Exhibit 99.1

FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIESConsolidated Financial Statements and Report of Independent Registered Public Accounting Firm  December 31, 2007

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FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIES        CONSOLIDATED FINANCIAL STATEMENTS  AND REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM        YEARS ENDED DECEMBER 31, 2007,
2006 AND 2005

|REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM        |  | 1
|-------------------------------------------------------------- |  | -
|CONSOLIDATED FINANCIAL STATEMENTS:                             |  |  
|Consolidated Balance Sheets                                    |  | 2
|Consolidated Statements of Operations and Comprehensive Income |  | 3
|Consolidated Statements of Changes in Shareholder's Equity     |  | 4
|Consolidated Statements of Cash Flows                          |  | 5
|Notes to Consolidated Financial Statements                     |  | 7

The
New York State Insurance Department recognizes only statutory accounting practices for determining and reporting the financial condition and results of operations of an insurance
company, for determining its solvency under the New York Insurance Law, and for determining whether its financial condition warrants the payment of a dividend to its stockholders. No consideration is
given by the New York State Insurance Department to financial statements prepared in accordance with accounting principles generally accepted in the United States of America in making such
determinations.

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Report of Independent Registered Public Accounting Firm

To
Board of Directors and Shareholder
of Financial Security Assurance Inc.:

In
our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations and comprehensive income, changes in shareholder's equity, and cash
flows present fairly, in all material respects, the financial position of Financial Security Assurance Inc. and Subsidiaries (the "Company") at December 31, 2007 and December 31,
2006, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2007 in conformity with accounting principles generally accepted in
the United States of America. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our
audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.

|/s/PRICEWATERHOUSECOOPERS LLPNew York, New York
March 17, 2008 |  | 
|-------------------------------------------------------------- |  | 

1

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FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIES        CONSOLIDATED BALANCE SHEETS        (in thousands, except share data)

|                                                                                                                 |                                                                                                                                  | As of December 31,        
|---------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------- | --------------------------
|
|ASSETS                                                                                                           |                                                                                                                                  |                           
|General investment portfolio:                                                                                    |                                                                                                                                  |                           
|                                                                                                                 | Bonds at fair value (amortized cost of $4,857,295 and $4,505,898)                                                                |                           
|                                                                                                                 | Equity securities at fair value (cost of $40,020 and $54,291)                                                                    |                           
|                                                                                                                 | Short-term investments (cost of $88,972 and $85,980)                                                                             |                           
|Variable interest entities segment investment portfolio:                                                         |                                                                                                                                  |                           
|                                                                                                                 | Bonds at fair value (amortized cost of $1,119,359 and $1,127,698)                                                                |                           
|                                                                                                                 | Guaranteed investment contracts from GIC Affiliates at fair value (amortized cost of $621,054 and $962,815) (See Notes 4 and 22) |                           
|                                                                                                                 | Short-term investments                                                                                                           |                           
|Assets acquired in refinancing transactions:                                                                     |                                                                                                                                  |                           
|                                                                                                                 | Bonds at fair value (amortized cost of $2,378 and $40,133)                                                                       |                           
|                                                                                                                 | Securitized loans                                                                                                                |                           
|                                                                                                                 | Other                                                                                                                            |                           
|                                                                                                                 |                                                                                                                                  |                           
|                                                                                                                 |                                                                                                                                  | Total investment portfolio
|Cash                                                                                                             |                                                                                                                                  |                           
|Deferred acquisition costs                                                                                       |                                                                                                                                  |                           
|Prepaid reinsurance premiums                                                                                     |                                                                                                                                  |                           
|Reinsurance recoverable on unpaid losses                                                                         |                                                                                                                                  |                           
|Other assets (See Notes 16 and 22)                                                                               |                                                                                                                                  |                           
|                                                                                                                 |                                                                                                                                  |                           
|                                                                                                                 | TOTAL ASSETS                                                                                                                     |                           
|                                                                                                                 |                                                                                                                                  |                           
|LIABILITIES, MINORITY INTEREST AND SHAREHOLDER'S EQUITY                                                          |                                                                                                                                  |                           
|Deferred premium revenue                                                                                         |                                                                                                                                  |                           
|Losses and loss adjustment expense reserve                                                                       |                                                                                                                                  |                           
|Variable interest entities segment debt                                                                          |                                                                                                                                  |                           
|Deferred tax liability                                                                                           |                                                                                                                                  |                           
|Notes payable to affiliate                                                                                       |                                                                                                                                  |                           
|Surplus notes                                                                                                    |                                                                                                                                  |                           
|Other liabilities and minority interest (See Note 16 and 22)                                                     |                                                                                                                                  |                           
|                                                                                                                 |                                                                                                                                  |                           
|                                                                                                                 | TOTAL LIABILITIES AND MINORITY INTEREST                                                                                          |                           
|                                                                                                                 |                                                                                                                                  |                           
|COMMITMENTS AND CONTINGENCIES (See Note 17)                                                                      |                                                                                                                                  |                           
|Preferred stock (5,000.1 shares authorized; 0 shared issued and outstanding; par value of $1,000 per share)      |                                                                                                                                  |                           
|Common stock (344 and 380 shares authorized; issued and outstanding; par value of $43,605 and $39,474 per share) |                                                                                                                                  |                           
|Additional paid-in capital                                                                                       |                                                                                                                                  |                           
|Accumulated other comprehensive income, net of deferred income tax provision of $58,530 and $63,063              |                                                                                                                                  |                           
|Accumulated earnings                                                                                             |                                                                                                                                  |                           
|                                                                                                                 |                                                                                                                                  |                           
|                                                                                                                 | TOTAL SHAREHOLDER'S EQUITY                                                                                                       |                           
|                                                                                                                 |                                                                                                                                  |                           
|                                                                                                                 | TOTAL LIABILITIES, MINORITY INTEREST AND SHAREHOLDER'S EQUITY                                                                    |                           
|                                                                                                                 |                                                                                                                                  |                           

The
accompanying Notes to Consolidated Financial Statements are an integral part of these statements.

2

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FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIES        CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME        (in thousands)

|                                                                                                                                                                   |                                                                              | Year Ended December 31, |         
|------------------------------------------------------------------------------------------------------------------------------------------------------------------ | ---------------------------------------------------------------------------- | ----------------------- | --------
|
|REVENUES:                                                                                                                                                          |                                                                              |                         |         
|                                                                                                                                                                   | Net premiums written                                                         |                         | $       
|                                                                                                                                                                   |                                                                              |                         |         
|                                                                                                                                                                   | Net premiums earned                                                          |                         | $       
|                                                                                                                                                                   | Net investment income from general investment portfolio                      |                         |         
|                                                                                                                                                                   | Net realized gains (losses) from general investment portfolio                |                         |         
|                                                                                                                                                                   | Net interest income from variable interest entities segment                  |                         |         
|                                                                                                                                                                   | Net realized and unrealized gains (losses) on derivative instruments         |                         |         
|                                                                                                                                                                   | Income from assets acquired in refinancing transactions                      |                         |         
|                                                                                                                                                                   | Net realized gains (losses) from assets acquired in refinancing transactions |                         |         
|                                                                                                                                                                   | Other income                                                                 |                         |         
|                                                                                                                                                                   |                                                                              |                         |         
|TOTAL REVENUES                                                                                                                                                     |                                                                              |                         | 346,842 
|                                                                                                                                                                   |                                                                              |                         |         
|EXPENSES:                                                                                                                                                          |                                                                              |                         |         
|                                                                                                                                                                   | Losses and loss adjustment expenses                                          |                         |         
|                                                                                                                                                                   | Interest expense                                                             |                         |         
|                                                                                                                                                                   | Amortization of deferred acquisition costs                                   |                         |         
|                                                                                                                                                                   | Foreign exchange (gains) losses from variable interest entities segment      |                         |         
|                                                                                                                                                                   | Interest expense from variable interest entities segment                     |                         |         
|                                                                                                                                                                   | Other operating expenses                                                     |                         |         
|                                                                                                                                                                   |                                                                              |                         |         
|TOTAL EXPENSES                                                                                                                                                     |                                                                              |                         | 502,398 
|                                                                                                                                                                   |                                                                              |                         |         
|INCOME (LOSS) BEFORE INCOME TAXES AND MINORITY INTEREST                                                                                                            |                                                                              |                         | (155,556
|Provision (benefit) for income taxes:                                                                                                                              |                                                                              |                         |         
|                                                                                                                                                                   | Current                                                                      |                         |         
|                                                                                                                                                                   | Deferred                                                                     |                         |         
|                                                                                                                                                                   |                                                                              |                         |         
|                                                                                                                                                                   | Total provision (benefit)                                                    |                         |         
|                                                                                                                                                                   |                                                                              |                         |         
|NET INCOME (LOSS) BEFORE MINORITY INTEREST                                                                                                                         |                                                                              |                         | (55,733 
|Less: Minority interest                                                                                                                                            |                                                                              |                         | (27,656 
|                                                                                                                                                                   |                                                                              |                         |         
|NET INCOME (LOSS)                                                                                                                                                  |                                                                              |                         | (28,077 
|OTHER COMPREHENSIVE INCOME (LOSS), NET OF TAX:                                                                                                                     |                                                                              |                         |         
|Unrealized gains (losses) on available-for-sale securities arising during the period, net of deferred income tax provision (benefit) of $400, $8,307 and $(23,083) |                                                                              |                         | 743     
|Less: reclassification adjustment for gains (losses) included in net income, net of deferred income tax provision (benefit) of $4,933, $3,442 and $6,776           |                                                                              |                         | 9,161   
|                                                                                                                                                                   |                                                                              |                         |         
|Other comprehensive income (loss)                                                                                                                                  |                                                                              |                         | (8,418  
|                                                                                                                                                                   |                                                                              |                         |         
|COMPREHENSIVE INCOME (LOSS)                                                                                                                                        |                                                                              | $                       | (36,495 
|                                                                                                                                                                   |                                                                              |                         |         

The
accompanying Notes to Consolidated Financial Statements are an integral part of these statements.

3

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FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIES        CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDER'S EQUITY        (dollars in thousands)

|                                                                                               |  | Common Stock |   |   |        | Accumulated
Other
Comprehensive
Income (Loss) |   |          |   |   |        
|---------------------------------------------------------------------------------------------- |  | ------------ | - | - | ------ | --------------------------------------------- | - | -------- | - | - | -------
|
|
|BALANCE, December 31, 2004                                                                     |  | 400          |   | $ | 15,000 |                                               | $ | 839,077  |   | $ | 170,620
|Net income for the year                                                                        |  |              |   |   |        |                                               |   |          |   |   |        
|Other comprehensive income (loss), net of deferred income tax provision (benefit) of $(29,859) |  |              |   |   |        |                                               |   |          |   |   | (62,538
|Capital contributions                                                                          |  |              |   |   |        |                                               |   | 4,094    |   |   |        
|Dividends paid                                                                                 |  |              |   |   |        |                                               |   |          |   |   |        
|Capital issuance costs                                                                         |  |              |   |   |        |                                               |   | (1,343   | ) |   |        
|                                                                                               |  |              |   |   |        |                                               |   |          |   |   |        
|BALANCE, December 31, 2005                                                                     |  | 400          |   |   | 15,000 |                                               |   | 841,828  |   |   | 108,082
|Net income for the year                                                                        |  |              |   |   |        |                                               |   |          |   |   |        
|Other comprehensive income (loss), net of deferred income tax provision (benefit) of $4,865    |  |              |   |   |        |                                               |   |          |   |   | 9,005  
|Capital contributions                                                                          |  |              |   |   |        |                                               |   | 2,637    |   |   |        
|Repurchase of stock                                                                            |  | (20          | ) |   |        |                                               |   | (100,000 | ) |   |        
|Dividends paid                                                                                 |  |              |   |   |        |                                               |   |          |   |   |        
|Capital issuance costs                                                                         |  |              |   |   |        |                                               |   | (961     | ) |   |        
|                                                                                               |  |              |   |   |        |                                               |   |          |   |   |        
|BALANCE, December 31, 2006                                                                     |  | 380          |   |   | 15,000 |                                               |   | 743,504  |   |   | 117,087
|Net income (loss) for the year                                                                 |  |              |   |   |        |                                               |   |          |   |   |        
|Other comprehensive income (loss), net of deferred income tax provision (benefit) of $(4,533)  |  |              |   |   |        |                                               |   |          |   |   | (8,418 
|Capital contributions                                                                          |  |              |   |   |        |                                               |   | 113,839  |   |   |        
|Repurchase of stock                                                                            |  | (36          | ) |   |        |                                               |   | (180,000 | ) |   |        
|Capital issuance costs                                                                         |  |              |   |   |        |                                               |   | (764     | ) |   |        
|Other                                                                                          |  |              |   |   |        |                                               |   | 3,113    |   |   |        
|                                                                                               |  |              |   |   |        |                                               |   |          |   |   |        
|BALANCE, December 31, 2007                                                                     |  | 344          |   | $ | 15,000 |                                               | $ | 679,692  |   | $ | 108,669
|                                                                                               |  |              |   |   |        |                                               |   |          |   |   |        

The
accompanying Notes to Consolidated Financial Statements are an integral part of these statements.

4

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FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIES        CONSOLIDATED STATEMENTS OF CASH FLOWS        (in thousands)

|                                                             |                                                                                         | Year Ended December 31,                              |       
|------------------------------------------------------------ | --------------------------------------------------------------------------------------- | ---------------------------------------------------- | ------
|
|Cash flows from operating activities:                        |                                                                                         |                                                      |       
|                                                             | Premiums received, net                                                                  |                                                      | $     
|                                                             | Other operating expenses paid, net                                                      |                                                      |       
|                                                             | Salvage and subrogation received (paid)                                                 |                                                      |       
|                                                             | Losses and loss adjustment expenses paid, net                                           |                                                      |       
|                                                             | Net investment income received from general investment portfolio                        |                                                      |       
|                                                             | Federal income taxes paid                                                               |                                                      |       
|                                                             | Interest paid                                                                           |                                                      |       
|                                                             | Interest paid on variable interest entities segment                                     |                                                      |       
|                                                             | Net investment income received from variable interest entities segment                  |                                                      |       
|                                                             | Net derivative payments in variable interest entities segment                           |                                                      |       
|                                                             | Income received from refinanced assets                                                  |                                                      |       
|                                                             | Other                                                                                   |                                                      |       
|                                                             |                                                                                         |                                                      |       
|                                                             |                                                                                         | Net cash provided by (used for) operating activities |       
|                                                             |                                                                                         |                                                      |       
|Cash flows from investing activities:                        |                                                                                         |                                                      |       
|                                                             | Proceeds from sales of bonds in general investment portfolio                            |                                                      |       
|                                                             | Proceeds from maturities of bonds in general investment portfolio                       |                                                      |       
|                                                             | Purchases of bonds in general investment portfolio                                      |                                                      |       
|                                                             | Net (increase) decrease in short-term investments in general investment portfolio       |                                                      |       
|                                                             | Proceeds from maturities of bonds in variable interest entities segment                 |                                                      |       
|                                                             | Purchases of bonds in variable interest entities segment                                |                                                      |       
|                                                             | Net (increase) decrease in short-term investments in variable interest entities segment |                                                      |       
|                                                             | Paydowns of assets acquired in refinancing transactions                                 |                                                      |       
|                                                             | Proceeds from sales of assets acquired in refinancing transactions                      |                                                      |       
|                                                             | Purchases of property, plant and equipment                                              |                                                      |       
|                                                             | Other investments                                                                       |                                                      |       
|                                                             |                                                                                         |                                                      |       
|                                                             |                                                                                         | Net cash provided by (used for) investing activities |       
|                                                             |                                                                                         |                                                      |       
|Cash flows from financing activities:                        |                                                                                         |                                                      |       
|                                                             | Distribution to minority shareholder                                                    |                                                      |       
|                                                             | Dividends paid                                                                          |                                                      |       
|                                                             | Proceeds from issuance of variable interest entities segment debt (see Note 21)         |                                                      |       
|                                                             | Repayment of surplus notes                                                              |                                                      |       
|                                                             | Repayment of notes payable to affiliate                                                 |                                                      |       
|                                                             | Repayment of variable interest entities segment debt                                    |                                                      |       
|                                                             | Capital issuance costs                                                                  |                                                      |       
|                                                             | Capital contribution                                                                    |                                                      |       
|                                                             | Repurchase of shares                                                                    |                                                      |       
|                                                             |                                                                                         |                                                      |       
|                                                             |                                                                                         | Net cash provided by (used for) financing activities |       
|                                                             |                                                                                         |                                                      |       
|Effect of changes in foreign exchange rates on cash balances |                                                                                         |                                                      | 1,835 
|                                                             |                                                                                         |                                                      |       
|Net increase (decrease) in cash                              |                                                                                         |                                                      | (7,890
|Cash at beginning of year                                    |                                                                                         |                                                      | 29,660
|                                                             |                                                                                         |                                                      |       
|Cash at end of year                                          |                                                                                         | $                                                    | 21,770
|                                                             |                                                                                         |                                                      |       

The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.

