  tends  to  be  highly  cyclical.  - --------------------------------------------------------------------------------                                    Page 15   APPLICATION  OF  CRITICAL  ACCOUNTING  POLICIES  The  Company's consolidated financial statements are prepared in accordance with accounting  principles  generally  accepted  in  the  United  States  and follow practices within the banking industry.  Application of these principles requires management  to make estimates, assumptions and judgments that affect the amounts reported  in  the financial statements and accompanying notes.  These estimates, assumptions  and  judgments are based on information available as of the date of the  financial  statements;  accordingly,  as  this  information  changes,  the financial  statements  could  reflect  different  estimates,  assumptions  and judgments.  Certain  policies  inherently  have a greater reliance on the use of estimates,  assumptions  and judgments and as such have a greater possibility of producing  results  that could be materially different than originally reported. Estimates,  assumptions  and judgments are necessary when assets and liabilities are required to be recorded at fair value or when an asset or liability needs to be  recorded contingent upon a future event.  Carrying assets and liabilities at fair  value inherently results in more financial statement volatility.  The fair values  and  information used to record valuation adjustments for certain assets and  liabilities  are  based  on  quoted  market prices or are provided by other third-party  sources,  when  available.  When  third  party  information  is not available,  valuation  adjustments  are  estimated  in good faith by management.  The  most  significant accounting policies followed by the Company are presented in  Note 1 to the consolidated financial statements.  These policies, along with the  disclosures  presented  in  the other financial statement notes and in this discussion,  provide  information  on how significant assets and liabilities are valued  in  the financial statements and how those values are determined.  Based on  the  valuation  techniques  used  and the sensitivity of financial statement amounts  to  the  methods,  assumptions  and estimates underlying those amounts, management  has identified the determination of the allowance for loan losses to be  the accounting area that requires the most subjective and complex judgments, and  as  such  could  be the most subject to revision as new information becomes available.  The  allowance for loan losses represents management's estimate of probable loan losses  inherent  in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant  judgment  and the use of estimates related to the amount and timing of  expected  future  cash flows on impaired loans, estimated losses on pools of homogeneous  loans  based  on  historical  loss experience, and consideration of current  economic  trends  and  conditions,  all  of which may be susceptible to significant  change.  The  loan portfolio also represents the largest asset type on  the  consolidated  balance  sheet.  Note  1  to  the  consolidated financial statements  describes  the  methodology used to determine the allowance for loan losses,  and  a  discussion  of the factors driving changes in the amount of the allowance  for  loan  losses  is  included  in  this  report.  The  Company  carries  all  of  its  security investments at fair value with any unrealized gains or losses reported net of tax as an adjustment to shareholders' equity.  Based on management's assessment, at December 31, 2005, the Company did not  hold  any security that had a fair value decline that is currently expected to be other than temporary.  Consequently, any declines in a specific security's fair  value  below  amortized  cost  have  not  been  provided for in the income statement.  The  Company's  ability to fully realize the value of its investment in  various securities, including corporate debt securities, is dependent on the underlying  creditworthiness  of  the  issuing  organization.  EXECUTIVE  SUMMARY  During  2005,  the  Company  focused  on  expanding its branch network in Oswego County  by  opening a full service branch in Central Square, New York in June of 2005.  Total deposits for the new branch at December 31, 2005 were $6.3 million. Total  deposits for the Company remained relatively consistent at $236.4 million at  December  31,  2005  while  the  average  balance of deposits increased $8.1 million  to  $220.5  million  at  2005.  The  Company  will continue to focus on building  its  market  share  in Central Square and developing more core deposit relationships  in  its  existing  markets  during  2006.  Total  assets decreased 2%, primarily in the investment securities portfolio and interest-earning deposits.  The loan portfolio increased 1% as net growth in the commercial  real  estate, commercial and consumer loan portfolios were partially offset  by  a  decrease in the residential real estate portfolio.  Asset quality  - --------------------------------------------------------------------------------                                    Page 16   continued  to  improve  during  2006.  Nonperforming  assets to total assets was 0.81% at December 31, 2005 compared to 0.88% in the prior year.  The improvement in asset quality is attributable to the enhancement of collection procedures and the  resolution  through  foreclosure  and  charge-off of two commercial lending relationships.  The  Company  expects  to  concentrate  on  continued commercial mortgage  and  commercial  loan  growth  during  2006.  Net  income  for  2005  was  $462,000,  or  $0.19 per share, as compared to $1.4 million,  or  $0.58  per  share,  in  2004.  Net interest margin compression; an impairment  charge  and  strategic  losses  taken  in  the investment securities portfolio;  the  additional  costs  of  operating  a  new  branch; and personnel restructuring  charges impacted earnings negatively during 2005.  An improvement in  asset  quality  and  an  increase  in  service  charges  on deposit accounts partially  offset  these  charges  to  income.  The  Company  experienced  net interest margin compression to 3.21% in 2005 from 3.35%  in  2004.  Net  interest income decreased 2% to $8.7 million for the year ended  December  31,  2005.  The  Company  expects  continued  pressure  on core earnings  as  short-term rates are anticipated to continue to rise and long-term rates  are  expected  to  remain  relatively  unchanged.  This  interest  rate environment  impacts  the Company's liability sensitive balance sheet negatively as  deposits  and  borrowings  reprice  more  rapidly  than loans and investment securities.  The  Company has implemented an asset/liability management strategy to  combat  the  current  interest rate environment including the growth of more rate  sensitive commercial real estate and commercial loan portfolio, increasing core  deposit  relationships  and  strategies  to  mitigate  the  rising cost of deposits.  The Company's efforts to enhance other interest income during 2005 by increasing the  customer  deposit  base  and  increasing  overdraft,  returned  check  and non-sufficient  fund  charges  to  be  more  reflective  with  local competition resulted  in  a 36% increase in service charges on deposit accounts during 2005. The  Company  opened  a  new branch in Central Square, New York in June of 2005. The  branch  successfully  gathered  $6.3 million in deposits in the first seven months.  The  Company  will  continue  to  focus  on growing our market share in Central  Square.  Salaries  and  employee  benefits and building occupancy costs increased  primarily  from  the  addition of the new branch combined with fourth quarter  personnel realignment costs.  The Company expects salaries and benefits and  building occupancy to increase, as a full year of Central Square operations will  be  reflected  in  2006.   The  Company  continues  to explore cost saving strategies  to  minimize  the  growth  of  other  operating  expenses.  RESULTS  OF  OPERATIONS  Net  income  for  2005 was $462,000, a decrease of $943,000, or 67%, compared to net  income  of  $1.4  million  for 2004.  Basic earnings per share decreased to $0.19  per  share  for the year ended December 31, 2005 from $0.58 per share for the  year  ended  December  31, 2004.  Return on average equity decreased 67% to 2.16%  in  2005  from  6.45%  in  2004.  Net  interest  income,  on  a  tax  equivalent basis, decreased $106,000, or 1%, primarily  resulting  from interest rate spread compression as shorter term cost of  funds  are  repricing  at  higher  rates  faster  than  longer  term assets. Provision for loan losses at December 31, 2005 decreased 58% reflecting improved asset  quality  during  2005,  combined  with  slower  loan growth.  The Company experienced  a 16% increase in other income, net of securities gains and losses, primarily  attributable  to  increased  deposit  levels  and the related service charges  associated  with  checking  accounts,  combined with an increase in the value  of bank owned life insurance.  Operating expenses increased 8% due to the hiring of additional staff and related operating costs at the new Central Square branch,  which  opened  in  June  of  2005, along with increased data processing expenses  and  an  increase  in  professional  and  other  services.  NET  INTEREST  INCOME  Net  interest  income  is  the  Company's primary source of operating income for payment of operating expenses and providing for possible loan losses.  It is the amount  by  which  interest  earned  on  interest-earning  deposits,  loans  and investment  securities, exceeds the interest paid on deposits and other borrowed money.  Changes  in net interest income and the net interest margin ratio result from  the  interaction  between the volume and composition of earning assets and interest-bearing  liabilities,  and  their  respective yields and funding costs.  - --------------------------------------------------------------------------------                                    Page 17   Net  interest  income,  on a tax-equivalent basis, decreased $106,000, or 1%, to $9.0 million for the year ended December 31, 2005, as compared to the year ended December  31,  2004.  The  Company's  net  interest margin for 2005 decreased to 3.21%  from  3.35% in 2004.  The decrease in net interest income is attributable to  increased  costs of interest-bearing liabilities and was partially offset by an  increase  in  the  yields on interest earning assets. The average balance of interest-earning  assets  grew  $8.2 million, or 3%, during 2005 and the average balance  of  interest-bearing  deposits  increased  by $8.1 million, or 4%.  The increase  in  the  average  balance  of  interest-bearing  liabilities primarily resulted  from  an  increase  in  the  average  balance  of retail and municipal deposits.  As  a  result,  interest income, on a tax-equivalent basis, increased $677,000  during 2005.  Interest expense on deposits increased $680,000, or 19%, as  the  cost of deposits rose to 1.96% in 2005 from 1.71% in 2004.  In addition to  the  increase  in  the cost of deposits, interest expense on borrowings also increased  by  $103,000,  or  5%,  from  the  prior  year.  In  comparison,  net  interest  income  decreased  $375,000,  or  4%,  on  a tax-equivalent  basis,  from  2003 to 2004.  The decrease in net interest income was  comprised  of  a  decrease in interest income of $751,000, or 5%, partially offset by a decrease in interest expense of $375,000, or 6%. The average balance of  interest-earning  assets  grew  $14.6  million  during  2004 and the average balance  of  interest-bearing deposits increased by $20.7 million.  The increase in  the  average balance of interest-bearing liabilities primarily resulted from attracting  new  municipal deposit customers.  The decrease in the average yield on  interest-earning  assets  by  60  basis  points  resulted  from the downward repricing  of loans from refinancing and originations in the lower interest rate environment  and the purchase of $35.6 million in investment securities at lower yields  than  the  existing  portfolio.  - --------------------------------------------------------------------------------                                    Page 18   AVERAGE  BALANCES  AND  RATES  The  following  table sets forth information concerning average interest-earning assets  and  interest-bearing  liabilities  and  the  yields  and rates thereon. Interest  income  and  resultant  yield  information  in the table is on a fully tax-equivalent  basis  using  marginal federal income tax rates of 34%. Averages are  computed  on the daily average balance for each month in the period divided by  the  number  of  days  in the period. Yields and amounts earned include loan fees.  Non-accrual  loans  have  been  included  in  interest-earning assets for purposes of these calculations.                                                             2005                         2004 - --------------------------------------------------------------------------------------------------------                                                                  Average                         Average                                             Average              Yield /    Average               Yield/ (Dollars in thousands)                      Balance   Interest     Cost     Balance   Interest     Cost - --------------------------------------------------------------------------------------------------------                                                   Interest-earning assets: Real estate loans residential              $121,875   $   7,092     5.82%  $124,734   $   7,491     6.01% Real estate loans commercial                 29,385       2,181     7.42%    30,958       2,254     7.28% Commercial loans                             17,563       1,135     6.46%    16,060         901     5.61% Consumer loans                               19,257       1,418     7.36%    17,427       1,194     6.85% Taxable investment securities                74,496       2,728     3.66%    65,480       2,220     3.39% Tax-exempt investment securities             13,202         681     5.16%     8,603         488     5.67% Interest-earning deposits                     3,041          71     2.33%     7,338          81     1.10% - -------------------------------------------------------------------------------------------------------- Total interest-earning assets              $278,819   $  15,306     5.49%  $270,600   $  14,629     5.41% Noninterest-earning assets: Other assets                                 31,455                          30,236 Allowance for loan losses                    (1,835)                         (1,792)  Net unrealized gains   on available for sale securities           (1,307)                           (515) - -------------------------------------------------------------------------------------------------------- Total  Assets                              $307,132                        $298,529 ========================================================================================================= Interest-bearing liabilities: NOW accounts                               $ 19,877   $     107     0.54%  $ 20,808   $     135     0.65% Money management accounts                    41,380         835     2.02%    40,775         567     1.39% Savings and club accounts                    65,558         291     0.44%    68,046         453     0.67% Time deposits                                93,732       3,086     3.29%    82,769       2,484     3.00% Junior subordinated debentures                5,155         351     6.72%     5,155         251     4.80% Borrowings                                   37,348       1,686     4.51%    37,674       1,683     4.47% - -------------------------------------------------------------------------------------------------------- Total Interest-bearing liabilities         $263,050   $   6,356     2.42%  $255,227   $   5,573     2.18% - -------------------------------------------------------------------------------------------------------- Noninterest-bearing liabilities: Demand deposits                              19,324                          17,974 Other liabilities                             3,416                           3,556 - ------------------------------------------------------------------------------------ Total liabilities                           285,790                         276,757 - ------------------------------------------------------------------------------------ Shareholders' equity                         21,342                          21,772 - ------------------------------------------------------------------------------------ Total liabilities & shareholders' equity   $307,132                        $298,529 ==================================================================================== Net interest income                                   $   8,950                       $   9,056 Net interest rate spread                                            3.07%                           3.22% Net interest margin                                                 3.21%                           3.35% - --------------------------------------------------------------------------------------------------------- Ratio of average interest-earning assets to average interest-bearing liabilities                           105.99%                         106.02% - ---------------------------------------------------------------------------------------------------------                                                             2003 - ------------------------------------------------------------------------                                                                  Average                                             Average               Yield/ (Dollars in thousands)                      Balance   Interest     Cost - ------------------------------------------------------------------------                                               Interest-earning assets: Real estate loans residential              $129,687   $   8,346     6.44% Real estate loans commercial                 31,122       2,480     7.97% Commercial loans                             14,181         798     6.37% Consumer loans                               15,787       1,225     7.76% Taxable investment securities                54,115       2,193     4.05% Tax-exempt investment securities              7,869         305     3.87% Interest-earning deposits                     3,252          33     0.99% - ------------------------------------------------------------------------ Total interest-earning assets              $256,013   $  15,380     6.01% Noninterest-earning assets: Other assets                                 24,859 Allowance for loan losses                    (1,591)  Net unrealized gains   on available for sale securities               52 - ------------------------------------------------------------------------ Total  Assets                              $279,333 ========================================================================= Interest-bearing liabilities: NOW accounts                               $ 17,663   $     140     0.79% Money management accounts                    21,788         248     1.14% Savings and club accounts                    66,481         511     0.77% Time deposits                                85,751       2,852     3.33% Junior subordinated debentures                5,000         236     4.66% Borrowings                                   43,490       1,961     4.51% - ------------------------------------------------------------------------- Total Interest-bearing liabilities         $240,173   $   5,948     2.48% - ------------------------------------------------------------------------- Noninterest-bearing liabilities: Demand deposits                              16,345 Other liabilities                             1,098 - ------------------------------------------------------------------------ Total liabilities                           257,616 - ------------------------------------------------------------------------ Shareholders' equity                         21,717 - ------------------------------------------------------------------------ Total liabilities & shareholders' equity   $279,333 ========================================================================= Net interest income                                   $   9,432 Net interest rate spread                                            3.53% Net interest margin                                                 3.68% - ------------------------------------------------------------------------- Ratio of average interest-earning assets to average interest-bearing liabilities                           106.60% =========================================================================   INTEREST  INCOME  Changes  in  interest  income are derived as a result of the volume of loans and securities,  as measured by changes in the respective average balance and by the related  yields  on  those  balances.  Interest income on a tax-equivalent basis increased  $67,000,  or  5%.  Average  loans  decreased  1% in 2005, with yields increasing  3  basis  points to 6.29% The Company's average residential mortgage loan  portfolio  decreased  $2.9 million, or 2%, when comparing the year 2005 to  - --------------------------------------------------------------------------------                                    Page 19   2004.  The average yield on the residential mortgage loan portfolio decreased 19 basis  points  to  5.82%  in  2005  from  6.01%  in  2004.  The $20.2 million in residential  mortgage  originations  were  made at lower rates than the weighted average  yield of the existing portfolio.  An increase in the average balance of consumer loans of $1.8 million, or 11%, resulted from an increase in home equity loans. The average yield increased 51 basis points, to 7.36% from 6.85% in 2004, primarily-  resulting from the increase in home equity loans, which are based on the  Bank's  prime  rate.  Average  commercial  loans  increased  9%  while  the tax-equivalent  yield  increased  85  basis  points to 6.46% in 2005 compared to 5.61%,  in  2004.  Increases  in the average balance of residential real estate, consumer  and  commercial loan portfolios were partially offset by a decrease in the  average balance of commercial real estate portfolio of $1.6 million, or 5%.  Average  loans  decreased $1.6 million in 2004, with average yields declining 48 basis  points to 6.26%.  The interest income on loans decreased $1.0 million, or 8%,  in  2004 compared to 2003.  For the comparable periods, average residential mortgage  loans  decreased $5.0 million, or 4%, average consumer loans increased $1.6 million, or 10%, partially offset by a decrease in average commercial loans by  $1.9 million, or 13%, and a decrease in average commercial mortgage loans by $164,000,  or 1%.  Loans were originated at lower rates than in the prior period and  a  large  volume of existing mortgages had their rates modified downward or were  refinanced  at  lower  rates.  Interest income on investment securities increased 26% from 2005, resulting from an  increase  in  the  average  balance  of  investment  securities (taxable and tax-exempt)  by  $13.6  million,  or  18%,  to  $87.7 million in 2005 from $74.1 million in 2004.  The tax-equivalent yield increased 23 basis points to 3.89% in 2005  from  3.66% in 2004 resulting primarily from the purchase of $23.4 million in  investment  securities  during  2005  at  higher  yields  than  the existing investment  portfolio  combined  with the sale of $4.3 million in lower yielding investment  securities  from  the  portfolio  in  the  fourth  quarter  of 2005.  Average  investment  securities  (taxable  and  tax-exempt) in 2004 increased by $12.1  million,  with  an  increase  in  tax-equivalent  interest  income  from investments  of  $210,000,  or 8%, compared to 2003.  The average tax-equivalent yield  of  the  portfolio  declined  37  basis points, to 3.66% from 4.03%.  The increase in the average balance of investment securities and the decrease in the tax-equivalent yield resulted from the significant investment purchases at lower yields  than  the  existing  investment  portfolio.  INTEREST  EXPENSE  Changes  in  interest  expense are derived as a result of the volume of deposits and  borrowings as measured by changes in the respective average balances and by the  related  interest  costs  on  those  balances.  Interest  expense increased $783,000,  or  14%, in 2005, when compared to 2004.  The increase in the cost of funds  resulted  from  an  increase  in  the  average  cost  of interest-bearing liabilities  of  24  basis points, to 2.42% in 2005 from 2.18% at 2004, combined with  a  $7.8  million  increase  in  the  average  balance  of interest-bearing liabilities during 2005.  The average cost of deposits increased 25 basis points to  1.96%  during 2005 from 1.71% for 2004.  The increase in the cost of average deposits  resulted  from  rising short-term interest rates.  The average cost of money  management  accounts  increased  63  basis  points  and  the cost of time deposits  increased  29 basis points.  The average balance of deposits increased $8.1  million  to  $220.5  million  at  2005  from  $212.4 million at 2004.  The increase  in  the  average  balance  of  deposits primarily resulted from a $2.9 million,  or  11%,  increase  in  average  balance  of municipal deposits as the Company  continues  to  garner  new relationships and an increase in the average balance  of  retail  deposits resulting primarily from the new branch in Central Square.  The  cost of junior subordinated debentures increased 192 basis points, increasing  interest  expense  by  $100,000.  Interest  expense  decreased  $375,000,  or  6%,  in 2004 compared to 2003.  The average cost of interest bearing liabilities declined 30 basis points during the 12  months  ended  December  31,  2004.  - --------------------------------------------------------------------------------                                    Page 20   RATE/VOLUME  ANALYSIS  Net  interest  income  can  also  be analyzed in terms of the impact of changing interest  rates  on interest-earning assets and interest-bearing liabilities and changing  the  volume  or  amount of these assets and liabilities. The following table  represents  the  extent to which changes in interest rates and changes in the  volume  of  interest-earning  assets  and interest-bearing liabilities have affected  the  Company's interest income and interest expense during the periods indicated. Information is provided in each category with respect to: (i) changes attributable  to  changes in volume (change in volume multiplied by prior rate); (ii)  changes  attributable  to  changes  in rate (changes in rate multiplied by prior  volume);  and  (iii) total increase or decrease.  Changes attributable to both  rate  and  volume  have  been  allocated  ratably.                                                 YEARS ENDED DECEMBER 31, - ------------------------------------------------------------------------------------                                         2005 VS. 2004            2004 VS. 2003 - ------------------------------------------------------------------------------------                                INCREASE/(DECREASE) DUE TO INCREASE/(DECREASE) DUE TO - ------------------------------------------------------------------------------------                                                     TOTAL                     TOTAL                                                   INCREASE                  INCREASE In thousands)                     VOLUME  RATE  (DECREASE) VOLUME   RATE  (DECREASE) - ------------------------------------------------------------------------------------        INTEREST INCOME: Real estate loans residential      $(168)  $(231)  $(399)  $(311)  $  (544)  $(855) Real estate loans commercial        (116)     43     (73)    (13)     (213)   (226) Commercial loans                      89     145     234      81        22     103 Consumer loans                       131      93     224     120      (151)    (31) Taxable investment securities        322     186     508     417      (390)     27 Tax-exempt investment securities     240     (47)    193      31       152     183 Interest-earning deposits            (65)     55     (10)     45         3      48 - ------------------------------------------------------------------------------------ Total interest income                433     244     677     370    (1,121)   (751) - ------------------------------------------------------------------------------------ INTEREST EXPENSE: NOW  accounts                         (6)    (22)    (28)     22       (27)     (5) Money management accounts              8     260     268     255        64     319 Savings and club accounts            (16)   (146)   (162)     12       (70)    (58) Time deposits                        348     254     602     (96)     (272)   (368) Junior subordinated debentures         -     100     100       8         7      15 Borrowings                           (13)     16       3    (262)      (16)   (278) - ------------------------------------------------------------------------------------ Total interest expense               321     462     783     (61)     (314)   (375) - ----------------------------------------------------------------------------------- Net change in net interest income  $ 112   $(218)  $(106)  $ 431   $  (807)  $(376) ===================================================================================   - --------------------------------------------------------------------------------                                    Page 21   NONINTEREST  INCOME  The  Company's  noninterest  income  is  primarily  comprised of fees on deposit account balances and transactions, loan servicing, commissions, and net gains on securities,  loans  and  foreclosed  real  estate.  