**As filed with the Securities and Exchange Commissionon June 30, 2003**

 

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

** **

**FORM 20-F**

 

**(Mark One)**

 

| **o** | **Registration statement pursuant to Section 12(b) or 12(g)  of the Securities Exchange Act of 1934** |
|-------|-------------------------------------------------------------------------------------------------------|

 

**or**

 

| **ý** | **Annual report pursuant to Section 13 or 15(d) of the  Securities Exchange Act of 1934** |
|------------|-------------------------------------------------------------------------------------------|

** **

**For thefiscal year ended December 31, 2002**

 

**or**

 

| **o** | **Transition report pursuant to Section 13 or 15(d) of the  Securities Exchange Act of 1934** |
|-------|-----------------------------------------------------------------------------------------------|

 

**For the transitionperiod from                    to                    **

 

**Commission file number: 333-88874**

 

 

**PERMANENTFINANCING (NO. 1) PLC**

(Exact Name ofRegistrant 1 as specified in its charter)

 

**United Kingdom**

(Jurisdiction ofIncorporation or Organization)

 

**Blackwell House, Guildhall Yard,London EC2V 5AE, United Kingdom, (011 44 20) 7556 0972**

(Address of Principal Executive Offices)

 

 

**PERMANENTFUNDING (NO. 1) LIMITED**

(Exact Name ofRegistrant 2 as specified in its charter)

 

**United Kingdom**

(Jurisdiction ofIncorporation or Organization)

 

**Blackwell House, Guildhall Yard,London EC2V 5AE, United Kingdom, (011 44 20) 7556 0972**

(Address of Principal Executive Offices)

 

 

**PERMANENTMORTGAGES TRUSTEE LIMITED**

(Exact Name ofRegistrant 3 as specified in its charter)

 

**Jersey, Channel Islands**

(Jurisdiction ofIncorporation or Organization)

 

**47 Esplanade, St. Helier, Jersey JE10BD, (011 44 1534) 510 924**

(Address of Principal Executive Offices)

 

Securities registered orto be registered pursuant to Section 12(b) of the Act:                          **None.**

 

Securities registered orto be registered pursuant to Section 12(g) of the Act:                          **None.**

 

 

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Securitiesfor which there is a reporting obligation pursuant to Section 15(d) of the Act:

 
| **Title of each class** |   |
|-------------------------|--------|

 

$750,000,000series 1 class A notes due June 2003

 

$26,000,000series 1 class B notes due June 2042

 

$26,000,000series 1 class C notes due June 2042

 

$750,000,000series 2 class A notes due June 2007

 

$26,000,000series 2 class B notes due June 2042

 

$26,000,000series 2 class C notes due June 2042

 

$1,100,000,000series 3 class A notes due December 2007

 

$38,500,000series 3 class B notes due June 2042

 

$38,500,000series 3 class C notes due June 2042

 

Series1 term AAA advance(1)

 

Series1 term AA advance(1)

 

Series1 term BBB advance(1)

 

Series2 term AAA advance(1)

 

Series2 term AA advance(1)

 

Series2 term BBB advance(1)

 

Series3 term AAA advance(1)

 

Series3 term AA advance(1)

 

Series3 term BBB advance(1)

 

Funding1 interest in the mortgages trust(1)

 

Indicate the number ofoutstanding shares of each of the issuer’s classes of capital or common stockas of the close of the period covered by the annual report.

 

Not applicable.

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.

 

Yes ý   No o

 

Indicate by check markwhich financial statement item the registrant has elected to follow.

 

Not applicable.

 

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(1) These items have not been offered directly to investors. PermanentMortgages Trustee Limited is the registrant for the Funding 1 interest in themortgages trust and is holding the Funding interest in the mortgages trust onbehalf of Permanent Funding (No. 1) Limited. The Funding 1 interest in themortgages trust will be the primary source of payments on the term advanceslisted. Permanent Funding (No. 1) Limited is the registrant for the termadvances and has issued the term advances to Permanent Financing (No. 1) PLC.The term advances are the primary source of payments on the series 1 notes, theseries 2 notes and the series 3 notes. Permanent Financing (No. 1) PLC is theregistrant for the series 1 notes, the series 2 notes and the series 3 notes.

 

 

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**PRESENTATION OF INFORMATION**

 

This annual report onForm 20-F relates to Permanent Financing (No. 1) PLC (the “issuer”) and thefollowing securities (the “issuer notes”), which were issued pursuant to atrust deed dated June 14, 2002 (the “issuer trust deed”), between the issuerand State Street Bank and Trust Company, as note trustee (the “note trustee”):

 

•                  $750,000,000 series 1 class A notesdue June 2003

•                  $26,000,000 series 1 class B notesdue June 2042

•                  $26,000,000 series 1 class C notesdue June 2042

•                  $750,000,000 series 2 class A notesdue June 2007

•                  $26,000,000 series 2 class B notesdue June 2042

•                  $26,000,000 series 2 class C notesdue June 2042

•                  $1,100,000,000 series 3 class A notesdue December 2007

•                  $38,500,000 series 3 class B notesdue June 2042

•                  $38,500,000 series 3 class C notesdue June 2042

 

This annual report onForm 20-F also relates to the following advances made pursuant to the  intercompany loan agreement dated June 14,2002 (the “issuer intercompany loan agreement”), between the issuer, PermanentFunding (No. 1) Limited (“Funding 1”), State Street Bank and Trust Company, assecurity trustee (the “security trustee”) and Citibank, N.A., as agent bank:

 

•                  £509,614,731 Series 1 Term AAAAdvance

•                  £17,666,644 Series 1 Term AA Advance

•                  £17,666,644 Series 1 Term BBB Advance

•                  £509,614,731 Series 2 Term AAAAdvance

•                  £17,666,644 Series 2 Term AA Advance

•                  £17,666,644 Series 2 Term BBB Advance

•                  £748,299,320 Series 3 Term AAAAdvance

•                  £26,190,476 Series 3 Term AA Advance

•                  £26,190,476 Series 3 Term BBB Advance

 

This annual report onForm 20-F further relates to Funding 1’s interest in the mortgages trust,comprising, among other things, the initial portfolio of loans and theirrelated security assigned to Permanent Mortgages Trustee Limited (the“mortgages trustee”) by Halifax plc (the “seller”) on June 14, 2002 (the“closing date”), any new loans and their new related security assigned to themortgages trustee by the seller after the closing date, any increase in theoutstanding principal balance of a loan due to the borrower taking paymentholidays or making underpayments under a loan or a borrower making a drawingunder any flexible loan, any interest, principal and other amounts (excludingthird party amounts) paid by borrowers on their loans and their relatedsecurity, the rights under the insurance policies that are assigned to themortgages trustee or of which the mortgages trustee has the benefit, andamounts on deposit and interest earned on the mortgages trustee guaranteedinvestment contract.  The mortgagestrustee guaranteed investment contract, or GIC, account is the bank account inwhich the mortgages trustee holds any cash that is part of the trust propertyuntil it is distributed to the beneficiaries. Any actual losses in relation to the loans, any actual reductionsoccurring in respect of the loans and distributions of principal made from timeto time to the beneficiaries or the mortgages trust will be deducted from thetrust property. The composition of the trust property will fluctuate asdrawings under flexible loans and new loans are added and as the loans that werepreviously part of the trust property are repaid, mature, default or arerepurchased by the seller.

 

On December 31, 2002,U.S. Bank National Association acquired the corporate trust business of StateStreet Bank and Trust Company, the note trustee and the security trustee underthe issuer deed of charge and the Funding 1 deed of charge.  State Street Bank and Trust Companysubsequently appointed U.S. Bank National Association co-note trustee andco-security trustee. On March 31, 2003, 

 

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State Street Bank and Trust Company and U.S. Bank National Associationgave notice of their retirement as co-note trustees and co-security trustees,which will become effective when a replacement note trustee and securitytrustee are appointed.  See “Item 14 —Material Modifications to the Rights of Security Holders and Use of Proceeds”.

 

Certain terms used hereinand not defined have the same meaning ascribed to such terms in theRegistration Statement filed on Form S-11 (the “Registration Statement”)relating to the securities (file number 333-88874).

 

Certain items in Form20-F are not applicable to annual reports filed on Form 20-F.  Therefore, as used in this filing, “Notapplicable to annual reports filed on Form 20-F” means that the response to thereferenced item is omitted in reliance on the instructions to Form 20-Fpublished by the United States Securities and Exchange Commission (the “SEC”)as of the date of this annual report that specifically state that the item isinapplicable to annual reports filed on Form 20-F.

 

Certain items in Form20-F are not applicable to the issuer, Funding 1 or the mortgages trustee.  Therefore, as used in this filing, “NotApplicable” means the response to the reference item is omitted in reliance onthe procedures outlined in numerous no-action letters issued by the staff ofthe SEC with respect to issuers of substantially similar asset-backedsecurities that file annual reports on Form 10-K, or that the referenced itemis otherwise not applicable.

 

**FORWARD-LOOKING STATEMENTS**

 

This annual reportincludes forward-looking statements including, but not limited to, statementsmade under the “Risk Factors” section. These forward-looking statements can be identified by the use offorward-looking terminology, such as the words “believes”, “expects”, “may”,“intends”, “should” or “anticipates”, or the negative or other variations ofthose terms.  These statements involveknown and unknown risks, uncertainties and other important factors that couldcause the actual results and performance of the issuer notes, the seller or theUK residential mortgage industry to differ materially from any future resultsor performance expressed or implied in the forward-looking statements.  These risks, uncertainties and other factorsinclude, among others: general economic and business conditions in the UK;currency exchange and interest fluctuations; government, statutory, regulatoryor administrative initiatives affecting the seller, changes in business strategy,lending practices or customer relationships and other factors that may bereferred to in this annual report.

 

Some of the mostsignificant of these risks, uncertainties and other factors are discussed inthe section of this annual report entitled “Risk Factors”. Investors areencouraged to carefully consider those factors prior to making an investmentdecision regarding the issuer notes.

 

**INCORPORATION OF CERTAIN DOCUMENTS BYREFERENCE**

 

Each of the issuer,Funding 1 and the mortgages trustee incorporates by reference its periodicfilings on Form 6-K, which contain all financial information relating to thesecurities relevant to the holders of the issuer notes.

 

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**PART I**

 

**Item 1.  Identity ofDirectors, Senior Management and Advisers**

 

Not applicable to annualreports filed on Form 20-F.

 

**Item 2.  OfferStatistics and Expected Timetable**

 

Not applicable to annualreports filed on Form 20-F.

 

**Item 3.  KeyInformation**

 

A.*            SelectedFinancial Data*

 

Each of the issuer,Funding 1 and the mortgages trustee incorporates by reference and attacheshereto as exhibits the following reports, filed on Form 6-K, which include allfinancial information relating to the securities that is relevant to holders ofthe issuer notes:

 

•                  Investor’s Report for the month ofJune 2002

•                  Investor’s Report for the month ofJuly 2002

•                  Investor’s Report for the month ofAugust 2002

•                  Investor’s Report for the month ofSeptember 2002

•                  Investor’s Report for the month ofOctober 2002

•                  Investor’s Report for the month ofNovember 2002

•                  Investor’s Report for the month ofDecember 2002

 

B.*            Capitalizationand Indebtedness*

 

Not applicable to annualreports filed on Form 20-F.

 

C.*            Reasonsfor the Offer and Use of Proceeds*

 

Not applicable to annualreports filed on Form 20-F.

 

D*.            RiskFactors*

 

*Thissection describes the principal risk factors associated with an investment inthe issuer notes. Investors considering purchasing the issuer notes shouldcarefully read and think about all the information contained in this document,including the risk factors set out here, prior to making any investmentdecision.*

 

**Noteholders cannot rely on any personother than the issuer to make payments on the issuer notes**

 

The issuer notes do notrepresent an obligation and are not the responsibility of any of Halifax plc orany of its affiliates, underwriters, managers, the mortgages trustee, the notetrustee or any other party to the transaction other than the issuer.

 

**The issuer has a limited set ofresources available to it to make payments on the issuer notes**

 

The issuer’s ability tomake payments of principal and interest on the issuer notes and to pay itsoperating and administrative expenses will depend primarily on the funds beingreceived under the issuer intercompany loan. In addition, the issuer will rely on the issuer dollar currency swapsand the

 

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issuer euro currency swap to provide payments on the issuer notesdenominated in US dollars and euro, respectively.  Noteholders should note that there is no liquidity facilitydirectly available to the issuer, although Funding 1 has the benefit of aliquidity facility to pay interest on the issuer term advances corresponding tothe issuer notes and to pay principal on the class A issuer notes other thanthe series 4 class A2 issuer notes.  Theability of Funding 1 to draw on the Funding 1 liquidity facility is subject tosatisfying certain conditions precedent. In addition, if new issuers areestablished, each new issuer will have an indirect interest in the Funding 1liquidity facility (which will be available to meet interest and principalobligations of Funding 1 to new issuers, subject to certain conditionsprecedent).  If a drawing is made underthe Funding 1 liquidity facility to enable Funding 1 to meet its obligations tonew issuers, then that may affect the amount of funds available to Funding 1 tomeet its obligations to the issuer.

 

The issuer will not haveany other significant sources of funds available to meet its obligations underthe issuer notes and/or any other payments ranking in priority to the issuernotes.

 

**Funding 1 is not obliged to makepayments on the issuer term advances if it does not have enough money to do so,which could adversely affect payments on the issuer notes**

 

Funding 1’s ability topay amounts due on the issuer term advances will depend upon:

 

•                  Funding 1 receiving enough funds fromits entitlement to the trust property on or before each Funding 1 interestpayment date;

 

•                  Funding 1 receiving the requiredfunds from the Funding 1 swap provider;

 

•                  the amount of funds credited to thereserve fund;

 

•                  Funding 1 making drawings aspermitted under the Funding 1 liquidity facility; and

 

•                  the allocation of funds between theissuer term advances and any new term advances.

 

According to the terms ofthe mortgages trust deed, the mortgages trustee is obliged to pay to Funding 1the Funding 1 share percentage of revenue receipts on the loans by creditingthose amounts to the Funding 1 GIC account on each distribution date.  The mortgages trustee is obliged to payFunding 1 principal receipts on the loans by crediting those amounts to theFunding 1 GIC account as and when required pursuant to the terms of themortgages trust deed.

 

Funding 1 will be obligedto pay revenue receipts due to the issuer under the issuer intercompany loanonly to the extent that it has revenue receipts left over after making paymentsranking in priority to the issuer, such as payments of certain fees andexpenses of Funding 1 and payments on certain higher ranking new term advancesunder new intercompany loans.

 

Funding 1 will be obligedto pay principal receipts due to the issuer under the issuer intercompany loanonly to the extent that it has principal receipts available for that purposeafter repaying amounts ranking in priority to the issuer (including repayingany higher ranking new term advances).

 

If there is a shortfallbetween the amounts payable by Funding 1 to the issuer under the issuerintercompany loan agreement and the amounts payable by the issuer on the issuernotes, the noteholders may, depending on what other sources of funds areavailable to the issuer and to Funding 1, not receive the full amount ofinterest and/or principal which would otherwise be due and payable on theissuer notes.

 

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**Failure by Funding 1 to meet itsobligations under the issuer intercompany loan agreement would adversely affectpayments on the issuer notes**

 

If Funding 1 does notmake payments due and payable on the issuer intercompany loan, then the issuermay not have enough money to make payments on the issuer notes, and in additionthe issuer will have only limited recourse to the assets of Funding 1.  If Funding 1 does not pay amounts under theissuer intercompany loan because it does not have enough money available, thoseamounts will be deemed not to be due and payable, so there will not be an eventof default under the issuer intercompany loan, and the issuer will not haverecourse to the assets of Funding 1 in that instance.

 

**On the final repayment date of theissuer intercompany loan any outstanding amounts in respect of the issuer termAA advances and the issuer term BBB advances will be extinguished, which wouldcause a loss on any class B issuer notes and any class C issuer notes stilloutstanding**

 

The transaction has beenstructured in the expectation that on the final repayment date of the issuerintercompany loan in June 2042, the interest and principal due and payable onthe issuer term AA advances and the issuer term BBB advances will be in anamount equal to the sum available to pay all outstanding interest and/orprincipal (including interest and/or principal deferred and unpaid) on theissuer term AA advances and the issuer term BBB advances (after paying amountsof a higher order of priority as required by the Funding 1 priority ofpayments).

 

If there is a shortfallbetween the amount available to pay the interest and/or principal and theamount required to pay all outstanding interest and/or principal on the issuerterm AA advances and the issuer term BBB advances, then the shortfall will bedeemed to be not due and payable under the issuer intercompany loan agreementand the issuer will not have any claim against Funding 1 for the shortfall.

 

If there is a shortfallin interest and/or principal payments under the issuer intercompany loanagreement, the noteholders may not receive the full amount of interest and/orprincipal which would otherwise be due and payable on the class B issuer notesor the class C issuer notes outstanding.

 

**Enforcement of the issuer security isthe only remedy for a default in the issuer’s obligations, and the proceeds ofthat enforcement may not be enough to make payments on the issuer notes**

 

The only remedy forrecovering amounts on the issuer notes is through the enforcement of the issuersecurity.  The issuer has no recourse tothe assets of Funding 1 unless Funding 1 has also defaulted on its obligationsunder the issuer intercompany loan and the Funding 1 security has beenenforced.

 

If the security createdas required by the issuer deed of charge is enforced, the proceeds ofenforcement may be insufficient to pay all principal and interest due on theissuer notes.

 

**The transaction has been structuredin the expectation that the series 1 issuer notes will be redeemed before theseries 2 issuer notes and so on**

 

The transaction has beenstructured in the expectation that:

 

•                  the series 1 issuer notes will beredeemed in full prior to the redemption of the series 2 issuer notes, theseries 3 issuer notes and the series 4 issuer notes;

 

•                  the series 2 issuer notes will beredeemed in full prior to the redemption of the series 3 issuer notes and theseries 4 issuer notes;

 

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•                  the series 3 issuer notes will beredeemed in full prior to the redemption of the series 4 issuer notes; and

 

•                  the series 4 class A1 issuer noteswill be redeemed in full prior to the redemption of the series 4 class A2issuer notes.

 

This means, among otherthings, that the series 1 class B issuer notes and the series 1 class C issuernotes are expected to be redeemed before the series 2 class A issuer notes, theseries 3 class A issuer notes and the series 4 class A issuer notes, eventhough the series 2 class A issuer notes, the series 3 class A issuer notes andthe series 4 class A issuer notes have a higher rating that the series 1 classB issuer notes and the series 1 class C issuer notes.  Similarly, the series 2 class B issuer notes and the series 2class C issuer notes are expected to be redeemed before the series 3 class Aissuer notes and the series 4 class A issuer notes.

 

However, there is noassurance that the series 1 issuer notes will be redeemed in full before theseries 2 issuer notes, the series 3 issuer notes and the series 4 issuer notesor that the series 2 issuer notes will be redeemed in full before the series 3issuer notes and the series 4 issuer notes or that the series 3 issuer noteswill be redeemed in full before the series 4 issuer notes or that the series 4class A1 issuer notes will be redeemed in full before the series 4 class A2issuer notes.  In each case, redemptionof the issuer notes is ultimately dependent on, among other things, repaymentand redemptions on the loans and on the term advance rating of the issuer termadvances.

 

Further, if on anyinterest payment date, amounts are due and payable in respect of the class Aissuer notes of any series and amounts are payable in respect of the class Bissuer notes of any series and/or the class C issuer notes of any series, thenpayments of principal will be made on the class A issuer notes in priority topayments of principal on the class B issuer Notes and the class C issuer notes.  Similarly, if on any interest payment date,amounts are payable in respect of the class B issuer notes of any series andthe class C issuer notes of any series, then payments of principal will be madeon the class B issuer notes in priority to payments of principal on the class Cissuer notes.