5

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FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIES        CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED        (in thousands)

|                                                                                 |                                                                                      | Year Ended December 31, |        
|-------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------ | ----------------------- | -------
|
|Reconciliation of net income (loss) to net cash flows from operating activities: |                                                                                      |                         |        
|Net income (loss)                                                                |                                                                                      | $                       | (28,077
|                                                                                 | Change accrued investment income                                                     |                         |        
|                                                                                 | Change deferred premium revenue net of prepaid reinsurance premiums                  |                         |        
|                                                                                 | Change deferred acquisition costs                                                    |                         |        
|                                                                                 | Change in current federal income taxes payable                                       |                         |        
|                                                                                 | Change in unpaid losses and loss adjustment expenses, net of reinsurance recoverable |                         |        
|                                                                                 | Provision (benefit) for deferred income taxes                                        |                         |        
|                                                                                 | Net realized (gains) losses on investments                                           |                         |        
|                                                                                 | Depreciation and accretion of discount                                               |                         |        
|                                                                                 | Minority interest                                                                    |                         |        
|                                                                                 | Change in other assets and liabilities                                               |                         |        
|                                                                                 |                                                                                      |                         |        
|Cash provided by operating activities                                            |                                                                                      | $                       | 503,236
|                                                                                 |                                                                                      |                         |        

The
Company received no tax benefit in 2007 and received tax benefits of $1.1 million and $4.1 million in 2006 and 2005, respectively, by utilizing its Parent's losses.
These amounts were recorded as a capital contribution.

The
accompanying Notes to Consolidated Financial Statements are an integral part of these statements.

6

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FINANCIAL SECURITY ASSURANCE INC. AND SUBSIDIARIES    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS    FOR THE YEARS ENDED DECEMBER 31, 2007, 2006 AND 2005

1.    ORGANIZATION AND OWNERSHIP

Financial Security Assurance Inc. ("FSA" or together with its consolidated entities, the "Company"), a wholly owned subsidiary of Financial Security
Assurance Holdings Ltd. (the "Parent"), is an insurance company domiciled in the State of New York. The Company operates in two business segments: a financial guaranty segment and a variable
interest entities ("VIE") segment. The Company is primarily engaged in providing financial guaranty insurance on public finance and asset-backed obligations in domestic and international markets
including Europe, the Asia Pacific region and elsewhere in the Americas. The financial strength of FSA and its insurance company subsidiaries is rated "Triple-A" by the major securities
rating agencies and obligations insured by them are generally awarded "Triple-A" ratings by reason of such insurance. FSA was the first insurance company organized to insure
non-municipal obligations and has been a major insurer of asset-backed and other non-municipal obligations since its inception on 1985 and a major insuror of municipal bonds
since 1990.

Financial
guaranty insurance written by the Company typically guarantees scheduled payments on financial obligations. Upon a payment default on an insured obligation, the Company is
generally required to pay the principal, interest or other amounts due in accordance with the obligation's original payment schedule or may, at its option, pay such amounts on an accelerated basis.
The Company's underwriting policy is to insure obligations that would otherwise be investment grade without the benefit of its insurance. In addition, the Company insures guaranteed investment
contracts ("GICs") issued by FSA Capital Management Services LLC ("FSACM"), FSA Capital Markets Services (Caymans) Ltd. and, prior to April 2003, FSA Capital Markets Services LLC
(collectively, the "GIC Affiliates"), affiliates of the Company.

Commencing
in the fourth quarter of 2007, major financial institutions, including financial guaranty insurers, became subject to increasing stress. This has led to ratings downgrades and
negative outlooks for a number of the Company's competitors as well as increased scrutiny from regulatory authorities and rating agencies. The Company and its insurance company subsidiaries remain
rated Triple-A/stable by Moody's Investors Service, Inc. ("Moody's"), Standard & Poor's Ratings Services ("S&P") and Fitch Ratings ("Fitch"). However, the impact of recent
developments on the financial guaranty insurance industry and the Company remains uncertain, and could include decreased demand for financial guaranty insurance as well as increases in the
requirements for conducting, or restrictions on the types of business conducted by, financial guaranty insurers.

Public
finance obligations insured by the Company consist primarily of general obligation bonds supported by the issuers' taxing powers, tax-supported bonds and revenue bonds
and other obligations of states, their political subdivisions and other municipal issuers supported by the issuers' or obligors' covenant to impose and collect fees and charges for public services or
specific projects. Public finance obligations include obligations backed by the cash flow from leases or other revenues from projects serving substantial public purposes, including government office
buildings, toll roads, health care facilities and utilities.

Asset-backed
obligations insured by the Company are generally issued in structured transactions and are backed by pools of assets such as residential mortgage loans, consumer or trade
receivables, securities or other assets having an ascertainable cash flow or market value. The Company insures synthetic asset-backed obligations that generally take the form of credit default swap
("CDS") obligations or credit-linked notes that reference asset-backed securities or pools of securities or other

7

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obligations,
with a defined deductible to cover credit risks associated with the referenced securities or loans.

The
Company refinanced certain defaulted transactions by employing refinancing vehicles to raise funds. These refinancing vehicles are also consolidated and considered part of its
financial guaranty business.

The
Company consolidated the results of certain variable interest entities ("VIEs"), which include FSA Global Funding Limited ("FSA Global") and Premier International Funding Co.
("Premier") because it retains the majority of the risks and rewards related to the VIEs. The Company does not own and equity interest in the VIEs. The Company consolidates FSA Global in accordance
with Financial Accounting Standard Board ("FASB") Interpretation No. 46, "Consolidation of Variable Interest Entities, an interpretation of ARB No. 46, "Consolidation of Variable
Interest Entities, an interpretation of ARB No. 51" (revised December 2003) ("FIN 46").

FSA
Global is a special purpose funding vehicle partially owned by a subsidiary of FSA Holdings. FSA Global issues FSA-insured medium term notes and generally invests the
proceeds from the sales of its notes in FSA-insured GICs or other FSA-insured obligations with a view to realizing the yield difference between the notes issued and the
obligations purchased with the notes proceeds. Premier is principally engaged in debt defeasance for finance lease transactions.

The
Company's management believes that the assets held by FSA Global, Premier and the refinancing vehicles, including those that are eliminated in consolidation, are beyond the reach of
the Company and its creditors, even in bankruptcy or other receivership.

On
July 5, 2000, the Company completed a merger in which FSA Holdings became a direct subsidiary of Dexia Holdings, Inc. ("Dexia Holdings"), which, in turn, is owned 90% by
Dexia Crédit Local S.A. ("Dexia Crédit Local") and 10% by Dexia S.A. ("Dexia"). Dexia is a Belgian corporation whose shares are traded on the Euronext
Brussels and Euronext Paris markets, as well as on the Luxembourg Stock Exchange. Dexia Crédit Local is a wholly owned subsidiary of Dexia.

2.    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America
("GAAP"), which differ in certain material respects from the accounting practices prescribed or permitted by insurance regulatory authorities (see Note 24). The preparation of financial
statements in conformity with GAAP requires management to make extensive estimates and assumptions that affect the reported amounts of assets and liabilities in the Company's consolidated balance
sheets at December 31, 2007 and 2006, the reported amounts of revenues and expenses in the consolidated statements of operations and comprehensive income during the years ended
December 31, 2007, 2006 and 2005 and disclosure of contingent assets and liabilities. Such estimates and assumptions include, but are not limited to, losses and loss adjustment expenses, fair
value of financial instruments, the deferral and amortization of policy acquisition costs and taxes. Actual results may differ from those estimates.



The consolidated financial statements include the accounts of the Company and its direct and indirect subsidiaries, (collectively, the "Subsidiaries"),
principally including:



8

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The
consolidated financial statements also include the accounts of certain VIEs and refinancing vehicles as described in Note 1. Intercompany accounts and transactions have been
eliminated. Certain prior-year balances have been reclassified to conform to the current year presentation.

Significant
accounting policies under GAAP are as follows:



The Company segregates its investments into various portfolios:



Investments
in debt and equity securities designated as available for sale are carried at fair value. The unrealized gain or loss on investments that are not hedged with derivatives or
are economically hedged but do not qualify for hedge accounting is reflected as a separate component of shareholders' equity, net of tax. The unrealized gain or loss attributable to the hedged risk on
investments that qualify as fair-value hedges is recorded in the consolidated statements of operations and comprehensive income in net interest income from VIE segment.

Bond
discounts and premiums are amortized on the effective yield method over the remaining terms of the securities acquired. For mortgage-backed securities and any other holdings for
which prepayment risk may be significant, assumptions regarding prepayments are evaluated periodically and revised as necessary. Any adjustments required due to the resulting change in effective
yields are recognized in current income. The cost of securities sold is based on specific identification of each security.

Short-term
investments, which are those investments with a maturity of less than one year at time of purchase, are carried at fair value. Changes in fair value of
short-term investments are due to changes in foreign exchange rates. Amounts deposited in money market funds and investments with a maturity at time of purchase of three months or less are
included in short-term investments.

Variable
rate demand notes ("VRDNs") are included in bonds in the General Investment Portfolio. VRDNs are long-term bonds that bear floating interest rates and provide
investors with the option to tender or put the bonds at par, generally on a daily, weekly or monthly basis. The cash flows related to these securities are presented on a gross basis in the
consolidated statements of cash flows.

Mortgage
loans are carried at the lower of cost or market on an aggregate basis.

Other-than-temporary
impairments ("OTTI") are reflected in earnings as a realized loss.



The VIEs enter into derivative contracts to manage interest rate and foreign currency risks associated with the Company's VIE Segment Investment Portfolio and VIE
segment debt. The derivatives are recorded at fair value and generally include interest rate and currency swap agreements, which are primarily utilized to convert the Company's fixed rate securities
in the VIE Segment Investment Portfolio and VIE segment debt into U.S.-dollar floating rate assets and liabilities. The

9

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gains
and losses relating to derivatives not designated as fair-value hedges are included in net realized and unrealized gains (losses) on derivative instruments in the consolidated
statements of operations and comprehensive income.

The
gains and losses related to derivatives designated as fair-value hedges are included in either net interest income or net interest expense from the VIE segment, as
appropriate, along with the offsetting change in the fair value of the risk being hedged. The Company also has a portfolio of insured derivatives (primarily CDS) that it intends, in each case, to hold
for the full term of the agreement. It considers these agreements to be a normal part of its financial guaranty insurance business, although they are considered derivatives for accounting purposes.
These agreements are recorded at fair value. The Company believes that the most meaningful presentation of the financial statement effect of these derivatives is to record earned premiums over the
installment period, to record losses and loss adjustment expenses as incurred and to record changes in fair value as incurred. Changes in fair value are recorded in net realized and unrealized gains
(losses) on derivative instruments and in either other assets or other liabilities, as appropriate.

Fair
value is defined as the price at which an asset or liability could be bought or sold in a current transaction between willing parties. Fair value is determined based on quoted
market prices, if available. If quoted market prices are not available, as is the case with most of the Company's insured CDS contracts because these contracts are not traded, then the determination
of fair value is based on internally developed estimates that employ credit-spread algorithms. These algorithms are unique to each insured CDS category and utilize various publicly available indices,
depending on the types of assets referenced by the insured CDS contract and the length of the contract. Management applies judgment when developing these estimates and considers factors such as
current prices charged for similar agreements, performance of underlying assets, changes in internal credit assessments or rating agency-based shadow ratings, and, for its insured obligations, the
level at which the deductible has been set. Estimates generated from the Company's valuation process may differ materially from values that may be realized in market transactions. The following is a
description of the market pricing information that the Company utilizes in determining the fair value for significant categories of its insured CDS portfolio.

Pooled Corporate CDS Valuation

A pooled corporate CDS contract is a contract that insures the default risk of a pool of reference corporate entities. As there is no observable exchange trading
of bespoke pooled corporate CDS the Company values these contracts using an internal pricing model that uses published third-party indexes as inputs to its pricing model, principally the Dow Jones CDX
for domestic corporate CDS and iTraxx for European corporate CDS. Each such index provides price quotes for standard attachment and detachment points (or "tranches") for contracts with maturities of
three, five, seven and ten years. Prices quoted for these tranches do not represent perfect pricing references but are the only relevant market-based information available for this type of
non-traded contract. The recent market volatility in the index tranches has had a significant impact on the estimated fair value of the Company's portfolio of pooled corporate CDS.

The
Company's valuation process for the pooled corporate CDS portfolio involves stratifying the investment-grade and high-yield contracts by remaining term to maturity,
consistent with the reference indexes. Within maturity bands, further distinction is made for contracts that have higher attachment points. As index prices are quoted for standard attachment and
detachment points (or tranches), the Company calibrates the quoted index price to the typical attachment points for its individual CDS contracts in order to derive the appropriate value, which is then
validated by comparing it with relevant recent market transactions, if available. In order to estimate the weighted-average market price of an investment-grade pooled corporate CDS contract, the
Company utilizes the applicable market prices of the quoted tranches of the published CDX North America IG Index.

10

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In
order to estimate the weighted-average market price for high-yield pooled corporate CDS contracts, the Company obtains dealer prices for the most senior quoted
three-year and five-year tranches of the CDX North America High Yield Index and then applies a factor to the quoted prices. The factor depends on (a) the term to
maturity of the Company's contract and (b) the attachment point of the Company's pooled corporate CDS contract, and is intended to calibrate the published index price to the Company's pooled
corporate CDS contract, which references entities with higher credit quality than those reflected in the published indexes.

CDS of Funded CDOs and CLO Valuation

As with pooled corporate CDS, there is no observable exchange trading of CDS of funded CDOs and collateralized loan obligations ("CLOs"). The Company estimates
the market price with reference to the all-in LIBOR spread in the current published JP Morgan High Yield CLO
Triple-A index, which includes a credit and funding component. Depending on the absolute value of the LIBOR spread, the Company may also apply a factor to the spread as a means of
estimating the credit enhancement component.

Other Structured Obligations Valuation

The Company determines fair value of insured CDS of European residential mortgage loan portfolios with reference to the recent auction prices of KfW Bankengruppe,
the German development bank, when available. For CDS for which observable market value information is not available, management applies its best judgment to estimate the appropriate current fair
value.



Gross and ceded premiums received at inception of an insurance contract (i.e., upfront premiums) are earned in proportion to the expiration of the related
risk. For upfront payouts, premium earnings are greater in the earlier periods, when there is a higher amount of exposure outstanding. The amount of risk outstanding is equal to the sum of the par
amount of debt insured over the expected period of coverage. Deferred premium revenue and prepaid reinsurance premiums represent the portions of gross and ceded premium, respectively, that are
applicable to coverage of risk to be provided in the future on policies in force. When an insured issue is retired or defeased prior to the end of the expected period of coverage, the remaining
deferred premium revenue and prepaid reinsurance premium, less any amount credited to a refunding issue insured by the Company, are recognized.

For
premiums received on an installment basis, the Company earns the premium over the installment period, typically less than one year, throughout the period of coverage. Typically,
installment premiums are applicable to insured transactions that involve CDS or special purpose entities ("SPEs") structured to finance pools of assets such as auto loans or mortgage loans. Premiums
on such transactions are typically paid in installments, as the nature of the assets financed can have uncertain debt service schedules due to prepayments. When the Company, through its ongoing credit
review process, identifies transactions where premiums are paid on an installment basis and certain default triggers have been breached, the Company ceases to earn premiums on such transactions.
Premium revenue recognition is subject to change as a result of the FASB project described in "Financial Guaranty InsuranceProposed Guidance."



Financial guaranty insurance generally provides an unconditional and irrevocable guaranty that protects the holder of a financial obligation against
non-payment of principal and interest when due. Upon a payment default on an insured obligation, the Company is generally required to pay the

11

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principal,
interest or other amounts due in accordance with the obligation's original payment schedule or, at its option, to pay such amounts on an accelerated basis.

The
financial guaranty industry has emerged over the past 35 years. Management believes that existing insurance accounting under Statement of Financial Accounting Standards
("SFAS") No. 60, "Accounting and Reporting by Insurance Enterprises" ("SFAS 60"), does not specifically address financial guaranty insurance. Accordingly, the accounting for loss and
loss adjustment expenses within the financial guaranty insurance industry has developed based on analogy to the most directly comparable elements of existing literature, including sections of
SFAS 60, SFAS No. 5, "Accounting for Contingencies" ("SFAS 5") and Emerging Issues Task Force Issue 85-20, "Recognition of fees for guaranteeing a loan"
("EITF 85-20").