The following table sets forth certain information on noninterest income for the years  indicated.                                                                   FOR THE YEARS ENDED DECEMBER 31,                                                                ------------------------------- (In thousands)                                                         2005     2004    2003 - ---------------------------------------------------------------------------------------------     Service charges on deposit accounts                                   $1,318   $  967  $  818 - --------------------------------------------------------------------------------------------- Loan servicing fees                                                      215      256     282 Increase in the value of bank owned life insurance                       218      175     171 Other charges, commissions and fees                                      582      598     469 Core noninterest income                                               $2,333   $1,996  $1,740 - --------------------------------------------------------------------------------------------- Net (losses) gains on sales and impairment of investment securities     (205)     772     542 Net (losses) gains on sales of loans and foreclosed real estate          (88)     279     326 - --------------------------------------------------------------------------------------------- Total noninterest income                                              $2,040   $3,047  $2,608 =============================================================================================   Noninterest  income in 2005 decreased 33%, when compared to 2004, as a result of a  17%  increase  in core noninterest income and a 128% decrease in the non-core items,  net  (losses) gains on sales and impairment of investment securities and net  (losses)  gains  on  sales  of  loans  and foreclosed real estate.  Service charges  on  deposit  accounts  increased  36% as the number of deposit accounts increased,  a  full  year's  effect  of a fee enhancement program, increased ATM usage  fees  and  increased internet banking usage. The value of bank owned life insurance  increased  25%.  These  reductions  in  core  noninterest income were offset by a decrease in loan servicing fees of 16%, primarily due to a reduction in  fees associated with mortgage and commercial loan late charges, and internal mortgage  legal  fees.  Investment  security  losses  increased  $977,000,  when compared  to  the  2004  period resulting primarily from net gains recognized in prior  years  combined  with  a $193,000 impairment loss recognized on an equity security  and fourth quarter investment portfolio restructurings.  Net losses on the sale of loans/foreclosed real estate increased $367,000 when compared to the prior  year,  as  a result of a $215,000 reduction in the gain recognized on the sale  of  loans to the secondary market as the volume of loans sold decreased by 25%,  combined  with  adjustments  made  to the Fannie Mae custodial accounts to cover  additional  interest  due  caused  by early pay offs of sold and serviced loans.  Additionally,  a  $74,000  gain  was recognized in 2004 on the remaining building  lots  held  by  Whispering  Oaks  Development,  Inc.  Noninterest income in 2004 increased 17%, compared to 2003, as a result of a 10% increase  in  core  noninterest income and a 42% increase in the non-core items, net gains on sales and impairment of investment securities.  The increase in the number  of  deposit  accounts  and the introduction of new services to customers primarily  accounted  for  the  $149,000  increase in service charges on deposit accounts  when  compared  to  2003.  A  $129,000  increase  in  other  charges, commissions and fees primarily resulted from recording $54,000 in New York State grant  income  associated  with  a  company  wide Leadership Training initiative program,  along  with  increased foreign ATM usage fees and fees associated with the  company's  Visa debit card.  Net gains on the sale of loans/foreclosed real estate  decreased  $47,000, or 14%, resulting primarily from a $40,000 reduction in  the  gain  recognized  on  the  sale of loans to the secondary market as the volume  of  loans  sold  decreased  47%.  Investment  security  gains  increased $230,000,  or  42%,  when  compared to the 2003 period.  Investment security net gains  were  recorded  on  the  sale  of  equity  and corporate debt securities.  - --------------------------------------------------------------------------------                                    Page 22   NONINTEREST  EXPENSE  The  following  table  sets forth certain information on noninterest expense for the  years  indicated.                                    FOR THE YEARS ENDED DECEMBER 31,                                 --------------------------------- (In thousands)                        2005       2004       2003 - ------------------------------------------------------------------     Salaries and employee benefits     $ 5,123     $4,798     $4,455 Building occupancy                   1,178      1,169      1,159 Data processing expenses             1,226        981        868 Professional and other services        818        682        770 Amortization of intangible asset       223        223        223 Other expenses                       1,492      1,454      1,619 - ------------------------------------------------------------------ Total noninterest expense          $10,060     $9,307     $9,094 ==================================================================   Noninterest expenses increased $753,000, or 8%, for the 12 months ended December 31,  2005 when compared to 2004.  Salaries and employee benefits increased 7% in 2005  primarily  resulting from incremental salary raises, the staffing of a new Central  Square  branch  and fourth quarter personnel realignment costs.  The 1% increase  in  building  occupancy  is  primarily due to the operation of the new Central  Square branch for 7 months of 2005. The 25% increase in data processing expenses  during  2005 related to increased depreciation expense, an increase in internet  banking  expense  due  to  increased  volume of users, increased check processing  charges  due  to  an increase in deposit accounts, and the increased annual  maintenance  expense  on  our  core processing system.  Professional and other  services  increased 20% due to outside consulting charges for performance management,  a  process  improvement  program,  and strategic planning projects, along with increased advertising fees for the new Central Square branch.  The 3% increase  in  other  operating  expenses during 2005 resulted primarily from the charge off of losses on ATM transactions and bad checks, additional ORE expenses associated  with  taxes and maintenance of properties, the write off of property and  equipment at our former Fulton Branch, as well as an increase in audits and exams.  These  expenses  were  offset  by  decreases  in postage expense, office supply  expense and lower mortgage recording taxes due to decreased loan volume.  Noninterest expenses increased $213,000, or 2%, for the 12 months ended December 31,  2004 when compared to 2003.  Salaries and employee benefits increased 8% in 2004  primarily  resulting  from  incremental  salary raises and promotions, the hiring  of  a  Human Resource Manager and increased pension and health insurance costs.  The  13%  increase  in  data  processing expenses during 2004 related to additional depreciation costs associated with a full year's operation of the new Fulton  branch,  combined  with  a  15%  increase  in  internet  banking  usage, additional check processing charges due to a 5% increase in customer volume from a  checking  account  acquisition program, and additional ATM processing charges related  to  the  installation  of  a  new ATM machine and products and supplies resulting  from the increase in customer volume. Professional and other services decreased 11% due to a reduction in legal fees relating to a foreclosed property in  2003  not  recurring in 2004, and a reduction in mortgage consulting fees as in-house  personnel  were  used  to perform work that was originally contracted. These  reductions  were offset by an increase in consulting fees associated with the  checking  account  acquisition  program  and  expenses  associated  with  a leadership  training  program.  Corresponding  grant  income  recorded  in other income  offset  the  leadership  training program expenses.  The 10% decrease in other  operating expenses during 2004 resulted primarily from a $164,000 expense relating  to  personnel  realignment  in  2003.  INCOME  TAX  EXPENSE  In  2005,  the  Company  reported  an  income tax benefit of $51,000 compared to income tax expense of $502,000 in 2004.  The income tax benefit in 2005 resulted from the reduction in pretax income while income earned on tax-exempt investment securities  and  bank-owned  life  insurance  increased.  The effective tax rate decreased  to  (12)%  in  2005  compared  to  26%  in 2004.  The decrease in the effective  tax  rate  resulted primarily from an increase in tax-exempt interest income  in proportion to total taxable income.   The Company has reduced its tax  - --------------------------------------------------------------------------------                                    Page 23   rate  from  the  statutory  rate  primarily  through the ownership of tax-exempt investment  securities,  bank  owned  life  insurance  and  other  tax  saving strategies.  Enactment  of  proposed state tax legislation regarding Real Estate Investment  Trusts  would  increase  the  state  tax  rate  for  the  Company.  Income tax expense decreased $99,000 to $502,000 for the year ended December 31, 2004  as  compared  to  $601,000  in the prior year.  The decrease in income tax expense reflected lower pre-tax income during the year.  The Company's effective tax  rate  remained  at  26%  in  2004  and  27%  in  2003.  CHANGES  IN  FINANCIAL  CONDITION  INVESTMENT  SECURITIES  The  investment  portfolio represents 29% of the Company's earning assets and is designed  to  generate  a  favorable  rate  of  return consistent with safety of principal while assisting the Company in meeting the liquidity needs of the loan and deposit operations and managing the Company's interest rate risk strategies. All  of  the  Company's  investments  are classified as available for sale.  The Company invests in investment securities consisting primarily of mortgage-backed securities, securities issued by United States Government agencies and sponsored enterprises,  state  and municipal obligations, mutual funds, equity securities, investment  grade  corporate  debt  instruments,  and common stock issued by the Federal  Home  Loan  Bank  of New York (FHLBNY).  By investing in these types of assets,  the  Company reduces the credit risk of its asset base, but must accept lower  yields  than would typically be available on commercial real estate loans and  multi-family  real  estate  loans.  Investment  securities decreased $793,000, to $76.0 million at December 31, 2005 from  $76.8 million at December 31, 2004.  The decrease in investment securities was  primarily  attributable to the sale of lower yielding investment securities in  the  fourth  quarter  of 2005.   This decrease was offset by acquisitions of investment  securities  to  collateralize  municipal  deposits.  In  comparison, investment  securities  increased $17.2 million, or 29%, from 2003 to 2004.  The increase  in investment securities was primarily attributable to the acquisition of  investment  securities  to  collateralize  municipal  deposit  accounts.  The  following  table  sets forth the carrying value of the Company's investment portfolio  at  the  dates  indicated.                                                                            AT DECEMBER 31,                                                                  --------------------------- (In thousands)                                                       2005      2004     2003 - --------------------------------------------------------------------------------------------     INVESTMENT SECURITIES:   US Treasury and agencies                                       $ 20,713   $21,609   $ 6,354   State and political subdivisions                                 11,177     8,881     7,359   Corporate                                                         5,936     5,919     6,421   Mortgage-backed                                                  31,565    32,213    29,734   Equity securities and FHLB stock                                  2,626     2,800     2,932   Mutual funds                                                      6,177     5,935     5,712 - ---------------------------------------------------------------------------------------------                                                                    78,194    77,357    58,512 Unrealized (loss) gain on available for sale portfolio             (2,150)     (520)    1,095 - ---------------------------------------------------------------------------------------------     Total investments in securities                              $ 76,044   $76,837   $59,607 =============================================================================================   - -------------------------------------------------------------------------------                                    Page 24   The  following  table  sets forth the scheduled maturities, amortized cost, fair values  and  average  yields for the Company's investment securities at December 31,  2005. Yield is calculated on the amortized cost to maturity and adjusted to a  fully  tax-equivalent  basis.                                               ONE YEAR OR LESS   ONE TO FIVE YEARS    FIVE TO TEN YEARS - ----------------------------------------------------------------------------------------------------                                                   ANNUALIZED          ANNUALIZED           ANNUALIZED                                          AMORTIZED WEIGHTED  AMORTIZED WEIGHTED  AMORTIZED  WEIGHTED (Dollars in thousands)                     COST    AVG YIELD    COST   AVG YIELD   COST     AVG YIELD - ----------------------------------------------------------------------------------------------------        DEBT INVESTMENT SECURITIES: US Treasury and agencies                $  2,649     1.82%    $10,966    3.31%     $ 7,098    4.18% State and political subdivisions              40     3.89%      2,763    3.04%       3,770    3.50% Corporate                                    350     6.85%      2,450    4.50%         988    4.93% - ---------------------------------------------------------------------------------------------------- Total                                   $  3,039     2.43%    $16,179    3.44%     $11,856    4.03% - ---------------------------------------------------------------------------------------------------- EQUITY AND MORTGAGE-BACKED SECURITIES: Mutual funds                            $  6,177     1.94%    $     -       -      $     -       - Mortgage-backed                                -        -       3,915    3.87%       8,434    4.00% Equity securities and FHLB stock           2,627     4.49%          -       -            -       - - ---------------------------------------------------------------------------------------------------- Total                                      8,804     2.70%      3,915    3.87%     $ 8,434    4.00% - ---------------------------------------------------------------------------------------------------- Total investment securities             $ 11,843     2.63%    $20,094    3.53%     $20,290    4.02% ===================================================================================================                                              MORE THAN TEN YEARS   TOTAL INVESTMENT SECURITIES - --------------------------------------------------------------------------------------------                                                     ANNUALIZED                    ANNUALIZED                                          AMORTIZED   WEIGHTED   AMORTIZED   FAIR    WEIGHTED (Dollars in thousands)                     COST     AVG YIELD      COST     VALUE  AVG YIELD - --------------------------------------------------------------------------------------------       DEBT INVESTMENT SECURITIES: US Treasury and agencies                $      -        -      $ 20,713    $19,967    3.42% State and political subdivisions           4,604     3.97%       11,177     10,980    3.58% Corporate                                  2,148     5.31%        5,936      5,854    5.00% - -------------------------------------------------------------------------------------------- Total                                 $    6,752     4.37%       37,826    $36,801    3.71% - ------------------------------------------------------------------------------------------- EQUITY AND MORTGAGE-BACKED SECURITIES: Mutual funds                                   -        -         6,177    $ 5,895    1.94% Mortgage-backed                           19,216     4.52%       31,565     30,718    4.30% Equity securities and FHLB stock               -        -         2,626      2,630    5.08% - -------------------------------------------------------------------------------------------- Total                                     19,216     4.52%       40,368     39,243    3.99% - -------------------------------------------------------------------------------------------- Total investment securities               25,968     4.49%       78,194    $76,044    3.86% ============================================================================================   - -------------------------------------------------------------------------------                                    Page 25   LOANS  RECEIVABLE  Loans  receivable  represent 71% of the Company's earning assets and account for the  greatest  portion  of  total  interest  income.  The  Company  emphasizes residential  real  estate  financing  and  anticipates a continued commitment to financing  the  purchase or improvement of residential real estate in its market area.  The  Company  also  extends  credit  to businesses within its marketplace secured  by  commercial  real  estate,  equipment,  inventories  and  accounts receivable.  It  is  anticipated  that  small  business  lending  in the form of mortgages,  term  loans,  leases,  and  lines  of  credit  will provide the most opportunity for balance sheet and revenue growth over the near term.  Commercial loans  comprise  10%  of the total loan portfolio.  At December 31, 2005, 89% of the Company's total loan portfolio consisted of loans secured by real estate, of which  17%  consisted  of  commercial  real  estate  loans.                                                  December 31, - ----------------------------------------------------------------------------- (In thousands)                 2005      2004      2003      2002      2001 - -----------------------------------------------------------------------------       Residential real estate (1)  $119,707  $123,898  $128,989  $123,178  $112,110 Commercial real estate         31,845    29,874    31,278    32,657    30,455 Commercial loans               18,334    16,834    15,090    13,196    14,358 Consumer loans                 19,682    18,505    16,880    15,068    12,615 - -----------------------------------------------------------------------------                              $189,568  $189,111  $192,237  $184,099  $169,538 =============================================================================  (1)  Includes  loans  held  for  sale.  The  following  table  shows  the amount of loans outstanding as of December 31, 2005 which, based on remaining scheduled repayments of principal, are due in the periods  indicated.  Demand loans having no stated schedule of repayments and no stated  maturity,  and  overdrafts are reported as one year or less.  Adjustable and  floating  rate loans are included in the period on which interest rates are next  scheduled  to  adjust  rather  than the period in which they contractually mature,  and  fixed  rate  loans  are  included in the period in which the final contractual  repayment  is  due.                              Due Under   Due 1-5   Due Over (In thousands)             One Year    Years   Five Years   Total - ---------------------------------------------------------------------      Real estate: Commercial real estate       $ 8,691   $15,067  $ 8,087  $ 31,845 Construction                      40       185    2,382     2,607 Residential real estate      $39,319    48,640   29,141   117,100 - ---------------------------------------------------------------------                              $48,050   $63,892  $39,610  $151,552 - --------------------------------------------------------------------- Commercial                    10,576     7,701       57    18,334 Consumer                      10,148     4,900    4,634    19,682 - --------------------------------------------------------------------- Total loans                  $68,774   $76,493  $44,301  $189,568 ===================================================================== Interest rates: Fixed                         18,024    49,993   37,279   105,296 Variable                      50,750    26,500    7,022    84,272 - --------------------------------------------------------------------- Total Loans                  $68,774   $76,493  $44,301  $189,568 =====================================================================   Total loans receivable remained relatively consistent when compared to the prior year.  The  commercial real estate, commercial loan and consumer loan portfolios increased  $2.0  million,  $1.5  million  and  $1.2  million,  respectively. The increases  in  these  portfolios  were  partially  offset  by  a decrease in the residential  real estate loans of $4.2 million.  By comparison, loans receivable decreased  $3.1  million,  or  2%,  in 2004 from 2003.  The decrease of the loan portfolio  from  2003  to  2004  is  primarily  attributable  to the decrease in residential  and  commercial  mortgages  as  amortization, prepayments and sales outpaced  loan  originations  of  $29.3  million  during 2004.  Decreases in the mortgage  portfolios  when  comparing  2004 to 2003, were partially offset by an increase in municipal loans and consumer loans.  The growth in the consumer loan portfolio  is  primarily  home  equity  loan  originations.  - --------------------------------------------------------------------------------                                    Page 26   Residential  real  estate loans decreased $4.2 million, or 3%, during 2005.  The residential  real  estate  portfolio consists of 58% in fixed-rate mortgages and 42%  in  adjustable-rate mortgages.  The decrease in the residential real estate portfolio  is  principally due to a net decrease in 15-year fixed rate mortgages of $5.1 million and a $2.1 million decrease in 30-year fixed rate loans held for sale, partially offset by an increase in the adjustable rate mortgage portfolio. The  increase  in the adjustable rate mortgage portfolio primarily resulted from an  increase  in  customer  demand  for  the  Company's  hybrid  adjustable rate mortgages ("ARM"s).  Hybrid ARMs have rates that are fixed for an initial period (principally  3,  5, 7 or 10 years) and then convert to one-year adjustable rate mortgages.  Commercial  real estate loans increased $2.0 million, or 7%, from the prior year as  new loan products were added to the portfolio.  Commercial real estate loans decreased  $1.4  million,  or  4%,  during  2004.  Commercial loans, including loans to municipalities, increased 9% over the prior year  to  $18.3  million at December 31, 2005.  The increase in commercial loans resulted primarily from a $1.8 million net increase in small business loans.  In comparison,  commercial  loans,  including municipal loans, increased 12% during 2004  primarily  due  to  the  origination  of  municipal  loans.  Consumer  loans,  which  include  second  mortgage  loans,  home equity lines of credit,  direct  installment  and  revolving credit loans, increased 6% to $19.7 million  at  December  31, 2005.  The increase resulted from an increase in home equity  lines of credit and second mortgage loans.  The Company has promoted its home  equity  products  by offering the customer loans with no closing costs and competitive market rates.  Management feels these loans are an attractive use of funds  and  will continue to promote home equity products in 2006.  During 2004, consumer  loans  increased  $1.6  million,  or  10%, resulting primarily from an increase  in  home  equity  products.  NONPERFORMING  LOANS  AND  ASSETS  The  following  table  represents information concerning the aggregate amount of nonperforming  assets:                                                                           DECEMBER 31, - ---------------------------------------------------------------------------------------------- (Dollars in thousands)                                2005     2004     2003     2002     2001 - ----------------------------------------------------------------------------------------------       Nonaccrual loans: Commercial real estate and commercial              $  757   $  776   $1,677   $  603   $  488 Consumer                                               89      122      172      166       56 Real estate - construction                              -        -      270        -        -               Mortgage                                834      953      873      942    1,576 - ---------------------------------------------------------------------------------------------- Total nonaccrual loans                             $1,680   $1,851   $2,992   $1,711   $2,120 Loans past due 90 days or more and still accruing       -        -        -        -        - - ---------------------------------------------------------------------------------------------- Total non-performing loans                         $1,680   $1,851   $2,992   $1,711   $2,120 Foreclosed real estate                                743      798      202    1,396      632 - ---------------------------------------------------------------------------------------------- Total non-performing assets                        $2,423   $2,649   $3,194   $3,107   $2,752 - ---------------------------------------------------------------------------------------------- Non-performing loans to total loans                  0.89%    0.98%    1.59%    0.95%    1.30% Non-performing assets to total assets                0.82%    0.88%    1.15%    1.11%    1.13% - ---------------------------------------------------------------------------------------------- Interest income received on nonaccrual loans            -        -        -        -        - - ---------------------------------------------------------------------------------------------- Interest income that would have been recorded under the original terms of the loans              $   34   $   64   $   75   $  141   $  118 - ----------------------------------------------------------------------------------------------   - --------------------------------------------------------------------------------                                    Page 27   The  asset  quality  of  the  Company's loan portfolio has improved during 2005. Residential  and  consumer  delinquencies continue to decline by 14% during 2005 and  18%  during  2004,  resulting  from  the  institution  of  a more stringent collection  policy.  Total  nonperforming  assets  (nonperforming  loans  and foreclosed  real  estate)  at  December  31,  2005 were 0.81% of total assets as compared  to  0.88%  of  total assets at December 31, 2004.  Total nonperforming loans  (past  due  90  days or more) decreased $196,000, or 11%, during 2005 and decreased  38%  during  2004.  Total  delinquent  loans  (those  30 days or more delinquent)  as  a  percentage  of  total  loans were 2.03% at December 31, 2005 compared  to  1.93%  at  December  31, 2004.  