U. S. 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

[ ] Transition Report Pursuant to Section 13

or 15(d) of the Securities Exchange Act of 1934

For the transition period ended

Commission File Number - 000-49898

NORTH STATE BANCORP (Exact name of small business issuer as specified in its charter)

NORTH STATE BANCORP
(Exact name of small business issuer as specified in its charter)

NORTH CAROLINA		65-1177289
(State or other jurisdiction of incorporation or organization)		(IRS Employer Identification Number)

6204 FALLS OF THE NEUSE ROAD, RALEIGH, NORTH CAROLINA 27609
(Address of principal executive office)

(919) 787-9696
(Issuer’s telephone number)

NORTH CAROLINA		65-1177289
(State or other jurisdiction of incorporation or organization)		(IRS Employer Identification Number)

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

6204 FALLS OF THE NEUSE ROAD, RALEIGH, NORTH CAROLINA 27609 (Address of principal executive office)

(919) 787-9696 (Issuer’s telephone number)

Yes X No ____

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 ____

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 [ ] Accelerated filer [ ] Non-accelerated filer [ ] (Do not check if a smaller reporting company) Smaller reporting company [X]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12 b-2 of the Exchange Act): Yes ~~____~~ No X

As of ~~November~~May 1110, ~~2011,~~ 2012 7,427,976 shares of the registrant’s common stock, no par value per share, were outstanding. The registrant has no other classes of securities outstanding.

			Page No.
Part I.	FINANCIAL INFORMATION
Item 1 -	Financial Statements (Unaudited)
		Consolidated Balance Sheets September 30, 2011 and December 31, 2010	3
		Consolidated Statements of Operations Three and Nine Months Ended September 30, 2011 and 2010	4
		Consolidated Statements of Comprehensive Income Three and Nine Months Ended September 30, 2011 and 2010	5
		Consolidated Statements of Shareholders’ Equity Nine Months Ended September 30, 2011 and 2010	6
		Consolidated Statements of Cash Flows Nine Months Ended September 30, 2011 and 2010	7
		Notes to Consolidated Financial Statements	8
Item 2 -	Management’s Discussion and Analysis of Financial Condition and Results of Operations		35
Item 3 -	Quantitative and Qualitative Disclosures About Market Risk		50
Item 4 -	Controls and Procedures		50
Part II.	OTHER INFORMATION
Item 6 -	Exhibits		51

Page No.

-2-

Part I.	FINANCIAL INFORMATION

Item 1 -	Financial Statements (Unaudited)

		Consolidated Balance Sheets March 31, 2012 and December 31, 2011	3

		Consolidated Statements of Operations Three Months Ended March 31, 2012 and 2011	4

		Consolidated Statements of Comprehensive Income Three Months Ended March 31, 2012 and 2011	5

		Consolidated Statements of Changes in Shareholders’ Equity Three Months Ended March 31, 2012 and 2011	6

		Consolidated Statements of Cash Flows Three Months Ended March 31, 2012 and 2011	7

		Notes to Consolidated Financial Statements	8

Item 2 -	Management’s Discussion and Analysis of Financial Condition and Results of Operations		29

Item 3 -	Quantitative and Qualitative Disclosures About Market Risk		40

Item 4 -	Controls and Procedures		41

Part II.	OTHER INFORMATION

Item 6 -	Exhibits		42

Part I. FINANCIAL INFORMATION

Item 1 - Financial Statements

NORTH STATE BANCORP

CONSOLIDATED BALANCE SHEETS

		September 30, 2011			December 31, 2010
	March 31, 2012			December 31, 2011
	(unaudited)	~~(unaudited)~~			*	*
ASSETS	(Dollars in thousands)	~~(Dollars in thousands)~~
Cash and due from banks	$	$8,364	~~9,348~~	$	$9,826	~~5,974~~
Interest-earning deposits with banks		86,679	~~44,849~~		39,547	~~43,859~~
Certificates of deposit with banks			490			198
Investment securities available for sale, at fair value		11,036			12,917
Investment securities available for sale, at fair value			14,217			9,234
Investment securities held to maturity, at amortized cost		250			250
Investment securities held to maturity, at amortized cost			250			250
Loans held for sale		46,693			49,728
Loans held for sale			50,023			51,472
Loans		484,765			490,455
Loans			483,537			499,523
Less allowance for loan losses		9,142			9,906
Less allowance for loan losses			9,711			9,935
Net loans		475,623			480,549
Net loans			473,826			489,588
Accrued interest receivable		1,253			1,441
Accrued interest receivable			1,405			1,654
Stock in the Federal Home Loan Bank of Atlanta, at cost		1,073			1,073
Stock in the Federal Home Loan Bank of Atlanta, at cost			1,126			1,273
Premises and equipment, net		13,985			14,159
Premises and equipment, net			14,296			14,801
Foreclosed assets		4,059			2,851
Foreclosed assets			2,712			5,296
Prepaid FDIC insurance		2,589			2,777
Prepaid FDIC insurance			2,866			3,646
Bank owned life insurance		10,243			10,146
Bank owned life insurance			10,058			-
Other assets		7,347			7,626
Other assets			7,151			6,620
TOTAL ASSETS	$	669,194		$	632,890
TOTAL ASSETS		$	632,617		$	633,865
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Deposits:
Demand	$	155,099		$	145,185
Demand		$	133,417		$	117,840
Savings, money market and NOW		282,326			264,304
Savings, money market and NOW			270,900			250,469
Time		162,095			154,950
Time			159,837			194,439
Total deposits		599,520			564,439
Total deposits			564,154			562,748
Accrued interest payable		895			897
Accrued interest payable			1,072			1,181
Short-term borrowings		1,045			73
Short-term borrowings			27			3,615
Long-term borrowings		27,241			27,246
Long-term borrowings			27,252			27,269
Accrued expenses and other liabilities		1,445			1,246
Accrued expenses and other liabilities			1,658			1,550
TOTAL LIABILITIES		630,146			593,901
TOTAL LIABILITIES			594,163			596,363
Commitments
Commitments
Shareholders' equity:
Shareholders' equity:
Preferred stock, no par value, 1,000,000 shares authorized, none issued		-			-
Preferred stock, no par value, 1,000,000 shares authorized,none issued			-			-
Common stock, no par value; 10,000,000 shares authorized; 7,427,976 shares issued and outstanding March 31, 2012 and December 31, 2011		21,718			21,708
Common stock, no par value; 10,000,000 shares authorized; 7,427,976 shares issued and outstanding September 30, 2011 and December 31, 2010			21,698			21,636
Retained earnings		17,299			17,063
Retained earnings			16,473			15,926
Accumulated other comprehensive income		31			218
Accumulated other comprehensive income (loss)			283			(60	)
TOTAL SHAREHOLDERS' EQUITY		39,048			38,989
TOTAL SHAREHOLDERS' EQUITY			38,454			37,502
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY	$	669,194		$	632,890
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY		$	632,617		$	633,865

* Derived from audited consolidated financial statements.

See accompanying notes.

-3-

NORTH STATE BANCORP

CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

		Three Months Ended				~~Nine Months Ended~~
		September 30,				September 30,
		March 31,
		2011		2010		2011		2010
		2012		2011
		(Dollars in thousands, except share and per share data)
		(Dollars in thousands, except per share data)
INTEREST INCOME
Loans		$	6,~~348~~135	$	76,~~089~~660	$	~~19,164~~	$	~~21,298~~
Loans held for sale			~~602~~230		~~461~~274		~~1,148~~		~~819~~
Investments			~~116~~51		~~168~~103		~~461~~		~~559~~
Dividends and interest-earning deposits			3634		~~135~~43		~~143~~		~~566~~
	Total interest income		76,~~102~~450		7,~~853~~080		~~20,916~~		~~23,242~~
INTEREST EXPENSE
Savings, money market and NOW			~~377~~333		~~499~~480		~~1,258~~		~~1,565~~
Time deposits			~~684~~538		~~1,024~~770		~~2,171~~		~~3,625~~
Short-term borrowings			-		31		2		16
Long-term borrowings			~~228~~240		~~244~~231		~~689~~		~~692~~
	Total interest expense		1,~~289~~111		1,~~770~~482		~~4,120~~		~~5,898~~
	Net interest income		5,~~813~~339		65,~~083~~598		~~16,796~~		~~17,344~~
PROVISION FOR LOAN LOSSES			21,~~137~~531		21,~~166~~015		~~4,570~~		~~5,028~~
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES			3,~~676~~808		34,~~917~~583		~~12,226~~		~~12,316~~
NON-INTEREST INCOME
Merchant and other loan fees			2653		2726		79		90
Service charges and fees on deposits			~~101~~98		9998		~~297~~		~~295~~
Gain on sale of investment securities			45106		~~108~~-		~~374~~		~~340~~
Fees from mortgage operations			~~980~~944		~~1,059~~497		~~2,013~~		~~1,712~~
Other			207		279		504		446
Fees from wealth management services			67		87
	Total non-interest income		1,359		1,572		3,267		2,883
Income from bank owned life insurance			97		-
NON-INTEREST EXPENSE
Other			52		35
Salaries and employee benefits			2,241		2,235		6,810		5,828
	Total non-interest income		1,417		743
Occupancy and equipment			691		728		2,096		2,093
NON-INTEREST EXPENSE
Professional fees			127		142		295		398
Salaries and employee benefits			2,613		2,303
Data processing and other outsourced services			448		366		1,361		1,063
Occupancy and equipment			656		703
FDIC insurance			125		339		815		1,056
Professional fees			96		82
Net cost of foreclosed assets			431		577		1,483		1,368
Advertising and promotion			21		29
Other			633		508		1,788		1,369
Data processing and other outsourced services			501		470
	Total non-interest expense		4,696		4,895		14,648		13,175
FDIC insurance			197		332
INCOME BEFORE INCOME TAXES			339		594		845		2,024
Net cost of foreclosed assets			142		491
INCOME TAXES			106		255		298		861
Telecommunications			73		72
NET INCOME		$	233	$	339	$	547	$	1,163
Mortgage processing costs			81		61
NET INCOME PER COMMON SHARE:
Other			540		459
Basic		$	0.03	$	0.05	$	0.07	$	0.16
	Total non-interest expense		4,920		5,002
Diluted		$	0.03	$	0.05	$	0.07	$	0.16
INCOME BEFORE INCOME TAXES			305		324
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
INCOME TAXES			69		120
Basic			7,427,976		7,427,967		7,427,976		7,340,889
NET INCOME		$	236	$	204
Diluted			7,429,568		7,434,933		7,431,199		7,374,736
NET INCOME PER COMMON SHARE:
Basic		$	0.03	$	0.03
Diluted		$	0.03	$	0.03
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic			7,427,976		7,427,976
Diluted			7,427,976		7,433,773

See accompanying notes.

-4-

NORTH STATE BANCORP

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)

	Three Months Ended						~~Nine Months Ended~~
	September 30,						September 30,
	March 31,
	2011			2010			2011			2010
	2012			2011
	(Dollars in thousands)
Net income	$	~~233~~236		$	~~339~~204		$	~~547~~		$	~~1,163~~
Other comprehensive income (loss):
Other comprehensive loss:
Securities available for sale:
Unrealized holding gains (losses) on available for sale securities		170			(53	)		932			151
Unrealized holding losses on available for sale securities		(202	)		(29	)
Tax effect		~~(65~~80	)		2211			~~(359~~	)		~~(58~~	)
Reclassification of net gain recognized in net income		(45106	)		~~(108~~-	)		~~(374~~	)		~~(340~~	)
Tax effect		1741			42-			~~144~~			~~131~~
Total other comprehensive income (loss)		77			(97	)		343			(116	)
Total other comprehensive loss		(187	)		(18	)
Comprehensive income	$	~~310~~49		$	~~242~~186		$	~~890~~		$	~~1,047~~

See accompanying notes.

-5-

NORTH STATE BANCORP

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited)

							Accumulated other comprehensive			Total
	Common Stock				Retained		Accumulated other comprehensive income			Total shareholders'
	Common Stock				Retained		income			shareholders'
	Shares		Amount		earnings		(loss)			equity
	(Dollars in thousands)
Balance as of December 31, 2009		7,198,513	$	20,865	$	14,902	$	399		$	36,166
Net income		-		-		1,163		-			1,163
Other comprehensive loss, net of tax		-		-		-		(116	)		(116	)
Stock based compensation		-		75		-		-			75
Stock options exercised including income tax benefit of $62		229,463		671		-		-			671
Balance as of September 30, 2010		7,427,976	$	21,611	$	16,065	$	283		$	37,959
Balance as of December 31, 2010		7,427,976	$	21,636	$	15,926	$	(60	)	$	37,502
Net income		-		-		~~547~~204		-			~~547~~204
Other comprehensive income, net of tax		-		-		-		343			343
Other comprehensive loss, net of tax		-		-		-		(18	)		(18	)
Stock based compensation		-		6225		-		-			6225
Balance as of September 30, 2011		7,427,976	$	21,698	$	16,473	$	283		$	38,454
Balance as of March 31, 2011		7,427,976	$	21,661	$	16,130	$	(78	)	$	37,713
Balance as of December 31, 2011		7,427,976	$	21,708	$	17,063	$	218		$	38,989
Net income		-		-		236		-			236
Other comprehensive loss, net of tax		-		-		-		(187	)		(187	)
Stock based compensation		-		10		-		-			10
Balance as of March 31, 2012		7,427,976	$	21,718	$	17,299	$	31		$	39,048

~~-6-~~See accompanying notes.

NORTH STATE BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

	Nine months ended
	Three Months Ended
	September 30,
	March 31,
	2011			2010
	2012			2011
	(Dollars in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
Net income	$	~~547~~236		$	~~1,163~~204
Adjustments to reconcile net income to net cash used by operating activities:
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		41,~~570~~531			51,~~028~~015
Depreciation and amortization		~~672~~206			~~695~~231
Net amortization (accretion) of premiums and discounts on investment securities		8			(16	)
Net amortization of premiums and discounts on investment securities		3			-
Amortization of investment accounted for under the cost method		61			28
Originations of mortgage loans held for sale		(135,104	)		(76,535	)
Originations of loans held for sale		(278,488	)		(201,915	)
Proceeds from sales of loans held for sale		137,230			115,462
Proceeds from sales of loans held for sale		280,101			157,711
Net realized gain on sale of investment securities available for sale		(106	)		-
Net realized gain on sale of investment securities available for sale		(374	)		(340	)
Income from bank owned life insurance		(97	)		-
Income on bank owned life insurance		(58	)		-
Loss on sale of foreclosed assets		58			28
Loss on sale of foreclosed assets		57			186
Provision for foreclosed assets		38			470
Provision for foreclosed assets		1,384			1,028
Stock based compensation		10			25
Stock based compensation		62			75
Changes in assets and liabilities:
(Increase) decrease in other assets		(192	)		2,133
Decrease in other assets		1,497			946
Decrease in accrued interest receivable		~~249~~188			~~218~~94
Increase in accrued expenses and other liabilities		108			41
Increase (decrease) in accrued expenses and other liabilities		199			(230	)
Decrease in accrued interest payable		(~~109~~2	)		(~~175~~123	)
Net cash provided (used) by operating activities		8,598			(34,140	)
Net cash provided by operating activities		5,887			41,587
CASH FLOWS FROM INVESTING ACTIVITIES:
Net change in certificates of deposit with banks		~~(292~~-	)		~~41,824~~198
Proceeds from sales of investment securities available for sale		199,~~722~~422			~~8,333~~-
Proceeds from maturities and repayments of investment securities available for sale		~~8,898~~458			65,~~110~~811
Purchases of investment securities available for sale		(328,~~678~~204	)		(1026,~~988~~626	)
Purchase of bank owned life insurance		(10,000	)		-
Net decrease in loans		1,107			17,335
Sale of FHLB stock		147			2
Purchases of premises and equipment		(32	)		(90	)
Net decrease in loans		9,692			9,226
Proceeds from sales of foreclosed assets		984			438
Purchases of premises and equipment		(167	)		(778	)
Capital expenditures on foreclosed assets		-			(63	)
Proceeds from sales of foreclosed assets		2,713			4,775
Net cash provided (used) by investing activities		3,735			(2,997	)
Capital expenditures on foreclosed assets		(70	)		(127	)
Net cash provided (used) by investing activities		(2,035	)		58,377
CASH FLOWS FROM FINANCING ACTIVITIES:
Net decrease in short term borrowed funds		(3,588	)		(710	)
Net increase in short-term borrowings		972			909
Repayments on long-term borrowings		(175	)		(166	)
Net increase (decrease) in deposit accounts		1,406			(47,433	)
Net increase in deposit accounts		35,081			14,958
Excess tax benefits from exercise of stock options		-			60
Net cash provided by financing activities		36,048			15,861
Exercise of stock options		-			611
NET INCREASE IN CASH AND CASH EQUIVALENTS		45,670			54,451
Net cash used by financing activities		(2,199	)		(47,488	)
CASH AND CASH EQUIVALENTS, BEGINNING		49,373			49,833
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS		4,364			(23,251	)
CASH AND CASH EQUIVALENTS, ENDING	$	95,043		$	104,284
CASH AND CASH EQUIVALENTS, BEGINNING		49,833			59,083
CASH AND CASH EQUIVALENTS, ENDING	$	54,197		$	35,832

~~-7-~~See accompanying notes.