The
Company establishes losses and loss adjustment expense ("LAE") liabilities based on its estimate of specific and non-specific losses. LAE consists of the estimated cost
of settling claims, including legal and other fees and expenses associated with administering the claims process.



The Company calculates a case reserve for the portion of the losses and LAE liability based upon identified risks inherent in its insured portfolio. If an
individual policy risk has a reasonably estimable and probable loss as of the balance sheet date, a case reserve is established. For the remaining policy risks in the portfolio, a
non-specific reserve is established to account for the inherent credit losses that can be statistically estimated.

Case
reserves for financial guaranty insurance companies differ from those of traditional property and casualty insurance companies. The primary difference is that traditional property
and casualty case reserves include only claims that have been incurred and reported to the insurance company. In a traditional property and casualty company, claims are incurred when defined events
occur such as an
auto accident, home fire or storm. Unlike traditional property and casualty claims, financial guaranty losses arise from the extension of credit protection and occur as the result of the credit
deterioration of the issuer or underlying assets of the insured obligations over the lives of those insured obligations. Such deterioration and ultimate loss amounts can be projected based on
historical experience in order to estimate probable loss, if any. Accordingly, specific loss events that require case reserves include (1) policies under which claim payments have been made and
additional claim payments are expected and (2) policies under which claim payments are probable and reasonably estimable, but have not yet been made.

The
Company establishes a case reserve for the present value of the estimated loss, net of subrogation recoveries, when, in management's opinion, the likelihood of a future loss on a
particular insured obligation is probable and reasonably estimable at the balance sheet date. When an insured obligation has met the criteria for establishing a case reserve and that transaction pays
a premium in installments, those premiums, if expected to be received prospectively, are considered a form of recovery and are no longer earned as premium revenue. Typically, a case reserve is
determined using cash flow or similar models that represent the Company's estimate of the net present value of the anticipated shortfall between (1) scheduled payments on the insured obligation
plus anticipated loss adjustment expenses and (2) anticipated cash flow from and proceeds to be received on sales of any collateral supporting the obligation and other anticipated recoveries.
The estimated loss, net of recovery, on a transaction is discounted using the risk-free rate appropriate for the term of the insured obligation at the time the reserve is established and
is not subsequently adjusted. In certain situations where cash flow models are not practical, a case reserve represents management's best estimate of expected loss.

The
Company records a non-specific reserve to reflect the credit risks inherent in its portfolio. The non-specific and case reserves together represent the
Company's estimate of total reserves. The

12

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establishment
of a non-specific reserve for credits that have not yet defaulted is a common practice in the financial guaranty industry, although there are differences in the specific
methodologies applied by other financial guarantors in establishing and measuring these reserves.



The Company establishes a non-specific reserve on its portfolio of credits because management believes that a portfolio of insured obligations will
deteriorate over its life and that the existence of inherent loss can be proven statistically by data such as that published by rating agencies. The establishment of the reserve is a systematic
process that considers this quantitative, statistical information obtained primarily from Moody's and S&P, together with qualitative factors such as overall credit quality trends resulting from
economic and political conditions, recent loss experience in particular segments of the portfolio and changes in underwriting policies and procedures. The factors used to establish reserves are
evaluated periodically by comparing the statistically computed loss
amount with the incurred losses as represented by case reserve activity to develop an experience factor that is updated and applied to current-year originations. The process results in
management's best estimate of inherent losses associated with providing credit protection at each balance sheet date.

The
non-specific reserve established considers all levels of protection (e.g., reinsurance and overcollateralization). Net par outstanding for policies originated in
the current period is multiplied by loss frequency and severity factors, with the resulting amounts discounted at the risk-free rates using the treasury yield curve (the "statistical
calculation"). The discount rate does not change and is used to accrete the loss for the life of each policy. The loss factors used for the calculation are the product of default frequency rates
obtained from Moody's and severity factors obtained from S&P. Moody's is chosen for default frequency rates due to its credibility, large population, statistical format and reliability of future
update. The Moody's default information is applied to all credit sectors or asset classes as described below. In its publication of default rates for bonds issued from 1970-2006, Moody's
tracks bonds over a 20-year horizon by credit rating at time of issuance. For the purpose of establishing appropriate severity factors, the Company's methodology segregates the portfolio
into asset classes, including health care transactions, all other public finance transactions, pooled corporate transactions, commercial real estate, and all other asset-backed transactions. The
severity factors are derived from capital charge assessments provided by S&P. S&P capital charges project loss levels by asset class and are incorporated into their capital adequacy stress scenario
analysis.

The
product of the current-year statistical calculation multiplied by the current-year experience factor represents the present value of loss amounts calculated
for current-year originations. The present value of loss amounts calculated for the current-year originations is established at inception of each policy, and there is no
subsequent change unless significant adverse or favorable loss experience is observed. The experience factor is based on the Company's cumulative-to-date historical losses
starting from 1993, when the Company established the non-specific reserve methodology. The experience factor is calculated by dividing cumulative-to-date actual
losses incurred by the Company by the cumulative-to-date losses determined by the statistical calculation. The experience factor is reviewed and, where appropriate, updated
periodically, but no less than annually.

The
present value of loss amounts calculated for the current-year originations plus an amount representing the accretion of discount pertaining to prior-year
originations are charged to loss expense and increase the non-specific loss reserve after adjustments that may be made to reflect observed favorable or adverse experience. The entire
non-specific reserve is available to absorb probable losses inherent in the portfolio. As there are no specific losses provided in the non-specific reserve, there is no
identifiable reinsurance recoverable. At the time that a case reserve is identified, the gross loss liability is recognized along with the reinsurance recoverable, if any. The amount of reinsurance
recoverable depends on the policy ceded and the reinsurance agreements covering such policy.

13

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Management
cannot predict the specific policies that will emerge as case-basis losses from the portfolio and is not entitled to recovery from the reinsurer in advance of producing a case
reserve.

Since
the non-specific reserve contains the inherent losses of the portfolio, when a case reserve adjustment is deemed appropriate, whether the result of adverse or positive
credit developments, accretion or the addition of a new case reserve, a full transfer is made between the non-specific reserve and the case reserve balances with no effect to income. The
adequacy of the non-specific reserve balance is reviewed periodically and at least annually. Such analyses are performed to quantify appropriate adjustments that may be either charges or
benefits on the consolidated statements of operations and comprehensive income.



Management is aware that there are differences regarding the method of defining and measuring both case reserves and non-specific reserves among
participants in the financial guaranty industry. Other financial guarantors may establish case reserves only after a default and use different techniques to estimate probable loss. Other financial
guarantors may establish the equivalent of non-specific reserves, but refer to these reserves by various terms such as, but not limited to, "unallocated losses," "active credit reserves"
and "portfolio reserves," or may use different statistical techniques from those the Company uses to determine loss at a given point in time.

Management
believes that existing accounting literature does not address the unique attributes of financial guaranty insurance. As an insurance enterprise, the Company initially refers
to the accounting and financial reporting guidance in SFAS 60. In establishing loss liabilities, the Company relies principally on SFAS 60, which prescribes differing treatment depending
on whether a contract is a short-duration contract or a long-duration contract. Financial guaranty insurance does not fall clearly within the definition of either short-duration or
long-duration contracts. Therefore, the Company does not believe that SFAS 60 alone provides sufficient guidance for financial guaranty claim liability recognition.

As
a result, the Company also analogizes to SFAS 5, which requires the establishment of liabilities when a loss is both probable and reasonably estimable. The Company also relies
by analogy on EITF 85-20, which provides general guidance on the recognition of losses related to guaranteeing a loan. In the absence of a comprehensive accounting model provided by
SFAS 60, industry participants, including the Company, have looked to such other guidance referred to above to develop their accounting policies for the establishment and measurement of loss
liabilities. The Company believes that its financial guaranty loss reserve policy is appropriate under the applicable accounting literature, and that it best reflects the fact that a portfolio of
credit-based insurance, comprising irrevocable contracts that cannot be unilaterally changed by the insurer and that match the maturity terms of the underlying insured obligations, contains probable
and reasonably estimable losses.



Deferred acquisition costs are comprised of expenses primarily related to the production of business, including commissions paid on reinsurance assumed,
compensation and related costs of underwriting and marketing personnel, certain rating agency fees, premium taxes and certain other underwriting expenses, reduced by ceding commission received on
premiums ceded to reinsurers. Deferred acquisition costs are amortized over the period in which the related premiums are earned. When an insured issue is retired or defeased prior to the end of the
expected period of coverage, the remaining deferred acquisition cost is recognized. A premium deficiency would be recognized if the present value of anticipated losses and loss adjustment expenses
exceeded the sum of deferred premium revenue and estimated installment premiums.

14

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VIE segment debt is recorded at amortized cost. The Company may enter into transactions in order to reduce the Company's exposure to fluctuations in interest
rates and foreign exchange rates. VIE segment debt may include hybrid debt instruments that contain embedded derivatives. Under certain conditions, GAAP requires that embedded derivatives be separated
from the debt instrument and accounted for at fair value, with all changes in fair value reflected through earnings. Changes in fair value of embedded derivatives in VIE segment debt are recorded in
realized and unrealized gain (loss) on derivative instruments.



Monetary assets and liabilities denominated in foreign currencies are translated at the spot rate at the balance sheet date. Non-monetary assets and
liabilities are translated at historical rates. Revenues and expenses denominated in foreign currencies are translated at average rates prevailing during the year. Unrealized gains and losses on
available-for-sale securities, net of deferred taxes, resulting from translating investments denominated in foreign currencies are recorded in shareholders' equity. Gains and
losses from transactions in foreign currencies are recorded in other income. The Company recorded $13.4 million in 2007, $2.8 million in 2006 and $8.4 million in 2005 related to
transaction gains recorded in other income.



The provision for income taxes consists of an amount for taxes currently payable and an amount for deferred taxes arising from temporary differences between the
tax bases of assets and liabilities and the reported amounts in the financial statements that will result in deductible or taxable amounts in future years when the reported amounts of assets and
liabilities are recovered or settled.

Non-interest-bearing
tax and loss bonds are purchased to prepay the tax benefit that results from deducting contingency reserves as provided under Internal Revenue Code
Section 832(e). The Company records the purchase of tax and loss bonds in other assets.

The
Company adopted FAS Interpretation No. 48, "Accounting for Uncertainty in Income Taxesan Interpretation of FASB Statement No. 109" ("FIN 48") as of
January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes in an entity's financial statements pursuant to FASB Statement No. 109, "Accounting for Income
Taxes" and provides thresholds for recognizing and measuring benefits of a tax position taken or expected to be taken in a tax return. Consequently, the Company recognizes tax benefits only on tax
positions where is it "more likely than not" to prevail. There was no effect on the Company's statements of operations and comprehensive income from adopting FIN 48.



Asset-backed and, to a lesser extent, public finance transactions insured by the Company may employ special purpose entities for a variety of purposes. A typical
asset-backed transaction, for example, employs a special purpose entity as the purchaser of the securitized assets and as the issuer of the insured obligations. The Company's participation is
typically requested by the sponsor of the special purpose entity or the underwriter, either via a bid process or on a sole-source basis. Special purpose entities are typically owned by
transaction sponsors or charitable trusts, although the Company may have an ownership interest in some cases. The Company maintains certain contractual rights and exercises varying degrees of
influence over special purpose entity issuers insured by the Company obligations. The Company also bears some of the "risks and rewards" associated with the performance of those special purpose
entities' assets. Specifically, as issuer of the financial guaranty insurance policy insuring a given special purpose entity's obligations, the Company bears the risk of asset performance

15

---



(typically,
but not always, after a significant depletion of overcollateralization, excess spread, a deductible or other credit protection). The Company's underwriting policy is to insure only
obligations that are otherwise investment grade. In addition, the special purpose entity typically pays a periodic premium to the Company in consideration of the issuance by the Company of its
insurance policy, with the special purpose entity's assets typically serving as the source of such premium, thereby providing some of the "rewards" of the special purpose entity's assets to the
Company. Special purpose entities are also employed by the Company in connection with "repackaging" of outstanding securities into new securities insured by the Company and with refinancing
underperforming, non-investment-grade transactions insured by the Company.

The
degree of influence exercised by the Company over these special purpose entities varies from transaction to transaction, as does the degree to which "risks and rewards" associated
with asset performance are assumed by the Company.

FIN 46-R
addresses consolidation of VIEs that have one or both of the following characteristics: (a) the equity investment at risk is not sufficient to permit
the entity to finance its activities without additional subordinated financial support from other parties, which is provided through other interests that will absorb some or all of the expected losses
of the entity; and (b) the equity investors lack the direct or indirect ability to make decisions about the entity's activities through voting rights or similar rights and do not have the
obligation to absorb the expected losses of the entity if they occur or the right to receive the expected residual returns of the entity if they occur. In analyzing special purpose entities described
above, the Company considers reinsurance to be an implicit variable interest. Where the Company determines it is required to consolidate the special purpose entity, the outstanding exposure is
excluded from Note 9.



The Company records a liability in other liabilities related to the vested portion of employees' outstanding "performance shares" under the Company's 2004 Equity
Participation Plan and 1993 Equity Participation Plan (the "Equity Plans"). The expense is recognized ratably over specified performance cycles. The Company also records prepaid assets for Dexia
restricted share awards made under the Company's Equity Plans and amortize these amounts over the employees' vesting periods. For more information regarding the Equity Plans, see Note 12.

The
Company adopted SFAS No. 123, "Share-Based Payment" (revised 2004) ("SFAS 123 (R)") in 2006. SFAS 123 (R) did not have a material impact on the
consolidated statements of operations and comprehensive income. Under SFAS 123 (R), $1.2 million and $1.0 million in additional after-tax expense related to the Dexia
Employee Share Plans in 2007 and 2006, respectively.



On September 15, 2006, the FASB issued SFAS No. 157, "Fair Value Measurements" ("SFAS 157"), which addresses how companies should measure
fair value when required to use fair value measures for recognition or disclosure purposes under GAAP. SFAS 157 adopted an "exit price" approach to determining fair value and established a
three-level fair value hierarchy to prioritize the inputs used in valuation techniques. Level 1 is the highest priority and is defined as observable inputs that reflect quoted prices
(unadjusted) for identical assets or liabilities in active markets. Level 2 is defined as inputs other than quoted prices included in Level 1 that are observable for the asset or
liability through corroboration with observable market data. Level 3 is the lowest priority and is defined as a valuation based on unobservable inputs such as a company's own data.
Prioritization of inputs, as well as other considerations, determines the level of disclosure required. SFAS 157 is applicable to financial statements issued for fiscal years beginning after
November 15, 2007 and for interim periods within those fiscal years. The Company believes that the transition adjustment to opening retained

16

---



earnings
will not have a material effect on its financial statements. The Company is currently evaluating the prospective impact of SFAS 157 on its results and disclosures for the first quarter
of 2008.

In
February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities" ("SFAS 159").
SFAS 159 permits reporting entities to choose to measure at fair value many financial instruments and certain other items that are not currently required to be measured at fair value. The
fair-value option may be applied instrument by instrument, is irrevocable and is applied only to entire instruments and not to portions of instruments. SFAS 159 is effective for
fiscal years beginning after November 15, 2007. There was no material effect on retained earnings from adopting SFAS 159 as of January 1, 2008.

In
December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, "Noncontrolling interests in consolidated financial statements," an amendment of ARB
No. 51 ("SFAS 160"). SFAS 160 requires reporting entities to present noncontrolling (minority) interests as equity (as opposed to liability or mezzanine equity) and provides
guidance on the accounting for transactions between an entity and noncontrolling interests. SFAS 160 is effective for fiscal years, and interim periods within those fiscal years, beginning on
or after December 15, 2008. Earlier adoption is prohibited. FSA is currently evaluating the provisions of SFAS 160 and their potential impact on the Company's financial statements.



On April 18, 2007, the FASB issued an Exposure Draft entitled "Accounting for Financial Guarantee Insurance Contracts," an interpretation of SFAS 60
(the "Exposure Draft"). The Exposure Draft addresses premium revenue and claim liabilities recognition, as well as related disclosures. The proposed recognition approach for a claim liability would
require the Company to recognize a claim liability when there is an expectation that a claim loss will exceed the unearned premium revenue (liability) on a policy basis based on the present value of
expected cash flows. Under the Exposure Draft, the premium earnings methodology would also change. Additionally, the Exposure Draft would require the Company to provide expanded disclosures relating
to factors affecting the recognition and measurement of financial guaranty contracts.

Based
on the comment letter responses to the Exposure Draft, the FASB re-deliberated on some of the proposed guidance of the Exposure Draft. The final statement is expected
to be issued in the first quarter of 2008. Until final guidance is issued by the FASB, the Company will continue to apply its existing policies with respect to the establishment of both case and
non-specific loss reserves and the recognition of premium revenue.