 

**There may be conflicts between thenoteholders’ interests and the interests of any of the issuer’s other securedcreditors, and the interests of those secured creditors may prevail over thenoteholders’ interests**

 

The issuer deed of chargerequires the security trustee to consider the interests of each of the issuersecured creditors in the exercise of all of its powers, trusts, authorities,duties and discretions, but requires the security trustee, in the event of aconflict between the noteholders’ interests and the interests of any of theother issuer secured creditors, to consider only the noteholders’interests.  In certain circumstances,the security trustee can make amendments to the documents without thenoteholders’ prior consent.

 

**The security trustee may agreemodifications to the issuer transaction documents without the noteholders’prior consent, which may adversely affect the noteholders’ interests**

 

Pursuant to the terms of the Funding 1 deed of chargeand the issuer deed of charge, the security trustee may, without the consent orsanction of Funding 1’s secured creditors or the issuer’s secured creditors,concur with any person in making or sanctioning any modifications to thetransaction documents:

 

•                  which in the opinion of the securitytrustee it may be expedient to make, provided that the security trustee is ofthe opinion that the modification will not be materially prejudicial to theinterests of the secured creditors or, if it is not of that opinion in relationto any secured creditor, the secured creditor has given its written consent tothe modification; or

 

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•                  which in the opinion of the securitytrustee is made to correct a manifest error or is of a formal, minor ortechnical nature.

 

The security trustee willbe entitled to assume that the exercise of its discretion will not bematerially prejudicial to the noteholders’ interests if each of the ratingagencies has confirmed that the then current rating by it of the notes wouldnot be adversely affected by such exercise.

 

In addition, the securitytrustee will give its consent to any modifications to the mortgage saleagreement, the servicing agreement, the cash management agreement, the Funding1 deed of charge, the Funding 1 liquidity facility agreement, the Funding 1swap agreement, the intercompany loan terms and conditions, the bank accountagreement and the master definitions and construction schedule, that arerequested by Funding 1 or the cash manager, provided that Funding 1 or the cashmanager certifies to the security trustee in writing that the modifications arerequired in order to accommodate:

 

(i) the additionof new issuers and/or other relevant creditors to the transaction and/or theissuer of new types of notes by new issuers;

 

(ii) the inclusion ofPermanent Funding (No. 2) PLC (“Funding 2”) as a beneficiary of the mortgagestrust and/or the issuer of new notes by Funding 2;

 

(iii) the assignment ofnew types of loans to the mortgages trustee;

 

(iv) changes to be madeto the reserve fund required amount and/or the manner in which the reserve fundis funded;

 

(v) changes to be made tothe definitions of asset trigger event and non-asset trigger event; and

 

(vi) the addition of anadditional Funding 1 liquidity facility;

 

and provided furtherthat:

 

•                  in respect of the matters listed inparagraphs (i), (ii) and (iii), the relevant conditions precedent to, asapplicable, the addition of new issuers, the inclusion of Funding 2 as abeneficiary of the mortgages trust or the assignment of new loans to themortgages trustee, have been satisfied; and

 

•                  in respect of the matters listed inparagraphs (i) to (vi), the security trustee has received written confirmationfrom each of the rating agencies that the relevant modifications will notadversely affect the then current ratings of the notes.

 

The modificationsrequired to give effect to the matters listed in paragraphs (i) to (vi) abovemay include, *inter alia*, amendments to the provisions of the Funding 1deed of charge relating to the application of monies. Accordingly, there can beno assurance that the effect of the modifications to the transaction documentswill not ultimately adversely affect the noteholders’ interests. As applicable,any modifications to the documents described above will require the actualconsent of the Funding 1 liquidity facility provider, the Funding 1 swapprovider and each of the issuer swap providers, such consent not to beunreasonably withheld and to be deemed given if no response (affirmative ornegative) is given within ten business days after the request for consent issent to each party.

 

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**There may be a conflict between theinterests of the holders of class A issuer notes, the holders of class B issuernotes and the holders of class C issuer notes, and the interests of one classof noteholders may prevail over the interests of other classes of noteholders**

 

The issuer trust deed andthe terms of the issuer notes provide that the note trustee is to have regardto the interests of the holders of all the classes of issuer notes. There maybe circumstances, however, where the interests of one class of noteholdersconflict with the interests of another class or classes of noteholders. Theissuer trust deed and the terms of the issuer notes provide that where, in theopinion of the note trustee, there is a conflict, then:

 

•                  the note trustee is to have regardonly to the interests of the class A noteholders in the event of a conflictbetween the interests of the class A noteholders on the one hand and the classB noteholders and the class C noteholders on the other hand; and

 

•                  the note trustee is to have regardonly to the interests of the class B noteholders in the event of a conflictbetween the interests of the class B noteholders on the one hand and the classC noteholders on the other hand.

 

**There may be a conflict between theinterests of the holders of each series of the class A issuer notes, theholders of each series of the class B issuer notes and the holders of eachseries of the class C issuer notes, and the interests of one series ofnoteholders may prevail over the interests of other series of noteholders**

 

There may also becircumstances where the interests of the class A noteholders of one series ofthe issuer notes conflict with the interests of the class A noteholders ofanother series of the issuer notes. Similarly, there may be circumstances where the interests of the class Bnoteholders of one series of the issuer notes conflict with the interests ofthe class B noteholders of another series of the issuer notes or the interestsof the class C noteholders of one series of the issuer notes conflict with theinterests of the class C noteholders of another series of the issuer notes.

 

The issuer trust deed andthe terms of the issuer notes will provide that where, in the sole opinion ofthe note trustee, there is a conflict, then a resolution directing the notetrustee to take any action must be passed at separate meetings of the holdersof each series of the class A issuer notes, or, as applicable, each series ofthe class B issuer notes or each series of the class C issuer notes.  A resolution may only be passed at a singlemeeting of noteholders of each series of the relevant class if the note trusteeis, in its absolute discretion, satisfied that there is no conflict betweenthem.

 

Similar provisions willapply in relation to requests in writing from holders of a specified percentageof the principal amount outstanding of the issuer notes of each class withineach series (the principal amount outstanding being converted into sterling forthe purposes of making the calculation). Noteholders should note that as a result of repayments of principalfirst to the series 1 issuer notes, then to the series 2 issuer notes and tothe series 3 issuer notes and then to the series 4 issuer notes, the principalamount outstanding of each series of the issuer notes will change after theclosing date.

 

**Permanent Holdings Limited(“Holdings”) has established another company, Funding 2, which may become anadditional beneficiary under the mortgages trust**

 

Holdings has establisheda new entity, Funding 2, which may issue new notes from time to time and usethe proceeds to pay for a direct interest in the trust property rather thanlending the proceeds to Funding 1. Simultaneously with the acquisition by Funding 2 of an interest in thetrust property, the seller and Funding 1, as existing beneficiaries of themortgages trust, would be required to agree to a decrease in their beneficialinterests in the trust property (which would require a partial release ofsecurity by Funding 1 over its share in the trust property).

 

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The seller, Funding 1 andFunding 2 would each have a joint and undivided interest in the trust propertybut their entitlement to the proceeds from the trust property would be inproportion to their respective shares of the trust property.  On each distribution date the mortgagestrustee would distribute interest and principal receipts to one, two or allthree beneficiaries, depending on the terms of the mortgages trust.

 

It is anticipated thatFunding 2 will issue notes directly to investors from time to time backed byits share of the trust property. Noteholders would not have a direct or indirect interest in Funding 2’sshare of the trust property.

 

Amendments would be madeto a number of the issuer transaction documents as a result of the inclusion ofFunding 2 as a beneficiary of the mortgages trust.  In particular (but without limitation), amendments would be madeto:

 

•                  the mortgage sale agreement to enablethe purchase by Funding 2 of interests in the trust property;

 

•                  the mortgages trust deed (i) toestablish Funding 2 as a beneficiary of the trust, (ii) to enable theacquisition by Funding 2 of an interest in the trust property from time to time(and vice versa) and (iii) to regulate the distribution of interest andprincipal receipts in the trust property to Funding 2 and the otherbeneficiaries; and

 

•                  the cash management agreement toregulate the application of monies to Funding 2.

 

There may be conflicts ofinterest between Funding 1 and Funding 2, in which case it is expected that themortgages trustee will follow the directions given by the relevant beneficiary(excluding the seller) that has the largest share of the trust property at thattime.  The interests of Funding 1 maynot prevail, which may adversely affect the noteholders’ interests.

 

Noteholders’ priorconsent to the inclusion of Funding 2 as a beneficiary of the mortgages trustand the subsequent amendments to the documents and/or release of security byFunding 1 will not be obtained. Before becoming a beneficiary of the mortgagestrust, however, Funding 2 will be required to satisfy a number of conditions,including:

 

•                  obtaining a written confirmation fromeach of the rating agencies that the then current ratings of the notesoutstanding at that time will not be adversely affected as a result of Funding2 becoming a beneficiary of the mortgages trust;

 

•                  providing written certification tothe security trustee that no event of default under any of Funding 1’sintercompany loan agreements outstanding at that time has occurred which hasnot been remedied or waived and no event of default will occur as a result ofFunding 2 becoming a beneficiary of the mortgages trust; and

 

•                  providing written certification tothe security trustee that no principal deficiency is recorded on the principaldeficiency ledger in relation to Funding 1’s term advances that are outstandingat that time.

 

There can be no assurancethat the inclusion of Funding 2 as a beneficiary of the mortgages trust wouldnot affect cashflows available to pay amounts due on the noteholders’ issuernotes and therefore adversely affect the noteholders’ interests.

 

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**If Funding 1 enters into newintercompany loan agreements, then the new term advances may rank ahead ofissuer term advances as to payment, and accordingly new notes may rank ahead ofthe issuer notes as to payment**

 

It is likely thatHoldings will establish new issuers to issue new notes to investors.  The proceeds of each new issue will be usedby the new issuer to make a new intercompany loan to Funding 1.  Funding 1 will use the proceeds of the newintercompany loan either to:

 

•                  pay the seller for new loans andtheir related security to be assigned to the mortgages trustee;

 

•                  pay the seller for a portion of theexisting seller share of the trust property to be assigned to Funding 1;

 

•                  refinance an intercompany loan orintercompany loans outstanding at that time (and if the issuer’s intercompanyloan to Funding 1 is refinanced, noteholders could be repaid early); and/or

 

•                  deposit some of those proceeds in thereserve fund.

 

The order in whichFunding 1 pays principal and interest to the issuer on the issuer term advancesand to any new issuer on the new term advances will depend primarily on thedesignated ratings of those term advances. In general, term advances with the highest term advance rating will bepaid ahead of lower rated term advances, subject to their relative scheduledrepayment dates.  For example, Funding 1will pay interest due on the issuer term AAA advances proportionally andequally with the interest due on any new term AAA advances and ahead ofpayments of interest due on any term advance with a lower term advance ratingthan AAA (including, for the avoidance of doubt, any issuer term AA advance orissuer term BBB advance).  Similarly,Funding 1 will, in general, repay principal amounts due on the issuer termadvances and any new term advances in accordance with their respective termadvance ratings, subject to their relative scheduled repayment dates and/orfinal repayment dates.  For example,principal repayments due on an issuer term AAA advance generally will be madebefore principal repayments due on a new term AA advance.  This principle is subject to a number ofexceptions, however, which are designed primarily to provide some protectionthat scheduled repayments of principal on the issuer term advances will notmaterially affect payments of principal on any new term advances, and viceversa.

 

The term advance ratingsdesignated to the issuer term advances on the closing date will not change evenif the ratings assigned to the corresponding classes of the issuer noteschange.

 

The current payment andsecurity priorities of the issuer notes relative to each other as set out inthe issuer deed of charge and the issuer cash management agreement will not beaffected as a result of an issue of new notes by a new issuer, because that newissue will be separately documented. However, Funding 1 may be required to repay to a new issuer amountsowing under a new term advance ahead of or in the same order of priority asamounts owing to the issuer on the issuer term advances, depending on the termadvance rating, the scheduled repayment date of that new term advance andcertain other rules regarding the repayment of principal by Funding 1.  If this is the case, then the relevant newnoteholders will be paid before the noteholders.

 

If Holdings establishesnew issuers to make new intercompany loans to Funding 1, the noteholders willnot have any right of prior review or consent with respect to those newintercompany loans or the corresponding issuance by new issuers of newnotes.  Similarly, the terms of theFunding 1 transaction documents (including the mortgage sale agreement, themortgages trust deed, the Funding 1 deed of charge, the definitions of thetrigger events, the criteria for the assignment of new loans to the mortgagestrustee and the amount available to be drawn under the Funding 1 liquidityfacility) may be amended to reflect the new issue.  Noteholders’ consent to these changes will not be required. Therecan be no assurance that these changes will not affect the cashflows availableto pay amounts due on the issuer notes.

 

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Before issuing new notes,however, a new issuer will be required to satisfy a number of conditions,including:

 

•                  obtaining a written confirmation fromeach of the rating agencies that the then current ratings of the notesoutstanding at that time will not be adversely affected because of the newissue;

 

•                  providing written certification tothe security trustee that no event of default under any of the intercompanyloan agreements outstanding at that time has occurred which has not beenremedied or waived and no event of default will occur as a result of the issueof the new notes; and

 

•                  providing written certification tothe security trustee that no principal deficiency is recorded on the principaldeficiency ledger in relation to the term advances outstanding at that time.

 

**Other creditors will share in thesame security granted by Funding 1 to the issuer, and this may adversely affectpayments on the issuer notes**

 

If Funding 1 enters intoa new intercompany loan agreement, then if required it will also enter into anew start-up loan agreement with new start-up loan providers and the securitytrustee.  If required by the ratingagencies, Funding 1 will use part of the proceeds of the new start-up loan tofund further the existing reserve funds.

 

Similarly, if necessary,Funding 1 will also enter into a new Funding 1 swap with either the Funding 1swap provider or a new Funding 1 swap provider and the security trustee.

 

The new issuer, any newstart-up loan provider and any new Funding 1 swap provider will become party tothe Funding 1 deed of charge and will be entitled to share in the securitygranted by Funding 1 for its benefit (and the benefit of the other Funding 1secured creditors) under the Funding 1 deed of charge.  In addition, the liabilities owed to theFunding 1 liquidity facility provider and the Funding 1 swap provider which aresecured by the Funding 1 deed of charge may increase each time that Funding 1enters into a new intercompany loan agreement. Those factors could ultimately cause a reduction in the payments noteholdersreceive on the issuer notes. Noteholders’ consent to the requisite changes to the transitiondocuments will not be obtained.

 

**There may be conflicts between theissuer and any new issuers, and the issuer’s interests may not prevail, whichmay adversely affect payments on the issuer notes**

 

The security trustee willexercise its rights under the Funding 1 deed of charge only in accordance withdirections given by the issuers (which could be the issuer and, if Funding 1enters into new intercompany loans, any new issuer) that have thehighest-ranking outstanding term advances, provided that the security trusteeis indemnified and/or secured to its satisfaction.

 

If the security trusteereceives conflicting directions, it will follow the directions given by therelevant issuers representing the largest principal amount outstanding ofrelevant term advances.  If the issueris not in the group representing that largest principal amount, then itsinterests may not prevail.  This couldultimately cause a reduction in the payments the noteholders receive on theissuer notes.

 

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**As new loans are assigned to themortgages trustee, the characteristics of the trust property may change fromthose existing at the closing date, and those changes may adversely affectpayments on the issuer notes**

 

There is no guaranteethat any new loans assigned to the mortgages trustee will have the samecharacteristics as the loans in the initial portfolio as of the closingdate.  In particular, new loans may havedifferent payment characteristics than the loans in the initial portfolio as ofthe closing date.  The ultimate effectof this could be to delay or reduce the payments the noteholders receive on theissuer notes.

 

**The yield to maturity of the issuernotes may be adversely affected by prepayments or redemptions on the loans**

 

The yield to maturity ofthe issuer notes of each class will depend mostly on (a) the amount and timingof payment of principal on the loans and (b) the price paid by noteholders ofeach class of issuer notes.  The yieldto maturity of the issuer notes of each class may be adversely affected by ahigher or lower than anticipated rate of prepayments on the loans.

 

No assurance can be giventhat Funding 1 will accumulate sufficient funds during the cash accumulationperiod relating to the issuer series 2 term AAA advance, the issuer series 3term AAA advance or the issuer series 4A1 term AAA advance to enable it torepay these issuer bullet term advances to the issuer so that the correspondingclasses of issuer notes will be redeemed in their entirety on their scheduledredemption dates.

 

During the cashaccumulation period for the issuer bullet term advances, repayments ofprincipal will only be made on the issuer series 4A2 term AAA advance, theissuer term AA advances or the issuer term BBB advances that are due andpayable if the quarterly CPR of the loans in the trust property is greater than15 percent and certain other conditions are met.  This means that there may be no corresponding repayments ofprincipal on the class B issuer notes or the class C issuer notes.

 

The extent to whichsufficient funds are saved by Funding 1 during a cash accumulation period orreceived by it from its share in the mortgages trust on a scheduled repaymentdate will depend on whether the actual principal prepayment rate of the loansis the same as the assumed principal prepayment rate.  If Funding 1 is not able to save enough money during a cashaccumulation period or does not receive enough money from its share in themortgages trust on a scheduled repayment date to repay the relevant issuerbullet term advance (and if it is unable to make a drawing on the Funding 1liquidity facility or the reserve fund to make good the shortfall) so that theissuer can redeem the class A issuer notes of the corresponding series on theirrespective scheduled redemption date(s), then Funding 1 will be required to payto the issuer on those scheduled redemption dates only the amount that it has actuallysaved or received.  Any shortfall willbe deferred and paid on subsequent Funding 1 interest payment dates whenFunding 1 has money available to make the payment.  In these circumstances, unless Funding 1 is able to make adrawing on the Funding 1 liquidity facility, there will be a variation in theyield to maturity of the relevant class of issuer notes.

 

**The issuer’s ability to redeem theseries 1 class A issuer notes, series 2 class A issuer notes and/or the series3 class A issuer notes and/or the series 4 class A1 issuer notes on theirscheduled redemption dates is affected by the rate of prepayment on the loans**

 

The rate of prepayment ofloans is influenced by a wide variety of economic, social and other factors,including prevailing mortgage market interest rates, the availability ofalternative financing programs, local and regional economic conditions andhomeowner mobility.  For instance,prepayments on the loans may be due to borrowers refinancing their loans andsales of properties by borrowers (either voluntarily or as a result ofenforcement action taken).  In addition, if theseller is required to repurchase a loan or loans under a mortgageaccount and their related security because, for example, one of the loansdoes not comply with the loan warranties in the mortgage sale agreement, thenthe payment received by the mortgages trustee will have the same effect as aprepayment of all of the loans under the mortgage account.  Because these factors are not

 

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within its control or the control of Funding 1 or the mortgagestrustee, the issuer cannot give any assurances as to the level of prepaymentsthat the portfolio may experience.

 

Variation in the rate ofprepayments of principal on the loans may affect each class of the issuer notesdifferently depending upon amounts already repaid by Funding 1 to the issuerunder the issuer intercompany loan and whether a trigger event has occurred, ora loan is subject to a product switch or a further advance or the securitygranted by the issuer under the issuer deed of charge has been enforced.  If prepayments on the loans occur lessfrequently than anticipated, then there may not be sufficient funds availableto redeem the series 1 class A issuer notes, series 2 class A issuer notesand/or the series 3 class A issuer notes and/or the series 4 class A1 issuernotes in full on their respective scheduled redemption dates.

 

**The seller may change the lendingcriteria relating to loans that are subsequently assigned to the mortgagestrustee, which could affect the characteristics of the trust property and whichmay adversely affect payments on the issuer notes**

 

Each of the loans wasoriginated in accordance with the seller’s lending criteria at the time oforigination.  These lending criteriaconsider a variety of factors such as a potential borrower’s credit history,employment history and status and repayment ability, as well as the value ofthe property to be mortgaged.  In theevent of the assignment of any new loans and new related security to themortgages trustee, the seller will warrant that those new loans and new relatedsecurity were originated in accordance with the seller’s lending criteria atthe time of their origination.  However,the seller retains the right to revise its lending criteria as determined fromtime to time, and so the lending criteria applicable to any loan at the time ofits origination may not be or have been the same as those when other loans wereoriginated.  If new loans that have beenoriginated under revised lending criteria are assigned to the mortgagestrustee, the characteristics of the trust property could change.  This could lead to a delay or a reduction inthe payments received on the issuer notes.

