United States

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended ~~September~~March 3031, ~~2011~~2012

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _________ to __________

Commission File Number 000 - 19300

NORTHERN STATES FINANCIAL CORPORATION

(Exact name of Registrant as specified in its charter)

Delaware		36-3449727
(State of Incorporation)		(I.R.S. Employer Identification No.)

1601 North Lewis Avenue

Waukegan, Illinois 60085

(847) 244-6000

(Address, including zip code, and telephone number, including area code, of principal executive office)

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 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: x 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). YES: x NO: o

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 definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer o	Accelerated Filer o	Non-accelerated Filer o	Smaller reporting company x
		(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES: o NO: x

4,~~278~~277,755 shares of common stock were outstanding at ~~October~~April 3130, ~~2011~~2012

NORTHERN STATES FINANCIAL CORPORATION AND SUBSIDIARY

FORM 10-Q

For the Quarter Ended ~~September~~March 3031, ~~2011~~2012

INDEX

PART I. FINANCIAL INFORMATION
		Page Number
Item 1.	Financial Statements
	Report of Independent Registered Public Accounting Firm	2
	Condensed Consolidated Financial Statements and Notes	3
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	3233
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	4846
Item 4.	Controls and Procedures	5047
PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings	5048
Item 1A.	Risk Factors	5048
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	5048
Item 3.	Defaults Upon Senior Securities	5148
Item 4.	~~(Removed~~Mine ~~and~~Safety ~~Reserved)~~Disclosures	5148
Item 5.	Other Information	5148
Item 6.	Exhibits	5149
Signatures		5250
EXHIBIT INDEX		5351

Index

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS.

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

Northern States Financial Corporation

Waukegan, Illinois

We have reviewed the accompanying interim condensed consolidated balance sheet of NORTHERN STATES FINANCIAL CORPORATION as of ~~September~~March 3031, ~~2011~~2012, the condensed consolidated statements of operations and comprehensive income (loss) for the three ~~and nine~~ month periods ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011 and the condensed statements of cash flows and stockholders equity for the ~~nine~~three month periods ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011. These interim financial statements are the responsibility of the company's management.

We conducted our review in accordance with standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.

Based on our review, we are not aware of any material modifications that should be made to the accompanying interim condensed financial statements for them to be in conformity with accounting principles generally accepted in the United States of America.

/s/ Plante & Moran, PLLC Chicago, Illinois ~~November~~May 1, ~~2011~~2012

Index

NORTHERN STATES FINANCIAL CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

~~September~~March 3031, ~~2011~~2012 and December 31, ~~2010~~2011

(In thousands of dollars) (Unaudited)

	September 30,			December 31,
	March 31,			December 31,
Assets	2011			2010
	2012			2011
Cash and due from banks	$	7,794		$	5,642
Assets
Interest bearing deposits in financial institutions - maturities less than 90 days		30,652			18,142
Cash and due from banks	$	7,442		$	5,313
Federal funds sold		3,021			6,573
Interest bearing deposits in financial institutions -maturities less than 90 days		29,925			32,520
Total cash and cash equivalents		4137,~~467~~367			3037,~~357~~833
Securities available for sale		9085,~~523~~232			9187,~~830~~140
Loans and leases, net of deferred fees		~~350~~316,~~851~~833			~~384~~322,~~789~~713
Less: Allowance for loan and lease losses		(1819,~~309~~026	)		(18,~~336~~984	)
Loans and leases, net		~~332~~297,~~542~~807			~~366~~303,~~453~~729
Federal Home Loan Bank stock		1,~~801~~434			1,801
Office buildings and equipment, net		98,~~114~~926			9,~~454~~069
Other real estate owned		2217,~~343~~859			2419,~~326~~342
Accrued interest receivable and other assets		4,739			7,507
Accrued interest receivable		1,481			1,401
Total assets	$	502,529		$	531,728
Other assets		2,846			2,675
Total assets	$	452,952		$	462,990
Liabilities and Stockholders' Equity
Liabilities
Deposits
Demand - noninterest bearing	$	6570,~~258~~695		$	6167,~~341~~955
Interest bearing		~~369~~321,~~849~~142			~~385~~329,~~210~~676
Total deposits		~~435~~391,~~107~~837			~~446~~397,~~551~~631
Securities sold under repurchase agreements		2016,~~687~~639			3519,~~517~~455
Subordinated debentures		10,310			10,310
Advances from borrowers for taxes and insurance		~~355~~1,960			1,~~109~~222
Accrued interest payable and other liabilities		56,~~331~~634			45,~~956~~833
Total liabilities		~~471~~427,~~790~~380			~~498~~434,~~443~~451
Stockholders' Equity
Common stock (Par value $0.40 per share, authorized 6,500,000 shares, issued 4,472,255 at September 30, 2011 and December 31, 2010. Shares outstanding of 4,278,755 and 4,072,255 shares at September 30, 2011 and December 31, 2010, respectively.)		1,789			1,789
Common stock (Par value $0.40 per share, authorized 6,500,000 shares, issued 4,472,255 at March 31, 2012 and December 31, 2011. Shares outstanding of 4,277,755 at March 31, 2012 and December 31, 2011)		1,789			1,789
Preferred stock (Par value $0.40 per share, authorized 1,000,000 shares, issued 17,211 shares with liquidation amounts of $1,000.00 per share at September 30, 2011 and December 31, 2010)		16,870			16,768
Preferred stock (Par value $0.40 per share, authorized 1,000,000 shares, issued 17,211 shares with liquidation amounts of $1,000.00 per share at March 31, 2012 and December 31, 2011)		16,939			16,904
Warrants (584,084 issued and outstanding at September 30, 2011 and December 31, 2010)		681			681
Warrants (584,084 issued and outstanding at March 31, 2012and December 31, 2011)		681			681
Additional paid-in capital		7,~~003~~084			117,~~584~~054
Retained earnings		72,~~379~~371			135,~~250~~489
Treasury stock, at cost (193,500 shares at September 30, 2011 and 400,000 shares at December 31, 2010)		(4,489	)		(9,280	)
Treasury stock, at cost (194,500 shares at March 31, 2012 and December 31, 2011)		(4,512	)		(4,512	)
Accumulated other comprehensive income (loss)		1,506			(1,507	)
Accumulated other comprehensive income (loss), net		1,220			1,134
Total stockholders' equity		3025,~~739~~572			3328,~~285~~539
Total liabilities and stockholders' equity	$	~~502~~452,~~529~~952		$	~~531~~462,~~728~~990

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

Index

NORTHERN STATES FINANCIAL CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

Three ~~and nine~~ months ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011

(In thousands of dollars, except per share data) (Unaudited)

	Three months ended						~~Nine months ended~~
	September 30,			September 30,			September 30,			September 30,
	March 31,			March 31,
	2011			2010			2011			2010
	2012			2011
Interest income
Loans (including fee income)	$	4,~~492~~098		$	54,~~424~~835		$	~~14,021~~		$	~~15,887~~
Securities
Taxable		~~523~~506			~~655~~562			~~1,632~~			~~2,367~~
Exempt from federal income tax		3630			3936			~~109~~			~~160~~
Federal funds sold and other		1314			816			47			29
Total interest income		54,~~064~~648			65,~~126~~449			~~15,809~~			~~18,443~~
Interest expense
Time deposits		~~370~~204			~~804~~623			~~1,463~~			~~3,068~~
Other deposits		8087			~~125~~91			~~250~~			~~475~~
Repurchase agreements and federal funds purchased		138			6730			65			~~215~~
Federal Home Loan Bank advances		0			0			0			8
Subordinated debentures		65			57
Subordinated debentures		58			102			172			314
Total interest expense		364			801
Total interest expense		521			1,098			1,950			4,080
Net interest income		4,284			4,648
Net interest income		4,543			5,028			13,859			14,363
Provision for loan and lease losses		1,400			1,200
Provision for loan and lease losses		2,000			338			5,700			4,568
Net interest income after provision for loan and lease losses		2,884			3,448
Net interest income after provision for loan and lease losses		2,543			4,690			8,159			9,795
Noninterest income
Noninterest income
Service fees on deposits		383			413
Service fees on deposits		457			515			1,298			1,611
Trust income		149			194
Trust income		154			197			550			594
Net (loss) gain on sale of other real estate owned		(216	)		67
Gain on sale of securities		135			0			277			653
Other than temporary impairment of securities		0			(143	)
Net gain (loss) on sale of other real estate owned		14			(426	)		12			(26	)
Noncredit portion of other than temporary impairment of securities		0			(20	)
Net loss on sale of other assets		0			0			(38	)		0
Other operating income		335			322
Other than temporary impairment of securities		0			(36	)		(143	)		(634	)
Total noninterest income		651			833
Noncredit portion of other than temporary impairment of securities		0			22			(20	)		(25	)
Noninterest expense
Other operating income		343			343			1,018			971
Salaries and employee benefits		1,761			1,793
Total noninterest income		1,103			615			2,954			3,144
Occupancy and equipment, net		600			673
Noninterest expense
Data processing		572			507
Salaries and employee benefits		1,718			1,729			5,217			5,228
Legal		180			205
Occupancy and equipment, net		597			552			1,853			1,771
FDIC insurance		256			381
Data processing		472			498			1,446			1,444
Audit and other professional		290			286
FDIC insurance		228			402			930			1,103
Printing and supplies expense		68			80
Legal		179			194			666			616
Write-down of other real estate owned		1,972			673
Audit and other professional		208			317			835			979
Other real estate owned expense		126			233
Amortization of core deposit intangible asset		0			116			0			348
Loan and collection		99			108
Write-down of other real estate owned		797			1,076			2,125			2,500
Other operating expenses		451			444
Other real estate owned expense		525			99			829			327
Total noninterest expense		6,375			5,383
Loan and collection		90			79			822			160
Loss before income taxes		(2,840	)		(1,102	)
Other operating expenses		518			386			1,460			1,177
Income tax expense		0			0
Total noninterest expense		5,332			5,448			16,183			15,653
Net loss		(2,840	)		(1,102	)
Loss before income taxes		(1,686	)		(143	)		(5,070	)		(2,714	)
Dividends to preferred stockholders		243			230
Income tax expense		0			0			0			0
Accretion of discount on preferred stock		35			34
Net loss		(1,686	)		(143	)		(5,070	)		(2,714	)
Net loss available to common stockholders	$	(3,118	)	$	(1,366	)
Dividends to preferred stockholders		236			222			699			665
Basic loss per share	$	(0.73	)	$	(0.32	)
Accretion of discount on preferred stock		33			31			102			95
Diluted loss per share	$	(0.73	)	$	(0.32	)
Net loss available to common stockholders	$	(1,955	)	$	(396	)	$	(5,871	)	$	(3,474	)
Basic loss per share	$	(0.46	)	$	(0.10	)	$	(1.37	)	$	(0.85	)
Diluted loss per share	$	(0.46	)	$	(0.10	)	$	(1.37	)	$	(0.85	)
Comprehensive (loss) gain	$	(366	)	$	(124	)	$	(2,057	)	$	693

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

Index

NORTHERN STATES FINANCIAL CORPORATION

~~CONDENSED~~ CONSOLIDATED STATEMENTS OF ~~CASH~~COMPREHENSIVE ~~FLOWS~~INCOME (LOSS)

~~Nine~~Three months ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011

(In thousands of dollars) (Unaudited)

	Nine months ended
	Three months ended
	September 30,			September 30,
	March 31,			March 31,
	2011			2010
	2012			2011
Cash flows - operating activities
Net loss	$	(2,840	)	$	(1,102	)
Net loss	$	(5,070	)	$	(2,714	)
Other comprehensive income:
Adjustments to reconcile net loss to net cash from operating activities:
Unrealized gains on securities available for sale, net of tax		86			331
Depreciation		515			488
Comprehensive loss	$	(2,754	)	$	(771	)
Net gain on sale of securities		(277	)		(653	)
Net impairment loss on securities		163			659
Provision for loan and lease losses		5,700			4,568
Write-down of other real estate owned		2,125			2,500
Net (gain) loss on sale of other real estate owned		(12	)		26
Amortization of other intangible asset		0			348
Restricted stock awards expense		210			0
Net change in accrued interest receivable and other assets		846			1,008
Net change in accrued interest payable and other liabilities		(324	)		(712	)
Net cash - operating activities		3,876			5,518
Cash flows - investing activities
Proceeds from maturities, calls and principal reductions of securities available for sale		6,245			9,588
Proceeds from sales of securities available for sale		19,852			41,193
Purchases of securities available for sale		(19,793	)		(6,224	)
Changes in loans made to customers		20,135			14,266
Property and equipment expenditures		(175	)		(289	)
Improvements to other real estate owned		0			(34	)
Proceeds from sales of other real estate owned		7,998			10,496
Net cash - investing activities		34,262			68,996
Cash flows - financing activities
Net (decrease) increase in:
Deposits		(11,444	)		(55,280	)
Securities sold under repurchase agreements		(14,830	)		(7,293	)
Advances from borrowers for taxes and insurance		(754	)		(311	)
Net cash - financing activities		(27,028	)		(62,884	)
Net change in cash and cash equivalents		11,110			11,630
Cash and cash equivalents at beginning of period		30,357			34,194
Cash and cash equivalents at end of period	$	41,467		$	45,824
Cash paid for interest	$	2,177		$	4,473
Noncash transfer of loans to other real estate owned		8,128			10,470
Noncash accrual of preferred dividends		699			665

The accompanying notes are an integral part of these ~~condensed~~ consolidated financial statements.

Index

NORTHERN STATES FINANCIAL CORPORATION

~~CONDENSED~~ CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

~~Nine~~Three months ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011

(In thousands of dollars~~, except for per share data~~) (Unaudited)

	Common Stock		Preferred Stock		Warrants		Additional Paid-In Capital			Retained Earnings			Treasury Stock, at Cost			Accumulated Other Comprehensive Income (Loss), Net			Total Stockholders' Equity
Balance, December 31, 2009	$	1,789	$	16,641	$	681	$	11,584		$	20,632		$	(9,280	)	$	(1,746	)	$	40,301
Net loss											(2,714	)								(2,714	)
Accrued dividend on preferred stock											(665	)								(665	)
Accretion of preferred stock discount issued				95							(95	)								0
Unrealized gain on securities available for sale, net of deferred tax..																	3,407			3,407
Balance, September 30, 2010	$	1,789	$	16,736	$	681	$	11,584		$	17,158		$	(9,280	)	$	1,661		$	40,329
Balance, December 31, 2010	$	1,789	$	16,768	$	681	$	11,584		$	13,250		$	(9,280	)	$	(1,507	)	$	33,285
Net loss											(51,~~070~~102	)								(51,~~070~~102	)
Accrued dividend on preferred stock											(~~699~~230	)								(~~699~~230	)
Accretion of preferred stock discount issued				~~102~~34							(~~102~~34	)								0
Restricted stock awards from treasury stock								(4,~~791~~814	)					4,~~791~~814						0
Restricted stock awards expense								~~210~~152												~~210~~152
Unrealized gain on securities available for sale, net of deferred tax..																	3,013			3,013
Unrealized net gain on securities available for sale																	331			331
Balance, September 30, 2011	$	1,789	$	16,870	$	681	$	7,003		$	7,379		$	(4,489	)	$	1,506		$	30,739
Balance, March 31, 2011	$	1,789	$	16,802	$	681	$	6,922		$	11,884		$	(4,466	)	$	(1,176	)	$	32,436
Balance, December 31, 2011	$	1,789	$	16,904	$	681	$	7,054		$	5,489		$	(4,512	)	$	1,134		$	28,539
Net loss											(2,840	)								(2,840	)
Accrued dividend on preferred stock											(243	)								(243	)
Accretion of preferred stock discount issued				35							(35	)								0
Restricted stock awards expense								30												30
Unrealized net gain on securities available for sale																	86			86
Balance, March 31, 2012	$	1,789	$	16,939	$	681	$	7,084		$	2,371		$	(4,512	)	$	1,220		$	25,572

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

Index

NORTHERN STATES FINANCIAL CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

Three months ended March 31, 2012 and 2011

(In thousands of dollars) (Unaudited)

	Three months ended
	2012			2011
Cash flows from operating activities
Net loss	$	(2,840	)	$	(1,102	)
Adjustments to reconcile net loss to net cash from operating activities:
Depreciation		173			171
Net impairment loss on securities		0			163
Provision for loan and lease losses		1,400			1,200
Write-down of other real estate owned		1,972			673
Net loss (gain) on sale of other real estate owned		216			(67	)
Restricted stock awards expense		30			152
Net change in accrued interest receivable and other assets		407			781
Net change in accrued interest payable and other liabilities		(164	)		(172	)
Net cash provided from operating activities		1,194			1,799
Cash flows from investing activities
Proceeds from maturities, calls and principal reductions of securities available for sale		2,058			1,739
Redemptions of Federal Home Loan Bank stock		367			0
Changes in loans made to customers		3,069			10,622
Property and equipment expenditures		(30	)		(24	)
Proceeds from sale of other real estate owned		748			1,544
Net cash provided from investing activities		6,212			13,881
Cash flows from financing activities
Net increase (decrease) in:
Deposits		(5,794	)		5,429
Securities sold under repurchase agreements and other short-term borrowings		(2,816	)		(7,371	)
Advances from borrowers for taxes and insurance		738			790
Net cash used in financing activities		(7,872	)		(1,152	)
Net change in cash and cash equivalents		(466	)		14,528
Cash and cash equivalents at beginning of period		37,833			30,357
Cash and cash equivalents at end of period	$	37,367		$	44,885

Supplemental disclosures
Cash paid for interest	$	408		$	930
Noncash transfer of loans to other real estate owned		1,453			61
Noncash accrual of preferred dividends		243			230

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

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

Note 1 - Basis of Presentation

The accompanying interim condensed consolidated financial statements are prepared without audit and reflect all adjustments which are of a normal and recurring nature and, in the opinion of management, are necessary to present interim financial statements of Northern States Financial Corporation (the "Company") in accordance with accounting principles generally accepted in the United States of America. The interim financial statements do not purport to contain all the necessary financial disclosures covered by accounting principles generally accepted in the United States of America that might otherwise be necessary for complete financial statements.

To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ. Estimates and assumptions used for the allowance for loan and lease losses, valuation of other real estate owned, valuation of other than temporarily impaired securities, valuation of deferred tax assets and status of contingencies are particularly subject to change.

The interim condensed consolidated financial statements should be read in conjunction with the audited financial statements and accompanying notes (or "notes thereto") of the Company for the years ended December 31, ~~2010~~2011 and ~~2009~~2010 included in the Company’s Annual Report on Form 10-K for the year ended December 31, ~~2010~~2011 as filed with the Securities and Exchange Commission. The results of operations for the three ~~and nine~~ month ~~periods~~period ended ~~September~~March 3031, ~~2011~~2012 included herein are not necessarily indicative of the results to be expected for the full year ~~2011~~2012.

Net loss available to common stockholders was utilized to calculate loss per share for all periods presented. During the periods presented, the Company had preferred stock and common stock equivalents from warrants related to funds received from the U.S Department of the Treasury (the “Treasury Department”) through its Capital Purchase Program. However, common stock equivalents from warrants during the periods presented were antidilutive and, therefore, not considered in computing diluted loss per share.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

(Dollars in thousands, except per share data)	Three Months Ended						~~Nine Months Ended~~
	September 30,						September 30,
	March 31,
	2011			2010			2011			2010
	2012			2011
Basic earnings per share:
Net loss	$	(12,~~686~~840	)	$	(~~143~~1,102	)	$	~~(5,070~~	)	$	~~(2,714~~	)
Dividends accrued to preferred stockholders		~~236~~243			~~222~~230			~~699~~			~~665~~
Accretion of discount on preferred stock		3335			3134			~~102~~			95
Net loss available to common stockholders	$	(13,~~955~~118	)	$	(~~396~~1,366	)	$	~~(5,871~~	)	$	~~(3,474~~	)
Weighted average common shares outstanding		4,~~278~~277,755			4,~~072~~270,~~255~~553			~~4,276,154~~			~~4,072,255~~
Basic loss per share	$	(0.4673	)	$	(0.1032	)	$	~~(1.37~~	)	$	~~(0.85~~	)
Diluted earnings per share:
Net loss	$	(12,~~686~~840	)	$	(~~143~~1,102	)	$	~~(5,070~~	)	$	~~(2,714~~	)
Dividends accrued to preferred stockholders		~~236~~243			~~222~~230			~~699~~			~~665~~
Accretion of discount on preferred stock		3335			3134			~~102~~			95
Net loss available to common stockholders	$	(13,~~955~~118	)	$	(~~396~~1,366	)	$	~~(5,871~~	)	$	~~(3,474~~	)
Weighted average common shares outstanding		4,~~278~~277,755			4,~~072~~270,~~255~~553			~~4,276,154~~			~~4,072,255~~
Add: Dilutive effect of assumed warrant exercises		0			0			0			0
Add: Dilutive effect of common stock equivalents		0			0
Weighted average common and dilutive common shares outstanding		4,278,755			4,072,255			4,276,154			4,072,255
Weighted average common and dilutive common shares outstanding..		4,277,755			4,270,553
Diluted loss per share	$	(0.4673	)	$	(0.1032	)	$	~~(1.37~~	)	$	~~(0.85~~	)

Note 2 – Preferred Stock

On February 20, 2009, pursuant to the Treasury Department’s TARP Capital Purchase Program, the Company issued to the Treasury Department, in exchange for total proceeds of $17,211,000, (i) 17,211 shares of the Company’s Fixed Rate Cumulative Perpetual Preferred Stock, Series A (the “Series A Preferred Stock”), par value $.40 per share and a liquidation amount equal to $1,000 per share, and (ii) a ten-year warrant (the “Warrant”) to purchase up to 584,084 shares of the Company’s common stock, at an exercise price of $4.42 per share. The $17,211,000 proceeds were allocated to the Series A Preferred Stock and the Warrant based on the relative fair value of the instruments. The fair value of the preferred stock was estimated using an approximate 12% discount rate and a five-year expected life. A fair value of $681,000 was estimated for the warrants using a Black-Sholes valuation. The assumptions used in the Black-Sholes valuation were as follows: $4.42 strike price based on the contract, approximately 53% for the calculated volatility, 3.1% for the weighted average dividends, five years for the expected term and 2% for the risk free rate.

8The difference between the initial carrying value of $16,530,000 that was allocated to the Series A Preferred Stock and its redemption value of $17,211,000 will be charged to retained earnings (with a corresponding increase to the carrying value of the Series A Preferred Stock) over the first five years as an adjustment to the dividend yield using the effective yield method. The Series A Preferred Stock is generally non-voting and qualifies as Tier 1 capital.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The difference between the initial carrying value of $16,530,000 that was allocated to the Series A Preferred Stock and its redemption value of $17,211,000 will be charged to retained earnings (with a corresponding increase to the carrying value of the Series A Preferred Stock) over the first five years as an adjustment to the dividend yield using the effective yield method. The Series A Preferred Stock is generally non-voting and qualifies as Tier 1 capital.

In the event of a liquidation or dissolution of the Company, the Series A Preferred Stock then outstanding takes precedence over the Company’s common stock for the payment of dividends and distribution of assets.

Dividends are payable quarterly on the Series A Preferred Stock at an annual dividend rate of 5% per year for the first five years, and 9% per year thereafter. The effective yield of the Series A Preferred Stock is approximately 5.94%. In November 2009, the Company notified the Treasury Department of its intent to suspend its dividend payments on its Series A Preferred Stock. The suspension of the dividend has continued through ~~September~~March 3031, ~~2011~~2012. At ~~September~~March 3031, ~~2011~~2012, the accumulated dividends payable to the Treasury Department totaled $12.94 million which includes compounding on unpaid dividends at 5.00 ~~percent~~%. The suspension of dividend payments is permissible under the terms of the TARP Capital Purchase Program, but the dividend is a cumulative dividend and failure to pay dividends for six dividend periods ~~triggered~~triggers ~~Board~~board of ~~Director~~director appointment rights for the holder of the Series A Preferred Stock~~, currently the Treasury Department~~. At ~~September~~March 3031, ~~2011~~2012, the Company had suspended ~~eight~~ten dividend payments; ~~however,~~and expects that the Treasury Department ~~has~~will ~~not~~appoint ~~yet~~two ~~exercised~~directors ~~its~~in ~~director appointment rights~~2012. In January 2011, the Company agreed to allow a Treasury Department representative to attend its Board of Directors meetings as an observer.