NORTH STATE BANCORP

~~NOTE~~NOTES ATO -CONSOLIDATED ~~BASIS~~FINANCIAL OFSTATEMENTS ~~PRESENTATION~~(Unaudited)

InNOTE ~~management’s~~A ~~opinion,~~– ~~the~~BASIS ~~financial~~OF information, which is unaudited, reflects all adjustments (consisting solely of normal recurring adjustments) necessary for a fair presentation of the financial information as of September 30, 2011 and December 31, 2010 and for the three and nine-month periods ended September 30, 2011 and 2010, in conformity with accounting principles generally accepted in the United States of America. The consolidated financial statements include the accounts of North State Bancorp (the “Company”) and its wholly-owned subsidiary, North State Bank (the “Bank”). North State Bank Mortgage (“NSB Mortgage”), a division of the Bank, began operations during February 2010 for the purpose of originating and selling single family residential first mortgage loans.PRESENTATION

~~All~~In ~~significant~~management’s ~~intercompany~~opinion, ~~transactions~~the ~~and~~financial ~~balances~~information, ~~have~~which ~~been~~is ~~eliminated~~unaudited, inreflects ~~consolidation.~~all ~~The~~adjustments ~~preparation~~(consisting solely of ~~consolidated~~normal ~~financial~~recurring ~~statements~~adjustments) ~~requires~~necessary ~~management~~for toa ~~make~~fair ~~estimates~~presentation ~~and~~of ~~assumptions~~the ~~that~~financial ~~affect~~information ~~reported~~as ~~amounts~~ of ~~assets~~March ~~and~~31, ~~liabilities~~2012 atand ~~the~~December ~~date of the financial statements~~31, as2011 ~~well~~and asfor the ~~amounts~~three-month ofperiods ~~income~~ended ~~and~~March ~~expense~~31, ~~during~~2012 ~~the~~and ~~reporting~~2011, ~~period. Actual~~in ~~results~~conformity ~~could~~with ~~differ~~accounting ~~from~~principles ~~those~~generally ~~estimates.~~accepted ~~Operating~~in ~~results~~the ~~for~~United ~~the~~States ~~three~~of ~~and~~America. ~~nine-month~~The ~~periods~~accompanying ~~ended~~consolidated ~~September~~financial ~~30,~~statements ~~2011~~include ~~are~~the ~~not~~accounts ~~necessarily~~and ~~indicative~~transactions of ~~the~~North ~~results~~State ~~that~~Bancorp ~~may~~(the be“Company”) ~~expected~~and ~~for~~its ~~the~~wholly-owned ~~fiscal~~subsidiary, ~~year~~North ~~ending~~State ~~December~~Bank ~~31,~~(the ~~2011~~“Bank”).

The ~~organization~~Bank was incorporated May 25, 2000 and ~~business~~began ofbanking ~~the~~operations ~~Company~~on June 1, ~~accounting~~2000. The ~~policies~~Bank ~~followed~~is byengaged ~~the~~in ~~Company~~general commercial and ~~other~~retail ~~relevant~~banking ~~information~~in ~~are~~central ~~contained~~North Carolina, principally in ~~the~~Wake ~~notes~~County, toand in southeast North Carolina in New Hanover County, operating under the ~~consolidated~~banking ~~financial~~laws ~~statements~~of ~~filed~~North asCarolina ~~part~~and under the rules and regulations of the ~~Company~~Federal Deposit Insurance Corporation and the North Carolina Commissioner of Banks. The Bank undergoes periodic examinations by those regulatory authorities. The Bank’s ~~2010~~wholly-owned ~~Annual~~subsidiary, ~~Report~~North onState ~~Form~~Wealth ~~10-K~~Advisors, Inc. offers wealth management and brokerage services. North State Bank Mortgage (“NSB Mortgage”), a division of the Bank, began operations during February 2010 for the ~~year~~purpose ~~ended~~of ~~December~~originating 31and selling single-family, ~~2010~~residential first mortgage loans. ~~This~~ ~~quarterly~~In ~~report~~June ~~should~~2011, bethe ~~read~~Bank inestablished ~~conjunction~~another ~~with~~wholly-owned ~~the~~subsidiary, ~~Annual~~North ~~Report~~State Title, LLC, which owns 67% of Title Group, LLC, a title insurance agency.

~~NOTE~~All Bsignificant –intercompany ~~RECENT~~transactions ~~ACCOUNTING~~and ~~PRONOUNCEMENTS~~balances are eliminated in consolidation. The preparation of consolidated financial statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities at the date of the financial statements, as well as the amounts of income and expense during the reporting period. Actual results could differ from those estimates. Operating results for the three-month period ended March 31, 2012 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2012.

InThe ~~April~~organization ~~2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update No. 2011-03, Transfers~~ and ~~Servicing~~business ~~(Topic 860), Reconsideration~~ of ~~Effective Control for Repurchase Agreements. The amendments in this standard remove from~~ the ~~assessment of effective control (1) the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms~~Company, ~~even~~accounting inpolicies ~~the~~followed ~~event of default~~ by the ~~transferee,~~Company and ~~(2)~~other ~~the~~relevant ~~collateral~~information ~~maintenance~~are ~~implementation~~contained ~~guidance~~in ~~related~~the tonotes ~~that criterion. Other criteria applicable~~ to the ~~assessment~~consolidated offinancial ~~effective~~statements ~~control~~filed ~~are~~as ~~not~~part ~~changed~~of by the ~~amendments~~Company’s in2011 ~~this~~Annual ~~Update.~~Report ~~The~~on ~~guidance~~Form in10-K ~~this Update is effective~~ for the ~~first~~year ~~interim~~ended ~~or annual period beginning on or after~~ December 1531, 2011. ~~The~~This ~~guidance~~quarterly report should be ~~applied~~read ~~prospectively~~in toconjunction ~~transactions~~with ~~or modifications of existing transactions that occur on or after~~ the ~~effective~~Annual ~~date~~Report. ~~Early adoption is not permitted. The Company does not anticipate that the adoption of this statement will have a material impact on the consolidated financial statements.~~

InNOTE ~~May~~B ~~2011,~~– ~~the~~RECENT ~~FASB~~ACCOUNTING issued Accounting Standards Update No. 2011-04, Fair Value Measurement. The purpose of the standard is to clarify and combine fair value measurements and disclosure requirements for U.S. generally accepted accounting principles, or GAAP, and international financial reporting standards, or IFRS. The new standard provides amendments and wording changes used to describe certain requirements for measuring fair value and for disclosing information about fair value measurements. This guidance is effective for interim and annual reporting periods beginning after December 15, 2011, and should be applied prospectively to the beginning of the annual period of adoption. The Company does not anticipate that the adoption of this statement will have a material impact on the consolidated financial statements.PRONOUCEMENTS

In May 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2011-8-04, Fair Value Measurement. The purpose of the standard is to clarify and combine fair value measurements and disclosure requirements for U.S. generally accepted accounting principles, or GAAP, and international financial reporting standards, or IFRS. The new standard provides amendments and wording changes used to describe certain requirements for measuring fair value and for disclosing information about fair value measurements. This guidance is effective for interim and annual reporting periods beginning after December 15, 2011, and should be applied prospectively to the beginning of the annual period of adoption. The Company adopted this statement during the quarter ended March 31, 2012, which resulted in additional disclosures related to fair value.

ASU No. 2011-11, amendments to ASC 210-20, Balance Sheet: Disclosures about Offsetting Assets and Liabilities was issued by FASB during the quarter ended December 2011. The amendments in this update require an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. This update affects all entities that have financial instruments and derivative instruments that are either (1) offset in accordance with either Section 210-20-45 or Section 815-10-45 or (2) subject to an enforceable master netting arrangement or similar agreement. This information is intended to enable users of an entity’s financial statements to evaluate the effect or potential effect of netting arrangements on an entity’s financial position, including the effect or potential effect of rights to setoff associated with certain financial instruments and derivative instruments in the scope of this update. The amendments are effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. The adoption of this statement is not expected to have a material impact on the Company’s consolidated financial statements.

The FASB issued ASU No. 2011-12, Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in ASU No. 2011-05, to indefinitely defer the effective date of the requirement to present reclassification adjustments from other comprehensive income to net income by component under ASU No. 2011-05, Presentation of Comprehensive Income, to allow time for reconsideration of these provisions. The Company adopted ASU No. 2011-05 as of December 31, 2011with no material impact to its consolidated financial statements.

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations or cash flows.

NORTH STATE BANCORP

~~NOTE~~NOTES BTO –CONSOLIDATED ~~RECENT~~FINANCIAL ~~ACCOUNTING~~STATEMENTS ~~PRONOUNCEMENTS~~ (~~Continued~~Unaudited)

In April 2011, the FASB issued Accounting Standards Update No. 2011-02, A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring. The new standard provides additional guidance on a creditor’s evaluation of when a concession on a loan has been granted and whether a debtor is experiencing financial difficulties. A creditor must conclude that both of these conditions exist for the loan to be considered a troubled debt restructuring. This guidance is effective for interim and annual reporting periods beginning after June 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. The Company adopted the update of this standard during the quarter ended September 30, 2011. The adoption did not have a material impact on the Company’s consolidated financial statements.

In September 2011, the FASB issued ASU 2011-08, an update to ASC 350, Intangibles – Goodwill and Other. This update allows an entity the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessment, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary. However, if an entity concludes otherwise, it will have to perform the first step of the two-step impairment test. Under the amendments in this update, an entity has the option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the first step of the two-step goodwill impairment test. An entity may resume performing the qualitative assessment in any subsequent period. The amendments are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Early adoption is permitted, including for annual and interim goodwill impairment tests performed as of a date before September 15, 2011, if an entity’s financial statements for the most recent annual or interim period have not yet been issued or, for nonpublic entities, have not yet been made available for issuance. The Company adopted ASU 2011-08 in the third quarter of 2011, which did not have a significant impact on the Company’s consolidated financial statements.

In June 2011, the FASB issued Accounting Standards Update No. 2011-05, Comprehensive Income. The new standard provides guidance and new formats for reporting components of total net income and comprehensive income. The guidance allows the presentation of net income and comprehensive income to be in a single continuous statement or two separate but consecutive statements. This guidance is effective for interim and annual reporting periods beginning after December 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. The Company does not anticipate that the adoption of this statement will have a material impact on the consolidated financial statements.

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s consolidated financial statements.

NOTE C - INVESTMENT SECURITIES

Available for sale securities are reported at fair value and consist of debt instruments not classified as trading securities or as held to maturity securities. Unrealized holding gains and losses on available for sale securities are reported, net of related tax effect, in other comprehensive income. Gains and losses on the sale of available for sale securities are determined using the specific-identification method. Bonds and mortgage-backed securities for which the Company has the positive intent and ability to hold to maturity are reported at cost, adjusted for premiums and discounts that are recognized in interest income using a method that approximates the interest method over the period to maturity. Declines in the fair value of available for sale and held to maturity securities below their cost that are other than temporary would result in write-downs of the individual securities to their fair value. If the Company does not intend to sell the security prior to recovery and it is more likely than not the Company will not be required to sell the impaired security prior to recovery, the credit loss portion of the impairment is recognized in earnings and the remaining impairment is recognized in other comprehensive income. Otherwise, the full impairment loss is recognized in earnings. The classification of securities is determined at the date of purchase.

~~-9-~~The amortized cost and fair value of securities available for sale and securities held to maturity with gross unrealized gains and losses, follows:

	As of March 31, 2012
			Gross		Gross
	Amortized		unrealized		unrealized		Fair
	cost		gains		losses		value
	(Dollars in thousands)
Securities available for sale:
Government-sponsored residential mortgage-backed securities	$	10,986	$	50	$	-	$	11,036
Total securities available for sale	$	10,986	$	50	$	-	$	11,036

Securities held to maturity:
Corporate securities	$	250	$	-	$	50	$	200
Total securities held to maturity	$	250	$	-	$	50	$	200


	As of December 31, 2011
			Gross		Gross
	Amortized		unrealized		unrealized		Fair
	cost		gains		losses		value
	(Dollars in thousands)
Securities available for sale:
Government-sponsored residential mortgage-backed securities	$	12,559	$	358	$	-		12,917
Total securities available for sale	$	12,559	$	358	$	-	$	12,917

Securities held to maturity:
Corporate securities	$	250	$	-	$	49	$	201
Total securities held to maturity	$	250	$	-	$	49	$	201

The following table shows as of March 31, 2012 and 2011 gross unrealized losses on and fair values of the Company’s investments, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position. All unrealized losses on investment securities are considered by management to be temporary given the credit ratings on these investment securities and the Company’s intent and ability to hold its securities to maturity. As of March 31, 2012 and December 31, 2011, the Company did not hold any available for sale securities with unrealized losses. The unrealized losses on held to maturity securities as of March 31, 2012 and December 31, 2011 relate to one corporate security. All unrealized losses on investment securities are not considered to be other-than-temporary, because they are related to changes in interest rates, lack of liquidity and demand in the general investment market and do not affect the expected cash flows of the underlying collateral or the issuer. Since the Company does not intend to sell the impaired corporate bond prior to recovery and it is more likely than not the Company will not be required to sell this imparied security prior to recovery, it is not deemed to be other than temporarily impaired.

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE C - INVESTMENT SECURITIES (Continued)

impairment is recognized in other comprehensive income. Otherwise, the full impairment loss is recognized in earnings. The classification of securities is determined at the date of purchase.

	As of March 31, 2012
	Less than 12 months				12 months of more				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
	Value		Losses		Value		Losses		Value		Losses
	(Dollars in thousands)
Securities held to maturity:
Corporate securities	$	-	$	-	$	200	$	50	$	200	$	50
Total securities held to maturity	$	-	$	-	$	200	$	50	$	200	$	50


	As of December 31, 2011
	Less than 12 months				12 months of more				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
	Value		Losses		Value		Losses		Value		Losses
	(Dollars in thousands)
Securities held to maturity:
Corporate securities	$	-	$	-	$	201	$	49	$	201	$	49
Total securities held to maturity	$	-	$	-	$	201	$	49	$	201	$	49

The amortized cost and fair ~~value~~values of securities available for sale and securities held to maturity as of March 31, 2012 by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with ~~gross~~or ~~unrealized~~without ~~gains~~call ~~and~~or ~~losses,~~prepayment ~~follows:~~penalties.

	As of September 30, 2011
	As of March 31, 2012
			Gross		Gross
	Amortized		Fair
	Amortized		unrealized		unrealized		Fair
	Cost		Value
	cost		gains		losses		value
	(Dollars in thousands)
	(Dollars in thousands)
Securities available for sale:
Securities available for sale:
Government-sponsored residential mortgage-backed securities
Government-sponsored residential mortgage-backed securities	$	13,752	$	465	$	-	$	14,217
Due after ten years	$	10,986	$	11,036
Total securities available for sale	$	13,752	$	465	$	-	$	14,217
	$	10,986	$	11,036
Securities held to maturity:
Corporate securities	$	~~250~~	$	-	$	45		~~205~~
Total securities held to maturity	$	250	$	-	$	45	$	205
Due after five but within ten years	$	250	$	200
	As of December 31, 2010
	$	250	$	200
			Gross		Gross
	Amortized		unrealized		unrealized		Fair
	cost		gains		losses		value
		(Dollars in thousands)
Securities available for sale:
U. S. government securities and obligations of U.S. government agencies	$	5,500	$	-	$	-	$	5,500
Government-sponsored residential mortgage-backed securities		3,829		28		123		3,734
Total securities available for sale	$	9,329	$	28	$	123	$	9,234
Securities held to maturity:
Corporate securities	$	250	$	-	$	39		211
Total securities held to maturity	$	250	$	-	$	39	$	211

As Securities ofwith ~~September~~a ~~30,~~carrying ~~2011~~value ~~there were no unrealized losses in the Company’s securities available for sale. The following table shows as~~ of September 30, 2011 and December 31, 2010 gross unrealized losses on and fair values of the Company’s investments, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position$2.4 ~~All~~million ~~unrealized losses on investment securities are considered by management to be temporary given the credit ratings on these investment securities~~ and ~~the Company’s intent and ability to hold its securities to maturity~~$1.7 ~~The~~million ~~unrealized losses~~ as of ~~December~~March 31, ~~2010~~2012 ~~relate to one government-sponsored residential mortgage-backed security. The unrealized losses on held to maturity corporate securities as of September 30, 2011~~ and December 31, ~~2010~~2011, ~~relate~~respectively, towere ~~one~~pledged ~~corporate security. The unrealized losses are not likely~~ to ~~reverse~~secure ~~unless and until market interest rates and/or spreads decline to the levels that existed when the~~ securities ~~were~~sold ~~purchased.~~under ~~Since~~agreements ~~the Company does not intend~~ to ~~sell~~repurchase ~~the securities prior to recovery~~ and itpublic ~~is more likely than not the Company will not be required to sell the impaired securities prior to recovery, none of the securities are deemed to be other than temporarily impaired~~deposits.

During the three-10month period ended March 31, 2012, proceeds from the sales of investment securities of $9.4 million resulted in gross gains of $106,000. There was no security sales during the three-month period ended March 31, 2011.

NORTH STATE BANCORP

~~NOTE~~NOTES CTO -CONSOLIDATED ~~INVESTMENT~~FINANCIAL ~~SECURITIES~~STATEMENTS (~~Continued~~Unaudited)

NOTE D - COMMITMENTS

	As of September 30, 2011
	Less than 12 months				12 months of more				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
	Value		Losses		Value		Losses		Value		Losses
	(Dollars in thousands)
Securities held to maturity:
Corporate securities	$	-	$	-	$	205	$	45	$	205	$	45
Total securities held to maturity	$	-	$	-	$	205	$	45	$	205	$	45
	As of December 31, 2010
	Less than 12 months				12 months of more				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
	Value		Losses		Value		Losses		Value		Losses
	(Dollars in thousands)
Securities available for sale:
Government-sponsored residential mortgage-backed securities	$	2,879	$	123	$	-	$	-	$	2,879	$	123
Total temporarily impaired securities	$	2,879	$	123	$	-	$	-	$	2,879	$	123
Securities held to maturity:
Corporate securities	$	-	$	-	$	211	$	39	$	211	$	39
Total securities held to maturity	$	-	$	-	$	211	$	39	$	211	$	39

A summary of the contract amount of the Company’s exposure to off-balance sheet credit risk as of March 31, 2012 is as follows:

The amortized cost and fair values of securities available for sale and securities held to maturity as of September 30, 2011 by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

	March 31, 2012
	(Dollars in thousands)

Financial instruments whose contract amounts represent credit risk:
Undisbursed lines of credit	$	29,417
Other commitments to extend credit		11,417
Letters of credit		1,373
Commitments to originate mortgage loans, fixed and variable		70,983
	$	113,190

	As of September 30, 2011
	Amortized		Fair
	Cost		Value
	(Dollars in thousands)
Securities available for sale:
Government-sponsored residential mortgage-backed securities
Due within one year	$	128	$	129
Due after one but within five years		170		177
Due after five but within ten years		4,423		4,500
Due after ten years		9,031		9,411
		13,752		14,217
Securities held to maturity:
Corporate Securities
Due after five but within ten years	$	250	$	205
	$	250	$	205

NOTE E - LOANS

~~-11-~~The following is a summary of loans segregated by loan category:

NORTH STATE BANCORP

	March 31, 2012					December 31, 2011
			% of					% of
			Total					Total
	Amount		Loans			Amount		Loans
	(Dollars in thousands)
Real estate secured loans:
Residential construction	$	28,568		5.9	%	$	27,323		5.6	%
Commercial construction, all land development and land loans		43,468		9.0	%		47,524		9.7	%
Residential properties		104,019		21.5	%		105,226		21.5	%
Residential mortgage (1)		50,484		10.4	%		39,829		8.1	%
Commercial real estate - other		219,327		45.2	%		228,256		46.5	%
Total real estate secured loans		445,866		92.0	%		448,158		91.4	%

Other non-real estate loans:
Commercial and industrial		35,060		7.2	%		38,435		7.8	%
Consumer and other		3,839		0.8	%		3,862		0.8	%
Total loans held for investment	$	484,765		100.0	%	$	490,455		100.0	%

Single-family residential mortgages held for sale	$	46,693				$	49,728

~~NOTE~~(1) Single-family Cresidential -mortgages ~~INVESTMENT~~originated ~~SECURITIES~~through ~~(Continued)~~NSB Mortgage held for investment.