 

**The seller has adopted proceduresrelating to investigations and searches for remortgages which could affect thecharacteristics of the trust property and which may adversely affect paymentson the issuer notes**

 

The seller does notrequire a solicitor or licensed conveyancer to conduct a full investigation ofthe title to a property in all cases. Where the borrower is remortgaging there will be a limited investigationto carry out some but not all of the searches and investigations which wouldnormally be carried out in England and Wales by a solicitor conducting a fullinvestigation of the title to a property. Properties which have undergone such a limited investigation may besubject to matters which would have been revealed by a full investigation oftitle and which may have been remedied or, if incapable of remedy, may haveresulted in the properties not being accepted as security for a loan had thematters been revealed, though to mitigate against this risk search indemnityinsurance is obtained in respect of the properties.  The introduction of loans secured by the properties into thetrust property could result in a change of the characteristics of the trustproperty.  This could lead to a delay ora reduction in the payments received on the issuer notes.

 

**The timing and amount of payments onthe loans could be affected by various factors that may adversely affectpayments on the issuer notes**

 

The loans are affected bycredit, liquidity and interest rate risks. Various factors influence mortgage delinquency rates, prepayment rates,repossession frequency and the ultimate payment of interest and principal, suchas changes in the national or international economic climate, regional economicor housing conditions, changes in tax laws, interest rates, inflation, theavailability of financing, yields on alternative investments, politicaldevelopments and government policies. Other factors in borrowers’ individual, personal or financialcircumstances may affect the ability of borrowers to repay loans.  Loss of earnings, illness, divorce and othersimilar factors may lead to an

 

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increase in delinquencies by and bankruptcies of borrowers, and couldultimately have an adverse impact on the ability of borrowers to repay loans.

 

In addition, the abilityof a borrower to sell a property given as security for a loan at a pricesufficient to repay the amounts outstanding under the loan will depend upon anumber of factors, including the availability of buyers for that property, thevalue of that property and property values in general at the time.

 

In addition, the mortgageloan industry in the United Kingdom is highly competitive.  This competitive environment may affect therate at which the seller originates new loans and may also affect the level ofattrition of the seller’s existing borrowers.

 

The principal source ofincome for repayment of the issuer notes by the issuer is the issuerintercompany loan.  The principal sourceof income for repayment by Funding 1 of the issuer intercompany loan is itsinterest in the loans held on trust by the mortgages trustee for Funding 1 andthe seller.  If the timing and paymentof the loans is adversely affected by any of the risks described in thissection, the payments on the issuer notes could be reduced or delayed.

 

**The occurrence of trigger events andenforcement of the issuer security may adversely affect the scheduledredemption dates of the series 1 class A issuer notes, series 2 class A issuernotes, series 3 class A issuer notes and/or series 4 class A1 issuer notes**

 

If no trigger event hasoccurred and the issuer security has not been enforced in accordance with theterms of the issuer deed of charge, then payments of principal will not occuron the series 1 class A issuer notes, series 2 class A issuer notes and/orseries 3 class A issuer notes and/or series 4 class A1 issuer notes beforetheir respective scheduled redemption dates.

 

If a trigger event occursor the issuer security is enforced in accordance with the issuer deed of chargeprior to the scheduled redemption dates for the series 1 class A issuer notes,series 2 class A issuer notes and/or series 3 class A issuer notes and/orseries 4 class A1 issuer notes, then the relevant classes of issuer notesoutstanding will not be repaid on their scheduled redemption dates but will berepaid on each interest payment date from monies received from Funding 1 on theissuer term AAA advances of the corresponding series as described in thefollowing three risk factors.

 

**If an asset trigger event occurs, anyseries 1 class A issuer notes, series 2 class A issuer notes, series 3 class Aissuer notes, and/or series 4 class A1 issuer notes then outstanding will notbe repaid on their scheduled redemption dates**

 

When an asset triggerevent has occurred, the mortgages trustee will distribute principal receipts onthe loans to Funding 1 and the seller proportionally and equally based on theirpercentage shares of the trust property (that is, the Funding 1 sharepercentage and the seller share percentage). When an asset trigger event has occurred, Funding 1 will repay (aftermaking requisite payments to the Funding 1 liquidity facility provider and toreplenish the reserve fund):

 

*first*, the issuerterm AAA advances of each series proportionally and equally, until all of thoseterm AAA term advances are fully repaid;

 

*second*, the issuerterm AA advances of each series proportionally and equally, until all of thoseterm AA term advances are fully repaid; and

 

*third*, the issuerterm BBB advances of each series proportionally and equally, until all of thoseterm BBB term advances are fully repaid, until all of those term BBB termadvances are fully repaid.

 

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This order of priority ofpayments may change if Funding 1 enters into new intercompany loan agreementsand if an issuer’s security is enforced. If an asset trigger event occurs, any series 1 class A issuer notes,series 2 class A issuer notes and/or series 3 class A issuer notes and/orseries 4 class Al issuer notes then outstanding will not be repaid on theirscheduled redemption dates, and there is also a risk that they will not berepaid by their final maturity dates.

 

**If a non-asset trigger event occurs,any series 1 class A issuer notes, series 2 class A issuer notes, series 3class A issuer notes and/or series 4 class A1 issuer notes then outstandingwill not be repaid on their scheduled redemption dates**

 

If a non-asset triggerevent has occurred, the mortgages trustee will distribute all principalreceipts to Funding 1 until the Funding 1 share percentage of the trustproperty is zero.  When a non-assettrigger event has occurred, Funding 1 will repay (after making requisitepayments to the Funding 1 liquidity facility provider and to replenish thereserve fund):

 

*first*, the issuerseries 1 term AAA advance until the issuer series 1 term AAA advance is fullyrepaid;

 

*then*, the issuerseries 2 term AAA advance until the issuer series 2 term AAA advance is fullyrepaid;

 

*then*, the issuerseries 3 term AAA advance until the issuer series 3 term AAA advance is fullyrepaid;

 

*then*, the issuerseries 4A1 term AAA advance until the issuer series 4A1 term AAA advance isfully repaid;

 

*then*, the issuerseries 4A2 term AAA advance until the issuer series 4A2 term AAA advance isfully repaid;

 

*then*, the issuerterm AA advances until all of those issuer term AA advances are fully repaid;and

 

*finally*, theissuer term BBB advances until all of those issuer term BBB advances are fullyrepaid.

 

This order of priority ofpayments will change if Funding 1 enters into new intercompany loan agreementsand if an issuer’s security is enforced. If a non-asset trigger event occurs, any series 1 class A issuer notes,series 2 class A issuer notes, series 3 class A issuer notes and/or series 4class A1 issuer notes then outstanding will not be repaid on their scheduledredemption dates.

 

**If the issuer security is enforced,any series 1 class A issuer notes, series 2 class A issuer notes, series 3class A issuer notes and/or series 4 class A1 issuer notes then outstandingwill not be repaid on their scheduled redemption dates**

 

If the issuer security isenforced, then the mortgages trustee will distribute funds as required underthe terms of the transaction agreements. In these circumstances, any series 1 class A issuer notes, series 2class A issuer notes, series 3 class A issuer notes and/or series 4 class A1issuer notes then outstanding will not be repaid on their scheduled redemptiondates and there is also a risk that those class A issuer notes may not berepaid by their final maturity dates.

 

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**Loans subject to further advanceswill be repurchased by the seller from the mortgages trustee, which will affectthe prepayment rate of the loans, and this may affect the yield to maturity ofthe issuer notes**

 

If the servicer at itsdiscretion decides to grant a borrower a further advance under a loan which hasbeen assigned to the mortgages trustee, then the seller will be required torepurchase that loan under the relevant mortgage account and its relatedsecurity from the mortgages trustee save for any loan in arrears at a priceequal to the outstanding principal balance of those loans together with anyaccrued and unpaid interest and expenses to the date of purchase.  The yield to maturity of the issuer notesmay be affected by the repurchase of loans subject to further advances.

 

**In limited circumstances, loanssubject to product switches will be repurchased by the seller from themortgages trustee, which will affect the prepayment rate of the loans, and thismay affect the yield to maturity of the issuer notes**

 

Loans subject to productswitches will not be repurchased unless on any distribution date, the seller isin breach of the conditions precedent to the sale of new loans to the mortgagestrustee.  From and including that dateto but excluding the date when those conditions precedent have been satisfied,the seller will be required to repurchase any loans and their related securitythat are subject to product switches. The seller will be required to repurchase the relevant loan or loansunder the relevant mortgage account and their related security from themortgages trustee at a price equal to the outstanding principal balance ofthose loans together with any accrued and unpaid interest and expenses to thedate of purchase.

 

A loan will be subject toa product switch if the borrower and the seller agree on or the servicer offersa variation in the financial terms and conditions applicable to the relevantborrower’s loan, other than:

 

•                  any variation agreed with a borrowerto control or manage arrears on the loan;

 

•                  any variation to the interest rate asa result of a borrower being linked to HVR 2;

 

•                  any variation in the maturity date ofthe loan unless, while the issuer intercompany loan is outstanding, it isextended beyond June 2040;

 

•                  any variation imposed by statute;

 

•                  any variation of the rate of interestpayable in respect of the loan where that rate is offered to the borrowers ofmore than 10 percent by outstanding principal amount of loans comprised in thetrust property in any interest period; or

 

•                  any variation in the frequency withwhich the interest payable in respect of the loan is charged.

 

The yield to maturity ofthe issuer notes may be affected by the repurchase of loans subject to productswitches.

 

**Ratings assigned to the issuer notesmay be lowered or withdrawn after the noteholders purchase the issuer notes,which may lower the market value of the issuer notes**

 

The ratings assigned toeach class of the issuer notes address the likelihood of full and timelypayment to the noteholders of all payments of interest on each interest paymentdate under those classes of the issuer notes. The ratings also address the likelihood of “ultimate”payment of principal on the final maturity date of each class ofthe issuer notes.  Any rating agency maylower its rating or withdraw its rating if, in the sole judgment of the ratingagency, the credit quality of the issuer notes has declined or is inquestion.  If any rating assigned to theissuer notes is lowered or withdrawn, the market value of the issuer notes maybe reduced and, in the case of the series 1 class A issuer notes, the issuernotes may no longer be eligible for investment by money market funds.

 

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A change to the ratingsassigned to each class of the issuer notes will not affect the term advanceratings assigned to each issuer term advance in the intercompany loans.

 

**Subordination of the other noteclasses may not protect noteholders from all risk of loss**

 

The class B issuer notesand class C issuer notes are subordinated in right of payment of interest tothe class A issuer notes.  The class Cissuer notes are subordinated in right of payment of interest to the class Bissuer notes.  However, the transactionhas been structured in the expectation that the series 1 issuer notes will berepaid in full prior to the redemption of the series 2 class A issuer notes,the series 3 class A issuer notes and the series 4 class A issuer notes.

 

Accordingly, there is noassurance that these subordination rules will protect the holders of class Aissuer notes or the holders of class B issuer notes from all risk of loss.

 

**Principal payments on the class Bissuer notes, the class C issuer notes and the series 4 class A2 issuer noteswill be deferred in some circumstances**

 

Principal repayments onthe issuer term AA advances and/or the issuer term BBB advances will bedeferred in the following circumstances:

 

•                  if a principal loss has been recordedon the principal deficiency ledger in respect of any term AA advances or anyterm BBB advances (whether in respect of the issuer intercompany loan or anynew intercompany loan); or

 

•                  if monies standing to the credit ofthe reserve fund have been used, on or prior to the relevant Funding 1 interestpayment date, for the purposes of curing a principal deficiency in respect ofany term AA advances and/or any term BBB advances (whether in respect of theissuer intercompany loan or any new intercompany loan) and the reserve fund hasnot been replenished by a corresponding amount on the relevant Funding 1interest payment date; or

 

•                  if, as at the relevant Funding 1interest payment date, the total outstanding principal balance of loans in themortgages trust, in respect of which the aggregate amount in arrears is morethan three times the monthly payment then due, is more than five percent of thetotal outstanding principal balance of loans in the mortgages trust; or

 

•                  if Funding 1 is accumulatingprincipal during a cash accumulation period to repay the term AAA advances(other than the issuer series 4A2 term AAA advance) and the quarterly CPR ofthe loans in the trust property is less than or equal to 15 percent.

 

In these circumstances,the issuer term BBB advances and, as applicable, the issuer term AA advanceswill not be entitled to principal repayments until the relevant circumstance asdescribed in this risk factor has been remedied (if ever).

 

In addition, if thecircumstance described in the last bullet point above occurs, then payment onthe issuer series 4A2 advance will also be deferred.

 

This means that paymentsof principal on the class C issuer notes of all series and, as applicable, theclass B issuer notes of all series and the series 4 class A2 issuer notes willbe deferred until the earlier of the time when the relevant circumstancedescribed in this risk factor has been remedied (if ever) and the maturity dateof the relevant issuer notes.

 

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**Series 2 issuer notes, series 3issuer notes and series 4 issuer notes may be subject to risk if the trustproperty deteriorates after repayment of previous series of the issuer notes**

 

If the loans comprisingthe trust property do not perform as expected at any time after the repaymentin full of the series 1 issuer notes and/or the series 2 issuer notes, then theseries 2 issuer notes and/or the series 3 issuer notes and/or the series 4 issuernotes may not be repaid in full.  Thisrisk will not affect the series 1 noteholders.

 

**Noteholders may be subject toexchange rate risks on the series 1 issuer notes, the series 2 issuer notes,the series 3 issuer notes and the series 4 class A1 issuer notes**

 

Repayments of principaland payments of interest on the series 1 issuer notes, the series 2 issuernotes and the series 3 issuer notes will be made in US dollars and on theseries 4 class A1 issuer notes will be made in euro, but the issuer term advancesmade by the issuer to Funding 1 were in sterling, and repayments of principaland payments of interest by Funding 1 to the issuer under the issuerintercompany loan will be in sterling.

 

To hedge:

 

•                  its currency exchange rate exposure,including the interest rate exposure connected with that currency exposure; and

 

•                  the difference in periodicity betweenquarterly Funding 1 interest payment dates, and the monthly interest paymentdates in relation to the series 1 class A issuer notes,

 

the issuer has enteredinto the issuer dollar currency swaps for the series 1 issuer notes, the series2 issuer notes and the series 3 issuer notes with the issuer dollar currencyswap provider and the issuer euro currency swap for the series 4 class A1issuer notes with the issuer euro currency swap provider.

 

If the issuer fails tomake timely payments of amounts due under an issuer swap, then the issuer willhave defaulted under that issuer swap. Each issuer swap provider is obliged only to make payments under an issuerswap as long as the issuer make payments under the same.  If an issuer swap provider is not obliged tomake payments, or if it defaults in its obligations to make payments of amountsin US dollars or euro, as applicable, equal to the full amount to be paid by iton the payment dates under the relevant issuer swap (which are the same datesas the interest payment dates in respect of the issuer notes), the issuer willbe exposed to changes in US dollar/sterling or euro/sterling currency exchangerates and in the associated interest rates on these currencies.  Unless a replacement issuer swap is enteredinto, the issuer may have insufficient funds to make payments due on the issuernotes of any class and any series that are then outstanding.

 

**The difference in timing between theissuer’s obligations and the obligations of the series 2 class A issuer dollarcurrency swap provider and the series 4 class A1 issuer euro currency swapprovider could adversely affect payments on the issuer notes**

 

To the extent that it hasfunds available, on each Funding 1 interest payment date Funding 1 will pay tothe issuer interest and, as applicable, principal due on the issuer series 2term AAA advance and the issuer series 4A1 term AAA advance.  On each interest payment date in relation toits obligations under the series 2 class A issuer swap and the series 4 classA1 issuer swap, the issuer will pay the interest received from Funding 1 to, asapplicable, the series 2 issuer swap provider and the series 4 issuer swap provider.  The series 2 issuer swap provider will notbe obliged to make any corresponding swap payments to the issuer for up tothree months and the series 4 issuer swap provider will not be obliged to makeany corresponding swap payments to the issuer for up to nine months untilamounts are due from the relevant issuer swap provider on the interest paymentdate in respect of the series 2 class A issuer notes or the series 4 class A1issuer notes, as applicable.  These interestpayment dates occur semi-annually or annually up to and including the earliestof (i) the 

 

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interest payment date falling in June 2005 in respect of the series 2class A issuer notes and the interest payment date falling in June 2007 inrespect of the series 4 class A1 issuer notes, (ii) the occurrence of a triggerevent or (iii) enforcement of the issuer security, and quarterly on andfollowing the interest payment date occurring immediately thereafter.

 

If the series 2 issuerswap provider and/or the series 4 issuer swap provider does not meet itspayment obligations to the issuer under the relevant issuer swap on anysemi-annual or annual interest payment date and the relevant issuer swapprovider does not make a termination payment that has become due from it to theissuer, the issuer may have a larger shortfall in funds with which to makeinterest payments on the issuer notes than if their payment obligations werequarterly and therefore coincidental with the issuer’s payment obligationsunder those issuer swaps.  Hence, thedifference in timing between the issuer’s obligations and the obligations ofthe relevant issuer swap providers under the series 2 class A issuer swap andthe series 4 class A1 issuer swap may affect the issuer’s ability to makepayments on the issuer notes of any class and any series.

 

**There may be a delay in payment ofinterest on the series 1 class A issuer notes on the occurrence of a triggerevent or enforcement of the issuer security**

 

After the occurrence of atrigger event or enforcement of the issuer security, the interest payments onthe series 1 class A issuer notes will no longer be payable monthly, but willbe payable quarterly.  In thesecircumstances a noteholder will not receive interest under the series 1 class Aissuer notes on the expected payment dates.

 

**The mortgages trustee GIC provider orthe Funding 1 GIC provider may cease to satisfy certain criteria to provide themortgages trustee GIC account or the Funding 1 GIC account**

 

The mortgages trustee GICprovider and the Funding 1 GIC provider are required to satisfy certaincriteria (including certain criteria and/or permissions set or required by theFSA from time to time) in order to continue to receive deposits in themortgages trustee GIC account and the Funding 1 GIC account respectively.  If either the mortgages trustee GIC provideror the Funding 1 GIC provider ceases to satisfy those criteria the relevantaccount would need to be transferred to another entity that does satisfy thosecriteria.  In these circumstances thenew GIC provider may not offer a GIC on terms as favorable as those provided bythe mortgages trustee GIC provider or the Funding 1 GIC provider.

 

**Termination payments on the issuerswaps may adversely affect the funds available to make payments on the issuernotes**

 

If any of the issuerswaps terminates, the issuer may as a result be obliged to pay a terminationpayment to the relevant issuer swap provider. The amount of the termination payment will be based on the cost of enteringinto a replacement issuer swap.  Underthe issuer intercompany loan agreement, Funding 1 will be required to pay theissuer an amount equal to any termination payment due by the issuer to therelevant issuer swap provider.  Funding1 will also be obliged to pay the issuer any extra amounts that the issuer maybe required to pay to enter into a replacement swap.

 

The issuer cannot givenoteholders any assurance that Funding 1 will have the funds available to makethat payment or that the issuer will have sufficient funds available to makeany termination payment under any of its issuer swaps or to makesubsequent payments to noteholders in respect of the relevant series andclass of the issuer notes.  Nor can theissuer give noteholders any assurance that it will be able to enter into areplacement issuer swap, or, if one is entered into, that thecredit rating of the replacement issuer swap provider will besufficiently high to prevent a downgrading of the then current ratings of theissuer notes by the rating agencies.