For as long as any shares of Series A Preferred Stock are outstanding, no dividends may be declared or paid on the Company’s common stock unless all accrued and unpaid dividends for all past dividend periods on the Series A Preferred Stock are fully paid. Pursuant to the Capital Purchase Program, the Treasury Department’s consent is required for any increase in dividends on the Company’s common stock above the amount of $0.40 per share, the last semi-annual common stock dividend declared by the Company prior to October 14, 2008, unless the Series A Preferred Stock is redeemed in whole or until the Treasury Department has transferred all of the Series A Preferred Stock it owns to third parties.

The Company may not repurchase any of its common stock without the prior consent of the Treasury Department for as long as the shares of Series A Preferred Stock are outstanding to the Treasury Department or until the Treasury Department transfers all of the Series A Preferred Stock it owns to third parties.

Note 3 – Common Stock

Information related to common stock at the dates indicated was as follows:

	September 30,		December 31,
	March 31, 2012		December 31, 2011
	2011		2010
Par value per share	$	0.40	$	0.40
Authorized shares		6,500,000		6,500,000
Issued shares		4,472,255		4,472,255
Treasury shares		~~193~~194,500		~~400~~194,~~000~~500
Outstanding shares		4,~~278~~277,755		4,~~072~~277,~~255~~755

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2011

(Unaudited)

Pursuant to the Capital Purchase Program, the Company issued to the Treasury Department a Warrant to purchase up to 584,084 shares of the Company’s common stock at an exercise price of $4.42 per share. Based upon its fair value relative to the Series A Preferred Stock discussed in Note 2 above, the Warrant was recorded at a value of $681,000 and is accounted for as equity. The Warrant is exercisable, in whole or in part, at any time and from time to time until the tenth anniversary of the issue date.

At the Company’s annual meeting of stockholders on May 21, 2009, the 2009 Restricted Stock Plan (the "Plan") was approved by the stockholders. The Plan authorizes the issuance of 400,000 shares of the Company's common stock to be issued in whole or in part from treasury shares or authorized and unissued shares not reserved for any other purpose. Awards under the Plan may be made to directors and employees of both the Company and its subsidiaries and may consist of restricted stock with associated voting rights and the right to receive dividends. Awards may also be issued as stock units not having voting rights or the right to receive dividends until the terms of the award are satisfied and the shares of the Company's stock are actually issued; however, dividends may be credited to a restricted stock award. The terms and conditions of each award is set forth and described in an award agreement between the Company and the participant.

In January 2011, 207,500 shares of restricted stock were issued pursuant to the 2009 Restricted Stock Plan from the Company’s treasury stock. During the second quarter of 2011, employees, who left the Company, forfeited 1,000 shares of restricted stock, which were returned to treasury stock lowering the total shares issued pursuant to the Plan to 206,500 shares. Of the 80,000 shares issued to directors, 70,000 shares vested during the first quarter of 2011, while the remaining 10,000 shares will vest over a two-year period. A total of 126,500 restricted stock shares granted to employees of the Company will fully vest in January 2013. The expense attributable to these restricted stock awards recognized during the three and nine months ended September 30, 2011 totaled $29,000 and $210,000, respectively. The quarterly expense for the vesting of these issued restricted stock awards is expected to be $29,000 through year-end 2012.

Note 4 – Securities

At September 30, 2011 and December 31, 2010, the Company had the following securities in its investment portfolio:

			Gross Unrealized
September 30, 2011 ($000's)	Fair Value		Gain		Loss
States and political subdivisions	$	3,892	$	77	$	0
Mortgage-backed securities		82,346		2,144		(2	)
Equity securities		4,285		181		0
Total securities available for sale	$	90,523	$	2,402	$	(2	)

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

			Gross Unrealized
December 31, 2010 ($000's)	Fair Value		Gains		Losses
U.S. Treasury	$	1,002	$	1	$	0
States and political subdivisions		3,997		75		(11	)
Mortgage-backed securities		82,648		273		(2,738	)
Other bonds		20		0		(114	)
Equity securities		4,163		31		0
Total securities available for sale	$	91,830	$	380	$	(2,863	)

The 2009 Restricted Stock Plan (the "Plan") authorizes the issuance of 400,000 shares of the Company's common stock to be issued in whole or in part from treasury shares or authorized and unissued shares not reserved for any other purpose. Awards under the Plan may be made to directors and employees of both the Company and its subsidiaries an d may consist of restricted stock with associated voting rights and the right to receive dividends. Awards may also be issued as stock units not having voting rights or the right to receive dividends until the terms of the award are satisfied and the shares of the Company's stock are actually issued; however, dividends may be credited to a restricted stock award. The terms and conditions of each award is set forth and described in an award agreement between the Company and the participant.

~~The~~In ~~Company~~January ~~sold~~2011, ~~mortgage-backed~~207,500 ~~securities~~shares ~~classified~~of asrestricted ~~available~~stock ~~for~~were ~~sale~~issued ~~during~~pursuant to the ~~quarter~~2009 ~~ended~~Restricted ~~September~~Stock ~~30,~~Plan ~~2011~~from ~~having~~the aCompany’s ~~carrying~~treasury ~~value~~stock. During the second and third quarters of ~~$19.6~~2011, ~~million~~employees, ~~and~~who ~~recognized~~left athe ~~$135~~Company, forfeited 2,000 ~~gain~~shares onof restricted stock, which were returned to treasury stock lowering the ~~sales~~total ~~and~~shares ~~received~~issued ~~$19.7~~pursuant ~~million~~to inthe ~~proceeds~~Plan to 205,500 shares. ~~Other~~Of ~~mortgage-backed~~the ~~securities~~80,000 ~~were~~shares ~~purchased~~issued to directors, 70,000 shares vested during the first quarter ~~totaling~~of ~~$19~~2011, while the remaining 10,000 shares fully vest in January 2013.8 A ~~million~~total ~~diversifying~~of ~~the~~125,500 ~~underlying~~restricted ~~collateral~~stock shares granted to employees of the Company’s ~~mortgage-backed~~will ~~securities~~fully ~~portfolio~~vest in January 2013. The expense attributable to these restricted stock awards recognized during the three months ended March 31, 2012 and 2011 totaled $30,000 and $152,000, respectively.

~~During~~Note ~~the~~4 ~~quarter~~– ended June 30, 2011, equity securities consisting of Federal National Mortgage Association (“FNMA”) preferred stock and Federal Home Loan Mortgage Corporation (“FHLMC”) preferred stock that had previously been totally written off were sold with the Company recognizing a gain of $142,000.Securities

~~During~~At ~~the~~March ~~first quarter of 2010~~31, ~~the~~2012 ~~Company sold securities classified as available for sale having a carrying value of $40.5 million for liquidity purposes~~ and ~~recognized~~December a31, ~~$653~~2011,~~000~~ ~~gain~~the ~~and~~Company ~~received~~had ~~$41.2~~the ~~million~~following ~~in proceeds. There were no other sales of~~ securities ~~during~~in ~~the~~its ~~second~~investment ~~and third quarters of 2010.~~portfolio:

At September 30, 2011, the Company had pledged securities of $68.7 million as compared to $59.0 million at December 31, 2010. Securities are pledged to secure public deposits, repurchase agreements and for other purposes as required or permitted by law.

			Gross Unrealized
March 31, 2012 ($000's)	Fair Value		Gain		Loss

States and political subdivisions	$	2,984	$	102	$	(8	)
Mortgage-backed securities		77,995		1,698		0
Equity securities		4,253		150		0

Total securities available for sale	$	85,232	$	1,950	$	(8	)

Contractual maturities of securities available for sale at September 30, 2011 are set forth below. Securities not due at a single maturity date, primarily mortgage-backed securities, are shown separately:

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

September 30, 2011 ($000's)	Fair Value
			Gross Unrealized
Due in one year or less	$	928
December 31, 2011 ($000's)	Fair Value		Gains		Losses
Due after one year through five year		530
States and political subdivisions	$	3,117	$	112	$	(10	)
Due after five years through ten years		1,299
Mortgage-backed securities		79,762		1,533		0
Due after ten years		1,135
Equity securities		4,261		157		0
		3,892
Total securities available for sale	$	87,140	$	1,802	$	(10	)
Mortgage-backed securities		82,346
Equity securities		4,285
Total securities available for sale	$	90,523

~~During~~At ~~the quarter ended~~ March 31, ~~2011~~2012, the Company ~~recognized~~had ~~$29,000~~pledged securities of ~~other~~$51.2 ~~than~~million ~~temporary~~as ~~impairment~~compared ~~loss~~to on$57.0 ~~the~~million ~~FNMA~~at ~~and~~December ~~FHLMC~~31, ~~preferred stocks writing off the remaining carrying value of these securities~~2011. Securities ~~These~~are ~~equity~~pledged ~~securities~~to ~~were~~secure ~~initially~~public ~~written~~deposits, ~~down~~repurchase ~~$2.0~~agreements ~~million~~and ~~during~~for ~~2008~~other ~~and~~purposes ~~$14,000~~as ~~during~~required ~~the~~or ~~third~~permitted ~~quarter~~by ~~of 2010~~law.

~~For~~Contractual ~~the~~maturities ~~quarter ended March 31, 2011, the Company recognized $134,000~~ of ~~impairment losses on CDOs classified as other bonds based on cash flow analyses pursuant to the current guidelines on recognition of impairment losses writing off the remaining carrying value on these~~ securities. ~~These~~available CDOs consisted of three securities having a combined original cost of $10.9 million; PreTSL XXII, PreTSL XXIV and PreTSL XXVII. The Company’s CDOs consist of various tranches of each security, with different tranches having various risk factors and repayment schedules, with an “A” tranche having the least risk and “D” and “Income Notes” having the highest risk. For PreTSL XXII, the Company’s tranche level is “Mezzanine Class C-2”. For PreTSL XXIV, the Company’s tranche level is “Mezzanine Class D” and for ~~PreTSL~~sale ~~XXVII,~~at ~~the Company’s tranche level is “Mezzanine Class C-1”. At~~ March 31, ~~2011,~~2012 ~~the~~are ~~cash~~set ~~flow~~forth ~~analysis~~below. ~~determined~~Securities ~~that~~not ~~these CDOs were fully other than temporarily impaired~~ due toat ~~the~~a ~~large~~single ~~percentages~~maturity ~~of issuers of the debt underlying the CDOs that were either in default or deferring payments on their debt payments. For the three months ended September 30~~date, ~~2010~~primarily ~~the~~mortgage-backed ~~Company recognized no other than temporary impairment losses on theses CDOs and for the nine months ended September 30~~securities, ~~2010,~~are ~~recognized~~shown ~~$645,000 of impairment losses on these CDOs.~~separately:

	Fair
March 31, 2012 ($000's)	Value

Due in one year or less	$	124
Due after one year through five years		544
Due after five years through ten years		1,167
Due after ten years		1,149
		2,984
Mortgage-backed securities		77,995
Equity securities		4,253

Total securities available for sale	$	85,232

During the quarter ended March 31, 2012, the Company did not recognize any other than temporary impairment loss as compared with $163,000 recognized during the quarter ended March 31, 2011. For the quarter ended March 31, 2011, the Company recognized $134,000 of impairment losses on Collateralized Debt Obligations ("CDOs") classified as other bonds based on cash flow analyses pursuant to guidelines on recognition of impairment losses and wrote off the remaining carrying value of these securities. The Company also recognized $29,000 of other than temporary impairment loss on its FNMA and FHLMC preferred stocks, writing off the remaining carrying value of these securities during the first quarter of 2011.

~~NORTHERN STATES FINANCIAL CORPORATION~~Index

~~NOTES~~At TOMarch ~~CONDENSED~~31, ~~CONSOLIDATED~~2012 ~~FINANCIAL~~and ~~STATEMENTS~~December 31, 2011, the Company had six and seven individual securities, respectively in an unrealized loss position. The securities with unrealized losses at March 31, 2012 and December 31, 2011, aggregated by investment category and length of time that individual securities have been in a continuous loss position, were as follows:

September 30, 2011

	Less than 12 Months					12 Months or More				Total
	Fair		Unrealized			Fair		Unrealized		Fair		Unrealized
March 31, 2012 ($000's)	Value		Losses			Value		Losses		Value		Losses

States and political subdivisions	$	817	$	(8	)	$	0	$	0	$	817	$	(8	)
Total temporarily impaired	$	817	$	(8	)	$	0	$	0	$	817	$	(8	)

(Unaudited)

	Less than 12 Months					12 Months or More				Total
	Fair		Unrealized			Fair		Unrealized		Fair		Unrealized
December 31, 2011 ($000's)	Value		Losses			Value		Losses		Value		Losses

States and political subdivisions	$	941	$	(10	)	$	0	$	0	$	941	$	(10	)
Total temporarily impaired	$	941	$	(10	)	$	0	$	0	$	941	$	(10	)

AtManagement ~~September~~has ~~30,~~the ~~2011,~~intent ~~there was one security~~ and atability ~~December~~to ~~31,~~hold ~~2010,~~these ~~there were ten~~ securities in an unrealized loss position~~. The~~ ~~securities~~for atthe ~~September~~foreseeable ~~30,~~future. ~~2011~~Management ~~and~~believes ~~December~~that ~~30,~~it ~~2010,~~is ~~with~~unlikely ~~unrealized~~that ~~losses,~~the ~~aggregated~~Company bywill ~~investment~~be ~~category~~required ~~and~~to ~~length~~sell ofthe ~~time that individual~~ securities ~~have~~while ~~been~~they are in aan ~~continuous~~unrealized loss position~~, were as follows:~~.

	Less than 12 Months					12 Months or More				Total
	Fair		Unrealized			Fair		Unrealized		Fair		Unrealized
September 30, 2011 ($000's)	Value		Losses			Value		Losses		Value		Losses
States and political subdivisions	$	421	$	(2	)	$	0	$	0	$	421	$	(2	)
Total temporarily impaired	$	421	$	(2	)	$	0	$	0	$	421	$	(2	)

	Less than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
December 31, 2010 ($000's)	Value		Losses			Value		Losses			Value		Losses
States and political subdivisions	$	779	$	(11	)	$	0	$	0		$	779	$	(11	)
Mortgage-backed securities		64,332		(2,738	)		0		0			64,332		(2,738	)
Other bonds		0		0			20		(114	)		20		(114	)
Total temporarily impaired	$	65,111	$	(2,749	)	$	20	$	(114	)	$	65,131	$	(2,863	)

At September 30, 2011, the Company does not intend to sell the security in an unrealized loss position and believes it is unlikely that the Company will be required to sell the security while it is in an unrealized loss position.

Note 5 – Subordinated Debentures

During September 2005, the Company issued $10.3 million of subordinated debentures to Northern States Statutory Trust I, a wholly-owned grantor trust, which in turn issued $10.3 million of trust preferred securities. The Company is required to hold $310,000 of the trust preferred securities as Common Securities while the remaining $10 million were issued as Capital Securities. The subordinated debentures mature in September 2035. ~~From~~ The ~~December 2005 until September 15, 2010, the~~ subordinated debentures ~~bore~~currently ~~interest at a rate equal to the sum of the product of 50% times the 3-month LIBOR plus 1.80%, plus the product of 50% times 6.186%. After September 15, 2010~~ and until maturity, ~~the subordinated debentures~~ bear an interest rate of the 3-month London Interbank Offered Rate (“LIBOR”) plus 1.80% adjusted quarterly. The rate on the subordinated debentures was 2.~~147~~27365% at ~~September~~March 3031, ~~2011~~2012, which is the effective rate from ~~September~~March 15, ~~2011~~2012 through ~~December~~June 14, ~~2011~~2012. For the three months ended ~~September~~March 3031, ~~2011~~2012 and ~~2010, interest expense on the subordinated debentures was $58,000 and $102,000, respectively. For the nine months ended September 30,~~ 2011 ~~and 2010~~, interest expense on the subordinated debentures was $~~172~~65,000 and $~~314~~57,000, respectively.

The Company has guaranteed the payment of distributions and payments upon liquidation or redemption of the trust preferred securities, in each case to the extent of funds held by the Trust. The Company and the Trust believe that, taken together, the obligations of the Company under the guarantee, the subordinated debentures, and other related agreements provide, in the aggregate, a full, irrevocable and unconditional guarantee, on a subordinated basis, of all of the obligations of the Trust under the trust preferred securities. Subject to certain limitations, the Company has the right to defer the payment of interest on the junior subordinated debentures at any time, or from time to time, for a period not to exceed 20 consecutive quarters. In November 2009, the Company notified the trustee that holds the Company’s junior subordinated debentures relating to its outstanding trust preferred securities that the Company would be deferring its regularly scheduled quarterly interest payments. The Company has continued to defer its quarterly interest payments through ~~September~~March 3031, ~~2011~~2012. As of ~~September~~March 3031, ~~2011~~2012, the Company had deferred ~~eight~~ten quarterly payments and accrued interest payable on the subordinated debentures totaled $~~682~~808,000. During the deferral period, the Company may not pay any dividends on its common or preferred stock. The trust preferred securities are subject to mandatory redemption, in whole or in part, upon repayment of the subordinated debentures at maturity or their earlier redemption. The subordinated debentures were callable at par beginning inon September 15, 2010 at the discretion of the Company if certain conditions are met, and in any event, only after the Company obtains Federal Reserve approval, if ~~then~~ required under applicable guidelines or regulations. Subject to certain exceptions, the Company may not without the consent of the Treasury Department engage in repurchases of the Company’s common stock or trust preferred securities until all shares of Series A Preferred Stock issued to the Treasury Department have been redeemed or transferred by the Treasury Department.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

Regulations allow bank holding companies and banks to include subordinated debentures, subject to some limitations, as a component of capital for the purpose of meeting certain regulatory requirements.

Note 6 – Allowance for Loan and Lease Losses and Credit Disclosures

The allowance for loan and lease losses (“ALLL”) is a valuation allowance for ~~potential~~probable incurred credit losses, increased by the provision for loan and lease losses and decreased by charge-offs net of recoveries. The ALLL represents one of the most significant estimates in the ~~Company~~Bank’s financial condition. Accordingly, the ~~Company~~Bank endeavors to provide a comprehensive and systematic approach for determining management’s current judgment about the credit quality of the loan portfolio.

At the end of each quarter, or more frequently if warranted, the ~~Company~~Bank analyzes its loan portfolio to determine the level of ALLL needed to be maintained. ~~This~~Management believes this analysis results in ~~what management believes is~~ a prudent, conservative ALLL that falls within an acceptable range of estimated credit losses. The ALLL covers estimated credit losses on individually evaluated loans that are determined to be impaired as well as estimated credit losses inherent in the remainder of the loan portfolio.

Senior management and other lenders review all Watch and Substandard credits to determine if a loan is impaired. A loan is considered impaired if it is probable that full principal and interest will not be collected within the contractual terms of the original note. For loans that are individually evaluated and determined to be impaired, the ~~Company~~Bank calculates the amount of impairment based on whether repayment of the loan is dependent on operating cash flow or on the underlying collateral. The decision of which method to use is determined by looking at a number of factors, including the size of the loan and other available information. If the loan is to be repaid primarily from the operating cash flow from the borrower, the impairment analysis calculates the present value of the expected future cash flows discounted at the loan’s effective interest rate and compares the result to the recorded investment. Collateral-dependent loans are measured against the fair value of the collateral less the costs to sell.

~~The~~As ~~remaining~~of ~~unimpaired~~December ~~loan~~31, ~~portfolio~~2011, ismanagement ~~segmented~~further ~~into~~refined ~~groups~~its ~~based~~methodology onfor ~~loan~~calculating ~~types~~the ~~having~~amount ~~similar~~in the ALLL by segregating a component of loans considered to be “high risk” ~~characteristics. Estimated~~but ~~loan~~lack ~~losses~~sufficient ~~for~~weakness ~~these~~to ~~groups~~be ~~are~~considered ~~determined~~impaired. ~~using~~These ~~historical~~loans ~~loss~~are ~~experience~~assigned ~~and~~a ~~adjusted~~specific ~~for~~percentage ~~other~~allocation, adjusted by environmental and qualitative factors ~~the~~management ~~Company~~believes ~~deems~~may ~~significant~~affect ~~that~~the ~~would~~repayment ~~likely~~of ~~cause~~these ~~estimated~~loans. The ~~credit~~impact ~~losses~~ to ~~differ~~the ~~from~~ALLL for the ~~group’s~~creation ~~historical~~of ~~loss~~this ~~experience~~additional pool of loans was not significant at December 31, 2011 and March 31, 2012.

~~Allocations~~The ofremaining ~~the~~unimpaired ~~ALLL~~loan ~~may~~portfolio beis ~~made~~segmented ~~for~~into ~~specific~~groups ~~loans~~based ~~and~~on ~~leases,~~loan ~~but~~types ~~the~~having ~~entire~~similar ~~allowance~~risk ischaracteristics. ~~available~~Estimated loan losses for ~~any~~these ~~loan~~groups orare ~~lease~~determined ~~that,~~using inhistorical ~~management’s~~loss ~~judgment,~~experience ~~should~~and beadjusted ~~charged-off. Loan~~for other environmental and ~~lease~~qualitative ~~losses~~factors ~~are~~the ~~charged~~Bank ~~against~~deems ~~the~~significant ~~allowance~~that ~~when~~would ~~management~~likely ~~believes~~cause ~~the~~estimated ~~uncollectability~~credit oflosses ato ~~loan~~differ orfrom ~~lease~~the ~~balance~~group’s ishistorical ~~confirmed~~loss experience.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

Allocations of the ALLL may be made for specific loans and leases, but the entire allowance is available for any loan or lease that, in management’s judgment, should be charged-off. Loan and lease losses are charged against the allowance when management believes the uncollectibility of a loan or lease balance is confirmed.

It is the Company’s policy to administer and pursue charged-off borrowers with the same diligence as other loans. Charging off an exposure is an accounting entry and does not affect the borrower’s obligation to repay the indebtedness. Administration of charged-off exposure is governed by maximization of recoveries, and borrowers will be pursued until, in the opinion of management, future costs of collection exceed probable future recoveries.

Activity in the allowance for loan and lease losses for the ~~nine~~three months ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011 is set forth below:

For the Nine Months Ended

Beginning

Ending

For the Three Months Ended

Beginning

Ending

September 30, 2011 ($000's)

Balance

Provision

Recoveries

Balance

March 31, 2012 ($000's)

Balance

Recoveries

Provision

Balance

Allowance

~~Charges to~~

to Loans

toCharges ~~Loans~~to

Allowance

for Loan

~~Operating~~Loans

~~Loans~~Previously

~~Previously~~Operating

for Loan

Losses

~~Expense~~Charged Off

Charged Off

~~Charged Off~~Expense

Losses

Commercial

~~1,013~~792

~~587~~(6

)

~~(911~~0

)

51326

~~740~~1,112

Real estate-construction

23,~~842~~149

(~~101~~1,228

)

~~(326~~0

)

0(68

)

21,~~415~~853

Real estate-mortgage 1-4 family

~~988~~865

(~~170~~76

)

~~(273~~1

)

363

~~548~~853

Real estate-mortgage 5+ family

1,~~025~~646

~~3,666~~0

~~(3,121~~0

)

068

1,~~570~~714

Real estate-mortgage commercial

1112,~~977~~018

~~1,644~~0

~~(1,117~~0

)

0689

12,~~504~~707

Home equity

~~468~~500

79(48

)

~~(32~~0

)

0321

~~515~~773

Leases

Installment

2314

(51

)

(40

)

1714

Total

18,~~336~~984

5(1,~~700~~359

)

~~(5,784~~1

)

571,400

1819,~~309~~026

For the Nine Months Ended

Beginning

Ending

For the Three Months Ended

Beginning

Ending

September 30, 2010 ($000's)

Balance

Provision

Recoveries

Balance

March 31, 2011 ($000's)

Balance

Recoveries

Provision

Balance

Allowance

~~Charges to~~

to Loans

toCharges ~~Loans~~to

Allowance

for Loan

~~Operating~~Loans

~~Loans~~Previously

~~Previously~~Operating

for Loan

Losses

~~Expense~~Charged Off

Charged Off

~~Charged Off~~Expense

Losses

Commercial

~~516~~1,013

~~(126~~0

)

~~(120~~4

)

~~118~~182

~~388~~1,199

Real estate-construction

2,~~591~~842

~~779~~(1

)

~~(1,765~~0

)

0(567

)

12,~~605~~274

Real estate-mortgage 1-4 family

~~725~~988

(~~369~~254

)

0(18

)

~~356~~716

Real estate-mortgage 5+ family

~~799~~1,025

~~(359~~0

)

(30

)

0884

~~437~~1,909

Real estate-mortgage commercial

1211,~~138~~977

~~4,003~~(750

)

~~(4,782~~0

)

0721

11,~~359~~948

Home equity

~~1,241~~468

~~222~~0

~~(1,276~~0

)

0(3

)

~~187~~465

Leases

~~379~~0

~~(306~~0

)

730

Installment

1723

39(4

)

~~(28~~1

)

3421

Total

18,~~027~~336

4(1,~~568~~009

)

~~(8,280~~5

)

~~124~~1,200

1418,~~439~~532

Nonaccrual Loans: Accrual of uncollectible income on problem loans inflates income and, if recognized in an untimely fashion, can have a dramatic negative impact on earnings. Any loan meeting one of the following criteria is placed in a nonaccrual status and all related interest earned but not collected is reversed:

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The loan is maintained on a cash basis because of deterioration in the financial condition of the borrower.

