**UNITED
          STATES SECURITIES AND EXCHANGE**
 **COMMISSION**
 **Washington,
          D.C. 20549**
  **FORM
          10-Q**
  
 x
                
                **Quarterly
                    Report Pursuant To Section 13 or 15(d) of the
                    Securities**
 **Exchange
                    Act Of 1934**
  **For
          the quarterly period ended September 30, 2007**
  o
                **Transition Report Pursuant to Section
                    13 or 15(d)
                    of the Securities**
 **Exchange
                    Act of 1934**
  **For
          the transition period from _________________ to
          _________________**
  Commission
          file no. 000-50990
 **Tower
                    Group, Inc.*****(Exact
                    name of registrant as specified in its
                    charter)***
 
 **Delaware**
                
                **13-3894120***(State
                    or other jurisdiction of incorporation or
                    organization)*
                
                *(I.R.S.
                    Employer Identification No.)***120
                    Broadway, 31st
                    Floor**
                  **New
                    York, NY**
                
                **10271***(Address
                    of principal executive offices)*
                
                *(Zip
                    Code)*
 
 **(212)
                    655-2000**(Registrant’s
                    telephone number, including area
                    code
 
 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 and 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 o
 
 Indicate
          by check mark whether the
          registrant is a large accelerated filer, an accelerated filer, or a
          non-accelerated filer.  See definition of “accelerated filer and large
          accelerated filer” in Rule 12b-2 of the Exchange Act.  (Check
          one):
 Large
          accelerated filer o****Accelerated
          filer  x Non-accelerated
          filer o
 
 Indicate
          by check mark whether the
          registrant is a shell company (as defined in rule 12b-2 of the Exchange
          Act).
 ****Yes o ****No
          x
 
 Indicate
          the number of shares
          outstanding of each of the issuer’s classes of common stock, as of the latest
          practicable date: 23,192,002 shares of common stock, par value $0.01 per
          share,
          as of November 5, 2007.











**INDEX**





**PAGE****PART
                I FINANCIAL
                INFORMATION**Item
                1.
            Financial
                statementsConsolidated
                Balance Sheets – September 30,
                2007 (unaudited) and December 31, 2006
            2Consolidated
                Statements of Income and
                Comprehensive Net Income-
                Three months ended September 30, 2007 and
                2006 (unaudited)
            3-
                Nine months ended September 30, 2007 and
                2006 (unaudited)
            3Consolidated
                Statements of Cash
                Flows-
                Three months ended September 30, 2007 and 2006
                (unaudited)
            4-
                Nine months ended September 30, 2007 and 2006
                (unaudited)
            4Notes
                to Consolidated Financial
                Statements (unaudited)
            6Item
                2.
            Management’s
                Discussion and Analysis of Financial Condition
                and Results of Operations
            20Item
                3.
            Quantitative
                and Qualitative Disclosures About Market
                Risk
            36Item
                4.
            Controls
                and Procedures
            37**PART
                II OTHER INFORMATION**Item
                6.
            Exhibits
            37**SIGNATURES**
            38




1




**Part
      I– FINANCIAL INFORMATION**






**Item
                1.  Financial
                Statements**


**Tower
      Group, Inc.**


**Consolidated
      Balance Sheets**




**(Unaudited)****September
                  30,**
              
              
              **December
                  31,****2007**
              
              
              **2006**($
                  in thousands, except par value and share amounts)**Assets**Fixed-maturity
                  securities, available-for-sale, at fair value (amortized
                  cost$603,338
                  at September 30, 2007 and $416,642 at December 31, 2006)
              
              $
              592,401
              
              
              $
              414,567Equity
                  securities, available-for-sale, at fair value (cost $59,810
                  atSeptember
                  30, 2007 and $47,971 at December 31, 2006)
              
              
              50,148
              
              
              
              49,453**Total
                  investments**
              
              
              642,549
              
              
              
              464,020Cash
                  and cash equivalents
              
              
              52,526
              
              
              
              100,598Investment
                  income receivable
              
              
              6,682
              
              
              
              4,767Agents'
                  balances receivable
              
              
              98,638
              
              
              
              65,578Assumed
                  premiums receivable
              
              
              472
              
              
              
              77Ceding
                  commission receivable
              
              
              3,469
              
              
              
              3,237Reinsurance
                  recoverable
              
              
              200,686
              
              
              
              118,003Receivable
                  - claims paid by agency
              
              
              6,842
              
              
              
              5,186Prepaid
                  reinsurance premiums
              
              
              132,736
              
              
              
              94,063Deferred
                  acquisition costs, net of deferred ceding commission
                  revenue
              
              
              39,408
              
              
              
              35,811Federal
                  and state taxes recoverable
              
              
              712
              
              
              
              -Deferred
                  income taxes
              
              
              22,394
              
              
              
              -Intangible
                  assets
              
              
              21,992
              
              
              
              5,423Goodwill
              
              
              9,608
              
              
              
              -Fixed
                  assets, net of accumulated depreciation
              
              
              30,659
              
              
              
              20,563Investment
                  in unconsolidated affiliate
              
              
              31,906
              
              
              
              27,944Investment
                  in statutory business trusts, equity method
              
              
              3,036
              
              
              
              2,045Other
                  assets
              
              
              9,166
              
              
              
              6,767**Total
                  Assets**
              
              **$**
              **1,313,481**
              
              
              **$**
              **954,082****Liabilities**Loss
                  and loss adjustment expenses
              
              $
              487,627
              
              
              $
              302,541Unearned
                  premium
              
              
              282,069
              
              
              
              227,017Reinsurance
                  balances payable
              
              
              54,213
              
              
              
              38,560Payable
                  to issuing carriers
              
              
              13,320
              
              
              
              662Funds
                  held as agent
              
              
              6,068
              
              
              
              8,181Funds
                  held under reinsurance agreements
              
              
              40,724
              
              
              
              51,527Accounts
                  payable and accrued expenses
              
              
              17,078
              
              
              
              18,267Deferred
                  rent liability
              
              
              7,323
              
              
              
              6,295Payable
                  for securities
              
              
              336
              
              
              
              2,922Other
                  liabilities
              
              
              5,475
              
              
              
              3,515Federal
                  and state income taxes payable
              
              
              -
              
              
              
              1,163Deferred
                  income taxes
              
              
              -
              
              
              
              1,255Dividends
                  payable
              
              
              -
              
              
              
              212Subordinated
                  debentures
              
              
              101,036
              
              
              
              68,045**Total
                  Liabilities**
              
              ****
              **1,015,269**
              
              
              ****
              **730,162****Stockholders'
                  Equity**Series
                  A perpetual preferred stock ($0.01 par value per share; 2,000,000
                  sharesauthorized;
                  no shares issued and outstanding at September 30, 2007;
                  40,000shares
                  issued and outstanding at December 31, 2006; liquidation preference
                  of$1,000
                  per share, net of $0.4 million of issuance costs)
              
              
              -
              
              
              
              39,600Common
                  stock ($0.01 par value per share; 40,000,000 shares
                  authorized,23,215,118
                  and 20,005,758 shares issued at September 30, 2007 andDecember
                  31, 2006, respectively, and 23,192,708 and 19,980,306
                  sharesoutstanding
                  at September 30, 2007 and December 31, 2006, respectively)
              
              
              232
              
              
              
              200Paid-in-capital
              
              
              205,182
              
              
              
              113,168Accumulated
                  other comprehensive net loss
              
              
              (13,869
              )
              
              
              (437
              )Retained
                  earnings
              
              
              106,984
              
              
              
              71,596Treasury
                  stock (22,410 and 25,452 shares at September 30, 2007 andDecember
                  31, 2006, respectively)
              
              
              (317
              )
              
              
              (207
              )**Total
                  Stockholders' Equity**
              
              ****
              **298,212**
              
              
              ****
              **223,920****Total
                  Liabilities and Stockholders' Equity**
              
              **$**
              **1,313,481**
              
              
              **$**
              **954,082**


*See
        accompanying notes to the consolidated financial
        statements.*


2






**Tower
      Group, Inc.**


**Consolidated
      Statements of Income and Comprehensive Income**


**(Unaudited)**




**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**($
                  in thousands, except share and per share amounts)**Revenues**Net
                  premiums earned
              
              $
              73,124
              
              
              $
              52,366
              
              
              $
              207,542
              
              
              $
              168,908Ceding
                  commission revenue
              
              
              19,601
              
              
              
              13,171
              
              
              
              50,867
              
              
              
              30,550Insurance
                  services revenue
              
              
              9,137
              
              
              
              1,243
              
              
              
              12,236
              
              
              
              5,274Policy
                  billing fees
              
              
              599
              
              
              
              286
              
              
              
              1,444
              
              
              
              830Net
                  investment income
              
              
              9,615
              
              
              
              5,923
              
              
              
              27,016
              
              
              
              15,875Net
                  realized gains (losses) on investments
              
              
              (62
              )
              
              
              32
              
              
              
              10
              
              
              
              (84
              )Total
                  revenues
              
              
              112,014
              
              
              
              73,021
              
              
              
              299,115
              
              
              
              221,353**Expenses**Loss
                  and loss adjustment expenses
              
              
              40,007
              
              
              
              30,392
              
              
              
              114,528
              
              
              
              105,026Direct
                  commission expense
              
              
              26,422
              
              
              
              15,309
              
              
              
              66,865
              
              
              
              43,654Other
                  operating expenses
              
              
              21,311
              
              
              
              13,127
              
              
              
              55,832
              
              
              
              38,718Interest
                  expense
              
              
              2,313
              
              
              
              1,863
              
              
              
              6,843
              
              
              
              5,066Total
                  expenses
              
              
              90,053
              
              
              
              60,691
              
              
              
              244,068
              
              
              
              192,464**Other
                  Income**Equity
                  income in unconsolidated affiliate
              
              
              746
              
              
              
              418
              
              
              
              2,169
              
              
              
              364Gain
                  from issuance of common stock by
                  unconsolidated  affiliate
              
              
              -
              
              
              
              -
              
              
              
              2,705
              
              
              
              7,883Warrant
                  received from unconsolidated affiliate
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              4,605Income
                  before income taxes
              
              
              22,707
              
              
              
              12,748
              
              
              
              59,921
              
              
              
              41,741Income
                  tax expense
              
              
              8,323
              
              
              
              4,292
              
              
              
              21,530
              
              
              
              14,490**Net
                  income**
              
              $
              14,384
              
              
              $
              8,456
              
              
              $
              38,391
              
              
              $
              27,251**Comprehensive
                  Income**Net
                  income
              
              $
              14,384
              
              
              $
              8,456
              
              
              $
              38,391
              
              
              $
              27,251Other
                  comprehensive income:Gross
                  unrealized investment holding gains (losses)arising
                  during period
              
              
              (9,140
              )
              
              
              9,150
              
              
              
              (20,169
              )
              
              
              3,273Equity
                  in net unrealized gains in investment inunconsolidated
                  affiliate’s investment portfolio
              
              
              (236
              )
              
              
              296
              
              
              
              (658
              )
              
              
              184Less:
                  reclassification adjustment for (gains) lossesincluded
                  in net income
              
              
              62
              
              
              
              (32
              )
              
              
              (10
              )
              
              
              84(9,314
              )
              
              
              9,414
              
              
              
              (20,837
              )
              
              
              3,541Income
                  tax (expense) benefit related to items of othercomprehensive
                  income
              
              
              3,260
              
              
              
              (3,295
              )
              
              
              7,293
              
              
              
              (1,297
              )Total
                  other comprehensive net income (loss)
              
              
              (6,054
              )
              
              
              6,119
              
              
              
              (13,544
              )
              
              
              2,244**Comprehensive
                  income**
              
              $
              8,330
              
              
              $
              14,575
              
              
              $
              24,847
              
              
              $
              29,495**Earnings
                  Per Share**Basic
                  earnings per common share
              
              $
              0.63
              
              
              $
              0.43
              
              
              $
              1.67
              
              
              $
              1.38Diluted
                  earnings per common share
              
              $
              0.62
              
              
              $
              0.42
              
              
              $
              1.65
              
              
              $
              1.36**Weighted
                  Average Common Shares Outstanding:**Basic
              
              
              22,983,325
              
              
              
              19,776,188
              
              
              
              22,622,672
              
              
              
              19,734,365Diluted
              
              
              23,189,031
              
              
              
              20,074,058
              
              
              
              22,885,001
              
              
              
              20,032,256**Dividends
                  declared and paid per common share:**Common
                  stock
              
              $
              0.05
              
              
              $
              0.025
              
              
              $
              0.10
              
              
              $
              0.075


*See
      accompanying notes to the consolidated financial statements.*




3




**Tower
      Group, Inc.**


**Consolidated
      Statements of Cash Flows**


(Unaudited)


**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**($
                  in thousands)**Cash
                  flows provided by (used in) operating activities:**Net
                  income
              
              $
              14,384
              
              
              $
              8,456
              
              
              $
              38,391
              
              
              $
              27,251Adjustments
                  to reconcile net income to net cash provided by(used
                  in) operations:Gain
                  from IPO of common shares of unconsolidated affiliate
              
              
              -
              
              
              
              -
              
              
              
              (2,705
              )
              
              
              (7,883
              )Warrant
                  received from unconsolidated affiliate
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (4,605
              )(Gain)
                  loss on sale of investments
              
              
              62
              
              
              
              (32
              )
              
              
              (10
              )
              
              
              84Depreciation
              
              
              1,849
              
              
              
              1,273
              
              
              
              5,411
              
              
              
              3,236Amortization
                  of intangible assets
              
              
              322
              
              
              
              110
              
              
              
              721
              
              
              
              316Amortization
                  of bond premium or discount
              
              
              42
              
              
              
              176
              
              
              
              396
              
              
              
              644Amortization
                  of debt issuance costs
              
              
              16
              
              
              
              14
              
              
              
              48
              
              
              
              38Amortization
                  of restricted stock
              
              
              503
              
              
              
              262
              
              
              
              1,504
              
              
              
              604Deferred
                  income taxes
              
              
              (249
              )
              
              
              2,001
              
              
              
              (900
              )
              
              
              1,666Excess
                  tax benefits from share-based payment arrangements
              
              
              (76
              )
              
              
              (202
              )
              
              
              (1,035
              )
              
              
              (852
              )(Increase)
                  decrease in assets:Investment
                  income receivable
              
              
              (229
              )
              
              
              (66
              )
              
              
              (670
              )
              
              
              (786
              )Agents’
                  balances receivable
              
              
              (32
              )
              
              
              (938
              )
              
              
              (3,365
              )
              
              
              (9,241
              )Assumed
                  premiums receivable
              
              
              1,291
              
              
              
              2,073
              
              
              
              (395
              )
              
              
              (3,834
              )Ceding
                  commissions receivable
              
              
              886
              
              
              
              -
              
              
              
              (232
              )
              
              
              8,727Reinsurance
                  recoverable
              
              
              (12,890
              )
              
              
              (12,994
              )
              
              
              (44,429
              )
              
              
              (5,028
              )Prepaid
                  reinsurance premiums
              
              
              3,369
              
              
              
              (5,653
              )
              
              
              (34,710
              )
              
              
              (35,783
              )Deferred
                  acquisition costs, net
              
              
              709
              
              
              
              (1,928
              )
              
              
              10,356
              
              
              
              (5,591
              )Federal
                  and state income taxes recoverable
              
              
              (712
              )
              
              
              (3,229
              )
              
              
              (712
              )
              
              
              (3,229
              )Intangible
                  assets
              
              
              -
              
              
              
              (281
              )
              
              
              -
              
              
              
              (311
              )Equity
                  in unconsolidated affiliate
              
              
              (684
              )
              
              
              (418
              )
              
              
              (2,107
              )
              
              
              (364
              )Other
                  assets
              
              
              (1,313
              )
              
              
              2,150
              
              
              
              (1,829
              )
              
              
              (381
              )Increase
                  (decrease) in liabilities:Loss
                  and loss adjustment expenses
              
              
              18,718
              
              
              
              25,188
              
              
              
              70,739
              
              
              
              80,876Unearned
                  premium
              
              
              (7,942
              )
              
              
              4,948
              
              
              
              12,329
              
              
              
              46,887Reinsurance
                  balances payable
              
              
              (6,839
              )
              
              
              (8,270
              )
              
              
              10,850
              
              
              
              5,651Payable
                  to issuing carriers
              
              
              7,401
              
              
              
              (1,767
              )
              
              
              12,658
              
              
              
              (3,434
              )Accounts
                  payable and accrued expenses
              
              
              1,771
              
              
              
              391
              
              
              
              (9,077
              )
              
              
              (802
              )Deferred
                  rent
              
              
              (48
              )
              
              
              6,040
              
              
              
              1,028
              
              
              
              6,040Funds
                  held under reinsurance agreement
              
              
              (3,922
              )
              
              
              (2,768
              )
              
              
              (12,916
              )
              
              
              (2,014
              )Federal
                  and state income taxes payable
              
              
              1,910
              
              
              
              (3,236
              )
              
              
              (1,163
              )
              
              
              -**Net
                  cash flows provided by operations**
              
              
              18,297
              
              
              
              11,300
              
              
              
              48,176
              
              
              
              97,882**Cash
                  flows provided by (used in) investing activities:**Acquisition
                  of Preserver Group Inc.
              
