**UNITED
        STATES**
 **SECURITIES
        AND EXCHANGE COMMISSION**
 
 **Washington,
        D.C. 20549**
 
 **FORM
        10-Q**
 
 **(Mark One)**
 **[x]**
              **QUARTERLY
                  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                  ACT OF
                  1934**For
                  the quarterly period endedSeptember
                  30, 2005_____________
 
 **or**
 **[x]**
              **TRANSITION
                  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                  ACT OF
                  1934**For
                  the transition period from _____________ to
                  _____________
 
 
 **Commission
        File Number:** **1-12109**
  
 
 **DELTA
        FINANCIAL CORPORATION**
 
 (Exact
        name of registrant as specified in its charter)
 
 **Delaware**
              **11-3336165**(State
                  or other jurisdiction of
              (I.R.S.
                  Employerincorporation
                  or organization)
              Identification
                  No.)
 
 **1000
        Woodbury Road, Suite 200, Woodbury, New York 11797**
 
 (Address
        of principal executive offices)
 
 **(516)
        364 - 8500**
 
 (Registrant’s
        telephone number, including area code)
 
 **No
        Change**
 
 (Former
        name, former address and former fiscal year, if changed since last
        report)
 
 Indicate
        by check mark whether the registrant: (1) has filed all reports required
        to be
        filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
        the
        preceding 12 months (or for such shorter period that the registrant was required
        to file such reports), and (2) has been subject to such filing requirements
        for
        the past 90 days.
 Yes
        [ x
        ]   No
        [
        ]
  Indicate by check mark whether the registrant is an accelerated filer (as
        defined in Rule 12b-2 of the Exchange Act).
 Yes
        [
        ]   No
        [ x
        ]
 
 Indicate
        by check mark whether the registrant is a shell company (as defined in Rule
        12b-2 of the Exchange Act).
 Yes
        [
        ]   No
        [ x
        ]
 
 As
        of
        November 9, 2005, 20,393,587 shares of the registrant’s common stock, par value
        $0.01 per share, were outstanding.
 
 
 
 
 **INDEX
        TO FORM 10-Q**
 
 
 **Page
                  No.****PART
                  I - FINANCIAL INFORMATION**Item
                  1.
              Financial
                  StatementsConsolidated
                  Balance Sheetsas of September 30, 2005
                  and December 31, 2004 (unaudited)
              1Consolidated
                  Statements of Operationsfor
                  the three and nine months endedSeptember
                  30, 2005 and 2004 (unaudited)
              2Consolidated
                  Statement of Changes in
                  Stockholders’ Equityfor the nine monthsended
                  September 30, 2005 (unaudited)
              3Consolidated
                  Statements of Cash Flowsfor the nine
                  months endedSeptember
                  30, 2005 and 2004 (unaudited)
              4Notes
                  to Consolidated Financial
                  Statements
              6Item
                  2.
              Management’s
                  Discussion and Analysis of Financial
                  Condition and Results of Operations
              22Item
                  3.
              Quantitative
                  and Qualitative Disclosures About Market
                  Risk
              57Item
                  4.
              Controls
                  and Procedures
              60**PART
                  II - OTHER INFORMATION**Item
                  1.
              Legal
                  Proceedings
              61Item
                  2.
              Unregistered
                  Sales of Equity Securities and Use of
                  Proceeds
              63Item
                  3.
              Defaults
                  Upon Senior Securities
              63Item
                  4.
              Submission
                  of Matters to a Vote of Security
                  Holders
              63Item
                  5.
              Other
                  Information
              63Item
                  6.
              Exhibits
              64Signatures
              65
 
 
 
 
 **PART
        I - FINANCIAL INFORMATION**
 
 **Item
        1 - Financial Statements.**
 
 **DELTA
        FINANCIAL CORPORATION AND
        SUBSIDIARIES**
 **CONSOLIDATED
        BALANCE SHEETS**
        (Unaudited)
 *(Dollars
        in thousands, except for share data)*
 
 **September
                  30,**
                **2005**
              
              **December
                  31,**
                **2004****Assets:**Cash
                  and cash equivalents
              
              $
              4,683
              
              $
              5,187Mortgage
                  loans held for investment, net of discounts and deferredorigination
                  fees
              
              
              4,034,655
              
              
              2,351,272Less:
                  Allowance for loan losses
              
              
              (29,787
              )
              
              (10,278
              )Mortgage
                  loans held for investment, net
              
              
              4,004,868
              
              
              2,340,994Trustee
                  receivable
              
              
              63,256
              
              
              30,197Accrued
                  interest receivable
              
              
              23,017
              
              
              12,280Excess
                  cashflow certificates
              
              
              11,477
              
              
              14,933Equipment,
                  net
              
              
              5,704
              
              
              4,298Accounts
                  receivable
              
              
              9,541
              
              
              6,453Prepaid
                  and other assets
              
              
              33,786
              
              
              26,125Deferred
                  tax asset
              
              
              51,495
              
              
              50,326Total
                  assets
              
              $
              4,207,827
              
              $
              2,490,793**Liabilities
                  and Stockholders’ Equity****Liabilities:**Bank
                  payable
              
              $
              1,770
              
              $
              1,110Warehouse
                  financing
              
              
              163,834
              
              
              135,653Financing
                  on mortgage loans held for investment, net
              
              
              3,895,312
              
              
              2,236,215Other
                  borrowings
              
              
              3,685
              
              
              3,330Accrued
                  interest payable
              
              
              9,712
              
              
              4,282Accounts
                  payable and other liabilities
              
              
              33,954
              
              
              23,023Total
                  liabilities
              
              
              4,108,267
              
              
              2,403,613**Stockholders’
                  Equity:**Common
                  stock, $.01 par value. Authorized 49,000,000 shares;20,502,087
                  and 20,403,187 shares issued and 20,385,287 and
                20,286,387
                  shares outstanding at September 30, 2005 and December 31,2004,
                  respectively
              
              
              205
              
              
              204Additional
                  paid-in capital
              
              
              119,925
              
              
              119,451Accumulated
                  deficit
              
              
              (19,734
              )
              
              (28,950
              )Accumulated
                  other comprehensive income (loss), net of taxes
              
              
              482
              
              
              (2,207
              )Treasury
                  stock, at cost (116,800 shares)
              
              
              (1,318
              )
              
              (1,318
              )Total
                  stockholders’ equity
              
              
              99,560
              
              
              87,180Total
                  liabilities and stockholders’ equity
              
              $
              4,207,827
              
              $
              2,490,793
 See
        accompanying notes to consolidated financial statements.
  **1**
  **DELTA
        FINANCIAL CORPORATION AND
        SUBSIDIARIES**
 **CONSOLIDATED
        STATEMENTS OF OPERATIONS**(Unaudited)
 *(Dollars
        in thousands, except share and per share
        data)*
 
 **Three
                  Months Ended**
                **September
                  30,**
              
              **Nine
                  Months Ended**
                **September
                  30,****2005**
              
              **2004**
              
              **2005**
              
              **2004**Interest
                  income
              
              $
              79,359
              
              $
              30,809
              
              $
              200,392
              
              $
              56,853Interest
                  expense
              
              
              46,949
              
              
              12,317
              
              
              111,221
              
              
              19,740Net
                  interest income
              
              
              32,410
              
              
              18,492
              
              
              89,171
              
              
              37,113Provision
                  for loan losses
              
              
              6,586
              
              
              3,113
              
              
              20,928
              
              
              5,789Net
                  interest income after provision for loan losses
              
              
              25,824
              
              
              15,379
              
              
              68,243
              
              
              31,324Non-interest
                  income:Net
                  gain on sale of mortgage loans
              
              
              7,494
              
              
              2,630
              
              
              19,414
              
              
              11,883Other
                  income
              
              
              6,263
              
              
              393
              
              
              11,659
              
              
              597Total
                  non-interest income
              
              
              13,757
              
              
              3,023
              
              
              31,073
              
              
              12,480Non-interest
                  expense:Payroll
                  and related costs
              
              
              16,769
              
              
              13,435
              
              
              46,950
              
              
              37,589General
                  and administrative
              
              
              11,347
              
              
              7,928
              
              
              31,241
              
              
              21,640Loss
                  on derivative instruments
              
              
              548
              
              
              7
              
              
              866
              
              
              146Total
                  non-interest expense
              
              
              28,664
              
              
              21,370
              
              
              79,057
              
              
              59,375Income
                  (loss) before income tax expense (benefit)
              
              
              10,917
              
              
              (2,968
              )
              
              20,259
              
              
              (15,571
              )Provision
                  for income tax expense (benefit)
              
              
              4,283
              
              
              (1,149
              )
              
              7,991
              
              
              (6,007
              )Net
                  income (loss)
              
              $
              6,634
              
              $
              (1,819
              )
              $
              12,268
              
              $
              (9,564
              )**Other
                  Comprehensive Income (Loss)**:Net
                  unrealized holding gains/(losses) on
                derivatives
                  arising during the period, net of tax
              
              
              3,899
              
              
              (1,653
              )
              
              2,689
              
              
              (1,608
              )Other
                  comprehensive income (loss)
              
              $
              10,533
              
              $
              (3,472
              )
              $
              14,957
              
              $
              (11,172
              )**Per
                  Share Data:**Basic
                  - weighted average number of sharesoutstanding
              
              
              20,366,675
              
              
              19,347,154
              
              
              20,329,228
              
              
              17,744,372Diluted
                  - weighted average number of sharesoutstanding
              
              
              21,290,527
              
              
              19,347,154
              
              
              21,268,832
              
              
              17,744,372Net
                  income (loss) applicable to common shares
              
              $
              6,634
              
              $
              (1,819
              )
              $
              12,268
              
              $
              (9,564
              )Basic
                  earnings per share - net income (loss)
              
              $
              0.33
              
              $
              (0.09
              )
              $
              0.60
              
              $
              (0.54
              )Diluted
                  earnings per share - net income (loss)
              
              $
              0.31
              
              $
              (0.09
              )
              $
              0.58
              
              $
              (0.54
              )
  
  See
        accompanying notes to consolidated financial statements.
  **2**
  **DELTA
        FINANCIAL CORPORATION AND
        SUBSIDIARIES**
 **CONSOLIDATED
        STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY**(Unaudited)
 **For
        the Nine Months Ended September 30,
        2005**
 *(Dollars
        in thousands)*
 
 **Common
                  Stock**
              
              **Additional**
                **Paid-in
                  Capital**
              
              **Accumulated
                  Deficit**
              
              **Accumulated
                  Other Comprehensive Income (Loss), Net of Taxes**
              
              **Treasury
                  Stock**
              
              **Total**Balance
                  at December 31, 2004
              
              $
              204
              
              $
              119,451
              
              $
              (28,950
              )
              $
              (2,207
              )
              $
              (1,318
              )
              $
              87,180Stock
                  options exercised, inclusiveof
                  tax benefit
              
              
              1
              
              
              474
              
              
              --
              
              
              --
              
              
              --
              
              
              475Cash
                  dividend paid
              
              
              --
              
              
              --
              
              
              (2,033
              )
              
              --
              
              
              --
              
              
              (2,033
              )Dividend
                  declared and payable
              
              
              --
              
              
              --
              
              
              (1,019
              )
              
              --
              
              
              --
              
              
              (1,019
              )Net
                  unrealized gains onderivatives,
                  net of tax
              
              
              --
              
              
              --
              
              
              --
              
              
              2,689
              
              
              --
              
              
              2,689Net
                  income
              
              
              --
              
              
              --
              
              
              12,268
              
              
              --
              
              
              --
              
              
              12,268Balance
                  at September 30, 2005
              
              $
              205
              
              $
              119,925
              
              $
              (19,734
              )
              $
              482
              
              $
              (1,318
              )
              $
              99,560
 
 See
        accompanying notes to consolidated financial statements.
  **3**
  **DELTA
        FINANCIAL CORPORATION AND
        SUBSIDIARIES**
 **CONSOLIDATED
        STATEMENTS OF CASH FLOWS**(Unaudited)
 *(Dollars
        in thousands)*
 
 **Nine
                  Months Ended**
                **September
                  30,****2005**
              
              **2004**Cash
                  flows from operating activities:Net
                  income (loss)
              
              $
              12,268
              
              $
              (9,564
              )Adjustments
                  to reconcile net income to net cash provided by operatingactivities:Provision
                  for loan losses
              
              
              20,928
              
              
              5,789(Recovery)
                  provision for recourse loans
              
              
              (331
              )
              
              --Depreciation
                  and amortization
              
              
              1,701
              
              
              1,416Deferred
                  tax benefit
              
              
              (2,888
              )
              
              (7,621
              )Deferred
                  origination costs
              
              
              (6,476
              )
              
              (1,731
              )Gain
                  on change in fair value of excess cashflow certificates
              
              
              (11,520
              )
              
              (307
              )Gain
                  on sale of mortgage servicing rights
              
              
              (113
              )
              
              --Amortization
                  of bond securitizations deferred costs and premiums
              
              
              (2,218
              )
              
              (3,848
              )Cash
                  flows received from excess cashflow certificates, net of accretion
              
              
              14,976
              
              
              3,451Proceeds
                  from sale of mortgage servicing rights, net
              
              
              16,237
              
              
              12,342Changes
                  in operating assets and liabilities:Increase
                  in accounts receivable
              
              
              (3,088
              )
              
              (2,933
              )Decrease
                  in mortgage loans held for sale, net
              
              
              --
              
              
              61,692Increase
                  in trustee receivable, net
              
              
              (33,059
              )
              
              (17,163
              )Increase
                  in accrued interest receivable
              
              
              (10,715
              )
              
              (8,918
              )Increase
                  in prepaid and other assets
              
              
              (6,578
              )
              
              (15,863
              )Increase
                  in accrued interest payable
              
              
              5,430
              
              
              2,567Increase
                  in accounts payable and other liabilities
              
              
              11,423
              
              
              5,223Net
                  cash provided by operating activities
              
              
              5,977
              
              
              24,532Cash
                  flows from investing activities:Increase
                  in mortgage loans held for investment, net
              
              
              (1,686,997
              )
              
              (1,647,129
              )Purchase
                  of equipment
              
              
              (3,107
              )
              
              (2,252
              )Net
                  cash used in investing activities
              
              
              (1,690,104
              )
              
              (1,649,381
              )Cash
                  flows from financing activities:Proceeds
                  from (repayment of) warehouse financing, net
              
              
              28,181
              
              
              (86,925
              )Proceeds
                  from financing on mortgage loans held for investment, net
              
              
              1,656,999
              
              
              1,708,392Proceeds
                  from other borrowings, net
              
              
              355
              
              
              572Increase
                  (decrease) in bank payable
              
              
              660
              
              
              (994
              )Cash
                  dividends paid on common stock
              
              
              (3,047
              )
              
              (848
              )Redemption
                  of preferred stock
              
              
              --
              
              
              (13,916
              )Proceeds
                  from common stock issued in secondary offering, net
              
              
              --
              
              
              18,741Proceeds
                  from exercise of stock options
              
              
              475
              
              
              600Net
                  cash provided by financing activities
              
              
              1,683,623
              
              
              1,625,622Net
                  (decrease) increase in cash and cash equivalents
              
              
              (504
              )
              
              733Cash
                  and cash equivalents at beginning of period
              
              
              5,187
              
              
              4,576Cash
                  and cash equivalents at end of period
              
              $
              4,683
              
              $
              5,349
 
 **4**
   **Nine
                  Months Ended**
                **September
                  30,****2005**
              
              **2004**Supplemental
                  Information:Cash
                  paid during the period for:Interest
              
              $
              101,182
              
              $
              16,404Income
                  taxes
              
              $
              12,630
              
              $
              1,719Non-cash
                  transactions:Dividends
                  payable
              
              $
              1,019
              
              $
              1,012Transfer
                  of mortgage loans held for investment to real estate owned,
                  net
              
              $
              3,668
              
              $
              --
 
 See
        accompanying notes to consolidated financial statements.
 
  **5**
  **DELTA
        FINANCIAL CORPORATION AND SUBSIDIARIES**
 **NOTES
        TO CONSOLIDATED FINANCIAL STATEMENTS**
 
 **(1)**  **Basis
        of Presentation**
 
 Delta
        Financial Corporation is a Delaware corporation, organized in August
        1996.
 
 The
        accompanying unaudited consolidated financial statements include the accounts
        of
        Delta Financial Corporation and its wholly owned subsidiaries (collectively,
        the
“Company,”“we” or “us”). The consolidated financial statements reflect all
        normal recurring adjustments that, in the opinion of management, are necessary
        to present a fair statement of the financial position and results of operations
        for the periods presented. Certain reclassifications have been made to
        prior-period financial statements to conform to the 2005
        presentation.
 
 Certain
        information and footnote disclosures normally included in financial statements
        prepared in accordance with United States (“U.S.”) generally accepted accounting
        principles (“GAAP”) have been condensed or omitted pursuant to the rules and
        regulations of the U.S. Securities and Exchange Commission (“SEC”). The
        preparation of financial statements in conformity with GAAP requires our
        management to make estimates and assumptions that affect the reported amounts
        of
        assets, liabilities and stockholders’ equity and disclosure of contingent assets
        and liabilities at the date of the financial statements and the reported
        amounts
        of income and expenses during the reporting periods. Actual results could
        differ
        from those estimates and assumptions.
 
 These
        unaudited consolidated financial statements should be read in conjunction
        with
        the audited consolidated financial statements and notes thereto included
        in our
        Annual Report on Form 10-K for the year ended December 31, 2004. The results
        of
        operations for the three and nine months ended September 30, 2005 are not
        necessarily indicative of the results that will be expected for the entire
        year.
 
 The
        accompanying unaudited consolidated financial statements have been prepared
        in
        conformity with the instructions to Form 10-Q and Article 10, Rule 10-01
        of
        Regulation S-X for interim financial statements. Accordingly, they do not
        include all of the information and footnotes required by GAAP for complete
        financial statements.
 
 **(2)**  **Basis
        of Consolidation**
 
 The
        accompanying consolidated financial statements are prepared on the accrual
        basis
        of accounting and include our accounts and those of our wholly owned
        subsidiaries. All significant inter-company accounts and transactions have
        been
        eliminated in consolidation.
 
 **(3)**  **Summary
        of Significant Accounting Policies**
 
 ***(a)
        Cash and Cash Equivalents***
 
 For
        cash
        flow reporting purposes, cash and cash equivalents includes cash in checking
        accounts, cash in interest bearing deposit accounts, amounts due from banks,
        restricted cash and money market investments. Included in cash and cash
        equivalents were $3,000 and $215,000 of interest-bearing deposits with select
        financial institutions at September 30, 2005 and December 31, 2004,
        respectively.
 
 Additionally,
        cash and cash equivalents as of September 30, 2005 and December 31, 2004
        included restricted cash held in various accounts totaling $81,000 and $461,000,
        respectively.
 
 ***(b)
        Mortgage Loans Held for Sale, Net***
 
 Through
        the end of the third quarter of 2004, we classified all mortgage loans
        originated by us and held pending securitization or sale as mortgage loans
        held
        for sale. Commencing in the fourth quarter of 2004, mortgage loans held pending
        securitization or sale have been classified as mortgage loans held for
        investment - pre-securitization. We changed this classification because we
        determined that we would ultimately securitize the majority of the mortgage
        loans held through securitizations structured as secured financings. The
        majority of these loans, therefore, will remain on our balance sheet as mortgage
        loans held for investment - securitized. While we may from time to time
        ultimately sell some of the mortgage loans we hold, we usually do not make
        the
        determination regarding which mortgage loans will be sold until sometime
        in the
        following reporting period. As
        such,
        at September 30, 2005 and December 31, 2004, we did not hold any mortgage
        loans
        for sale.
 
 **6**
 Prior
        to
        the change in classification, mortgage loans held for sale, net represented
        fixed-rate and adjustable-rate mortgage loans that had a contractual maturity
        of
        up to 30 years. These mortgage loans were primarily secured by residential
        properties and were recorded at the lower of amortized cost or fair value,
        as
        determined on a loan-by-loan basis. We typically held our mortgage loans
        held
        for sale for no more than 120 days, and for 60 days on average, before they
        were
        sold and/or securitized in the secondary market. During the period in which
        the
        loans were held for sale, we earned the coupon rate of interest paid by the
        borrower, and paid interest to the lenders that provide our warehouse financing
        to the extent that we utilized such financing. We also paid a sub-servicing
        fee
        to a third party during the period the loans were held for sale. Loan
        origination fees, discount points and certain direct origination costs
        associated with loans held for sale were initially recorded as an adjustment
        of
        the cost to the loan. Gains or losses on sales of mortgage loans were recognized
        based upon the difference between the selling price and the carrying value
        of
        the related mortgage loans sold.
 
 ***(c)
        Mortgage Loans Held for Investment, Net***
 
 Mortgage
        loans held for investment, net represent loans we securitized through
        transactions structured to be accounted for as secured financings (mortgage
        loans held for investment - securitized) and loans we hold pending
        securitization or sale (mortgage loans held for investment -
        pre-securitization). Mortgage loans held for investment are stated at amortized
        cost, including the outstanding principal balance, net of the allowance for
        loan
        losses, net of discounts and net of deferred origination fees or
        costs.
 
 The
        allocated cost basis of mortgage servicing rights (“MSRs”) is recorded as an
        asset with an offsetting reduction ( *i.e.* ,
        discount) in the cost basis of the mortgage loans. Under Statement of Financial
        Accounting Standards (“SFAS”) No. 140, “ Accounting
        for Transfers and Servicing of Financial Assets and Extinguishments of
        Liabilities - a replacement of FASB Statement No. 125,” the discount is measured using the relative fair values of
        the mortgage loans and MSRs to allocate the carrying value between the two
        assets. The MSRs
        are generally sold to a third-party servicer. The resulting discount is accreted
        to interest income on a level-yield basis over the expected life of the related
        loans, on a pool-by-pool basis, using the interest method
        calculation.
 
 Additionally,
        in accordance with SFAS No. 91, “ Accounting
        for Nonrefundable Fees and Costs Associated with Originating or Acquiring
        Loans
        and Initial Direct Costs of Leases - an amendment of FASB Statements No.
        13, 60,
        and 65 and a rescission of FASB Statement No. 17,” the
        net
        deferred origination fees or costs associated with our mortgage loans held
        for
        investment are amortized to income on a level-yield basis over the contractual
        life of the related loans, on a pool-by-pool basis, using the interest method
        calculation.
 
 The
        amount of deferred nonrefundable fees is determined based on the amount of
        such
        fees collected at the time of loan closing. We determine the amount of direct
        loan origination costs to be deferred based on the amount of time spent and
        actual costs incurred by loan origination personnel in the performance of
        certain activities directly related to the origination of funded mortgage
        loans
        for that period. These activities include evaluating the prospective borrower’s
        financial condition, evaluating and recording collateral and security
        arrangements, negotiating loan terms, processing loan documents and closing
        the
        loan. Management believes these estimates reflect an accurate cost structure
        related to successful loan origination efforts. Management periodically reviews
        its time and cost estimates to determine whether revisions to the deferral
        amounts are necessary. Revisions would be considered necessary if it was
        determined that the time spent and/or costs incurred related to performing
        the
        above activities had significantly changed from the previous period. This
        estimate is made for all loans originated by our wholesale and retail
        segments.
 
 The
        secured financing related to the mortgage loans held for investment -
        securitized is included in our consolidated balance sheet as financing on
        mortgage loans held for investment. Once the loans are securitized, we earn
        the
        pass-through rate of interest paid by the trustee and pay interest on our
        financing on mortgage loans held for investment.
  **7**
  ***(d)
        Allowance and Provision for Loan Losses***
 
 In
        connection with our mortgage loans held for investment, we established an
        allowance for loan losses based on our estimate of losses to be incurred
        in the
        foreseeable future. Provisions for loan losses are made for loans to the
        extent
        that probable losses on these loans are borne by us. Provision amounts are
        charged as a current period expense to operations. We charge-off uncollectible
        loans against the allowance for loan losses at the time they are deemed not
        probable of being collected. In order to estimate an appropriate allowance
        for
        loan losses on mortgage loans held for investment, we estimate losses using
        a
        detailed analysis of historical loan performance by product type, origination
        year and securitization issuance. The results of that analysis are then applied
        to the current long-term mortgage portfolio on a pool-by-pool basis and an
        allowance estimate is created. In accordance with SFAS No. 5, “Accounting for
        Contingencies,” we believe that pooling of mortgages with similar
        characteristics is an appropriate methodology in which to calculate or estimate
        the allowance for loan losses. We do not assess individual mortgage loans
        for
        impairment due to the homogeneous nature of the loans.
 
 In
        evaluating the adequacy of this allowance, there are qualitative factors
        and
        estimates that must be considered when assessing and measuring potential
        expected losses on mortgage loans. These items include, but are not limited
        to,
        current performance of the loans, economic indicators that may affect the
        borrower’s ability to pay, changes in the market value of the collateral,
        political factors and the general economic environment. As these factors
        and
        estimates are influenced by factors outside of our control, there is inherent
        uncertainty in these items and it is reasonably possible that they could
        change.
        In particular, if conditions were such that we were required to increase
        the
        provision for losses, any increase in the provision for losses would decrease
        our income for that period. Management considers the allowance for loan losses
        at September 30, 2005 to be adequate.
 
 Additionally,
        in connection with loans sold on a recourse basis (prior to 1991), we have
        a
        recourse reserve (included on the balance sheet within “accounts payable and
        other liabilities”), which is based on our estimate of probable losses to be
        borne by us under the terms of the recourse obligation. The methodology under
        which the recourse reserve is calculated is similar to the methodology utilized
        in determining the allowance for loan losses. Management considers the recourse
        reserve at September 30, 2005 to be adequate.
 
 ***(e)
        Trustee Receivable***
 
 Trustee
        receivable principally represents any un-remitted principal payments collected
        by the securitization trust’s third-party loan servicer subsequent to the
        monthly remittance cut-off date. Each month, the third-party loan servicer,
        on
        behalf of each securitization trustee, remits all of the scheduled loan payments
        and unscheduled principal payoffs and curtailments received through a mid-month
        cut-off date. Unscheduled principal payments and prepaid principal loan payments
        received after the cut-off date for the current month are recorded by us
        as a
        trustee receivable on the consolidated balance sheet. The trustee or third-party
        loan servicer retains these unscheduled principal payments until the following
        month’s scheduled remittance date, at which time they principally will be used
        to pay down financing on mortgage loans held for investment, net.
 
 ***(f)
        Excess Cashflow Certificates***
 
 Prior
        to
        2004, we structured our securitization transactions to be accounted for as
        sales. In these transactions the excess cash flow certificates represent
        one or
        all of the following assets: (1) residual interest (“BIO”) certificates; (2) P
        certificates (prepayment penalty fees); (3) payments from our interest rate
        cap
        providers; and (4) net interest margin (“NIM”) owner trust certificates. Our
        excess cashflow certificates are classified as “trading securities” in
        accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and
        Equity Securities.” The amount initially recorded for the excess cashflow
        certificates at the date of a securitization structured as a sale reflected
        their allocated fair value. The amount recorded for the excess cashflow
        certificates is reduced for cash distributions received, and is adjusted
        for
        income accretion and subsequent changes in the fair value.  Any changes
        in
        fair value are recorded as a component of “other income” or “other expense” in
        our consolidated statement of operations. For the three and nine months ended
        September 30, 2005, we recorded $6.3 million and $11.5 million, respectively,
        of
        income due to an increase in the fair value of excess cashflow certificates.
        For
        the three and nine months ended September 30, 2004, we recorded $307,000
        of
        income due to an increase in the fair value of excess cashflow
        certificates.
 
 **8**
 We
        are
        not aware of any active market for the sale of our excess cashflow certificates.
        Accordingly, our estimate of fair value is subjective. Although we believe
        that
        the assumptions we use are reasonable, there can be no assurance as to the
        accuracy of the assumptions or estimates. The valuation of our excess cashflow
        certificates requires us to forecast interest rates, mortgage principal
        payments, prepayments and loan loss assumptions, each of which is highly
        uncertain and requires a high degree of judgment. The rate used to discount
        the
        projected cash flows also is critical in the valuation of our excess cashflow
        certificates. Management uses internal, historical mortgage loan performance
        data and forward London
        Inter-bank Offered Rate (“LIBOR”) interest
        rate curves to value future expected excess cash flows. We regularly analyze
        and
        review our assumptions to determine if the expected return (interest income)
        on
        our excess cashflow certificates is within our expectations.
 
 The
        Emerging Issues Task Force (“EITF”) issued EITF 99-20, “Recognition of Interest
        and Impairment on Purchased and Retained Beneficial Interests in Securitized
        Financial Assets,” which provides
        guidance on expected return (interest income) recognition and fair value
        measurement for interests (excess cashflow certificates) retained in a
        securitization transaction accounted for as a sale. In order
        to determine
        whether there has been a favorable change (increase to earnings) or an adverse
        change (decrease to earnings) in excess
        cashflow certificates, a comparison is made between (1) the present value
        of the
        excess cash flows at period end, and (2) the estimated carrying value at
        period
        end - which is based on the change from the beginning period and adjusted
        for
        the required rate of return within the period (currently, the required rate
        of
        return is our discount rate of 18% per annum). If the present value of the
        excess cash flows at period end is greater than the carrying value at period
        end, the change is considered favorable. If the present value of the excess
        cash
        flows at the end of the period is less than the carrying value, the change
        is
        considered adverse. In both situations, the fair value adjustment, if any,
        will
        be equal to the excess above or the deficit below the required rate of return
        (the discount rate).
 
