UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

ANNUAL REPORT UNDER SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 20102011

Commission file number 0-50765

VILLAGE BANK AND TRUST FINANCIAL CORP.

(Exact name of registrant as specified in its charter)

Village Bank and Trust Financial Corp.

Form 10-K

The disclosures set forth in this item are qualified by ITEM 1A. RISK FACTORS on pages 17 to 24 and the section captioned “Caution About Forward-Looking Statements” on page 29 and other cautionary statements set forth elsewhere in this report.

General

Village Bank and Trust Financial Corp. (the “Company”) was incorporated in January 2003 and was organized under the laws of the Commonwealth of Virginia as a bank holding company whose activities consist of investment in its wholly-owned subsidiary, Village Bank (the “Bank”).  The Bank opened to the public on December 13, 1999 as a traditional community bank offering deposit and loan services to individuals and businesses in the Richmond, Virginia metropolitan area.  During 2003, the Company acquired or formed three wholly owned subsidiaries of the Bank, Village Bank Mortgage Corporation (“Village Bank Mortgage”), a full service mortgage banking company, Village Insurance Agency, Inc. (“Village Insurance”), a full service property and casualty insurance agency, and Village Financial Services Corporation (“Village Financial Services”), a financial services company.  Currently, Village Insurance and Village Financial Services have no ongoing operations.  In addition we provide investment services through a separate division of the Bank, Village Investment Services.

The Company is the holding company of and successor to the Bank.  Effective April 30, 2004, the Company acquired all of the outstanding stock of the Bank in a statutory share exchange transaction.  In the transaction, the shares of the Bank’s common stock were exchanged for shares of the Company’s common stock, par value $4.00 per share (“Common Stock”), on a one-for-one basis.  As a result, the Bank became a wholly-owned subsidiary of the Company, the Company became the holding company for the Bank and the shareholders of the Bank became shareholders of the Company.  All references to the Company in this annual report for dates or periods prior to April 30, 2004 are references to the Bank.

On October 14, 2008, Village Bank and Trust Financial Corp. and Village Bank completed itsa merger with River City Bank pursuant to an Agreement and Plan of Reorganization and Merger (the “Merger Agreement”) dated as of March 9, 2008 by and amongfrom which the Company the Bankacquired approximately $154 million in assets and River City Bank.  The merger had previously been approved by both companies’ shareholders at their respective annual meetings on September 30, 2008 as well as the banking regulators.  The Merger Agreement sets forth the terms and conditions of the Company’s merger with River City Bank through the merger of River City Bank with and into Village Bank.  Under the terms of the Merger Agreement, Village Bank acquired all of the outstanding shares of River City Bank.  The shareholders of River City Bank received, for each share of River City Bank common stock that they owned immediately prior to the effective time of the merger, either $11 per share in cash or one share of common stock of the Company.  Pursuant to the terms of the Merger Agreement, shareholders of River City Bank elected to receive cash, shares of common stock of the Company, or a combination of both, subject to allocation and proration procedures which ensured that 20% of the total merger consideration was in cash and 80% was in common stock of the Company.  In addition, at the effective time of the merger, each outstanding option to purchase shares of River City Bank common stock under any stock plans vested pursuant to its terms and was converted into an option to acquire the number of

Business Strategy

Our current business strategies include the following:

At December 31, 2010,2011, we had fifteenfourteen full service banking offices, which were staffed by 6254 full-time employees.  Our senior staff averages more than 25 years of professional or banking experience.  Our principal office, which houses our executive officers and loan department, was opened in August 2008 and is located at 15521 Midlothian Turnpike, Midlothian, Virginia 23113.  Our main telephone number is (804) 897-3900.

Banking Services

Lending Activities

Our primary focus is on making loans to small businesses and consumers in our local market area.

In addition, we also provide a select range of real estate finance services.  Our primary lending

Before we make a loan we evaluate both the borrower’s ability to make principal and interest payments and the value of the property that will secure the loan.  We make first mortgage loans in amounts up to 90% of the appraised value of the underlying real estate.  We retain some second mortgage loans secured by property in our market area, as long as the loan-to-value ratio combined with the first mortgage does not exceed 90%.  For conventional loans in excess of 80% loan-to-value, private mortgage insurance is required.

independent commentary on specific loans and loan administration activities.