The borrower is in bankruptcy and the exposure is not fully secured and in the process of collection.

Full payment of principal or interest is not expected.

The loan has been in default for a period of ninety (90) days or more unless the asset is both well secured and in the process of collection.

Loans meeting any of the criteria above may be exempted from this policy if unanimously agreed upon and duly documented by the Directors’ Loan Committee. In general, all accrued and earned but not collected interest on an exposure placed on nonaccrual status is charged-off to income. A loan may be returned to accrual status when at least six (6) consecutive months of timely payments have been received and there is evidence to support the payments will continue.

~~Interest~~The ~~received~~Company ~~on nonaccrual loans~~ is ~~accounted~~attempting ~~for~~to onwork ~~either~~with ~~the~~nonaccrual ~~cost~~borrowers ~~recovery~~to orresolve the ~~cash-basis~~issues, ~~until~~but ~~qualifying~~in ~~for~~many ~~return~~cases tothe ~~accrual~~Company ~~status. Loans~~ may behave ~~returned~~ to ~~accrual~~foreclose ~~status~~on ~~when~~the atproperties ~~least~~securing ~~six~~these ~~months~~loans ofif ~~timely~~the ~~payments~~loans ~~have~~are ~~been~~secured ~~received~~by ~~and~~real ~~there is evidence to support that payments will most likely continue~~estate.

Troubled Debt Restructuring: Restructuring of loans is undertaken to improve the likelihood that the loan will be repaid in full under the modified terms in accordance with a reasonable repayment schedule. All ~~modified~~restructured loans are evaluated to determine whether the loans should be reported as a ~~Troubled Debt Restructure (“~~TDR”). A loan is a TDR when the Company, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower by modifying or renewing a loan that the Company would not otherwise consider. To make this determination the ~~Company~~Bank must determine whether (a) the borrower is experiencing financial difficulties and (b) the Company granted the borrower a concession. This determination requires consideration of all of the facts and circumstances surrounding the modification. An overall general decline in the economy or some deterioration in a borrower’s financial condition does not automatically mean the borrower is experiencing financial difficulties.

Some of the factors toreviewed ~~review~~ to determine whether the borrower is experiencing financial difficulties are: 1) Isis the borrower currently in default on any of its debts; 2) ~~Has~~has the borrower declared or in the process of declaring bankruptcy; or 3) ~~Absent~~absent the current modification, would the borrower ~~would~~ more than likely default. Factors to consider in determining whether the Company has granted a concession include: lowering the interest rate, extending the maturity date, forgiving debt, reducing accrued interest or changing the payment to interest only for an extended period of time.

Some of the factors to consider in determining whether the Bank has granted a concession include: 1) interest rate concession; 2) extension of maturity date; 3) forgiveness of debt; 4) reduction of accrued interest; 5) interest only for an extended period.

A restructured loan that yields a market rate and on which the borrower is in compliance with the loan’s modified terms may not need to be reported as a TDR for regulatory reporting purposes in calendar years after the year in which the restructuring took place but may need to be reported as restructured for financial reporting purposes. In determining whether the rate is a market rate, the Company analyzes the borrower’s current financial condition and compares the rate on the modified loan to rates the Company would charge borrowers with similar financial characteristics on similar types of loans.

Loan Rating System: Senior management and the Bank’s lenders use a loan rating system to determine the credit risks of the Bank’s loan and leases with the following loan ratings:

Pass: A Pass loan has no apparent weaknesses.

Watch: A Watch loan has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the Bank’s credit position at some future date. Loan collection is not in jeopardy yet, but continued adverse trends may cause it to be. Typical characteristics of Watch assets include: increasing debt; liquidity problems; negative trends in operating cash flow; collateral dependent with advances outside policy guidelines; and/or sporadic payment performance.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

For regulatory purposes, a restructured loan classified as a TDR need not continue to be reported as such in calendar years after the year in which the restructuring took place if the loan yields a market rate and is in compliance with the loan’s modified terms. In determining whether the rate is a market rate the Company considers the riskiness of the transaction, the structure of the loan, the borrower’s financial condition, financial support of the guarantor and protection provided by the collateral. The Company also considers rates given to other borrowers for similar loans as well as what competitors are offering. To be in compliance with the modified loan terms the borrower should demonstrate the ability to repay under the modified terms for a period of at least six months and provide evidence to support that payments will continue.

Loan Rating System: Senior management and the Bank’s lenders use a loan rating system to determine the credit risks of the Bank’s loan and leases with the following loan ratings:

Pass: A Pass loan has no apparent weaknesses.

Substandard: A Substandard loan is inadequately protected by the current sound net worth and paying capacity of the borrower or of the collateral pledged, if any. These loans have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt and have a distinct possibility that the Company may sustain some loss if the deficiencies are not corrected.

Nonaccrual: Loans in this category have the same characteristics as those classified Substandard with the added characteristic that further erosion in the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable. The likelihood of loss is yet to be fully determined due to the borrower’s inability or refusal to provide updated financial information, appraisals or additional collateral.

Doubtful: Loans in this category have the weaknesses of those classified Substandard where collection and/or liquidation in full, on the basis of currently existing conditions, is highly questionable or improbable. Treatment as “loss” is deferred until exact status can be determined.

Loss: Loans classified loss are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value, but rather it is not practical or desirable to defer writing off this basically worthless loan even though partial recovery may be affected in the future.

Below shows the allocation of the allowance for loan and lease losses by segment to loans and leases individually and collectively evaluated for impairment:

					Allowance				Allowance
					for Loan				for Loan
					Losses				Losses
	Ending				Allocated to				Allocated to
	Balance		Loans		Loans		Loans		Loans
`	Total		Individually		Individually		Collectively		Collectively
	Loans		Evaluated		Evaluated		Evaluated		Evaluated
	and		for		for		for		for
At September 30, 2011 ($000's)	Leases		Impairment		Impairment		Impairment		Impairment
Commercial	$	17,120	$	868	$	28	$	16,252	$	712
Real estate-construction		29,557		12,389		1,594		17,168		821
Real estate-mortgage 1-4 family		37,109		6,036		248		31,073		300
Real estate-mortgage 5+ family		34,710		3,990		0		30,720		1,570
Real estate-mortgage commercial		208,167		65,135		9,342		143,032		3,162
Home equity		22,629		1,846		301		20,783		214
Leases		332		0		0		332		0
Installment		1,525		7		0		1,518		17
Balance at September 30, 2011	$	351,149	$	90,271	$	11,513	$	260,878	$	6,796

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

					Allowance				Allowance
					for Loan				for Loan
					Losses				Losses
	Ending				Allocated to				Allocated to
	Balance		Loans		Loans		Loans		Loans
	Total		Individually		Individually		Collectively		Collectively
	Loans		Evaluated		Evaluated		Evaluated		Evaluated
	and		for		for		for		for
At December 31, 2010 ($000's)	Leases		Impairment		Impairment		Impairment		Impairment
Commercial	$	20,927	$	1,570	$	614	$	19,357	$	399
Real estate-construction		29,776		11,711		2,070		18,065		772
Real estate-mortgage 1-4 family		41,228		5,737		441		35,491		547
Real estate-mortgage 5+ family		44,021		8,594		491		35,427		534
Real estate-mortgage commercial		223,546		51,116		6,579		172,430		5,398
Home equity		23,392		1,816		274		21,576		194
Leases		442		0		0		442		0
Installment.		1,807		8		0		1,799		23
Balance at December 31, 2010	$	385,139	$	80,552	$	10,469	$	304,587	$	7,867

Below shows the allocation of the allowance for loan and lease losses by segment to loans and leases individually and collectively evaluated for impairment:

Below shows the age analysis of the past due loans and leases by segment and class at September 30, 2011 and December 31, 2010:

					Allowance				Allowance
					for Loan				for Loan
					Losses				Losses
	Ending				Allocated to				Allocated to
	Balance		Loans		Loans		Loans		Loans
`	Total		Individually		Individually		Collectively		Collectively
	Loans		Evaluated		Evaluated		Evaluated		Evaluated
	and		for		for		for		for
At March 31, 2012 ($000's)	Leases		Impairment		Impairment		Impairment		Impairment

Commercial	$	15,523	$	647	$	612	$	14,876	$	500
Real estate-construction		27,811		14,262		956		13,549		897
Real estate-mortgage 1-4 family		34,155		4,264		368		29,891		485
Real estate-mortgage 5+ family		35,621		3,983		0		31,638		1,714
Real estate-mortgage commercial		181,610		53,766		9,394		127,844		3,313
Home equity		20,740		761		345		19,979		428
Leases		259		0		0		259		0
Installment		1,355		0		0		1,355		14

Balance at March 31, 2012	$	317,074	$	77,683	$	11,675	$	239,391	$	7,351

					Allowance				Allowance
					for Loan				for Loan
					Losses				Losses
	Ending				Allocated to				Allocated to
	Balance		Loans		Loans		Loans		Loans
	Total		Individually		Individually		Collectively		Collectively
	Loans		Evaluated		Evaluated		Evaluated		Evaluated
	and		for		for		for		for
At December 31, 2011 ($000's)	Leases		Impairment		Impairment		Impairment		Impairment

Commercial	$	15,827	$	655	$	273	$	15,172	$	519
Real estate-construction		28,504		6,876		2,044		21,628		1,105
Real estate-mortgage 1-4 family		35,758		5,163		396		30,595		469
Real estate-mortgage 5+ family		35,977		3,987		0		31,990		1,646
Real estate-mortgage commercial		183,881		54,074		8,561		129,807		3,457
Home equity		21,266		443		141		20,823		359
Leases		295		0		0		295		0
Installment		1,476		0		0		1,476		14

Balance at December 31, 2011	$	322,984	$	71,198	$	11,415	$	251,786	$	7,569

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

													Greater
													Than
													90 Days Past
At September 30, 2011 ($000's)							Greater				Total		Due and
			30-59 Days		60-89 Days		Than 90 Days		Total		Loans and		Still
	Current		Past Due		Past Due		Past Due		Past Due		Leases		Accruing
Commercial	$	16,415	$	41	$	0	$	664	$	705	$	17,120	$	172
Real estate-construction
1-4 family		9,403		0		600		7,225		7,825		17,228		4,383
Other		11,529		66		0		734		800		12,329		0
Real estate-mortgage
1-4 family		34,306		288		327		2,188		2,803		37,109		299
Real estate-mortgage
5+ family		30,720		0		0		3,990		3,990		34,710		0
Real estate-mortgage commercial
Owner occupied		54,704		0		1,620		12,692		14,312		69,016		3,024
Non-owner occupied		73,866		0		690		3,050		3,740		77,606		2,420
Hotel industry		53,356		0		0		8,189		8,189		61,545		2,733
Home equity		20,734		83		410		1,402		1,895		22,629		126
Leases		332		0		0		0		0		332		0
Installment		1,468		26		15		16		57		1,525		15
Balance at September 30, 2011	$	306,833	$	504	$	3,662	$	40,150	$	44,316	$	351,149	$	13,172

Below shows the age analysis of the past due loans and leases by segment and class at March 31, 2012 and December 31, 2011:

Greater

Than

90 Days Past

At December 31, 2010 ($000's)

Greater

Total

Due and

At March 31, 2012 ($000's)

Greater

Total

Due and

30-59 Days

60-89 Days

Than 90 Days

Total

Loans and

Still

Current

Past Due

Leases

Accruing

Commercial

2014,~~178~~889

7892

~~158~~0

~~513~~542

~~749~~634

2015,~~927~~523

~~513~~0

Real estate-construction

1-4 family

149,~~234~~824

060

25,~~886~~953

26,~~886~~013

1715,~~120~~837

04,230

Other

10,~~263~~022

068

~~1,184~~0

1,~~209~~884

21,~~393~~952

1211,~~656~~974

Real estate-mortgage

1-4 family

3632,~~416~~070

~~894~~548

~~1,236~~108

21,~~682~~429

42,~~812~~085

4134,~~228~~155

~~130~~474

Real estate-mortgage

5+ family

3530,~~426~~445

~~164~~1,193

83,~~431~~983

85,~~595~~176

4435,~~021~~621

Real estate-mortgage commercial

Owner occupied

6552,~~485~~887

~~749~~603

~~2,181~~0

~~414~~7,901

38,~~344~~504

6861,~~829~~391

050

Non-owner occupied

8470,~~353~~388

0951

~~272~~0

12,~~596~~081

13,~~868~~032

8673,~~221~~420

~~296~~1,057

Hotel industry

6246,~~072~~799

~~6,424~~0

6846,~~496~~799

Home equity

2119,~~487~~552

73431

~~300~~58

~~1,532~~699

1,~~905~~188

2320,~~392~~740

~~172~~0

Leases

~~442~~259

Installment

1,~~756~~319

1321

3015

5136

1,~~807~~355

3015

Balance at December 31, 2010

352,112

1,971

5,339

25,717

33,027

385,139

1,141

Balance at March 31, 2012

288,454

3,967

166

24,487

28,620

317,074

5,826

													Greater
													Than
													90 Days Past
At December 31, 2011 ($000's)							Greater				Total		Due and
			30-59 Days		60-89 Days		Than 90 Days		Total		Loans and		Still
	Current		Past Due		Past Due		Past Due		Past Due		Leases		Accruing

Commercial	$	15,273	$	6	$	0	$	548	$	554	$	15,827	$	0
Real estate-construction
1-4 family		14,084		0		0		2,716		2,716		16,800		152
Other		9,820		0		0		1,884		1,884		11,704		0
Real estate-mortgage
1-4 family		32,539		1,672		284		1,263		3,219		35,758		0
Real estate-mortgage
5+ family		32,227		0		0		3,750		3,750		35,977		0
Real estate-mortgage commercial
Owner occupied		53,911		265		471		7,850		8,586		62,497		0
Non-owner occupied		73,162		575		227		450		1,252		74,414		0
Hotel industry		46,970		0		0		0		0		46,970		0
Home equity		20,288		206		71		701		978		21,266		322
Leases		295		0		0		0		0		295		0
Installment		1,442		15		3		16		34		1,476		16

Balance at December 31, 2011	$	300,011	$	2,739	$	1,056	$	19,178	$	22,973	$	322,984	$	490

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The Company utilizes a loan rating system as a means of identifying problem and potential loans. Below shows the loan ratings of loans and leases by segment and class at ~~September~~March 3031, ~~2011~~2012 and December 31, ~~2010~~2011:

At September 30, 2011 ($000's)

Pass

Watch

Substandard

Nonaccrual

Total

At March 31, 2012 ($000's)

Pass

Watch

Substandard

Nonaccrual

Total

Commercial

1412,~~893~~247

12,~~359~~622

~~376~~112

~~492~~542

1715,~~120~~523

Real estate-construction

1-4 Family

2,~~493~~222

~~4,230~~168

711,~~662~~724

21,~~843~~723

1715,~~228~~837

Other

~~891~~490

92,~~554~~647

16,~~150~~953

~~734~~1,884

1211,~~329~~974

Real estate-mortgage 1-4 family

2625,~~222~~007

45,~~851~~020

43,~~148~~174

~~1,888~~954

3734,~~109~~155

Real estate-mortgage 5+ family

24,~~310~~783

6,~~410~~855

3,~~990~~983

3435,~~710~~621

Real estate-mortgage commercial

Owner occupied

3630,~~089~~827

1512,~~220~~838

89,~~039~~876

97,~~668~~850

6961,~~016~~391

Non-owner occupied

4240,~~848~~545

2017,~~910~~984

13,~~218~~866

~~630~~1,025

7773,~~606~~420

Hotel industry

183,~~170~~754

9,~~795~~219

2833,~~124~~826

~~5,456~~0

6146,~~545~~799

Home equity

1918,~~990~~556

793

~~505~~628

~~1,341~~763

2220,~~629~~740

Leases

~~276~~259

560

~~332~~259

Installment

1,~~518~~355

1,~~525~~355

Balance at September 30, 2011

187,700

73,178

63,228

27,043

351,149

Balance at March 31, 2012

160,045

58,146

80,159

18,724

317,074

At December 31, 2010 ($000's)

Pass

Watch

Substandard

Nonaccrual

Total

At December 31, 2011 ($000's)

Pass

Watch

Substandard

Nonaccrual

Total

Commercial

1712,~~470~~587

12,~~887~~247

~~1,570~~445

0548

2015,~~927~~827

Real estate-construction

1-4 Family

62,~~587~~345

14,~~181~~230

67,~~466~~662

2,~~886~~563

1716,~~120~~800

Other

~~557~~277

96,~~740~~602

12,~~150~~941

1,~~209~~884

1211,~~656~~704

Real estate-mortgage 1-4 family

3025,~~356~~430

54,~~135~~968

34,~~185~~097

21,~~552~~263

4135,~~228~~758

Real estate-mortgage 5+ family

25,~~341~~105

106,~~086~~885

83,~~594~~987

4435,~~021~~977

Real estate-mortgage commercial

Owner occupied

3931,~~757~~778

1712,~~282~~211

910,~~985~~186

18,~~805~~322

6862,~~829~~497

Non-owner occupied

5241,~~509~~096

2920,~~034~~031

312,~~378~~837

~~1,300~~450

8674,~~221~~414

Hotel industry

193,~~207~~784

149,~~641~~358

2833,~~224~~828

~~6,424~~0

6846,~~496~~970

Home equity

2019,~~783~~527

~~793~~792

~~457~~504

~~1,359~~443

2321,~~392~~266

Leases

~~358~~247

8448

~~442~~295

Installment

1,~~799~~476

1,~~807~~476

Balance at December 31, 2010

214,724

89,863

54,423

26,129

385,139

Balance at December 31, 2011

163,652

67,372

72,500

19,460

322,984

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The following tables present loans and leases by segment and class individually evaluated for impairment at ~~September~~March 3031, ~~2011~~2012 and December 31, ~~2010~~2011 and the average recorded investment and investment income recognized for the ~~nine~~three months ended ~~September~~March 3031, ~~2011~~2012 ~~with~~and for the ~~recorded~~year ~~investment~~ended ~~shown~~December ~~net~~31, ~~of specific allocation~~2011:

September 30, 2011 ($000s)

Unpaid

Average

Investment

($000's)

For the Three Months

At March 31. 2012

Ended March 31, 2012

Unpaid

Average

Investment

Recorded

Principal

Recorded

Income

Investment

Balance

Allowance

Investment

Recognized

With no related allowance recorded:

Commercial

~~366~~0

~~111~~0

Real estate-construction

1-4 family

25,~~864~~953

27,~~864~~181

23,~~743~~693

830

Other

~~734~~4,746

26,~~468~~479

12,~~099~~071

Real estate-mortgage 1-4 family

32,~~816~~072

41,~~422~~897

~~124~~13

Real estate-mortgage 5+ family

3,~~990~~983

93,~~314~~984

380

Real estate-mortgage commercial

Owner occupied

63,~~565~~879

54,~~955~~193

~~103~~41

Non-owner occupied

84,~~131~~403

74,~~581~~085

~~271~~33

Hotel industry

56,~~898~~151

6,~~102~~153

~~247~~74

Home equity

~~114~~30

~~104~~63

Leases

Installment

With an allowance recorded:

Commercial

~~474~~647

1,~~263~~408

28612

~~584~~652

Real estate-construction

1-4 family

62,~~119~~413

72,~~641~~413

~~1,522~~873

62,~~058~~413

~~137~~27

Other

1,~~078~~150

1,150

7283

1,~~114~~150

280

Real estate-mortgage 1-4 family

12,~~972~~192

2,~~220~~192

~~248~~368

12,~~792~~326

5114

Real estate-mortgage 5+ family

Real estate-mortgage commercial

Owner occupied

710,~~325~~916

10,~~813~~916

3,~~488~~135

710,~~190~~919

7539

Non-owner occupied

138,~~574~~661

148,~~214~~661

~~433~~585

128,~~024~~662

~~404~~93

Hotel industry

1419,~~300~~756

2223,~~697~~355

5,~~421~~674

1519,~~725~~756

~~444~~193

Home equity

~~1,431~~731

~~1,732~~731

~~301~~345

~~1,461~~561

170

Leases

Installment

Total:

Commercial

~~840~~647

1,~~629~~408

28612

~~695~~652

Real estate-construction

1014,~~795~~262

1417,~~123~~223

~~1,594~~956

119,~~014~~327

~~248~~27

Real estate-mortgage 1-4 family

54,~~788~~264

64,~~036~~264

~~248~~368

64,~~214~~223

~~175~~27

Real estate-mortgage 5+ family

3,~~990~~983

93,~~314~~984

380

Real estate-mortgage commercial

5553,~~793~~766

6857,~~318~~365

9,~~342~~394

5453,~~577~~768

~~1,544~~473

Home equity

~~1,545~~761

~~1,846~~761

~~301~~345

~~1,565~~624

180

Leases

Installment

Total at September 30, 2011

78,758

95,949

11,513

83,386

2,025

Total

77,683

85,004

11,675

72,578

527

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

At December 31, 2010 ($ 000's)			Unpaid
($000's)							For the Year
	Recorded		Principal		Related
	At December 31. 2011						Ended December 31, 2011
	Investment		Balance		Allowance
			Unpaid				Average		Investment
With no related allowance recorded:
	Recorded		Principal		Related		Recorded		Income
Commercial	$	35	$	35	$	0
	Investment		Balance		Allowance		Investment		Recognized
Real estate-construction
With no related allowance recorded:
1-4 family		1,680		1,680		0
Commercial	$	0	$	0	$	0	$	152	$	0
Other		734		2,468		0
Real estate-construction
Real estate-mortgage 1-4 family		3,454		3,454		0
1-4 family		34		34		0		4,607		176
Real estate-mortgage 5+ family		7,172		7,172		0
Other		734		2,468		0		1,109		0
Real estate-mortgage commercial
Real estate-mortgage 1-4 family		2,039		2,039		0		3,391		96
Owner occupied		2,971		2,971		0
Real estate-mortgage 5+ family		3,987		3,987		0		8,856		38
Non-owner occupied		1,768		1,768		0
Real estate-mortgage commercial
Hotel industry		5,947		5,947		0
Owner occupied		5,254		5,254		0		6,333		185
Home equity		525		525		0
Non-owner occupied		3,927		3,927		0		10,281		408
Leases		0		0		0
Hotel industry		3,034		3,034		0		2,758		132
Installment		8		8		0
Home equity		30		30		0		67		20
With an allowance recorded:
Leases		0		0		0		0		0
Commercial		921		1,535		614
Installment		0		0		0		0		0
Real estate-construction
With an allowance recorded:
1-4 family		5,771		7,673		1,902
Commercial		655		1,416		273		1,026		1
Other.		1,456		1,624		168
Real estate-construction
Real estate-mortgage 1-4 family		1,842		2,282		441
1-4 family		4,958		4,958		1,960		4,861		103
Real estate-mortgage 5+ family		931		1,422		491
Other		1,150		1,150		84		1,150		22
Real estate-mortgage commercial
Real estate-mortgage 1-4 family		3,124		3,124		396		2,899		131
Owner occupied		7,391		8,369		978
Real estate-mortgage 5+ family		0		0		0		0		0
Non-owner occupied		3,121		3,567		239
Real estate-mortgage commercial
Hotel industry		23,339		31,677		5,362
Owner occupied		10,319		10,319		2,974		9,549		97
Home equity		1,017		1,291		274
Non-owner occupied		746		746		458		746		2
Leases		0		0		0
Hotel industry		30,794		34,393		5,129		31,523		1,139
Installment		0		0		0
Home equity		413		413		141		1,621		2
Total:
Leases		0		0		0		0		0
Commercial	$	956	$	1,570	$	614
Installment		0		0		0		6		1
Real estate-construction		9,641		13,445		2,070
Total:
Real estate-mortgage 1-4 family		5,296		5,736		441
Commercial	$	655	$	1,416	$	273	$	1,178	$	1
Real estate-mortgage 5+ family		8,103		8,594		491
Real estate-construction		6,876		8,610		2,044		11,727		301
Real estate-mortgage commercial		44,537		54,299		6,579
Real estate-mortgage 1-4 family		5,163		5,163		396		6,290		227
Home equity		1,542		1,816		274
Real estate-mortgage 5+ family		3,987		3,987		0		8,856		38
Leases		0		0		0
Real estate-mortgage commercial		54,074		57,673		8,561		61,190		1,963
Installment		8		8		0
Home equity		443		443		141		1,688		22
Total at December 31, 2010	$	70,083	$	85,468	$	10,469
Leases		0		0		0		0		0
Installment		0		0		0		6		1
Total	$	71,198	$	77,292	$	11,415	$	90,935	$	2,553

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The following table presents the number of loans and leases modified as TDRs by segment and class during the three ~~and~~month ~~nine~~period ~~months periods~~ ended ~~September~~March 3031, ~~2011~~2012, the outstanding recorded balances at the time modified and the outstanding recorded investment balances at ~~September~~March 3031, ~~2011~~2012:

($000's)	Loans Modified as Trouble Debt Restructures
At March 31, 2012 ($000's)	Troubled Debt Restructurings
	During the 3 Months Ended						During the 9 Months Ended
			Pre-Modification		Post-Modification
	September 30, 2011						September 30, 2011
			Outstanding		Outstanding
			Pre-Modification		Post-Modification				Pre-Modification		Post-Modification
	Number of		Recorded		Recorded
			Outstanding		Outstanding				Outstanding		Outstanding
Troubled Debt Restructurings	Loans		Investment		Investment
	Number of		Recorded		Recorded		Number of		Recorded		Recorded
Commercial		1	$	109	$	106
	Loans		Investment		Investment		Loans		Investment		Investment
Real estate-construction
Commercial		0	$	0	$	0		0	$	0	$	0
1-4 family		2		4,230		4,230
Real estate-construction
Other		1		4,012		4,012
1-4 family		0		0		0		2		1,177		1,175
Real estate-mortgage 1-4 family		13		1,777		1,770
Other		0		0		0		0		0		0
Real estate-mortgage 5+ family		0		0		0
Real estate-mortgage
Real estate-mortgage commercial
1-4 family		0		0		0		14		1,518		1,440
Owner occupied		5		4,909		4,895
Real estate-mortgage
Non-owner occupied		2		2,755		2,753
5+ family		0		0		0		0		0		0
Hotel industry		1		5,433		5,500
Real estate-mortgage commercial
Home equity		0		0		0
Owner occupied		0		0		0		7		3,574		3,438
Leases		0		0		0
Non-owner occupied		0		0		0		3		2,848		2,755
Installment		0		0		0
Hotel industry		0		0		0		0		0		0
Total		25	$	23,225	$	23,266
Home equity		0		0		0		0		0		0
Leases		0		0		0		0		0		0
Installment		0		0		0		0		0		0
At September 30, 2011		0	$	0	$	0		26	$	9,117	$	8,808

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The following table presents the number of loans and leases modified as TDRs by segment and class during the ~~previous~~ twelve ~~months~~month period ended March 31, 2012 that subsequently defaulted during the three ~~and~~month ~~nine~~period ~~months periods~~ ended ~~September~~March 3031, ~~2011and~~2012 and the outstanding recorded investment balance at ~~September~~March 3031, ~~2011~~2012. For disclosure in this table, defaulted TDRs are those TDR loans greater than 90 days or more past due and still accruing or on nonaccrual status.