 ***(g)
        Equipment, Net***
 
 Equipment,
        including leasehold improvements, is stated at cost, less accumulated
        depreciation and amortization. Depreciation of equipment is computed using
        the
        straight-line method over the estimated useful lives of three to seven years.
        Leasehold improvements are amortized over the lesser of the terms of the
        lease
        or the estimated useful lives of the improvements. Ordinary maintenance and
        repairs are charged to expense as incurred.
  Depreciation
        and amortization are included in “non-interest expense - general and
        administrative” in our consolidated statements of operations, and amounted to
        approximately $595,000 and $503,000 for the three months ended September
        30,
        2005 and 2004, respectively, and $1.7 million and $1.4 million for the nine
        months ended September 30, 2005 and 2004, respectively.
 
 ***(h)
        Real Estate Owned***
 
 Real
        estate owned (“REO”) represents properties acquired through, or in lieu of,
        foreclosure. REO properties are recorded at the lower of cost or fair value,
        less estimated selling costs. REO properties are periodically evaluated for
        recoverability and any subsequent declines in value are reserved for through
        a
        provision. Gains or losses on the sale of REO properties are recognized upon
        disposition.
 
 The
        balance of REO is included in “prepaid expenses and other assets” on the
        consolidated balance sheet. We had $3.1 million and $578,000 of REO properties
        as of September 30, 2005 and December 31, 2004, respectively. A provision
        of
        $51,000 was made during the three and nine months ended September 30, 2005
        for
        the decrease in the fair value of the REO properties. No provision was made
        during the three and nine months ended September 30, 2004 as we held no REO
        properties during the first nine months of 2004.
 
 ***(i)
        Warehouse Financing***
 
 Warehouse
        financing represents the outstanding balance of our borrowings collateralized
        by
        mortgage loans held pending securitization or sale. Generally, warehouse
        financing facilities are used as interim, short-term financing which bear
        interest at a fixed margin over an index, such as LIBOR. The outstanding
        balance
        of our warehouse financings will fluctuate based on our lending volume, cash
        flows from operations, whole-loan sale transactions, other financing activities
        and equity transactions.
  **9**
  ***(j)
        Financing on Mortgage Loans Held for Investment, Net***
 
 Financing
        on mortgage loans held for investment, net represents the securitization
        debt
        (asset-backed certificates or notes, referred to as “asset-backed securities”)
        used to finance loans held for investment - securitized, along with any
        discounts on the financing. The balance of this account will generally increase
        in proportion to the increase in mortgage loans held for investment -
        securitized.
 
 Asset-backed
        securities are secured, or backed, by the pool of mortgage loans held by
        the
        securitization trust, which are recorded as mortgage loans held for investment
        -
        securitized on our balance sheet. Generally,
        the asset-backed security financing is comprised of a series of senior and
        subordinate securities with varying maturities ranging generally from one
        to 20
        years and bearing either a fixed rate of interest or a variable rate of interest
        (representing a fixed margin over one-month LIBOR). The variable-rate
        asset-backed securities adjust monthly. Prior
        to
        2004, we did not structure our securitizations as secured financings and
        we did
        not have mortgage loans held for investment or related borrowings.
 
 Any
        securitization debt issuance costs are deferred and amortized, along with
        any
        discounts on the financing, on a level-yield basis over the estimated life
        of
        the debt issued. From time-to-time we may utilize derivative instruments
        (cash
        flow hedges), such as interest rate swap contracts and corridors (corresponding
        purchase and sale of interest rate caps with similar notional balances at
        different strike prices), in an effort to maintain a minimum margin or to
        lock
        in a pre-determined base interest rate on designated portions of our prospective
        future securitization financing (collectively, the hedged risk).
 
 Our securitizations are structured legally as sales and we
        are
        not legally required to make payments to the holders of the asset-backed
        securities. The only recourse of the asset-backed securities holders for
        repayment is from the underlying mortgages specifically collateralizing the
        debt. The assets held by the securitization trusts are not available to our
        general creditors. As with past securitizations, we have potential liability
        to
        each of the securitization trusts for any breach of the standard representations
        and warranties that we provided in connection with each
        securitization.
 
 Under SFAS
        140,
        the securitizations are accounted for as financings. The securitization trusts
        do not meet the qualifying special purpose entity (“QSPE”) criteria under SFAS
        140 and related interpretations due to their ability to enter into derivative
        contracts. Additionally, we have the option to purchase loans from the trust
        at
        our discretion. Our
        pre-2004 securitizations did meet the QSPE criteria, which required the
        securitizations to be accounted for as a sale of mortgage loans.
 
 **(** ***k)***  ***Interest
        Income***
 
 Interest
        income primarily represents the sum of (a) the gross interest, net of servicing
        fee, we earn on mortgage loans held for investment - securitized; (b) the
        gross
        interest we earn on mortgage loans held for investment - pre-securitization;
        (c)
        securitization accrued bond interest (income received from the securitization
        trust for fixed-rate asset-backed securities at the time of securitization
        settlement); (d) excess cashflow certificate income; (e) interest earned
        on bank
        accounts; (f) prepayment penalty fees; and (g) amortized discounts, deferred
        costs and fees recognized on a level-yield basis.
 
 Interest
        on mortgage loans is recognized as revenue when earned according to the terms
        of
        the mortgages and when, in the opinion of management, it is deemed collectible.
        Mortgage loans are placed on non-accrual status generally when the loan becomes
        90 days past due or earlier when concern exists as to the ultimate
        collectability of principal or interest. A non-accrual loan will be returned
        to
        accrual status when principal and interest payments are no longer 90 days
        past
        due and the loan is anticipated to be fully collectible.
 
 At
        September 30, 2005 and December 31, 2004, we had $79.7 million and $19.8
        million, respectively, of mortgage loans held for investment on non-accrual
        status.
  **10**
   ***(l)
        Interest Expense***
 
 Interest
        expense primarily represents the borrowing costs under (a) our warehouse
        credit
        facilities to finance loan originations; (b) securitization debt; (c) equipment
        financing; and (d) amortized discounts and deferred costs on a level-yield
        basis.
 
 ***(m)
        Gain on Sale of Mortgage Loans***
 
 Gains
        and
        losses on the sale of mortgage loans are recognized at settlement date and
        are
        determined by the difference between the selling price and the carrying value
        of
        the loans sold. These transactions are treated as sales in accordance with
        SFAS
        No. 140.  Any
        unamortized origination fees or costs at the date of sale are reflected as
        an
        adjustment to gain on sale.
 
 We
        generally sell loans on a non-recourse servicing-released basis and, as such,
        the risk of loss or default by the borrower has generally been assumed by
        the
        purchaser. However, we generally are required to make certain representations
        and warranties to these purchasers relating to borrowers’ creditworthiness, loan
        documentation and collateral. To the
        extent that we do not comply with such representations and warranties, or
        there
        are early payment defaults, we may be required to repurchase loans or indemnify
        these purchasers for any losses from borrower defaults.
 
 We
        establish a reserve for the contractual obligation to rebate a portion of
        any
        premium paid by a purchaser when a borrower prepays a sold loan within an
        agreed
        period. The premium recapture reserve is recorded as a liability on our
        consolidated financial statements when the mortgage loans are sold based
        on
        our historical experience. The
        provision for premium recapture is recognized at the date of sale and is
        included in the consolidated statements of operations as a reduction of gain
        on
        sale of mortgage loans.
 
 ***(n)
        Mortgage Servicing Rights Sales***
 
 We
        generally sell the mortgage servicing rights to a third party as of the
        securitization date. Upon the sale, we allocate a portion of the accounting
        basis of the mortgage loans held for investment to the mortgage servicing
        rights, which results in a discount to the mortgage loans held for investment.
        That discount is accreted as an adjustment to yield on the mortgage loans
        over
        the estimated life of the related loans, on a pool-by-pool basis, using the
        interest method calculation. For the three and nine months ended September
        30,
        2005, we received $5.8 million and $16.2 million, respectively, from a
        third-party servicer for the right to service the mortgage loans collateralizing
        our securitizations that were structured to be accounted for as secured
        financings. For the three and nine months ended September 30, 2004, we received
        $5.0 million and $12.3 million, respectively, from the third-party servicer
        for
        the right to service the mortgage loans.
 
 Additionally,
        for the nine months ended September 30, 2004, we received $661,000 from the
        third-party servicer for the right to service the mortgage loans collateralizing
        our securitization that was structured to be accounted for as a sale. This
        amount reflected the monies we received for $113.9 million of mortgage loans
        we
        delivered in January 2004 under a pre-funding feature in our fourth quarter
        2003
        securitization. Because this securitization transaction was accounted for
        as a
        sale, we recorded the $661,000 that we received for the mortgage servicing
        rights relating to the $113.9 million of mortgage loans as gain-on-sale revenue
        during the first quarter of 2004.
 
 ***(o)
                  Derivative
                  Instruments***
 
 We
        regularly issue securitization asset-backed securities collateralized by
        fixed-
        and variable-rate mortgage loans. As a result of this activity, we are exposed
        to interest rate risk beginning when our mortgage loans close and are recorded
        as assets until permanent financing is arranged, such as when asset-backed
        securities are issued. Our strategy is to use derivative instruments, in
        the
        form of interest rate swap contracts, in an effort to effectively lock in
        a
        pre-determined interest rate on designated portions of our prospective future
        securitization financings. At times, we also use corridors that are designed
        to
        limit our financing costs within the securitization by maintaining minimum
        margins. Both the interest rate swaps and corridors are derivative instruments
        that trade in liquid markets, and neither is used by us for speculative
        purposes.
 
 **11**
 In
        accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging
        Activities,” all derivatives are recorded on the balance sheet at fair value.
        When derivatives are used as hedges, certain criteria must be met, including
        contemporaneous documentation, in order to qualify for hedge accounting.
        Under
        SFAS No. 133, cash flow hedge accounting is permitted only if a hedging
        relationship is properly documented and qualifying criteria are satisfied.
        For
        derivative financial instruments not designated as hedging instruments, all
        gains or losses, whether realized or unrealized, are recognized in current
        period earnings.
 
 Cash
        flow
        hedge accounting is appropriate for hedges of uncertain cash flows associated
        with future periods - whether as a consequence of interest to be received
        or
        paid on existing variable-rate assets or liabilities or in connection with
        intended purchases or sales.
 
 Under
        cash flow hedge accounting treatment, derivative results are divided into
        two
        portions, “effective” and “ineffective.” The effective portion of the
        derivative's gain or loss is initially reported as a component of other
        comprehensive income (“OCI”) and subsequently reclassified into earnings when
        the forecasted transaction affects earnings. The ineffective portion of the
        gain
        or loss is reported in earnings immediately.
 
 To
        qualify for cash flow hedge accounting treatment, all of the following factors
        must be met:
 
 ·
              hedges
                  must be documented, with the objective and strategy stated, along
                  with an
                  explicit description of the methodology used to assess and measure
                  hedge
                  effectiveness;·
              dates
                  (or periods) for the expected forecasted events and the nature
                  of the
                  exposure involved (including quantitative measures of the size
                  of the
                  exposure) must be explicitly documented;·
              hedges
                  must be expected to be “highly effective” both at the inception of the
                  hedge and on an ongoing basis. Effectiveness measures must relate
                  the
                  gains or losses of the derivative to the changes in cash flows
                  associated
                  with the hedged item;·
              forecasted
                  transactions must be probable; and·
              forecasted
                  transactions must be made with different counterparties than the
                  reporting
                  entity.
 
 If
        and
        when hedge accounting is discontinued, typically when it is determined that
        the
        hedge no longer qualifies for hedge accounting, the derivative will continue
        to
        be recorded on the balance sheet at its fair value, with gains or losses
        being
        recorded in earnings. Any amounts previously recorded in OCI related to the
        discontinued hedge are classified to earnings over the remaining duration
        of the
        debt.
 
 If
        a
        hedge fails the effectiveness test (the ratio of the outstanding balance
        of the
        hedged item (debt) to the notional amount of the corridors goes above 125%
        or
        falls below 80%) at any time, and therefore is not expected to be “highly
        effective” at achieving offsetting changes in cash flows, the hedge ceases to
        qualify for hedge accounting. An
        assessment analysis is then prepared by management to determine the go-forward
        treatment of the corridors that failed the retrospective test to determine
        if
        any portion of the corridor may still qualify for hedge accounting treatment.
        If
        the analysis indicates future effectiveness for a portion of the corridor;
        the
        original corridor will effectively be split into two pieces, a trading security
        (ineffective portion) and “new hedge relationship” (effective
        portion).
 
 The “new hedge relationship” is determined by re-aligning the corridor with the
        projected remaining bond balances (debt) as of the date the original hedge
        became retrospectively ineffective. The ratio of the outstanding balance
        of the
        debt to notional size of the revised hedge will then be 100% as of the
        re-alignment date. The expected repayment pattern of the debt associated
        to the
        original corridor is used as the basis to establish the “new hedge relationship”
        future repayment pattern. The difference between the fair value of the original
        corridor and the “new hedge relationship” corridor on the re-alignment date is
        classified as a trading security. Once classified as a trading security,
        any
        changes in the fair value are recorded directly to the income statement as
        a
        component of gain or loss on derivative instruments.
 
 **12**
 **(4)**  **Recent
        Accounting Developments**
 
 *Accounting
        Changes and Error Corrections* .
        In May
        2005, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 154,
“Accounting Changes and Error Corrections - a replacement of APB Opinion No.
        20
        and FASB Statement No. 3,” which provides guidance on the accounting for and
        reporting of accounting changes and error corrections. SFAS No. 154 establishes,
        unless impracticable, retrospective application as the required method for
        reporting a change in accounting principle in the absence of explicit transition
        requirements specific to the newly adopted accounting principle. It also
        provides guidance for determining whether retrospective application of a
        change
        in accounting principle is impracticable and for reporting a change when
        retrospective application is impracticable. The correction of an error in
        previously issued financial statements is not an accounting change. However,
        the
        reporting of an error correction involves adjustments to previously issued
        financial statements similar to those generally applicable to reporting an
        accounting change retrospectively. Therefore, the reporting of a correction
        of
        an error by restating previously issued financial statements is also addressed
        by SFAS No. 154. SFAS
        No.
        154 is effective for accounting changes and corrections of errors made in
        fiscal
        years beginning after December 15, 2005. Early adoption is permitted for
        accounting changes and corrections of errors made in fiscal years beginning
        after the date SFAS No. 154 was issued. SFAS No. 154 does not change the
        transition provisions of any existing accounting pronouncements, including
        those
        that are in a transition phase as of the effective date of SFAS No. 154.
        We are
        not expecting any impact related to the adoption of SFAS No. 154 as we are
        not
        aware of any accounting changes or corrections of errors related to our
        financial statements.
 
 *Share-Based
        Payment.* In
        December 2004, the FASB published SFAS No. 123 (revised), “Share-Based
        Payment.” ** SFAS No.
        123(R) replaces SFAS No. 123, “Accounting for Stock-Based Compensation,” and
        supersedes APB Opinion No. 25, “Accounting for Stock Issued to
        Employees.” ** SFAS
        No.
        123(R) also amends SFAS No. 95, “Statement of Cash Flows,” ** to
        require that excess tax benefits be reported as a financing cash inflow rather
        than as a reduction of taxes paid.
 
 SFAS
        No.
        123(R) is intended to provide investors and other users of financial statements
        with more complete and neutral financial information by requiring that the
        compensation cost relating to share-based payment transactions be recognized
        in
        financial statements. The cost will be measured based on the fair value of
        the
        equity or liability instruments issued. We will be required to apply SFAS
        No.
        123(R), as amended by the SEC on April 14, 2005, as of the annual reporting
        period that begins after June 15, 2005 (or January 1, 2006). SFAS No. 123(R)
        applies to all awards granted after the required effective date and will
        not be
        applied to awards granted in periods before the required effective date,
        except
        to the extent that prior periods’ awards are modified, repurchased or cancelled
        after the required effective date. The cumulative effect of initially applying
        SFAS No. 123(R), if any, will be recognized as of the required effective
        date.
        We are currently evaluating pricing models and the transition provisions
        of this
        standard and will begin expensing stock options in the first quarter of
        2006.
 
 SFAS
        No.
        123(R) provides two alternatives for adoption: (1) a "modified prospective"
        method in which compensation cost is recognized for all awards granted
        subsequent to the effective date of SFAS No. 123(R) as well as for the unvested
        portion of awards outstanding as of the effective date; or (2) a "modified
        retrospective" method which follows the approach in the "modified prospective"
        method, but also permits the restatement of prior periods to record compensation
        costs calculated under SFAS No. 123 for the pro forma disclosure. We plan
        to
        adopt SFAS No. 123(R) using the modified retrospective method. Since we
        currently account for stock options granted to employees in accordance with
        the
        intrinsic value method permitted under Accounting
        Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to
        Employees,” no
        compensation expense is recognized. The impact of adopting SFAS No. 123(R)
        cannot be accurately estimated at this time, as it will depend on the market
        value and the amount of share based awards granted in future periods. However,
        had we adopted SFAS No. 123(R) in a prior period, the impact would approximate
        the impact as described in the disclosure of pro forma net income and earnings
        per share under SFAS No. 123 in Note 5 “- Stock-Based Compensation.” SFAS No.
        123(R) also requires that tax benefits received in excess of compensation
        cost
        be reclassified from operating cash flows to financing cash flows in the
        consolidated statement of cash flows. This change in classification will
        reduce
        net operating cash flows and increase net financing cash flows in the periods
        after adoption.
 
 **13**
 **(5)**  **Stock-Based
        Compensation**
 
 In
        December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based
        Compensation - Transition and Disclosure,” which amended SFAS No. 123. SFAS No.
        148 provides three alternative methods for a voluntary change to fair value
        accounting for stock-based compensation as permitted under SFAS No. 123.
        SFAS
        No. 123 established accounting and disclosure requirements using a
        fair-value-based method of accounting for stock-based employee compensation
        plans. In accordance with SFAS No. 148, and as allowed by SFAS No. 123, we
        continue to apply the intrinsic-value method of accounting prescribed by
        APB
        Opinion No. 25 and related interpretations, including FASB Interpretation
        (“FIN”) No. 44, “Accounting for Certain Transactions Involving Stock
        Compensation, an Interpretation of APB Opinion No. 25,” to account for our
        fixed-plan stock options. Under this method, compensation expense is recorded
        over the vesting period only if the current market price of the underlying
        stock
        exceeds the exercise price on the date of grant. Accordingly, no compensation
        expense has been recognized for stock option awards granted through September
        30, 2005, since the exercise prices were at the fair market value of our
        common
        stock on the grant date. We have elected to adopt only the disclosure
        requirements of SFAS No. 123.
 
 We
        estimate the fair value of our stock options using a Black-Scholes-Merton
        option-pricing model, which is used in estimating the fair value of traded
        options that have no vesting restrictions and are fully transferable. Stock
        option valuation models require the input of assumptions, including the expected
        stock price volatility. Our stock options have characteristics significantly
        different from those of traded options, and changes in the input assumptions
        can
        materially affect the fair value estimates. The following table illustrates
        the
        pro forma net income (loss) as if the fair-value-based method of SFAS No.
        123
        had been applied to account for stock-based compensation expenses:
 
 **Three
                  Months Ended**
                **September
                  30,**
              
              **Nine
                  Months Ended**
                **September
                  30,***(Dollars
                  in thousands, except share data)*
              
              **2005**
              
              **2004**
              
              **2005**
              
              **2004**Net
                  income (loss), as reported
              
              $
              6,634
              
              $
              (1,819
              )
              $
              12,268
              
              $
              (9,564
              )Deduct
                  total stock-based employee compensation
                expense
                  determined under fair-value-based methodfor
                  all awards, net of tax
              
              
              83
              
              
              72
              
              
              322
              
              
              213Pro
                  forma net income (loss) applicable tocommon
                  shares
              
              $
              6,551
              
              $
              (1,891
              )
              $
              11,946
              
              $
              (9,777
              )**Earnings
                  per share:**Basic
                  - as reported
              
              $
              0.33
              
              $
              (0.09
              )
              $
              0.60
              
              $
              (0.54
              )Basic
                  - pro forma
              
              $
              0.32
              
              $
              (0.10
              )
              $
              0.59
              
              $
              (0.55
              )Diluted
                  - as reported
              
              $
              0.31
              
              $
              (0.09
              )
              $
              0.58
              
              $
              (0.54
              )Diluted
                  - pro forma
              
              $
              0.31
              
              $
              (0.10
              )
              $
              0.56
              
              $
              (0.55
              )
 
 **(6)**  **Mortgage
        Loans Held for Investment, Net and Allowance for Loan
        Losses**
 
 Mortgage
        loans held for investment represents our basis in the mortgage loans that
        either
        were delivered to securitization trusts (denoted as mortgage loans held for
        investment - securitized) or are pending delivery into future securitizations
        or
        sale on a whole-loan basis (denoted as mortgage loans held for investment
        -
        pre-securitization), net of discounts, deferred fees and allowance for loan
        losses. Prior to 2004, we did not structure our securitizations as financings
        and we did not have mortgage loans held for investment.
 
 Mortgage
        loans held for investment - securitized is comprised of the mortgage loans
        collateralizing our outstanding securitization asset-backed securities. During
        the nine months ended September 30, 2005, we closed three securitization
        transactions totaling $2.3 billion ($797.8 million closed during the three
        months ended September 30, 2005) of secured financing, which was collateralized
        by an additional $69.6 million ($825.0 million of collateral relates to the
        third quarter of 2005 securitization) of mortgage loans held for investment
        -
        securitized. During the year ended December 31, 2004, we closed four
        securitization transactions totaling $2.3 billion of secured financings,
        which
        were collateralized by an additional $56.1 million of mortgage loans held
        for
        investment - securitized. All of these securitization transactions were
        structured to be accounted for as secured financings. Mortgage loans held
        for
        investment - securitized had a weighted-average interest rate of 7.74% and
        7.81%
        per annum at September 30, 2005 and December 31, 2004,
        respectively.
 
 **14**
 Mortgage
        loans held for investment - pre-securitization is comprised of mortgage loans
        to
        be included in a securitization and, to a lesser extent, an amount of loans
        that
        may be sold on a whole-loan basis. Included in our mortgage loans held for
        investment - pre-securitization at September 30, 2005 and December 31, 2004,
        was
        approximately $163.8 million and $135.7 million of loans that were pledged
        as
        collateral for our warehouse financings at September 30, 2005 and December
        31,
        2004, respectively. Mortgage loans held for investment - pre-securitization
        had
        a weighted-average interest rate of 8.06% and 7.86% per annum at September
        30,
        2005 and December 31, 2004, respectively.
 
 The
        following table presents a summary of mortgage loans held for investment,
        net at
        September 30, 2005 and December 31, 2004:
 
 *(Dollars
                  in thousands)*
              
              **At
                  September 30, 2005**
              
              **At
                  December 31, 2004**Mortgage
                  loans held for investment - securitized
              
              $
              3,842,380
              
              $
              2,165,353Mortgage
                  loans held for investment - pre-securitization
              
              
              224,451
              
              
              206,289Discounts
                  (MSR related)
              
              
              (23,239
              )
              
              (14,570
              )Net
                  deferred origination fees
              
              
              (8,937
              )
              
              (5,800
              )Allowance
                  for loan losses
              
              
              (29,787
              )
              
              (10,278
              )Mortgage
                  loans held for investment, net
              
              $
              4,004,868
              
              $
              2,340,994
 
 For
        the
        three months ended September 30, 2005 and 2004, we recorded interest income
        related to our mortgage loans held for investment - securitized, net of $69.7
        million and $23.8 million, respectively. For the nine months ended September
        30,
        2005 and 2004, we recorded interest income related to our mortgage loans
        held
        for investment - securitized, net of $173.1 million and $39.5 million,
        respectively.
 
 For
        the
        three months ended September 30, 2005 and 2004, we recorded interest income
        related to our mortgage loans held for investment - pre-securitization, net
        of
        $7.6 million and $5.6 million, respectively. For the nine months ended September
        30, 2005 and 2004, we recorded interest income related to our mortgage loans
        held for investment - pre-securitization, net of $21.3 million and $12.8
        million, respectively.
 
 The
        following table presents a summary of the activity for the allowance for
        loan
        losses on all mortgage loans held for investment for the three and nine months
        ended September 30, 2005 and 2004. We did not have mortgage loans held for
        investment or a related allowance prior to 2004.
 
 *(Dollars
                  in thousands)*
              
              **For
                  the Three Months**
                **Ended
                  September 30,**
              
              **For
                  the Nine Months**
                **Ended
                  September 30,****2005**
              
              **2004**
              
              **2005**
              
              **2004**Beginning
                  balance
              
              $
              23,983
              
              $
              2,676
              
              $
              10,278
              
              $
              --Provision
              
              
              6,586
              
              
              3,113
              
              
              20,928
              
              
              5,789Charge-offs
              
              
              (782
              )
              
              --
              
              
              (1,419
              )
              
              --Ending
                  balance
              
              $
              29,787
              
              $
              5,789
              
              $
              29,787
              
              $
              5,789
 
 As
        of
        September 30, 2005, December 31, 2004 and September 30, 2004, we had $79.7
        million, $19.8 million and $6.0 million, respectively, of mortgage loans
        held
        for investment that were 90 days or more delinquent under their payment terms,
        all of which were on non-accrual status. If the 90 days or more delinquent
        mortgage loans held during the three and nine months ended September 30,
        2005
        had been current throughout their terms, interest income would have increased
        by
        approximately $1.9 million and $3.6 million, respectively, for each
        period.  If
        the 90
        days or more delinquent mortgage loans held during the three months and nine
        months ended September 30, 2004 had been current throughout their terms,
        interest income would have increased by approximately $264,000 for both
        periods.
 **15**
 **(7)**  **Excess
        Cashflow Certificates**
  The
        following table presents the activity related to our excess cashflow
        certificates for the nine months ended September 30, 2005 and the year ended
        December 31, 2004:
 
 *(Dollars
                  in thousands)*
              
              **For
                  the Nine**
                **Months
                  Ended**
                **September
                  30, 2005**
              
              **For
                  the**
                **Year
                  Ended**
                **December
                  31, 2004**Balance,
                  beginning of year
              
              $
              14,933
              
              $
              19,853Accretion
              
              
              1,205
              
              
              2,073Cash
                  receipts
              
              
              (16,181
              )
              
              (8,359
              )Net
                  change in fair value
              
              
              11,520
              
              
              1,366Balance,
                  end of period
              
              $
              11,477
              
              $
              14,933
  In
        accordance with EITF 99-20, we regularly analyze and review our assumptions
        to
        determine whether the actual rate of return (interest income) on our excess
        cashflow certificates is within our expectations. The expected rate of return
        is
        recorded as a component of interest income. Any return that is either greater
        than or less than the expected rate of return is reflected as a fair value
        adjustment and is recorded as a component of “other income” in the consolidated
        statement of operations.
 
 Since
        we
        structured our 2005 and 2004 securitizations to be accounted for as secured
        financings, we no longer record excess cashflow certificates on our consolidated
        balance sheet for our newly issued securitizations.
 
 **(8)**  **Warehouse
        Financing**
 
 Our
        warehouse lines of credit are collateralized by specific mortgage loans held
        for
        investment - pre-securitization, the balances of which are equal to or greater
        than the outstanding balances under the lines at any point in time. The amounts
        available under these warehouse lines are based on the amount of the collateral
        pledged. The amount we have outstanding on our committed facilities at any
        quarter end generally is a function of our mortgage loan originations relative
        to the timing of our securitizations and whole-loan sales.
 
 The
        following table summarizes information regarding warehouse financing at
        September 30, 2005 and December 31, 2004:
 *(Dollars
                    in thousands)***Balance
                    at****Warehouse
                    Line of Credit**
                **Facility
                    Amount**
                **Interest
                    Rate**
                
                **9/30/05**
                
                **12/31/04**
                
                **Expiration
                    Date**RBS
                    Greenwich Capital
                $
                    350,000
                Margin
                    over LIBOR
                
                $  33,991
                
                $
                    135,653
                
                October
                    2006Citigroup
                350,000
                Margin
                    over LIBOR
                
                129,843
                
                --
                
                March
                    2006Bank
                    of America(1)
                350,000
                Margin
                    over LIBOR
                
                --
                
                --
                
                August
                    2006Friedman,
                    Billings, Ramsey
                200,000
                Margin
                    over LIBOR
                
                --
                
                --
                
                December
                    2005Total
                $
                    1,250,000
                
                
                $
                    163,834
                
                $
                    135,653
 *(1)*
              *In
                  September 2005, we obtained a new warehouse financing facility
                  with Bank
                  of America.*
 
 As
        securitization transactions are completed, a substantial portion of the proceeds
        from the long-term debt issued in the securitization is used to pay down
        our
        warehouse lines of credit. Therefore, the outstanding amount of warehouse
        financing will fluctuate from quarter to quarter, and could be significantly
        higher or lower than the $163.8 million we held at September 30, 2005, as
        our
        mortgage production and securitization programs continue.
 
 The
        terms
        of our warehouse agreements require us to comply with various operating and
        financial covenants, which are customary for agreements of this type. The
        continued availability of funds provided to us under these agreements is
        subject
        to, among other conditions, our continued compliance with these covenants.
        We
        believe that we are in compliance with such covenants as of September 30,
        2005.
 