3.    GENERAL INVESTMENT PORTFOLIO

Net investment income generated by the General Investment Portfolio consisted of the following:

Summary of Net Investment Income from General Investment Portfolio

Year Ended December 31,2007

2006

2005(in thousands)Bonds and short-term investments

$
234,495

$
213,959

$
193,347Equity securities


3,483


4,523


8,931Investment expenses


(3,192
)

(2,887
)

(3,051
)Net investment income from general investment portfolio

$
234,786

$
215,595

$
199,227


17

---



The
credit quality of fixed-income securities in the General Investment Portfolio based on amortized cost was as follows:

General Investment Portfolio Fixed-Income Securities by Rating  as of December 31, 2007

Rating(1)

Percent of
BondsAAA

84.1
%AA

13.4A

2.1BBB

0.3NR

0.1Total

100.0
%


---

The
General Investment Portfolio includes bonds insured by FSA ("FSA-Insured Investments"). Of the bonds included in the General Investment Portfolio, 7.5% were
Triple-A by virtue of insurance provided by FSA and 28.8% were insured by other monolines (see Note 25). 100% of the FSA-Insured Investments were investment grade
without giving effect to the FSA insurance. The average shadow rating, which is the rating without giving effect to the FSA guaranty, of the FSA-Insured Investments was the
Double-A range.

The
amortized cost and fair value of the securities in the General Investment Portfolio were as follows:

General Investment Portfolio by Security Type  as of December 31, 2007

|Investment Category                                                                   |                                    | Amortized
Cost |           | Gross
Unrealized
Gains |   | Gross
Unrealized
Losses |         | Fair Value
|------------------------------------------------------------------------------------- | ---------------------------------- | -------------- | --------- | ---------------------- | - | ----------------------- | ------- | ----------
|
|U.S. Treasury securities and obligations of U.S. government corporations and agencies |                                    | $              | 85,088    |                        | $ | 4,046                   |         | $         
|Obligations of U.S. states and political subdivisions                                 |                                    |                | 3,920,509 |                        |   | 149,893                 |         |           
|Mortgage-backed securities                                                            |                                    |                | 390,992   |                        |   | 5,032                   |         |           
|Corporate securities                                                                  |                                    |                | 190,048   |                        |   | 3,866                   |         |           
|Foreign securities(1)                                                                 |                                    |                | 248,006   |                        |   | 8,584                   |         |           
|Asset-backed securities                                                               |                                    |                | 22,652    |                        |   | 279                     |         |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           
|                                                                                      | Total bonds                        |                |           | 4,857,295              |   |                         | 171,700 |           
|Short-term investments                                                                |                                    |                | 88,972    |                        |   | 2,260                   |         |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           
|                                                                                      | Total fixed-income securities      |                |           | 4,946,267              |   |                         | 173,960 |           
|Equity securities                                                                     |                                    |                | 40,020    |                        |   | 4                       |         |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           
|                                                                                      | Total General Investment Portfolio |                | $         | 4,986,287              |   | $                       | 173,964 |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           

---

18

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General Investment Portfolio by Security Type  as of December 31, 2006

|Investment Category                                                                   |                                    | Amortized Cost |           | Gross Unrealized Gains |   | Gross Unrealized Losses |         | Fair Value
|------------------------------------------------------------------------------------- | ---------------------------------- | -------------- | --------- | ---------------------- | - | ----------------------- | ------- | ----------
|
|U.S. Treasury securities and obligations of U.S. government corporations and agencies |                                    | $              | 150,302   |                        | $ | 2,131                   |         | $         
|Obligations of states and political subdivisions                                      |                                    |                | 3,663,821 |                        |   | 171,564                 |         |           
|Mortgage-backed securities                                                            |                                    |                | 247,690   |                        |   | 989                     |         |           
|Corporate securities                                                                  |                                    |                | 208,587   |                        |   | 1,519                   |         |           
|Foreign securities(1)                                                                 |                                    |                | 213,065   |                        |   | 8,508                   |         |           
|Asset-backed securities                                                               |                                    |                | 22,433    |                        |   | 141                     |         |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           
|                                                                                      | Total bonds                        |                |           | 4,505,898              |   |                         | 184,852 |           
|Short-term investments                                                                |                                    |                | 85,980    |                        |   | 600                     |         |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           
|                                                                                      | Total fixed-income securities      |                |           | 4,591,878              |   |                         | 185,452 |           
|Equity securities                                                                     |                                    |                | 54,291    |                        |   | 34                      |         |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           
|                                                                                      | Total General Investment Portfolio |                | $         | 4,646,169              |   | $                       | 185,486 |           
|                                                                                      |                                    |                |           |                        |   |                         |         |           

---

The
following table shows the gross unrealized losses and fair value of bonds in the General Investment Portfolio, aggregated by investment category and length of time that individual
securities have been in a continuous unrealized loss position:

Aging of Unrealized Losses of Bonds in General Investment Portfolio  as of December 31, 2007

|                                                                                      |       | Less than 6 Months |        | More than 6 Months but Less than 12 Months |   | 12 Months or More |        | Total |        
|------------------------------------------------------------------------------------- | ----- | ------------------ | ------ | ------------------------------------------ | - | ----------------- | ------ | ----- | -------
|
|
|U.S. Treasury securities and obligations of U.S. government corporations and agencies |       | $                  | 17,026 |                                            | $ | (17               | )      | $     |       
|Obligations of U.S. states and political subdivisions                                 |       |                    | 86,535 |                                            |   | (1,247            | )      |       | 322,828
|Mortgage-backed securities                                                            |       |                    | 220    |                                            |   | (0                | )      |       | 152    
|Corporate securities                                                                  |       |                    | 4,505  |                                            |   | (22               | )      |       | 11,864 
|Foreign securities                                                                    |       |                    | 37,551 |                                            |   | (285              | )      |       |       
|Asset-backed securities                                                               |       |                    |       |                                            |   |                  |        |       |       
|                                                                                      |       |                    |        |                                            |   |                   |        |       |        
|                                                                                      | Total |                    | $      | 145,837                                    |   | $                 | (1,571 | )     | $      
|                                                                                      |       |                    |        |                                            |   |                   |        |       |        

19

---



Aging of Unrealized Losses of Bonds in General Investment Portfolio  as of December 31, 2006

|                                                                                      |       | Less than 6 Months |        | More than 6 Months but Less than 12 Months |   | 12 Months or More |        | Total |      
|------------------------------------------------------------------------------------- | ----- | ------------------ | ------ | ------------------------------------------ | - | ----------------- | ------ | ----- | -----
|
|
|U.S. Treasury securities and obligations of U.S. government corporations and agencies |       | $                  | 64,673 |                                            | $ | (450              | )      | $     | 4,631
|Obligations of U.S. states and political subdivisions                                 |       |                    | 94,733 |                                            |   | (194              | )      |       | 5,244
|Mortgage-backed securities                                                            |       |                    | 32,824 |                                            |   | (118              | )      |       | 7,592
|Corporate securities                                                                  |       |                    | 37,362 |                                            |   | (168              | )      |       | 7,414
|Foreign securities                                                                    |       |                    | 23,212 |                                            |   | (103              | )      |       |     
|Asset-backed securities                                                               |       |                    | 1,996  |                                            |   | (4                | )      |       | 1,013
|                                                                                      |       |                    |        |                                            |   |                   |        |       |      
|                                                                                      | Total |                    | $      | 254,800                                    |   | $                 | (1,037 | )     | $    
|                                                                                      |       |                    |        |                                            |   |                   |        |       |      

At
December 31, 2007 there were 350 investments in fixed-income bonds for which amortized cost exceeded fair value; the aggregate amount of the excess over fair value was
$9.0 million, or 1.4%. Of the 180 investments in an unrealized loss position for 12 months or more, at December 31, 2007, the largest loss on an individual investment was
$0.3 million, or 4.5% of its amortized cost. Of the 118 investments in an unrealized loss position for more than six months but less than 12 months, at December 31, 2007, the
largest loss on an individual investment was $0.5 million, or 6.9% of its amortized cost. Of the 52 securities in an unrealized loss position less than six months, at December 31, 2007,
the largest loss on an individual investment was $0.2 million, or 7.7% of its amortized cost. At December 31, 2006, there were 438 such investments, for which the aggregate amount of the
excess over fair value was $9.6 million, or 1.5%.

Management
has determined that the unrealized losses on fixed-income securities at December 31, 2007 are primarily attributable to the current interest rate environment and has
concluded that these unrealized losses are temporary in nature on the basis of (a) that there were no principal and interest payment defaults on these securities; (b) analysis of the
creditworthiness of the issuer; and (c) FSA's ability and current intent to hold these securities until a recovery in fair value or maturity. As of December 31, 2007 and 2006, 100% of
the securities that have been in a gross unrealized loss position were rated investment grade.

The
amortized cost and fair value of fixed-income securities in the General Investment Portfolio as of December 31, 2007 and 2006, by contractual maturity are shown below. Actual
maturities could differ from contractual maturities because borrowers have the right to call or prepay certain obligations with or without call or prepayment penalties.

20

---



Distribution of Fixed-Income Securities in General Investment Portfolio  by Contractual Maturity

|                                       |                                                               | As of December 31,
|-------------------------------------- | ------------------------------------------------------------- | ------------------
|
|
|
|Due in one year or less                |                                                               | $                 
|Due after one year through five years  |                                                               |                   
|Due after five years through ten years |                                                               |                   
|Due after ten years                    |                                                               |                   
|Mortgage-backed securities(1)          |                                                               |                   
|Asset-backed securities(2)             |                                                               |                   
|                                       |                                                               |                   
|                                       | Total fixed-income securities in General Investment Portfolio |                   
|                                       |                                                               |                   

---

Proceeds
from sales of bonds from the General Investment Portfolio during 2007, 2006 and 2005 were $3,521.9 million, $1,581.7 million and
$1,717.0 million, respectively. Proceeds from maturities of bonds for the investment portfolio during 2007, 2006 and 2005 were $184.5 million, $160.8 million and
$129.7 million, respectively. Gross gains of $5.2 million, $0.8 million and $10.8 million and gross losses of $7.3 million, $5.7 million and
$5.6 million were realized on sales in 2007, 2006 and 2005, respectively.

Bonds
and short-term investments at an amortized cost of $10.1 million and cash of $1.8 million, respectively, at December 31, 2007 and bonds and
short-term investments at an amortized cost of $12.2 million at December 31, 2006, were on deposit with state regulatory authorities as required by insurance regulations.



The Company's investment in preferred shares of XL Financial Assurance Ltd ("XLFA"), a financial guaranty insurance company and subsidiary of Security Capital
Assurance Ltd. ("SCA"), is redeemable starting November 3, 2008.

The
Company's carrying value for XLFA preferred shares represents redemption value. In March 2006, the XLFA Board of Directors approved a by-law amendment changing the coupon
on XLFA's preferred shares from a participating dividend based on an internal rate of return up to 19% to a fixed rate dividend of 8.25% per annum, effective January 1, 2006. In March 2007,
there was a return of capital of $15.0 million.

Amounts
recorded by the Company in connection with XLFA are as follows:

Summary of XLFA Investment

As of and for the Year Ended
December 31,2007

2006

2005(in thousands)Equity securities

$
39,000

$
54,016

$
54,300Dividends earned from XLFA


3,465


4,518


8,926


21

---





Based on information available as of December 31, 2007, management concluded that the $39 million carrying value of its investment in XLFA was recoverable. Subsequent to
year-end, XLFA was downgraded by S&P from Triple-A to Single-A with a negative watch and by Moody's from Aaa to A3 with a review for downgrade. Management is
closely monitoring developments and will continue to evaluate the carrying value and recoverability of its investment in XLFA preferred shares.

4.    VIE SEGMENT INVESTMENT PORTFOLIO

All the investments supporting VIE liabilities are insured by the Company. The credit quality of the available-for-sale securities in the
VIE Segment Investment Portfolio, without the benefit of the Company's insurance, was as follows:

Available-for-Sale Securities in the VIE Segment Investment Portfolio by Rating  as of December 31, 2007

Rating(1)

Percent of BondsAAA

2.2
%A

79.8BBB

18.0Total

100.0
%


---

The
amortized cost and fair value of available-for-sale bonds and short-term investments in the VIE Segment Investment Portfolio were as follows:

Available-for-Sale Securities in the VIE Segment Investment Portfolio by Security Type  as of December 31, 2007

Investment Category

Amortized
Cost

Gross
Unrealized
Gains

Fair Value(in thousands)Obligations of U.S. states and political subdivisions

$
15,443

$
729

$
16,172Foreign securities


9,177


430


9,607Asset-backed securities(1)


1,094,739


19,050


1,113,789Total available-for-sale bonds


1,119,359


20,209


1,139,568Available-for-sale GICs


621,054


18,896


639,950Short-term investments


8,618





8,618Total available-for-sale securities

$
1,749,031

$
39,105

$
1,788,136


22

---



Available-for-Sale Securities in the VIE Segment Investment Portfolio by Security Type  As of December 31, 2006

Investment Category

Amortized
Cost

Gross
Unrealized
Gains

Fair Value(in thousands)Obligations of U.S. states and political subdivisions

$
15,750

$


$
15,750Foreign securities


9,086


557


9,643Asset-backed securities(1)


1,102,862





1,102,862Total available-for-sale bonds


1,127,698


557


1,128,255Available-for-sale GICs


962,815





962,815Short-term investments


19,478





19,478Total available-for-sale securities

$
2,109,991

$
557

$
2,110,548


---

The
Company periodically monitors its investment portfolio for individual investments in an unrealized loss position in order to assess whether that investment is
considered other-than-temporarily impaired. In each case, the Company determines the nature and cause of the decline and whether the Company maintains the ability and intent to
hold the security until the unrealized loss may reverse or until maturity. At December 31, 2007 and 2006, there were no securities in an unrealized loss position.

The
amortized cost and fair value of available-for-sale bonds and short-term investments in the VIE Segment Investment Portfolio by contractual
maturity are shown below. Actual maturities could differ from contractual maturities because borrowers have the right to call or prepay certain obligations with or without call or prepayment
penalties.

Distribution of Available-for-Sale Bonds and Short-Term Investments  in the VIE Segment Investment Portfolio by Contractual Maturity

As of December 31,2007

2006Amortized Cost

Fair Value

Amortized Cost

Fair Value(in thousands)Due in one year or less

$
8,618

$
8,618

$
19,478

$
19,478Due after one year through five years


9,177


9,607


9,086


9,643Due after five years through ten years











Due after ten years


15,443


16,172


15,750


15,750Asset-backed securities(1)


1,094,739


1,113,789


1,102,862


1,102,862Total available-for-sale bonds and short-term investments

$
1,127,977

$
1,148,186

$
1,147,176

$
1,147,733


---

23

---





Proceeds from maturities of bonds for the VIE Segment Investment Portfolio during 2007, 2006 and 2005 were $265.4 million, $103.7 million and $292.2 million,
respectively.

The
amortized cost and fair value of available-for-sale GICs held within the VIE Segment Investment Portfolio were as follows:

Distribution of Available-for-sale GICs  in the VIE Segment Investment Portfolio by Contractual Maturity

|                                       |                               | As of December 31,
|-------------------------------------- | ----------------------------- | ------------------
|
|
|
|Due in one year or less                |                               | $                 
|Due after one year through five years  |                               |                   
|Due after five years through ten years |                               |                   
|Due after ten years                    |                               |                   
|                                       |                               |                   
|                                       | Total available-for-sale GICs |                   
|                                       |                               |                   

As
of December 31, 2007, there were two held-to-maturity GICs in the VIE Segment Investment Portfolio with carrying value of $277.5 million with
maturity dates of October 3, 2012 and November 12, 2013. As of December 31, 2006, there were three held to maturity investments in the VIE Segment Investment Portfolio with
carrying value of $418.7 million.

The
Company pledges and receives collateral related to certain business lines or transactions. The following is a description of those arrangements by transaction type.



Substantially all the assets of FSA Global are pledged to secure the repayment, on a pro rata basis, of FSA Global's notes and its other obligations. FSA Global,
under the terms of its derivative agreements, is not required to pledge collateral. Its counterparties, however, may be required to pledge collateral or transfer assets to FSA Global.

As
of December 31, 2007, the Company had received $48.5 million of collateral from counterparties to reduce its net derivative exposure to such parties.