              
              -
              
              
              
              -
              
              
              
              (66,233
              )
              
              
              -Preserver
                  transaction costs
              
              
              -
              
              
              
              -
              
              
              
              (4,729
              )
              
              
              -Purchase
                  of fixed assets
              
              
              (3,578
              )
              
              
              (14,158
              )
              
              
              (10,130
              )
              
              
              (19,228
              )Investment
                  in unconsolidated affiliate
              
              
              (190
              )
              
              
              128
              
              
              
              423
              
              
              
              (14,400
              )Disposal
                  of fixed assets
              
              
              85
              
              
              
              -
              
              
              
              85
              
              
              
              -Purchase
                  of investments:Fixed-maturity
                  securities
              
              
              (42,282
              )
              
              
              (52,711
              )
              
              
              (177,594
              )
              
              
              (124,685
              )Equity
                  securities
              
              
              (499
              )
              
              
              (35,362
              )
              
              
              (14,386
              )
              
              
              (35,995
              )Short-term
                  investments-net
              
              
              -
              
              
              
              16
              
              
              
              -
              
              
              
              16Sale
                  or maturity of investments:Fixed-maturity
                  securities
              
              
              16,796
              
              
              
              24,956
              
              
              
              87,314
              
              
              
              53,168Equity
                  securities
              
              
              -
              
              
              
              24,558
              
              
              
              3,776
              
              
              
              24,558**Net
                  cash flows used in investing activities**
              
              
              (29,668
              )
              
              
              (52,573
              )
              
              
              (181,474
              )
              
              
              (116,566
              )


*(Continued)*


*See
      accompanying notes to the consolidated financial statements.*




4




**Tower
      Group, Inc.**


**Consolidated
      Statements of Cash Flows—(Continued)**


(Unaudited)


**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**($
                  in thousands)**Cash
                  flows provided by (used in) financing activities:**Redemption
                  of preferred stock
              
              
              -
              
              
              
              -
              
              
              
              (40,000
              )
              
              
              -Proceeds
                  from issuance of subordinated debentures
              
              
              -
              
              
              
              -
              
              
              
              20,619
              
              
              
              20,619Purchase
                  of common trust securities - statutory business trusts
              
              
              -
              
              
              
              -
              
              
              
              (619
              )
              
              
              (619
              )Dividends
                  paid
              
              
              (1,149
              )
              
              
              (493
              )
              
              
              (2,804
              )
              
              
              (1,481
              )Stock
                  repurchase
              
              
              (16
              )
              
              
              (2
              )
              
              
              39
              
              
              
              (69
              )Exercise
                  of stock options & warrants
              
              
              17
              
              
              
              270
              
              
              
              1,027
              
              
              
              1,155Excess
                  tax benefits from share-based payment arrangements
              
              
              76
              
              
              
              202
              
              
              
              1,035
              
              
              
              852Equity
                  offering and over allotment, net of issuance costs
              
              
              -
              
              
              
              -
              
              
              
              89,366
              
              
              
              -**Net
                  cash flows provided by (used in) financing
                  activities**
              
              
              (1,072
              )
              
              
              (23
              )
              
              
              68,663
              
              
              
              20,457Increase
                  (decrease) in cash and cash equivalents
              
              
              (12,444
              )
              
              
              (41,296
              )
              
              
              (64,635
              )
              
              
              1,773Cash
                  and cash equivalents, beginning of period
              
              
              64,969
              
              
              
              81,829
              
              
              
              117,161
              
              
              
              38,760**Cash
                  and cash equivalents, end of period**
              
              **$**
              **52,525**
              
              
              **$**
              **40,533**
              
              
              **$**
              **52,526**
              
              
              **$**
              **40,533****Supplemental
                  disclosures of cash flow information:**Cash
                  paid for income taxes
              
              $
              6,574
              
              
              $
              7,982
              
              
              $
              21,746
              
              
              $
              15,306Cash
                  paid for interest
              
              $
              2,772
              
              
              $
              1,479
              
              
              $
              6,264
              
              
              $
              3,384




*See
      accompanying notes to the consolidated financial statements.*





5




**Tower
        Group, Inc.**
 **Notes
        to Consolidated Financial Statements**(Unaudited)
  **Basis
        of Presentation**
  The
        accompanying unaudited consolidated financial statements have been prepared
        in
        accordance with instructions for Form 10-Q and, accordingly, do not include
        the
        information and disclosures required by generally accepted accounting principles
        (“GAAP”) in the United States of America.  These statements should be
        read in conjunction with the consolidated financial statements as of and
        for the
        year ended December 31, 2006 and notes thereto included in the Company’s Annual
        Report on Form 10-K filed on March 8, 2007.  The accompanying
        consolidated financial statements have not been audited by an independent
        registered public accounting firm in accordance with standards of the Public
        Company Accounting Oversight Board (United States), but in the opinion of
        management such financial statements include all adjustments, consisting
        only of
        normal recurring adjustments, necessary for a fair statement of the Company’s
        financial position and results of operations.  The results of
        operations for the three months and nine months ended September 30, 2007
        may not
        be indicative of the results that may be expected for the year ending December
        31, 2007.  The consolidated financial statements as of September 30,
        2007 include the accounts of Tower Group, Inc. (the “Company”), its wholly owned
        subsidiaries Tower Insurance Company of New York (“TICNY”), Tower National
        Insurance Company (“TNIC”), Tower Risk Management Corp. (“TRM”), Preserver
        Group, Inc. (“Preserver”) and its subsidiaries, Preserver Insurance Company
        (“PIC”), Mountain Valley Indemnity Company (“MV”) and North East Insurance
        Company (“NE”), and other entities required by GAAP.  All significant
        inter-company balances have been eliminated.  Business segment results
        are presented net of all material inter-segment transactions.
  **Acquisition
        of Preserver Group, Inc.**
  On
        April 10, 2007, the Company completed the acquisition of 100% of the issued
        and
        outstanding common stock of Preserver, a New Jersey corporation, pursuant
        to the
        stock purchase agreement (“the Agreement”), dated as of November 13, 2006, by
        and among the Company, Preserver and the Sellers named therein.  The
        acquisition was accounted for using the purchase method in accordance with
        the
        Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting
        Standards (“SFAS”) No. 141, *Business Combinations*.  Under the
        terms of the Agreement, the Company acquired Preserver for approximately
        $64.9
        million comprised of $34.1 million in cash paid to the Sellers and a
        contribution of $30.8 million to the capital of Preserver to enable Preserver
        to
        repay the principal and accrued interest on indebtedness held by certain
        of the
        Sellers.
  In
        accordance with SFAS No. 141, the cost of the acquisition was preliminarily
        allocated to the assets acquired and liabilities assumed based on their fair
        values as of the close of the acquisition, with the amounts exceeding the
        fair
        value recorded as goodwill.  As the values of certain assets and
        liabilities are preliminary in nature, they are subject to adjustment as
        additional information is obtained, including, but not limited to, valuation
        of
        separately identifiable intangibles, fixed assets, and deferred
        taxes.  The valuations will be finalized within 12 months of the close
        of the acquisition.  When the valuations are finalized, any changes to
        the preliminary valuation of assets acquired or liabilities assumed may result
        in adjustments to separately identifiable intangibles and
        goodwill.  The results of operations of Preserver have been included
        in the Company’s consolidated financial statements since April 10,
        2007.
  Selected
        unaudited pro forma results of operations assuming the acquisition had occurred
        as of January 1, 2006, are set forth below:
  **Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**($
                  in thousands, except share and per share amounts)Total
                  revenue
              
              $
              112,014
              
              
              $
              93,905
              
              
              $
              321,668
              
              
              $
              284,746Net
                  income
              
              
              14,384
              
              
              
              9,122
              
              
              
              37,072
              
              
              
              29,122Net
                  income per common share-basic
              
              $
              0.63
              
              
              $
              0.40
              
              
              $
              1.61
              
              
              $
              1.28Net
                  income per common share-diluted
              
              $
              0.62
              
              
              $
              0.39
              
              
              $
              1.59
              
              
              $
              1.26
  6
  The
        above pro forma results are presented for information purposes only and may
        not
        be indicative of the operating results that would have occurred had this
        acquisition been completed as of the beginning of 2006.
  The
        following unaudited condensed balance sheet presents assets acquired and
        liabilities assumed with the acquisition of Preserver on April 10, 2007,
        based
        on their fair values ($ in thousands):
 
 **Assets**Investments
              
              $
              98,079Cash
                  & cash equivalents
              
              
              16,563Accounts
                  receivable
              
              
              30,035Reinsurance
                  recoverable
              
              
              39,910Deferred
                  acquisition costs, net
              
              
              13,954Fixed
                  assets
              
              
              5,462Goodwill
              
              
              9,608Intangibles
              
              
              17,290Deferred
                  income taxes
              
              
              15,724Other
                  assets
              
              
              5,846**Total
                  Assets**
              
              $
              252,471Loss
                  and loss adjustment expenses
              
              $
              114,348Unearned
                  premiums
              
              
              42,723Accounts
                  payable and accrued expenses
              
              
              16,795Subordinated
                  debentures
              
              
              12,372**Total
                  liabilities**
              
              
              186,238**Total
                  Stockholders’ equity**
              
              
              66,233**Total
                  Liabilities & Stockholders’ equity**
              
              $
              252,471
 
 Preserver’s
        stockholders’ equity on April 10, 2007 was $66.2 million, which includes the
        purchase price of $64.9 million plus an additional $1.3 million for Tower’s
        direct transaction costs.
  The
        base purchase price was reduced by the amount (net of taxes) of certain expenses
        paid by Preserver in connection with the transaction including amounts that
        were
        paid or payable to officers, directors and employees of Preserver and legal
        and
        financial advisor fees in connection with the sale of Preserver.  The
        amount of this reduction was approximately $3.3 million.  An
        additional purchase price may be payable approximately three years following
        the
        closing if Preserver has favorable development on its June 30, 2006 reserves
        for
        losses and loss adjustment expenses.  The amount of this additional
        purchase price will be 65% of any such favorable development but will not
        exceed
        $13 million.
  Prior
        to closing the acquisition of Preserver on April 10, 2007, the Company
        formulated a plan to terminate a number of employees of Preserver primarily
        working in the underwriting, operations, and information technology
        areas.  The Company accrued a liability as of the closing date, in
        accordance with Emerging Issues Task Force (“EITF”) number 95-3 in the amount of
        $500,000 representing severance costs, including employee benefits of the
        terminated employees.  The Company expects that all planned
        terminations will be completed by the end of 2007.  As of September
        30, 2007, the accrued liability is $223,000.
 
 **Equity
        Offering**
  On
        January 22, 2007, the Company signed an underwriting agreement providing
        for the issuance and sale of 2,704,000 shares of common stock at a price
        of
        $31.25 per share, less underwriting discounts, and granted to the underwriters
        an option to purchase up to 405,600 additional shares of common stock at
        the
        same price to cover over-allotments.
  On
        January 26, 2007, the Company closed on its sale of 2,704,000 shares of
        common stock.  On February 5, 2007, the underwriters exercised
        their over-allotment option with respect to 340,600 shares of common
        stock.  The Company received aggregate net proceeds of approximately
        $89.4 million from the offering and over-allotment option, after underwriting
        discounts and expenses.
 7


**Subordinated
      Debentures**


On
        January 25, 2007, the Company participated in a private placement of $20.0
        million of fixed/floating rate capital securities (the “Trust Preferred
        Securities”) issued by Tower Group Statutory Trust VI (the “Trust”), an
        affiliated Delaware trust formed on January 11, 2007.  The Trust
        Preferred Securities mature in April 2036, are redeemable at the Company’s
        option at par beginning April 7, 2011, and require quarterly distributions
        of interest by the Trust to the holder of the Trust Preferred
        Securities.  Interest distributions are initially at a fixed rate of
        8.155% for the first five years and will then reset quarterly for changes
        in the
        three-month London Interbank Offered Rate (“LIBOR”) plus 300 basis
        points.  The Trust used the proceeds from the sale of the Trust
        Preferred Securities and common securities to purchase for $20.6 million
        a
        junior subordinated debt security due 2037 issued by the Company.  The
        Company does not consolidate interest in its statutory business trusts for
        which
        the Company holds 100% of the common trust securities because the Company
        is not
        the primary beneficiary of the trusts.  The Company reports the
        outstanding subordinated debentures owed to the statutory business trusts
        as a
        liability.  The net proceeds to the Company from the sale of the
        debenture to the Trust were used by the Company to redeem a portion of the
        Company’s perpetual preferred stock as described below.  The Company
        incurred $0.4 million of fees related to the issuance of these subordinated
        debentures which have been capitalized and will be amortized over the term
        of
        the subordinated debentures.
  As
        part of the Preserver acquisition, the Company assumed $12.3 million in Junior
        Subordinated Notes (“Junior Notes”) issued by Preserver to the Preserver Capital
        Trust I (“Preserver Capital Trust”), an affiliated Delaware
        Trust.  The Company does not consolidate Preserver Capital Trust as
        the Company is not considered the primary beneficiary.  The Junior
        Notes mature on April 10, 2034 and are redeemable in whole or in part on
        any
        interest payment date subsequent to May 24, 2009.  They bear interest
        at a three-month LIBOR rate plus 425 basis points, with a cap of 12.50% through
        May 24, 2009.  The Junior Notes had an interest rate of 9.75% at
        September 30, 2007. Preserver incurred $0.4 million of fees related to the
        issuance of these subordinated debentures which were capitalized and are
        currently being amortized over the term of the subordinated debentures. The
        Trust simultaneously issued 372 of the Trust’s common securities to the Company
        for a purchase price of $0.4 million, which constitutes all of the issued
        and
        outstanding common securities of the Trust.
  Aggregate
        scheduled maturities of the Company’s outstanding subordinated debentures at
        September 30, 2007 are ($ in thousands):
  2033
              
              $
              20,6202034
              
              
              25,7752035
              
              
              13,4032036
              
              
              41,238Total
              
              $
              101,036
 
 **Redemption
        of Perpetual Preferred Stock**
  On
        November 13, 2006, the Company entered into the Stock Purchase Agreement
        with a
        subsidiary of CastlePoint pursuant to which the Company agreed to issue and
        sell
        40,000 shares of perpetual preferred stock to the subsidiary for aggregate
        consideration of $40 million.  The transaction closed on December 4,
        2006.
  On
        January 10, 2007, the Company exchanged its outstanding Series A Perpetual
        Preferred stock for 40,000 shares of the Series A-1 Perpetual Preferred Stock
        (the “Series A-1 Perpetual Preferred Stock). On January 26, 2007, the Company
        fully redeemed all 40,000 shares of the Series A-1 stock for $40.0 million
        using
        $20.0 million of the net proceeds from its Trust Preferred Securities issued
        on
        January 25, 2007 and $20.0 million of the net proceeds from its common stock
        offering.
  **Investment
          in Unconsolidated Affiliate-CastlePoint**
 At
        September 30, 2007, the Company’s maximum exposure to a loss from its investment
        in CastlePoint Holdings, Ltd. (“CastlePoint”) was approximately $31.9 million,
        which consists of its equity ownership interest with a carrying value of
        approximately $27.3 million as of September 30, 2007 and the warrant the
        Company
        received from CastlePoint in 2006, with a carrying value of $4.6 million
        as of
        September 30, 2007.


8




The
        carrying value of the Company’s equity investment in CastlePoint as of September
        30, 2007 is as follows ($ in millions):
 
 Carrying
                  value of equity investment in CastlePoint at December 31,
                  2006
              
              $
              27.9Equity
                  in net income of CastlePoint
              
              
              2.2Gain
                  from IPO of common stock of CastlePoint
              
              
              2.7Equity
                  in net unrealized loss of the CastlePoint investment
                  portfolio
              
              
              (0.7
              )Dividends
                  received from CastlePoint
              
              
              (0.2
              )Carrying
                  value of equity investment in CastlePoint at September 30,
                  2007
              
              $
              31.9
 
 The
        Company has determined that CastlePoint qualifies as a variable interest
        entity
        (“VIE”) under the provisions of Financial Accounting Standards Board
        Interpretation (“FIN”) 46-(R).  The Company has determined that its
        investment in CastlePoint does not meet the requirements for consolidation
        because the Company is not the primary beneficiary of the VIE as defined
        in FIN
        46-(R). However, the Company has recorded its investment in CastlePoint using
        the equity method of accounting as the Company exercises significant influence
        over CastlePoint.  The Company and CastlePoint have the same Chief
        Executive Officer, Michael H. Lee.
  On
        March 23, 2007, CastlePoint raised $114.8 million net of expenses in an initial
        public offering which reduced the Company’s investment ownership from 8.6% to
        6.7%.  As a result of the initial public offering, the book value of
        CastlePoint increased from $279.7 million as of December 31, 2006 to $401.3
        million as of March 31, 2007.  Accordingly, in the three months ended
        March 31, 2007, the Company recorded a gain of $2.7 million in income before
        taxes on its common stock investment in CastlePoint in accordance with the
        Securities and Exchange Commission’s staff accounting bulletin (“SAB”) No.
        51-*“Accounting for Sales of Stock by a Subsidiary.”*
  Dividends
        of $0.025 per share were declared and paid by CastlePoint in December 2006,
        March 2007, June 2007 and September 2007. The Company has recorded $383,000
        of
        CastlePoint dividends received or accrued since inception as a reduction
        to its
        investment in CastlePoint.
  As
        of September 30, 2007, the aggregate fair value of the Company’s investment in
        its 2,555,000 shares of CastlePoint common stock listed on the Nasdaq Global
        Market under the symbol “CPHL” was $29,382,500.
  **Affiliated
                  Agreements with
                  CastlePoint**
  The
        Company and/or its subsidiaries are parties to a master agreement, certain
        reinsurance agreements, and other agreements, including program management
        agreements and service and expense sharing agreements, with
        CastlePoint.
  ***Reinsurance
        Agreements with CastlePoint***
  The
        Company’s insurance subsidiaries are parties to three multi-year quota share
        reinsurance agreements with CastlePoint Reinsurance Company, Ltd. (“CastlePoint
        Reinsurance”) covering brokerage business, traditional program business and
        specialty program business.  Under the brokerage business quota share
        reinsurance agreement, which covers business that the Company has historically
        written through its retail and wholesale agents, the Company’s insurance
        subsidiaries cede between 25% and 50% of premiums and losses, such ceding
        percentage being subject to periodic adjustment by the Company.  The
        Company’s insurance subsidiaries ceded $49.0 million and $169.7 million of
        premiums written during the three and nine months ended September 30, 2007,
        under this agreement.  For the period April 1, 2007 through June 30,
        2007, CastlePoint Insurance Company (“CPIC”) was added as a reinsurer under the
        brokerage business quota share reinsurance agreement and the Company ceded
        9% of
        its premiums and losses to CPIC and 40% of its premiums and losses to
        CastlePoint Reinsurance.  The Company and
        CastlePoint  intended to replace CPIC’s  participation in
        the brokerage business quota share reinsurance agreement with a brokerage
        business risk sharing arrangement under which the Company and CPIC would
        share
        approximately 85% and 15%, respectively, of the Company’s and CPIC’s combined
        brokerage business. This agreement began on July 1, 2007. Under this risk
        sharing arrangement, the Company and CPIC agreed to enter into aggregate
        excess
        of loss agreements, also effective July 1, 2007, under which the Company
        would
        have reinsured 85% of CPIC’s brokerage business in excess of a 52.5% net loss
        ratio and CPIC would have reinsured 15% of the Company’s brokerage business in
        excess of a 52.5% net loss ratio. These
  9




agreements
        are subject to regulatory approval and have not yet been approved by insurance
        regulators and therefore have not yet been executed by the
        Company.  To adjust for the total amount of brokerage business that
        was expected to be transferred to CastlePoint under the risk sharing
        arrangements, the Company, through TRM, entered into a management agreement
        with
        CPIC, effective July 1, 2007, to produce and manage, on behalf CPIC, CPIC’s 15%
        share of the brokerage business.  During the three and nine months
        ended September 30, 2007, TRM produced $23.4 million of premium and earned
        $7.5
        million in management fees from CPIC, pursuant to this agreement.
  Effective
        April 1, 2007, under the brokerage business quota share reinsurance agreement,
        CastlePoint agreed to pay 30% of the Company’s property catastrophe reinsurance
        premiums and 30% of the Company’s net retained property catastrophe
        losses.  The premium payment was $0.7 million and $2.2 million for the
        three and nine months ending September 30, 2007,
        respectively.  CastlePoint Reinsurance also participated as a
        reinsurer on the Company’s overall property catastrophe reinsurance program from
        July 1, 2006 to June 30, 2007, and the Company’s excess of loss reinsurance
        program, effective May 1, 2006.  Under these programs, the
        Company’s insurance subsidiaries ceded premiums to CastlePoint Reinsurance of
        $0.8 million and $3.6 million for the three and nine months ended September
        30,
        2007, respectively. Effective July 1, 2007 CastlePoint Reinsurance no longer
        participates as a reinsurer on the Company’s catastrophe reinsurance program
        which now includes coverage for business written by CPIC and produced and
        managed by TRM.
  ***Program
        Management Agreement with CastlePoint***
  Under
        the traditional program business quota share reinsurance agreement between
        TICNY
        and TNIC and CastlePoint Reinsurance, covering program business historically
        written by the Company, the Company cedes 50% of its traditional program
        business to CastlePoint Reinsurance.  The Company’s insurance
        subsidiaries ceded $0.6 million of premiums written for the three and nine
        months ended September 30, 2007, under this agreement.
  Under
        the specialty program business quota share reinsurance agreement between
        TICNY
        and TNIC and CastlePoint Reinsurance, covering business not historically
        written
        by the Company, the Company cedes 85% of its net retention on specialty program
        business to CastlePoint Reinsurance.  The Company’s insurance
        subsidiaries ceded $2.0 million and $4.1 million of premiums written during
        the
        three and nine months ended September 30, 2007, under this
        agreement.
  ***Service
        and Expense Sharing Agreements with CastlePoint***
  Effective
        May 2007, TRM entered into a service agreement with CastlePoint Management
        Corp.
        (“CPM”) pursuant to which TRM provides to CPM and CPM may provide to TRM
        insurance company services such as claim adjustment, policy administration,
        technologies solutions, underwriting and risk management services. Under
        this
        agreement TRM agreed to produce and manage, on behalf of CPM, CPIC’s 15% share
        of Tower’s brokerage business. TRM will receive a 34% provisional management fee
        that is subject to adjustment based on the ultimate loss ratio of the business
        managed and earned as premiums are produced.  During the three and
        nine months ended September 30, 2007, TRM produced $0 million and $0.5 million
        of premium and earned $0 million and $0.2 million in management fees from
        CPIC,
        pursuant to this agreement. As discussed above, effective July 1, 2007, TRM
        entered into a management agreement with CPIC, to produce and manage
        business.
  **Investments**
  All
        fixed maturity and equity securities are carried at fair value. The fair
        value
        is based on quoted market prices or dealer quotes provided by independent
        pricing services.
  Impairment
        of investment securities results in a charge to net income when a market
        decline
        below cost is deemed to be other-than-temporary.  As of September 30,
        2007, the Company reviewed its fixed-maturity and equity securities portfolios
        to evaluate the necessity of recording impairment losses for
        other-than-temporary declines in the fair value of investments.  The
        Company determined that it did not hold any investments that would have been
        considered other-than-temporarily impaired.
  The
        following table presents information regarding the Company’s invested assets
        that were in an unrealized loss position at September 30, 2007 by amount
        of time
        in a continuous unrealized loss position ($ in thousands):
  10




