UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Form 10-K

(Mark One)

For the fiscal year ended December 31, 2004

Commission file number 0-12247

Southside Bancshares, Inc.

Registrant’s telephone number, including area code: (903) 531-7111

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act:

COMMON STOCK, $1.25 PAR VALUE
(Title of Class)

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K o.

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). YES þ      NO o

The aggregate market value of the common stock held by non-affiliates of the registrant as of June 30, 2004 was $179,434,395.

As of February 18, 2005, 10,859,519 shares of common stock of Southside Bancshares, Inc. were outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant’s Proxy Statement to be filed for the Annual Meeting of Shareholders to be held April 21, 2005. (Part III)

Table of Contents

PART I

ITEM 1. BUSINESS

FORWARD-LOOKING INFORMATION

     The disclosures set forth in this item are qualified by the section captioned “Forward-Looking Information” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations of this Annual Report on Form 10-K and other cautionary statements set forth elsewhere in this report.

GENERAL

     Southside Bancshares, Inc. (the “Company”), incorporated in Texas in 1982, is a bank holding company for Southside Bank (the “Bank” or “Southside Bank”), headquartered in Tyler, Texas. Tyler has a metropolitan area population of approximately 184,000 and is located approximately 90 miles east of Dallas, Texas and 90 miles west of Shreveport, Louisiana. The Bank has the largest deposit base in the Tyler metropolitan area and is the largest bank based on asset size headquartered in East Texas.

     At December 31, 2004, the Company had total assets of $1.6 billion, total loans of $624.0 million, deposits of $941.0 million, and shareholders’ equity of $104.7 million. The Company had net income of $16.1 million and $13.6 million and fully diluted earnings per common share of $1.39 and $1.22 for the years ended December 31, 2004 and 2003, respectively. The Company has paid a cash dividend every year since 1970.

     The Bank is a community-focused financial institution that offers a full range of financial services to individuals, businesses and non-profit organizations in the communities it serves. These services include consumer and commercial loans, deposit accounts, trust services, safe deposit services and brokerage services.

     The Bank’s consumer loan services include 1-4 family residential mortgage loans, home equity loans, home improvement loans, automobile loans and other installment loans. Commercial loan services include short-term working capital loans for inventory and accounts receivable, short and medium-term loans for equipment or other business capital expansion, commercial real estate loans and municipal loans. The Bank also offers construction loans for 1-4 family residential and commercial real estate.

     The Bank offers a variety of deposit accounts having a wide range of interest rates and terms, including savings, money market, interest and noninterest bearing checking accounts and certificates of deposit (“CDs”). The Bank’s trust services include investment, management, administration and advisory services, primarily for individuals and, to a lesser extent, partnerships and corporations. At December 31, 2004, the Bank’s trust department managed approximately $413 million of trust assets. Through its 25% owned securities brokerage affiliate, BSC Securities, LLC, the Bank offers full retail investment services to its customers.

     The Company and the Bank are subject to comprehensive regulation, examination and supervision by the Board of Governors of the Federal Reserve System (the “Federal Reserve”), the Texas Department of Banking (the “TDB”) and the Federal Depository Insurance Corporation (the “FDIC”), and are subject to numerous laws and regulations relating to internal controls, the extension of credit, making of loans to individuals, deposits, and all facets of operations.

     The administrative offices of the Company are located at 1201 S. Beckham Avenue, Tyler, Texas 75701, and the telephone number is 903-531-7111. The Company’s website can be found at www.southside.com. The Company’s public filings with the Securities and Exchange Commission (the “SEC”) may be obtained free of charge at either the Company’s website or the SEC’s website, www.sec.gov, as soon as reasonably practicable after filing with the SEC.

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MARKET AREA

     The Company considers its primary market area to be all of Smith, Gregg, Cherokee and Henderson Counties in East Texas, and to a lesser extent, portions of adjoining counties. During 2004, the Bank opened one branch in Chandler, in Henderson County, and one branch in Jacksonville, in Cherokee County. The Company opened a loan processing office in Gresham, in Smith County, during January 2005. The Company intends to expand into Seven Points, a city located approximately 60 miles Northwest of Tyler in Henderson County, during 2005. The Company expects its presence in the Gregg, Cherokee and Henderson County market areas to continue to increase in the future, however, the city of Tyler in Smith County presently represents the Company’s largest market area.