 

Except where the relevantissuer swap provider has caused the relevant issuer swap to terminate by itsown default, any termination payment due by the issuer will rank equally notonly 

 

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with payments due to the holders of the series and class of the issuernotes to which the relevant swap relates but also with payments due to theholders of any other series and class of the issuer notes to which the relevantswap relates.  Any additional amountsrequired to be paid by the issuer following termination of the relevant issuerswap (including any extra costs incurred (for example, from entering into“spot” currency or interest rate swaps) if the issuer cannot immediately enterinto a replacement swap) will also rank equally not only with payments due tothe holders of the series and class of the issuer notes to which the relevantissuer swap relates but also with payments due to the holder of any otherseries and class of the issuer notes which rank equally with the series andclass of the issuer notes to which the relevant swap relates.  Furthermore, any termination payment oradditional payment or additional amounts required to be paid by the issuer followingtermination of an issuer swap will rank ahead of payments due to the holders ofany series and class of the issuer notes which ranks below the series and classof the issuer notes to which the relevant issuer swap relates.  Therefore, if the issuer is obliged to makea termination payment to the relevant issuer swap provider or to pay any otheradditional amount as a result of the termination of the relevant issuer swap,this may affect the funds which the issuer has available to make payments onthe issuer notes of any class and any series.

 

**Risks associated with the Funding 1swap**

 

To provide a hedgeagainst (a) the mortgages trustee variable base rate payable on the variablerate loans, the rates of interest payable on the tracker rate loans and thefixed rates of interest payable on the fixed rate loans; and (b) the rate ofinterest payable by Funding 1 on the intercompany loans, Funding 1 has enteredinto the Funding 1 swap agreement.  IfFunding 1 fails to make timely payments under the Funding 1 swap, it will havedefaulted under the Funding 1 swap.  TheFunding 1 swap provider is obliged only to make payments under the Funding 1swap as long as Funding 1 makes payments under the same.  If the Funding 1 swap provider is notobliged to make payments, or defaults in its obligation to make payments underthe Funding 1 swap, Funding 1 will be exposed to the variance between the ratesof interest payable on the loans and the rate of interest payable by it underthe intercompany loans unless a replacement Funding 1 swap is entered into.  If the Funding 1 swap terminates, Funding 1may as a result be obliged to pay a termination payment to the Funding 1 swapprovider.  Any variance between therates of interest payable on the loans and the rate of interest payable byFunding 1 under the intercompany loans and any termination payment payable byit to the Funding 1 swap provider may adversely affect the ability of Funding 1to meet its obligations under the issuer intercompany loan agreement.

 

Funding 1 will receiveinterest on the variable rate loans, which is based on HVR 1 orHVR 2.  The payment obligations ofFunding 1 under the Funding 1 swap will, among other things, be based on theaverage of the standard variable mortgage rates or their equivalent charged toexisting borrowers on residential mortgage loans as published from time totime, after excluding the highest and the lowest rate, of Abbey National plc,HSBC Bank plc, Lloyds TSB plc, National Westminster Bank Plc, NationwideBuilding Society, Northern Rock plc and Woolwich plc (and where those bankshave more than one standard variable rate, the highest of those rates).  While it is anticipated that the averagerate will broadly track both HVR 1 and HVR 2, the variance between the averagerate and HVR 1 and HVR 2 respectively may affect the ability of Funding 1 tomeet its payment obligations under the Funding 1 swap agreement.

 

**The issuer relies on third parties toperform services in relation to the issuer notes, and the noteholders may beadversely affected if they fail to perform their obligations**

 

The issuer is a party tocontracts with a number of other third parties that have agreed to performservices in relation to the issuer notes. For example, the issuer swap providers have agreed to provide their swaps,the corporate services provider has agreed to provide corporate services andthe paying agents and the agent bank have agreed to provide payment andcalculation services in connection with the issuer notes.  In the event that any of these parties wereto fail to perform their 

 

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obligations under the respective agreements to which they are a party,the noteholders may be adversely affected.

 

**The issuer may be unable to pay, infull or at all, interest due on the issuer notes if there is an income orprincipal deficiency**

 

If, on any Funding 1interest payment date, revenue receipts available to Funding 1 (including thereserve fund) are insufficient to enable Funding 1 to pay interest on theissuer term advances and any new term advances and other expenses of Funding 1ranking higher in seniority to interest due on these term advances, thenFunding 1 may use principal receipts on the loans received by it in themortgages trust to make up the shortfall.

 

Funding 1 will useprincipal receipts that would have been applied to repay the term advances withthe lowest term advance rating to pay interest on those other term advances andsenior expenses described in the preceding paragraph where there is a shortfallof monies to pay those amounts.  At theclosing date, the relevant term advances with the lowest term advance ratinginclude the issuer term BBB advances. If Funding 1 uses principal to repay interest and senior expenses inthis manner, there will be less principal available to repay the issuer termBBB advances.

 

Funding 1 will be obligedto keep a ledger that records any principal applied to pay interest and seniorexpenses.  When the amount recorded onthe ledger is equal to the principal amount outstanding of the term BBB advances,then Funding 1 will use principal receipts that would have been applied torepay the term advance with the next lowest ranking term advance rating to payinterest on the term advances and senior expenses where there is a shortfall ofmoney to pay those amounts.  At theclosing date, the term advances with the next lowest term advance ratinginclude the issuer term AA advances. When the amount recorded on the principal deficiency ledger exceeds theprincipal amount outstanding on the term AA advances, Funding 1 will useprincipal receipts that would have been applied to repay the term AAA advancesto pay those amounts.

 

During the term of thetransaction, however, it is expected that any principal deficiencies will berecouped from subsequent excess revenue receipts and amounts standing to thecredit of the reserve fund.  The revenuereceipts and the reserve fund monies will be applied first to cover anyprincipal deficiency in respect of the term advances with the highest termadvance rating (at the closing date, these include the issuer term AAAadvances), and then the term advances with the next highest ranking termadvance rating (at the closing date, these include the issuer term AAadvances), and so on down to the term advances with the lowest term advancerating.

 

If there are insufficientfunds available because of income or principal deficiencies, then one or moreof the following consequences may occur:

 

•                  the interest and other net income ofFunding 1 may not be sufficient, after making the payments to be made inpriority, to pay, in full or at all, interest due on the issuer term BBBadvances and the issuer term AA advances;

 

•                  there may be insufficient funds torepay any of the issuer term BBB advances and the issuer term AA advances priorto their final repayment dates unless the other net income of Funding 1 issufficient, after making other prior ranking payments, to reduce any principaldeficiency in respect of the term BBB advances and term AA advances;

 

•                  if the amount of principal deficienciesexceeds the principal amount outstanding of any of the term advances (and theprincipal deficiencies cannot be covered by the other income of Funding 1),then the issuer may not receive the full principal amount of any or all of theissuer term advances and, accordingly, the noteholders may not receive the fullface 

 

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value of the classC issuer notes, the class B issuer notes and the class A issuer notes, as thecase may be; and/or

 

•                  the issuer may be unable to pay, infull or at all, interest due on the issuer notes.

 

**The seller share of the trustproperty does not provide credit enhancement for the issuer notes**

 

Any losses from loansincluded in the trust property will be allocated to Funding 1 and the sellerproportionally on each distribution date in accordance with the Funding 1 sharepercentage and the seller share percentage of the trust property.  The seller’s share of the trust propertytherefore does not provide credit enhancement for the Funding 1 share of thetrust property or the issuer notes. Losses on the loans in the trust property are allocated proportionatelybetween the seller and Funding 1 depending on their respective shares in thetrust property.

 

**The issuer will only have recourse tothe seller if there is a breach of warranty by the seller, but otherwise theseller’s assets will not be available to the issuer as a source of funds tomake payments on the issuer notes**

 

After an issuerintercompany loan acceleration notice under the issuer intercompany loan isgiven, the security trustee may, but shall not be obliged to, sell the Funding1 share of the trust property.  There isno assurance that a buyer would be found or that a sale would realize enoughmoney to repay amounts due and payable under the issuer intercompany loanagreement.

 

The issuer, Funding 1 andthe mortgages trustee will not have any recourse to the seller of the loans,other than in respect of a breach of warranty under the mortgage saleagreement.

 

The issuer, Funding 1,the mortgages trustee and the security trustee will not undertake anyinvestigations, searches or other actions on any loan or its related securityand each of them will rely instead on the warranties given in the mortgage saleagreement by the seller.

 

If any of the warrantiesmade by the seller (a) in the case of each loan in the portfolio, wasmaterially untrue on the date the loan was assigned to the mortgages trustee or(b) in the case of each new loan, is materially untrue on the date the new loanis assigned to the mortgages trustee, then the seller will be required toremedy the breach within 20 London business days of the seller becoming awareof the same or of receipt by it of a notice from the mortgages trustee.

 

If the seller fails toremedy the breach within 20 London business days, then the seller will berequired to repurchase the loan or loans under the relevant mortgage accountand their related security at their outstanding principal balance as of thedate of repurchase together with any arrears of interest and accrued and unpaidinterest and expenses.  There can be noassurance that the seller will have the financial resources to repurchase theloan or loans under the relevant mortgage account and their relatedsecurity.  However, if the seller doesnot repurchase those loans and their related security when required, then theseller’s share of the trust property will be deemed to be reduced by an amountequal to the principal amount outstanding of those loans together with any arrearsof interest and accrued and unpaid interest and expenses.

 

Other than as describedhere, neither the noteholders nor the issuer will have any recourse to theassets of the seller.

 

**There can be no assurance that aborrower will repay principal at the end of the term on an interest-only loan,which may adversely affect repayments on the issuer notes**

 

Each loan in theportfolio is repayable either on a principal repayment basis or aninterest-only basis.  Of the loans inthe portfolio as at January 16, 2003, approximately 47 percent were 

 

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interest-only loans.  Forinterest-only loans, because the principal is repaid in a lump sum at thematurity of the loan, the borrower is recommended to have some repaymentmechanism such as an investment plan in place to ensure that funds will beavailable to repay the principal at the end of the term.  However, the seller does not ensure that arepayment mechanism is in place in all cases and does not take security overthese repayment mechanisms.  Theborrower is also recommended to take out a life insurance policy in relation tothe loan but, as with repayment mechanisms, the seller does not take securityover these life insurance policies.

 

The ability of a borrowerto repay the principal on an interest-only loan at maturity depends on theborrower’s responsibility to ensure that sufficient funds are available from aninvestment plan or another source, such as ISAs, pension policies, personalequity plans or endowment policies, as well as the financial condition of theborrower, tax laws and general economic conditions at the time.  There can be no assurance that the borrowerwill have the funds required to repay the principal at the end of theterm.  If a borrower cannot repay theloan and a loss occurs on the loan, then this may affect repayments ofprincipal on the issuer notes if that loss cannot be cured by amounts standingto the credit of the reserve fund or the application of excess Funding 1available revenue receipts.

 

**There may be risks associated withthe fact that the mortgages trustee has no legal title to the mortgages, whichmay adversely affect payments on the issuer notes**

 

The sale by the seller tothe mortgages trustee of the mortgages will take effect in equity only.  This means that legal title to the loans inthe trust property remains with the seller, but the mortgages trustee hasall the other rights and benefits relating to ownership of each loan andits related security (which rights and benefits are subject to the trust infavor of the beneficiaries).  Themortgages trustee has the right to demand that the seller give it legal titleto the loans and the related security in certain circumstances and until thenthe mortgages trustee will not apply to H.M. Land Registry or the Central LandCharges Registry to register or record its equitable interest in the mortgages.

 

Because the mortgagestrustee has not obtained legal title to the loans or their related security,there are risks, as follows:

 

•                  first, if the seller wrongly sold aloan to another person which has already been assigned to the mortgagestrustee, and that person acted in good faith and did not have notice of theinterests of the mortgages trustee or the beneficiaries in the loan, then sheor he might obtain good title to the loan, free from the interests of themortgages trustee and the beneficiaries. If this occurred then the mortgages trustee would not have good title tothe affected loan and its related security and it would not be entitled topayments by a borrower in respect of that loan.  This may affect the ability of the issuer to repay the issuernotes; and

 

•                  second, the rights of the mortgagestrustee and the beneficiaries may be subject to the rights of the borrowersagainst the seller, such as the rights of set-off which occur in relation totransactions or deposits made between some borrowers and the seller and therights of borrowers to redeem their mortgages by repaying the loan directly tothe seller.  If these rights wereexercised, the mortgages trustee may receive less money than anticipated fromthe loans, which may affect the ability of the issuer to repay the issuernotes.

 

However, if a borrowerexercises any set-off rights, then an amount equal to the amount set off willreduce the total amount of the seller share of the trust property only, and theminimum seller share has been sized in an amount expected to cover this risk,although there is no assurance that it will. If the minimum seller share is exhausted, then the amount of anyset-offs would be applied to reduce the Funding 1 share of the trust property.

 

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Once notice has beengiven to borrowers of the transfer of the loans and their related security to themortgages trustee, independent set-off rights which a borrower has against theseller will crystallize and further rights of independent set-off would ceaseto accrue from that date and no new rights of independent set-off could beasserted following that notice.  Set-offrights arising under transaction set-off (which are set-off claims arising outof a transaction connected with the loan) will not be affected by that notice.

 

**Set-off risks in relation to flexibleloans and delayed cashbacks may adversely affect the funds available to theissuer to repay the issuer notes**

 

The seller has made, andin the future may make, an equitable assignment of the mortgages to themortgages trustee, with legal title being retained by the seller.  Therefore, the rights of the mortgagestrustee may be subject to the direct rights of the borrowers against theseller, including rights of set-off existing prior to notification to theborrowers of the assignment of the mortgages. Although the seller does not currently offer flexible loans or delayedcashbacks, it may offer products in the future with those features, and thoseloans may be added to the mortgages trust. Set-off rights may occur if the seller fails to advance to a borrower adrawing under a flexible loan when the borrower is entitled to draw additionalamounts under a flexible loan or if the seller fails to pay to a borrower anydelayed cashback which the seller had agreed to pay to that borrower aftercompletion of the relevant loan.

 

If the seller fails to advancethe drawing or pay the delayed cashback, then the relevant borrower may set offany damages claim arising from the seller’s breach of contract against theseller’s (and, as assignee of the mortgages, the mortgages trustee’s) claim forpayment of principal and/or interest under the loan as and when it becomesdue.  These set-off claims willconstitute transaction set-off as described in the immediately preceding riskfactor.

 

The amount of the claimin respect of a drawing will, in many cases, be the cost to theborrower of finding an alternative source of finance: the borrower mayobtain a loan elsewhere in which case the damages would be equal to anydifference in the borrowing costs together with any consequential losses,namely the associated costs of obtaining alternative funds (for example, legalfees and survey fees).  If the borroweris unable to obtain an alternative loan, he or she may have a claim in respectof other losses arising from the seller’s breach of contract where there arespecial circumstances communicated by the borrower to the seller at the timethe mortgage was taken out.

 

In respect of a delayedcashback, the claim is likely to be in an amount equal to the amount due underthe delayed cashback together with interest and expenses and consequentiallosses (if any).

 

A borrower may alsoattempt to set off against his or her mortgage payments an amount greater thanthe amount of his or her damages claim. In that case, the servicer will be entitled to take enforcementproceedings against the borrower although the period of non-payment by theborrower is likely to continue until a judgment is obtained.

 

The exercise of set-offrights by borrowers would reduce the incoming cashflow to the mortgages trusteeduring the exercise.  However, theamounts set off will be applied to reduce the seller share of the trustproperty only.  The minimum seller sharehas been sized in an amount expected to cover this risk, although there is noassurance that it will.  If the minimumseller share is not sufficient in this respect then there is a risk thatnoteholders may not receive all amounts due on the issuer notes.

 

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**If the servicer is removed, there isno guarantee that a substitute servicer would be found, which could delaycollection of payments on the loans and ultimately could adversely affectpayments on the issuer notes**

 

The seller has beenappointed by the mortgages trustee and the beneficiaries as servicer to servicethe loans.  If the servicer breaches theterms of the servicing agreement, then the mortgages trustee, Funding 1 and/orthe security trustee will be entitled to terminate the appointment of theservicer and appoint a new servicer in its place.

 

There can be no assurancethat a substitute servicer with sufficient experience of administeringmortgages of residential properties would be found who would be willing andable to service the loans on the terms of the servicing agreement.  The ability of a substitute servicer fullyto perform the required services would depend, among other things, on theinformation, software and records available at the time of theappointment.  Any delay or inability toappoint a substitute servicer may affect payments on the loans and hence theissuer’s ability to make payments when due on the issuer notes.

 

The noteholders shouldnote that the servicer has no obligation itself to advance payments thatborrowers fail to make in a timely fashion.

 

**Funding 1 may not receive the benefitof any claims made on the buildings insurance which could adversely affectpayments on the issuer notes**

 

No assurance can be giventhat Funding 1 will always receive the benefit of any claims made under anyapplicable insurance contracts.  Thiscould reduce the principal receipts received by Funding 1 according to theFunding 1 share percentage and could adversely affect its ability to redeem theissuer notes.  The noteholders shouldnote that buildings insurance is renewed annually.

 

**Possible regulatory changes by theOffice of Fair Trading, the Financial Services Authority and any otherregulatory authorities may have an impact on the seller, the issuer, theservicer and/or the loans and may adversely affect the issuer’s ability to makepayments when due on the issuer notes**

 

In the United Kingdom,the Office of Fair Trading (the “OFT”) is responsible for the issue of licensesunder and the superintendence of the working and the enforcement of theConsumer Credit Act 1974, related consumer credit regulations and otherconsumer protection legislation.  TheOFT may review businesses and operations, provide guidelines to follow and takeactions when necessary with regard to the mortgage market in the UnitedKingdom.

 

The UK’s FinancialServices and Markets Act 2000 (“FSMA”) represented a major overhaul offinancial services regulation in the UK and brought a wide range of financialactivities under a single regime of statutory-based regulation. Rules relatingto the regulation of mortgages will come into effect at a stage (known as “N3”)currently expected to be October 31, 2004.

 

FSMA applies to any“regulated activity”.  The FinancialServices and Markets Act (Regulated Activities) Order 2001 as amended by theFinancial Services and Markets Act (Regulated Activities) (Amendment) Order2001 provides that entering into and (in certain circumstances) administering a“regulated mortgage contract” are regulated activities (although the provisionsspecifying such will not come into force until N3).  In August 2002, H.M. Treasury published its final draft FinancialServices and Markets Act 2000 (Regulated Activities) (Amendment) Order,specifying that arranging and advising on a regulated mortgage contract arealso to be regulated activities.

 

The main effect will bethat each entity carrying on a regulated activity will be required to holdauthorization and permission from the FSA to carry on that activity.  Generally, each financial promotion willhave to be issued or approved by a person holding authorization and permissionfrom the FSA.  If requirements as toauthorization, permission or advertising are not complied with, the regulatedmortgage contract will be unenforceable against the borrower except with theapproval of a court.

 

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The seller will berequired to hold authorization and permission to enter into and to administerregulated mortgage contracts.  Brokerswill be required to hold authorization and permission from the FSA to arrangeand, where applicable, to advise on regulated mortgage contracts.

 

In August 2002, H.M.Treasury published feedback to its third consultation on mortgageregulation.  This feedback confirmedH.M. Treasury’s intention that an entity (such as the issuer or the mortgagestrustee) will not carry on any regulated activity in relation to regulatedmortgage contracts that are administered pursuant to an administrationagreement by an entity having the required authorization and permission.  If the administration agreement terminates,however, that entity (for example, the issuer or mortgages trustee) would havea period of not more than one month in which to arrange for mortgageadministration to be carried out by a replacement administrator having therequired authorization and permission.

 

In June 2001, the FSAissued the Draft Mortgage Sourcebook, which contained draft rules for mortgagelenders and administrators.  Theconsultation period for the Draft Mortgage Sourcebook ended on September 14,2001.  In August 2002, the FSA publishedfeedback to its consultation on conduct of business rules on entering into andadministering regulated mortgage contracts. This feedback annexes near-final draft rules on certain post-originationmatters, such as product disclosure on and after origination and, whereapplicable, provision of an FSA information sheet on mortgage arrears.