**Less
                    than 12 Months**
                
                
                **12
                    Months or Longer**
                
                
                **Total****Fair**
                
                
                **Unrealized**
                
                
                **Fair**
                
                
                **Unrealized**
                
                
                **Fair**
                
                
                **Unrealized****Value**
                
                
                **Loss**
                
                
                **Value**
                
                
                **Loss**
                
                
                **Value**
                
                
                **Loss**U.S.
                    Gov't bonds
                
                $
                3,813
                
                
                $
                (58
                )
                
                $
                -
                
                
                $
                -
                
                
                $
                3,813
                
                
                $
                (58
                )Municipal
                    bonds
                
                
                28,437
                
                
                
                (102
                )
                
                
                45,285
                
                
                
                (391
                )
                
                
                73,722
                
                
                
                (493
                )Corporate
                    and other bonds
                
                
                92,063
                
                
                
                (2,544
                )
                
                
                34,439
                
                
                
                (790
                )
                
                
                126,502
                
                
                
                (3,334
                )Commercial
                    mortgage-backed securities
                
                
                21,687
                
                
                
                (1,582
                )
                
                
                3,989
                
                
                
                (17
                )
                
                
                25,676
                
                
                
                (1,599
                )Collateralized
                    mortgage obligations
                
                
                11,088
                
                
                
                (1,219
                )
                
                
                3,151
                
                
                
                (89
                )
                
                
                14,239
                
                
                
                (1,308
                )Residential
                    mortgage-backed securities
                
                
                67,983
                
                
                
                (3,098
                )
                
                
                53,417
                
                
                
                (1,898
                )
                
                
                121,400
                
                
                
                (4,996
                )Asset-backed
                    securities
                
                
                5,145
                
                
                
                (1,050
                )
                
                
                7,714
                
                
                
                (869
                )
                
                
                12,859
                
                
                
                (1,919
                )Total
                    fixed maturities
                
                
                230,216
                
                
                
                (9,653
                )
                
                
                147,995
                
                
                
                (4,054
                )
                
                
                378,211
                
                
                
                (13,707
                )Equities
                
                
                44,209
                
                
                
                (11,227
                )
                
                
                1,006
                
                
                
                (58
                )
                
                
                45,215
                
                
                
                (11,285
                )**Total**
                
                **$**
                **274,425**
                
                
                **$**
                **(20,880**
                **)**
                
                **$**
                **149,001**
                
                
                **$**
                **(4,112**
                **)**
                
                **$**
                **423,426**
                
                
                **$**
                **(24,992**
                **)**
  The
        process of determining whether a security is impaired involves analyzing
        many
        factors including the financial condition of the issuer, the length of time
        the
        security has been in an unrealized loss position, the magnitude of the
        unrealized loss, specific credit issues related to the issuer such as changes
        in
        credit rating, reduction or elimination of dividends or non-payment of scheduled
        interest payments and the collateral structure and credit support that may
        be
        applicable to asset and mortgage-backed securities.  The Company also
        considers its ability and intent to retain the security for a sufficient
        period
        of time to allow for the market price to recover to the Company’s original cost
        basis.
  The
        unrealized loss position for equity securities was primarily due to the
        Company’s investment in a closed-end investment fund and seven Real Estate
        Investment Trusts (“REITs”).  The total unrealized loss for these
        eight investments at September 30, 2007 was $10.4 million and has
        subsequentially increased to $13.8 million at October 31, 2007.
  The
        closed-end investment fund, Hyperion Brookfield Collateralized Securities
        Fund
        (“HCS Fund”), had a fair value of $30.6 million and $26.2 million representing
        10.3% and 11.6% of the Company’s stockholders’ equity at September 30, 2007 and
        December 31, 2006, respectively.  HCS Fund invests in various
        investment grade mortgage-backed and asset-backed securities.  HCS
        Fund has been in an unrealized loss position since March 2007, but the loss
        only
        began to increase materially in June 2007.  At September 30, 2007 the
        unrealized loss related to HCS Fund was $6.7 million.  HCS Funds
        subprime exposure is 46.3% of their total assets.
  All
        seven REITs are publicly traded and at September 30, 2007 had a fair value
        of
        $8.7 million and an unrealized loss of $3.7 million.  These REITs have
        been in an unrealized loss position for less than four months as of September
        30, 2007.  The severity of the impairment in relation to the carrying
        amounts of REITs is between 18.0% and 36.1%.  Except for Crystal River
        Capital, the REITs do not have any significant exposure to subprime
        mortgages.  Crystal River Capital’s subprime exposure is 3% of their
        total assets.  The Company’s investment in Crystal River Capital, at
        fair value, was $3.4 million.
  Investments
        in all types of real estate related mortgage-backed securities did not perform
        well in the third quarter of 2007 as a result of the reduced market
        liquidity.  While interest on bonds and dividends on REITs continue to
        be paid, the market has demanded a higher risk premium and that has adversely
        affected the current market value of these types of investments.
  As
        previously noted the unrealized loss on HCS Fund and REITs was $10.4 million
        and
        accounted for 41.7% of the unrealized loss as of September 30,
        2007.  Subsequent to September 30, 2007, HCS Fund and the
        publicly traded REITs have continued to experience reductions in market
        prices.  As part of its impairment testing the Company considered all
        relevant factors including the magnitude of the unrealized loss and compared
        it
        to the short length of time the securities have been held and have had an
        unrealized loss.  The Company also considered the lack of specific
        credit issues related to these securities and that it is continuing to receive
        dividends.  These factors combined with the Company’s intent and
        ability to hold these investments to allow for the market price to recover
        to
        the Company’s original cost, leads to the conclusion that any impairment in the
        value of these securities should not be considered to be other-than-temporarily
        impaired at the current time.
  The
          Company recorded unrealized losses in its investments in mortgage-backed
          and
          asset-backed fixed maturity securities.   These investments
          include directly held subprime mortgage assets of $11.9 million, at
          fair
  11




value,
      which are also discussed in more detail below.  The Company evaluated
      all 134 mortgage-backed and asset-backed fixed maturity security investments
      that were in an unrealized loss position as of September 30, 2007 noting that
      47
      of these securities had been in an unrealized loss position for more than 12
      months. The total unrealized loss on these 47 investments at September 30,
      2007
      was $2.8 million. The Company evaluated the severity of the impairment in
      relation to the carrying amount for 115 of the 134 securities referred to above
      and found it to be between 0.01% and 14.5%. The corresponding unrealized loss
      was $4.9 million which accounted for 19.8% of the unrealized
      loss.  The 19 remaining investments were impaired between 15.3% and
      29.9% of their carrying value. The corresponding unrealized loss on these 19
      investments was $4.2 million and accounted for 16.9% of the unrealized loss
      as
      of September 30, 2007.  The Company considered all relevant factors,
      including a review of the subprime exposure and particularly the length of
      time
      the fair value has been below cost in assessing whether the loss was
      other-than-temporary.  The Company also considered its ability and
      intent to hold these investments until there is a recovery of fair value to
      the
      Company’s original cost basis which may be maturity.  As a result, the
      Company does not consider these investments to be other-than-temporarily
      impaired.


The
        Company’s total investment in subprime mortgages is $11.9 million and consists
        of highly rated securities of which 100% are investment grade, with an average
        rating of “AA-” and duration of approximately 2.61 years. The following table
        identifies the fair value, vintage year and corresponding rating of our subprime
        mortgage-backed securities, as of September 30, 2007:
  **Vintage
                    Year ($ in thousands)****2003
                    & prior**
                
                
                **2004**
                
                
                **2005**
                
                
                **Total**
                
                
                **%
                    of Total**AA
                
                
                552
                
                
                
                3,414
                
                
                
                1,574
                
                
                
                5,540
                
                
                
                46.7
                %A
                
                
                -
                
                
                
                4,266
                
                
                
                1,807
                
                
                
                6,073
                
                
                
                51.3
                %BBB
                
                
                240
                
                
                
                -
                
                
                
                -
                
                
                
                240
                
                
                
                2.0
                %Total
                
                $
                792
                
                
                $
                7,681
                
                
                $
                3,381
                
                
                $
                11,853
                
                
                
                100.0
                %%
                    of
                    Total
                
                
                6.7
                %
                
                
                64.8
                %
                
                
                28.5
                %
                
                
                100.0
                %
  **Intangible
        Assets**
  Intangible
        assets consist of finite and indefinite life assets.  Finite life
        intangible assets include both renewal rights and the agency force book of
        business.  Insurance company licenses are considered indefinite life
        intangible assets subject to annual impairment testing.  The weighted
        average amortization period of identified intangible assets of finite useful
        life is 17.9 years.
  With
        the acquisition of Preserver on April 10, 2007, the Company recognized $17.3
        million of identifiable intangible assets including Preserver’s renewal rights
        of $1.9 million, its agency force book of business of $10.2 million and
        insurance company licenses of $5.2 million.  The renewal rights and
        agency force book of business acquired are finite lived assets that will
        be
        amortized over ten and twenty years, respectively and are subject to annual
        impairment testing.  The insurance company licenses are included as
        indefinite lived intangibles subject to annual impairment testing.
  The
        components of intangible assets are summarized as follows ($ in
        thousands):
 
 **Accumulated**
              
              
              **Net**
                **Intangible****Balance**
              
              
              **Amortization**
              
              
              **Assets****September
                  30, 2007**Insurance
                  licenses
              
              $
              6,503
              
              
              $
              -
              
              
              $
              6,503Renewal
                  rights
              
              
              3,164
              
              
              
              (845
              )
              
              
              2,319Agency
                  force
              
              
              13,926
              
              
              
              (756
              )
              
              
              13,170Total
                  Intangible assets
              
              $
              23,593
              
              
              $
              (1,601
              )
              
              $
              21,992




12




**December
                  31, 2006**Insurance
                  licenses
              
              
              1,303
              
              
              _-
              
              
              
              1,303Renewal
                  rights
              
              
              1,250
              
              
              
              (505
              )
              
              
              745Agency
                  force
              
              
              3,750
              
              
              
              (375
              )
              
              
              3,375Total
                  Intangible assets
              
              $
              6,303
              
              
              $
              (880
              )
              
              $
              5,423
 
 **Goodwill**
  Goodwill
        is calculated as the excess of purchase price over the net fair value of
        assets
        acquired.  In acquiring Preserver, the Company entered into an
        agreement that provided for a base purchase price of approximately $68.3
        million, subject to certain purchase price adjustments.  The Agreement
        provided for using a portion of the proceeds to pay off certain debt owed
        to
        Preserver shareholders and to settle Preserver’s direct transaction
        costs.  The purchase price, net of Preserver’s direct transaction
        costs, was approximately $64.9 million plus approximately $1.3 million of
        transaction costs incurred by Tower.  Approximately $30.8 million of
        the purchase price was used to pay off certain debt owed to Preserver
        stockholders.
  The
        determination of goodwill as it relates to the Preserver acquisition is based
        upon the following ($ in thousands):
 
 **Purchase
                    Price**Base
                    purchase price paid
                
                $
                68,250Preserver
                    direct transaction costs, net of tax benefit
                
                
                (3,322
                )**Total
                    purchase price paid to Preserver**
                
                
                64,928Direct
                    transaction costs
                
                
                1,305**Total
                    purchase price**
                
                
                66,233**Allocation
                    of Purchase Price**Book
                    value of Preserver at 4/10/2007
                
                
                11,064Preserver
                    shareholder debt repayment
                
                
                30,754Estimated
                    fair value adjustments
                
                
                14,807**Estimated
                    fair value of assets acquired**
                
                
                56,625**Goodwill
                    as of September 30, 2007**
                
                $
                9,608
 
 The
        purchase price was allocated to balance sheet assets acquired (including
        identifiable intangible assets arising from the acquisition) and liabilities
        assumed based on their estimated fair value.
  Goodwill
        at September 30, 2007 and December 31, 2006 was $9.6 million and $0,
        respectively.  The Company performs an annual impairment analysis to
        identify potential goodwill impairment and measures the amount of a goodwill
        impairment loss to be recognized (if any).  This annual test is
        performed at December 31 of each year or more frequently if events or
        circumstances change in a way that requires the Company to perform the
        impairment analysis on an interim basis.  Goodwill impairment testing
        requires an evaluation of the estimated fair value of each reporting unit
        to its
        carrying value, including the goodwill.  An impairment charge is
        recorded if the estimated fair value is less than the carrying amount of
        the
        reporting unit.
 
 **Dividends
        Declared**
  Dividends
        declared by the Company on common stock for the three and nine months ended
        September 30, 2007 were $1,149,430 and $2,293,501, or $0.05 and $0.10 per
        share,
        respectively.  Dividends declared by the Company on common stock for
        the three months and nine months ended September 30, 2006 were $494,503 and
        $1,481,152 or $0.025 and $0.075 per share, respectively.
  Dividends
        paid by the Company on its perpetual preferred Series A-1 stock for the three
        months and nine months ended September 30, 2007 were $0 and $298,289 and
        none in
        the three months and nine months ended September 30, 2006.
 13


**Equity
        Compensation Plans**
  ***Restricted
        Stock Awards***


During
        the three and nine months ended September 30, 2007, 932 and 90,060 restricted
        stock shares were granted to senior officers, directors and key
        employees.  The fair value of the awards was $30,000 and $2.9 million,
        respectively, on the grant date.  For the three and nine months ended
        September 30, 2007, 19,150 and 68,406 restricted stock shares, respectively,
        vested, and 162 and 6,226 shares, respectively, were
        forfeited.  Compensation expense related to restricted stock awards
        recognized for the three months ended September 30, 2007 and 2006 was $279,000
        and $170,000 net of tax, respectively.  Compensation expense
        recognized for the nine months ended September 30, 2007 and 2006 was $771,000
        and $393,000 net of tax, respectively.  Total unrecognized
        compensation expense, before tax, for grants of restricted stock was $4.2
        million and $2.6 million at September 30, 2007 and December 31, 2006,
        respectively.  The intrinsic value of the unvested restricted stock
        outstanding as of September 30, 2007 is $5.0 million.
 
 Changes
        in restricted stock for the nine months ended September 30, 2007 were as
        follows:
 
 **Weighted****Average****Number
                  of**
              
              
              **Grant
                  Date****Shares**
              
              
              **Fair
                  Value**Outstanding
                  at December 31, 2006
              
              
              180,766
              
              
              $
              17.35Granted
              
              
              90,060
              
              
              $
              32.42Vested
              
              
              (68,406
              )
              
              $
              15.03Forfeited
              
              
              (6,226
              )
              
              $
              24.00Outstanding
                  at September 30, 2007
              
              
              196,194
              
              
              $
              24.87
 
 ***Stock
        Options***
  Compensation
        expense net of tax related to stock options was $12,000 and $68,000 for the
        three and nine months ended September 30, 2007 compared to $14,000 and $49,000,
        respectively, in the same periods last year.  Total unrecognized
        expense net of tax for grants of stock options was $99,000 and $155,000 as
        of
        September 30, 2007 and December 31, 2006, respectively.  The intrinsic
        value of stock options outstanding as of September 30, 2007 is $5.8 million,
        of
        which $5.0 million is related to vested options.
 
 Changes
        in stock options for the nine months ended September 30, 2007 were as
        follows:
 
 **Average****Number
                  of**
              
              
              **Exercise****Shares**
              
              
              **Price**Outstanding
                  at December 31, 2006
              
              
              362,996
              
              
              $
              4.94Exercised
              
              
              (74,700
              )
              
              $
              2.78Outstanding
                  at September 30, 2007
              
              
              288,296
              
              
              $
              5.50Exercisable
                  at September 30, 2007
              
              
              239,696
              
              
              $
              4.90
 
 Options
        outstanding and exercisable as of September 30, 2007 were as
        follows:
 
 **Options
                  Outstanding****Average**
              
              
              
              
              
              **Options
                  Exercisable****Remaining**
              
              
              **Average**
              
              
              
              
              
              **Average****Number
                  of**
              
              
              **Contractual**
              
              
              **Exercise**
              
              
              **Number
                  of**
              
              
              **Exercise****Range
                  of Exercise Prices**
              
              
              **Shares**
              
              
              **Life**
              
              
              **Price**
              
              
              **Shares**
              
              
              **Price**Under
                  $4.00
              
              
              
              150,980
              
              
              
              3.3
              
              
              $
              2.78
              
              
              
              150,980
              
              
              $
              2.78$5.00
                - $10.00
              
              
              
              137,316
              
              
              
              7.0
              
              
              $
              8.50
              
              
              
              88,716
              
              
              $
              8.50Total
                  options
              
              
              
              288,296
              
              
              
              5.0
              
              
              $
              5.50
              
              
              
              239,696
              
              
              $
              4.90
  **Income
        Taxes**
  The
        Company adopted the provisions of FASB Interpretation No. 48, *“Accounting
        for Uncertainty in Income Taxes, an interpretation of FASB Statement No.
        109”* (“FIN 48”), on January 1, 2007.  As of September 30,
        2007,




14




the
      Company had no material unrecognized tax benefit and no adjustments to
      liabilities or operations were required.