~~For~~Included in the ~~three~~table ~~months~~above ~~ended~~are ~~September~~net ~~30,~~unamortized ~~2011~~loan ~~proceeds~~costs ~~from~~of ~~sales~~$703,000 ofand ~~investment~~$500,000 ~~securities~~as of $1March 31, 2012 and December 31, 2011, respectively.9 ~~million~~Loans ~~resulted~~are primarily funded in ~~gross~~Wake ~~gains~~County ofand ~~$45,000.~~New ~~For~~Hanover ~~the~~County ~~nine~~in ~~months~~North ~~ended~~Carolina. ~~September~~Real ~~30,~~estate ~~2011~~loans ~~proceeds~~can ~~from~~be affected by the ~~sales~~condition of ~~investment~~the ~~securities~~local ofreal ~~$19~~estate market.7 ~~million~~Commercial ~~resulted~~and ininstallment ~~gross~~loans ~~gains~~can ofbe ~~$374,000~~affected by local economic conditions. ~~Proceeds~~Commercial ~~from~~construction ~~sales~~and ofland development loans decreased $3.4.1 million offrom ~~investment~~year-end ~~securities~~2011 ~~for~~as ~~the~~loans ~~three~~were ~~months~~paid ~~ended September 30~~off, ~~2010~~charged-off ~~resulted~~or incompleted ~~gross~~and ~~gains~~moved ofto ~~$108,000~~longer-term financing and ~~proceeds~~new ~~from~~lending ~~sales~~for ofthese $8classes was minimized.3 ~~million~~Retained ~~during~~residential ~~the~~mortgages ~~nine~~originated ~~months~~through ~~ended~~NSB ~~September~~Mortgage ~~30,~~increased ~~2010~~$10.7 ~~resulted~~million inover ~~gross~~year-end ~~gains~~2011. ofCommercial real-estate secured loans decreased $~~340,000~~13.0 million from year-end 2011.

NOTE D - COMMITMENTS

As of September 30, 2011, loan commitments were as follows:

	September 30, 2011
	(Dollars in thousands)
Commitments to extend credit	$	27,108
Undisbursed lines of credit		13,088
Letters of credit		1,483
Commitments to originate mortgage loans, fixed and variable		208,768
	$	250,447

Following is a summary of loans segregated by category:

	September 30, 2011					December 31, 2010
			% of					% of
			Total					Total
	Amount		Loans			Amount		Loans
	(Dollars in thousands)
Real estate loans:
Residential construction	$	34,342		7.1	%	$	51,058		10.2	%
Commercial construction		70,658		14.6	%		82,010		16.4	%
Other residential real estate		133,920		27.7	%		98,324		19.7	%
Other commercial real estate		203,960		42.2	%		221,603		44.4	%
		442,880		91.6	%		452,995		90.7	%
Non-real estate loans:
Commercial and industrial		36,657		7.6	%		42,884		8.6	%
Consumer and other		4,000		0.8	%		3,644		0.7	%
		40,657		8.4	%		46,528		9.3	%
Total loans	$	483,537		100.0	%	$	499,523		100.0	%

The following describe the risk characteristics relevant to each of the portfolio segments.

~~-12-~~11

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

Real estate construction loans:

~~Commercial~~Residential ~~and residential~~ construction loans are underwritten utilizing independent appraisal or evaluations, sensitivity analysis of absorption and financial analysis of the developers and property owners. Construction loans are generally based upon estimates of costs and value associated with the project as completed. These estimates may be inaccurate. Construction loans often involve the disbursement of funds with the repayment substantially dependent on the success of the ultimate project. Sources of repayment for these types of loans may be pre-committed permanent loans, sales of developed property or an interim loan commitment from the Company until permanent financing is obtained. These loans are closely monitored by on-site inspections and are considered to have higher risks than other real estate loans due to their ultimate repayment being sensitive to interest rate changes, general economic conditions, availability of long-term financing and government regulation of real property. As of September 30, 2011 and December 31, 2010, residential construction and commercial construction loans represented 7.1% and 14.6% and 10.2% and 16.4%, respectively, of the Company’s loans outstanding.

~~Commercial~~The Company provides financing to builders for the construction of speculative and ~~residential~~pre-sold ~~real~~custom ~~estate~~homes, and from time to time, financing for custom homes where the home buyer is the borrower. Residential construction loans typically are for periods of 12 months or less and the homes are sold to consumers who obtain permanent financing. The loans are underwritten utilizing independent appraisals, sensitivity analysis of absorption and financial analysis of the borrower.

Commercial ~~and residential real estate secured loans are subject to underwriting similar to real estate~~ construction loans. These loans are either cash flow loans or development loans paid from the real estate sale and secondarily as loans secured by real estate. Commercial real estate lending typically involves higher risk and higher loan principal amounts and the repayment of these loans is generally largely dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan. Commercial real estate loans may be more adversely affected by conditions in real estate markets or the general economy. The properties securing the Company’s commercial real estate portfolio are principally secured by owner-occupied buildings including professional practices, office and church properties and single family rental properties. Management monitors and evaluates commercial real estate loans based on collateral, market area and risk grade criteria. As a general rule, the Company avoids non-owner occupied commercial single-purpose projects unless other underwriting factors are present to help mitigate risk. The Company also utilizes third-party experts to provide insight and guidance about economic conditions and trends within its market areas. Residential real estate properties are typically secured by the primary residence of the borrower and the combined loan-to-value ratio is usually 90% or less. As of September 30, 2011 and December 31, 2010, loans secured by commercial and residential real estate represented 42.2% and 27.7% and 44.4% and 19.7%, respectively, of our loans outstanding.

Commercial real estate construction and land development loans are also underwritten utilizing independent appraisals, sensitivity analysis of absorption and financial analysis of the general contractors and borrowers. Commercial construction loans are generally based upon estimates of costs and value associated with the as-completed project. These estimates may be inaccurate. The loans often involve the disbursement of substantial funds with the repayment substantially dependent on the success of the ultimate project. Sources of repayment for these types of loans may be pre-committed permanent loans or sales of developed property.

All construction loans are closely monitored by on-site inspections and are considered to have higher risks than other real estate loans due to their ultimate repayment being sensitive to interest rate changes, government regulation of real property, general economic conditions and the availability of long-term financing.

Residential properties

Residential real estate secured loans are subject to underwriting based on the purpose of the loan. Residential real estate properties secured by income-producing property typically have a loan-to-value ratio of 85% or less. Residential real estate properties secured by the primary residence of the borrower typically have a loan-to-value ratio less than 90%. Also included are loans that are underwritten and secured by second liens and home equity lines of credit which are revolving extensions of credit that are secured by first or second liens on owner-occupied residential real estate.

Residential mortgage

Residential mortgage loans represent single-family mortgage loans originated through NSB Mortgage and selected by the Company to be retained in its portfolio. These loans are subject to strict underwriting standards which are at a minimum per the FREDDIE MAC guidelines and typically have terms within 10 to 15 years with moderate loan-to-value ratios, typically less than 70% and with credit scores typically exceeding 740.

Commercial real estate - other

Commercial real estate secured loans are subject to underwriting standards similar to those for commercial construction loans. These loans are either cash flow loans or loans secured by real estate. Commercial real estate lending typically involves higher risk and higher loan principal amounts and the repayment of these loans is generally largely dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan. Commercial real estate loans may be more adversely affected by conditions in real estate markets or the general economy. The properties securing the Company’s commercial real estate portfolio are principally secured by owner-occupied buildings including professional practices, office and church properties, and single family rental properties. Management monitors and evaluates commercial real estate loans based on collateral, market area and risk grade criteria. As a general rule, the Company avoids non-owner occupied commercial single-purpose projects unless other underwriting factors are present to help mitigate risk. For these loans, the Company also utilizes third-party experts to provide insight and guidance about economic conditions and trends within its market areas.

Commercial and industrial

Non-real estate secured commercial and industrial loans are underwritten after evaluating and understanding the borrowers’ ability to operate profitably and prudently expand its business. Underwriting standards are designed to promote relationship banking rather than transactional banking. Management examines current and projected cash flows of the borrower to determine the ability of the borrower to repay ~~its~~their obligations as agreed. Commercial and industrial loans are primarily made based on the indentified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower and tertiary, as applicable, the guarantors. The cash flows of borrowers, however, may not ~~materialize~~be as expected and the collateral securing these loans may fluctuate in value. Most commercial and industrial loans are secured by the assets being financed or other business assets such as accounts receivable, inventory or equipment and usually incorporate a personal ~~guaranty~~guarantee. In the case of loans secured by accounts receivable, the availability of the funds for repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from its customers. ~~As of~~

~~-13-~~12

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

~~September~~Consumer ~~30, 2011~~ and ~~December 31, 2010, commercial and industrial loans represented 7.6% and 8.6%, respectively, of the Company’s loans outstanding.~~other

~~The~~Consumer ~~Company~~and ~~maintains~~other anloans ~~independent~~include ~~loan~~automobile ~~review~~loans, ~~function~~boat ~~that~~and ~~reviews~~recreational ~~and~~vehicle ~~validates~~financing, ~~our~~other ~~credit~~secured ~~risk~~or ~~portfolio~~unsecured onloans aand ~~periodic~~loans ~~basis~~to tax exempt entities. ~~Results~~Consumer ofloans ~~these~~generally ~~reviews~~carry ~~are~~greater ~~presented~~risk tothan ~~management~~other ~~and~~loans, even if secured, if the ~~board~~collateral consists of ~~directors~~rapidly depreciating assets such as automobiles and equipment. ~~The~~Consumer loan ~~review~~collections ~~process~~are ~~complements~~sensitive to job loss, illness and ~~reinforces~~other ~~the~~personal ~~risk~~factors. ~~identification~~The ~~and~~Company ~~assessment~~manages ~~decisions~~risks ~~made~~inherent byin ~~bankers~~consumer and other lending by following established credit ~~personnel,~~guidelines asand ~~well~~underwriting aspractices ~~the~~designed ~~Company’s~~to ~~policies~~minimize ~~and~~the ~~procedures~~risk of loans.

The Company ~~also~~maintains ~~originates~~an ~~single-family,~~independent ~~residential~~loan ~~mortgage~~review ~~loans~~function that ~~have~~reviews ~~been~~and ~~approved~~validates bythe ~~secondary~~credit ~~investors~~risk ~~which~~program ~~are included~~ on ~~the~~a ~~consolidated~~periodic ~~balance~~basis. ~~sheet~~Results ~~under~~of ~~the~~these ~~caption~~reviews ~~“loans~~are ~~held~~presented ~~for~~to ~~sale.”~~management ~~The Company recognizes certain origination~~ and ~~service~~the ~~release~~board ~~fees~~of ~~from~~directors. ~~sale,~~The ~~which~~loan ~~are~~review ~~included~~process incomplements ~~non-interest~~and ~~income~~reinforces on the ~~consolidated~~risk ~~statements~~identification ofand ~~operations.~~assessment Asdecisions ofmade ~~September~~by ~~30,~~bankers ~~2011~~ and ~~December~~credit 31personnel, ~~2010~~as ~~mortgage~~well ~~loans~~as ~~held~~the ~~for~~Company’s ~~sale~~policies ~~were $50.0 million~~ and ~~$51~~procedures.~~5 million, respectively.~~

~~Nonperforming~~The ~~assets~~Company also originates single-family, residential mortgage loans have that have been approved by secondary investors which are included on the consolidated balance sheet under the caption “loans held for sale.” The Company recognizes certain origination and ~~potential~~service ~~problem~~release fees from sale, which are included in non-interest income on the consolidated statements of operations. As of March 31, 2012 and December 31, 2011, mortgage loans held for sale were $46.7 million and $49.7 million, respectively.

~~Details~~Nonperforming ~~of nonaccrual, troubled debt restructured (“TDR”) loans, foreclosed~~ assets ~~and potential problem loans by loan category as of September 30, 2011 and December 31, 2010 are as follows:~~

	As of September 30, 2011
									Total		Potential
			Nonaccrual		Total		Foreclosed		Nonperforming		Problem		Accruing
	Nonaccrual		TDR		Nonaccrual		Assets		Assets		Loans		TDR
	(Dollars in thousands)
Commercial and industrial	$	425	$	461	$	886	$	-	$	886	$	-	$	64
Commercial real estate loans:
Construction		3,290		6,213		9,503		1,119		10,622		560		860
Other		1,760		576		2,336		1,071		3,407		-		2,786
		5,050		6,789		11,839		2,190		14,029		560		3,646
Residential real estate loans:
Construction		7,320		-		7,320		280		7,600		1,356		2,021
Other		3,278		443		3,721		242		3,963		175		1,163
		10,598		443		11,041		522		11,563		1,531		3,184
Consumer		14		-		14		-		14		-		15
	$	16,087	$	7,693	$	23,780	$	2,712	$	26,492	$	2,091	$	6,909
	As of December 31, 2010
									Total		Potential
			Nonaccrual		Total		Foreclosed		Nonperforming		Problem		Accruing
	Nonaccrual		TDR		Nonaccrual		Assets		Assets		Loans		TDR
	(Dollars in thousands)
Commercial and industrial	$	1,544	$	54	$	1,598	$	-	$	1,598	$	461	$	1,078
Commercial real estate loans:
Construction		2,875		-		2,875		1,484		4,359		523		4,752
Other		255		-		255		1,868		2,123		-		3,870
		3,130		-		3,130		3,352		6,482		523		8,622
Residential real estate loans:
Construction		4,056		-		4,056		813		4,869		-		2,021
Other		2,231		466		2,697		1,131		3,828		200		-
		6,287		466		6,753		1,944		8,697		200		2,021
Consumer		11		-		11		-		11		-		20
	$	10,972	$	520	$	11,492	$	5,296	$	16,788	$	1,184	$	11,741

Nonperforming assets include nonaccrual loans, troubled debt restructured loans, or “TDR” (nonaccrual and accrual), and foreclosed assets.

-14-

NORTH STATE BANCORP

NOTE E – LOANS (Continued)

Nonaccrual loans

~~All~~Nonaccrual loans as of March 31, 2012 were $21.8 million compared to $24.0 million as of December 31, 2011. For all classes of loans, loans are classified as nonaccrual if they are past due as to maturity or payment of principal or interest for a period of more than 90 days, unless such loans are well-secured and in the process of collection. Loans that are current or past due less than 90 days may also be classified as nonaccrual if repayment in full of principal and/or interest is in doubt (as determined by the contractual terms of the note). Loans may be returned to accrual status when all principal and interest amounts contractually due (including arrearages) are reasonably assured of repayment within an acceptable period of time, and there is a sustained period of repayment performance (generally a minimum of six months) by the borrower, in accordance with the contractual terms.

Potential problem loans

Potential problem loans are loans that are currently performing in accordance with the original terms of the loan and are not a component of nonperforming assets but are closely monitored as a result of information regarding possible credit problems of the related borrowers.

Past due loans

An ~~aged~~age analysis of past due loans segregated by loan ~~category~~class as of ~~September~~March 3031, ~~2011~~2012 and December 31, ~~2010~~2011 are as follows:

	As of September 30, 2011
	As of March 31, 2012
											Accruing
	30 - 89 Days Past Due (1)		Over 90 Days (2)		Total Past Due		Current (3)		Total Loans		Accruing Loans 90 or More Days Past Due
											Loans 90 or
	30 - 89 Days		Over 90		Total Past				Total		More Days
	Past Due		Days (1)		Due		Current (2)		Loans		Past Due
	(Dollars in thousands)
Commercial and industrial	$	169	$	886	$	1,055	$	35,602	$	36,657	$	-
Real estate secured loans:
Commercial real estate loans:
Residential construction	$	-	$	6,957	$	6,957	$	21,611	$	28,568	$	-
Construction		707		9,481		10,188		60,470		70,658		-
Commercial construction, all land development and land loans		956		6,463		7,419		36,049		43,468		-
Other		-		2,357		2,357		201,603		203,960		-
Residential properties		1,246		1,706		2,952		101,067		104,019		-
		707		11,838		12,545		262,073		274,618		-
Residential mortgage (4)		582		-		582		49,902		50,484		-
Residential real estate loans:
Commercial real estate - other		-		1,264		1,264		218,063		219,327		-
Construction		-		7,320		7,320		27,022		34,342		-
Total real estate secured loans		2,784		16,390		19,174		426,692		445,866		-
Other		223		3,208		3,431		130,489		133,920		-
Other non-real estate loans:
		223		10,528		10,751		157,511		168,262		-
Commercial and industrial		11		514		525		34,535		35,060		-
Consumer		21		14		35		2,645		2,680		-
Consumer and other		-		-		-		3,839		3,839		-
Other		-		-		-		1,320		1,320		-
Total loans held for investment	$	2,795	$	16,904	$	19,699	$	465,066	$	484,765	$	-
Total	$	1,120	$	23,266	$	24,386	$	459,151	$	483,537	$	-

(1)	~~All~~Includes ~~loans~~one ~~past~~$131,000 ~~due~~commercial 90construction ~~days~~loan ~~or more were~~ in nonaccrual status.
(2)	~~Includes~~All ~~approximately~~loans ~~$514,000~~past ~~that~~due ~~are~~90 days or more in nonaccrual status ~~and $2~~.~~1 million that are potential problem loans.~~
(3)	Includes approximately $3.2 million residential constuction, $300,000 commercial construction, $594,000 residential properties and $644,000 other commercial real estate loans in nonaccrual status and $173,000 residential properties and $275,000 other commercial real estate loans considered potential problem loans.
(4)	Single-family residential mortgages originated through NSB Mortgage, held for investment.

