UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

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

Commission File Number 000-50667

INTERMOUNTAIN COMMUNITY BANCORP

(Exact name of registrant as specified in its charter)

Idaho (State or other jurisdiction of incorporation or organization)		82-0499463 (I.R.S. Employer Identification No.)

414 Church Street, Sandpoint, Idaho 83864
(Address of principal executive offices) (Zip Code)

(208) 263-0505
(Registrant’s telephone number, including area code)

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

     Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). o Yes o No

     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No þ

     Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date:

Class		Outstanding as of November 10, 2009
Common Stock (no par value)		8,365,726

 

 

Intermountain Community Bancorp

FORM 10-Q
For the Quarter Ended September 30, 2009

TABLE OF CONTENTS

PART I — Financial Information			3
Item 1 — Financial Statements (Unaudited)			3
Consolidated Balance Sheets for September 30, 2009 and December 31, 2008			3
Consolidated Statements of Operations for the three and nine months ended September 30, 2009 and 2008			4
Consolidated Statements of Cash Flows for the three and nine months ended September 30, 2009 and 2008			5
Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2009 and 2008			7
Notes to Consolidated Financial Statements			8
Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations			22
Item 3 — Quantitative and Qualitative Disclosures About Market Risk			43
Item 4 — Controls and Procedures			43
PART II — Other Information			44
Item 1 — Legal Proceedings			44
Item 1A — Risk Factors			44
Item 2 — Unregistered Sales of Equity Securities and Use of Proceeds			49
Item 3 — Defaults Upon Senior Securities			49
Item 4 — Submission of Matters to a Vote of Security Holders			49
Item 5 — Other Information			49
Item 6 — Exhibits			50
Signatures			51
EX-10.1
EX-10.2
EX-31.1
EX-31.2
EX-32

PART I — Financial Information

Item 1 — Financial Statements
Intermountain Community Bancorp

Consolidated Balance Sheets
(Unaudited)

		September 30,				December 31,
		2009				2008
		(Dollars in thousands)
ASSETS
Cash and cash equivalents:
Interest-bearing		$	32,974			$	1,354
Non-interest bearing and vault			10,562				21,553
Restricted cash			6,983				468
Federal funds sold			—				71,450
Available-for-sale securities, at fair value			180,808				147,618
Held-to-maturity securities, at amortized cost			15,189				17,604
Federal Home Loan Bank (“FHLB”) of Seattle stock, at cost			2,310				2,310
Loans held for sale			4,048				933
Loans receivable, net			699,047				752,615
Accrued interest receivable			6,780				6,449
Office properties and equipment, net			42,749				44,296
Bank-owned life insurance			8,308				8,037
Goodwill			11,662				11,662
Other intangibles			472				576
Other real estate owned (“OREO”)			14,395				4,541
Prepaid expenses and other assets			22,038				14,089
Total assets		$	1,058,325			$	1,105,555
LIABILITIES
Deposits		$	838,665			$	790,412
Securities sold subject to repurchase agreements			70,493				109,006
Advances from Federal Home Loan Bank			24,000				46,000
Cashier checks issued and payable			899				922
Accrued interest payable			1,299				2,275
Other borrowings			16,527				40,613
Accrued expenses and other liabilities			8,840				5,842
Total liabilities			960,723				995,070
Commitments and contingent liabilities
STOCKHOLDERS’ EQUITY
Common stock 29,040,000 shares authorized; 8,439,456 and 8,429,576 shares issued and 8,365,726 and 8,333,009 shares outstanding as of September 30, 2009 and December 31, 2008			78,481				78,261
Preferred stock 1,000,000 shares authorized; 27,000 shares issued and outstanding as of September 30, 2009 and December 31, 2008			25,381				25,149
Accumulated other comprehensive loss, net of tax			(4,663	)			(5,935	)
Retained earnings (deficit)			(1,597	)			13,010
Total stockholders’ equity			97,602				110,485
Total liabilities and stockholders’ equity		$	1,058,325			$	1,105,555

The accompanying notes are an integral part of the consolidated financial statements.

Intermountain Community Bancorp
Consolidated Statements of Operations
(Unaudited)

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
		(Dollars in thousands, except per								(Dollars in thousands, except per
		share data)								share data)
Interest income:
Loans		$	11,051			$	14,098			$	34,403			$	43,058
Investments			2,552				1,991				8,030				6,073
Total interest income			13,603				16,089				42,433				49,131
Interest expense:
Deposits			3,022				3,627				9,609				10,932
Other borrowings			920				1,352				3,049				4,588
Total interest expense			3,942				4,979				12,658				15,520
Net interest income			9,661				11,110				29,775				33,611
Provision for losses on loans			(3,756	)			(2,474	)			(25,210	)			(4,872	)
Net interest income (loss) after provision for losses on loans			5,905				8,636				4,565				28,739
Other income:
Fees and service charges			1,941				1,973				5,497				5,812
Loan related fee income			624				765				1,828				2,064
Other-than-temporary impairment (“OTTI”) losses on investments (1)			(198	)			—				(442	)			—
Bank-owned life insurance			91				83				271				238
Net gain on sale of securities			500				—				1,795				2,182
Other			149				193				376				728
Total other income			3,107				3,014				9,325				11,024
Operating expenses			12,956				11,422				36,395				33,316
Income (loss) before income taxes			(3,944	)			228				(22,505	)			6,447
Income tax (provision) benefit			1,702				(2	)			9,143				(2,298	)
Net income (loss)			(2,242	)			226				(13,362	)			4,149
Preferred stock dividend			416				—				1,245				—
Net income (loss) applicable to common stockholders		$	(2,658	)		$	226			$	(14,607	)		$	4,149
Earnings (loss) per share — basic		$	(0.32	)		$	0.03			$	(1.75	)		$	0.50
Earnings (loss) per share — diluted		$	(0.32	)		$	0.03			$	(1.75	)		$	0.49
Weighted average common shares outstanding — basic			8,365,836				8,305,236				8,358,908				8,287,541
Weighted average common shares outstanding — diluted			8,365,836				8,461,591				8,358,908				8,531,037

The accompanying notes are an integral part of the consolidated financial statements.

Intermountain Community Bancorp
Consolidated Statements of Cash Flows
(Unaudited)

		Nine months ended
		September 30,
		2009				2008
		(Dollars in thousands)
Cash flows from operating activities:
Net income (loss)		$	(13,362	)		$	4,149
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation			2,587				2,615
Stock-based compensation expense			272				(244	)
Net amortization of premiums (discounts) on securities			507				(143	)
Provisions for losses on loans			25,210				4,872
Proceeds from sale of loans			70,320				28,972
Originations of loans held for sale			(72,567	)			(26,271	)
Amortization of core deposit intangibles			104				111
(Gain) on sale of loans, investments, property and equipment			(2,584	)			(2,681	)
(Gain) loss on sale of other real estate owned			254				5
OTTI credit loss on available-for-sale investments			442				—
Charge down on OREO			2,312				—
Accretion of deferred gain on sale of branch property			(11	)			(9	)
Net accretion of loan and deposit discounts and premiums			(53	)			(17	)
Increase in cash surrender value of bank-owned life insurance			(271	)			(238	)
Change in:
Accrued interest receivable			(331	)			1,431
Prepaid expenses and other assets			(8,724	)			(4,130	)
Accrued interest payable			(976	)			(970	)
Accrued expenses and other liabilities			3,106				(2,222	)
Net cash provided by operating activities			6,235				5,230
Cash flows from investing activities:
Purchases of available-for-sale securities			(118,947	)			(47,374	)
Purchases of FHLB Stock			—				(705	)
Proceeds from redemption of FHLB Stock			—				175
Proceeds from calls or maturities of available-for-sale securities			59,623				59,022
Principal payments on mortgage-backed securities			28,741				10,272
Purchases of held-to-maturity securities			(65	)			(6,127	)
Proceeds from calls or maturities of held-to-maturity securities			2,420				1,305
Loans made to customers less (greater) than principal collected on loans			13,409				(12,696	)
Purchase of office properties and equipment			(1,123	)			(5,554	)
Proceeds from sale of office properties and equipment			—				8
Net change in federal funds sold			71,450				(13,750	)
Proceeds from sale of other real estate owned			2,583				471
Net change in certificates of deposit with other institutions			—				(192	)
Net change in restricted cash			(6,515	)			1,781
Net cash (used in) investing activities			51,576				(13,364	)

		Nine months ended
		September 30,
		2009				2008
		(Dollars in thousands)
Cash flows from financing activities:
Net change in demand, money market and savings deposits		$	19,683			$	(3,484	)
Net change in certificates of deposit			28,570				16,008
Net change in repurchase agreements			(38,513	)			(36,913	)
Principal reduction of note payable			(23,941	)			(31	)
Payoff of credit line			(23,145	)			—
Proceeds from exercise of stock options			56				102
Retirement of treasury stock			(7	)			(193	)
Repayments of FHLB borrowings			(36,000	)			(5,000	)
Proceeds from FHLB borrowings			14,000				30,000
Proceeds from other borrowings			23,000				3,657
Cash dividends paid to preferred stockholders			(885	)			—
Net cash provided by (used in) financing activities			(37,182	)			4,146
Net change in cash and cash equivalents			20,629				(3,988	)
Cash and cash equivalents, beginning of period			22,907				27,000
Cash and cash equivalents, end of period		$	43,536			$	23,012
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest		$	12,497			$	15,974
Income taxes			—				3,585
Noncash investing and financing activities:
Restricted stock issued			—				647
Accrual of liability for split dollar life insurance			—				389
Loans converted to other real estate owned			15,004				1,743

The accompanying notes are an integral part of the consolidated financial statements.

Intermountain Community Bancorp
Consolidated Statements of Comprehensive Income
(Unaudited)

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
		(Dollars in thousands)								(Dollars in thousands)
Net income (loss)		$	(2,242	)		$	226			$	(13,362	)		$	4,149
Other comprehensive income (loss):
Change in unrealized gains on investments, and mortgage backed securities (“MBS”) available for sale, excluding non-credit loss on impairment of securities			2,421				(2,660	)			3,010				(7,221	)
Non-credit loss on impairment on available-for-sale debt			198				—				(1,310	)			—
Less deferred income tax provision (benefit)			(1,037	)			1,053				(672	)			2,859
Change in fair value of qualifying cash flow hedge			(75	)			(315	)			244				(315	)
Net other comprehensive income (loss)			1,507				(1,922	)			1,272				(4,677	)
Comprehensive loss		$	(735	)		$	(1,696	)		$	(12,090	)		$	(528	)

The accompanying notes are an integral part of the consolidated financial statements.