The
        Company recognizes interest and penalties related to uncertain tax positions
        in
        income tax expense.  Such interest and penalties were zero for the
        three and nine months ended September 30, 2007.
  Tax
        years 2003 through 2006 are subject to examination by the federal
        authorities.  There is currently a New York State Department of
        Taxation and Finance audit under way for the tax years of 2003 through 2004,
        but
        the Company does not anticipate any material adjustments.
  **Accounting
        Pronouncements**
  In
        February 2006, the FASB issued Statement of Financial Accounting Standards
        (“SFAS”) No. 155, *“Accounting for Certain Hybrid Financial
        Instruments.”*  Under the current GAAP, an entity that holds a
        financial instrument with an embedded derivative must bifurcate the financial
        instrument, resulting in the host and the embedded derivative being accounted
        for separately.  SFAS No. 155 permits, but does not require, entities
        to account for financial instruments with an embedded derivative at fair
        value,
        thus negating the need to bifurcate the instrument between its host and the
        embedded derivative.  The Company adopted SFAS No. 155 on January 1,
        2007.  The adoption of SFAS No. 155 did not have any effect on its
        consolidated financial condition or results of operations.
  In
        September 2006, the FASB issued SFAS No. 157, *“Fair Value
        Measurements,”*  SFAS 157 defines fair value, establishes a
        framework for measuring fair value and expands disclosure about fair value
        measurements. It applies to other pronouncements that require or permit fair
        value but does not require any new fair value measurements. The statement
        defines fair value as “the price that would be received to sell an asset or paid
        to transfer a liability in an orderly transaction between market participants
        at
        the measurement date.”  SFAS 157 establishes a fair value hierarchy to
        increase consistency and comparability in fair value measurements and
        disclosures. The hierarchy is based on the inputs used in valuation and gives
        the highest priority to quoted prices in active markets. The highest possible
        level should be used to measure fair value.  SFAS 157 is effective for
        fiscal years beginning after November 15, 2007. The Company does not expect
        the
        provisions of SFAS 157 to have a material effect on its consolidated financial
        condition or results of operations.
   In
        February 2007, the FASB issued SFAS No. 159, “*The Fair Value Option for
        Financial Assets and Financial Liabilities - Including an Amendment of SFAS
        No.
        115.”*  This standard permits an entity to choose to measure many
        financial instruments and certain other items at fair value.  Most of
        the provisions in SFAS No. 159 are elective; however, the amendment to SFAS
        No.
        115 applies to all entities with available-for-sale and trading
        securities.  The FASB’s stated objective in issuing this standard is
        as follows:  “to improve financial reporting by providing entities
        with the opportunity to mitigate volatility in reported earnings caused by
        measuring related assets and liabilities differently without having to apply
        complex hedge accounting provisions.”  The fair value option
        established by SFAS No. 159 permits all entities to choose to measure eligible
        items at fair value at specified election dates.  A business entity
        will report unrealized gains and losses on items for which the fair value
        option
        has been elected in earnings at each subsequent reporting date.  The
        fair value option:  (a) may be applied instrument by instrument, with
        a few exceptions, such as investments otherwise accounted for by the equity
        method; (b) is irrevocable (unless a new election date occurs); and (c) is
        applied only to entire instruments and not to portions of
        instruments.  SFAS No. 159 is effective as of the beginning of the
        entity’s first fiscal year that begins after November 15, 2007.  The
        Company is currently evaluating the impact that the adoption of SFAS No.
        159
        will have on its consolidated financial condition or results of
        operations.
  In
        June 2007, the FASB issued Emerging Issues Task Force No. 06-11 (“EITF Issue No.
        06-11”), *“Accounting for Income Tax Benefits of Dividends on Share-Based
        Payment Awards.”*  EITF Issue No. 06-11 requires that the tax
        benefit related to dividend equivalents paid on restricted stock, which are
        expected to vest, be recorded as an increase to additional paid-in
        capital.  The Company currently accounts for this tax benefit as a
        reduction to income tax expense.  EITF Issue No. 06-11 is to be
        applied prospectively for tax benefits on dividends declared in fiscal years
        beginning after December 15, 2007, and the Company expects to adopt the
        provisions of EITF Issue No. 06-11 beginning in the first quarter of
        2008.  EITF Issue No. 06-11 is not expected to have a material impact
        on the Company’s consolidated financial condition or results of
        operations.


15




**Earnings
        Per Share**
  The
        following table shows the computation of the Company’s earnings per
        share:
  **Income**
                
                
                **Shares**
                
                
                **Per
                    Share****(Numerator)**
                
                
                **(Denominator)**
                
                
                **Amount**($
                    in thousands, except share and per share amounts)**Three
                    Months Ended September 30, 2007**Net
                    Income
                
                $
                14,384Basic
                    earnings per share
                
                $
                14,384
                
                
                
                22,983,325
                
                
                $
                0.63Effect
                    of dilutive securities:Stock
                    options
                
                
                -
                
                
                
                149,331Unvested
                    restricted stock
                
                
                -
                
                
                
                31,490Warrants
                
                
                -
                
                
                
                24,885Diluted
                    earnings per share
                
                $
                14,384
                
                
                
                23,189,031
                
                
                $
                0.62**Three
                    Months Ended September 30, 2006**Net
                    Income
                
                $
                8,456Basic
                    earnings per share
                
                $
                8,456
                
                
                
                19,776,188
                
                
                $
                0.43Effect
                    of dilutive securities:Stock
                    options
                
                
                -
                
                
                
                195,798Unvested
                    restricted stock
                
                
                -
                
                
                
                69,286Warrants
                
                
                -
                
                
                
                32,786Diluted
                    earnings per share
                
                $
                8,456
                
                
                
                20,074,058
                
                
                $
                0.42**Nine
                    months Ended September 30, 2007**Net
                    Income
                
                $
                38,391Less:
                    Preferred stock dividends
                
                
                (298
                )Preferred
                    stock excess consideration
                
                
                (400
                )Basic
                    earnings per share
                
                $
                37,693
                
                
                
                22,622,672
                
                
                $
                1.67Effect
                    of dilutive securities:Stock
                    options
                
                
                -
                
                
                
                178,445Unvested
                    restricted stock
                
                
                -
                
                
                
                54,195Warrants
                
                
                -
                
                
                
                29,689Diluted
                    earnings per share
                
                $
                37,693
                
                
                
                22,885,001
                
                
                $
                1.65**Nine
                    months Ended September 30, 2006**Net
                    Income
                
                $
                27,251Basic
                    earnings per share
                
                $
                27,251
                
                
                
                19,734,365
                
                
                $
                1.38Effect
                    of dilutive securities:Stock
                    options
                
                
                -
                
                
                
                204,087Unvested
                    restricted stock
                
                
                -
                
                
                
                62,799Warrants
                
                
                -
                
                
                
                31,005Diluted
                    earnings per share
                
                $
                27,251
                
                
                
                20,032,256
                
                
                $
                1.36
  **Changes
        in Estimates**
  TICNY
        and TNIC recorded favorable development in their net loss reserves from prior
        accident years of $405,000 and $433,000 in the three and nine months ended
        September 30, 2007, respectively, compared to $616,000 and $1,298,000 of
        favorable development in the three and nine months ended September 30, 2006,
        respectively.  Preserver’s insurance companies recorded favorable
        development in their net loss reserves from the prior accident years of $114,000
        and $118,000 in the three and nine months ended September 30, 2007.
  TICNY
        and TNIC changes in estimated sliding scale ceding commission resulted in
        a
        decrease in ceding commission revenue of $126,000 and $123,000 in the three
        and
        nine months ended September 30, 2007, respectively, as compared to an increase
        in ceding commission revenue of $245,000 and $1,046,000 in the third quarter
        and
        nine months ended September 30, 2006, respectively.
  TRM’s
        changes in estimated sliding scale commission was an increase in direct
        commission revenue of $465,000 and $1,486,000 in the three and nine months
        ended
        September 30, 2007, compared to an increase in direct commission revenue
        of
        $393,000 and $180,000 in the three and nine months ended September 30, 2006,
        respectively.
  16




**Segment
        Information**
  The
        Company manages its operations through three business segments: insurance
        (commercial and personal lines underwriting), reinsurance and insurance services
        (managing general agency, claims administration and reinsurance intermediary
        operations).  The Company considers many factors in determining
        reportable segments including economic characteristics, production sources,
        products or services offered and regulatory environment.
  The
        accounting policies of the segments are the same as those described in the
        summary of significant accounting policies in the Company’s Annual Report on
        Form 10-K for the year ended December 31, 2006.  The Company evaluates
        segment performance based on segment profit, which excludes investment income,
        realized gains and losses, interest expense, income taxes and incidental
        corporate expenses.  The Company does not allocate assets to segments
        because assets, which consist primarily of investments and fixed assets,
        are
        considered in total by management for decision-making purposes.
  The
        Company included Preserver’s insurance operations in its insurance segment for
        the three and nine months ended September 30, 2007.  Business segments
        results are as follows:
  **Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006****Insurance
                  Segment Information**
              
              ($
                  in thousands)*Revenues*Net
                  premiums earned
              
              $
              72,279
              
              
              $
              49,796
              
              
              $
              202,414
              
              
              $
              152,356Ceding
                  commission revenue
              
              
              19,599
              
              
              
              13,171
              
              
              
              50,867
              
              
              
              30,550Policy
                  billing fees
              
              
              599
              
              
              
              286
              
              
              
              1,444
              
              
              
              825Total
                  revenues
              
              
              92,477
              
              
              
              63,253
              
              
              
              254,725
              
              
              
              183,731*Expenses*Net
                  loss and loss adjustment expenses
              
              
              39,721
              
              
              
              28,853
              
              
              
              112,406
              
              
              
              89,895Underwriting
                  expenses
              
              
              40,758
              
              
              
              25,688
              
              
              
              111,169
              
              
              
              73,263Total
                  expenses
              
              
              80,479
              
              
              
              54,541
              
              
              
              223,575
              
              
              
              163,158Underwriting
                  profit
              
              $
              11,998
              
              
              $
              8,712
              
              
              $
              31,150
              
              
              $
              20,573
 
 
 **Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006****Reinsurance
                  Segment**
              
              ($
                  in thousands)*Revenues*Net
                  premiums earned
              
              $
              845
              
              
              $
              2,569
              
              
              $
              5,128
              
              
              $
              16,552Ceding
                  commission revenue
              
              
              2
              
              
              
              -
              
              
              
              -
              
              
              
              -Total
                  revenues
              
              
              847
              
              
              
              2,569
              
              
              
              5,128
              
              
              
              16,552*Expenses*Net
                  loss and loss adjustment expenses
              
              
              286
              
              
              
              1,538
              
              
              
              2,122
              
              
              
              15,131Underwriting
                  expenses
              
              
              407
              
              
              
              1,235
              
              
              
              2,505
              
              
              
              2,354Total
                  expenses
              
              
              693
              
              
              
              2,773
              
              
              
              4,627
              
              
              
              17,485Underwriting
                  profit (loss)
              
              $
              154
              
              
              $
              (204
              )
              
              $
              501
              
              
              $
              (933
              )
 
 **Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006****Insurance
                  Services Segment**
              
              ($
                  in thousands)*Revenue*Direct
                  commission revenue from managing general agency
              
              $
              8,028
              
              
              $
              380
              
              
              $
              9,088
              
              
              $
              2,291Claims
                  administration revenue
              
              
              524
              
              
              
              688
              
              
              
              1,624
              
              
              
              2,572Other
                  Administration Revenue
              
              
              326
              
              
              
              -
              
              
              
              924
              
              
              
              -Reinsurance
                  intermediary fees
              
              
              254
              
              
              
              176
              
              
              
              595
              
              
              
              411




17




Policy
                  billing fees
              
              
              5
              
              
              
              -
              
              
              
              5
              
              
              
              5Total
                  revenues
              
              
              9,137
              
              
              
              1,244
              
              
              
              12,236
              
              
              
              5,279ExpensesDirect
                  commissions expense paid to producers
              
              
              3,808
              
              
              
              211
              
              
              
              3,959
              
              
              
              1,545Other
                  insurance services expenses
              
              
              1,687
              
              
              
              193
              
              
              
              2,302
              
              
              
              735Claims
                  expense reimbursement to TICNY
              
              
              520
              
              
              
              687
              
              
              
              1,618
              
              
              
              2,556Total
                  expenses
              
              
              6,015
              
              
              
              1,091
              
              
              
              7,879
              
              
              
              4,836Insurance
                  services pretax income
              
              $
              3,122
              
              
              $
              153
              
              
              $
              4,357
              
              
              $
              443
 
 Underwriting
        expenses in the insurance segment are net of expense reimbursements that
        are
        made by the insurance services segment pursuant to an expense sharing agreement
        between TRM, TNIC and TICNY.  In accordance with terms of this
        agreement, TRM reimburses TICNY for a portion of TICNY's underwriting and
        other
        expenses resulting from TRM's use of TICNY's personnel, facilities and equipment
        in underwriting insurance on behalf of TRM's issuing companies.  The
        reimbursement for underwriting and other expenses is calculated as a minimum
        reimbursement of 5% of the premiums produced by TRM and is adjustable according
        to the terms of the agreement based on the number of policies in-force and
        additional expenses that may be incurred by TRM.  The amount of this
        reimbursement was $1.7 million and $2.3 million for the three and nine months
        ended September 30, 2007, respectively, and $0.2 million and $0.7 million
        for
        the three and nine months ended September 30, 2006, respectively.  TRM
        also reimburses TICNY, at cost, for claims administration expenses pursuant
        to
        the terms of this expense sharing agreement.  Claims expenses
        reimbursed by TRM were $0.5 million and $1.6 million for the three and nine
        months ended September 30, 2007, respectively, and $0.7 million and $2.6
        million
        for the three and nine months ended September 30, 2006,
        respectively.  TICNY is also reimbursed, at cost, for other
        administrative services provided to CastlePoint pursuant to the terms of
        the
        service and expense sharing agreement.  These reimbursements were $0.3
        million and $0.9 million during the three and nine months ended September
        30,
        2007, respectively.
  The
        following table reconciles revenue by segment to consolidated
        revenues:
  **Three
                    Months Ended**
                
                
                **Nine
                    Months Ended****September
                    30,**
                
                
                **September
                    30,****2007**
                
                
                **2006**
                
                
                **2007**
                
                
                **2006**($
                    in thousands)Insurance
                    segment
                
                $
                92,477
                
                
                $
                63,253
                
                
                $
                254,725
                
                
                $
                183,731Reinsurance
                    segment
                
                
                847
                
                
                
                2,569
                
                
                
                5,128
                
                
                
                16,552Insurance
                    services segment
                
                
                9,137
                
                
                
                1,244
                
                
                
                12,236
                
                
                
                5,279Total
                    segment revenues
                
                
                102,461
                
                
                
                67,066
                
                
                
                272,089
                
                
                
                205,562Investment
                    income
                
                
                9,615
                
                
                
                5,923
                
                
                
                27,016
                
                
                
                15,875Realized
                    capital gains (losses)
                
                
                (62
                )
                
                
                32
                
                
                
                10
                
                
                
                (84
                )Consolidated
                    revenues
                
                $
                112,014
                
                
                $
                73,021
                
                
                $
                299,115
                
                
                $
                221,353
  18


The
      following table reconciles the results of the Company’s individual segments to
      consolidated income before taxes:




**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**($
                  in thousands)Insurance
                  segment underwriting profit
              
              $
              11,998
              
              
              $
              8,712
              
              
              $
              31,150
              
              
              $
              20,573Reinsurance
                  segment underwriting profit (loss)
              
              
              154
              
              
              
              (204
              )
              
              
              501
              
              
              
              (933
              )Total
                  underwriting profit (loss)
              
              
              12,152
              
              
              
              8,508
              
              
              
              31,651
              
              
              
              19,640Insurance
                  services segment pretax income
              
              
              3,122
              
              
              
              153
              
              
              
              4,357
              
              
              
              443Net
                  investment income
              
              
              9,615
              
              
              
              5,923
              
              
              
              27,016
              
              
              
              15,875Net
                  realized investment gain (loss)
              
              
              (62
              )
              
              
              32
              
              
              
              10
              
              
              
              (84
              )Corporate
                  expenses
              
              
              (553
              )
              
              
              (423
              )
              
              
              (1,144
              )
              
              
              (1,919
              )Interest
                  expense
              
              
              (2,313
              )
              
              
              (1,863
              )
              
              
              (6,843
              )
              
              
              (5,066
              )Other
                  Income *
              
              
              746
              
              
              
              418
              
              
              
              4,874
              
              
              
              12,852Income
                  before taxes
              
              $
              22,707
              
              
              $
              12,748
              
              
              $
              59,921
              
              
              $
              41,741**
                See note on investment in unconsolidated
                affiliate-CastlePoint*




**Subsequent
        Events**


On
            October 24, 2007, the Company’s Board of Directors approved a quarterly dividend
            of $0.05 per share payable December 27, 2007 to stockholders of record
            as of
            December 14, 2007.
  19
 