~~-15-~~13

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

	As of December 31, 2010
	As of December 31, 2011
											Accruing
	30 - 89 Days Past Due (1)		Over 90 Days (2)		Total Past Due		Current (3)		Total Loans		Accruing Loans 90 or more Days Past Due
											Loans 90 or
	30 - 89 Days		Over 90		Total Past				Total		More Days
	Past Due (1)		Days (2)		Due		Current (3)		Loans		Past Due (2)
	(Dollars in thousands)
Commercial and industrial	$	1,797	$	602	$	2,399	$	40,485	$	42,884	$	-
Real estate secured loans:
Commercial real estate loans:
Residential construction	$	2,020	$	6,986	$	9,006	$	18,317	$	27,323	$	-
Construction		4,801		2,462		7,263		74,747		82,010		-
Commercial construction, all land development and land loans		1,194		9,107		10,301		37,223		47,524		-
Other		1,554		438		1,992		219,611		221,603		-
Residential properties		605		1,629		2,234		102,992		105,226		-
		6,355		2,900		9,255		294,358		303,613		-
Residential mortgage (4)		-		-		-		39,829		39,829		-
Residential real estate loans:
Commercial real estate - other		314		1,850		2,164		226,092		228,256		-
Construction		1,274		3,079		4,353		46,705		51,058		-
Total real estate secured loans		4,133		19,572		23,705		424,453		448,158		-
Other		2,510		1,863		4,373		93,951		98,324		131
Other non-real estate loans:
		3,784		4,942		8,726		140,656		149,382		131
Commercial and industrial		93		464		557		37,878		38,435		-
Consumer		11		-		11		3,165		3,176		-
Consumer and other		-		-		-		3,862		3,862		-
Other		-		-		-		468		468		-
Total loans held for investment	$	4,226	$	20,036	$	24,262	$	466,193	$	490,455	$	-
Total	$	11,947	$	8,444	$	20,391	$	479,132	$	499,523	$	131

(1) Total loans past due 30 – 89 days includes approximately $2.5 million of loans in nonaccrual status.

(1)	Includes approximately $3.0 million of loans in nonaccrual status of which approximately $2.0 million are residential construction, $896,000 are commercial construction and $113,000 are residential properties. Includes approximately $1.6 million of potential problem loans of which approximately $1.3 million are residential construction and $275,000 are residential properties.
(2)	All loans past due 90 days or more are in nonaccrual status.
(3)	Includes approximately $955,000 of loans in nonaccrual status of which approximately $250,000 are commercial construction and $705,000 are residential properties. Includes approximately $281,000 of potential problem loans of which approximately $174,000 are residential properties, $93,000 are commercial real estate-other and $14,000 are consumer.
(4)	Single-family residential mortgages originated through NSB Mortgage, held for investment.

(2) All loans past due 90 days or more are in nonaccrual status with the exception of one accruing loan past due more than 90 days for $131,000.

(3) Includes approximately $690,000 of loans that are in nonaccrual status and $1.2 million potential problem loans.

Impaired loans

For all classes of ~~impaired~~ loans, interest payments on impaired loans are applied to principal unless collectability of the principal amount is reasonably assured, in which case interest is recognized on a cash basis. Accrual of interest is continued for TDR loans when the borrower iswas performing prior to the ~~loan~~ restructuring and there is reasonable assurance of repayment and continued performance under the modified terms. Accrual of interest on TDR loans in nonaccrual status is resumed when the borrower has established a sustained period of performance under the restructured terms of at least six months. ~~Information regarding impaired loans segregated by loan category as of and for the three and nine months ended September 30, 2011 and year ended December 31, 2010 are as follows.~~

~~-16-~~14

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

							For the three months ended				For the nine months ended
	As of September 30, 2011						September 30, 2011				September 30, 2011
			Unpaid				Average		Interest		Average		Interest
	Recorded		Principal		Related		Recorded		Income		Recorded		Income
	Investment		Balance		Allowance		Investment		Recognized		Investment		Recognized
	(Dollars in thousands)
Impaired with no related allowance recorded:
Commercial and industrial	$	103	$	577	$	-	$	107	$	-	$	173	$	-
Commercial real estate loans:
Construction		4,525		5,562		-		4,431		-		3,906		-
Other		980		3,168		-		775		-		1,493		-
		5,505		8,730		-		5,206		-		5,399		-
Residential real estate loans:
Construction		3,676		4,454		-		4,029		-		4,535		-
Other		2,086		3,668		-		2,222		-		2,196		-
		5,762		8,122		-		6,251		-		6,731		-
Consumer		14		73		-		44		-		48		-
Total	$	11,384	$	17,502	$	-	$	11,608	$	-	$	12,351	$	-
Impaired performing restructured loans with no related allowance recorded:
Commercial and industrial	$	65	$	64	$	-	$	64	$	1	$	155	$	4
Commercial real estate loans:
Construction		864		860		-		665		6		1,430		39
Other		2,800		2,786		-		2,948		30		3,388		103
		3,664		3,646		-		3,613		36		4,818		142
Residential real estate loans:
Construction		2,027		2,021		-		2,021		21		2,021		62
Other		1,166		1,163		-		1,166		9		1,007		40
		3,193		3,184		-		3,187		30		3,028		102
Consumer		16		16		-		16		-		18		1
Total	$	6,938	$	6,910	$	-	$	6,880	$	67	$	8,019	$	249
Impaired with a related allowance recorded:
Commercial and industrial	$	783	$	783	$	300	$	783	$	-	$	732	$	-
Commercial real estate loans:
Construction		4,978		5,140		712		5,538		-		4,665		-
Other		1,356		1,356		464		1,357		-		1,174		-
		6,334		6,496		1,176		6,895		-		5,839		-
Residential real estate loans:
Construction		3,644		3,716		150		3,644		-		2,834		-
Other		1,635		1,722		473		1,635		-		1,172		-
		5,279		5,438		623		5,279		-		4,006		-
Consumer		-		-		-		-		-		-
Total	$	12,396	$	12,717	$	2,099	$	12,957	$	-	$	10,577	$	-
Total impaired:
Commercial	$	16,454	$	20,296	$	1,476	$	16,668	$	37	$	17,116	$	146
Residential		14,234		16,744		623		14,717		30		13,765		102
Consumer		30		89		-		60		-		66		1
Total	$	30,718	$	37,129	$	2,099	$	31,445	$	67	$	30,947	$	249

Information regarding impaired loans segregated by loan class as of and for the three months ended March 31, 2012 and as of and for the year ended December 31, 2011 is as follows.

-17-

										For the three months ended
	As of March 31, 2012									March 31, 2012
	Unpaid Principal Balance		Partial Charge-offs			Recorded Investment		Related Allowance		Average Recorded Investment		Interest Income Recognized
	(Dollars in thousands)
Impaired with no related allowance recorded:
Real estate secured loans:
Residential construction	$	9,204	$	(1,035	)	$	8,169	$	-	$	8,539	$	17
Commercial construction, all land development and land loans		6,807		(224	)		6,583		-		6,559		24
Residential properties		4,602		(589	)		4,013		-		3,704		17
Commercial real estate - other		5,454		(1,075	)		4,379		-		4,396		32
Total real estate secured loans		26,067		(2,923	)		23,144		-		23,198		90

Other non-real estate loans:
Commercial and industrial		109		(39	)		70		-		64		-
Consumer and other		12		-			12		-		13		-
Total loans held for investment	$	26,188	$	(2,962	)	$	23,226	$	-	$	23,275	$	90

Impaired with a related allowance recorded:
Real estate secured loans:
Residential construction	$	3,231	$	-		$	3,231	$	473	$	1,077	$	-
Commercial construction, all land development and land loans		3,111		(489	)		2,622		768		2,509		-
Residential properties		63		-			63		17		63		-
Commercial real estate - other		619		-			619		211		619		-
Total real estate secured loans		7,024		(489	)		6,535		1,469		4,268		-

Other non-real estate loans:
Commercial and industrial		461		-			461		200		461		-
Consumer and other		-		-			-		-		-		-
Total loans held for investment	$	7,485	$	(489	)	$	6,996	$	1,669	$	4,729	$	-

Total impaired:
Commercial	$	16,561	$	(1,827	)	$	14,734	$	1,179	$	14,608	$	56
Residential		17,100		(1,624	)		15,476		490		13,383		34
Consumer		12		-			12		-		13		-
Total loans held for investment	$	33,673	$	(3,451	)	$	30,222	$	1,669	$	28,004	$	90

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

	As of and for the year ended December 31, 2010
										For the year ended
			Unpaid					Average		Interest
	As of December 31, 2011									December 31, 2011
	Recorded		Principal			Related		Recorded		Income
	Unpaid Principal Balance		Partial Charge-offs			Recorded Investment		Related Allowance		Average Recorded Investment		Interest Income Recognized
	Investment		Balance			Allowance		Investment		Recognized
	(Dollars in thousands)
	(Dollars in thousands)
Impaired with no related allowance recorded:
Impaired with no related allowance recorded:
Real estate secured loans:
Commercial and industrial	$	54	$	204		$	-	$	130	$	-
Residential construction	$	5,789	$	(1,166	)	$	4,636	$	-	$	7,183	$	131
Commercial real estate loans:
Commercial construction, all land development and land loans		8,680		(1,666	)		7,030		-		6,207		158
Construction		2,554		2,589			-		1,980		-
Residential properties		6,517		(2,161	)		4,359		-		4,303		83
Other		54		54			-		48		-
Commercial real estate - other		6,686		(2,445	)		4,250		-		5,128		153
		2,608		2,643			-		2,028		-
Total real estate secured loans		27,672		(7,438	)		20,275		-		22,821		525
Residential real estate loans:
Other non-real estate loans:
Construction		1,350		1,433			-		1,013		-
Commercial and industrial		593		(574	)		20		-		231		4
Other		989		989			-		873		-
Consumer and other		-		-			-		-		13		1
		2,339		2,422			-		1,886		-
Total	$	28,265	$	(8,012	)	$	20,295	$	-	$	23,065	$	530
Consumer		11		25			-		17		-
Impaired with a related allowance recorded:
Total	$	5,012	$	5,294		$	-	$	4,061	$	-
Real estate secured loans:
Impaired accruing restructured loans with no related allowance recorded:
Residential construction	$	7,543	$	(72	)	$	7,475	$	756	$	3,513	$	79
Commercial and industrial	$	1,089	$	1,078		$	-	$	1,081	$	56
Commercial construction, all land development and land loans		6,230		(379	)		5,851		1,370		4,539		14
Commercial real estate loans:
Residential properties		66		-			66		17		69		-
Construction		4,787		4,752			-		4,760		204
Commercial real estate - other		621		-			621		211		623		-
Other		3,879		3,870			-		4,451		217
Total real estate secured loans		14,460		(451	)		14,013		2,354		8,744		93
		8,666		8,622			-		9,211		421
Other non-real estate loans:
Residential real estate loans:
Commercial and industrial		461		-			461		200		422		-
Construction		2,025		2,021			-		2,020		96
Consumer and other		-		-			-		-		-		-
Other		-		-			-		-		-
Total	$	14,921	$	(451	)	$	14,474	$	2,554	$	9,166	$	93
		2,025		2,021			-		2,020		96
Total impaired:
Consumer		20		20			-		22		2
Commercial	$	23,271	$	(5,064	)	$	18,233	$	1,781	$	17,150	$	329
Total	$	11,800	$	11,741		$	-	$	12,334	$	575
Residential		19,915		(3,399	)		16,536		773		15,068		293
Impaired with a related allowance recorded:
Consumer		-		-			-		-		13		1
Commercial and industrial	$	1,544	$	1,934		$	697	$	845	$	-
Total	$	43,186	$	(8,463	)	$	34,769	$	2,554	$	32,231	$	623
Commercial real estate loans:
Construction		321		321			96		350		-
Other		201		201			111		98		-
		522		522			207		448		-
Residential real estate loans:
Construction		2,706		2,763			188		2,283		-
Other		1,708		1,708			1,009		875		-
		4,414		4,471			1,197		3,158		-
Consumer		-		-			-		-		-
Total	$	6,480	$	6,927		$	2,101	$	4,451	$	-
Total impaired
Commercial	$	14,483	$	15,003		$	904	$	13,743	$	477
Residential		8,778		8,914			1,197		7,064		96
Consumer		31		45			-		39		2
Total	$	23,292	$	23,962		$	2,101	$	20,846	$	575

~~-18-~~ Each loan risk rated “substandard”, “doubtful” and “loss” is reviewed to determine if it is an impaired loan. If a loan is determined to be impaired it is removed from its homogeneous group and individually analyzed for impairment. Other groups of loans based on facts and circumstances may also be selected for impairment review. If a loan is impaired, a specific reserve allowance is allocated if necessary. Interest payments on impaired loans are typically applied to principal. Impaired loans are charged off in full or in part when losses are confirmed.

Total impaired loans as of March 31, 2012 include $8.4 million of restructured but still accruing loans and $12.2 million of restructured nonaccrual loans. Nonaccrual TDRs are up $1.6 million over year-end 2011 as approximately $1.7 million of accruing TDRs as of year-end 2011 declined to nonaccrual status as of March 31, 2012. In total, TDRs represent $20.6 million of March 31, 2012 impaired loans. The loans were restructured for various concessions due to financial difficulties of the borrower such as forgiveness of accrued interest, below market interest rate or extended payment terms. In addition, there were two potential problem loans outstanding as of March 31, 2012 with loan balances of $448,000 and secured by residential and commercial real-estate.

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

~~All~~The determination for the potential problem loans ~~risk~~primarily ~~rated~~was ~~“substandard”~~the result of information regarding possible, ~~“doubtful”~~although ~~and~~not ~~“loss”~~probable, ~~are~~credit ~~reviewed~~problems toof ~~determine~~the ifrelated ~~they~~borrowers. ~~are~~Potential ~~impaired~~problem loans~~. If~~ aare ~~loan~~not isincluded ~~determined~~in tothe betable above. Although these loans are not currently impaired, itthey ishave ~~removed~~been ~~from~~considered ~~its~~by ~~homogeneous~~management ~~group~~in ~~and~~assessing ~~individually~~the ~~analyzed~~adequacy of its allowance for ~~impairment.~~loan ~~Other~~losses ~~groups~~as of ~~loans~~March ~~based~~31, on2012 ~~facts~~ and ~~circumstances~~have ~~may~~been ~~also~~allocated bespecific ~~selected~~reserves of $30,700 included in the allowance for ~~impairment~~loan ~~review.~~losses Ifas aof March 31, 2012 for one of the potential problem loans with an outstanding loan isbalance ~~impaired~~of $173,300. Both apotential ~~specific~~problem ~~reserve~~loans ~~allowance~~were iscurrent ~~established~~and ifnot ~~necessary~~past due as of March 31, 2012. Of ~~Interest~~the ~~payments~~$1.9 onmillion ~~impaired~~potential problem loans ~~are~~as ~~typically~~of ~~applied~~year-end to2011, ~~principal~~the largest loan of $1.4 ~~Impaired~~million ~~loans~~was ~~are~~downgraded ~~charged~~to nonaccrual status while a partial charge-off inof ~~full~~$173,000 orwas inrecorded ~~part~~on ~~when~~another ~~losses~~potential ~~are~~problem ~~confirmed~~loan during the first three months of 2012.

As of September 30, 2011, the recorded investment in loans considered impaired totaled $30.7 million. The Company provided specific reserves of $2.1 million for probable losses on impaired loan balances of $12.4 million. Management analyzed $11.4 million of impaired loans and determined the collateral to be adequate and no additional specific reserve allowance necessary after recording approximately $2.1 million in partial charge-offs related to September 30, 2011 loan balances of approximately $3.2 million. Also included in the impaired loans as of September 30, 2011 are $6.9 million of restructured but still accruing loans and 13 restructured nonaccrual loans for $7.7 million, for a total TDR balance amounting to $14.6 million. The loans were primarily restructured to below market interest rates and extended payment terms due to financial difficulties of the borrower. There were three potential problem loans outstanding representing $2.1 million as of September 30, 2011 primarily for residential and commercial construction. The determination for the potential problem loans as of September 30, 2011 was the result of information regarding possible, although not probable, credit problems of the related borrowers. The Company allocated specific reserves of $31,000 included in the allowance for loan losses as of September 30, 2011 for one of the potential problem loans with an outstanding balance of $175,000. As of September 30, 2011, the potential problems loans were performing and not past due. Potential problem loans as of year-end have been charged off or are currently nonaccrual.

As of December 31, 2010, the recorded investment in loans that management considered impaired totaled $23.3 million, including $11.8 million of restructured but still accruing loans and six restructured nonaccrual loans for $520,000, for a TDR balance of $12.3 million. The Company provided for probable losses through specific reserve allowances of $2.1 million with corresponding outstanding loan balances of $6.5 million. There was no corresponding allowance with the remaining $740,000 of loan balances analyzed for impairment after recording approximately $366,000 in related charge-offs. In addition, the Company identified $1.2 million of potential problem loans with $290,000 in allocated reserves included in the allowance for loan losses.

Credit Quality Indicators

As part of the on-going monitoring of the credit quality of the Company’s loan portfolio, management examines certain credit quality indicators which consider the risk of payment performance, overall portfolio quality utilizing weighted-average risk ~~ratings~~rating, general economic factors, net charge-offs, non-performing loans and the level of classified loans. All loans risk rated “substandard”, “doubtful” and “loss” are reviewed on an individual basis for probable losses.

A description of our credit quality indicators follows:

Pass – loans with acceptable credit quality and moderate risk.

Special mention – This grade is intended to be temporary and includes loans (1) with potential weaknesses ~~which~~ if left uncorrected could result in deterioration or (2) were classified as substandard accruing or substandard nonaccruing ~~where~~have ~~the borrowers~~ made improvements to their financial profile but do not yet meet the definition of a pass grade.

Substandard, accruing – These loans have a well-~~19-~~defined weakness where the accrual of interest has not been stopped. The defined weakness may make default or principal exposure likely but not certain. These loans are likely to be dependent on collateral liquidation or a secondary source of repayment.

Substandard, nonaccruing – These assets have well defined weakness that jeopardize the liquidation of the debt and are past due over 90 days. The institution may sustain loss if the weaknesses are not corrected. These loans are inadequately protected by the paying capacity of the borrower, any guarantors or of the collateral pledged. These loans are individually analyzed for impairment.

Doubtful – These loans have all the weaknesses of substandard, nonaccruing plus the added characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions and values, highly questionable and improbable.

Loss – These loans are considered uncollectable and of such little value that their continuance as a bankable asset is not warranted. This classification does not mean that the asset has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off this worthless loan even though partial recovery may be affected in the future.