5.    ASSETS ACQUIRED IN REFINANCING TRANSACTIONS

The Company generally has rights under its financial guaranty insurance policies and indentures that allow it to accelerate the insured notes and pay claims under
its insurance policies upon the occurrence of predefined events of default. To mitigate future losses, the Company may elect to purchase the outstanding insured obligation or its underlying
collateral. Generally, refinancing vehicles reimburse FSA in whole for its claims payments in exchange for assignments of certain of FSA's rights against the trusts. The refinancing vehicles obtain
their funds from the proceeds of GICs issued in the ordinary course of business by the GIC Affiliates. The refinancing vehicles are consolidated into the Company's financial statements.

24

---



The
following table presents the balance sheet components of the assets acquired in refinancing transactions:

Summary of Assets Acquired in Refinanced Transactions

As of December 31,2007

2006(in thousands)Bonds

$
5,949

$
41,051Securitized loans


177,810


241,785Other assets


45,505


55,036Total

$
229,264

$
337,872


The
accretable yield on the securitized loans at December 31, 2007, 2006 and 2005 was $148.8 million, $157.3 million and $149.7 million, respectively. The
cash flows on the securitized loans, net of reinsurance, are monitored and the effective yield modified prospectively to reflect any change in the cash flow estimate. Since the notes represent 100% of
the debt capitalization of the trusts and since FSA maintains all the risk of further asset decline (except as provided by reinsurance) and maintains control over key decisions regarding the trusts
(such as removal of the servicer, sale of the assets and liquidation of the entity), the trusts were consolidated with the Company.

The
refinanced asset portfolio had seven thousand dollars of gross unrealized losses as of December 31, 2007 and no gross unrealized losses as of December 31, 2006.

The
fixed-income assets within the refinanced asset portfolio all have contractual maturities of less than five years. Actual maturities could differ from contractual maturities because
borrowers have the right to call or prepay certain obligations with or without call or prepayment penalties.

In
the portfolio of assets acquired in refinancing transactions at December 31, 2007 and 2006, there were no securities in an unrealized loss position for a continuous
12-month period or longer. In 2007, the Company determined that there were no securities considered other-than-temporarily impaired. In 2006, the Company determined
that there were three securities considered other-than-temporarily impaired, and a $2.5 million impairment charge pre-tax was recorded in the consolidated statements of
operations and comprehensive income.

6.    DEFERRED ACQUISITION COSTS

Acquisition costs deferred and the related amortization charged to expense are as follows:

Rollforward of Deferred Acquisition Costs

Year Ended December 31,2007

2006

2005(in thousands)Balance, beginning of period

$
340,673

$
335,129

$
308,015Costs deferred during the period:Ceded and assumed commissions


(83,252
)

(79,713
)

(63,174
)Premium taxes


13,182


14,032


20,894Compensation and other acquisition costs


140,709


134,237


137,734Total


70,639


68,556


95,454Costs amortized during the period


(63,442
)

(63,012
)

(68,340
)Balance, end of period

$
347,870

$
340,673

$
335,129


25

---





7.    LOSSES AND LOSS ADJUSTMENT EXPENSE RESERVE

Activity in the liability for losses and loss adjustment expense reserve, which consists of the case and non-specific reserves, is summarized as
follows:

Rollforward of Loss and Loss Adjustment Expense Reserves

Year Ended December 31,2007

2006

2005(in thousands)Case Reserve Activity:Gross balance at January 1

$
90,306

$
89,984

$
80,610Less reinsurance recoverable


37,342


36,339


35,419Net balance at January 1


52,964


53,645


45,191Transfer from non-specific reserve


69,384


1,221


10,469Paid (net of recoveries) related to:Current year


(8,248
)




Prior year


(16,021
)

(1,902
)

(2,015
)Total paid


(24,269
)

(1,902
)

(2,015
)Net balance at December 31


98,079


52,964


53,645Plus reinsurance recoverable


76,478


37,342


36,339Gross balance at December 31


174,557


90,306


89,984Non-Specific Reserve Activity:Balance at January 1


137,816


115,734


99,331Provision for lossesCurrent year


25,797


17,837


20,407Prior year


5,770


5,466


4,958Transfers to case reserves


(69,384
)

(1,221
)

(10,469
)Restructured transactions








1,507Balance at December 31


99,999


137,816


115,734Total case and non-specific reserves

$
274,556

$
228,122

$
205,718


Case Reserve Summary  as of December 31, 2007

Gross
Par

Net Par

Gross Case
Reserve(1)

Net Case
Reserve(1)

Number
of Risks(dollars in thousands)Asset-backedHELOCs

$
1,803,340

$
1,442,657

$
69,633

$
56,913

5Asset-backedother


47,185


40,554


8,289


6,267

4Public Finance


1,164,248


560,610


96,635


34,899

4Total

$
3,014,773

$
2,043,821

$
174,557

$
98,079

13


---

26

---



Case Reserve Summary  as of December 31, 2006

Gross Par

Net Par

Gross Case
Reserve

Net Case
Reserve

Number
of Risks(dollars in thousands)Asset-backed(1)

$
391,243

$
358,268

$
42,805

$
34,617

9Public Finance


92,160


41,373


47,501


18,347

2Total

$
483,403

$
399,641

$
90,306

$
52,964

11


---

The
table below presents certain assumptions inherent in the calculations of the case and non-specific reserves:

Assumptions for Case and Non-Specific Reserves

As of December 31,2007

2006Case reserve discount rate

3.13%5.90%

3.13%5.90%Non-specific reserve discount rate

1.20%7.95%

1.20%7.95%Current experience factor

2.0

1.6


During
2007, the Company charged $31.6 million to loss expense, consisting of $25.8 million for originations of new business and $5.8 million related
to accretion on the reserve for in-force business. Net case reserves increased $45.1 million in 2007 due primarily to the establishment of new case reserves for HELOC and public
finance transactions, offset in part by the settlement of several pooled corporate CBO transactions, which were accrued for in prior year. HELOC transactions in the asset-backed portfolio have
experienced some deterioration. Credit support for the HELOC transactions is primarily provided by excess spread. Generally, once the overcollateralization is exhausted, the Company pays a claim if
losses in a period exceed excess spread for the period, and to the extent excess spread exceeds losses, the Company is reimbursed for any losses paid to date. As of December 31, 2007, an
estimated ultimate loss (discounted to present value) of $65.0 million on HELOC transactions had been transferred from the non-specific reserve to case reserves, which increased the
experience factor. Such estimate of loss is net of reinsurance and anticipated recoveries and is re-evaluated on a quarterly basis. In the second half of 2007, the Company paid a total of
$47.6 million in HELOC claims, of which $39.5 million represented what the Company deems to be recoverable and is recorded as salvage and subrogation recoverable as of
December 31, 2007.

During
2006, the Company charged $23.3 million to loss expense, consisting of $17.8 million for originations of new business and $5.5 million related to accretion on
the reserve for in-force business. Net case reserves decreased $0.7 million due primarily to loss payments and some improvement in CBO transactions, offset in part by the
establishment of a new case reserve for a municipal health care transaction.

During
2005, the Company charged $25.4 million to loss expense, consisting of $20.4 million for originations of new business and $5.0 million related to accretion on
the reserve for in-force business. The non-specific reserve increased $16.4 million in 2005, due primarily to loss expense of $25.4 million, partially offset by
transfers from the non-specific reserve to case reserves of $10.5 million. Net reserves increased $8.5 million due primarily to deterioration of specific CBO risks.

Since
case and non-specific reserves are based on estimates, there can be no assurance that the ultimate liability will not differ from such estimates. The Company will
continue, on an ongoing basis, to monitor these reserves and may periodically adjust such reserves, upward or downward, based on the Company's actual loss experience, its mix of business and economic
conditions.

27

---



The
Company also assigns each credit to one of five designated surveillance categories to facilitate appropriate allocation of resources to loss mitigation efforts and to communicate
efficiently the relative credit condition of each risk exposure, as well as the overall health of the insured portfolio. Such categorization is determined in part by the risk of loss and in part by
the level of routine involvement
required and monitoring cycle deemed appropriate. The surveillance categories are organized as follows:



The
table below presents the gross and net par outstanding and the gross and net reserves for risks classified as described above:

Par Outstanding

|                               |       | As of December 31,
|------------------------------ | ----- | ------------------
|
|
|
|Categories I and II            |       | $                 
|Category III                   |       |                   
|Category IV                    |       |                   
|Category V no claim payments   |       |                   
|Category V with claim payments |       |                   
|                               |       |                   
|                               | Total |                   
|                               |       |                   

Case Reserves

|                               |       | As of December 31,
|------------------------------ | ----- | ------------------
|
|
|
|Category V no claim payments   |       | $                 
|Category V with claim payments |       |                   
|                               |       |                   
|                               | Total |                   
|                               |       |                   

28

---





8.    VIE SEGMENT DEBT

At December 31, 2007, the interest rates on VIE segment debt were between 1.98% and 6.22% per annum. Payments due under the VIE segment debt including
$996.7 million of future interest accretion on zero coupon obligations for 2008 and each of the next four years ending December 31 and thereafter, are as follows:

Maturity Schedule of VIE Segment Debt

Year

Principal Amount(in thousands)2008

$
172,3272009


370,1852010


94,4282011


16,4232012


143,681Thereafter


2,719,587Total

$
3,516,631


9.    OUTSTANDING EXPOSURE

The Company's policies insure the scheduled payments of principal and interest on public finance and asset-backed (including CDS insured by the Company)
obligations. The gross amount of financial guarantees in force (principal and interest) was $857.9 billion at December 31, 2007 and $764.8 billion at December 31, 2006. The
net amount of financial guarantees in force was $622.9 billion at December 31, 2007 and $552.3 billion at December 31, 2006. As of December 31, 2007, net par
outstanding included $12.5 billion related to policies previously insured by other financial guarantors. Beginning in the fourth quarter of 2007, such amounts were classified based on the
underlying risks insured. Prior year amounts were reclassified to conform to the current year presentation in the tables below.

Actual
maturities could differ from contractual maturities because borrowers have the right to call or prepay certain obligations with or without call or prepayment penalties. The
expected maturities for asset-backed obligations are generally expected to be considerably shorter than the contractual maturities for such obligations. For asset-backed obligations, the full par
outstanding for each insured risk is shown in the maturity category that corresponds to the final legal maturity of such risk:

Contractual Terms to Maturity of Net Par Outstanding of Insured Obligations(1)

As of December 31,2007

2006Terms to MaturityPublic Finance

Asset-Backed

Public Finance

Asset-Backed(in millions)0 to 5 years

$
54,037

$
42,714

$
48,619

$
41,2365 to 10 years


58,719


34,858


54,312


30,02710 to 15 years


53,738


19,332


47,996


12,17015 to 20 years


44,446


2,644


41,489


1,86020 years and above


71,767


44,087


60,764


37,645Total

$
282,707

$
143,635

$
253,180

$
122,938


---

29

---



Contractual Terms to Maturity of Ceded Par Outstanding of Insured Obligations

As of December 31,20062007Terms to Maturity

Public FinancePublic Finance

Asset-Backed

Asset-Backed(in millions)0 to 5 years

$
16,500

$
7,211

$
14,393

$
9,0725 to 10 years


17,895


7,808


16,878


6,24310 to 15 years


19,617


1,664


17,473


1,53815 to 20 years


19,143


1,857


17,507


1,59820 years and above


42,635


3,420


33,701


3,427Total

$
115,790

$
21,960

$
99,952

$
21,878


The
gross, ceded and net par outstanding of insured obligations in the public finance insured portfolio includes the following amounts by type of issue:

Summary of Public Finance Insured Portfolio(1)

|                                 |                               | As of December 31,
|-------------------------------- | ----------------------------- | ------------------
|
|
|
|
|Domestic obligations             |                               |                   
|                                 | General obligation            |                   
|                                 | Tax-supported                 |                   
|                                 | Municipal utility revenue     |                   
|                                 | Health care revenue           |                   
|                                 | Housing revenue               |                   
|                                 | Transportation revenue        |                   
|                                 | Education/University          |                   
|                                 | Other domestic public finance |                   
|                                 |                               |                   
|                                 |                               | Subtotal          
|International obligations        |                               |                   
|                                 |                               |                   
|Total public finance obligations |                               | $                 
|                                 |                               |                   

---

The
Company limits its exposure to losses from writing financial guarantees by underwriting investment-grade obligations, diversifying its portfolio and maintaining rigorous collateral
requirements on asset-backed obligations, as well as through reinsurance. The gross, ceded and net par outstanding

30

---



of
insured obligations in the asset-backed insured portfolio includes the following amounts by type of collateral:

Summary of Asset-Backed Insured Portfolio

|                               |                             | As of December 31,
|------------------------------ | --------------------------- | ------------------
|
|
|
|
|Domestic obligations           |                             |                   
|                               | Residential mortgages       |                   
|                               | Consumer receivables(2)     |                   
|                               | Pooled corporate            |                   
|                               | Financial products(1)       |                   
|                               | Other domestic asset-backed |                   
|                               |                             |                   
|                               |                             | Subtotal          
|International obligations      |                             |                   
|                               |                             |                   
|Total asset-backed obligations |                             | $                 
|                               |                             |                   

---

In
its asset-backed business, the Company considers geographic concentration as a factor in underwriting insurance covering securitizations of pools of such assets as residential
mortgages or consumer receivables. However, after the initial issuance of an insurance policy relating to such securitizations, the geographic concentration of the underlying assets may not remain
fixed over the life of the policy. In addition, in writing insurance for other types of asset-backed obligations, such as securities primarily backed by government or corporate debt, geographic
concentration is not deemed by the Company to be significant, given other more relevant measures of diversification, such as issuer or industry diversification.

The
Company seeks to maintain a diversified portfolio of insured public finance obligations designed to spread its risk across a number of geographic areas. The following table sets
forth those

31

---



states
in which municipalities located therein issued an aggregate of 2% or more of the Company's net par amount outstanding of insured public finance securities:

Public Finance Insured Portfolio by Location of Exposure  as of December 31, 2007

|                          |                          | Number of
Risks |          | Net Par
Amount
Outstanding(1) |        | Percent of Total
Net Par Amount
Outstanding |         | Ceded Par
Amount
Outstanding
|------------------------- | ------------------------ | --------------- | -------- | ----------------------------- | ------ | ------------------------------------------- | ------- | ----------------------------
|
|Domestic obligations      |                          |                 |          |                               |        |                                             |         |                             
|                          | California               |                 | 1,075    |                               | $      | 35,508                                      |         | 12.6                        
|                          | New York                 |                 | 735      |                               |        | 21,610                                      |         | 7.6                         
|                          | Pennsylvania             |                 | 842      |                               |        | 18,314                                      |         | 6.5                         
|                          | Texas                    |                 | 792      |                               |        | 18,122                                      |         | 6.4                         
|                          | Florida                  |                 | 272      |                               |        | 13,675                                      |         | 4.8                         
|                          | Illinois                 |                 | 711      |                               |        | 13,612                                      |         | 4.8                         
|                          | New Jersey               |                 | 634      |                               |        | 11,432                                      |         | 4.0                         
|                          | Michigan                 |                 | 585      |                               |        | 11,418                                      |         | 4.0                         
|                          | Washington               |                 | 344      |                               |        | 9,796                                       |         | 3.5                         
|                          | Massachusetts            |                 | 227      |                               |        | 7,324                                       |         | 2.6                         
|                          | Ohio                     |                 | 418      |                               |        | 6,662                                       |         | 2.4                         
|                          | Georgia                  |                 | 128      |                               |        | 6,653                                       |         | 2.4                         
|                          | Indiana                  |                 | 290      |                               |        | 5,962                                       |         | 2.1                         
|                          | All other U.S. locations |                 | 3,379    |                               |        | 75,320                                      |         | 26.6                        
|                          |                          |                 |          |                               |        |                                             |         |                             
|                          |                          |                 | Subtotal |                               | 10,432 |                                             |         | 255,408                     
|International obligations |                          | 174             |          |                               | 27,299 |                                             | 9.7     |                             
|                          |                          |                 |          |                               |        |                                             |         |                             
|                          |                          | Total           |          | 10,606                        |        | $                                           | 282,707 |                             
|                          |                          |                 |          |                               |        |                                             |         |                             

---

32

---





10.    FEDERAL INCOME TAXES

The Company adopted FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxesan Interpretation of FASB Statement No. 109"
("FIN 48") as of January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes in an entity's financial statements pursuant to FASB Statement No. 109,
"Accounting for Income Taxes" and provides thresholds for recognizing and measuring benefits of a tax position taken or expected to be taken in a tax return. Consequently, the Company recognizes tax
benefits only on tax positions where it is "more likely than not" to prevail. There was no effect on the Company's statements of operations and comprehensive income from adopting FIN 48.