($000's)	Trouble Debt Restructure Loans Modified in Past 12 Months that Subsequently Defaulted
March 31, 2012 ($000s)	Troubled Debt Restructurings that Subsequently Defaulted
	During the 3 Months Ended				During the 9 Months Ended
Troubled Debt Restructurings	Number of Loans		Recorded Investment
	September 30, 2011				September 30, 2011
Commercial		0	$	0
	Number of		Recorded		Number of		Recorded
Real estate-construction
	Loans		Investment		Loans		Investment
1-4 Family		2		4,230
Commercial		0	$	0		0	$	0
Other		0		0
Real estate-construction
Real estate-mortgage 1-4 family		0		0
1-4 family		0		0		0		0
Real estate-mortgage 5+ family		0		0
Other		0		0		0		0
Real estate-mortgage commercial
Real estate-mortgage 1-4 family		0		0		3		708
Owner occupied		1		412
Real estate-mortgage 5+ family		0		0		0		0
Non-owner occupied		0		0
Real estate-mortgage commercial
Hotel industry		0		0
Owner occupied		0		0		4		3,937
Home equity		0		0
Non-owner occupied		0		0		0		0
Leases		0		0
Hotel industry		0		0		0		0
Installment		0		0
Home equity		0		0		0		0
Total at March 31, 2012		3	$	4,642
Leases.		0		0		0		0
Installment		0		0		0		0
At September 30, 2011		0	$	0		7	$	4,645

Note 7 - Fair Value Measurement

Below shows information about the Company's securities that were measured at fair value and the valuation techniques used by the Company to determine fair values.

In general, fair values determined by Level 1 inputs use a quoted price in active markets for identical securities that the Company had the ability to access.

Fair values determined by Level 2 inputs use other inputs that are observable, either directly or indirectly. These Level 2 inputs include quoted prices for similar securities in active markets, and other input such as interest rates and yield curves that are observable at commonly quoted intervals.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

Note 7 - Fair Value Measurement

The table below shows information about the Company's securities that were measured at fair value and the valuation techniques used by the Company to determine fair values.

In general, fair values determined by Level 1 inputs use a quoted price in active markets for identical securities that the Company had the ability to access.

Level 3 inputs are unobservable inputs, including inputs that are available in situations where there is little, if any, market activity for the related securities.

In instances where inputs used to measure fair value fall into different levels in the above fair value hierarchy, fair value measurements in their entirety are categorized based on the lowest input that is significant to the valuation. The Company's assessment of the significance of particular inputs to these fair value measurements requires judgment and considers factors specific to each security.

On an annual basis the Company validates the measurement of the fair values of its securities with an independent securities valuation firm. This independent securities valuation firm determines the fair values of the securities portfolio that is then compared to the fair value using the methods outlined ~~above~~. When this validation was last done on September 30, ~~2010~~2011, the difference between the fair value reported and the fair value determined by the independent securities valuation firm was considered immaterial.

Securities Available for Sale ($000's)			Fair Value Measurements at Reporting Date Using
			Quoted Prices
			in Active		Significant
			Markets for		Other		Significant
			Identical		Observable		Unobservable
			Assets		Inputs		Inputs
	Total		(Level 1)		(Level 2)		(Level 3)
States and political subdivisions	$	3,892	$	0	$	3,892	$	0
Mortgage-backed securities		82,346		0		82,346		0
Equity securities		4,285		4,285		0		0
At September 30, 2011	$	90,523	$	4,285	$	86,238	$	0
U.S. Treasury	$	1,002	$	1,002	$	0	$	0
States and political subdivisions		3,997		0		3,997		0
Mortgage-backed securities		82,648		0		82,648		0
Other bonds		20		0		0		20
Equity securities		4,163		4,163		0		0
At December 31, 2010	$	91,830	$	5,165	$	86,645	$	20

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The Company's change in Level 3 securities measured at fair value on a recurring basis was as follows:

Securities Available for Sale ($000's)			Fair Value Measurements at Reporting Date Using
			Quoted Prices
			in Active		Significant
			Markets for		Other		Significant
			Identical		Observable		Unobservable
			Assets		Inputs		Inputs
	Total		(Level 1)		(Level 2)		(Level 3)

States and political subdivisions	$	2,984	$	0	$	2,167	$	817
Mortgage-backed securities		77,995		0		77,995		0
Equity securities		4,253		4,253		0		0
At March 31, 2012	$	85,232	$	4,253	$	80,162	$	817

States and political subdivisions	$	3,117	$	0	$	2,172	$	945
Mortgage-backed securities		79,762		0		79,762		0
Equity securities		4,261		4,261		0		0
At December 31, 2011	$	87,140	$	4,261	$	81,934	$	945

	Securities
	Available
	for Sale ($000's)
Balance at December 31, 2010	$	20
Total realized and unrealized gains (losses) included in income		(163	)
Total unrealized gains (losses) included in other comprehensive income		143
Net purchase, sales, calls and maturities		0
Net transfer into Level 3		0
Balance at September 30, 2011	$	0

	Securities
	Available
	for Sale ($000's)
Balance at December 31, 2009	$	37
Total realized and unrealized gains (losses) included in income		(659	)
Total unrealized gains (losses) included in other comprehensive income		627
Net purchase, sales, calls and maturities		0
Net transfer into Level 3		0
Balance at September 30, 2010	$	5

The Company used accounting guidelines to determine other than temporary impairment losses on its Collateralized Debt Obligations ("CDOs") as the fair value of these securities was not readily determinable by the market. The impairment losses on the CDOs were due to defaults and deferrals of payments by the financial institutions and insurance companies that issued the debt underlying the securities. During the quarter ended March 31, 2011, the Company used cash flow analyses on its CDOs to determine other than temporary impairment losses of $134,000, fully writing off the remaining book value of these CDOs.

During the first quarter of 2011, the Company had a write-down of $29,000 to its equity securities consisting of preferred stock issued by the Federal National Mortgage Association (“FNMA”) and Federal Home Loan Mortgage Corporation (“FHLMC”), eliminating the remaining balance of these securities. These securities were later sold during the second quarter of 2011 for $142,000 with the Company recognizing a gain for that amount.

During the three and nine months ended September 30, 2010, the Company recognized other than temporary impairment losses on the CDOs of $0 and $645,000, respectively. Other than temporary impairment losses of $14,000 were also recognized during the third quarter of 2010 on the FNMA and FHLMC preferred stock.

The Company also has assets that under certain conditions are subject to measurement at fair value on a nonrecurring basis. These assets are held to maturity loans or other real estate owned that are considered impaired per accounting principles. The Company has estimated the fair value of these impaired assets using Level 3 inputs, specifically discounted cash flow projections or fair value of collateral.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

~~During~~The ~~the nine months ended September 30, 2011 and 2010, the~~ Company's ~~recorded~~change ~~adjustments~~in toLevel ~~certain~~3 ~~collateral~~securities ~~dependent loans~~ measured ~~for~~at ~~impairment in accordance with accounting guidelines. In cases where the carrying value of the loans exceed the estimated~~ fair value ofon ~~the~~a ~~collateral~~recurring ~~less~~basis ~~estimated costs to sell, an impairment loss~~ was ~~recognized. The~~as Company also recorded adjustments to certain cash flow dependent loans consisting primarily of troubled debt restructured loans that were measured for impairment in accordance with accounting guidelines. In the case of cash flow dependent troubled debt restructured loans, impairment was determined by comparing the discounted cash flows with the Company’s recorded investment. The Company made allocations for impaired loans totaling $6.0 million and $5.3 million for the nine months ended September 30, 2011 and 2010, respectively.follows:

Impaired Loans ($000's)				Fair Value Measurements at Reporting Date Using
	Securities
				Quoted Prices
	Available
				in Active		Significant
	for Sale ($000's)
				Markets for		Other		Significant
Balance at December 31, 2011	$	945
				Identical		Observable		Unobservable
Total realized and unrealized gains (losses) included in income		0
				Assets		Inputs		Inputs
Total unrealized gains (losses) included in other comprehensive income		0
	Total			(Level 1)		(Level 2)		(Level 3)
Net purchase, sales, calls and maturities		(128	)
At September 30, 2011	$	46,279		$	0	$	0	$	46,279
Net transfer into Level 3		0
At December 31, 2010	$	56,992		$	0	$	0	$	56,992
Balance at March 31, 2012	$	817

Impaired Other Real Estate Owned ($000's)				Fair Value Measurements at Reporting Date Using
	Securities
				Quoted Prices
	Available
				in Active		Significant
	for Sale ($000's)
				Markets for		Other		Significant
Balance at December 31, 2010	$	20
				Identical		Observable		Unobservable
Total realized and unrealized gains (losses) included in income		(163	)
				Assets		Inputs		Inputs
Total unrealized gains (losses) included in other comprehensive income		143
	Total			(Level 1)		(Level 2)		(Level 3)
Net purchase, sales, calls and maturities		0
At September 30, 2011	$	21,036		$	0	$	0	$	21,036
Net transfer into Level 3		0
At December 31, 2010	$	23,874		$	0	$	0	$	23,874
Balance at March 31, 2011	$	0

~~During~~At ~~the~~year-end ~~quarter ended September 30,~~ 2011, the Company ~~recorded~~had ~~$797,000~~nonrated insecurities ~~write-down~~issued ~~impairment~~by ~~losses~~a tolocal ~~certain~~municipality ~~properties~~totaling ~~carried~~$945,000 asin ~~other~~which ~~real~~the ~~estate~~fair ~~owned~~value aswas ~~compared~~determined ~~with~~using ~~write-down~~significant ~~adjustments~~unobservable ~~of $1~~inputs,~~076,000~~ ~~for~~or ~~the~~Level ~~same~~3, ~~quarter of 2010. Such write-downs are generally~~ based on ~~the~~an ~~estimated~~outside ~~underlying~~investment ~~fair~~broker’s ~~values~~analysis of the ~~properties~~financial ~~less~~condition ~~estimated costs to sell. In cases where the carrying value~~ of the ~~property~~municipality ~~exceeds~~issuing the ~~estimated fair value, an impairment loss is recognized~~securities. During the ~~nine~~three months ended ~~September~~March 3031, ~~2011 and September 30~~2012, ~~2010, the Company recorded~~ $2128,~~125,~~000 ~~and~~of ~~$2,500,000,~~these ~~respectively,~~Level in3 ~~write-down~~securities ~~impairment losses to other real estate owned~~matured.

During the quarter ended March 31, 2011, the Company recognized other than temporary impairment losses on its equity securities consisting of preferred stock issued by the Federal National Mortgage Association (“FNMA”) and Federal Home Loan Mortgage Corporation (“FHLMC”) of $29,000, fully writing off the remaining book value of these securities.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

~~The~~During ~~following~~the ~~methods~~three ~~and~~months ~~assumptions~~ended ~~were~~March ~~used to estimate fair values for financial instruments. Securities fair values are based on quoted market prices or~~31, if2012 noand ~~quotes are available~~2011, on the ~~rate~~Company ~~and~~recorded ~~term~~adjustments ofto ~~the~~certain ~~security~~collateral ~~and~~dependent ~~or information about the issuer. For~~ loans, ~~leases,~~that ~~deposits,~~were ~~securities~~measured ~~sold~~for ~~under~~impairment ~~repurchase~~in ~~agreements~~accordance ~~and~~with ~~fixed~~accounting ~~rate~~guidelines. In ~~FHLB~~cases ~~advances,~~where the ~~fair~~carrying value isof ~~estimated~~the byloans ~~discounted~~exceed ~~cash flow analysis using market rates for~~ the estimated ~~life~~fair ~~and~~value ~~credit~~of ~~risk. Fair~~the ~~values~~collateral ~~for~~less ~~impaired loans are~~ estimated ~~using~~costs ~~discounted~~to ~~cash~~sell, ~~flow~~an ~~analyses~~impairment orloss ~~underlying~~was ~~collateral values~~recognized. The ~~fair~~Company ~~value~~also ofrecorded ~~off-balance~~adjustments ~~sheet~~to ~~items~~certain iscash ~~based~~flow ondependent ~~the~~loans ~~fees~~consisting orprimarily ~~cost~~of ~~that~~troubled ~~would~~debt ~~currently~~restructured beloans ~~charged~~that towere ~~enter~~measured ~~into~~for orimpairment ~~terminate~~in ~~such~~accordance ~~arrangements~~with ~~and~~accounting ~~the fair value is not material~~guidelines. ~~Fair~~In ~~value~~the ~~for~~case of cash ~~and~~flow ~~cash~~dependent ~~equivalents,~~troubled ~~accrued~~debt ~~interest~~restructured ~~receivable~~loans, ~~advances~~impairment ~~from~~was ~~borrowers~~determined ~~for~~by ~~taxes~~comparing ~~and~~the ~~insurance~~discounted ~~and~~cash ~~accrued~~flows ~~interest~~with ~~payable~~the ~~are~~Company’s ~~estimated~~recorded ~~at carrying value~~investment. The ~~estimated~~Company ~~fair~~made ~~value~~allocations for ~~Federal~~impaired ~~Home~~loans ~~Loan~~totaling ~~Bank~~$1.6 ~~stock~~million isand ~~equal~~$1.8 tomillion for the ~~carrying~~three ~~value~~months ~~based~~ended onMarch ~~the~~31, ~~restricted~~2012 ~~nature~~and of2011, ~~the stock~~respectively.

The estimated fair values of financial instruments at September 30, 2011 and December 31, 2010 were:

Impaired Loans ($000's)			Fair Value Measurements at Reporting Date Using
			Quoted Prices
			in Active		Significant
			Markets for		Other		Significant
			Identical		Observable		Unobservable
			Assets		Inputs		Inputs
	Total		(Level 1)		(Level 2)		(Level 3)
At March 31, 2012	$	34,791	$	0	$	0	$	34,791

At December 31, 2011	$	40,744	$	0	$	0	$	40,744

	Carrying			Estimated
Impaired Other Real Estate Owned ($000's)				Fair Value Measurements at Reporting Date Using
September 30, 2011 ($000's)	Value			Fair Value
				Quoted Prices
Financial assets:
				in Active			Significant
Cash and cash equivalents	$	41,467		$	41,467
				Markets for			Other		Significant
Securities available for sale		90,523			90,523
				Identical			Observable		Unobservable
Loans and leases, net		332,542			341,448
				Assets			Inputs		Inputs
Federal Home Loan Bank stock		1,801			1,801
	Total			(Level 1)			(Level 2)		(Level 3)
Accrued interest receivable		1,746			1,746
At March 31, 2012	$	16,699		$	0		$	0	$	16,699
Financial liabilities:
At December 31, 2011	$	18,300		$	0		$	0	$	18,300
Deposits	$	(435,107	)	$	(434,903	)
Securities sold under repurchase agreements		(20,687	)		(20,642	)
Subordinated debentures		(10,310	)		(5,912	)
Advances from borrowers for taxes and insurance		(355	)		(355	)
Accrued interest payable		(1,090	)		(1,090	)

	Carrying			Estimated
December 31, 2010 ($000's)	Value			Fair Value
Financial assets:
Cash and cash equivalents	$	30,357		$	30,357
Securities available for sale		91,830			91,830
Loans and leases, net		366,453			359,891
Federal Home Loan Bank stock		1,801			1,801
Accrued interest receivable		1,751			1,751
Financial liabilities:
Deposits	$	(446,551	)	$	(447,147	)
Securities sold under repurchase agreements		(35,517	)		(35,421	)
Subordinated debentures		(10,310	)		(5,904	)
Advances from borrowers for taxes and insurance		(1,109	)		(1,109	)
Accrued interest payable		(1,317	)		(1,317	)

During the quarter ended March 31, 2012, the Company recorded adjustments of $1,972,000 to certain properties carried as other real estate owned as compared to adjustments of $673,000 for the same quarter of 2011. Such write-downs are generally based on the estimated underlying fair values of the properties less estimated costs to sell. In cases where the carrying value of the property exceeds the estimated fair value, an impairment loss is recognized.

The following methods and assumptions were used to estimate fair values for financial instruments. Securities fair values are based on quoted market prices or, if no quotes are available, on the rate and term of the security and/or information about the issuer. For loans, leases, deposits, securities sold under repurchase agreements and fixed-rate FHLB advances, the fair value is estimated by discounted cash flow analysis using market rates for the estimated life and credit risk. Fair values for impaired loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable. The fair value of off-balance sheet items is based on the fees or cost that would currently be charged to enter into or terminate such arrangements, and the amount is not considered material. Fair value for cash and cash equivalents, accrued interest receivable, advances from borrowers for taxes and insurance and accrued interest payable are estimated at carrying value. The estimated fair value for Federal Home Loan Bank stock is equal to the carrying value based on the restricted nature of the stock.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

The estimated fair values of financial instruments at March 31, 2012 and December 31, 2011 were:

	Carrying			Estimated
March 31, 2012 ($000's)	Value			Fair Value
Financial assets:
Cash and cash equivalents	$	37,367		$	37,367
Securities available for sale		85,232			85,232
Loans and leases, net		297,807			307,365
Federal Home Loan Bank stock		1,434			1,434
Accrued interest receivable		1,481			1,481

Financial liabilities:
Deposits	$	(391,837	)	$	(391,947	)
Securities sold under repurchase agreements		(16,639	)		(16,603	)
Subordinated debentures		(10,310	)		(4,706	)
Advances from borrowers for taxes and insurance		(1,960	)		(1,960	)
Accrued interest payable		(1,083	)		(1,083	)

	Carrying			Estimated
December 31, 2011 ($000's)	Value			Fair Value
Financial assets:
Cash and cash equivalents	$	37,833		$	37,833
Securities available for sale		87,140			87,140
Loans and leases, net		303,729			313,338
Federal Home Loan Bank stock		1,801			1,801
Accrued interest receivable		1,401			1,401

Financial liabilities:
Deposits	$	(397,631	)	$	(397,885	)
Securities sold under repurchase agreements		(19,455	)		(19,417	)
Subordinated debentures		(10,310	)		(4,375	)
Advances from borrowers for taxes and insurance		(1,222	)		(1,222	)
Accrued interest payable		(1,127	)		(1,127	)

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2012

(Unaudited)

Note 8 – Consent Order and Written Agreement

On April 16, 2010, the Company’s wholly-owned subsidiary, NorStates Bank (the “Bank”), and the Federal Deposit Insurance Corporation (the “FDIC”) and the Illinois Department of Financial and Professional Regulation (the “IDFPR”) entered into a joint Consent Order. Pursuant to the Consent Order, among other things, the Bank has agreed to undertake the following:

(1)

increase the participation of the Bank’s Board of Directors in overseeing and supervising the affairs and activities of the Bank, including holding meetings of the Board no less frequently than monthly;

(2)

adopt and implement a program for monitoring compliance with the Consent Order, including establishing a committee comprised of at least three outside Bank board members responsible for such oversight;

(3)

maintain a Tier 1 capital to total assets ratio of at least 8% and a total risk-based capital ratio of at least 12%;

(4)

prohibit the extension of additional credit to or for the benefit of any existing borrower with a loan that has been previously charged-off or classified “loss” by the examiners, as well as prohibit the extension of additional credit in any amount in excess of $10,000 to any existing borrower with an outstanding loan classified as “substandard”, “doubtful” or “special mention” unless the Board of Directors or a committee thereof determines the loan to be in the best interests of the Bank;

(5)

adopt a written action plan with respect to each classified asset and delinquent loan in excess of $1,000,000 for the purpose of reducing the Bank’s risk position with respect to such asset;

(6)

correct all deficiencies in the loans listed as “special mention” by the examiners;

(7)

adopt a written action plan to reduce and manage concentrations of credit identified by the examiners, including procedures that provide for the ongoing measurement and monitoring of the concentrations of credit, the performance of portfolio stress testing analysis and the setting of concentration limits commensurate with the Bank’s capital levels and overall risk profile;

(8)

provide for quarterly reviews of and adjustments to the allowance for loan and lease losses in accordance with bank regulatory guidelines;

(9)

implement revised written lending and collection policies as indicated by the examiners, as well as revised loan grading and review procedures, including procedures for periodic confirmation of the accuracy and completeness of the watch list and all risk grade assignments, identification of loan relationships that warrant special management attention, and identification and tracking of credit and collateral documentation exceptions;

(10)

adopt a written profit plan and comprehensive budget containing formal goals and strategies to reduce discretionary expenses and to improve the Bank’s overall earnings;

29(11) adopt a written contingency funding/liquidity plan which includes identification of the sources of liquid assets available to meet the Bank’s contingency funding needs over one-, two- and three-month time horizons; and

(12)

adopt a revised investment policy and interest rate risk policy to address the recommendations of the examiners.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

(11) adopt a written contingency funding/liquidity plan which includes identification of the sources of liquid assets available to meet the Bank’s contingency funding needs over one-, two- and three-month time horizons; and

(12) adopt a revised investment policy and interest rate risk policy to address the recommendations of the examiners.

The Consent Order also prohibits the payment of any dividends by the Bank to the Company without the prior written consent of both the FDIC and the IDFPR.

Because the Consent Order establishes specific capital amounts to be maintained by the Bank, the Bank may not be considered better than “adequately capitalized” for capital adequacy purposes, even if the Bank exceeds the levels of capital set forth in the Consent Order. Currently, the Bank exceeds the capital levels established by the FDIC and the IDFPR in the Consent Order.