 **Item
                      2.  Management’s Discussion and Analysis of
                      Financial Condition and Results of
                      Operations**
  **Note
            on Forward-Looking Statements**
  Some
            of the statements under “Management’s Discussion and Analysis of Financial
            Condition and Results of Operations” and elsewhere in this Quarterly Report on
            Form 10-Q may include forward-looking statements that reflect our current
            views
            with respect to future events and financial performance.  These
            statements include forward-looking statements both with respect to us
            specifically and the insurance sector in general.  Statements that
            include the words “expect,” “intend,” “plan,” “believe,” “project,” “estimate,”
“may,” “should,” “anticipate,” “will” and similar statements of a future or
            forward-looking nature identify forward-looking statements for purposes
            of the
            Federal securities laws or otherwise.
  All
            forward-looking statements address matters that involve risks and
            uncertainties.  Accordingly, there are or will be important factors
            that could cause our actual results to differ materially from those indicated
            in
            these statements.  We believe that these factors include, but are not
            limited to, the following:
  ·
                  ineffectiveness
                      or obsolescence of our business strategy due to changes in
                      current or
                      future market conditions;
 ·
                  developments
                      that may delay or limit our ability to enter new markets as
                      quickly as we
                      anticipate;
 ·
                  increased
                      competition on the basis of pricing, capacity, coverage terms
                      or other
                      factors;
 ·
                  greater
                      frequency or severity of claims and loss activity, including
                      as a result
                      of natural or man-made catastrophic events, than our underwriting,
                      reserving or investment practices anticipate based on historical
                      experience or industry data;
 ·
                  the
                      effects of acts of terrorism or
                      war;
 ·
                  developments
                      in the world’s financial and capital markets that adversely affect the
                      performance of our investments;
 ·
                  changes
                      in regulations or laws applicable to us, our subsidiaries,
                      brokers or
                      customers;
 ·
                  acceptance
                      of our products and services, including new products and
                      services;
 ·
                  changes
                      in the availability, cost or quality of reinsurance and failure
                      of our
                      reinsurers to pay claims timely or at
                      all;
 ·
                  changes
                      in the percentage of our premiums written that we cede to
                      reinsurers;
 ·
                  decreased
                      demand for our insurance or reinsurance
                      products;
 ·
                  loss
                      of the services of any of our executive officers or other key
                      personnel;
 ·
                  the
                      effects of mergers, acquisitions and
                      divestitures;
 ·
                  changes
                      in rating agency policies or
                      practices;
 ·
                  changes
                      in legal theories of liability under our insurance
                      policies;
 ·
                  changes
                      in accounting policies or practices;
                      and
 ·
                  changes
                      in general economic conditions, including inflation, interest
                      rates and
                      other factors.
  The
              foregoing review of important factors should not be construed as exhaustive
              and
              should be read in conjunction with the other cautionary statements
              that are
              included in this Quarterly Report on Form 10-Q.  We undertake no
              obligation to publicly update or review any forward-looking statement,
              whether
              as a result of new information, future developments or otherwise.
  20
 **Consolidated
              Results of Operations**
  **Three
                          Months Ended**
                      
                      
                      **Nine
                          Months Ended****September
                          30,**
                      
                      
                      **September
                          30,****2007**
                      
                      
                      **2006**
                      
                      
                      **2007**
                      
                      
                      **2006****Revenues**
                      
                      ($
                          in thousands)*Premiums
                          earned*Gross
                          premiums earned
                      
                      $
                      138,752
                      
                      
                      $
                      92,528
                      
                      
                      $
                      378,000
                      
                      
                      $
                      264,711Less:
                          Ceded premiums earned
                      
                      
                      (65,628
                      )
                      
                      
                      (40,162
                      )
                      
                      
                      (170,458
                      )
                      
                      
                      (95,803
                      )Net
                          premiums earned
                      
                      
                      73,124
                      
                      
                      
                      52,366
                      
                      
                      
                      207,542
                      
                      
                      
                      168,908Total
                          commission and fee income
                      
                      
                      29,337
                      
                      
                      
                      14,700
                      
                      
                      
                      64,547
                      
                      
                      
                      36,654Net
                          investment income
                      
                      
                      9,615
                      
                      
                      
                      5,923
                      
                      
                      
                      27,016
                      
                      
                      
                      15,875Net
                          realized investment (losses) gains
                      
                      
                      (62
                      )
                      
                      
                      32
                      
                      
                      
                      10
                      
                      
                      
                      (84
                      )Total
                      
                      
                      112,014
                      
                      
                      
                      73,021
                      
                      
                      
                      299,115
                      
                      
                      
                      221,353**Expenses**Net
                          loss and loss adjustment expenses
                      
                      
                      40,007
                      
                      
                      
                      30,392
                      
                      
                      
                      114,528
                      
                      
                      
                      105,026Operating
                          expenses
                      
                      
                      47,733
                      
                      
                      
                      28,436
                      
                      
                      
                      122,697
                      
                      
                      
                      82,372Interest
                          Expense
                      
                      
                      2,313
                      
                      
                      
                      1,863
                      
                      
                      
                      6,843
                      
                      
                      
                      5,066Total
                          Expenses
                      
                      
                      90,053
                      
                      
                      
                      60,691
                      
                      
                      
                      244,068
                      
                      
                      
                      192,464Equity
                          in income of unconsolidated affiliate
                      
                      
                      746
                      
                      
                      
                      418
                      
                      
                      
                      2,169
                      
                      
                      
                      364Gain
                          from issuance of common stock by unconsolidated affiliate
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      2,705
                      
                      
                      
                      7,883Warrant
                          received from unconsolidated affiliate
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      4,605**Income
                          before taxes**
                      
                      
                      22,707
                      
                      
                      
                      12,748
                      
                      
                      
                      59,921
                      
                      
                      
                      41,741Federal
                          and state income taxes
                      
                      
                      8,323
                      
                      
                      
                      4,292
                      
                      
                      
                      21,530
                      
                      
                      
                      14,490**Net
                          Income**
                      
                      $
                      14,384
                      
                      
                      $
                      8,456
                      
                      
                      $
                      38,391
                      
                      
                      $
                      27,251**Key
                          Measure**Return
                          on average equity
                      
                      
                      19.6
                      %
                      
                      
                      20.2
                      %
                      
                      
                      20.4
                      %
                      
                      
                      22.8
                      %
  ***Significant
              Events − Three and Nine Months Ended September 30,
              2007***
  On
              April 10, 2007 we acquired 100% of the issued and outstanding common
              stock of
              Preserver pursuant to the stock purchase agreement, dated November
              13, 2006, by
              and among the Company, Preserver and the Sellers named therein (the
              “Agreement”).  The acquisition was accounted for using the purchase
              method in accordance with FASB SFAS No. 141, *Business Combinations*
              (“SFAS No. 141”).  The Company’s consolidated results for the three
              and nine month periods ended September 30, 2007 include the results
              of Preserver
              for the period April 11, 2007 to September 30, 2007.  Preserver’s
              contribution to net income during the three and nine months ending
              September 30,
              2007 was $1.6 million and $3.3 million, respectively.
   ***Consolidated
              Results of Operations Three Months Ended September 30, 2007 and
              2006***
  *Total
              revenues*.  Total revenues increased by 53.4% to $112.0 million
              for the three months ended September 30, 2007 compared to $73.0 million
              for the
              same period in 2006.  The total revenue increase is primarily due to
              the increase in earned premiums, total commission and fee income and
              net
              investment income.  The acquisition of Preserver added $18.8 million
              to total revenues in the third quarter of 2007.  Net premiums earned
              represented 65.3% of total revenues for the three months ended September
              30,
              2007 compared to 71.7% for the same period in 2006.  Net investment
              income, excluding realized capital gains and losses, represented 8.6%
              and 8.1%
              of total revenues for the three months ended September 30, 2007 and
              2006,
              respectively.  Total commission and fee income increased for the three
              months ended September 30, 2007 to $29.3 million, or 26.2% of total
              revenues,
              compared to $14.7 million, or 20.1% of total revenues, for the same
              period in
              2006.
  Total
              revenues were affected by changes in the amount of, and the means by
              which we
              transferred business to CastlePoint and the acquisition of
              Preserver.  We entered into three multi-year quota share reinsurance
              agreements with CastlePoint on April 6, 2006.  In order to achieve our
              targeted net retention consistent with our hybrid business model, we
              increased
              the quota share ceding percentage for the first six months of 2007
              to 49% in
              2007, compared to 30% for the first six months of 2006.  For the
              period April 1, 2007 through June 30, 2007, we ceded 40% of premiums
              and losses
              to CastlePoint Reinsurance and 9% to CPIC.  On July 1, 2007, the 9%
              quota share
 21




cession
      to CPIC was replaced by placing $23.4 million of brokerage business premium
      with
      CPIC through TRM.  The increase in the quota share ceding percentage
      and commission on premiums produced by TRM, as well as the acquisition of
      Preserver, contributed to the increase in commission and fee income in the
      three
      months ended September 30, 2007 as compared with the same period in
      2006.  Policies in-force, before the effect of the Preserver
      acquisition increased by 15.7% to 161,100 as of September 30, 2007 compared
      to
      September 30, 2006.  The growth in policies in-force includes the
      growth in premium produced by TRM, on behalf of CPIC, during the third quarter
      as previously discussed.  The placement of these policies with CPIC
      generates fee income for TRM, enhancing our net income and return on equity
      consistent with our hybrid business model.


*Premiums
        earned*.  Net premiums earned increased by 39.6% to $73.1 million
        for the three months ended September 30, 2007 compared to $52.4 million for
        the
        same period in 2006.  The increase in net premiums earned in the third
        quarter of 2007 was due to new business and the acquisition of Preserver,
        offset
        in part, by an increase in ceded premiums earned for the three months ended
        September 30, 2007 arising from the increased quota share ceding percentage
        in
        2007.  The acquisition of Preserver added $15.6 million in net
        premiums earned in the third quarter of 2007.  During the three months
        ended September 30, 2007, we ceded $52.5 million of our premiums earned to
        CastlePoint compared to $25.4 million in the three months ended September
        30,
        2006.
  *Commission
        and fee income*.  Total commission and fee income increased by
        99.6% to $29.3 million in the third quarter of 2007 compared to $14.7 million
        in
        the third quarter of 2006.  Ceding commission revenue earned increased
        as a result of the overall increase in ceded premiums earned as discussed
        above.  During May 2007 our managing general agency subsidiary, TRM,
        began producing business on behalf of CPIC.  In the third quarter of
        2007, TRM produced $23.4 million in premium on behalf of CPIC and earned
        $7.5
        million in fee income.  The acquisition of Preserver and its inclusion
        in the CastlePoint brokerage business quota share reinsurance agreement also
        added $1.8 million in commission and fee income in the third quarter of
        2007.  Commission and fee income includes other administrative revenue
        of $0.3 million from services provided to and reimbursed by
        CastlePoint.  For the three months ended September 30, 2007, the
        change in the estimated sliding scale commission rate for commissions earned
        in
        prior periods in both the Insurance Segment and the Insurance Services Segment
        resulted in a net increase of $0.3 million, compared to a net increase of
        $0.6
        million in the same period last year.
  *Net
        investment income and realized gains*.  Net investment income
        increased by 62.3% to $9.6 million for the three months ended September 30,
        2007
        compared to $5.9 million for the same period in 2006.  The majority of
        this increase resulted from an increase in invested assets to $642.5 million
        as
        of September 30, 2007 compared to $443.7 million as of September 30,
        2006.  Preserver added $1.4 million of net investment income in the
        third quarter of 2007.  Net cash flow provided by operations was $18.3
        million during the three months ended September 30, 2007 and contributed
        to the
        increase in invested assets.  The increase in invested assets in the
        third quarter of 2006 resulted from net cash flow provided by operations
        of
        $11.3 million.  On a tax equivalent basis the yield was 5.9% as of
        September 30, 2007 compared to 5.6% as of September 30, 2006.
  Net
        realized capital losses were $62,000 for the three months ended September
        30,
        2007 compared to net realized capital gains of $32,000 for the same period
        in
        2006.  There was no impact on net realized gains attributable to
        adjustments for other than temporary impairment of securities held during
        the
        three months ending September 30, 2007 or during the same period in
        2006.
  *Loss
        and loss adjustment expenses*.  Gross loss and loss adjustment
        expenses and the gross loss ratio for the Insurance and Reinsurance Segments
        combined for the three months ended September 30, 2007 were $69.9 million
        and
        50.4%, respectively, compared to $49.1 million and 53.1%, respectively, for
        the
        same period in 2006.  The net loss ratio for the combined segments was
        54.7% for the three months ended September 30, 2007, as compared to 58.0%
        in the
        same period of 2006.
  *Operating
        expenses*.  Operating expenses increased by 67.9% to $47.7 million
        for the three months ended September 30, 2007 from $28.4 million for the
        same
        period in 2006.  The increase was due primarily to the increase in
        underwriting expenses resulting from the growth in gross premiums
        earned.  The acquisition of Preserver added $7.9 million of operating
        expenses for the three months ended September 30, 2007.  Cost
        reductions were realized as part of the Preserver integration and Preserver’s
        gross expense ratio was reduced to 34.9% for the three months ended September
        30, 2007, compared to 35.7% for the three months ended June 30,
        2007.
  22




*Interest
        expense*.  Interest expense increased for the three months ended
        September 30, 2007 to $2.3 million compared to $1.9 million for the same
        period
        in 2006.  The increase resulted from $0.4 million of interest expense
        related to the $20.6 million of subordinated debentures issued on January
        25,
        2007 and $0.1 million related to the $12.3 million of outstanding junior
        subordinated notes of Preserver, partially offset by a decrease of $0.1 million
        in the amounts credited to reinsurers on funds withheld in segregated trusts
        as
        collateral for reinsurance recoverables due to the reduction in the
        corresponding reinsured losses.
  *Other
        income.*For the three months ended September 30, 2007 and 2006
        we recorded other income of $0.7 million and $0.4 million, respectively,
        representing our equity in CastlePoint’s net income for the respective
        periods.
  *Income
        tax expense*.  Our income tax expense was $8.3 million for the
        three months ended September 30, 2007 compared to $4.3 million for the same
        period in 2006.  The increase was due primarily to the increase in
        income before income taxes, as well as an increase in state and local income
        taxes for TRM, which is included in our insurance services
        segment.  As previously discussed, we significantly increased premiums
        produced on behalf of CPIC in our insurance services segment in the third
        quarter of 2007 resulting in higher commission income in that
        segment.  The effective income tax rate was 36.7% for the three months
        ending September 30, 2007 compared to 33.7% for the same period in
        2006.
  *Net
        income and return on average equity*.  Our net income and
        annualized return on average equity was $14.4 million and 19.6%, respectively,
        for the three months ended September 30, 2007 compared to $8.5 million and
        20.2%, respectively, for the same period in 2006.  For the third
        quarter of 2007, the return was calculated by dividing annualized net income
        of
        $57.5 million by an average stockholders’ equity of $294.3
        million.  For the third quarter of 2006, the return was calculated by
        dividing annualized net income of $33.8 million by an average stockholders’
equity of $167.2 million.
  ***Consolidated
        Results of Operations Nine Months Ended September 30, 2007 and
        2006***
  *Total
        revenues*.  Total revenues increased by 35.1% to $299.1 million
        for the nine months ended September 30, 2007 compared to $221.4 million for
        the
        same period in 2006.  The increase is primarily due to the increase in
        earned premiums, total commission and fee income and net investment income,
        excluding net realized investment gains and losses.  The acquisition
        of Preserver added $37.4 million to total revenues in the nine months ended
        September 30, 2007.  Net premiums earned represented 69.4% of total
        revenues for the nine months ended September 30, 2007 compared to 76.3% for
        the
        same period in 2006.  Net investment income, excluding realized
        capital losses, represented 9.0% and 7.2% of total revenues for the nine
        months
        ended September 30, 2007 and September 30, 2006, respectively.  Total
        commission and fee income increased to $64.5 million, or 21.6% of total
        revenues, for the nine months ended September 30, 2007 compared to $36.7
        million, or 16.6% of total revenues, for the same period in 2006.  We
        did not place quota share reinsurance for policies written during the first
        quarter of 2006 in expectation that CastlePoint Reinsurance, post formation,
        would agree to enter into a multi-year quota share reinsurance agreement
        with
        us.  We entered into three multi-year quota share reinsurance
        agreements with CastlePoint Reinsurance on April 6, 2006.  In order to
        achieve our targeted net retention consistent with our hybrid business model,
        we
        increased the quota share ceding percentage on policies written during the
        first
        three months of 2007 to CastlePoint Reinsurance to 49.0% compared to 30%
        for the
        six months of 2006.  For the period April 1, 2007 through June 30,
        2007 we ceded 40% of our premiums and losses to CastlePoint Reinsurance and
        9%
        to CPIC.  On July 1, 2007, the 9% quota share ceded to CPIC was
        replaced by placing $23.9 million of brokerage business premiums with CPIC
        through TRM.  The increase in both the quota share ceding percentage
        and commission on premiums produced by TRM contributed to the increase in
        commission and fee income in the first nine months of 2007.
  *Premiums
        earned*.  Net premiums earned increased by 22.9% to $207.5 million
        for the nine months ended September 30, 2007 compared to $168.9 million for
        the
        same period in 2006.  The increase in net premiums earned was due to
        the 24.3% increase in gross premiums written for the nine months ended September
        30, 2007 compared to the same period last year, offset in part, by a 77.9%
        increase in ceded premiums earned for the nine months ended September 30,
        2007
        compared to the same period last year.  The acquisition of Preserver
        added $32.2 million in net premiums earned in the nine months ended September
        30, 2007.  Also, in 2006 we executed novation agreements with PXRE,
        which added $11.4 million of net premiums earned in the second
        quarter.




23




During
      the nine months ended September 30, 2007 we ceded $135.4 million of our premiums
      earned to CastlePoint, compared to $45.8 million in 2006.