Intermountain Community Bancorp
Notes to Consolidated Financial Statements
(Unaudited)

1.		Basis of Presentation:
		The foregoing unaudited interim consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X as promulgated by the Securities and Exchange Commission. Accordingly, these financial statements do not include all of the disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. These unaudited interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2008. In the opinion of management, the unaudited interim consolidated financial statements furnished herein include adjustments, all of which are of a normal recurring nature, necessary for a fair statement of the results for the interim periods presented.
		The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires the use of estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities known to exist as of the date the financial statements are published, and the reported amounts of revenues and expenses during the reporting period. Uncertainties with respect to such estimates and assumptions are inherent in the preparation of Intermountain Community Bancorp’s (“Intermountain’s” or “the Company’s”) consolidated financial statements; accordingly, it is possible that the actual results could differ from these estimates and assumptions, which could have a material effect on the reported amounts of Intermountain’s consolidated financial position and results of operations.

2.		Investments
		The amortized cost and fair values of investments are as follows (in thousands):

		Available-for-Sale
						Non-Credit
						OTTI
						Recognized				Gross				Gross
		Amortized				in OCI				Unrealized				Unrealized				Fair Value/
		Cost				(Losses)				Gains				Losses				Carrying Value
September 30, 2009
U.S. treasury securities and obligations of U.S. government agencies		$	56			$	—			$	—			$	—			$	56
Residential mortgage-backed securities			187,247				(1,310	)			3,311				(8,496	)			180,752
		$	187,303			$	(1,310	)		$	3,311			$	(8,496	)		$	180,808
December 31, 2008
U.S. treasury securities and obligations of U.S. government agencies		$	7,569			$	—			$	48			$	—			$	7,617
Residential mortgage-backed securities			148,244				—				2,550				(10,793	)			140,001
		$	155,813			$	—			$	2,598			$	(10,793	)		$	147,618

		Held-to-Maturity
						Non-Credit
		Carrying				OTTI
		Value/				Recognized				Gross				Gross
		Amortized				in OCI				Unrealized				Unrealized
		Cost				(Losses)				Gains				Losses				Fair Value
September 30, 2009
State and municipal securities		$	15,189			$	—			$	412			$	—			$	15,601
December 31, 2008
State and municipal securities		$	17,604			$	—			$	70			$	(149	)		$	17,525

The following table summarizes the duration of Intermountain’s unrealized losses on available-for-sale and held-to-maturity securities as of the dates indicated (in thousands).

		Less Than 12 Months								12 Months or Longer								Total
						Unrealized								Unrealized								Unrealized
September 30, 2009		Fair Value				Losses				Fair Value				Losses				Fair Value				Losses
State and municipal securities		$	—			$	—			$	—			$	—			$	—			$	—
Residential mortgage-backed securities			1,898				163				57,864				8,333				59,762				8,496
Total		$	1,898			$	163			$	57,864			$	8,333			$	59,762			$	8,496

		Less Than 12 Months								12 Months or Longer								Total
						Unrealized								Unrealized								Unrealized
December 31, 2008		Fair Value				Losses				Fair Value				Losses				Fair Value				Losses
State and municipal securities		$	5,453			$	147			$	762			$	2			$	6,215			$	149
Residential mortgage-backed securities			45,366				5,708				15,034				5,085				60,400				10,793
Total		$	50,819			$	5,855			$	15,796			$	5,087			$	66,615			$	10,942

     At September 30, 2009, the amortized cost and fair value of available-for-sale and held-to-maturity debt securities, by contractual maturity, are as follows (in thousands):

		Available-for-Sale								Held-to-Maturity
		Amortized				Fair				Amortized				Fair
		Cost				Value				Cost				Value
One year or less		$	—			$	—			$	636			$	647
After one year through five years			56				56				458				477
After five years through ten years			—				—				2,651				2,839
After ten years			—				—				11,444				11,638
			56				56				15,189				15,601
Mortgage-backed securities			187,247				180,752				—				—
		$	187,303			$	180,808			$	15,189			$	15,601

		Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.
		Intermountain’s investment portfolios are managed to provide and maintain liquidity; to maintain a balance of high quality, diversified investments to minimize risk; to offset other asset portfolio elements in managing interest rate risk; to provide collateral for pledging; and to maximize returns. At September 30, 2009, the Company does not intend to sell any of its available-for-sale securities that have a loss position and it is not likely that it will be required to sell the available-for-sale securities before the anticipated recovery of their remaining amortized cost. The unrealized losses on residential mortgage-backed securities without other-than-temporary impairment were considered by management to be temporary in nature.
		At March 31, 2009, residential mortgage-backed securities included a security comprised of a pool of mortgages with a remaining unpaid balance of $4.2 million. Due to the lack of an orderly market for the security and the declining national economic and housing market, its fair value was determined to be $2.5 million at March 31, 2009 based on analytical modeling taking into consideration a range of factors normally found in an orderly market. Of the $1.7 million other-than-temporary impairment on this security, based on an analysis of projected cash flows, $244,000 was charged to earnings as a credit loss and $1.5 million was recognized in other comprehensive income. Impairment loss on securities charged to earnings in the three months ended March 31, 2009 was $244,000. The Company recorded additional $198,000 credit loss impairment in the third quarter of 2009. However, the overall estimated market value on the security improved during this time, reducing the non-credit value impairment to $1.3 million. At this time, the Company anticipates holding the security until its value is recovered or until maturity, and will continue to adjust its other comprehensive income and capital position to reflect the security’s current market value. The Company calculated the credit loss charge against earnings by subtracting the estimated present value of future cash flows on the security from its amortized cost.
		See Note 9 “Fair Value of Measurements” for more information on the calculation of fair or carrying value for the investment securities.

3.		Advances from the Federal Home Loan Bank of Seattle:
		During September 2007, the Bank obtained two advances from the FHLB Seattle in the amounts of $10.0 million and $14.0 million with interest only payable at 4.96% and 4.90% and maturities in September 2010 and September 2009, respectively. The

September 2009 maturity was replaced with three advances in the amount of $5.0 million, $5.0 million and $4.0 million. These advances have interest only payments payable at 0.86%, 1.49% and 3.11% and maturities of September 2010, September 2011 and September 2014, respectively. During May 2008, the Bank obtained an advance from the FHLB Seattle in the amount of $12.0 million with interest only payable at 2.88% and a maturity in August 2009. This advance matured and was not renewed.

Advances from FHLB Seattle are collateralized by certain qualifying loans. At September 30, 2009, Intermountain had the ability to borrow $112.8 million from FHLB Seattle, of which $24.0 million was utilized. The Bank’s credit line with FHLB Seattle is limited to a percentage of its total regulatory assets subject to collateralization requirements. Intermountain would be able to borrow amounts in excess of this total from the FHLB Seattle with the placement of additional available collateral.

4.

Other Borrowings:

The components of other borrowings are as follows (in thousands):

		September 30,				December 31,
		2009				2008
Term note payable (1)		$	8,279			$	8,279
Term note payable (2)			8,248				8,248
Term note payable (3)			—				941
Term note payable (4)			—				23,145
Total other borrowings		$	16,527			$	40,613

A)

Intermountain’s obligations under the above debentures issued by its subsidiaries constitute a full and unconditional guarantee by Intermountain of the Statutory Trusts’ obligations under the Trust Preferred Securities. In accordance with ASC 810, Consolidation, (formerly FIN 46R, “Consolidation of Variable Interest Entities”), the trusts are not consolidated and the debentures and related amounts are treated as debt of Intermountain.

5.		Earnings Per Share:
		The following table presents the basic and diluted earnings per share computations:

		Three months Ended September 30,								Nine months Ended September 30,
		2009				2008				2009				2008
Numerator:
Net income (loss) — basic and diluted		$	(2,242	)		$	226			$	(13,362	)		$	4,149
Preferred stock dividend			416				—				1,245				—
Net Income (loss) applicable to commons stockholders		$	(2,658	)		$	226			$	(14,607	)		$	4,149
Denominator:
Weighted average shares outstanding — basic			8,365,836				8,305,236				8,358,908				8,287,541
Dilutive effect of common stock options, restricted stock awards			—				156,355				—				243,496
Weighted average shares outstanding — diluted			8,365,836				8,461,591				8,358,908				8,531,037
Earnings (loss) per share — basic and diluted:
Earnings (loss) per share — basic		$	(0.32	)		$	0.03			$	(1.75	)		$	0.50
Effect of dilutive common stock options			—				—				—				(0.01	)
Earnings (loss) per share — diluted		$	(0.32	)		$	0.03			$	(1.75	)		$	0.49

The weighted average number of potentially dilutive common shares excluded in calculating diluted net income per common share due to the anti-dilutive effect is 265,710 and 93,145 shares for the three months ended September 30, 2009 and 2008, respectively. The weighted average number of potentially dilutive common shares excluded in calculating diluted net income per common share due to the anti-dilutive effect is 260,879 and 53,332 shares for the nine months ended September 30, 2009 and 2008, respectively. Common stock equivalents were calculated using the treasury stock method.

6.

Operating Expenses:

The following table details Intermountain’s components of total operating expenses in thousands:

		Three months ended								Nine months ended
		September 30,								September 30,
		2009				2008				2009				2008
Salaries and employee benefits		$	5,673			$	6,446			$	17,031			$	18,922
Occupancy expense			1,814				2,005				5,590				5,596
Advertising			366				378				1,010				1,069
Fees and service charges			919				452				2,148				1,421
Printing, postage and supplies			375				396				1,028				1,105
Legal and accounting			549				406				1,322				1,342
Other expense			3,260				1,338				8,266				3,861
Total operating expenses		$	12,956			$	11,421			$	36,395			$	33,316

		Salaries and employee benefits expense decreased $1.9 million or 10.0%, over the nine month period last year as a result of decreased staffing levels and lower incentive compensation expense. Third quarter salaries and employee benefits expense decreased $773,000, or 12.0% compared to the same quarter one year ago as a result of the same factors. Efforts to control compensation expense continue in 2009, as the Company has suspended salary increases for executives and officers, maintained a hiring freeze and reduced other compensation plans.
		Occupancy expenses decreased $6,000, or 0.1%, for the nine month period ended September 30, 2009 compared to the same period one year ago. Occupancy expenses decreased $191,000, or 9.5%, for the three month period ended September 30, 2009 compared to the same period one year ago. The decreases were comprised of a decrease in computer hardware and software expenses as additional cost control measures have been implemented. The Company expects these expenses to continue declining in 2009, as it has postponed building expansion plans and limited new hardware and software purchases.
		The advertising expense decrease of $59,000 for the nine month period and $12,000 for the three month period ended September 30, 2009 compared to the same periods one year ago reflected reductions in general advertising offset by additional donations and community service expenses associated with the Company’s Powered by Community initiative. The $727,000 increase in fees and service charges for the nine month period and $467,000 increase for the three-month period ended September 30, 2009 compared to the same period one year ago primarily reflected increased loan collection and repossession expenses and higher

expenses for the Company’s internet banking services, as usage increased significantly. The Company has recently re-negotiated fee structures and taken other steps to reduce the future impact of its online offerings. Printing, postage and supplies decreased $77,000 for the nine-month period and $21,000 for the third quarter, in comparison to last year’s totals. The decrease reflected efficiencies gained in statement and other printing, and tighter control over supplies expense. Legal and accounting fees decreased by $20,000 in comparison to the same nine month period in 2008 as increasing legal expenses related to loan collection were offset by a reduction in consulting fees. Higher legal fees on loans also produced the $143,000 increase in third quarter 2009 results versus the prior year.