Approximately 43% of the Company's nonperforming  loans at December 31, 2005 are secured by residential real estate with  loss  potential  expected  to be manageable within the allocated reserves.  The  Company  generally  places  a loan on nonaccrual status and ceases accruing interest  when loan payment performance is deemed unsatisfactory and the loan is past  due 90 days or more.  The Company considers a loan impaired when, based on current  information  and events, it is probable that the Company will be unable to  collect  the scheduled payments of principal and interest when due according to  the  contractual  terms  of  the  loan.  The  measurement  of impaired loans is generally based upon the present value of future  cash  flows discounted at the historical effective interest rate, except that  all  collateral-dependent  loans are measured for impairment based on fair value  of  the  collateral.  The  Company  used  the fair value of collateral to measure  impairment  on commercial and commercial real estate loans in 2005.  At December 31, 2005, the Company had $2.5 million in loans which were deemed to be impaired having a valuation allowance of $90,000.  Of the impaired loan balance, $2.3 million represents one commercial credit relationship that was restructured during  2004.  A  $63,000  impairment  reserve is recorded on this relationship. The  customer  has  been making payments according to the restructured terms and its  financial  position  has  improved  significantly.  ALLOWANCE  FOR  LOAN  LOSSES  The  allowance  for  loan  losses  is  a  reserve established through charges to expense  in  the  form  of  a  provision  for  loan  losses  and reduced by loan charge-offs  net  of recoveries. Allowance for loan losses represents the amount available  for  probable  credit  losses  in  the  Company's  loan  portfolio as estimated  by  management.  The  Company  maintains an allowance for loan losses based  upon  a  monthly  evaluation  of  known  and  inherent  risks in the loan portfolio,  which  includes a review of the balances and composition of the loan portfolio as well as analyzing the level of delinquencies in each segment of the loan portfolio. The Company uses a general allocation method for the residential real  estate and the consumer loan pools based upon a methodology that uses loss factors  applied  to  loan  balances  and  reflects  actual  loss  experience, delinquency  trends  and  current  economic  conditions.  The  Company  reviews individually, commercial real estate and commercial loans greater than $150,000, that  are  not  accruing interest and risk rated under the Company's risk rating system,  as  special  mention, substandard, doubtful or loss to determine if the loans  are  impaired.  If  loans  are  determined  to  be  impaired, the Company establishes a specific reserve allocation. The specific allocation is determined based  on  the most recent valuation of the loan's collateral and the customer's ability  to  pay. For all other commercial real estate and commercial loans, the Company  uses  the general allocation method that establishes a reserve for each risk  rating  category. The general allocation method for commercial real estate and  commercial  loans  considers  the  same  factors  that  are considered when evaluating  residential  real  estate and consumer loan pools. The allowance for loan  losses  reflects  management's  best  estimate  of probable loan losses at December 31, 2005.  The  allowance  for  loans  losses  was $1.7 million at December 31, 2005, an 8% decrease from December 31, 2004.  The allowance for loans losses as a percentage of  total  loans decreased to 0.89% at December 31, 2005 from 0.98% in the prior year.  Net  loan  charge-offs  were $459,000 during 2005 compared to $626,000 in 2004.  The  Company  experienced  a  higher  level  of  charge-offs  during 2004 resulting  from  the  charge-off  of  portions  of  three  commercial  lending relationships.  - --------------------------------------------------------------------------------                                    Page 28   The  following table sets forth the analysis of the allowance for loan losses at or  for  the  periods  indicated.                                            2005          2004           2003            2002            2001 - ----------------------------------------------------------------------------------------------------------------                                          % GROSS         % GROSS        % GROSS         % GROSS          % GROSS Dollars in thousands)             AMOUNT  LOANS  AMOUNT   LOANS  AMOUNT   LOANS  AMOUNT   LOANS   AMOUNT  LOANS - ----------------------------------------------------------------------------------------------------------------            Commercial real estate and loans  $1,282   26.5%  $1,483   24.7%  $1,218   24.1%  $1,042   24.9%  $1,083   26.5% Consumer loans                       289   10.4%     270    9.8%     120    8.8%     136    8.2%     100    7.4% Residential real estate              108   63.1%      74   65.5%     377   67.1%     303   66.9%     496   66.1% - ---------------------------------------------------------------------------------------------------------------- Total                             $1,679  100.0%  $1,827  100.0%  $1,715  100.0%  $1,481  100.0%  $1,679  100.0% ================================================================================================================   The  following  table  sets forth the allocation of allowance for loan losses by loan  category  for  the  periods indicated.  The allocation of the allowance by category  is  not  necessarily indicative of future losses and does not restrict the  use  of  the  allowance  to  absorb  losses  in  any  category.    (Dollars in thousands)                          2005     2004     2003      2002     2001 - -------------------------------------------------------------------------------------------       BALANCE AT BEGINNING OF YEAR                    $1,827   $1,715   $1,481   $ 1,679   $1,274  Allowance acquired in branch purchase               -        -        -        57        -  Provisions charged to operating expenses          311      738      598     1,375      708 - ------------------------------------------------------------------------------------------- RECOVERIES OF LOANS PREVIOUSLY CHARGED-OFF:  Commercial real estate and loans                   25       41        3        26       53  Consumer                                           14       20       17         6        9  Residential real estate                            10        -       17         -        - - -------------------------------------------------------------------------------------------  Total recoveries                                   49       61       37        32       62 - ------------------------------------------------------------------------------------------- LOANS CHARGED OFF:  Commercial real estate and loans                 (284)    (439)    (128)   (1,285)     (72)  Consumer                                         (137)    (126)    (189)     (291)    (184)  Residential real estate                           (87)    (122)     (84)      (86)    (109) - -------------------------------------------------------------------------------------------   Total charged-off                               (508)    (687)    (401)   (1,662)    (365) - -------------------------------------------------------------------------------------------  Net charge-offs                                  (459)    (626)    (364)   (1,630)    (303) - ------------------------------------------------------------------------------------------- Balance at end of year                          $1,679   $1,827   $1,715   $ 1,481   $1,679 =========================================================================================== Net charge-offs to average loans outstanding     0.24%    0.33%    0.19%     0.92%    0.19% Allowance for loan losses to year-end loans      0.89%    0.98%    0.91%     0.82%    1.03% ===========================================================================================   DEPOSITS  The  Company's  deposit  base  is  drawn  from seven full-service offices in its market  area.  The  deposit  base  consists of demand deposits, money management accounts,  savings  and time deposits. During 2005, 61% of the Company's average deposit  base  of  $239.9 million consisted of core deposits.  Core deposits are considered to be more stable and provide the Company with a lower cost source of funds.  The  Company  will  continue to emphasize retail deposits by maintaining its  network  of full service offices and providing depositors with a full range of  deposit  product  offerings.  Pathfinder  Commercial Bank will seek business growth  by  focusing  on  its  local identification and service excellence.  The Commercial Bank had an average balance of $31.0 million in municipal deposits in 2005,  primarily  concentrated  in  money  market  demand  accounts.  Average  deposits  increased  $9.5  million,  or 4%, when compared to 2004.  The increase in average deposits primarily related to a $2.9 million increase in the average  balance  of  municipal  deposits  combined  with  an increase in retail deposits.  The  new  branch  in Central Square added $3.1 million to the average balance  of  retail  deposits  since  its  opening June of 2005.  In comparison, average  deposits  from  2003  to  2004 increased $22.3 million, or 11%. Deposit growth  in  2004  resulted  from  the  growth  both  in  retail and in municipal deposits.  The Commercial Bank increased the number of municipal customers to 20  - --------------------------------------------------------------------------------                                    Page 29   in  2004  from  11  in  2003.  The  new  municipal  customers  account  balances represented $20.2 million of the $30.0 million in municipal deposits outstanding at  December  31,  2004.  The  Company's  average  deposit  mix  in 2005, as compared to 2004, reflected a slight  shift  from  savings and club deposits to time deposits.   The Company's average  demand  deposits,  interest and noninterest bearing, represented 16% of total  average  deposits,  which  was comparable with 2004.  The Company's money management  accounts  represented 17% of total deposits, down 1 percentage point for  the same period in 2004.  The Company promotes its money management account by  offering  competitive  rates  to  retain existing and attract new customers.  The average amount of deposits, average rate paid and percentage of deposits are summarized  below  for  the  years  indicated.                                                        FOR  THE YEARS ENDED DECEMBER 31, - -------------------------------------------------------------------------------------------------------                                        2005                   2004                       2003 - -------------------------------------------------------------------------------------------------------                                        AVG   PERCENT           AVG   PERCENT             AVG    PERCENT                               AVG     RATE     OF       AVG    RATE     OF       AVG     RATE       OF (Dollars in thousands)      BALANCE   PAID  DEPOSITS  BALANCE  PAID  DEPOSITS  BALANCE   PAID   DEPOSITS           - ------------------------------------------------------------------------------------------------------- Noninterest bearing    demand accounts          $ 19,324     -    8.06%  $ 17,974     -    7.80%   $ 16,345     -     7.86% NOW accounts                  19,877  0.54%   8.29%    20,808  0.65%   9.03%     17,663  0.79%    8.49% Money management accounts     41,380  2.02%  17.25%    40,775  1.39%  17.70%     21,788  1.14%   10.47% Savings and club accounts     65,558  0.44%  27.33%    68,046  0.67%  29.54%     66,481  0.77%   31.96% Time deposits                 93,732  3.29%  39.07%    82,769  3.00%  35.93%     85,751  3.33%   41.22% - ------------------------------------------------------------------------------------------------------- Total average deposits      $239,871  1.96% 100.00%  $230,372  1.71% 100.00%   $208,028  1.96%  100.00% =======================================================================================================   At December 31, 2005, time deposits in excess of $100,000 totaled $24.0 million, or 26%, of time deposits and 10% of total deposits.  At December 31, 2004, these deposits  totaled  $18.3  million,  or  22%  of  time  deposits  and 8% of total deposits.  The  following  table indicates the amount of the Bank's certificates of deposit of  $100,000  or  more  time  remaining  until maturity as of December 31, 2005:                           CERTIFICATES OF                          DEPOSIT OF In thousands)          $100,000 OR MORE - --------------------------------------- REMAINING MATURITY:   Three Months or less       $ 6,868 Three through Six months     2,765 Six through twelve months    3,886 Over twelve months          10,515 - --------------------------------------     Total                  $24,034 ======================================   - --------------------------------------------------------------------------------                                    Page 30   BORROWINGS  Short-term  borrowings  are  comprised  primarily  of  advances  and  overnight borrowing  at  the  FHLBNY.  There  were  $2.0  million in short-term borrowings outstanding  at  December  31,  2005  as  compared  to  $1.0  million  in  2004.  Information  regarding  short-term  borrowings  during 2005, 2004 and 2003 is as follows:     (Dollars in thousands)                        2005     2004      2003 - ------------------------------------------------------------------------     Maximum outstanding at any month end         $15,000   $3,100   $12,000 Average amount outstanding during the year     5,692    1,400     2,660 Average interest rate during the year           3.57%    1.31%     1.17% - ------------------------------------------------------------------------   Long-term  borrowed funds consist of advances and repurchase agreements from the FHLBNY  and  junior  subordinated  debentures.  Long-term borrowed funds totaled $34.5  million at December 31, 2005 as compared to $39.5 million at December 31, 2004.  CAPITAL  Shareholders'  equity  decreased $898,000 to $20.9 million at December 31, 2005. The  Company  added  $462,000 to retained earnings through net income, which was more  than  offset  by  cash dividends returned to its shareholders of $686,000. Other  comprehensive  loss  increased  $978,000  to $1.3 million at December 31, 2005.  Additional  paid  in  capital  increased  $268,000 due to the exercise of stock  options  and  the  allocation  of  employee  stock ownership plan shares.  The  Company's mutual holding company parent, Pathfinder Bancorp, M.H.C., waived its  right  to  receive  the  dividend  for the quarters ended June 30, 2005 and December  31,  2005.  Risk-based capital provides the basis for which all banks are evaluated in terms of  capital  adequacy.  Capital  adequacy  is  evaluated primarily by the use of ratios  which  measure  capital  against  total assets, as well as against total assets  that  are weighted based on defined risk characteristics.  The Company's goal  is to maintain a strong capital position, consistent with the risk profile of  its  subsidiary banks that supports growth and expansion activities while at the  same time exceeding regulatory standards.  At December 31, 2005, Pathfinder Bank  exceeded  all  regulatory  required  minimum  capital  ratios  and met the regulatory  definition  of  a  "well-capitalized"  institution,  i.e. a leverage capital ratio exceeding 5%, a Tier 1 risk-based capital ratio exceeding 6% and a total  risk-based  capital ratio exceeding 10%.  See Note 17 in the accompanying financial  statements  for  the  Company's  and  the  Bank's  ratios.  LIQUIDITY  Liquidity  management  involves  the  Company's  ability  to  generate  cash  or otherwise obtain funds at reasonable rates to support asset growth, meet deposit withdrawals, maintain reserve requirements, and otherwise operate the Company on an ongoing basis.  The Company's primary sources of funds are deposits, borrowed funds,  amortization  and  prepayment  of  loans  and  maturities  of investment securities  and  other  short-term  investments, and earnings and funds provided from operations.  While scheduled principal repayments on 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 Company  manages  the pricing of deposits to maintain a desired deposit balance. In addition, the Company invests excess funds in short-term interest-earning and other  assets,  which  provide  liquidity  to  meet  lending  requirements.  The Company's liquidity has been enhanced by its membership in the FHLBNY, whose competitive  advance  programs  and  lines  of credit provide the Company with a  - --------------------------------------------------------------------------------                                    Page 31   safe,  reliable  and  convenient  source  of  funds.  A  significant decrease in deposits  in the future could result in the Company having to seek other sources of  funds  for  liquidity  purposes.  Such  sources  could  include, but are not limited  to, additional borrowings, trust preferred security offerings, brokered deposits,  negotiated time deposits, the sale of "available-for-sale" investment securities,  the  sale  of  securitized loans, or the sale of whole loans.  Such actions  could result in higher interest expense costs and/or losses on the sale of  securities  or  loans.  The  Asset  Liability  Management Committee (ALCO) of the Company is responsible for  implementing  the  policies  and  guidelines for the maintenance of prudent levels of liquidity.  As of December 31, 2005, the Company is in compliance with its  policy  guidelines  with  regard  to  liquidity.  AGGREGATE  CONTRACTUAL  OBLIGATIONS  The  following table represents the Company's on and off-balance sheet aggregate contractual  obligations  to  make  future  payments  as  of  December 31, 2005:                                                OVER 1    OVER 3                                   1 YEAR      TO        TO     OVER 5 (In thousands)                   OR LESS   3 YEARS   5 YEARS    YEARS    TOTAL - --------------------------------------------------------------------------------       Time deposits                    $ 51,724  $ 30,173  $  7,690  $ 6,568  $ 96,155 Junior subordinated debentures          -         -         -    5,155     5,155 Borrowings                          5,000    17,960     8,400        -    31,360 Operating leases                       47        98       102      115       362 Payments under benefit plans          305       697       752    9,181    10,935 - -------------------------------------------------------------------------------- Total                            $ 57,075  $ 48,928  $ 16,944  $21,020  $143,967 ================================================================================   In  addition,  the  Company,  in  the  conduct  of ordinary business operations, routinely  enters  into  contracts  for  services.  These  contracts may require payment  for  services to be provided in the future and may also contain penalty clauses  for  the early termination of the contract.  Management is not aware of any  additional commitments or contingent liabilities, which may have a material adverse  impact  on  the  liquidity  or  capital  resources  of  the  Company.  OFF-BALANCE  SHEET  ARRANGEMENTS  The  Company  is also 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 and standby letters  of  credit.  At  December  31,  2005,  the Company had $19.5 million in outstanding  commitments  to  extend  credit and standby letters of credit.  See Note  15  in  the  accompanying  financial  statements.  - --------------------------------------------------------------------------------                                    Page 32   ITEM  7A:  QUANTITATIVE  AND  QUALITATIVE  DISCLOSURES  ABOUT  MARKET  RISK  The  Company's  risk  of  loss arising from adverse changes in the fair value of financial  instruments,  or  market risk, is composed primarily of interest rate risk.  The  management  of  interest rate sensitivity seeks to avoid fluctuating net  interest  margins  and  to  provide  consistent net interest income through periods  of  changing  interest  rates.  The  Company  has  an  Asset-Liability Management  Committee  (ALCO)  which is responsible for establishing policies to limit  exposure  to interest rate risk, and to ensure procedures are established to  monitor  compliance  with those policies. Those procedures include reviewing the  Company's  asset  and  liability  policies,  setting  prices  and  terms on rate-sensitive  products,  and  monitoring  and measuring the impact of interest rate  changes  on  the  Company's  earnings and capital.  The Company's Board of Directors  reviews  the  guidelines  established  by  the  ALCO.  Since  December  of  2004,  the  Federal Reserve has increased short-term target rates  8  times, 25 basis points each time to 4.50% from 2.50%. During this time frame longer-term interest rates have remained relatively unchanged resulting in a  flattening  and  inversion  of the yield curve.  The short-term interest rate increases  have  caused  continued net interest margin compression as short-term deposits  and  borrowings  on  the  Company's  liability sensitive balance sheet reprice  into  the  current  rate  environment while security purchases and loan originations  and  refinances  were  being done at the stable longer-term rates. During the past 24-month period of rising short-term interest rates, the Company has  continued  to  practice conservative balance sheet management strategies by attempting  to  extend  the  maturities  of  its  rate sensitive liabilities and shorten  the  maturity  or  repricing  term  of its rate sensitive assets.  This conservative balance sheet management strategy has resulted in additional margin pressure  and  reduction  in  net  interest  income  during the prior two years. Management  believes  this balance sheet strategy best positions the Company and lessens  its  risk  against  future  interest  rate  fluctuations.  The  primary objective of the Company's asset/liability management process is to maximize  earnings  and return on capital within acceptable levels of risk.  The Company does not believe it is possible to reliably predict future interest rate movements,  and  it  seeks  to  maintain  an  appropriate  process  and  set  of measurement  tools  that  enable it to identify and quantify sources of interest rate  risk  ("IRR") in varying rate environments.  The primary tools used by the Company  in  managing  rate  risk  are income simulation and net portfolio value modeling  techniques.  Interest  rate risk can result from timing differences in the maturity/repricing of  an  institution's  assets,  liabilities and off balance sheet contracts; the effect of embedded options, such as loan prepayments, interest rate caps/floors, and  deposit  withdrawals;  and  the  difference  in the behavior of the various lending  and  funding  rates,  sometimes  referred  to  as  basis  risk.  Given  the  potential  types and differing related characteristics of IRR, it is important  that  the  company  maintain  an  appropriate  process  and  set  of measurement tools that enable it to identify and quantify its primary sources of IRR.  The  Company  also recognizes that effective management of IRR includes an understanding  of  when  potential  adverse  changes in interest rates will flow through  its income statements.  Accordingly, the Company not only looks at a 12 month horizon when managing its exposure to IRR, it also considers a longer-term strategic  horizon.  It  is  the  Company's  objective  to manage its exposure to interest rate risk, understanding  that  it  is  in  the  business  of  taking  on rate risk and the elimination  of  such  risk  is  not  possible.  It  is  also understood that as exposure  to  interest  rate risk is reduced, it may also result in net interest margin  being  reduced.  Management  believes  the modeling and analysis of net interest income (Earnings at  Risk)  and  net  portfolio  value (Value at Risk) in different interest rate environments  provides  the  most meaningful measure of interest rate risk.  Net interest  income  simulation  analysis captures both the potential of all assets and  liabilities  to mature or reprice and the probability that they will do so. Net  interest  income  simulation  also  attends  to  the relative interest rate sensitivities  of  these  items,  and  projects  their behavior over an extended period  of  time.  Finally, net interest income simulation permits management to assess the probable effects on the balance sheet not only of changes in interest rates,  but  also  of proposed strategies for responding to them.  Net portfolio value represents the fair value of net assets (determined as the market value of  - --------------------------------------------------------------------------------                                    Page 33   assets  minus  the  market  value  of  liabilities  using a discounted cash flow technique).  The  following table measures the Company's interest rate risk exposure in terms of the percentage change in its net interest income and net portfolio value as a result  of hypothetical changes in 100 basis point increments in market interest rates.  The  table  quantifies  the  changes  in  net  interest  income  and net portfolio  value  to parallel shifts in the yield curve.  The column "Percentage Change  in  Net  Interest Income" measures the change to the next twelve month's projected  net  interest income, due to parallel shifts in the yield curve.  The column  "Percentage  Change  in  Net  Portfolio  Value"  measures changes in the current  fair  value  of  assets and liabilities to parallel shifts in the yield curve.  The  column  "NPV Capital Ratio" measures the ratio of the fair value of net  assets  to the fair value of total assets at the base case and in 100 basis point  incremental  interest  rate  shocks.  The  Company  uses these percentage changes  as  a means to measure interest rate risk exposure and quantifies those changes  against  guidelines  set  by  the  Board  of  Directors  as part of the Company's  Interest  Rate Risk policy.  The Company's current interest rate risk exposure  is  within  those  guidelines  set  forth.                          PERCENTAGE      PERCENTAGE CHANGE IN    NPV       CHANGE IN      CHANGE IN INTEREST   CAPITAL   NET INTEREST   NET PORTFOLIO RATES       RATIO       INCOME          VALUE - --------------------------------------------------     300           8.77%        -12.75%         -27.56% 200           9.63%         -8.36%         -18.54% 100          10.48%         -4.10%          -9.21% 0            11.26%           ---            ---- - -100         11.55%          1.18%           4.91% - -200         11.20%         -3.26%           3.60% - -300         10.60%         -8.72%          -0.30%   - --------------------------------------------------------------------------------                                    Page 34   An interest rate sensitive asset or liability is one that, within a defined time period,  either  matures  or  experiences  an  interest rate change in line with general  market  interest  rates.  Historically,  the  most  common  method  of estimating  interest  rate  risk  was  to  measure  the  maturity  and repricing relationships  between  interest-earning assets and interest-bearing liabilities at  a  specific point in time ("GAP"), typically one year.  Under this method, a company  is  considered  liability  sensitive  when  the  amount  of  its interest-bearing  liabilities  exceeds the amount of its interest-earning assets within  the  one-year  horizon.  However,  assets  and  liabilities with similar repricing  characteristics  may  not  reprice  at  the  same time or to the same degree.  As  a result, the Company's GAP does not necessarily predict the impact of  changes  in  general  levels  of  interest  rates  on  net  interest income.  The  following  table  shows the GAP position for the Company as of December 31, 2005.                                                                                                                      