Investments and Funding

We balance our liquidity needs based on loan and deposit growth via the investment portfolio, purchased federal funds, and Federal Home Loan Bank advances.  It is our goal to provide adequate liquidity to support our loan growth.  Should we have excess liquidity, investments are used to generate positive earnings.  In the event deposit growth does not fully support our loan growth, a combination of investment sales, federal funds and Federal Home Loan Bank advances will be used to augment our funding position.  However, we believe that due to a continued depressed economy as well as capital limitations, we will not see any significant growthbe making efforts to decrease our loans, deposits and borrowings in 2012.  These efforts will include reducing our loan portfolio in 2011.  Accordingly, any growth in our deposits will be used to increase our investment portfolio or reducelending efforts, repricing of higher cost borrowings.certificates of deposit to encourage these customers to withdraw their deposits, and not replacing maturing Federal Home Loan Bank advances as they mature.

For securities classified as available-for-sale securities, we evaluate whether a decline in fair value below the amortized cost basis is other than temporary.  If the decline in fair value is judged to be other than temporary, the cost basis of the individual security is written down to fair value as a new cost basis and the amount of the write-down is included in earnings.  There were no securities at December 31, 20102011 where a decline in market value was considered other than temporary.

Asset and Liability Management

Our Asset Liability Management Committee (ALCO), composed of senior managers of the Bank, manages the Bank’s assets and liabilities and strives to provide a stable, optimized net interest income and margin, adequate liquidity and ultimately a suitable after-tax return on assets and return on equity. ALCO conducts these management functions within the framework of written policies that the Bank’s board of directors has adopted.  ALCO works to maintain an acceptable position between rate sensitive assets and rate sensitive liabilities.  The board of directors oversees the ALCO function on an ongoing basis.

Competition

We encounter strong competition from other local commercial banks, savings and loan associations, credit unions, mortgage banking firms, consumer finance companies, securities brokerage firms, insurance companies, money market mutual funds and other financial institutions.  A number of these competitors are well-established.  Competition for loans is keen, and pricing is important.  Most of our competitors have substantially greater resources and higher lending limits than ours and offer certain services, such as extensive and established branch networks and trust services, which we do not provide at the present time.  Deposit competition also is strong, and we may have to pay higher interest rates to attract deposits.  Nationwide banking institutions and their branches have increased competition in our markets, and federal legislation adopted in 1999 allows non-banking companies, such as insurance and investment firms, to establish or acquire banks.

The greater Richmond metropolitan market has experienced several significant mergers or

acquisitions involving all four regional banks formerly headquartered in central Virginia over the past fifteen years.  Additionally, other larger banks from outside Virginia have acquired local banks.  We

At June 30, 2010,2011, the latest date such information is available from the FDIC, the Bank’s deposit market share in Chesterfield County was 7.94%8.37% and 0.88%0.75% in the Richmond MSA.

Regulation

We are subject to extensionextensive regulation by certain federal and state agencies and receive periodic examinations by those regulatory authorities.  As a consequence, our business is affected by state and federal legislation and regulations.

primary regulatory authority an opportunity to take such action.  The FDIC may terminate the deposit insurance of any depository institution if it determines, after a hearing, that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, order or any condition imposed in writing by the FDIC.  It also may suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance if the institution has no tangible capital.  If deposit insurance is terminated, the deposits at the institution at the time of termination, less subsequent withdrawals, shall continue to be insured for a period from six months to two years, as determined by the FDIC.  We are aware of no existing circumstances that could result in termination of our deposit insurance.

The FDIC and the state have the general authority to limit the dividends paid by insured banks if the payment is deemed an unsafe and unsound practice. Both the state and the FDIC have indicated that paying dividends that deplete a bank's capital base to an inadequate level would be an unsound and unsafe banking practice.

In addition, we are subject to certain regulatory requirements to maintain capital at or above regulatory minimums. These regulatory requirements regarding capital affect our dividend policies. Regulators have indicated that holding companies should generally pay dividends only if the organization's net income available to common shareholders over the past year has been sufficient to fully fund the dividends, and the prospective rate of earnings retention appears consistent with the organization's capital needs, asset quality and overall financial condition.  In addition, the Federal Reserve has issued guidelines that bank holding companies should inform and consult with the Federal Reserve in advance of declaring or paying a dividend that exceeds earnings for the period (e.g., quarter) for which the dividend is being paid or that could result in a material adverse change to the organization’s capital structure.

The Company is currently subject to a Memorandum of Understanding with the Reserve Bank and the BFI pursuant to which the Company must obtain the prior written approval of the Reserve Bank and the BFI to declare or pay any dividends on its common stock or preferred stock, take dividends or any other form of payment representing a reduction in capital from the Bank or make any payments on its trust preferred securities.

instruments and other qualifying preferred stock and a limited amount of the loan loss allowance and pretax net unrealized holding gains on certain equity securities.  In addition, each of the federal banking regulatory agencies has established minimum leverage capital requirements for banking organizations.  Under these requirements, banking organizations must maintain a minimum ratio of Tier 1 capital to adjusted average quarterly assets equal to 3% to 5%, subject to federal bank regulatory evaluation of an organization’s overall safety and soundness.  In summary, the capital measures used by the federal banking regulators are:

Under these regulations, a bank will be:

In addition, the FDIC may require banks to maintain capital at levels higher than those required by general regulatory requirements.