 

In August 2002, the FSAalso published its first consultation on arranging and advising on regulatedmortgage contracts.  This consultationannexes draft rules on certain pre-origination matters, such as financialpromotions, and draft pre-application illustrations.  The closing date for comments on this consultation was November11, 2002.

 

In March 2003, the FSApublished a further consultation on its proposals setting out its framework forthe regulation of mortgage lenders and administrators, including issuesrelating to the meeting of the threshold conditions for authorization.

 

In late May 2003, the FSApublished another consultation paper on mortgage regulation.  It sets out how the FSA will regulate theway that all types of mortgage firm conduct their business and contains draftrules and guidance.  This consultationpaper contains feedback on the policy proposals and draft and near-final rulesset out in the FSA’s consultation paper and feedback of August 2002 and alsocontains the FSA’s policy decisions in the form of rules and guidance,including draft rules for the policy areas discussed in the paper andnear-final rules for perimeter guidance, financial promotions and the annualpercentage rate.  The consultation paperalso includes previously published near-final rules to enable firms to see thewhole Mortgage Conduct of Business Sourcebook. The closing date for comments on this consultation paper is August 22,2003.  The FSA expects to publish afeedback statement on the responses received in the final quarter of 2003 andto finalize its rules at the same time.

 

No assurance can be giventhat additional regulations from the OFT, the FSA or any other regulatoryauthority will not arise with regard to the mortgage market in the UnitedKingdom generally, the seller’s particular sector in that market orspecifically in relation to the seller. Any such action or developments may have a material adverse effect onthe seller, the issuer and/or the servicer and their respective businesses andoperations.  This may adversely affectthe issuer’s ability to make payments in full on the issuer notes when due.

 

Meanwhile, in the UnitedKingdom, self-regulation of mortgage business exists under the Mortgage Code(the “CML Code”) issued by the Council of Mortgage Lenders (the “CML”).  Halifax currently subscribes to the CMLCode.  Membership of the CML andcompliance with the CML Code are voluntary. The CML Code sets out minimum standards of good mortgage businesspractice, from marketing to lending procedures and dealing with borrowersexperiencing financial difficulties. Since April 30, 1998 lender-subscribers to the CML Code may not acceptmortgage business introduced by

 

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intermediaries who are not registered with (before November 1, 2000)the Mortgage Code Register of Intermediaries or (on and after November 1, 2000)the Mortgage Code Compliance Board.

 

In March 2001 theEuropean Commission published a Recommendation to member states urging theirlenders to subscribe to the code issued by the European Mortgage Federation(the “EMF Code”).  On July 26, 2001 theCML decided to subscribe to the EMF Code collectively on behalf of itsmembers.  Lenders had until September30, 2002 to implement the EMF Code, an important element of which is provisionto consumers of a “European Standardised Information Sheet” (an “ESIS”) similarto the pre-application illustration proposed by the FSA.  Following postponement of regulation by theFSA of mortgage business, UK lenders generally are not in a position to beginto provide an ESIS to consumers until N3. The CML has discussed this with the European Commission and the EuropeanMortgage Federation.  While compliancewith the EMF Code is voluntary, if the EMF Code is not effective, the EuropeanCommission is likely to see further pressure from consumer bodies to issue adirective on mortgage credit or to extend its proposal for a directive onconsumer credit to all mortgage credit. It is not certain what effect any such directive on mortgage credit orany extension of the proposal for a directive on consumer credit to allmortgage credit would have on Halifax’s mortgage business.

 

In September 2002, theEuropean Commission published a proposal for a directive of the EuropeanParliament and of the Council on the harmonization of the laws, regulations andadministrative provisions of the member states concerning credit for consumers,including surety agreements entered into by consumers.  In its current form, the proposal requiresspecified requirements to be met and restrictions observed in respect ofmortgage loan origination and administration for certain mortgage loan products,including flexible mortgage loans, repayment mortgages and furtheradvances.  If the proposal comes intoforce in its current form, mortgage loans that do not comply with theserequirements and restrictions may be subject to penalties, potentially includingloss of interest and charges by the mortgagee coupled with continuation of theright of repayment in installments by the borrower.  Significantly, the proposal does not apply to residentialmortgage loans except those that include an equity release component.  The proposal also applies to a restrictedextent to agreements existing on the date of implementation of thedirective.  The proposal is unlikely tocome into force before 2006 as the co-decision procedures of the EuropeanParliament and of the Commission, from the publication of the proposal to thecoming into force of the new consumer credit directive, are likely to take atleast two years and member states will then have a further two years in whichto bring national implementing legislation, regulations and administrativeprovisions into force.  The Departmentof Trade and Industry are currently in consultation with consumer and industryorganisations in relation to this proposal.

 

No assurance can be giventhat the proposal will come into force in its current form, and it is unclearhow the current proposal is intended to apply in practice.  If amendments are made (and, in particular,the scope of the proposal is extended to existing mortgage loans without anequity release component) or certain provisions are interpreted to extend beyondtheir literal reading, the implemented directive may have a material adverseimpact on the seller, the issuer and/or the servicer and their respectivebusinesses and operations.  This mayadversely affect the issuer’s ability to make payments in full on the issuernotes when due.

 

**Regulations in the United Kingdomcould lead to some terms of the loans being unenforceable, which may adverselyaffect payments on the issuer notes**

 

In the United Kingdom,the Unfair Terms in Consumer Contracts Regulations 1999 as amended (the“UTCCR”), which together with the Unfair Terms in Consumer ContractsRegulations 1994 apply to agreements made on or after July 1, 1995 and affectall or almost all of the loans, provide that:

 

•                  a consumer may challenge a term in anagreement on the basis that it is “unfair” within the UTCCR and therefore notbinding on the consumer; and

 

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•                  the Director General of Fair Trading(as head of the OFT), and any “qualifying body” within the UTCCR (such as theFinancial Services Authority) may seek to injunct a business against relying onunfair terms.

 

The UTCCR will notgenerally affect “core terms” which define the main subject-matter of thecontract, such as the borrower’s obligation to repay the principal, but mayaffect terms that are not considered to be core terms, such as the lender’spower to vary the interest rate.

 

For example, if a termpermitting a lender to vary the interest rate (as the servicer is permitted todo) is found to be unfair, the borrower will not be liable to pay the increasedrate or, to the extent that she or he has paid it, will be able, as against thelender or any assignee such as the issuer or the mortgages trustee, to claimrepayment of the extra interest amounts paid or to set-off the amount of theclaim against the amount owing by the borrower under the loan.  Any non-recovery, claim or set-offultimately may adversely affect the issuer’s ability to make payments on theissuer notes.

 

In February 2000, the OFTissued a guidance note on what the OFT considers to be fair terms and unfairterms for interest variation in mortgage contracts.  Where the interest variation term does not provide for preciseand immediate tracking of an external rate outside the lender’s control, and ifthe borrower is locked-in by an early repayment charge that is considered to bea penalty, the term is likely to be regarded as unfair under the UTCCR unlessthe lender (i) notifies the borrower in writing at least 30 days before the ratechange and (ii) permits the borrower to repay the whole loan during the nextthree months after the rate change, without paying the early repaymentcharge.  The seller has reviewed theguidance note and has concluded that its compliance with it will have nomaterial adverse effect on the loans or its business.  The guidance note is under review by the OFT and FSA, but thereis no indication as to when this review is likely to be concluded or whatchanges, if any, may arise from it.

 

In August 2002, the LawCommission for England and Wales and the Scottish Law Commission issued a joinconsultation LCCP No. 166/SLCDP 119 on proposals to rationalize the UK’s UnfairContracts Act 1977 and the UTCCR into a single piece of legislation, and afinal report is expected by the end of 2003. The Law Commissions have a duty under section 3 of the UK’s LawCommissions Act 1965 to keep the law under review for a number of purposes,including its simplification.  Theproposals are primarily to simplify the legislation on unfair terms.  It is not proposed that there should be anysignificant increase in the extent of controls over terms in consumercontracts.  Some changes are proposed,however, such as that the legislation should not affect core terms in so far asthey are not substantially different from what the borrower should reasonablyexpect and are transparent.  It is tooearly to tell how the proposals, if enacted, would affect the loans.

 

**Decisions of the Ombudsman could leadto some terms of the loans being varied, which may adversely affect payments onthe issuer notes**

 

Under FSMA, the FinancialOmbudsman Service is required to make decisions on, among other things,complaints relating to the terms in agreements on the basis of what, in theOmbudsman’s opinion, would be fair and reasonable in all circumstances of thecase, taking into account, among other things, law and guidance.  Complaints brought before the FinancialOmbudsman Service for consideration must be decided on a case by case basis,with reference to the particular facts of any individual case.  Each case would first be adjudicated by anadjudicator.  Either party to the casemay appeal against the adjudication.  Inthe event of an appeal, the case proceeds to a final decision by the Ombudsman.

 

In January 2002, theOmbudsman made a determination on the seller’s appeal to an earlier decision byan adjudicator at the Financial Ombudsman Service concerning a case involvingHVR 1 and HVR 2.  In March 2001, two jointborrowers with a capped rate loan originated when the seller offered only asingle standard variable base rate contacted the seller and requested thattheir loan be 

 

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linked to HVR 2.  The sellerinformed the borrowers that, because they were still in their product period,they could either transfer to HVR 2 when their product period expired ortransfer to HVR 2 immediately and pay the applicable early repayment fee.  The borrowers complained to the FinancialOmbudsman Service and, on January 29, 2002, on appeal by the seller, theOmbudsman determined in the borrowers’ favor and recommended that the sellerrecalculate the borrowers’ mortgage by reference to HVR 2 from the date whenthe seller should have granted their request in March 2001, refund anyoverpayments and pay £150 for any inconvenience caused.  HVR 2 was withdrawn and ceased to beavailable to new borrowers with effect from February 1, 2002.

 

The Ombudsman’s decisiononly applies to the two borrowers and their particular circumstances, thoughother borrowers may also complain to the Ombudsman.  In March 2002, the seller announced that borrowers under loanswho were in similar circumstances and who had asked to be transferred to HVR 2when it was available would be invited to make a product switch to HVR 2 and toobtain a refund for all overpayments of interest since the date they had askedto be transferred.  For each of thoseloans, the borrowers would also receive £150 for any inconvenience caused.  The borrowers under loans who requested tobe transferred after HVR 2 was withdrawn and before the announcement in March2002 were not offered a switch or a refund, though the seller has given or willgive each of these customers an *ex gratia* payment of £100.

 

Since then, furtherdecisions by the Ombudsman in similar cases have confirmed that affectedborrowers were only entitled to a refund of overpayments of interest from thedate when they asked to be transferred to HVR 2 and not from the date where HVR2 first became available, and also that affected borrowers were not entitled toapply to be transferred to HVR 2 after it was withdrawn.

 

The seller does notbelieve that any Ombudsman’s decision to date or any other decision by anycompetent authority in the future (in respect of the seller’s two variable baserates, HVR 1 and HVR 2) would affect the yield on the loans in such a way as tohave a material adverse effect on the ability of the issuer to meet itsobligations on the issuer notes.

 

As regards otherborrowers, in the event that a decision (in respect of the seller’s variablebase rate) by the Ombudsman or any other competent authority finds that aborrower’s loan should be linked to HVR 2, then that borrower may set-off theoverpaid sum against the amount owing under his or her loan if the seller doesnot reimburse that borrower.  Anynon-recovery, claim or set-off ultimately may adversely affect the issuer’sability to make payments on the issuer notes.

 

**Tax payable by Funding 1 or theissuer may adversely affect the issuer’s ability to make payments on the issuernotes**

 

Funding 1 and the issuerwill generally be subject to UK corporation tax, currently at a rate of 30percent, on the profit reflected in their respective profit and loss accountsas increased by the amount of any non-deductible expenses or losses.  If the tax payable by Funding 1 or theissuer is greater than expected because, for example, non-deductible expensesor losses are greater than expected, the funds available to make payments onthe noteholders’ issuer notes will be reduced and this may adversely affect theissuer’s ability to make payments on the issuer notes.

 

**Noteholders’ interests may beadversely affected by a change of law in relation to withholding tax**

 

In the event that amountsdue under the issuer notes are subject to withholding tax, we will not beobliged to pay additional amounts in relation thereto.  The issuer may, in certain circumstances,redeem the issuer notes.

 

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**The Proposed European Directive onthe Taxation of Savings may adversely affect the noteholders’ interests**

 

On June 3, 2003, theEuropean Council of Economics and Finance Ministers provisionally agreed onproposals under which member states will be required to provide to the tax authoritiesof another member state details of payments of interest (or similar income)paid by a person within its jurisdiction to an individual resident in thatother member state, except that, for a transitional period, Belgium, Luxembourgand Austria will instead be required to operate a withholding tax system inrelation to such payments (the ending of such transitional period beingdependent upon the conclusion of certain other agreements relating toinformation exchange with certain other countries).  Additionally, it was agreed that the adoption of the proposals bythe European Union would require certain other non-Member State countries toadopt a similar withholding system in relation to such payments.  The proposals are anticipated to take effectfrom January 1, 2005.

 

Until the final text ofthe directive is decided and the details of any similar withholding systems inthe relevant non-member state countries have been finalized, it is not certainwhat effect, if any, the adoption of the directive or similar systems wouldhave on the payment of principal or interest in respect of the issuernotes.  However, if the currentproposals are implemented, then payments of interest on the issuer notes whichare made or collected through a member state or any other relevant country maybe subject to withholding tax which would prevent holders of the issuer notesfrom receiving interest on their issuer notes in full.

 

**Noteholders’ interests may beadversely affected if the United Kingdom joins the European Monetary Union**

 

It is possible that priorto the maturity of the issuer notes the United Kingdom may become aparticipating member state in the European economic and monetary union and thatthe euro may become the lawful currency of the United Kingdom.  In that event, (a) all amounts payable inrespect of any issuer notes denominated in sterling may become payable in euro;(b) applicable provisions of law may allow or require us to re-denominate therequisite issuer notes into euro and take additional measures in respect ofsuch issuer notes; and (c) the introduction of the euro as the lawful currencyof the United Kingdom may result in the disappearance of published or displayedrates for deposits in sterling used to determine the rates of interest on theissuer notes or changes in the way those rates are calculated, quoted andpublished or displayed.  Theintroduction of the euro could also be accompanied by a volatile interest rateenvironment, which could adversely affect a borrower’s ability to repay its loanas well as adversely affect investors. It cannot be said with certainty what effect, if any, adoption of theeuro by the United Kingdom would have on investors in the issuer notes.

 

**Changes of law may adversely affectnoteholders’ interests**

 

The structure of theissue of the issuer notes and the ratings which are assigned to them, as wellas the Funding 1 swap and the issuer swaps, are based on English law and otherrelevant in effect as at the date of the prospectus relating to the issuernotes.  No assurance can be given as tothe impact of any possible change to English law or administrative practice inthe United Kingdom or to the law or administrative practice of any otherrelevant jurisdiction after the date of this Form 20-F.

 

*Insolvency Act 2000.*Significantchanges to the English insolvency regime have recently been enacted, includingthe Insolvency Act 2000.  The InsolvencyAct 2000 allows certain “small” companies (which are defined by reference tocertain tests relating to a company’s balance sheet, turnover and averagenumber of employees) to seek protection from their creditors for a period of 28days with the option for creditors to extend the moratorium for a further twomonths.  The position as to whether ornot a company is a “small” company may change from period to period andconsequently no assurance can be given that the issuer, the mortgages trusteeor Funding 1 will not, at any given time, be determined to be a “small”company.  The Secretary of State forTrade and Industry may by regulation modify the eligibility requirements for“small” companies and can make different provisions for different cases.  In this respect, the Government White Paper“Modernising Company Law” issued on July 16, 2002 included a proposal toincrease the limits for the definition of a small company to the EU maximum(£4.8 million turnover, £2.4 million balance sheet total, 50

 

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employees).  No assurance can begiven that any such modification or different provisions will not bedetrimental to the interests of noteholders. However, secondary legislation has now been enacted which excludesspecial purpose companies in relation to capital markets transactions from theoptional moratorium provisions.

 

*Enterprise Act 2002.*OnNovember 7, 2002, the Enterprise Act 2002 received Royal Assent.  The Act contains significant reforms to bothpersonal and corporate insolvency law. These reforms, which are expected to be implemented during the summer of2003, will restrict the right of the holder of a floating charge to appoint anadministrative receiver who owes his primary duties to his appointor andinstead will give primacy to collective insolvency procedures and, inparticular, administration.  TheGovernment’s aim is that, rather than having primary regard to the interests ofsecured creditors, any insolvency official should have regard to the interestsof all creditors, both secured and unsecured, and the primary emphasis will beon rescuing the company.  Presently, theholder of a floating charge over the whole or substantially the whole of theassets of a company has the ability to block the appointment of anadministrator by appointing an administrative receiver, who primarily acts inthe interests of the floating charge holder though there are residual duties tothe chargor and others having a residual interest in the charged property.

 

The Enterprise Act 2002contains provisions that would allow the appointment of an administrativereceiver in relation to certain transactions in the capital markets.  The current wording of the relevantexception provides that the right to appoint an administrative receiver wouldbe retained for certain types of security that form part of a capital marketsarrangement (as defined in the Enterprise Act 2002) that involves indebtednessof at least £50,000,000) (or, when the agreement was entered into, it wasexpected to incur a debt of at least £50,000,000) and the issue of a capitalmarkets investment (also defined but generally a rated listed or tradedbond).  The Secretary of State for Tradeand Industry is given the power to modify the exceptions by secondarylegislation, and the Government has indicated that changes may be made to thecapital markets exception before the Enterprise Act 2002 comes into force.  As the capital markets exception currentlyrefers to security granted to a trustee in favor of the holder(s) of a capitalmarket investment, there may be a concern as to whether the capital marketsexception would allow an administrative receiver to be appointed in respect ofthe security granted by the issuer and Funding 1 and, unless the capitalmarkets exception is amended by secondary legislation, no assurance can begiven that such security would fall within the capital markets exception.

 

In a press notice issuedby the Department of Trade and Industry on November 9, 2001, the Secretary ofState for Trade and Industry confirmed that the Government’s proposed abolitionof administrative receivership would not apply to corporate lending agreementspredating the commencement of the relevant provisions, and that the currentinsolvency law provisions would continue to apply to such lending agreementssupported by a floating charge.  While theEnterprise Bill was at the committee stage in the House of Commons, a proposedamendment designed to prevent the Secretary of State for Trade and Industryfrom abolishing administrative receivership retrospectively was withdrawn,although a “reassurance” was given that the Enterprise Act 2002 would not applyretrospectively.  The Enterprise Act2002 does not state expressly that the existing administrative receivershipregime will be available in respect of security created before the relevantprovisions come into force.  If the datedesignated by the Secretary of State for Trade and Industry is the date ofcommencement of the corporate insolvency provisions, the prohibition on theappointment of an administrative receiver should not prevent the appointment ofan administrative receiver pursuant to the floating charges comprised in thesecurity granted by the issuer and Funding 1 as those charges were createdprior to the relevant provisions of the Enterprise Act 2002 coming intoforce.  However, if the Governmentreconsiders its position and determines that the corporate insolvencyprovisions of the Enterprise Act 2002 will apply retrospectively, no assurancecan be given that the Enterprise Act 2002 will not have a detrimental effect onthe interests of noteholders.

 

The Enterprise Act 2002will also introduce a new out-of-court route into administration for aqualifying floating charge-holder, the directors or the company itself.  There will be a notice period 

 

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during which the holder of the floating charge can either agree to theadministrator proposed by the directors of the company or appoint analternative administrator, although the moratorium will take effect immediatelyafter notice is given.  If thequalifying floating charge holder does not respond to the directors’ notice ofintention to appoint, the company’s appointee will automatically take officeafter the notice period has elapsed. Where the holder of the floating charge retains the power to appoint anadministrative receiver, it may prevent the appointment of an administrator outof court by appointing an administrative receiver prior to the appointment ofthe administrator being completed.