Any material failure to comply with the provisions of the Consent Order could result in additional enforcement actions by the FDIC as allowed by 12 U.S.C. §1818 and the IDFPR. While the Company intends to take such actions as may be necessary to enable the Bank to comply with the requirements of the Consent Order, there can be no assurance that the Bank will be able to comply fully with the provisions of the Consent Order, or that efforts to comply with the Consent Order will not have adverse effects on the operations and financial condition of the Company and the Bank.

On March 17, 2011, the Company and the Federal Reserve Bank of Chicago (“Reserve Bank”) entered into a Written Agreement. Pursuant to the Written Agreement, among other things, the Company has agreed to undertake the following:

serve as a source of strength to the Bank;

abstain from paying any dividends, redeeming any stock or incurring any debt without Federal Reserve approval;

adopt a capital plan;

provide the Federal Reserve with cash flow projections on a quarterly basis;

notify the Federal Reserve of the proposed addition of any individual to the Board of Directors or the employment of any individual as a senior executive officer of the Company before such addition or employment becomes effective; and

provide progress reports to the Federal Reserve concerning the Company’s compliance with the Written Agreement.

30Any material failure to comply with the provisions of the Written Agreement could result in additional enforcement actions by the Federal Reserve Bank. While the Company intends to take such actions as may be necessary to comply with the requirements of the Written Agreement, there can be no assurance that the Company will be able to comply fully with the provisions of the Written Agreement, or that efforts to comply with the Written Agreement will not have adverse effects on the operations and financial condition of the Company.

Index

NORTHERN STATES FINANCIAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~March 3031, ~~2011~~2012

(Unaudited)

Note 9 – Management Plans

Management and the Board of Directors are committed to complying with the terms of the Consent Order and the Written Agreement, and have already taken, and continue to take, numerous steps to address these matters. The Bank and the Company ~~will~~reports ~~continue~~ to ~~report to~~ the FDIC and the IDFPR, and the Federal Reserve, respectively, quarterly regarding their progress in complying with the provisions included in the Consent Order and the Written Agreement. Compliance with the terms of the Consent Order and the Written Agreement will be an ongoing priority for management of the Bank and the Company.

The Bank continues to dedicate significant resources to effectively identify, monitor, and manage problem assets and reduce real estate loan concentrations. A liquidity policy has been developed to identify the sources of liquid assets available to meet the Bank’s contingency funding needs. Dividends have already been restricted and the Company has suspended its dividend payments on its Series A Preferred Stock issued to the Treasury Department as is permissible under the terms of the TARP Capital Purchase Program~~. The~~ ~~Company~~and has deferred payment of interest on its subordinated debentures ~~issued in connection with its trust preferred securities~~. The Bank’s Tier 1 to average assets ratio and total capital to assets ratio, on a risk adjusted basis, were 8.2023 percent and 13.0130 percent, respectively, as of ~~September~~March 3031, ~~2011~~2012, which were above the capital levels required by the Consent Order of 8.00 percent and 12.00 percent.

In view of these matters, the Bank’s ability to improve its financial condition is dependent upon the success of management’s plans to address concerns regarding profitability and asset quality. The Bank’s management believes they ~~have~~are ~~taken~~taking appropriate steps aimed at returning the Bank to profitability and improving asset quality. Management’s success will ultimately be determined by its implementation of its plans, as well as factors beyond its control, such as the economy and ~~the~~ real estate market.

Note 10 – Recent Accounting Pronouncements

(ASU No. 2011-2) In April 2011, the FASB issued “Receivables (Topic 310) - A Creditor's Determination of Whether a Restructuring is a Troubled Debt Restructuring.” ASU 2011-2 provides additional guidance to assist creditors in determining whether a restructuring of a receivable meets the criteria to be considered a troubled debt restructuring. The impact of ASU 2011-2 on the Company’s disclosure is reflected in Note 6 to the condensed consolidated financial statements.

(ASU 2011-4) In May 2011, the FASB issued an Update related to fair value measurements (Topic 820) and disclosure requirements. The Update results in common fair value measurement and disclosures in U.S. GAAP and IFRS by changing the wording used to describe many of the fair value measurement requirements in U.S. GAAP or to clarify the FASB’s intent about the application of existing fair value measurement requirements. The amendments ~~will~~were be adopted beginning in the first quarter of 2012 and applied to the Company’s financial statements prospectively.

(ASU 2011-5) In June 2011, the FASB issued an Update on the Presentation of Comprehensive Income (Topic 220), which was amended in October 2011. The Update changes the reporting and presentation of comprehensive income on the face of the financial statements and provides two options of presentation- a single statement including net income and the components of other comprehensive income or two separate statements. The Update eliminates the option of presenting the components of other comprehensive income in the statement of changes in stockholders’ equity. The amendments in this Update ~~will~~were be adopted beginning in the first quarter of 2012 and will be applied to the Company’s financial statements retrospectively.

3132

Index

NORTHERN STATES FINANCIAL ~~CORPORTION~~CORPORATION

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion focuses on the consolidated financial condition of Northern States Financial Corporation (the “Company”) at ~~September~~March 3031, ~~2011~~2012 compared to December 31, ~~2010~~2011 and the Company’s consolidated results of operations for the three ~~and nine~~ month ~~periods~~period ended ~~September~~March 3031, ~~2011~~2012, compared with the three ~~and nine~~ month ~~periods~~period ended ~~September~~March 3031, ~~2010~~2011. The purpose of this discussion is to provide a better understanding of the condensed consolidated financial statements of the Company and the operations of its two wholly-owned subsidiaries, NorStates Bank (the “Bank”) and NorProperties, Inc. (“NorProp”), and the Bank’s wholly-owned subsidiary, Northern States Community Development Corporation (“NSCDC”). This discussion should be read in conjunction with the interim condensed consolidated unaudited financial statements and notes thereto included herein.

Statements contained in this report that are not historical facts may constitute forward-looking statements (within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended), which involve significant risks and uncertainties. The Company intends such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995, and is including this statement for purposes of invoking these safe harbor provisions. Forward-looking statements, which are based on certain assumptions and describe future plans, strategies and expectations of the Company, are generally identifiable by the use of the words "believe," "expect," "intend," "anticipate," "estimate," "project," "plan," or similar expressions. The Company's ability to predict results or the actual effect of future plans or strategies is inherently uncertain and actual results may differ from those predicted. The Company undertakes no obligation to update these forward-looking statements in the future. The Company cautions readers of this report that a number of important factors could cause the Company’s actual results subsequent to ~~September~~March 3031, ~~2011~~2012 to differ materially from those expressed in forward-looking statements. Factors that could cause actual results to differ from those predicted and could have a material adverse effect on the operations of the Company and its subsidiaries include, but are not limited to, the potential for further deterioration in the credit quality of the Company’s loan and lease portfolios, uncertainty regarding the Company’s ability to ultimately recover on loans currently on nonaccrual status, the Company’s ability to comply with the provisions of the Consent Order and Written Agreement, further deterioration in the value of the Company’s other real estate owned, unanticipated changes in interest rates, worsening or lack of improvement in general economic conditions and the real estate market, increasing regulatory compliance burdens or potential legislative/regulatory changes, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board, the implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act, the quality or composition of the Company’s loan or investment portfolios, deposit flows, liquidity issues, competition, demand for loan products and financial services in the Company’s market area, and changes in accounting principles, policies and guidelines. These risks and uncertainties should be considered in evaluating forward-looking statements.

OVERVIEW

Total assets at ~~September~~March 3031, ~~2011~~2012 were $~~502~~453.50 million, a decrease of $2910.20 million, or 52.52 percent, from $~~531~~463.70 million at December 31, ~~2010~~2011 as the Company continued to reposition its balance sheet. Loans totaled $~~350~~316.98 million at ~~September~~March 3031, ~~2011~~2012, a decrease of $335.9 million, or 81.8 percent, from $~~384~~322.87 million at December 31, ~~2010~~2011. Loans decreased by $153.10 million as scheduled principal loan payments and loan payoffs were received in the normal course of business. Contributing to the decrease in loans was the transfer of $8.1.5 million in loans to other real estate owned through or in lieu of foreclosure and the charge-off of $51.84 million in loans to the allowance for loan and lease losses. ~~Also~~ ~~contributing to the decrease was the sale of a $4.9 million loan that was outside of the Bank’s lending area.~~ Other real estate owned totaled $2217.39 million at ~~September~~March 3031, ~~2011~~2012, decreasing $21.04 million from year-end ~~2010~~2011 as $~~8.0~~964,000 ~~million~~ of properties were sold and the Company recognized further impairment of $2.10 million, partially offset by the transfer of $8.1.5 million in loans to other real estate owned. The Company’s cash and cash equivalents totaled $4137.54 million at ~~September~~March 3031, ~~2011~~2012, anshowing ~~increase~~a slight decrease of $~~11.1~~466,000 ~~million~~ from December 31, ~~2010 as public deposits increased and the Company continued to manage its liquidity~~2011.

3233

Index

NORTHERN STATES FINANCIAL ~~CORPORTION~~CORPORATION

The decline in the Company’s assets was primarily offset by deposit decreases of $~~11.~~5.8 million, or 1.5%. Deposits totaled $~~435~~391.18 million at ~~September~~March 3031, ~~2011~~2012 compared with $~~446~~397.6 million at December 31, ~~2010~~2011. ~~Demand~~Time deposits ~~increased~~decreased $320.94 million ~~from~~while ~~December~~total ~~31,~~other ~~2010~~deposits ~~while~~consisting of demand, interest bearing demand, money market and savings deposits ~~declined~~increased $1514.46 million from December 31, 2011. ~~Interest~~Time ~~bearing~~ deposits decreased ~~due~~primarily tofrom reductions of $171.37 million in brokered time deposits asand ~~management~~$14.6 ~~lowered~~million ~~this source of funding~~ in ~~order~~wholesale tointernet ~~comply~~time ~~with the regulatory restrictions applicable to adequately capitalized institutions~~deposits.

The Company’s borrowings through securities sold under repurchase agreements decreased $142.8 million to $2016.76 million at ~~September~~March 3031, ~~2011~~2012 as compared with $3519.54 million at December 31, ~~2010~~2011.

The Company ~~had~~continued ato ~~net~~be ~~loss~~affected ~~available~~by tothe ~~common~~continued ~~stockholders~~decline ~~for~~in general real estate prices. For the three months ended ~~September~~March 3031, ~~2011~~2012, the Company experienced a net loss available to common stockholders of $23.01 million or $0.4673 per share, compared with a net loss ~~available to common stockholders~~ of $~~396~~1.4 million,~~000,~~ or $0.1032 per share for the same three months of ~~2010. The~~2011 ~~loss~~as ~~for~~ the ~~three~~Company ~~months~~continued ~~ended~~to ~~September~~write ~~30,~~down ~~2011~~loans ~~was~~and ~~due~~other ~~primarily~~real toestate ~~expenses~~owned ~~relating~~as toa ~~nonperforming~~result ~~assets~~of ~~such~~declining asvalues of the collateral securing those assets. The provision for loan and lease losses ofincreased $~~2.0 million~~200,000 ~~impairment~~and write -downs of other real estate owned ofincreased $~~797,000~~1.3 ~~and~~million during the first quarter of 2012 as compared to the same quarter of 2011. Losses on the sale of other real estate owned ~~servicing~~were ~~expenses~~$216,000 during the first quarter of 2012 as compared with gains of $~~525~~67,000 during the same quarter last year.

~~The~~Total ~~Company’s~~nonperforming ~~net~~loans ~~loss~~and ~~available~~leases toincreased ~~common stockholders for the nine months ended September 30, 2011 was~~ $57.96 million, ~~or $1.37 per share, compared with a net loss available~~ to ~~common stockholders of~~ $379.53 million, or $025.850 ~~per~~percent ~~share for the same nine months~~ of ~~2010. The~~total ~~loss~~loans ~~for~~and ~~the~~leases, ~~nine~~at ~~months~~March ~~ended September 30~~31, ~~2011~~2012 ~~was~~as ~~due~~compared ~~primarily~~with ~~due to the provision for loan and lease losses of~~ $571.7 million, ~~and~~or ~~impairment~~22.2 ~~write~~percent ~~downs~~ of ~~other~~total ~~real~~loans ~~estate~~and ~~owned~~leases, ofat ~~$2.1~~December ~~million~~31, 2011.

The Company’s net interest income, the difference between interest earned on loans and investments and interest paid on deposits and borrowings, was $4.53 million for the ~~third~~first quarter of ~~2011~~2012 decreasing 9.7.8 percent, or $~~485~~364,000 compared with the same quarter of ~~2010~~2011. The decline in net interest income was attributable to ~~having~~a ~~$30.6~~decrease ~~million less~~ in average earning assets ~~during the third quarter~~ of ~~2011 as compared with the same quarter of 2010. Also contributing to the decline in net interest income was the reversal of~~ $~~183,000 of loan interest income on loans placed on nonaccrual status or restructured during the third quarter of 2011 as compared with $137,000 during the same quarter of 2010~~70. ~~Net interest for the nine months ended September 30, 2011 was $13.~~9 million ~~decreasing~~and ~~$504,000 from $14.4 million for~~ the ~~same~~high ~~time~~levels ~~period~~ of ~~2010~~nonperforming ~~primarily due to decreases in average earning assets of $46~~loans.~~9 million for the nine months ended September 30, 2011~~

Noninterest expenses for the Company, other than write-downs to other real estate owned, decreased $307,000 during the first quarter of 2012 as compared with the same quarter of 2011 as management focused on controlling costs.

CRITICAL ACCOUNTING POLICIES

Certain critical accounting policies involve estimates and assumptions by management. To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ.

~~Allowance~~The allowance for loan and lease losses is a valuation allowance for probable incurred credit losses that is increased by the provision for loan and lease losses and decreased by charge-offs less recoveries. Management estimates the balance for the allowance based on information about specific borrower situations, estimated collateral values, discounted cash flows and the borrowers’ ability to repay the loan. Management also reviews past loan and lease loss experience, the nature and volume of the portfolio, environmental and qualitative factors, economic conditions and other factors which may affect the repayment of loans. Allocations of the allowance may be made for specific loans and leases, but the entire allowance is available for any loan or lease that, in management’s judgment, should be charged-off. Loan and ~~Lease~~lease ~~Losses~~losses are charged against the allowance when management believes the uncollectibility of a loan or lease balance is confirmed.

The allowance for loan and lease losses is a critical accounting policy for the Company because management must make estimates of losses and these estimates are subject to change. The allowance for loan and lease losses is a valuation allowance for potential credit losses, increased by the provision for loan and lease losses and decreased by charge-offs less recoveries. Management analyzes the adequacy of the allowance for loan and lease losses at least quarterly. In its analysis management estimates the allowance balance required using past loan and lease loss experience, the nature and volume of the portfolio, information about specific borrower situations, the present value of expected cash flows, collateral values, economic conditions and other factors. Allocations of the allowance may be made for specific loans and leases, but the entire allowance is available for any loan or lease that, based on management’s judgment, should be charged-off. Based on this analysis, management believes the allowance for loan and lease losses at September 30, 2011 is adequate to cover credit losses inherent in the portfolio.

Index

NORTHERN STATES FINANCIAL CORPORTION

One of the components of the allowance for loan losses is historical loss experience. The loss percentages used at September 30, 2011 are based on the recent trailing 24 months as it is believed to be representative of estimated losses within the current loan portfolio.

Management specifically analyzes its impaired loans for losses. The change in the volume of impaired loans may significantly impact the amount of estimated losses specifically allocated to these loans depending on the adequacy of the loan collateral and the borrowers’ ability to repay the loans. As specific allocations are done on a loan-by-loan basis, the amount of the specific allocation is more likely subject to fluctuation than an allocation for a pool of loans based on historical loss trends. The amount of the allocations on impaired loans may fluctuate in future periods due to changes in conditions of underlying collateral and changes in the borrowers’ ability to repay.

Income Taxes.

The Company recognized no income tax benefit for the nine months of 2011 despite having an operating loss before income taxes of $5.1 million. Per accounting rules, the Company for the nine months ended September 30, 2011 continued to book tax benefits as a deferred tax asset with a corresponding offset to the deferred tax asset valuation allowance without recognizing a tax benefit on the income statement due to uncertainties as to the realization of these benefits. For the first nine months of 2011, the Company’s tax benefit was calculated to be $2.1 million, which also increased the deferred tax asset valuation allowance to $18.4 million from $16.3 million at year-end 2010. The Company will continue to analyze its deferred tax asset quarterly.

No income tax benefit was recorded for the first nine months of 2010 despite an operating loss before income taxes of $2.7 million. The Company’s net deferred tax asset, exclusive of the deferred tax asset related to the unrealized loss on securities available for sale, totaled $14.5 million at September 30, 2010 and was offset by a deferred tax asset valuation allowance for the same amount.

FINANCIAL CONDITION

The Company’s cash and cash equivalents totaled $41.5 million at September 30, 2011, an increase of $11.1 million, or 36.6 percent, from December 31, 2010 as public deposits increased and the Company continued to manage its liquidity. The Company’s interest bearing deposits in financial institutions with maturities less than 90 days, a component of cash and cash equivalents, totaled $30.7 million an increase of $12.5 million, or 69.0 percent, from December 31, 2010. These funds were primarily deposits at the Federal Reserve Bank of Chicago as the interest rate paid was greater than or comparable to rates paid on federal funds sold.

The Company’s securities available for sale declined $1.3 million, to $90.5 million at September 30, 2011 compared with $91.8 million at year-end 2010. The declines in securities were due to scheduled security maturities and payments as well as the write-downs to securities for other than temporary impairment of $163,000.

The $163,000 of other than temporary impairment write-downs occurred during the first quarter of 2011 due in part to write-downs of $134,000 to the Company’s CDOs consisting of trust preferred securities issued by other financial institutions that were carried as other bonds. The write-downs to the CDOs were based on an analysis of the collateral and expected discounted cash flows. The CDOs were originally carried at a par value of $10.9 million. During the first quarter of 2011, the remaining carrying value $134,000 was completely written off. The remaining balance of other temporary impairment write-downs of $29,000 was for write-downs to equity securities consisting of preferred stock issued by FNMA and FHLMC. These preferred stocks had an original aggregate par value of $2.0 million which was completely written-off at March 31, 2011. During the second quarter of 2011 these preferred stocks were sold for $142,000 and a corresponding gain was recognized.

Index

NORTHERN STATES FINANCIAL ~~CORPORTION~~CORPORATION

~~The~~A ~~Company~~loan ~~sold~~or ~~mortgage-backed~~lease ~~securities~~is ~~during~~impaired when full payment under the ~~quarter~~loan ~~ended~~or ~~September~~lease ~~30,~~terms ~~2011~~is ~~having~~not aexpected ~~carrying~~within ~~value~~the contractual terms of ~~$19~~the loan.6 ~~million~~Impairment ~~and~~is ~~recognized~~evaluated aon ~~gain~~an aggregate basis for smaller-balance loans of ~~$135~~similar nature such as residential mortgage and consumer loans,~~000~~ and on an individual loan or lease basis for other loans and leases. ~~Other~~ ~~mortgage-backed~~If ~~securities~~a ~~were~~specific ~~purchased~~loan ~~totaling~~or ~~$19~~lease is determined to be impaired, a portion of the allowance may be specifically allocated to that loan or lease.8 ~~million~~The ~~diversifying~~specific allocation is calculated at the ~~underlying~~present ~~collateral~~value of estimated cash flows using the ~~Company’s~~existing ~~mortgage-backed~~rate ~~securities~~of ~~portfolio~~the loan or lease or the fair value of collateral if repayment is expected solely from the collateral.

AtOther ~~September~~real ~~30,~~estate ~~2011,~~owned ~~the~~consists ~~Company~~of ~~had~~properties ~~pledged~~securing ~~securities~~nonperforming ofloans ~~$68.7~~obtained ~~million~~through, asor ~~compared~~in tolieu ~~$59.0~~of, ~~million~~foreclosure and is initially reported at ~~December~~the ~~31,~~estimated ~~2010. The~~fair ~~securities~~value ~~were~~based ~~pledged~~on a real estate appraisal less estimated costs to ~~secure~~sell. ~~public~~Other ~~deposits,~~real ~~repurchase~~estate ~~agreements~~is ~~and~~periodically assessed for ~~other~~impairment ~~purposes~~and asany ~~required~~such orimpairment ~~permitted~~is byrecognized ~~law~~in the current period.

~~Loans~~The ~~and~~fair ~~leases~~value ~~totaled~~of ~~$350.9~~securities ~~million~~is atbased ~~September~~on ~~30,~~determinations ~~2011,~~from ~~decreasing~~a ~~$33.9~~securities ~~million, or 8~~broker.8 ~~percent,~~On ~~from~~an ~~$384.8~~annual ~~million~~basis atthese ~~December~~are ~~31,~~validated ~~2010. Loans decreased~~ by ~~$15.1~~an ~~million~~independent assecurities ~~scheduled~~valuation ~~principal loan payments and loan payoffs were received in the normal course of business~~firm. ~~Contributing~~ toThis ~~the~~validation ~~decrease in loans~~ was ~~the~~last ~~transfer~~done ofat ~~$8.1~~September ~~million in loans to other real estate owned through or in lieu of foreclosure~~30, ~~the~~2011 ~~charge-off of $5.8 million in loans to the allowance for loan~~ and ~~lease losses and~~ the ~~sale~~differences ofin afair ~~$4.9~~value ~~million~~were ~~out~~deemed ofto ~~market~~be ~~loan~~immaterial.

AtThere ~~September~~are ~~30,~~various ~~2011,~~contingent ~~approximately~~liabilities 95that ~~percent~~are ofnot ~~the~~reflected ~~Bank’s~~in ~~loan portfolio was secured by real estate. The Company’s loans to~~ the ~~hotel~~financial ~~industry totaled $61.5 million~~statements, orincluding ~~200~~claims ~~percent~~and oflegal ~~total~~actions ~~capital~~arising ~~decreasing~~against ~~$7.0~~the ~~million~~Company ~~from~~in ~~year-end 2010 primarily from~~ the ~~sale~~ordinary course of ~~a $4~~business.9 ~~million~~These ~~loan. Loans~~matters ~~totaling~~are ~~$28.8~~not ~~million~~expected ~~secured by 1-4 family homes and 5+ family residences at September 30, 2011 were pledged~~ to ~~secure~~have a ~~line~~material ofeffect ~~credit~~on ~~of $15.4 million from~~ the ~~Federal~~Company’s ~~Home~~operating ~~Loan~~results ~~Bank~~or offinancial ~~Chicago~~condition. At September 30, 2011, loans totaling $95.3 million had payment schedules where only interest is collected until the loans mature as compared with $103.1 million in loans at December 31, 2010. At September 30, 2011, $20.8 million of loans having interest only payments were home equity loans.

~~Loan~~The ~~commitments~~fair ~~declined~~value ~~$3.6~~of ~~million~~financial toinstruments ~~$32.9~~such ~~million~~as atcash ~~September~~and ~~30,~~cash ~~2011~~equivalents, ~~compared~~accrued ~~with~~interest ~~$36.5 million at December 31~~receivable, ~~2010. Letters~~advances offrom ~~credit~~borrowers ~~decreased~~for ~~during~~taxes ~~the~~and ~~nine~~insurance ~~months~~and ~~ended~~accrued ~~September~~interest ~~30,~~payable ~~2011,~~are toestimated ~~$2.7 million from $3.1 million~~ at ~~year-end~~carrying ~~2010~~value. At ~~September~~The ~~30,~~estimated ~~2011,~~fair ~~loans~~value tofor ~~related~~Federal ~~parties~~Home ~~totaled $249,000 as compared with $218,000 at December 31, 2010.~~ Loan ~~commitments~~Bank ~~and~~stock ~~letters~~is ofequal ~~credit issued~~ to ~~related~~the ~~parties~~carrying ~~were~~value ~~$202,000~~based ~~at September 30, 2011 compared with $220,000 at December 31, 2010. Loans, loan commitments and letters of credit to related parties are made~~ on the ~~same~~restricted ~~terms~~nature ~~and~~of ~~conditions that are available to~~ the ~~public~~stock.