 **16**
 **(9)**  **Financing
        on Mortgage Loans Held for Investment, Net**
 
 Commencing
        in 2004, we began structuring our securitizations to be accounted for as
        secured
        financings, in accordance with SFAS No. 140. We have completed seven
        securitizations (three in 2005 and four in 2004) that were structured to
        be
        accounted for as secured financings. Prior to March 2004, we structured our
        securitizations to be accounted for as sales.
 
 For
        the
        seven securitizations completed since March 2004, the securitization trust
        or
        special purpose entity (“SPE”) holds mortgage loans, referred to as
“securitization loans,” and issues debt (and certificates in 2004) represented
        by securitization asset-backed securities. Accordingly, the securitization
        loans
        are recorded as an asset on our balance sheet under “mortgage loans held for
        investment, net” and the corresponding securitization debt is recorded as a
        liability under “financing on mortgage loans held for investment, net.” Since
        these securitizations were structured as financings and not sales, no
        gain-on-sale revenue was recorded at the time the securitizations closed.
        Rather, we record interest income from the securitized loans and interest
        expense from the asset-backed securities issued in connection with each
        securitization over the life of the securitization. Deferred securitization
        debt
        issuance costs are amortized on a level-yield basis over the estimated life
        of
        the asset-backed securities. We also allocate a portion of the accounting
        basis
        of the mortgage loans held for investment to the MSRs, which results in a
        discount to the mortgage loans held for investment. Both the discount related
        to
        the MSRs and the net incremental direct fees and costs to originate the loans
        are amortized on a level-yield basis over the estimated life of the related
        loans using the interest method calculation.
 
 We
        historically have sold or financed our mortgage loans through the securitization
        market, issuing asset-backed securities. We will continue to build our loan
        portfolio and match fund our mortgage loans using asset-backed securities
        issued
        in the securitization market. We believe that issuing asset-backed securities
        provides us a low cost method of financing our mortgage loan portfolio. In
        addition, it allows us to reduce our interest rate risk on our fixed-rate
        loans
        by securitizing them. Our ability to issue asset-backed securities depends
        on
        the overall performance of our assets, as well as the continued general demand
        for securities backed by non-conforming mortgage loans.
 
 At
        September 30, 2005 and December 31, 2004, the outstanding financing on mortgage
        loans held for investment, net consisted of $3.9 billion and $2.2 billion,
        respectively.
 
 The
        following table summarizes the expected maturities on our secured financings
        at
        September 30, 2005:
 
 *(Dollars
                  in thousands)*
              
              **Total**
              
              **Less
                  than**
                **One
                  Year**
              
              **One
                  to**
                **Three
                  Years**
              
              **Three
                  to**
                **Five
                  Years**
              
              **More
                  than**
                **Five
                  Years**Securitization
                  asset-backedsecurities,
                  net
              
              $
              3,895,312
              
              $
              1,509,085
              
              $
              1,525,472
              
              $
              483,033
              
              $
              377,722
 
 Amounts
        shown above reflect estimated repayments based on anticipated receipt of
        principal and interest on the underlying mortgage loan collateral using similar
        prepayment speed assumptions as we use to value our excess cashflow
        certificates.
 
 **(10)**  **Derivative
        Instruments**
 
 We
        account for our derivative financial instruments such as corridors and interest
        rate swaps as cash flow hedges. The corridors hedge our interest rate risk
        on
        securitization variable-rate debt and the interest rate swaps hedge uncertain
        cash flows associated with future securitization financing. At September
        30,
        2005 and December 31, 2004, the fair value of our corridors totaled $15.3
        million and $16.1 million, respectively, and the fair value of our interest
        rate
        swaps totaled gains of $2.0 million and losses of $166,000, respectively.
        The
        fair value of our corridors and interest rate swaps are recorded as a component
        of other assets and other liabilities.
 
 **17**
 As
        of
        September 30, 2005, the effective portion of the changes in fair value of
        the
        corridors and interest rate swaps and any gains or losses on terminated swaps
        are recorded as components of accumulated other comprehensive income, and
        total,
        net of tax, gains of $2.0 million and $1.2 million and losses of $2.7 million,
        respectively. As of December 31, 2004, the effective portion of the changes
        in
        fair value of the corridors, interest rate swaps and the loss on the terminated
        swaps are recorded as components of accumulated other comprehensive loss
        and
        total losses, net of tax, of $476,000, $101,000 and $1.6 million, respectively.
        Accumulated other comprehensive income or loss relating to cash flow hedging
        is
        reclassified to earnings as a yield adjustment to interest expense as the
        interest payments affect earnings. Hedge ineffectiveness associated with
        hedges
        resulted in losses of $553,000 and $871,000 for the three and nine months
        ended
        September 30, 2005, respectively. Hedge ineffectiveness resulted in a loss
        of
        $7,000 and a gain of $231,000 for the three and nine months ended September
        30,
        2004, respectively.
 
 If
        a
        hedge fails the effectiveness test (the ratio of the outstanding balance
        of the
        hedged item (debt) to the notional amount of the corridors rise above 125%
        or
        falls below 80%) at any time, and therefore is not expected to be “highly
        effective” at achieving offsetting changes in cash flows, the hedge ceases to
        qualify for hedge accounting. During the three and nine months ended September
        30, 2005, $390,000 of corridors classified within prepaid and other assets
        were
        no longer deemed highly effective, as the ratio of the outstanding balance
        of
        the hedged item (debt) to the notional amount of the corridors was
        outside of the range of  80% to 125%, and were classified
        as
        trading securities. During the three and nine months ended September 30,
        2005, a
        gain of $6,000 was recorded to earnings on the changes in fair value of the
        corridors held as trading securities. None of the corridors tested during
        the
        three and nine months ended September 30, 2004 failed the effectiveness
        test.
 
 Prior
        to
        May 2004, derivatives that were not designated as hedging instruments and
        thus
        classified as trading securities resulted in a $377,000 net loss for the
        nine
        months ended September 30, 2004.
 
 The
        following table summarizes the notional amount, expected maturities and
        weighted-average strike price for the corridors that we held as of September
        30,
        2005:
 
 *(Dollars
                  in thousands**except
                  strike price)*
              
              **Total**
              
              **One
                  Year**
              
              **Two
                  Years**
              
              **Three
                  Years**
              
              **Four
                  Years**
              
              **Five
                  Years & Thereafter**Caps
                  bought - notional
              
              $
              2,739,248
              
              $
              1,806,827
              
              $
              592,935
              
              $
              179,834
              
              $
              39,803
              
              $
              119,849Weighted
                  average strikeprice
              
              $
              5.38
              
              $
              4.65
              
              $
              6.32
              
              $
              7.74
              
              $
              7.46
              
              $
              7.44Caps
                  sold - notional
              
              $
              2,739,248
              
              $
              1,806,827
              
              $
              592,935
              
              $
              179,834
              
              $
              39,803
              
              $
              119,849Weighted
                  average strikeprice
              
              $
              8.22
              
              $
              7.81
              
              $
              8.81
              
              $
              9.42
              
              $
              9.27
              
              $
              9.29
 
 The
        notional amount of the caps bought and sold totaled $1.9 billion each at
        December 31, 2004.
 
 **(11)**  **Earnings
        Per Share**
 
 Earnings
        per share (“EPS”) is computed in accordance with SFAS No. 128, “Earnings Per
        Share.” Basic
        EPS
        is computed by dividing net income by the weighted average number of common
        shares outstanding during each period presented. The computation of diluted
        earnings per share gives effect to stock options (except for those stock
        options
        with an exercise price greater than the average market price of our common
        stock
        during the period) outstanding during the applicable periods. The
        following is a reconciliation of the denominators used in the computations
        of
        basic and diluted EPS. The numerator for calculating both basic and diluted
        EPS
        is net income (loss).
 
 **18**
  **Three
                    Months Ended**
                  **September
                    30**
                
                **Nine
                    Months Ended**
                  **September
                    30,***(Dollars
                    in thousands, except share and per share data)*
                
                **2005**
                
                **2004**
                
                **2004**
                
                **2004**Net
                    income (loss), as reported
                
                $
                6,634
                
                $
                (1,819
                )
                $
                12,268
                
                $
                (9,564
                )Less
                    preferred stock dividends
                
                
                --
                
                
                --
                
                
                --
                
                
                --Net
                    income (loss) available to
                  common
                    shareholders
                
                $
                6,634
                
                $
                (1,819
                )
                $
                12,268
                
                $
                (9,564
                )Basic
                    - weighted-average shares
                
                
                20,366,675
                
                
                19,347,154
                
                
                20,329,228
                
                
                17,744,372Basic
                    EPS
                
                $
                0.33
                
                $
                (0.09
                )
                $
                0.60
                
                $
                (0.54
                )Basic
                    - weighted-average shares
                
                
                20,366,675
                
                
                19,347,154
                
                
                20,329,228
                
                
                17,744,372Incremental
                    shares-options(1)
                
                
                923,852
                
                
                --
                
                
                939,604
                
                
                --Diluted
                    - weighted-average shares
                
                
                21,290,527
                
                
                19,347,154
                
                
                21,268,832
                
                
                17,744,372Diluted
                    EPS(1)
                
                $
                0.31
                
                $
                (0.09
                )
                $
                0.58
                
                $
                (0.54
                )
 *(1)*  *For
        the three and nine months ended September 30, 2004, weighted-average shares
        of
        approximately 949,000 and 1.0 million, respectively, of in-the-money employee
        stock options were excluded from the calculation of diluted earnings per
        share
        since their effect was anti-dilutive.*
 
 The
        weighted-average share count for the three and nine months ended September
        30,
        2005 also reflects the full impact of our public offering in the third quarter
        of 2004. In July 2004, we completed the public offering of 4,375,000 shares
        of
        our common stock at a price of $6.50 per share. We sold 3,137,597 of these
        shares from authorized but unissued shares and existing stockholders sold
        1,237,403 shares. In August 2004, the underwriters exercised a portion of
        their
        over-allotment option, which resulted in existing stockholders selling 85,000
        additional shares. We received approximately $18.7 million in net proceeds
        from
        the offering, which excludes the proceeds related to those shares sold by
        existing stockholders and after underwriting and other related professional
        fees. The proceeds were used to repay warehouse financings and originate
        mortgage loans.
 
 **(12)**  **Series
        A 10% Preferred Stock**
 
 In
        August
        2001, as part of our August 2001 exchange offer, the holders of approximately
        $139.2 million (of the initial $150.0 million) principal amount of our 9.5%
        senior notes due 2004 exchanged their notes for, among other interests, 139,156
        shares of our then newly issued Series A 10% Preferred Stock, having an
        aggregate preference amount of approximately $13.9 million.
 
 In
        June
        2004, we redeemed all of our outstanding Series A 10% Preferred Stock at
        its
        preference amount, or approximately $13.9 million. Holders of the Series
        A 10%
        Preferred Stock were previously entitled to receive cumulative preferential
        dividends at the rate of 10% per annum of the preference amount, payable
        in cash
        semi-annually, commencing in July 2003.
 
 **(13)**  **2005
        Stock Incentive Plan and 2005 Senior Executive Bonus Plan**
 
 At
        our
        annual stockholders meeting on May 24, 2005, our stockholders approved our
        (a)
        2005 Stock Incentive Plan (“2005 Plan”) and (b) 2005 Senior Executive Bonus Plan
        (“2005 Bonus Plan”). In March 2005, our Board of Directors approved the adoption
        of the 2005 Plan and the 2005 Bonus Plan, and the Compensation Committee
        of the
        Board of Directors (“Compensation Committee”) designated the participants in the
        2005 Bonus Plan for 2005 (including establishing for each participant a target
        award, performance goal and formula to determine the actual award). The 2005
        Plan became effective upon approval by our stockholders at the annual
        stockholders meeting. The 2005 Bonus Plan became effective in March 2005
        upon
        its adoption by the Board of Directors but was subject to approval by our
        stockholders at the annual stockholders meeting.
 
 **19**
 **2005
        Stock Incentive Plan** - A
        total
        of 1,000,000 shares of our common stock are initially reserved for issuance
        under the 2005 Plan, subject to adjustment only in the event of a stock split,
        stock or other extraordinary dividend, or other similar change in our common
        stock or capital structure.
 
 The
        2005
        Plan is administered by the Compensation Committee. The 2005 Plan provides
        for
        the grant of stock options, restricted stock, restricted stock units, stock
        appreciation rights and dividend equivalent rights (collectively referred
        to as
“awards”). Incentive stock options may be granted only to employees. Awards
        other than incentive stock options may be granted to employees, directors
        and
        consultants.
 
 The
        term
        of any award granted under the 2005 Plan may not be for more than ten years
        (or
        five years in the case of an incentive stock option granted to any participant
        who owns stock representing more than 10% of the combined voting power of
        our
        company or any parent or subsidiary of ours), excluding any period for which
        the
        participant has elected to defer the receipt of the shares or cash issuable
        pursuant to the award.
 
 The
        2005
        Plan authorizes the administrator to grant incentive stock options and
        non-qualified stock options at an exercise price not less than 100% of the
        fair
        market value of our common stock on the date the option is granted (or 110%,
        in
        the case of an incentive stock option granted to any employee who owns stock
        representing more than 10% of the combined voting power of us or any parent
        or
        any of our subsidiaries). In the case of stock appreciation rights, the base
        appreciation amount will not be less than 100% of the fair market value of
        our
        common stock on the date of grant. In the case of all other awards granted
        under
        the 2005 Plan, the exercise or purchase price will be determined by the
        administrator. The exercise or purchase price is generally payable in cash,
        check, shares of common stock or with respect to options, payment through
        a
        broker-dealer sale and remittance procedure.
 
 For
        the
        nine months ended September 30, 2005, no executive officer, employee or
        director, and no associate of any executive officer or director, has been
        granted any options under the 2005 Plan.
 
 **2005
        Senior Executive Bonus Plan -** Under
        Section 162(m) of the Internal Revenue Code of 1986, as amended (the “Code”),
        the federal income tax deductibility of compensation paid to our Chief Executive
        Officer and to each of our four other most highly compensated executive officers
        may be limited to the extent that such compensation exceeds $1.0 million
        in any
        one year. Under Section 162(m) of the Code, we may deduct compensation in
        excess
        of that amount if it qualifies as “performance-based compensation,” as defined.
        The 2005 Bonus Plan is designed to qualify awards made under the plan as
        performance-based compensation so that we may receive a federal income tax
        deduction for the payment of incentive bonuses to our executives.
 
 The
        2005
        Bonus Plan is administered by the Compensation Committee in accordance with
        the
        requirements of Section 162(m) of the Code.
 
 All
        of
        our officers are eligible to participate in the 2005 Bonus Plan. Participation
        in the 2005 Bonus Plan by any particular officer is determined annually in
        the
        discretion of the Compensation Committee. For 2005, the participants in the
        2005
        Bonus Plan are Hugh Miller, our Chief Executive Officer, and Richard Blass,
        our
        Chief Financial Officer. Participation in future years will be at the discretion
        of the Compensation Committee, but it currently is expected that two to ten
        officers will participate each year.
 
 For
        each
        year, the Compensation Committee will establish in writing: (i) a target
        award
        for each participant; (ii) the performance goals which must be achieved in
        order
        for the participant to be paid the target award; and (iii) a formula for
        increasing or decreasing a participant’s target award depending upon how actual
        performance compares to the pre-established performance goals. Each
        participant’s target award will be expressed as either a percentage of his or
        her base salary or such other amount as determined by the Compensation
        Committee. Base salary under the 2005 Bonus Plan means the participant’s annual
        salary rate on the last day of the fiscal year.
 
 There
        are
        twenty-nine performance measures which the Compensation Committee may use
        in
        setting the performance goals for any year. Specifically, the performance
        goals
        applicable to any participant will provide for a targeted level of achievement
        using one or more of the following measures: (i) increase in share price,
        (ii)
        EPS, (iii) total stockholder return, (iv) operating margin, (v) gross margin,
        (vi) return on equity, (vii) return on assets, (viii) return on investment,
        (ix)
        operating income, (x) net operating income, (xi) pre-tax income, (xii) cash
        flow, (xiii) revenue, (xiv) expenses, (xv) earnings before interest, taxes
        and
        depreciation, (xvi) economic value added, (xvii) market share, (xviii) cost
        to
        originate loans, (xix) loan quality, (xx) loan origination, (xxi) corporate
        overhead costs, (xxii) loan delinquency rates, (xxiii) liquidity management,
        (xxiv) loan losses, (xxv) net interest income, (xxvi) net interest income
        margin, (xxvii) return on capital invested, (xxviii) stockholders’ equity and
        (xxix) income (before income tax expense).
 
 **20**
 After
        the
        end of each year, the Compensation Committee must certify in writing the
        extent
        to which the performance goals applicable to each participant were achieved
        or
        exceeded. The actual award (if any) for each participant will be determined
        by
        applying the formula to the level of actual performance which has been certified
        by the Compensation Committee. However, the Compensation Committee retains
        the
        discretion to eliminate or reduce the actual award payable to any participant
        below that which otherwise would be payable under the applicable formula.
        Additionally, a participants actual award under the 2005 Bonus Plan may not
        exceed $5.0 million for any year.
 
 Awards
        under the 2005 Bonus Plan generally will be payable in cash after the end
        of the
        year during which the award was earned. However, the Compensation Committee
        reserves the right to declare any award wholly or partially payable in an
        equivalent amount of restricted stock issued under the 2005 Plan or successor
        equity compensation plan.
 
 **(14)**  **Subsequent
        Events**
 
 We
        paid a
        cash dividend of $0.05 per common share on October 7, 2005 to stockholders
        of
        record as of the close of business on September 20, 2005.
 
  **21**
  **Item
        2. Management’s Discussion and Analysis of Financial
        Condition and Results of Operations.**
 
 *This
        Quarterly Report on Form 10-Q should be read in conjunction with the more
        detailed and comprehensive disclosures included in our Annual Report on Form
        10-K for the year ended December 31, 2004. In addition, please read this
        section
        in conjunction with our Consolidated Financial Statements and Notes to
        Consolidated Financial Statements herein, and please see “- Forward-Looking
        Statements and Risk Factors.”*
 
 **General**
 
 We
        are a
        specialty consumer finance company that originates, securitizes and sells
        and,
        prior to May 2001, serviced non-conforming mortgage loans. Our loans are
        primarily secured by first mortgages on one- to four-family residential
        properties. Throughout our 23-year operating history, we have focused on
        lending
        to individuals who generally do not satisfy the credit, documentation or
        other
        underwriting standards set by more traditional sources of mortgage credit,
        including those entities that make loans in compliance with conventional
        mortgage lending guidelines established by Fannie Mae and Freddie Mac. We
        make
        mortgage loans to these borrowers for purposes such as debt consolidation,
        refinancing, education, home purchase and home improvements. We
        provide our customers with a variety of loan products designed to meet their
        needs, using a risk-based pricing strategy to develop products for different
        risk categories. Historically, the majority of our loan production has been
        fixed-rate with amortization schedules ranging from five years to 30
        years.
 
 Our
        mortgage business has two principal components. First, we make mortgage loans
        to
        individual borrowers, which is a cash outlay for us. At the time we originate
        a
        loan, and prior to the time we securitize or sell the loan, we either finance
        the loan by borrowing under our warehouse lines of credit or utilizing our
        available working capital. Second, we either securitize loans or sell our
        loans
        on a whole-loan basis, using the net proceeds from these transactions to
        repay
        our warehouse lines of credit and for working capital. Prior to 2004, we
        structured our securitizations to be accounted for as sales, which required
        us
        to record cash and non-cash revenues as gain on sale at the time the
        securitizations were completed. In 2004, we began structuring our
        securitizations to be accounted for as secured financings, which requires
        us to
        record revenues from these transactions over time. We record interest income
        from the securitized loans and interest expense from the asset-backed securities
        issued in connection with each securitization over the life of the loans
        or
        securities issued in the securitization. When we sell loans on a whole-loan
        basis, we record the premiums received upon sale as revenue. (See “-
        Securitizations and Whole-Loan Sales”).
 
 **Origination
        of Mortgage Loans**
 
 We
        originate mortgage loans through two distribution channels, wholesale and
        retail. In the wholesale channel, we receive loan applications from independent
        third-party mortgage brokers who submit applications on behalf of borrowers.
        In
        the retail channel, we receive loan applications directly from borrowers.
        We
        process and underwrite the submission and, if the loan conforms to our
        underwriting criteria, approve the loan and lend the money to the borrower.
        We
        underwrite loan packages for approval through our Woodbury, New York
        headquarters, our Cincinnati, Ohio underwriting hub, or our regional offices
        in
        Phoenix, Arizona, Jacksonville, Florida and Boston, Massachusetts. We also
        purchase closed loans on a limited basis.
 
 For
        the
        three and nine months ended September 30, 2005 and 2004, we originated the
        following loans by origination channel:
 **For
                    the Three Months**
                  **Ended
                    September 30,**
                
                **For
                    the Nine Months**
                  **Ended
                    September 30,***(Dollars
                    in thousands)*
                
                **2005**
                
                **2004**
                
                **2005**
                
                **2004**Originations
                    by channel:Wholesale
                
                $
                526,165
                
                $
                392,883
                
                $
                1,482,177
                
                $
                1,109,211Retail
                
                
                497,996
                
                
                289,103
                
                
                1,259,833
                
                
                748,621Total
                    originations
                
                $
                1,024,161
                
                $
                681,986
                
                $
                2,742,010
                
                $
                1,857,832
  **22**
  For
        the
        three and nine months ended September 30, 2005, we originated $1.0 billion
        and
        $2.7 billion, respectively, of loans, an increase of 50.2% and 47.6%,
        respectively, over the $682.0 million and $1.9 billion, respectively, of
        loans
        originated in the comparable periods of 2004. Loan originations for the three
        and nine months ended September 30, 2005 were comprised of $526.2 million
        and
        $1.5 billion, respectively, of wholesale loans, representing 51.4% and 54.1%,
        respectively, of total loan production, and $498.0 million and $1.3 billion,
        respectively, of retail loans, representing 48.6% and 45.9%, respectively,
        of
        total loan production. This compares to originations of $392.9 million and
        $1.1
        billion, respectively, of wholesale loans, or 57.6% and 59.7%, respectively,
        of
        total loan production, and $289.1 million and $748.6 million, respectively,
        of
        retail loans, or 42.4% and 40.3%, respectively, of total loan production,
        during
        the three and nine months ended September 30, 2004.
 
 ***Wholesale
        Loan Channel.*** Through
        our wholesale loan distribution channel, which is principally conducted out
        of
        our Woodbury, New York headquarters, we primarily originate mortgage loans
        indirectly through independent mortgage brokers and other real estate
        professionals who submit loan applications on behalf of borrowers. We currently
        originate the majority of our wholesale loans in 29 states, through a network
        of
        approximately 2,300 independent brokers. The broker’s role is to source the
        business, identify the applicant, assist in completing the loan application,
        and
        process the loans, including, among other things, gathering the necessary
        information and documents, and serving as the liaison between the borrower
        and
        us through the entire origination process. We review, process and underwrite
        the
        applications submitted by the broker, approve or deny the application, set
        the
        interest rate and other terms of the loan and, upon acceptance by the borrower
        and satisfaction of all of the conditions that we impose as the lender, lend
        the
        money to the borrower. Due to the fact that brokers conduct their own marketing
        and employ their own personnel to complete loan applications and maintain
        contact with borrowers - for which they charge a broker fee - originating
        loans
        through our broker network is designed to allow us to increase our loan volume.
        Additionally, commencing in the third quarter of 2004, and on a limited basis,
        we purchased loans on a flow basis from select independent correspondents.
        This
        typically involves purchasing individual loans shortly after the loans are
        originated, as opposed to bulk purchases, which entail purchasing typically
        larger pools of loans at one time. We re-underwrite every correspondent loan,
        in
        accordance with our underwriting standards, prior to purchasing.
 
 ***Retail
        Loan Channel.***  Through
        our retail distribution channel, we develop retail loan leads primarily through
        our telemarketing system located in Cincinnati, Ohio, and also through Internet
        leads, direct mail and our network of 12 origination centers located in ten
        states, including our most recent office in Las Vegas, Nevada, which opened
        in
        October 2005. We continually monitor the performance of our retail operations
        and evaluate current and potential retail office locations on the basis of
        selected demographic statistics, marketing analyses and other criteria that
        we
        have developed.
 
 Typically,
        contact with the customer initially is handled  through
        our telemarketing center. Through
        our marketing efforts, the retail loan channel is able to identify, locate
        and
        focus on individuals who, based on historic customer profiles, are likely
        customers for our products. Our telemarketing representatives identify
        interested customers and forward these potential borrowers to a branch manager
        through our proprietary loan origination system, Click & Close ® (“C&C”).
        The branch managers, in turn, distribute these leads to mortgage analysts
        via
        C&C by queuing the loan to a mortgage analyst’s “to do” list in C&C. The
        assigned mortgage analyst discusses the applicant’s qualifications and available
        loan products, negotiates loan terms with the borrower, ensures
        that an appraisal has been ordered from an independent third-party appraisal
        company (or may, when certain underwriting criteria have been met, obtain
        an Insured
        Automated Valuation Model (“Insured AVM”) value ( the
        coupling of a third-party valuation estimate and insurance on that
        value) ,
        orders
        a credit report from an independent, nationally recognized credit reporting
        agency and
        processes the loan through completion. Our
        mortgage analysts are trained to structure loans that meet the applicant’s needs
        while satisfying our lending guidelines. C&C
        is utilized to queue the loan to underwriters at the appropriate times for
        approvals and help to facilitate the loan application process through
        closing.
 
 ***Competition.*** As an
        originator of mortgage loans, we face intense competition, primarily from
        diversified consumer financial companies and other diversified financial
        institutions, mortgage banking companies, commercial banks, credit unions,
        savings and loans, mortgage real estate investment trusts (“REITs”),
        government-sponsored entities (such as Fannie Mae and Freddie Mac) and finance
        companies. Many of these competitors in the financial services business are
        substantially larger, have more capital and substantially greater resources
        than
        we do, a lower cost of funds and a more established market presence than
        we
        have. In addition, we have experienced increased competition over the Internet,
        where barriers to entry are relatively low. Competition can take many forms,
        including interest rates and costs of the loan, less stringent underwriting
        standards, convenience in obtaining a loan, customer service, amount and
        term of
        a loan and marketing and distribution channels. Furthermore, the level of
        gains
        realized by us and our competitors on the sale of the type of loans originated
        has attracted additional competitors into this market, which has lowered
        the
        gains that may be realized by us on future loan sales. In addition, efficiencies
        in the asset-backed market have generally created a desire for even larger
        transactions, giving companies with greater volumes of originations a
        competitive advantage, including a pricing advantage. In the wholesale channel,
        we seek to compete with our competitors through an emphasis on quality of
        service, diversified products, use of technology and competitive
        pricing.
 
 **23**
 We
        depend
        primarily on independent mortgage brokers for the origination of our wholesale
        mortgage loans, which constitute a significant portion of our loan production.
        These independent mortgage brokers have relationships with multiple lenders
        and
        are not obligated by contract or otherwise to do business with us. We compete
        with these lenders for the independent brokers’ business on the basis of
        pricing, service, loan fees, costs and other factors. Competition from other
        lenders could negatively affect the volume and pricing of our wholesale loans,
        which could reduce our loan production.
  ***Pooling
        of Loans Prior to Securitization or Whole-Loan Sales.*** After we
        fund a loan, we typically pledge the loan as collateral under a warehouse
        line
        of credit to obtain financing against that loan. By doing so, we replenish
        our
        capital so we can make new loans. Typically, loans are financed through a
        warehouse line of credit for only a limited time - generally, not more than
        three months - long enough to enable us to either securitize or sell the
        loans.
        During the time we hold the loans prior to securitization or whole-loan sale,
        we
        earn interest income from the borrower. The income is partially offset by
        any
        interest we pay to our warehouse creditors for providing us with financing.
        Additionally, we pay a third-party servicer a sub-servicing fee to perform
        the
        servicing of the mortgage loans during this pre-securitization or pre-sale
        holding period.
 
 ***Securitizations
        and Whole-Loan Sales.*** We
        securitize or sell all of the mortgage loans we originate. As
        a
        fundamental part of our present business and financing strategy, we securitize
        a
        substantial portion of our mortgage loans. We may also choose to sell a portion
        of our loans as whole loans when we believe that market conditions present
        an
        opportunity to achieve a better return through such sales. We
        select
        the outlet depending on market conditions, relative profitability and cash
        flows.
 
 We
        apply
        the net proceeds from securitizations and whole-loan sales to pay down our
        warehouse lines of credit - in order to make available capacity under these
        facilities for future funding of mortgage loans - and utilize any additional
        funds for working capital.
 