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

~~Substandard,~~Information ~~accruing~~regarding –the ~~These~~Company’s ~~loans~~credit ~~have~~risk aby ~~well~~internally ~~defined~~assigned ~~weakness~~risk ~~where~~grades ~~the~~as ~~accrual~~ of ~~interest~~March ~~has~~31, ~~not~~2012 ~~been~~and ~~stopped.~~December ~~The~~31, ~~defined~~2011 ~~weakness may make default or principal exposure likely but not certain. These loans are likely to be dependent on collateral liquidation or a secondary source of repayment.~~follows:

Substandard, nonaccruing – These assets have well defined weaknesses that jeopardize the liquidation of the debt and are past due over 90 days. The institution may sustain loss if the weaknesses are not corrected. These loans are inadequately protected by the paying capacity of the borrower and/or any guarantors or by the pledged collateral. These loans are individually analyzed for impairment.

	As of March 31, 2012
	Real Estate Loans										Non-Real Estate Loans
	Construction				Residential		Residential				Commercial &		Consumer &
	Residential		Commercial		Properties		Mortgage (1)		Commercial		Industrial		Other		Total
	(Dollars in thousands)

Pass	$	9,909	$	26,662	$	85,502	$	50,484	$	201,749	$	31,973	$	3,827	$	410,106
Special mention		4,825		4,455		8,358		-		11,829		2,459		12		31,938
Substandard accruing		3,646		5,457		7,859		-		3,841		114		-		20,917
Substandard nonaccruing		10,188		5,059		2,300		-		1,908		514		-		19,969
Doubtful		-		1,835		-		-		-		-		-		1,835
Loss		-		-		-		-		-		-		-		-
Total by exposure	$	28,568	$	43,468	$	104,019	$	50,484	$	219,327	$	35,060	$	3,839	$	484,765

~~Doubtful~~(1) Single-family –residential ~~These~~mortgages ~~loans~~originated ~~have~~through ~~all~~NSB ~~the weaknesses of substandard~~Mortgage, ~~nonaccruing~~held ~~loans~~for ~~plus the added characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions and values highly questionable and improbable~~investment.

Loss – These loans are considered uncollectable and of such little value that their continuance as a bankable asset is not warranted. This classification does not mean that the asset has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off these loans even though partial recovery may be affected in the future.

	As of December 31, 2011
	Real Estate Loans										Non-Real Estate Loans
	Construction				Residential		Residential				Commercial &		Consumer &
	Residential		Commercial		Properties		Mortgage (1)		Commercial		Industrial		Other		Total
	(Dollars in thousands)

Pass	$	7,048	$	28,632	$	85,956	$	39,829	$	210,446	$	35,301	$	3,848	$	411,060
Special mention		4,410		4,489		8,378		-		12,098		2,509		14		31,898
Substandard accruing		6,858		3,920		8,541		-		3,862		161		-		23,342
Substandard nonaccruing		9,007		10,252		2,351		-		1,850		464		-		23,924
Doubtful		-		231		-		-		-		-		-		231
Loss		-		-		-		-		-		-		-		-
Total by exposure	$	27,323	$	47,524	$	105,226	$	39,829	$	228,256	$	38,435	$	3,862	$	490,455

~~Information~~(1) Single-family ~~regarding~~residential ~~the~~mortgages ~~Company’s~~originated ~~credit~~through ~~risk~~NSB ~~by internally assigned risk grades as of September 30~~Mortgage, ~~2011~~held ~~and~~for ~~December 31, 2010 follows:~~investment.

	As of September 30, 2011
	Real Estate Loans								Non-Real Estate Loans
	Construction								Commercial &
	Residential		Commercial		Residential		Commercial		Industrial		Consumer		Other		Total
	(Dollars in thousands)
Pass	$	13,267	$	46,319	$	114,392	$	188,197	$	32,889	$	2,642	$	1,320	$	399,026
Special mention		4,615		9,388		8,552		7,328		2,645		24		-		32,552
Substandard accruing		9,140		5,448		7,255		6,099		237		-		-		28,179
Substandard nonaccruing		7,320		9,272		3,699		2,336		886		14		-		23,527
Doubtful		-		231		22		-		-		-		-		253
Loss		-		-		-		-		-		-		-		-
Total by exposure	$	34,342	$	70,658	$	133,920	$	203,960	$	36,657	$	2,680	$	1,320	$	483,537

As discussed above, TDR loans generally occur when a borrower is experiencing, or is expected to experience, financial difficulties in the near-term. As a result, a concessionary modification with more favorable terms that would not otherwise be considered may be granted to the borrower with the intent to prevent further difficulties and improve the likelihood of recovery of the loan. The modifications resulting in a TDR have generally involved a reduction of interest rate or extension of term of the loan or a combination of both. We do not generally forgive principal as part of a loan modification. Also when possible, additional collateral or guarantor support is obtained when modifying the loan. All TDRs are individually reviewed and analyzed for impairment during management’s monthly evaluation of the allowance for loan losses. The specific allowance is based on the present value of expected cash flows or the fair value of the collateral or the loan’s observable market price.

	As of December 31, 2010
	Real Estate Loans								Non-Real Estate Loans
	Construction								Commercial &
	Residential		Commercial		Residential		Commercial		Industrial		Consumer		Other		Total
	(Dollars in thousands)
Pass	$	28,520	$	59,122	$	86,364	$	210,371	$	38,616	$	3,066	$	468	$	426,527
Special mention		4,424		8,171		6,532		3,013		1,366		28		-		23,534
Substandard accruing		14,058		11,842		2,240		7,817		1,075		71		-		37,103
Substandard nonaccruing		4,056		2,875		2,697		255		1,598		11		-		11,492
Doubtful		-		-		491		147		180		-		-		818
Loss		-		-		-		-		49		-		-		49
Total by exposure	$	51,058	$	82,010	$	98,324	$	221,603	$	42,884	$	3,176	$	468	$	499,523

For the three months ended March 31, 2012, the following table presents a breakdown of the types of concessions made by loan class. TDR below market interest rate concessions may also have had an extension of term granted as well.

-20-

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

possible additional collateral or guarantor support is obtained when modifying the loan. All TDRs are individually reviewed and analyzed for impairment during management’s monthly evaluation of the allowance for loan losses. The specific allowance is based on the present value of expected cash flows or the fair value of the collateral or the loan’s observable market price.

	Troubled Debt Restructured Loans
	Three Months Ended March 31, 2012
	Number of loans		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
			(Dollars in thousands)
Extended payment terms:
Real estate secured loans:
Residential construction		1	$	1,356	$	1,356

Total		1	$	1,356	$	1,356

~~For~~ The ~~the~~following ~~three~~table ~~and~~presents ~~nine~~loans ~~months~~that ~~ended~~were ~~September~~modified ~~30,~~as ~~2011,~~troubled debt restructurings within the ~~following~~previous ~~table~~12 ~~presents~~months and for which there was a ~~breakdown~~payment ofdefault ~~the~~where ~~types~~payment ofunder ~~concessions~~the ~~made~~modified byterms ~~loan~~had ~~class.~~been ~~TDR~~30 ~~below~~days ~~market~~or ~~interest~~more ~~rate~~past ~~concessions~~due ~~may~~at ~~have~~any ~~had~~month anend ~~extension~~during ofthe ~~term~~three ~~granted~~months asended ~~well~~March 31, 2012.

	Total TDRs
	Troubled Debt Restructured Loans
	Three months ended September 30, 2011						Nine months ended September 30, 2011
	March 31, 2012
	Number of loans		~~Pre-Modification Outstanding~~ Recorded Investment		~~Post-Modification Outstanding Recorded Investment~~		~~Number of loans~~		~~Pre-Modification Outstanding Recorded Investment~~		~~Post-Modification Outstanding Recorded Investment~~
	(Dollars in thousands)
Below market interest rate:
Commercial and industrial		-	$	-	$	-		1	$	90	$	16
Real estate secured loans:
Commercial real estate:
Commercial construction, all land development and land loans		1	$	2,036
Construction		-		-		-		5		5,201		4,473
Residential properties		1		199
Other		-		-		-		3		4,519		2,786
Commercial real estate - other		1		644
		-		-		-		8		9,720		7,259
Total		3		2,879
Residential real estate:
Extended payment terms:
Other		-		-		-		2		945		922
Real estate secured loans:
		-		-		-		2		945		922
Residential construction		4		4,448
Total		-		-		-		11		10,755		8,197
Commercial construction, all land development and land loans		1		300
Extended payment terms:
Residential properties		2		416
Commercial and industrial		-		-		-		2		509		509
Total		7		5,164
Commercial real estate:
Below market rate and extended payment terms:
Construction		-		-		-		3		443		442
Real estate secured loans:
Other		-		-		-		1		570		576
Residential properties		1		442
		-		-		-		4		1,013		1,018
Commercial real estate - other		1		331
Residential real estate:
Total		2		773
Construction		-		-		-		1		2,021		2,021
Refinance for interest carry and cash out:
Other		-		-		-		5		930		684
Real estate secured loans:
		-		-		-		6		2,951		2,705
Residential properties		1		312
Consumer		-		-		-		1		23		16
Total		1		312
Total		-13	$	-9,128		-		13		~~4,496~~		~~4,248~~
Refinance for interest carry and cash out:
Commercial real estate:
Construction		1		292		292		2		2,141		2,157
Total		1		292		292		2		2,141		2,157
Total TDRs		1	$	292	$	292		26	$	17,392	$	14,602

~~-21-~~19

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE E – LOANS (Continued)

The following table presents ~~loans that were modified as troubled debt restructurings within~~ the ~~previous~~successes ~~12 months~~ and ~~for~~failures ~~which~~of ~~there was a payment default where payment under~~ the ~~modified~~types ~~terms~~of ~~had~~modifications ~~been~~within ~~30 days or more past due at any month end during~~ the ~~three~~previous ~~and~~12 ~~nine~~ months ~~ended~~as ~~September~~of 30March 31, ~~2011~~2012.

	Total TDRs
	Paid in full				Paying as restructured				Converted to non-accrual				Foreclosure/Default				Total
	Three months ended September 30, 2011				Nine months ended September 30, 2011
	Number of loans		Recorded Investment		Number of loans		Recorded Investment		Number of loans		Recorded Investment		Number of loans		Recorded Investment		Number of loans		Recorded Investment
	Number of loans		Recorded Investment		Number of loans		Recorded Investment
	(Dollars in thousands)
	(Dollars in thousands)
Below market interest rate		-	$	-		-	$	-		1	$	644		2	$	2,235		3	$	2,879
Below market interest rate:
Extended payment terms		-		-		-		-		5		3,703		2		1,461		7		5,164
Commercial and industrial		-	$	-		1	$	16
Below market rate and extended payment terms		-		-		-		-		-		-		2		773		2		773
Commercial real estate:
Refinace for interest carry and cash out		-		-		1		289		1		312		-		-		2		601
Construction		1		142		5		4,473
Total		-	$	-		1	$	289		7	$	4,659		6	$	4,469		14	$	9,417
Other		1		1,639		1		1,639
		2		1,781		6		6,112
Residential real estate:
Other		-		-		2		922
Total		2		1,781		9		7,050
Extended payment terms:
Commercial and industrial		1		48		2		509
Commercial real estate:
Construction		-		-		3		442
Other		-		-		1		576
		-		-		4		1,018
Residential real estate:
Construction		1		2,021		1		2,021
Other		1		241		5		684
		2		2,262		6		2,705
Total		3		2,310		12		4,232
Refinance for interest carry and cash out:
Commercial real estate:
Construction		-		-		1		1,866
Total		-		-		1		1,866
Total TDRs		5	$	4,091		22	$	13,148

NOTE F -~~22-~~ ALLOWANCE FOR LOAN LOSSES

The allowance for loan losses is a reserve established through a provision for loan losses charged to expense for estimated loan losses inherent in the loan portfolio. The allowance is maintained at a level which management considers adequate to provide for probable loan losses based on our assessment of various factors affecting the loan portfolio. Overall, the allowance for loan losses declined $764,000 from the 2011 year-end amount of $9.9 million. Impairment reserves decreased $885,000 while the general reserve increased approximately $121,000 over year-end 2011 primarily due to a higher potential charge-off rate applied to the general commercial loan portfolio. The allowance for loan losses as a percentage of loans outstanding decreased to 1.89% as of March 31, 2012 from 2.02% from year-end 2011. Additional information regarding the Company’s policies and methodology used to estimate the allowance for possible loan losses is presented in Note B- Summary of Significant Accounting Policies of the financial statements contained in the Company’s 2011 Annual Report on Form 10-K.

The table below details activity in the allowance for probable loan losses by segregated loan category for the three months ended March 31, 2012 and 2011. Allocation of a portion of the allowance to one class of loan does not preclude its availability to absorb losses in other classes.

	For the Three Months Ended March 31, 2012
	Real Estate Loans													Non-Real Estate Loans
	Construction						Residential			Residential				Commercial &			Consumer &
	Residential			Commercial			Properties			Mortgage (1)		Commercial		Industrial			Other		Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	1,497		$	2,783		$	1,608		$	40	$	3,179	$	763		$	36	$	9,906
Charge-offs		(839	)		(1,279	)		(174	)		-		-		(41	)		-		(2,333	)
Recoveries		6			17			8			-		5		2			-		38
Provision		573			795			105			11		29		15			3		1,531
Ending balance	$	1,237		$	2,316		$	1,547		$	51	$	3,213	$	739		$	39	$	9,142
Ending balance, individually evaluated for impairment	$	473		$	768		$	17		$	-	$	211	$	200		$	-	$	1,669
Ending balance, collectively evaluated for impairment	$	764		$	1,548		$	1,530		$	51	$	3,002	$	539		$	39	$	7,473

Loans:
Ending balance	$	28,568		$	43,468		$	104,019		$	50,484	$	219,327	$	35,060		$	3,839	$	484,765
Ending balance, individually evaluated for impairment	$	11,400		$	9,205		$	4,076		$	-	$	4,998	$	531		$	12	$	30,222
Ending balance, collectively evaluated for impairment	$	17,168		$	34,263		$	99,943		$	50,484	$	214,329	$	34,529		$	3,827	$	454,543

(1) Single-family residential mortgages originated through NSB Mortgage, held for investment.

NORTH STATE BANCORP

~~NOTE~~NOTES ETO –CONSOLIDATED ~~LOANS~~FINANCIAL STATEMENTS (~~Continued~~Unaudited)

~~The~~ NOTE ~~following~~F ~~table~~- ~~presents~~ALLOWANCE ~~the~~FOR ~~successes~~LOAN ~~and~~LOSSES ~~failures of the types of modifications within the previous 12 months as of September 30, 2011.~~(Continued)

	Paid in full						Paying as restructured						Converted to non-accrual						Foreclosure/Default
	For the Three Months Ended March 31, 2011
	Number of loans			Recorded Investment			Number of loans			Recorded Investment			Number of loans			Recorded Investment			Number of loans			Recorded Investment
	Real Estate Loans												Non-Real Estate Loans
	(Dollars in thousands)
	Construction						Residential						Commercial &			Consumer &
Below market interest rate		1		$	2			2		$	1,147			3		$	3,905			6		$	3,145
	Residential			Commercial			Properties			Commercial			Industrial			Other			Total
Extended payment terms		-			-			1			16			9			1,922			3			2,310
	(Dollars in thousands)
Refinace for interest carry and cash out		-			-			1			292			1			1,866			-			-
Allowance for loan losses:
Total		1		$	2			4		$	1,455			13		$	7,693			9		$	5,455
Beginning balance	$	1,475		$	2,269		$	2,339		$	2,464		$	1,354		$	34		$	9,935
Charge-offs		(118	)		(96	)		(873	)		(468	)		(177	)		(11	)		(1,743	)
Recoveries		12			-			1			11			88			27			139
Provision		(145	)		(21	)		549			603			4			25			1,015
Ending balance	$	1,224		$	2,152		$	2,016		$	2,610		$	1,269		$	75		$	9,346
Ending balance, individually evaluated for impairment	$	122		$	190		$	588		$	401		$	715		$	45		$	2,061
Ending balance, collectively evaluated for impairment	$	1,102		$	1,962		$	1,428		$	2,209		$	554		$	30		$	7,285
Loans:
Ending balance	$	47,240		$	74,621		$	105,940		$	212,353		$	36,666		$	3,345		$	480,165
Ending balance, individually evaluated for impairment	$	10,374		$	9,548		$	3,652		$	5,831		$	2,188		$	74		$	31,667
Ending balance, collectively evaluated for impairment	$	36,866		$	65,073		$	102,288		$	206,522		$	34,478		$	3,271		$	448,498

~~The~~ NOTE ~~allowance~~G ~~for~~– ~~loan~~NET ~~losses~~INCOME isPER a reserve established through a provision for loan losses charged to expense for estimated loan losses inherent in the loan portfolio. The allowance is maintained at a level which management considers adequate to provide for probable loan losses based on our assessment of various factors affecting the loan portfolio. Additional information regarding the Company’s policies and methodology used to estimate the allowance for possible loan losses is presented in Note B- Summary of Significant Accounting Policies of the Company’s 2010 Annual Report on Form 10-K.SHARE

The tables below detail activity in the allowance for loan losses by segregated loan category for the three and nine months ended September 30, 2011 and year ended December 31, 2010. Allocation of a portion of the allowance to one class of loan does not preclude its availability to absorb losses in other categories.

