##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended September 30, 2004 [  ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________ to _________. Commission File Number: 0-6835 IRWIN FINANCIAL CORPORATION 
 (Exact Name of
Corporation as Specified in its Charter)
 Indiana
    
    35-1286807(State or Other Jurisdiction of Incorporation or Organization)
    
    (I.R.S. Employer Identification No.)500 Washington Street Columbus, Indiana
    
    47201(Address of Principal Executive Offices)
    
    (Zip Code)(812) 376-1909
    
    www.irwinfinancial.com(Corporations Telephone Number, Including Area Code)
    
    (Web Site)
  Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [ X ]Yes             [   ]No  Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act) [ X ]Yes             [   ]No As of October 25, 2004, there were 28,350,990 outstanding common shares, no par
value, of the Registrant.    1




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FORM 10-Q
TABLE OF CONTENTS PAGENO.PART I
    
    FINANCIAL INFORMATIONItem 1
    
    Financial Statements
    
    
    3Item 2
    
    Management's Discussion and Analysis of Financial Condition and Results of Operations
    
    
    22Item 3
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    56Item 4
    
    Controls and Procedures
    
    
    57PART II
    
    OTHER INFORMATIONItem 1
    
    Legal Proceedings
    
    
    58Item 6
    
    Exhibits
    
    
    61Signatures
    
    
    64302 Certification of Chief Executive Officer302 Certification of Chief Financial Officer906 Certification of Chief Executive Officer906 Certification of Chief Financial Officer
 2




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PART I. FINANCIAL INFORMATION. 
 Item 1. Financial Statements. IRWIN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (Unaudited) September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Assets:Cash and cash equivalents
    
    $
    213,458
    
    
    $
    140,810Interest-bearing deposits with financial institutions
    
    
    58,450
    
    
    
    81,166Residual interests
    
    
    70,968
    
    
    
    71,491Investment securities- held-to-maturity (Market value: $30,175
at September 30, 2004 and $24,971 at December 31, 2003)
    
    
    30,152
    
    
    
    24,956Investment securities- available-for-sale
    
    
    77,516
    
    
    
    67,569Loans held for sale
    
    
    971,357
    
    
    
    883,895Loans and leases, net of unearned income  Note 2
    
    
    3,401,643
    
    
    
    3,161,054Less: Allowance for loan and lease losses  Note 3
    
    
    (47,796
    )
    
    
    (64,285
    )3,353,847
    
    
    
    3,096,769Servicing assets  Note 4
    
    
    389,171
    
    
    
    380,123Accounts receivable
    
    
    84,018
    
    
    
    62,045Accrued interest receivable
    
    
    16,208
    
    
    
    15,502Premises and equipment, net
    
    
    31,444
    
    
    
    32,208Other assets
    
    
    118,982
    
    
    
    131,825Total assets
    
    $
    5,415,571
    
    
    $
    4,988,359Liabilities and Shareholders Equity:DepositsNoninterest-bearing
    
    $
    981,327
    
    
    $
    850,529Interest-bearing
    
    
    1,777,900
    
    
    
    1,352,763Certificates of deposit over $100,000
    
    
    727,230
    
    
    
    696,3703,486,457
    
    
    
    2,899,662Short-term borrowings  Note 5
    
    
    132,691
    
    
    
    429,758Collateralized debt  Note 6
    
    
    667,797
    
    
    
    590,131Other long-term debt  Note 7
    
    
    270,175
    
    
    
    270,184Other liabilities
    
    
    372,104
    
    
    
    366,364Total liabilities
    
    
    4,929,224
    
    
    
    4,556,099Commitments and contingencies  Note 11Shareholders equityPreferred stock, no par value  authorized 4,000,000 shares; none issued
    
    
    
    
    
    
    Common stock, no par value  authorized 40,000,000 shares;
issued 29,612,080 shares as of September 30, 2004 and December 31, 2003,
respectively; including 1,277,059 and 1,477,778, shares in treasury as of
September 30, 2004 and December 31, 2003, respectively
    
    
    112,000
    
    
    
    112,000Additional paid-in capital
    
    
    557
    
    
    
    1,264Deferred compensation
    
    
    (516
    )
    
    
    (504
    )Accumulated other comprehensive loss, net of deferred income tax expense
of $540 and $120 as of September 30, 2004, and December 31, 2003,
respectively
    
    
    810
    
    
    
    182Retained earnings
    
    
    401,338
    
    
    
    352,647514,189
    
    
    
    465,589Less treasury stock, at cost
    
    
    (27,842
    )
    
    
    (33,329
    )Total shareholders equity
    
    
    486,347
    
    
    
    432,260Total liabilities and shareholders equity
    
    $
    5,415,571
    
    
    $
    4,988,359
 The accompanying notes are an integral part of the consolidated financial
statements. 3




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IRWIN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended September 30,2004
    
    2003(Dollars in thousands, except per share)Interest income:Loans and leases
    
    $
    62,088
    
    
    $
    59,626Loans held for sale
    
    
    23,112
    
    
    
    33,978Residual interests
    
    
    3,350
    
    
    
    4,131Investment securities
    
    
    1,371
    
    
    
    1,125Federal funds sold
    
    
    44
    
    
    
    20Total interest income
    
    
    89,965
    
    
    
    98,880Interest expense:Deposits
    
    
    11,984
    
    
    
    9,873Short-term borrowings
    
    
    2,796
    
    
    
    3,383Collateralized debt
    
    
    3,782
    
    
    
    4,045Other long-term debt - Note 7
    
    
    5,743
    
    
    
    419Preferred securities distribution - Note 7
    
    
    
    
    
    
    5,527Total interest expense
    
    
    24,305
    
    
    
    23,247Net interest income
    
    
    65,660
    
    
    
    75,633Provision for loan and lease losses
    
    
    1,898
    
    
    
    14,778Net interest income after provision for loan and lease losses
    
    
    63,762
    
    
    
    60,855Other income:Loan servicing fees
    
    
    34,423
    
    
    
    28,523Amortization of servicing assets - Note 4
    
    
    (28,070
    )
    
    
    (34,064
    )(Impairment) recovery of servicing assets - Note 4
    
    
    (18,358
    )
    
    
    41,665Net loan administration (loss) income
    
    
    (12,005
    )
    
    
    36,124Gain from sales of loans
    
    
    48,626
    
    
    
    91,569Gain on sale of mortgage servicing assets
    
    
    440
    
    
    
    7Trading gains (losses)
    
    
    4,326
    
    
    
    (1,403
    )Derivative gains (losses), net
    
    
    21,045
    
    
    
    (28,046
    )Other
    
    
    5,503
    
    
    
    6,41267,935
    
    
    
    104,663Other expense:Salaries
    
    
    53,986
    
    
    
    62,220Pension and other employee benefits
    
    
    12,127
    
    
    
    9,573Office expense
    
    
    3,271
    
    
    
    5,330Premises and equipment
    
    
    10,096
    
    
    
    9,533Marketing and development
    
    
    3,103
    
    
    
    3,400Professional fees
    
    
    5,132
    
    
    
    2,980Other
    
    
    14,777
    
    
    
    21,370102,492
    
    
    
    114,406Income before income taxes
    
    
    29,205
    
    
    
    51,112Provision for income taxes
    
    
    12,011
    
    
    
    19,994Net income
    
    $
    17,194
    
    
    $
    31,118Earnings per share: - Note 9Basic
    
    $
    0.61
    
    
    $
    1.11Diluted
    
    $
    0.57
    
    
    $
    1.03Dividends per share
    
    $
    0.08
    
    
    $
    0.07
 The accompanying notes are an integral part of the consolidated financial statements. 4




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IRWIN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Nine Months Ended September 30,2004
    
    2003(Dollars in thousands, except per share)Interest income:Loans and leases
    
    $
    181,759
    
    
    $
    179,460Loans held for sale
    
    
    59,397
    
    
    
    86,800Residual interests
    
    
    9,893
    
    
    
    17,100Investment securities
    
    
    3,733
    
    
    
    3,134Federal funds sold
    
    
    82
    
    
    
    119Total interest income
    
    
    254,864
    
    
    
    286,613Interest expense:Deposits
    
    
    31,532
    
    
    
    32,679Short-term borrowings
    
    
    6,611
    
    
    
    12,053Collateralized debt
    
    
    10,501
    
    
    
    11,569Other long-term debt  Note 7
    
    
    17,101
    
    
    
    1,745Preferred securities distribution  Note 7
    
    
    
    
    
    
    16,581Total interest expense
    
    
    65,745
    
    
    
    74,627Net interest income
    
    
    189,119
    
    
    
    211,986Provision for loan and lease losses
    
    
    11,838
    
    
    
    37,655Net interest income after provision for loan and lease losses
    
    
    177,281
    
    
    
    174,331Other income:Loan servicing fees
    
    
    100,620
    
    
    
    75,231Amortization of servicing assets  Note 4
    
    
    (89,413
    )
    
    
    (102,112
    )Recovery (impairment) of servicing assets  Note 4
    
    
    6,210
    
    
    
    (1,966
    )Net loan administration income (loss)
    
    
    17,417
    
    
    
    (28,847
    )Gain from sales of loans
    
    
    140,669
    
    
    
    311,081Gain on sale of mortgage servicing assets
    
    
    8,857
    
    
    
    7Trading gains (losses)
    
    
    15,668
    
    
    
    (52,323
    )Derivative gains (losses), net
    
    
    25,869
    
    
    
    (15,904
    )Other
    
    
    17,917
    
    
    
    16,982226,397
    
    
    
    230,996Other expense:Salaries
    
    
    158,602
    
    
    
    176,851Pension and other employee benefits
    
    
    34,813
    
    
    
    31,431Office expense
    
    
    12,950
    
    
    
    16,200Premises and equipment
    
    
    30,890
    
    
    
    28,751Marketing and development
    
    
    10,670
    
    
    
    11,157Professional fees
    
    
    14,436
    
    
    
    8,664Other
    
    
    48,325
    
    
    
    40,646310,686
    
    
    
    313,700Income before income taxes
    
    
    92,992
    
    
    
    91,627Provision for income taxes
    
    
    37,513
    
    
    