 The
        following table sets forth certain information regarding loans sold through
        our
        securitizations and on a whole-loan basis during the three and nine months
        ended
        September 30, 2005 and 2004:
 
 **Three
                  Months Ended**
                **September
                  30,**
              
              **Nine
                  Months Ended**
                **September
                  30,***(Dollars
                  in thousands)*
              
              **2005**
              
              **2004**
              
              **2005**
              
              **2004**Loan
                  securitizations - gain on sale(1)
              
              $
              --
              
              $
              --
              
              $
              --
              
              $
              113,927Loan
                  securitizations - portfolio based
              
              
              825,000
              
              
              639,999
              
              
              2,324,999
              
              
              1,709,990Whole-loan
                  sales
              
              
              151,026
              
              
              49,236
              
              
              390,969
              
              
              90,660Total
                  securitizations and whole-loan sales
              
              $
              976,026
              
              $
              689,235
              
              $
              2,715,968
              
              $
              1,914,577
 
 *(1)
        For the nine months ended September 30, 2004, we delivered $113.9 million
        of
        mortgage loans under a pre-funding feature in our fourth quarter 2003
        securitization and recorded gain-on-sale related revenue during the first
        quarter of 2004. Because the fourth quarter 2003 securitization was structured
        as a sale, we recorded gain-on-sale revenue during the nine months ended
        September 30, 2004 when we delivered the loans under the pre-funding feature
        to
        the securitization trust in January 2004.*
  **24**
  ***Securitizations.*** In
        a
        securitization, we pool together loans, typically each quarter, and conveys
        these loans to a newly formed securitization trust. These trusts are established
        for the limited purpose of buying our mortgage loans and are bankruptcy remote
        -
        meaning that purchasers of asset-backed securities may rely only on the cash
        flows generated from the assets held by the securitization trust for payment
        and
        not upon us for payment; likewise, the assets held by the securitization
        trust
        are not available to our general creditors. We carry no contractual obligation
        related to these trusts or the loans sold to them, nor do we have any direct
        or
        contingent liability related to the trusts, except for the standard
        representations and warranties typically made as part of a sale of loans
        on a
        non-recourse basis, despite carrying the securitized loans and the
        securitization financing on our financial statements. Furthermore, we provide
        no
        guarantees to investors with respect to the cash flow or performance of these
        trusts.
 
 The
        following table sets forth information about our securitized mortgage loan
        portfolio, completed since the first quarter of 2004, at September 30,
        2005:
 
 *(Dollars
                  in thousands*)
              
              **Issue
                  Date**
              
              **Current
                  Loan Principal Balance****(1)**
              
              **Current
                  Asset-Backed Security Balance****(2)**Asset-backed
                  Security Series:2004-1
              
              
              March
                  30, 2004
              
              $
              324,903
              
              $
              317,2032004-2
              
              
              June
                  29, 2004
              
              
              357,907
              
              
              342,3072004-3
              
              
              September
                  29, 2004
              
              
              464,579
              
              
              447,9392004-4
              
              
              December
                  29, 2004
              
              
              520,671
              
              
              503,7912005-1
              
              
              March
                  31, 2005
              
              
              683,424
              
              
              661,2902005-2
              
              
              June
                  29, 2005
              
              
              735,053
              
              
              713,3752005-3
              
              
              September
                  29, 2005
              
              
              825,000
              
              
              797,775Total
              
              
              
              
              $
              3,911,537
              
              $
              3,783,680
 
 *(1)*  *The
        current loan principal balance shown includes amounts reflected on the
        consolidated balance sheet as mortgage loans held for investment - securitized
        (excluding discounts and net deferred origination fees), REO (at its trust
        basis
        value) and trustee receivables.*
 
 *(2)*  *The
        current asset-backed security (financing on mortgage loans held for investment)
        balance shown excludes discounts of $1.9 million at September 30,
        2005.*
 
 The
        securitization trust raises cash to purchase the mortgage loans from us
        generally by issuing securities to the public. These securities, known as
        “asset-backed securities,” are secured, or backed, by the pool of mortgage loans
        held by the securitization trust. These asset-backed securities, which are
        usually purchased by insurance companies, mutual funds and/or other
        institutional investors, entitle their holders to receive the principal
        (including prepayments of principal) and a portion of the interest, collected
        on
        the mortgage loans in the securitization trust. We structured each of our
        securitizations in 2005 and 2004 to be accounted for as a secured financing,
        which is known as “portfolio accounting.” With portfolio accounting, the
        mortgage loans held in the securitization trust (that underlie the excess
        cashflow certificates and are sometimes referred to as “securitized loans”) are
        recorded on our balance sheet as mortgage loans held for investment, together
        with the related financing on the mortgage loans held for investment (which
        are
        the senior securities or bonds issued by the securitization trust). Prior
        to
        2004, we structured our securitizations to be accounted for as sales, which
        is
        known as “gain-on-sale accounting.” With gain-on-sale accounting, we recorded an
        upfront gain at the time of securitization and capitalized the excess cashflow
        certificates on our balance sheet.
 
 Each
        month, the holder of an excess cashflow certificate will receive payment
        only
        after all required payments have been made on all the other securities issued
        by
        the securitization trust, because the excess cashflow certificates are
        subordinate in right of payment to all other securities issued by the
        securitization trust. In addition, before the holder of the excess cashflow
        certificate receives payments, the excess cash flows are generally applied
        in a
“waterfall” manner as follows:
  **25**
 
 ·
              first,
                  to cover any losses on the mortgage loans in the related mortgage
                  pool;·
              second,
                  to reimburse the bond insurer, if any, of the related series of
                  asset-backed securities for amounts paid by or otherwise owing
                  to that
                  insurer;·
              third,
                  to build or maintain the required level of the overcollateralization
                  (“O/C”) provision, as described below, for that securitization trust
                  by
                  applying the funds as an accelerated payment of principal to the
                  holders
                  of the asset-backed securities of the related series;·
              fourth,
                  to reimburse holders of the subordinate securities of the related
                  series
                  of asset-backed securities for unpaid interest and for any losses
                  previously allocated to those securities; and·
              fifth,
                  to pay “the net rate cap carryover” which relates to the interest on the
                  related asset-backed securities that exceeded the maximum net interest
                  amount available from the mortgage loans underlying the securitization
                  trust.
 
 Each
        pool
        of mortgage loans financed via the asset-backed securitization market is
        comprised of a series of asset-backed notes with various credit ratings,
        maturities and interest rates. The combined weighted average interest rate
        of
        the asset-backed notes in each securitization will naturally increase over
        time
        as the shorter-term asset-backed notes with higher credit ratings and lower
        interest costs mature, leaving the longer-term asset backed notes with lower
        credit ratings and higher interest costs remaining.
 
 Each
        of
        our securitizations contains an O/C provision, which is a credit enhancement
        that is designed to protect the securities sold to the securitization
        asset-backed investors from credit losses. These credit losses arise principally
        from defaults on the underlying mortgage loans. In short, overcollateralization
        occurs when the amount of collateral ( *i.e.* ,
        mortgage loans) owned by a securitization trust exceeds the aggregate amount
        of
        senior asset-backed securities. The O/C is created to absorb losses that
        the
        securitization trust may suffer, as loans are liquidated at a loss. Beginning
        with our 2002 securitizations, and in each of our subsequent securitizations,
        we
        created a fully-funded O/C at closing by initially selling asset-backed
        securities totaling less than the total amount of mortgage loans sold to
        the
        trust. For example, if a securitization trust contains collateral of $100
        million in principal amount of mortgage loans, and our O/C requirement is
        2%, we
        issue approximately $98 million in senior asset-backed securities.
 
 The
        O/C
        is generally expressed as a percentage of the initial mortgage loan or
        collateral principal balance coveyed to the securitization trust. The required
        O/C is initially determined by either the rating agencies and/or the bond
        insurer, if any, using various factors, including:
 ·
                characteristics
                    of the mortgage loans sold to the trust, such as credit scores
                    of the
                    borrowers and loan-to-value ratios;·
                the
                    amount of excess spread between the interest rate on the pool
                    of mortgage
                    loans sold to the securitization trust and the interest paid
                    to the
                    asset-backed security holders, less the servicing fee, and other
                    related
                    expenses such as trustee fees and bond insurer fees, if any;
                    and·
                the
                    structure of the underlying securitization (*e.g*.,
                    issuing BBB- securities - as opposed to only higher rated securities,
                    creates greater credit enhancement in the securitization transaction,
                    which generally results in a lower
                    O/C).
 During
        our most recent quarters, our securitizations have required an O/C that ranged
        between 2.60% and 3.30% of the initial mortgage loans sold to the securitization
        trust. The required O/C can increase or decrease throughout the life of the
        transaction depending upon subordination levels, delinquency and/or loss
        tests.
        The O/C is subject to minimums and maximums, as defined by the rating agencies
        and/or the bond insurer insuring the securitization.
 
 **26**
 Each
        securitization trust also has the benefit of either a financial guaranty
        insurance policy from a monoline insurance company or a “senior-subordinated”
        securitization structure, or a combination of the two (referred to as a
“hybrid”). In a securitization trust with a financial guaranty insurance policy,
        generally all bonds are senior securities. The monoline insurance company
        guarantees the timely payment of principal and interest to the senior security
        holders in the event that the cash flows are not sufficient. In
“senior-subordinated” securitization structures, the senior security holders are
        protected from losses (and payment shortfalls) first by the excess cash flows
        and the O/C, then by subordinated securities which absorb any losses prior
        to
        the senior security holders. In a hybrid structure, the senior securities
        generally have both the subordinated securities to absorb losses and a monoline
        insurance company that guarantees timely principal and interest
        payments.
 
 In
        the
        securitizations and related NIM transactions we completed prior to 2004,
        the
        underlying securitization was structured as a sale under SFAS No. 140. In
        these
        transactions, we recorded the net cash proceeds generated from the sale of
        the
        NIM notes as a component of our net gain on sale of mortgage loans. The NIM
        note(s) entitles the holder to be paid a specified interest rate, and further
        provides for all cash flows generated by the excess cashflow certificate
        to be
        used to pay all principal and interest on the NIM note(s) until paid in full,
        which typically occurs approximately 20 to 25 months from the date the NIM
        note(s) were issued. The excess cashflow certificate entitles us to all cash
        flows generated by the excess cashflow certificate after the holder of the
        NIM
        note(s) has been paid in full. Under this structure, we also retained, and
        recorded as a component of our net gain on sale of mortgage loans, a relatively
        small excess cashflow certificate. We initially recorded the excess cashflow
        certificates at their estimated fair value, which normally ranged from 0.0%
        to
        1.0% of the securitized collateral.
 
 The
        change to secured financing accounting from gain-on-sale accounting has not
        changed the overall economics of the transaction. Only the timing of income
        recognition and how it is recorded on our financial statements has been affected
        by the change in accounting. The use of portfolio-based accounting structures
        will result in differences in our future expected results of operations as
        compared to our pre-2004 historic results.
 
 ***Whole-Loan
        Sales*** *.* Whole-loan sales are the sale of pools of mortgage loans to banks, consumer
        finance-related companies and institutional investors on a servicing-released
        basis. We have found that, from time to time, we can receive better economic
        results by selling some of our mortgage loans on a whole-loan basis, without
        retaining servicing rights, generally in private transactions to financial
        institutions or consumer finance companies. We recognize a gain or loss when
        we
        sell loans on a whole-loan basis equal to the difference between the cash
        proceeds received for the loans and our investment in the loans, including
        any
        unamortized loan origination fees and costs. We generally sell these loans
        without recourse, except that we provide standard representations and warranties
        to the purchasers of such loans. During the three months ended September
        30,
        2005 and 2004, we sold whole-loans without recourse to third-party purchasers
        (with the exception of a premium recapture reserve described below) and on
        a
        servicing-released basis of $151.0 million and $49.2 million, respectively.
        The
        average gross premium we received for the whole-loans sold during the three
        months ended September 30, 2005 was 4.08%, compared to 4.50% for the comparable
        2004 period (the premium paid to us by third-party purchasers in whole-loan
        sale
        transactions does not include premiums we pay to originate the mortgage loans,
        net deferred origination fees, or premium recapture - components of the gain
        on
        sale calculation). During the nine months ended September 30, 2005 and 2004,
        we
        sold whole loans without recourse and on a servicing-released basis of $390.9
        million and $90.7 million, respectively. The average gross premium we received
        for the whole loans sold during the nine months ended September 30, 2005
        was
        4.04%, compared to 4.78% for the comparable 2004 period.
 
 We
        maintain a premium recapture reserve related to our contractual obligation
        to
        rebate a portion of any premium paid by a purchaser when a borrower prepays
        a
        sold loan within an agreed period of time. The premium recapture reserve
        is
        established at the time of the loan sale through a provision for losses,
        which
        is reflected as a reduction of the gain on sale of mortgage loans. The premium
        recapture reserve is recorded as a liability on the consolidated balance
        sheet.
        We estimate losses due to premium recaptures on early loan prepayments by
        reviewing loan product and interest rate, borrower prepayment fee, if any,
        and
        estimate the impact of future interest rate changes. The premium recapture
        reserve totaled $481,000 and $262,000 at September 30, 2005 and December
        31,
        2004, respectively.
 
 
 **27**
 ***Other
          Income.*** In
          addition to the income and cash flows we earn from securitizations (accounted
          for as sales and secured financings) and whole-loan sales, we also earn
          income
          and generate cash flows from:
 ·
                any
                    fair value adjustments related to the excess cashflow certificates
                    in
                    accordance with Emerging Issues Task Force (“EITF”) 99-20, “recognition of
                    Interest and Impairment on Purchased and Retained Beneficial
                    Interests in
                    Securitized Financial Assets;” and·
                miscellaneous
                    interest income, including prepayment penalties received on some
                    of the
                    mortgage loans we sold in connection with our securitizations
                    prior to
                    2002.
 **Summary
        of Critical Accounting Policies**
 
 An
        understanding of our critical accounting policies is necessary to evaluate
        our
        financial results. These policies may require management to make difficult
        and
        subjective judgments regarding uncertainties, and as a result, these estimates
        may significantly impact our financial results. The accuracy of these estimates
        and the likelihood of future changes depend on a range of possible outcomes
        and
        a number of underlying variables.
 
 ***Excess
        Cashflow Certificates*** **.** In
        securitization transactions structured to be accounted for as a sale (prior
        to
        2004), the excess cash flow certificates represent one or all of the following
        assets:
 ·
                BIO
                    certificate, which represents a subordinate right to receive
                    excess
                    cashflow, if any, generated by the related securitization pool.
                    As a
                    holder of the BIO certificate, we have the right to receive the
                    difference, if any, between the interest payments due on the
                    mortgage
                    loans sold to the securitization trust and the interest payments
                    due, at
                    the pass-through rates, to the holders of the asset-backed securities
                    of
                    the same series, net of contractual servicing fees, trustee fees,
                    insurer
                    premiums, reimbursements and other costs and expenses of administering
                    the
                    securitization trust. As a holder of the BIO certificate, we
                    will receive
                    cash payments (which, when we sell NIM notes, is only received
                    after the
                    NIM notes are paid in full) only to the extent that the cash
                    received by
                    the securitization trust exceeds the amounts owed on all of the
                    securities
                    issued by that securitization trust, including amounts needed
                    for the
                    payment of any trust related expenses.·
                P
                    certificate, which represents a right to receive prepayment penalties
                    on
                    the mortgage loans sold to the securitization trust. Generally,
                    prepayment
                    penalties are received from borrowers who pay off their loans
                    within the
                    first few years after obtaining their loans (which, when we sell
                    NIM
                    notes, is only received after the NIM notes are paid in
                    full).·
                Cash
                    flows from corridors - we receive payments on corridors (a net
                    purchased
                    interest rate cap) from third-party cap providers through the
                    securitization trusts (which, when we sell NIM notes, are only
                    received
                    after the NIM notes are paid in
                    full).
 
 The excess cash flows we receive are highly dependent upon the interest
          rate
          environment because “basis-risk” exists between the securitization trust’s
          assets and liabilities. For example, in each of the securitizations that
          we
          issued in 2003 and 2002, the excess cashflow certificates are impacted
          by the
          securitization pass-through rate sold to investors, which is indexed against
          the
          one-month LIBOR. As a result, the interest rate received by the asset-backed
          security holders from the securitization trust each month may adjust upwards
          or
          downwards as the one-month LIBOR changes (liability) - while the majority
          of the
          underlying mortgage loans (assets) in the securitization trust are fixed-rate
          loans, or are at a fixed-rate for at least two to three years before becoming
          adjustable-rate loans. As a result, as rates increase and decrease, the
          fair
          value of our excess cash flows will decrease and increase, respectively.
          The
          excess cashflow certificates held at September 30, 2005 are those we generated
          before we began to structure our securitizations to be accounted for as
          secured
          financings in 2004.
 
 In
        each
        of our securitizations in which we sold NIM notes, we purchased an interest
        rate
        cap, which helps mitigate the basis-risk for the approximate time that the
        NIM
        notes are anticipated to be outstanding.
 
 The
        accounting estimates we use to value excess cashflow certificates are deemed
        to
        be “critical accounting estimates” because they can materially affect our
        income. The valuation of our excess cashflow certificates requires us to
        forecast interest rates, mortgage principal payments, prepayments, index
        rates
        and loan loss assumptions, each of which is highly uncertain and requires
        a high
        degree of judgment. The rate used to discount the projected cash flows is
        also
        critical in the valuation of our excess cashflow certificates. Management
        uses
        internal, historical mortgage loan performance data and forward LIBOR curves
        to
        value future expected excess cash flows. We believe that the value of our
        excess
        cashflow certificates at the date of a securitization reflected their fair
        value. The amount recorded for the excess cashflow certificates is subsequently
        reduced for cash distributions we receive, increased for the expected return
        and
        adjusted for changes in fair value of these excess cashflow
        certificates.
 
 **28**
 At
        the
        closing date of each securitization transaction structured to be accounted
        for
        as a sale, we determined the present value of the excess cashflow certificates
        using the same assumptions we made regarding the underlying mortgage loans.
        The
        excess cashflow certificate was then recorded on our consolidated financial
        statements at its estimated fair value. The value of each excess cashflow
        certificate represents the cash flow we expect to receive in the future based
        upon our best estimates. Although we believe that the assumptions we use
        are
        reasonable, there can be no assurance as to the accuracy of the assumptions
        or
        estimates. Our estimates primarily include the following:
  ·
                future
                    rate of prepayment of the mortgage loans - the expected amount
                    of
                    prepayments if the underlying borrowers pay off their mortgage
                    loans prior
                    to the expected maturity;·
                credit
                    losses (default rates) on the mortgage loans (including when
                    the losses
                    are expected to occur) - our estimated amount of losses or defaults
                    that
                    will take place on the underlying mortgage loans over their life
                    because
                    the excess cashflow certificates are subordinated to all other
                    securities
                    issued by the securitization trust. Consequently, any losses
                    sustained on
                    mortgage loans comprising a particular securitization trust are
                    first
                    absorbed by the excess cashflow certificates;·
                the
                    LIBOR forward curve (using current LIBOR as the floor rate) -
                    our estimate
                    of future interest rates, which affects both the rate paid to
                    the floating
                    rate asset-backed security investors (primarily the one-month
                    LIBOR index)
                    and the rates earned from the adjustable rate mortgage loans
                    sold to the
                    securitization trust (which typically provide for a fixed-rate
                    of interest
                    for the first 24 or 36 months and a six-month variable rate of
                    interest
                    thereafter using the six-month LIBOR index); and·
                a
                    discount rate used to calculate present
                    value.
 We
        monitor the performance of the loans underlying each excess cashflow
        certificate, and any changes in our estimates resulting in a change in fair
        value of the excess cashflow
        certificates is recorded in the statement of operations as a component of
“other
        income” or “other expense” in the period in which we make the change in our
        estimate.
 
 We
        revised our assumptions used to value our excess cashflow certificates during
        the third quarter of 2005. The impact of these changed assumptions resulted
        in
        an increase in the fair value of our excess cashflow certificates. In
        determining the fair value of each of the excess cashflow certificates, we
        make
        the following underlying assumptions regarding mortgage loan prepayments,
        mortgage loan default rates, the LIBOR forward curve and discount
        rates.
 
 *A.*  *Prepayments.* We base
        our prepayment rate assumptions on our ongoing analysis of the performance
        of
        the mortgage pools we previously securitized, and the performance of similar
        pools of mortgage loans securitized by others in the industry. We apply
        different prepayment speed assumptions to different loan product types based
        on
        our experience with different loan product types exhibiting different prepayment
        patterns. Generally, our loans can be grouped into two loan products -
        fixed-rate loans and adjustable-rate loans. With fixed-rate loans, an underlying
        borrower’s interest rate remains fixed throughout the life of the loan. Our
        adjustable-rate loans are a “hybrid” between fixed- and adjustable-rate loans,
        in that the interest rate generally remains fixed, typically for the first
        two
        or three years of the loan, and then adjusts, typically every six months
        thereafter. Within each product type, factors other than interest rates can
        affect our prepayment rate assumptions. These factors include:
 ·
                whether
                    or not a loan contains a prepayment penalty, which is the amount
                    a
                    borrower must pay to a lender if the borrower prepays the loan
                    within a
                    certain time period after the loan was originated. Historically,
                    loans
                    containing a prepayment penalty typically are not repaid as quickly
                    as
                    those without a penalty; and·
                as
                    is customary in our industry with adjustable-rate mortgage loans,
                    the
                    introductory interest rate we charge to the borrower is lower,
                    between one
                    and two full percentage points, than the rate for which the borrower
                    would
                    have otherwise qualified. Generally, once the interest rate begins
                    to
                    adjust, the interest rate payable on that loan generally increases,
                    at
                    times at a fairly substantial rate. This interest rate increase
                    can be
                    exacerbated if there is an absolute increase in interest rates.
                    As a
                    result of these increases, and the potential for future increases,
                    adjustable rate mortgage loans typically are more susceptible
                    to early
                    prepayments.
  **29**
 There
                      are several reasons why a loan may prepay prior to its maturity,
                      including
                      but not limited to:·
                  a
                      decrease in interest rates;·
                  improvement
                      in the borrower’s credit profile, which may allow the borrower to qualify
                      for a loan with a lower interest rate;·
                  competition
                      in the mortgage market, which may result in lower interest
                      rates being
                      offered to the borrower;·
                  the
                      borrower’s sale of the home securing the mortgage;·
                  the
                      borrower’s need for additional funds; and·
                  a
                      default by the borrower, resulting in foreclosure by the
                      lender.It
                      is unusual for a borrower to prepay a mortgage loan during
                      the first few
                      months because:·
                  it
                      typically takes at least several months after the mortgage
                      loans are
                      originated for any of the above events to occur;·
                  there
                      are costs involved with refinancing a loan; and·
                  the
                      borrower does not want to incur prepayment
                      penalties.
  We
        have
        found that the rate at which borrowers prepay their loans tends to fluctuate.
        In
        general, prepayment speeds are lowest in the first month after origination,
        as
        described above. Thereafter, prepayment speeds generally increase until a
        peak
        speed is reached. Generally, loans will continue to prepay at the peak speed
        for
        some period of time, and then prepayment speeds typically begin to decline.
        We
        use prepayment assumptions that reflect these tendencies. The following table
        shows our assumptions regarding the percentage of loans that will be prepaid
        during the first month following the closing of a loan, peak speed over the
        life
        and the peak speed September 30, 2005 forward:
 
 **Loan
                  Type**
              
              **Month
                  One**
              
              **Peak
                  Speed**
                **Over
                  the Life**
              
              **Peak
                  Speed**
                **September
                  30, 2005 Forward**Fixed
                  rate
              
              4.0%
              
              45.0%
                  to 50.0%
              
              35.0%
                  to 40.0%Adjustable
                  rate
              
              4.0%
              
              75.0%
              
              35.0%
                  to 75.0%
 
 Our
        assumption regarding the peak speed over the life for fixed rate loans ranged
        from 35% to 40% prior to September 30, 2005. We revised our peak speed over
        the
        life assumption to reflect the prepayment trend experienced within the loan
        pools.
 
 If
        mortgage loans prepay faster than anticipated, we generally will earn less
        income in connection with the mortgage loans and receive less excess cash
        flow
        in the future because the mortgage loans have paid off. Conversely, if mortgage
        loans prepay at a slower rate than anticipated, we generally earn more income
        and more excess cash flow in the future, subject to other factors that can
        affect the cash flow from, and our valuation of, the excess cashflow
        certificates.
 
 **30**
 B.  *Default
        Rate.* The
        default rate is the percentage of estimated total loss of principal, interest
        and related advances that will take place over the life of the mortgage loans
        within a loan pool to the total original principal balance of the mortgage
        loans
        in the pool. A default rate is determined for each securitization reflecting
        the
        overall credit scores, average loan sizes and layered risks on the fixed-
        and
        adjustable-rate loans comprising each securitization trust. We apply a default
        or loss rate to the excess cashflow certificate because it is the “first-loss”
        piece and is subordinated in right of payment to all other securities issued
        by
        the securitization trust. If defaults are higher than we anticipate, we will
        receive less income and less excess cash flow than expected in the future.
        Conversely, if defaults are lower than we expected, we will receive more
        income
        and more excess cash flow than expected in the future, subject to the other
        factors that can affect the cash flow from, and our valuation of, the excess
        cashflow certificates. We revised our estimated default rates at September
        30,
        2005 to reflect the better-than-expected pool performance on our underlying
        securitizations. The current default rates applied on the excess cashflow
        certificates range from 4.0% to 8.5%, with the majority ranging from 4.0%
        to
        5.0%. Prior to September 30, 2005, our default rate assumptions ranged from
        4.5%
        to 8.0%, with the majority ranging from 4.5% to 5.0%.
 
 C.  *Forward
        LIBOR Curve.* The
        forward LIBOR curve is used to project future interest rates, which affects
        both
        the rate to the floating rate asset-backed security investors (primarily
        indexed
        off the one-month LIBOR) and the adjustable rate mortgage loans sold to the
        securitization trust (a fixed rate of interest for either the first 24 or
        36
        months and a variable rate of interest thereafter indexed off the six-month
        LIBOR). Most of our loans are fixed-rate mortgages, and a significant amount
        of
        the securities sold by the securitization trust are floating-rate securities
        (the interest rate adjusts based upon an index, such as one-month LIBOR).
        As
        such, our excess cashflow certificates are subject to significant basis risk
        and
        a change in LIBOR will impact our excess spread. If LIBOR is lower than
        anticipated, we will receive more income and more excess cash flow than expected
        in the future, subject to the other factors that can affect the cash flow
        from,
        and our valuation of, the excess cashflow certificates. Conversely, if LIBOR
        is
        higher than expected, we will receive less income and less excess cash flow
        than
        expected in the future. In each of our securitizations in which we sold NIM
        note(s), we purchased an interest rate cap, which helps mitigate the basis
        risk
        for the approximate time that the NIM notes are outstanding. We have adjusted
        the valuation of each excess cashflow certificate to use a forward interest
        rate
        curve that represents both today’s rates and the expectation for rates in the
        future. We use a forward LIBOR curve that we believe reflects the estimate
        of
        future LIBOR rates.
 
 D.  *Discount
        Rate.* We use a
        discount rate that we believe reflects the risks associated with our excess
        cashflow certificates. Due to the unavailability of quoted market prices
        on
        comparable excess cashflow certificates, we compare our valuation assumptions
        and performance experience to our competitors in the non-conforming mortgage
        industry. Our discount rate takes into account the asset quality and the
        performance of our securitized mortgage loans compared to that of the industry
        and other characteristics of our securitized loans. We quantify the risks
        associated with our excess cashflow certificates by comparing the asset quality
        and payment and loss performance experience of the underlying securitized
        mortgage pools to comparable industry performance. The discount rate we use
        to
        determine the present value of the cash flow from excess cashflow certificates
        reflects increased uncertainty surrounding current and future market conditions,
        including, without limitation, uncertainty concerning inflation, recession,
        home
        prices, interest rates and conditions in the equity markets.
 
 We
        utilized a discount rate of 18% and 15% at September 30, 2005 and December
        31,
        2004, respectively, on all excess cashflow certificates.
 
 Our
        valuation of retained excess cashflow certificates is highly dependent upon
        the
        reasonableness of our assumptions and the predictiveness of the relationships
        that drive the results of our valuation model. The assumptions we utilize,
        described above, are complex, as we must make judgments about the effects
        of
        matters that are inherently uncertain. As the number of variables and
        assumptions affecting the possible future resolution of the uncertainties
        increase, those judgments become even more complex.
 
 In
        volatile markets, like those we have experienced over the past several years,
        there is increased risk that our actual results may vary significantly from
        our
        assumed results. The longer the time period over which the uncertainties
        exist,
        the greater the potential for volatility in our valuation assumptions and
        thus
        impacting the fair value of our excess cashflow certificates.
 
 For
        example, assumptions regarding defaults and LIBOR rates are used in estimating
        the fair value of our excess cashflow certificates. If loan loss levels are
        higher than anticipated, or LIBOR is higher than anticipated, a reduction
        in the
        fair value of these certificates will be recorded in earnings. We believe
        that
        our assumptions are reasonable based upon the estimates using our historical
        loan performance and the performance of similar mortgage pools from other
        lenders - in addition to accessing other public information about market
        factors
        such as interest rates, inflation, recession, unemployment and real estate
        market values, among other things. However, these are just estimates and
        it is
        virtually impossible to predict the actual level of prepayments and losses,
        which are also driven by consumer behavior.
 
 **31**
 ***Accounting
        for Hedging Activities.*** We
        regularly issue securitization asset-backed securities, backed by fixed-
        and
        variable-rate mortgage loans. As a result of this activity, we are exposed
        to
        interest rate risk beginning when our mortgage loans close and are recorded
        as
        assets until permanent financing is arranged, such as when the asset-backed
        securities are issued. Our strategy is to use interest rate swap contracts
        in an
        effort to lock in a pre-determined base interest rate on designated portions
        of
        our prospective future securitization financing. At times, we also use corridors
        that are designed to limit our financing costs within the securitization
        to
        maintain minimum margins, with the possibility of allowing us to increase
        margins in lower than anticipated interest rate environments. Both the interest
        rate swaps and corridors are derivative instruments that trade in liquid
        markets, and we do not use either of them for speculative purposes.
 