Dexia
Holdings, the Parent and the Company and its Subsidiaries, except FSA International, file a consolidated federal income tax return. Prior to 2006, a tax-sharing
agreement between them provided that each member's tax benefit or expense is calculated on a separate return basis and that any credits or losses available to the Parent or Dexia Holdings be allocated
among the members based on each member's taxable income. Effective for the tax year beginning January 1, 2006, the tax sharing agreement was amended so that the Parent or Dexia Holdings'
credits are no longer available to the members. At December 31, 2006, the Company and its Subsidiaries received benefits from utilizing the Parent's credits and losses of $1.1 million.
This amount was recorded as capital a contribution and a reduction in amount payable to the Parent in the financial statements.

In
addition, the Company and its Subsidiaries or branches file separate tax returns in various states and local and foreign jurisdictions, including the United Kingdom, Japan and
Australia. With limited exceptions, the Company and its Subsidiaries are no longer subject to income tax examinations for its 2003 and prior tax years for U.S. federal, state and local, or
non-U.S. jurisdictions.

The
cumulative balance sheet effects of deferred federal tax consequences are as follows:

Components of Deferred Tax Assets and Liabilities

December 31,2007

2006(in thousands)Deferred acquisition costs

$
(109,237
)
$
(106,316
)Deferred premium revenue adjustments


(67,562
)

(57,992
)Unrealized capital gains


(58,530
)

(63,063
)Contingency reserves


(162,686
)

(135,992
)Undistributed earnings


(5,340
)

(18,297
)Derivative fair-value adjustments





(125,361
)Other


(3,303
)

(4,135
)Total deferred federal income tax liabilities


(406,658
)

(511,156
)Loss and loss adjustment expense reserves


37,650


49,079Deferred compensation


70,709


69,203Derivative fair-value adjustments


109,817


Foreign currency transaction loss


72,960


59,098Minority interest


2,257


39,265Other


3,109


1,606Total deferred federal income tax assets


296,502


218,251Net deferred federal income tax asset (liability)

$
(110,156
)
$
(292,905
)


Management
believes it is more likely than not that the tax benefit of the deferred tax assets will be realized. Accordingly, no valuation allowance was necessary at
December 31, 2007 or 2006.

In
2007, the Company recognized a tax benefit of $3.0 million, which includes the benefit of $0.5 million of interest from the expiration of the statute of limitations for
the 2003 tax year.

The
2007, 2006 and 2005 effective tax rates differ from the statutory rate of 35% primarily due to tax-exempt interest income. The current year effective tax rate reflects
the higher ratio of tax-exempt interest income to year-to-date pre-tax losses due to significant fair value adjustments discussed in

33

---



Note 13.
A reconciliation of the effective tax rate (before minority interest) with the federal statutory rate follows:

Effective Tax Rate Reconciliation

Year Ended December 31,2007

2006

2005Tax provision (benefit) at statutory rate

(35.0
)%
35.0
%
35.0
%Tax-exempt investments

(34.3
)
(11.6
)
(9.0
)Income of foreign subsidiary





2.5Minority interest

6.2

3.6

(0.4
)Other

(1.1
)
0.1

0.1Provision (benefit) for income taxes

(64.2
)%
27.1
%
28.2
%


A
reconciliation of the beginning to ending unrecognized tax benefits follows:

Reconciliation of Unrecognized Tax Benefit

(in thousands)Balance at January 1, 2007

$
20,208Additions based on tax positions related to the current year


Additions based on tax positions related to prior years


Reductions for tax positions of prior years


Amount of decrease relating to settlements with taxing authorities


Reductions as a result of a lapse in the statue of limitations


(2,528
)Balance at December 31, 2007

$
17,680


The
total amount of unrecognized benefits at January 1, 2007 and December 31, 2007 were $20.2 million and $17.7 million, respectively. If
recognized, the entire amount would favorably affect the effective tax rate.

Within
the next 12 months, it is reasonably possible that unrecognized tax benefits for positions taken on previously filed tax returns will become recognized as a result of the
expiration of statute of limitations for the 2004 tax year, which absent any extension, will close in September 2008.

The
Company recognizes interest and penalties related to unrecognized tax benefits as part of income tax expense. For 2007, the Company recognized an expense of approximately
$0.4 million in interest and penalties. The Company had approximately $1.5 million of accrued interest and penalties at December 31, 2007.

11.    NOTES PAYABLE TO GIC AFFILIATES

The Company has $210.1 million of notes payable to GIC Affiliates at December 31, 2007 and $321.4 million at December 31, 2006. For
the years ended December 31, 2007, 2006 and 2005 the Company recorded $16.4 million, $20.1 million and $28.2 million, respectively, of interest expense on the notes
payable.

Principal
payments due under these notes for each of the next five years ending December 31 and thereafter are as follows:

Maturity Schedule of Notes Payable

Expected Withdrawal Date

Principal Amount(in thousands)2008

$
12,2142009


8,7382010


20,9462011


20,9622012


37,794Thereafter


109,489Total

$
210,143


34

---





12.    EMPLOYEE BENEFIT PLANS



The Company maintains both qualified and non-qualified, non-contributory defined contribution pension plans for the benefit of eligible
employees. Contributions are based on a fixed percentage of employee compensation. Pension expense, which is funded annually, amounted to $6.8 million, $6.6 million and
$6.1 million for the years ended December 31, 2007, 2006 and 2005, respectively.

The
Company has an employee retirement savings plan for the benefit of eligible employees. The plan permits employees to contribute a percentage of their salaries up to limits prescribed
by Internal Revenue Code Section 401(k). Contributions by the Company are discretionary, and none have been made.



Through 2004, performance shares were awarded under the Parent's 1993 Equity Participation Plan (the "1993 Equity Plan"). The 1993 Equity Plan authorized the
discretionary grant of performance shares by the Human Resources Committee to key employees. The amount earned for each performance share depends on the attainment of certain growth rates of adjusted
book value and book value per outstanding share over specified three-year performance cycles.

Performance
shares issued prior to January 1, 2005 permitted the participant to elect, at the time of award, growth rates including or excluding realized and unrealized gains and
losses on the Parent's consolidated investment portfolios. Performance shares issued after January 1, 2005 do not offer the option to include the impact of unrealized gains and losses on the
investment portfolio. No payout occurs if the compound annual growth rate of the Parent's consolidated adjusted book value and book value per outstanding share over specified three-year
performance cycles is less than 7%, and a 200% payout occurs if the compound annual growth rate is 19% or greater. Payout percentages are interpolated for compound annual growth rates between 7% and
19%.

In
2004, the Company adopted the 2004 Equity Participation Plan (the "2004 Equity Plan"), which continues the incentive compensation program formerly provided under the Company's 1993
Equity Participation Plan. The 2004 Equity Plan provides for performance share units comprised 90% of performance shares (which provide for payment based upon the Parent's consolidated performance
over specified three-year performance cycles as described above) and 10% of shares of Dexia restricted stock. Performance shares have generally been awarded on the basis of two sequential
three-year performance cycles, with 1/3 of each award allocated to the first cycle which commences on date of grant and 2/3 of each award allocated to the
second cycle which commences one year after date of grant. The total number of performance shares authorized under this plan was 3.3 million. At December 31, 2007 2.4 million
performance shares remained available for distribution.

The
Dexia restricted stock component is a fixed plan, where the Company purchases Dexia shares and establishes a prepaid expense for the amount paid, which is amortized over
2.5-year and 3.5-year vesting periods. In 2007 and 2006, FSA purchased shares to economically defease its liability for $4.7 million and $4.6 million,
respectively. These amounts are being amortized to expense over the employees' vesting periods. For the year ended December 31, 2007, 2006 and 2005, the after-tax amounts amortized
into income were $2.5 million, $1.7 million and $0.8 million, respectively.

35

---



Performance
shares granted under the 1993 Equity Plan and 2004 Equity Plan are as follows:

Performance Shares

|     |  | Outstanding
at
Beginning of
Year |  | Granted
During
the Year |  | Paid out
During
the Year |  | Forfeited
During the
Year |  | Outstanding
at
End of Year |  | Price per
Share
at Grant
Date |        | Paid During
the Year
|---- |  | -------------------------------- |  | ----------------------- |  | ------------------------ |  | ------------------------- |  | -------------------------- |  | ----------------------------- | ------ | --------------------
|
|2005 |  | 1,217,761                        |  | 316,638                 |  | 313,987                  |  | 24,434                    |  | 1,195,978                  |  | $                             | 131.30 |                     
|2006 |  | 1,195,978                        |  | 370,441                 |  | 340,429                  |  | 15,696                    |  | 1,210,294                  |  |                               | 139.22 |                     
|2007 |  | 1,210,294                        |  | 306,368                 |  | 364,510                  |  | 37,550                    |  | 1,114,602                  |  |                               | 145.61 |                     

At
December 31, 2007, 349,533 outstanding performance shares were fully vested, with a value of $46.6 million. These amounts were paid in the first quarter of 2008. At
December 31, 2007, the total compensation cost related to non-vested performance shares not yet recognized was $130.2 million. This amount is expected to be recognized as an
expense over the next three years, with approximately 50% being expensed in 2008 and the remainder in 2009 and 2010.

The
estimated final cost of these performance shares is accrued over the performance period. The after-tax expense for the performance shares was $35.7 million,
$34.3 million and $32.1 million, for the years ended December 31, 2007, 2006 and 2005, respectively.

Awards
of Dexia restricted stock remain restricted for an additional six months after the year end of the vesting periods. Shares of Dexia restricted stock purchased under the 2004
Equity Plan are as follows:

Dexia Restricted Stock Shares

|     |  | Outstanding
at
Beginning of
Year |  | Purchased
During
the Year |  | Vested
During
the Year |  | Forfeited
During the
Year |  | Outstanding
at
End of Year |  | Price per
Share at
Purchase
Date
|---- |  | -------------------------------- |  | ------------------------- |  | ---------------------- |  | ------------------------- |  | -------------------------- |  | --------------------------------
|2005 |  |                                 |  | 194,202                   |  | 8,756                  |  | 5,150                     |  | 180,296                    |  | $                               
|2006 |  | 180,296                          |  | 190,572                   |  | 22,146                 |  | 4,574                     |  | 344,148                    |  |                                 
|2007 |  | 344,148                          |  | 158,096                   |  | 65,524                 |  | 17,607                    |  | 419,113                    |  |                                 

36

---



13.    DERIVATIVE INSTRUMENTS

The components of net realized and unrealized gains (losses) on derivative instruments are shown in the table below:

Summary of Net Realized and Unrealized Gains (Losses) on Derivative Instruments

|                          |                                                                      | Year Ended December 31, |         
|------------------------- | -------------------------------------------------------------------- | ----------------------- | --------
|
|
|Insured derivatives:      |                                                                      |                         |         
|                          | Insured CDS                                                          |                         | $       
|                          | Insured NIMs and interest rate swaps (1)                             |                         |         
|                          |                                                                      |                         |         
|Total insured derivatives |                                                                      |                         | (642,609
|Other derivatives         |                                                                      |                         | 419     
|VIE segment derivatives   |                                                                      |                         | 95,895  
|                          |                                                                      |                         |         
|                          | Net realized and unrealized gains (losses) on derivative instruments |                         | $       
|                          |                                                                      |                         |         

---



The Company's insured portfolio includes contracts accounted for as derivatives, namely, CDS, insured IR swaps entered into in connection with the issuance of
certain public finance obligations and insured NIM securitizations issued in connection with certain RMBS financings. The Company considers all such agreements to be a normal part of its financial
guaranty insurance business but, for accounting purposes, these contracts are deemed to be derivative instruments and therefore must be recorded at fair value, with changes in fair value recorded in
the consolidated statements of operations and comprehensive income in the line item "realized and unrealized gains (losses) on derivative instruments,". The Company receives a premium in return for
its obligation to make payment in the event of an insured loss (default or non-payment by the obligor), which is recorded in the consolidated statements of operations and comprehensive
income as earned premium. The Company recorded net earned premium under insured CDS and NIM securitizations of $102.8 million, $87.2 million and $89.2 million for the years ended
2007, 2006 and 2005, respectively. The Company's net par outstanding of $84.3 billion and $74.7 billion relating to insured CDS and NIM securitizations at December 31, 2007 and
2006, respectively, are included in the balances in Note 9.

The
fair value adjustments on insured derivatives represent hypothetical replacement value and comprise the majority of the balance in this line item, as shown in the table below. The
fair value of an insured CDS contract incorporates all the remaining future premiums to be received over the life of the insured CDS contract, discounted to present value and multiplied by the ratio
of the current replacement premium (what a buyer or seller would pay for a similar contract based on current market conditions) to the contractual premium. As the fair value of an insured CDS contract
incorporates all the remaining future premium payments to be received over the life of the insured CDS contract, the fair value of that contract will change in part solely from the passage of time as
premiums are received. Absent any claims under the Company's guaranty, any "losses" recorded in marking a guaranty to fair

37

---



value
will be reversed by an equivalent "gain" at or prior to the expiration of the guaranty, and any "gain" recorded will be reversed by an equivalent "loss" over the remaining life of the
transaction, with the cumulative changes in the fair value of the CDS summing to zero by the time of each contract's maturity. See Note 2 for a discussion of the Company's valuation
methodology.

The
tables below show the fair value at December 31, 2007 and 2006 and the changes in fair value of the Company's insured CDS portfolio for 2007, 2006 and 2005.

Fair Value of Insured CDS Portfolio

As of December 31,2007

2006(in millions)Pooled corporate CDS:Investment grade

$
(111.6
)
$
48.1High Yield


(142.5
)

9.3Total pooled corporate CDS


(254.1
)

57.4Funded CLOs and CDOs


(264.5
)

24.3Other structured obligations


(28.6
)

6.8Total

$
(547.2
)
$
88.5


Changes in Fair Value of Insured CDS Portfolio

Year Ended December 31,2007

2006

2005(in millions)Pooled corporate CDS:Investment grade

$
(159.7
)
$
21.0

$
2.4High Yield


(151.8
)

8.1


1.2Total pooled corporate CDS


(311.5
)

29.1


3.6Funded CLOs and CDOs


(288.8
)




12.1Other structured obligations


(35.4
)

1.9


(4.6
)Total

$
(635.7
)
$
31.0

$
11.1


The
negative fair-value adjustments in 2007 resulted from an unusual and severe widening of credit spreads during the year. Despite the structural protections associated with
the Company's CDS, the significant widening of credit spreads on pooled corporate CDS and funded CDOs and CLOs, as with other structured credit products, during the second half of 2007, resulted in a
decline in fair value of these contracts. Funding costs for domestic and European CLOs as well as pooled corporate CDS were at their widest levels during the fourth quarter. As a result,
Triple-A spreads to LIBOR continued to widen in the fourth quarter and resulted in the significant adverse mark reflected in the CDS fair-value results.

The
Company believes that fair value is potentially misleading unless one understands that the Company's typical insured CDS contract is different from CDS contracts entered into by
parties that are not financial guarantors in that:



38

---









Insured
derivatives in the asset-backed portfolio represent 67% of total asset-backed par outstanding. The tables below summarize the credit rating, net par outstanding and remaining
average lives for the primary components of the Company's insured CDS portfolio. While most of the Company's insured CDS are pooled corporate exposures, there are also some insured CDS in other
sectors, including $76.2 million in U.S. RMBS categories.

Selected Information for Insured CDS Portfolio  as of December 31, 2007

|                                |                  | Credit Ratings |    | Other
Investment
Grades (2) |     | Net Par
Outstanding |   | Remaining
Average Life
|------------------------------- | ---------------- | -------------- | -- | --------------------------- | --- | ------------------- | - | ----------------------
|
|
|Pooled corporate CDS:           |                  |                |    |                             |     |                     |   |                       
|                                | Investment grade |                | 91 | %                           | 1   | %                   | 8 | %                     
|                                | High Yield       |                | 95 |                             |    |                     |  |                       
|Funded CDOs and CLOs            |                  | 28             |    | 72                          | (4) |                    |   |                      
|Other structured obligations(3) |                  | 62             |    | 36                          | (4) | 1                   |   | 1                     
|                                |                  |                |    |                             |     |                     |   |                       
|                                |                  | Total          |    | 62                          |     | 34                  |   | 3                     
|                                |                  |                |    |                             |     |                     |   |                       

Selected Information for Insured CDS Portfolio  as of December 31, 2006

|                                |                  | Credit Ratings |    | Other
Investment
Grades (2) |     | Net Par
Outstanding |    | Remaining
Average Life
|------------------------------- | ---------------- | -------------- | -- | --------------------------- | --- | ------------------- | -- | ----------------------
|
|
|Pooled corporate CDS:           |                  |                |    |                             |     |                     |    |                       
|                                | Investment grade |                | 89 | %                           | 1   | %                   | 10 | %                     
|                                | High Yield       |                | 91 |                             | 1   |                     | 8  |                       
|Funded CDOs and CLOs            |                  | 17             |    | 82                          | (4) |                    |    | 1                     
|Other structured obligations(3) |                  | 66             |    | 32                          | (4) |                    |    | 2                     
|                                |                  |                |    |                             |     |                     |    |                       
|                                |                  | Total          |    | 61                          |     | 34                  |    | 4                     
|                                |                  |                |    |                             |     |                     |    |                       

---

39

---





The Company enters into derivative contracts to manage interest rate and foreign currency exposure in its VIE segment debt and VIE Segment Investment Portfolio.
All gains and losses from changes in the fair value of derivatives are recognized immediately in the consolidated statements of operations and comprehensive income. These derivatives generally include
interest rate and currency swap agreements, which are primarily utilized to convert fixed-rate debt and investments into U.S. dollar floating-rate debt and investments. The
inception-to-date net unrealized gain on the outstanding derivatives held by the VIE segment of $474.4 million and $516.8 million at December 31, 2007 and
December 31, 2006, respectively, was recorded in other assets.