    35,505Net income
    
    $
    55,479
    
    
    $
    56,122Earnings per share:  Note 9Basic
    
    $
    1.96
    
    
    $
    2.01Diluted
    
    $
    1.84
    
    
    $
    1.89Dividends per share
    
    $
    0.24
    
    
    $
    0.21
 The accompanying notes are an integral part of the consolidated financial
statements. 5




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IRWIN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITY (Unaudited)
Three Months Ended September 30, 2004, and 2003 AccumulatedOther
    
    
    
    
    
    AdditionalRetained
    
    Comprehensive
    
    Deferred
    
    Paid in
    
    Common
    
    TreasuryTotal
    
    Earnings
    
    Income (Loss)
    
    Compensation
    
    Capital
    
    Stock
    
    Stock(Dollars in thousands)Balance at July 1, 2004
    
    $
    469,486
    
    
    $
    386,410
    
    
    $
    71
    
    
    $
    (538
    )
    
    $
    579
    
    
    $
    112,000
    
    
    $
    (29,036
    )Net income
    
    
    17,194
    
    
    
    17,194Unrealized gain on investment
securities net of $142 tax liability
    
    
    212
    
    
    
    
    
    
    
    212Foreign currency adjustment
net of $352 tax liability
    
    
    527
    
    
    
    
    
    
    
    527Total comprehensive income
    
    
    17,933Deferred compensation
    
    
    22
    
    
    
    
    
    
    
    
    
    
    
    22Cash dividends
    
    
    (2,266
    )
    
    
    (2,266
    )Tax benefit on stock option exercises
    
    
    100
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    100Treasury stock:Purchase of 867 shares
    
    
    (23
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (23
    )Sales of 52,342 shares
    
    
    1,095
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (122
    )
    
    
    
    
    
    
    1,217Balance September 30, 2004
    
    $
    486,347
    
    
    $
    401,338
    
    
    $
    810
    
    
    $
    (516
    )
    
    $
    557
    
    
    $
    112,000
    
    
    $
    (27,842
    )Balance at July 1, 2003
    
    $
    384,835
    
    
    $
    308,760
    
    
    $
    (58
    )
    
    $
    (489
    )
    
    $
    2,422
    
    
    $
    112,000
    
    
    $
    (37,800
    )Net income
    
    
    31,118
    
    
    
    31,118Unrealized loss on investment
securities net of $57 tax benefit
    
    
    (84
    )
    
    
    
    
    
    
    (84
    )Unrealized loss on interest rate cap
net of $17 tax liability
    
    
    26
    
    
    
    
    
    
    
    26Foreign currency adjustment net of
$16 tax benefit
    
    
    (24
    )
    
    
    
    
    
    
    (24
    )Total comprehensive income
    
    
    31,036Deferred compensation
    
    
    68
    
    
    
    
    
    
    
    
    
    
    
    68Cash dividends
    
    
    (1,959
    )
    
    
    (1,959
    )Tax benefit on stock option exercises
    
    
    22
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    22Treasury stock:Purchase of 1,321 shares
    
    
    (33
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (33
    )Sales of 24,766 shares
    
    
    485
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (31
    )
    
    
    
    
    
    
    516Balance September 30, 2003
    
    $
    414,454
    
    
    $
    337,919
    
    
    $
    (140
    )
    
    $
    (421
    )
    
    $
    2,413
    
    
    $
    112,000
    
    
    $
    (37,317
    )
 The accompanying notes are an integral part of the consolidated financial
statements. 6




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IRWIN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITY (Unaudited)
Nine Months Ended September 30, 2004, and 2003 AccumulatedOther
    
    
    
    
    
    AdditionalRetained
    
    Comprehensive
    
    Deferred
    
    Paid in
    
    Common
    
    TreasuryTotal
    
    Earnings
    
    Income (Loss)
    
    Compensation
    
    Capital
    
    Stock
    
    Stock(Dollars in thousands)Balance at January 1, 2004
    
    $
    432,260
    
    
    $
    352,647
    
    
    $
    182
    
    
    $
    (504
    )
    
    $
    1,264
    
    
    $
    112,000
    
    
    $
    (33,329
    )Net income
    
    
    55,479
    
    
    
    55,479Unrealized gain on investment
securities net of $93 tax liability
    
    
    139
    
    
    
    
    
    
    
    139Unrealized gain on interest rate cap
net of $131 tax liability
    
    
    196
    
    
    
    
    
    
    
    196Foreign currency adjustment net of
$195 tax liability
    
    
    293
    
    
    
    
    
    
    
    293Total comprehensive income
    
    
    56,107Deferred compensation
    
    
    (12
    )
    
    
    
    
    
    
    
    
    
    
    (12
    )Cash dividends
    
    
    (6,788
    )
    
    
    (6,788
    )Tax benefit on stock option exercises
    
    
    778
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    778Treasury stock:Purchase of 11,307 shares
    
    
    (370
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (370
    )Sales of 212,026 shares
    
    
    4,372
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,485
    )
    
    
    
    
    
    
    5,857Balance at September 30, 2004
    
    $
    486,347
    
    
    $
    401,338
    
    
    $
    810
    
    
    $
    (516
    )
    
    $
    557
    
    
    $
    112,000
    
    
    $
    (27,842
    )Balance at January 1, 2003
    
    $
    360,555
    
    
    $
    287,662
    
    
    $
    (1,142
    )
    
    $
    (240
    )
    
    $
    3,606
    
    
    $
    112,000
    
    
    $
    (41,331
    )Net income
    
    
    56,122
    
    
    
    56,122Unrealized loss on investment
securities net of $45 tax benefit
    
    
    (72
    )
    
    
    
    
    
    
    (72
    )Unrealized loss on interest rate
cap net of $31 tax benefit
    
    
    (47
    )
    
    
    
    
    
    
    (47
    )Foreign currency adjustment net of
$576 tax liability
    
    
    865
    
    
    
    
    
    
    
    865Minimum SERP liability net of
$170 tax liability
    
    
    256
    
    
    
    
    
    
    
    256Total comprehensive income
    
    
    57,124Deferred compensation
    
    
    (181
    )
    
    
    
    
    
    
    
    
    
    
    (181
    )Cash dividends
    
    
    (5,865
    )
    
    
    (5,865
    )Conversion of 1,700 trust preferred
shares to 2,142 common shares
    
    
    43
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1
    )
    
    
    
    
    
    
    44Tax benefit on stock option exercises
    
    
    1,031
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,031Treasury stock:Purchase of 122,464 shares
    
    
    (2,822
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,822
    )Sales of 330,666 shares
    
    
    4,569
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,223
    )
    
    
    
    
    
    
    6,792Balance at September 30, 2003
    
    $
    414,454
    
    
    $
    337,919
    
    
    $
    (140
    )
    
    $
    (421
    )
    
    $
    2,413
    
    
    $
    112,000
    
    
    $
    (37,317
    )
 The accompanying notes are an integral part of the consolidated financial
statements. 7




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IRWIN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) Nine Months Ended September 30,2004
    
    2003(Dollars in thousands)Net income
    
    $
    55,479
    
    
    $
    56,122Adjustments to reconcile net income to cash provided (used)
by operating activities:Depreciation, amortization, and accretion, net
    
    
    6,056
    
    
    
    8,747Amortization and impairment of servicing assets
    
    
    83,203
    
    
    
    104,078Provision for loan and lease losses
    
    
    11,838
    
    
    
    37,655Gain on sale of mortgage servicing assets
    
    
    (8,857
    )
    
    
    (7
    )Gain from sales of loans held for sale
    
    
    (140,669
    )
    
    
    (311,081
    )Originations and purchases of loans held for sale
    
    
    (10,934,035
    )
    
    
    (21,131,799
    )Proceeds from sales and repayments of loans held for sale
    
    
    10,873,116
    
    
    
    21,590,397Proceeds from sale of mortgage servicing assets
    
    
    29,494
    
    
    
    Net decrease in residuals
    
    
    523
    
    
    
    78,368Net (increase) decrease in accounts receivable
    
    
    (21,973
    )
    
    
    16,554Other, net
    
    
    15,567
    
    
    
    12,694Net cash (used) provided by operating activities
    
    
    (30,258
    )
    
    
    461,728Lending and investing activities:Proceeds from maturities/calls of investment securities:Held-to-maturity
    
    
    92,987
    
    
    
    495Available-for-sale
    
    
    1,399
    
    
    
    38,682Purchase of investment securities:Held-to-maturity
    
    
    (98,395
    )
    
    
    (99
    )Available-for-sale
    
    
    (10,958
    )
    
    
    (83,253
    )Net decrease (increase) in interest-bearing deposits with financial institutions
    
    
    22,716
    
    
    
    (27,777
    )Net increase in loans, excluding sales
    
    
    (303,958
    )
    
    
    (379,606
    )Proceeds from sale of loans
    
    
    36,279
    
    
    
    33,182Other, net
    
    
    (4,857
    )
    
    
    (6,125
    )Net cash used by lending and investing activities
    
    
    (264,787
    )
    
    
    (424,501
    )Financing activities:Net increase in deposits
    
    
    586,795
    
    
    
    324,931Net decrease in short-term borrowings
    
    
    (297,067
    )
    
    
    (550,724
    )Repayments of long-term debt
    
    
    (9
    )
    
    
    (8
    )Proceeds from issuance of collateralized borrowings
    
    
    449,223
    
    
    
    373,658Repayments of collateralized borrowings
    
    
    (369,277
    )
    
    
    (176,352
    )Purchase of treasury stock for employee benefit plans
    
    
    (370
    )
    
    
    (2,822
    )Proceeds from sale of stock for employee benefit plans
    
    
    5,150
    
    
    
    5,600Dividends paid
    
    
    (6,788
    )
    
    
    (5,865
    )Net cash provided (used) by financing activities
    
    
    367,657
    
    
    
    (31,582
    )Effect of exchange rate changes on cash
    
    
    36
    
    
    
    (144
    )Net decrease in cash and cash equivalents
    
    
    72,648
    
    
    
    5,501Cash and cash equivalents at beginning of period
    
    
    140,810
    
    
    