 In
        accordance with SFAS No. 133 ,
        “Accounting for Derivative Instruments and Hedging Activities,” we
        record
        all of our derivatives on our balance sheet at fair value. For derivative
        financial instruments not designated as hedging instruments, gains or losses
        resulting from a change in fair value are recognized in current period earnings.
        When derivatives are used as hedges, however, hedge accounting is permitted
        only
        if we document the hedging relationship and its effectiveness at the time
        we
        designate the derivative as a hedge instrument. If we meet certain requirements
        under SFAS No. 133, we may account for the hedge instrument as a cash flow
        hedge.
 
 Cash
        flow
        hedge accounting is appropriate for hedges of uncertain cash flows associated
        with future periods - whether as a consequence of interest to be received
        or
        paid on existing variable rate assets or liabilities or in connection with
        intended purchases or sales.
 
 Under
        cash flow hedge accounting treatment, the changes in the fair value of the
        derivative instruments are divided into two portions, “effective” and
“ineffective.” The effective portion of the derivative's gain or loss is
        initially reported as a component of OCI and subsequently reclassified into
        earnings when the forecasted transaction affects earnings. The ineffective
        portion of the gain or loss is reported in earnings immediately.
 
 To
          qualify for cash flow hedge accounting treatment:
 ·
                  hedges
                      must be documented, with the objective and strategy stated,
                      along with an
                      explicit description of the methodology used to assess and
                      measure hedge
                      effectiveness;·
                  dates
                      (or periods) for the expected forecasted events and the nature
                      of the
                      exposure involved (including quantitative measures of the size
                      of the
                      exposure) must be explicitly documented;·
                  hedges
                      must be expected to be “highly effective,” both at the inception of the
                      hedge and on an ongoing basis. Effectiveness measures must
                      relate the
                      gains or losses of the derivative to changes in the cash flow
                      associated
                      with the hedged item;·
                  forecasted
                      transactions must be probable; and·
                  forecasted
                      transactions must be made with different counterparties other
                      than the
                      reporting entity.


If
        and
        when hedge accounting is discontinued, typically when it is determined that
        the
        hedge no longer qualifies for hedge accounting, the derivative will continue
        to
        be recorded on the balance sheet at its fair value, with gains or losses
        being
        recorded in earnings. Any amounts previously recorded in OCI related to the
        discontinued hedge are classified to earnings over the remaining duration
        of the
        debt as interest payments affect earnings.
 **32**
 ***Accounting
          for Income
          Taxes.*** Significant management judgment is required in developing our provision
          for
          income taxes, including the determination of deferred tax assets and liabilities
          and any valuation allowances that might be required against the deferred
          tax
          asset. Management
          needs to consider the relative impact of negative and positive evidence
          related
          to the ability to recognize a deferred tax asset. This evaluation takes
          into
          consideration our recent earnings history, current tax position and estimates
          of
          taxable income in the near term. If actual results differ from these estimates,
          we may be required to record a valuation allowance on our deferred tax
          assets,
          which could negatively impact our consolidated financial position and results
          from operations. We recognize all of our deferred tax assets if we believe,
          on a
          more likely than not basis, that all of the benefits of the deferred tax
          assets
          will be realized. Management believes that, based upon on the currently
          available evidence, it is more likely than not that we will realize the
          benefit
          of our deferred tax asset. Therefore, at September 30, 2005 and December
          31,
          2004, we did not maintain a valuation allowance against our deferred tax
          assets.


***Allowance
      for Loan Losses on Mortgage Loans Held for Investment.*** Commencing with our 2004 securitizations, which we structured to be accounted
      for as secured financings with the underlying mortgage loans held for
      investment, we established an allowance for loan losses based on an estimate
      of
      losses to be incurred in the foreseeable future. We will charge-off
      uncollectible loans at the time they are deemed not probable of
      collection.





In
      order
      to estimate an appropriate allowance for losses on loans held for investment,
      we
      estimate losses using detailed analysis of historical loan performance data.
      This data is analyzed for loss performance and prepayment performance by product
      type, origination year and securitization issuance. The results of that analysis
      are then applied to the current long-term mortgage portfolio held for investment
      and an estimate is created. In accordance with SFAS No. 5, “ Accounting
      for Contingencies,” we
      believe that pooling of mortgages with similar characteristics is an appropriate
      methodology in which to evaluate the amount of the allowance for loan losses.
      A
      provision for loan losses is charged to our consolidated statement of
      operations. Losses incurred, if any, will be written-off against the
      allowance.





While
      we
      continually evaluate the adequacy of this allowance, we recognize that there
      are
      qualitative factors that must be taken into consideration when evaluating and
      measuring potential expected losses on mortgage loans. These items include,
      but
      are not limited to, current performance of the loans, economic indicators that
      may affect the borrower’s ability to pay, changes in the market value of the
      collateral, political factors and the general economic environment. As these
      estimates are influenced by factors outside of our control and as uncertainty
      is
      inherent in these estimates, it is reasonably possible that they could change.
      In particular, if conditions were such that we were required to increase the
      provision for loan losses, any increase in the provision for loan losses may
      negatively impact our results of operations.





***Amortization
      of Deferred Loan Origination Fees and Costs.*** Interest
      income is recorded on our mortgage loans held for investment portfolio based
      upon a combination of interest accruals based on the outstanding balance and
      contractual terms of the mortgage loans, adjusted by the amortization of net
      deferred origination fees or costs accounted for in accordance with SFAS No.
      91.
      Our net deferred origination fees/costs consist principally of origination
      fees,
      discount points, broker premiums, and payroll and commissions associated with
      originating our mortgage loans. For our loans held for investment, these net
      deferred fees or costs are accreted or amortized as adjustments to interest
      income over the estimated lives of the loans using the interest method. Our
      portfolio of mortgage loans held for investment is comprised of a large number
      of homogeneous loans for which we believe prepayments are probable. The periodic
      amortization of our deferred origination fees or costs is based on a model
      that
      considers actual prepayment experience to date as well as forecasted prepayments
      based on the contractual interest rate on the mortgage loans, loan age, loan
      type and prepayment fee coverage, among other factors. Mortgage prepayments
      are
      affected by the terms and credit grades of the loans, conditions in the housing
      and financial markets and general economic conditions. Prepayment assumptions
      are reviewed regularly to ensure that our actual experience, as well as industry
      data, are supportive of the prepayment assumptions used in our model. Any
      changes to these estimates are applied as if the revised estimates had been
      in
      place since the origination of the loans, and current period amortization is
      adjusted to reflect the effect of the changes.





***Amortization
      of Deferred Debt Issue Discounts and Transaction
      Costs.*** Interest
      expense on our securitization financing is comprised of the accrual of interest
      based on the contractual terms, cash receipts and amortization related to our
      cash flow hedges (interest rate swaps and corridors), the amortization of
      deferred debt issue discounts and transaction costs. The deferred debt issue
      discounts and transaction costs are amortized as an adjustment to interest
      expense over the estimated lives of the related debt using the interest method
      and take into account the effect of estimated prepayments. Any changes made
      to
      these estimates are applied as if the revised estimates had been in place since
      the issuance of the related debt, and result in adjustments to the period
      amortization recorded to interest expense.








**33**





**Results
      of Operations**





***Three
      Months Ended September 30, 2005 Compared to the Three Months Ended September
      30,
      2004***





**General**





Our
      net
      income for the three months ended September 30, 2005 was $6.6 million, or $0.33
      per share basic and $0.31 per share diluted, compared to net loss of $1.8
      million, or $(0.09) per share basic and diluted, for the three months ended
      September 30, 2004. The increase in net income during the three months ended
      September 30, 2005 relates primarily to the growth in the net interest income
      we
      realized from our mortgage loans held for investment portfolio, which has grown
      each quarter since our
      change from gain-on-sale accounting to portfolio accounting in the first quarter
      of 2004. The change to portfolio accounting resulted in recording
      of interest income from the securitized loans and interest expense from the
      asset-backed securities issued in connection with the securitization over the
      life of the securitization. The loss recorded for the three months ended
      September 30, 2004 reflects the effect of this change in accounting.
      Additionally, the increase in net income relates to an increase in non-interest
      income arising from the increase in the fair value of the excess cashflow
      certificates of $6.3 million, pre-tax, recorded during the three months ended
      September 30, 2005.





We
      recorded net interest income after provision for loan losses of $25.8 million
      during the three months ended September 30, 2005, an increase of $10.4 million
      from $15.4 million in the same period in 2004. The increase in net interest
      income after provision for loan losses primarily reflects the net effect of
      recognizing interest income on $4.0 billion of mortgage loans held for
      investment at September 30, 2005 compared to $1.8 billion of these loans held
      at
      September 30, 2004. Similarly, the increase in interest expense primarily
      reflects the net effect of recognizing interest expense on $3.9 billion in
      financing on mortgage loans held for investment at September 30, 2005, compared
      to $1.7 billion of financing on mortgage loans held for investment at September
      30, 2004. During the three months ended September 30, 2005, total non-interest
      income increased by $10.7 million and total non-interest expense increased
      by
      $7.3 million, compared to the same period in 2004. The increase in non-interest
      income primarily reflects the impact of increases in the net gain on the sale
      of
      mortgage loans and the fair value of our excess cashflow certificates we
      experienced during the three months ended September 30, 2005, while the increase
      in non-interest expense primarily reflects the expenses associated with
      increases in origination volume, personnel and costs associated with our
      on-going Sarbanes-Oxley Act of 2002 Section 404 initiatives.





We
      originated $1.0 billion of mortgage loans during the three months ended
      September 30, 2005, representing a $342.2 million, or 50.2%, increase from
      the
      $682.0 million of mortgage loans originated during the three months ended
      September 30, 2004. We securitized and/or sold $976.0 million of loans during
      the three months ended September 30, 2005, representing a $286.8 million, or
      41.6%, increase from the $689.2 million of loans securitized and/or sold during
      the same period in 2004.





**Net
      Interest Income**





We
      recorded net interest income of $32.4 million during the three months ended
      September 30, 2005, an increase of $13.9 million, or 75.3%, from the $18.5
      million recorded in the same period in 2004. The increase in net interest income
      primarily reflects the net effect of the increases in the average balance of
      mortgage loans held for investment and the related financing during the three
      months ended September 30, 2005 compared to the same period in 2004. Net
      interest income represents the difference between our interest income and our
      interest expense, each of which is described in the following
      paragraphs.





***Interest
      Income.*** Interest
      income increased $48.6 million to $79.4 million for the three months ended
      September 30, 2005, from $30.8 million for the comparable period in 2004. The
      increase is primarily due to (1) the increase in interest income of $45.9
      million on our loans held for investment - securitized, which totaled $3.8
      billion at September 30, 2005 as compared to $1.6 billion at September 30,
      2004;
      (2) the increase in interest income of $1.9 million related to the increase
      in
      the average amount of mortgage loans held for investment - pre-securitization
      during the three months ended September 30, 2005 compared to the interest income
      recorded on the average amount of mortgage loans held for sale during the same
      period in 2004; and (3) the increase in pass-through interest received from
      securitization trusts on fixed-rate asset-backed securities at the time of
      settlement - due to the increase in fixed-rate asset-backed securities issued
      during the three months ended September 30, 2005, compared to the asset-backed
      securities issued in the same period of 2004.





**34**


The
      following table is a summary of interest income:





**For
                the Three Months Ended**
              **September
                30,***(Dollars
                in thousands)*
            
            **2005**
            
            **2004**Interest
                income on mortgage loans held for sale, net
            
            $
            --
            
            $
            5,617Interest
                income on mortgage loans held for investment - pre-securitization,
                net
            
            
            7,552
            
            
            --Interest
                income on mortgage loans held for investment - securitized, net(1)
            
            
            69,717
            
            
            23,837Interest
                income on excess cashflow certificates
            
            
            311
            
            
            126Asset-backed
                security interest
            
            
            1,776
            
            
            1,229Miscellaneous
                interest income
            
            
            3
            
            
            --Total
                interest income
            
            $
            79,359
            
            $
            30,809





*(1)*  *The
      amount for the three months ended September 30, 2005 and 2004 includes $4.4
      million and $594,000, respectively, of prepayment penalty
      fees.*





***Interest
      Expense.*** Interest
      expense increased by $34.6 million to $46.9 million for the three months ended
      September 30, 2005 from $12.3 million for the comparable period in 2004. The
      increase was primarily due to the increase in interest expense related to the
      increased securitization debt and, to a lesser extent, the increase in loans
      originated and financed during the three months ended September 30, 2005 on
      our
      warehouse facilities, compared to the same period in 2004. Additionally,
      contributing to the increase in interest expense was the higher warehouse
      financing costs due to a higher average one-month LIBOR rate, which is the
      benchmark index used to determine our cost of borrowed funds. The rate increased
      on average to 3.60% for the three months ended September 30, 2005, compared
      to
      an average of 1.60% for the same period in 2004.





The
      following table presents the components of interest expense:





**For
                the Three Months Ended**
              **September
                30,***(Dollars
                in thousands)*
            
            **2005**
            
            **2004**Interest
                expense on warehouse financing
            
            $
            5,792
            
            $
            2,343Interest
                expense on mortgage loans held for investment financing(1)
            
            
            41,089
            
            
            9,903Interest
                expense on other borrowings
            
            
            68
            
            
            71Total
                interest expense
            
            $
            46,949
            
            $
            12,317





*(1)
      The amount for the three months ended September 30, 2005 and 2004 includes
      $2.7
      million and $622,000, respectively, of amortized deferred securitization debt
      issuance expenses and trustee expenses recognized during the period, net
      of hedge amortization.*





**Provision
      for Loan Losses**





A
      provision for loan losses on mortgage loans held for investment is recorded
      to
      maintain the related allowance for loan loss at an appropriate level for
      currently existing probable losses of principal. We recorded a provision for
      loan losses of $6.6 million and $3.1 million for the three months ended
      September 30, 2005 and 2004, respectively, related to mortgage loans held for
      investment. The amount of the provision for loan losses corresponds to the
      increase in and the seasoning of our mortgage loans held for investment during
      the respective quarter.





**Non-Interest
      Income**





Total
      non-interest income increased by $10.8 million to $13.8 million for the three
      months ended September 30, 2005, from $3.0 million for the comparable period
      in
      2004. The increase in non-interest income primarily resulted from the increase
      in the fair value of the excess cashflow certificates of $6.0 million, coupled
      with a $4.9 million increase in the net gain on sale of mortgage
      loans.





**35**


***Net Gain on Sale of Mortgage Loans.*** Net gain
      on sale of mortgage loans for the three months ended September 30, 2005 and
      2004
      is comprised of the premium received from selling whole loans on a
      servicing-released basis, together with any deferred origination costs or fees
      associated with mortgage loans sold, less any premium recapture reserve. During
      the three months ended September 30, 2005 and 2004, we recorded a net gain
      on
      the sale of mortgage loans of $7.5 million and $2.6 million, respectively,
      on
      the sale of $151.0 million and $49.2 million, respectively, of mortgage loans
      on
      a whole-loan basis.





The
      following table is a summary of our net gain on sale of mortgage loans for
      the
      three months ended September 30, 2005 and 2004:





**Three
                Months Ended**
              **September
                30,***(Dollars
                in thousands)*
            
            **2005**
            
            **2004**Net
                Gain on Sale of Mortgage Loans:Loans
                sold
            
            $
            151,026
            
            $
            49,236Gain
                on whole-loan sales
            
            $
            6,163
            
            $
            2,214Premium
                recapture reserve
            
            
            (248
            )
            
            (89
            )Net
                loan origination fees
            
            
            1,579
            
            
            505Net
                gain on sale recorded
            
            $
            7,494
            
            $
            2,630Net
                gain on sale recorded as a percent of loans sold
            
            
            4.96
            %
            
            5.34
            %





Net
      gain
      on sale of mortgage loans increased $4.9 million to $7.5 million for the three
      months ended September 30, 2005, from $2.6 million for the comparable period
      in
      2004. This increase was directly related to the volume of loan sales quarter
      over quarter. During the three months ended September 30, 2005, we sold $151.0
      million (at a weighted average gross sales price of 4.08%) of mortgage loans
      on
      a whole-loan servicing-released basis, compared to $49.2 million (at a weighted
      average gross sales price of 4.50%) for the same period in the prior
      year.





The
      weighted average net gain-on-sale ratio for the three months ended September
      30,
      2005 and 2004 was 4.96% and 5.34%, respectively. The weighted-average net
      gain-on-sale ratio is calculated by dividing the net gain on sale by the total
      amount of loans securitized and sold.





***Other
      Income.*** Other
      income increased $5.9 million to $6.3 million for the three months ended
      September 30, 2005, from $393,000 for the three months ended September 30,
      2004.
      The increase in other income primarily relates to a fair value adjustment on
      our
      excess cashflow certificates of $6.3 million for the three months ended
      September 30, 2005. The
      increase in the fair value of our excess cashflow certificates for the three
      months ended September 30, 2005 was primarily driven by lower losses on the
      underlying loans and the impact of our revised assumptions, specifically the
      lowering of the expected losses and/or changed shape of the loss curve used
      to
      value the excess cashflow certificates, to reflect losses occurring at a later
      date than originally anticipated. We
      recorded a $307,000 fair value adjustment on our excess cashflow certificates
      during the third quarter of 2004.





**Non-interest
      Expense**





Total
      non-interest expense increased by $7.3 million, or 34.1%, to $28.7 million
      for
      the three months ended September 30, 2005, from $21.4 million for the comparable
      period in 2004. The increase is primarily due to an increase in payroll and
      related costs associated with a 50.2% increase in our mortgage loan production
      and an 18.4% increase in personnel, coupled with an increase in other production
      related expenses, and associated costs for our on-going Sarbanes-Oxley Act
      Section 404 initiatives. Additionally, contributing to the increase was an
      increase in the recorded loss on derivative instruments relating to the
      ineffective portion of our derivatives that is recognized through current
      earnings during the three months ended September 30, 2005 compared to the three
      months ended September 30, 2004.





**36**


***Payroll
      and Related Costs.*** Payroll
      and related costs include salaries, benefits and payroll taxes for all non-loan
      production related employees and non-deferrable loan production related
      employees cost.





Payroll and related costs increased by $3.4 million, or 24.8%, to $16.8 million
      for the three months ended September 30, 2005, from $13.4 million for the
      comparable period in 2004. The increase was primarily the result of higher
      compensation and related payroll cost associated with an increase in our staff.
      As of September 30, 2005, we employed 1,248 full- and part-time employees,
      an
      increase of 18.4% over our 1,054 full- and part-time employees as of September
      30, 2004. Additionally, payroll and related costs were higher due to the higher
      loan commissions paid as a result of a 50.2% increase in loan production during
      the three months ended September 30, 2005 compared to the same period in
      2004.





***General
      and Administrative Expenses.*** General
      and administrative expenses consist primarily of office rent, insurance,
      telephone, depreciation, legal reserves and fees, license fees, accounting
      fees,
      professional fees, travel and entertainment expenses, advertising and
      promotional expenses.





General and administrative expenses increased $3.4 million, or 43.1%, to $11.3
      million for the three months ended September 30, 2005, from $7.9 million for
      the
      comparative period in 2004. The increase was primarily due to an increase in
      expenses associated with a 50.2% increase in loan production during the three
      months ended September 30, 2005 compared to the same period in 2004 (which
      includes higher advertising, promotional and marketing expenses), and the
      consequent 18.4% increase in personnel and expenses related to our ongoing
      expansion of our wholesale and retail divisions (which includes rent and
      depreciation expenses). Also contributing to the increase in general and
      administrative expenses was an increase in legal, accounting and professional
      fees. The primary increase in accounting and professional fees relates to our
      on-going Sarbanes-Oxley Act Section 404 initiatives.





***Loss on Derivative Instruments.*** The loss
      on derivative instruments recorded during the three months ended September
      30,
      2005 represents the (1) ineffective portion of the change in fair value of
      interest rate swaps used to lock in a pre-determined interest rate on designated
      portions of our prospective future securitization financing, (2) ineffective
      portion related to the change in the fair value of our corridors we use to
      protect the variable-rate financing, and (3) c hanges
      in
      the fair value of the derivative instruments classified as trading securities.




During the three months ended September 30, 2005, we recorded a net loss on
      derivative instruments of $548,000 as opposed to a net loss on derivatives
      of
      $7,000 during the three months ended September 30, 2004. During the three months
      ended September 30, 2005 we recorded a loss of $553,000 on the ineffective
      portion of corridors and interest rate swaps, compared to a loss of $7,000
      recorded on the ineffective portion of certain corridors and interest rate
      swaps
      during the three months ended September 30, 2004. Additionally, during
      the three months ended September 30, 2005, $390,000 of corridors classified
      as
      prepaid and other assets were no longer deemed “highly effective”, as the ratio
      of the outstanding balance of the hedged item (debt) to the notional amount
      of
      the corridors was outside of the range of 80% to 125%, and were classified
      as
      trading securities. During the three months ended September 30, 2005, a gain
      of
      $6,000 was recorded to earnings on the changes in fair value of the corridors
      held as trading securities. During the three months ended September 30, 2004,
      none of the corridors tested failed the effectiveness test.





**Income
      Taxes**





Deferred
      tax assets and liabilities are recognized based upon the income reported in
      the
      financial statements regardless of when such taxes are paid. These deferred
      taxes are measured by applying current enacted tax rates.





We
      recorded an income tax expense of $4.3 million for the three months ended
      September 30, 2005 due to the pre-tax income of $10.9 million recorded for
      the
      period (utilizing an effective tax rate of approximately 39.2%). We recorded
      a
      tax benefit of $1.1 million for the three months ended September 30, 2004 on
      a
      pre-tax loss of $3.0 million (utilizing an effective tax rate of approximately
      38.7%).





**37**





***Nine
      Months Ended September 30, 2005 Compared to the Nine Months Ended September
      30,
      2004***





**General**





Our
      net
      income for the nine months ended September 30, 2005 was $12.3 million, or $0.60
      per share basic and $0.58 per share diluted, compared to net loss of $9.6
      million, or $(0.54) per share basic and diluted, for the nine months ended
      September 30, 2004. The increase in net income recorded during the nine months
      ended September 30, 2005 relates primarily to the growth in the net interest
      income we realized from our mortgage loans held for investment portfolio, which
      has grown since our
      change from gain-on-sale accounting to portfolio accounting in the first quarter
      of 2004. The change to portfolio accounting resulted in recording
      of interest income from the securitized loans and interest expense from the
      asset-backed securities issued in connection with the securitization over the
      life of the securitization. The loss recorded for the nine months ended
      September 30, 2004 reflects the effect of this change in accounting, coupled
      with the net impact of: (1) a $4.3
      million pre-tax loss we realized relating to the interest rate swaps used to
      hedge $542.3 million of the March 2004 securitization variable-rate debt that
      were not accounted for as hedge instruments; (2) a $4.2
      million pre-tax gain related
      to the fair value changes on our corridors that were not accounted for as
      hedging instruments prior to May 2004; and (3) a
      $6.6
      million pre-tax gain recorded upon the delivery
      of $113.9 million of mortgage loans in connection with our fourth quarter 2003 securitization
      (which was structured to be accounted for as a sale), under a pre-funding
      feature.





We
      recorded net interest income after provision for loan losses of $68.2 million
      during the nine months ended September 30, 2005, an increase of $36.9 million
      from $31.3 million in the same period in 2004. The increase in net interest
      income after provision for loan losses primarily reflects the net effect of
      recognizing interest income on $4.0 billion of mortgage loans held for
      investment at September 30, 2005, compared to $1.8 billion of these loans held
      at September 30, 2004. Similarly, the increase in interest expense primarily
      reflects the net effect of recognizing interest expense on $3.9 billion of
      financing on mortgage loans held for investment at September 30, 2005, compared
      to $1.7 billion of financing on mortgage loans held for investment at September
      30, 2004. During the nine months ended September 30, 2005, total non-interest
      income increased $18.6 million and total non-interest expense increased by
      $19.7
      million, compared to the same period in 2004. The increase in non-interest
      income primarily reflects the impact of the $11.2 million increase in the fair
      value of our excess cashflow certificates we experienced during the nine months
      ended September 30, 2005, while the increase in non-interest expense primarily
      reflects the expenses associated with increases in origination volume, personnel
      and costs related to our on-going Sarbanes-Oxley Act Section 404 initiatives,
      as
      compared to the same period in 2004.





We
      originated $2.7 billion of mortgage loans during the nine months ended September
      30, 2005, representing an $884.2 million, or 47.6%, increase from $1.9 billion
      of mortgage loans originated during the nine months ended September 30, 2004.
      We
      securitized and/or sold $2.7 billion of loans during the nine months ended
      September 30, 2005, compared to $1.9 billion of loans (including $113.9 million
      of loans delivered
      in the first quarter of 2004 under a pre-funding feature in connection with
      our
      fourth quarter 2003 securitization accounted for as a sale) during
      the same period in 2004.





**Net
      Interest Income**





We
      recorded net interest income of $89.2 million during the nine months ended
      September 30, 2005, an increase of $52.1 million, from the $37.1 million
      recorded in the same period in 2004. The increase in net interest income
      primarily reflects the net effect of the increases in the average balance of
      mortgage loans held for investment and the related financing during the nine
      months ended September 30, 2005 compared to the same period in 2004. Net
      interest income represents the difference between our interest income and our
      interest expense, each of which is described in the following
      paragraphs.





***Interest
      Income.*** Interest
      income increased $143.5 million to $200.4 million for the nine months ended
      September 30, 2005, from $56.9 million for the comparable period in 2004. The
      increase is primarily due to (1) the increase in interest income of $133.6
      million on our loans held for investment - securitized, which totaled $3.8
      billion at September 30, 2005 as compared to $1.6 billion at September 30,
      2004;
      (2) the increase in interest income of $8.5 million related to the increase
      in
      the average amount of mortgage loans we originated and held pending
      securitization or sale during the nine months ended September 30, 2005 compared
      to the same period in 2004; and (3) the increase in pass-through interest
      received from securitization trusts on fixed-rate asset-backed securities at
      the
      time of settlement - due to the increase in fixed-rate asset-backed securities
      issued during the nine months ended September 30, 2005, compared to the
      asset-backed securities issued in the same period of 2004.





**38**


The
      following table is a summary of interest income:





**For
                the Nine Months Ended September 30,***(Dollars
                in thousands)*
            
            **2005**
            
            **2004**Interest
                income on mortgage loans held for sale, net
            
            $
            --
            
            $
            12,802Interest
                income on mortgage loans held for investment - pre-securitization,
                net
            
            
            21,275
            
            
            --Interest
                income on mortgage loans held for investment - securitized, net(1)
            
            
            173,051
            
            
            39,491Interest
                income on excess cashflow certificates
            
            
            1,205
            
            
            1,526Asset-backed
                security interest
            
            
            4,847
            
            
            2,920Miscellaneous
                interest income
            
            
            14
            
            
            114Total
                interest income
            
            $
            200,392
            
            $
            56,853





*(1)
      The amount for the nine months ended September 30, 2005 and 2004 includes $9.8
      million and $702,000, respectively, of prepayment penalty
      fees.*





***Interest
      Expense.*** Interest
      expense increased by $91.5 million to $111.2 million for the nine months ended
      September 30, 2005 from $19.7 million for the comparable period in 2004. The
      increase was primarily due to the increase in interest expense related to the
      securitization debt and, to a lesser extent, the increase in loans originated
      and financed during the nine months ended September 30, 2005 on our warehouse
      facilities, compared to the same period in 2004. Additionally, contributing
      to
      the increase in interest expense was the higher warehouse financing costs due
      to
      a higher average one-month LIBOR rate, which is the benchmark index used to
      determine our cost of borrowed funds. The rate increased on average to 3.13%
      for
      the nine months ended September 30, 2005, compared to an average of 1.29% for
      the same period in 2004.





The
      following table presents the components of interest expense:





**For
                the Nine Months Ended**
              **September
                30,***(Dollars
                in thousands)*
            
            **2005**
            
            **2004**Interest
                expense on warehouse financing
            
            $
            14,444
            
            $
            5,279Interest
                expense on mortgage loans held for investment financing(1)
            
            
            96,573
            
            
            14,246Interest
                expense on other borrowings
            
            
            204
            
            
            215Total
                interest expense
            
            $
            111,221
            
            $
            19,740





*(1)
      The amount for the nine months ended September 30, 2005 and 2004 includes $5.3
      million and $915,000, respectively, of deferred securitization debt issuance
      expenses and trustee expenses recognized during the period, net of hedge
      amortization.*





**Provision
      for Loan Losses**





A
      provision for loan losses on mortgage loans held for investment is recorded
      to
      maintain the related allowance for loan losses at an appropriate level for
      currently existing probable losses of principal. We recorded a provision for
      loan losses of $20.9 million and $5.8 million for the nine months ended
      September 30, 2005 and 2004, respectively, related to mortgage loans held for
      investment. The amount of the provision for loan losses corresponds to the
      increase in and the seasoning of our mortgage loans held for investment during
      the respective period.





**Non-Interest
      Income**





Total
      non-interest income increased by $18.6 million to $31.1 million for the nine
      months ended September 30, 2005, from $12.5 million for the comparable period
      in
      2004. The increase in non-interest income primarily resulted from a $7.5 million
      increase in the net gain on sale of mortgage loans and a $11.2 million increase
      in the fair value of our excess cashflow certificates recorded during the nine
      months ended September 30, 2005 as compared to the same period in
      2004.