     The principal economic activities in the Company’s market area include retail, distribution, manufacturing, medical services, education and oil and gas industries. Additionally, the industry base includes conventions and tourism, as well as retirement relocation. These economic activities support a growing regional system of medical service, retail and education centers. Tyler and Longview are home to several nationally recognized health care systems that represent all major specialties.

     The Company serves its markets through twenty-two branch locations, thirteen of which are located in grocery stores. The branches are located in and around Tyler, Longview, Lindale, Jacksonville, Bullard, Chandler and Whitehouse. The Company’s television and radio advertising has extended into these market areas for several years, providing the Bank name recognition throughout Smith, Gregg, Cherokee and Henderson counties. We anticipate that continued advertising combined with strategically placed branches should expand the Bank’s name recognition.

     The Company also maintains six motor bank facilities. The Company’s customers may also access various banking services through 34 ATMs owned by the Company and ATMs owned by others, through debit cards, and through the Company’s automated telephone, internet and electronic banking products. These products allow the Company’s customers to apply for loans from their computers, access account information and conduct various other transactions from their telephones and computers.

LENDING ACTIVITIES

     One of the Company’s main objectives is to seek attractive lending opportunities in East Texas, primarily in the counties in which it operates. Substantially all of the Company’s loans are made to borrowers who live in and conduct business in East Texas, with the exception of municipal loans. Total loans as of December 31, 2004 increased $34.9 million or 5.9% while the average balance was up $34.5 million or 6.1% when compared to 2003.

     Real estate loans increased $31.7 million or 10.0% from December 31, 2003 to December 31, 2004. Municipal loans as of December 31, 2004 increased $7.8 million or 8.1% from December 31, 2003 and commercial loans increased $4.9 million or 6.0% from December 31, 2003. Loans to individuals decreased $9.5 million or 10.2% from December 31, 2003.

     The increase in real estate loans was due to the economic growth in the Company’s market area, the continued strong commitment to real estate lending and less refinancing of real estate loans on the Company’s books during 2004 when compared to 2003. The growth of loans made to municipalities in Texas was a result of the Company’s continued strong commitment in this lending area combined with the Company’s ability to close these transactions in a timely manner. The increase in commercial loans is reflective of the growth in the Company’s market area. The decrease in loans to individuals reflects the difficulty the Company has competing against extremely low interest rates offered by automobile manufacturers combined with the fact that home equity loans have replaced some of the traditional loans to individuals. In the loan portfolio, loans dependent upon private household income represent a significant concentration. Due to the number of customers involved who work in all sectors of the local economy, the Company believes the risk in this portion of the portfolio is adequately spread throughout the economic community, which assists in mitigating this concentration.

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     The aggregate amount of loans that the Bank is permitted to make under applicable bank regulations to any one borrower, including related entities, is 25% of unimpaired certified capital and surplus. The Bank’s legal lending limit at December 31, 2004 was $12 million. The Bank’s largest loan relationship at December 31, 2004 was approximately $9.7 million.

     The average yield on loans for the year ended December 31, 2004 decreased to 6.11% from 6.50% for the year ended December 31, 2003. This decrease was reflective of the repricing characteristics of the loans, interest rates at the time loans repriced, and the competitive loan pricing environment.

LOAN PORTFOLIO COMPOSITION AND ASSOCIATED RISK

     The following table sets forth loan totals net of unearned discount by category for the years presented:

     For purposes of this discussion, the Company’s loans are divided into four categories: Real Estate Loans, Commercial Loans, Municipal Loans and Loans to Individuals.

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REAL ESTATE LOANS

     Real estate loans represent the Company’s greatest concentration of loans. However, the amount of risk associated with this group of loans is mitigated in part due to the type of loans involved. At December 31, 2004, the majority of the Company’s real estate loans were collateralized by properties located in Smith and Gregg Counties. Of the $349.3 million in real estate loans, $168.8 million or 48.3% represent loans collateralized by residential dwellings that are primarily owner occupied. Historically, the amount of losses suffered on this type of loan has been significantly less than those on other properties. The Company’s loan policy requires an appraisal or evaluation on the property, based on the size and complexity of the transaction, prior to funding any real estate loan and also outlines the requirements for appraisals on renewals.