    157,771Cash and cash equivalents at end of period
    
    $
    213,458
    
    
    $
    163,272Supplemental disclosures of cash flow information:Cash flow during the period:Interest paid
    
    $
    65,765
    
    
    $
    78,052Income taxes (refund) paid
    
    $
    (4,998
    )
    
    $
    42,928Noncash transactions:Liability for loans held for sale eligible for repurchase  Note 1
    
    $
    67,658
    
    
    $
    111,390Conversion of trust preferred stock to common stock
    
    $
    
    
    
    $
    43
 The accompanying notes are an integral part of the consolidated financial
statements. 8




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 1  Summary of Significant Accounting Policies Consolidation:Irwin Financial Corporation and its subsidiaries (the
Corporation) provide financial services throughout the United States and
Canada. We are engaged in the mortgage banking, commercial banking, home equity
lending, commercial finance, and venture capital lines of business. Our direct
and indirect subsidiaries include Irwin Mortgage Corporation, Irwin Union Bank
and Trust Company, Irwin Union Bank, F.S.B., Irwin Home Equity Corporation,
Irwin Commercial Finance Corporation and Irwin Ventures, LLC. Intercompany
balances and transactions have been eliminated in consolidation. In the
opinion of management, the financial statements reflect all material
adjustments necessary for a fair presentation. The Corporation does not meet
the criteria as primary beneficiary for our wholly-owned trusts holding our
company-obligated mandatorily redeemable preferred securities established by
Financial Accounting Standards Board (FASB) Interpretation No. 46 (FIN 46),
Consolidation of Variable Interest Entities. As a result, these trusts are
not consolidated. Use of Estimates:The preparation of financial statements in conformity
with generally accepted accounting principles requires us to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates. Residual Interests:Residual interests are stated at fair value.
Unrealized gains and losses are included in earnings. Until the first quarter
of 2002, whenever we sold receivables in securitizations of home equity loans
and lines of credit, we sold assets and retained residual interests, one or
more subordinated tranches, and in some cases a cash reserve account, all of
which are retained interests in the securitized receivables in a manner that
qualified for gain-on-sale under Statement of Financial Accounting Standard
(SFAS) 140. Gain or loss on the sale of the loans depended, in part, on the
previous carrying amount of the financial assets involved in the transfer,
allocated between the assets sold and the retained interests based on their
relative fair value at the date of transfer. To obtain fair value of residual interests, quoted market prices are used
if available. However, quotes are generally not available for residual
interests, so we generally estimate fair value based on the present value of
expected cash flows using estimates of the key assumptions  prepayment speeds,
credit losses, forward yield curves, and discount rates commensurate with the
risks involved  that management believes market participants would use to
value similar assets. Adjustments to carrying values are recorded as trading
gains or losses. Cash and Cash Equivalents Defined:For purposes of the statement of cash
flows, we consider cash and due from banks and federal funds sold to be cash
equivalents. Loans Held for Sale:Included in loans held for sale at the mortgage line
of business were loans for which we have the right, but not the obligation, to
repurchase due to default, under the terms of the government servicing agency
contracts. Upon default, we have the non-contingent right to repurchase these
loans which causes repurchase accounting under Financial Accounting Standards
Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 140,
Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities. The liability associated with these loans is reflected in
other liabilities on our Consolidated Balance Sheet. Stock-Based Employee Compensation:We have two stock-based employee
compensation plans. We use the intrinsic value method to account for our plans
under the recognition and measurement principles of APB Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations. No
stock-based employee compensation cost is reflected in net income for any of
the periods presented, as all options granted under these plans had an exercise
price equal to the market value of the underlying common stock on the date of
grant. To date, the Board of Directors has not chosen to expense stock options.
The Board wishes to analyze new guidance from the FASB, Securities and Exchange
Commission (SEC) and other relevant authorities regarding the standardization
of valuation methods. Accordingly, we plan to begin expensing options when the
new requirements become effective or earlier should the Board of Directors
determine it to be in the best interests of our stakeholders. We will continue
to disclose the impact of expensing stock options, using our valuation method,
which is based on a Black-Scholes model using assumptions management believes
to be reasonable. The following table illustrates the effect on net income and
earnings per share if we had applied the fair value recognition provisions of
Statement of Financial Accounting Standard (SFAS) 123, Accounting for
Stock-Based Compensation, to stock-based employee compensation: 9




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##### Table of Contents



Three Months Ended
    
    Nine months endedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Net income as reported
    
    $
    17,194
    
    
    $
    31,118
    
    
    $
    55,479
    
    
    $
    56,122Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects
    
    
    (670
    )
    
    
    (699
    )
    
    
    (1,969
    )
    
    
    (2,187
    )Pro forma net income
    
    $
    16,524
    
    
    $
    30,419
    
    
    $
    53,510
    
    
    $
    53,935Basic earnings per shareAs reported
    
    $
    0.61
    
    
    $
    1.11
    
    
    $
    1.96
    
    
    $
    2.01Pro forma
    
    $
    0.58
    
    
    $
    1.09
    
    
    $
    1.89
    
    
    $
    1.93Diluted earnings per shareAs reported
    
    $
    0.57
    
    
    $
    1.03
    
    
    $
    1.84
    
    
    $
    1.89Pro forma
    
    $
    0.55
    
    
    $
    1.01
    
    
    $
    1.78
    
    
    $
    1.82
 Recent Accounting Developments:We adopted FASB Interpretation No. 46
(FIN 46), Consolidation of Variable Interest Entities as of December 31, 2003
and as a result, deconsolidated IFC Capital Trust II, IFC Capital Trust III,
IFC Capital Trust IV, IFC Capital Trust V, IFC Capital Trust VI, and IFC
Statutory Trust VII (IFC Trusts). The sole assets of the IFC Trusts are
subordinated debentures of Irwin Financial Corporation. The IFC Trusts
liabilities are represented by Trust Preferred Securities, which have
previously been listed as Company-obligated mandatorily redeemable preferred
securities of subsidiary trusts on our consolidated balance sheets. Under FIN
46, the subordinated debentures, which are substantially equal in amount to the
Trust Preferred Securities, cease to be eliminated in consolidation and are
included in other long-term debt in our consolidated balance sheets at
December 31, 2003 and September 30, 2004. Details about the IFC Trusts and
debentures can be found in Note 7, Other Long-Term Debt. The Trust Preferred
Securities currently qualify as Tier 1 regulatory capital. In May 2004, the
Federal Reserve Bank issued proposed rules that retain Tier 1 capital treatment
of Trust Preferred Securities for bank holding companies. Reclassifications:Certain amounts in the 2003 consolidated financial
statements have been reclassified to conform to the 2004 presentation. These
changes had no impact on previously reported net income or shareholders
equity. 10




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##### Table of Contents



Note 2  Loans and Leases Loans and leases are summarized as follows: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Commercial, financial and agricultural
    
    $
    1,614,983
    
    
    $
    1,503,619Real estate-construction
    
    
    325,330
    
    
    
    306,669Real estate-mortgage
    
    
    870,374
    
    
    
    859,541Consumer
    
    
    30,979
    
    
    
    27,370Direct financing leasesDomestic
    
    
    447,737
    
    
    
    364,413Canadian
    
    
    242,572
    
    
    
    207,355Unearned incomeDomestic
    
    
    (98,347
    )
    
    
    (78,875
    )Canadian
    
    
    (31,985
    )
    
    
    (29,038
    )Total loans and leases, net of unearned income
    
    $
    3,401,643
    
    
    $
    3,161,054
 Note 3  Allowance for Loan and Lease Losses Changes in the allowance for loan and lease losses are summarized below: As of and For the
    
    As of and For theNine Months Ended
    
    Year EndedSeptember 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Balance at beginning of period
    
    $
    64,285
    
    
    $
    50,936Provision for loan and lease losses
    
    
    11,838
    
    
    
    47,583Charge-offs
    
    
    (21,040
    )
    
    
    (37,312
    )Recoveries
    
    
    3,951
    
    
    
    3,420Reduction due to reclassification of loans to loans held for sale
    
    
    (10,808
    )
    
    
    (690
    )Other
    
    
    (430
    )
    
    
    348Balance at end of period
    
    $
    47,796
    
    
    $
    64,285
 The 2004 provision and allowance for loan and lease losses reflects
transactions related to the transfer and sale or pending sale of portfolio
loans associated with two portfolio sales at our home equity lending line of
business. We transferred $355 million in loans to loans held for sale when the
decisions were made to sell these portfolio loans. These loans had an
associated allowance of $20.6 million. The loans were transferred with an
allowance of $10.8 million to reduce their carrying value to fair market value.
After the transfers, the remaining $9.8 million of excess allowance was
reversed through the provision for loan and lease losses. 11




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##### Table of Contents



Note 4  Servicing Assets Included on the consolidated balance sheet at September 30, 2004 and
December 31, 2003 are $389.2 million and $380.1 million, respectively, of
capitalized servicing assets. These amounts relate to the mortgage and home
equity loans serviced by us for investors. Changes in our capitalized
servicing assets, net of valuation allowance, are shown below: As of and For the
    
    As of and For theNine Months Ended
    
    Year EndedSeptember 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Beginning balance
    
    $
    380,123
    
    
    $
    174,935Additions
    
    
    112,890
    
    
    
    296,551Amortization
    
    
    (89,413
    )
    
    
    (135,519
    )Recovery of impairment
    
    
    6,210
    
    
    
    44,516Reduction for servicing sales
    
    
    (20,639
    )
    
    
    (360
    )$
    389,171
    
    
    $
    380,123
 We have established a valuation allowance to record servicing assets at their fair market value.
Changes in the allowance are summarized below: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Balance at beginning of year
    
    $
    76,869
    
    
    $
    159,865Recovery of impairment
    
    
    (6,210
    )
    
    
    (44,516
    )Reclass for sales of servicing
    
    
    (18,204
    )
    
    
    Other than
temporary impairment (1)
    
    
    (6,999
    )
    
    
    (38,480
    )Balance at end of year
    
    $
    45,456
    
    
    $
    76,869
   (1)
 Note 5  Short-Term Borrowings Short-term borrowings are summarized as follows: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Federal Home Loan Bank borrowings
    