	For the Three Months Ended September 30, 2011
	Real Estate Loans												Non-Real Estate Loans
	Construction												Commercial &
	Residential			Commercial			Residential			Commercial			Industrial			Consumer			Other		Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	971		$	2,988		$	2,017		$	2,953		$	944		$	68		$	3	$	9,944
Charge-offs		(513	)		(1,108	)		(396	)		(890	)		(10	)		(45	)		-		(2,962	)
Recoveries		-			50			535			-			5			2			-		592
Provision		550			1,026			(110	)		622			51			(2	)		-		2,137
Ending balance	$	1,008		$	2,956		$	2,046		$	2,685		$	990		$	23		$	3	$	9,711
Ending balance, individually evaluated for impairment	$	150		$	712		$	473		$	464		$	300		$	-		$	-	$	2,099
Ending balance, collectively evaluated for impairment	$	858		$	2,244		$	1,573		$	2,221		$	690		$	23		$	3	$	7,612
Loans:
Ending balance	$	34,342		$	70,658		$	133,920		$	203,960		$	36,657		$	2,680		$	1,320	$	483,537
Ending balance, individually evaluated for impairment	$	9,347		$	10,367		$	4,887		$	5,136		$	951		$	30		$	-	$	30,718
Ending balance, collectively evaluated for impairment	$	24,995		$	60,291		$	129,033		$	198,824		$	35,706		$	2,650		$	1,320	$	452,819

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NORTH STATE BANCORP

NOTE F – ALLOWANCE FOR LOAN LOSSES (Continued)

	For the Nine Months Ended September 30, 2011
	Real Estate Loans												Non-Real Estate Loans
	Construction												Commercial &
	Residential			Commercial			Residential			Commercial			Industrial			Consumer			Other			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	1,475		$	2,269		$	2,339		$	2,464		$	1,354		$	30		$	4		$	9,935
Charge-offs		(677	)		(1,257	)		(1,738	)		(1,499	)		(324	)		(56	)		-			(5,551	)
Recoveries		30			50			536			16			95			30			-			757
Provision		180			1,894			909			1,704			(135	)		19			(1	)		4,570
Ending balance	$	1,008		$	2,956		$	2,046		$	2,685		$	990		$	23		$	3		$	9,711
Ending balance, individually evaluated for impairment	$	150		$	712		$	473		$	464		$	300		$	-		$	-		$	2,099
Ending balance, collectively evaluated for impairment	$	858		$	2,244		$	1,573		$	2,221		$	690		$	23		$	3		$	7,612
Loans:
Ending balance	$	34,342		$	70,658		$	133,920		$	203,960		$	36,657		$	2,680		$	1,320		$	483,537
Ending balance, individually evaluated for impairment	$	9,347		$	10,367		$	4,887		$	5,136		$	951		$	30		$	-		$	30,718
Ending balance, collectively evaluated for impairment	$	24,995		$	60,291		$	129,033		$	198,824		$	35,706		$	2,650		$	1,320		$	452,819

	For the Year Ended December 31, 2010
	Real Estate Loans												Non-Real Estate Loans
	Construction												Commercial &
	Residential			Commercial			Residential			Commercial			Industrial			Consumer			Other			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	1,753		$	2,604		$	1,276		$	2,023		$	870		$	42		$	13		$	8,581
Charge-offs		(3,152	)		(1,293	)		(765	)		(364	)		(1,224	)		(34	)		-			(6,832	)
Recoveries		34			34			7			10			6			-			-			91
Provision		2,840			924			1,821			795			1,702			22			(9	)		8,095
Ending balance	$	1,475		$	2,269		$	2,339		$	2,464		$	1,354		$	30		$	4		$	9,935
Ending balance, individually evaluated for impairment	$	188		$	96		$	1,009		$	111		$	697		$	-		$	-		$	2,101
Ending balance, collectively evaluated for impairment	$	1,287		$	2,173		$	1,330		$	2,353		$	657		$	30		$	4		$	7,834
Loans:
Ending balance	$	51,058		$	82,010		$	98,324		$	221,603		$	42,884		$	3,176		$	468		$	499,523
Ending balance, individually evaluated for impairment	$	6,081		$	7,662		$	2,697		$	4,134		$	2,687		$	31		$	-		$	23,292
Ending balance, collectively evaluated for impairment	$	44,977		$	74,348		$	95,627		$	217,469		$	40,197		$	3,145		$	468		$	476,231

An analysis of the allowance for loan losses for the three and nine months ended September 30, 2010 follows:

	Three months			Nine months
	ended			ended
	September 30, 2010			September 30, 2010
	(Dollars in thousands)
Allowance for loan losses beginning of period	$	8,484		$	8,581
Provision for loan losses		2,166			5,028
Loans charged off		(2,426	)		(5,392	)
Less recoveries		13			20
Net charge-offs		(2,413	)		(5,372	)
Allowance for loan losses end of period	$	8,237		$	8,237

-24-

NORTH STATE BANCORP

NOTE G - NET INCOME PER SHARE

Basic earnings per share represents income available to common shareholders divided by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflect additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Company relate to outstanding stock options. Basic and diluted net income per common share have been computed based upon net income as presented in the accompanying consolidated statements of operations divided by the weighted average number of common shares outstanding or assumed to be outstanding as summarized below.

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2011		2010		2011		2010
Weighted average number of common shares used in computing basic net income per share		7,427,976		7,427,967		7,427,976		7,340,889
Effect of dilutive stock options		1,592		6,966		3,223		33,847
Weighted average number of common shares and dilutive potential shares used in computing diluted net income per share		7,429,568		7,434,933		7,431,199		7,374,736

The weighted average number of shares outstanding or assumed to be outstanding are summarized below:

Due to the exercise price exceeding the average market price, the following anti-dilutive shares were excluded from the calculation of total dilutive weighted average shares. Anti-dilutive shares for the three and nine months ended September 30, 2011 were 95,787 and 90,787, respectively. For the corresponding prior year periods there were 105,787 anti-dilutive shares.

	Three Months Ended
	March 31,
	2012		2011

Weighted average number of common shares used in computing basic net income per share		7,427,976		7,427,976

Effect of dilutive stock options
		-		5,797
Weighted average number of common shares and dilutive potential shares used in computing diluted net income per share		7,427,976		7,433,773

~~NOTE~~Due Hto the exercise price exceeding the average market price, the following anti-dilutive ~~STOCK~~shares ~~OPTION~~were ~~PLANS~~excluded from the calculation of total dilutive weighted average shares. Anti-dilutive shares for the three months ended March 31, 2012 and 2011 were 125,503 and 105,787, respectively.

During 2000, the Bank adopted, with shareholder approval, an Employee Stock Option Plan and a Non-Employee Director Stock Option Plan. The Company assumed these plans in July 2002 as part of the Bank’s holding company reorganization. In 2003, the Company adopted, with shareholder approval, the 2003 Stock Plan. The 2003 Stock Plan replaced the two prior plans. All shares available for issuance under the prior plans, plus any shares covered by outstanding options that are forfeited under the prior plans, were transferred to the 2003 Plan. An aggregate of 1,239,827 shares of the Company’s common stock was initially reserved for options under the stock option plans. Certain of the options granted to directors in 2000 vested immediately at the time of grant. All other options granted vest 20% annually. All unexercised options expire ten years after the date of grant.21

The fair market value of each option award is estimated on the date of grant using the Black-Scholes option pricing model. In valuing options under Black-Scholes, the risk-free interest rate is based upon a U.S. Treasury instrument with a life that is similar to the expected life of the option grant. Expected volatility is based on the Company’s historical stock price. The expected term of the options is based upon the maximum life of the issued stock options. The expected dividend yield is based upon current yield on date of grant. No post-vesting restrictions exist for these options.

The following table illustrates the assumptions for the Black-Scholes model used in determining the fair value of options granted to employees for the nine-month periods ended September 30, 2011 and 2010.

-25-

NORTH STATE BANCORP

~~NOTE~~NOTES HTO -CONSOLIDATED ~~STOCK~~FINANCIAL ~~OPTION~~STATEMENTS ~~PLANS~~ (~~Continued~~Unaudited)

	Nine Months Ended
	September 30,
	2011			2010
Estimated fair value of options granted	$	2.83		$	1.97
Assumptions in estimating option values:
Risk-free interest rate		3.12	%		2.39	%
Dividend yield		0	%		0	%
Expected volatility		59.8	%		39.6% - 41.0	%
Expected life	7 years			6.5 - 7 years

NOTE H - FAIR VALUE MEASUREMENTS

				Weighted Average
						Remaining		Aggregate
				Exercise		Contractual		Intrinsic
	Shares			Price		Term		Value
								(in thousands)
Outstanding as of December 31, 2010		140,508		$	8.51	5.19 years		$	9
Granted		10,000		$	4.00		-		-
Exercised		-			-		-		-
Forfeited		(25,000	)	$	12.10		-		-
Expired		-			-		-		-
Outstanding as of September 30, 2011		125,508		$	7.43	4.36 years		$	8
Exercisable as of September 30, 2011		103,583		$	7.65	3.49 years		$	8

The Company estimates fair value for certain financial assets and liabilities based on fair value accounting guidance. Fair value measurements are based on the inputs used in valuation, gives priority to quoted prices in active markets, and requires that observable inputs be used in the valuations when available. The disclosure of fair value estimates in the fair value accounting guidance hierarchy is based on whether the significant inputs into the valuation are observable. In determining the level of the hierarchy in which the estimate is disclosed, the highest priority is given to unadjusted quoted prices in active markets and the lowest priority to unobservable inputs that reflect the Company’s significant market assumptions. The level in the fair value hierarchy within which the fair value measurement is reported is based on the lowest level input that is significant to the measurement in its entirety. The Company groups its financial assets and financial liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:

	Range of Exercise Prices
	Number of		Number of
	options		options
	outstanding		exercisable
$3.22 - $5.15		65,308		53,285
$6.37 - $12.25		48,700		43,098
$17.00 - $18.50		11,500		9,200
		125,508		105,583

	Nonvested Shares
				Weighted
				Average Grant
	Shares			Date Fair Value
Nonvested, December 31, 2010		38,532		$	9.64
Granted		10,000		$	2.83
Vested		(10,608	)	$	11.49
Forfeited		(16,000	)	$	14.94
Nonvested, September 30, 2011		21,924		$	6.38

-26-

NORTH STATE BANCORP

NOTE H - STOCK OPTION PLANS (Continued)

There were no options granted during the three-month period ending September 30, 2011 and 10,000 options granted during the nine-month period ended September 30, 2011. No options were exercised during these periods. For the three and nine months ended September 30, 2011, 25,000 options were forfeited. For the nine-month period in 2010, the intrinsic value of options exercised was approximately $400,000 and 15,000 shares were granted. No options were granted during the three months ended September 30, 2010. Cash received from option exercises under share-based payment arrangements for the nine-month period ended September 30, 2010 was approximately $611,000. The fair value of options vested during the three and nine-month periods ended September 30, 2011 was approximately $13,000 and $62,000, respectively. For the same periods in 2010, the fair value of options vested was $25,000 and $75,000. As of September 30, 2011 and 2010, approximately $67,000 and $177,000, respectively, of share-based compensation expense remained to be recognized over a period of 4.3 and 4.8 years, respectively, for the current and prior year periods stated.

NOTE I – FAIR VALUES OF ASSETS AND LIABILITIES

The Company utilizes fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. Securities available-for-sale are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, such as impaired loans. The nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets. The Company groups its financial assets and financial liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:

●

Level 1 – Valuations for assets and liabilities traded in active exchange markets, such as the New York Stock Exchange. Level 1 also includes U.S. Treasury, other U.S. government and agency mortgage-backed securities that are traded by dealers or brokers in active markets. Valuations are obtained from readily available pricing sources for market transactions involving identical assets or liabilities.

●	Level 2 – Valuations for assets and liabilities traded in less active dealer or broker markets. Valuations are obtained from third party services for identical or comparable assets or liabilities.

● Level 3 – Valuations for assets and liabilities that are derived from other valuation methodologies, including option pricing models, discounted cash flow models and similar techniques, and not based on market exchange, dealer, or ~~broker~~brokered traded transactions. Level 3 valuations incorporate certain assumptions and projections in determining the fair value assigned to such assets or liabilities.

Valuation of Assets and Liabilities Reported at Fair Value in Financial Statements

The fair value of a financial instrument is the estimated amount at which the instrument could be exchanged in an orderly transaction between knowledgeable, unrelated, willing parties. The estimated fair value of a financial instrument may differ from the amount that could be realized if sold in an immediate sale such as a forced transaction. Additionally, the valuation of investments is more subjective when markets are less liquid due to the lack of market based inputs, which may increase the potential that the estimated fair value of an investment is not reflective of the price at which an actual transaction would occur.

Securities available-for-sale are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, such as impaired loans and foreclosed assets. The nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.

The following is a description of valuation methodologies used by the Company for assets and liabilities recorded at fair value.

Investment Securities Available- for- Sale

Investment securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds. Level 2 securities include mortgage-backed securities issued by government sponsored entities, municipal bonds and corporate debt securities.

-27-

NORTH STATE BANCORP

NOTE I – FAIR VALUES OF ASSETS AND LIABILITIES (Continued)

as the New York Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds. Level 2 securities include mortgage-backed securities issued by government sponsored entities, municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.

Mortgage Banking Activity

The Company enters into written loan commitments and commitments to sell mortgages. Changes in the written loan commitments subjected to recurring fair value adjustments are affected by the changes in the balances of locked mortgage loan commitments, changes in the fall out rates and changes in the prevailing secondary market prices for like-kind mortgage loans. The fall out rate measures the likelihood that an interest rate lock commitment will ultimately not become a closed loan held for sale. ~~Fall~~ Factors contributing to the fall out rate include changes in prevailing interest rates from the time of the interest rate lock commitment as well as other factors such as lower than anticipated appraised values. As of ~~September~~March 3031, ~~2011~~2012 the fall out rate averaged 33.334%. As ~~The~~of March 31, 2012, the amount of fair value ~~adjustment~~ associated with these written loan commitments was $~~946~~530,000, which was included in other assets. As of December 31, ~~2010~~2011, fall out rates averaged 2133.6% and the amount of fair value associated with written loan commitments was $~~411~~946,000. ~~Commitments~~The tofair ~~sell~~value ~~mortgages~~of ~~are generally equal and offsetting to the~~ interest rate lock ~~commitment.~~commitments ~~These~~is ~~fair~~based ~~values~~on ~~were~~servicing ~~deemed~~rate ~~to be immaterial as of September 30~~premium, ~~2011~~origination ~~and December 31, 2010.~~income

NORTH STATE BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

NOTE H - FAIR VALUE MEASUREMENTS (Continued)

net of originations costs, and changes in loan pricing between the commitment date and period end, typically month end. The fair value of forward sales commitments is based on changes in loan pricing between the commitment date and period end. The commitments to sell mortgages are generally equal and offsetting to the interest rate lock commitment, both of whose fair values are deemed to be immaterial as of March 31, 2012 and December 31, 2011.

Loans

The Company does not record loans at fair value on a recurring basis. However, from time to time, a loan is considered impaired and an allowance for loan losses is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. Once a loan is identified as ~~individually~~ impaired, management measures the impairment in accordance with accounting standards. The fair value of impaired loans is estimated using one of several methods, including collateral value, market value of similar debt, enterprise value, liquidation value, ~~and~~or discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceed the recorded investments in such loans. As of ~~September~~March 3031, ~~2011~~2012, athe ~~portion~~majority of the Company’s impaired loans were evaluated based on the fair value of the collateral. Impaired loans where an allowance is established based on the fair value of collateral require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the impaired loan as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value due to factors such as current market price corrections, the number of qualifying buyers available, or the level of inventory of like property and there is no observable market price, the Company records the impaired loan as nonrecurring Level 3. The unobservable inputs include collateral discounts in a range of 5 – 40% of appraised value. The valuation techniques for the level 3 impaired loans are consistent with techniques used in prior periods.

Foreclosed Assets

Foreclosed assets are adjusted to fair value, less cost to ~~sell~~sale, upon transfer of the loans to ~~other~~foreclosed ~~real estate owned~~assets. Subsequently, ~~other~~foreclosed ~~real estate owned~~ assets are carried at fair value less costs to sell. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the foreclosed asset as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value due to factors such as current market price corrections, the number of qualifying buyers available, or the level of inventory of like property and there is no observable market price, the Company records the foreclosed asset as nonrecurring Level 3. The unobservable inputs include collateral discounts in a range of 5 – 40% to appraised values as well as a general cost of sales rate of 6%. The valuation techniques for the level 3 impaired loans are consistent with techniques used in prior periods.

The table below presents the balances of assets and liabilities measured at fair value on a recurring basis.

-28-

	As of March 31, 2012
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Securities available for sale:
Government-sponsored residential mortgage-backed securities	$	11,036	$	-	$	11,036	$	-
Written loan commitments		530		-		-		530
Total	$	11,566	$	-	$	11,036	$	530


	As of December 31, 2011
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Securities available for sale:
Government-sponsored residential mortgage-backed securities	$	12,917	$	-	$	12,917	$	-
Written loan commitments		946		-		-		946
Total	$	13,863	$	-	$	12,917	$	946

NORTH STATE BANCORP

~~NOTE~~NOTES ITO –CONSOLIDATED ~~FAIR~~FINANCIAL ~~VALUES~~STATEMENTS ~~OF ASSETS AND LIABILITIES~~ (~~Continued~~Unaudited)

	As of September 30, 2011
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Securities available for sale:
Government-sponsored residential mortgage-backed securities	$	14,217	$	-	$	14,217	$	-
Written loan commitments		946		-		-		946
	$	15,163	$	-	$	14,217	$	946
	As of December 31, 2010
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Securities available for sale:
U. S. government securities and obligations of U.S. governmental agencies	$	5,500	$	-	$	5,500	$	-
Government-sponsored residential mortgage-backed securities		3,734		-		3,734		-
Written loan commitments		411		-		-		411
	$	9,645	$	-	$	9,234	$	411

NOTE H - FAIR VALUE MEASUREMENTS (Continued)

~~The~~Valuation ~~table~~of ~~below~~Assets ~~presents~~and aLiabilities ~~reconciliation~~Reported ~~for all assets measured~~ at ~~fair~~Fair ~~value~~Value onin aFinancial ~~recurring~~Statements ~~basis using significant unobservable inputs~~ (~~Level 3~~Continued) ~~during the first nine months of 2011.~~

	Interest Rate
	Lock Commitments
	(Dollars in thousands)
Balance, December 31, 2010	$	411
Included in earnings		535
Balance, September 30, 2011	$	946

The table below presents a reconciliation for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during the three-month periods ended March 31, 2012 and 2011.

The Company may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis in accordance with GAAP. These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period. The table below presents the balances of assets and liabilities measured at fair value on a nonrecurring basis.

	Written Loan Commitments
	For the three months ended March 31,
	2012			2011
	(Dollars in thousands)

Balance, beginning of period	$	946		$	411
Gains (losses) included in other income		(416	)		52
Balance, end of period	$	530		$	463

	As of September 30, 2011
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Impaired loans	$	13,533	$	-	$	5,271	$	8,262
Foreclosed assets	$	2,713	$	-	$	914	$	1,799
	As of December 31, 2010
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Impaired loans	$	5,119	$	-	$	727	$	4,392
Foreclosed assets	$	5,296	$	-	$	-	$	5,296

The Company may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. generally accepted accounting principles. These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period.

~~-29-~~The table below presents the balances of assets and liabilities measured at fair value on a nonrecurring basis.