Other expenses increased $4.4 million or 114.1%, for the nine month period over the same period last year. The increase primarily consists of $1.4 million in additional FDIC insurance expense and $2.7 million additional expense related to the Company’s Other Real Estate Owned (“OREO”). The OREO increase is a combination of additional property write-downs to reflect updated valuations and other carrying expenses. Collection and repossession expenses and the provision for unfunded loan commitments also contributed to the increase in other expenses over the same period last year. Other expenses increased $1.9 million, or 143.7%, for the three month period over the same period last year. The increases reflect a $264,000 increase in FDIC insurance expense and an additional $1.5 million in OREO write-downs and expense for the three months ended September 30, 2009, compared to last year. Both the three-month and nine-month totals for 2009 also include $324,000 in non-recurring expenses related to the sale of the Sandpoint Center.

7.    Stock-Based Compensation Plans:

The Company utilized its stock to compensate employees and directors under the 1999 Director Stock Option Plan, the 1999 Employee Plan and the 1988 Employee Plan (together the “Stock Option Plans”). Options to purchase Intermountain common stock had been granted to employees and directors under the Stock Option Plans at prices equal to the fair market value of the underlying stock on the dates the options were granted. The options vest 20% per year, over a five-year period, and expire in 10 years. For the nine months ended September 30, 2009 and 2008, stock option expense totaled $0 and $101,000, respectively. The Company did not have any remaining expense related to the non-vested stock options outstanding at September 30, 2009.

On January 14, 2009, the terms of the Amended and Restated 1999 Employee Stock Option and Restricted Stock Plan and the 1999 Director Stock Option Plan expired. Upon recommendation of management and approval of the Board of Directors, it was determined that, due to the economic uncertainty, the Board would not seek to implement a new plan at this time. The 1988 Employee Stock Option Plan was a predecessor plan to the Amended and Restated 1999 Employee Stock Option and Restricted Stock Plan. Because each of these plans has expired, shares may no longer be awarded under these plans. However, awards remain unexercised or unvested under these plans. The Company did not grant options to purchase Intermountain common stock or restricted stock during the nine months ended September 30, 2009.

In 2003, stockholders approved a change to the 1999 Employee Option Plan to provide for the granting of restricted stock awards. The Company granted restricted stock to directors and employees beginning in 2005. The restricted stock vests 20% per year, over a five-year period. The Company granted 0 and 51,633 restricted shares with a grant date fair value of $0 and $647,000 during the nine months ended September 30, 2009 and 2008, respectively. For the nine months ended September 30, 2009 and 2008, restricted stock expense totaled $272,000 and $247,000, respectively. Total expense related to stock-based compensation is comprised of restricted stock expense for the nine months ended September 30, 2009 and restricted stock expense, stock option expense and expense related to the 2006-2008 Long-Term Incentive Plan (“LTIP”) for the nine months ended September 30, 2008. LTIP expense in 2008 was based on anticipated company performance over a 3-year period and had a 5-year vesting period. During the nine months ended September 30, 2008, the Company reversed $640,000 in accrued incentives related to the LTIP as it appeared that asset growth and ROE targets required by the plan would not be met by the end of the incentive accrual period. During the nine months ended September 30, 2009, the Company did not have a Long-Term Incentive Plan and therefore did not have expense related to this portion of stock-based compensation. Total expense related to stock-based compensation recorded in the nine months ended September 30, 2009 and 2008 was $272,000 and ($245,000), respectively.

A summary of the changes in stock options outstanding for the nine months ended September 30, 2009, is presented below:

		Nine months ended September 30, 2009
		(dollars in thousands, except per share amounts)
						Weighted				Weighted
		Number				Average				Average
		of				Exercise				Remaining
		Shares				Price				Life (Years)
Beginning Options Outstanding, Jan 1, 2009			325,482			$	6.00
Options Granted			—				—
Exercises			(12,721	)			4.41
Forfeitures			(47,048	)			4.42
Ending options outstanding, September 30, 2009			265,713				6.29				2.8
Exercisable at September 30, 2009			262,263			$	6.20				2.8

The total intrinsic value of options exercised during the nine months ended September 30, 2009 and 2008 was $7,000 and $104,000, respectively. A summary of the Company’s nonvested restricted shares for the nine months ended September 30, 2009, is presented below:

						Weighted-
						Average
						Grant-Date
Nonvested Shares		Shares				Fair Value
Balance at January 1, 2009			96,567			$	16.06
Granted			—				—
Vested			(21,913	)			17.06
Forfeited			(1,621	)			17.95
Balance at September 30, 2009			73,033			$	15.72

As of September 30, 2009, there was $927,000 of unrecognized compensation cost related to nonvested share-based compensation arrangements granted under this plan. This cost is expected to be recognized over a weighted-average period of 2.8 years.

8.       Derivative Financial Instruments

Management uses derivative financial instruments to protect against the risk of interest rate movements on the value of certain assets and liabilities and on future cash flows. The instruments that have been used by the Company include interest rate swaps and cash flow hedges with indices that relate to the pricing of specific assets and liabilities.

Derivative instruments have inherent risks, primarily market risk and credit risk. Market risk is associated with changes in interest rates and credit risk relates to the risk that the counterparty will fail to perform according to the terms of the agreement. The amounts potentially subject to market and credit risks are the streams of interest payments under the contracts and the market value of the derivative instrument which is determined based on the interaction of the notional amount of the contract with the underlying instrument, and not the notional principal amounts used to express the volume of the transactions. Management monitors the market risk and credit risk associated with derivative financial instruments as part of its overall Asset/Liability management process.

In accordance with ASC 815, Derivatives and Hedging (formerly SFAS 133), the Company recognizes all derivative financial instruments in the consolidated financial statements at fair value regardless of the purpose or intent for holding the instrument. Derivative financial instruments are included in other assets or other liabilities, as appropriate, on the Consolidated Balance Sheet. Changes in the fair value of derivative financial instruments are either recognized periodically in income or in stockholders’ equity as a component of other comprehensive income depending on whether the derivative financial instrument qualifies for hedge accounting, and if so, whether it qualifies as a fair value hedge or cash flow hedge. Generally, changes in fair values of derivatives accounted for as fair value hedges are recorded in income in the same period and in the same income statement line as changes in the fair values of the hedged items that relate to the hedged risk(s). Changes in fair values of derivative financial instruments accounted for as cash flow hedges, to the extent they are effective hedges, are recorded as a component of other comprehensive income, net of deferred taxes. Changes in fair values of derivative financial instruments not qualifying as hedges pursuant to ASC 815 are reported in non-interest income. Derivative contracts are valued by the counter party and are periodically validated by management.

Interest Rate Swaps — Designated as Cash Flow Hedges

The tables below identify the Company’s interest rate swaps at September 30, 2009 and December 31, 2008, which were entered into to hedge certain LIBOR-based trust preferred debentures and designated as cash flow hedges pursuant to ASC 815 (dollars in thousands):

September 30, 2009

Fair Value Gain

Receive Rate

Pay Rate

Type of Hedging

Maturity Date

Notional Amount

(Loss)

(LIBOR)

(Fixed)

Relationship

Pay Fixed, Receive Variable:

October 2013

$

8,248

$

(741

)

0.51

%

4.58

%

Cash Flow

December 31, 2008

Fair Value Gain

Receive Rate

Pay Rate

Type of Hedging

Maturity Date

Notional Amount

(Loss)

(LIBOR)

(Fixed)

Relationship

Pay Fixed, Receive Variable:

October 2013

$

8,248

$

(985

)

4.75

%

4.58

%

Cash Flow

The fair values, or unrealized losses, of $741,000 at September 30, 2009 and $985,000 at December 31, 2008 are included in other liabilities. These hedges were considered highly effective during the quarter ended September 30, 2009, and none of the change in fair value of these derivatives was attributed to hedge ineffectiveness. The changes in fair value, net of tax, are separately disclosed in the statement of changes in stockholders’ equity as a component of comprehensive income. Net cash flows from these interest rate swaps are included in interest expense on trust preferred debentures. The unrealized loss at September 30, 2009 is a component of comprehensive income for September 30, 2009. At September 30, 2009, Intermountain had $862,000 in pledged certificates of deposit and $50,000 in restricted cash as collateral for the cash flow hedge. A rollfoward of the amounts in accumulated other comprehensive income related to interest rate swaps designated as cash flow hedges follows:

		Nine Months Ended
		Sept 30,				Sept 30,
		2009				2008
Unrealized gain (loss) at beginning of period		$	(985	)		$	—
Amount of gain (loss) recognized in other comprehensive income			244				—
Unrealized gain (loss) at end of period		$	(741	)		$	—

Interest Rate Swaps — Not Designated as Hedging Instruments Under ASC 815

The Company has purchased certain derivative products to allow the Company to effectively convert a fixed rate loan to a variable rate payment stream. The Company economically hedges derivative transactions by entering into offsetting derivatives executed with third parties upon the origination of a fixed rate loan with a customer. Derivative transactions executed as part of this program are not designated as ASC 815 hedge relationships and are, therefore, marked to market through earnings each period. In most cases the derivatives have mirror-image terms, which result in the positions’ changes in fair value offsetting completely through earnings each period. However, to the extent that the derivatives are not a mirror-image, changes in fair value will not completely offset, resulting in some earnings impact each period. Changes in the fair value of these interest rate swaps are included in other non-interest income. The following table summarizes these interest rate swaps as of September 30, 2009 and December 31, 2008 (dollars in thousands):

		September 30, 2009								December 31, 2008
		Notional				Fair Value Gain				Notional				Fair Value Gain
		Amount				(Loss)				Amount				(Loss)
Interest rate swaps with third party financial institutions		$	2,559			$	8			$	—			$	—

Because these are fair value hedges, at September 30, 2009, the loss in fair value included in loans receivable totaled $8,000, which was offset by the fair value hedge gain. At December 31, 2008, other assets included $0 of derivative assets and other liabilities included $0 of derivative liabilities related to these interest rate swap transactions, because they were executed in 2009. At September 30, 2009, the interest rate swaps had a maturity date of March 2019. At September 30, 2009, Intermountain had $72,000 in restricted cash for the interest rate swap.

9.      Fair Value Measurements

Fair value is defined under ASC 820-10 (formerly SFAS 157) as the price that would be received for an asset or paid to transfer a liability (an exit price) in the principal market for the asset or liability in an orderly transaction between market participants on the measurement date. In support of this principle ASC 820-10 establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. The fair value hierarchy is as follows:

     Level 1 inputs — Unadjusted quoted process in active markets for identical assets or liabilities that the entity has the ability to access at the measurement date.