    $
    1,348
    
    
    $
    286,000Drafts payable related to mortgage loan closings
    
    
    79,446
    
    
    
    72,686Lines of credit and other
    
    
    51,897
    
    
    
    1,057Federal funds
    
    
    
    
    
    
    53,600Commercial paper
    
    
    
    
    
    
    16,415Total
    
    $
    132,691
    
    
    $
    429,758Weighted average interest rate
    
    
    1.25
    %
    
    
    1.61
    %
 12




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##### Table of Contents



Federal Home Loan Bank borrowings are collateralized by loans and loans
held for sale. Drafts payable related to mortgage loan closings are related to mortgage
closings that have not been presented to the banks for payment. When presented
for payment, these borrowings will be funded internally or by borrowing from
the lines of credit. We have lines of credit available to fund loan originations and operations
with variable rates ranging from 1.6% to 3.0% at September 30, 2004. Note 6  Collateralized Debt We pledge or sell loans structured as secured financings at our home
equity and commercial finance lines of business. Sale treatment is precluded on
these transactions because we fail the true-sale requirements of SFAS 140 as we
maintain effective control over the loans and leases securitized. This type of
structure results in cash being received (and subsequently used by us to
pay-down short-term fundings), debt being recorded, and the establishment of an
allowance for credit losses. The notes associated with these transactions are
collateralized by $0.7 billion in home equity loans, home equity lines of
credit, and leases. The principal and interest on these debt securities are
paid using the cash flows from the underlying loans and leases. Accordingly,
the timing of the principal payments on these debt securities is dependent on
the payments received on the underlying collateral. The interest rates on the
bonds are at a floating rate. We have an interest only senior note on the
securitization at the home equity lending line of business that as of September
30, 2004 had a notional balance of $30.5 million (which does not represent the
amount at risk), pays interest at 10%, and matures on September 25, 2005. The
2002-1 asset backed structure was sold during the second quarter resulting in
the recognition of a $2.5 million gain and the removal of $205 million of loans
and associated collateralized debt from our balance sheet. The 2003-1
structure will be sold in October. The $150 million of loans in the 2003-1
structure were transferred from loans to loans held for sale as of September
30, resulting in a reversal of $3.5 million in loan loss provision. Collateralized debt is summarized as follows: WeightedAverageInterest Rate atSeptember 30,
    
    September 30,
    
    December 31,Maturity
    
    2004
    
    2004
    
    2003(Dollars in thousands)Commercial finance line of business2003 domestic asset backed note
    
    
    7/2010
    
    
    
    2.70
    
    
    $
    33,969
    
    
    $
    51,6942003 Canadian asset backed note
    
    
    11/2008
    
    
    
    4.07
    
    
    
    103,107
    
    
    
    77,902Home equity line of business2004-1 asset backed notes:Combined variable rate senior note
    
    
    12/2024-12/2034
    
    
    
    1.89
    
    
    
    365,196
    
    
    
    Combined variable rate subordinate note
    
    
    12/2034
    
    
    
    2.74
    
    
    
    24,775
    
    
    
    2003-1 asset backed notes:Combined variable rate senior note
    
    
    2/2028
    
    
    
    2.15
    
    
    
    69,099
    
    
    
    160,874Combined variable rate subordinate note
    
    
    2/2028
    
    
    
    3.92
    
    
    
    68,625
    
    
    
    61,763Unamortized premium/discount
    
    
    
    
    
    
    
    
    
    
    3,026
    
    
    
    4,4462002-1 asset backed notes:Combined variable rate senior note
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    156,699Combined variable rate subordinate note
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    72,551Unamortized premium/discount
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,202Total
    
    
    
    
    
    
    
    
    
    $
    667,797
    
    
    $
    590,131
 Note 7 -Other Long-Term Debt At September 30, 2004 and December 31, 2003 we had $270 million of other
long-term debt. Included in both years is $30 million of subordinated debt with
an interest rate of 7.58% and a maturity date of July 2014. 13




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##### Table of Contents



We also have obligations represented by subordinated debentures at
September 30, 2004 of $240 million. These securities were issued by
wholly-owned trusts of Irwin Financial Corporation that were created for the
purpose of issuing cumulative trust preferred securities. In accordance with
FIN 46 we are no longer consolidating these trusts. Refer to Note 1 for
information regarding the accounting change for these securities implemented in
2003. These debentures are the sole assets of these trusts as of September 30,
2004. All debentures and securities are callable at par after five years from
origination date although at this time we have no plans to call. The securities are all Tier 1 qualifying capital at September
30, 2004. Highlights about these debentures and the related trusts are listed
below: InterestRate at
    
    
    
    
    
    Subordinated DebtOrigination
    
    September 30,
    
    Maturity
    
    September 30,
    
    December 31,Name
    
    Date
    
    2004
    
    Date
    
    2004
    
    2003
    
    Other(Dollars in thousands)IFC Capital Trust II
    
    Nov 2000
    
    
    10.50
    %
    
    Sep 2030
    
    $
    53,351
    
    
    $
    53,351IFC Capital Trust III
    
    Nov 2000
    
    
    8.75
    
    
    Sep 2030
    
    
    53,268
    
    
    
    53,268
    
    
    initial conversionratio of 1.261shares of commonstock to 1convertiblepreferred security,currently callableat 10% premiumIFC Capital Trust IV
    
    Jul 2001
    
    
    10.25
    
    
    Jul 2031
    
    
    15,464
    
    
    
    15,464IFC Capital Trust V
    
    Nov 2001
    
    
    9.95
    
    
    Nov 2031
    
    
    30,928
    
    
    
    30,928IFC Capital Trust VI
    
    Oct 2002
    
    
    8.70
    
    
    Sep 2032
    
    
    35,567
    
    
    
    35,567IFC Statutory Trust VII
    
    Nov 2003
    
    
    4.88
    
    
    Nov 2033
    
    
    51,547
    
    
    
    51,547
    
    
    rate changes quarterly atthree month LIBOR plus290 basis points$
    240,125
    
    
    $
    240,125
 14




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##### Table of Contents



Note 8  Employee Retirement Plans Components of net periodic cost of pension benefit are as follows: Three Months Ended September 30,2004
    
    2003(Dollars in thousands)Service
    
    $
    762
    
    
    $
    396Interest
    
    
    479
    
    
    
    413Expected return on plan assets
    
    
    (395
    )
    
    
    (314
    )Amortization of transition obligation
    
    
    3
    
    
    
    3Amortization of prior service cost
    
    
    10
    
    
    
    10Amortization of actuarial loss
    
    
    204
    
    
    
    193Net periodic benefit cost
    
    $
    1,063
    
    
    $
    701
 Nine Months Ended September 30,2004
    
    2003(Dollars in thousands)Service
    
    $
    1,750
    
    
    $
    1,188Interest
    
    
    1,390
    
    
    
    1,238Expected return on plan assets
    
    
    (1,204
    )
    
    
    (939
    )Amortization of transition obligation
    
    
    8
    
    
    
    8Amortization of prior service cost
    
    
    29
    
    
    
    29Amortization of actuarial loss
    
    
    555
    
    
    
    578Net periodic benefit cost
    
    $
    2,528
    
    
    $
    2,102
 As of September 30, 2004, we have not made any contributions to our
pension plan in 2004. We anticipate making a cash contribution of
approximately $3 million to this plan before year end. 15




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##### Table of Contents



Note 9  Earnings Per Share Earnings per share calculations are summarized as follows: Effect of
    
    DilutedBasic Earnings
    
    Effect of
    
    Convertible
    
    EarningsPer Share
    
    Stock Options
    
    Shares
    
    Per Share(Dollars in thousands, except per share data)Three months ended September 30, 2004Net income available to common shareholders
    
    $
    17,194
    
    
    $
    
    
    
    $
    678
    
    
    $
    17,872Shares
    
    
    28,293
    
    
    
    366
    
    
    
    2,607
    
    
    
    31,266Per-Share amount
    
    $
    0.61
    
    
    $
    (0.01
    )
    
    $
    (0.03
    )
    
    $
    0.57Three months ended September 30, 2003Net income available to common shareholders
    
    $
    31,118
    
    
    $
    
    
    
    $
    679
    
    
    $
    31,797Shares
    
    
    27,949
    
    
    
    306
    
    
    
    2,609
    
    
    
    30,864Per-Share amount
    
    $
    1.11
    
    
    $
    (0.01
    )
    
    $
    (0.07
    )
    
    $
    1.03Nine Months ended September 30, 2004Net income available to common shareholders
    
    $
    55,479
    
    
    $
    
    
    
    $
    2,035
    
    
    $
    57,514Shares
    
    
    28,244
    
    
    
    405
    
    
    
    2,607
    
    
    
    31,256Per-Share amount
    
    $
    1.96
    
    
    $
    (0.02
    )
    
    $
    (0.10
    )
    
    $
    1.84Nine Months ended September 30, 2003Net income available to common shareholders
    
    $
    56,122
    
    
    $
    
    
    
    $
    2,037
    
    
    $
    58,159Shares
    
    
    27,877
    
    
    
    272
    
    
    
    2,609
    
    
    
    30,758Per-Share amount
    
    $
    2.01
    
    
    $
    (0.01
    )
    
    $
    (0.11
    )
    
    $
    1.89
 At September 30, 2004 and 2003, 94,044 and 705,482 shares, respectively,
related to stock options were not included in the dilutive earnings per share
calculation because they had exercise prices below the stock price as of the
respective dates. Note 10  Industry Segment Information We have five principal segments that provide a broad range of financial
services. The mortgage banking line of business originates, sells, and
services residential first mortgage loans. The commercial banking line of
business provides commercial banking services. The home equity lending line of
business originates, sells and services home equity loans and lines of credit.
The commercial finance line of business originates leases and loans against
commercial equipment and real estate. The venture capital line of business
invests in early-stage technology companies focusing on financial services.
Our other segment primarily includes the parent company and eliminations. The accounting policies of each segment are the same as those described in
the Summary of Significant Accounting Policies. Below is a summary of each
segments revenues, net income, and assets for three months and nine months
ended September 30, 2004, and 2003: 16




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##### Table of Contents



Mortgage
    
    Commercial
    
    Home Equity
    
    Commercial
    
    VentureBanking
    
    Banking
    
    Lending
    
    Finance
    
    Capital
    
    Other
    
    Consolidated(Dollars in thousands)Three Months Ended September 30, 2004Net interest income
    
    $
    10,598
    
    
    $
    23,133
    
    
    $
    31,523
    
    
    $
    7,058
    
    
    $
    3
    
    
    $
    (6,655
    )
    
    $
    65,660Intersegment interest
    
    
    (396
    )
    
    
    234
    
    
    
    (5,156
    )
    
    
    
    
    
    
    (6
    )
    
    
    5,324
    
    
    
    Provision for loan and lease losses
    
    
    67
    
    
    
    (607
    )
    
    
    232
    
    
    
    (1,589
    )
    
    
    
    
    
    
    (1
    )
    
    
    (1,898
    )Other revenue
    
    
    49,659
    
    
    
    3,672
    
    
    
    16,291
    
    
    
    1,366
    
    
    
    (1
    )
    
    
    (3,052
    )
    
    
    67,935Intersegment revenues
    
    
    (6
    )
    
    
    217
    
    
    
    
    
    
    
    
    
    
    
    150
    
    
    
    (361
    )
    
    
    Total net revenues
    
    
    59,922
    
    
    
    26,649
    
    
    
    42,890
    
    
    
    6,835
    
    
    
    146
    
    
    
    (4,745
    )
    
    
    131,697Other expense
    
    
    52,026
    
    
    
    17,039
    
    
    
    28,332
    
    
    
    4,741
    
    
    
    99
    
    
    
    255
    
    
    
    102,492Intersegment expenses
    
    
    882
    
    
    
    374
    
    
    
    718
    
    
    
    173
    
    
    
    
    
    
    
    (2,147
    )
    
    
    Income (loss) before taxes
    
    
    7,014
    
    
    
    9,236
    
    
    
    13,840
    
    
    
    1,921
    
    
    
    47
    
    
    
    (2,853
    )
    
    
    29,205Income taxes
    
    
    2,963
    
    
    
    3,719
    
    
    
    5,581
    
    
    
    810
    
    
    
    18
    
    
    
    (1,080
    )
    
    
    12,011Net income (loss)
    
    $
    4,051
    
    
    $
    5,517
    
    
    $
    8,259
    
    
    $
    1,111
    
    
    $
    29
    
    
    $
    (1,773
    )
    
    $
    17,194Three Months Ended September 30, 2003Net interest income
    
    $
    27,614
    
    
    $
    21,011
    
    
    $
    28,765
    
    
    $
    5,822
    
    
    $
    (2
    )
    
    $
    (7,577
    )
    
    $
    75,633Intersegment interest
    
    
    (3,288
    )
    
    
    (895
    )
    
    
    (2,110
    )
    
    
    (137
    )
    
    
    
    
    
    
    6,430
    
    
    
    Provision for loan and lease losses
    
    
    (191
    )
    
    
    (1,500
    )
    
    
    (10,728
    )
    
    
    (2,388
    )
    
    
    
    
    
    
    29
    
    
    
    (14,778
    )Other revenue
    
    
    90,758
    
    
    
    5,744
    
    
    
    8,091
    
    
    
    1,181
    
    
    
    294
    
    
    
    (1,405
    )
    
    
    104,663Intersegment revenues
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    150
    
    
    
    (150
    )
    
    
    Total net revenues
    
    
    114,893
    
    
    
    24,360
    
    
    
    24,018
    
    
    
    4,478
    
    
    
    442
    
    
    
    (2,673
    )
    
    
    165,518Other expense
    
    
    73,519
    
    
    
    13,902
    
    
    
    18,965
    
    
    
    3,708
    
    
    
    329
    
    
    
    3,983
    
    
    
    114,406Intersegment expenses
    
    
    691
    
    
    
    414
    
    
    
    691
    
    
    
    121
    
    
    
    
    
    
    
    (1,917
    )
    
    
    Income (loss) before taxes
    
    
    40,683
    
    
    
    10,044
    
    
    
    4,362
    
    
    
    649
    
    
    
    113
    
    
    
    (4,739
    )
    
    
    51,112Income taxes
    
    
    15,648
    
    
    
    4,071
    
    
    
    1,745
    
    
    
    603
    
    
    
    48
    
    
    
    (2,121
    )
    
    
    19,994Net income (loss)
    
    $
    25,035
    
    
    $
    5,973
    
    
    $
    2,617
    
    
    $
    46
    
    
    $
    65
    
    
    $
    (2,618
    )
    
    $
    31,118
 Mortgage
    
    Commercial
    
    Home Equity
    
    Commercial
    
    VentureBanking
    
    Banking
    
    Lending
    
    Finance
    
    Capital
    
    Other
    
    Consolidated(Dollars in thousands)Nine months Ended September 30, 2004Net interest income
    
    $
    31,593
    
    
    $
    63,330
    
    
    $
    88,807
    
    
    $
    20,692
    
    
    $
    9
    
    
    $
    (15,312
    )
    
    $
    189,119Intersegment interest
    
    
    (947
    )
    
    
    1,774
    
    
    
    (11,586
    )
    
    
    
    
    
    
    (15
    )
    
    
    10,774
    
    
    
    Provision for loan and lease losses
    
    
    457
    
    
    
    (2,557
    )
    
    
    (4,961
    )
    
    
    (4,777
    )
    
    
    
    
    
    
    
    
    
    
    (11,838
    )Other revenue
    
    
    163,374
    
    
    
    13,299
    
    
    
    48,781
    
    
    
    4,437
    
    
    
    (314
    )
    
    
    (3,180
    )
    
    
    226,397Intersegment revenues
    
    
    (8
    )
    
    
    427
    
    
    
    
    
    
    
    
    
    
    
    450
    
    
    
    (869
    )
    
    
    Total net revenues
    
    
    194,469
    
    
    
    76,273
    
    
    
    121,041
    
    
    
    20,352
    
    
    
    130
    
    
    
    (8,587
    )
    
    
    403,678Other expense
    
    
    159,464
    
    
    
    47,015
    
    
    
    79,127
    
    
    
    13,658
    
    
    
    345
    
    
    
    11,077
    
    
    
    310,686Intersegment expenses
    
    
    2,630
    
    
    
    1,346
    
    
    
    2,164
    
    
    
    519
    
    
    
    
    
    
    
    (6,659
    )
    
    
    Income (loss) before taxes
    
    
    32,375
    
    
    
    27,912
    
    
    
    39,750
    
    
    
    6,175
    
    
    
    (215
    )
    
    
    (13,005
    )
    
    
    92,992Income taxes
    
    
    13,077
    
    
    
    11,208
    
    
    
    15,960
    
    
    
    4,040
    
    
    
    (83
    )
    
    
    (6,689
    )
    
    
    37,513Net income (loss)
    
    $
    19,298
    
    
    $
    16,704
    
    
    $
    23,790
    
    
    $
    2,135
    
    
    $
    (132
    )
    
    $
    (6,316
    )
    
    $
    55,479Assets at September 30, 2004
    
    $
    1,275,251
    
    
    $
    2,611,473
    
    
    $
    1,163,354
    
    
    $
    569,419
    
    
    $
    7,136
    
    
    $
    (211,062
    )
    
    $
    5,415,571Nine months Ended September 30, 2003Net interest income
    
    $
    69,285
    
    
    $
    63,346
    
    
    $
    86,967
    
    
    $
    16,413
    
    
    $
    7
    
    
    $
    (24,032
    )
    

    $
    211,986Intersegment interest
    
    
    (7,991
    )
    
    
    (4,764
    )
    
    
    (5,678
    )
    
    
    (523
    )
    
    
    
    
    
    
    18,956
    
    
    
    Provision for loan and lease losses
    
    
    (221
    )
    
    
    (4,413
    )
    
    
    (23,578
    )
    
    
    (9,321
    )
    
    
    (215
    )
    
    
    93
    
    
    
    (37,655
    )Other revenue
    
    
    260,566
    
    
    
    16,517
    
    
    
    (29,383
    )
    
    
    4,678
    
    
    
    (2,133
    )
    
    
    (19,249
    )
    
    
    230,996Intersegment revenues
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    450
    
    
    
    (450
    )
    
    
    Total net revenues
    
    
    321,639
    
    
    
    70,686
    
    
    
    28,328
    
    
    
    11,247
    
    
    
    (1,891
    )
    
    
    (24,682
    )
    
    
    405,327Other expense
    
    
    209,224
    
    
    
    40,982
    
    
    
    61,730
    
    
    
    10,811
    
    
    
    440
    
    
    
    (9,487
    )
    
    
    313,700Intersegment expenses
    
    
    2,072
    
    
    
    1,205
    
    
    
    2,116
    
    
    
    400
    
    
    
    
    
    
    
    (5,793
    )
    
    
    Income (loss) before taxes
    
    
    110,343
    
    
    
    28,499
    
    
    
    (35,518
    )
    
    
    36
    
    
    
    (2,331
    )
    
    
    (9,402
    )
    
    
    91,627Income taxes
    
    
    42,427
    
    
    
    11,435
    
    
    
    (14,207
    )
    
    
    251
    
    
    
    (932
    )
    
    
    (3,469
    )
    
    
    35,505Net income (loss)
    
    $
    67,916
    
    
    $
    17,064
    
    
    $
    (21,311
    )
    
    $
    (215
    )
    
    $
    (1,399
    )
    
    $
    (5,933
    )
    
    $
    56,122Assets at September 30, 2003
    
    $
    1,443,531
    
    
    $
    2,195,135
    
    
    $
    989,479
    
    
    $
    425,483
    
    
    $
    7,803
    
    
    $
    (2,248
    )
    