     Management pursues an aggressive policy of reappraisal on any real estate loan that is in the process of foreclosure and potential exposures are recognized and reserved for or charged off as soon as they are identified. The slow pace of absorption for certain types of properties could adversely affect the volume of nonperforming real estate loans held by the Company.

     Real estate loans are divided into three categories: 1-4 Family Residential Mortgage Loans, Construction Loans and Other. The Other category consists of $144.8 million of commercial real estate loans, $1.2 million of loans secured by multifamily properties and $1.7 million of loans secured by farm land. The Commercial Real Estate portion of Other will be discussed in more detail below.

     1-4 Family Residential Mortgage Loans

     Residential loan originations are generated by the Company’s loan officers, in-house origination staff, marketing efforts, present customers, walk-in customers and referrals from real estate agents, and builders. The Company focuses its lending efforts primarily on the origination of loans secured by first mortgages on owner-occupied, 1-4 family residences. Substantially all of the Company’s 1-4 family residential mortgage originations are secured by properties located in the Company’s market area. Historically, the Company has originated a portion of its residential mortgage loans for sale into the secondary market. These loans are reflected on the balance sheet as loans held for sale. These secondary market investors typically pay the Company a service release premium in addition to a predetermined price based on the interest rate of the loan originated. The Company warehouses these loans until they are transferred to the secondary market investor, which usually occurs within 45 days.

     The Company’s 1-4 family residential mortgage loans generally have maturities ranging from five to 30 years. These loans are typically fully amortizing with monthly payments sufficient to repay the total amount of the loan or amortizing with a balloon feature, typically due in fifteen years or less. The Company’s 1-4 family residential mortgage loans are made at both fixed and adjustable interest rates.

     The Company reviews information concerning the income, financial condition, employment and credit history when evaluating the creditworthiness of the applicant.

     Included as part of the 1-4 Family Residential Mortgage Loans, the Company also makes home equity loans and at December 31, 2004, these loans totaled $52.4 million.

     Construction Loans

     The Company’s construction loans are collateralized by property located primarily in the Company’s market area. A majority of the Company’s construction loans are directed toward properties that will be owner occupied. Construction loans for projects built on speculation are financed, but these typically have secondary sources of repayment. The Company’s construction loans have both adjustable and fixed interest rates during the construction period. Construction loans to individuals are typically priced and made with the intention of granting the permanent loan on the property.

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     Commercial Real Estate Loans

     In determining whether to originate commercial real estate loans, the Company generally considers such factors as the financial condition of the borrower and the debt service coverage of the property. Commercial real estate loans are made at both fixed and adjustable interest rates for terms generally up to 20 years. Commercial real estate loans primarily include commercial office buildings, retail, medical facilities and offices, warehouse facilities, hotels and churches.

COMMERCIAL LOANS

     The Company’s commercial loans are diversified to meet most business needs. Loan types include short-term working capital loans for inventory and accounts receivable and short and medium-term loans for equipment or other business capital expansion. Management does not consider there to be any material concentration of risk in any one industry type, other than medical, in this loan category. Medical loan types include all loan types listed above for commercial loans. Collateral for these loans varies depending on the type of loan and financial strength of the borrower. The primary source of repayment for loans in the medical community is cashflow from continuing operations. The medical community represents a concentration of risk in the Company’s Commercial loan and Commercial Real Estate loan portfolio (see “Market Area”). We believe that risk in the medical community is mitigated because it is spread among multiple practice types and multiple specialties. Should the government change the amount it pays the medical community through the various government health insurance programs, the medical community could be adversely impacted which in turn could result in higher default rates by borrowers in the medical industry.

     In its commercial business loan underwriting, the Company assesses the creditworthiness, ability to repay, and the value and liquidity of the collateral being offered. Terms are generally granted commensurate with the useful life of the collateral offered.