14.    MINORITY INTEREST IN SUBSIDIARY



In 1998, the Company and XL Capital Ltd. ("XL"), a major Bermuda-based insurance holding company, entered into a joint venture, establishing
two Bermuda-domiciled financial guaranty insurance companies: FSA International and XLFA. At December 31, 2004, XL owned a minority interest in FSA International, and the Company owned a
minority interest in XLFA. In October 2005, FSA purchased all the preferred shares of FSA International owned by XL Insurance (Bermuda), Ltd. for a cash purchase price of $39.1 million
in anticipation of the repatriation of earnings and profits of FSA International. Giving effect to such purchase, FSA International became an indirect, wholly owned subsidiary of the Company. The
preferred shares were Cumulative Participating Voting Preferred Shares that, in total, had a minimum fixed dividend of $1.5 million per annum. In 2005, FSA International paid preferred
dividends of $16.3 million to XL. For the year ended December 31, 2005, the Company recognized minority interest of $6.9 million.



All equity and net income of the VIEs are shown as minority interest. The VIEs are consolidated into all applicable captions of the consolidated financial
statements under FIN 46(R).

15.    REINSURANCE

The Company obtains reinsurance to increase its policy-writing capacity on both an aggregate-risk and a single-risk basis; to meet rating
agency, internal and state insurance regulatory limits; to diversify risk; to reduce the need for additional capital; and to strengthen financial ratios. The Company reinsures portions of its risks
with affiliated (see Note 22) and unaffiliated reinsurers under quota share, first-loss and excess-of-loss treaties and on a facultative basis.

Reinsurance
does not relieve the Company of its obligations to policy holders. In the event that any or all of the reinsuring companies are unable to meet their obligations, or contest
such obligations, the Company would be unable to recover amounts due. A number of FSA's reinsurers are required to pledge collateral to secure their reinsurance obligations to FSA. FSA requires
collateral from reinsurers primarily to (a) receive statutory credit for the reinsurance, (b) provide liquidity to FSA in the event of claims on the reinsured exposure, and
(c) enhance rating agency credit for the reinsurance.

40

---



Amounts
of ceded and assumed business were as follows:

Summary of Reinsurance

Year Ended December 31,2007

2006

2005(in thousands)Written premiums ceded

$
292,386

$
288,780

$
256,087Written premiums assumed


6,239


12,066


9,474Earned premiums ceded


164,443


154,997


150,087Earned premiums assumed


6,450


4,627


3,521Losses and loss adjustment expense payments ceded


5,052


3,486


1,465Losses and loss adjustment expense payments assumed


13


8


8


|
|

As of December 31,2007

2006(in thousands)Principal outstanding ceded

$
137,749,095

$
121,830,282Principal outstanding assumed


4,433,549


3,757,565Deferred premium revenue assumed


31,005


31,216Losses and loss adjustment expense reserves assumed


579


610


The
Company cedes approximately 25% of its gross par insured to a diversified group of reinsurers, including other monolines. As of December 31, 2007, 92% of FSA's reinsurers were
rated Double-A or higher, but many are still under review by rating agencies. The Company's reinsurance contracts generally allow the Company to recapture ceded business after certain
triggering events, such as reinsurer downgrades. Included in the table below is $15,697 million in ceded par outstanding related to insured CDS.

41

---



Reinsurance Recoverable and Ceded Par Outstanding by Reinsurer and Ratings

|                                                  |       | As of December 31, 2007 |    
|------------------------------------------------- | ----- | ----------------------- | ---
|
|
|Tokio Marine and Nichido Fire Insurance Co., Ltd. |       | Aa2(1                   | )  
|Assured Guaranty Re Ltd.                          |       | Aa2                     |    
|Radian Asset Assurance Inc.                       |       | Aa3                     |    
|RAM Reinsurance Co. Ltd.                          |       | Aa3(2                   | )  
|BluePoint Re, Limited                             |       | Aa3                     |    
|XL Financial Assurance Ltd.                       |       | Aaa(3                   | )  
|Swiss Reinsurance Company.                        |       | Aa2                     |    
|R.V.I. Guaranty Co., Ltd.(4)                      |       | A3                      |    
|Mitsui Sumitomo Insurance Co. Ltd.                |       | Aa3                     |    
|CIFG Assurance North America Inc.                 |       | Aaa                     | (5)
|Ambac Assurance Corporation                       |       | Aaa                     | (2)
|Financial Guaranty Insurance Company              |       | Aaa                     | (6)
|ACA Financial Guaranty Corporation(7)             |       | NR                      |    
|Other(8)                                          |       | Various                 | (8)
|                                                  |       |                         |    
|                                                  | Total |                         |    
|                                                  |       |                         |    

---

42

---





16.    OTHER ASSETS AND LIABILITIES

The detailed balances that comprise other assets and other liabilities and minority interest are as follows:

Other Assets

As of December 31,2007

2006(in thousands)Other assets:VIE segment derivatives

$
634,458

$
653,737Fair-value adjustments on insured derivatives





89,195VIE other invested assets


301,599


418,677Tax and loss bonds


153,844


127,150Accrued interest on VIE segment investment portfolio


14,333


21,395Accrued interest income on general investment portfolio


63,317


60,500Salvage and subrogation recoverable


39,669


44Other assets


141,718


125,472Total other assets

$
1,348,938

$
1,496,170


Other Liabilities and Minority Interest

As of December 31,2007

2006(in thousands)Other liabilities and minority interest:Fair-value adjustments on insured derivatives

$
553,414

$
Equity participation plan


101,307


95,282Accrued interest on VIE segment debt


69,243


63,944Other liabilities and minority interest


299,457


279,804Total other liabilities and minority interest

$
1,023,421

$
439,030


17.    COMMITMENTS AND CONTINGENCIES



Effective June 2004, the Company entered into a 21-year sublease agreement with Deutsche Bank AG for office space at 31 West
52nd Street, New York, New York to be used as the Company's new headquarters. The Company moved to this new space in June 2005. The lease contains scheduled rent increases every
five years after a 19-month rent-free period, as well as lease incentives for initial construction costs of up to $6.0 million, as defined in the sublease. The lease
contains provisions for rent increases related to increases in the building's operating expenses. The lease also contains a renewal option for an additional ten-year period, and an option
to rent additional office space at various points in the future, in each case at then-current market rents. In addition the Company and its Subsidiaries lease additional office space under
non-cancelable operating leases, which expire at various dates through 2013.

43

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Future Minimum Rental Payments  as of December 31, 2007

Year Ended December 31,

(in thousands)2008

$
9,0932009


8,9372010


8,7292011


8,4482012


8,454Thereafter


104,190Total

$
147,851


Rent
expense was $8.9 million in 2007, $9.4 million in 2006 and $9.2 million in 2005. Rent expense in 2005 includes a $1.1 million lease termination fee
related to the Company's former headquarters.



In connection with its financial guaranty business, the Company had outstanding commitments to provide guarantees of $11,731.6 million as of
December 31, 2007. These commitments are typically short term and principally relate to primary and secondary public finance debt issuances. Commitments are contingent on the satisfaction of
all conditions set forth in the contract. These commitments may expire unused or be cancelled at the counterparty's request. Therefore, the total commitment amount does not necessarily reflect actual
future guaranteed amounts.



In the ordinary course of business, the Company and certain Subsidiaries are parties to litigation.

On
November 15, 2006, the Parent received a subpoena from the Antitrust Division of the U.S. Department of Justice issued in connection with an ongoing criminal investigation of
bid rigging of awards of municipal GICs. On November 16, 2006, FSA received a subpoena from the SEC related to an ongoing industry-wide civil investigation of brokers of municipal
GICs. The Parent issues municipal GICs through the FP segment, but does not serve as a GIC broker. The subpoenas request that the Parent furnish to the DOJ and SEC records and other information with
respect to the Parent's municipal GIC business. The Parent is cooperating with the investigations by the DOJ and the SEC.

See
Note 26 for more detail on the Company's legal proceedings. There are no other material legal proceedings to which the Company is subject.

18.    DIVIDENDS AND CAPITAL REQUIREMENTS

FSA's ability to pay dividends depends on FSA's financial condition, results of operations, cash requirements, rating agency capital adequacy and other related
factors, and is also subject to restrictions contained in the insurance laws and related regulations of New York and other states. Under the insurance laws of the State of New York, FSA may pay
dividends out of earned surplus, provided that, together with all dividends declared or distributed by FSA during the preceding 12 months, the dividends do not exceed the lesser of
(a) 10% of policyholders' surplus as of its last statement filed with the Superintendent of Insurance of the State of New York (the "New York Superintendent") or (b) adjusted net
investment income during this period. FSA paid no dividends in 2007, $140.0 million in 2006 and $87.0 million in 2005. Based upon FSA's statutory statements for December 31, 2007,
the maximum amount normally available for payment of dividends by FSA without regulatory approval over the following 12 months would be approximately $162.9 million.

44

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As
of December 31, 2007, the Company repaid its entire surplus note obligation of $108.9 million to its Parent. In addition, the Parent forgave all interest expense for
2007 of $5.0 million including $3.6 million already paid by the Company and $1.4 million of accrued interest expense (See Note 21). The Parent
re-contributed to FSA the proceeds from the repayment of the surplus note plus the amount of interest expense already paid. All surplus note transactions were approved by the New York
Superintendent. The Company paid interest of $5.4 million and $5.4 million in 2006 and 2005, respectively.

FSA
may repurchase shares of its common stock from its shareholders subject to the New York Superintendent's approval. The New York Superintendent has approved the repurchase by the
Company of up to $500.0 million of its shares from its Parent through December 31, 2008. In 2007 and 2006, the Company repurchased $180.0 million and $100.0 million,
respectively, of shares of its common stock from the Parent and retired such shares.

19.    CREDIT ARRANGEMENTS AND ADDITIONAL CLAIMS-PAYING RESOURCES

FSA has a credit arrangement aggregating $150.0 million that is provided by commercial banks and intended for general application to insured transactions.
If FSA is downgraded below Aa3 and AA-, the lenders may terminate the commitment, and the commitment commission becomes due and payable. If FSA is downgraded below Baa3 and
BBB-, any outstanding loans become due and payable. At December 31, 2007, there were no borrowings under this arrangement, which expires on April 21, 2011, if not extended.

FSA
has a standby line of credit commitment in the amount of $350.0 million with a group of international banks to provide loans to FSA after it has incurred, during the term of
the facility, cumulative municipal losses (net of any recoveries) in excess of the greater of $350.0 million or the average annual debt service of the covered portfolio multiplied by 5.00%,
which amounted to $1,471.4 million at December 31, 2007. The obligation to repay loans made under this agreement is a limited recourse obligation payable solely from, and collateralized
by, a pledge of recoveries realized on defaulted insured obligations in the covered portfolio, including certain installment premiums and other collateral. This commitment has a term expiring on
April 30, 2015 and contains an annual renewal provision, commencing April 30, 2008, subject to approval by the banks. No amounts have been utilized under this commitment as of
December 31, 2007.

In
June 2003, $200.0 million of money market committed preferred trust securities (the "CPS") were issued by trusts created for the primary purpose of issuing the CPS, investing
the proceeds in high-quality commercial paper and providing FSA with put options for issuing to the trusts non-cumulative redeemable perpetual preferred stock (the "Preferred
Stock") of FSA. There are four trusts each with an initial aggregate face amount of $50 million. These trusts hold auctions every 28 days at which time investors submit bid orders to
purchase CPS. If FSA were to exercise a put option, the applicable trust would transfer the portion of the proceeds attributable to principal received upon maturity of its assets, net of expenses, to
FSA in exchange for Preferred Stock of FSA. FSA pays a floating put premium to the trusts, which represents the difference between the commercial paper yield and the winning auction rate (plus all
fees and expenses of the trust). If an auction does not attract sufficient clearing bids, however, the auction rate will be subject to a maximum rate of 150 basis points above LIBOR for the next
succeeding distribution period. Beginning in August 2007, the CPS required the maximum rate for each of the relevant trusts. FSA continues to have the ability to exercise its put option and cause the
related trusts to purchase FSA preferred stock. The cost of the structure was $1.8 million and $1.0 million, and $1.3 million for 2007 and 2006 and 2005, respectively. The trusts
are vehicles for providing FSA access to new capital at its sole discretion through the exercise of the put options. The Company does not consider itself to be the primary beneficiary of the trusts
under FIN 46R because it does not retain the majority of the residual benefits or expected losses. The trusts

45

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are
vehicles for providing FSA access to new capital at its sole discretion through the exercise of the put options.

Certain
FSA Global debt issuances contain provisions that could extend the stated maturities of those notes. To ensure FSA Global will have sufficient cash flow to repay its funding
requirements in such transactions, it entered into several liquidity facilities with Dexia and other counterparties for amounts totaling $760.9 million.

20.    SEGMENT REPORTING

The Company operates in two business segments: financial guaranty and variable interest entities. The financial guaranty segment is primarily in the business of
providing financial guaranty insurance on public finance and asset-backed obligations. The VIE segment includes the VIEs' operations, reflecting the Company's management of the VIEs' operations. The
following tables summarize the financial information by segment as of and for the years ended December 31, 2007, 2006 and 2005:

Financial Information Summary by Segment

|                                   |                                                                             | For the Year Ended December 31, 2007 |          
|---------------------------------- | --------------------------------------------------------------------------- | ------------------------------------ | ---------
|
|
|Revenues:                          |                                                                             |                                      |          
|                                   | External                                                                    |                                      | $        
|                                   | Intersegment                                                                |                                      |          
|Expenses:                          |                                                                             |                                      |          
|                                   | External                                                                    |                                      |          
|                                   | Intersegment                                                                |                                      |          
|                                   | Less:                                                                       |                                      |          
|                                   | SFAS 133 fair-value adjustments for insured derivatives and economic hedges |                                      |          
|                                   |                                                                             |                                      |          
|Pre-tax segment operating earnings |                                                                             |                                      | 514,777  
|                                   |                                                                             |                                      |          
|Segment assets                     |                                                                             | $                                    | 7,342,154

|
|

|                                   |                                                                             | For the Year Ended December 31, 2006 |          
|---------------------------------- | --------------------------------------------------------------------------- | ------------------------------------ | ---------
|
|
|Revenues:                          |                                                                             |                                      |          
|                                   | External                                                                    |                                      | $        
|                                   | Intersegment                                                                |                                      |          
|Expenses:                          |                                                                             |                                      |          
|                                   | External                                                                    |                                      |          
|                                   | Intersegment                                                                |                                      |          
|                                   | Less:                                                                       |                                      |          
|                                   | SFAS 133 fair-value adjustments for insured derivatives and economic hedges |                                      |          
|                                   |                                                                             |                                      |          
|Pre-tax segment operating earnings |                                                                             |                                      | 484,141  
|                                   |                                                                             |                                      |          
|Segment assets                     |                                                                             | $                                    | 6,966,379

46

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|
|

|                                   |                                                                             | For the Year Ended December 31, 2005 |          
|---------------------------------- | --------------------------------------------------------------------------- | ------------------------------------ | ---------
|
|
|Revenues:                          |                                                                             |                                      |          
|                                   | External                                                                    |                                      | $        
|                                   | Intersegment                                                                |                                      |          
|Expenses:                          |                                                                             |                                      |          
|                                   | External                                                                    |                                      |          
|                                   | Intersegment                                                                |                                      |          
|                                   | Less:                                                                       |                                      |          
|                                   | SFAS 133 fair-value adjustments for insured derivatives and economic hedges |                                      |          
|                                   |                                                                             |                                      |          
|Pre-tax segment operating earnings |                                                                             |                                      | 490,990  
|                                   |                                                                             |                                      |          
|Segment assets                     |                                                                             | $                                    | 6,599,078

Reconciliations of Segments' Pre-Tax Operating Earnings to Net Income

|                                                                            |                   | For the Year Ended December 31, 2007 |         
|--------------------------------------------------------------------------- | ----------------- | ------------------------------------ | --------
|
|
|Pre-tax operating earnings                                                  |                   | $                                    | 514,777 
|SFAS 133 fair-value adjustments for insured derivatives and economic hedges |                   |                                      | (642,609
|Less:                                                                       |                   |                                      |         
|                                                                            | Tax benefit       |                                      |         
|                                                                            | Minority interest |                                      |         
|                                                                            |                   |                                      |         
|Net income                                                                  |                   |                                      |         
|                                                                            |                   |                                      |         

|
|

|                                                                            |                   | For the Year Ended December 31, 2006 |        
|--------------------------------------------------------------------------- | ----------------- | ------------------------------------ | -------
|
|
|Pre-tax operating earnings                                                  |                   | $                                    | 484,141
|SFAS 133 fair-value adjustments for insured derivatives and economic hedges |                   |                                      | 31,823 
|Less:                                                                       |                   |                                      |        
|                                                                            | Tax provision     |                                      |        
|                                                                            | Minority interest |                                      |        
|                                                                            |                   |                                      |        
|Net income                                                                  |                   |                                      |        
|                                                                            |                   |                                      |        

47

---



|
|

|                                                                            |                   | For the Year Ended December 31, 2005
|--------------------------------------------------------------------------- | ----------------- | ------------------------------------
|
|
|Pre-tax operating earnings                                                  |                   | $                                   
|SFAS 133 fair-value adjustments for insured derivatives and economic hedges |                   |                                     
|Less:                                                                       |                   |                                     
|                                                                            | Tax provision     |                                     
|                                                                            | Minority interest |                                     
|                                                                            |                   |                                     
|Net income                                                                  |                   |                                     
|                                                                            |                   |                                     

The
intersegment revenues and expenses relate to premiums paid by FSA Global on FSA-insured notes.