    $
    5,059,183
 17




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##### Table of Contents



Note 11  Commitments and Contingencies Culpepper v. Inland Mortgage Corporation Our indirect subsidiary, Irwin Mortgage Corporation (formerly Inland
Mortgage Corporation), is a defendant in a class action lawsuit in the United
States District Court for the Northern District of Alabama, filed in April
1996, alleging that Irwin Mortgage violated the federal Real Estate Settlement
Procedures Act (RESPA) relating to Irwin Mortgages payment of broker fees to
mortgage brokers. In June 2001, the Court of Appeals for the 11th Circuit
upheld the district courts certification of a plaintiff class and the case was
remanded for further proceedings in the federal district court. In November 2001, by order of the district court, the parties filed
supplemental briefs analyzing the impact of an October 18, 2001 policy
statement issued by the Department of Housing and Urban Development (HUD) that
explicitly disagreed with the judicial interpretation of RESPA by the Court of
Appeals for the 11th Circuit in its ruling upholding class certification in
this case. In response to a motion from Irwin Mortgage, in March 2002, the
district court granted Irwin Mortgages motion to stay proceedings in this case
until the 11th Circuit decided the three other RESPA cases originally argued
before it with this case. The 11th Circuit subsequently decided all of the RESPA cases pending in
that court. In one of those cases, the 11th Circuit concluded that the trial
court had abused its discretion in certifying a class action under RESPA.
Further, in that decision, the 11th Circuit expressly recognized it was, in
effect, overruling its previous decision upholding class certification in our
case. In March 2003, Irwin Mortgage filed a motion to decertify the class and
the plaintiffs filed a renewed motion for summary judgment. On October 2, 2003
the case was reassigned to another U.S. district court judge. In response to
an order from the court, the parties met and submitted a joint status report at
the end of October 2003. On June 14, 2004, at the courts request, the parties
engaged in mediation, which was unsuccessful. The court then reassigned this
case to a new judge. If the class is not decertified and the district court finds that Irwin
Mortgage violated RESPA, Irwin Mortgage could be liable for damages equal to
three times the amount of that portion of payments made to the mortgage brokers
that is ruled unlawful. Based on notices sent by the plaintiffs to date to
potential class members and additional notices that might be sent in this case,
we believe the class is not likely to exceed 32,000 borrowers who meet the
class specifications. As discussed in prior periodic reports, other cases filed against our
mortgage subsidiary alleging RESPA and violations similar to those in this case
were settled in 2003 for nonmaterial amounts. Irwin Mortgage intends to defend
this lawsuit vigorously and believes it has numerous defenses to the alleged
violations. Irwin Mortgage further believes that the 11th Circuits RESPA
rulings in the cases argued before it with this one provide grounds for
reversal of the class certification in this case. We have no assurance,
however, that
Irwin Mortgage will be successful in defeating class certification or will
ultimately prevail on the merits. However, we expect that an adverse outcome
in this case could result in substantial monetary damages that could be
material to our financial position. We have not established any reserves for
this case and are unable at this stage of the litigation to form a reasonable
estimate of potential loss that we could suffer. United States ex rel. Paranich v. Sorgnard et al. In January 2001, we and Irwin Leasing Corporation (formerly Affiliated
Capital Corp.), our indirect subsidiary, and Irwin Equipment Finance
Corporation, our direct subsidiary (together, the Irwin companies), were served
as defendants in an action filed in the United States District Court for the
Middle District of Pennsylvania. The suit alleges that a manufacturer/importer
of certain medical devices made misrepresentations to health care professionals
and to government officials to improperly obtain Medicare reimbursement for
treatments using the devices, and that the Irwin companies, through Affiliated
Capitals financing activities, aided in making the alleged misrepresentations.
On August 10, 2001, the court dismissed Irwin Financial and Irwin Equipment
Finance as defendants in the suit. The Irwin companies prevailed on a motion
for summary judgment in the district court on October 8, 2003, and the
plaintiff appealed. The Court of Appeals for the Third Circuit heard oral
argument on plaintiffs appeal on September 27, 2004. We cannot predict
whether we will prevail on appeal and have not established any reserves for
this case. McIntosh v. Irwin Home Equity Corporation Our subsidiary, Irwin Union Bank and Trust Company, is a defendant in a
class action lawsuit filed in the United States District Court in Massachusetts
in July 2001. The case involves loans purchased by Irwin Union Bank and Trust
Company from an 18




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##### Table of Contents



unaffiliated third-party originator. The plaintiffs allege a
failure to comply with certain disclosure provisions of the Truth in Lending
Act relating to high-rate loans in making second mortgage home equity loans to
the plaintiff borrowers. The complaint seeks rescission of the loans and other
damages. A limited class was certified. As originally specified, the plaintiff
class included those borrowers who obtained a mortgage loan originated by the
third-party originator with prepayment penalty provisions during the three-year
period prior to the filing of the suit. Subsequently, the court further
restricted the class to those borrowers with high-rate loans subject to the
Home Ownership and Equity Protection Act who refinanced their loans and paid a
prepayment penalty. A preliminary analysis led us to conclude that fewer than
100 loans qualified for class membership. In June 2004, the parties reached an agreement in principle to settle this
matter for a nonmaterial amount, which has been reserved. The settlement is
contingent upon the negotiation of a final settlement agreement and is subject
to the approval of the district court. Stamper v. A Home of Your Own Our indirect subsidiary, Irwin Mortgage Corporation, is a defendant in a
case filed in August 1998 in the Baltimore, Maryland, City Circuit Court. On
January 25, 2002, a jury in this case awarded the plaintiffs damages of $1.434
million jointly and severally against defendants, including Irwin Mortgage.
The nine plaintiff borrowers alleged that a home rehabilitation company
defrauded the plaintiffs by selling them defective homes at inflated prices and
that Irwin Mortgage, which provided the plaintiff borrowers mortgage loans on
the home purchases, participated in the fraud. Irwin Mortgage filed an appeal
with the Maryland Court of Special Appeals and oral argument was held on
January 7, 2003. On February 27, 2004, the Court of Special Appeals ruled
against Irwin Mortgage and remanded the case to the trial court for a partial
retrial on whether the plaintiffs are entitled to punitive damages. The
Maryland Court of Appeals agreed to hear Irwin Mortgages appeal, and oral
argument is scheduled for November 4, 2004. We have reserved for this case
based upon the advice of our legal counsel. Silke v. Irwin Mortgage Corporation In April 2003, our indirect subsidiary, Irwin Mortgage Corporation, was
named as a defendant in a class action lawsuit filed in the Marion County,
Indiana, Superior Court. The complaint alleges that Irwin Mortgage charged a
document preparation fee in violation of Indiana law for services performed by
clerical personnel in completing legal documents related to mortgage loans.
Irwin Mortgage filed an answer on June 11, 2003 and a motion for summary
judgment on October 27, 2003. On June 18, 2004, the court certified a
plaintiff class consisting of Indiana borrowers who were allegedly charged the
fee by Irwin Mortgage any time after April 17, 1997. We are unable at this
time to form a reasonable estimate of the amount of potential loss, if any,
that Irwin Mortgage could suffer. We have not established any reserves for
this case. Gutierrez v. Irwin Mortgage In April 2003, our indirect subsidiary, Irwin Mortgage Corporation, was
named as a defendant in an action filed in the District Court of Nueces County,
Texas. The complaint alleges that Irwin Mortgage improperly charged borrowers
fees for the services of third-party vendors in excess of Irwin Mortgages
costs, and charged certain fees to which plaintiffs did not agree. The
plaintiffs seek to certify a class consisting of similarly situated borrowers.
In August 2004, the plaintiffs amended their complaint to remove the
allegations that Irwin Mortgage charged excess fees. We are unable at this
time to form a reasonable estimate of the amount of potential loss, if any,
that Irwin Mortgage could suffer. We have not established any reserves for
this case. Cohens v. Inland Mortgage Corporation In October 2003, our indirect subsidiary, Irwin Mortgage Corporation
(formerly Inland Mortgage Corporation), was named as a defendant, along with
others, in an action filed in the Supreme Court of New York, County of Kings.
The plaintiffs, a mother and two children, allege they were injured from lead
contamination while living in premises allegedly owned by the defendants. The
suit seeks approximately $41 million in damages and alleges negligence, breach
of implied warranty of habitability and fitness for intended use, loss of
services and the cost of medical treatment. Because the case is in the early
stages of litigation, we are unable at this time to form a reasonable estimate
of the amount of potential loss, if any, that Irwin Mortgage could suffer. The
parties agreed to delay the filing of an answer in this case until December 10,
2004. We are attempting to obtain a voluntary dismissal based on our belief
that there is insufficient nexus between the cause of the alleged injuries and
Irwin Mortgage. We have not established any reserves for this case. 19