     Level 2 inputs — Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets and liabilities in active markets, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.

     Level 3 inputs — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair values requires significant management judgment or estimation.

The following table presents information about the Company’s assets measured at fair value on a recurring basis as of September 30, 2009, and indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value (dollars in thousands).

						Fair Value Measurements
						At September 30, 2009, Using
						Quoted Prices
						In Active				Other				Significant
						Markets for				Observable				Unobservable
		Fair Value				Identical Assets				Inputs				Inputs
Description		Sept 30, 2009				(Level 1)				(Level 2)				(Level 3)
Available-for-Sale Securities:
U.S. treasury securities and obligations of U.S. government agencies		$	56			$	—			$	56			$	—
Residential mortgage backed securities (“MBS”)			180,752				—				147,032				33,720
Other Assets — Derivative			8				—				—				8
Total Assets Measured at Fair Value		$	180,816			$	—			$	147,088			$	33,728
Other Liabilities — Derivatives		$	749			$	—			$	—			$	749

		Fair Value Measurements
		At December 31, 2008, Using
						Quoted Prices
						In Active				Other				Significant
						Markets for				Observable				Unobservable
		Fair Value				Identical Assets				Inputs				Inputs
Description		Dec 31, 2009				(Level 1)				(Level 2)				(Level 3)
Available-for-Sale Securities		$	147,618			$	—			$	108,954			$	38,664
Other Assets — Derivative			—				—				—				—
Total Assets Measured at Fair Value		$	147,618			$	—			$	108,954			$	38,664
Other Liabilities — Derivatives		$	985			$	—			$	—			$	985

The changes in Level 3 assets and liabilities measured at fair value on a recurring basis as of September 30, 2009 are summarized as follows (in thousands):

Fair Value Measurement Transfers- Assets

		Fair Value Measurements Using Significant
		Unobservable Inputs ( Level 3)
Description		Residential MBS				Derivatives				Total
January 1, 2009 Balance		$	38,664			$	—			$	38,664
Total gains or losses (realized/unrealized)
Included in earnings			(442	)			8				(434	)
Included in other comprehensive income			3,757				—				3,757
Principal Payments			(8,259	)			—				(8,259	)
Transfers in and /or out of Level 3			—				—				—
September 30, 2009 Balance		$	33,720			$	8			$	33,728

Fair Value Measurement Transfers- Liabilities

		Fair Value Measurements
		Using Significant Unobservable
		Inputs ( Level 3)
Description		Derivatives
January 1, 2009 Balance		$	985
Total gains or losses (realized/unrealized)
Included in earnings			8
Included in other comprehensive income			(244	)
September 30, 2009 Balance		$	749

     The table below presents a portion of the Company’s loans measured at fair value on a nonrecurring basis as of September 30, 2009, because they are impaired collateral-dependent loans and the Company’s other real estate owned (“OREO”), aggregated by the level in the fair value hierarchy within which those measurements fall (dollars in thousands).

		Fair Value Measurements
		At September 30, 2009, Using
						Quoted Prices
						In Active				Other				Significant
						Markets for				Observable				Unobservable
		Fair Value				Identical Assets				Inputs				Inputs
Description		Sept 30, 2009				(Level 1)				(Level 2)				(Level 3)
Loans(1)		$	51,602			$	—			$	—			$	51,602
Other real estate owned			14,395				—				—				14,395
Total Assets Measured at Fair Value		$	65,997			$	—			$	—			$	65,997

     Collateral dependent loans that are deemed to be impaired are valued based upon the net realizable value, fair value less estimated selling costs, of the underlying collateral, as is the Company’s OREO. While appraisals or other independent estimates of value do exist for this collateral, the uncertain and volatile market conditions require potential adjustments in value. As such, these loans and OREO are categorized as level 3.

     The following is a further description of the principal valuation methods used by the Company to estimate the fair values of its financial instruments.

Securities

     The fair values of securities, other than those categorized as level 3 described above, are based principally on market prices and dealer quotes. Certain fair values are estimated using pricing models or are based on comparisons to market prices of similar securities. The fair value of stock in the FHLB equals its carrying amount since such stock is only redeemable at its par value.

     Available for Sale Securities. Securities totaling $147.1 million classified as available for sale are reported at fair value utilizing Level 2 inputs. For these securities, the Company obtained fair value measurements from an independent pricing service and internally validated these measurements. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus, prepayment speeds, credit information and the bond’s terms and conditions, among other things.

     The available for sale portfolio also includes $33.7 million in super senior or senior tranche collateralized mortgage obligations not backed by a government or other agency guarantee. These securities are collateralized by fixed rate prime or Alt A mortgages, are structured to provide credit support to the senior tranches, and are carefully analyzed and monitored by management. Because of disruptions in the current market for mortgage-backed securities and collateralized mortgage obligations, an active market did not exist for these securities at September 30, 2009. This is evidenced by a significant widening in the bid-ask spread for these types of securities and the limited volume of actual trades made. As a result, less reliance can be placed on easily observable market data, such

as pricing on transactions involving similar types of securities, in determining their current fair value. As such, significant adjustments were required to determine the fair value at the September 30, 2009 measurement date. These securities are valued using Level 3 inputs.

     In valuing these securities, the Company utilized the same independent pricing service as for its other available-for-sale securities and internally validated these measurements. In addition, it utilized a second pricing service that specializes in whole-loan collateralized mortgage obligation valuation and another market source to derive independent valuations and used this data to evaluate and adjust the original values derived. In addition to the observable market-based input including dealer quotes, market spreads, live trading levels and execution data, both services also employed a present-value income model that considered the nature and timing of the cash flows and the relative risk of receiving the anticipated cash flows as agreed. The discount rates used were based on a risk-free rate, adjusted by a risk premium for each security. In accordance with the requirements of ASC 820-10, the Company has determined that the risk-adjusted discount rates utilized appropriately reflect the Company’s best estimate of the assumptions that market participants would use in pricing the assets in a current transaction to sell the asset at the measurement date. Risks include nonperformance risk (that is, default risk and collateral value risk) and liquidity risk (that is, the compensation that a market participant receives for buying an asset that is difficult to sell under current market conditions). To the extent possible, the pricing services and the Company validated the results from these models with independently observable data.

     In evaluating securities in the investment portfolio for “Other-than-temporary Impairment,” the Company evaluated the following factors:

•

The length of time and the extent to which the market value of the securities has been lower than their cost;

•

The financial condition and near-term prospects of the issuer or obligation, including any specific events, which may influence the operations of the issuer or obligation such as credit defaults and losses in mortgages underlying the security, changes in technology that impair the earnings potential of the investment or the discontinuation of a segment of the business that may affect the future earnings potential; and

•

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 market value.

     Based on the factors above, the Company has determined that one security comprised of a pool of mortgages was subject to “Other-than-Temporary Impairment,” (“OTTI”) as of March 31, 2009. During that quarter, the Company recorded an OTTI of $1,751,000 on this security. Of the total $1,751,000 OTTI, $244,000 was related to credit losses and was a charge against earnings. The remaining $1,507,000 reflected non-credit value impairment and was charged against the Company’s other comprehensive income and reported capital on the balance sheet. The Company conducted a similar analysis on the estimated cash flows in June, 2009 and as a result of this analysis, did not record additional OTTI adjustments in the second quarter of 2009. Due to the continued lack of an orderly market for the security and the declining national economic and housing market, the Company conducted a similar analysis on the estimated cash flows in September, 2009 and as a result of this analysis, recorded an additional credit loss impairment of $198,000 against earnings in the third quarter of 2009. At this time, the Company anticipates holding the security until its value is recovered or maturity, and will continue to adjust its other comprehensive income and capital position to reflect the security’s current market value. The Company calculates the credit loss charge against earnings by subtracting the estimated present value of estimated future cash flows on the security from its amortized cost.

     Loans. Loans are generally not recorded at fair value on a recurring basis. Periodically, the Company records nonrecurring adjustments to the carrying value of loans based on fair value measurements for partial charge-offs of the uncollectible portions of those loans. Nonrecurring adjustments also include certain impairment amounts for collateral-dependent loans when establishing the allowance for credit losses. Such amounts are generally based on the fair value of the underlying collateral supporting the loan less selling costs. Real estate collateral on these loans and the Company’s other real estate owned (“OREO”) is typically valued using appraisals or other indications of value based on recent comparable sales of similar properties or assumptions generally observable in the marketplace. Management reviews these valuations and makes additional valuation adjustments, as necessary, including subtracting estimated costs of liquidating the collateral or selling the OREO. The related nonrecurring fair value measurement adjustments have generally been classified as Level 3 because of the volatility and the uncertainty in the current markets. Estimates of fair value used for other collateral supporting commercial loans generally are based on assumptions not observable in the marketplace and therefore such valuations have been classified as Level 3. Loans subject to nonrecurring fair value measurement were $51.6 million at September 30, 2009, of which $51.6 million were classified as Level 3.

     Other Real Estate Owned. At the applicable foreclosure date, other real estate owned is recorded at fair value of the real estate, less the costs to sell the real estate. Subsequently, other real estate owned, is carried at the lower of cost or net realizable value (fair value less estimated selling costs), and is periodically assessed for impairment based on fair value at the reporting date. Fair value is determined from external appraisals using judgments and estimates of external professionals. Many of these inputs are not observable and, accordingly, these measurements are classified as Level 3. The Company’s OREO at September 30, 2009 totaled $14.4 million, all of which was classified as Level 3.

     Interest Rate Swaps. During the third quarter of 2008, the Company entered into an interest rate swap contract with Pacific Coast Bankers Bank. The purpose of the $8.2 million notional value swap is to convert the variable rate payments made on the Trust Preferred I obligation (see Note 4 — Other Borrowings) to a series of fixed rate payments for five years, as a hedging strategy to help manage the Company’s interest-rate risk. This contract is carried as an asset or liability at fair value, and as of September 30, 2009, it was a liability with a fair value of $749,000.

     During the first quarter of 2009, the Company entered into an interest rate swap contract with Pacific Coast Bankers Bank. The purpose of the $1.6 million notional value swap is to convert the fixed rate payments earned on a loan receivable to a series of variable rate payments for ten years, as a hedging strategy to help manage the Company’s interest-rate risk. This contract is carried as an asset or liability at fair value, and as of September 30, 2009, it was an asset with a fair value of $14,000. During the second quarter of 2009, the Company entered into an interest rate swap contract with Pacific Coast Bankers Bank. The purpose of the $1.0 million notional value swap is to convert the fixed rate payments earned on a loan receivable to a series of variable rate payments for ten years, as a hedging strategy to help manage the Company’s interest-rate risk. This contract is carried as an asset or liability at fair value, and as of September 30, 2009, it was a liability with a fair value of $6,000.