 

The Enterprise Act 2002gives primary emphasis to the rescue of the company as a going concern.  The purpose of realizing property to make adistribution to one or more secured or preferential creditors is subordinatedto the primary purposes of rescuing the company as a going concern or achievinga better result for the creditors as a whole than would be likely if thecompany were wound up.  These purposescould conflict with the wishes or interests of noteholders.  Nevertheless, the Enterprise Act 2002 makesit clear that the unsecured creditors would not be able to approve proposalsthat affect the right of the secured creditor to enforce its security withoutthe secured creditor’s consent.

 

**The noteholders will not receiveissuer notes in physical form, which may cause delays in distributions andhamper the noteholders’ ability to pledge or resell the issuer notes**

 

Unless the global issuernotes are exchanged for definitive issuer notes, which will only occur under alimited set of circumstances, the noteholders’ beneficial ownership of theissuer notes will only be recorded in book-entry form with DTC, Euroclear orClearstream, Luxembourg.  The lack ofthe issuer notes in physical form could, among other things:

 

•                  result in payment delays on theissuer notes because the issuer will be sending distributions on the issuernotes to DTC, Euroclear or Clearstream, Luxembourg instead of directly to thenoteholders;

 

•                  make it difficult for the noteholdersto pledge the issuer notes if the issuer notes in physical form are required bythe party demanding the pledge; and

 

•                  hinder the noteholders’ ability toresell the issuer notes because some investors may be unwilling to buy theissuer notes that are not in physical form.

 

**If the noteholders have a claimagainst the issuer it may be necessary for the noteholders to bring suitagainst the issuer in England to enforce the noteholders’ rights**

 

The issuer has agreed tosubmit to the non-exclusive jurisdiction of the courts of England, and it maybe necessary for noteholders to bring a suit in England to enforce their rightsagainst the issuer.

 

**Proposed changes to the Basel CapitalAccord and the risk-weighted asset framework may result in changes to the riskweighting of the issuer notes**

 

The Basel Committee onBanking Supervision has issued proposals for reform of the 1988 Capital Accordand has proposed a framework that places enhanced emphasis on marketdiscipline.  The consultation period onthe initial proposals ended in March 2000 and the Committee published itssecond consultation document, the “New Basel Capital Accord”, on January 16,2001.  The consultation period on thefurther proposals contained in the New Basel Capital Accord ended on May 31,2001.  Although the Basel Committee hadannounced previously that it would release a revised proposal in early 2002,this has now been delayed pending the completion of a review assessing theoverall impact of the proposals on banks and the banking system.  On October 1, 2002, the Basel Committeelaunched a comprehensive field test for banks of its revised proposals known asthe quantitive impact study, or QIS3, which is focused on the minimum capitalrequirements under pillar 

 

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one of the New Basel Capital Accord. The survey period ended on December 20, 2002.  The Basel Committee released the results of the QIS3 impact studyon May 5, 2003.  More than 350 banks in43 countries participated in the exercise. On October 28, 2002, the Basel Committee had released its second workingpaper on securitisations describing the background of the technical guidanceused in the QIS3 exercise.  Commentsreceived on this working paper were published on March 28, 2003.

 

On April 29, 2003, theBasel Committee issued a third consultation paper on the New Basel CapitalAccord.  Comments on this consultationpaper, which are intended to help the Basel Committee to make the finaladjustments to its proposal for a new capital adequacy framework, are due byJuly 31, 2003.  The Committee intends tofinalize the New Basel Capital Accord in the fourth quarter of 2003, allowing forimplementation of the new framework in each country at year-end 2006.

 

If adopted in theircurrent form, the proposals could affect the risk weighting of the issuer notesin respect of some investors if those investors are regulated in a manner thatwill be affected by the proposals. Consequently, noteholders should consult with their own advisers as tothe consequences to and effects on them of the potential application of the NewBasel Capital Accord proposals.  Theprecise effects of potential changes that might result if the proposals wereadopted in their current form cannot be predicted.

 

**Certain events may affect theeligibility of the series 1 class A issuer notes for investment by money marketfunds**

 

The series 1 class Aissuer notes are eligible for purchase by money market funds under Rule 2a-7under the United States Investment Company Act of 1940, as amended.  However, under Rule 2a-7, a money marketfund may be required to dispose of the series 1 class A issuer notes upon theoccurrence of any of the following events:

 

•                  the rating currently assigned to theseries 1 class A issuer notes is lowered or withdrawn;

 

•                  a material default occurs withrespect to the series 1 class A issuer notes;

 

•                  the money market fund determines thatthe series 1 class A issuer notes no longer present minimal credit risk;

 

•                  upon certain events of insolvencywith respect to the issuer; or

 

•                  the series 1 class A issuer notesotherwise cease to meet the eligibility criteria under Rule 2a-7.

 

**Item 4.  Information onthe Company**

 

A.*            Historyand Development of the Company*

 

Not applicable.

 

B.*            BusinessOverview*

 

Not applicable.

 

C.*            OrganizationalStructure*

 

Not applicable.

 

D.*            Property,Plants and Equipment*

 

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The issuer

 

The property of theissuer consists primarily of its right to receive payments of interest andprincipal from Funding 1 on the various term advances made under the issuerintercompany loan agreement.

 

Funding 1

 

The property of Funding 1consists of its interest in the trust property held by the mortgages trustee(which entitles Funding 1 to receive certain payments of principal and interestfrom the trust property according to the terms of the mortgages trust deed) andamounts available under a reserve fund.

 

The mortgagestrustee

 

The trust propertyincludes the initial portfolio of loans and their related security assigned tothe mortgages trustee by the seller on June 14, 2002, any new loans and theirnew related security assigned to the mortgages trustee by the seller after theclosing date, any increase in the outstanding principal balance of a loan dueto the borrower taking payment holidays or making underpayments under a loan ora borrower making a drawing under any flexible loan, any interest, principaland other amounts (excluding third party amounts) paid by borrowers on theirloans and their related security, the rights under the insurance policies thatare assigned to the mortgages trustee or of which the mortgages trustee has thebenefit, and amounts on deposit and interest earned on the mortgages trusteeguaranteed investment contract.  Anyactual losses in relation to the loans, any actual reductions occurring inrespect of the loans and distributions of principal made from time to time to thebeneficiaries or the mortgages trust will be deducted from the trustproperty.  The composition of the trustproperty will fluctuate as drawings under flexible loans and new loans areadded, as borrowers take payment holidays or make underpayments under a loanand as the loans that were previously part of the trust property are repaid,mature, default or are repurchased by the seller.

 

**Item 5.  Operating andFinancial Review and Prospects**

 

A.*            OperatingResults*

 

Not applicable.

 

B.*            Liquidityand Capital Resources*

 

Not applicable.

 

C.*            Researchand Development, Patents and Licenses, etc.*

 

Not applicable.

 

D*.            TrendInformation*

 

Not applicable.

 

**Item 6.  Directors,Senior Management and Employees**

 

A.*            Directorsand Senior Management*

 

The following sets outthe names, business addresses and business occupations of the directors of theissuer, Funding 1 and the mortgages trustee. Because each of the issuer, Funding 1 

 

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and the mortgages trustee is organized as a special purpose company andwill be largely passive, it is expected that the directors of each entity inthat capacity will manage its operations to the extent necessary.

 

The issuer

 
| **Name**                       |   | **Business  Address**                                             |   | **Business  Occupation**                             |   |
|--------------------------------|--------|-------------------------------------------------------------------|--------|------------------------------------------------------|--------|
| SFM  Directors Limited         |   | Blackwell House  Guildhall Yard  London EC2V 5AE                  |   | Provision of directors  to special purpose companies |   |
|                           |   |                                                              |   |                                                 |   |
| SFM  Directors (No. 2) Limited |   | Blackwell House  Guildhall Yard  London EC2V 5AE                  |   | Provision of directors  to special purpose companies |   |
|                           |   |                                                              |   |                                                 |   |
| David  Balai                   |   | HBOS Treasury Services  plc  33 Old Broad Street  London EC2N 1HZ |   | Head of capital markets  and securitisation          |   |

 

Funding 1

 
| **Name**                       |   | **Business  Address**                                             |   | **Business  Occupation**                             |   |
|--------------------------------|--------|-------------------------------------------------------------------|--------|------------------------------------------------------|--------|
| SFM  Directors Limited         |   | Blackwell House  Guildhall Yard  London EC2V 5AE                  |   | Provision of directors  to special purpose companies |   |
|                           |   |                                                              |   |                                                 |   |
| SFM  Directors (No. 2) Limited |   | Blackwell House  Guildhall Yard  London EC2V 5AE                  |   | Provision of directors  to special purpose companies |   |
|                           |   |                                                              |   |                                                 |   |
| David  Balai                   |   | HBOS Treasury Services  plc  33 Old Broad Street  London EC2N 1HZ |   | Head of capital markets  and securitisation          |   |

 

The mortgages trustee

 
| **Name**               |   | **Business  Address**                                             |   | **Business  Occupation**                    |   |
|------------------------|--------|-------------------------------------------------------------------|--------|---------------------------------------------|--------|
| Michael  George Best   |   | 47 Esplanade  St. Helier  Jersey JE1 0BD                          |   | Trust Company Director                      |   |
|                   |   |                                                              |   |                                        |   |
| Peter  John Richardson |   | 47 Esplanade  St. Helier  Jersey JE1 0BD                          |   | Trust Company Director                      |   |
|                   |   |                                                              |   |                                        |   |
| David  Balai           |   | HBOS Treasury Services  plc  33 Old Broad Street  London EC2N 1HZ |   | Head of capital markets  and securitisation |   |

 

David Balai is anemployee of a company in the same group of companies as the seller.

 

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B.*            Compensation*

 

The issuer

 

In accordance with theissuer corporate services agreement entered into between the issuer, theseller, the security trustee, the note trustee, Holdings and Structured FinanceManagement Limited (“SFM”), the seller and SFM will each provide directors andother corporate services for the issuer in consideration for a payment of aseparate fee payable by the issuer to SFM. No other remuneration is paid to any director or officer in connectionwith such director’s or officer’s activities on behalf of the issuer.

 

Funding 1

 

In accordance with theFunding 1 corporate services agreement entered into between Funding 1, theseller, the security trustee, the note trustee, Holdings, Permanent PECOHLimited, SFM, and SFM Corporate Services Limited (“SFM Corporate”), the sellerand SFM will each provide directors and SFM will provide other corporateservices for Funding 1 in consideration for a payment of a separate fee payableby Funding 1 to SFM.  No otherremuneration is paid to any director or officer in connection with suchdirector’s or officer’s activities on behalf of Funding 1.

 

The mortgagestrustee

 

In accordance with themortgages trustee corporate services agreement entered into between themortgages trustee, the security trustee, the note trustee and SFM OffshoreLimited (“SFM Offshore”), the seller and SFM Offshore will each providedirectors and SFM Offshore will provide other corporate services for themortgages trustee in consideration for a payment of a separate fee payable bythe mortgages trustee to SFM Offshore. No other remuneration is paid to any director or officer in connectionwith such director’s or officer’s activities on behalf of the mortgagestrustee.

 

C.            *Board Practices*

 

Not applicable.

 

D.            *Employees*

 

None of the issuer,Funding 1 or the mortgages trustee has any employees.

 

E.             *Share Ownership*

 

Not applicable.

 

**Item 7.  MajorShareholders and Related Party Transactions**

 

A.            *Major Shareholders*

 

The issuer andFunding 1 are wholly owned by Permanent Holdings Limited, a companyincorporated under the laws of England and Wales.  SFM Corporate holds all of the beneficial interest in the issuedshares of Holdings on a discretionary trust for the benefit of The NationalSociety for the Prevention of Cruelty to Children in the United Kingdom and forother charitable purposes.

 

SFM Offshore holds all ofthe issued shares of the mortgages trustee in trust for charitable purposes.

 

Neither SFM Corporate norSFM Offshore is affiliated with Halifax plc.

 

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B.            *Related Party Transactions*

 

None, other than withrespect to the making of payments in respect to the securities as described inthe Registration Statement and “Item 3.D — Risk Factors.”

 

C.            *Interests of Experts and Counsel*

 

Not applicable to annualreports filed on Form 20-F.

 

**Item 8.  FinancialInformation**

 

For a discussion of theavailable financial information, see “Item 3.A — Selected FinancialInformation”.

 

The issuer, Funding 1 andthe mortgages trustee know of no material legal or arbitration proceedingsinvolving their respective companies that may have significant effects on theregistrants’ financial position or profitability, including governmentalproceedings pending or known to be contemplated and any material proceeding inwhich any director or affiliate is either a party adverse to a registrant orhas a material interest adverse to a registrant.

 

**Item 9.  The Offer andListing**

 

A.*            Offerand Listing Details*

 

Not applicable.

 

B.*            Planof Distribution*

 

Not applicable to annualreports filed on Form 20-F.

 

C.*            Markets*

 

The principal tradingmarket for each class of the issuer notes is the London Stock Exchange.  The issuer notes have been listed on theLondon Stock Exchange since June 14, 2002.

 

D.*            SellingShareholders*

 

Not applicable to annualreports filed on Form 20-F.

 

E.*             Dilution*

 

Not applicable to annualreports filed on Form 20-F.

 

F.*             Expensesof the Issue*

 

Not applicable to annualreports filed on Form 20-F.

 

**Item 10.  AdditionalInformation**

 

A.*            ShareCapital*

 

Not applicable to annualreports filed on Form 20-F.

 

B.*            Memorandumand Articles of Association*

 

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The memorandum and articlesof association for each of the issuer, Funding 1 and the mortgages trustee areincorporated by reference from the Registration Statement.  Please also see the description of theissuer, Funding 1 and the mortgages trustee set forth in the RegistrationStatement.

 

C.            *Material Contracts*

 

Not applicable other thanwith respect to contracts relating to the issuer notes, which were described inthe Registration Statement.

 

D.*            ExchangeControls*

 

None.

 

E.*             Taxation*

 

**United Kingdom Taxation**

 

The following sectionsummarizes the material UK tax consequences of the purchase, ownership anddisposition of the issuer notes based on current law and practice in the UK.The summary assumes that the profit in Funding 1’s profit and loss account willnot exceed 0.01 percent of the Funding 1 available revenue receipts andthat the profit in the issuer’s profit and loss account will not exceed0.01 percent of the interest on the issuer term advances under the issuerintercompany loan.  It further assumesthat all payments made pursuant to the final documentation are calculated onarm’s length terms.  The summary doesnot purport to be a complete analysis of all tax considerations of thepurchase, ownership and disposition of the issuer notes.  It relates to the position of persons whoare the absolute beneficial owners of issuer notes and may not apply to certainclasses of persons such as dealers or persons connected with the issuer.  Noteholders who may be subject to tax in ajurisdiction other than the UK or who may be unsure as to their tax positionshould seek their own professional advice.

 

**Taxation of US residents**

 

As discussed in moredetail below, no UK withholding tax will be required in relation to interestpayments on the issuer notes provided that the issuer notes are listed on a recognised stock exchange, whichincludes the London Stock Exchange.  Ifthe issuer notes cease to be listed on the London Stock Exchange, an amountmust be withheld on account of UK income tax at the lower rate (currently 20percent), subject to any direction to the contrary from the Inland Revenue inrespect of such relief as may be available pursuant to the provisions of anapplicable double taxation treaty.

 

Residents of the US aregenerally not subject to tax in the UK on payments on the issuer notes underthe terms of the double taxation treaty between the US and the UK (the“Treaty”), subject to completion of administrative formalities, except wherethe issuer notes are effectively connected with a permanent establishment or afixed base of the noteholder situated in the UK or the noteholder is exemptfrom tax in respect of income on the issuer notes in the US and the noteholdersells or makes a contract to sell the holding from which such income is derivedwithin three months of the date on which the noteholder acquired the holding,where amounts paid on the issuer notes do not exceed the return on comparabledebt instruments.  To the extent thatthe amounts paid do exceed such a return, the UK may tax the excess inaccordance with UK domestic law.  A newdouble taxation treaty (the “New Treaty”) has been negotiated between the UKand the US and came into force on March 31, 2003.  The above description of the treatment of residents of the USunder the Treaty will also apply under the New Treaty.  The provisions of the New Treaty insofar asthey apply to UK income tax apply from April 6, 2003.

 

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**Withholding tax**

 

There will be no UKwithholding tax in relation to interest payments on the issuer notes providedthat, so far as concerns deduction by the issuer or its paying agents, theissuer notes are listed on a “recognized stock exchange”, as defined inSection 841 of the Income and Corporation Taxes Act 1988 (“ICTA”).  The London Stock Exchange is current arecognized stock exchange for this purpose. The Inland Revenue is instead able to obtain information about personsto whom or, in certain circumstances, for whose benefit is paid.  If the issuer notes cease to be listed on a“recognized stock exchange”, an amount must be withheld on account of UK incometax at the lower rate (currently 20 percent) from interest paid on them,subject to any direction to the contrary from the Inland Revenue in respect ofsuch relief as may be available pursuant to the provisions of an applicabledouble taxation treaty or to the interest being paid to persons (includingcompanies within the charge to UK corporation tax) and in the circumstancesspecified in Section 349A to 349D of the ICTA.

 

Noteholders who areindividuals may wish to note that the Inland Revenue has power to obtaininformation (including the name and address of the beneficial owner of theinterest) from any person in the UK who either pays interest to, or receivesinterest for the benefit or, an individual. Information so obtained may, in certain circumstances, be exchanged bythe Inland Revenue with the tax authorities of other jurisdictions.

 

**Direct assessment of non-UK residentholders of the issuer notes to UK tax on interest**

 

The issuer notes have aUK source. Accordingly, payments on the issuer notes will in principle bewithin the charge to UK tax even if paid without withholding or deduction.  However, other than where the provisions ofthe New Treaty apply to allow certain interest paid to residents of the US tobe taxed in the UK, such payments will not be chargeable to UK tax in the handsof a noteholder who is not resident for tax purposes in the UK unless suchholder carries on a trade, profession or vocation in the UK through a UK branchor agency in connection with which the payments are received or to which theissuer notes are attributable, in which case (subject to exemptions forinterest received by certain categories of agent such as some brokers andinvestment managers) tax may be levied on the UK branch or agency.

 

The Inland Revenue haspublished draft legislative proposals, for introduction in the Finance Bill2003, which broadly replace references to “branch” or “agency” in the Tax Acts(as defined in Section 831 of the Income and Corporation Taxes Act 1988) withreference to “permanent establishment” for accounting periods beginning on orafter January 1, 2003; in the event that these draft legislative proposals areenacted, references to branch or agency in the preceding sentence may need tobe read as references to “permanent establishment”.

 

**Taxation of returns: companies withinthe charge to UK corporation tax**

 

In general, noteholderswho are within the charge to UK corporation tax (other than authorized unittrusts) will normally be subject to tax on all profits and gains, includinginterest and profit and gains attributable to currency regulations, arising onor in connection with the issuer notes under the loan relationship rules.  Any such profits and gains will generallyfall to be calculated in accordance with the statutory accounting treatment ofthe issuer notes in the hands of the relevant noteholder, and will generally becharged to tax as income in respect of each accounting period to which they areallocated, in accordance with that accounting treatment.  Relief may be available in respect of lossesor for related expenses on a similar basis.

 

**Taxation of returns: othernoteholders**

 

Noteholders who are notwithin the charge to UK corporation tax and who are resident or ordinarilyresident in the UK for tax purposes or who carry on a trade, profession orvocation in the UK through a branch or agency (or, if the draft legislativeproposals referred to above are enacted, through a permanent establishment) in connectionwith which interest on the issuer 

 

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notes is received or to which the issuer notes are attributable willgenerally be liable to UK tax on the amount of any interest received in respectof the issuer notes.  As the series 1issuer notes, series 2 issuer notes and series 3 issuer notes are denominatedin US dollars and the series 4 class A1 issuer notes are denominated in euro,they will not be regarded by the Inland Revenue as constituting “qualifyingcorporate bonds” within the meaning of Section 117 of the Taxation ofChargeable Gains Act 1992.  Accordingly,a disposal of any of these issuer notes may give rise to a chargeable gain oran allowable loss for the purpose of the UK taxation of chargeable gains.