MUNICIPAL LOANS

     The Company has a specific lending department that makes loans to municipalities and school districts throughout the state of Texas. The majority of the loans to municipalities and school districts have tax or revenue pledges and in some cases, are additionally supported by collateral. Municipal loans made without a direct pledge of taxes are usually made based on some type of collateral that represents an essential service. Lending money directly to these municipalities allows the Company to earn a higher yield than it could if it purchased municipal securities. Total loans to municipalities and school districts as of December 31, 2004 increased $7.8 million when compared to 2003. At December 31, 2004, the Company had total loans to municipalities and school districts of $104.0 million.

LOANS TO INDIVIDUALS

     One of the Company’s goals is to be a major consumer lender in its market area. The majority of consumer loans outstanding are collateralized by titled equipment, primarily vehicles, which accounted for approximately $51.8 million or 62.0% of total loans to individuals at December 31, 2004. The Company’s loans collateralized by titled equipment declined during 2004 due to extremely low interest rates offered by the automobile manufacturers. Should this type of low financing continue the Company may see additional decreases in this portfolio. Home equity loans have also replaced some of the traditional loans to individuals. In addition, the Company makes loans for a full range of other consumer purposes, which may be secured or unsecured depending on the credit quality and purpose of the loan.

     Management believes that the economy in the Company’s market area appears to reflect stable growth. One area of concern is the personal bankruptcy rate in the Company’s market area. Management expects the personal bankruptcy rate could have some adverse effect on the Company’s net charge-offs. Most of the Company’s loans to individuals are collateralized, which management believes should limit the Company’s exposure should current bankruptcy levels continue.

     Consumer loan terms vary according to the type and value of collateral, length of contract and creditworthiness of the borrower. The underwriting standards employed by the Company for consumer loans include an application, a determination of the applicant’s payment history on other debts, with the greatest weight being given to payment history with the Company, and an assessment of the borrower’s ability to meet existing obligations and payments on the proposed loan. Although creditworthiness of the

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applicant is a primary consideration, the underwriting process also includes a comparison of the value of the collateral, if any, in relation to the proposed loan amount.

LOAN MATURITIES AND SENSITIVITY TO CHANGES IN INTEREST RATES

     The following table represents loan maturities and sensitivity to changes in interest rates. The amounts of total loans outstanding at December 31, 2004, which, based on remaining scheduled repayments of principal, are due in (1) one year or less*, (2) more than one year but less than five years, and (3) more than five years*, are shown in the following table. The amounts due after one year are classified according to the sensitivity to changes in interest rates.

LOANS TO AFFILIATED PARTIES

     In the normal course of business, the Company makes loans to certain of its own executive officers and directors and their related interests. As of December 31, 2004 and 2003, these loans totaled $4.3 million in both years or 4.1% and 4.2% of Shareholders’ Equity, respectively. Such loans are made in the normal course of business at normal credit terms, including interest rate and collateral requirements and do not represent more than normal credit risks contained in the rest of the loan portfolio for loans of similar types.

LOAN LOSS EXPERIENCE AND ALLOWANCE FOR LOAN LOSSES

     The loan loss allowance is based on the most current review of the loan portfolio at that time. Several methods are used to maintain the review in the most current manner. First, the servicing officer has the primary responsibility for updating significant changes in a customer’s financial position. Accordingly, each officer prepares status updates on any credit deemed to be experiencing repayment difficulties which, in the officer’s opinion, would place the collection of principal or interest in doubt. Second, the internal loan review department for the Company is responsible for an ongoing review of the Company’s loan portfolio with specific goals set for loans to be reviewed on an annual basis.

     At each review of a credit, a subjective analysis methodology is used to grade the respective loan. Categories of grading vary in severity to include loans which do not appear to have a significant probability of loss at the time of review to grades which indicate a probability that the entire balance of the loan will be uncollectible. If full collection of the loan balance appears unlikely at the time of review, estimates or appraisals of the collateral securing the debt are used to allocate the necessary allowances. A list of loans or loan relationships of $50,000 or more, which are graded as having more than the normal degree of risk

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associated with them, is maintained by the internal loan review officer. This list is updated on a periodic basis, but no less than quarterly in order to properly allocate necessary allowances and keep management informed on the status of attempts to correct the deficiencies noted in the credit.