     Intermountain is required to disclose the estimated fair value of financial instruments, both assets and liabilities on and off the balance sheet, for which it is practicable to estimate fair value. These fair value estimates are made at September 30, 2009 based on relevant market information and information about the financial instruments. Fair value estimates are intended to represent the price an asset could be sold at or the price a liability could be settled for. However, given there is no active market or observable market transactions for many of the Company’s financial instruments, the Company has made estimates of many of these fair values which are subjective in nature, involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimated values.

     The estimated fair value of the financial instruments as of September 30, 2009 and December 31, 2008, are as follows (in thousands):

		September 30, 2009								December 31, 2008
		Carrying								Carrying
		Amount				Fair Value				Amount				Fair Value
Financial assets:
Cash, cash equivalents, restricted cash and federal funds sold		$	49,657			$	49,657			$	93,653			$	93,653
Interest bearing certificates of deposit			862				862				1,172				1,172
Available-for-sale securities			180,808				180,808				147,618				147,618
Held-to-maturity securities			15,189				15,601				17,604				17,525
Loans held for sale			4,048				4,048				933				933
Loans receivable, net			699,047				711,815				752,615				754,772
Accrued interest receivable			6,780				6,780				6,449				6,449
BOLI			8,308				8,308				8,037				8,037
Financial liabilities:
Deposit liabilities			838,665				816,691				790,412				777,710
Other borrowed funds			111,020				110,951				195,619				193,747
Accrued interest payable			1,299				1,299				2,275				2,275

     The methods and assumptions used to estimate the fair values of each class of financial instruments are as follows:

Cash, Cash Equivalents, Federal Funds and Certificates of Deposit

     The carrying value of cash, cash equivalents, federal funds sold and certificates of deposit approximates fair value due to the relatively short-term nature of these instruments.

Investments and BOLI

     See the discussion above regarding the fair values of investment securities. The fair value of BOLI is equal to the cash surrender value of the life insurance policies.

Loans Receivable and Loans Held For Sale

     The fair value of performing mortgage loans, commercial real estate, construction, consumer and commercial loans is estimated by discounting the cash flows using interest rates that consider the interest rate risk inherent in the loans and current economic and lending conditions. Non-accrual loans are assumed to be carried at their current fair value and therefore are not adjusted.

Deposits

     The fair values for deposits subject to immediate withdrawal such as interest and non-interest bearing checking, savings and money market deposit accounts are discounted using market rates for replacement dollars and using industry statistics for decay/maturity dates. The carrying amounts for variable-rate certificates of deposit and other time deposits approximate their fair value at the reporting date. Fair values for fixed-rate certificates of deposit are estimated by discounting future cash flows using interest rates currently offered on time deposits with similar remaining maturities.

Borrowings

     The carrying amounts of short-term borrowings under repurchase agreements approximate their fair values due to the relatively short period of time between the origination of the instruments and their expected payment. The fair value of long-term FHLB Seattle advances and other long-term borrowings is estimated using discounted cash flow analyses based on the Company’s current incremental borrowing rates for similar types of borrowing arrangements with similar remaining terms.

Accrued Interest

     The carrying amounts of accrued interest payable and receivable approximate their fair value.

10. Subsequent Events

     Intermountain performed an evaluation of subsequent events through November 13, 2009, the date upon which Intermountain’s quarterly report on Form 10-Q was filed with the Securities and Exchange Commission.

     During the quarter ended September 30, 2009, the Company downstreamed $7.8 million, with an additional $3.2 million downstreamed in October 2009. This is substantially all of the net proceeds from the sale of its Sandpoint Headquarters. The transfer of equity to its Bank subsidiary further strengthens the Bank’s capital position and liquidity. Reflecting the Company’s ongoing strategy to prudently manage through the current economic cycle, the decision to maximize equity and liquidity at the Bank level has correspondingly reduced cash available at the parent Company. Consequently, to conserve the liquid assets of the parent Company, the Board of Directors of the Company has approved deferral of regularly scheduled interest payments on its outstanding Junior Subordinated Debentures related to its Trust Preferred Securities (“TRUPS Debentures”), and also deferral of regular quarterly cash dividend payments on its preferred stock held by the U.S. Treasury, beginning in December 2009. The Company is permitted to defer payments of interest on the TRUPS Debentures for up to 20 consecutive quarterly periods without default. During the deferral period, the Company may not pay any dividends or distributions on, or redeem, purchase or acquire, or make a liquidation payment with respect to the Company’s capital stock, or make any payment of principal or interest on, or repay, repurchase or redeem any debt securities of the Company that rank equally or junior to the TRUPS Debentures. Under the terms of the preferred stock, if the Company does not pay dividends for six quarterly dividend periods (whether or not consecutive), Treasury would be entitled to appoint two members to the Company’s board of directors. Deferred payments compound for both the TRUPS Debentures and preferred stock. Although these expenses will be accrued on the consolidated income statements for the Company, deferring these interest and dividend payments will preserve approximately $477,000 per quarter in cash for the Company. Notwithstanding the pending deferral of interest and dividend payments, the Company fully intends to meet all of its obligations to the Treasury and holders of the TRUPS Debentures as quickly as it is prudent to do so.

11. New Accounting Pronouncements:

In December 2007, FASB revised FASB ASC 805, Business Combinations. FASB ASC 805 establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, any noncontrolling interest in the acquired entity and the goodwill acquired. Furthermore, acquisition-related and other costs will now be expensed rather than treated as cost components of the acquisition. FASB ASC 805 also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. The revision to this guidance applies prospectively to business combinations for which the acquisition date occurs on or after January 1, 2009. We do not expect the adoption of revised FASB ASC 805 will have a material impact on our consolidated financial statements as related to business combinations consummated prior to January 1, 2009. The adoption of these revisions will increase the costs charged to operations for acquisitions consummated on or after January 1, 2009.

In December 2007, FASB amended FASB ASC 810, Consolidation. This amendment establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. The standard also requires additional disclosures that clearly identify and distinguish between the interest of the parent’s owners and the interest of the noncontrolling owners of the subsidiary. This statement is effective on January 1, 2009 for the Company, to be applied prospectively. The impact of adoption did not have a material impact on the Company’s consolidated financial statements.

In June 2008, FASB amended FASB ASC 260, Earnings per Share. This amendment concluded that nonvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents are participating securities and shall be included in the computation of EPS pursuant to the two-class method. This amendment is effective for fiscal years beginning after December 15, 2008, to be applied retrospectively. The adoption of this guidance did not have a material impact on the Company’s consolidated financial statements.

In January 2009, FASB amended FASB ASC 325-40, Investments—Other. This amendment addressed certain practice issues related to the recognition of interest income and impairment on purchased beneficial interests and beneficial interests that continue to be held by a transferor in securitized financial assets, by making its other-than-temporary impairment (“OTTI”) assessment guidance consistent with FASB ASC 320, Investments—Debt and Equity Securities. The amendment removes the reference to the consideration of a market participant’s estimates of cash flows and instead requires an assessment of whether it is probable, based on current information and events, that the holder of the security will be unable to collect all amounts due according to the contractual terms. If it is probable that there has been an adverse change in estimated cash flows, an OTTI is deemed to exist, and a corresponding loss shall be recognized in earnings equal to the entire difference between the investment’s carrying value and its fair value at the balance sheet date of the reporting period for which the assessment is made. This amendment became effective for interim and annual reporting periods ending after December 15, 2008, and is applied prospectively. The impact of adoption did not have a material impact on the Company’s consolidated financial statements.

In April 2009, FASB amended FASB ASC 820, Fair Value Measurements and Disclosures, to address issues related to the determination of fair value when the volume and level of activity for an asset or liability has significantly decreased, and identifying transactions that are not orderly. The revisions affirm the objective that fair value is the price that would be received to sell an asset in an orderly transaction (that is not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions, even if the market is inactive. The amendment provides additional guidance for estimating fair value when the volume and level of activity for the asset or liability have decreased significantly. It also provides guidance on identifying circumstances that indicate a transaction is not orderly. If determined that a quoted price is distressed (not orderly), and thereby not representative of fair value, the entity may need to make adjustments to the quoted price or utilize an alternative valuation technique (e.g. income approach or multiple valuation techniques) to determine fair value. Additionally, an entity must incorporate appropriate risk premium adjustments, reflective of an orderly transaction under current market conditions, due to uncertainty in cash flows. The revised guidance requires disclosures in interim and annual periods regarding the inputs and valuation techniques used to measure fair value and a discussion of changes in valuation techniques and related inputs, if any, during the period. It also requires financial institutions to disclose the fair values of investment securities by major security type. The changes are effective for the interim reporting period ending after June 15, 2009, but could have been applied to interim and annual periods ending after March 15, 2009. The Company did early adopt the FSPs effective January 1, 2009 and it resulted in a portion of other-than-temporary impairment being recorded in other comprehensive income instead of earnings in the amount of $1.5 million for the three months ended March 31, 2009. and are to be applied prospectively.

In April 2009, FASB revised FASB ASC 320, Investments—Debt and Equity Securities, to change the OTTI model for debt securities. Previously, an entity was required to assess whether it has the intent and ability to hold a security to recovery in determining whether an impairment of that security is other-than-temporary. If the impairment was deemed other-than-temporarily

impaired, the investment was written-down to fair value through earnings. Under the revised guidance, OTTI is triggered if an entity has the intent to sell the security, it is likely that it will be required to sell the security before recovery, or if the entity does not expect to recover the entire amortized cost basis of the security. If the entity intends to sell the security or it is likely it will be required to sell the security before recovering its cost basis, the entire impairment loss would be recognized in earnings as an OTTI. If the entity does not intend to sell the security and it is not likely that the entity will be required to sell the security but the entity does not expect to recover the entire amortized cost basis of the security, only the portion of the impairment loss representing credit losses would be recognized in earnings as an OTTI. The credit loss is measured as the difference between the amortized cost basis and the present value of the cash flows expected to be collected of a security. Projected cash flows are discounted by the original or current effective interest rate depending on the nature of the security being measured for potential OTTI. The remaining impairment loss related to all other factors, the difference between the present value of the cash flows expected to be collected and fair value, would be recognized as a charge to other comprehensive income (“OCI”). Impairment losses related to all other factors are to be presented as a separate category within OCI. For investment securities held to maturity, this amount is accreted over the remaining life of the debt security prospectively based on the amount and timing of future estimated cash flows. The accretion of the OTTI amount recorded in OCI will increase the carrying value of the investment, and would not affect earnings. If there is an indication of additional credit losses the security is reevaluated accordingly based on the procedures described above. Upon adoption of the revised guidance, the noncredit portion of previously recognized OTTI shall be reclassified to accumulated OCI by a cumulative-effect adjustment to the opening balance of retained earnings. The revisions are effective for the interim reporting period ending after June 15, 2009, but could have been applied to interim and annual periods ending after March 15, 2009. The Company did early adopt the FSPs effective January 1, 2009 and it resulted in a portion of other-than-temporary impairment being recorded in other comprehensive income instead of earnings in the amount of $1.5 million for the three months ended March 31, 2009 and are to be applied prospectively.

In April 2009, FASB revised FASB ASC 825, Financial Instruments, to require fair value disclosures in the notes of an entity’s interim financial statements for all financial instruments, whether or not recognized in the statement of financial position. The changes are effective for the interim reporting period ending after June 15, 2009, but could have been applied to interim and annual periods ending after March 15, 2009. The Company did early adopt the FSPs effective January 1, 2009 and it resulted in a portion of other-than-temporary impairment being recorded in other comprehensive income instead of earnings in the amount of $1.5 million for the three months ended March 31, 2009. and are to be applied prospectively.

In May 2009, FASB amended FASB ASC 855, Subsequent Events. The updated guidance established general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. The revisions should not result in significant changes in the subsequent events that an entity reports, either through recognition or disclosure in its financial statements. It does require disclosure of the date through which an entity has evaluated subsequent events and the basis for that date, that is, whether that date represents the date the financial statements were issued or were available to be issued. This disclosure should alert all users of financial statements that an entity has not evaluated subsequent events after that date in the set of financial statements being presented. We adopted the provisions of this guidance for the interim period ended June 30, 2009, and the impact of adoption did not have a material impact on the Company’s consolidated financial statements.

In June 2009, FASB issued SFAS No. 166, Accounting for Transfers of Financial Assets—an Amendment of FASB Statement No. 140. This statement has not yet been codified into the FASB ASC. SFAS No. 166 eliminates the concept of a qualifying special-purpose entity, creates more stringent conditions for reporting a transfer of a portion of a financial asset as a sale, clarifies other sale-accounting criteria, and changes the initial measurement of a transferor’s interest in transferred financial assets. This statement is effective for annual reporting periods beginning after November 15, 2009, and for interim periods therein. The Company is currently evaluating the impact of the adoption of SFAS No. 166.

In June 2009, FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R). This statement has not yet been codified into the FASB ASC. SFAS No. 167 eliminates FASB Interpretations 46(R) (“FIN 46(R)”) exceptions to consolidating qualifying special-purpose entities, contains new criteria for determining the primary beneficiary, and increases the frequency of required reassessments to determine whether a company is the primary beneficiary of a variable interest entity. SFAS No. 167 also contains a new requirement that any term, transaction, or arrangement that does not have a substantive effect on an entity’s status as a variable interest entity, a company’s power over a variable interest entity, or a company’s obligation to absorb losses or its right to receive benefits of an entity must be disregarded in applying FIN 46(R) provisions. The elimination of the qualifying special-purpose entity concept and its consolidation exceptions means more entities will be subject to consolidation assessments and reassessments. This statement requires additional disclosures regarding an entity’s involvement in a variable interest entity. This statement is effective for annual reporting periods beginning after November 15, 2009, and for interim periods therein. The Company is currently evaluating the impact of the adoption of SFAS No. 167.

In June 2009, FASB codified FASB ASC 105, Generally Accepted Accounting Principles, to establish the FASB ASC (the “Codification”). The Codification is not expected to change U.S. GAAP, but combines all authoritative standards into a comprehensive, topically organized online database. Following this guidance, the Financial Accounting Standards Board will not issue new standards in the form of Statements, FASB Staff Positions, or Emerging Issues Task Force Abstracts. Instead, it will issue Accounting Standards Updates (“ASU”) to update the Codification. After the launch of the Codification on July 1, 2009 only one level of authoritative U.S. GAAP for non governmental entities will exist, other than guidance issued by the Securities and Exchange Commission. This statement is effective for interim and annual reporting periods ending after September 15, 2009. The adoption of the FASB ASC 105 did not have any impact on the Company’s consolidated financial statements, and only affects how the Company references authoritative accounting guidance going forward.

In August 2009, the FASB issued ASU No. 2009-05, Measuring Liabilities at Fair Value. This update amends FASB ASC 820, Fair Value Measurements and Disclosure, in regards to the fair value measurement of liabilities. FASB ASC 820 clarifies that in circumstances in which a quoted price for an identical liability in an active market is not available, a reporting entity shall utilize one or more of the following techniques: i) the quoted price of the identical liability when traded as an asset, ii) the quoted price for a similar liability or a similar liability when traded as an asset, or iii) another valuation technique that is consistent with the principles of FASB ASC 820. In all instances a reporting entity shall utilize the approach that maximizes the use of relevant observable inputs and minimizes the use of unobservable inputs. Also, when measuring the fair value of a liability, a reporting entity shall not include a separate input or adjustment to other inputs relating to the existence of a restriction that prevents the transfer of the liability. This update is effective for the Company in the fourth quarter of 2009. We do not expect the adoption of FASB ASU 2009-05 will have a material impact on the Company’s consolidated financial statements.

Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations

     This report contains forward-looking statements. For a discussion about such statements, including the risks and uncertainties inherent therein, see “Forward-Looking Statements.” Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Consolidated Financial Statements and Notes presented elsewhere in this report and in Intermountain’s Form 10-K for the year ended December 31, 2008.

General

     Intermountain Community Bancorp (“Intermountain” or the “Company”) was formed as Panhandle Bancorp in October 1997 under the laws of the State of Idaho in connection with a holding company reorganization of Panhandle State Bank (the “Bank”) that was approved by the stockholders on November 19, 1997 and became effective on January 27, 1998. In June 2000, Panhandle Bancorp changed its name to Intermountain Community Bancorp.

     Panhandle State Bank, a wholly owned subsidiary of the Company, was first opened in 1981 to serve the local banking needs of Bonner County, Idaho. Panhandle State Bank is regulated by the Idaho Department of Finance, the State of Washington Department of Financial Institutions, the Oregon Division of Finance and Corporate Securities and by the Federal Deposit Insurance Corporation (“FDIC”), its primary federal regulator and the insurer of its deposits.

     Since opening in 1981, the Bank has continued to grow by opening additional branch offices throughout Idaho. During 1999, the Bank opened its first branch under the name of Intermountain Community Bank, a division of Panhandle State Bank, in Payette, Idaho. Over the next several years, the Bank continued to open branches under both the Intermountain Community Bank and Panhandle State Bank names. In January 2003, the Bank acquired a branch office from Household Bank F.S.B. located in Ontario, Oregon, which is now operating under the Intermountain Community Bank name. In 2004, Intermountain acquired Snake River Bancorp, Inc. (“Snake River”) and its subsidiary bank, Magic Valley Bank, and the Bank now operates three branches under the Magic Valley Bank name in south central Idaho. In 2005 and 2006, the Company opened branches in Spokane Valley and downtown Spokane, Washington, respectively, and operates these branches under the name of Intermountain Community Bank of Washington. It also opened branches in Kellogg, which operates under the name of Panhandle State Bank and Fruitland, Idaho, which operates under the name of Intermountain Community Bank.

     In 2006, Intermountain opened a Trust & Wealth division, and purchased a small investment company, Premier Alliance, which now operates as Intermountain Community Investment Services (ICI). The acquisition and development of these services improves the Company’s ability to provide a full-range of financial services to its targeted customers. In 2007, the Company relocated its Spokane Valley office to a larger facility housing retail, commercial, and mortgage banking functions and administrative staff. In the second quarter of 2008, the Bank completed the Sandpoint Center, its new corporate headquarters, and relocated the Sandpoint branch and administrative staff into the building.

     Intermountain offers banking and financial services that fit the needs of the communities it serves. Lending activities include consumer, commercial, commercial real estate, commercial and residential construction, mortgage and agricultural loans. A full range of deposit services are available including checking, savings and money market accounts as well as various types of certificates of deposit. Trust and Wealth management services, investment and insurance services, and business cash management solutions round out the Company’s financial offerings.

     Intermountain seeks to differentiate itself by attracting, retaining and motivating highly experienced employees who are local market leaders, and supporting them with advanced technology, training and compensation systems. This approach allows the Bank to provide local marketing and decision-making to respond quickly to customer opportunities and build leadership in its communities. Simultaneously, the Bank has focused on standardizing and centralizing administrative and operational functions to improve efficiency and the ability of the branches to serve customers effectively.

Current Economic Challenges and Future Outlook

     While some encouraging economic signs emerged in the third quarter, both the national and regional economies continue to present unprecedented challenges for banking institutions. Unemployment increased throughout the Company’s footprint, but at slower rates than in prior quarters. Real estate valuations began to stabilize in some of the Company’s markets, but continued to drop in others. Borrower defaults and foreclosures remain at very high levels and are likely to do so for the next few quarters. Against this backdrop, management continued to focus on balance sheet management, and in particular, its asset quality, capital and liquidity positions, as the most critical elements.

     With the exception of the Boise-Nampa-Caldwell metropolitan statistical area, the Idaho, eastern Washington and eastern Oregon economies continue to weather the current storm better than many other parts of the country. These markets have experienced increases in unemployment rates and lower real estate valuations, but the impacts have been relatively tempered in comparison to some other areas. In contrast, the Boise area has been hit hard by a combination of rapidly increasing unemployment and excessive commercial and residential real estate inventory. As a result, many institutions operating in this market have recognized substantial losses.

     Over the longer-term, we continue to have a positive outlook about the region’s economic future, including the Boise market’s. The region’s relative economic diversity, low cost of living, attractive, low-cost business climate, and desirable quality of life should soften the worst impacts of the ongoing recession and lead to a faster, stronger recovery than in many other areas.

     Company performance during the third quarter was substantially improved from second quarter results, but continued to reflect the challenges facing the economy and financial industry. In particular, the Company experienced the following:

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Lower interest income, largely as a result of reversals of interest on loans that were placed in non-accrual status or charged off or down during the quarter. The Company, however, also saw a decrease in interest expense, and continues to maintain a relatively low cost of interest-bearing liabilities in comparison to its peer group.

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Lower, but still elevated, provisions for loan losses as a result of high default rates, declining collateral valuations, and aggressive problem loan identification, workout and liquidation efforts. Third quarter chargeoffs largely reflected losses that were identified and reserved for in the second quarter.

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Continuing high FDIC insurance, loan collection and OREO expenses, offsetting ongoing expense improvements the Company is making.

     Company management continues to respond to the market conditions by reducing balance sheet risk, improving control over controllable expenses and engaging in extensive customer communication, marketing and education efforts. The Company has been particularly successful in garnering deposit growth over the past year while simultaneously reducing funding costs in a highly competitive deposit environment.