MORE                                                          WITHIN     3 TO 12    1 TO 3     3 TO 5     5 TO 10      THAN (Dollars in thousands)                                  3 MONTHS    MONTHS      YEARS      YEARS      YEARS     10 YEARS - ------------------------------------------------------------------------------------------------------------------------        INTEREST-EARNING ASSETS: Interest earning deposits                              $     586   $      -   $      -   $      -   $      -   $       - Investment securities and FHLB stock                      12,744      6,675     18,017     15,071     17,732       5,805 Loans receivable                                          33,355     35,348     46,886     29,098     34,821      10,060 - ------------------------------------------------------------------------------------------------------------------------ Total interest-earning assets                          $  46,685   $ 42,023   $ 64,903   $ 44,169   $ 52,553   $  15,865 - ------------------------------------------------------------------------------------------------------------------------ INTEREST-BEARING LIABILITIES: Transaction deposit accounts (1)                       $   9,450   $ 28,347   $ 19,471   $      -   $      -   $       - Savings deposits (1)                                         274      6,075     13,513     10,097     14,926      15,284 Certificates of deposit                                   19,333     32,130     30,265      7,858      6,550          19 Borrowings                                                 2,000      3,000     17,960      8,400          -           - Junior subordinated debentures                             5,155          -          -          -          -           - - ------------------------------------------------------------------------------------------------------------------------ Total interest-bearing liabilities                     $  36,212   $ 69,552   $ 81,209   $ 26,355   $ 21,476   $  15,303 - ------------------------------------------------------------------------------------------------------------------------ Interest-earning assets less interest- bearing liabilities ("interest rate sensitivity gap")  $  10,473   $(27,529)  $(16,306)  $ 17,814   $ 31,077   $     562 - ------------------------------------------------------------------------------------------------------------------------ Cumulative excess (deficiency) of interest- sensitive assets over interest-sensitive liabilities   $  10,473   $(17,056)  $(33,362)  $(15,548)  $ 15,529   $  16,091 - ------------------------------------------------------------------------------------------------------------------------ Interest sensitivity gap to total assets                    3.53%     -9.27%     -5.49%      6.00%     10.47%       0.19% - ------------------------------------------------------------------------------------------------------------------------ Cumulative interest sensitivity gap to total assets         3.53%     -5.74%    -11.23%     -5.24%      5.23%       5.42% - ------------------------------------------------------------------------------------------------------------------------ Ratio of interest-earning assets to interest- bearing liabilities                                       128.92%     60.42%     79.92%    167.59%    244.71%     103.67% - ------------------------------------------------------------------------------------------------------------------------ Cumulative ratio of interest-earning assets to interest-bearing liabilities                              128.92%     83.87%     82.16%     92.71%    106.61%     106.43% - ------------------------------------------------------------------------------------------------------------------------  (Dollars in thousands)                                  TOTAL - --------------------------------------------------------------    INTEREST-EARNING ASSETS: Interest earning deposits                              $    586 Investment securities and FHLB stock                     76,044 Loans receivable                                        189,568 - --------------------------------------------------------------- Total interest-earning assets                          $266,198 - --------------------------------------------------------------- INTEREST-BEARING LIABILITIES: Transaction deposit accounts (1)                       $ 57,268 Savings deposits (1)                                     60,169 Certificates of deposit                                  96,155 Borrowings                                               31,360 Junior subordinated debentures                            5,155 - --------------------------------------------------------------- Total interest-bearing liabilities                     $250,107 - --------------------------------------------------------------- Interest-earning assets less interest- bearing liabilities ("interest rate sensitivity gap") - --------------------------------------------------------------- Cumulative excess (deficiency) of interest- sensitive assets over interest-sensitive liabilities - --------------------------------------------------------------- Interest sensitivity gap to total assets - --------------------------------------------------------------- Cumulative interest sensitivity gap to total assets - --------------------------------------------------------------- Ratio of interest-earning assets to interest- bearing liabilities - --------------------------------------------------------------- Cumulative ratio of interest-earning assets to interest-bearing liabilities   (1)  The  following  assumptions  have  been  used  when  analyzing non-maturity      deposits  for  GAP  Table  purposes: 14% of savings deposits are assumed to      reprice or mature within one year, 22% within 1 to 3 years, 16% within 3 to      5  years,  and  24%  within each of the remaining time periods. Transaction      deposits - 66% of the NOW account balances are assumed to reprice or mature      within  one  year,  and  the  remaining 34% is assumed to reprice or mature      within  the  1  to 3 year time frame. 100% of the money management accounts      are assumed to reprice within the first three months  - --------------------------------------------------------------------------------                                    Page 35   ITEM  8:  FINANCIAL  STATEMENTS  AND  SUPPLEMENTARY  DATA  INDEX  TO  CONSOLIDATED  FINANCIAL  STATEMENTS PATHFINDER  BANCORP,  INC                                           Page  Report of Independent Registered Public Accounting Firm..............37 Consolidated Statements of Condition.................................38 Consolidated Statements of Income....................................39 Consolidated Statements of Changes in Shareholders' Equity...........40 Consolidated Statements of Cash Flows................................41 Notes to Consolidated Financial Statements...........................42  - --------------------------------------------------------------------------------                                    Page 36   REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM                                    [GRAPHIC OMITED]      To the Board of Directors and Shareholders Pathfinder Bancorp, Inc. Oswego, New York       We  have  audited  the accompanying consolidated statements of condition of Pathfinder  Bancorp, Inc. and subsidiaries as of December 31, 2005 and 2004, and the  related  consolidated statements of income, changes in shareholders' equity and  cash  flows  for  each  of the three years in the period ended December 31, 2005.  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 the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we  plan  and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is  not  required  to  have,  nor  were  we  engaged to perform, an audit of its internal  control over financial reporting. Our audits included consideration of internal  control  over  financial  reporting  as  a  basis  for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing  an  opinion  on  the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes  examining,  on  a  test  basis,  evidence  supporting  the amounts and disclosures  in  the consolidated financial statements, 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 Pathfinder Bancorp, Inc. and subsidiaries as of December 31, 2005 and 2004, and the results of  their  operations  and  their  cash flows for each of the three years in the period  ended  December  31,  2005,  in  conformity  with  accounting principles generally accepted in the United States of America.                                     /s/  BEARD  MILLER  COMPANY  LLP  Beard Miller Company LLP Harrisburg, Pennsylvania February 3, 2006  - --------------------------------------------------------------------------------                                    Page 37   CONSOLIDATED STATEMENTS OF CONDITION                                                                                            DECEMBER 31,                                                                                 ------------------------ (In thousands, except share data)                                                    2005         2004 - --------------------------------------------------------------------------------------------------------    ASSETS: Cash and due from banks                                                         $       7,309   $  6,741 Interest earning deposits                                                                 586      7,584 - --------------------------------------------------------------------------------------------------------     Total cash and cash equivalents                                                     7,895     14,325 - --------------------------------------------------------------------------------------------------------  Investment securities, at fair value                                                   74,239     75,069 Federal Home Loan Bank stock, at cost                                                   1,805      1,768 Mortgage loans held-for-sale                                                                0      2,159 Loans                                                                                 189,568    186,952    Less: Allowance for loan losses                                                      1,679      1,827 - --------------------------------------------------------------------------------------------------------      Loans receivable, net                                                            187,889    185,125 Premises and equipment, net                                                             8,020      7,580 Accrued interest receivable                                                             1,678      1,505 Foreclosed real estate                                                                    743        798 Goodwill                                                                                3,840      3,840 Intangible asset, net                                                                     404        627 Bank owned life insurance                                                               5,987      5,768 Other assets                                                                            4,448      3,473 - -------------------------------------------------------------------------------------------------------- Total assets                                                                    $     296,948   $302,037 ======================================================================================================== LIABILITIES AND SHAREHOLDERS' EQUITY: Deposits: Interest-bearing                                                                $     216,136   $217,513 Noninterest-bearing                                                                    20,241     19,159 - -------------------------------------------------------------------------------------------------------- Total deposits                                                                        236,377    236,672 - -------------------------------------------------------------------------------------------------------- Short-term borrowings                                                                   2,000      1,000 Long-term borrowings                                                                   29,360     34,360 Junior subordinated debentures                                                          5,155      5,155 Other liabilities                                                                       3,128      3,024 - -------------------------------------------------------------------------------------------------------- Total liabilities                                                                     276,020    280,211  Shareholders' equity: Preferred stock, authorized shares 1,000,000; no shares issued or outstanding Common stock, par value $.01; authorized 10,000,000 shares; 2,950,419 and 2,937,419 shares issued; and 2,463,132 and 2,450,132 shares outstanding, respectively.                                                29         29 Additional paid-in-capital                                                              7,721      7,453 Retained earnings                                                                      20,965     21,186 Accumulated other comprehensive loss                                                   (1,285)      (307) Unearned ESOP shares                                                                        -        (33) Treasury Stock, at cost; 487,287 shares                                                (6,502)    (6,502) - -------------------------------------------------------------------------------------------------------- Total shareholders' equity                                                             20,928     21,826 - -------------------------------------------------------------------------------------------------------- Total liabilities and shareholders' equity                                      $     296,948   $302,037 =======================================================================================================   The accompanying notes are an integral part of the consolidated financial statements.  - --------------------------------------------------------------------------------                                    Page 38   CONSOLIDATED STATEMENTS OF INCOME                                                                           YEARS ENDED DECEMBER 31,                                                                       -------------------------- (In thousands, except per share data)                                    2005      2004     2003 - ------------------------------------------------------------------------------------------------- INTEREST AND DIVIDEND INCOME:       Loans, including fees                                                $ 11,794   $11,815  $12,833   Debt securities:     Taxable                                                               2,481     2,075    2,034     Tax-exempt                                                              505       362      226   Dividends                                                                 247       145      159   Other                                                                      71        81       33 - --------------------------------------------------------------------------------------------------        Total interest income                                             15,098    14,478   15,285 - -------------------------------------------------------------------------------------------------- INTEREST EXPENSE:   Interest on deposits                                                    4,319     3,639    3,751   Interest on short-term borrowings                                         204        17       31   Interest on long-term borrowings                                        1,833     1,917    2,166 - --------------------------------------------------------------------------------------------------        Total interest expense                                             6,356     5,573    5,948 - --------------------------------------------------------------------------------------------------           Net interest income                                             8,742     8,905    9,337 PROVISION FOR LOAN LOSSES                                                   311       738      598 - --------------------------------------------------------------------------------------------------           Net interest income after provision for loan losses             8,431     8,167    8,739 - -------------------------------------------------------------------------------------------------- NONINTEREST INCOME:   Service charges on deposit accounts                                     1,318       967      818   Increase in value of bank owned life insurance                            218       175      171   Loan servicing fees                                                       215       256      282   Net (losses) gains on sales and impairment of investment securities      (205)      772      542   Net (losses) gains on sales of loans and foreclosed real estate           (88)      279      326   Other charges, commissions & fees                                         582       598      469 - --------------------------------------------------------------------------------------------------        Total other income                                                 2,040     3,047    2,608 - -------------------------------------------------------------------------------------------------- NONINTEREST EXPENSE:   Salaries and employee benefits                                          5,123     4,798    4,455   Building occupancy                                                      1,178     1,169    1,159   Data processing expenses                                                1,226       981      868   Professional and other services                                           818       682      770   Amortization of intangible asset                                          223       223      223   Other expenses                                                          2,492     1,454    1,619 - --------------------------------------------------------------------------------------------------        Total other expenses                                              10,060     9,307    9,094 - -------------------------------------------------------------------------------------------------- Income before income taxes                                                  411     1,907    2,253 (Benefit)/Provision for income taxes                                        (51)      502      601 - -------------------------------------------------------------------------------------------------- Net income                                                                  462   $ 1,405  $ 1,652 ================================================================================================== Net income per share - basic                                           $   0.19   $  0.58  $  0.68 ================================================================================================== Net income per share - diluted                                         $   0.19   $  0.57  $  0.67 ================================================================================================== Dividends per share                                                    $   0.41   $ 0.405  $  0.40 ==================================================================================================   The accompanying notes are an integral part of the consolidated financial statements.  - --------------------------------------------------------------------------------                                    Page 39   CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY                                                                                          ACCUMULATED                                                               ADDITIONAL                 OTHER          UNEARNED                                          COMMON STOCK ISSUED  PAID-IN    RETAINED     COMPREHENSIVE       ESOP (In thousands, except per share data)    SHARES     AMOUNT     CAPITAL   EARNINGS      INCOME (LOSS)     SHARES         BALANCE, DECEMBER 31, 2002               2,914,669  $     29  $     7,114  $       19,448   $         579   $    (124) - ---------------------------------------  -------------------  --------  -----------  ---------------  --------------  ---------- Comprehensive income: Net income                                                                                    1,652 Other comprehensive income, net of tax Unrealized net gains on securities                                                                               83 TOTAL COMPREHENSIVE INCOME:  ESOP shares earned                                                               76                                          46 Stock option exercised                       4,717         -           35 Treasury stock purchased Dividends declared ($.40 per share)                                                            (651) - -------------------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 2003                         2,919,386  $     29  $     7,225  $       20,449   $         662   $     (78) - ---------------------------------------  -------------------  --------  -----------  ---------------  --------------  ---------- Comprehensive income: - --------------------------------------- Net income                                                                                    1,405 Other comprehensive loss, net of tax Unrealized net losses on securities                                                                            (969) TOTAL COMPREHENSIVE INCOME:   ESOP shares earned                                                               88                                          45 Stock option exercised                                18,033         -          140 Dividends declared ($.405 per share)                                                           (668) BALANCE, DECEMBER 31, 2004                         2,937,419  $     29  $     7,453  $       21,186   $        (307)  $     (33) - ---------------------------------------  -------------------  --------  -----------  ---------------  --------------  ---------- Comprehensive loss: - --------------------------------------- Net income                                                                                      462 Other comprehensive income, net of tax Unrealized net gains on securities                                                                             (978) TOTAL COMPREHENSIVE LOSS:   ESOP shares earned                                                               55                                          33 Stock option exercised                                13,000         -          213 Dividends declared ($.41 per share)                                                            (683) BALANCE, DECEMBER 31, 2005                         2,950,419  $     29  $     7,721  $       20,965   $      (1,285)  $       - - ---------------------------------------  -------------------  --------  -----------  ---------------  --------------  ----------                                             TREASURY (In thousands, except per share data)     STOCK     TOTAL                                                    --------    BALANCE, DECEMBER 31, 2002               $(3,815)  $23,231 - ---------------------------------------  --------  -------- Comprehensive income: Net income                                           1,652 Other comprehensive income, net of tax Unrealized net gains on securities                      83 TOTAL COMPREHENSIVE INCOME:                          1,735                                                    --------  ESOP shares earned                                     122 Stock option exercised                                  35 Treasury stock purchased                  (2,687)   (2,687) Dividends declared ($.40 per share)                   (651) BALANCE, DECEMBER 31, 2003               $(6,502)  $21,785 - ---------------------------------------  --------  -------- Comprehensive income: - --------------------------------------- Net income                                           1,405 Other comprehensive loss, net of tax Unrealized net losses on securities                   (969) TOTAL COMPREHENSIVE INCOME:                            436                                                    --------  ESOP shares earned                                     133 Stock option exercised                                 140 Dividends declared ($.405 per share)                  (668) BALANCE, DECEMBER 31, 2004               $(6,502)  $21,826 - ---------------------------------------  --------  -------- Comprehensive loss: - --------------------------------------- Net income                                             462 Other comprehensive income, net of tax Unrealized net gains on securities                    (978) TOTAL COMPREHENSIVE LOSS:                             (516)                                                    --------  ESOP shares earned                                      88 Stock option exercised                                 213 Dividends declared ($.41 per share)                   (683) BALANCE, DECEMBER 31, 2005               $(6,502)  $20,928 - ---------------------------------------  --------  --------   The accompanying notes are an integral part of the consolidated financial statements.  - -------------------------------------------------------------------------------                                    Page 40    CONSOLIDATED STATEMENTS OF CASH FLOWS                                                                                         Years Ended December 31,                                                                                    ----------------------------- (In thousands)                                                                        2005        2004     2003 - ----------------------------------------------------------------------------------------------------------------                                                                                       OPERATING ACTIVITIES:  Net Income                                                                       $    462   $  1,405   $  1,652  Adjustments to reconcile net income to net cash provided by (used in) operating      activities:  Provision for loan losses                                                             311        738        598  ESOP shares earned                                                                     88        133        122  Deferred income tax expense                                                           107        502        307  Proceeds from sale of loans                                                         8,795     12,440     23,380  Originations of loans held-for-sale                                                     -    (10,884)   (23,049)  Realized losses (gains) on sales of:  Foreclosed real estate                                                                 23        (84)       (91)  Loans                                                                                  65       (195)      (235)  Available-for-sale investment securities                                              205       (772)      (542)  Depreciation                                                                          697        590        542  Amortization of intangible asset                                                      223        223        223  Amortization of deferred financing costs                                               30         30         30  Amortization of mortgage servicing rights                                             123        158        122  Increase in value of bank owned life insurance                                       (218)      (175)      (171)  Net amortization of premiums and discounts on investment securities                   364        358        288  (Increase) decrease in interest receivable                                           (173)      (231)        61  Net change in other assets and liabilities                                           (480)    (1,855)       159 - ----------------------------------------------------------------------------------------------------------------- Net cash provided by operating activities                                           10,622      2,381      3,396 - ----------------------------------------------------------------------------------------------------------------- INVESTING ACTIVITIES:  Purchase of investment securities available-for-sale and Federal Home Loan Bank Stock                                                       (23,361)   (35,610)   (25,780)  Proceeds from maturities and principal reductions of  investment securities available-for-sale                                           15,361      9,897     19,898  Proceeds from sale:  Available-for-sale investment securities                                            6,593      7,282      9,175  Real estate acquired through foreclosure                                              770        382      1,890 Purchase of bank owned life insurance                                                    -     (1,100)         -  Net (increase) decrease in loans                                                  (10,514)       245     (9,203)  Purchase of premises and equipment                                                 (1,137)    (1,520)    (1,571) - ----------------------------------------------------------------------------------------------------------------- Net cash used in investing activities                                              (12,288)   (20,424)    (5,591) - ----------------------------------------------------------------------------------------------------------------- FINANCING ACTIVITIES:  Net (decrease) increase in demand deposits, NOW accounts, savings accounts, money management deposit accounts and escrow deposits                              (12,067)    28,441      5,429  Net increase (decrease) in time deposits                                           11,772      1,337     (3,057)  Net proceeds from (repayments on) short-term borrowings                             1,000     (1,100)     1,400  Payments on long-term borrowings                                                  (10,000)    (4,500)    (9,000)  Proceeds from long-term borrowings                                                  5,000          -      5,700  Proceeds from exercise of stock options                                               213        140         35  Cash dividends                                                                       (682)      (664)      (651)  Treasury stock purchased                                                                -          -     (2,687) - ----------------------------------------------------------------------------------------------------------------- Net cash (used in) provided by  financing activities                                (4,764)    23,654     (2,831) - ----------------------------------------------------------------------------------------------------------------- (Decrease) increase in cash and cash equivalents                                    (6,430)     5,611     (5,026) Cash and cash equivalents at beginning of period                                    14,325      8,714     13,740 - ----------------------------------------------------------------------------------------------------------------- Cash and cash equivalents at end of period                                        $  7,895   $ 14,325   $  8,714 ================================================================================================================= CASH PAID DURING THE PERIOD FOR:  Interest                                                                         $  6,338   $  5,639   $  5,991  Income taxes paid                                                                      95        312        250 NON-CASH INVESTING ACTIVITY:  Transfer of loans to foreclosed real estate                                           738        894        605  Transfer of loans to loans held-for-sale                                            6,701          -          -   The accompanying notes are an integral part of the consolidated financial statements  - -------------------------------------------------------------------------------                                    Page 41   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  NOTE  1:  SUMMARY  OF  SIGNIFICANT  ACCOUNTING  POLICIES  NATURE  OF  OPERATIONS  The  accompanying  2005  and  2004 consolidated financial statements include the accounts  of  Pathfinder  Bancorp,  Inc.  (the  "Company")  and its wholly owned subsidiary,  Pathfinder  Bank  (the  "Bank").  The  2003  consolidated financial statements  also  include  the  Company's other subsidiary, Pathfinder Statutory Trust  I (the "Trust").  The Trust was formed in 2002 for the purpose of issuing mandatorily  redeemable  convertible  securities,  which  are  considered Tier I capital  under  regulatory  capital  adequacy  requirements.  The  Trust  was deconsolidated  upon  adoption  of  Financial  Accounting  Standards  Board Interpretation  No.  46,  "Consolidation  of  Variable  Interest  Entities," and Interpretation  of  ARB  No 51 (FIN 46), which was revised in December 2003 (See Note  10).  The  Bank  has three wholly owned operating subsidiaries, Pathfinder Commercial  Bank, Whispering Oaks Development Inc. and Pathfinder REIT, Inc. All inter-company  accounts and activity have been eliminated in consolidation.  The Company has seven full service offices located in Oswego County.  The Company is primarily engaged in the business of attracting deposits from the general public in  the  Company's market area, and investing such deposits, together with other sources  of  funds,  in  loans  secured  by  one-to-four family residential real estate,  commercial  real  estate,  business  assets  and investment securities.  Pathfinder  Bancorp,  M.H.C.,  (the  "Holding Company") a mutual holding company whose  activity  is  not included in the accompanying financial statements, owns approximately  64.3%  of the outstanding common stock of the Company.  Salaries, employee  benefits  and rent approximating $135,000, $130,000 and $124,000, were allocated  from  the Company to Pathfinder Bancorp, M.H.C. during 2005, 2004 and 2003,  respectively.  USE  OF  ESTIMATES  IN  THE  PREPARATION  OF  FINANCIAL  STATEMENTS  The preparation of financial statements in conformity with accounting principles generally  accepted  in the United States of America requires management to make estimates  and  assumptions  that  affect  the  reported  amounts  of assets and liabilities  and  disclosure of contingent assets and liabilities at the date of the  financial  statements  and  the  reported  amounts of revenues and expenses during  the  reporting period. Actual results could differ from those estimates. Management  has  identified  the allowance for loan losses and the evaluation of securities  for  other than temporary impairment to be the accounting areas that require  the  most  subjective  and complex judgments, and as such, could be the most  subject  to  revision  as  new  information  becomes  available.  The Company is subject to the regulations of various governmental agencies.  The Company  also  undergoes  periodic examinations by the regulatory agencies which may  subject  it to further changes with respect to asset valuations, amounts of required  loss  allowances,  and  operating  restrictions  resulting  from  the regulators'  judgments  based  on  information  available to them at the time of their  examinations.  SIGNIFICANT  GROUP  CONCENTRATIONS  OF  CREDIT  RISK  Most  of the Company's activities are with customers located primarily in Oswego and parts of Onondaga counties of New York State.  Note 3 discusses the types of securities  that  the Company invests in.  Note 4 discusses the types of lending that  the  Company  engages  in.  The  Company  does  not  have  any significant concentrations  to  any  one  industry  or  customer.  - --------------------------------------------------------------------------------                                    Page 42   ADVERTISING  The  Company  follows the policy of charging the costs of advertising to expense as  incurred.  Advertising  costs  included  in  other  operating  expenses were $249,000,  $224,000  and $245,000 for the year ended December 31, 2005, 2004 and 2003,  respectively.  CASH  AND  CASH  EQUIVALENTS  Cash  and  cash  equivalents  include  cash  on hand, amounts due from banks and interest-bearing  deposits  (with  original  maturity  of three months or less).  INVESTMENT  SECURITIES  The  Company  classifies  investment  securities  as  available-for-sale. Available-for-sale  securities  are  reported at fair value, with net unrealized gains  and losses reflected as a separate component of shareholders' equity, net of the applicable income tax effect. None of the Company's investment securities have  been  classified  as  trading  or  held-to-maturity  securities.  Gains  or  losses on investment security transactions are based on the amortized cost  of the specific securities sold.  Premiums and discounts on securities are amortized  and accreted into income using the interest method over the period to first  call  or  maturity.  The  Company monitors investment securities for impairment on a quarterly basis. Declines  in  the fair value of investment securities below cost that are deemed to  be  other-than-temporary  are  reflected in earnings as realized losses.  In estimating  other-than-temporary impairment losses, management considers (1) the length  of  time and the extent to which the fair value has been less than cost, (2)  the  financial condition and near-term prospects of the issuer, and (3) the intent  and  ability of the Company to retain its investment in the issuer for a period  of  time sufficient to allow for any anticipated recovery in fair value.  FEDERAL  HOME  LOAN  BANK  STOCK  Federal law requires a member institution of the Federal Home Loan Bank ("FHLB") system  to hold stock of its district FHLB according to a predetermined formula. The  stock  is  carried  at  cost.  MORTGAGE  LOANS  HELD-FOR-SALE  Mortgage  loans  held-for-sale  are  carried at the lower of cost or fair value. Fair  value is determined in the aggregate.  As of December 31, 2005, there were no  forward  commitments  outstanding.  As of December 31, 2004, the Company had approximately  $1,000,000  of  mortgage  loan forward commitments outstanding to hedge  interest  rate  risk  on  certain  committed  and  originated loans.  The differences between the settlement value of the forward commitments and the fair value  of  these  commitments  were  not  significant  at  December  31,  2004.  TRANSFERS  OF  FINANCIAL  ASSETS  Transfers of financial assets, including sales of loans and loan participations, are  accounted  for as sales, when control over the assets has been surrendered. Control  over transferred assets is deemed to be surrendered when (1) the assets have  been isolated from the Company, (2) the transferee obtains the right (free of  conditions  that constrain it from taking advantage of that right) to pledge or  exchange  the  transferred  assets,  and  (3)  the Company does not maintain effective control over the transferred assets through an agreement to repurchase them  before  their  maturity.  - --------------------------------------------------------------------------------                                    Page 43   LOANS  The  Company grants mortgage, commercial and consumer loans to customers.  Loans that management has the intent and ability to hold for the foreseeable future or until  maturity  or  pay-off, generally are stated at unpaid principal balances, less  the  allowance  for loan losses and net deferred loan origination fees and costs.  The  ability  of  the  Company's  debtors  to  honor  their contracts is dependent  upon  the  real  estate and general economic conditions in the market area.  Interest  income  is generally recognized when income is earned using the interest method. Nonrefundable loan fees received and related direct origination costs  incurred  are  deferred and amortized over the life of the loan using the interest  method,  resulting  in  a constant effective yield over the loan term. Deferred  fees  are  recognized  into  income  and deferred costs are charged to income  immediately  upon  prepayment  of  the  related  loan.  ALLOWANCE  FOR  LOAN  LOSSES  The  allowance  for  loan  losses is established as losses are estimated to have occurred  through  a provision for loan losses charged to earnings.  Loan losses are  charged against the allowance when management believes the uncollectibility of  a loan balance is confirmed.  Subsequent recoveries, if any, are credited to the  allowance. The Company periodically evaluates the adequacy of the allowance for loan losses in order to maintain the allowance at a level that is sufficient to  absorb  probable  credit losses.  Management's evaluation of the adequacy of the  allowance is based on a review of the Company's historical loss experience, known and inherent risks in the loan portfolio and an analysis of the levels and trends  of  delinquencies  and  charge-offs.  This  evaluation  is  inherently subjective as it requires estimates that are susceptible to significant revision as  more  information  becomes  available.  The  allowance consists of specific and general and unallocated components.  The specific  component  relates  to  loans  that  are  classified as impaired.  For impaired  loans,  an allowance is established when the discounted cash flows (or collateral  value or observable market price) of the impaired loan is lower than the  carrying  value  of that loan.  The general component covers non-classified loans  and  is  based  on  historical  loss  experience adjusted for qualitative factors.  An  unallocated  component  is  maintained to cover uncertainties that could  affect  management's  estimate  of  probable  losses.  The  unallocated component  of  the  allowance reflects the margin of imprecision inherent in the underlying  assumptions  used  in  the methodologies for estimating specific and general  losses  in  the  portfolio.  A loan is considered impaired, based on current information and events, if it is probable  the  Company  will  be  unable  to  collect  the scheduled payments of principal  or  interest  when due according to the contractual terms of the loan agreement.  The  measurement  of  impaired  loans  is  generally  based upon the present  value of future cash flows discounted at the historical effective rate, except  that all collateral-dependent loans are measured for impairment based on fair  values  of  collateral.  Large groups of smaller balance homogeneous loans are collectively evaluated for impairment.  Accordingly,  the  Company  does not separately identify individual consumer and residential loans for impairment disclosures, unless such loans are the  subject  of  a  restructuring  agreement.  INCOME  RECOGNITION  ON  IMPAIRED  AND  NON-ACCRUAL  LOANS  Loans, including impaired loans, are generally classified as non-accrual if they are  past due as to maturity or payment of principal or interest for a period of more  than  90  days.  When  a  loan is classified as non-accrual and the future collectibility of the recorded loan balance is doubtful, collections of interest and  principal  are  generally  applied as a reduction to principal outstanding.  - --------------------------------------------------------------------------------                                    Page 44   When  future  collectibility  of the recorded loan balance is expected, interest income  may  be recognized on a cash basis. In the case where a non-accrual loan had  been  partially  charged  off,  recognition  of interest on a cash basis is limited to that which would have been recognized on the recorded loan balance at the  contractual  interest rate. Cash interest receipts in excess of that amount are  recorded  as  recoveries  to  the  allowance  for  loan  losses until prior charge-offs  have  been  fully  recovered.  OFF-BALANCE  SHEET  CREDIT  RELATED  FINANCIAL  INSTRUMENTS  In  the ordinary course of business, the Company has entered into commitments to extend  credit,  including  commitments  under  standby letters of credit.  Such financial  instruments  are  recorded  when  they  are  funded.  PREMISES  AND  EQUIPMENT  Premises  and  equipment  are  stated  at  cost,  less accumulated depreciation. Depreciation  is  computed  on  a  straight-line basis over the estimated useful lives  of  the  related assets, ranging up to 39 years for premises and 10 years for  equipment.  Maintenance  and  repairs  are charged to operating expenses as incurred.  The  asset  cost  and  accumulated  depreciation are removed from the accounts  for  assets sold or retired and any resulting gain or loss is included in  the  determination  of  income.  FORECLOSED  REAL  ESTATE  Properties  acquired through foreclosure, or by deed in lieu of foreclosure, are carried  at  their fair value less estimated disposal costs. Write downs of, and expenses  related  to,  foreclosed  real estate holdings included in noninterest expense  were  $155,000,  $85,000  and  $124,000  in  2005,  2004  and  2003, respectively.  INTANGIBLE  ASSETS  Intangible  assets  represent core deposit intangibles and goodwill arising from acquisitions.  Core  deposit  intangibles  represent the premium the Company has paid  for  deposits  acquired  in excess of the cost incurred had the funds been purchased  in  the capital markets.  Core deposit intangibles are amortized on a straight-line basis over a period of five years.  Goodwill represents the excess cost of an acquisition over the fair value of the net assets acquired.  Goodwill is  not  amortized  but  is  evaluated  annually  for  impairment.  MORTGAGE  SERVICING  RIGHTS  Originated  mortgage  servicing  rights  are recorded at their fair value at the time  of  transfer  and  are  amortized  in proportion to and over the period of estimated  net  servicing  income or loss.  The carrying value of the originated mortgage  servicing  rights  is  periodically  evaluated  for  impairment.  - --------------------------------------------------------------------------------                                    Page 45   STOCK-BASED  COMPENSATION  The  Company  accounts  for  stock  awards issued to directors, officers and key employees  using  the  intrinsic  value  method  in  accordance  with Accounting Principles Board Opinion No. 25.  This method requires that compensation expense be  recognized  to  the  extent  that  the  fair  value of the stock exceeds the exercise price of the stock award at the grant date.  The Company generally does not  recognize  compensation  expense  related to stock awards because the stock awards  generally  have  fixed  terms  and  exercise prices that are equal to or greater  than  the  fair  value of the Company's common stock at the grant date.  There  is  no  pro  forma  expense reported for 2005 as stock options were fully vested  during  2003.  Pro  forma  amounts  of net income and earnings per share under  Statement  of  Financial  Accounting  Standards  No.  123 are as follows:     (Dollars in thousands)                                                    2003 - ---------------------------------------------------------------------------------    NET INCOME: As reported                                                              $  1,652 Total stock-based compensation cost, net of tax, that would   have been included in the determination of net income if the   fair value based method had been applied to all awards                       28 - --------------------------------------------------------------------------------- Pro forma                                                                $  1,624 =================================================================================  EARNINGS PER SHARE:                                              BASIC   DILUTED - --------------------------------------------------------------------------------- As reported                                                      $ 0.68  $   0.67 Pro forma                                                        $ 0.67  $   0.66 =================================================================================   The  fair value of these options was estimated at the date of grant in July 2001 using  the  Black-Scholes  options pricing model with the following assumptions: risk free interest rate - 5.0%; dividend yield - 2.0%; market price volatility - 52.4%.  An  assumed  weighted  average option life of 6 years has been utilized. For  purposes  of pro forma disclosures, the estimated fair value of the options is  amortized  to  expense  over  the  options' vesting period.  No options were granted  during  2005,  2004  and  2003.  RETIREMENT  BENEFITS  The  Company  has  established  tax  qualified  retirement  plans  covering substantially  all full-time employees and certain part-time employees.  Pension expense  under  these  plans  is  charged  to current operations and consists of several  components  of  net pension cost based on various actuarial assumptions regarding  future  experience  under  the  plans.  In  addition, the Company has unfunded  deferred  compensation and supplemental executive retirement plans for selected  current  and  former employees and officers that provide benefits that cannot  be  paid  from  a qualified retirement plan due to Internal Revenue Code restrictions.  These plans are nonqualified under the Internal Revenue Code, and assets used to fund benefit payments are not segregated from other assets of the Company,  therefore,  in  general,  a  participant's  or  beneficiary's claim to benefits  under  these  plans  is  as  a  general  creditor.  TREASURY  STOCK  Treasury  stock  purchases  are  recorded at cost.  There were no treasury stock purchases  in  2005  and 2004.  In 2003, the Company purchased 183,114 shares of treasury stock at an average cost of $14.67 per share, respectively.  160,114 of the  shares  purchased  by the Company in 2003 related to a privately negotiated stock  repurchase  from  Jewelcor  Management Inc.  The shares were purchased at $14.60 per share and represented approximately 6.1% of the Company's outstanding common  stock as of December 31, 2002.  The privately negotiated transaction was not part of the share repurchase program in effect for that period.  The Company believes repurchase programs to be in the best interest of its shareholders as a method  to  enhance  long-term  shareholder  value.  - --------------------------------------------------------------------------------                                    Page 46   INCOME  TAXES  Provisions  for  income taxes are based on taxes currently payable or refundable and  deferred  income  taxes  on  temporary differences between the tax basis of assets  and  liabilities and their reported amounts in the financial statements. Deferred  tax assets and liabilities are reported in the financial statements at currently  enacted  income  tax  rates  applicable  to  the  period in which the deferred  tax  assets  and  liabilities  are expected to be realized or settled.  EARNINGS  PER  SHARE  Basic  earnings  per  share  are computed by dividing net income by the weighted average  number  of  common  shares  outstanding  throughout each year.  Diluted earnings  per  share  gives  effect  to  weighted  average  shares that would be outstanding  assuming  the  exercise  of issued stock options using the treasury stock  method.  COMPREHENSIVE  INCOME  (LOSS)  Accounting principles generally require that recognized revenue, expenses, gains and  losses  be  included in net income.  Although certain changes in assets and liabilities,  such  as  unrealized  gains  and  losses  on  available-for-sale securities,  are  reported  as a separate component of the equity section of the statement  of  condition,  such  items, along with net income, are components of comprehensive  income.  The  components of other comprehensive income (loss) and related tax effects for the  years  ended:                                                   FOR THE YEARS ENDED DECEMBER 31,                                               --------------------------------- (In thousands)                                       2005      2004    2003 - -------------------------------------------------------------------------------     Gross change in unrealized gains on   securities available for sale                  $ (1,835)  $  (843)  $ 681 Reclassification adjustment for (gains) losses   included in net income                              205      (772)   (542) - ----------------------------------------------------------------------------                                                    (1,630)   (1,615)    139 Tax effect                                            652       646     (56) - ---------------------------------------------------------------------------- Net of tax amount                                $   (978)  $  (969)  $  83 ============================================================================   RECLASSIFICATIONS  Certain amounts in the 2004 and 2003 consolidated financial statements have been reclassified  to  conform  to  the  current  year  presentation.  These reclassifications  had  no  effect  on  net  income  as  previously  reported.  NOTE  2:  NEW  ACCOUNTING  PRONOUNCEMENTS  In  December  2004,  the  Financial  Accounting  Standards  Board  (FASB) issued Statement  No.  123(R),  "Share-Based  Payment."  Statement  No.  123(R) revised Statement No. 123, "Accounting for Stock-Based Compensation," and supersedes APB Opinion  No.  25,  "Accounting  for  Stock Issued to Employees," and its related implementation  guidance.  Statement  No. 123(R) will require compensation costs related  to  share-based  payment transactions to be recognized in the financial statements  (with  limited exceptions).  The amount of compensation cost will be measured  based  on  the  grant-date  fair  value  of  the  equity  or liability instruments  issued.  Compensation  cost will be recognized over the period that an  employee  provides  service  in  exchange  for  the  award.  On April 14, 2005, the Securities and Exchange Commission ("SEC") adopted a rule that  amends  the  compliance  dates  for Financial Accounting Standards Board's Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment"  ("SFAS  No.  123R").  Under the rule, the Company is required to adopt SFAS  No.  123R in the first annual period beginning after June 15, 2005.  Since  - --------------------------------------------------------------------------------                                    Page 47   the  Company's  options  are  fully  granted  and  vested,  the Company does not anticipate  the  adoption  will  have  any  impact on the consolidated financial statements.  In March 2005, the SEC issued Staff Accounting Bulletin No. 107 ("SAB No. 107"), "Share-Based  Payment",  providing  guidance  on  option  valuation methods, the accounting  for  income  tax  effects  of  share-based payment arrangements upon adoption  of  SFAS  No.  123(R),  and  the disclosures in MD&A subsequent to the adoption.  The  Company  will  provide  SAB  No.  107  required disclosures upon adoption  of  SFAS  No.  123(R).  In  January 2003, the FASB's Emerging Issues Task Force (EITF) issued EITF Issue No. 03-1, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain  Investors" ("EITF 03-1"), and in March 2004, the EITF issued an update. EITF  03-1  addresses  the  meaning  of  other-than-temporary impairment and its application  to  certain  debt  and  equity  securities.  EITF  03-1 aids in the determination  of  impairment  of  an  investment  and  gives guidance as to the measurement  of  impairment  loss  and  the  recognition  and  disclosures  of other-than-temporary  investments.  EITF 03-1 also provides a model to determine other-than-temporary impairment using evidence-based judgment about the recovery of  the  fair value up to the cost of the investment by considering the severity and  duration  of  the  impairment in relation to the forecasted recovery of the fair  value.  In  July  2005,  FASB  adopted  the recommendation of its staff to nullify key parts of EITF 03-1.  The staff's recommendations were to nullify the guidance  on the determination of whether an investment is impaired as set forth in  paragraphs 10-18 of Issue 03-1 and not to provide additional guidance on the meaning  of  other-than-temporary  impairment.  Instead,  the  staff  recommends entities  recognize  other-than-temporary  impairments  by  applying  existing accounting  literature  such  as  paragraph  16  of  SFAS  115.  In  July 2005, the FASB issued a proposed interpretation of FAS 109, "Accounting for  Income  Taxes",  to clarify certain aspects of accounting for uncertain tax positions,  including issues related to the recognition and measurement of those tax  positions.  If adopted as proposed, any adjustments required to be recorded as  a  result  of adopting the interpretation would be reflected as a cumulative effect  from  a change in accounting principle.  We are currently in the process of  determining  the impact of adoption of the interpretation as proposed on our financial  position  and  results  of  operations.  - --------------------------------------------------------------------------------                                    Page 48   NOTE  3:  INVESTMENT  SECURITIES  -  AVAILABLE-FOR-SALE  The  amortized  cost  and  estimated  fair  value  of  investment securities are summarized  as  follows:                                                     DECEMBER 31, 2005                                    -------------------------------------------                                                   GROSS       GROSS  ESTIMATED                                    AMORTIZED UNREALIZED  UNREALIZED       FAIR (In thousands)                          COST      GAINS      LOSSES      VALUE      - ------------------------------------------------------------------------------ Bond investment securities: US Treasury and agencies           $   20,713  $    -     $  (746)    $ 19,967 State and political subdivisions       11,177       2        (199)      10,980 Corporate                               5,936      24        (106)       5,854 Mortgage-backed                        31,565      67        (914)      30,718 - ------------------------------------------------------------------------------ Total                                  69,391      93      (1,965)      67,519   Equity investments                    6,998      14        (292)       6,720 - ------------------------------------------------------------------------------ Total investment securities        $   76,389  $  107     $(2,257)    $ 74,239 ==============================================================================                                                   DECEMBER 31, 2004                                    -------------------------------------------                                                   GROSS       GROSS  ESTIMATED                                    AMORTIZED UNREALIZED  UNREALIZED       FAIR (In thousands)                          COST      GAINS      LOSSES      VALUE      - ------------------------------------------------------------------------------ Bond investment securities: US Treasury and agencies           $   21,609  $    4     $  (401)    $ 21,212 State and political subdivisions        8,881     162         (31)       9,012 Corporate                               5,919      92         (52)       5,959 Mortgage-backed                        32,213      92        (278)      32,027 - ------------------------------------------------------------------------------ Total                                  68,622     350        (762)      68,210   Equity investments                    6,967       5        (113)       6,859 - ------------------------------------------------------------------------------ Total investment securities        $   75,589  $  355     $  (875)    $ 75,069 ==============================================================================   Gross  gains  of  $190,000,  $828,000  and  $581,000  for  2005,  2004 and 2003, respectively  and  gross  losses of $395,000, $56,000 and $38,000 for 2005, 2004 and  2003, respectively were realized on sales and calls of securities.  The tax benefit  related  to  net  losses on investment securities was $80,000 for 2005. Tax  expense  related  to  net  gains  on investment securities was $301,000 and $211,000  for 2004 and 2003, respectively. The $395,000 loss in 2005 represented impairment  losses recognized on equity investments and the loss recognized from the  sale  of  commercial  bank  portfolio  securities.  Investment  securities  with  a  carrying  value of approximately $38,899,000 at December  31,  2005  were pledged to collateralize certain deposit and borrowing arrangements.  - --------------------------------------------------------------------------------                                    Page 49   The  amortized cost and estimated fair value of debt investments at December 31, 2005  by  contractual  maturity  are shown below. Expected maturities may differ from  contractual  maturities  because  borrowers  may have the right to call or prepay  obligations  with  or  without  penalties.                                             AMORTIZED    ESTIMATED (In thousands)                              COST     FAIR VALUE - ----------------------------------------------------------------    Due in one year or less                  $    3,039  $     3,008 Due after one year through five years        16,179       15,699 Due after five years through ten years       11,856       11,432 Due after ten years                           6,752        6,662 Mortgage-backed securities                   31,565       30,718 - ---------------------------------------------------------------- Totals                                   $   69,391  $    67,519 ================================================================   The  Company's  investment  securities'  gross unrealized losses and fair value, aggregated  by investment category and length of time that individual securities have  been  in  a  continuous  unrealized  loss  position  is  as  follows:                                                                         DECEMBER 31, 2005                                           ------------------------------------------------------------------                                           LESS THAN TWELVE MONTHS   TWELVE MONTHS OR MORE       TOTAL - ------------------------------------------------------------------------------------------------------------                                               UNREALIZED   FAIR      UNREALIZED    FAIR   UNREALIZED   FAIR (In thousands)                                  LOSSES     VALUE        LOSSES     VALUE     LOSSES    VALUE - ------------------------------------------------------------------------------------------------------------        US Treasury and agency securities            $    (106)   $ 4,130    $   (639)   $15,837   $  (746)  $19,967 State and political subdivision securities        (152)     8,872         (47)     1,491      (199)   10,363 Corporate securities                               (35)     1,965         (71)     1,896      (106)    3,861 Mortgage-backed securities                        (322)    13,814        (593)    15,073      (914)   28,887 Equity investment securities                         -          -        (292)     6,135      (292)    6,135 - ------------------------------------------------------------------------------------------------------------                                              $    (615)   $28,781    $ (1,642)   $40,432   $(2,257)  $69,213 ============================================================================================================                                                                         DECEMBER 31, 2004                                           ------------------------------------------------------------------                                           LESS THAN TWELVE MONTHS   TWELVE MONTHS OR MORE       TOTAL - ------------------------------------------------------------------------------------------------------------                                               UNREALIZED   FAIR      UNREALIZED    FAIR   UNREALIZED   FAIR (In thousands)                                  LOSSES     VALUE        LOSSES     VALUE     LOSSES    VALUE - ------------------------------------------------------------------------------------------------------------        US Treasury and agency securities            $    (370)   $18,903    $    (31)   $   981   $  (401)  $19,884 State and political subdivision securities         (31)     2,411           -         56       (31)    2,467 Corporate securities                               (11)       976         (41)       936       (52)    1,912 Mortgage-backed securities                        (215)    19,949         (63)     3,301      (278)   23,250 Equity investment securities                       (10)       240        (103)     3,547      (113)    3,787 - ------------------------------------------------------------------------------------------------------------                                              $    (637)   $42,479    $   (238)   $ 8,821   $  (875)  $51,300 ============================================================================================================   The  Company  reviews its securities for impairment at least quarterly, and as a result  of  this  review,  impairment  charges  of $196,000 were recorded during December  31,  2005.  No  impairment  losses  were  recognized in 2004 and 2003.  At December 31, 2005 59 mortgage-backed and 33 US treasury and agency securities have  unrealized  losses.  These unrealized losses relate principally to changes in interest rates subsequent to the acquisition of specific securities.  None of the  securities in this category had an unrealized loss that exceeded 6% of book value  and a majority had unrealized losses totaling less than 3% of book value. The  Company  has  the  intent  and ability to hold the individual securities to maturity  or  market  price  recovery.  - --------------------------------------------------------------------------------                                    Page 50   At  December  31,  2005,  32  state  and  political subdivision securities and 4 corporate  securities  have  unrealized  losses.  In  analyzing  the  issuer's financial  condition,  management  considers  the  industry  analyst's  reports, financial  performance and projected target prices of investment analysts within a  one-year  time  frame.  None  of  the  securities  in  this  category  had an unrealized  loss  that  exceeded  5% of book value and a majority had unrealized losses  totaling  less  than  2%  of book value.  The Company has the intent and ability  to hold the individual securities to maturity or market price recovery.  At  December  31, 2005, 3 equity securities had unrealized losses.  One of these securities is a mutual fund backed by adjustable rate mortgage-backed securities and  has  an  unrealized  loss  of 3% of book value. The unrealized loss relates principally  to  changes  in interest rates subsequent to the acquisition of the mutual  fund.  A second equity security is a mutual fund consisting primarily of investment  grade  dividend-paying  common  stocks  of  large  capitalization companies, i.e., companies with market capitalization in excess of $5 billion. A review  of the underlying securities indicates no individually impaired holdings and  there  is  no  indication  that  the profitability of these corporations is impaired  beyond the economic cycle. As such, the decline in market value is not considered to be other-than-temporarily impaired.  The third equity security has unrealized  losses  totaling  $10,000,  which  is deemed to be immaterial to the consolidated  financial  statements.  NOTE  4:  LOANS  Major  classifications  of  loans  at  December  31,  are  as  follows:     (In thousands)                      2005       2004 - ----------------------------------------------------    REAL ESTATE MORTGAGES: Conventional                     $116,423   $117,608 Construction                        2,607      3,497 Commercial                         31,845     29,874 - ----------------------------------------------------                                   150,875    150,979 - ---------------------------------------------------- OTHER LOANS: Consumer                            3,363      3,484 Home Equity/2nd Mortgage           16,319     15,021 Lease financing                       334        715 Commercial                         14,741     12,605 Municipal loans                     3,259      3,514                                    38,016     35,339 - ---------------------------------------------------- Total loans                       188,891    186,318 - ---------------------------------------------------- Net deferred loan costs               677        634 Less allowance for loan losses     (1,679)    (1,827) - ---------------------------------------------------- Loans receivable, net            $187,889   $185,125 ====================================================   The  Company  grants  mortgage and consumer loans to customers throughout Oswego and  parts  of  Onondaga  counties.  Although the Company has a diversified loan portfolio,  a  substantial  portion  of  its  debtor's  ability  to  honor their contracts  is  dependent  upon the counties' employment and economic conditions.  - --------------------------------------------------------------------------------                                    Page 51   The  following  represents  the  approximate  activity  associated with loans to officers  and  directors  during  the  fiscal  year  ending  December  31, 2005:    (In thousands) - ---------------------------------------   Balance at beginning of year   $ 4,910 Originations                     3,065 Principal payments              (2,394) - --------------------------------------- Balance at end of year         $ 5,581 =======================================   NOTE  5:  ALLOWANCE  FOR  LOAN  LOSSES  Changes  in  the  allowance  for loan losses for the year ended December 31, are summarized  as  follows:     (In thousands)                 2005     2004     2003 - --------------------------------------------------------     Balance at beginning of year   $1,827   $1,715   $1,481 Recoveries credited                49       61       37 Provision for loan losses         311      738      598 Loans charged-off                (508)    (687)    (401) - -------------------------------------------------------- Balance at end of year         $1,679   $1,827   $1,715 ========================================================   The  following  is a summary of information pertaining to impaired loans for the years  ending  December  31,:    (In thousands)                                   2005    2004    2003 - ----------------------------------------------------------------------     Impaired loans without a valuation allowance    $    -  $    -  $    - Impaired loans with a valuation allowance        2,452   3,110   3,804 - ---------------------------------------------------------------------- Total impaired loans                            $2,452  $3,110  $3,804 - ---------------------------------------------------------------------- Valuation allowance related to impaired loans   $   90  $  760  $  527 - ---------------------------------------------------------------------- Average investment in impaired loans            $2,856  $3,611  $3,446 - ---------------------------------------------------------------------- Interest income recognized on impaired loans    $  175  $  153  $  139 - ---------------------------------------------------------------------- Interest income recognized on a cash basis on impaired loans                                  $    -  $    -  $   93 - ----------------------------------------------------------------------   As  of  December  31,  2005, no additional funds are committed to be advanced in connection  with  impaired  loans.  The amount of loans on which the Company has ceased accruing interest aggregated approximately  $1,655,000  and  $1,851,000  at  December  31,  2005  and  2004, respectively.  There  were  no  loans  past  due  ninety  days or more and still accruing  interest  at  December  31,  2005  or  2004.  NOTE  6:  SERVICING  Loans  serviced  for  others  are  not included in the accompanying consolidated statements  of  condition.  The  unpaid principal balances of mortgage and other loans  serviced  for  others  were  $56,300,000,  53,000,000  and $47,600,000 at December  31,  2005,  2004  and  2003,  respectively.  The balance of capitalized servicing rights included in other assets at December 31,  2005  and  2004,  was  $146,000  and  $198,000,  respectively.  - --------------------------------------------------------------------------------                                    Page 52   The  following  summarizes  mortgage-servicing rights capitalized and amortized:     (In thousands)                         2005   2004   2003 - -----------------------------------------------------------     Mortgage servicing rights capitalized   $  70  $  99  $ 179 Mortgage servicing rights amortized     $ 123  $ 158  $ 122 ===========================================================   NOTE  7:  PREMISES  AND  EQUIPMENT  A  summary  of  premises  and  equipment  at  December  31,  is  as  follows:    (In thousands)                      2005     2004 - ---------------------------------------------------    Land                               $ 1,150  $ 1,150 Buildings                            6,590    5,587 Furniture, fixture and equipment     6,120    5,597 Construction in progress               119      508 - ---------------------------------------------------                                    $13,979  $12,842 Less: Accumulated depreciation       5,959    5,262 - ---------------------------------------------------                                    $ 8,020  $ 7,580 ===================================================   NOTE  8:  GOODWILL  AND  INTANGIBLE  ASSETS  A  summary  of  intangible  assets  is  as  follows:                                       2005                           2004 - ---------------------------------------------------------------------------------                                   GROSS                         GROSS                           CARRYING      ACCUMULATED     CARRYING      ACCUMULATED  (In thousands)             AMOUNT     AMORTIZATION       AMOUNT     AMORTIZATION - --------------------------------------------------------------------------------- Core deposit intangible   $   1,111  $        (707)  $   1,111  $        (484)   Amortization  expense  related to core deposit intangibles is estimated to total $223,000  and  $181,000  for  the  years  ending  December  31,  2006  and 2007, respectively.  Amortization  of  goodwill  and  the  core  deposit intangible is deductible  for  tax  purposes.  NOTE  9:  DEPOSITS  A  summary  of  deposits  at  December  31,  is  as  follows:    (In thousands)                         2005      2004 - -------------------------------------------------------    Savings accounts                     $ 60,176  $ 66,265 Time accounts                          72,121    66,133 Time accounts over $100,000            24,034    18,250 Money management accounts              39,009    44,189 Demand deposit interest-bearing        18,259    20,339 Demand deposit noninterest-bearing     20,241    19,159 Mortgage escrow funds                   2,537     2,337 - -------------------------------------------------------                                      $236,377  $236,672 =======================================================   - --------------------------------------------------------------------------------                                    Page 53   At  December 31, 2005, the scheduled maturities of time deposits are as follows:    (In thousands) - ---------------------------- YEAR OF MATURITY: - ----------------------------   2006                $51,724 2007                 21,221 2008                  8,952 2009                  5,780 2010                  1,910 Thereafter            6,568 - ---------------------------                     $96,155 ===========================   NOTE  10:  BORROWED  FUNDS  The  composition  of  borrowings  at  December  31  is  as  follows:     (In thousands)                2005     2004 - ----------------------------------------------    SHORT-TERM FHLB ADVANCES: FHLB Advances                 $ 2,000  $ 1,000 - ---------------------------------------------- Total short-term borrowings   $ 2,000  $ 1,000 ============================================== LONG-TERM: FHLB Repurchase agreements    $ 3,400  $ 3,400 FHLB advances                  25,960   30,960 - ---------------------------------------------- Total long-term borrowings    $29,360  $34,360 ==============================================   The  principal  balance,  interest  rate and maturity of the above borrowings at December  31,  2005  is  as  follows:    TERM                                          PRINCIPAL      RATES - ---------------------------------------------------------------------- (Dollars in thousands)    Short-term advances with FHLB                 $    2,000   3.97%-4.13% Long-term: - ---------------------------------------------------------------------- Repurchase agreements (due in 2006 and 2009)       3,400  5.56% -5.85% Advances with FHLB - ---------------------------------------------------------------------- due within 1 year                                  2,000   4.72%-5.32% due within 2 years                                11,350   3.00%-5.04% due within 3 years                                 6,610   2.67%-5.98% due within 4 years                                 1,000         6.00% due within 5 years                                 5,000         4.39% - ---------------------------------------------------------------------- Total advances with FHLB                      $   25,960 - ---------------------------------------------------------------------- Total long-term borrowings                    $   29,360 ======================================================================   The  repurchase  agreements  with  the  Federal  Home  Loan  Bank  ("FHLB")  are collateralized  by  certain  investment  securities  having  a carrying value of $3,689,000 at December 31, 2005.  The collateral is under the Company's control. The  line  of  credit  agreement  with  the FHLB is used for liquidity purposes. Interest  on this line is determined at the time of borrowing.  The average rate paid  on  the  overnight  line  during 2005 approximated 3.57%.  At December 31, 2005,  $28,725,000  was  available under the line of credit.  In addition to the overnight line of credit program, the Company also has access to the FHLB's Term Advance  Program  under which it can borrow at various terms and interest rates. Residential  mortgage  loans with a carrying value of $84,899,000 and FHLB stock with  a  carrying  value  of $1,805,000 have been pledged by the Company under a blanket  collateral  agreement  to  secure the Company's line of credit and term  - --------------------------------------------------------------------------------                                    Page 54   borrowings.  The  Company  also  maintains  a  $5,000,000  line of credit with a correspondent  bank.  Interest  on  the  line  is  determined  at  the  time  of borrowing.  The  Company  did  not  draw  on  the  line during 2005.  Investment securities  with  a  carrying  value  of  $6,384,000  at  December  31,  2005 collateralize  the  line  of  credit.  The  Company has a non-consolidated subsidiary trust, Pathfinder Statutory Trust I, of which 100% of the common equity is owned by the Company.  The Trust issued $5,000,000  of 30 year floating rate Company-obligated pooled capital securities of  Pathfinder  Statutory  Trust  I.  The  Company  borrowed the proceeds of the capital  securities  from  its  subsidiary  by  issuing  floating  rate  junior subordinated  deferrable interest debentures having substantially similar terms. The  capital  securities mature in 2032 and are treated as Tier 1 capital by the Federal  Deposit  Insurance  Company  and the Office of Thrift Supervision.  The capital  securities  of the trust are a pooled trust preferred fund of Preferred Term  Securities VI, Ltd. and are tied to the 3-month LIBOR plus 3.45% (7.97% at December  31,  2005  and  6.00%  at  December  31,  2004)  with a five-year call provision.  The  Company  guarantees  all  of  these  securities.  The  Company capitalized  $151,000  of  deferred  financing  costs  associated  with the debt issuance,  which  are  being  amortized on a straight-line basis over the 5-year period  to  call  date.  The Company's equity interest in the trust subsidiary of $155,000 is reported in "Other  assets".  For  regulatory  reporting purposes, the Federal Reserve Board has  indicated  that the preferred securities will continue to qualify as Tier 1 Capital  subject  to  previously specified limitations, until further notice. If regulators make a determination that Trust Preferred Securities can no longer be considered in regulatory capital, the securities become callable and the Company may  redeem  them.  NOTE 11: EMPLOYEE BENEFITS AND DEFERRED COMPENSATION AND SUPPLEMENTAL RETIREMENT PLANS  The  Company  has  a  noncontributory  defined  benefit  pension  plan  covering substantially  all  employees. The plan provides defined benefits based on years of  service  and final average salary. In addition, the Company provides certain health  and  life  insurance  benefits  for  eligible  retired  employees.  The healthcare  plan  is  contributory  with  participants'  contributions  adjusted annually;  the life insurance plan is noncontributory.  Employees with less than 14  years  of service as of January 1, 1995, are not eligible for the health and life  insurance  retirement  benefits.  The  Company uses an October 1 measurement date for the defined benefit plan and postretirement  benefit  plan.  - --------------------------------------------------------------------------------                                    Page 55   The  following  tables  set  forth the changes in the plan's benefit obligation, fair  value  of  plan assets and prepaid (accrued) benefit (cost) as of December 31:                                                      PENSION BENEFITS  POSTRETIREMENT BENEFITS - ------------------------------------------------------------------------------------------- (In thousands)                                       2005       2004    2005         2004 - ------------------------------------------------------------------------------------------- CHANGE IN BENEFIT OBLIGATIONS:      Benefit obligation at beginning of year          $  3,745   $  3,382   $ 309       $ 367 Service cost                                          151        155       2           2 Interest cost                                         229        207      18          19 Actuarial gain (loss)                                 378        153      46         (58) Plan participants' contributions                        -          -       6          12 Benefit paid                                         (142)      (152)    (27)        (33) - ------------------------------------------------------------------------------------------- Benefit obligation at end of year                $  4,361   $  3,745   $ 354       $ 309 - ------------------------------------------------------------------------------------------- CHANGE IN PLAN ASSETS: Fair value of plan assets at beginning of year   $  3,154   $  2,792   $   -       $   - Actual return on plan assets                          388        236       -           - Plan participants' contributions                        -          -       6          12 Benefits paid                                        (142)      (152)    (27)        (33) Employer contributions                                670        278      21          21 - ------------------------------------------------------------------------------------------- Fair value of plan assets at end of year         $  4,070   $  3,154   $   -       $   - - ------------------------------------------------------------------------------------------- COMPONENTS OF PREPAID/ACCRUED BENEFIT COST: Unfunded status                                  $   (291)  $   (591)  $(354)      $(309) Unrecognized transition obligation                      -          -     115         134 Unrecognized actuarial net loss/(gain)              1,656      1,478      34         (13) - ------------------------------------------------------------------------------------------- Prepaid/(accrued) benefit/(cost)                 $  1,365   $    887   $(205)      $(188) ===========================================================================================   The  accumulated  benefit obligation for the defined benefit plan was $3,602,000 and  $3,042,000  at  December  31,  2005  and  2004,  respectively.  The  significant  assumptions  used  in determining the benefit obligation as of December  31,  2005,  2004  and  2003  are  as  follows:                                                      PENSION BENEFITS   POSTRETIREMENT BENEFITS                                                   ----------------------------------------------                                                             2005     2004     2003   2005   2004   2003 - ------------------------------------------------------------------------------------------------ Weighted average discount rate                      5.88%    6.25%    6.50%   5.88%  6.25%  6.00% Expected long term rate of return on plan assets    9.00%    9.00%    9.00%      -      -      - Rate of increase in future compensation levels      3.00%    3.50%    4.00%      -      -      - ================================================================================================   Assumed  health  care  cost trend rates have a significant effect on the amounts reported  for the postretirement health care plans. The annual rates of increase in  the  per  capita  cost of covered medical and prescription drug benefits for year-end calculations were assumed to be 9.5% and 10.0%, respectively. The rates were  assumed  to  decrease  gradually to 3.75% in 2011 and remain at that level thereafter.  