**39**


***Net
      Gain on Sale of Mortgage Loans.*** Net gain
      on sale of mortgage loans for the nine months ended September 30, 2005 and
      2004
      is comprised of the premium received from selling whole loans on a
      servicing-released basis, together with any deferred origination costs or fees
      associated with mortgage loans sold, less any premium recapture reserve. During
      the nine months ended September 30, 2005, we recorded a net gain on the sale
      of
      mortgage loans of $19.4 million on the sale of $390.9 million of mortgage loans
      on a whole-loan basis as compared to a $11.9 million gain recorded during the
      same period in 2004 on the sale, on a whole-loan basis, or through a
      securitization structured to be accounted for as a sale, of $204.6 million
      of
      mortgage loans. Additionally, the gain on sale amount of $11.9 million for
      the
      nine months ended September 30, 2004 includes a $6.6 million gain recorded
      from
      the January 2004 delivery of $113.9 million of mortgage loans in connection
      with
      our fourth quarter 2003 securitization, which was structured to be accounted
      for
      as a sale under a pre-funding feature. Through the end of 2003, our
      securitizations were structured to be accounted for as sales under SFAS No.
      140.
      Accordingly, we recorded gain-on-sale revenue upon the closing of each such
      securitization. For the nine months ended September 30, 2004, net gain on sale
      of mortgage loans included the following in addition to the gains recorded
      from
      whole-loan sales:





(1)
            the
                sum of:a)
            the
                cash purchase price we received in connection with selling (i) a
                NIM note,
                net of overcollateralization amount and interest rate cap and (ii)
                an
                interest-only certificate;b)
            the
                fair value of the excess cashflow certificates we
                retained;c)
            the
                premium received from selling mortgage servicing rights;
                andd)
            the
                difference between the selling price and the carrying value of the
                related
                mortgage loans sold;(2)
            less
                the:a)
            costs
                associated with the securitization structured as a
                sale;b)
            any
                hedge loss (gain) associated with such securitization accounted for
                as a
                sale;c)
            any
                premium recapture reserve; andd)
            any
                loss associated with loans sold at a discount, together with any
                deferred
                origination costs or fees associated with mortgage loans
                sold.








**40**





The
      following table is a summary of our net gain on sale of mortgage loans for
      the
      nine months ended September 30, 2005 and 2004:





**Nine
                Months Ended September 30,***(Dollars
                in thousands)*
            
            **2005**
            
            **2004**Net
                Gain on Sale of Mortgage Loans:Loans
                sold(1)
            
            $
            390,923
            
            $
            204,587NIM
                proceeds, net
            
            $
            --
            
            $
            4,712Interest-only
                security proceeds
            
            
            --
            
            
            1,292Mortgage
                servicing rights(2)
            
            
            --
            
            
            661Gain
                on whole-loan sales
            
            
            15,782
            
            
            4,335Premium
                recapture reserve
            
            
            (633
            )
            
            (173
            )Net
                loan origination fees
            
            
            4,265
            
            
            1,540Less:
                securitization transaction costs
            
            
            --
            
            
            (484
            )Net
                gain on sale recorded
            
            $
            19,414
            
            $
            11,883Net
                gain on sale recorded as a percent of loans sold
            
            
            4.97
            %
            
            5.81
            %





*(1)*  *For
      the nine months ended September 30, 2004, we delivered $113.9 million of
      mortgage loans under a pre-funding feature in our fourth quarter 2003
      securitization and recorded gain-on-sale revenue related thereto during the
      nine
      months ended September 30, 2004. Because the fourth quarter 2003 securitization
      was structured as a sale, we recorded gain-on-sale revenue during the nine
      months ended September 30, 2004 when we delivered the loans under the
      pre-funding feature to the securitization trust in January
      2004.*





*(2)*  *For
      the nine months ended September 30, 2004, we recorded a $661,000 gain from
      the
      sale of mortgage servicing rights related to the mortgage loans collateralizing
      the* *fourth quarter 2003* *securitization.*





Net
      gain
      on sale of mortgage loans increased $7.5 million to $19.4 million for the nine
      months ended September 30, 2005, from $11.9 million for the comparable period
      in
      2004. During the nine months ended September 30, 2005, we sold $390.9 million
      (at a weighted average gross sales price of 4.04%) of mortgage loans on a whole
      loan servicing-released basis, compared to $90.7 million (at a weighted average
      gross sales price of 4.78%) for the same period in the prior year. The gain
      on
      sale of mortgages recorded for the nine months ended September 30, 2004 also
      reflects the impact of our delivery of $113.9 million of mortgage loans in
      connection with our fourth quarter 2003 securitization (which was structured
      to
      be accounted for as a sale), under a pre-funding feature during the nine months
      ended September 30, 2004.





The
      weighted average net gain on sale ratio for the nine months ended September
      30,
      2005 and 2004 was 4.97% and 5.81%, respectively. The weighted-average net gain
      on sale ratio is calculated by dividing the net gain on sale by the total amount
      of loans securitized and sold.





***Other
      Income.*** Other
      income increased $11.1 million to $11.7 million for the nine months ended
      September 30, 2005, from $597,000 for the nine months ended September 30, 2004.
      The increase in other income primarily relates to a fair value adjustment on
      our
      excess cashflow certificates of $11.5 million for the nine months ended
      September 30, 2005. The
      increase in the fair value of our excess cashflow certificates for the nine
      months ended September 30, 2005 was primarily driven by lower losses on the
      underlying loans and the impact of our revised assumptions utilized during
      the
      third quarter of 2005, specifically the lowering of the expected losses and/or
      changed shape of the loss curve to reflect losses occurring at a later date
      than
      originally anticipated. We
      recorded a $307,000 fair value adjustment on our excess cashflow certificates
      during the nine months ended September 30, 2004.





**Non-interest
      Expense**





Total
      non-interest expense increased by $19.7 million, or 33.1%, to $79.1 million
      for
      the nine months ended September 30, 2005, from $59.4 million for the comparable
      period in 2004. The increase primarily is due to an increase in payroll and
      related costs associated with a 47.6% increase in our mortgage loan production
      and an 18.4% increase in personnel, coupled with an increase in other production
      related expenses. Additionally, contributing to the increase was an increase
      in
      the recorded loss on derivative instruments relating to the ineffective portion
      of our derivatives that is recognized through current earnings during the nine
      months ended September 30, 2005 as compared to the nine months ended September
      30, 2004.





**41**


***Payroll
      and Related Costs.*** Payroll
      and related costs increased by $9.4 million, or 24.9%, to $47.0 million for
      the
      nine months ended September 30, 2005, from $37.6 million for the comparable
      period in 2004. The increase was primarily the result of higher compensation
      and
      related payroll cost associated with an increase in our staff. As of September
      30, 2005, we employed 1,248 full- and part-time employees, an increase of 18.4%
      over our 1,054 full- and part-time employees as of September 30, 2004.
      Additionally, payroll and related costs were higher due to the higher loan
      commissions paid as a result of a 47.6% increase in loan production during
      the
      nine months ended September 30, 2005 compared to the same period in
      2004.





***General
      and Administrative Expenses.***  General
      and administrative expenses increased $9.6 million, or 44.4%, to $31.2 million
      for the nine months ended September 30, 2005, from $21.6 million for the nine
      months ended September 30, 2004. The increase was primarily due to an increase
      in expenses associated with a 47.6% increase in loan production during the
      nine
      months ended September 30, 2005 compared to the same period in 2004 (which
      includes higher advertising, promotional and marketing expenses), and the
      consequent 18.4% increase in personnel and expenses related to our ongoing
      expansion of our wholesale and retail divisions. Also contributing to the
      increase in general and administrative expenses was an increase in legal,
      accounting and professional fees. The primary increase in accounting and
      professional fees relates to our on-going Sarbanes-Oxley Act Section 404
      initiatives.





***Loss
      on Derivative Instruments.*** The loss
      on derivative instruments recorded during the nine months ended September 30,
      2005 represents the (1) ineffective portion of the change in fair value of
      interest rate swaps used to lock in a pre-determined interest rate on designated
      portions of our prospective future securitization financing, (2) ineffective
      portion related to the change in the fair value of our corridors we use to
      protect the variable-rate financing, and (3) c hanges
      in
      the fair value of the derivative instruments classified as trading securities





During
      the nine months ended September 30, 2005, we recorded a net loss on derivative
      instruments of $866,000 as opposed to a net loss on derivatives of $146,000
      during the nine months ended September 30, 2004. During the nine months ended
      September 30, 2005, we recorded a loss of $871,000 on the ineffective portion
      of
      caps and interest rate swaps, compared to a $231,000 gain recorded on the
      ineffective portion of caps and interest rate swaps during the nine months
      ended
      September 30, 2004. Additionally, during
      the nine months ended September 30, 2005, $390,000 of corridors classified
      as
      prepaid and other assets were no longer deemed “highly effective”, as the ratio
      of the outstanding balance of the hedged item (debt) to the notional amount
      of
      the corridors was outside of the range of 80% to 125%, and were classified
      as
      trading securities. During the nine months ended September 30, 2005, a gain
      of
      $6,000 was recorded to earnings on the changes in fair value of the corridors
      held as trading securities. During the nine months ended September 30, 2004,
      none of the corridors tested failed the effectiveness test.





In
      addition, during the nine months ended September 30, 2004, we recorded (1)
      a
      $4.5 million loss relating to the interest rate swaps used to hedge
      approximately $542.3 million of securitization variable-rate debt that were
      not
      accounted for as hedge instruments; and (2) a $4.2 million gain related to
      the
      fair value changes on our corridors that were not accounted for as hedging
      instruments prior to May 2004.





**Income
      Taxes**





We
      recorded an income tax expense of $8.0 million for the nine months ended
      September 30, 2005 due to the pre-tax income recorded of $20.3 million for
      the
      period (utilizing an effective tax rate of approximately 39.4%). We recorded
      a
      tax benefit of $6.0 million for the nine months ended September 30, 2004 on
      a
      pre-tax loss of $15.6 million (utilizing an effective tax rate of approximately
      38.6%).





**42**





**Financial
      Condition**





***September
      30, 2005 Compared to December 31, 2004***





***Cash
      and Cash Equivalents*** *.* Cash and
      cash equivalents decreased $504,000, or 9.7%, to $4.7 million at September
      30,
      2005, from $5.2 million at December 31, 2004. This decrease was primarily
      related to timing of cash received and disbursed in our normal
      operations.





***Mortgage
      Loans Held for Investment, Net*** .
      Mortgage loans held for investment, net increased $1.7 billion, or 71.1%, to
      $4.0 billion at September 30, 2005, from $2.3 billion at December 31, 2004.
      This
      account represents our basis in the mortgage loans that were either delivered
      to
      the securitization trusts (denoted as mortgage loans held for investment -
      securitized) or are pending delivery into future securitizations or sale on
      a
      whole-loan basis (denoted as mortgage loans held for investment -
      pre-securitization), net of discounts, deferred fees and allowance for loan
      losses.





The
      following table sets forth a summary of mortgage loans held for investment,
      net:





*(Dollars
                in thousands)*
            
            **At
                September 30, 2005**
            
            **At
                December 31, 2004**Mortgage
                loans held for investment - securitized
            
            $
            3,842,380
            
            $
            2,165,353Mortgage
                loans held for investment - pre-securitization
            
            
            224,451
            
            
            206,289Discounts
                (MSR related)
            
            
            (23,239
            )
            
            (14,570
            )Net
                deferred origination fees
            
            
            (8,937
            )
            
            (5,800
            )Allowance
                for loan losses
            
            
            (29,787
            )
            
            (10,278
            )Mortgage
                loans held for investment, net
            
            $
            4,004,868
            
            $
            2,340,994





We
      maintain an allowance for loan losses based on our estimate of losses to be
      incurred in the foreseeable future (generally an 18 to 24 month period) on
      our
      mortgage loans held for investment. At September 30, 2005 and December 31,
      2004,
      we established an allowance for loan losses totaling $29.8 million and $10.3
      million, respectively. The increase in the allowance for loan losses is
      primarily driven by the growth in our mortgage loans held for investment
      portfolio. We have not substantively changed any aspect of our overall approach
      in the determination of the allowance for loan losses, and there have been
      no
      material changes in our assumptions or estimates as compared to prior periods
      that impacted the determination of the allowance for loan losses at September
      30, 2005.





The
      following table sets forth a summary of the activity in the allowance for loan
      losses for the nine months ended September 30, 2005 and the year ended December
      31, 2004:





*(Dollars
                in thousands)*
            
            **Nine
                Months Ended September 30,**
              **2005**
            
            **Year
                Ended**
              **December
                31,**
              **2004**Allowance
                for loan losses - beginning of period
            
            $
            10,278
            
            $
            --Provision
                for loan losses
            
            
            20,928
            
            
            10,443Charge-offs
            
            
            (1,419
            )
            
            (165
            )Allowance
                for loan losses - end of period
            
            $
            29,787
            
            $
            10,278





Additionally, Hurricanes Katrina and Rita may result in our recording losses
        on
        mortgage loans located in the Federal Emergency Management Agency ("FEMA")
        declared disaster areas. The full economic impact of these natural disasters
        is
        uncertain but may affect the ability of borrowers to make payments on their
        mortgage loans and may affect the value of the mortgaged property. At this
        time,
        we have no way to determine the particular nature of such economic effects,
        how
        long any of these effects may last, or how these effects may impact the
        performance of the mortgage loans. The outstanding balance of the mortgage
        loans
        held for investment located in the disaster areas designated by FEMA at
        September 30, 2005 is approximately $32.7 million (of which $3.8 million
        are
        pre-securitization loans), or 0.8% of the outstanding loans held for investment
        balance at that date. No specific allowance for loan losses exists for any
        of
        the mortgage loans in the affected areas at September 30, 2005. As additional
        information is obtained and processed over the coming months and quarters,
        we
        will continue to assess the need for any specific reserves related to the
        mortgage loans in the affected areas.


**43**


***Trustee
      Receivable.*** Trustee
      receivable principally represents any un-remitted principal payments collected
      by the securitization trust’s third-party loan servicer subsequent to the
      monthly remittance cut-off date. The unscheduled principal payments and prepaid
      loan payments received after the remittance cut-off date as of September 30,
      2005 and December 31, 2004 totaled $63.3 million and $30.2 million,
      respectively, relating to the securitizations accounted for as secured
      financings. The trustee is expected to remit these amounts on the following
      month’s scheduled remittance date, at which time they mainly will be used to pay
      down principal on the related financing on mortgage loans held for investment,
      net.





***Accrued
      Interest Receivable.*** Accrued
      interest receivable increased $10.7 million, or 87.4%, to $23.0 million at
      September 30, 2005, from $12.3 million at December 31, 2004. The increase is
      due
      to the 77.6% increase in mortgage loans held for investment - securitized from
      December 31, 2004, and a 8.9% increase in mortgage loans held for investment
      -
      pre-securitization during the same period.





***Excess
      Cashflow Certificates*** .
      The
      following table presents the activity related to our excess cashflow
      certificates for the nine months ended September 30, 2005 and the year ended
      December 31, 2004:





*(Dollars
                in thousands)*
            
            **Nine
                Months Ended September 30,**
              **2005**
            
            **Year
                Ended**
              **December
                31,**
              **2004**Balance,
                beginning of period
            
            $
            14,933
            
            $
            19,853Accretion
            
            
            1,205
            
            
            2,073Cash
                receipts
            
            
            (16,181
            )
            
            (8,359
            )Net
                change in fair value
            
            
            11,520
            
            
            1,366Balance,
                end of period
            
            $
            11,477
            
            $
            14,933





Since
      we
      began structuring our securitizations in 2004 to be accounted for as secured
      financings, we no longer record excess cashflow certificates (but rather the
      underlying mortgage loans) on newly issued securitizations on the consolidated
      balance sheet. We did not sell any excess cashflow certificates during the
      nine
      months ended September 30, 2005 or during the year ended December 31,
      2004.





The
      increase in the fair value of our excess cashflow certificates for the nine
      months ended September 30, 2005, as compared to the same period in 2004, is
      primarily due to the timing of losses on the underlying loans. Actual losses
      for
      the nine months ended September 30, 2005 were lower than the anticipated losses,
      resulting in the receipt of cash earlier than expected. In addition, we revised
      several of the assumptions used to determine the fair value of the excess
      cashflow certificates during the third quarter of 2005. The most notable of
      the
      changed assumptions was the decrease in the amount of expected losses over
      the
      remaining term of several of the certificates and the shape of the loss curve.
      As a result of the lower losses and the increased cash flow, the return was
      higher on the excess cashflow certificates during the nine months ended
      September 30, 2005.





***Equipment,
      Net*** .
      Equipment, net, increased $1.4 million, or 32.7%, to $5.7 million at September
      30, 2005, from $4.3 million at December 31, 2004. This increase is primarily
      due
      to increased purchases of computer equipment and office furnishings during
      the
      nine months ended September 30, 2005, which reflects the 11.1% increase in
      employees compared to December 31, 2004 and the effect of our office
      expansions.





***Accounts
      Receivable.***  Accounts
      receivable increased $3.0 million, or 47.9%, to $9.5 million at September 30,
      2005, from $6.5 million at December 31, 2004. This
      increase primarily is due to an increase in amounts due from the third-party
      servicer. The increase in servicer receivables relates to the increase in our
      mortgage loans held for investment portfolio during the nine months ended
      September 30, 2005. The servicer receivables generally are comprised of the
      interest portion of mortgage payments collected by our loan servicing provider
      during the month which are remitted to us one month after collection
      ( *i.e.* ,
      interest collected by the third-party servicer after our September 2005
      remittance cut-off date will be remitted to us in October 2005).





***Prepaid
      and Other Assets.*** Prepaid
      and other assets increased $7.7 million, or 29.3%, to $33.8 million at September
      30, 2005, from $26.1 million at December 31, 2004. The increase is primarily
      due
      to (1) a $2.2 million increase in prepaid securitization transaction costs,
      net,
      which will be recognized as a yield adjustment to interest expense over the
      estimated life of the secured financing; (2) a $1.0 million increase in prepaid
      insurance and computer related items; (3) the recording of a $2.0 million
      deferred hedge asset; and (4) a $2.5 million increase in REO.





**44**


At
      September 30, 2005 and December 31, 2004, we held $3.1 million and $578,000,
      respectively, of REO, which we carry at the lower of cost or fair value, less
      estimated selling costs.  A
      provision of $51,000 was made during the three and nine months ended September
      30, 2005 for the decrease in the fair value of the REO properties. We
      had no
      REO properties as of September 30, 2004.





Included
      in prepaid and other assets at September 30, 2005 were trading securities
      (corridors) totaling $390,000. Based upon the assessment of hedge effectiveness
      performed during the nine months ended September 30, 2005, a portion of the
      corridors held were deemed to be a trading security (ineffective portion).
      There
      were no such trading securities held at December 31, 2004. The changes in the
      fair value of the trading securities were recorded directly to the income
      statement as a component of “non-interest expense - gain or loss on derivative
      instruments.”





***Deferred
      Tax Asset.***  The
      deferred tax asset increased by $1.2 million, or 2.3%, to $51.5 million at
      September 30, 2005, from $50.3 million at December 31, 2004. The increase
      primarily is due to temporary differences related to securitizations entered
      into prior to 2004, related to gain-on-sale accounting versus Real Estate
      Mortgage Investment Conduit ("REMIC") tax accounting; and book allowance for
      loan losses. The increase was partially offset by a $1.7 million decrease in
      deferred taxes related to the fair value of the hedge instruments within
      accumulated other comprehensive income and a decrease in the deferred taxes
      related to our 2004 securitizations, which were accounted for as secured
      financings, and which for tax purposes were accounted for as REMIC transactions
      and are treated as sales.





Commencing
      in the first quarter of 2005, we began issuing our securitizations from a newly
      created subsidiary that we elected to treat as a REIT (also referred to as
      a
“Captive REIT”) under the Code. The securitization was structured as a
“debt-for-tax” transaction. Our prior securitizations were all structured as
“sale-for-tax” transactions. The tax structure was changed to more closely
      conform to the GAAP accounting treatment.





***Bank
      Payable.*** Bank
      payable increased $660,000, or 59.5%, to $1.8 million at September 30, 2005,
      from $1.1 million at December 31, 2004. Bank payable represents the amount
      of
      checks written against our operating account which are subsequently covered
      as
      they are presented to the bank for payment by either drawing down our lines
      of
      credit or from subsequent deposits of operating cash.





***Warehouse
      Financing.*** Our
      warehouse financing increased $28.1 million, or 20.8%, to $163.8 million at
      September 30, 2005, from $135.7 million at December 31, 2004. The increase
      was
      primarily due to an $18.2 million increase in the amount of mortgage loans
      held
      for investment - pre-securitization. Additionally impacting the amount of
      outstanding borrowings under our warehouse credit facilities was the decrease
      in
      the amount of self-funded loans from December 31, 2004 to September 30, 2005.
      At
      September 30, 2005, we self-funded $60.6 million of these mortgage loans, as
      compared to $70.6 million at December 31, 2004.





***Financing
      on Mortgage Loans Held for Investment, Net.*** Financing on mortgage loans held for investment, net increased $1.7 billion,
      or
      74.2%, to $3.9 billion at September 30, 2005, from $2.2 billion at December
      31,
      2004. This increase in the issuance of asset-backed securities corresponds
      to
      the increase in loans held for investment - securitized during the nine months
      ended September 30, 2005. The balance of this account will generally increase
      in
      proportion to the increase in mortgage loans held for investment -
      securitized.





***Other
      Borrowings.***  Other
      borrowings increased $355,000, or 10.7%, to $3.7 million at September 30, 2005,
      from $3.3 million at December 31, 2004. The increase was due to an increase
      in
      the amount of financed equipment during the nine months ended September 30,
      2005.





**45**





The
      following table summarizes certain information regarding other borrowings at
      the
      respective dates:





*(Dollars
      in thousands)*


**Capital
                Leases**
            
            **Range
                of Interest Rates**
            
            **Balance**
            
            **Range
                of Expiration Dates**At
                September 30, 2005
            
            3.29%
                to 12.45%
            
            $
                3,685
            
            October
                2005 to July 2008At
                December 31, 2004
            
            3.29%
                to 12.45%
            
            $
                3,330
            
            October
                2005 to December 2007





***Accrued
      Interest Payable.*** Accrued
      interest payable increased $5.4 million to $9.7 million at September 30, 2005,
      from $4.3 million at December 31, 2004. This increase primarily was related
      to
      the accrued interest on the securitization debt issued during the nine months
      ended September 30, 2005. The financing on mortgage loans held for investment,
      net increased $1.7 billion, or 74.2%, from the December 31, 2004 balance.
      Accrued interest payable related to warehouse borrowings represented $147,000
      and $101,000 of the balance at September 30, 2005 and December 31, 2004,
      respectively.





***Accounts
      Payable and Other Liabilities.*** Accounts
      payable and other liabilities increased $11.0 million, or 47.5%, to $34.0
      million at September 30, 2005, from $23.0 million at December 31, 2004. The
      increase was primarily due to (1) a $6.3 million increase in accrued servicer
      payables related primarily to our accounting for loan securitizations as secured
      financings in 2004, (2) a $4.0 million increase in payroll accruals for payroll
      related items ( *i.e.* ,
      salary
      and commissions) due to a combination of the 11.1% increase in personnel and
      timing of commission payments, and (3) a $1.7 million increase in accrued
      professional fees, primarily related to Sarbanes-Oxley Section 404 initiatives.
      These increases were partially offset by a $2.0 million decrease in current
      taxes payable and a $166,000 decrease in deferred hedge liabilities during
      the
      same period.





***Stockholders’
      Equity.*** Stockholders’ equity increased $12.4 million, or 14.2%, to $99.6 million at
      September 30, 2005 from $87.2 million at December 31, 2004. This increase is
      primarily due to the recording of $12.3 million in net income for the nine
      months ended September 30, 2005 and the $475,000 of proceeds (and tax benefits)
      we received from the exercise of 23,100 stock options from authorized but
      unissued shares during the same period, offset by the payment of $2.0 million
      in
      common stock dividends and the accrual of $1.0 million in common stock dividends
      that were declared on September 20, 2005 and paid on October 7,
      2005.





Additionally
      increasing stockholders’ equity was a $2.7 million, net of tax, increase in the
      cumulative other comprehensive income related to the net unrealized gains from
      derivatives. The cumulative other comprehensive income, net of tax, recorded
      at
      September 30, 2005 denotes the changes in fair value of our hedges, net of
      reclassification to earnings for the nine months ended September 30, 2005.
      The
      deferred gain amounts will be recognized as a yield adjustment to interest
      expense over the life of the previously hedged variable-rate debt.





**Contractual
      Obligations**





The
      following table summarizes our material contractual obligations as of September
      30, 2005:





*(Dollars
                in thousands)*
            
            **Total**
            
            **Less
                than**
              **One
                Year**
            
            **One
                to**
              **Three
                Years**
            
            **Three
                to**
              **Five
                Years**
            
            **More
                than**
              **Five
                Years**Securitization
                asset-backedsecurities(1)
            
            $
            3,895,312
            
            $
            1,509,085
            
            $
            1,525,472
            
            $
            483,033
            
            $
            377,722Operating
                leases
            
            $
            20,263
            
            $
            5,931
            
            $
            10,378
            
            $
            3,665
            
            $
            289Capital
                leases
            
            $
            3,685
            
            $
            1,889
            
            $
            1,796
            
            $
            --
            
            $
            --





*(1)*  *Amounts
      shown above reflect estimated repayments based on anticipated receipt of
      principal and interest on underlying mortgage loan collateral using the same
      prepayment speed assumptions we use to value our excess cashflow
      certificates.*





**46**


**Loan
      Commitments**





We
      provide commitments to fund mortgage loans to customers as long as all of the
      proper conditions are met. Our commitments have fixed expiration dates. We
      quote
      interest rates to customers, which are generally subject to change by us.
      Although we typically honor these interest rate quotes, the quotes do not
      constitute future cash requirements, minimizing the potential interest rate
      risk
      exposure. We do not believe these non-conforming mortgage loan commitments
      meet
      the definition of a derivative under GAAP. Accordingly, they are not recorded
      in
      the consolidated financial statements. At September 30, 2005, and December
      31,
      2004, we had outstanding origination commitments to fund approximately $140.7
      million and $92.2 million, respectively, in mortgage loans.





**Off-Balance
      Sheet Trusts**





Substantially
      all of our off-balance sheet arrangements relate to securitizations structured
      as sales prior to 2004. In connection with our securitization transactions
      that
      were structured as sales (and where we have recorded an economic interest, *i.e.* the
      excess cashflow certificates), there is $938.7 million in collateral (primarily
      mortgage loans) owned by off-balance sheet trusts as of September 30, 2005.
      These trusts have issued asset-backed securities secured by these mortgage
      loans. We have no obligation to provide funding support to either the third
      party investors or the off-balance sheet trusts. The third-party investors
      or
      the trusts have no recourse to our assets or us and have no ability to require
      us to repurchase their loans other than for non-credit-related recourse that
      can
      arise under standard representations and warranties. See “ - Securitizations”
      for additional information regarding these transactions.





**Liquidity
      and Capital Resources**





The
      term
“liquidity” refers to our ability to generate adequate amounts of cash to fund
      our operations, including our loan originations, loan purchases, operating
      expenses, tax payments and planned dividend payments. We
      require substantial amounts of cash to fund our loan originations,
      securitization activities and operations. We generate working capital primarily
      from the cash proceeds from our quarterly securitizations, including the sale
      of
      MSRs. Our current cost structure has many embedded fixed costs, which are not
      likely to be significantly affected by a relatively substantial change in our
      loan origination volume. If we can continue to originate a sufficient amount
      of
      mortgage loans and continue our practice of securitizations, we expect to
      generate sufficient cash proceeds from our securitization financings, whole
      loan
      sales and the cash flows from our growing portfolio of mortgage loans held
      for
      investment to offset our current cost structure and cash uses. However, we
      may
      choose to not sell MSRs or reduce the amount of securitization debt we issue,
      which will negatively impact our cash flow in any period we do so.





We
      believe we must generate sufficient cash from the following in order to sustain
      our current level of working capital:


·
              the
                  proceeds we receive from selling or financing asset-backed securities
                  in
                  connection with our securitizations;·
              the
                  proceeds from the sale of MSRs to a third-party mortgage
                  servicer;·
              the
                  premiums we receive from selling whole loans on a servicing released
                  basis;·
              origination
                  fees collected on newly closed loans;·
              the
                  cash flow from caps;·
              excess
                  cashflow certificates we retained in connection with our securitizations
                  prior to 2004; and·
              principal
                  and interest payments we receive on our loans held for
                  investment.






**47**




Currently,
                  our primary uses of cash requirements include the funding
                  of:·
              mortgage
                  loans held for investment - pre-securitization which are not
                  financed;·
              interest
                  expense on warehouse lines of credit, financing of mortgage loans
                  held for
                  investment, and other financings;·
              scheduled
                  principal pay-downs on financing of mortgage loans held for investment,
                  warehouse lines of credit and other financings;·
              transaction
                  costs, derivative costs and credit enhancement (O/C) in connection
                  with
                  our securitization program;·
              general
                  ongoing administrative and operating expenses, including the cost
                  to
                  originate loans;·
              tax
                  payments, including those on excess inclusion income generated
                  from our
                  excess cashflow certificates; and·
              common
                  stock dividends.