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##### Table of Contents



Litigation in Connection with Loans Purchased from Community Bank of Northern
Virginia Our subsidiary, Irwin Union Bank and Trust Company, is a defendant in
Hobson v. Irwin Union Bank and Trust Company,an action filed on July 30, 2004
in the United States District Court for the Northern District of Alabama in
connection with loans Irwin Union Bank purchased from Community Bank of
Northern Virginia (Community). As amended on August 30, 2004, the complaint,
seeks certification of both a plaintiffs and a defendants class and alleges
that defendants violated the Truth-in-Lending Act (TILA), the Home Ownership
and Equity Protection Act (HOEPA), the Residential Settlement Procedures Act
(RESPA) and the Racketeer Influenced and Corrupt Organizations Act (RICO). The plaintiffs claim that Community was allegedly engaged in a lending
arrangement involving the use of its charter by certain third parties who
charged high fees that were not representative of the services rendered and not
properly disclosed as to the amount or recipient of the fees. The loans in
question are allegedly high cost/high interest loans under Section 32 of HOEPA.
Plaintiffs allege that Irwin was aware of Communitys alleged arrangement when
Irwin purchased the loans. Plaintiffs also allege illegal kickbacks and fee
splitting and Irwins participation in a RICO enterprise and conspiracy related
to the loans. Because Irwin bought the loans from Community, the plaintiffs
are alleging that Irwin has assignee liability under HOEPA. The putative plaintiff class in Hobsonexcludes borrower plaintiffs who
are members of a class certified in another case  a class action in
Pennsylvania federal court that is a consolidation of cases filed against
Community, Residential Funding Corporation (a subsidiary of GMAC), and Guaranty
National Bank of Tallahassee, with allegations similar to those in Hobson. If the Hobsonplaintiffs are successful in establishing a class and
prevailing at trial, possible damages could include TILA remedies, such as
rescission, actual damages, statutory damages not to exceed the lesser of
$500,000 or 1% of the net worth of the creditor, and attorneys fees and costs.
Possible HOEPA remedies include the refunding of all closing costs, finance
charges and fees paid by the borrower. RESPA remedies could include treble
damages for each service for which there was an unearned fee, kickback or
overvalued service. RICO remedies could include treble plaintiffs actually
proved damages. Under TILA, HOEPA, RESPA and RICO, statutory remedies include
recovery of attorneys fees and costs. In addition, plaintiffs are seeking
unspecified punitive damages. Under the loan purchase agreement between Irwin
and Community, Irwin has the right to demand repurchase of the mortgage loans
and indemnification from Community for these claims. On October 12, 2004, we
filed a motion to dismiss the claims as untimely filed and substantively
defective. Irwin Union Bank and Trust Company is also a defendant, along with
Community, in two individual actions filed on June 9, 2004 in the Circuit Court
of Frederick County, Maryland, involving mortgage loans Irwin Union Bank
purchased from Community. On July 16, 2004, both of these suits were removed
to the United States District Court for the District of Maryland. The
complaints allege that the plaintiffs did not receive disclosures required
under HOEPA and TILA. The lawsuits also allege violations of Maryland law
because the plaintiffs were allegedly charged or contracted for a prepayment
penalty fee. Irwin believes the plaintiffs received the required disclosures
and that Community, a Virginia-chartered bank, was permitted to charge
prepayment fees to Maryland borrowers.
Under the loan purchase agreements between Irwin and Community, Irwin has
the right to seek indemnification from Community for the claims in these
lawsuits. On September 17, 2004, Irwin made demand for indemnification and a defense
as to all three lawsuits. Community denied this request as premature. We have
established a reserve for the Community litigation based upon the advice of
legal counsel. Litigation Related to NorVergence, Inc. Irwin Business Finance, our indirect subsidiary, is involved on a national
basis in equipment leasing finance and maintains a diverse portfolio of leases,
including leases in the telecommunications field. A portion of Irwins
telecommunications portfolio involves leases of equipment acquired from
NorVergence, Inc., a New Jersey-based telecommunications company. After
assigning leases to Irwin and other lenders, NorVergence filed for protection
in the United States Bankruptcy Court and is currently in dissolution. The
sudden failure of NorVergence left many of its customers without
telecommunications services and angry with representations they claim were made
by NorVergence that remain unfulfilled. Complaints by former NorVergence customers have led to investigations by
the Attorneys General of several states and the filing of a number of lawsuits.
Irwin Business Finance has been named as a defendant in several lawsuits
connected with NorVergence. Exquisite Caterers, LLC et al. v. Popular Leasing
et al. is a lawsuit filed in the Superior Court of New Jersey, Monmouth County,
and was amended to include Irwin Business Finance and others on September 1,
2004. The Exquisite Caterersplaintiffs seek certification of a class of
persons who leased network computer equipment from NorVergence, whose leases
were assigned to defendants. The complaint alleges that NorVergence
misrepresented the services and equipment provided, that the lessees were
defrauded and the lease 20




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##### Table of Contents



agreements should not be enforced. The action alleges
violations of, among other things, the New Jersey Consumer Fraud Act; the New
Jersey Truth-in-Consumer Contract, Warranty, and Notice Act; the FTC Holder
Rule; the FTC Act; and breach of contract and implied warranties. The
plaintiffs seek compensatory, statutory and punitive damages, and injunctive
relief, including rescission of the leases and cessation of collections. Irwin Business Finance is also a defendant, along with other lenders, in
Delanco Board of Education et al. v. IFC Credit Corporation,a lawsuit filed in
the Superior Court of New Jersey, Essex County, Chancery Division, in October
2004 in connection with leases assigned to the lenders by NorVergence. (IFC
Credit Corporation is not affiliated with Irwin Financial Corporation or Irwin
Business Finance.) The suit involves more than one thousand plaintiffs and
alleges fraud, misrepresentation and violations of the New Jersey Consumer
Fraud law based on alleged conduct similar to that in Exquisite Caterers,with
the addition of a count under the New Jersey RICO statute. Plaintiffs also
allege unjust enrichment and conversion and seek rescission of the leases plus
punitive and other damages. Irwin Business Finance was also named as a defendant, along with other
lenders, in Sterling Asset & Equity Corp. et al. v. Preferred Capital, Inc. et
al., an action filed in the United States District Court for the Southern
District of Florida in October 2004, seeking class certification on behalf of
Florida persons or entities who leased equipment from NorVergence and whose
agreement was assigned to one of the named lenders. The plaintiffs allege that
NorVergence engaged in false, misleading and deceptive sales and billing
practices. The complaint alleges violations of the FTC Holder Rule and the
Florida Deceptive and Unfair Trade Practices Act, and breach of contract and
warranties. Plaintiffs seek, among other relief, compensatory and punitive
damages, injunctive and/or declaratory relief prohibiting enforcement of the
leases, rescission, return of payments, interest, attorneys fees and costs. In addition, Irwin Business Finance has been named in several individual
lawsuits involving equipment and services leased from NorVergence, where the
lease was assigned to Irwin Business Finance. The suits allege fraud and
nonfunctional equipment and services. The plaintiffs request rescission,
restitution and/or reformation of the leases and/or a declaration of
unenforceability. These suits were filed in the following jurisdictions: two
actions in the District Court of Dallas County, Texas (July 2004 and October
2004); one action in the Superior Court of California, County of San Diego
(August 2004); and one in the Superior Court of Massachusetts (September 2004). In connection with investigations by various state Attorneys General,
Irwin Business Finance and other lenders were asked to produce information
about their relationships with NorVergence and to refrain from enforcing
NorVergence leases. On October 21, 2004, the Attorney General of Florida filed
a complaint against twelve lenders, including Irwin Business Finance, in the
Circuit Court of the Second Judicial Circuit, Leon County, Florida (State of
Florida v. Commerce Commercial Leasing, LLC et al.). The complaint alleges
that the agreements assigned by NorVergence to the lenders are unconscionable
under the Florida Deceptive and Unfair Trade Practices Act. The suit seeks to
prohibit collection activities by the lenders and asks for repayment of
revenues, rescission of the agreements, restitution, recovery of actual
damages, and civil money penalties. We are unable to form a reasonable estimate of potential loss, if any,
that Irwin Business Finance could suffer. We have established reserves we
believe are appropriate in connection with credit risk on NorVergence-related
leases, but have not established additional reserves in connection with
NorVergence-related litigation. We and our subsidiaries are from time to time engaged in various matters
of litigation, including the matters described above, other assertions of
improper or fraudulent loan practices or lending violations, and other matters,
and we have a number of unresolved claims pending. In addition, as part of the
ordinary course of business, we and our subsidiaries are parties to litigation
involving claims to the ownership of funds in particular accounts, the
collection of delinquent accounts, challenges to security interests in
collateral, and foreclosure interests, that is incidental to our regular
business activities. While the ultimate liability with respect to these other
litigation matters and claims cannot be determined at this time, we believe
that damages, if any, and other amounts relating to pending matters are not
likely to be material to our consolidated financial position or results of
operations, except as described above. Reserves are established for these
various matters of litigation, when appropriate under SFAS 5, based in part
upon the advice of legal counsel. 21




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and
Results of Operations. About Forward-looking Statements You should read the following discussion in conjunction with our
consolidated financial statements, footnotes, and tables. This discussion and
other sections of this report contain forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. We intend such forward-looking statements to
be covered by the safe harbor provisions for forward-looking statements
contained in the Private Securities Litigation Reform Act of 1995 and are
including this statement for purposes of invoking these safe harbor provisions. Forward-looking statements are based on managements expectations,
estimates, projections, and assumptions. These statements involve inherent
risks and uncertainties that are difficult to predict and are not guarantees of
future performance. In addition, our past results of operations do not
necessarily indicate our future results. Words that convey our beliefs, views,
expectations, assumptions, estimates, forecasts, outlook and projections or
similar language, or that indicate events we believe could, would, should, may
or will occur (or might not occur) or are likely (or unlikely) to occur, and
similar expressions, are intended to identify forward-looking statements. These
may include, among other things, statements and assumptions about:  
    
    our projected revenues, earnings or earnings per share, as well
as managements short-term and long-term performance goals;
    
    projected trends or potential changes in our asset quality, loan
delinquencies, asset valuations, capital ratios or financial
performance measures;
    
    our plans and strategies, including the expected results or impact of implementing such plans and strategies;
    
    potential litigation developments and the anticipated impact of potential outcomes of pending legal matters;
    
    the anticipated effects on results of operations or financial condition from recent developments or events; and
    
    any other projections or expressions that are not historical facts. Actual future results may differ materially from what is projected due to
a variety of factors, including, but not limited to:  
    
    potential changes in and volatility of interest rates, which may
affect consumer demand for our products and the management and success
of our interest rate risk management strategies;
    
    staffing and operating cost fluctuations in response to product
demand;
    
    the valuation and management of our servicing and derivative
portfolios, including short-term swings in valuation of such
portfolios due to quarter-end secondary market interest rates and
basis risk, which are inherently volatile;
    
    borrowers refinancing opportunities, which may affect the
prepayment assumptions used in our valuation estimates and which may
affect loan demand;
    
    unanticipated deterioration in the credit quality of our assets;
    
    unanticipated deterioration in the carrying value of our other assets, including securities;
    
    difficulties in delivering products to the secondary market as planned;
    
    difficulties in expanding our businesses and obtaining funding as needed;
    
    competition from other financial service providers for experienced managers as well as for customers;
    
    changes in the value of companies in which we invest;
    
    changes in variable compensation plans related to the performance
and valuation of lines of business where we tie compensation systems
to line-of-business performance;
    
    unanticipated outcomes in litigation;
    
    legislative or regulatory changes, including changes in tax laws
or regulations, changes in the interpretation of regulatory capital
rules, changes in consumer or commercial lending rules or rules
affecting corporate governance, and the availability of resources to
address these rules;
    
    changes in applicable accounting policies or principles or their application to our business; and
    
    governmental changes in monetary or fiscal policies. We undertake no obligation to update publicly any of these statements in
light of future events, except as required in subsequent periodic reports we
file with the Securities and Exchange Commission. 22