A  one-percentage  point change in the health care cost trend rates would have the following effects:                                                   1 PERCENTAGE    1 PERCENTAGE                                                    POINT          POINT (In thousands)                                   INCREASE        DECREASE - ----------------------------------------------------------------------------    Effect on total of service and interest cost components                                $          21  $         (20) Effect on post retirement benefit obligation              15            (11) ============================================================================   - --------------------------------------------------------------------------------                                    Page 56   The  composition  of  the  net  periodic  benefit  plan cost for the years ended December  31,  2005,  2004  and  2003  is  as  follows:                                                PENSION BENEFITS  POSTRETIREMENT BENEFITS                                          ------------------------------------------- (In thousands)                            2005     2004   2003    2005   2004   2003 - ------------------------------------------------------------------------------------        Service cost                            $  151   $ 155   $ 154   $   2  $   2  $   2 Interest cost                              229     207     200      18     19     21 Amortization of transition obligation        -       -       -      19     18     18 Amortization of gains and losses            96      94     106       -      -      1 Expected return on plan assets            (285)   (254)   (227)      -      -      - - ------------------------------------------------------------------------------------ Net periodic benefit plan cost          $  191   $ 202   $ 233   $  39  $  39  $  42 ====================================================================================   The  significant  assumptions  used in determining the net periodic benefit plan cost  for  years  ended  December  31:                                                         PENSION BENEFITS  POSTRETIREMENT BENEFITS                                                     ------------------------------------------                                                      2005   2004   2003  2005   2004   2003 - ----------------------------------------------------------------------------------------------        Weighted average discount rate                       5.88%  6.25%  6.50%  5.88%  6.25%  6.00% Expected long term rate of return on plan assets     9.00%  9.00%  9.00%     -      -      - Rate of increase in future compensation levels       3.00%  3.50%  4.00%     -      -      - ==============================================================================================   The  long-term  rate-of-return-on-assets  assumption was set based on historical returns  earned  by  equities  and  fixed income securities, adjusted to reflect expectations  of  future  returns  as applied to the plan's target allocation of asset  classes.  Equities  and fixed income securities were assumed to earn real rates of return in the ranges of 5-9.0% and 2-6.0%, respectively.  The long-term inflation rate was estimated to be 3.0%.  When these overall return expectations are  applied  to  the  plan's  target allocation, the expected rate of return is determined  to  be  9.0%, which is roughly the midpoint of the range of expected return.  The Company's pension plan weighted-average asset allocations at October 1, the measurement date, by asset category    ASSET CATEGORY     2005   2004 - -------------------------------    Equity securities    72%    69% Debt securities      28%    31% - ------------------------------- Total               100%   100% ===============================   Plan  assets  are  invested  in  six  diversified  investment  funds  of the RSI Retirement  Trust  (the  "Trust"), a no load series open-ended mutual fund.  The investment  funds  include  four  equity mutual funds and two bond mutual funds, each  with  its  own  investment objectives, investment strategies and risks, as detailed  in the Trust's prospectus.  The Trust has been given discretion by the Plan Sponsor to determine the appropriate strategic asset allocation versus plan liabilities,  as  governed by the Trust's Statement of Investment Objectives and Guidelines  (the  "Guidelines").  The  long-term  investment  objective is to be invested 65% in equity securities (equity  mutual  funds)  and 35% in debt securities (bond mutual funds).  If the plan  is  underfunded  under  the  Guidelines,  the  bond  fund  portion will be temporarily  increased  to  50% in order to lessen asset value volatility.  When the  plan is no longer underfunded, the bond fund portion will be decreased back to  35%.  Asset  rebalancing  is  performed  at  least  annually,  with  interim adjustments  made  when  the  investment mix varies more than 5% from the target (i.e.,  a  10%  target  range).  The investment goal is to achieve investment results that will contribute to the proper  funding  of the pension plan by exceeding the rate of inflation over the long-term.  In  addition,  investment  managers  for  the  Trust are expected to  - --------------------------------------------------------------------------------                                    Page 57   provide  above  average  performance  when  compared  to  their  peer  managers. Performance volatility is also monitored.  Risk/volatility is further managed by the  distinct  investment  objectives  of  each  of  the  Trust  funds  and  the diversification  within  each  fund.  For  the  fiscal  year  ending December 31, 2006, the Bank expects to contribute approximately  $192,000  to  the  Plan.  The  following  benefit  payments,  which  reflect  expected  future service, as appropriate,  are  expected  to  be  paid.     YEARS ENDING DECEMBER 31: - --------------------------------   (In thousands) - -------------------------------- 2006                        $148 2007                         148 2008                         145 2009                         148 2010                         152 Years 2011 - 2015            981 ================================   The  Company  also offers a 401(k) plan to its employees.  Contributions to this plan by the Company were $145,000, $92,000 and  $84,000 for 2005, 2004 and 2003, respectively.  The  Company  maintains  optional  deferred compensation plans for its directors whereby fees normally received are deferred and paid by the Company based upon a payment  schedule  commencing  at  age  65  and  continue  monthly for 10 years. Directors  must  serve  on the board for a minimum of 5 years to be eligible for the Plan. At December 31, 2005 and 2004, other liabilities include approximately $1,412,0000  and  $1,276,000,  respectively,  relating to deferred compensation. Deferred  compensation  expense  for the years ended December 31, 2005, 2004 and 2003  amounted  to  approximately $211,000, $185,000 and $116,000, respectively.  The  Company  has  a  supplemental  executive retirement plan for the benefit of certain  executive  officers.  At  December 31, 2005 and 2004, other liabilities include  approximately  $424,000  and  $449,000  accrued  under  these  plans. Compensation  expense  includes  approximately  $56,000,  $53,000  and  $68,000 relating  to the supplemental executive retirement plan for 2005, 2004 and 2003, respectively.  To  fund  the  benefits  under  these  plans, the Company is the owner of single premium  life insurance policies on participants in the non-qualified retirement plans.  At  December  31,  2005  and  2004, the cash value of these policies was $5,987,000  and  $5,768,000,  respectively.  NOTE  12:  STOCK  BASED  COMPENSATION  PLANS  In  February  1997,  the  Board of Directors approved an option plan and granted options  there  under  with  an  exercise price equal to the market value of the Company's  shares  at  the  date  of  grant.  Under the Stock Option Plan, up to 132,249  options  have  been authorized for grant of incentive stock options and nonqualified  stock  options.  In  July 2001, the Board approved the issuance of 38,499 stock options remaining in  the 1997 Stock Option Plan.  The exercise price is equal to the market value of the Company's shares at the date of grant ($8.34).  The options granted under the  issuance have a 10-year term with one-third vesting upon grant date and the remaining  vesting  and  becoming  exercisable  ratably  over  a  2-year period.  - --------------------------------------------------------------------------------                                    Page 58   Activity  in  the  Stock  Option  Plan  is  as  follows:                                                        WEIGHTED                                      OPTIONS         AVERAGE        SHARES (Shares in thousands)              OUTSTANDING   EXERCISE PRICE   EXERCISABLE - --------------------------------------------------------------------------------     Outstanding at December 31, 2002            93   $          7.27           80 - -------------------------------------------------------------------------------- Exercised                                   (5)             7.49 Outstanding at December 31, 2003            88   $          7.25           88 - -------------------------------------------------------------------------------- Exercised                                  (18)             7.75 Outstanding at December 31, 2004            70   $          7.12           70 - -------------------------------------------------------------------------------- Exercised                                  (13)             6.58 Expired                                    (11)             6.58 Outstanding at December 31, 2005            46   $          7.41           46 - --------------------------------------------------------------------------------   The Bank sponsors an Employee Stock Ownership Plan (ESOP) for employees who have attained  the  age  of 21 and who have completed a 12 month period of employment with the Bank during which they worked at least 1,000 hours.  The Bank purchased 92,574 shares of common stock on behalf of the ESOP.  The purchase of the shares was  funded  by  a  loan from the Company and the unearned shares are pledged as collateral  for  the  borrowing.  As  the  loan  was  repaid, earned shares were released  from  collateral  and  allocated  to the participants.  As shares were earned, the Bank records compensation expense at the average market price of the shares  during  the  period.  Cash  dividends  received  on unearned shares were allocated  among  the  participants  and  were reported as compensation expense. ESOP compensation expense, including cash dividends received on unearned shares, approximated  $88,000,  $136,000  and  $129,000 for the years ended December 31, 2005,  2004  and 2003, respectively.   Total earned shares at December 31, 2005, 2004  and  2003  were  92,574,  86,998  and 79,367, respectively.  Unearned ESOP shares  are  not  considered  outstanding for purposes of computing earnings per share.  All  shares  were  earned  at  December  31,  2005.  NOTE  13:  INCOME  TAXES  The  provision  for income taxes for the years ended December 31, is as follows:     (In thousands)   2005   2004   2003 - -------------------------------------     Current          $(160)  $   -  $ 294 Deferred           109     502    307 - -------------------------------------                  $ (51)  $ 502  $ 601 =====================================   The  provision  for  income  taxes  includes  the  following:     (In thousands)                 2005    2004    2003 - -----------------------------------------------------     Federal Income Tax             $ (29)  $ 520   $ 631 New York State Franchise Tax     (22)    (18)    (30) - -----------------------------------------------------                                $ (51)  $ 502   $ 601 =====================================================   - --------------------------------------------------------------------------------                                    Page 59   The components of net deferred tax asset, included in other assets for the years ended December 31, are as follows:     (In thousands)                                2005      2004 - ---------------------------------------------------------------    ASSETS: Deferred compensation                        $   715   $   672 Allowance for loan losses                        654       712 Postretirement benefits                           82        74 Mortgage recording tax credit carryforward       361       304 Investment securities                            865       213 Other                                            121        49 - ---------------------------------------------------------------                                              $ 2,798   $ 2,024 =============================================================== LIABILITIES: Prepaid pension                                 (532)     (345) Depreciation                                    (647)     (671) Accretion                                        (37)      (47) Loan origination fees                           (250)     (236) Intangible assets                               (432)     (328) Prepaid expenses                                 (79)     (119) - ---------------------------------------------------------------                                              $(1,977)  $(1,746) - --------------------------------------------------------------- Net deferred tax asset                       $   821   $   278 ===============================================================   The Company has a New York State mortgage recording tax credit that has no carry forward  limitations.  The Company has determined that no valuation allowance is necessary  as  it  is  more likely than not deferred tax assets will be realized through carryback to taxable income in prior years, future reversals of existing temporary  differences  and  through future taxable income.  A reconciliation of the  federal  statutory income tax rate to the effective income tax rate for the years  ended  December  31,  is  as  follows:                                               2005    2004   2003 - ---------------------------------------------------------------     Federal statutory income tax rate           34.0%  34.0%  34.0% State tax                                   (3.0)  (0.9)  (0.6) Tax-exempt interest income, net of TEFRA   (44.8)  (6.0)  (5.1) Increase in value of life insurance        (18.1)  (3.1)  (2.6) Other                                       19.5    2.3    1.0 - --------------------------------------------------------------- Effective income tax rate                 (12.4)%  26.3%  26.7% ===============================================================   - --------------------------------------------------------------------------------                                    Page 60   The following is a reconciliation of basic to diluted earnings per share for the years  ended  December  31:    (Dollars in thousands, except per share data)  EARNINGS   SHARES   EPS - -----------------------------------------------------------------------     2005  Net Income                               $     462 Basic EPS                                            462   2,456  $0.19 - ----------------------------------------------------------------------- Effect of dilutive securities Stock options                                          -      25 - ----------------------------------------------------------------------- Diluted EPS                                    $     462   2,481  $0.19 - ----------------------------------------------------------------------- 2004  Net Income                               $   1,405 Basic EPS                                          1,405   2,435  $0.58 - ----------------------------------------------------------------------- Effect of dilutive securities Stock options                                          -      44 - ----------------------------------------------------------------------- Diluted EPS                                    $   1,405   2,479  $0.57 - ----------------------------------------------------------------------- 2003  Net Income                               $   1,652 Basic EPS                                          1,652   2,424  $0.68 - ----------------------------------------------------------------------- Effect of dilutive securities Stock options                                          -      48 - ----------------------------------------------------------------------- Diluted EPS                                    $   1,652   2,472  $0.67 =======================================================================   NOTE  15:  COMMITMENTS  AND  CONTINGENCIES  The  Company  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 and standby letters  of  credit.  Such  commitments involve, to varying degrees, elements of credit  risk in excess of the amount recognized in the consolidated statement of condition. The contractual amount of those commitments to extend credit reflects the  extent  of  involvement  the  commitment  has  in  this particular class of financial  instrument.  The  Company'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  contractual  amount of the instrument.  The  Company's  exposure to credit loss is represented by the contractual amount of  these  commitments.   The  Company  uses  the same credit policies in making commitments  as  it  does  for  on-balance  sheet  instruments.  - --------------------------------------------------------------------------------                                    Page 61   At  December  31,  2005  and  2004,  the  following  financial  instruments were outstanding  whose  contract  amounts  represent  credit  risk:                                                        CONTRACT AMOUNT - ----------------------------------------------------------------------- (In thousands)                                   2005        2004 - -----------------------------------------------------------------------    Commitments to grant loans                   $  6,371     $ 5,120 Unfunded commitments under lines of credit     12,361      12,021 Standby letters of credit                         798       1,106 =======================================================================   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 some of the commitment amounts are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent  future  cash  requirements.  The  Company  evaluates  each customer's creditworthiness  on a case-by-case basis. The amount of collateral obtained, if deemed  necessary  by  the  Company  upon  extension  of  credit,  is  based  on management's  credit evaluation of the counter party. Collateral held varies but may  include residential real estate and income-producing commercial properties.  Unfunded commitments under standby letters of credit, revolving credit lines and overdraft  protection  agreements are commitments for possible future extensions of credit to existing customers.  These lines of credit usually do not contain a specified  maturity  date and may not be drawn upon to the total extent to which the  Company  is  committed.  Outstanding  letters of credit written are conditional commitments issued by the Bank  to guarantee the performance of a customer to a third party.  The majority of  these  standby  letters of credit expire within the next twelve months.  The credit  risk  involved  in  issuing letters of credit is essentially the same as that involved in extending other loan commitments.  The Bank requires collateral supporting  these  letters  of  credit as deemed necessary.  Management believes that  the  proceeds  obtained  through a liquidation of such collateral would be sufficient  to  cover  the  maximum potential amount of future payments required under  the corresponding guarantees.  The amount of the liability as of December 31,  2005  and  2004 or guarantees under standby letters of credit issued is not material.  The  Company leases land and leasehold improvements under agreements that expire in  various  years with renewal options over the next 30 years.  Rental expense, included  in  operating  expenses,  amounted  to $42,000, $41,000 and $41,000 in 2005,  2004 and 2003, respectively.  In October 2002, the Company entered into a land  lease with one of its directors on an arms-length basis.  The rent expense paid  to  the  related party during 2005, 2004 and 2003 was $23,000, $21,000 and $21,000,  respectively.  Approximate  minimum  rental  commitments  for  the noncancelable  operating  leases  are  as  follows:    YEARS ENDING DECEMBER 31: - ------------------------------------   (In thousands) 2006                           $ 47 2007                             47 2008                             51 2009                             51 2010                             51 Thereafter                      115 - ----------------------------------- Total minimum lease payments   $362 ===================================   NOTE  16:  DIVIDENDS  AND  RESTRICTIONS  The  board  of  directors  of Pathfinder Bancorp, M.H.C., determines whether the Holding  Company  will  waive  or receive dividends declared by the Company each time  the  Company  declares  a dividend, which is expected to be on a quarterly basis. The Holding Company may elect to receive dividends and utilize such funds  - --------------------------------------------------------------------------------                                    Page 62   to  pay  expenses  or  for  other  allowable  purposes.  The  Office  of  Thrift Supervision ("OTS") has indicated that (i) the Holding Company shall provide the OTS  annually  with written notice of its intent to waive its dividends prior to the  proposed  date  of  the  dividend,  and the OTS shall have the authority to approve  or  deny  any  dividend  waiver  request;  (ii) if a waiver is granted, dividends  waived  by  the  Holding  Company will be excluded from the Company's capital  accounts  for  purposes  of  calculating  dividend payments to minority shareholders;  (iii) the Company shall establish a restricted capital account in the amount of any dividends waived by the Holding Company, and the amount of any dividend  waived  by the Holding Company shall be available for declaration as a dividend  solely  to  the  Holding  Company.  During 2005, the Company paid cash dividends  totaling  $325,000  to the Holding Company. For the second and fourth quarters  ending  June 30, 2005 and December 31, 2005, respectively, the Holding Company  waived  the right to receive its portion of the cash dividends declared on  June  28,  2005 and December 27, 2005, respectively, which totaled $325,000. The  Company  maintains  a restricted capital account with a $1,532,000 balance, representing  the  Holding  Company's portion of dividends waived as of December 31,  2005.  During  2004 and 2003, the Holding Company waived dividends totaling $320,000  and  $317,000,  respectively.  The  Company's ability to pay dividends to its shareholders is largely dependent on the Bank's ability to pay dividends to the Company.  In addition to state law requirements and the capital requirements discussed in Note 17 the circumstances under  which  the  Bank  may  pay  dividends  are  limited  by federal statutes, regulations  and  policies.  The  amount  of retained earnings legally available under  these  regulations  approximated  $1,670,000  as  of  December  31, 2005. Dividends  paid  by  the  Bank  to the Company would be prohibited if the effect thereof  would  cause  the Bank's capital to be reduced below applicable minimum capital  requirements.  NOTE  17:  REGULATORY  MATTERS  The  Company  (on  a  consolidated  basis)  and  the Bank are subject to various regulatory  capital  requirements  administered by the federal banking agencies. Failure  to meet minimum capital requirements can initiate certain mandatory and possibly  additional  discretionary  actions  by regulators that, if undertaken, could  have  a  direct material effect on the Bank's financial statements. Under capital  adequacy  guidelines and the regulatory framework for prompt corrective action,  the  Company  and  the  Bank must meet specific capital guidelines that involve  quantitative  measures  of  the  their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classifications are also subject to qualitative judgments by the  regulators  about  components,  risk weightings, and other factors.  Prompt corrective  action  provisions  are  not  applicable  to bank holding companies.  Quantitative  measures  established  by  regulation  to  ensure capital adequacy require  the  Bank to maintain amounts and ratios (set forth in the table below) of  total  and  Tier  1 capital (as defined in the regulations) to risk-weighted assets  (as  defined),  and of Tier 1 capital (as defined) to average assets (as defined).  Management believes, as of December 31, 2005, that the Bank meets all capital  adequacy  requirements  to  which  it  is  subject.  - --------------------------------------------------------------------------------                                    Page 63   As  of  December  31, 2005, the Bank's most recent notification from the Federal Deposit  Insurance Corporation categorized the Bank as "well-capitalized", under the  regulatory  framework  for  prompt corrective action.  To be categorized as "well-capitalized",  the  Bank must maintain total risk based, Tier 1 risk-based and  Tier  1  leverage  ratios  as  set  forth in the tables below. There are no conditions  or  events  since  that  notification  that management believes have changed  the  Bank's  category.  The  Company's  and  the  Bank's actual capital amounts  and  ratios  as  of December 31, 2005and 2004 are also presented in the following  table.                                                                                      "To Be Well                                                                                  Capitalized"                                                               For Capital       Under Prompt                                                   Actual     Adequacy Purposes Corrective Provisions (Dollars in thousands)                        Amount   Ratio   Amount   Ratio   Amount   Ratio - ----------------------------------------------------------------------------------------------- COMPANY As of December 31, 2005:        Total Core Capital (to Risk-Weighted Assets)  $24,802   13.5%  $14,706    8.0%  N/A      N/A Tier 1 Capital (to Risk-Weighted Assets)      $23,123   12.6%  $ 7,353    4.0%  N/A      N/A Tier 1 Capital (to Average Assets)            $23,123    7.6%  $12,167    4.0%  N/A      N/A - --------------------------------------------------------------------------------------------- BANK As of December 31, 2005: Total Core Capital (to Risk-Weighted Assets)  $22,957   12.6%  $14,615    8.0%  $18,269   10.0% Tier 1 Capital (to Risk-Weighted Assets)      $21,278   11.7%  $ 7,307    4.0%  $10,961    6.0% Tier 1 Capital (to Average Assets)            $21,278    7.1%  $11,927    4.0%  $14,909    5.0% - ----------------------------------------------------------------------------------------------- COMPANY As of December 31, 2004: Total Core Capital (to Risk-Weighted Assets)  $24,493   13.5%  $14,472    8.0%  N/A      N/A Tier 1 Capital (to Risk-Weighted Assets)      $22,666   12.5%  $ 7,236    4.0%  N/A      N/A Tier 1 Capital (to Average Assets)            $22,666    7.7%  $11,775    4.0%  N/A      N/A - ------------------------------------------------------------------------------------------------ BANK As of December 31, 2004: Total Core Capital (to Risk-Weighted Assets)  $22,974   12.8%  $14,416    8.0%  $18,020   10.0% Tier 1 Capital (to Risk-Weighted Assets)      $21,147   11.7%  $ 7,208    4.0%  $10,812    6.0% Tier 1 Capital (to Average Assets)            $21,147    7.1%  $11,947    4.0%  $14,934    5.0% - -----------------------------------------------------------------------------------------------   The Bank is required to maintain average balances on hand or with the Federal Reserve Bank.  At December 31, 2005 and 2004, these reserve balances amounted to $1,608,000 and $2,419,000, respectively.  NOTE 18: FAIR VALUES OF FINANCIAL INSTRUMENTS  SFAS  No.  107, "Disclosure About Fair Value of Financial Instruments," requires disclosure  of  fair  value information of financial instruments, whether or not recognized  in  the  consolidated  statement  of  condition,  for  which  it  is practicable  to estimate that value. In cases where quoted market prices are not available,  fair  values  are  based  on  estimates using present value or other valuation  techniques.  Those  techniques  are  significantly  affected  by  the assumptions  used,  including  the  discount  rate  and estimates of future cash flows.  In that regard, the derived fair value estimates cannot be substantiated by  comparison  to independent markets and, in many cases, could not be realized in  immediate  settlement  of  the  instrument.  Management  uses its best judgment in estimating the fair value of the Company's financial  instruments; however, there are inherent weaknesses in any estimation technique.  Therefore,  for  substantially  all  financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Company could  have  realized  in  a  sales  transaction  on  the  dates indicated.  The  - --------------------------------------------------------------------------------                                    Page 64   estimated  fair  value  amounts  have  been  measured  as  of  their  respective year-ends,  and  have  not  been  re-evaluated  or updated for purposes of these financial  statements  subsequent  to  those  respective  dates.  