In late 2010, the Basel Committee on Banking Supervision issued Basel III, a new capital framework for banks and bank holding companies that will impose a stricter definition of capital, with more focus on common equity.  If Basel III is implemented in the United States and becomes applicable to us, the Company and the Bank would likely be subject to higher minimum capital ratios than those to which we are currently subject.

Failure to meet statutorily mandated capital guidelines or more restrictive ratios separately established for a financial institution (like those contained in the Bank’s Memorandum of UnderstandingConsent Order with the FDIC and BFI) could subject a bank or bank holding company to a variety of enforcement remedies, including issuance of a capital directive, the termination of deposit insurance by the FDIC, a prohibition on accepting or renewing brokered deposits, limitations on the rates of interest that the institution may pay on its deposits and other restrictions on its business. As described above, significant additional restrictions can be imposed on FDIC-insured depository institutions that fail to meet applicable capital requirements.

Additionally, the Federal Deposit Insurance Corporation Improvement Act of 1991 establishes a system of prompt corrective action to resolve the problems of undercapitalized banks. Federal banking regulators are required to take various mandatory supervisory actions and are authorized to

severity of the action depends upon the capital category in which the institution is placed. Generally, subject to a narrow exception, the banking regulator must appoint a receiver or conservator for an institution that is critically undercapitalized. The federal banking agencies have specified by regulation the relevant capital level for each category.

An institution that is categorized as undercapitalized, significantly undercapitalized, or critically undercapitalized is required to submit an acceptable capital restoration plan to its appropriate federal banking agency.  A bank holding company must guarantee that a subsidiary depository institution meets its capital restoration plan, subject to various limitations.  The controlling holding company’s obligation to fund a capital restoration plan is limited to the lesser of 5% of an undercapitalized subsidiary’s assets or the amount required to meet regulatory capital requirements.  An undercapitalized institution is also generally prohibited from increasing its average total assets, making acquisitions, establishing any branches or engaging in any new line of business, except under an accepted capital restoration plan or with FDIC approval.  The regulations also establish procedures for downgrading an institution and a lower capital category based on supervisory factors other than capital.  As of December 31, 2010,2011, the Bank would bewas considered “well-capitalized”“well capitalized” by the FDIC.

The Dodd-Frank Act contains a number of provisions dealing with capital adequacy of insured depository institutions and their holding companies, which may result in more stringent capital requirements for insured depository institutions and their holding companies.  Under the Collins Amendment to the Dodd-Frank Act, federal regulators were directed to establish minimum leverage and risk-based capital requirements for, among other entities, banks and bank holding companies on a consolidated basis.  These minimum requirements can’t be less than the generally applicable leverage and risk-based capital requirements established for insured depository institutions nor quantitatively lower than the leverage and risk-based capital requirements established for insured depository institutions that were in effect as of the date that the Dodd-Frank Act was enacted.  These requirements in effect create capital level floors for bank holding companies similar to those in place currently for insured depository institutions.  The Collins Amendment also excludes trust preferred securities issued after May 19, 2010 from being included in Tier 1 capital unless the issuing company is a bank holding company with less than $500 million in total assets.  Trust preferred securities issued prior to that date will continue to count as Tier 1 capital for bank holding companies with less than $15 billion in total assets, and such securities will be phased out of Tier 1 capital treatment for bank holding companies with over $15 billion in total assets over a three-year period beginning in 2013.  The Collins Amendment did not exclude preferred stock issued to the U.S. Treasury through the TARP Capital Purchase Program from Tier 1 capital treatment. Accordingly, the Company’s trust preferred securities and preferred stock issued to the U.S. Treasury through the TARP Capital Purchase Program will continue to qualify as Tier 1 capital as should any preferred stock issued to the U.S. Treasury under the Small Business Lending Fund, if any.