 

It is expected that theseries 4 class A2 issuer notes, the series 4 class B issuer notes and theseries 4 class C issuer notes will be regarded by the Inland Revenue asconstituting “qualifying corporate bonds” within the meaning of Section 117 ofthe Taxation of Chargeable Gains Act 1992. Accordingly, a disposal of any of these issuer notes is not expected togive rise to a chargeable gain or an allowable loss for the purpose of the UKtaxation of chargeable gains.

 

A disposal of the issuer notesby such noteholders as described above may also give rise to a charge to tax onincome in respect of an amount representing interest accrued on the issuernotes since the preceding payment date. For the issuer notes which constitute variable rate securities, taxationin respect of such a disposal will be computed on the basis that such amount asthe Inland Revenue considers to be just and reasonable will be treated asaccrued income.  However, the transfereeof a variable rate security will not be entitled to any relief on suchamount.  All of the issuer notes (exceptthe series 1 class A issuer notes, series 2 class A issuer notes and series 4class A1 issuer notes) will constitute variable rate issuer notes for thispurpose.

 

**Stamp duty and stamp duty reserve tax**

 

No UK stamp duty or stampduty reserve tax is payable on the issue or transfer of the offered globalissuer notes or on the issue or transfer of a note in definitive form.

 

**UK taxation of Funding 1 and theissuer**

 

Funding 1 and the issuerwill generally be subject to UK corporation tax, currently at a rate of30 percent, on the profit reflected in their respective profit and lossaccounts as increased by the amounts of any non-deductible expenses or losses.  Examples of non-deductible expenses andlosses include general provisions for bad debts.  In respect of Funding 1, the profit in the profit and lossaccount will not exceed 0.01 percent of the Funding 1 available revenuereceipts. In respect of the issuer, the profit in the profit and loss accountwill not exceed 0.01 percent of the interest on the issuer term advancesunder the issuer intercompany loan.

 

**UK taxation of the mortgages trustee**

 

The mortgages trusteewill have no liability to UK tax in respect of any income, profit or gain arisingunder these arrangements.  Accordingly,the mortgages trustee will have no liability to UK tax in relation to amountsthat it receives on behalf of Funding 1 or the seller under the mortgagestrust.

 

**Proposed EU Savings Directive**

 

On June 3, 2003, theEuropean Council of Economics and Finance Ministers agreed on proposals underwhich member states will be required to provide to the tax authorities ofanother member state details of payments of interest (or similar income) paidby a person within its jurisdiction to an individual resident in that othermember state, except that, for a transitional period, Belgium, Luxembourg andAustria will instead be required to operate a withholding system in relating tosuch payments (the ending of such transitional period being dependent upon theconclusion of 

 

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certain other agreements relating to information exchange with certainother countries).  The proposals areanticipated to take effect from January 1, 2005.

 

**United States Federal Income Taxation**

 

The following sectionsummarizes the material US federal income tax consequences of the purchase,ownership and disposition of the series 1 class A issuer notes, series 1 classB issuer notes, series 1 class C issuer notes, series 2 class A issuer notes,series 2 class B issuer notes, series 2 class C issuer notes, series 3 class Aissuer notes, series 3 class B issuer notes and series 3 class C issuer notes(the “US notes”).  In general, thesummary assumes that a holder acquires the US notes at original issuanceand holds the US notes as capital assets. It does not purport to be a comprehensive description of allthe tax considerations that may be relevant to a decision to purchase theUS notes.  In particular, it does notdiscuss special tax considerations that may apply to certain types oftaxpayers, including, without limitation, the following: (i) financialinstitutions; (ii) insurance companies; (iii) dealers or traders in stocks,securities, notional principal contracts or currencies; (iv) tax-exemptentities; (v) regulated investment companies; (vi) persons that will hold theUS notes as part of a “hedging” or “conversion” transaction or as a position ina “straddle” for US federal income tax purposes; (vii) persons that own (or aredeemed to own) 10 percent or more of the voting shares of the issuer; (viii)persons who hold US notes through partnerships or other pass-through entities;and (ix) persons that have a “functional currency” other than the US dollar.  In addition, this summary does not addressalternative minimum tax consequences, nor does it describe any tax consequencesarising under the laws of any taxing jurisdiction other than the USfederal government.

 

This summary is based onthe US Internal Revenue Code of 1986, as amended (the “Code”), US Treasuryregulations and judicial and administrative interpretations thereof, in eachcase as in effect or available on the date of filing of this Form 20-F.  All of the foregoing are subject to change,and any change may apply retroactively and could affect the tax consequencesdescribed below.

 

**Investors should consult their owntax advisors as to the US federal income tax consequences of the purchase,ownership and disposition of the US notes, including the possible applicationof state, local, non-US or other tax laws, and other US tax issues affectingthe transaction.**

 

As used in this section,the term “United States holder” means a beneficial owner of US notes that isfor US federal income tax purposes: (i) a citizen or resident of theUnited States; (ii) a corporation (or other entity treated as a corporation) orpartnership, created or organized in or under the laws of the United States orany state thereof (including the District of Columbia); (iii) any estate theincome of which is subject to US federal income tax regardless of the source ofits income; or (iv) any trust if a court within the United States is able toexercise primary supervision over the administration of the trust and one ormore United States persons have the authority to control all substantialdecisions of the trust.  A “Non-UnitedStates holder” is a beneficial owner of US notes that is not a United Statesholder.

 

**Tax status of the issuer, Funding 1,the mortgages trustee and the mortgages trust**

 

Each of the issuer,Funding 1 and the mortgages trustee acting it its capacity as trustee of themortgages trust covenants not to engage in any activities in the United States(directly or through agents), not to derive any income from sources within theUnited States as determined under US federal income tax principles, and not tohold any property if doing so would cause it to be engaged or deemed to beengaged in a trade or business within the United States as determined under USfederal income tax principles.  Assumingcompliance with these covenants, none of the issuer, Funding 1 or the mortgagestrustee acting in its capacity as trustee of the mortgages trust will besubject to US federal income tax.  Noelections will be made to treat the issuer, Funding 1 or the mortgages trusteeor any of their assets as a REMIC or a FASIT (two types of securitisationvehicles having a special tax status under the Code).

 

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**Characterization of the US notes**

 

Although there is noauthority regarding the treatment of instruments that are substantially similarto the US notes, and while it is not free from doubt, the issuer believes thatthe US notes will be treated as debt for US federal income tax purposes.  The issuer intends to treat the US notes asindebtedness of the issuer for all purposes, including US tax purposes.  The discussion in the next section assumesthis result.

 

The US notes will not bequalifying real property loans in the hands of domestic savings and loanassociations, real estate investment trusts, or REMICs under sections7701(a)(19)(C), 856(c)(5)(C) or 860G(a)(3) of the Code, respectively.

 

**Taxation of United States holders ofthe US notes**

 

*Qualified Stated Interest andOriginal Issue Discount.*The issuer intends to treat intereston the US notes as “qualified stated interest” under US Treasury regulationsrelating to original issue discount (hereafter the “OID regulations”).  As a consequence, discount on the US notesarising from an issuance at less than par will only be required to be accruedunder the OID regulations if such discount exceeds a statutorily defined *de minimis*amount.  Qualified stated interest,which generally must be unconditionally payable at least annually, is taxedunder a holder’s normal method of accounting as ordinary interest income.  De minimis OID is included in income on a *pro rata*basis as principal payments are made on the US notes.

 

It is possible thatinterest on the class B and class C US notes could be treated as original issuediscount (“OID”) because such interest is subject to deferral in certainlimited circumstances.  A United Statesholder of a US note issued with OID must include OID in income over the term ofsuch US note under a constant yield method that takes into account thecompounding of interest.  Under theCode, OID is calculated and accrued using prepayment assumptions where paymentson a debt instrument may be accelerated by reason of prepayments of otherobligations securing such debt instrument. Moreover, the legislative history to the provisions provide that thesame prepayment assumptions used to price a debt instrument be used tocalculate OID, as well as to accrue market discount and amortize premium.  Here, prepayment of the mortgage loans isnot expected to alter the scheduled principal payments on the class B and classC US notes and, accordingly, the issuer intends to assume that the class B andclass C US notes will have their principal repaid according to the schedule forpurposes of accruing any OID.  Norepresentation is made that the mortgage loans will pay on the basis of suchprepayment assumption or in accordance with any other prepayment scenario.

 

As an alternative to theabove treatments, United States holders may elect to include in gross incomeall interest with respect to the class B and class C US notes, including statedinterest, acquisition discount, OID, *de minimis* OID, market discount, *de minimis*market discount, and unstated interest, as adjusted by any amortizable bondpremium or acquisition premium, using the constant yield method describedabove.

 

Interest income on the USnotes will be treated as foreign source income for US federal income taxpurposes, which may be relevant in calculating a United States holder’s foreigntax credit limitation for US federal income tax purposes.  The limitation on foreign taxes eligible forthe US foreign tax credit is calculated separately with respect to specificclasses of income.  For this purpose,the interest on the US notes should generally constitute “passive income” or,in the case of certain United States holders, “financial services income”.

 

*Sales and Retirement.*In general, a United States holder of a US note will have a basis in such USnote equal to the cost of the US note to such holder, and reduced by anypayments thereon other than payments of stated interest.  Upon a sale or exchange of the US note, aUnited States holder will 

 

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generally recognize gain or loss equal to the difference between theamount realized (less any accrued interest, which would be taxable as such) andthe holder’s tax basis in the US note. Such gain or loss will be long-term capital gain or loss if the UnitedStates holder has held the US note for more than one year at the time ofdisposition. **Investors should consult their own tax advisors with respect to thetreatment of capital gains (which may be taxed at lower rates than ordinaryincome for taxpayers who are individuals, trusts or estates that hold the USnotes for more than one year) and capital losses (the deductibility of which issubject to limitations).**

 

**Taxation of Non-United States holdersof the US Notes**

 

Subject to the backupwithholding rules discussed below, a Non-United States holder generally shouldnot be subject to US federal income or withholding tax on any payments on a USnote and gain from the sale, redemption or other disposition of a US noteunless: (i) that payment and/or gain is effectively connected with the conductby that Non-United States holder of a trade or business in the United States;(ii) in the case of any gain realized on the sale or exchange of a US note byan individual Non-United States holder, that holder is present in the UnitedStates for 183 days or more in the taxable year of the sale, exchange orretirement and certain other conditions are met; or (iii) the Non-United Statesholder is subject to tax pursuant to provisions of the Code applicable tocertain expatriates.  **Non-UnitedStates holders should consult their own tax advisors regarding the US federalincome and other tax consequences of owning US notes.**

 

**Alternative characterization of theUS notes**

 

The propercharacterization of the arrangement involving the issuer and the holders of theUS notes is not clear because there is no authority on transactions comparableto that contemplated herein.  The issuerintends to treat the US notes as debt for all US federal income tax purposes.Investors should consult their own tax advisors with respect to the potentialimpact of an alternative characterization of the US notes for US tax purposes.

 

One possible alternativecharacterization is that the US Internal Revenue Service (“IRS”) could assertthat the Class C or any other class of US notes should be treated as equity inthe issuer for US federal income tax purposes. If the class C or any other class of US notes were treated as equity,United States holders of such notes would be treated as owning equity in apassive foreign investment company (“PFIC”) which, depending on the level ofownership of such United States holder and certain other factors, might alsoconstitute an interest in a controlled foreign corporation for such UnitedStates holder.  This would have certaintiming and character consequences for United States holders and could requirecertain elections and disclosures that would need to be made shortly afteracquisition to avoid potentially adverse US tax consequences.

 

If a United States holderwere treated as owning an equity interest in a PFIC, unless a United Statesholder makes a “QEF election” or “mark to market election”, a United Statesholder will be subject to a special tax regime (i) in respect of gains realizedon the sale or other disposition of the relevant notes, and (ii) in respect ofdistributions on the relevant notes held for more than one taxable year to theextent those distributions constitute “excess distributions”.  Although not free from doubt, the PFIC rulesshould not apply to gain realized in respect of any notes disposed of duringthe same taxable year in which such notes are acquired.  An excess distribution generally includesdividends or other distributions received from a PFIC in any taxable year tothe extent the amount of such distributions exceeds 125 percent of the averagedistributions for the three preceding years (or, if shorter, the investor’sholding period).  Because the US notespay interest at a floating rate, it is possible that a US holder will receive“excess distributions” as a result of fluctuations in the rate of USD-LIBORover the term of the US notes.  Ingeneral, under PFIC rules, a United States holder will be required to allocatesuch excess distributions and any gain realized on a sale of its notes to eachday during the United States holder’s holding period for the notes, and will betaxable at the highest rate of taxation applicable to the notes for the year towhich the excess distribution or gain is allocable (without regard to theUnited States holder’s other items of income and loss for such taxable year)(the 

 

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“deferred tax”).  The deferredtax (other than the tax on amounts allocable to the year of disposition orreceipt of the distribution) will then be increased by an interest chargecomputed by reference to the rate generally applicable to underpayments of tax(which interest charge generally will be non-deductible interest expense forindividual taxpayers).

 

**Backup withholding and informationreporting**

 

Backupwithholding and information reporting requirements may apply to certainpayments on the US notes and proceeds of the sale or redemption of the US notesto United States holders.  Theissuer, its agent, a broker, or any paying agent, as the case may be, may berequired to withhold tax from any payment that is subject to backup withholdingcurrently at a rate of 28 percent of such payment if the United States holderfails to furnish the United States holder’s taxpayer identification number(usually on IRS Form W-9), to certify that such United States holder is notsubject to backup withholding, or to otherwise comply with the applicablerequirements of the backup withholding rules.  Certain United Statesholders (including, among others, corporations) are not subject to the backupwithholding and information reporting requirements.  Non-United States holders may be required to comply withapplicable certification procedures (usually on IRS Form W-8BEN) to establishthat they are not United States holders in order to avoid the application ofsuch information reporting requirements and backup withholding.

 

Payments of principal orinterest made to or through a foreign office of a custodian, nominee or otheragent acting on behalf of a beneficial owner of a US note generally will not besubject to backup withholding.  However,if such custodian, nominee or other agent is (i) a United States holder, (ii) acontrolled foreign corporation (as defined in section 957(a) of the Code),(iii) a foreign holder 50 percent or more of whose gross income is effectivelyconnected with a US trade or business for a specified three-year period, or(iv) a foreign partnership if (A) at any time during its tax year, one or moreof its partners are United States holders who in the aggregate hold more than50 percent of the income or capital interest in the partnership or (B) at anytime during its taxable year, it is engaged in a US trade or business (each of(i) through (iv), a “US Connected Holder”), such custodian, nominee or other agentmay be subject to certain information reporting requirements with respect tosuch payment unless it has in its records documentary evidence that thebeneficial owner is not a United States holder and certain conditions are metor the beneficial owner otherwise establishes an exemption.  Principal and interest paid by the US officeof a custodian, nominee or agent will be subject to both backup withholding andinformation reporting unless the beneficial owner certifies its non-US statusunder penalties of perjury or otherwise establishes an exemption.  However, payments of principal and interestmade by a US Connected Holder will, generally, be subject to backup withholdingonly if such payer has actual knowledge that the payee is a United Statesholder.

 

Payments of proceeds onthe sale of a US note made to or through a foreign office of a broker will notbe subject to backup withholding. However, if such broker is a US Connected Holder, information reportingwill be required unless the broker has in its records documentary evidence thatthe beneficial owner is not a United States holder and certain conditions aremet or the beneficial owner otherwise establishes an exemption.  Payments of proceeds on the sale of a USnote made to or through the US office of a broker will be subject to backupwithholding and information reporting unless the beneficial owner certifies,under penalties of perjury, that it is not a US holder or otherwise establishesan exemption.  Payments of proceeds onthe sale of a US note made by a US Connected Holder generally will be onlysubject to backup withholding if such payer has actual knowledge that the payeeis a United States holder.

 

Backup withholding is notan additional tax.  Any amounts withheldunder the backup withholding rules will be refunded or credited against theUnited States holder’s US federal income tax liability, provided that therequired information is furnished to the IRS. **Holdersof US notes should consult their tax advisors as to their qualification forexemption from backup withholding and the procedure for obtaining an exemption.**

 

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**Material Jersey (Channel Islands) TaxConsiderations**

 

The mortgages trustee isresident in Jersey for taxation purposes and will be liable to income tax inJersey at a rate of 20 percent in respect of the profits it makes from actingas trustee of the mortgages trust.  Themortgages trustee will not be liable for any income tax in Jersey in respect ofany income it receives in its capacity as mortgages trustee on behalf of thebeneficiaries of the mortgages trust.

 

F.             *Dividends and Paying Agents*

 

Not applicable to annualreports filed on Form 20-F.

 

G.            *Statement by Experts*

 

Not applicable to annualreports filed on Form 20-F.

 

H.            *Documents on Display*

 

The issuer, Funding 1 andthe mortgages trustee are subject to the information requirements of the U.S.Securities Exchange Act of 1934, as amended, and are therefore required to filereports, including annual reports on Form 20-F, and other information with theSEC.  These materials, including thisannual report and the exhibits thereto, may be inspected and copied at theSEC’s public reference rooms in Washington, DC, New York, NY and Chicago,IL.  Please call the SEC at +1-800-732-0330for further information on the public reference rooms.  As of the date of this annual report, theissuer, Funding 1 and the mortgages trustee, as foreign private issuers, arenot required to make filings with the SEC by electronic means, although they areentitled to do so.  Any filings made bythe issuer, Funding 1 or the mortgages trustee will be made available to thepublic over the Internet at the SEC’s web site at http://www.sec.gov.

 

I.              *Subsidiary Information*

 

Not applicable to annualreports filed on Form 20-F.

 

**Item 11.  Quantitativeand Qualitative Disclosures About Market Risk**

 

Funding 1 has enteredinto the Funding 1 swap agreement with Halifax plc as the Funding 1 swapprovider and the security trustee.  Theissuer has entered into issuer swaps with the issuer swap providers and thesecurity trustee.  In general, the swapsare designed to do the following:

 

•                  Funding 1 swap: to hedge against thepossible variance between the mortgages trustee variable base rate payable onthe variable rate loans, the rates of interest payable on the tracker rateloans and the fixed rates of interest payable on the fixed rate loans and aLIBOR based rate for three-month sterling deposits;

 

•                  issuer dollar currency swaps: toprotect the issuer against changes in the sterling to dollar exchange ratefollowing the closing date and the possible variance between a LIBOR based ratefor three-month sterling deposits and either (i) a LIBOR based rate forone-month dollar deposits applicable to the series 1 class A issuer notes, (ii)a fixed rate of interest applicable to the series 2 class A issuer notes up toand including the interest payment date in June 2005, payable, during thisperiod, (A) semi-annually on the interest payment date falling in December andin June of each year until the occurrence of a trigger event or the enforcementof the issuer security and (B) quarterly on and following the interest paymentdate occurring immediately thereafter, or (iii) a LIBOR based rate forthree-month dollar deposits, applicable to the series 1 class B issuer notes,the series 1 class C issuer notes, the series 2 class A issuer notes, theseries 2 class B issuer notes and 

 

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the series 2 classC issuer notes, from and including the interest payment date falling in June2005, and the series 3 issuer notes, and to address the difference inperiodicity between the interest payment dates in respect of the intercompanyloans, which occur quarterly, and the interest payment dates in respect of theseries 1 class A issuer notes, which occur (i) monthly until the occurrence ofa trigger event or enforcement of the issuer security and (ii) quarterly on andfollowing the interest payment date occurring immediately thereafter; and

 

•                  issuer euro currency swap: to protectthe issuer against changes in the sterling to euro exchange rate following theclosing date and the possible variance between a LIBOR based rate forthree-month sterling deposits and either (i) a fixed rate of interest applicableto the series 4 class A1 issuer notes up to and including the interest paymentin June 2007 payable, during this period, (A) annually on the interest paymentdate falling in June of each year until the occurrence of a trigger event orthe enforcement of the issuer security and (B) quarterly on and following theinterest payment date occurring immediately thereafter or (ii) a EURIBOR basedrate for three month euro deposits applicable to the series 4 class A1 issuernotes from and including the interest payment date falling in June 2007.

 

**The Funding 1 swap**

 

Some of the loans in theportfolio pay a variable rate of interest for a period of time which may eitherbe linked to the mortgages trustee variable base rate or linked to an interestrate other than the mortgages trustee variable base rate, such as a rate set bythe Bank of England.  Other loans pay afixed rate of interest for a period of time. However, the interest rate payable by Funding 1 with respect to theissuer term advances is calculated as a margin over LIBOR for three-monthsterling deposits.  To provide a hedgeagainst the possible variance between:

 

(1)                                  themortgages trustee variable base rate payable on the variable rate loans, therates of interest payable on the tracker rate loans and the fixed rates ofinterest payable on the fixed rate loans; and

 

(2)           aLIBOR based rate for three-month sterling deposits,

 

Funding 1, the Funding 1swap provider and the security trustee have entered into the Funding 1 swap asamended and restated on March 6, 2003. The Funding 1 swap:

 

•                  has a notional amount that is sizedto hedge against any potential interest rate mismatches in relation to thecurrent issues; and

 

•                  provides for the notional amount tobe increased as appropriate to hedge against similar potential interest ratemismatches in relation to any new issues.

 

Under the Funding 1 swap,on each calculation date, the following amounts will be calculated:

 

•                  the amount produced by applying LIBORfor three-month sterling deposits (as determined in respect of thecorresponding interest period under the intercompany loans) plus a spread forthe relevant calculation period to the notional amount of the Funding 1 swap asdescribed later in this section (known as the “calculation period swap provideramount”); and

 

•                  the amount produced by applying arate equal to the weighted average of:

 

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(i)                                     theaverage of the standard variable mortgage rates or their equivalent charged toexisting borrowers on residential mortgage loans as published from time totime, after excluding the highest and the lowest rate, of Abbey National plc,HSBC Bank plc, Lloyds TSB plc, National Westminster Bank Plc, NationwideBuilding Society, Northern Rock plc and Woolwich plc (and where those bankshave more than one standard variable rate, the highest of those rates);

 

(ii)                                  therates of interest payable on the tracker rate loans; and

 

(iii)                               therates of interest payable on the fixed rate loans,

 

for the relevantcalculation period to the notional amount of the Funding 1 swap (known as the“calculation period Funding 1 amount”). “Calculation date” is defined as the first day (or if not a LondonBusiness Day, the next succeeding London Business Day) of each month and anyother day on which Funding 1 acquires a further interest in the trust propertyfrom and including the calculation date immediately preceding the effectivedate.  “London Business Day” is definedas a day (other than a Saturday or Sunday) on which banks are generally openfor business in London.

 

On each Funding 1interest payment date the following amounts will be calculated:

 

•                  the sum of each of the calculationperiod swap provider amounts calculated during the preceding interest period;and

 

•                  the sum of each of the calculationperiod Funding 1 amounts calculated during the preceding interest period.

 

After these two amountsare calculated in relation to a Funding 1 interest payment date, the followingpayments will be made on that Funding 1 interest payment date:

 

•                  if the first amount is greater thanthe second amount, then the Funding 1 swap provider will pay the difference toFunding 1;

 

•                  if the second amount is greater thanthe first amount, then Funding 1 will pay the difference to the Funding 1 swapprovider; and

 

•                  if the two amounts are equal, neitherparty will make a payment to the other.

 

If a payment is to bemade by the Funding 1 swap provider, that payment will be included in theFunding 1 available revenue receipts and will be applied on the relevantFunding 1 interest payment date according to the relevant order of priority ofpayments of Funding 1.  If a payment isto be made by Funding 1, it will be made according to the relevant order ofpriority of payments of Funding 1.

 

The notional amount ofthe Funding 1 swap on the closing date is equal to the initial principal amountoutstanding under the issuer intercompany loan.  The notional amount of the Funding 1 swap in respect of acalculation period will be an amount in sterling equal to:

 

•                  the aggregate principal amountoutstanding of all intercompany loans during the relevant calculation period,less

 

•                  the balance of the principaldeficiency ledger attributable to all intercompany loans during the relevantcalculation period, less

 

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•                  the amount of the principal receiptsin the Funding 1 GIC account attributable to all intercompany loans during therelevant calculation period.

 

In the event that theFunding 1 swap is terminated prior to the service of any issuer intercompanyloan acceleration notice or final repayment of any intercompany loan, Funding 1shall enter into a new Funding 1 swap on terms acceptable to the ratingagencies, with the security trustee and with a swap provider whom the ratingagencies have previously confirmed in writing to Funding 1, the issuer and thesecurity trustee will not cause the then current ratings of the issuer notes tobe downgraded, withdrawn or qualified. If Funding 1 is unable to enter into a new Funding 1 swap on termsacceptable to the rating agencies, this may affect amounts available to payinterest on the intercompany loans.

 

**The issuer dollar currency swaps andthe issuer euro currency swap**

 

The issuer intercompanyloan is denominated in sterling, and interest payable by Funding 1 to theissuer under the issuer term advances is calculated as a margin over LIBOR forthree-month sterling deposits.  However,some of the issuer notes are denominated in US dollars and accrue interest ateither a fixed rate, a LIBOR based rate for one-month dollar deposits or aLIBOR based rate for three-month deposits. In addition, the series 4 class A1 issuer notes are denominated in euroand accrue interest at a EURIBOR based rate for three-month euro deposits.  To deal with the potential interest rateand/or currency mismatch between (i) its receipts and liabilities in respect ofthe issuer intercompany loan and (ii) its receipts and liabilities under theissuer notes, the issuer will, pursuant to the terms of the issuer swaps, swapits receipts and liabilities in respect of all euro denominated issuer notesand all US dollar denominated issuer notes into sterling on terms that matchthe issuer’s obligations under the US dollar denominated issuer notes or theeuro denominated issuer notes, as applicable.

 

The initial currencyamount of each issuer swap is the principal amount outstanding under the termadvance for the issuer notes to which the relevant issuer swap relates.  In order to allow for the effective currencyamount of each issuer swap to amortize at the same rate as the relevant classof issuer notes, each issuer swap agreement provides for a number ofconditional mini-swaps intended to ensure that as and when the issuer notesamortize, a portion of the issuer swap so terminated will be swapped fromsterling into US dollars at the relevant dollar currency exchange rate or intoeuro at the euro currency exchange rate, as applicable.

 

The obligations of theseries 3 issuer dollar currency swap provider under the relevant issuer dollarcurrency swaps will be guaranteed by the issuer dollar currency swap guarantorpursuant to a guarantee (the “series 3 issuer swap guarantee”).

 

In the event that anyissuer swap is terminated prior to the service of an issuer note accelerationnotice or the final redemption of the relevant US dollar denominated or eurodenominated issuer notes, as applicable, the issuer shall enter into areplacement issuer swap in respect of that class and series of issuer notes.  Any replacement issuer swap must be enteredinto on terms acceptable to the rating agencies, the issuer and the securitytrustee and with a replacement issuer swap provider whom the rating agencieshave previously confirmed in writing to the issuer and the security trusteewill not cause the then current ratings of the issuer notes to be downgraded,withdrawn or qualified.  If the issueris unable to enter into any replacement issuer swaps on terms acceptable to therating agencies, this may affect amounts available to pay amounts due under theissuer notes.

 

If an issuer swapagreement is terminated and the issuer is unable to enter into a replacementswap as described above, then any payments received by the issuer from Funding1 on each Funding 1 interest payment date shall be deposited in the issuer bankaccount (or such other account opened for this purpose) and applied by theissuer to repay the issuer notes on each interest payment date after exchangingat the “spot” rate, the relevant proceeds from sterling into dollars or eurosas required.

 

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**Ratings downgrade of swap providers**

 

Under the terms of theFunding 1 swap, in the event that the short-term, unsecured, unsubordinated andunguaranteed credit rating of the Funding 1 swap provider is downgraded belowA-1 by Standard & Poor’s or P-1 by Moody’s or F1 by Fitch and, as a resultof the downgrade, the then current ratings of the issuer notes would beadversely affected, then the Funding 1 swap provider shall be under an obligationeither to (i) arrange for its obligations under the relevant swap to betransferred to, or guaranteed by, a third party with at least an A-1 short-termrating by Standard & Poor’s and a P-1 short-term rating by Moody’s and anF1 short-term rating by Fitch; or (ii) provide collateral for its obligationsunder the relevant swap, in either case with a view to maintaining the ratingsof the issuer notes at their then current ratings.

 

Under the terms of theissuer dollar currency swaps and the issuer euro currency swap, in the eventthat the long-term, unsecured, unsubordinated and unguaranteed credit rating ofthe relevant issuer swap provider or their guarantors, as applicable, isdowngraded below AA- by Standard & Poor’s or Aa3 by Moody’s or AA- by Fitchand as a result of the downgrade, the then current ratings of the series andclass of issuer notes to which such swap relates would be adversely affected,then the relevant issuer swap provider shall be under an obligation either to(i) arrange for its obligations under the relevant swap to be transferred to,or guaranteed by (depending on the terms of the relevant issuer swapagreement), a third party with at least an AA- long-term rating by Standard& Poor’s and an Aa3 long-term rating by Moody’s and an AA- long-term ratingby Fitch; or (ii) provide collateral for its obligations under the relevantissuer swap, in either case with a view to maintaining the ratings of suchseries and class of issuer notes at their then current ratings.

 

**Termination of the swaps**

 

The Funding 1 swapwill terminate on the date on which the aggregate principal amount outstandingunder all intercompany loans is reduced to zero.

 

Each issuer swapother than the series 1 class A issuer swap, the series 2 class A issuer swap,the series 3 class A issuer swap and the series 4 class A1 issuer swap willterminate on the earlier of the interest payment date falling in June 2042 andthe date on which all of the relevant class and series of issuer notes areredeemed in full.  The series 1 class Aissuer swap will terminate on the earlier of the interest payment date fallingin June 2003 and the date on which the series 1 class A issuer notes areredeemed in full.  The series 2 class Aissuer swap will terminate on the earlier of the interest payment date fallingin June 2007 and the date on which the series 2 class A issuer notes areredeemed in full.  The series 3 class Aissuer swap will terminate on the earlier of the interest payment date fallingin December 2007 and the date on which the series 3 class A issuer notes areredeemed in full.  The series 4 class A1issuer swap will terminate on the earlier of the interest payment date fallingin June 2009 and the date on which the series 4 class A1 issuer notes areredeemed in full.

 

Any swap may also beterminated in any of the following circumstances, each referred to as a “swapearly termination event”:

 

•                  at the option of one party to theswap, if there is a failure by the other party to pay any amounts due underthat swap;

 

•                  in respect of the issuer swaps, if anevent of default under the issuer notes occurs and the security trustee servesan issuer note acceleration notice;

 

•                  in respect of the Funding 1 swap, ifan event of default under any intercompany loan occurs and the security trusteeserves an intercompany loan acceleration notice;

 

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•                  upon the occurrence of an insolvencyof the relevant swap provider, or the merger of one of the parties without anassumption of the obligations under the swaps (except in respect of a transferby Funding 1 or the issuer to the security trustee), or, under the issuer swapagreements, the occurrence of certain other events in relation to the issuerwhich, in the opinion of the security trustee, would materially affect theissuer’s ability to make payment under the relevant issuer swap agreement, orchanges in law resulting in the obligations of one of the parties becomingillegal; and

 

•                  if the relevant swap provider or itsguarantor, as applicable, is downgraded and fails to comply with therequirements of the ratings downgrade provision contained in the relevant swapagreement.

 

Upon the occurrence of aswap early termination event, the issuer or the relevant issuer swap providermay be liable to make a termination payment to the other and/or Funding 1 orthe Funding 1 swap provider may be liable to make a termination payment to theother.  This termination payment will becalculated and made in sterling.  Theamount of any termination payment will be based on the market value of theterminated swap based on market quotations of the cost of entering into a swapwith the same terms and conditions that would have the effect of preserving therespective full payment obligations of the parties.  Any such termination payment could be substantial.

 

If any issuer swap isterminated early and a termination payment is due by the issuer to an issuerswap provider, as the case may be, then, pursuant to its obligations under theissuer intercompany loan, Funding 1 shall pay to the issuer an amount equal tothe termination payment due to the relevant issuer swap provider.  These payments will be made by Funding 1only after paying interest amounts due on the issuer term advances and afterproviding for any debit balance on the principal deficiency ledger.  The issuer shall apply amounts received fromFunding 1 under the issuer intercompany loan in accordance with the issuerpre-enforcement revenue priority of payments or, as the case may be, the issuerpost-enforcement priority of payments. The application by the issuer of termination payments due to an issuerswap provider may affect the funds available to pay amounts due to noteholders.

 

If the issuer receives atermination payment from an issuer swap provider, then the issuer shall usethose funds towards meeting its costs in effecting currency exchanges at thespot rate of exchange until a replacement issuer swap is entered into and/or toacquire a replacement issuer swap. Noteholders will not receive extra amounts (over and above interest andprincipal payable on the issuer notes) as a result of the issuer receiving atermination payment.

 

**Transfer of the swaps**

 

Each issuer swap providermay, at its option, transfer its obligations under any of the issuer swaps toany of its affiliates.  Any suchtransfer is subject to certain conditions, including among other things (i)that the transferee is rated (long-term) at least AA- by Standard & Poor’s,Aa3 by Moody’s and AA- by Fitch, or its performance under the relevant issuerswap will be guaranteed in full by the relevant issuer swap provider, (ii) thatthe transfer must not cause an event of default or a swap early terminationevent under the relevant issuer swap and (iii) that the rating agencies haveconfirmed that the transfer will not result in the then current rating of therelevant series and class of issuer notes being downgraded.

 

**Taxation**

 

Neither Funding 1 nor theissuer is obliged under any of the swaps to gross up payments made by them ifwithholding taxes are imposed on payments made under the swaps.

 

A swap provider will beobliged to gross up payments made by it to Funding 1 or the issuer ifwithholding taxes are imposed on payments made under the swaps.

 

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The series 3 issuer swapguarantor will be obliged to gross up payments made by it to the issuer ifwithholding taxes are imposed on the series 3 issuer swap guarantee.  However, the series 3 issuer swap guarantormay terminate the series 3 issuer swap guarantee if it is obliged to gross uppayments made by it to the issuer.

 

**Item 12.  Descriptionof Securities Other than Equity Securities**

 

Not applicable to annualreports filed on Form 20-F.

 

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**PART II**

 

**Item 13.  Defaults,Dividend Arrearages and Delinquencies**

 

None.

 

**Item 14.  MaterialModifications to the Rights of Security Holders and Use of Proceeds**

 

On December 31, 2002,U.S. Bank National Association acquired the corporate trust business of StateStreet Bank and Trust Company, the note trustee and the security trustee underthe issuer deed of charge and the Funding 1 deed of charge.  Post-acquisition, State Street Bank andTrust Company appointed U.S. Bank National Association as co-note trustee underthe issuer trust deed and co-security trustee under the issuer deed of chargeand the Funding 1 deed of charge.

 

On March 31, 2003, bothState Street Bank and Trust Company and U.S. Bank National Association gavenotice of their retirement as co-note trustees and co-security trustees, whichwill become effective when a replacement note trustee and security trustee areappointed. The issuer and Funding 1 are currently in the process of obtainingthe necessary approvals for the appointment of a replacement note trustee andsecurity trustee.

 

**Item 15.  Controls andProcedures**

 

Not applicable.

 

**Item 16A.  AuditCommittee Financial Expert**

 

Not applicable.

 

**Item 16B.  Code ofEthics**

 

Not applicable.

 

**Item 16C.  PrincipalAccountant Fees and Services**

 

Not applicable.

 

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**PART III**

 

**Item 17.  FinancialStatements**

 

Not applicable.

 

**Item 18.  FinancialStatements**

 

Not applicable.

 

**Item 19.  Exhibits**

 

The following documentsare filed as part of the Annual Report on Form 20-F:

 

Exhibit 1: a copy of theMemorandum and Articles of Association of each of the issuer, Funding 1 and themortgages trustee is incorporated by reference from the Registration Statement.

 

Exhibit 2: instrumentsdefining the rights of the security holders as described in the RegistrationStatement are incorporated by reference from the Registration Statement.

 

Exhibit 10.1: Investor’sReport for the month of June 2002 (incorporated by reference from the Form 6-Kpreviously filed on December 19, 2002).

 

Exhibit 10.2: Investor’sReport for the month of July 2002 (incorporated by reference from the Form 6-Kpreviously filed on December 19, 2002).

 

Exhibit 10.3: Investor’sReport for the month of August 2002 (incorporated by reference from the Form 6-Kpreviously filed on December 19, 2002).

 

Exhibit 10.4: Investor’sReport for the month of September 2002 (incorporated by reference from the Form6-K previously filed on December 19, 2002).

 

Exhibit 10.5: Investor’sReport for the month of October 2002 (incorporated by reference from the Form6-K previously filed on December 19, 2002).

 

Exhibit 10.6: Investor’sReport for the month of November 2002 (incorporated by reference from the Form6-K previously filed on December 19, 2002).

 

Exhibit 10.7: Investor’sReport for the month of December 2002 (incorporated by reference from the Form6-K previously filed on February 3, 2003).

 

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**SIGNATURES**

 

Each registrant herebycertifies that it meets all of the requirements for filing on Form 20-F andthat it has duly caused and authorized the undersigned to sign this annualreport on its behalf.

 
|   | PERMANENT FINANCING  (NO. 1) PLC     |
|--------|--------------------------------------|
|   |                                 |   |   |
|   |                                 |   |   |
|   | By:                                  | /s/ David Balai |   |
|   | Name:                                | David Balai |   |
|   | Title:                               | Director |   |
|   |                                 |   |
|   |                                 |   |
|   | PERMANENT FUNDING (NO.  1) LIMITED   |
|   |                                 |   |
|   |                                 |   |
|   | By:                                  | /s/ David Balai |   |
|   | Name:                                | David Balai |   |
|   | Title:                               | Director |   |
|   |                                 |   |
|   |                                 |   |
|   | PERMANENT MORTGAGES  TRUSTEE LIMITED |
|   |                                 |   |
|   |                                 |   |
|   | By:                                  | /s/ David Balai |   |
|   | Name:                                | David Balai |   |
|   | Title:                               | Director |   |

 

56

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Dated:  June 30, 2003

 

I, David Balai, certifythat:

 

1.  I have reviewed this annual report on Form20-F, and all reports on Form 6-K containing distribution or servicing reportsfiled in respect of periods included the year covered by this annual report, ofPermanent Financing (No. 1) PLC, Permanent Funding (No. 1) Limited andPermanent Mortgages Trustee Limited;

 

2.  Based on my knowledge, the information inthese reports, taken as a whole, does not contain any untrue statement of amaterial fact or omit to state a material fact necessary to make the statementsmade, in light of the circumstances under which such statements were made, notmisleading as of the last day of the period covered by this annual report;

 

3.  Based on my knowledge, the distribution orservicing information required to be provided to the trustee by the servicerunder the pooling and servicing, or similar, agreement, for inclusion in thesereports is included in these reports;

 

4.  Based on my knowledge and upon representationsmade to me by the servicer, and except as disclosed in the reports, theservicer has fulfilled its obligations under the servicing agreement; and

 

5.  The reports disclose all significantdeficiencies relating to the servicer’s compliance with the minimum servicingstandards based upon representations made to me by the servicer.

 

In giving thecertifications above, I have reasonably relied on information provided to me bythe following unaffiliated parties: Halifax plc.

 

Date: June 30, 2003

 
| By:                                                   | /s/ David Balai |   |
|-------------------------------------------------------|-----------------|--------|
| Title: Director,  Permanent Mortgages Trustee Limited |

 

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