	As of March 31, 2012
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)

Impaired loans	$	12,430	$	-	$	606	$	11,824
Foreclosed assets	$	4,059	$	-	$	331	$	3,728


	As of December 31, 2011
	Total		Level 1		Level 2		Level 3
	(Dollars in thousands)

Impaired loans	$	16,309	$	-	$	9,628	$	6,681
Foreclosed assets	$	2,851	$	-	$	886	$	1,965

As of March 31, 2012, all level 2 nonrecurring impaired loans and foreclosed assets have sales contracts or commitments to purchase. No further market driven discounts were applied to the December 31, 2011 impaired loans that required transfers between Level 2 and Level 3 as of March 31, 2012 other than one foreclosed property for $25,000 which was transferred to Level 3 as of March 31, 2012, which we consider as immaterial.

Financial Assets and Liabilities Disclosed, but Not Carried, at Fair Value in Financial Statements

Financial instruments include cash and due from banks, interest-bearing deposits with banks, investments, accrued interest, loans, written loan commitments, bank owned life insurance, deposit accounts and borrowings. The Company has recorded certain assets at fair value as required by accounting standards on the proper disclosure of fair value of financial instruments. Fair value estimates are made at a specific moment in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no active market readily exists for a portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

NORTH STATE BANCORP

~~NOTE~~NOTES ITO –CONSOLIDATED ~~FAIR~~FINANCIAL ~~VALUES~~STATEMENTS ~~OF ASSETS AND LIABILITIES~~ (~~Continued~~Unaudited)

~~There~~ NOTE ~~were~~H ~~no further market driven discounts applied to the year~~-~~end~~ ~~2010~~FAIR ~~impaired~~VALUE ~~loans~~MEASUREMENTS ~~that required transfers between Level 2 and Level 3 as of September 30, 2011.~~(Continued)

~~NOTE~~Valuation Jof -Assets ~~DISCLOSURES~~and ~~ABOUT~~Liabilities ~~FAIR~~Reported ~~VALUES~~at OFFair ~~FINANCIAL~~Value ~~INSTRUMENTS~~in Financial Statements (Continued)

Financial instruments include cash and due from banks, interest-earning deposits with banks, certificates of deposit with banks, federal funds sold, investments, accrued interest, loans held for sale, loans, bank owned life insurane, stock in Federal Home Loan Bank, deposit accounts and borrowings. Accounting standards require the disclosure of the estimated fair value of financial instruments. The Company has recorded certain assets at fair value. Fair value estimates are made at a specific moment in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no active market readily exists for a portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:

Cash and Due from Banks, and Interest-Earning Deposits ~~with~~With Banks~~, and Federal Funds Sold~~

The carrying amounts are a reasonable estimate of fair value for cash and due from banks, and interest-earning deposits with banks, ~~and federal funds sold~~ because of the short maturities of those instruments.

Certificates of Deposit with Banks

The fair values are based on discounting expected cash flows at the interest rate for certificates of deposit with the same or similar remaining maturity.

Investment Securities

Fair value for investment securities available for sale equals quoted market price if such information is available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. The fair values are based on market observable inputs and are disclosed at Level 2 hierarchy. Fair value for investment securities held to maturity is determined ~~using~~internally based on a discounted cash flow ~~analysis~~valuation technique utilizing a discount rate based on the three-month LIBOR rate. Estimates of fair value developed internally are disclosed at Level 3 of the hierarchy. The valuation technique for the level 3 securities is consistent with techniques used in prior periods.

Loans and Loans Held for Sale

The fair value of loans is based on estimated cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities, less a credit component and are carried at Level 3 of the hierarchy. The fair value of impaired loans measured on a nonrecurring basis are determined internally utilizing one of several methods, including collateral value, market value of similar debt, enterprise value, liquidation value or discounted cash flows. A portion of the Company’s March 31, 2012 impaired loans was evaluated based on the fair value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the impaired loan as nonrecurring Level 2 of the hierarchy. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the impaired loan as a nonrecurring Level 3. The carrying amount of loans held for sale is a reasonable estimate of fair value since they will be sold in a short period and are carried at Level 3 of the hierarchy. This does not include consideration of liquidity ~~discounts~~ that market participants would use to value such loans.

Stock in Federal Home Loan Bank of Atlanta

The fair value for FHLB stock approximates carrying value, based on the redemption provisions of the Federal Home Loan Bank and is carried at Level 2 of the hierarchy.

-30-

NORTH STATE BANCORP

NOTE J - DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS (Continued)

Bank Owned Life Insurance

The carrying value of life insurance approximates fair value as this investment is carried at cash surrender ~~vale~~value as determined by the insurer and is carried at Level 2 of the hierarchy.

Deposits

The fair value of demand, savings, money market and NOW deposits is the amount payable on demand at the reporting date. The fair value of time deposits and borrowings is estimated by discounting expected cash flows using the rates currently offered for instruments of similar remaining maturities and are carried at Level 3 of the hierarchy.

Borrowings

The fair values are based on discounting expected cash flows at the interest rate for debt with the same or similar remaining maturities and collateral requirements and are carried at Level 3 of the hierarchy.

Accrued Interest

The carrying amounts of accrued interest approximate fair value and is carried at Level 3 of the hierarchy.

Financial Instruments with Off-Balance Sheet Risk

With regard to financial instruments with off-balance sheet risk, itdiscussed isin ~~not~~Note ~~practicable~~D, ~~to estimate~~ the estimated fair value of future financing commitments is not deemed material.

The following table presents the carrying ~~values~~value and estimated fair ~~values~~value of the Company's financial ~~instruments~~assets and liabilities disclosed, but not carried, at fair value as of ~~September~~March 3031, ~~2011~~2012 and ~~December~~the ~~31,~~level ~~2010~~within the fair value hierarchy at which such financial instruments are measured on a recurring and non-recurring basis.

~~-31-~~25

NORTH STATE BANCORP

~~NOTE~~NOTES JTO -CONSOLIDATED ~~DISCLOSURES ABOUT FAIR VALUES OF~~ FINANCIAL ~~INSTRUMENTS~~STATEMENTS (~~Continued~~Unaudited)

	September 30, 2011				December 31, 2010
	Carrying Amount		Estimated Fair Value		Carrying Amount		Estimated Fair Value
	(Dollars in thousands)
Financial assets:
Cash and due from banks	$	9,348	$	9,348	$	5,974	$	5,974
Interest-earning deposits with banks		44,849		44,849		43,859		43,859
Certificates of deposit with banks		490		490		198		198
Investment securities available for sale		14,217		14,217		9,234		9,234
Investment securities held to maturity		250		205		250		211
Loans held for sale		50,023		50,023		51,472		51,472
Loans, net		473,826		471,709		489,588		490,131
Accrued interest receivable		1,405		1,405		1,654		1,654
Stock in the Federal Home Loan Bank		1,126		1,028		1,273		1,273
Bank owned life insurance		10,058		10,058		-		-
Financial liabilities:
Deposits	$	564,154	$	565,068	$	562,748	$	562,640
Short-term borrowings		27		27		3,615		3,615
Long-term borrowings		27,252		27,246		27,269		27,253
Accrued interest payable		1,072		1,072		1,181		1,181

NOTE H - FAIR VALUE MEASUREMENTS (Continued)

~~The~~Financial ~~Company~~Assets ~~has three reportable business segments, the Bank, NSB Mortgage~~ and ~~the~~Liabilities parent Company. The Bank is engaged in general commercial and retail banking in central and coastal North Carolina. The Bank operates six full-service banking offices located in Wake County and one full-service office in WilmingtonDisclosed, ~~New~~but ~~Hanover~~Not ~~County~~Carried, ~~North~~at ~~Carolina. NSB~~Fair ~~Mortgage,~~Value ~~a division of the Bank, originates and sells and, beginning~~ in ~~the~~Financial ~~second~~Statements quarter of 2011, to a limited extent retains single-family residential first mortgage loans. The remaining segment consists of activities of the parent Company. Eliminations necessary to accurately report the operations of the Company are also included. The tables below present segment reporting disclosure as of and for the three and nine-month periods ended September 30, 2011 and for the three and nine-month periods ended September 30, 2010 and as of December 31, 2010. The mortgage division was not established until February 2010.(Continued)

-32-

	March 31, 2012
	Carrying Amount		Estimated Fair Value		Level 1		Level 2		Level 3
	(Dollars in thousands)
Financial assets:
Cash and due from banks	$	8,364	$	8,364	$	8,364	$	-	$	-
Interest-earning deposits with banks		86,679		86,679		86,679		-		-
Investment securities available for sale		11,036		11,036		-		11,036		-
Investment securities held to maturity		250		200		-		-		200
Loans held for sale		46,693		46,693		-		-		46,693
Loans, net		475,623		481,905		-		606		481,299
Accrued interest receivable		1,253		1,253		-		-		1,253
Stock in the Federal Home Loan Bank		1,073		1,073		-		-		1,073
Bank owned life insurance		10,243		10,243		-		10,243		-
Written loan commitments		530		530		-		-		530

Financial liabilities:
Deposits	$	599,520	$	600,437	$	-	$	-	$	600,437
Short-term borrowings		1,045		1,045		-		-		1,045
Long-term borrowings		27,241		27,238		-		-		27,238
Accrued interest payable		895		895		-		-		895

The Company did not have any transfers between Level 1 and Level 2. The following table presents the carrying values and estimated fair values of the Company's financial instruments disclosed, but not carried, at fair value as of December 31, 2011.

	December 31, 2011
	Carrying Amount		Estimated Fair Value
	(Dollars in thousands)
Financial assets:
Cash and due from banks	$	9,826	$	9,826
Interest-earning deposits with banks		39,547		39,547
Investment securities available for sale		12,917		12,917
Investment securities held to maturity		250		201
Loans held for sale		49,728		49,728
Loans, net		480,549		487,617
Accrued interest receivable		1,441		1,441
Stock in the Federal Home Loan Bank		1,073		1,028
Bank owned life insurance		10,146		10,146
Written loan commitments		946		946

Financial liabilities:
Deposits	$	564,439	$	565,344
Short-term borrowings		73		73
Long-term borrowings		27,246		27,310
Accrued interest payable		897		897

NORTH STATE BANCORP

~~NOTE~~NOTES KTO –CONSOLIDATED ~~BUSINESS~~FINANCIAL ~~SEGMENT~~STATEMENTS ~~INFORMATION~~ (~~Continued~~Unaudited)

	As of September 30, 2011
	Bank		NSB Mortgage		Parent Company		Eliminations			Total Company
	(Dollars in thousands)
Total assets	$	550,514	$	81,058	$	53,606	$	(52,561	)	$	632,617
Net loans		444,255		29,571		-		-			473,826
Loans held for sale		-		50,023		-		-			50,023
Goodwill		-		141		-		-			141
	As of December 31, 2010
	Bank		NSB Mortgage		Parent Company		Eliminations			Total Company
	(Dollars in thousands)
Total assets	$	579,400	$	53,505	$	52,985	$	(52,025	)	$	633,865
Net loans		489,588		-		-		-			489,588
Loans held for sale		-		51,472		-		-			51,472
Goodwill		-		141		-		-			141

NOTE I – BUSINESS SEGMENT INFORMATION

	For the Three Months Ended September 30, 2011
	Bank			NSB Mortgage		Parent Company			Eliminations			Total Company
	(Dollars in thousands)
Total interest income	$	6,227		$	871	$	5		$	(2	)	$	7,102
Total interest expense		1,183			-		107			(2	)		1,289
Net interest income		5,044			871		(102	)		-			5,813
Provision for loan losses		2,137			-		-			-			2,137
Net interest income after provision for loan losses		2,907			871		(102	)		-			3,676
Noninterest income		389			970		393			(393	)		1,359
Noninterest expense		3,799			755		142			-			4,696
Income before income taxes		(503	)		1,086		149			(393	)		339
Income taxes		(182	)		371		(83	)		-			106
Net income (loss)	$	(321	)	$	715	$	232		$	(393	)	$	233

The Company has three reportable business segments, the Bank, NSB Mortgage and the parent Company. The Bank is engaged in general commercial and retail banking in central and coastal North Carolina. The Bank operates six full-service banking offices located in Wake County and one full-service office in Wilmington, New Hanover County, North Carolina. NSB Mortgage, a division of the Bank, originates and sells and to a limited extent retains single-family residential first mortgage loans. The remaining segment consists of activities of the parent Company. Eliminations necessary to accurately report the operations of the Company are also included. The tables below present segment reporting disclosure as of March 31, 2012 and December 31, 2011and for the three-month periods ended March 31, 2012 and 2011.

	For the Nine Months Ended September 30, 2011
	As of March 31, 2012
	Bank			NSB Mortgage		Parent Company			Eliminations			Total Company
	(Dollars in thousands)
Total interest income	$	19,292		$	1,613	$	20		$	(10	)	$	20,916
Total assets	$	569,468		$	99,125	$	54,539		$	(53,938	)	$	669,194
Total interest expense		3,804			-		325			(10	)		4,120
Net loans		424,581			51,042		-			-			475,623
Net interest income		15,488			1,613		(305	)		-			16,796
Loans held for sale		-			46,693		-			-			46,693
Provision for loan losses		4,570			-		-			-			4,570
Goodwill		-			141		-			-			141
Net interest income after provision for loan losses		10,918			1,613		(305	)		-			12,226
	As of December 31, 2011
Noninterest income		1,254			2,013		943			(943	)		3,267
	Bank			NSB Mortgage		Parent Company			Eliminations			Total Company
Noninterest expense		12,249			2,104		295			-			14,648
	(Dollars in thousands)
Income before income taxes		(77	)		1,522		343			(943	)		845
Total assets	$	541,223		$	91,172	$	54,271		$	(53,776	)	$	632,890
Income taxes		(27	)		529		(204	)		-			298
Net loans		440,055			40,494		-			-			480,549
Net income (loss)	$	(50	)	$	993	$	547		$	(943	)	$	547
Loans held for sale		-			49,728		-			-			49,728
Goodwill		-			141		-			-			141

-33-

	For the Three Months Ended March 31, 2012
	Bank			NSB Mortgage		Parent Company			Eliminations			Total Company
	(Dollars in thousands)

Total interest income	$	5,818		$	629	$	7		$	(4	)	$	6,450
Total interest expense		1,000			-		115			(4	)		1,111
Net interest income (loss)		4,818			629		(108	)		-			5,339
Provision for loan losses		1,531			-		-			-			1,531
Net interest income (loss) after provision for loan losses		3,287			629		(108	)		-			3,808
Noninterest income		474			943		347			(347	)		1,417
Noninterest expense		3,805			1,056		59			-			4,920
Income before income taxes		(44	)		516		180			(347	)		305
Income taxes		(26	)		151		(56	)		-			69
Net income (loss)	$	(18	)	$	365	$	236		$	(347	)	$	236

NORTH STATE BANCORP

~~NOTE~~NOTES KTO –CONSOLIDATED ~~BUSINESS~~FINANCIAL ~~SEGMENT~~STATEMENTS ~~INFORMATION~~ (~~Continued~~Unaudited)

	For the Three Months Ended September 30, 2010
	Bank		NSB Mortgage		Parent Company			Eliminations			Total Company
	(Dollars in thousands)
Total interest income	$	7,388	$	461	$	485		$	(481	)	$	7,853
Total interest expense		1,665		-		114			(9	)		1,770
Net interest income		5,723		461		371			(472	)		6,083
Provision for loan losses		2,166		-		-			-			2,166
Net interest income after provision for loan losses		3,557		461		371			(472	)		3,917
Noninterest income		513		1,059		-			-			1,572
Noninterest expense		4,066		729		100			-			4,895
Income before income taxes		4		791		271			(472	)		594
Income taxes		-		323		(68	)		-			255
Net income	$	4	$	468	$	339		$	(472	)	$	339

NOTE I – BUSINESS SEGMENT INFORMATION (Continued)

	For the Nine Months Ended September 30, 2010
	For the Three Months Ended March 31, 2011
	Bank		NSB Mortgage		Parent Company			Eliminations			Total Company
	(Dollars in thousands)
Total interest income	$	226,~~413~~712	$	~~819~~365	$	~~1,575~~7		$	(~~1,565~~4	)	$	237,~~242~~080
Total interest expense		51,~~598~~375		-		~~322~~111			(224	)		51,~~898~~482
Net interest income		16,815		819		1,253			(1,543	)		17,344
Net interest income (loss)		5,337		365		(104	)		-			5,598
Provision for loan losses		51,~~028~~015		-		-			-			51,~~028~~015
Net interest income after provision for loan losses		11,787		819		1,253			(1,543	)		12,316
Net interest income (loss) after provision for loan losses		4,322		365		(104	)		-			4,583
Noninterest income		~~1,171~~240		~~1,712~~503		-300			-(300	)		~~2,883~~743
Noninterest expense		114,~~612~~201		~~1,277~~759		~~286~~42			-			135,~~175~~002
Income before income taxes		~~1,346~~361		~~1,254~~109		~~967~~154			(~~1,543~~300	)		~~2,024~~324
Income taxes		~~547~~130		~~510~~40		(~~196~~50	)		-			~~861~~120
Net income	$	~~799~~231	$	~~744~~69	$	~~1,163~~204		$	(~~1,543~~300	)	$	~~1,163~~204

~~-34-~~28

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

This report contains forward-looking statements intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. These forward-looking statements can generally be identified as such because the context of the statement will include words such as we “believe,” “anticipate,” “expect” or words of similar meaning. Similarly, statements that describe our future plans, objectives or goals are also forward-looking statements. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those currently anticipated, including: general and local economic conditions; changes in real estate values; changes in interest rates, deposit flows, and loan demand; changes in legislation or regulation including regulatory assessments; changes in accounting principles, policies or guidelines; competition; other competitive, technological, governmental and regulatory factors affecting our operations, pricing, products, and services; our ability to manage growth; and factors set out in our Annual Report on Form 10-K for the year ended December 31, ~~2010~~2011 and our other filings with the Securities and Exchange Commission.

Management’s discussion and analysis is intended to assist readers in the understanding and evaluation of our financial condition and results of operations. You should read this discussion in conjunction with our consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, ~~2010~~2011.