     Industry experience shows that a portion of the Company’s loans will become delinquent and a portion of the loans will require partial or entire charge-off. Regardless of the underwriting criteria utilized, losses may be experienced as a result of various factors beyond the Company’s control, including, among other things, changes in market conditions affecting the value of properties and problems affecting the credit of the borrower. Management’s determination of the adequacy of allowance for loan losses is based on various considerations, including an analysis of the risk characteristics of various classifications of loans, previous loan loss experience, specific loans which would have loan loss potential, delinquency trends, estimated fair value of the underlying collateral, current economic conditions, the views of the regulators (who have the authority to require additional allowances), and geographic and industry loan concentration.

     As of December 31, 2004, the Company’s review of the loan portfolio indicated that a loan loss allowance of $6.9 million was adequate to cover probable losses in the portfolio.

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     The following table presents information regarding the average amount of net loans outstanding, changes in the allowance for loan losses, the ratio of net loans charged-off to average net loans outstanding and an allocation of the allowance for loan losses.

LOAN LOSS EXPERIENCE AND ALLOWANCE FOR LOAN LOSSES

Allocation of Allowance for Loan Loss (dollars in thousands):

See “Consolidated Financial Statements - Note 6. Loans and Allowance for Probable Loan Losses.”

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NONPERFORMING ASSETS

     Nonperforming assets consist of delinquent loans 90 days or more past due, nonaccrual loans, other real estate owned, repossessed assets and restructured loans. Nonaccrual loans are those loans which are 90 days or more delinquent and collection in full of both the principal and interest is in doubt. Additionally, some loans that are not delinquent may be placed on nonaccrual status due to doubts about full collection of principal or interest. When a loan is categorized as nonaccrual, the accrual of interest is discontinued and the accrued balance is reversed for financial statement purposes. Restructured loans represent loans which have been renegotiated to provide a reduction or deferral of interest or principal because of deterioration in the financial position of the borrowers. Categorization of a loan as nonperforming is not in itself a reliable indicator of probable loan loss. Other factors, such as the value of collateral securing the loan and the financial condition of the borrower must be considered in judgments as to potential loan loss. Other Real Estate Owned (OREO) represents real estate taken in full or partial satisfaction of debts previously contracted. The dollar amount of OREO is based on a current evaluation of the OREO at the time it is recorded on the Company’s books, net of estimated selling costs. Updated valuations are obtained as needed and any additional impairments are recognized.

     Total nonperforming assets at December 31, 2004 were $3.5 million, up $1.2 million or 54.4% from $2.3 million at December 31, 2003. Other real estate owned increased $19,000 or 9.7% to $214,000 from December 31, 2003 to December 31, 2004. Of the other real estate owned, 56.3% are residential dwellings and 43.7% are commercial properties. The Company is actively marketing all properties and none are being held for investment purposes. From December 31, 2003 to December 31, 2004, nonaccrual loans increased $701,000 or 45.3% to $2.2 million. Of this total, 6.3% are residential real estate loans, 5.3% are commercial real estate loans, 69.2% are commercial loans and 19.2% are loans to individuals. Approximately $1.3 million of the nonaccrual loans at December 31, 2004, are loans that have an average SBA guarantee of approximately 75%. Restructured loans decreased $26,000 or 11.9% to $193,000. Loans 90 days past due or more increased $555,000 or 204.0% to $827,000. Loans 90 days past due include four residential mortgage loans that total approximately $600,000. Repossessed assets decreased $7,000 or 14.6% to $41,000.

     The following table of nonperforming assets is classified according to bank regulatory call report guidelines:

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     Nonperforming assets as a percentage of total assets increased 0.06% from the previous year and as a percentage of loans increased 0.17%. Nonperforming assets represent a drain on the earning ability of the Company. Decreases in earnings are due both to the loss of interest income and the costs associated with maintaining the OREO, for taxes, insurance and other operating expenses. In addition to the nonperforming assets, at December 31, 2004 in the opinion of management, the Company had $516,000 of loans identified as potential problem loans. A potential problem loan is a loan where information about possible credit problems of the borrower is known, causing management to have serious doubts about the ability of the borrower to comply with the present loan repayment terms and may result in a future classification of the loan in one of the nonperforming asset categories.

     The following is a summary of the Company’s recorded investment in loans (primarily nonaccrual loans) for which impairment has been recognized in accordance with FAS114: