Note 12. Benefit Plans

Pension Plan

The Bank has a noncontributory, defined benefit pension plan for all full-time employees over 21 years of age with at least one year of credited service, and hired prior to May 1, 2011. Benefits are generally based upon years of service and average compensation for the five highest-paid consecutive years of service. The Bank's funding practice has been to make at least the minimum required annual contribution permitted by the Employee Retirement Income Security Act of 1974, as amended, and the Internal Revenue Code of 1986, as amended.

The following table provides a reconciliation of the changes in the plan benefit obligation and the fair value of assets for the periods ended December 31, 2011, 2010 and 2009.


	(in thousands)
	2011			2010			2009
Change in Benefit Obligation
Benefit obligation, beginning of year	$	5,588		$	4,747		$	4,522
Service cost		359			307			305
Interest cost		307			284			271
Actuarial (gain) loss		871			565			(328	)
Benefits paid		(1,097	)		(315	)		(23	)
Gain due to settlement		(33	)		—			—

Benefit obligation, end of year	$	5,995		$	5,588		$	4,747


Changes in Plan Assets
Fair value of plan assets, beginning of year	$	4,284		$	3,921		$	2,851
Actual return on plan assets		27			478			923
Employer contributions		240			200			170
Benefits paid		(1,097	)		(315	)		(23	)

Fair value of assets, end of year	$	3,454		$	4,284		$	3,921


Funded Status, end of year	$	(2,541	)	$	(1,303	)	$	(826	)


Amount Recognized in Other Liabilities	$	(2,541	)	$	(1,303	)	$	(826	)


Amounts Recognized in Accumulated Other Comprehensive Loss, net of tax
Net loss	$	2,173		$	1,271		$	893
Prior service cost		2			6			9
Net obligation at transition		—			—			(4	)
Deferred income tax benefit		(740	)		(434	)		(305	)

Amount recognized	$	1,435		$	843		$	593


Weighted Average Assumptions Used to Determine Benefit Obligation
Discount rate used for disclosure		4.50	%		5.50	%		6.00	%
Expected return on plan assets		8.00	%		8.00	%		8.00	%
Rate of compensation increase		4.00	%		4.00	%		4.00	%


	(in thousands)
	2011			2010			2009

Components of Net Periodic Benefit Cost
Service cost	$	359		$	307		$	306
Interest cost		307			284			271
Expected return on plan assets		(342	)		(313	)		(227	)
Amortization of prior service cost		4			3			3
Amortization of net obligation at transition		—			(4	)		(6	)
Recognized net loss due to settlement		212			—			—
Recognized net actuarial loss		38			21			79

Net periodic benefit cost	$	578		$	298		$	426


Other Changes in Plan Assets and Benefit Obligations Recognized in Accumulated Other Comprehensive (Income) Loss
Net (gain) loss	$	902		$	378		$	(1,103	)
Amortization of prior service cost		(4	)		(3	)		(3	)
Amortization of net obligation at transition		—			4			5

Total recognized in accumulated other comprehensive (income) loss	$	898		$	379		$	(1,101	)


Total Recognized in Net Periodic Benefit Cost and Accumulated Other Comprehensive (Income) Loss	$	1,476		$	677		$	(675	)


Weighted Average Assumptions Used to Determine Net Periodic Benefit Cost
Discount rate		5.50	%		6.00	%		6.00	%
Expected return on plan assets		8.00	%		8.00	%		8.00	%
Rate of compensation increase		4.00	%		4.00	%		4.00	%

The plan sponsor selects the expected long-term rate of return on assets assumption in consultation with their investment advisors and actuary. This rate is intended to reflect the average rate of earnings expected to be earned on the funds invested or to be invested to provide plan benefits. Historical performance is reviewed, especially with respect to real rates of return (net of inflation), for the major asset classes held or anticipated to be held by the trust, and for the trust itself. Undue weight is not given to recent experience, which may not continue over the measurement period, with higher significance placed on current forecasts of future long-term economic conditions.

Because assets are held in a qualified trust, anticipated returns are not reduced for taxes. Further, solely for this purpose, the plan is assumed to continue in force and not terminate during the period during which assets are invested. However, consideration is given to the potential impact of current and future investment policy, cash flow into and out of the trust, and expenses (both investment and non-investment) typically paid from plan assets (to the extent such expenses are not explicitly estimated within periodic cost).

The process used to select the discount rate assumption takes into account the benefit cash flow and the segmented yields on high-quality corporate bonds that would be available to provide for the payment of the benefit cash flow. A single effective discount rate, rounded to the nearest .25%, is then established that produces an equivalent discounted present value.

The pension plan's weighted-average asset allocations at the end of the plan year for 2011 and 2010, by asset category were as follows:


	2011			2010
Asset Category
Mutual funds - fixed income		41	%		36	%
Mutual funds - equity		59	%		64	%

Total		100	%		100	%

The trust fund is sufficiently diversified to maintain a reasonable level of risk without imprudently sacrificing return, with a targeted asset allocation of 40% fixed income and 60% equities. The Investment Manager selects investment fund managers with demonstrated experience and expertise, and funds with demonstrated historical performance for the implementation of the plan's investment strategy. The investment manager will consider both actively and passively managed investment strategies and will allocate funds across the asset classes to develop an efficient investment structure.

It is the responsibility of the trustee to administer the investments of the trust within reasonable costs, being careful to avoid sacrificing quality. These costs include, but are not limited to, management and custodial fees, consulting fees, transaction costs and other administrative costs chargeable to the trust.

Following is a description of the valuation methodologies used for assets measured at fair value.

Fixed income and equity funds: Valued at the net asset value of shares held at year-end.

Cash and cash equivalents: Valued at cost which approximates fair value.

The following tables set forth by level, within the fair value hierarchy, the Company's pension plan assets at fair value as of December 31, 2011 and 2010:


	Fair Value Measurements at December 31, 2011 (in thousands)
	Total		Level 1		Level 2		Level 3

Fixed income funds	$	1,409	$	1,409		—		—
Equity funds		2,045		2,045		—		—

Total	$	3,454	$	3,454	$	—	$	—


	Fair Value Measurements at December 31, 2010 (in thousands)

	Total		Level 1		Level 2		Level 3

Fixed income funds	$	1,563	$	1,563		—		—
Equity funds		2,721		2,721		—		—

Total	$	4,284	$	4,284	$	—	$	—

The Company made cash contributions of $306 thousand and $240 thousand for the 2011 and 2010 plan years, respectively, and expects to contribute $509 thousand for the 2012 plan year. The accumulated benefit obligation for the defined benefit pension plan was $4.2 million and $3.8 million at December 31, 2011 and 2010, respectively.

Estimated future benefit payments, which reflect expected future service, as appropriate, were as follows at December 31, 2011:


	(in thousands)
2012	$	26
2013		46
2014		53
2015		78
2016		91
Years 2017-2021		739

401(k) Plan

The Company maintains a 401(k) plan for all eligible employees. Participating employees may elect to contribute up to the maximum percentage allowed by the Internal Revenue Service, as defined in the plan. The Company makes matching contributions, on a dollar-for dollar basis, for the first one percent of an employee's compensation contributed to the Plan and fifty cents for each dollar of the employee's contribution between two percent and six percent. The Company also makes an additional contribution for eligible employees hired on or after May 1, 2011. This contribution is allocated based on years of service to participants who were hired on or after May 1, 2011 who have completed at least one thousand hours of service during the year and who are employed on the last day of the Plan Year. The amount that the Company matches is contributed for the benefit of the respective employee to the employee stock ownership plan (ESOP). All employees who are age nineteen or older are eligible. Employee contributions vest immediately. Employer matching contributions vest after two plan service years with the Company. The Company has the discretion to make a profit sharing contribution to the plan each year based on overall performance, profitability, and other economic factors. For the years ended December 31, 2011, 2010 and 2009, expense attributable to the Plan amounted to $200 thousand, $164 thousand and $103 thousand, respectively.

Employee Stock Ownership Plan

On January 1, 2000, the Company established an employee stock ownership plan. The ESOP provides an opportunity for the Company to award shares of First National Corporation stock to employees at its discretion. Employees are eligible to participate in the ESOP effective immediately upon beginning service with the Company. Participants become 100% vested after two years of credited service. In addition to the 401(k) matching contributions made by the Company to the ESOP, the Board of Directors may make discretionary contributions, within certain limitations prescribed by federal tax regulations.

Until April 26, 2010, the ESOP operated as a leveraged ESOP. The ESOP's debt was incurred when the Company loaned the ESOP $570 thousand from the proceeds the Company received from its bank note payable. The ESOP shares initially were pledged as collateral for its debt. As the debt was repaid, shares were released from collateral and allocated to employees, based on the proportion of debt service paid in the year. The shares were deducted from shareholders' equity as unearned ESOP shares in the accompanying balance sheets. As shares were released from collateral, the Company reported compensation expense equal to the current market price of the shares, and the shares became outstanding for EPS computations. Dividends on allocated ESOP shares were recorded as a reduction of retained earnings; dividends on unallocated ESOP shares were recorded as a reduction of debt and accrued interest. The ESOP's debt was repaid on April 26, 2010. Therefore, the ESOP is no longer operating as a leveraged ESOP.

There was no compensation expense for the ESOP for the years ended December 31, 2011, 2010 and 2009.

Shares of the Company held by the ESOP at December 31, 2011, 2010 and 2009, are as follows:


	2011		2010		2009

Allocated shares		65,633		53,167		44,014
Unreleased shares		—		—		1,543


Total ESOP shares		65,633		53,167		45,557


Fair value of unreleased shares (in thousands)	$	—	$	—	$	15

Split Dollar Life Insurance Plan

On January 6, 1999, the Bank adopted a Director Split Dollar Life Insurance Plan. This Plan provides life insurance coverage to insurable outside directors of the Bank. The Bank owns the policies and is entitled to all values and proceeds. The Plan provides retirement benefits and the payment of benefits at the death of the insured director. The amount of benefits will be determined by the performance of the policies over the director's life.

Accounting guidance requires a company to recognize an obligation over the director's service period based upon the substantive agreement with the director such as the promise to maintain a life insurance policy or provide a death benefit postretirement. The related effect on net income recognized during the years ended December 31, 2011, 2010 and 2009 was expense of $104 thousand, $36 thousand and a benefit of $42 thousand, respectively.