Recent Market Developments in the Banking Industry

~~The~~During the first three months of 2012, the economy overall showed some signs of improvement and increased business activity. ~~within~~Unemployment ~~our~~rates, ~~markets~~while ~~generally~~down, ~~continued~~remain high compared to bepre-recession ~~sluggish~~levels ~~during~~and ~~the~~while ~~first~~real ~~nine~~estate ~~months~~prices ofhave ~~2011.~~stabilized somewhat, residential and commercial real estate prices, in some areas, continue to decline and experience high foreclosure rates. The resulting effects of the deep and prolonged recession ~~continues~~on tothe ~~financially~~real ~~stress~~estate ~~many~~market ofand ~~our~~economy ~~customers~~have asnegatively ~~unemployment~~impacted ~~rates~~in ~~remain~~the ~~high~~past, ~~real~~and ~~estate~~could ~~prices~~adversely onaffect ~~homes~~in the future, the credit quality of our loans and ~~commercial~~our ~~real~~overall ~~estate,~~results inof ~~some~~operations ~~areas~~and financial condition. In addition, ~~have~~newly ~~declined~~enacted laws as a result of the financial crisis and potential further ~~while~~imposition ~~foreclosures~~of ~~continue~~new tolaws ~~rise~~and regulations and regulatory assessments from the U.S. government could significantly impact our operations in the future.

Our financial performance isgenerally, ~~directly~~and ~~tied~~in toparticular the ability of our borrowing customers to pay interest on and repay principal of outstanding loans, ~~which ability, and the value of collateral securing those loans,~~ is highly dependent upon the business environment in the markets where we operate in Wake and New Hanover Counties, in North Carolina. The effect of the prolonged recession continues to financially stress many of our customers. Due to the state of the economy in our market areas and the resultant potential impact on our loan portfolio, we continue to closely monitor our loan portfolio, nonperforming assets and allowance for loan losses. See the discussions on “~~Provision~~Comparison ~~for~~of ~~Loan~~Results ~~Losses”~~of ~~and~~Operations ~~“Allowance~~ for ~~Loan~~the ~~Losses~~Three-Month ~~and~~Periods ~~Asset~~Ended ~~Quality.”~~March ~~The~~31, ~~business~~2012 ~~environment in North Carolina~~ and ~~the~~2011- ~~markets~~Provision ~~in which we operate may continue to see some deterioration~~ for ~~the~~Loan ~~foreseeable~~Losses” ~~future which could continue to adversely impact our earnings. Further, newly enacted~~ and ~~potential~~“Asset ~~further~~Quality ~~imposition of new laws~~ and ~~regulations~~Allowance ~~and~~for ~~regulatory~~Loan ~~assessments from the U~~Losses.~~S. government could significantly impact our operations in the future.~~”

Overview

We are a commercial bank holding company that was incorporated on June 5, 2002. We have one subsidiary, North State Bank, which we acquired on June 28, 2002 as part of the formation and reorganization of our bank holding company. In March 2004, we established a subsidiary trust, North State Statutory Trust I, which we refer to as Trust I, to issue trust preferred securities. In December 2005, we established a second subsidiary trust, North State Statutory Trust II, which we refer to as Trust II and in November 2007 we established a third subsidiary trust, North State Statutory Trust III, which we refer to as Trust III. Our only business is the ownership and operation of North State Bank and its subsidiaries and our three subsidiary trusts.

North State Bank is a North Carolina chartered banking corporation. The Bank, which offers a full array of commercial and retail banking services, opened for business on June 1, 2000. Through the Bank, we currently operate six full-service banking offices located in Raleigh, Garner and Wake Forest, North Carolina, ~~and~~ one full-service banking office located in Wilmington, North Carolina and a mortgage loan office located in Chapel Hill, North Carolina. Our principal customers consist of professional firms, professionals, churches, property management companies, non-profits and individuals who value a mutually beneficial banking relationship. The Bank has a subsidiary, North State ~~Financial~~Wealth ~~Services~~Advisors, Inc., which offers brokerage services and wealth management. In February 2010, we acquired the operations of a Raleigh-based mortgage company, Affiliated Mortgage, LLC, creating North State Bank Mortgage, or NSB Mortgage, as a division of the Bank for the purpose of originating and selling single-family residential first mortgages. In June 2011, the Bank established North State Title, LLC which owns 67% of Title Group, LLC, a title insurance agency.

~~-35-~~29

Comparison of Financial Condition as of ~~September~~March 3031, ~~2011~~2012 and December 31, ~~2010~~2011

Total assets as of ~~September~~March 3031, ~~2011~~2012 ~~remained~~increased ~~substantially~~$36.3 ~~unchanged~~million atto $~~632~~669.72 million, aprimarily ~~decrease~~in ofinterest-earning deposits with banks which grew $147.21 million ~~from~~to $~~633~~86.97 million. asOur portfolio of ~~December~~loans ~~31,~~declined ~~2010~~$5. ~~Our~~7 ~~portfolio~~million ~~loans~~to $484.8 million, representing 7872.84% of our total assets atas ~~year-end~~of March 31, ~~declined~~2012 compared to 7677.45% as of ~~total~~year-end ~~assets~~2011. New ascommercial ofloan growth ~~September~~continues ~~30,~~to ~~2011~~be asslow while simultaneously loan charge-offs and transfers to foreclosed assets ~~more~~continue ~~than~~to ~~offset~~reduce ~~new~~the loan ~~production net of payoffs~~portfolio. ~~Portfolio~~Mortgage loans ~~were~~held ~~$483.5~~for ~~million~~sale asdeclined ofto ~~September 30, 2011, down~~ $1646.07 million ~~from December 31~~, ~~2010. Mortgage loans held for sale were~~ down $13.40 million from year-end ~~to $50.0 million as of September 30,~~ 2011~~. Funds~~ ~~from~~and ~~declines in these earning assets were redeployed into interest-earning deposits in banks, purchases of~~ investment securities indeclined ~~our~~to ~~available~~$11.3 ~~for~~million, ~~sale~~down ~~securities portfolio and the purchase of~~ $101.09 million infrom ~~bank~~year-end ~~owned life insurance during August~~ 2011. Our assets are primarily funded through deposits, which ~~were~~grew ~~up slightly by~~ $135.41 million to $~~564~~599.25 million as of ~~September~~March 3031, ~~2011~~2012 compared to ~~total deposits of~~ $~~562~~564.74 million as of ~~December~~year-end ~~31, 2010~~2011. ~~Although~~In ~~overall~~addition to deposit ~~volume~~growth, ~~has~~our ~~not~~deposit ~~changed~~mix ~~significantly,~~continues weto ~~have~~improve ~~experienced~~as ~~improvement~~lower-costing indemand ~~our~~and ~~deposit~~interest-bearing ~~mix~~transaction bydeposits ~~focusing~~have onincreased ~~core~~as ~~deposits~~a ~~resulting~~percent inof ~~growth~~total indeposits ~~noninterest~~from year-~~bearing~~end ~~demand~~2011 ~~and~~due ~~lower~~to ~~costing~~our ~~interest-bearing~~continued ~~transaction~~emphasis ~~deposits~~on ~~while~~building ~~reducing~~and ~~higher~~maintaining ~~costing~~core ~~time~~ deposits.

As of ~~September~~March 3031, ~~2011~~2012, our interest-earning deposits with banks included $4181.91 million in excess overnight funds in our Federal Reserve account and $25.95 million held at correspondent banks compared to $4236.40 million and $13.5 million, respectively, as of ~~December~~year-end ~~31,~~2011 ~~2010~~as growth in our core deposit funds have outpaced new commercial loan demand. Our available for sale investment portfolio as of ~~September~~March 3031, ~~2011~~2012 consisted of $1411.20 million of government-sponsored residential mortgage-backed securities compared to $312.79 million as of ~~December~~year-end ~~31, 2010 in addition to $5~~2011.5 ~~million~~During ofthe ~~U.S.~~three-month ~~treasury~~period ~~notes~~ended asMarch ~~of December~~ 31, ~~2010.~~2012, Wewe ~~purchased~~sold $19.04 million inof ~~U.S. treasury notes and $31.7 million in~~ government-sponsored residential mortgage-backed securities ~~during~~for ~~the~~a ~~first~~gain ~~nine months~~ of ~~2011.~~$106,000 ~~Also~~and ~~during~~re-deployed ~~this~~the ~~period,~~funds into $68.52 million of Usame type securities.S. ~~treasury~~Also ~~notes~~during ~~matured~~this ~~along~~period ~~with~~we received $~~2.4~~458,000 ~~million~~ in cash flows ~~received~~ from government-sponsored residential mortgage-backed securities. ~~During~~ ~~the first nine months of 2011, $19.3 million in government-sponsored residential mortgage-backed securities were sold realizing gains of approximately $374,000.~~ All of our investments are accounted for as available for sale and are presented at their fair market value with the exception of $250,000 in corporate bonds that are accounted for as held to maturity and are carried at book value.

Our portfolio of loans decreased $165.07 million or 31.2% to $~~483~~484.58 million as of ~~September~~March 3031, ~~2011~~2012 compared to $~~499~~490.5 million as of ~~December~~year-end ~~31, 2010~~2011. The decline in the loan portfolio reflects a continued cycle of higher levels of loan payoffs over new loan volume, $42.83 million of net charge-offs as well as $12.53 million of transfers to foreclosed assets. New commercial loan demand remains slow due to the ~~continued~~combined effects of the ~~sluggish~~prolonged ~~economy,~~recession ~~however,~~and weincreased ~~are~~competition ~~focused~~for onlending ~~building~~opportunities ~~and~~among ~~maintaining~~our ~~mutually~~targeted ~~beneficial~~customer ~~relationships~~groups. We continue to communicate with our ~~targeted~~target customers ~~which~~to weobtain ~~believe~~a ~~will~~better ~~provide~~understanding usand ~~opportunities~~knowledge toof their businesses so we can respond to their borrowing needs in the future. Toas ~~offset~~ the ~~slowdown~~economy inrecovers. ~~new~~Our ~~commercial~~ loan ~~volume,~~portfolio ~~during~~includes ~~the~~$50.5 ~~second~~million ~~quarter~~ of ~~2011,~~single-family weresidential ~~began~~mortgages ~~retaining~~originated athrough ~~small~~NSB ~~portion~~Mortgage ofto ~~our~~partially ~~mortgage~~offset ~~loan~~the ~~division~~slowdown ~~originations. As~~in ofnew ~~September~~commercial ~~30,~~loan ~~2011,~~activity. ~~our~~This loan ~~portfolio~~category ~~includes~~grew ~~approximately~~ $2910.67 million ofover ~~mortgage~~$39.8 ~~loans~~million ~~originated~~as ~~through~~of ~~our~~year-end ~~mortgage loan division, NSB Mortgage~~2011.

~~While~~The ~~there~~table ~~have~~below ~~been~~is ~~slight~~a ~~changes~~summary inof our ~~loan composition since year-end 2010, the portfolio remains primarily secured by real estate with $442.9 million or 91.6% of~~ loans outstanding ~~as of September 30, 2011 so secured. Real estate values are generally affected~~ by ~~changes~~major incategory ~~economic~~as ~~conditions, fluctuations in interest rates, the availability~~ of ~~loans~~March ~~to potential purchasers as well as changes in tax and other laws. A further downturn in the real estate markets in which we operate~~31, ~~specifically~~2012 ~~New Hanover~~ and ~~Wake~~December ~~Counties~~31, ~~could have an adverse effect on our business, financial condition and results of operations because loans in these markets are secured by real estate~~2011. ~~Borrowers may not be able to make current payments on or repay real estate loans and the value of the collateral securing these loans may decline, which would reduce the security for these loans.~~

~~-36-~~30

As part of our long-term plan to minimize construction and land development lending, real-estate-secured construction and land development loans decreased $28.1 million to 21.7% of loans outstanding from 26.7% as of year-end 2010 as construction projects were paid off or completed and moved to longer-term financing. Although our concentration in commercial real estate, including commercial construction and land development, remains high at $274.6 million or 56.8% of the loan portfolio, this loan segment has declined $29.0 million from $303.6 million or 60.8% of the loan portfolio at year-end 2010. A concentration in commercial real estate exposes us to more credit and regulatory risk than other types of loans because of the ongoing sluggish economy and real estate market. In addition, our concentration in these loans has and could possibly subject us to adverse comment or action by our federal and state banking regulators, including the Federal Deposit Insurance Fund, or FDIC, the Federal Reserve and the North Carolina Commissioner of Banks. Of the properties securing these commercial real estate loans, 14.4% are located within our New Hanover County market and 85.6% are located within our Wake County market.

					Increase (decrease)
	March 31, 2012		December 31, 2011		$			%
	(Dollars in thousands)
Real estate secured loans:
Residential construction	$	28,568	$	27,323	$	1,245			4.6	%
Commercial construction, all land development and other land loans		43,468		47,524		(4,056	)		-8.5	%
Residential properties		104,019		105,226		(1,207	)		-1.1	%
Residential mortgage (1)		50,484		39,829		10,655			-
Commercial real estate - other		219,327		228,256		(8,929	)		-3.9	%
Total real estate secured loans		445,866		448,158		(2,292	)		-0.5	%

Other non-real estate loans:
Commercial and industrial		35,060		38,435		(3,375	)		-8.8	%
Consumer and other		3,839		3,862		(23	)		-0.6	%
Total loans held for investment	$	484,765	$	490,455	$	(5,690	)		-1.2	%

Mortgage loans held for sale	$	46,693	$	49,728	$	(3,035	)		-6.1	%

Residential real-estate loans including construction loans grew to $168.3 million, including $29.6 million originated through NSB Mortgage, and represented approximately 34.8% of the loan portfolio as of September 30, 2011 compared to 29.9% of the loan portfolio as of year-end 2010. Since the second quarter of 2011, we have retained select mortgages originated through NSB Mortgage to partially offset slow loan demand from our traditional commercial customers. The (1 ~~– 4~~ ) Single-family residential ~~mortgage~~mortgages ~~loans~~ originated through NSB Mortgage ~~and~~held ~~selected~~ for retention are subject to strict underwriting standards which are at a minimum per the Federal Home Loan Mortgage Corporation, or FREDDIE MAC, guidelines and typically have terms within 10 to 15 years with moderate loan-to-value ratios, typically less than 70%, and higher credit scoresinvestment. ~~Non-real estate commercial and industrial loans declined to $36.7 million or 7.6% of loans from 8.6% as of year-end 2010.~~

~~Loan~~While ~~originations~~there ~~from~~have ~~within~~been ~~our~~slight ~~NSB~~changes ~~Mortgage~~in ~~division~~our ~~are~~loan ~~held~~composition ~~for~~since ~~sale~~year-end 2011, the portfolio remains primarily secured by real estate with ~~the~~$445.9 ~~exception~~million ofor ~~select~~92.0% of loans ~~discussed~~outstanding ~~above~~as ~~that~~of ~~are~~March ~~retained~~31, ~~within~~2012 ~~our~~compared ~~loan~~to ~~portfolio~~$448. ~~Mortgage~~2 ~~loan~~million ~~originations~~or ~~represent~~91.4% ~~single~~as of year-~~family~~end ~~residential~~2011. ~~first~~Real ~~mortgage~~estate ~~loans,~~values are generally onaffected aby ~~pre-sold~~changes ~~basis. Mortgage~~in ~~originations~~economic ~~are~~conditions, ~~subject~~fluctuations toin ~~volatility~~interest ~~due~~rates, the availability of loans to ~~interest~~potential ~~rates~~purchasers as well as changes in tax and ~~home~~other ~~sales~~laws. ~~During~~ Although the ~~first~~economic ~~three~~environment ~~months~~currently ofshows ~~2011~~some improvement, ~~loan~~a ~~originations~~further ~~declined~~downturn ~~sharply~~or ascontinued ~~refinancing~~sluggish ~~and~~market ~~loans~~conditions ~~from~~could ~~home~~result ~~sales~~in ~~were~~an ~~slow~~increased ~~during~~number ~~this~~of ~~period. During~~borrowers ~~the~~not ~~second~~making ~~and~~payments ~~third~~on ~~quarters~~or ofrepaying ~~2011,~~real ~~mortgage~~estate ~~loan~~loans ~~originations~~and ~~have~~the ~~increased~~value inof ~~both~~the ~~refinancing~~collateral ~~activity~~securing these loans could decline further as well. asAdverse ~~loans~~effects ~~for~~to ~~home~~our ~~purchases.~~customers’ Asbusinesses ofcorrespondingly ~~September~~result ~~30,~~in ~~2011,~~adverse ~~mortgage~~effects ~~loans~~to ~~held~~our ~~for~~financial ~~sale~~condition ~~were~~and ~~$50.0~~results ~~million~~of ~~compared~~operations due to ~~$51.5~~our ~~million~~high aslevel of ~~year-end~~loans ~~2010~~secured by real estate in the markets we serve.

~~The~~We ~~following~~continue ~~table~~to isminimize aour ~~summary~~exposure and limit new lending for commercial construction and land development loans, specifically new builder/developer lending. As part of our long-term plan to minimize construction and land development lending, commercial real-estate-secured construction and land development loans decreased $4.1 million to 9.0% of loans outstanding from 9.73% as of year-end 2011 and 16.4% as of year-end 2010 as construction projects have paid off or completed and moved to longer-term financing. In total, commercial real estate secured loans including construction and land development declined $13.0 million from year-end 2011, representing 54.2% of loans outstanding compared to 56.2% as of year-end 2011. Commercial loans secured by ~~major~~real ~~category~~estate ~~for~~are principally secured by owner-occupied buildings including professional practices, office and church properties; and single family rental properties, residential building lots, commercially-zoned land and residential homes. Of the ~~total~~properties ~~Bank~~securing these commercial real estate loans, 14.1% are located within our New Hanover County market and 85.9% are located within our Wake County market.

Residential real-estate loans including construction loans grew to $183.1 million, including $50.5 million originated through NSB Mortgage, and represented approximately 37.8% of the loan portfolio as of March 31, 2012 compared to 35.2% of the loan portfolio as of year-end 2011. These single-family construction, residential property and home equity lines of credit are typically secured by the primary residence of the borrower and the combined loan-to-value ratio is usually less than 90%. The growth in this loan category is attributable to mortgages originated and selected to retain through NSB Mortgage which grew $10.7 million over year-end 2011. These single- family residential mortgage loans that are selected for retention are subject to strict underwriting standards which are at a minimum per the Federal Home Loan Mortgage Corporation, or FREDDIE MAC, guidelines and typically have terms within 10 to 15 years with low to moderate loan-to-value ratios, typically less than 70% and higher credit scores.

	As of September 30, 2011
	Total Bank					New Hanover County					Wake County
			% of					% of					% of
			Total					Total Bank					Total
	Amount		Loans			Amount		Loans			Amount		Loans
	(Dollars in thousands)
Real estate loans:
Residential construction	$	34,342		7.1	%	$	2,502		0.5	%	$	31,840		6.6	%
Commercial construction		70,658		14.6	%		18,703		3.9	%		51,955		10.7	%
Other residential real estate

Filing Compare · NORTH STATE BANCORP