     Although encouraged by signs that certain markets may be stabilizing, we anticipate that both the national and regional economy will remain very challenging in the near future. As such, we do not anticipate a rapid return to high levels of industry or Company profitability for the next few quarters. We continue to believe, however, that long-term opportunities will arise for institutions that position themselves to capitalize on them, and we are taking such steps. In particular, we continue to be “well-capitalized” for regulatory purposes and have solid liquidity, we’re balancing deposit-growth efforts with reductions in our cost of funds, and we’re increasing our already strong leadership positions in the communities we serve. Through our corporate-wide initiative, Powered by

Community, we’re leading numerous efforts designed to foster economic growth in our communities and create business development opportunities for the Bank. We also continue to focus on improving our internal business processes, with the joint goal of enhancing our customers’ experience and reducing costs. Initiatives already implemented have improved our deposit volumes and customer experience metrics while simultaneously resulting in decreased compensation costs. A number of additional initiatives are scheduled for implementation through the balance of this year and next.

     In this environment, the most significant risks to the Company remain additional credit portfolio deterioration, and potential capital and liquidity pressures. The ongoing recession and increasing unemployment rates will undoubtedly continue to have a negative impact on the credit portfolio during the coming year, leading to elevated customer default levels. Relative loss levels will also be high, as collateral values remain pressured. Management has responded to the credit pressures by maintaining solid loan loss reserve and capital levels, tightening underwriting and loan pricing standards, and shifting additional resources to assist in this area. The Company’s best talent is focused on managing our credit portfolio through this very challenging period.

     Liquidity risk for the Company could arise from the inability of the Bank to meet its short-term obligations, particularly deposit withdrawals by customers, reductions in repurchase agreement balances by municipal customers, and restrictions on brokered certificates of deposit or other borrowing facilities. Company management has implemented a number of actions to reduce liquidity exposure, including: (1) enhancing its liquidity monitoring system; (2) maintaining a high level of liquid cash instruments and marketable or pledgeable securities on its balance sheet; (3) enhancing its deposit-gathering efforts; (4) communicating frequently and openly with both internal staff and external customers about the financial position, management strategy and future outlook for the Bank; (5) participating in the U.S. Treasury’s Capital Purchase Program; and (6) expanding its access to other liquidity sources, including the Federal Home Loan Bank and the Federal Reserve. These actions have strengthened the Company’s current on- and off-balance sheet liquidity considerably and positioned it well to face the ongoing economic challenges.

Critical Accounting Policies

     The accounting and reporting policies of Intermountain conform to Generally Accepted Accounting Principles (“GAAP”) and to general practices within the banking industry. The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Intermountain’s management has identified the accounting policies described below as those that, due to the judgments, estimates and assumptions inherent in those policies, are critical to an understanding of Intermountain’s Consolidated Financial Statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations.

     Income Recognition. Intermountain recognizes interest income by methods that conform to general accounting practices within the banking industry. In the event management believes collection of all or a portion of contractual interest on a loan has become doubtful, which generally occurs after the loan is 90 days past due or because of other borrower or loan indications, Intermountain discontinues the accrual of interest and reverses any previously accrued interest recognized in income deemed uncollectible. Interest received on nonperforming loans is included in income only if recovery of the principal is reasonably assured. A nonperforming loan is restored to accrual status when it is brought current or when brought to 90 days or less delinquent, has performed in accordance with contractual terms for a reasonable period of time, and the collectability of the total contractual principal and interest is no longer in doubt.

     Allowance For Loan Losses. In general, determining the amount of the allowance for loan losses requires significant judgment and the use of estimates by management. This analysis is designed to determine an appropriate level and allocation of the allowance for losses among loan types and loan classifications by considering factors affecting loan losses, including: specific losses; levels and trends in impaired and nonperforming loans; historical bank and industry loan loss experience; current national and local economic conditions; volume, growth and composition of the portfolio; regulatory guidance; and other relevant factors. Management monitors the loan portfolio to evaluate the adequacy of the allowance. The allowance can increase or decrease based upon the results of management’s analysis.

     The amount of the allowance for the various loan types represents management’s estimate of probable incurred losses inherent in the existing loan portfolio based upon historical bank and industry loan loss experience for each loan type. The allowance for loan losses related to impaired loans is based on the fair value of the collateral for collateral dependent loans, and on the present value of expected cash flows for non-collateral dependent loans. For collateral dependent loans, this evaluation requires management to make estimates of the value of the collateral and any associated holding and selling costs, and for non-collateral dependent loans, estimates on the timing and risk associated with the receipt of contractual cash flows.

     Individual loan reviews are based upon specific quantitative and qualitative criteria, including the size of the loan, loan quality classifications, value of collateral, repayment ability of borrowers, and historical experience factors. The historical experience factors utilized are based upon past loss experience, trends in losses and delinquencies, the growth of loans in particular markets and industries, and known changes in economic conditions in the particular lending markets. Allowances for homogeneous loans (such as residential mortgage loans, personal loans, etc.) are collectively evaluated based upon historical bank and industry loan loss experience, trends in losses and delinquencies, growth of loans in particular markets, and known changes in economic conditions in each particular lending market.

     Management believes the allowance for loan losses was adequate at September 30, 2009. While management uses available information to provide for loan losses, the ultimate collectability of a substantial portion of the loan portfolio and the need for future additions to the allowance will be based on changes in economic conditions and other relevant factors. A further slowdown in economic activity could adversely affect cash flows for both commercial and individual borrowers, as a result of which the Company could experience increases in nonperforming assets, delinquencies and losses on loans.

     A reserve for unfunded commitments is maintained at a level that, in the opinion of management, is adequate to absorb probable losses associated with the Bank’s commitment to lend funds under existing agreements such as letters or lines of credit. Management determines the adequacy of the reserve for unfunded commitments based upon reviews of individual credit facilities, current economic conditions, the risk characteristics of the various categories of commitments and other relevant factors. The reserve is based on estimates, and ultimate losses may vary from the current estimates. These estimates are evaluated on a regular basis and, as adjustments become necessary, they are recognized in earnings in the periods in which they become known through charges to other non-interest expense. Draws on unfunded commitments that are considered uncollectible at the time funds are advanced are charged to the reserve for unfunded commitments. Provisions for unfunded commitment losses, and recoveries on commitment advances previously charged-off, are added to the reserve for unfunded commitments, which is included in the accrued expenses and other liabilities section of the Consolidated Statements of Financial Condition.

     Investments. Assets in the investment portfolio are initially recorded at cost, which includes any premiums and discounts. Intermountain amortizes premiums and discounts as an adjustment to interest income using the interest yield method over the life of the security. The cost of investment securities sold, and any resulting gain or loss, is based on the specific identification method.

     Management determines the appropriate classification of investment securities at the time of purchase. Held-to-maturity securities are those securities that Intermountain has the intent and ability to hold to maturity, and are recorded at amortized cost. Available-for-sale securities are those securities that would be available to be sold in the future in response to liquidity needs, changes in market interest rates, and asset-liability management strategies, among others. Available-for-sale securities are reported at fair value, with unrealized holding gains and losses reported in stockholders’ equity as a separate component of other comprehensive income, net of applicable deferred income taxes.

     Management evaluates investment securities for other-than-temporary declines in fair value on a periodic basis. If the fair value of investment securities falls below their amortized cost and the decline is deemed to be other-than-temporary, the securities fair value will be analyzed based on market conditions and expected cash flows on the investment security. The company calculates a credit loss charge against earnings by subtracting the estimated present value of estimated future cash flows on the security from its amortized cost. At September 30, 2009, residential mortgage-backed securities included a security comprised of a pool of mortgages with a remaining unpaid balance of $3.8 million. Due to the lack of an orderly market for the security, its fair value was determined to be $2.8 million at September 30, 2009 based on analytical modeling taking into consideration a range of factors normally found in an orderly market. Of the $1.7 million unrealized loss on the security, based on an analysis of projected cash flows, a total of $442,000 has been charged to earnings as a credit loss in 2009, including $244,000 in the first quarter and $198,000 in the third quarter. The remaining $1.3 million was recognized in other comprehensive income.. See Notes to Consolidated Financial Statements, notes 2 and 9 for more information on the other-than-temporary impairment and the calculation of fair or carrying value for the investment securities. Charges to income could occur in future periods due to a change in management’s intent to hold the investments to maturity, a change in management’s assessment of credit risk, or a change in regulatory or accounting requirements.

     Goodwill and Other Intangible Assets. Goodwill arising from business combinations represents the value attributable to unidentifiable intangible elements in the business acquired. Intermountain’s goodwill relates to value inherent in the banking business and the value is dependent upon Intermountain’s ability to provide quality, cost-effective services in a competitive market place. As such, goodwill value is supported ultimately by revenue that is driven by the volume of business transacted. A decline in earnings as a result of a lack of growth or the inability to deliver cost-effective services over sustained periods can lead to impairment of goodwill

that could adversely impact earnings in future periods. Goodwill is not amortized, but is subjected to impairment analysis each December. In addition, generally accepted accounting principles require an impairment analysis to be conducted any time a “triggering event” occurs in relation to goodwill. Management believes that the significant market disruption in the financial sector and the declining market valuations experienced over the past year created a “triggering event.” As such, management conducted an interim evaluation of the carrying value of goodwill in September 30, 2009. As a result of this analysis, no impairment was considered necessary as of September 30, 2009. Major assumptions used in determining impairment were projected increases in future income, sales multiples in determining terminal value and the discount rate applied to future cash flows. However, future events could cause management to conclude that Intermountain’s goodwill is impaired, which would result in the recording of an impairment loss. Any resulting impairment loss could have a material adverse impact on Intermountain’s financial condition and results of operations. Other intangible assets consisting of core-deposit intangibles with definite lives are amortized over the estimated life of the acquired depositor relationships. At September 30, 2009, the carrying value of the Company’s goodwill and core deposit intangible was $11.7 million and $472,000, respectively.

     Real Estate Owned. Property acquired through foreclosure of defaulted mortgage loans is carried at the lower of cost or fair value less estimated costs to sell. At the applicable foreclosure date, other real estate owned is recorded at fair value of the real estate, less the costs to sell the real estate. Subsequently, other real estate owned, is carried at the lower of cost or fair value, and is periodically re-assessed for impairment based on fair value at the reporting date. Development and improvement costs relating to the property are capitalized to the extent they are deemed to be recoverable.

     Intermountain reviews its real estate owned for impairment in value whenever events or circumstances indicate that the carrying value of the property may not be recoverable. In performing the review, if expected future undiscounted cash flow from the use of the property or the fair value, less selling costs, from the disposition of the property is less than its carrying value, a loss is recognized. Because of rapid declines in real estate values in the current distressed environment, management has increased the frequency and intensity of its valuation analysis on its OREO properties. As a result of this analysis, carrying values on some of these properties have been reduced, and it is reasonably possible that the carrying values could be reduced again in the near term.