Historically, we have financed our operations utilizing securitization
          financings, various secured credit financing facilities, issuances of corporate
          debt, issuances of equity, and MSRs sold in conjunction with each of our
          securitizations to support our originations, securitizations, and general
          operating expenses. Currently, our primary sources of liquidity, subject
          to
          market conditions, continue to be:


·
              warehouse
                  financing and other secured financing facilities;·
              financing
                  related to the securitization of mortgage loans;·
              sales
                  of whole loans and MSRs;·
              cash
                  flows from our mortgage loans held for investment;·
              origination
                  fees, interest income and other cash revenues; and·
              cash
                  flows from retained excess cashflow
                  certificates.





We
      have
      repurchase agreements with several of the institutions that have purchased
      mortgage loans from us in the past. Some of the agreements provide for our
      repurchase of any of the mortgage loans that become subject to foreclosure
      sale.
      At the foreclosure sale, we will repurchase the mortgage, if necessary, and
      make
      the institution whole. The dollar amount of loans that were sold with recourse
      and are still outstanding totaled $861,000 and $1.1 million at September 30,
      2005 and December 31, 2004, respectively. Included in “accounts payable and
      other liabilities” is an allowance for recourse loans related to those loans
      sold with recourse of $491,000 and $837,000 at September 30, 2005 and December
      31, 2004.




Subject
      to our ability to execute our business strategy and the various uncertainties
      described above (and described in more detail in “- Forward Looking Statements
      and Risk Factors”), we anticipate that we will have sufficient cash flows from
      operations, short-term funding and capital resources to meet our liquidity
      obligations for at least the next twelve months, however, there can be no
      assurance that we will be successful in this regard.





**48**





**Financing
      Facilities**





We
      need
      to borrow substantial sums of money each quarter to originate mortgage loans.
      We
      have relied upon a limited number of counterparties to provide us with the
      financing facilities to fund our loan originations. Our ability to fund current
      operations and accumulate loans for securitization depends to a large extent
      upon our ability to secure short-term financing on acceptable terms. There
      can
      be no assurance that we will be able to either renew or replace our warehouse
      facilities at their maturities at terms satisfactory to us or at all. If we
      are
      not able to obtain financing, we will not be able to originate new loans and
      our
      business and results of operations will be negatively impacted.





To
      originate and accumulate loans for securitization, we borrow money on a
      short-term basis through committed secured warehouse lines of credit. Throughout
      each quarter as we amass loans for inclusion in each quarter’s securitization, a
      significant portion of our total warehouse financing lines will be utilized
      to
      fund loans. The material terms and features of our financing facilities in
      place
      at September 30, 2005 are as follows:





***RBS
      Greenwich Capital Warehouse Line of Credit*** *.* We have
      a $350.0 million facility with RBS Greenwich Capital Financial Products, Inc.,
      which bears interest based upon a fixed margin over one-month LIBOR. This
      facility provides us with the ability to borrow against first and second lien
      loans and “wet” collateral, which are loans that have closed and have been
      funded, but for which we have not yet received the loan documents from the
      closing agent. The facility provides the ability to borrow at the lesser of
      98%
      of fair market value or 100% of the par amount of the mortgage loans between
      0-59 days delinquent. Mortgage loans between 60-89 days delinquent may be
      financed at lower borrowing percentages. This facility expires in October 2006.
      As of September 30, 2005, the outstanding balance under the facility was $34.0
      million.





***Citigroup
      Warehouse Line of Credit.*** We have
      a $350.0 million facility with Citigroup Global Markets Realty Corp., which
      bears interest based upon a fixed margin over one-month LIBOR. This facility
      provides the ability to borrow against first and second lien loans and wet
      collateral. The facility provides us with the ability to borrow at the lesser
      of
      98% of fair market value or 100% of the par amount of the mortgage loans between
      0-59 days delinquent. Mortgage loans between 60-89 days delinquent may be
      financed at lower borrowing percentages. This facility expires in March 2006.
      As
      of September 30, 2005, the outstanding balance under the facility was $129.8
      million.





***Bank
      of America Warehouse Line of Credit.*** We have
      a $350.0 million facility with Bank of America, N.A. which bears interest based
      upon a fixed margin over one-month LIBOR. This facility provides the ability
      to
      borrow against first and second lien loans and wet collateral. The facility
      provides us with the ability to borrow at the lesser of 98% of fair market
      value
      or 100% of the par amount of the mortgage loans between 0-59 days delinquent
      and
      a limited amount of mortgage loans between 60-89 days delinquent. This facility
      expires in August 2006. As of September 30, 2005, we had no outstanding balance
      under the facility.





***Friedman,
      Billings, Ramsey Line of Credit.***  We
      have a
      $200.0 million multi-seller asset-backed commercial paper facility with FBR, which
      bears interest based upon a fixed margin over one-month LIBOR .
      This
      facility allows for the funding and aggregation of mortgage loans using funds
      raised through the sale of short-term commercial paper. This facility expires
      in
      December 2005. As of September 30, 2005, we had no outstanding balance under the facility .





Our
      warehouse agreements require us to comply with various operating and financial
      covenants. The continued availability of funds provided to us under these
      agreements is subject to, among other conditions, our continued compliance
      with
      these covenants. We believe we were in compliance with these covenants as of
      September 30, 2005.





**Interest
      Rate Risk**





Our
      primary market risk exposure is interest rate risk. Our results of operations
      may be significantly affected by the level of and fluctuation in interest rates.
      (See “- Item 3. Quantitative and Qualitative Disclosures About Market Risk -
      Interest Rate Risk”).





**49**


*Current
      Interest Rate Environment.* Net
      interest income after provision for loan loss represents 65.2% and 68.7% of
      our
      net revenues (net interest income and non-interest income, less provision for
      loan loss) during the three and nine months ended September 30, 2005,
      respectively. Accordingly, the interest rate environment has a substantial
      impact on our earnings. Our balance sheet is currently liability sensitive.
      A
      company with a liability sensitive balance sheet generally experiences reduced
      net interest income in a rising or increasing rate environment, while earnings
      are enhanced in a sustained decreasing rate cycle. The impact of the flattening
      of the yield curve recently has negatively impacted our margin since the spread
      between our longer-term assets and our shorter-term liabilities has contracted.
      We would expect to be negatively impacted by any substantial sustained decrease
      in long-term interest rates or a parallel shift in interest rates if they
      occur.





**Valuation
      Risk**





In
      connection with the securitizations structured as sales, we have retained
      certain assets for which the market is limited and illiquid. As a result,
      valuations are derived using complex modeling and significant assumptions and
      judgments, in the absence of active market quotations or sale information to
      value such assets. These retained assets are primarily comprised of excess
      cashflow certificates. The fair value of these assets could vary significantly
      as market conditions change. (See “- Item 2. Management’s Discussion and
      Analysis of Financial Condition and Results of Operations - Summary of Critical
      Accounting Policies - Excess Cashflow Certificates”).





**Credit
      Risk**





A
      significant portion of our loans held for investment have been made to non-prime
      credit borrowers and are secured by residential property. There is no guarantee
      that, in the event of borrower default, we will be able to recoup the full
      principal amount and interest due on a loan. We have adopted underwriting and
      loan quality monitoring systems, procedures and credit policies, including
      the
      establishment and review of the allowance for loan losses, that management
      believes are prudent and appropriate to minimize this risk by tracking loan
      performance, assessing the likelihood of nonperformance and diversifying our
      loan portfolio. Such policies and procedures, however, may not prevent
      unexpected losses that could adversely affect our results.





We
      also
      sell loans on a whole-loan basis to banks and other financial institutions. When
      we
      sell mortgage loans on a whole-loan basis we are normally subjected to standard
      mortgage industry representations and warranties, which may require us to
      repurchase one or more of the mortgage loans. These representations and
      warranties include provisions requiring us to repurchase a mortgage loan if
      a
      borrower fails to make one or more of the first loan payments due on the
      mortgage loan. In
      these
      instances, we are subject to repurchase risk in the event of a breach of
      standard representations or warranties we make in connection with these
      whole-loan sales.





**Geographical
      Concentration**





Properties
      securing our mortgage loans held for investment are geographically dispersed
      throughout the United States. For the three months ended September 30, 2005,
      approximately 24% and 11%, based upon principal balance, of the mortgage loans
      we originated were on properties located in New York and Florida, respectively,
      with no other state representing more than 6% of the originations.





The concentration of mortgage loans in specific geographic areas may increase
      the risk of loss. Economic conditions in the states where borrowers reside
      may
      affect the delinquency, loss and foreclosure experience of the mortgage loans.
      These states may suffer economic problems or reductions in market values for
      residential properties that are not experienced in other states.





**E** **nvironmental
      Matters**





To
      date,
      we have not been required to perform any environmental investigation or clean-up
      activities, nor have we been subject to any environmental claims. There can
      be
      no assurance, however, that this will remain the case in the future. Although
      we
      primarily lend to owners of residential properties, in the course of our
      business, we may acquire properties securing loans that are in default. There
      is
      a risk that we could be required to investigate and clean-up hazardous or toxic
      substances or chemical releases at these properties, and may be held liable
      to a
      governmental entity or to third parties for property damage, personal injury
      and
      investigation and clean-up costs incurred in connection with the contamination.
      In addition, the owner or former owners of a contaminated site may be subject
      to
      common law claims by third parties based on damages and costs resulting from
      environmental contamination emanating from the property.





**50**


**Inflation**





Inflation most significantly affects our loan originations and values of our
      excess cashflow certificates, because of the substantial effect inflation can
      have on interest rates. Interest rates normally increase during periods of
      high
      inflation and decrease during periods of low inflation. (See “- Item 3.
      Quantitative and Qualitative Disclosures About Market Risk - Interest Rate
      Risk”).





**Impact
      of New Accounting Standards**





*Accounting
      Changes and Error Corrections* .
      In May
      2005, the FASB issued SFAS No. 154, which provides guidance on the accounting
      for and reporting of accounting changes and error corrections. SFAS No. 154
      establishes, unless impracticable, retrospective application as the required
      method for reporting a change in accounting principle in the absence of explicit
      transition requirements specific to the newly adopted accounting principle.
      It
      also provides guidance for determining whether retrospective application of
      a
      change in accounting principle is impracticable and for reporting a change
      when
      retrospective application is impracticable. The correction of an error in
      previously issued financial statements is not an accounting change. However,
      the
      reporting of an error correction involves adjustments to previously issued
      financial statements similar to those generally applicable to reporting an
      accounting change retrospectively. Therefore, the reporting of a correction
      of
      an error by restating previously issued financial statements is also addressed
      by SFAS No. 154. SFAS
      No.
      154 is effective for accounting changes and corrections of errors made in fiscal
      years beginning after December 15, 2005. Early adoption is permitted for
      accounting changes and corrections of errors made in fiscal years beginning
      after the date SFAS No. 154 was issued. SFAS No. 154 does not change the
      transition provisions of any existing accounting pronouncements, including
      those
      that are in a transition phase as of the effective date of SFAS No.
      154.





*Share-Based
      Payment.* In
      December 2004, the FASB published SFAS No. 123(R). ** SFAS No.
      123(R) replaces SFAS No. 123, and supersedes APB Opinion No. 25. ** SFAS
      No.
      123(R) also amends SFAS No. 95 to require that excess tax benefits be reported
      as a financing cash inflow rather than as a reduction of taxes
      paid.





SFAS
      No.
      123(R) is intended to provide investors and other users of financial statements
      with more complete and neutral financial information by requiring that the
      compensation cost relating to share-based payment transactions be recognized
      in
      financial statements. The cost will be measured based on the fair value of
      the
      equity or liability instruments issued. We will be required to apply SFAS No.
      123(R), as amended by the SEC on April 14, 2005, as of the annual reporting
      period that begins after June 15, 2005 (or January 1, 2006). SFAS No. 123(R)
      applies to all awards granted after the required effective date and will not
      be
      applied to awards granted in periods before the required effective date except
      to the extent that prior periods’ awards are modified, repurchased or cancelled
      after the required effective date. The cumulative effect of initially applying
      SFAS No. 123(R), if any, will be recognized as of the required effective date.
      We are currently evaluating pricing models and the transition provisions of
      this
      standard and will begin expensing stock options in the first quarter of
      2006.





SFAS
      No.
      123(R) provides two alternatives for adoption: (1) a "modified prospective"
      method in which compensation cost is recognized for all awards granted after
      the
      effective date of SFAS No. 123(R) as well as for the unvested portion of awards
      outstanding as of the effective date; or (2) a "modified retrospective" method
      which follows the approach in the "modified prospective" method, but also
      permits the restatement of prior periods to record compensation costs calculated
      under SFAS No. 123 for the pro forma disclosure. We plan to adopt SFAS No.
      123(R) using the modified retrospective method. Since we currently account
      for
      stock options granted to employees in accordance with the intrinsic value method
      permitted under APB Opinion No. 25, no compensation expense is recognized.
      The
      impact of adopting SFAS No. 123(R) cannot be accurately estimated at this time,
      as it will depend on the market value and the amount of share based awards
      granted in future periods. However, had we adopted SFAS No. 123(R) in a prior
      period, the impact would approximate the impact as described in the disclosure
      of pro forma net income and earnings per share under SFAS No. 123 in Note 5
      to
      our consolidated financial statements “- Stock-Based Compensation.” SFAS No.
      123(R) also requires that tax benefits received in excess of compensation cost
      be reclassified from operating cash flows to financing cash flows in the
      consolidated statement of cash flows. This change in classification will reduce
      net operating cash flows and increase net financing cash flows in the periods
      after adoption.





**51**


**Forward-Looking
      Statements and Risk Factors**





Certain
      matters discussed in this Quarterly report on Form 10-Q are “forward-looking
      statements” as defined in the Private Securities Litigation Reform Act of 1995
      (“PSLRA”), which involve risk and uncertainties that exist in our operations and
      business environment and are subject to change on a variety of important
      factors. A forward-looking statement may contain words such as “anticipate
      that,”“believes,”“continue to,”“estimates,”“expects
      to,”“hopes,”“intends,”“plans,”“to be,”“will be,”“will continue to be,” or
      similar words. These statements include, but are not limited to, the anticipated
      impact to our financial statements of our change to our accounting for
      securitizations, our future profitability, our future cash flows and liquidity
      requirements, the impact of changes in interest rates, our plans to securitize
      the loans we originate, our future hedging strategy, and our ability to realize
      benefits from our deferred tax asset. Such statements are subject to the “safe
      harbor” provisions of the PSLRA. We caution readers that numerous important
      factors discussed below, among others, could cause our actual results to differ
      materially from those expressed in any forward-looking statements made in this
      report. The following include some, but not all, of the factors or uncertainties
      that could cause our actual results to differ from our projections:





·
            Our
                ability or inability to earn a sufficient spread between our cost
                of funds
                and our average mortgage rates to generate sufficient revenues and
                cash
                flows to offset our current cost structure and cash
                uses;





·
            Our
                ability or inability to originate a sufficient amount of mortgage
                loans,
                and subsequent sale or securitization of such loans, to offset our
                current
                cost structure and cash uses;





·
            Our
                ability or inability to continue our practice of securitizing mortgage
                loans, as well as our ability to utilize optimal securitization structures
                (including the sale of MSRs, at the time of securitization) at terms
                favorable to us to generate sufficient cash proceeds to offset our
                current
                cost structure;





·
            Our
                ability or inability to manage interest rate risk. Our primary interest
                rate exposure relates to our mortgage loans and variable-rate debt,
                as
                well as the interest rate swaps and caps that we use for risk management
                purposes. Changes in interest rates may affect our net interest income,
                which is the difference between the interest income we earn on our
                interest-earning assets and the interest expense we incur on our
                interest-bearing liabilities. Changes in the level of interest rates
                also
                can affect our ability to originate or acquire mortgage loans, the
                value
                of our assets and our ability to realize gains from the sale of such
                assets. In a period of rising short-term interest rates, our interest
                expense could increase while the interest we earn on our interest-earning
                assets would not change as rapidly.We
                generally finance loans prior to securitization or whole-loan sale
                through
                warehouse financing. The net income we receive on these mortgage
                loans is
                the difference between the interest income we receive from the borrower
                on
                the mortgage loan, less the sub-servicing fee and interest expense
                we pay.
                The warehouse financing is based upon one-month LIBOR. An increase
                in
                one-month LIBOR, without a corresponding increase in the rates at
                which we
                lend would reduce our net income;





·
            The
                impact of changes in our accounting policies, including our change
                to
                on-balance sheet treatment of our
                securitizations;





·
            Our
                ability or inability to continue to employ on-balance sheet
                securitizations to generate cash flows and earnings from net interest
                spread income;





·
            Our
                ability or inability to continue to access lines of credit at favorable
                terms and conditions, including without limitation, warehouse and
                other
                credit facilities used to finance newly originated mortgage loans
                held for
                investment - pre-securitization and our ability or inability to comply
                with covenants contained in these lines of
                credit;





**52**


·
            The
                effects of interest rate fluctuations and our ability or inability
                to
                hedge effectively against these fluctuations in interest rates, the
                effect
                of changes in monetary and fiscal policies, social and economic
                conditions, unforeseen inflationary pressures and monetary
                fluctuation;





·
            Any
                significant change in the credit quality of our loan portfolio would
                have
                a significant effect on our financial position and results of
                operations.





·
            Increased
                competition within our markets, particularly in the wholesale loan
                channel, where an increasing number of lenders are competing for
                business
                from independent mortgage brokers;





·
            The
                potential effect that possible conflicts with other sovereign nations,
                including the conflict in Iraq, or terrorist acts and/or threats,
                may have
                on the U.S. economy and capital markets, and in particular the
                asset-backed market;





·
            Our
                loan products may require payment adjustments during the term of
                the
                mortgage loan that may result in increased payment defaults by borrowers
                and higher losses to us. Some of our loan products require payment
                adjustments during the term of the mortgage loan. This can result
                in
                payment defaults by borrowers who are unprepared or unable to meet
                higher
                payment requirements. In addition, some of our loan products do not
                amortize evenly and generally enable the borrower to either pay only
                interest for several years before the loan begins amortizing or pay
                a
                reduced principal and interest payment for the first 10 years. These
                loan
                products, in addition to possibly having increased payment defaults,
                also
                may result in higher losses to us due to higher principal balances
                outstanding at the time of a borrower default than would be the case
                for a
                loan that amortizes evenly throughout its
                term;





·
            Our
                ability to securitize or sell certain of the mortgage loans we originate
                depends upon the acceptance of those products by various parties
                in the
                market, including, among others, underwriters or purchasers of our
                asset-backed securities, ratings agencies, bond insurers and/or whole
                loan
                purchasers. Any one of these or other parties can determine that
                certain
                of the loan products that we originate (now or in the future) are
                undesirable or problematic, which can make it more difficult to securitize
                these loans or sell them at par in the future. Our inability to securitize
                or sell certain types of loan products in the future may cause us
                to
                retain such loans in our portfolio, which may have an adverse impact
                on
                our cash position or generate losses, or sell them at a significant
                discount, which may generate
                losses;





·
            The
                effect that the adoption of new, or amendments to, federal, state
                or local
                lending laws and regulations and the application of these laws and
                regulations may have on our ability to originate loans within a particular
                area, or to ultimately sell those loans through securitization or
                on a
                whole-loan basis. In some instances, we may choose or be forced to
                severely limit, or even cease, our lending activities in a particular
                area. Many states and local municipalities have adopted and/or are
                considering adopting laws that are intended to further regulate our
                industry. Many of these laws and regulations seek to impose broad
                restrictions on certain commonly accepted lending practices, including
                some of our practices. In addition, federal, state and local laws
                could
                impact overcollateralization requirements set by the rating agencies,
                which could decrease the cash proceeds we may receive from our
                securitizations;





·
            Changes
                in the deductibility of mortgage interest and real estate taxes could
                decrease our loan production and harm our business.Members
                of Congress and government officials have from time to time suggested
                the
                elimination of deductions for mortgage interest and real estate taxes
                for
                federal income tax purposes, either entirely or in part. The competitive
                advantages of tax deductible interest and real estate taxes, when
                compared
                to alternative sources of financing, could be eliminated or seriously
                impaired by this change. Accordingly, the reduction or elimination
                of
                these tax benefits could reduce the demand for our mortgage
                loans;





·
            Costs
                associated with litigation and rapid or unforeseen escalation of
                the cost
                of regulatory compliance, generally including but not limited to,
                the
                adoption of new, or changes in, federal, state or local lending laws
                and
                regulations and the application of such laws and regulations, licenses,
                environmental compliance, the adoption of new, or changes in, accounting
                policies and practices and the application of such policies and practices.
                Failure to comply with various federal, state and local regulations,
                accounting policies and/or environmental compliance can lead to the
                loss
                of approved status, rights of rescission for mortgage loans, class
                action
                lawsuits, demands for indemnification or loan repurchases by purchasers
                of
                our loans and administrative enforcement action again
                us;





**53**


·
            Potentially
                unfavorable outcomes related to pending legal matters, including
                those matters described below;





·
            Our
                ability or inability to find alternative methods of generating retail
                leads and originating retail loans in light of the Federal Trade
                Commission (“FTC”) “do not call” registries, which were implemented in
                2003 and may limit our ability to utilize telemarketing to generate
                retail
                leads and originate retail loans. Our marketing operations are or
                may
                become subject to various federal and state “do not call” list
                requirements. Under the FTC’s regulations, consumers may have their phone
                numbers added to the national “do not call” registry. Generally, we are
                prohibited from cold calling anyone on that registry. These regulations
                may restrict our ability to market effectively our products and services
                to new customers. Furthermore, compliance with these regulations
                may prove
                costly and difficult, and we may incur penalties for improperly conducting
                our marketing activities;





·
            The
                risk that we will be subject to claims under environmental
                laws;





·
            Natural
                  disasters may adversely affect the performance of mortgage loans
                  in a
                  variety ways, including but not limited to, impacting borrower's
                  abilities
                  to repay their loans, displacement of the homeowners due to severe
                  damage
                  to the property, and decreases in the value of the mortgaged property,
                  which may result in increased losses to us. Additionally, claims
                  for
                  insurance recoveries may be disputed if insured parties and their
                  insurers
                  disagree in their assessments or type of insurable damage, therefore
                  the
                  timing and receipt of insurance payments for damages maybe delayed
                  or made
                  at amounts lower than expected, if at all. We may not be able to
                  readily
                  determine the particular nature of such economic effects, how long
                  any of
                  these effects may last, the impact on the performance of mortgage
                  loans
                  affected by the natural
                  disaster;





·
            The
                risk that any material decline in real estate values would weaken
                our
                collateral loan-to-value ratios and increase the possibility of loss
                if a
                borrower defaults. In such event, we would be subject to the risk
                of loss
                on such mortgage asset arising from borrower defaults to the extent
                not
                covered by a third-party credit
                enhancement;





·
            The
                risk that using Insured AVMs in lieu of appraisals could increase
                our
                losses. An AVM may be considered a less accurate measure to value
                a
                property than a full appraisal with an interior inspection performed
                by a
                licensed appraiser. If the values received from the AVM are higher
                than
                the actual property values, we may incur higher losses. While we
                obtain an
                insurance policy on the AVM value at the time of origination, there
                can be
                no assurance that we will recover claims from this policy in the
                event of
                a loss;





·
            Our
                ability or inability to detect misrepresentations, fraudulent information
                or negligent acts on the part of loan applicants, mortgage brokers,
                other
                vendors or our employees in our loan originations prior to funding
                and the
                effect it may have on our business, including potentially harming
                our
                reputation or resulting in poorer performing loans. A loan obtained
                as a
                result of a material misrepresentation is typically unsaleable or
                subject
                to repurchase if it is sold prior to detection of the
                misrepresentation;





·
            The
                risks of defaults on the loans that we make to non-prime credit borrowers,
                and that our underwriting and loan quality monitoring systems will
                not be
                sufficient to minimize the impact from these
                defaults;





·
            The
                risk that demand for cash-out refinancing may decrease as interest
                rates
                rise and the prices of homes decline, which would reduce our origination
                volumes for this type of
                refinancing;





·
            The
                risk that we may need to repurchase loans securitized or sold on
                a
                whole-loan basis if we breach the representations and warranties
                that we
                make in connection with the sales;





·
            Our
                ability or inability to continue monetizing our existing excess cashflow
                certificates, including without limitation, selling, financing or
                securitizing such assets;





·
            The
                accuracy of our estimates of the value of our excess cashflow
                certificates;





**54**


·
            Periods
                of general economic slowdown or recession may be accompanied by decreased
                demand for consumer credit and declining real estate values. Because
                of
                our focus on credit-impaired borrowers, the actual rate of delinquencies,
                foreclosures and losses on loans affected by the borrowers’ reduced
                ability to use home equity to support borrowings could be higher
                than
                those generally experienced in the mortgage lending industry. We
                are
                particularly subject to economic conditions in the northeastern U.S.,
                where approximately 45.6% of our loans were originated during the
                nine
                months ended September 30, 2005. Any sustained period of increased
                delinquencies, foreclosure, losses or increased costs could adversely
                affect our ability to securitize or sell loans in the secondary
                market;





·
            The
                effect that poor servicing or collections by third-party servicers
                that
                service the loans we originate, and/or regulatory actions and class
                action
                lawsuits against these servicers, could have on the value of our
                excess
                cashflow certificates, the net interest spread we earn, and/or our
                ability
                to sell or securitize loans in the
                future;





·
            A
                decline in the quality of servicing and/or a degradation in the financial
                condition of the entity servicing our mortgage loans could lower
                the value
                of our excess cashflow certificates and our securitized loan portfolio,
                as
                well as our ability to sell or securitize loans. In May 2001, we
                transferred our servicing portfolio to Ocwen Financial Corporation
                (“Ocwen”), which is currently a non-investment grade company. Poor
                servicing by Ocwen or any other third-party servicer who services
                the
                loans we originate could harm the value of securitized mortgage loans
                (and
                our excess cashflow certificates in pre-2004 securitizations) and
                our
                ability to sell or securitize loans. Additionally, regulatory actions
                and
                class action lawsuits against these servicers could harm the value
                of our
                securitized loans (and our excess cash flow certificates in pre-2004
                securitizations) and our ability to sell or securitize loans. Ocwen
                and
                several of its affiliates have been named as defendants in a number
                of
                purported class action lawsuits that challenge its servicing practices
                under applicable federal and state laws. In addition, according to
                its
                public filings, Ocwen and its affiliates maintain high levels of
                indebtedness. Ocwen is a non-investment grade company and has recently
                terminated its status as a federal savings bank under supervision
                of the
                Office of Thrift Supervision ("OTS") and Federal Deposit Insurance
                Corporation and has obtained, or is in the process of obtaining,
                necessary
                licensing at the state and territorial level. If Ocwen's operations
                are
                impaired as a result of litigation, governmental investigations,
                its
                inability to repay its indebtedness when due, or further degradation
                of
                its capitalization or credit rating, our profitability and operations
                may
                be harmed.





·
            The
                failure of a counterparty to complete an agreed-upon transaction
                or
                perform an agreed-upon service may subject us to potential
                losses;





·
            The
                effect that an interruption in, or breach of, our information systems
                could have on our business;





·
            Our
                ability or inability to adapt to and implement technological changes
                to
                become and/or remain competitive and/or
                efficient;





·
            The
                possibility of failure of our operating facilities, computer systems,
                and
                communication systems during a catastrophic
                event;





·
            Unpredictable
                delays or difficulties in the development of new product
                programs;





·
            Changes
                in regulations issued by the OTS have limited our ability to charge
                prepayment penalties on some of the mortgage loans we originate.
                These
                changes do not affect our competitors that are federally regulated
                institutions, which could have an adverse impact on ability to compete
                in
                certain states. In addition, the absence of prepayment penalties
                on some
                of our loans could also adversely impact our securitizations and
                related
                profitability;





·
            The
                unanticipated expenses of assimilating newly acquired business, if
                any,
                into our structure, as well as the impact of unusual expenses from
                ongoing
                evaluations of business strategies, asset valuations, acquisitions,
                divestitures and organizational
                structures;





**55**


·
            Our
                inability to comply with REIT qualification tests for our REIT subsidiary
                on a continuous basis would subject our securitization trusts issued
                by
                our REIT subsidiary to federal income tax as a corporation and not
                allow
                it to be filed as part of consolidated income tax return with any
                other
                corporation. The REIT rules require compliance with asset, income,
                distribution and ownership tests. The ownership test prohibits five
                or
                fewer stockholders from owning more than 50% of our common stock.
                As of
                September 30, 2005, members of the Miller family (considered one
                stockholder under the ownership test) own approximately 38% of the
                common
                stock (including employee stock options as calculated under the Code
                and
                related rules and regulations). There can be no assurance that we
                will be
                able to comply with these tests or remain compliant. In such event,
                a tax
                imposed upon our securitization trusts would reduce cash flow that
                would
                otherwise be available to make payments on the offered asset-backed
                securities and reduce the amount that we would receive from the
                securitization trusts. In such event, this would significantly affect
                our
                access to the securitization markets and warehouse and other credit
                facilities, and reduce our
                profitability;





·
            Our
                executive officers (specifically, members of the Miller family)
                collectively own a large percentage of our common shares and could
                influence or control matters requiring shareholder approval. As a
                result,
                these shareholders could influence or control virtually all matters
                requiring shareholder approval, including amendment of our articles
                of
                incorporation, the approval of mergers or similar transactions and
                the
                election of directors;





·
            Compliance
                with the Sarbanes-Oxley Act of 2002 and proposed and recently enacted
                changes in securities laws and regulations are likely to increase
                our
                operating costs; and





·
            Future
                sales of shares of our common stock, including shares of common stock
                held
                by our insiders, may negatively impact the price of our common stock.
                The
                market price of our common stock may decline if a substantial number
                of
                shares of our common stock is sold, or the perception that those
                sales
                might occur. We are unable to predict whether significant numbers
                of
                shares will be sold in the open market in anticipation of or following
                a
                sale by insiders.