*Commission
        and fee income*.  Total commission and fee income increased by
        76.1% to $64.5 million in the nine months ended September 30, 2007 compared
        to
        $36.7 million in the same period of 2006.  Ceding commission revenue
        earned increased as a result of the overall increase in ceded premiums earned
        as
        discussed above.  During May 2007 our managing general agency
        subsidiary, TRM, began producing business on behalf of CPIC.  During
        the nine months ended September 30, 2007, TRM produced $23.9 million in premium
        on behalf of CPIC and earned $7.7 million in fee income.  Preserver’s
        inclusion in the CastlePoint quota share agreement added $2.6 million in
        commission and fee income for the nine months ended September 30,
        2007.  In addition, commission and fee income includes other
        administration revenue of $0.9 million from services provided to and reimbursed
        by CastlePoint.  For the nine months ended September 30, 2007 the
        change in estimated sliding scale commission rate for commissions earned
        in
        prior periods in both the Insurance Segment and the Insurance Services Segment
        resulted in a net increase of $1.4 million compared to a net increase $1.2
        million in the same period last year.
  *Net
        investment income and realized gains*.  Net investment income
        increased by 70.2% to $27.0 million for the nine months ended September 30,
        2007
        compared to $15.9 million for the same period in 2006.  The increase
        in net investment income resulted from an increase in invested assets to
        $642.5
        million as of September 30, 2007 compared to $443.7 million as of September
        30,
        2006.  Net cash flows provided by operations of $48.2 million
        contributed to the increase in invested assets during the nine months ended
        September 30, 2007. The increase in invested assets was also due to cash
        flow
        provided by financing activities of $68.7 million as a result of our net
        proceeds from the issuance of subordinated debentures on January 25, 2007,
        an
        equity offering on January 26, 2007 and the exercise of the underwriters’
over-allotment option on February 5, 2007, partially offset by the funds
        used to
        redeem our preferred stock.  Preserver added $2.5 million of net
        investment income for the nine months ended September 30, 2007.  The
        net cash flow used in investing activities was $181.5 million for the nine
        months ended September 30, 2007 and includes $66.2 million for the purchase
        of
        Preserver.  On a tax equivalent basis, the yield was 5.9% as of
        September 30, 2007 and 5.6% as of September 30, 2006.
  Net
        realized capital gains were $10,000 in the nine months ended September 30,
        2007
        compared to net realized capital losses of $84,000 for the same period in
        2006.  There was no impact on net realized gains attributable to
        adjustments for other than temporary impairment of securities held during
        the
        nine months ended September 30, 2007 or during the same period in
        2006.
  *Loss
        and loss adjustment expenses*.  Gross loss and loss adjustment
        expenses and the gross loss ratio for the Insurance and Reinsurance Segments
        combined for the nine months ended September 30, 2007 were $194.1 million
        and
        51.3%, respectively, compared to $151.0 million and 57.0%, respectively,
        for the
        same period in 2006.  The net loss ratio for the combined segments was
        55.2% for the nine months ended September 30, 2007 as compared to 62.2% in
        the
        same period of 2006.  For the first nine months of 2006, the net loss
        ratio for the combined segments reflected a $1.6 million charge resulting
        from
        the commutation and novation agreements with PXRE.  This charge added
        4.3 percentage points to the net loss ratio for the combined segments for
        the
        nine months ended September 30, 2006.
  *Operating
        expenses*.  Operating expenses increased by 49.0% to $122.7
        million for the nine months ended September 30, 2007 from $82.4 million for
        the
        same period in 2006.  The increase was due primarily to the increase
        in underwriting expenses resulting from the growth in premiums earned and
        additional staffing and facility expenses.  The acquisition of
        Preserver added $14.9 million of operating expenses for the nine months ended
        September 30, 2007.
  *Interest
        expense*.  Our interest expense increased for the nine months
        ended September 30, 2007 to $6.8 million compared to $5.1 million for the
        same
        period in 2006.  The increase resulted from $1.1 million of interest
        expense from the $20.6 million of subordinated debentures issued on January
        25,
        2007, $0.4 million of interest expense from the $20.6 million of subordinated
        debentures issued on March 31, 2006, $0.1 million resulting from an increase
        in
        interest rates on the floating rate portions of our subordinated debentures
        and
        $0.4 million from $12.3 million of outstanding junior subordinated notes
        of
        Preserver, partially offset by a decrease of $0.3 million in the amounts
        credited to reinsurers on funds withheld in segregated trusts as collateral
        for
        reinsurance recoverables due to the reduction in the corresponding reinsured
        losses.
  24




*Other
        income*. For the nine months ended September 30, 2007 and 2006 we recorded
        other income of $4.9 million and $12.9 million, respectively.  The
        $4.9 million of other income for the nine months ended September 30, 2007
        represents our equity in CastlePoint’s 2007 net income for the nine months ended
        September 30, 2007 as well as a $2.7 million gain which resulted from our
        investment in CastlePoint as a result of its initial public offering which
        occurred in the first quarter of 2007.
  *Income
        tax expense*.  Our income tax expense was $21.5 million for the
        nine months ended September 30, 2007 compared to $14.5 million for the same
        period in 2006.  The increased income tax expense was due primarily to
        the increase in income before income taxes, as well as an increase in state
        and
        local income taxes for TRM, which is included in the insurance services
        segment.  The effective income tax rate was 35.9% for the nine months
        ending September 30, 2007 compared to 34.7% for the same period in
        2006.
  *Net
        income and return on average equity*.  Our net income and
        annualized return on average equity was $38.4 million and 20.4%, respectively,
        for the nine months ended September 30, 2007 compared to $27.3 million and
        22.8%, respectively, for the same period in 2006.  For the nine months
        ended September 30, 2007, the return was calculated by dividing annualized
        net
        income, after deducting $0.7 million of preferred stock dividends and excess
        consideration, of $50.3 million by an average stockholders’ equity of $246.5
        million. As a result of the significant increase in stockholders’ equity from
        our offering and over-allotment exercise in the first quarter, average common
        stockholders’ equity for the nine months ended September 30, 2007 was calculated
        using a quarterly average for the nine months ended September 30,
        2007.  For the nine months ended September 30, 2006, the return was
        calculated by dividing annualized net income of $36.3 million by an average
        stockholders’ equity of $159.6 million.
  25


**Insurance
      Segment Results of Operations**


**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
              
              
              **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006****Revenues**
              
              ($
                  in thousands)*Premiums
                  earned*Gross
                  premiums earned
              
              $
              137,911
              
              
              $
              89,910
              
              
              $
              372,832
              
              
              $
              248,066Less:
                  ceded premiums earned
              
              
              (65,632
              )
              
              
              (40,114
              )
              
              
              (170,418
              )
              
              
              (95,710
              )Net
                  premiums earned
              
              
              72,279
              
              
              
              49,796
              
              
              
              202,414
              
              
              
              152,356Ceding
                  commission revenue
              
              
              19,599
              
              
              
              13,171
              
              
              
              50,867
              
              
              
              30,550Policy
                  billing fees
              
              
              599
              
              
              
              286
              
              
              
              1,444
              
              
              
              825Total
              
              
              
              92,477
              
              
              
              63,253
              
              
              
              254,725
              
              
              
              183,731**Expenses***Loss
                  and loss adjustment expenses*Gross
                  loss and loss adjustment expenses
              
              
              69,600
              
              
              
              47,551
              
              
              
              191,868
              
              
              
              136,044Less:
                  ceded loss and loss adjustment expenses
              
              
              (29,879
              )
              
              
              (18,698
              )
              
              
              (79,462
              )
              
              
              (46,149
              )Net
                  loss and loss adjustment expenses
              
              
              39,721
              
              
              
              28,853
              
              
              
              112,406
              
              
              
              89,895Underwriting
                  expensesDirect
                  commission expense
              
              
              22,297
              
              
              
              14,204
              
              
              
              61,052
              
              
              
              40,444Other
                  underwriting expenses
              
              
              18,461
              
              
              
              11,484
              
              
              
              50,117
              
              
              
              32,819Total
                  underwriting expenses
              
              
              40,758
              
              
              
              25,688
              
              
              
              111,169
              
              
              
              73,263Underwriting
                  Profit
              
              $
              11,998
              
              
              $
              8,712
              
              
              $
              31,150
              
              
              $
              20,573**Key
                  Measures***Premiums
                  written*Gross
                  premiums written
              
              $
              127,670
              
              
              $
              98,523
              
              
              $
              387,169
              
              
              $
              289,779Less:
                  ceded premiums written
              
              
              (60,917
              )
              
              
              (48,071
              )
              
              
              (202,912
              )
              
              
              (131,507
              )Net
                  premiums written
              
              $
              66,753
              
              
              $
              50,452
              
              
              $
              184,257
              
              
              $
              158,272**Loss
                  Ratios**Gross
              
              
              
              50.5
              %
              
              
              52.9
              %
              
              
              51.5
              %
              
              
              54.8
              %Net
              
              
              
              55.0
              %
              
              
              57.9
              %
              
              
              55.5
              %
              
              
              59.0
              %**Accident
                  Year Loss Ratio**Gross
              
              
              
              50.4
              %
              
              
              53.5
              %
              
              
              51.5
              %
              
              
              55.2
              %Net
              
              
              
              55.4
              %
              
              
              59.1
              %
              
              
              55.2
              %
              
              
              58.8
              %**Underwriting
                  Expense Ratios**Gross
              
              
              
              29.1
              %
              
              
              28.3
              %
              
              
              29.4
              %
              
              
              29.2
              %Net
              
              
              
              28.4
              %
              
              
              24.6
              %
              
              
              29.1
              %
              
              
              27.5
              %**Combined
                  Ratios**Gross
              
              
              
              79.6
              %
              
              
              81.2
              %
              
              
              80.9
              %
              
              
              84.0
              %Net
              
              
              
              83.4
              %
              
              
              82.5
              %
              
              
              84.6
              %
              
              
              86.5
              %




***Insurance
        Segment Results of Operations Three Months Ended September 30, 2007 and
        2006***
  *Gross
        premiums*.  Gross premiums written increased by 29.6% to $127.7
        million for the three months ended September 30, 2007 compared to $98.5 million
        for the same period in 2006.  Gross premiums earned increased by 53.4%
        to $137.9 million for the three months ended September 30, 2007 compared
        to
        $89.9 million for the same period in 2006.  The acquisition of
        Preserver added $17.6 million and $21.9 million in gross premiums written
        and
        earned, respectively, in the three months ended September 30,
        2007.  The remaining increase resulted from organic growth in our
        commercial multi-peril and auto related lines of business.  Policies
        in-force, before the effect of the Preserver acquisition, increased by 8.9%
        as
        of September 30, 2007 compared to an increase of 19.1% for the same period
        last
        year.  The reduction in the growth rate of policies in-force was
        impacted by the placement of brokerage business premiums with CPIC, through
        TRM,
        during the third quarter of 2007, as previously discussed.  We expect
        this trend to continue in the fourth quarter of 2007 and in 2008 as TRM is
        expected to continue to produce brokerage business premiums on behalf of
        CPIC.  Preserver’s policies in-force decreased by 4.8% as of September
        30, 2007, compared to September 30, 2006.  The decrease is
        attributable to market conditions in private passenger auto written in the
        New
        England region, as well as Preserver’s agents renewing policies in TICNY and
        TNIC, which are both rated “A-“ by A.M. Best.  During the third
        quarter of 2007, premium increases on renewed business averaged 9.3% in personal
        lines and 2.4% in commercial lines.  The retention rate was
        88%




26




for
        personal lines and 77% for commercial lines.  The Preserver retention
        rate was 75% for personal lines and 74% for commercial lines.
  *Ceded
        premiums*.  Ceded premiums written increased by 26.7% to $60.9
        million for the three months ended September 30, 2007 compared to $48.1 million
        for the same period in 2006.  During the third quarter of 2007 we
        ceded $49.0 million of quota share reinsurance to CastlePoint of which $6.9
        million was ceded by the Preserver insurance companies.  Separately,
        under our excess of loss reinsurance programs, $0.8 million and $0.9 million
        of
        premiums were ceded to CastlePoint for the three months ended September 30,
        2007
        and 2006, respectively.  In the third quarter of 2006 we ceded $0.5
        million of catastrophe reinsurance premium to CastlePoint
        Reinsurance.  Effective July 1, 2007, CastlePoint Reinsurance no
        longer participates as a reinsurer on our catastrophe reinsurance program,
        which
        now includes coverage for business written by CPIC and produced and managed
        by
        TRM.  Additionally, under the brokerage business quota share agreement
        CastlePoint paid us $0.7 million, which represented a 30% share of our
        catastrophe reinsurance costs.  Effective April 1, 2007, under the
        brokerage business quota share reinsurance agreement, CastlePoint agreed
        to pay
        30% of our property catastrophe reinsurance premiums and 30% of our net retained
        property catastrophe losses.  Catastrophe ceded premiums were $3.5
        million, after CastlePoint’s reimbursement, in the third quarter of 2007 as
        compared to $3.9 million in the third quarter of last year.
  Quota
        share cessions reflect a 49% quota share ceding percentage through June 30,
        2007
        and a 40% ceding percentage for the period July 1, 2007 to September 30,
        2007.
  Ceded
        premiums earned increased 63.6% during the three months ending September
        30,
        2007 as compared to the same period last year as a result of the increase
        in
        gross premiums earned and the aforementioned changes in quota share ceding
        percentages.
  *Net
        premiums*.  Net premiums written increased by 32.3% to $66.8
        million for the three months ended September 30, 2007 compared to $50.5 million
        for the same period in 2006.  This increase was the result of the
        increase in gross premiums written as discussed above.  Net premiums
        earned increased by 45.2% to $72.3 million in the three months ended September
        30, 2007 compared to $49.8 million in the same period in 2006  This
        increase was driven primarily by the increase in gross premiums earned offset,
        in part, by the increase in the quota share ceding percentage in 2007 from
        2006.
  *Ceding
        commission revenue*.  Ceding commission revenue increased by 48.8%
        to $19.6 million for the three months ended September 30, 2007 compared to
        $13.2
        million for the same period in 2006, largely due to the 63.6% increase in
        ceded
        premiums earned.  The acquisition of Preserver and its inclusion in
        the quota share reinsurance agreements added $1.6 million in ceding commission
        revenue in the third quarter of 2007.  Ceding commission revenue
        decreased by $0.1 million in 2007 as a result of an increase in the ceded
        loss
        ratios on prior years’ quota share treaties and increased by $0.2 million in
        2006 as a result of a decrease in the ceded loss ratios on prior years’ quota
        share treaties in the third quarter of 2006.
  *Loss
        and loss adjustment expenses and loss ratio*.  Gross and net loss
        and loss adjustment expenses were $69.6 million and $39.7 million, respectively,
        for the three months ended September 30, 2007 compared with $47.6 million
        and
        $28.9 million, respectively, for the same period in 2006.  Our gross
        loss ratio was 50.5% for the three months ended September 30, 2007 as compared
        with 52.9% for the same period in 2006.  The net loss ratio was 55.0%
        for the three months ended September 30, 2007 compared to 57.9% in the same
        period of 2006.  The loss ratio on the Preserver business reduced the
        gross loss ratio by 0.9 percentage points and reduced the net loss ratio
        by 0.3
        percentage points for the three months ended September 30, 2007.  The
        decrease in the net loss ratio in the third quarter of 2007 compared to the
        same
        period in 2006 was due to a decrease in the gross loss ratio resulting from
        the
        continuing effects of strong premium increases in personal lines and moderate
        premium increases in commercial lines.  Also, the net loss ratio
        benefited in part from lower ceded catastrophe premiums.  We ceded
        catastrophe reinsurance premiums equal to 4.6% of net premiums earned during
        the
        three months ended September 30, 2007 as compared to 7.2% in the same period
        in
        2006.  There was favorable development of $0.3 million on a net basis
        in the third quarter of 2007 compared to favorable development of $0.6 million
        on prior years’ net loss reserves in the same period of 2006.  Loss
        and loss adjustment expenses are net of reimbursements for loss and loss
        adjustment expenses made by TRM pursuant to the expense sharing between TICNY
        and TRM.  See “Insurance Services Segment Results of Operations” for
        the amounts of loss and loss adjustment expense reimbursements.


27




*Underwriting
        expenses and underwriting expense ratio*.  Underwriting expenses,
        which include direct commission expenses and other underwriting expenses,
        were
        $40.8 million for the three months ended September 30, 2007 as compared with
        $25.7 million for the same period in 2006.  Our gross expense ratio
        was 29.1% for the three months ended September 30, 2007 as compared with
        28.3%
        for the same period in 2006.  The higher expense ratio of Preserver
        added 1.1 percentage points to the gross expense ratio for the three months
        ended September 30, 2007.  We expect to continue to reduce Preserver
        expenses through the first quarter of 2008 and achieve a gross expense ratio
        consistent with Tower’s.
  The
        commission portion of the gross expense ratio, which expresses direct commission
        expense paid to our producers as a percentage of gross premiums earned, was
        16.2% for the three months ended September 30, 2007, compared to a 15.8%
        ratio
        for the same period in 2006.  The 2007 commission was higher than 2006
        due to an increase in incentives profit commission with our agents resulting
        from an improvement in loss performance.
  The
        underwriting expense portion of the gross expense ratio was 13.0% for the
        three
        months ended September 30, 2007 as compared to 12.5% for the same period
        in
        2006.  The increase in costs is partially related to the acquisition
        of Preserver.  Gross expenses also increased due to facility and staff
        related costs.  The higher expense ratio of Preserver added 1.3
        percentage points to the gross underwriting expense ratio for the three months
        ended September 30, 2007.
  The
        net underwriting expense ratio, which reflects the benefit of ceding commission
        revenue that lowers the gross expense ratio, was 28.4% for the three months
        ended September 30, 2007 as compared to 24.6% for the same period in
        2006.  Preserver’s higher expense ratio added 2.8 percentage points to
        the net underwriting expense ratio for the three months ended September 30,
        2007.
  *Underwriting
        profit and combined ratio*.  The underwriting profit, which
        reflects our underwriting results on a net basis after the effects of
        reinsurance, was $12.0 million in the third quarter of 2007 and $8.7 million
        in
        the same period in 2006.  Preserver’s contribution to underwriting
        profit was $1.2 million in the third quarter of 2007.  The gross
        combined ratio was 79.6% for the three months ended September 30, 2007 as
        compared with 81.2% for the same period in 2006.  The net combined
        ratio was 83.4% for the three months ended September 30, 2007 as compared
        to
        82.5% for the same period in 2006.  Preserver added 0.2 and 2.5
        percentage points to the gross and net combined ratios,
        respectively.
  ***Insurance
        Segment Results of Operations Nine Months Ended September 30, 2007 and
        2006***
  *Gross
        premiums*.  Gross premiums written increased by 33.6% to $387.2
        million for the nine months ended September 30, 2007 compared to $289.8 million
        for the same period in 2006.  Gross premiums earned increased by 50.3%
        to $372.8 million for the nine months ended September 30, 2007 compared to
        $248.1 million for the same period in 2006.  The acquisition of
        Preserver on April 10, 2007 added $36.6 million and $41.0 million in gross
        premiums written and earned, respectively, in the nine months ended September
        30, 2007.  The remaining increase resulted from organic growth in our
        homeowners, commercial multi-peril and other liability lines of
        business.  Policies in-force, before the effect of the Preserver
        acquisition, increased by 8.9% as of September 30, 2007 compared to September
        30, 2006.  The reduction in the growth rate of policies in-force was
        impacted by the placement of brokerage business premiums with CPIC through
        TRM
        during the third quarter of 2007, as previously discussed.  See “Total
        Revenues” under “Consolidated Results of Operation for the Three Months Ended
        September 30, 3007 and 2006” for further discussion.  During the nine
        months ended September 30, 2007, premium increases on renewed business averaged
        10.1% in personal lines and 1.2% in commercial lines.  The retention
        rate was 85% for personal lines and 77% for commercial lines.  The
        Preserver retention rate was 72% for personal lines and 77% for commercial
        lines.
  *Ceded
        premiums*.  Ceded premiums written increased by 54.3% to $202.9
        million for the nine months ended September 30, 2007 compared to $131.5 million
        for the same period in 2006.  During the nine months ended September
        30, 2007 we ceded $169.7 million of quota share reinsurance to CastlePoint,
        of
        which $15.6 million was ceded by the Preserver insurance
        companies.  Separately, under our excess of loss and property
        catastrophe reinsurance programs, $3.6 million and $1.4 million of premiums
        were
        ceded to CastlePoint for the nine months ended September 30, 2007 and 2006,
        respectively.
  We
        entered
        into three multi-year quota share reinsurance agreements with CastlePoint
        Reinsurance on April 6, 2006.  Since we did not place quota share
        reinsurance in the first quarter of 2006, pending the formation of CastlePoint,
        for the six months ended September 30, 2006, we ceded $109.7 million of premiums
        written to
  28