The
amount of SFAS 133 fair-value adjustments for CDS is a reconciling item between pre-tax segment operating earnings and net income. In addition,
management subtracts the impact of economic interest rate hedges when analyzing the segments. Marking the derivatives to fair value but not marking the hedged assets or liabilities causes
one-sided accounting. By removing the effect of the one-sided accounting caused by marking the derivatives to fair value, but not the hedged assets or liabilities, the measure
will more closely reflect the underlying performance of segment operations.

Net Premiums Earned by Geographic Distribution

Year Ended December 31,2007

2006

2005(in millions)United States


381.6


350.9


367.6International


82.8


73.2


63.5Total premiums

$
464.4

$
424.1

$
431.1


21.    NON-CASH TRANSACTION

In a non-cash transaction, FSA Global issued debt of $76.5 million and $128.2 million in 2007 and 2006, repressively, and acquired
assets of equal value from the GIC Affiliates. The proceeds of issuance of FSA Global debt were deposited directly into the GIC Affiliates, which, in turn, issued a GIC to FSA Global.

In
connection with repayment of its entire surplus note obligation of $108.9 million to its Parent, FSA Holdings forgave all interest expense for 2007 which included
$1.4 million of accrued interest expense.

48

---





22.    RELATED PARTY TRANSACTIONS

The Company enters into various related party transactions, primarily with Dexia and XL. The primary related party transactions between the Company and Dexia are
as follows:



XLFA
had an equity interest in FSA International until 2005, at which time, the Company repurchased shares in FSA International held by XLFA. The Company has a preferred stock investment
in XLFA, which is redeemable in 2008 with a carrying amount of $39.0 million. The Company's management holds two positions on the Board of Directors of XLFA. The primary related party
transactions with XL are as follows.



49

---





The
table below summarizes amounts included in the financial statement captions resulting from various types of transactions executed with related parties as well as outstanding
exposures with related parties:

Amounts Reported for Related Party Transactions  in the Consolidated Balance Sheets

|                  |                                                                   | As of December 31,                                            
|----------------- | ----------------------------------------------------------------- | --------------------------------------------------------------
|
|
|Dexia(1)          |                                                                   |                                                               
|                  | Assets:                                                           |                                                               
|                  |                                                                   | VIE Segment Investment Portfolio                              
|                  |                                                                   | Other assets:                                                 
|                  |                                                                   |                                                               
|                  |                                                                   |                                                               
|                  |                                                                   |                                                               
|                  |                                                                   | Net interest receivable/(payable) for intercompany allocations
|                  | Liabilities:                                                      |                                                               
|                  |                                                                   | Deferred premium revenue                                      
|                  |                                                                   | VIE segment debt                                              
|                  |                                                                   | Other liabilities:                                            
|                  |                                                                   |                                                               
|                  |                                                                   |                                                               
|                  |                                                                   |                                                               
|                  | Exposure:                                                         |                                                               
|                  |                                                                   | Gross par outstanding                                         
|XL(2)             |                                                                   |                                                               
|                  | Prepaid reinsurance                                               |                                                               
|                  | Reinsurance recoverable for unpaid losses                         |                                                               
|                  | Investment in XLFA                                                |                                                               
|GIC Affiliates(3) |                                                                   |                                                               
|                  | Guaranteed investment contracts from GIC Affiliates at fair value |                                                               
|                  | Other assets                                                      |                                                               

50

---



Amounts Reported for Related Party Transactions  in the Consolidated Statements of Operations and Comprehensive Income

|                  |                                      | For the Year Ended December 31,                                         | 
|----------------- | ------------------------------------ | ----------------------------------------------------------------------- | 
|
|
|Dexia(1)          |                                      |                                                                         | 
|                  | Revenues:                            |                                                                         | 
|                  |                                      | Gross premiums earned                                                   | 
|                  |                                      | Net interest income from VIE segment                                    | 
|                  |                                      | Net realized and unrealized gains (losses) from VIE segment derivatives | 
|                  |                                      | Net realized and unrealized gains (losses) on insured derivatives       | 
|                  | Expenses:                            |                                                                         | 
|                  |                                      | Interest expense from VIE segment                                       | 
|                  |                                      | Other operating expenses                                                | 
|XL(2)             |                                      |                                                                         | 
|                  | Ceded premiums                       |                                                                         | 
|                  | Dividends paid                       |                                                                         | 
|                  | Dividends received from XLFA         |                                                                         | 
|GIC Affiliates(3) |                                      |                                                                         | 
|                  | Premiums earned                      |                                                                         | 
|                  | Net interest income from VIE segment |                                                                         | 
|                  | Other income                         |                                                                         | 

---

23.    DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

The Company determines fair value using available market information and appropriate valuation methodologies. However, considerable judgment is necessary to
interpret the data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amount the Company could realize in a current market
exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair-value amounts.



51

---





52

---







The table below shows the carrying amount and fair value of the Company's financial instruments:

Fair Value of Financial Instruments

|                               |                                                              | December 31, 2007 |   | December 31, 2006
|------------------------------ | ------------------------------------------------------------ | ----------------- | - | -----------------
|
|
|Assets:                        |                                                              |                   |   |                  
|                               | Bonds in general investment portfolio                        |                   | $ | 5,019,961        
|                               | Equity securities                                            |                   |   | 39,869           
|                               | Short-term investments in general investment portfolio       |                   |   | 90,075           
|                               | Available-for-sale bonds in VIE segment investment portfolio |                   |   | 1,139,568        
|                               | Available-for-sale GICs in VIE segment investment portfolio  |                   |   | 639,950          
|                               | Short-term investments in VIE segment investment portfolio   |                   |   | 8,618            
|                               | Assets acquired in refinancing transactions                  |                   |   | 229,264          
|                               | Cash                                                         |                   |   | 21,770           
|                               | Prepaid reinsurance premiums                                 |                   |   | 1,126,624        
|                               | Reinsurance recoverable on unpaid losses                     |                   |   | 76,478           
|                               | Other assets                                                 |                   |   | 1,348,938        
|Liabilities:                   |                                                              |                   |   |                  
|                               | Deferred premium revenue                                     |                   |   | 2,923,608        
|                               | Losses and loss adjustment expense reserve                   |                   |   | 274,556          
|                               | VIE segment debt                                             |                   |   | 2,584,800        
|                               | Notes payable to affiliate                                   |                   |   | 210,143          
|                               | Surplus notes                                                |                   |   |                 
|                               | Other liabilities and minority interest                      |                   |   | 1,023,421        
|Off-balance-sheet instruments: |                                                              |                   |   |                  
|                               | Installment premiums                                         |                   |   |                 

24.    STATUTORY ACCOUNTING PRACTICES

GAAP differs in certain significant respects from statutory accounting practices applicable to the Company and its insurance company subsidiaries that are
prescribed or permitted by insurance regulatory authorities. The principal differences result from the following statutory accounting practices:



53

---





Consolidated
statutory net income was $312.9 million for 2007, $339.6 for 2006 and $293.0 million for 2005. Statutory surplus totaled $1,608.8 million for 2007 and
$1,543.1 million for 2006. Statutory contingency reserves totaled $1,094.3 million for 2007 and $1,011.0 million for 2006.

25.    EXPOSURE TO MONOLINES

The tables below summarize the exposure to each financial guaranty monoline insurer by exposure category and the underlying ratings of the Company's insured
risks.

Summary of Exposure to Monolines

|                                                          |                 | As of December 31, 2007 |      
|--------------------------------------------------------- | --------------- | ----------------------- | -----
|
|
|
|Assured Guaranty Re Ltd.                                  |                 | $                       | 1,094
|Radian Asset Assurance Inc.                               |                 |                         | 101  
|RAM Reinsurance Co. Ltd.                                  |                 |                         |     
|BluePoint Re, Limited                                     |                 |                         |     
|XL Capital Assurance Inc. and XL Financial Assurance Ltd. |                 |                         | 1,503
|CIFG Assurance North America Inc.                         |                 |                         | 201  
|Ambac Assurance Corporation                               |                 |                         | 3,437
|Financial Guaranty Insurance Company                      |                 |                         | 2,414
|ACA Financial Guaranty Corporation                        |                 |                         | 26   
|MBIA Insurance Corporation                                |                 |                         | 3,741
|                                                          |                 |                         |      
|                                                          | Total           |                         | $    
|                                                          |                 |                         |      
|                                                          | Total portfolio |                         | $    
|% of total portfolio                                      |                 |                         | 3    

---

54

---





Exposures to Monolines    and Ratings of Underlying Risks

|                                                                |             | Insured Portfolios     |   |       |   
|--------------------------------------------------------------- | ----------- | ---------------------- | - | ----- | --
|
|
|
|Assured Guaranty Re Ltd.                                        |             |                        |   |       |   
|                                                                | Exposure(2) |                        | $ | 1,094 |   
|                                                                |             | Triple-A               |   |       | 23
|                                                                |             | Double-A               |   |       | 10
|                                                                |             | Single-A               |   |       | 67
|                                                                |             | Triple-B               |   |       |  
|                                                                |             | Below Investment Grade |   |       |  
|Radian Asset Assurance Inc.                                     |             |                        |   |       |   
|                                                                | Exposure(2) |                        | $ | 101   |   
|                                                                |             | Triple-A               |   |       | 6 
|                                                                |             | Double-A               |   |       |  
|                                                                |             | Single-A               |   |       | 11
|                                                                |             | Triple-B               |   |       | 54
|                                                                |             | Below Investment Grade |   |       | 29
|RAM Reinsurance Co. Ltd.(4)                                     |             |                        |   |       |   
|                                                                | Exposure(2) |                        | $ |      |   
|                                                                |             | Triple-A               |   |       |  
|                                                                |             | Double-A               |   |       |  
|                                                                |             | Single-A               |   |       |  
|                                                                |             | Triple-B               |   |       |  
|                                                                |             | Below Investment Grade |   |       |  
|BluePoint Re, Limited(4)                                        |             |                        |   |       |   
|                                                                | Exposure(2) |                        | $ |      |   
|                                                                |             | Triple-A               |   |       |  
|                                                                |             | Double-A               |   |       |  
|                                                                |             | Single-A               |   |       |  
|                                                                |             | Triple-B               |   |       |  
|                                                                |             | Below Investment Grade |   |       |  
|XL Capital Assurance Inc. and XL Financial Assurance Ltd.(3)(4) |             |                        |   |       |   
|                                                                | Exposure(2) |                        | $ | 1,503 |   
|                                                                |             | Triple-A               |   |       | 22
|                                                                |             | Double-A               |   |       | 7 
|                                                                |             | Single-A               |   |       | 35
|                                                                |             | Triple-B               |   |       | 36
|                                                                |             | Below Investment Grade |   |       |  
|                                                                |             | Not Rated              |   |       |  
|CIFG Assurance North America Inc.(4)                            |             |                        |   |       |   
|                                                                | Exposure(2) |                        | $ | 201   |   
|                                                                |             | Triple-A               |   |       |  
|                                                                |             | Double-A               |   |       | 2 
|                                                                |             | Single-A               |   |       |  
|                                                                |             | Triple-B               |   |       | 98
|                                                                |             | Below Investment Grade |   |       |  
|Ambac Assurance Corporation(4)                                  |             |                        |   |       |   
|                                                                | Exposure(2) |                        | $ | 3,437 |   
|                                                                |             | Triple-A               |   |       | 22
|                                                                |             | Double-A               |   |       | 43
|                                                                |             | Single-A               |   |       | 31
|                                                                |             | Triple-B               |   |       | 4 
|                                                                |             | Below Investment Grade |   |       |  

55

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Exposures to Monolines    and Ratings of Underlying Risks (Continued)

|                                        |             | Insured Portfolios     |   |       |   
|--------------------------------------- | ----------- | ---------------------- | - | ----- | --
|
|
|
|Financial Guaranty Insurance Company(4) |             |                        |   |       |   
|                                        | Exposure(2) |                        | $ | 2,414 |   
|                                        |             | Triple-A               |   |       |  
|                                        |             | Double-A               |   |       | 21
|                                        |             | Single-A               |   |       | 59
|                                        |             | Triple-B               |   |       | 20
|                                        |             | Below Investment Grade |   |       |  
|ACA Financial Guaranty Corporation      |             |                        |   |       |   
|                                        | Exposure(2) |                        | $ | 26    |   
|                                        |             | Triple-A               |   |       |  
|                                        |             | Double-A               |   |       | 63
|                                        |             | Single-A               |   |       | 5 
|                                        |             | Triple-B               |   |       | 26
|                                        |             | Below Investment Grade |   |       | 6 
|MBIA Insurance Corporation              |             |                        |   |       |   
|                                        | Exposure(2) |                        | $ | 3,741 |   
|                                        |             | Triple-A               |   |       | 7 
|                                        |             | Double-A               |   |       | 54
|                                        |             | Single-A               |   |       | 4 
|                                        |             | Triple-B               |   |       | 35
|                                        |             | Below Investment Grade |   |       |  

---

26.    SUBSEQUENT EVENTS

In February 2008, the Parent contributed $500 million of additional capital to the Company to provide additional capacity to insure new financial guarantee
business.

On
February 4, 2008, the Parent received a "Wells Notice" from the staff of the Philadelphia Regional Office of the SEC relating to the SEC's investigation concerning the bidding
of municipal GICs. The Wells Notice indicates that the SEC staff is considering recommending that the SEC authorize the staff to bring a civil injunctive action and/or institute administrative
proceedings against the Parent, alleging violations of Section 10(b) of the Exchange Act and Rule 10b-5 thereunder and Section 17(a) of the Securities Act. The Parent
understands that it will have an opportunity to respond to the Wells Notice and to discuss the matter with the staff before any recommendation is made to the Commission.

In
March 2008, two purported class action lawsuits were commenced seeking damages for alleged violations of antitrust laws in connection with the bidding of municipal GICs and
derivatives. The suits name as plaintiffs various named and unnamed states and municipalities and name as defendants a large number of major financial institutions, including the Parent and the
Company. The lawsuits make reference to the ongoing investigations by the DOJ Anti-trust Division and the SEC regarding such activities, with respect to which the Parent and the Company
received subpoenas in November 2006.

56

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The
Company has also received various regulatory inquiries and requests for information. These include subpoenas duces tecum and interrogatories from the State of Connecticut Attorney
General related to antitrust concerns associated with the municipal rating scales employed by Moody's and a proposal by Moody's to assign corporate equivalent ratings to municipal obligations.

Subsequent
to December 31, 2007, credit spreads have widened significantly with respect to the Company's insured derivative portfolio. Unless market conditions improve, management
expects to record material negative fair-value adjustments relating to its insured derivative portfolio in the first quarter of 2008.

In
the first two months of 2008, management observed continuing deterioration in the U.S. residential mortgage market. Unless conditions improve, management may need to allocate
additional amounts
from its non-specific loss reserve to its case reserves, or add to its non-specific reserve, to cover the projected performance of HELOCs or Alt-A CES.

57

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