~~Deposits~~The ~~totaled~~Company ~~$435.1~~recognized ~~million~~no atincome ~~September~~tax ~~30,~~benefit ~~2011~~for the three months ended March 31, ~~decreasing~~2012 ~~$11.5~~despite ~~million~~having ~~from~~an ~~$446.6~~operating ~~million~~loss atbefore ~~December~~income ~~31,~~taxes ~~2010~~of $2.8 million. ~~Deposits~~Per ~~declined~~accounting ~~primarily~~rules, ~~due~~the Company continued to ~~reductions~~book intax ~~brokered~~benefits ~~time~~adjusted ~~deposits~~for timing differences as ~~management~~a ~~lowered~~deferred ~~this~~tax ~~source~~asset ofwith ~~funding~~a bycorresponding ~~$17.3~~offset ~~million~~to ~~from~~the ~~year-end~~deferred intax ~~order~~asset tovaluation ~~comply~~allowance, ~~with~~without ~~the~~recognizing ~~regulatory~~a ~~restrictions~~tax ~~applicable~~benefit toon ~~adequately~~the ~~capitalized~~income ~~institutions~~statement ~~and~~due to ~~manage~~uncertainties ~~its~~as ~~balance~~to ~~sheet. Offsetting~~the ~~some~~realization of these benefits. For the ~~decline~~three inmonths ~~deposits~~ended ~~from~~March ~~brokered~~31, ~~time~~2012, ~~deposits~~the ~~were~~Company’s ~~increases~~tax tobenefit ~~demand~~was ~~deposits~~calculated ofto be $31.91 million and tothe ~~low~~deferred ~~cost~~tax ~~savings~~asset increased ~~accounts~~to of $221.36 million~~. Related~~ ~~party~~exclusive ~~deposits~~of atthe ~~September~~deferred ~~30,~~tax ~~2011~~effect ~~totaled~~of ~~$4.9~~the ~~million~~unrealized asgains ~~compared~~of ~~with~~the $8Company’s securities.5 The ~~million~~Company atwill ~~year-end~~continue ~~2010~~to analyze its deferred tax assets quarterly.

AtFINANCIAL September 30, 2011, the mix of deposits changed in that public deposits increased $13.6 million to 11.2 percent of deposits from 7.8 percent at year-end 2010. Wholesale internet time deposits increased $8.3 million to 12.1 percent of deposits from 9.9 percent at year-end 2010. These increases were offset by the decrease of brokered deposits of $17.3 million, retail deposits of $7.8 million and commercial deposits of $7.4 million.CONDITION

The Company’s cash and cash equivalents totaled $37.4 million at March 31, 2012, slightly increasing from December 31, 2011. The Company’s interest bearing deposits in financial institutions with maturities less than 90 days, a component of cash and cash equivalents, totaled $29.9 million, a decrease of $2.6 million from December 31, 2011. These funds consisted primarily of deposits at the Federal Reserve Bank of Chicago as the interest rate paid was greater than or comparable to rates paid on federal funds sold.

The Company’s securities available for sale declined $1.9 million, to $85.2 million at March 31, 2012 compared with $87.1 million at year-end 2011. The declines in securities were due to the receipt of scheduled maturities and payments. At March 31, 2012, the Company had pledged securities of $51.2 million as compared to $57.0 million at December 31, 2011. The securities were pledged to secure public deposits, repurchase agreements and for other purposes as required or permitted by law.

Loans and leases totaled $316.8 million at March 31, 2012, decreasing $5.9 million, or 1.8 percent, from $322.7 million at December 31, 2011. Loans decreased by $3.0 million as scheduled principal loan payments and loan payoffs were received in the normal course of business. Contributing to the decrease in loans was the transfer of $1.5 million in loans to other real estate owned through or in lieu of foreclosure, and the charge-off of $1.4 million in loans to the allowance for loan and lease losses.

Index

NORTHERN STATES FINANCIAL ~~CORPORTION~~CORPORATION

~~Core~~At ~~deposits~~March 31, ~~defined~~2012, asapproximately ~~retail~~95 ~~and~~percent ~~commercial~~of ~~demand,~~the ~~NOW,~~Bank’s ~~money~~loan ~~market~~portfolio ~~and~~was ~~savings~~secured ~~accounts~~by ~~that~~real ~~have~~estate. The ~~generally~~Company’s ~~lower~~loans ~~interest~~to ~~costs~~the hotel industry totaled $46.8 million, ~~which~~or ~~management~~183 ~~believes~~percent ~~are~~of ~~more~~total ~~stable~~capital at March 31, ~~remained~~2012, ~~relatively~~decreasing ~~unchanged~~slightly atfrom ~~September~~$47.0 30million, or 165 percent of capital at year-end 2011. ~~Total~~Loans ~~core~~totaling ~~deposits~~$26.1 million secured by 1-4 family homes and 5+ family residences at ~~September~~March 3031, ~~2011~~2012 ~~totaled~~were pledged to secure a line of credit of $~~209~~14.3 million from the Federal Home Loan Bank of Chicago. At March 31, ~~increasing~~2012, loans totaling $~~775,000~~79.3 ~~from~~million had payment schedules where only interest is collected until the loans mature as compared with $~~208~~96.51 million in loans at December 31, ~~2010~~2011. At March 31, 2012, $19.0 million of loans having interest only payments were home equity loans.

Loan commitments declined $1.2 million to $31.0 million at March 31, 2012, compared with $32.2 million at December 31, 2011. Letters of credit decreased during the nine months ended March 31, 2012, to $1.7 million from $2.3 million at year-end 2011.

At March 31, 2012, loans to related parties totaled $119,000 as compared with $238,000 at December 31, 2011. Loan commitments and letters of credit issued to related parties were $95,000 at March 31, 2012 compared with $247,000 at December 31, 2011. Loans, loan commitments and letters of credit to related parties are made on the same terms and conditions that are available to the public.

The decline in the Company’s assets was primarily offset by deposit decreases of $5.8 million. Deposits totaled $391.8 million at March 31, 2012 compared with $397.6 million at December 31, 2011. Time deposits decreased $20.4 million as management reduced its dependence on wholesale internet time deposits by $14.6 million and lowered its brokered time deposits by $1.7 million. Offsetting some of the decline were increases to demand deposits of $2.7 million, interest bearing demand deposits (“NOW”) of $6.7 million and low cost savings accounts of $5.9 million. Related party deposits at March 31, 2012 totaled $1.5 million as compared with $2.1 million at year-end 2011.

At March 31, 2012, the mix of deposits changed as retail deposits increased $10.6 million to 72.1 percent of deposits from 68.3 percent at year-end 2011. Wholesale internet time deposits decreased $14.6 million to 3.6 percent of deposits from 7.2 percent at year-end 2011.

Core deposits, defined as retail and commercial demand, NOW, money market and savings accounts, which generally have lower interest costs and management believes are more stable, increased $12.2 million, or 5.7%, to $227.2 million at March 31, 2012 from $215.0 million at year-end 2010.

As an adequately capitalized institution, the Bank may not accept, renew or roll over brokered deposits without prior approval of the FDIC. Brokered deposits also include deposits with rates of interest that are more than 75 basis points above the rate applicable to the applicable market of the Bank as determined by the FDIC. However, the Bank has received designation by the FDIC that the Bank is operating in a high rate area. This allows the Bank to use local average deposit rates as a basis for setting competitive rates on its deposits. ~~However, other depositors, including some local government entities, may choose not to maintain their deposits at the Bank if the Bank is no longer classified as well capitalized.~~ The Bank also has received permission from the FDIC to offer brokered CDARS time deposits. At ~~September~~March 3031, ~~2011~~2012, brokered CDARS time deposits totaled $1410.92 million.

Securities sold under repurchase agreements declined $142.8 million at ~~September~~March 3031, ~~2011~~2012 to $2016.76 million compared with $3519.54 million at December 31, ~~2010~~2011. The Company, inby managing its liquidity, has lessened its reliance on this source of funds due to the pledging of securities that is required. ~~Related~~There were no related party repurchase agreements at ~~September~~March 3031, ~~2011~~2012 ~~totaled~~and ~~$2.1~~December ~~million~~31, ~~as compared with $5~~2011.~~2 million at year-end 2010.~~

CAPITAL RESOURCES

Total stockholders’ equity decreased $2.6 million to $30.7 million at September 30, 2011 as compared with $33.3 million at year-end 2010. The Company’s net loss of $5.1 million and accrual for dividends on the preferred stock of $699,000 for the nine months ended September 30, 2011 were offset by a $3.0 million increase to accumulated other comprehensive income relating to the unrealized gains on securities available for sale, net of deferred tax, and $210,000 due to the accretion of the unearned portion of stock awards. The book value of the Company’s outstanding common stock at September 30, 2011 was $3.16 per share, compared with $3.95 at December 31, 2010.

On a consolidated basis, the Company’s Tier 1 to average assets ratio and total capital to assets ratio, on a risk adjusted basis, were 7.77 percent and 12.44 percent, respectively, at September 30, 2011. The Bank’s Tier 1 to average assets ratio and the total capital to assets ratio, on a risk adjusted basis, were 8.20 percent and 13.01 percent, respectively, as of September 30, 2011, which are above the capital levels required by the Consent Order of 8.00 percent and 12.00 percent.

Index

NORTHERN STATES FINANCIAL ~~CORPORTION~~CORPORATION

The Company is committed to actively service and maintain its current loan portfolio and is focused on the reduction of its nonperforming assets. As a consequence, the Company expects further declines in loan balances in 2012 due to scheduled principal payments and maturities.

The Company expects deposits to decrease by further reducing its reliance on wholesale internet time deposits that totaled $13.9 million at March 31, 2012. Subsequent to March 31, 2012, the Company, in order to improve its net interest margin, reduced its deposit rates which the Company expects may cause deposit levels to decrease further. With deposits expected to decrease, the Company will remain diligent in maintaining proper liquidity levels.

CAPITAL RESOURCES

Total stockholders’ equity decreased $2.9 million to $25.6 million at March 31, 2012 as compared with $28.5 million at year-end 2011. The Company’s net loss of $2.8 million and accrual for dividends on the preferred stock of $243,000 for the three months ended March 31, 2012 were offset by a $86,000 increase to accumulated other comprehensive income relating to the unrealized gains on securities available for sale, net of deferred tax, and $30,000 due to the accretion of the unearned portion of stock awards. The book value of the Company’s outstanding common stock at March 31, 2012 was $1.95 per share, compared with $2.65 at December 31, 2011.

On a consolidated basis, the Company’s Tier 1 to average assets ratio and total capital to assets ratio, on a risk adjusted basis, were 7.27 percent and 12.38 percent, respectively, at March 31, 2012. The Bank’s Tier 1 to average assets ratio and the total capital to assets ratio, on a risk adjusted basis, were 8.23 percent and 13.30 percent, respectively, as of March 31, 2012, which are above the capital levels required by the Consent Order of 8.00 percent and 12.00 percent.

In January 2011, 207,500 shares of restricted stock were issued pursuant to the 2009 Restricted Stock Plan from the Company’s treasury stock. During the second and third quarters of 2011, employees, who left the Company, forfeited 2,000 shares of restricted stock, which were returned to treasury stock. At March 31, 2012, 194,500 shares were available for issuance under the Plan. Of the 80,000 shares issued to directors, 70,000 shares vested during the first quarter of 2011, while the remaining 10,000 shares fully vest in January 2013. A total of 125,500 restricted stock shares granted to employees of the Company will fully vest in January 2013. The expense attributable to these restricted stock awards recognized during the three months ended March 31, 2012 and 2011 totaled $30,000 and $152,000, respectively.

LIQUIDITY

The Company’s liquidity is measured by the ability to raise funds through deposits, borrowed funds, capital or cash flow from the repayment or maturities of loans and securities and net profits. Liquidity is primarily managed through deposits and liquid assets such as cash and due from banks less any reserve requirements, securities available for sale less any pledged securities and federal funds sold. Asset and liability management is the process of managing the balance sheet to achieve a mix of earning assets and liabilities in such a way that achieves an interest rate risk profile acceptable to management and assists in achieving a desired level of profitability. An important part of the overall asset and liability management process is providing adequate liquidity. ~~Liquid~~The Company’s liquid assets ~~consist~~consisting of cash and cash equivalents less any Federal Reserve Bank deposit requirements and normal branch cash reserves plus unpledged securities available for sale~~. The~~ ~~Company’s liquid assets~~ totaled $5563.26 million at ~~September~~March 3031, ~~2011~~2012, ~~decreasing~~increasing $~~300,000~~2.4 million as compared with $5561.52 million at December 31, ~~2010~~2011.

As required by the Consent Order, management developed a liquidity plan that identifies the sources of liquid assets available to meet the Bank’s contingency funding needs over the next twelve months. This liquidity plan looks at the Bank’s ability to meet the cash flow requirements of customers and other operating needs and seeks to manage liquidity to meet these requirements. The Company needs to have sufficient cash flow to meet borrowers’ needs to fund loans or the requirements of depositors wanting to withdraw funds. The Statements of Cash Flows shows that for the nine months ended September 30, 2011, cash and cash equivalents increased by $11.1 million to $41.5 million as compared with $30.4 million at December 31, 2010.

The Consent Order also restricts payments of dividends from the Bank to the Company and as such conserves liquidity and capital at the Bank. Dividends from the Bank are needed to fund dividend payments by the Company to its preferred and common stockholders and the interest payments on its subordinated debentures. Due to this restriction, among other factors, it is expected that the Company will continue to suspend dividend payments on its Series A Preferred Stock issued under the TARP Capital Purchase Program for the balance of 2011 and there will be no dividends to common stockholders in 2011. The Company may not pay dividends to its common stockholders as long as there are accrued and unpaid dividends on the Series A Preferred Stock. Further under the TARP CPP, the dividends of the Company may not exceed the dividend payout rate in effect immediately before the issuance of the Series A Preferred Stock until such Series A Preferred Stock is repaid. Also, the Company will continue to defer interest payments on its subordinated debentures. The accumulated dividends payable on the Series A Preferred Stock totaled $1.9 million at September 30, 2011 and the deferred interest payments payable on the subordinated debentures totaled $682,000 at September 30, 2011.

Liquid assets consist of cash and due from banks, federal funds sold, interest bearing deposits in financial institutions with maturities less than 90 days, unpledged securities available for sale less reserve requirements and normal cash reserves. As part of the liquidity policy, management reviews the Bank’s on-balance sheet liquidity ratio daily. The on-balance sheet liquidity ratio is the net liquid assets divided by total deposits. At September 30, 2011, this internally calculated ratio at the Bank was 14.0 percent as compared with 14.2 percent at year-end 2010.

The Bank’s liquidity plan considers the liquidity provided by scheduled principal payments by borrowers as well as estimated anticipated payoffs of loans as the Bank attempts to lower its concentrations to the hotel industry. The Bank expects to receive liquidity from loan principal payments by borrowers of approximately $575,000 per month. Scheduled principal reductions on mortgage-backed securities are expected to be approximately $700,000 per month and are another source of liquidity to the Bank.

Index

NORTHERN STATES FINANCIAL ~~CORPORTION~~CORPORATION

~~Federal~~As ~~funds~~required ~~sold~~by ~~and~~the ~~interest~~Consent ~~bearing~~Order, ~~deposits~~management indeveloped ~~financial~~a ~~institutions~~liquidity ~~with~~plan ~~maturities~~that ~~less~~identifies ~~than~~the 90sources ~~days~~of ~~are~~liquid ~~also~~assets ~~principal~~available ~~sources~~to meet the Bank’s contingency funding needs over the next twelve months. This liquidity plan looks at the Bank’s ability to meet the cash flow requirements of customers and other operating needs and seeks to manage liquidity to meet these requirements. ~~These~~The ~~funds~~Company ~~totaled~~needs ~~$33~~to have sufficient cash flow to meet borrowers’ needs to fund loans or the requirements of depositors wanting to withdraw funds.7 The ~~million~~Statements atof ~~September~~Cash 30Flows shows that for the three months ended March 31, ~~2011~~2012, cash and cash equivalents decreased by $466,000 to $37.4 million as compared with $2437.78 million at December 31, ~~2010~~2011.

~~The~~As ~~Company~~part ~~classifies all~~ of ~~its~~the ~~securities~~liquidity ~~as available for sale~~policy, ~~which~~management ~~increases~~reviews the ~~Company'~~Bank’s ~~flexibility~~on-balance insheet ~~that~~liquidity ~~the~~ratio ~~Company~~daily. The ~~can~~on-balance ~~use~~sheet ~~its unpledged securities to meet~~ liquidity ~~requirements~~ratio byis ~~selling~~ the ~~unpledged~~net ~~securities~~liquid orassets divided by ~~increasing~~total ~~its repurchase agreement balances~~deposits. ~~Securities~~At ~~available~~March ~~for sale totaled $90.5 million at September 30~~31, ~~2011~~2012, ofthis ~~which~~internally ~~$68.7~~calculated ~~million~~ratio ~~were~~at ~~pledged~~the toBank ~~secure~~was ~~public deposits and repurchase agreements~~18. At5 ~~December~~percent ~~31,~~as ~~2010,~~compared ~~securities~~with ~~available for sale totaled $91~~18.82 ~~million~~percent ofat ~~which~~year-end ~~$59~~2011.~~0 million were pledged.~~

AnThe ~~important~~Bank’s ~~source of~~ liquidity toplan ~~the~~considers ~~Company is deposits. Under~~ the ~~Consent~~liquidity ~~Order,~~provided ~~the~~by ~~Bank~~scheduled ~~must~~principal ~~limit~~payments its brokered time deposits. As a result of the Consent Order, the Bank is not permitted to pay a rate of interest on deposit products that is more than 75 basis points above the rate applicable to the applicable market of the Bank as determined by ~~the~~borrowers ~~FDIC. As a factor in its liquidity plan, the Company anticipates that brokered time deposits, “High Yield Checking” NOW accounts~~ and ~~public~~estimated ~~deposits~~principal ~~may~~reductions ~~decrease~~on ~~from~~mortgage-backed ~~their current levels due in part to the Bank’s compliance with the Consent Order~~securities. The Bank expects ~~that~~to areceive ~~portion~~liquidity offrom ~~these~~loan ~~deposit~~principal ~~reductions~~payments ~~will be offset~~ by ~~growth~~borrowers inof ~~core~~approximately ~~deposits~~$530,000 ~~from~~per ~~new~~month ~~retail~~ and ~~commercial~~scheduled ~~customers~~principal asreductions well as wholesale internet time deposits, which are not considered brokered. The FDIC has recognized that the Bank is operating in a high rate area, which allows the Bank to use local average deposit rates as a basis for setting competitive rates on ~~its~~mortgage-backed ~~deposits. However,~~securities ~~it is expected that deposits will decline during the balance~~ of ~~2011~~approximately ~~and~~$750,000 ~~liquidity~~per ~~available from deposits will be limited~~month.

InFederal ~~its~~funds ~~liquidity~~sold ~~plan,~~and ~~the~~interest ~~Bank~~bearing ~~considers~~deposits ~~its~~in ~~line~~financial ofinstitutions ~~credit~~with ~~available~~maturities atless ~~the~~than ~~Federal~~90 ~~Home~~days ~~Loan~~are ~~Bank~~a component of ~~Chicago,~~the ~~which~~Company’s ~~was~~cash ~~$15.4~~and ~~million~~cash ~~at September 30, 2011, as a source of liquidity~~equivalents. ~~There~~These ~~were~~funds nototaled ~~outstanding~~$29.9 ~~balances~~million ~~on this line of credit~~ at ~~either~~March ~~September 30, 2011 or December~~ 31, ~~2010. At~~2012 ~~September~~as ~~30,~~compared ~~2011,~~with ~~the Company has pledged loans totaling~~ $2832.85 million asat ~~security~~December ~~for~~31, ~~this line~~2011.

~~RESULTS~~The OFCompany ~~OPERATIONS~~classifies all of its securities as available for sale, which increases the Company's flexibility in that the Company can use unpledged securities to meet liquidity requirements by selling the unpledged securities or by increasing its repurchase agreement balances. Securities available for sale totaled $85.2 million at March 31, 2012, of which $51.2 million were pledged to secure public deposits and repurchase agreements. At December 31, 2011, securities available for sale totaled $87.1 million of which $57.0 million were pledged.

~~NET~~Another ~~INCOME~~source of liquidity to the Company is deposits. Under the Consent Order, the Bank must limit its brokered time deposits. As a result of the Consent Order, the Bank is not permitted to pay a rate of interest on deposit products that is more than 75 basis points above the rate applicable to the applicable market of the Bank as determined by the FDIC. At March 31, 2012, wholesale internet time deposits and brokered time deposits decreased $16.2 million from year-end 2011 and the Company expects that they will continue to decrease due in part to the Bank’s compliance with the Consent Order. The FDIC has recognized that the Bank is operating in a high rate area, which allows the Bank to use local average deposit rates as a basis for setting competitive rates on its deposits. However, it is expected that deposits will continue to decline during the balance of 2012 and liquidity available from deposits will be limited.

~~The~~An ~~Company~~additional ~~recognized~~source ~~a loss available to common stockholders for the quarter ended September 30, 2011~~ of ~~$2.0~~liquidity ~~million,~~is ~~as compared with~~ a ~~loss~~line ~~available to common stockholders~~ of ~~$396,000~~credit ~~for~~available at the ~~same~~Federal ~~quarter~~Home ofLoan ~~2010. The~~Bank ~~loss during the third quarter~~ of ~~2011~~Chicago, which was ~~primarily due to a provision to the allowance for loan and lease losses of~~ $214.03 million, ~~write-downs~~at toMarch ~~other~~31, ~~real~~2012. There ~~estate~~were ~~owned~~no ofoutstanding ~~$797,000~~balances ason ~~property~~this ~~values~~line ~~declined~~of ~~and~~credit ~~other~~at ~~real~~either ~~estate~~March ~~owned~~31, ~~servicing~~2012 ~~expenses~~or ofDecember ~~$525~~31,~~000~~ 2011. ~~The~~At ~~loss~~March ~~for~~31, ~~the~~2012, ~~same quarter of 2010 was primarily~~ the ~~result~~Company ofhas ~~provision~~pledged toloans ~~the~~totaling ~~allowance for loan and lease losses of~~ $~~338,000~~26.1 ~~and~~million ~~write-downs~~as tosecurity ~~other~~for ~~real~~this ~~estate owned of $1~~line.~~1 million.~~

~~For~~The ~~the~~Consent ~~nine~~Order ~~months~~also ~~ended~~restricts ~~September~~payments ~~30,~~of ~~2011,~~dividends from the Bank to the Company ~~posted~~and aas ~~loss~~such ~~available~~conserves toliquidity ~~common~~and ~~stockholders~~capital ofat $5the Bank.9 Dividends ~~million~~from asthe ~~compared~~Bank ~~with~~are aneeded ~~loss~~to ~~available~~fund dividend payments by the Company to ~~common~~its ~~stockholders~~preferred ofand ~~$3.5~~common ~~million~~stockholders ~~for~~and the ~~same~~interest ~~period~~payments ofon ~~2010~~its subordinated debentures. The ~~loss~~Written ~~for~~Agreement between the ~~nine~~Company ~~months~~and ~~ended~~the ~~September~~Federal ~~30,~~Reserve ~~2011~~Bank ~~resulted~~dated ~~from~~March ~~provisions~~17, ~~for~~2011, ~~loan~~prohibits ~~losses~~the ofCompany ~~$5.7~~form ~~million,~~paying ~~write-downs~~dividends ofon ~~other~~its ~~real~~Series ~~estate~~A ~~owned~~Preferred ofStock ~~$2.1~~issued ~~million,~~under ~~other~~the ~~real~~TARP ~~estate~~Capital ~~owned~~Purchase ~~servicing~~Program. Due ~~expenses~~to ofthese ~~$829~~constraints,~~000~~ ~~and~~it ~~loan~~is ~~and~~expected ~~collection~~that ~~expenses~~the ofCompany ~~$822,000~~will ~~that~~continue ~~were~~to ~~primarily~~suspend ~~related~~dividend topayments ~~nonperforming~~on ~~assets. The~~its ~~loss~~Series ~~for~~A ~~the~~Preferred ~~nine~~Stock ~~months~~and ~~ended~~will ~~September~~not ~~30,~~pay ~~2010~~any ~~resulted~~dividends ~~from~~to ~~provisions~~common ~~for~~stockholders ~~loan~~in ~~losses~~2012. Also, ofthe ~~$4.6~~Company ~~million,~~will ~~write-downs~~continue ofto ~~other~~defer ~~real~~interest ~~estate~~payments ~~owned~~on ofits $2subordinated debentures.5 At ~~million~~March ~~and~~31, ~~other~~2012, ~~than~~the ~~temporary~~accumulated ~~impairment~~dividends ~~write-downs~~payable toon ~~securities~~the ofSeries A Preferred Stock totaled $~~659,000~~2. ~~The~~4 ~~loss~~million ~~during~~and the ~~2010~~cumulative ~~period~~deferred ~~was~~interest ~~partially~~payments ~~offset~~payable byon ~~gains from~~ the ~~sale~~subordinated ofdebentures ~~securities~~totaled of $~~653~~808,000.