In the fourth quarter of 2010,February 2012, the Bank entered into the Memorandum of UnderstandingConsent Order with the FDICSupervisory Authorities which provided that, within 90 days from the date of the order and BFI that it would maintainduring the life of the order, the Bank must have a minimum Tier 1leverage ratio equal to or greater than 8% of its total assets, and total risk-based capital equal to average assets ratioor greater than 11% of 8% and a minimumthe Bank’s total capital to risk-weighted assets ratio of 11.5%.assets.  At December 31, 2010,2011, the Bank’s Tier 1 risk-based capital ratio was 10.85%8.98%, its total risk-based capital ratio was 12.11%10.26% and its leverage ratio was 8.76%6.46%, compared to 10.06%10.85%, 11.33%12.11% and 8.24%8.76% at December 31, 2009,2010, respectively.  More information concerning our regulatory ratios at December 31, 20102011 is included in Note 1614 to the “Notes to Consolidated Financial Statements” included elsewhere in this Annual Report on Form 10-K.

The total amount of the above transactions is limited in amount, as to any one affiliate, to 10% of a bank’s capital and surplus and, as to all affiliates combined, to 20% of a bank’s capital and surplus. In addition to the limitation on the amount of these transactions, each of the above transactions must also meet specified collateral requirements.  The Bank must also comply with other provisions designed to avoid acquiring low-quality assets from its affiliates.

The Company and the Bank are also subject to the provisions of Section 23B of the Federal Reserve Act which, among other things, prohibits an institution from engaging in the above transactions with affiliates unless the transactions are on terms substantially the same, or at least as favorable to the institution or its subsidiaries, as those prevailing at the time for comparable transactions with nonaffiliated companies.

On September 30, 2010, the Company sold its headquarters building at the Watkins Centre to the Bank.  This transaction allowed us to repay the outstanding mortgage loan on the building resulting in a reduction of our interest expense and improvement in earnings on a consolidated basis.  The Federal Reserve Bank has determined that the sale of the headquarters building from the Company to the Bank was not permitted under Section 23A of the Federal Reserve Act as the amount of the transaction exceeded 10% of the Bank’s capital stock and surplus.  As a result, the Federal Reserve Bank has directed the Company to take corrective action.  The Company has provided a plantaken and continues to take active steps to correct this violation including offering the building for sale. ��However, the Company has not been successful in these efforts and continues to update the Federal Reserve Bank for its approval which provides that the Company will seek to borrow funds to repurchase the building or effect a sale lease-back transaction with a third party.on such efforts.

The Bank is also subject to restrictions on extensions of credit to its executive officers, directors, principal shareholders and their related interests.  These extensions of credit (1) must be made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with third parties, and (2) must not involve more than the normal risk of repayment or present other unfavorable features.

The Dodd-Frank Act also provides that an insured depository institution may not purchase an asset from, or sell an asset to a bank insider (or their related interests) unless (1) the transaction is conducted on market terms between the parties, and (2) if the proposed transaction represents more than 10 percent of the capital stock and surplus of the insured institution, it has been approved in advance by a majority of the institution’s non-interested directors.

On May 1, 2009, the Company issued preferred stock and a warrant to purchase its common stock to the U.S. Treasury pursuant to the TARP Capital Purchase Program.  The amount of capital raised in that transaction was $14.7 million, approximately three percent of the Company’s risk-weighted assets.  Prior to May 1, 2012, unless the Company has redeemed all such preferred stock or the U.S. Treasury has transferred all such preferred stock to a third party, the consent of the U.S. Treasury will be required for us to, among other things, pay a dividend on the Company’s common stock or repurchase our common stock or outstanding preferred stock except in limited circumstances.  No dividends may be paid on common stock unless dividends have been paid on the preferred stock.  The preferred stock does not have voting rights other than the right to vote as a class on the issuance of any preferred stock ranking senior, any change in its terms or any merger, exchange or similar transaction that would adversely affect its rights.  The U.S. Treasury’s preferred stock will also have the right to elect two directors if dividends have not been paid for six periods.  The Company filed a registration statement on Form S-3 covering the warrant as required under the terms of the TARP investment, on May 29, 2009.  The registration statement was declared effective by the SEC on June 16, 2009.

In addition, as long as any obligation remains outstanding to the U.S. Treasury under the TARP Capital Purchase Program, the Company and the Bank must comply in all respects with the executive compensation and corporate governance standards under EESA and the rules and regulations thereunder.  In compliance with such requirements, each of our senior executive officers agreed in writing to accept the compensation standards under the TARP Capital Purchase Program and thereby cap or eliminate some of their contractual or legal rights.

Section 404 of the Sarbanes-Oxley Act requires the Company to include in its Annual Report on Form 10-K a report by management.  Management’s internal control report must, among other things, set forth management’s assessment of the effectiveness of the Company’s internal control over financial reporting.

these activities is required to be well capitalized, well managed and have a satisfactory or better Community Reinvestment Act rating.  Gramm-Leach-Bliley also allows subsidiaries of banks to engage in a broad range of financial activities that are not permitted for banks themselves.