**56**





**Item
      3. Quantitative and Qualitative Disclosures About Market
      Risk.**





We
      originate mortgage loans and then securitize the mortgage loans or sell them
      through whole loan sales. As a result, our primary market risk is interest
      rate
      risk. In turn, interest rates are highly sensitive to many factors,
      including:





·
            governmental
                monetary and tax policies;





·
            domestic
                and international economic and political considerations;
                and





·
            other
                factors that are also beyond our
                control.





Changes
      in the general interest rate levels between the time we originate mortgage
      loans
      and the time we securitize or sell the mortgage loans can affect their value
      and, consequently, our net interest income revenue by affecting the “excess
      spread” between the interest rate on the mortgage loans and the interest paid on
      the asset-backed securities issued by the securitization trusts. If interest
      rates rise between the time we originate the loans and the time we securitize
      or
      sell the loans, the excess spread generally narrows, resulting in a loss in
      value of the loans and lower net interest income for us on mortgage loans we
      securitize and a lower net gain on sale for us on whole loan sales. Since we
      close and fund mortgage loans at a specified interest rate with an expected
      spread to be earned over their life in the case of securitizations and an
      expected gain on sale to be booked at the time of their sale, our exposure
      to
      decreases in the fair value of the mortgage loans arises when moving from a
      lower to a higher interest rate environment. A higher interest rate environment
      results in our having a higher cost of funds. This decreases both the fair
      value
      of the mortgage loans and the net spread we earn between the mortgage interest
      rate on each mortgage loan and our cost of funds under available warehouse
      lines
      of credit used to finance the loans prior to their securitization or sale.
      As a
      result, we may experience lower spreads on securitized loans and a lower gain
      on
      whole-loan sales.





The
      following table demonstrates the sensitivity, at September 30, 2005, of the
      estimated fair value of our excess cashflow certificates caused by an immediate
      10% and 20%, respectively, adverse change in the key assumptions we use to
      estimate fair value:





*(Dollars
                in thousands)*
            
            **Fair
                Value of**
              **Excess
                Cashflow**
              **Certificates**
            
            **Decrease
                (Increase)**
              **To
                Earnings**
              **(Pre-tax
                basis)**Fair
                value as of September 30, 2005
            
            $
            11,47710%
                increase in prepayment speed
            
            
            11,897
            
            $
            (420
            )20%
                increase in prepayment speed
            
            
            12,300
            
            
            (823
            )10%
                increase in credit losses
            
            
            10,097
            
            
            1,38020%
                increase in credit losses
            
            
            9,314
            
            
            2,16310%
                increase in discount rates
            
            
            11,320
            
            
            15720%
                increase in discount rates
            
            
            11,258
            
            
            21910%
                increase in one and six-month LIBOR
            
            
            10,167
            
            
            1,31020%
                increase in one and six-month LIBOR
            
            
            9,611
            
            
            1,866





The
      sensitivities are hypothetical and are presented for illustrative purposes
      only.
      Changes in the fair value resulting from a change in assumptions generally
      cannot be extrapolated because the relationship of the change in assumption
      to
      the resulting change in fair value may not be linear. Each change in assumptions
      presented above was calculated independently, without changing any other
      assumption. However, in reality, changes in one assumption may result in changes
      in another assumption, which may magnify or counteract the sensitivities. For
      example, a change in market interest rates may simultaneously impact prepayment
      speeds, credit losses and the discount rate. It is impossible to predict how
      one
      change in a particular assumption may impact other assumptions.





**57**


To
      reduce
      our financial exposure to changes in interest rates, we may hedge our mortgage
      loans held for investment through hedging products that are correlated to the
      asset-backed securities issued in connection with the securitization of our
      mortgage loans ( *e.g* .,
      interest rate swaps). (See “- Item 2. - Management’s Discussion and Analysis of
      Financial Condition and Results of Operations - Summary of Critical Accounting
      Policies - Accounting for Hedging Activities”). Changes in interest rates also
      could adversely affect our ability to originate loans and/or could affect the
      level of loan prepayments, impacting the amount of mortgage loans held for
      investment and/or the size of the loan portfolio underlying our excess cashflow
      certificates and, consequently, the value of our excess cashflow certificates.
      (See “- Interest Rate Risk/Market Risk” and “- Item 2. - Management’s Discussion
      and Analysis of Financial Condition and Results of Operations - Forward Looking
      Statements and Risk Factors”).





**Interest
      Rate/Market Risk**





Our
      general investment policy is to maintain the net interest margin between assets
      and liabilities.





***Loan
      Price Volatility*** *.* Under
      our current mode of operation, we depend heavily on the market for wholesale
      non-conforming mortgage loans. To conserve capital, we may sell loans we
      originate. Our financial results will depend, in part, on our ability to find
      purchasers for our loans at prices that cover origination expenses. Exposure
      to
      loan price volatility is reduced as we acquire and retain mortgage
      loans.





***Interest
      Rate Risk*** *.* Interest
      rates affect our ability to earn a spread between interest received on our
      loans
      and the cost of our borrowings, including the cost of corridors, if any, that
      are tied to various interest rate swap maturities, LIBOR, and other interest
      rate spread products, such as mortgage, auto and credit card backed receivable
      securities. Our profitability is likely to be negatively impacted during any
      period of unexpected or rapid changes in interest rates. A substantial and
      sustained increase in interest rates could impact our ability to originate
      loans. A significant decline in interest rates could increase the level of
      loan
      prepayments, which would decrease the size of the loan servicing portfolio
      underlying our securitizations. To the extent excess cashflow certificates
      have
      been capitalized on our financial statements, higher than anticipated rates
      of
      loan prepayments or losses could require us to write down the value of these
      excess cashflow certificates, which adversely impact our earnings. In an effort
      to mitigate the effect of interest rate risk, we periodically review our various
      mortgage products and identify and modify those that have proven historically
      more susceptible to prepayments. However, there can be no assurance that these
      modifications to our product line will mitigate effectively any interest rate
      risk in the future.





Periods
      of unexpected or rapid changes in interest rates, and/or other volatility or
      uncertainty regarding interest rates, also can harm us by increasing the
      likelihood that asset-backed investors will demand higher spreads than normal
      to
      offset the volatility and/or uncertainty, which decreases the value of the
      excess cashflow certificates we receive in connection with a
      securitization.





Fluctuating
      interest rates also may affect the net interest income we earn, resulting from
      the difference between the yield we receive on the loans held pending sale
      and
      the interest paid by us for funds borrowed under our warehouse facilities.
      In
      the past, from time to time, we have undertaken certain measures to hedge our
      exposure to this risk by using various hedging strategies, including Fannie
      Mae
      mortgage securities, treasury rate lock contracts and/or interest rate swaps.
      (See “- Item 2. - Management’s Discussion and Analysis of Financial Condition
      and Results of Operations - Summary of Critical Accounting Policies - Accounting
      for Hedging Activities”). Fluctuating interest rates also may significantly
      affect the excess cash flows from our excess cashflow certificates, as the
      interest rate on some of our asset-backed securities change monthly based on
      one-month LIBOR, but the collateral that backs such securities are comprised
      of
      mortgage loans with either fixed interest rates or “hybrid” interest rates
      (fixed for the initial two or three years of the mortgage loan, and adjusting
      thereafter every six month) which creates basis risk. (See “- Item 2.. -
      Management’s Discussion and Analysis of Financial Condition and Results of
      Operations - Summary of Critical Accounting Policies - Excess Cashflow
      Certificates”). With our transition to on-balance sheet portfolio
      securitizations in 2004, we may undertake to hedge our exposure to interest
      rate
      risk as described above in “- Item 2. - Management’s Discussion and Analysis of
      Financial Condition and Results of Operations - Summary of Critical Accounting
      Policies - Accounting for Hedging Activities.”





**58**





When
      interest rates on our assets do not adjust at the same rates as our liabilities
      or when the assets have fixed-rates and the liabilities are adjusting, our
      future earnings potential is affected. We express this interest rate risk as
      the
      risk that the market value of assets will increase or decrease at different
      rates than that of the liabilities. Expressed another way, this is the risk
      that
      net asset value will experience an adverse change when interest rates change.
      We
      assess the risk based on the change in market values given increases and
      decreases in interest rates. We also assess the risk based on the impact to
      net
      income in changing interest rate environments.





Management
      primarily uses financing sources where the interest rate resets frequently.
      As
      of September 30, 2005, borrowings under all of our financing arrangements adjust
      daily or monthly. On the other hand, very few of the mortgage assets we own
      adjust on a monthly or daily basis. Most of the mortgage loans are fixed-rate;
      the remainder contains features where their rates are fixed for some period
      of
      time and then adjust frequently thereafter. For example, one of our loan
      products is the “2/28” loan. This 30-year loan is fixed for its first two years
      and then adjusts every six months thereafter.





While
      short-term borrowing rates are low and long-term asset rates are high, this
      portfolio structure enhances our net interest income during the relevant period.
      However, if short-term interest rates rise rapidly, the earnings potential
      is
      significantly affected, as the asset rate resets would lag behind the borrowing
      rate resets.





***Interest
      Rate Sensitivity Analysis.*** To
      assess interest sensitivity as an indication of exposure to interest rate risk,
      management relies on models of financial information in a variety of interest
      rate scenarios. Using these models, the fair value and interest rate sensitivity
      of each financial instrument, or groups of similar instruments, is estimated
      and
      then aggregated to form a comprehensive picture of the risk characteristics
      of
      the balance sheet.





We
      measure the sensitivity of our net interest income to changes in interest rates
      affecting interest sensitive assets and liabilities using various interest
      rate
      simulations. These simulations take into consideration changes that may occur
      in
      the forward LIBOR curve and changes in mortgage prepayment speeds.





As
      part
      of various interest rate simulations, we calculate the effect of potential
      changes in interest rates on our interest-earning assets and interest-bearing
      liabilities and their affect on overall earnings. The simulations assume
      instantaneous and parallel shifts in interest rates and to what degree those
      shifts affect net interest income. First, we project our net interest income
      for
      the next 12 months and 36 months using current period end data along with a
      forward LIBOR curve and the prepayment speed assumptions we used to estimate
      the
      fair value of our excess cashflow certificates.





We
      refer
      to the one-year and the three-year projections of net interest income as the
      “base case.” Once the base case has been established, we “shock” the base case
      with instantaneous and parallel shifts in interest rates in 100 basis point
      increments upward and downward. Calculations are made for each of the defined
      instantaneous and parallel shifts in interest rates over or under the forward
      LIBOR curve used to determine the base and including any associated changes
      in
      projected mortgage prepayment speeds. The following sensitivity tables present
      the results of each 100 basis point change in interest rates compared against
      the base case to determine the estimated dollar and percentage change to net
      interest income at September 30, 2005:





*(Dollars
                in thousands)*
            
            **Base
                Case**
            
            **Up
                100 Basis Points**
            
            **Up
                200 Basis Points**
            
            **Down
                100 Basis Points**
            
            **Down
                200 Basis Points*****One
                Year Projection:***Net
                interest income(1)(2)
            
            $
            105,137
            
            $
            103,964
            
            $
            103,911
            
            $
            107,506
            
            $
            114,475Percentage
                change from base
            
            
            
            
            
            (1.12
            )%
            
            (1.17
            )%
            
            2.25
            %
            
            8.88
            %***Three
                Year Projection:***Net
                interest income(1)(2)
            
            $
            186,839
            
            $
            181,262
            
            $
            178,501
            
            $
            193,304
            
            $
            204,612Percentage
                change from base
            
            
            
            
            
            (2.99
            )%
            
            (4.46
            )%
            
            3.46
            %
            
            9.51
            %





*(1)*  *Net
      interest income from assets (income from mortgage loans held for sale, mortgage
      loans held for investment and interest rate caps) less expense from liabilities
      (financing on mortgage loans held for investment and warehouse interest expense)
      in a parallel shift in the yield curve, up and down 1% and 2%.*





*(2)*  *Assumes
      warehouse interest expense through December 31, 2005.*





**59**


Because
      the assumptions used in the sensitivity tables are inherently uncertain, we
      cannot precisely predict the effect of higher or lower interest rates on net
      interest income. Actual results will differ from simulated results due to the
      timing, magnitude and frequency of interest rate changes, the difference between
      actual experience and the assumed volume and characteristics of new business
      and
      behavior of existing positions, and changes in market conditions and management
      strategies, among other factors.





***Hedging*** *.* From an
      interest rate risk management perspective, we use interest rate swaps and
      corridors in an effort to offset the potential adverse effects of our exposure
      during a period of rising rates. In this way, management intends generally
      to
      hedge as much of the interest rate risk as determined to be in our best
      interest, given the cost of hedging transactions.





We
      seek
      to build a balance sheet and undertake an interest risk management program
      that
      is likely, in management’s view, to enable us to maintain an equity liquidation
      value sufficient to maintain operations given a variety of potentially adverse
      circumstances. Accordingly, the hedging program addresses income preservation,
      as discussed in the first part of this section.





Corridors
      are legal contracts between us and a third party firm or “counterparty.” The
      counterparty agrees to make payments to us in the future (net of the
      in-the-money interest rate cap sold as part of the corridor) should the one-
      or
      three-month LIBOR interest rate rise above the strike rate specified in the
      contract. We have paid the premiums to the counterparties at the beginning
      of
      each contract. Each contract has both a fixed or amortizing notional face amount
      on which the interest is computed, and a set term to maturity. When the
      referenced LIBOR interest rate rises above the contractual strike rate, we
      earn
      corridor income (net of the in-the-money interest rate cap sold as part of
      the
      corridor). Payments on an annualized basis equal the difference between actual
      LIBOR and the strike rate. Interest rate swaps have similar characteristics.
      However, interest rate swap agreements allow us to pay a fixed-rate of interest
      while receiving a rate that adjusts with one-month LIBOR.





**Maturity
      and Repricing Information**





The
      following table summarizes the notional amount, expected maturities and weighted
      average strike rates for corridors that we held as of September 30,
      2005:





*(Dollars
                in thousands,**except
                strike price)*
            
            **Total**
            
            **One
                Year**
            
            **Two
                Years**
            
            **Three
                Years**
            
            **Four
                Years**
            
            **Five
                Years & Thereafter**Caps
                bought - notional
            
            $
            2,739,248
            
            $
            1,806,827
            
            $
            592,935
            
            $
            179,834
            
            $
            39,803
            
            $
            119,849Weighted
                average strikeprice
            
            $
            5.38
            
            $
            4.65
            
            $
            6.32
            
            $
            7.74
            
            $
            7.46
            
            $
            7.44Caps
                sold - notional
            
            $
            2,739,248
            
            $
            1,806,827
            
            $
            592,935
            
            $
            179,834
            
            $
            39,803
            
            $
            119,849Weighted
                average strikeprice
            
            $
            8.22
            
            $
            7.81
            
            $
            8.81
            
            $
            9.42
            
            $
            9.27
            
            $
            9.29





**Item
      4. Controls and Procedures.**





Prior
      to
      the filing of this report, management, including the Chief Executive Officer
      and
      Chief Financial Officer, evaluated the effectiveness and operation of our
      disclosure controls and procedures. Our Chief Executive Officer and Chief
      Financial Officer concluded that, as of September 30, 2005, these disclosure
      controls and procedures were effective to ensure that information required
      to be
      disclosed in the reports we file and submit under the Securities Exchange Act
      of
      1934 is recorded, processed, summarized and reported as and when required.
      Our
      Chief Executive Officer and Chief Financial Officer have concluded that our
      disclosure controls and procedures are also effective to ensure that the
      information required to be disclosed in the reports that we file or submit
      under
      the Exchange Act is accumulated and communicated to management, including our
      Chief Executive Officer and Chief Financial Officer, as appropriate to allow
      timely decisions regarding required disclosure. There have not been any changes
      in our internal controls over financial reporting that occurred during the
      nine
      months ended September 30, 2005 that materially affected, or are reasonably
      likely to materially affect, our internal controls over financial reporting.
      There were no significant deficiencies or material weaknesses identified during
      the course of this evaluation.





**60**


**Part
      II - OTHER INFORMATION**





**Item
      1. Legal Proceedings.**





Because
      the nature of our business involves the collection of numerous accounts, the
      validity of liens and compliance with various state and federal lending laws,
      we
      are subject, in the normal course of business, to numerous claims and legal
      proceedings, including class actions. The current status of the pending class
      actions and other material litigation is summarized below:





·
            In
                or about November 1998, we received notice that we had been named
                in a
                lawsuit filed in the United States District Court for the Eastern
                District
                of New York. In December 1998, the plaintiffs filed an amended complaint
                alleging that we had violated theHome
                Ownership and Equity Protection Act of 1994,
                theTruth-in-Lending
                Act,
                and Section 349 of the New York State General Business Law, which
                relates
                to consumer protection for deceptive practices. The complaint sought:
                (a)
                certification of a class of plaintiffs, (b) declaratory judgment
                permitting rescission, (c) unspecified actual, statutory, treble
                and
                punitive damages, including attorneys’ fees, (d) injunctive relief and (e)
                declaratory judgment declaring the loan transactions as void and
                unconscionable. On December 7, 1998, plaintiff filed a motion seeking
                a
                temporary restraining order and preliminary injunction, enjoining
                us from
                conducting foreclosure sales on 11 properties. The District Court
                Judge
                ruled that in order to consider the motion, plaintiff must move to
                intervene on behalf of these 11 borrowers. Thereafter, plaintiff
                moved to
                intervene on behalf of three of these 11 borrowers and sought injunctive
                relief on their behalf. We opposed the motions. On December 14, 1998,
                the
                District Court Judge granted the motion to intervene and on December
                23,
                1998, the District Court Judge issued a preliminary injunction that
                enjoined us from proceeding with the foreclosure sales of the three
                interveners’ properties. We filed a motion for reconsideration of the
                December 23, 1998 order. In January 1999, we filed an answer to
                plaintiffs’ first amended complaint. In July 1999, the plaintiffs were
                granted leave, on consent, to file a second amended complaint. In
                August
                1999, the plaintiffs filed a second amended complaint that, among
                other
                things, added additional parties but contained the same causes of
                action
                alleged in the first amended complaint. In September 1999, we filed
                a
                motion to dismiss the complaint, which was opposed by plaintiffs
                and, in
                June 2000, was denied in part and granted in part by the District
                Court.
                In or about October 1999, plaintiffs filed a motion seeking an order
                preventing us, our attorneys and/or the New York State Banking Department
                (“NYSBD”) from issuing notices to a number of our borrowers, in accordance
                with the settlement agreement entered into by and between the NYSBD
                and
                us. In the fourth quarter of 1999, we and the NYSBD submitted opposition
                to the plaintiffs’ motion. In March 2000, the District Court issued an
                order that permitted us to issue an approved form of the notice.
                In
                September 1999, the plaintiffs filed a motion for class certification,
                which we opposed in February 2000, and which was ultimately withdrawn
                without prejudice by the plaintiffs in January 2001. In February
                2002, we
                executed a settlement agreement with the plaintiffs, under which
                we denied
                all wrongdoing, but agreed to resolve the litigation on a class-wide
                basis. The District Court preliminarily approved the settlement and
                a
                fairness hearing was held in May 2002. We submitted supplemental
                briefing
                at the Court’s request in or about April 2004. In August 2004, the
                District Court conditionally approved the settlement, subject to
                our
                submitting supplemental documentation regarding a change in the settlement
                agreement and proposed supplemental notices to be sent to those borrowers
                who either opted out or objected. We, plaintiffs and certain objectors
                submitted our respective supplemental submissions in August 2004
                and the
                District Court granted its final approval to the settlement in January
                2005. In February 2005, certain objectors filed a notice of appeal.
                The
                objectors filed their appellate brief in July 2005. We filed our
                appellate
                papers in opposition in September 2005, and the objectors filed their
                reply papers in September 2005. We believe the Appellate Court will
                uphold
                the settlement, but if it does not, we believe we have meritorious
                defenses and intend to vigorously defend this suit, but cannot estimate
                with any certainty our ultimate legal or financial liability, if
                any, with
                respect to the alleged claims.





**61**


·
            In
                or about March 1999, we received notice that we and certain of our
                officers and directors had been named in a lawsuit filed in the Supreme
                Court of the State of New York, New York County, alleging that we
                had
                improperly charged certain borrowers processing fees. The complaint
                sought: (a) certification of a class of plaintiffs, (b) an accounting
                and
                (c) unspecified compensatory and punitive damages, including attorneys’
                fees, based upon alleged (i) unjust enrichment, (ii) fraud and (iii)
                deceptive trade practices. In April 1999, we filed an answer to the
                complaint. In September 1999, we filed a motion to dismiss the complaint,
                which was opposed by the plaintiffs, and in February 2000, the Court
                denied the motion to dismiss. In April 1999, we filed a motion to
                change
                venue and the plaintiffs opposed the motion. In July 1999, the Court
                denied the motion. We appealed, and in March 2000, the Appellate
                Court
                granted our appeal to change venue from New York County to Nassau
                County.
                In August 1999, the plaintiffs filed a motion for class certification,
                which we opposed in July 2000. In or about September 2000, the Appellate
                Court granted the plaintiffs’ motion for class certification, from which
                we appealed. The Appellate Court denied our appeal in December 2001.
                In or
                about June 2001, we filed a motion for summary judgment to dismiss
                the
                complaint, which was denied by the Court in October 2001. We appealed
                that
                decision, but the Appellate Court denied our appeal in November 2002.
                We
                filed a motion to reargue in December 2002, which was denied by the
                Appellate Court in January 2003. Discovery is continuing in the lower
                Court. We believe that we have meritorious defenses and intend to
                vigorously defend this suit, but cannot estimate with any certainty
                our
                ultimate legal or financial liability, if any, with respect to the
                alleged
                claims.





·
            In
                July 2003, we commenced a lawsuit in the Supreme Court of the State
                of New
                York, Nassau County, against the Delta Funding Residual Exchange
                Company
                LLC (the “LLC”), Delta Funding Residual Management, Inc. (“DFRM”), and
                James E. Morrison, President of the LLC and DFRM, alleging that (1)
                the
                LLC breached its contractual duties by failing to pay approximately
                $142,000 due to us in June 2003, and (2) that Mr. Morrison and DFRM
                knowingly and intentionally caused the default, thereby breaching
                their
                respective fiduciary duties to the LLC. The complaint seeks: (a)
                payment
                of amounts past due under our agreement with the LLC, plus interest;
                (b)
                specific performance of the LLC’s obligations to us in the future; and (c)
                monetary damages for breach of fiduciary duty, in an amount to be
                determined by the Court. In September 2003, Mr. Morrison, the LLC
                and DFRM
                filed a motion to dismiss our complaint and the LLC and DFRM filed
                a
                countersuit in the Supreme Court of the State of New York, New York
                County, against several of our directors and officers and us seeking,
                among other things, damages of not less than $110 million. The countersuit
                alleges misrepresentation, negligence and/or fraud by defendants
                in that
                case relating to our August 2001 exchange offer. In October 2003,
                we filed
                our opposition to the motion to dismiss and cross-moved to consolidate
                the
                two actions in Nassau County. In November 2003, we answered the New
                York
                County action. In February 2004, the Nassau County Supreme Court
                denied
                Mr. Morrison’s motion to dismiss our causes of action seeking (a) payment
                of amounts due under our agreements with the LLC and (b) monetary
                damages
                for breach of fiduciary duty, and granted Mr. Morrison’s motion to dismiss
                our cause of action seeking specific performance to preclude future
                defaults by Morrison and the LLC. The Supreme Court also granted
                our
                motion to consolidate the cases in Nassau County. In April 2004,
                we filed
                a motion to dismiss Mr. Morrison’s countersuit, which the Supreme Court
                denied in September 2004. Discovery is proceeding. In or about October
                2004, the LLC commenced an action against KPMG LLP based upon similar
                allegations as asserted in this action. In September 2005, it was
                agreed
                that the action against KPMG LLP would be joined with this action.
                We
                believe we have meritorious claims in our lawsuit and meritorious
                defenses
                in the countersuit. We intend to vigorously prosecute our claims
                and
                vigorously defend ourselves against the countersuit. We cannot estimate
                with any certainty our ultimate legal or financial recovery and/or
                liability, if any, with respect to the alleged claims in the
                countersuit.





·
            In
                or about December 2003, we received a notice that we had been named
                in two
                lawsuits filed by the same plaintiff in the Circuit Court, Third
                Judicial
                Circuit in Madison County, Illinois. One alleged that we had improperly
                charged certain borrowers fax fees, and one alleged that we improperly
                retained extra per diem interest when loans were satisfied. The complaints
                seek: (a) certification of a class of plaintiffs, (b) direction to
                return
                fax fees charged to borrowers, and (c) unspecified compensatory and
                statutory damages, including prejudgment and post judgment interest
                and
                attorneys’ fees, based upon alleged: (1) breach of contract, (2) statutory
                fraud and (3) unjust enrichment. In February 2004, we filed a motion
                to
                dismiss the case pertaining to fax fees claims. The plaintiff was
                granted
                leave to file a motion to amend his complaint in the fax fee case,
                which
                rendered our February 2004 motion to dismiss moot. The plaintiff
                filed an
                amended complaint in July 2004 and we filed a new motion to dismiss
                in
                August 2004, which the court denied in January 2005, and we have
                since
                filed an answer in that case. In March 2004, we filed a motion to
                dismiss
                the case pertaining to per diem interest claims, which the court
                denied in
                September 2004. We have since filed an answer in that case and plaintiffs
                filed a motion to dismiss our affirmative defenses, which the Circuit
                Court granted, permitting us leave to replead the defenses with more
                particularity, which we have done. Discovery has commenced in both
                cases.
                In June 2005, we filed opposition papers to the plaintiff’s motion for
                class certification in the case pertaining to fax fee claims. We
                believe
                that we have meritorious defenses and intend to vigorously defend
                these
                suits, but cannot estimate with any certainty our ultimate legal
                or
                financial liability, if any, with respect to the alleged
                claims.





**62**


·
            In
                our about November 2004, we received notice that we have been named
                in a
                lawsuit styled as a collective action filed in the United States
                District
                Court of the Western District of Pennsylvania, alleging that our
                subsidiary, Fidelity Mortgage Inc. (“Fidelity”), did not pay its loan
                officers overtime compensation and/or minimum wage in violation of
                the
                Federal Fair Labor Standards Act. The complaint seeks: (1) an amount
                equal
                to the unpaid wages at the applicable overtime rate, (2) an amount
                equal
                to the minimum wages at the applicable minimum wage, (3) an equal
                amount
                as liquidated damages, (4) costs and attorneys’ fees, (5) leave to add
                additional plaintiffs and (6) leave to amend to add claims under
                applicable state laws. We filed an answer and discovery has commenced.
                In
                April 2005, the plaintiff filed his motion for conditional class
                certification and in May 2005, Fidelity filed its opposition to that
                motion. In June 2005, the Magistrate Judge issued a Report and
                Recommendation, recommending that the plaintiff’s motion for conditional
                class certification be granted, and that plaintiff’s motion to authorize
                judicial notice be granted (subject to revision and final approval
                by the
                District Court). In July 2005, Fidelity filed with the District Court
                its
                objections to the Magistrate Judge’s Report and Recommendation and the
                plaintiff filed its opposition to our objections. In July 2005, the
                District Court upheld the Magistrate Judge’s Report and Recommendation.
                Any potential class members who desired to join the collective action
                were
                provided an opportunity to do so during an “opt-in” period that ended in
                October 2005. To date, we have received notice that approximately
                200
                individuals, virtually all of whom are former employees, have opted
                into
                the collective action. Discovery will now continue. We believe that
                we
                have meritorious defenses and intend to vigorously defend this suit,
                but
                cannot estimate with any certainty our ultimate legal or financial
                liability, if any, with respect to the alleged
                claims.





**Item
      2.Unregistered Sales of Equity Securities and Use of
      Proceeds.**





None.





**Item
      3. Defaults Upon Senior Securities.**





None.





**Item
      4.Submission of Matters to a Vote of
      Security Holders.**




None.





**Item
      5. Other Information.**





None.





**63**





**Item
      6. Exhibits.**





**Exhibit
                No.**
            
            **Filed**
            
            **Description**31.1
            
            (a)
            
            Rule
                13a-14(a)/15d-14(a) Certification of the Chief Executive
                Officer31.2
            
            (a)
            
            Rule
                13a-14(a)/15d-14(a) Certification of the Chief Financial
                Officer32.1
            
            (a)
            
            Section
                1350 Certification of the Chief Executive Officer32.2
            
            (a)
            
            Section
                1350 Certification of the Chief Financial
                Officer




(a)
            Filed
                herewith.





**64**











**SIGNATURES**





Pursuant
      to the requirements of the Securities Exchange Act of 1934, as amended, the
      Registrant has duly caused this report to be signed on its behalf by the
      undersigned, thereunto duly authorized.


**DELTA
              FINANCIAL CORPORATION***(Registrant)***Date:** 
              November 14, 2005
            By:
            /s/ **Hugh
              Miller**Title: 
              President and Chief Executive Officer


By:
            /s/ **Richard
              Blass**Title: 
              Executive Vice President and Chief Financial
              Officer






















**65**