     Fair Value Measurements. ASC 820-10 (formerly SFAS 157 establishes a standard framework for measuring fair value in GAAP, clarifies the definition of “fair value” within that framework, and expands disclosures about the use of fair value measurements. A number of valuation techniques are used to determine the fair value of assets and liabilities in Intermountain’s financial statements. These include quoted market prices for securities, interest rate swap valuations based upon the modeling of termination values adjusted for credit spreads with counterparties and appraisals of real estate from independent licensed appraisers, among other valuation techniques. Fair value measurements for assets and liabilities where there exists limited or no observable market data are based primarily upon estimates, and are often calculated based on the economic and competitive environment, the characteristics of the asset or liability and other factors. Therefore, the results cannot be determined with precision and may not be realized in an actual sale or immediate settlement of the asset or liability. Additionally, there are inherent weaknesses in any calculation technique, and changes in the underlying assumptions used, including discount rates and estimates of future cash flows, could significantly affect the results of current or future values. Significant changes in the aggregate fair value of assets and liabilities required to be measured at fair value or for impairment will be recognized in the income statement under the framework established by GAAP. If impairment is determined, it could limit the ability of Intermountain’s banking subsidiaries to pay dividends or make other payments to the Holding Company. See Note 9 to the Consolidated Financial Statements for more information on fair value measurements.

     Derivative Financial Instruments and Hedging Activities. In various aspects of its business, the Company uses derivative financial instruments to modify its exposure to changes in interest rates and market prices for other financial instruments. Many of these derivative financial instruments are designated as hedges for financial accounting purposes. Intermountain’s hedge accounting policy requires the assessment of hedge effectiveness, identification of similar hedged item groupings, and measurement of changes in the fair value of hedged items. If, in the future, the derivative financial instruments identified as hedges no longer qualify for hedge accounting treatment, changes in the fair value of these hedged items would be recognized in current period earnings, and the impact on the consolidated results of operations and reported earnings could be significant.

     For more information on derivative financial instruments and hedge accounting, see Note 8 to the Consolidated Financial Statements.

Results of Operations

     Overview. Intermountain recorded a net loss to common stockholders of $2.7 million, or $0.32 per diluted share for the three months ended September 30, 2009, compared with a net loss of $11.4 million or $1.37 per diluted share for the second quarter of 2009 and net income of $226,000 or $0.03 per diluted share, for the three months ended September 30, 2008. Intermountain recorded a net loss to common stockholders of $14.6 million, or $1.75 per diluted share, for the nine months ended September 30, 2009, compared with net income of $4.1 million, or $0.49 per diluted share, for the nine months ended September 30, 2008. The smaller loss over the sequential quarter primarily reflects a smaller loan loss provision, as the Company’s assessment of its credit portfolio required a much smaller charge to earnings than its second quarter provision. Still, results for the comparative nine-month periods reflect much higher loss provisions in 2009, as well as decreased net interest income from reduced loan volume and increased nonperforming assets, and increased credit expenses and FDIC assessments.

     The annualized return on average assets (“ROA”) was -0.82%, -4.02 %, and 0.09% for the three months ended September 30, 2009, June 30, 2009 and September 30, 2008, respectively, and -1.64% and 0.53% for the nine months ended September 30, 2009 and 2008, respectively. The annualized return on average common equity (“ROE”) was -14.49, -58.2%, and 1.01% for the three months ended September 30, 2009, June 30, 2009 and September 30, 2008, respectively, and -24.8% and 6.1% for the nine months ended September 30, 2009 and 2008, respectively.

     While substantially better than second quarter 2009 results, the Company’s 2009 third quarter and year-to-date results continue to reflect extremely challenging economic and credit conditions, which have put pressure on both revenue and expense streams. In response to this adverse environment, management continues to focus on strong balance sheet management, particularly in maintaining a “well-capitalized” designation for regulatory purposes and strong liquidity. Some of its actions, including the maintenance of excess funds in relatively low-yielding cash equivalent and investment securities, the reduction in its loan portfolio, and the maintenance of elevated loss reserves have negative impacts on earnings to common stockholders in the short-term, but provide a foundation from which we expect to recover and grow when economic conditions improve. In addition, the Company expects that its strong focus on balancing local deposit growth with reducing funding costs will enhance future opportunities when rates increase and higher levels of customer borrowing demand return.

     Net Interest Income. The most significant component of earnings for the Company is net interest income, which is the difference between interest income from the Company’s loan and investment portfolios, and interest expense from deposits, repurchase agreements and other borrowings. During the three months ended September 30, 2009, June 30, 2009 and September 30, 2008, net interest income was $9.7 million, $10.2 million, and $11.1 million, respectively. During the nine months ended September 30, 2009 and 2008, net interest income was $29.8 million and $33.6 million, respectively. The reduction in net interest income from the prior quarter primarily reflects reversals and forgone interest on loans that were placed in non-accrual status or written down in the third quarter. Nine-month comparables are impacted by interest reversals as well, but also include the impacts of a more conservative, lower-yielding asset mix and overall reductions in market rates since the third quarter of last year.

     Average interest-earning assets increased by 1.2% to $980.6 million for the three months ended September 30, 2009, compared to $968.9 million for the three months ended September 30, 2008. The growth was driven by an increase in average investments and cash of $77.5 million or 45.6% over the three month period in 2008, offset by a decrease of $65.9 million or 8.2% in average loans. For the nine months ended September 30, 2009, average interest-earning assets increased 4.6%, or $43.7 million compared to the same period in 2008. During this period, average loans decreased $36.0 million while investments and cash increased $79.7 million. Loan volumes continued to reflect paydowns and write-downs of existing loan balances, and a downturn in loan originations caused by the slowing economy, lower demand and tighter underwriting standards. The increase in investments and cash resulted from strong deposit growth and the Company’s decision to place the additional funding in short-term investments and cash equivalents to enhance liquidity.

     Average interest-bearing liabilities increased by 1.4% or $13.4 million, including $62.7 million or 8.2% growth in average deposits, which offset a $49.3 million or 25.4% decrease in FHLB advances and other borrowings for the three month period ended September 30, 2009 compared to September 30, 2008. For the nine months ended September 30, 2009, average interest-bearing liabilities increased 3.9% or $36.8 million compared to the nine months ended September 30, 2008, fueled by growth in average deposits of $71.6 million, or 9.7%. Increases in average deposits compared to both prior periods primarily reflected deposit growth from the Bank’s local markets as branch staff successfully acquired additional customer balances.

     The positive impacts of increases in earning assets over the past year were more than offset by declines in the net interest margin. Net interest spread during the three months ended September 30, 2009, June, 2009, and September 30, 2008 equaled 3.90%, 4.08%, and 4.54%, respectively. Net interest margin was 3.91% for the three months ended September 30, 2009, a 0.20% decrease from the three months ended June 30, 2009 and a 0.65% decrease from the same period last year. Net interest margins for the nine months

ended September 30, 2009 and September 30, 2008 were 4.02% and 4.74%, respectively. Comparative margin results continue to be negatively impacted by forgone and reversed interest on non-performing loans, lower market interest rates, and the shift to a more conservative asset mix.

     While growing deposits, the Company has continued to focus on lowering its cost of funds. The cost of funds on interest-bearing liabilities dropped from 2.06% to 1.61% for the comparable three-month periods of last year and this year and from 2.22% to 1.74% for the comparable nine-month periods. The Company has sought to manage liability costs carefully, and its cost of funds continues to be at the low end of its peer group. As a result of these efforts and continuing stronger asset yields, the Company’s net interest spread and margin remain near the top of its peer group.

     Given the current economic conditions, the Company believes that non-accrual loans and conservative asset management will continue to negatively impact the net interest margin. However, declining funding costs and stabilizing market interest rates should offset some or all of these impacts. As such, management is focusing on building a balance sheet and core customer base to sustain the current margin, and prepare for resumption of more normal economic and rate conditions in the future.

     Provision for Losses on Loans & Credit Quality. Management’s policy is to establish valuation allowances for estimated losses by charging corresponding provisions against income. This evaluation is based upon management’s assessment of various factors including, but not limited to, current and anticipated future economic trends, historical loan losses, delinquencies, underlying collateral values, as well as current and potential risks identified in the portfolio.

     The provision for losses on loans totaled $3.8 million for the three months ended September 30, 2009, compared to a provision of $18.7 million for the three months ended June 30, 2009, and $2.5 million for the three months ended September 30, 2008. For the comparative nine-month periods, the provision totaled $25.2 million in 2009 versus $4.9 million in 2008 reflecting an increase in net charge-offs of $20.4 million for the same periods, respectively. The following table summarizes provision and loan loss allowance activity for the periods indicated.

		Nine months ended September 30,
		2009				2008
		(Dollars in thousands)
Balance at January 1		$	16,433			$	11,761
Provision for losses on loans			25,210				4,872
Amounts written off, net of recoveries			(24,030	)			(3,600	)
Allowance — loans, September 30			17,613				13,033
Allowance — unfunded commitments, January 1			14				18
Adjustment			164				(10	)
Allowance — unfunded commitments, September 30			178				8
Total credit allowance including unfunded commitments		$	17,791			$	13,041

     The loan loss allowance to total loans ratio was 2.46% at September 30, 2009, compared to 3.31% at June 30, 2009 and 1.67% at September 30, 2008, respectively. Third quarter net chargeoffs totaled $10.4 million compared to $11.8 million for the three months ended June 30, 2009, and $2.3 million for the three months ended September 30, 2008. Third quarter charge-offs primarily reflect write downs in the southwestern Idaho (Treasure Valley and Valley County) residential construction and development portfolio that were identified and reserved for in the preceding quarter. At the end of the quarter, the allowance for loan loss totaled 78.9% of nonperforming loans compared to 65.6% of nonperforming loans a year ago. At June 30, 2009 the allowance totaled 88.4% of nonperforming loans. Management believes the current level of loan loss allowance is adequate for the balance and the mix of the loan portfolio at this time.

     Residential land and construction assets continue to comprise most of the nonperforming loans and OREO totals, reflecting the weakness in the housing market. The geographic breakout of the nonperforming loans below reflects the stronger market presence the Company holds in Northern Idaho and Eastern Washington and reductions in non-performing assets in the greater Boise market through property sales and loan writedowns already booked. The following table summarizes nonperforming assets (“NPA”) by geographic region.

														Southwest
NPA by location		North Idaho												Idaho,
September 30, 2009		— Eastern				Magic Valley				Greater Boise				excluding
(Dollars in thousands)		Washington				Idaho				Area				Boise-Oregon				Other				Total
Commercial		$	2,903			$	350			$	516			$	190			$	—			$	3,959				10.8	%
Commercial real estate			2,051				1,149				402				9				32				3,643				9.9	%
Commercial construction, including all land development loans			2,267				2,355				4,163				1,675				2,875				13,335				36.3	%
Multifamily			—				188				—				—				—				188				0.5	%
Residential real estate			2,278				149				1,668				984				103				5,182				14.1	%
Residential construction			9,401				—				914				—				—				10,315				28.1	%
Consumer			52				28				21				1				—				102				0.3	%
Total		$	18,952			$	4,219			$	7,684			$	2,859			$	3,010			$	36,724				100.0	%
Percent of total NPA			51.6	%			11.5	%			20.9	%			7.8	%			8.2	%			100.0	%