CastlePoint
        Reinsurance including $40.9 million of unearned premiums as of April 1,
        2006.  In order to achieve our targeted net retention consistent with
        our hybrid business model, we increased the quota share ceding percentage
        on
        policies written during the first three months of 2007 from 30.0% to
        49.0%.  For the period April 1, 2007 through June 30, 2007, we ceded
        40% of its premiums and losses to CastlePoint Reinsurance and 9% of its premiums
        and losses to CPIC.  We continue to cede 40% of our premiums to
        CastlePoint Reinsurance.  On July 1, 2007, the 9% quota share cession
        to CPIC was replaced by the placement of brokerage business premiums with CPIC
        through TRM.  Additionally, effective April 1, 2007, under the
        brokerage business quota share agreement CastlePoint paid us $2.2 million,
        which
        represented a 30% share of our catastrophe reinsurance
        costs.  Overall, catastrophe ceded premiums were $10.8 million in the
        nine months ended September 30, 2007 as compared to $6.3 million in the same
        period in 2006, net of reimbursements for catastrophe reinsurance from
        CastlePoint
  Ceded
        premiums earned increased 78.1% during the nine months ending September 30,
        2007
        as compared to the same period last year.  This was due primarily to
        the 54.3% increase in ceded premiums written in 2007 and slightly lower ceded
        premiums earned in 2006 since we did not cede any premiums in the first quarter
        of 2006 and the quota share ceding percentage was only 30% for the three
        months
        ending June 30, 2006.
  *Net
        premiums*.  Net premiums written increased by 16.4% to $184.3
        million for the nine months ended September 30, 2007 compared to $158.3 million
        for the same period in 2006.  Although gross premiums written
        increased 33.6% for the nine months, the increased quota share ceding percentage
        mentioned above reduced the increase in net premiums written.  Net
        premiums earned increased by 32.9% to $202.4 million in the nine months ended
        September 30, 2007 compared to $152.4 million in the same period in
        2006.  The growth was driven primarily by the increase in gross
        premiums earned, offset in part, by an increase in the quota share ceding
        percentage and an increase in catastrophe reinsurance costs.
  *Ceding
        commission revenue*.  Ceding commission revenue increased by 66.5%
        to $50.9 million for the nine months ended September 30, 2007 compared to
        $30.6
        million for the same period in 2006 largely due to the 78.1% increase in
        ceded
        premiums earned.  Also, as a result of the commutation agreements with
        PXRE, we recorded a charge of $3.2 million to ceding commission revenue in
        the
        nine months ended September 30, 2006.  Ceding commission revenue
        decreased by $0.1 million as a result of the deterioration in the ceded loss
        ratios on prior years’ quota share treaties and increased $1.0 million in the
        comparable period in 2006 as a result of an improvement in the ceded loss
        ratios
        on prior years’ quota share treaties.
  *Loss
        and loss adjustment expenses and loss ratio*.  Gross and net
        losses and loss adjustment expenses were $191.9 million and $112.4 million,
        respectively, for the nine months ended September 30, 2007 compared with
        $136.0
        million and $89.9 million, respectively, for the same period in
        2006.  Our gross loss ratio was 51.5% for the nine months ended
        September 30, 2007 as compared with 54.8% for the same period in
        2006.  Our net loss ratio was 55.5% for the nine months ended
        September 30, 2007 as compared with 59.0% for the same period in
        2006.  For the nine months ended September 30, 2006, the net loss
        ratio for the combined segments reflected a $1.6 million charge resulting
        from
        the commutation agreements with PXRE that added 1.0 percentage point to the
        net
        loss ratio for the Insurance Segment for the nine months ended September
        30,
        2006.  Preserver added 0.1 percentage point to the gross loss ratio
        and reduced the net loss ratio by 0.6 percentage points for the nine months
        ended September 30, 2007.  The decrease in the net loss ratio in the
        nine months ended September 30, 2007 compared to the same period in 2006
        was due
        to a decrease in the gross loss ratio.  However, the effect of the
        decrease on the net loss ratio was offset in part by higher ceded catastrophe
        premiums.  We ceded catastrophe reinsurance premiums equal to 5.1% of
        premiums earned during the nine months ended September 30, 2007 as compared
        to
        4.0% in the same period in 2006.  There was unfavorable reserve
        development of $0.7 million on a net basis in the nine months ended September
        30, 2007 compared to favorable development of $1.2 million on prior years’ net
        loss reserves in the same period of 2006 excluding the $1.6 million of losses
        incurred as a result of the commutation with PXRE.  The unfavorable
        reserve development in 2007 related to losses on commercial multi-peril
        liability business on both the 2004 and 2006 accident years.  Loss and
        loss adjustment expenses are net of reimbursements for loss and loss adjustment
        expenses made by TRM pursuant to the expense sharing arrangement between
        TICNY
        and TRM.  See “Insurance Services Segment Results of Operations” for
        the amounts of loss and loss adjustment expense reimbursements.
  *Underwriting
        expenses and underwriting expense ratio*.  Underwriting expenses,
        which include direct commission expenses and other underwriting expenses,
        were
        $111.2 million for the nine months ended September 30, 2007 as compared with
        $73.3 million for the same period in 2006.  Our gross expense ratio
        was 29.4% for the
  29




nine
      months ended September 30, 2007 as compared with 29.2% for the same period
      in
      2006.  The acquisition of Preserver added 0.7 percentage points to the
      gross expense ratio for the nine months ended September 30, 2007.


The
        commission portion of the gross expense ratio, which expresses direct commission
        expense paid to our producers as a percentage of gross premiums earned, was
        16.4% for the nine months ended September 30, 2007, compared to 16.3% for
        the
        same period in 2006.
  The
        underwriting expense portion of the gross expense ratio was 13.1% for the
        nine
        months ended September 30, 2007 as compared to 12.9% for the same period
        in
        2006.  Although underwriting expenses increased due to the growth in
        premium volume, the gross underwriting expense ratio excluding the effects
        of
        Preserver declined as gross premiums earned increased more rapidly than
        underwriting expenses.  Preserver added 0.7 percentage points to the
        gross underwriting expense ratio for the nine months ended September 30,
        2007.
  The
        net underwriting expense ratio was 29.1% for the nine months ended September
        30,
        2007 as compared to 27.5% for the same period in 2006.  Preserver
        added 1.8 percentage points to the net underwriting expense ratio for the
        nine
        months ended September 30, 2007.  The net expense ratio for 2006 was
        affected by the reduction in ceding commissions of $3.2 million resulting
        from
        the commutations with PXRE which added 2.1 percentage points to the net expense
        ratio.
  *Underwriting
        profit and combined ratio*.  The underwriting profit, which
        reflects our underwriting results on a net basis after the effects of
        reinsurance, was $31.1 million in the first nine months of 2007 and $20.6
        million in the same period in 2006. Preserver’s contribution to underwriting
        profit was $2.9 million in the nine months ended September 30,
        2007.  The gross combined ratio was 80.9% for the nine months ended
        September 30, 2007 as compared with 84.0% for the same period in
        2006.  The lower gross combined ratio in the first nine months of 2007
        resulted primarily from a lower gross loss ratio in 2007 compared to
        2006.  The net combined ratio was 84.6% for the nine months ended
        September 30, 2007 as compared to 86.5% for the same period in
        2006.   The decrease in the net combined ratio resulted from a
        decrease in the net loss ratio, offset in part, by an increase in the net
        underwriting expense ratio.  The effects of the commutations reduced
        underwriting profits in the nine months ended September 30, 2006 by $4.8
        million
        and added 3.1 percentage points to the net combined ratio.  The higher
        expense ratio of Preserver added 0.8 and 1.2 percentage points to the gross
        and
        net combined ratios, respectively.
  30
 **Reinsurance
        Segment Results of Operations**
 **Three
                    Months Ended**
                
                
                **Nine
                    Months Ended****September
                    30,**
                
                
                **September
                    30,****2007**
                
                
                **2006**
                
                
                **2007**
                
                
                **2006****Revenues**
                
                ($
                    in thousands)*Premiums
                    earned*Gross
                    premiums earned
                
                $
                841
                
                
                $
                2,617
                
                
                $
                5,168
                
                
                $
                16,645Less:
                    ceded premiums earned
                
                
                4
                
                
                
                (48
                )
                
                
                (40
                )
                
                
                (93
                )Net
                    premiums earned
                
                
                845
                
                
                
                2,569
                
                
                
                5,128
                
                
                
                16,552Ceding
                    commission revenue
                
                
                2
                
                
                
                -
                
                
                
                -
                
                
                
                -Total
                
                
                
                847
                
                
                
                2,569
                
                
                
                5,128
                
                
                
                16,552**Expenses***Loss
                    and loss adjustment expenses*Gross
                    loss and loss adjustment expenses
                
                
                288
                
                
                
                1,549
                
                
                
                2,188
                
                
                
                14,930Less:
                    ceded loss and loss adjustment expenses
                
                
                (2
                )
                
                
                (11
                )
                
                
                (66
                )
                
                
                201Net
                    loss and loss adjustment expenses
                
                
                286
                
                
                
                1,538
                
                
                
                2,122
                
                
                
                15,131Underwriting
                    expensesDirect
                    commission expense
                
                
                317
                
                
                
                895
                
                
                
                1,854
                
                
                
                1,665Other
                    underwriting expenses
                
                
                90
                
                
                
                340
                
                
                
                651
                
                
                
                689Total
                    underwriting expenses
                
                
                407
                
                
                
                1,235
                
                
                
                2,505
                
                
                
                2,354Underwriting
                    Profit
                
                $
                154
                
                
                $
                (204
                )
                
                $
                501
                
                
                $
                (933
                )**Key
                    Measures***Premiums
                    written*Gross
                    premiums written
                
                $
                1
                
                
                $
                1,287
                
                
                $
                218
                
                
                $
                21,818Less:
                    ceded premiums written
                
                
                5
                
                
                
                (79
                )
                
                
                -
                
                
                
                (79
                )Net
                    premiums written
                
                $
                6
                
                
                $
                1,208
                
                
                $
                218
                
                
                $
                21,739**Loss
                    Ratios**Gross
                
                
                
                34.2
                %
                
                
                59.2
                %
                
                
                42.3
                %
                
                
                89.7
                %Net
                
                
                
                33.8
                %
                
                
                59.9
                %
                
                
                41.4
                %
                
                
                91.4
                %**Accident
                    Year Loss Ratio**Gross
                
                
                
                58.4
                %
                
                
                59.3
                %
                
                
                66.2
                %
                
                
                91.3
                %Net
                
                
                
                58.1
                %
                
                
                60.4
                %
                
                
                66.7
                %
                
                
                91.8
                %**Underwriting
                    expense Ratios**Gross
                
                
                
                48.4
                %
                
                
                47.2
                %
                
                
                48.5
                %
                
                
                14.1
                %Net
                
                
                
                47.9
                %
                
                
                48.1
                %
                
                
                48.8
                %
                
                
                14.2
                %**Combined
                    Ratios**Gross
                
                
                
                82.6
                %
                
                
                106.4
                %
                
                
                90.8
                %
                
                
                103.8
                %Net
                
                
                
                81.8
                %
                
                
                108.0
                %
                
                
                90.2
                %
                
                
                105.6
                %




***Reinsurance
        Segment Results of Operations Three Months Ended September 30, 2007 and
        2006***
  *Gross
        premiums*.  Gross premiums written decreased to less than $1,000
        for the three months ended September 30, 2007 and represents endorsements
        and
        other additional premiums on policies assumed in 2006 and produced by TRM
        as
        compared to $1.3 million for the same period in 2006.  Gross premiums
        earned decreased to $0.8 million from $2.6 million in the third quarter of
        2006.  We have not assumed any policies produced by TRM during the
        third quarter of 2007 as such business was produced on behalf of CPIC in
        our
        Insurance Services segment.
  *Net
        premiums*.  The variances for net premiums are the same as for
        gross premiums.
  *Loss
        and loss adjustment expenses and loss ratio*.  Gross loss and loss
        adjustment expenses were $0.3 million for the three months ended September
        30,
        2007 as compared to $1.5 million for the same period in 2006.  Net
        losses were $0.3 million for the three months ended September 30, 2007 as
        compared to $1.5 million for the same period in 2006.  The gross and
        net loss ratios were 34.2% and 33.8%, respectively, for the three months
        ended
        September 30, 2007 as compared to 59.2% and 59.9%, respectively, in the same
        period in 2006.  There was favorable development of $0.2 million on a
        net basis on prior years’ net reserves in the third quarter of 2007 mostly due
        to favorable run-off of the PXRE novation.
  *Underwriting
        expenses and underwriting expense ratio*.  Underwriting expenses
        for the Reinsurance Segment are comprised of ceding commission expense paid
        to
        TRM’s issuing companies and other third-party reinsurers to




31




acquire
      premiums and this segment’s allocated share of other underwriting
      expenses*.*  Gross underwriting expenses decreased for the
      three months ended September 30, 2007 to $407,000 compared to $1.2 million
      in
      the same period in 2006.  The gross and net underwriting expense
      ratios were 48.4% and 47.9% for the three months ended September 30, 2007
      compared to 47.2% and 48.1%, respectively, for the same period in
      2006.


*Underwriting
        profit and combined ratio*.  The underwriting profit from assumed
        reinsurance for the third quarter of 2007 was $154,000 compared to an
        underwriting loss from assumed reinsurance of $204,000 for the third quarter
        of
        2006.  The net combined ratio was 81.8% for the third quarter of 2007
        compared to 107.9% for the third quarter of 2006.  The lower net
        combined ratio for the third quarter of 2007 in comparison to the third quarter
        of 2006 was due to favorable loss development as discussed above.
  The
        gross combined ratio decreased to 82.6% in the third quarter of 2007 compared
        to
        106.4% in the same period last year due to favorable loss development as
        discussed above.
  ***Reinsurance
        Segment Results of Operations Nine Months Ended September 30, 2007 and
        2006***
  *Gross
        premiums*.  Gross premiums written decreased to $218,000 for the
        nine months ended September 30, 2007 as compared to $21.8 million for the
        same
        period in 2006.  We have assumed $0.2 million of policies produced by
        TRM on behalf of issuing carriers during the nine months ending, September
        30,
        2007, but most of TRM’s premium was produced on behalf of CPIC in our Insurance
        Services segment.  In the first nine months of 2006, we entered into
        novation agreements with PXRE which increased gross premiums written and
        earned
        by $11.4 million, in addition to the premiums produced by TRM.  Gross
        premiums earned decreased to $5.2 million for the nine months ended September
        30, 2007 from $16.6 million in the nine months ended September 30, 2006 due
        to
        the significant increase in gross premiums written and the novation agreements
        with PXRE in 2006.
  *Net
        premiums*.  Net premiums written decreased to $218,000 for the
        nine months ended September 30, 2007 as compared to $21.7 million for the
        same
        period in 2006.  The decrease in net premiums written was due to the
        decrease in gross premiums.
  *Loss
        and loss adjustment expenses and loss ratio.*Gross loss and loss
        adjustment expenses were $2.2 million for the nine months ended September
        30,
        2007 as compared to $14.9 million for the same period in 2006.  Net
        loss and loss adjustment expenses were $2.2 million for the nine months ended
        September 30, 2007 as compared to $15.1 million for the same period in 2006.
        Both gross and net loss and loss adjustment expenses for the nine months
        ended
        September 30, 2006 were increased by $12.2 million as a result of the novation
        agreements with PXRE.  The gross and net loss ratios were 42.3% and
        41.4%, respectively, for the nine months ended September 30, 2007 as compared
        to
        89.7% and 91.4%, respectively, in the same period in 2006. The novation
        agreements added 37.5 percentage points and 34.4 percentage points to the
        gross
        and net loss ratio, respectively, for the nine months ending September 30,
        2006.  There was favorable development of $1.3 million on a net basis
        on prior years’ net reserves for the nine months ended September 30, 2007 mostly
        due to favorable run-off of the PXRE novation.  This compares to
        favorable development of $68,000 on prior years’ net loss reserves in the same
        period of 2006.
  *Underwriting
        expenses and underwriting expense ratio*.  Gross underwriting
        expenses increased for the nine months ended September 30, 2007 to $2.5 million
        as compared to $2.4 million for the same period in 2006.  The gross
        and net underwriting expense ratios were 48.5% and 48.8%, respectively, for
        the
        nine months ended September 30, 2007 compared to 14.1% and 14.2%, respectively,
        for the same period last year.  The lower gross and net underwriting
        expense ratios in the nine months ended September 30, 2006 were the direct
        result of the $11.4 million of additional gross and net premiums earned from
        the
        PXRE novation which did not incur a commission expense.  The effects
        of the PXRE novation reduced the gross and net underwriting expense ratios
        by
        31.1 percentage points and 31.8 percentage points, respectively, for the
        nine
        months ended September 30, 2006.
  *Underwriting
        profit and combined ratio*.  The underwriting profit from assumed
        reinsurance for the nine months ended September 30, 2007 was $501,000 compared
        to underwriting loss of $933,000 for the same period of 2006 which includes
        the
        charge of $0.8 million resulting from the novation agreements with
        PXRE.  The net combined ratio was 90.2% for the nine months ended
        September 30, 2007 compared to 105.6% for the same period of
        2006.  The lower net combined ratio for the first nine months of 2007
        was the result of the decreased net loss ratio offset in part, by the increase
        in the net underwriting expense ratio as explained above.
  32




The
        gross combined ratio decreased to 90.8% for the nine months ended September
        30,
        2007 compared to 103.8% for the same period of 2006 due to the decrease in
        the
        gross loss ratio offset in part, by an increase in the gross underwriting
        expense ratio as explained above.  The effects of the novation
        agreements added 6.5 percentage points and 2.5 percentage points to the gross
        and net combined ratios, respectively, for the nine months ended September
        30,
        2006.
  **Insurance
        Services Segment Results of Operations**
  **Three
                    Months Ended**
                
                
                **Nine
                    Months Ended****September
                    30,**
                
                
                **September
                    30,****2007**
                
                
                **2006**
                
                
                **2007**
                
                
                **2006****Revenue**
                
                ($
                    in thousands)Direct
                    commission revenue from managing general agency
                
                $
                8,028
                
                
                $
                380
                
                
                $
                9,088
                
                
                $
                2,291Claims
                    administration revenue
                
                
                524
                
                
                
                688
                
                
                
                1,624
                
                
                
                2,572Other
                    administration revenue (1)
                
                
                326
                
                
                
                -
                
                
                
                924
                
                
                
                -Reinsurance
                    intermediary fees (2)
                
                
                254
                
                
                
                176
                
                
                
                595
                
                
                
                411Policy
                    billing fees
                
                
                5
                
                
                
                -
                
                
                
                5
                
                
                
                5Total
                
                
                9,137
                
                
                
                1,244
                
                
                
                12,236
                
                
                
                5,279**Expenses**Direct
                    commissions expense paid to producers
                
                
                3,808
                
                
                
                211
                
                
                
                3,959
                
                
                
                1,545Other
                    insurance services expenses
                
                
                1,687
                
                
                
                193
                
                
                
                2,302
                
                
                
                735Claims
                    expense reimbursement to TICNY (3)
                
                
                520
                
                
                
                687
                
                
                
                1,618
                
                
                
                2,556Total
                
                
                6,015
                
                
                
                1,091
                
                
                
                7,879
                
                
                
                4,836Insurance
                    services pre-tax income (loss)
                
                $
                3,122
                
                
                $
                153
                
                
                $
                4,357
                
                
                $
                443Premiums
                    produced by TRM on behalf of issuing companies
                
                $
                23,433
                
                
                $
                1,408
                
                
                $
                24,094
                
                
                $
                10,270
  *(1)The
            other
            administration revenue includes amounts reimbursed by CPM for services
            rendered
            pursuant to a service and expense sharing agreement.*
 *(2)The
            reinsurance
            intermediary fees include commissions earned for placement of reinsurance
            on
            behalf of TICNY and TNIC.*
 *(3)Consists
            of
            underwriting expenses reimbursed to TICNY pursuant to an expense sharing
            agreement and to CPM pursuant to a service and expense sharing
            agreement.*
 
 ***Insurance
            Services Segment Results of Operations Three Months Ended September 30,
            2007 and
            2006***
  *Total
            revenues*.  Total revenues for the insurance services segment were
            $9.1 million for the three months ended September 30, 2007 as compared
            with $1.2
            million for the same period in 2006, principally because of the business
            that
            TRM produced on behalf of CPIC.  The principal components of total
            revenues for our insurance services segment are direct commission revenue,
            claims administration revenue, other administration revenue and reinsurance
            intermediary fees.
   The
            increase in total revenues was primarily due to direct commission revenue
            that
            increased significantly to $8.0 million for the third quarter of 2007
            compared
            to $380,000 for the third quarter of 2006.  Direct commission revenue
            is dependent upon the premiums and losses on business produced by TRM
            on behalf
            of its issuing companies.  Premiums produced by TRM on behalf of CPIC
            increased to $23.4 million in the third quarter of 2007 as compared to
            $1.4
            million of premiums produced for other non-related issuing carriers in
            the same
            period last year.  The premium produced on behalf of CastlePoint is an
            important component of our hybrid business model, which through reinsurance
            and
            risk sharing or direct placement through TRM, transfers 49% of our total
            premiums written and produced to CastlePoint Reinsurance and its insurance
            company subsidiaries.  In addition there was an increase in commission
            revenue of $465,000 in the third quarter of 2007 as a result of favorable
            loss
            development on the premiums produced in prior years compared to an increase
            of
            $0.4 million in the same period of last year.  Claims administration
            revenues decreased to $524,000 in the third quarter of 2007 compared
            to $688,000
            in the same period of last year as a result of fewer hours associated
            with
            claims handled on behalf of issuing carriers.  Reinsurance
            intermediary fees increased by 44.3% to $254,000 for the third quarter
            of 2007
            as compared to $176,000 for the third quarter of 2006 from increased
            reinsurance
            premiums.  Other administrative revenue was $326,000 for the third
            quarter of 2007 and includes reimbursements from CastlePoint under our
            service
            and expense sharing agreement for underwriting, claims, legal and other
            corporate services, such as human resources and information
            technology.
  33


*Direct
      commission expense*.  TRM’s direct commission expense rate was
      16.3% for the third quarter of 2007 compared to 15.0% for the third quarter
      of
      2006.  The direct commission expense rate increased in the third
      quarter of 2007 because a greater proportion of the business produced on behalf
      of CPIC has a smaller average premium per policy which carries a higher
      commission rate.  In 2006 the direct commission expense rate was lower
      as a larger proportion of policies had larger premiums with lower commission
      rates.