As  such,  the estimated  fair  values  of  these  financial  instruments  subsequent  to  the respective  reporting  dates  may be different than the amounts reported at each year-end.  The  following  information should not be interpreted as an estimate of the fair value  of the entire Company since a fair value calculation is only provided for a  limited portion of the Company's assets and liabilities.  Due to a wide range of  valuation  techniques  and  the  degree  of  subjectivity used in making the estimates,  comparisons  between  the  Company's  disclosures and those of other companies  may  not  be  meaningful.  The  company, in estimating its fair value disclosures  for  financial  instruments,  used  the  following  methods  and assumptions:  CASH AND CASH EQUIVALENTS - the carrying amounts approximate fair value.  INVESTMENT  SECURITIES  -  fair  values of securities are based on quoted market prices, where available.  If quoted market prices are not available, fair values are  based  on  quoted  market  prices  of  comparable  instruments.  LOANS  AND  MORTGAGE  LOANS HELD-FOR-SALE - for variable rate loans that reprice frequently and with no significant credit risk, fair values approximate carrying values.  Fair  values  for  fixed rate loans are estimated using discounted cash flow  analysis,  using  interest  rates  currently  being offered for loans with similar  terms  to  borrowers  of  similar  credit  quality.  FEDERAL  HOME  LOAN  BANK STOCK - the carrying amounts reported approximate fair value.  MORTGAGE  SERVICING  RIGHTS  -  the  carrying  amount  approximates  fair value.  ACCRUED  INTEREST  RECEIVABLE  AND  PAYABLE  -  the  carrying amounts of accrued interest  receivable  and  payable  approximate  their  fair  values.  DEPOSIT  LIABILITIES  -  The  fair  values  disclosed for demand deposits (e.g., interest-bearing  and noninterest-bearing checking, passbook savings and certain types  of  money  management  accounts)  are, by definition, equal to the amount payable  on  demand  at the reporting date (i.e., their carrying amounts).  Fair values  for  fixed-rate certificates of deposit are estimated using a discounted cash  flow  calculation  that  applies interest rates currently being offered on certificates of deposits to a schedule of aggregated expected monthly maturities on  time  deposits.  BORROWINGS  -  the fair values for short-term borrowings and junior subordinated debentures  approximate  the  carrying  amounts.  The  fair values for long-term borrowings  were  estimated  using  discounted  cash  flow analysis based on the Company's  current  incremental  borrowing  rates for similar types of borrowing arrangements.  OFF-BALANCE  SHEET INSTRUMENTS - Fair values for the Company's off-balance sheet instruments  are  based  on  fees  currently  charged  to  enter  into  similar agreements,  taking  into  account the remaining terms of the agreements and the counterparties'  credit  standing.  - --------------------------------------------------------------------------------                                    Page 65   The  carrying  amounts and fair values of the Company's financial instruments as of  December  31  are  presented  in  the  following  table:                                              2005                          2004 - ---------------------------------------------------------------------------------------                                  CARRYING    ESTIMATED          CARRYING    ESTIMATED (Dollars in thousands)            AMOUNTS   FAIR VALUES          AMOUNTS   FAIR VALUES - ---------------------------------------------------------------------------------------      FINANCIAL ASSETS: Cash and cash equivalents        $   7,895  $      7,895        $  14,325  $     14,325 Investment securities               74,239        74,239           75,069        75,069 Mortgage loans held-for-sale             -             -            2,159         2,329 Net Loans                          187,889       189,598          185,125       190,034 Federal Home Loan Bank Stock         1,805         1,805            1,768         1,768 Accrued interest receivable          1,678         1,678            1,505         1,505 Mortgage servicing rights              146           146              198           198 - --------------------------------------------------------------------------------------- FINANCIAL LIABILITIES: Deposits                         $ 236,377  $    236,552        $ 236,672  $    237,410 Borrowed funds                      31,360        33,883           35,360        36,360 Junior subordinated debentures       5,155         5,155            5,155         5,155 Accrued interest payable               161           161              143           143 - --------------------------------------------------------------------------------------- OFF-BALANCE SHEET INSTRUMENTS: Standby letter of credit         $       -  $          -        $       -  $          - Commitments to extend credit             -             -                -             - Forward rate lock commitments            -             -                -             - =======================================================================================   NOTE  19:  PARENT  COMPANY  -  FINANCIAL  INFORMATION  The  following  represents  the  condensed  financial  information of Pathfinder Bancorp,  Inc.  for  years  ended  December  31:     STATEMENTS OF CONDITION                                 2005      2004 - ----------------------------------------------------------------------------- (In thousands)    ASSETS Cash                                                  $   245   $   982 Investments                                                19         - Receivable from bank subsidiary                             -        41 Investment in subsidiaries                             24,602    25,698 Due from subsidiaries                                   1,125       240 Other assets                                              207       243 - --------------------------------------------------------------------------- Total assets                                          $26,198   $27,204 =========================================================================== LIABILITIES AND SHAREHOLDERS' EQUITY Accrued liabilities                                       115       223 Junior subordinated debentures                          5,155     5,155 Shareholders' equity                                   20,928    21,826 - --------------------------------------------------------------------------- Total liabilities and shareholders' equity            $26,198   $27,204 ===========================================================================  - --------------------------------------------------------------------------------                                    Page 66   STATEMENTS OF INCOME                                     2005      2004      2003 - ---------------------------------------------------------------------------------- (In thousands) Interest income                                       $    14   $     9   $    16 Interest expense                                          352       259       243 - ---------------------------------------------------------------------------------- Net interest expense                                     (338)     (250)     (227) Operating expense                                         (92)     (130)     (106) Realized gain on sale of investment security                -       330       104 Amortization of deferred financing costs                  (30)      (30)      (30) - ---------------------------------------------------------------------------------- Loss before tax benefit and equity in undistributed net income of subsidiaries                 (460)      (80)     (259) - ---------------------------------------------------------------------------------- Tax benefit                                               128        20        73 - ---------------------------------------------------------------------------------- Loss before equity in undistributed net income of subsidiaries                                   (332)      (60)     (186) Equity in undistributed net income of subsidiaries        794     1,465     1,837 - ---------------------------------------------------------------------------------- Net income                                            $   462   $ 1,405   $ 1,652 ==================================================================================  STATEMENTS OF CASH FLOWS                                 2005      2004      2003 - ---------------------------------------------------------------------------------- (In thousands) OPERATING ACTIVITIES    Net Income                                         $   462   $ 1,405   $ 1,652    Equity in undistributed earnings of subsidiaries      (794)   (1,465)   (1,837)    Realized gain on sale of investment security             -      (330)     (104)    ESOP shares earned                                      88       133       122    Amortization of deferred financing costs                30        30        30    Other operating activities                            (987)     (304)       81 - ---------------------------------------------------------------------------------- Net cash used in operating activities                  (1,201)     (531)      (56) - ---------------------------------------------------------------------------------- INVESTING ACTIVITIES Proceeds from loan to subsidiary                           41        56        56  Dividends receivable                                     911         8         7  Purchase of investments                                  (18)        -         -  Proceeds from sale of investments                          -       430       154 - ---------------------------------------------------------------------------------- Net cash provided by investing activities                 934       494       217 - ---------------------------------------------------------------------------------- FINANCING ACTIVITIES  Proceeds from exercise of stock options                  213       140        35  Dividend received from subsidiary                          -         -     1,500  Cash dividends                                          (683)     (664)     (651)  Treasury stock purchased                                   -         -    (2,687) - ---------------------------------------------------------------------------------- Net used in financing activities                         (470)     (524)   (1,803) - ---------------------------------------------------------------------------------- Decrease in cash and cash equivalents                    (737)     (561)   (1,643) Cash and cash equivalents at beginning of year            982     1,543     3,186 - ---------------------------------------------------------------------------------- Cash and cash equivalents  at end of year             $   245   $   982   $ 1,543 ==================================================================================   - --------------------------------------------------------------------------------                                    Page 67   ITEM  9:  CHANGES  IN  AND  DISAGREEMENTS  WITH  ACCOUNTANTS  ON  ACCOUNTING AND FINANCIAL  DISCLOSURE  None.  ITEM  9A:  CONTROLS  AND  PROCEDURES  Under  the  supervision  and with the participation of the Company's management, including  our  Chief Executive Officer and Chief Financial Officer, the Company has  evaluated  the  effectiveness of the design and operation of its disclosure controls  and  procedures  (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange  Act) as of the end of the period covered by this annual report.  Based upon  that  evaluation,  the Chief Executive Officer and Chief Financial Officer concluded  that,  as  of  the  end  of  the  period  covered by this report, the Company's  disclosure  controls  and  procedures  are  effective  to ensure that information  required  to  be disclosed in the reports that the Company files or submits  under  the  Securities  Exchange  Act  of  1934 is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange  Commission's  rules  and  forms.  There  has  been  no  change  in the Company's  internal  control  over  financial  reporting  during the most recent fiscal  quarter  that  has  materially  affected,  or  is  reasonable  likely to materially  affect,  the  Company's  internal  control over financial reporting.  ITEM  9B:  OTHER  INFORMATION  None   PART  III  ITEM  10:  DIRECTORS  AND  EXECUTIVE  OFFICERS  OF  THE  COMPANY  (a)  Information  concerning  the  directors  of  the Company is incorporated by      reference hereunder in the Company's Proxy Materials for the Annual Meeting      of Stockholders.  (b)  Set  forth  below  is  information  concerning  the  Executive  Officers of      the Company at December 31, 2005       NAME                 AGE  POSITIONS HELD WITH THE COMPANY Thomas W. Schneider   44  President and Chief Executive Officer James A. Dowd, CPA    38  Vice President, Chief Financial Officer Edward A. Mervine     49  Vice President, General Counsel John F. Devlin        41  Vice President, Senior Commercial Lender Melissa A. Miller     48  Vice President, Chief Operating Officer Rhonda Hutchis        47  Vice President, Retail Lending    - --------------------------------------------------------------------------------                                    Page 68   ITEM  11:  EXECUTIVE  COMPENSATION  Information  with  respect  to management compensation and transactions required under  this  item  is incorporated by reference hereunder in the Company's Proxy Materials  for  the  Annual  Meeting  of  Stockholders  under  the  caption "Compensation".  ITEM  12:  SECURITY  OWNERSHIP  OF  CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED  STOCKHOLDER  MATTERS  The  information  contained  under  the  sections  captioned "Stock Ownership of Management"  is  incorporated  by reference to the Company's Proxy Materials for its  Annual  Meeting  of  Stockholders.  ITEM  13:  CERTAIN  RELATIONSHIPS  AND  RELATED  TRANSACTIONS  The  information  required  by this item is set forth under the caption "Certain Transactions"  in  the  Definitive  Proxy  Materials  for  the Annual Meeting of Stockholders  and  is  incorporated  herein  by  reference.  ITEM  14:  PRINCIPAL  ACCOUNTANT  FEES  AND  SERVICES  The  information required by this item is set forth under the caption "Audit and Related  Fees"  in  the  Definitive  Proxy  Materials  for the Annual Meeting of Stockholders  and  is  incorporated  herein  by  reference.  - --------------------------------------------------------------------------------                                    Page 69   ITEM  15.     EXHIBITS,  FINANCIAL  STATEMENT  SCHEDULES  (a)(1) Financial  Statements  -  The  Company's  consolidated  financial      statements,  for the years ended December 31, 2005, 2004 and 2003, together      with  the Report of Independent Registered Public Accounting Firm are filed      as  part  of  this  Form 10-K report. See "Item 8: Financial Statements and      Supplementary  Data."  The  supplemental  financial  information listed and      appearing  hereafter  should  be  read  in  conjunction  with the financial      statements included in this report.  (a)(2) Financial  Statement  Schedules  -  All  financial  statement  schedules      have  been  omitted as the required information is inapplicable or has been      included in "Item 7: Management Discussion and Analysis."  (b)  Exhibits  3.1  Certificate  of  Incorporation  of  Pathfinder  Bancorp, Inc. (Incorporated      herein  by reference to the Company's Current Report on Form 8-K dated June      25, 2001)  3.2  Bylaws  of  Pathfinder  Bancorp,  Inc.  (Incorporated  herein  by reference      to the Company's Quarterly Report on Form 10Q dated August 15, 2005)  4    Form  of  Stock  Certificate  of  Pathfinder  Bancorp,  Inc.  (Incorporated      herein  by reference to the Company's Current Report on Form 8-K dated June      25, 2001)  10.1 Form  of  Pathfinder  Bank  1997  Stock Option Plan (Incorporated herein by      reference to the Company's S-8 file no. 333-53027)  10.2 Form  of  Pathfinder  Bank  1997  Recognition  and  Retention  Plan      (Incorporated by reference to the Company's S-8 file no. 333-53027)  10.3 2003  Executive  Deferred  Compensation  Plan  (Incorporated  by  herein by      reference  to  the  Company's Quarterly Report on Form 10-Q for the quarter      ended March 31, 2004 file no. 000-23601)  10.4 2003  Trustee  Deferred  Fee  Plan  (Incorporated by herein by reference to      the Company's Quarterly Report on Form 10-Q for the quarter ended March 31,      2004 file no. 000-23601)  10.5 Employment  Agreement  between  the  Bank  and  Thomas  W.  Schneider,      President  and  Chief  Executive  Officer (Incorporated by reference to the      Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2004      file no. 000-23601)  10.6 Employment  Agreement  between  the  Bank  and Edward A. Mervine, Corporate      Counsel  (Incorporated  by  reference  to the Company's Quarterly Report on      Form 10-Q for the quarter ended June 30, 2004 file no. 000-23601)  21   Subsidiaries of Company  23   Consent of Beard Miller Company LLP  31.1 Rule 13a-14(a) / 15d-14(a) Certification of the Chief Executive Officer  31.2 Rule 13a-14(a) / 15d-14(a) Certification of the Chief Financial Officer  32.1 Section  1350  Certification  of  the  Chief Executive and Chief Financial      Officer  - --------------------------------------------------------------------------------                                    Page 70   SIGNATURES  Pursuant  to  the  requirements  of Section 13 of the Securities Exchange Act of 1934,  the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.                                              Pathfinder Bancorp, Inc.   Date:  March 30, 2006                    By: /s/ Thomas W. Schneider                                                  Thomas W. Schneider                                          President and Chief Executive Officer  Pursuant  to the requirement 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/ Janette Resnick                                              Janette Resnick, Chairman of the Board                                          Date:  March 30, 2006       By:    /s/ Thomas W. Schneider           By:/s/ Chris R. Burritt        Thomas W. Schneider, President           Chris R. Burritt, Director        and Chief Executive Officer Date:  March 30, 2006                    Date:  March 30, 2006  By:    /s/ James A. Dowd                 By:/s/ George P. Joyce        James A. Dowd, Vice President,           George P. Joyce, Director        Chief Financial Officer and         Trust Officer Date:  March 30, 2006                    Date:  March 30, 2006  By:    /s/ Bruce E. Manwaring            By:/s/ Corte J. Spencer        Bruce E. Manwaring, Director             Corte J. Spencer, Director Date:  March 30, 2006                    Date:  March 30, 2006  By:    /s/ L. William Nelson, Jr.        By:/s/ Chris C. Gagas        L. William Nelson, Jr. Director          Chris C. Gagas, Director Date:  March 30, 2006                    Date:  March 30, 2006  By:    /s/ Steven W. Thomas              By:/s/ Lloyd Stemple        Steven W. Thomas, Director               Lloyd Stemple, Director Date:  March 30, 2006                    Date:  March 30, 2006   - --------------------------------------------------------------------------------                                    Page 71    EX-21 2 exhibit-21.txt SUBSIDIARIES OF THE COMPANY  EXHIBIT  21:  SUBSIDIARIES  OF  THE  COMPANY  Company                    Percent  Owned - ----------------------------------------- Pathfinder  Bank  (1)               100% Pathfinder  Statutory  Trust        100%  (1)  Pathfinder  Commercial  Bank,  Pathfinder  REIT,  Inc.  and Whispering Oaks      Development Corporation, 100% owned by Pathfinder Bank    EX-23 3 exhibit-23.txt CONSENT OF BEARD MILLER COMPANY LLP                CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM  Pathfinder  Bancorp,  Inc. Oswego,  New  York  We  hereby  consent  to  the  incorporation  by  reference  in  the Registration Statement  on  Form S-8 (No. 33-53027) of Pathfinder Bancorp, Inc. of our report dated  February 3, 2006, relating to the consolidated financial statements which appear  in  this  Annual  Report  on  Form  10-K.                                                   /s/  BEARD  MILLER  COMPANY  LLP   Beard  Miller  Company  LLP Harrisburg,  Pennsylvania March  24,  2006    EX-31.1 4 exhibit31-1.txt CERTIFICATIONS  EXHIBIT  31.1:  RULE  13A-14(A) / 15D-14(A) CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER   Certification  of  Chief  Executive  Officer  Pursuant  to  Section  302  of  the  Sarbanes-Oxley  Act  of  2002  I,  Thomas  W.  Schneider,  President and Chief Executive Officer, certify that:  1. I have reviewed this annual report on Form 10-K of Pathfinder Bancorp, Inc.;  2.   Based  on  my  knowledge,  this  report  does  not  contain  any  untrue      statement  of a material fact or omit to state a material fact necessary to      make  the  statements  made, in light of the circumstances under which such      statements  were made, not misleading with respect to the period covered by      this report;  3.   Based  on  my  knowledge,  the  financial  statements,  and other financial      information  included  in  this  report,  fairly  present  in  all material      respects  the  financial condition, results of operations and cash flows of      the registrant as of, and for, the periods presented in this report;  4.   The  registrant's  other  certifying  officers  and  I  are responsible for      establishing and maintaining disclosure controls and procedures (as defined      in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:       (a)  Designed  such  disclosure  controls  and  procedures,  or caused such           disclosure  controls  and  procedures  to  be  designed  under  our           supervision,  to  ensure  that  material  information  relating to the           registrant,  including its consolidated subsidiaries, is made known to           us  by others within those entities, particularly during the period in           which this report is being prepared;       (b)  Evaluated  the  effectiveness  of  the  registrant's  disclosure           controls  and  procedures and presented in this report our conclusions           about  the effectiveness of the disclosure controls and procedures, as           of  the  end  of  the  period  covered  by  this  report based on such           evaluation; and       (c)  Disclosed  in  this  report  any  change  in the registrant's internal           control over financial reporting that occurred during the registrant's           most  recent fiscal quarter (the registrant's fourth fiscal quarter in           the  case  of  an  annual  report) that has materially affected, or is           reasonably  likely  to  materially  affect,  the registrant's internal           control over financial reporting; and  5.   The  registrant's  other  certifying  officer  and  I have disclosed, based      on our most recent evaluation of internal control over financial reporting,      to  the  registrant's  auditors and the audit committee of the registrant's      board of directors:       (a)  All  significant  deficiencies  and  material  weaknesses  in  the           design or operation of internal control over financial reporting which           are  reasonably likely to adversely affect the registrant's ability to           record, process, summarize and report financial information; and       (b)  Any  fraud,  whether  or  not  material,  that  involves management or           other  employees  who  have  a  significant  role  in the registrant's           internal control over financial reporting.   March 30, 2006                   /s/  Thomas  W.  Schneider                                  Thomas  W.  Schneider                                  President  and  Chief  Executive  Officer      EX-31.2 5 exhibit31-2.txt CERTIFICATIONS  EXHIBIT  31.2RULE  13A-14(A)  /  15D-14(A)  CERTIFICATION OF THE CHIEF FINANCIAL OFFICER  Certification  of  Chief  Financial  Officer  Pursuant  to  Section  302  of  the  Sarbanes-Oxley  Act  of  2002  I,  James  A.  Dowd,  Vice  President and Chief Financial Officer, certify that:  1.  I have reviewed this annual report on Form 10-K of Pathfinder Bancorp,Inc.;  2.   Based  on  my  knowledge,  this  report  does  not  contain  any  untrue      statement  of a material fact or omit to state a material fact necessary to      make  the  statements  made, in light of the circumstances under which such      statements  were made, not misleading with respect to the period covered by      this report;  3.   Based  on  my  knowledge,  the  financial  statements,  and other financial      information  included  in  this  report,  fairly  present  in  all material      respects  the  financial condition, results of operations and cash flows of      the registrant as of, and for, the periods presented in this report;  4.   The  registrant's  other  certifying  officers  and  I  are responsible for      establishing and maintaining disclosure controls and procedures (as defined      in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:       (a)  Designed  such  disclosure  controls  and  procedures,  or caused such           disclosure  controls  and  procedures  to  be  designed  under  our           supervision,  to  ensure  that  material  information  relating to the           registrant,  including its consolidated subsidiaries, is made known to           us  by others within those entities, particularly during the period in           which this report is being prepared;       (b)  Evaluated  the  effectiveness  of  the  registrant's  disclosure           controls  and  procedures and presented in this report our conclusions           about  the effectiveness of the disclosure controls and procedures, as           of  the  end  of  the  period  covered  by  this  report based on such           evaluation; and       (c)  Disclosed  in  this  report  any  change  in the registrant's internal           control over financial reporting that occurred during the registrant's           most  recent fiscal quarter (the registrant's fourth fiscal quarter in           the  case  of  an  annual  report) that has materially affected, or is           reasonably  likely  to  materially  affect,  the registrant's internal           control over financial reporting; and  5.   The  registrant's  other  certifying  officer  and  I have disclosed, based      on our most recent evaluation of internal control over financial reporting,      to  the  registrant's  auditors and the audit committee of the registrant's      board of directors:       (a)  All  significant  deficiencies  and  material  weaknesses  in  the           design or operation of internal control over financial reporting which           are  reasonably likely to adversely affect the registrant's ability to           record, process, summarize and report financial information; and       (b)  Any  fraud,  whether  or  not  material,  that  involves management or           other  employees  who  have  a  significant  role  in the registrant's           internal control over financial reporting.  March 30, 2006                /s/  James  A.  Dowd                               James  A.  Dowd                               Vice  President  and  Chief  Financial  Officer      EX-32.1 6 exhibit32-1.txt CERTIFICATIONS   EXHIBIT  32.1  SECTION  1350  CERTIFICATION  OF  THE  CHIEF  EXECUTIVE AND CHIEF FINANCIAL  OFFICER  Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906  of  the  Sarbanes-Oxley  Act  of  2002  Thomas  W.  Schneider, President and Chief Executive Officer, and James A. Dowd, Vice  President  and  Chief  Financial  Officer of Pathfinder Bancorp, Inc. (the "Company"),  each  certify  in his capacity as an officer of the Company that he has  reviewed  the  Annual Report of the Company on Form 10-K for the year ended December  31,  2005  and  that  to  the  best  of  his  knowledge:  1.   the  report  fully  complies  with  the  requirements  of Sections 13(a) of      the Securities Exchange Act of 1934; and  2.   the  information  contained  in  the  report  fairly  presents,  in  all      material respects, the financial condition and results of operations of the      Company.  The  purpose  of  this  statement is solely to comply with Title 18, Chapter 63, Section  1350  of  the  United  States  Code,  as  amended by Section 906 of the Sarbanes-Oxley  Act  of  2002.  March 30, 2006          /s/  Thomas  W.  Schneider                         Thomas  W.  Schneider                         President  and  Chief  Executive  Officer  March  30,  2006        /s/  James  A.  Dowd                         James  A.  Dowd                         Vice  President  and  Chief  Financial  Officer        -----END PRIVACY-ENHANCED MESSAGE-----