Index

NORTHERN STATES FINANCIAL ~~CORPORTION~~CORPORATION

RESULTS OF OPERATIONS

NET INCOME

The Company recognized a loss available to common stockholders for the quarter ended March 31, 2012 of $3.1 million, as compared with a loss of $1.4 million for the same quarter of 2011. The loss during the first quarter of 2012 was primarily due to a provision to the allowance for loan and lease losses of $1.4 million, write-downs to other real estate owned of $2.0 million and losses on the sale of other real estate owned of $216,000. The loss for the same quarter of 2011 was primarily the result of provision to the allowance for loan and lease losses of $1.2 million, write-downs to other real estate owned of $673,000 and impairment write-downs to securities of $163,000.

NET INTEREST INCOME

Net interest income, the difference between interest income on earning assets and interest expense on interest bearing liabilities, decreased 9.7.8 percent or $~~485~~364,000, and totaled $4.53 million for the ~~three~~quarter ~~months~~ ended ~~September~~March 3031, ~~2011,~~ 2012 as compared with $54.06 million for the same quarter of ~~2010~~2011. The decrease to net interest income for the quarter was attributable to a decrease in average interest earning assets of $3070.69 million for the ~~third~~first quarter of ~~2011~~2012 as compared with the same quarter of ~~2010~~2011. ~~Contributing to the decline in net interest income was the reversal of $183,000 of loan interest income on loans placed on nonaccrual status or restructured during the quarter.~~

Most of the $3070.69 million decline to average interest earning assets ~~during the third quarter of 2011 as compared with the same quarter last year~~ was attributable to decreases in average loans of $3559.59 million and decreases in average ~~taxable~~federal ~~securities~~funds sold and other interest earning assets of $56.52 million. The decrease in average loans was due to transfers of loans to other real estate owned, scheduled loan payments and payoffs and ~~the~~charge-offs ~~sale~~ of anuncollectible ~~out~~loans ofto ~~market loan. The decrease in average taxable securities resulted from scheduled principal reductions on~~ the ~~securities~~ALLL. ~~Offsetting~~Average atime ~~portion of these decreases was growth to lower earning federal funds sold, which includes interest bearing~~ deposits ~~from~~decreased ~~banks, of~~ $1077.56 million during the quarter.

The net interest spread, the difference between rates earned on interest earning assets and paid on deposits and borrowings for the quarter ended ~~September~~March 3031, ~~2011~~2012 ~~decreased~~increased 1232 basis points to 3.6891 percent as compared with 3.8059 percent for the same quarter last year. Yields on interest earning assets ~~declined~~remained 59constant ~~basis~~at ~~points~~4.33 percent for the ~~third~~first quarter of ~~2011~~2012 ~~while rates paid on deposits and borrowings declined only 47 basis points. The loan yield declined 50 basis points for the quarter~~ as acompared ~~result~~with of the ~~levels~~same ofquarter ~~nonaccrual~~last ~~loans~~year ~~and~~while ~~the~~rates ~~reversal~~paid ofon ~~$183,000 in~~ interest onbearing ~~loans~~liabilities ~~placed~~declined on32 ~~nonaccrual~~basis ~~and restructured status~~points. The ~~change~~decline toin ~~the~~rates ~~mix~~paid ofon ~~average~~interest ~~earning~~bearing ~~assets~~liabilities ~~where~~was ~~higher~~mainly ~~earning~~due ~~loans and securities decreased while lower earning federal funds sold increased also contributed~~ to ~~the decreased earning asset yield. Deposit~~ rates ~~declined as rates~~ paid on time ~~deposits~~deposit ~~were~~rates atthat ~~historically~~decreased ~~low~~56 ~~levels~~basis points.

Net interest income for the nine months ended September 30, 2011 declined $504,000 as compared with the same period of 2010 due to lower volumes of average earning assets that more than offset increases to the net interest spread. Average interest earning assets for the nine months ended September 30, 2011 declined $46.9 million compared with the same time period last year. The interest rate spread for the nine months ended September 30, 2011 was 3.65 percent increasing 23 basis points compared with 3.42 percent for the same time period last year as deposit rates declined to a greater extent than rates on interest earning assets.

Index

NORTHERN STATES FINANCIAL CORPORTION

TABLE 1

NORTHERN STATES FINANCIAL CORPORATION

ANALYSIS OF AVERAGE BALANCE AND TAX EQUIVALENT RATES

For the Three Months Ended March ~~September 30~~31, ~~2011~~2012 and ~~2010~~2011 - Rates are Annualized

($ 000s)

			2011							2010
			2012							2011
	Average							Average
	Balance		Interest		Rate			Balance		Interest		Rate
Assets
Loans (1)(2)(3)	$	~~366~~320,~~419~~451	$	4,~~519~~124		45.9315	%	$	~~401~~380,~~897~~376	$	54,~~453~~862		5.4311	%
Taxable securities (4)		8784,~~999~~916		~~523~~506		2.4144	%		9388,~~474~~850		~~655~~562		2.8946	%
Tax advantaged securities (2) (4)		3,864		55		5.76	%		3,988		58		6.04	%
Tax advantaged securities (2)(4)		3,008		46		6.36	%		3,906		55		5.75	%
Federal funds sold		29,439		13		0.18	%		18,984		8		0.17	%
Federal funds sold and other interest earning assets		26,340		14		0.21	%		32,492		16		0.20	%
Interest earning assets		487,721		5,110		4.20	%		518,343		6,174		4.79	%
Interest earning assets (4)		434,715		4,690		4.33	%		505,624		5,495		4.33	%
Noninterest earning assets		1719,~~486~~782							3328,~~344~~053
Total average assets	$	~~505~~454,~~207~~497						$	~~551~~533,~~687~~677
Liabilities and stockholders' equity
NOW deposits	$	60,~~612~~196	$	3439		0.2226	%	$	6159,~~278~~711	$	4134		0.2723	%
Money market deposits		5053,~~941~~384		3840		0.30	%		51,~~003~~066		6844		0.5334	%
Savings deposits		6668,~~514~~932		8		0.05	%		6364,~~427~~601		1613		0.1008	%
Time deposits		~~189~~139,~~981~~418		~~370~~204		0.7859	%		217,~~699~~019		~~804~~623		1.4815	%
Other borrowings		3227,~~542~~887		7173		01.8705	%		4838,~~542~~770		~~169~~87		10.3990	%
Interest bearing liabilities		~~400~~349,~~590~~817		~~521~~364		0.5242	%		~~441~~431,~~949~~167		~~1,098~~801		0.9974	%
Demand deposits		6668,~~017~~184							62,~~834~~316
Other noninterest bearing liabilities		67,~~125~~762							56,~~467~~398
Stockholders' equity		3228,~~475~~734							4133,~~437~~796
Total average liabilities and stockholders' equity	$	~~505~~454,~~207~~497						$	~~551~~533,~~687~~677
Net interest income			$	4,~~589~~326						$	54,~~076~~694
Net interest spread						3.6891	%						3.8059	%
Net yield on interest earning assets (4)						34.7700	%						3.9470	%
Interest-bearing liabilities to earning assets ratio						8280.1447	%						85.2627	%

(21) - ~~Tax-exempt~~Interest income ~~is reflected~~ on aloans ~~fully~~includes ~~tax~~loan ~~equivalent~~origination ~~basis~~and ~~utilizing~~net afees 34of ~~percent tax rate. The tax equivalent adjustment reflected in the above table for municipal loans is approximately~~ $2719,000 and $2928,000 for the three months ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011, respectively. ~~The tax equivalent adjustment reflected in the above table for municipal securities is approximately $19,000 for both the three months ended September 30, 2011 and 2010.~~

(2)

Tax-exempt income is reflected on a fully tax equivalent basis utilizing a 34 percent tax rate. The tax equivalent adjustment reflected in the above table for municipal loans is approximately $26,000 and $27,000 for the three months ended March 31, 2012 and 2011, respectively. The tax equivalent adjustment reflected in the above table for municipal securities is approximately $16,000 and $19,000 for the three months ended March 31, 2012 and 2011, respectively.

(3)

Non-accrual loans are included in average loans.

(4) - Rate information was calculated on the average amortized cost for securities. The three months ended ~~September~~March 3031, ~~2011~~2012 and ~~2010~~2011 average balance information includes an average unrealized gain (loss) for taxable securities of $1,~~066~~797,000 and ($2,~~890~~587,000) and for tax-advantaged securities of $45114,000 and $~~144~~81,000, respectively.

Index

NORTHERN STATES FINANCIAL CORPORTION

~~NORTHERN~~ASSET ~~STATES~~QUALITY ~~FINANCIAL~~AND ~~CORPORATION~~THE PROVISION FOR LOAN AND LEASE LOSSES

~~ANALYSIS~~At OFMarch ~~AVERAGE~~31, ~~BALANCE~~2012, ~~AND~~management, ~~TAX~~with ~~EQUIVALENT~~the ~~RATES~~concurrence of the Board of Directors, after carefully reviewing the adequacy of the allowance for loan and lease losses and the levels of nonperforming and impaired loans and leases, determined that an allowance of $19.0 million, approximately the same level as at year-end 2011, was adequate to cover potential loan and lease losses,. The Company’s allowance for loan and lease losses to total loans ratio was 6.01 percent at March 31, 2012 compared with 5.88 percent at December 31, 2011.

~~For~~During the ~~Nine~~quarter ~~Months~~ended ~~Ended~~March 31, 2012, $1.4 million in loans and leases were charged-off against the allowance due primarily to the charge-off of a $1.2 million construction loan as compared with charge-offs of $1.0 million during the same quarter last year. ~~September~~Recoveries 30of loans previously charged-off totaled $1,000, as compared with $5,000 in recoveries during the same quarter in 2011. The provision for loan and ~~2010~~lease -losses ~~Rates~~was ~~are~~$1.4 ~~Annualized~~million as compared with $1.2 million during the same quarter in 2011.

Nonperforming loans and leases includes 1) loans and leases on nonaccrual status; 2) loans and leases 90 days or more past due and still accruing interest; and 3) accruing loans less than 90 days past due classified as troubled debt restructurings (“TDRs). Total nonperforming loans and leases increased $7.6 ~~000s)~~million to $79.3 million, or 25.0 percent of total loans and leases, at March 31, 2012 as compared with $71.7 million, or 22.2 percent of total loans and leases, at December 31, 2011.

			2011							2010
	Average							Average
	Balance		Interest		Rate			Balance		Interest		Rate
Assets
Loans (1)(2)(3)	$	373,741	$	14,104		5.03	%	$	411,227	$	15,971		5.18	%
Taxable securities (4)		88,223		1,632		2.44	%		103,834		2,367		3.07	%
Tax advantaged securities (2) (4)		3,892		165		5.76	%		5,426		242		6.10	%
Federal funds sold		30,543		47		0.21	%		22,842		29		0.17	%
Interest earning assets		496,399		15,948		4.28	%		543,329		18,609		4.58	%
Noninterest earning assets		22,538							34,306
Total average assets	$	518,937						$	577,635
Liabilities and stockholders' equity
NOW deposits	$	60,674	$	104		0.23	%	$	62,974	$	209		0.44	%
Money market deposits		50,543		117		0.31	%		52,659		219		0.55	%
Savings deposits		66,178		29		0.06	%		63,247		47		0.10	%
Time deposits		201,911		1,463		0.97	%		236,577		3,068		1.73	%
Other borrowings		35,500		237		0.89	%		52,812		537		1.36	%
Interest bearing liabilities		414,806		1,950		0.63	%		468,269		4,080		1.16	%
Demand deposits		64,569							60,904
Other noninterest bearing liabilities		6,387							6,319
Stockholders' equity		33,175							42,143
Total average liabilities and stockholders' equity	$	518,937						$	577,635
Net interest income			$	13,998						$	14,529
Net interest spread						3.65	%						3.42	%
Net yield on interest earning assets (4)						3.75	%						3.57	%
Interest-bearing liabilities to earning assets ratio						83.56	%						86.19	%

The $7.6 million increase to nonperforming loans from year-end 2011 was primarily the result of a $7.2 million increase to nonperforming real estate-construction loans that were affected by the continued decline in general real estate prices. During the first quarter of 2012, one real estate-construction loan relationship totaling $4.2 million secured by the construction of 1-4 family units became 90 days or more past due, still accruing while another real estate-construction loan relationship secured by vacant loan totaling $4.0 million was classified as aTDR during the quarter as concessions were made to the borrower.

~~(1)~~Nonaccrual loans decreased $736,000 to $18.7 million at March 31, 2012 from year-end ~~Interest~~2011. ~~income~~The onCompany ~~loans~~is ~~includes~~attempting ~~loan~~to ~~origination~~work ~~and~~with ~~net~~the ~~fees~~nonaccrual ofborrowers ~~$39,000~~to ~~and~~resolve ~~$130~~their issues,~~000~~ ~~for~~but in many cases where the ~~nine~~loans ~~months~~are ~~ended~~collateralized ~~September~~by 30real estate, ~~2011~~the Company may have to foreclose on the properties securing the loans and ~~2010,~~transfer ~~respectively~~the collateral to other real estate owned.

~~(2)~~Loans -90 ~~Tax-exempt~~days ~~income~~or ismore ~~reflected~~past ondue, astill ~~fully~~accruing ~~tax~~totaled ~~equivalent basis utilizing a 34 percent tax rate~~$5.8 ~~The~~million ~~tax~~at ~~equivalent~~March ~~adjustment reflected in the above table for municipal loans is approximately $83~~31,~~000~~ ~~and $84~~2012,~~000~~ ~~for~~an ~~the~~increase ~~nine~~of ~~months~~$5.3 ~~ended~~million ~~September~~from ~~30,~~year-end 2011 ~~and~~primarily ~~2010,~~due ~~respectively.~~to ~~The~~the ~~tax~~addition ~~equivalent~~during ~~adjustment reflected in~~ the ~~above~~quarter ~~table~~of ~~for~~one ~~municipal~~real ~~securities~~estate-construction isloan ~~approximately~~relationship ~~$56,000~~totaling ~~and~~ $~~82,000~~4.2 ~~for~~million. ~~the~~These ~~nine~~loans ~~months~~were ~~ended~~considered ~~September~~both ~~30,~~well ~~2011~~secured and ~~2010,~~in ~~respectively~~the process of collection.

(TDRs increased $3).0 million to $54.7 million at March 31, 2012 from year-end ~~Non~~2011 primarily due to a real estate-~~accrual~~construction loan relationship totaling $4.0 million which was classified as aTDR during the first quarter of 2012. Restructuring of loans ~~are~~is ~~included~~undertaken to improve the likelihood that the loan will be repaid in ~~average~~full under the modified terms in accordance with a reasonable repayment schedule. All restructured loans are evaluated to determine whether the loans should be reported as a TDR. A loan is a TDR when the Company, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower by modifying or renewing a loan that the Company would not otherwise consider. To make this determination the Bank must determine whether (a) the borrower is experiencing financial difficulties and (b) the Company granted the borrower a concession (c) absent the current modification, would the borrower more than likely default. Factors to consider in determining whether the Company has granted a concession include: lowering the interest rate, extending the maturity date, forgiving debt, reducing accrued interest or changing the payment to interest only for an extended period of time. This determination requires consideration of all of the facts and circumstances surrounding the modification. An overall general decline in the economy or some deterioration in a borrower’s financial condition does not automatically mean the borrower is experiencing financial difficulties. TDRs at March 31, 2012 were still accruing and none were considered past due greater than 30 days.

(4) - Rate information was calculated on the average amortized cost for securities. The nine months ended September 30, 2011 and 2010 average balance information includes an average unrealized gain (loss) for taxable securities of ($888,000) and $880,000 and for tax-advantaged securities of $71,000 and $136,000, respectively.

Index

NORTHERN STATES FINANCIAL CORPORTION

~~ASSET~~The ~~QUALITY~~Company ~~AND~~considers ~~THE~~a ~~PROVISION~~loan ~~FOR~~impaired ~~LOAN~~if ~~AND~~full ~~LEASE~~principal ~~LOSSES~~and interest is not expected to be collected under the contractual terms of the original note. Nonaccrual and accruing TDR loans are classified as impaired. Impaired loans at March 31, 2012 totaled $77.7 million, as compared with $71.2 million at December 31, 2011, an increase of $6.5 million. Each impaired loan is individually evaluated for impairment and is carried at the lower of the loan balance or the present value of expected cash flows discounted at the loan's effective interest rate or at the fair value of the collateral less estimated costs to sell if the loan or lease is collateral dependent. At March 31, 2012, $11.7 million of the allowance for loan and lease losses was allocated to impaired loans.

At September 30, 2011, management, with the concurrence of the Board of Directors, after carefully reviewing the adequacy of the allowance for loan and lease losses and the levels of nonperforming and impaired loans and leases, determined that an allowance of $18.3 million was adequate to cover potential loan and lease losses, similar to $18.3 million at year-end 2010. The Company’s allowance for loan and lease losses to total loans ratio was 5.22 percent at September 30, 2011 compared with 4.77 percent at December 31, 2010.

During the first nine months of 2011, $5.8 million in loans and leases were charged-off against the allowance compared with charge-offs of $8.3 million during the same period last year. During the first nine months of 2011, recoveries of loans previously charged-off totaled $57,000, as compared with $124,000 in recoveries during the same period in 2010. For the nine months ended September 30, 2011, the provision for loan and lease losses was $5.7 million as compared with $4.6 million during the same period of 2010.

Nonperforming loans and leases includes 1) loans and leases on nonaccrual status; 2) loans and leases 90 days or more past due and still accruing interest; and 3) accruing loans less than 90 days past due classified as troubled debt restructurings (“TDRs). Total nonperforming loans and leases increased $11.3 million to $82.7 million, or 23.6 percent of total loans and leases, at September 30, 2011as compared with $71.4 million, or 18.6 percent of total loans and leases, at December 31, 2010.

The increase to nonperforming loans from year-end 2010 was primarily the result of a $12.0 million increase to loans 90 days or more past due, still accruing. Real estate-construction and real estate-mortgage commercial loans 90 days or more past due, still accruing increased $4.4 million and $7.9 million, respectively, from year-end. These loans are fully collateralized and in the process of collection and consist primarily of four loan relationships totaling $12.3 million. Loans totaling $5.1 million that had been 90 days or more past due, still accruing were subsequently brought current. Of these loans, a $2.7 million loan remains classified as nonperforming as it is a TDR.

Other changes to nonperforming loans were nonaccrual loans that increased $914,000 to $27.0 million at September 30, 2011 while TDRs decreased $1.7 million to $42.4 million at September 30, 2011 from year-end 2010. The Company is attempting to work with the nonaccrual borrowers to resolve their issues, but in many cases the Company may have to foreclose on the properties securing the loans and will transfer the collateral to other real estate owned. The TDR loans consist of loans where the borrower has experienced financial difficulties and the Bank has made concessions to the borrower. These concessions may include extending the term of the loan, reducing loan payments to interest only, or reducing the interest rate on the loan. The $42.4 million of TDRs at September 30, 2011 were still accruing and none were considered past due greater than 30 days.

Loan impairment is another classification of nonperforming loans. The Company considers a loan impaired if full principal and interest is not expected to be collected under the contractual terms of the note. Nonaccrual loans and TDRs, still accruing, are classified as impaired. Impaired loans at September 30, 2011 totaled $90.3 million, as compared with $80.6 million at December 31, 2010, an increase of 9.7 million. At September 30, 2011, there were $18.1 million of impaired loans that were still on an accrual basis and not TDRs as compared with $10.3 million at December 31, 2010. Each impaired loan is individually evaluated for impairment and is carried at the lower of the loan balance or the present value of expected cash flows discounted at the loan's effective interest rate or at the fair value of the collateral if the loan or lease is collateral dependent. At September 30, 2011, $11.5 million of the allowance for loan and lease losses was allocated to the impaired loans.

Management continues to emphasize the early identification of loan-related problems and remains aggressive in pursuing resolution strategies. The Company has adopted a more stringent and disciplined loan underwriting policy in regards to relationship size and out of market credits. The Company continues to be an active lender for its current customers as well as other qualifying prospective loan customers.

Another component of nonperforming assets is other real estate owned, consisting of assets acquired through or in lieu of foreclosure. At March 31, 2012, other real estate owned totaled $17.9 million, a decrease of $1.4 million from $19.3 million at December 31, 2011. The decrease in other real estate owned was due to sales of properties carried at $1.0 million in which the Company recognized losses of $216,000 and write-downs of $2.0 million taken during the three months ended March 31, 2012. During the three months ended March 31, 2012, additions of $1.5 were made to other real estate owned from nonperforming loans.

The Company’s other real estate owned portfolio at March 31, 2012, consisted primarily of 5 plus family buildings and commercial real estate of $4.4 million and $8.8 million, respectively. Other real estate owned also included $2.3 million of vacant land and $2.4 of single family homes. The Company is actively marketing all of its other real estate owned properties for sale.

The fair value of other real estate owned is reviewed by management at least quarterly to help ensure the reasonableness of its carrying value, which is lower of cost or the fair value less estimated selling costs. If values continue to deteriorate, the Company may have future additional write-downs to its other real estate owned portfolio.

Index

NORTHERN STATES FINANCIAL CORPORTION

~~Another~~TABLE component of nonperforming assets is other real estate owned, consisting of assets acquired through or in lieu of foreclosure. At September 30, 2011, other real estate owned totaled $22.3 million, a decrease of $2.0 million from $24.3 million at December 31, 2010. The decrease in other real estate owned was due to sales of properties carried at $8.0 million in which the Company recognized a net gain of $12,000 and to write-downs of $2.1 million taken on these properties during the nine months ended September 30, 2011. During the nine months ended September 30, 2011, additions of $8.1 were made to other real estate owned from nonperforming loans.