*Other
        insurance services expenses*.  The amount of reimbursement for
        underwriting expenses by TRM to TICNY in the third quarter of 2007 was $1.7
        million as compared to $193,000 in the third quarter of 2006.  The
        increase in other insurance services expenses resulted from an increase in
        premium produced.
  *Claims
        expense reimbursement*.  The amount of reimbursement by TRM for
        claims administration pursuant to the terms of the expense sharing agreement
        with TICNY in the third quarter of 2007 was $520,000 as compared to $687,000
        in
        the third quarter of 2006 due to a decrease in the number of claims
        handled.
  *Pre-tax
        income*.  Pre-tax income in the third quarter of 2007 increased to
        $3.1 million as compared to $153,000 in the third quarter of
        2006.  The increase was due to the significant increase in premium
        produced.
  ***Insurance
        Services Segment Results of Operations Nine Months Ended September 30, 2007
        and
        2006***
  *Total
        revenues*.  Total revenues for the insurance services segment were
        $12.2 million for the nine months ended September 30, 2007 as compared with
        $5.3
        million for the same period in 2006.  The principal components of
        total revenues for our insurance services segment are direct commission revenue,
        claims administration revenue, other administration revenue and reinsurance
        intermediary fees.  The increase in total revenues was primarily due
        to direct commission revenue that increased significantly to $9.1 million
        for
        the nine months ending September 30, 2007 compared to $2.3 million in the
        same
        period last year.  Claims administration revenues decreased to $1.6
        million for the nine months ending September 30, 2007 compared to $2.6 million
        in the same period of last year as a result of fewer hours associated with
        claims handled on behalf of issuing carriers.  Reinsurance
        intermediary fees revenue increased by 44.8% to $595,000 for the nine months
        ending September 30, 2007 as compared to $411,000 for the same period last
        year
        from increased reinsurance premiums.  Other administrative revenue was
        $924,000 for the nine months ended September 30, 2007 and includes
        reimbursements from CastlePoint under our service and expense sharing
        agreement.
  For
        the first nine months of 2007, direct commission revenues increased as compared
        to the comparable period of last year as a result of the significant increase
        in
        premiums produced by TRM to $24.1 million for the nine months ended September
        30, 2007, from $10.3 million for the same period last year.  In May
        2007 our managing general agency subsidiary, TRM, began producing business
        on
        behalf of CPIC.  In addition there was an increase in commission
        revenue of $1.5 million and $0.2 million in the nine months ended September
        30,
        2007 and 2006, respectively, as a result of favorable loss development on
        the
        premiums produced in prior years.
  *Direct
        commission expense*.  TRM’s direct commission expense rate was
        16.4% for the first nine months of 2007 compared to 15.0% for the same period
        last year.  The direct commission expense rate increased in the third
        quarter of 2007 as previously discussed above.  In 2006 the direct
        commission expense rate was lower as a larger proportion of policies had
        larger
        premiums with lower commission rates.
  *Other
        insurance services expenses*.  The amount of reimbursement for
        underwriting expenses by TRM to TICNY in the first nine months of 2007 was
        $2.3
        million as compared to $0.7 million in the same period last year. The increase
        in other insurance expenses resulted from an increase in premium
        produced.
  *Claims
        expense reimbursement*.  The amount of reimbursement by TRM for
        claims administration pursuant to the terms of the expense sharing agreement
        with TICNY in the first nine months of 2007 was $1.6 million as compared
        to $2.6
        million in the same period last year due to a decrease in the number of claims
        handled.
  *Pre-tax
        income*.  Pre-tax income in the first nine months of 2007
        increased to $4.4 million as compared to $0.4 million in the same period
        last
        year.  The increase was due to the favorable adjustment in direct
        commission revenue and the increase in premiums produced for the nine months
        ended September 30, 2007 as compared to the same period last year.
 34


***Liquidity
      and Capital Resources***




*Cash
        flows*.  Cash and cash equivalents at September 30, 2007 were
        $52.5 million as compared to $100.6 million at December 31,
        2006.  Cash equivalents increased in December 2006 as a result of
        raising $48 million through the issuance of $40 million of perpetual preferred
        stock and $8 million from the sale of Tower Indemnity Company of
        America.  At the time we raised these funds the yield curve was
        relatively flat.  At December 31, 2006, we had $65 million of cash
        equivalents invested in agency backed discount notes and commercial paper
        that
        had interest yields between 5.14% and 5.25%.  Our belief then was that
        longer term interest rates would rise in 2007.  Cash and cash
        equivalents at September 30, 2007 include $19.7 million of corporate funds
        which
        remain from the follow-on equity offering after paying for the Preserver
        acquisition.
  During
        the third quarter of 2007, yield spreads widened as a result of the lack
        of
        liquidity in the market which increased the gross unrealized investment loss
        by
        $9.1million and
        $20.2million for the
        three month and nine month periods ending September 30, 2007, respectively,
        as
        reflected in other comprehensive income.  The increase in the
        unrealized investment loss primarily was caused by our investments in
        Mortgage-backed securities and our Equity securities which primarily are
        invested in Real Estate Investment trusts. Changes in interest rates directly
        impact the fair value for our fixed maturity portfolio.  We regularly
        review both our fixed-maturity and equity portfolios to evaluate the necessity
        of recording impairment losses for other-than-temporary declines in the fair
        value of investments.  We have determined that we did not hold any
        investments that would have been considered other than temporarily impaired
        and
        that the recent increase in the gross unrealized investment loss was caused
        by
        an increase in interest rates.  We expect cash flows from operations
        to be sufficient to meet our liquidity requirements.  We intend, and
        we believe we have the ability, to hold these investments until a recovery
        in
        value, which may be at maturity for fixed maturity securities.
  For
        the three and nine months ended September 30, 2007,**net cash
        provided by operating activities**was $18.3 million and $48.2
        million, respectively. Net cash provided by operations was $11.3 million
        and
        $97.9 million, respectively, for the same periods in 2006.  The
        decrease in cash flow for 2007 was a result of Federal income tax payments
        of
        $6.6 million and $21.7 million for the three months and nine months ended
        September 30, 2007, as well as increased reinsurance costs.  In
        addition, net cash provided by operating activities for 2006 included $37
        million received from PXRE which resulted from the commutation and novation
        transactions.
  The
        net cash flows used in investing activities for the three and nine months
        ended
        September 30, 2007 was $29.7 million and $181.5 million,
        respectively.  The net cash flows used in investing activities for the
        three and nine months ended September 30, 2006 was $52.6 million and $116.6
        million, respectively.  The nine months ended September 30, 2007
        included the payment of $66.2 million for the acquisition of Preserver Group,
        Inc.  In addition, we paid $4.7 million of Preserver’s direct
        transaction costs in connection with the acquisition.  During 2006,
        the Company relocated its New York City Corporate Headquarters within the
        same
        building.  The Company capitalized $8.0 million and $9.5 million for
        leasehold improvements, $3.9 million and $5.1 million for furniture &
equipment and $2.2 million and $4.6 million for computer hardware and software,
        for the three and nine months ended September 30, 2006.  In addition,
        there were increases in the corporate bonds, U. S. Treasuries and
        mortgage-backed investments in the third quarter of 2007.
  The
        net cash flows used in financing activities for the three months ended September
        30, 2007 was $1.1 million, while $68.7 million was provided during the nine
        months ended September 30, 2007. Included are the net proceeds from the issuance
        of $20.6 million in subordinated debentures on January 25, 2007, the $89.4
        million of net proceeds from the January 26, 2007 equity offering and the
        related exercise of the underwriters’ over allotment option, offset by $40.0
        million used for the redemption of preferred stock .  For the three
        months and nine months ended September 30, 2006, we had $23,000 of net cash
        flow
        used by financing activities and $20.5 million, principally related to the
        issuance of subordinated debentures; respectively, of net cash flows provided
        by
        financing activities.
  The
        operating subsidiaries’ primary sources of cash are net premiums received,
        commission and fee income, net investment income and proceeds from the sale
        and
        redemption of both equity and fixed-maturity investments.  Cash is
        used to pay claims, commissions and operating expenses, to purchase investments
        and fixed assets and to pay dividends to the holding company.  Our
        insurance companies are subject to significant regulatory restrictions limiting
        their ability to declare and pay dividends. As of September 30, 2007, the
        maximum amount of distributions that our insurance companies could pay to
        us
        without approval of their domiciliary Insurance Department was approximately
        $19.1 million.


35




Cash
        flow needs at the holding company level are primarily for dividends to our
        stockholders and interest payments on our $101.0 million of subordinated
        debentures.
  ***Subordinated
        Debentures***
  On
        January 25, 2007, we participated in a private placement of $20.0 million
        of fixed/floating rate capital securities (the “Trust Preferred Securities”)
        issued by Tower Group Statutory Trust VI (the “Trust”), an affiliated Delaware
        trust formed on January 11, 2007.  The Trust Preferred Securities
        mature in April 2036, are redeemable at our option at par beginning
        April 7, 2011, and require quarterly distributions of interest by the Trust
        to the holder of the Trust Preferred Securities.  Interest
        distributions are initially at a fixed rate of 8.155% for the first five
        years
        and will then reset quarterly for changes in the three-month London Interbank
        Offered Rate (“LIBOR”) plus 300 basis points.  The Trust
        simultaneously issued 619 of the Trust’s common securities to us for a purchase
        price of $0.6 million, which constitutes all of the issued and outstanding
        common securities of the Trust.  The Trust used the proceeds from the
        sale of the Trust Preferred Securities and common securities to purchase
        for
        $20.6 million a junior subordinated debt security due 2037 issued by
        us.  We do not consolidate interest in statutory business trusts for
        which we hold 100% of the common trust securities because we are not the
        primary
        beneficiary of the trusts.  We report the outstanding subordinated
        debentures owed to the statutory business trusts as a liability.  The
        net proceeds we received from the sale of the debenture to the Trust and
        $20.0
        million of the net proceeds from our common stock offering in the three months
        ended March 31, 2007 were used to redeem our perpetual preferred
        stock.  We incurred $0.4 million of fees related to the issuance of
        these subordinated debentures.
  ***Investments***
  Impairment
        of investment securities results in a charge to net income when a market
        decline
        below cost is deemed to be other-than-temporary.  As of September 30,
        2007, we reviewed our fixed-maturity and equity securities portfolios to
        evaluate the necessity of recording impairment losses for other-than-temporary
        declines in the fair value of investments.  We determined that we did
        not hold any investments that would have been considered other than temporarily
        impaired.
  **Item
        3.  Quantitative and Qualitative Disclosures About
        Market Risk**
  Market
        risk relates to changes in the value of financial instruments that arise
        from
        adverse movements in factors such as interest rates and equity
        prices.  We are exposed mainly to changes in interest rates that
        affect the fair value of our investments in securities.
  ***Sensitivity
        Analysis***
  Sensitivity
        analysis is a measurement of potential loss in future earnings, fair values
        or
        cash flows of market sensitive instruments resulting from one or more selected
        hypothetical changes in interest rates and other market rates or prices over
        a
        selected time.  In our sensitivity analysis model, we select a
        hypothetical change in market rates that reflects what we believe are reasonably
        possible near-term changes in those rates.  The term “near-term” means
        a period of time going forward up to one year from the date of the consolidated
        financial statements.  Actual results may differ from the hypothetical
        change in market rates assumed in this disclosure, especially since this
        sensitivity analysis does not reflect the results of any action that we may
        take
        to mitigate such hypothetical changes in fair value.
  In
        this sensitivity analysis model, we use fair values to measure our potential
        loss.  The sensitivity analysis model includes fixed maturities and
        short-term investments.
  For
        invested assets, we use modified duration modeling to calculate changes in
        fair
        values.  Durations on invested assets are adjusted for call, put and
        interest rate reset features.  Durations on tax-exempt securities are
        adjusted for the fact that the yield on such securities is less sensitive
        to
        changes in interest rates compared to Treasury securities.  Invested
        asset portfolio durations are calculated on a market value weighted basis,
        including accrued investment income, using holdings as of September 30,
        2007.
  The
        following table summarizes the estimated change in fair value on our fixed
        maturity portfolio including short-term investments based on specific changes
        in
        interest rates as of September 30, 2007:
  36
  **Estimated**
                
                **Estimated****Increase**
                
                **Percentage****(decrease)**
                
                **Increase****in
                    Fair Value**
                
                **(Decrease)****Change
                    in interest rate**
                
                ($
                    in thousands)
                
                **in
                    Fair Value**300
                    basis point rise
                
                (74,994)
                
                -12.7%200
                    basis point rise
                
                (51,145)
                
                -8.6%100
                    basis point rise
                
                (26,110)
                
                -4.4%No
                    change
                
                0
                
                0.0%50
                    basis point decline
                
                12,816
                
                2.2%100
                    basis point decline
                
                25,465
                
                4.3%




The
        sensitivity analysis model used by us produces a predicted pre-tax loss in
        fair
        value of market-sensitive instruments of $26.1 million, or 4.4%, based on
        a 100
        basis point increase in interest rates as of September 30, 2007.  This
        loss amount only reflects the impact of an interest rate increase on the
        fair
        value of our fixed maturities, which constituted approximately 92.2% of our
        total invested assets as of September 30, 2007.
  As
        of September 30, 2007 we had a total of $23.7 million of outstanding floating
        rate debt, all of which is outstanding subordinated debentures underlying
        trust
        securities issued by our wholly owned statutory business trusts carrying
        an
        interest rate that is determined by reference to market interest
        rates.  If interest rates increase, the amount of interest payable by
        us would also increase.
   **Item
        4.  Controls and Procedures**
  Our
        management, with the participation of the Chief Executive Officer and Chief
        Financial Officer, has evaluated the effectiveness of the design and operation
        of our disclosure controls and procedures (as defined in Securities Exchange
        Act
        Rule 13a-15(e)) as of the end of the period covered by this
        report.  Based on that evaluation, the Chief Executive Officer and
        Chief Financial Officer have concluded that our disclosure controls and
        procedures are effective to provide reasonable assurance that material
        information relating to us and our consolidated subsidiaries required to
        be
        disclosed in our reports filed with or submitted to the Securities and Exchange
        Commission under the Securities Exchange Act is made known to such officers
        by
        others within these entities, particularly during the period this quarterly
        report was prepared, in order to allow timely decisions regarding required
        disclosure.
  On
        April 10, 2007, we completed our acquisition of Preserver.  Preserver
        has not previously been subject to a review of internal controls under the
        Sarbanes Oxley Act of 2002, and its operations have been excluded from our
        review of the internal controls under Section 404 of the Sarbanes Oxley Act
        of
        2002.  We have begun the process of integrating Preserver’s operations
        including internal controls and processes and extending our Section 404
        compliance program to Preserver’s operations.  Preserver accounts for
        19.6% of assets and 7.0% of net income of the Company.  See the Notes
        to the Consolidated Financial Statements in Item 1 for discussion of the
        acquisition and related financial data.
   **Part
        II– OTHER INFORMATION**
  **Item
        6. Exhibits**
  
 10.1
              
              Management
                  Agreement, dated July 1, 2007, by and between CastlePoint Insurance
                  Company and Tower Risk Management Corp.10.2
              
              Employment
                  Agreement, dated as of July 23, 2007, by and between Tower Group
                  Inc. and
                  Gary S. Maier31.1
              
              Certification
                  of Chief Executive Officer pursuant to Sarbanes-Oxley Act of 2002
                  Section
                  30231.2
              
              Certification
                  of Chief Financial Officer pursuant to Sarbanes-Oxley Act of 2002
                  Section
                  30232
              
              Certification
                  of Chief Executive Officer and Chief Financial Officer pursuant
                  to
                  Sarbanes-Oxley Act of 2002 Section
                  906




37




**Signatures**
  Pursuant
        to the requirements of the Securities Exchange Act of 1934, the registrant
        has
        duly caused this report to be signed on its behalf by the undersigned thereunto
        duly authorized.
  
  Tower
                  Group, Inc.Registrant
 
  Date:
                  November 8, 2007
              /s/
                  Michael H. LeeMichael
                  H. Lee
                Chairman
                  of the Board,
                President
                  and Chief Executive Officer
 
  Date:
                  November 8, 2007
              /s/
                  Francis M. ColalucciFrancis
                  M. Colalucci
                Senior
                  Vice President,
                Chief
                  Financial Officer and Treasurer
   38