~~The~~NORTHERN ~~Company’s~~STATES ~~other~~FINANCIAL real estate owned portfolio at September 30, 2011, consisted primarily of 5 plus family buildings and commercial real estate of $9.5 million and $9.4 million, respectively. Other real estate owned also included $2.7 million of vacant land and $706,000 of single family homes. The Company is actively marketing all of its other real estate owned properties for sale.CORPORATION

AtNONPERFORMING September 30, 2011, the Company has one piece of vacant property carried at $2.0 million as other real estate owned that was acquired by the Bank through the receipt of a deed in lieu of foreclosure in 1987. The parcel consists of approximately 525,000 square feet of vacant land overlooking Lake Michigan in Waukegan, Illinois. During 2002 the Bank formed Northern States Community Development Corporation (“NSCDC”), a subsidiary of the Bank. NSCDC assets consist of cash and this parcel of other real estate owned. This subsidiary was formed for the purpose of developing and selling this parcel as part of the City of Waukegan’s lakefront development plans.LOANS

This property is a former commercial/industrial site and environmental remediation costs may be incurred in disposing of this property. During the fourth quarter of 2010, the Company had an independent environmental consultant update its opinion as to estimated environmental remediation costs. This updated report estimated that there were remaining costs of ($~~73,000~~ to achieve acceptable levels of contaminants for commercial/industrial or restricted residential land use and to prevent migration of contaminants to adjoining off-site properties and Lake Michigan. No determination has yet been made as to the ultimate end use of the property, which would need to be approved by the City of Waukegan as part of its Lakefront Downtown Master Plan. The appraised value of the property supports the Bank’s carrying value plus the estimated remaining environmental remediation costs and costs to sell. No liability has been recorded for the estimated environmental remediation costs as they are considered liquidation costs.000s)

					Troubled Debt
			90 Days or		Restructured		Total Non-		% Non-
Nonperforming loans	Nonaccrual		More Past Due,		Loans,		performing		performing
at March 31, 2012	Loans		Still Accruing		Still Accruing		Loans		Loans

Commercial	$	542	$	0	$	106	$	648		0.8	%
Real estate-construction		3,607		4,230		6,425		14,262		18.0	%
Real estate-mortgage
1-4 family		954		474		3,310		4,738		6.0	%
Real estate-mortgage
5+ family		3,983		0		0		3,983		5.0	%
Real estate-mortgage commercial		8,875		1,107		44,890		54,872		69.2	%
Home equity		763		0		0		763		1.0	%
Leases		0		0		0		0		0.0	%
Installment		0		15		0		15		0.0	%
Total	$	18,724	$	5,826	$	54,731	$	79,281		100.0	%

					Troubled Debt
			90 Days or		Restructured		Total Non-		% Non-
Nonperforming loans	Nonaccrual		More Past Due,		Loans,		performing		performing
at December 31, 2011	Loans		Still Accruing		Still Accruing		Loans		Loans

Commercial	$	548	$	0	$	108	$	656		0.9	%
Real estate-construction		4,447		152		2,428		7,027		9.8	%
Real estate-mortgage
1-4 family		1,263		0		3,901		5,164		7.2	%
Real estate-mortgage
5+ family		3,987		0		0		3,987		5.6	%
Real estate-mortgage commercial		8,772		0		45,301		54,073		75.4	%
Home equity		443		322		0		765		1.1	%
Leases		0		0		0		0		0.0	%
Installment		0		16		0		16		0.0	%
Total	$	19,460	$	490	$	51,738	$	71,688		100.0	%

Index

NORTHERN STATES FINANCIAL CORPORTION

~~NORTHERN~~TABLE ~~STATES FINANCIAL CORPORATION NONPERFORMING LOANS ($ 000s)~~3

					Troubled Debt
			90 Days or		Restructured		Total Non-		% Non-
Nonperforming loans	Nonaccrual		More Past Due,		Loans,		performing		performing
at September 30, 2011	Loans		Still Accruing		Still Accruing		Loans		Loans
Commercial	$	492	$	172	$	11	$	675		0.8	%
Real estate-construction		3,577		4,383		3,578		11,538		14.0	%
Real estate-mortgage
1-4 family		1,888		299		3,031		5,218		6.3	%
Real estate-mortgage
5+ family		3,990		0		0		3,990		4.8	%
Real estate-mortgage commercial		15,754		8,177		35,821		59,752		72.3	%
Home equity		1,341		126		0		1,467		1.8	%
Leases		0		0		0		0		0.0	%
Installment		1		15		0		16		0.0	%
Total	$	27,043	$	13,172	$	42,441	$	82,656		100.0	%

NORTHERN STATES FINANCIAL CORPORATION

					Troubled Debt
			90 Days or		Restructured		Total Non-		% Non-
Nonperforming loans	Nonaccrual		More Past Due,		Loans,		performing		performing
at December 31, 2010	Loans		Still Accruing		Still Accruing		Loans		Loans
Commercial	$	0	$	513	$	223	$	736		1.0	%
Real estate-construction		4,095		0		2,398		6,493		9.1	%
Real estate-mortgage
1-4 family		2,552		130		1,665		4,347		6.1	%
Real estate-mortgage
5+ family		8,594		0		0		8,594		12.1	%
Real estate-mortgage commercial		9,529		296		39,806		49,631		69.6	%
Home equity		1,359		172		0		1,531		2.1	%
Leases		0		0		0		0		0.0	%
Installment		0		30		0		30		0.0	%
Total	$	26,129	$	1,141	$	44,092	$	71,362		100.0	%

OTHER REAL ESTATE OWNED

44($ 000's)

Index

	March 31,		December 31,
	2012		2011

Real estate - vacant land	$	2,266	$	2,212
Real estate - 1-4 family		2,416		1,834
Real estate - 5+ family		4,433		6,565
Real estate - commercial		8,744		8,731

Total other real estate owned	$	17,859	$	19,342

NORTHERN STATES FINANCIAL CORPORTION

	Three months ended
	March 31,			March 31,
	2012			2011

Balance beginning of the period	$	19,342		$	24,326
Additions		1,453			61
Improvements		0			0
Sales proceeds		(748	)		(1,544	)
Gains (losses) on sales		(216	)		67
Write-downs		(1,972	)		(673	)

Balance at end of period	$	17,859		$	22,237

TABLE 4 NORTHERN STATES FINANCIAL CORPORATION OTHER REAL ESTATE OWNED ($ 000's)

	September 30,		December 31,
	2011		2010
Real estate - vacant land	$	2,735	$	2,209
Real estate - 1-4 family		706		1,695
Real estate - 5+ family		9,544		7,544
Real estate - commercial		9,358		12,878
Total other real estate owned	$	22,343	$	24,326

	Nine months ended
	September 30,			September 30,
	2011			2010
Balance beginning of the period	$	24,326		$	19,198
Additions		8,128			10,470
Improvements		0			34
Sales proceeds		(7,998	)		(10,496	)
Gains (losses) on sales		12			(26	)
Write-downs		(2,125	)		(2,500	)
Balance at end of period	$	22,343		$	16,680

NONINTEREST INCOME

Noninterest income for the three months ended ~~September~~March 3031, ~~2011~~2012 was $~~1.1~~651,000 ~~million~~ as compared to $~~615~~833,000 for the three months ended ~~September~~March 3031, ~~2010~~2011, ana ~~increase~~decrease of $~~488~~182,000. Noninterest income ~~increased~~declined ~~during the third quarter of 2011~~ as the Company recognized ~~gains~~losses of $14216,000 from the sale of $~~461,000~~1.0 million of other real estate owned as compared to ~~losses~~gains of $~~426~~67,000 on the sale of $61.45 million in the same ~~quarter~~three months of ~~2010~~2011. Contributing to the ~~increase~~decrease toin noninterest income ~~for~~were ~~the~~declines ~~third~~in ~~quarter~~service offees ~~2011~~on ~~were~~deposits ~~gains~~ of $~~135~~30,000 onand ~~the~~trust ~~sales~~income of $1945,000.6 During ~~million~~March of2012, ~~securities.~~the ~~Partially~~Company ~~offsetting~~instituted ~~these~~increased ~~increases were declines to~~ service charges on ~~deposits~~deposit accounts and ~~trust~~anticipates ~~income~~increases ofto ~~$58,000~~service ~~and~~fees ~~$43,000,~~in ~~respectively~~following periods. ~~Service~~Partially ~~fee~~offsetting ~~income~~these ondecreases ~~deposit~~was ~~accounts~~that there was ~~impacted~~no byimpairment ~~decreased~~write-downs ~~overdraft~~of ~~fee~~securities ~~income~~during the three months ended March 31, 2012 as compared with $163,000 for the same three months of 2011.

For the nine months ended September 30, 2011, the Company’s noninterest income decreased $190,000 to $2.9 million as compared to $3.1 million for the same period last year. The decrease to noninterest income was partially attributable to lower net gains on the sale of securities of $376,000 as the Company recognized gains of $277,000 on the sale of $19.6 million of securities as compared with gains of $653,000 on the sale of $40.5 million of securities during the same time period of 2010. Decreases to service fees on deposits of $313,000 for the nine months ended September 30, 2011 as compared to the same period of 2010 contributed to the lower noninterest income as regulations became effective during the third quarter of 2010 limiting charges for overdrafts caused by debit card activities. Offsetting some of these decreases were $496,000 in lower securities impairment write-downs during the nine months ended September 30, 2011 as compared to the same time period in 2010.

Index

NORTHERN STATES FINANCIAL CORPORTION

NONINTEREST EXPENSE

Noninterest expense for the quarter ended ~~September~~March 3031, ~~2011~~2012 was $56.34 million, ~~decreasing~~increasing $~~116,000~~1.0 million from the same quarter last year. Noninterest expense ~~was~~increased ~~reduced by~~ $~~279,000~~1.3 ~~during~~million ~~the third quarter of 2011~~ due to ~~declines~~write-downs into other real estate owned ~~write-downs~~of as$2.0 million compared with $673,000 for the same quarter of ~~2010~~2011. ~~Declines~~Data toprocessing ~~FDIC~~expense ~~insurance~~also ~~premiums~~increased $65,000. The ~~intangible~~Company ~~asset~~made ~~amortization~~a ~~and~~change ~~audit~~to ~~and~~its ~~other~~item ~~professional~~processing ~~fees~~system ~~also~~during ~~contributed~~the tofirst ~~the~~quarter ~~lower~~of ~~noninterest~~2012 ~~expense~~and ~~for~~expects ~~the~~lower ~~quarter. FDIC~~data ~~insurance~~processing expense ~~declined~~in ~~$174,000~~following ~~due~~periods. toPartially ~~changes~~offsetting tothese ~~the~~increases ~~FDIC~~were ~~assessment~~declines ~~base.~~to ~~Amortization~~FDIC ofinsurance ~~intangibles expense was $116~~premiums,~~000~~ ~~less~~other asreal ~~the~~estate ~~Company’s~~owned ~~intangibles~~expenses ~~were~~and ~~fully~~occupancy ~~written~~and ~~down~~equipment ~~by year-end 2010~~expenses. ~~Audit~~FDIC ~~and~~insurance ~~other~~expense ~~professional~~declined ~~fees were~~ $~~109~~125,000 ~~less~~due ~~than~~to ~~the~~changes ~~same quarter last year. Partially offsetting these decreases~~ to ~~noninterest expenses during~~ the ~~third~~FDIC ~~quarter~~assessment ofbase. Other ~~2011 were increases in other~~ real estate owned expenses ofdeclined $~~426~~107,000 as the Company ~~transferred~~has ~~$8.1~~rented ~~million~~some inof ~~loans~~its to other real estate owned properties and ~~expenses~~rental ~~were~~income ~~recognized~~offset ~~for~~expenses. Occupancy ~~real~~and ~~estate~~equipment ~~taxes. There~~expense ~~were~~declined ~~also~~$73,000 ~~increases~~in topart ~~other~~due ~~operating~~to ~~expenses~~lower ofutility ~~$132,000~~and ~~due~~maintenance toexpenses ~~increased~~partially ~~premiums~~attributable ~~for~~to ~~general~~the ~~insurance~~mild winter.

For the nine months ended September 30, 2011, the Company had noninterest expense of $16.2 million as compared with $15.7 million for the same nine months of 2010, an increase of $530,000. The increase was attributable to increased loan and collection expense of $662,000 as the Company made payments for back real estate taxes on properties securing the Company’s impaired loans. Expenses relating to servicing the other real estate owned portfolio also increased $502,000 and other operating expenses increased $283,000 due to expenses relating to the issuance of restricted stock and increases in premiums for general insurance. Offsetting a portion of these increases were declines to the write-down of other real estate owned of $375,000, amortization of intangibles of $348,000 and FDIC insurance of $173,000.44

FEDERAL AND STATE INCOME TAXES

For the three months ended September 30, 2011, the Company had a pretax loss of $1.7 million on which an income tax benefit totaling $697,000 was calculated. For the first nine months of 2011, the Company had a pretax loss of $5.1 million and an income tax benefit of $2.1 million. During the nine months ended September 30, 2011, the Company booked the calculated tax benefit of $2.1 million as a deferred tax asset. However, per accounting requirements, the Company increased the deferred tax asset valuation allowance by $2.1 million and, as a result, did not recognize any tax benefit during the three or nine months ending September 30, 2011. In order to take advantage of the tax benefits, the Company must analyze and show positive evidence, such as generating positive taxable income for a number of consecutive reporting periods, that it will more likely than not to be able to use the tax benefit in future periods. At September 30, 2011, the Company had a net deferred tax asset, exclusive of the deferred tax liability related to the unrealized gain on securities available for sale, of $18.4 million that was offset by a deferred tax asset valuation allowance for the same amount.

For the third quarter of 2010, the Company calculated an income tax benefit totaling $75,000 based on a pretax loss of $143,000. For the nine months ended September 30, 2010, the Company calculated a tax benefit of $1.1 million based on its pretax loss for the first nine months of 2010 of $2.7 million. This $1.1 million tax benefit for the first nine months of 2010 was booked as a deferred tax asset with a corresponding deferred increase to the deferred tax asset valuation allowance resulting in no recognition of the tax benefit from the pretax loss. At September 30, 2010, the Company had a deferred tax asset, exclusive of the deferred tax asset related to the unrealized loss on securities available for sale, of $14.5 million, that was offset by a deferred tax asset valuation allowance for the same amount.

Index

NORTHERN STATES FINANCIAL CORPORTION

FEDERAL AND STATE INCOME TAXES

The Company recognized no income tax benefit for the three months ended March 31, 2012 and 2011 despite having an operating loss before income taxes of $2.8 million and $1.1 million, respectively. Per accounting rules, the Company continued to book tax benefits adjusted for timing differences as a deferred tax asset with a corresponding offset to the deferred tax asset valuation allowance, without recognizing a tax benefit on the income statement due to uncertainties as to the realization of these benefits. For the three months ended March 31, 2012, the Company’s tax benefit was calculated to be $1.1 million and the deferred taxes increased to $21.6 million exclusive of the deferred tax effect of the unrealized gains of the Company’s securities. The Company will continue to analyze its deferred tax assets quarterly.

REGULATORY MATTERS

InOn ~~November~~March ~~2009~~17, 2011, the Company ~~notified~~and the ~~U.S.~~Federal ~~Treasury~~Reserve ~~Department~~Bank ~~(“Treasury”)~~entered ofinto ~~its~~a ~~intent~~Written ~~to suspend its dividend payments on its Fixed Rate Cumulative Perpetual Preferred Stock, Series A (“Series A Preferred Stock”)~~Agreement. ~~The~~Pursuant ~~suspension~~to of the ~~dividend~~Written ~~payments~~Agreement, isamong ~~permissible~~other ~~under~~things, the ~~terms~~Company ofhas ~~the~~agreed ~~Troubled~~to: ~~Asset Relief Program~~ (~~“TARP”~~i) ~~Capital~~serve ~~Purchase~~as ~~Program~~a ~~(“CPP”),~~source ~~but~~of ~~the~~strength ~~dividend is cumulative and failure~~ to ~~pay dividends for six dividend periods triggers board of director appointment rights for~~ the ~~holder~~Bank; of(ii) ~~the~~abstain ~~Series~~from Apaying ~~Preferred~~any ~~Stock. While~~ dividends, ~~are~~redeeming ~~being~~any ~~deferred on the preferred~~ stock ~~issued~~or ~~under~~incurring ~~the~~any ~~TARP~~debt ~~Capital~~without ~~Purchase~~Federal ~~Program,~~Reserve ~~the~~approval; ~~Company~~(iii) ~~may~~adopt ~~not~~a ~~pay~~capital ~~dividends~~plan; on(iv) ~~its~~provide ~~common stock. In November 2009,~~ the ~~Company~~Federal ~~also~~Reserve ~~notified~~with ~~the~~cash ~~trustee~~flow ~~that~~projections ~~holds~~on ~~the~~a ~~Company’s~~quarterly ~~junior~~basis; ~~subordinated~~(v) ~~debentures~~notify ~~relating~~the toFederal ~~its~~Reserve ~~trust~~of ~~preferred securities that~~ the ~~Company~~proposed ~~would~~addition beof ~~deferring~~any ~~its~~individual ~~regularly scheduled quarterly interest payments. The Company has the right~~ to ~~defer~~ the ~~payment~~Board of ~~interest~~Directors onor the ~~junior~~employment ~~subordinated~~of ~~debentures at~~ any ~~time,~~individual ~~for~~as a ~~period~~senior ~~not~~executive toofficer ~~exceed~~of ~~20 consecutive quarters. During~~ the ~~deferral period, the~~ Company ~~may~~before ~~not~~such ~~pay~~addition ~~any dividends on its common~~ or ~~preferred~~employment ~~stock.~~becomes ~~Accordingly,~~effective; ~~the Company may not pay dividends on its common stock for the foreseeable future. The suspension of preferred dividends~~ and ~~deferral~~(vi) ofprovide ~~interest~~progress ~~payments~~reports onto the ~~junior~~Federal ~~subordinated~~Reserve ~~debentures~~concerning ~~were per~~ the ~~Board~~Company’s ~~Resolution~~compliance with the ~~Federal~~Written ~~Reserve Bank of Chicago that was then in effect~~Agreement.

OnPrior ~~April~~to ~~16,~~the ~~2010~~Written Agreement, the ~~Bank’s~~Company adopted a Board ofResolution ~~Directors,~~dated ~~management~~November 17, ~~the~~2009 ~~Federal~~which ~~Deposit~~the ~~Insurance~~Written ~~Corporation~~Agreement ~~(“FDIC”)~~superseded. ~~and~~The ~~the~~Board ~~Illinois~~Resolution ~~Department~~required ofthat ~~Financial~~the ~~and~~Company ~~Professional~~obtain ~~Regulation~~written ~~(“IDFPR”)~~approval ~~entered~~from ~~into~~the aFederal ~~final~~Reserve ~~joint~~prior ~~Consent~~to: ~~Order. Various~~(i) ~~items~~paying ~~required~~dividends ofto ~~the~~common ~~Bank,~~or aspreferred ~~agreed~~stockholders to(ii) ~~under~~increasing ~~the~~holding ~~Consent~~company ~~Order,~~level ~~are~~debt ~~described~~or insubordinated ~~Note~~debentures ~~8-“Consent~~issued ~~Order~~in ~~and~~conjunction ~~Written~~with ~~Agreement”~~trust inpreferred ~~this~~securities ~~document~~obligations in(iii) ~~the~~paying ~~notes~~interest toon ~~the~~subordinated ~~interim~~debentures ~~condensed~~or ~~consolidated~~(iv) ~~financial~~repurchasing ~~statements~~Company stock.

~~Because~~In November 2009, in response to the ~~Consent~~Board ~~Order~~Resolution, ~~establishes~~the ~~specific~~Company ~~capital~~notified ~~amounts~~the U.S. Treasury Department (“Treasury”) of its intent to besuspend ~~maintained~~its bydividend ~~the~~payments ~~Bank,~~on ~~the~~its ~~Bank~~Fixed ~~may~~Rate ~~not~~Cumulative bePerpetual ~~considered~~Preferred ~~better~~Stock, ~~than~~Series A (“~~adequately~~Series ~~capitalized~~A Preferred Stock”). ~~for~~The ~~capital~~suspension ~~adequacy~~of ~~purposes,~~the ~~even~~dividend ifpayments is permissible under the ~~Bank~~terms ~~exceeds~~of the ~~levels~~Troubled Asset Relief Program Capital Purchase Program, but the dividend is a cumulative dividend and failure to pay dividends for six dividend periods triggers board of ~~capital~~director ~~set~~appointment ~~forth~~rights infor the ~~Consent~~holder ~~Order~~of the Series A Preferred Stock. At ~~September~~March 3031, ~~2011~~2012, the ~~Bank~~Company ~~exceeded~~had ~~the~~suspended ~~capital~~ten ~~levels~~dividend ~~established~~payments byand has a payable of $2,398,000 for the ~~FDIC~~preferred ~~and~~stock dividends. The Company expects that the ~~IDFPR~~Treasury Department will appoint two directors to its board in 2012. In January 2011, the ~~Consent~~Company ~~Order~~agreed to allow a Treasury Department observer to attend its board of directors meetings. While dividends are being deferred on the preferred stock issued under the TARP CPP, the Company may not pay dividends on its common stock.

AsIn anNovember ~~adequately capitalized institution~~2009, the ~~Bank~~Company ~~may~~notified ~~not~~the ~~accept,~~trustee ~~renew~~that orholds ~~roll~~the ~~over~~Company’s ~~brokered~~junior ~~deposits~~subordinated ~~without~~debentures ~~prior~~relating ~~approval~~to ofits ~~the~~trust ~~FDIC. Brokered~~preferred ~~deposits~~securities ~~also~~that ~~include~~the ~~deposits~~Company ~~with~~would ~~rates~~be ofdeferring ~~interest~~its ~~that~~regularly ~~are~~scheduled ~~more~~quarterly ~~than~~interest 75payments. ~~basis~~The ~~points~~Company ~~above~~has the ~~rate~~right ~~applicable~~ to defer the ~~applicable~~payment ~~market~~ of ~~the~~interest ~~Bank~~on ~~as determined by~~ the ~~FDIC. The~~junior ~~Bank~~subordinated ~~has~~debentures ~~received~~at ~~designation~~any bytime, ~~the~~for ~~FDIC~~a ~~that~~period ~~the~~not ~~Bank~~to isexceed ~~operating~~20 inconsecutive aquarters. ~~high~~At ~~rate~~March ~~area~~31, ~~which~~2012, ~~allows~~ the ~~Bank~~Company tohad ~~use~~deferred apayment ~~local~~of ~~average~~ten ~~deposit~~regularly ~~rates~~scheduled asquarterly ainterest ~~basis~~payments ~~for~~and ~~setting~~has ~~competitive~~a ~~rates~~payable ~~on its deposits. As~~ of ~~September 30~~$808,000 ~~2011,~~for ~~3.4~~the ~~percent~~interest ofon the ~~Bank’s~~subordinated ~~deposits~~debentures. ~~were~~During ~~brokered deposits consisting of CDARs time deposits which~~ the ~~Bank~~deferral ~~has~~period, ~~received permission from~~ the ~~FDIC~~Company tomay ~~offer. At~~not ~~September~~pay ~~30,~~any ~~2011,~~dividends ~~these~~on ~~brokered~~its ~~CDARS~~common ~~time~~or ~~deposits~~preferred ~~totaled $14~~stock.~~9 million.~~

Management and the Board of Directors are committed to complying with the terms of the Consent Order, and have already taken, and will continue to take, numerous steps to address these matters. The Bank will report to the FDIC and the IDFPR quarterly regarding its progress in complying with the provisions included in the Consent Order. Compliance with the terms of the Consent Order will be an ongoing priority for management of the Bank. See also Note 9-“Management Plans” to the interim condensed consolidated financial statement included herein.

In July 2010, Congress enacted regulatory reform legislation known as the Dodd-Frank Wall Street Reform and Consumer Protection Act, which the President signed into law on July 21, 2010. The Act permanently raised the FDIC insurance coverage to $250,000 per depositor. It also provides unlimited FDIC insurance coverage of noninterest-bearing transaction accounts through December 31, 2012. This new law broadly affects the financial services industry by establishing a framework for systemic risk oversight, creating a resolution authority, mandating higher capital and liquidity requirements, requiring banks to pay increased fees to regulatory agencies and containing numerous other provisions aimed at strengthening the sound operation of the financial services sector. Many aspects of the law are subject to further rulemaking and will take effect over several years, making it difficult to anticipate the overall financial impact to the Company or across the industry.

Index

NORTHERN STATES FINANCIAL CORPORTION

~~Following~~On aApril ~~compliance~~16, ~~examination~~2010 of the NorStates Bank ~~performed~~("Bank") byand the FDIC, ~~the~~and ~~Board of Directors of~~ the ~~Bank~~IDFPR ~~approved~~entered ~~and~~into ~~signed~~ a ~~memorandum~~joint ofConsent ~~understanding~~Order. ~~(“MOU”)~~The onConsent ~~October~~Order 20requires, ~~2010~~among ~~concerning~~other ~~the~~things, increased Bank’s ~~compliance~~Board ~~program and deficiencies identified during the examination~~ of ~~the~~Directors ~~Bank. As~~oversight, acertain ~~part~~minimum ofcapital ~~the MOU~~levels, ~~the~~action ~~Board~~plans ~~has~~to ~~committed~~reduce toand ~~enhance~~manage its ~~compliance~~classified ~~management~~assets ~~system,~~and ~~internal~~no ~~compliance~~payments ~~audit~~of ~~program~~dividends ~~and~~without ~~increase~~prior ~~compliance~~approval ~~training~~from ofits ~~the~~regulators ~~Bank’s~~(see ~~staff~~Note 9).

~~Management~~The ~~believes~~Consent ~~that~~Order requires the ~~MOU~~Bank ~~will~~to ~~not~~maintain ~~have~~Tier a1 ~~material~~capital ~~impact~~to onaverage ~~the~~assets ~~Company’s~~at ~~operating~~a ~~results~~minimum orof ~~financial~~8.00% ~~condition~~ and ~~that,~~total ~~unless~~capital ~~the~~to ~~Bank~~risk ~~fails~~weighted toassets ~~adequately~~at ~~address~~a ~~the~~minimum ~~concerns~~ of ~~the~~12.00%. As ~~FDIC~~noted above, the ~~MOU~~Bank's ~~will~~Tier ~~not~~1 ~~constrain~~capital ~~the~~to ~~Company’s~~average ~~business. Management~~assets iswas ~~committed~~8.23% toand ~~resolving~~total ~~the~~capital ~~issues~~to ~~addressed~~risk inweighted ~~the~~assets ~~MOU~~was 13.30% as ~~promptly~~of asMarch ~~possible~~31, ~~and~~2012. ~~has~~Under ~~already~~the ~~taken~~Consent ~~and~~Order ~~will~~the ~~continue~~Bank tomay ~~take~~not ~~numerous~~be ~~steps~~considered to"well ~~address~~capitalized" ~~these~~for ~~matters. Compliance~~capital ~~with~~adequacy ~~the~~purposes ~~terms~~even ofif it exceeds the ~~MOU~~levels ~~will~~of becapital anset ~~ongoing~~forth ~~priority~~in ~~for~~the ~~management~~Consent Order. As of March 31, 2012, the ~~Company~~

Filing Compare · NORTHERN STATES FINANCIAL CORP /DE/