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##### Table of Contents



Consolidated Overview Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Net income (millions)
    
    $
    17.2
    
    
    $
    31.1
    
    
    $
    55.5
    
    
    $
    56.1Basic earnings per share
    
    
    0.61
    
    
    
    1.11
    
    
    
    1.96
    
    
    
    2.01Diluted earnings per share
    
    
    0.57
    
    
    
    1.03
    
    
    
    1.84
    
    
    
    1.89Return on average equity
    
    
    14.1
    %
    
    
    30.4
    %
    
    
    15.9
    %
    
    
    19.6
    %Return on average assets
    
    
    1.2
    
    
    
    2.2
    
    
    
    1.4
    
    
    
    1.4
 We recorded net income of $17.2 million for the three months ended
September 30, 2004, down 45% from net income of $31.1 million for the three
months ended September 30, 2003. Net income per share (diluted) was $0.57 for
the quarter ended September 30, 2004, down 45% from $1.03 per share for the
third quarter of 2003. Return on equity was 14.1% for the three months ended
September 30, 2004 and 30.4% for the same period in 2003. For the year to date, we recorded net income of $55.5 million or $1.84 per
diluted share. This represents decreases of 1% and 3%, respectively, compared
to the same period in 2003. Return on equity for the nine-month period ended
September 30, 2004 was 15.9% compared with 19.6% during the same period a year
earlier. Consolidated Income Statement Analysis Net Interest Income Net interest income for the nine months ended September 30, 2004 totaled
$189.1 million, down 11% from the 2003 net interest income of $212.0 million
for the same period. Year to date net interest margin as of September 30, 2004
was 5.55% compared to 5.99% for the same period in 2003. The decline in margin
from 2003 to 2004 was primarily due to the lower interest rate environment in
2004 relative to 2003 that caused yields on variable rate loans to decline at a
more rapid pace than underlying funding sources, some of which (e.g., mortgage
escrow deposits) have rates close to zero in any interest rate environment and,
therefore, cannot reduce in a declining rate environment. In addition, the
average balance on our high-yielding residual interests declined 39% in the
first nine months of 2004 compared to the same period in 2003 as a result of
unrealized trading losses (reflecting valuation impairment). The following
table shows our daily average consolidated balance sheet, interest rates and
yield at the dates indicated: 23




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##### Table of Contents



Nine Months Ended September 30,2004
    
    2003Average
    
    
    
    
    
    Annualized
    
    Average
    
    
    
    
    
    AnnualizedBalance
    
    Interest
    
    Yield/Rate
    
    Balance
    
    Interest
    
    Yield/Rate(Dollars in thousands)Assets:Interest-earning assets:Interest bearing deposits with banks
    
    $
    88,208
    
    
    $
    477
    
    
    
    0.72
    %
    
    $
    70,927
    
    
    $
    400
    
    
    
    0.75
    %Federal funds sold
    
    
    10,962
    
    
    
    82
    
    
    
    1.00
    %
    
    
    26,697
    
    
    
    119
    
    
    
    0.60
    %Residual interests
    
    
    71,684
    
    
    
    9,893
    
    
    
    18.43
    %
    
    
    118,424
    
    
    
    17,100
    
    
    
    19.31
    %Investment securities
    
    
    82,777
    
    
    
    3,256
    
    
    
    5.25
    %
    
    
    65,855
    
    
    
    2,734
    
    
    
    5.55
    %Mortgage loans held for sale
    
    
    1,033,421
    
    
    
    59,397
    
    
    
    7.68
    %
    
    
    1,366,826
    
    
    
    86,800
    
    
    
    8.49
    %Loans and
leases, net of unearned income (1)
    
    
    3,268,099
    
    
    
    181,759
    
    
    
    7.43
    %
    
    
    3,082,603
    
    
    
    179,460
    
    
    
    7.78
    %Total interest earning assets
    
    
    4,555,151
    
    
    $
    254,864
    
    
    
    7.47
    %
    
    
    4,731,332
    
    
    $
    286,613
    
    
    
    8.10
    %Noninterest-earning assets:Cash and due from banks
    
    
    102,033
    
    
    
    
    
    
    
    
    
    
    
    106,205Premises and equipment, net
    
    
    31,279
    
    
    
    
    
    
    
    
    
    
    
    32,408Other assets
    
    
    582,250
    
    
    
    
    
    
    
    
    
    
    
    405,184Less allowance for loan and lease losses
    
    
    (58,913
    )
    
    
    
    
    
    
    
    
    
    
    (55,066
    )Total assets
    
    $
    5,211,800
    
    
    
    
    
    
    
    
    
    
    $
    5,220,063Liabilities and Shareholders EquityInterest-bearing liabilities:Money market checking
    
    $
    298,014
    
    
    $
    2,722
    
    
    
    1.22
    %
    
    $
    162,789
    
    
    $
    632
    
    
    
    0.52
    %Money market savings
    
    
    1,048,544
    
    
    
    10,262
    
    
    
    1.31
    %
    
    
    840,509
    
    
    
    8,290
    
    
    
    1.32
    %Regular savings
    
    
    61,407
    
    
    
    663
    
    
    
    1.44
    %
    
    
    63,384
    
    
    
    976
    
    
    
    2.06
    %Time deposits
    
    
    922,773
    
    
    
    17,885
    
    
    
    2.59
    %
    
    
    1,009,339
    
    
    
    22,781
    
    
    
    3.02
    %Short-term borrowings
    
    
    333,143
    
    
    
    6,611
    
    
    
    2.65
    %
    
    
    635,265
    
    
    
    12,053
    
    
    
    2.54
    %Collateralized debt
    
    
    502,610
    
    
    
    10,501
    
    
    
    2.79
    %
    
    
    585,861
    
    
    
    11,569
    
    
    
    2.64
    %Other long-term debt
    
    
    270,180
    
    
    
    17,101
    
    
    
    8.45
    %
    
    
    30,066
    
    
    
    1,745
    
    
    
    7.76
    %Preferred
securities distributions(2)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    232,983
    
    
    
    16,581
    
    
    
    9.52
    %Total interest bearing liabilities
    
    $
    3,436,671
    
    
    $
    65,745
    
    
    
    2.56
    %
    
    
    3,560,196
    
    
    $
    74,627
    
    
    
    2.80
    %Noninterest-bearing liabilities:Demand deposits
    
    
    997,100
    
    
    
    
    
    
    
    
    
    
    
    1,089,719Other liabilities
    
    
    311,964
    
    
    
    
    
    
    
    
    
    
    
    187,695Shareholders equity
    
    
    466,065
    
    
    
    
    
    
    
    
    
    
    
    382,453Total liabilities and shareholders equity
    
    $
    5,211,800
    
    
    
    
    
    
    
    
    
    
    $
    5,220,063Net interest income
    
    
    
    
    
    $
    189,119
    
    
    
    
    
    
    
    
    
    
    $
    211,986Net interest income to average
interest earning assets
    
    
    
    
    
    
    
    
    
    
    5.55
    %
    
    
    
    
    
    
    
    
    
    
    5.99
    %
   (1)
    
    For purposes of these computations, nonaccrual loans are included in
daily average loan amounts outstanding.(2)
    
    Reclassed to other long-term debt in 2004 24




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##### Table of Contents



Provision for Loan and Lease Losses The consolidated provision for loan and lease losses for the three months
ended September 30, 2004 was $1.9 million, compared to $14.8 million for the
same period in 2003. Year to date, the provision for 2004 was $11.8 million,
compared to $37.7 million in 2003. More information on this subject is
contained in the section on credit risk. Noninterest Income Noninterest income during the three months ended September 30, 2004
totaled $67.9 million, compared to $104.7 million for the same period of 2003.
Noninterest income of $226.4 million was recorded for the nine months ended
September 30, 2004 and $231.0 million for the same period in 2003. The
quarterly decrease in 2004 versus 2003 was primarily a result of a $41.4
million decrease in gains on sale of loans at the mortgage banking line of
business. Noninterest Expense Noninterest expenses for the three and nine months ended September 30,
2004 totaled $102.5 million and $310.7 million, respectively, compared to
$114.4 million and $313.7 million for the same periods in 2003. The decrease
in consolidated noninterest expense in 2004 is primarily related to lower
personnel costs associated with our decreased production at the mortgage
banking line of business. This decline was partially offset by higher personnel
costs at the home equity line of business in connection with their improved
performance in 2004. Consolidated Balance Sheet Analysis Total assets increased to $5.4 billion at September 30, 2004 compared to
$5.0 billion at December 31, 2003. The majority of the increase relates to the
loan portfolios at the commercial banking and commercial finance lines of
business. Average assets year to date for 2004 were $5.2 billion, relatively
unchanged from the average assets for 2003. Loans Held For Sale Loans held for sale totaled $1.0 billion at September 30, 2004, an
increase from a balance of $0.9 billion at December 31, 2003. The increase
occurred primarily at our home equity lending line of business where loans held
for sale increased from $0.2 billion at December 31, 2003 to $0.3 billion at
September 30, 2004. Loans and Leases Our commercial loans and leases are originated throughout the United
States. Equipment loans and leases are also originated in Canada by our
commercial finance line of business. At September 30, 2004, 94% of our loan and
lease portfolio was associated with our U.S. operations. We also extend credit
to consumers throughout the United States through mortgages, installment loans
and revolving credit arrangements. The majority of the remaining portfolio
consists of residential mortgage loans (1-4 family dwellings) and mortgage
loans on commercial property. Loans by major category for the periods
presented were as follows: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Commercial, financial and agricultural
    
    $
    1,614,983
    
    
    $
    1,503,619Real estate-construction
    
    
    325,330
    
    
    
    306,669Real estate-mortgage
    
    
    870,374
    
    
    
    859,541Consumer
    
    
    30,979
    
    
    
    27,370Direct financing leasesDomestic
    
    
    447,737
    
    
    
    364,413Canadian
    
    
    242,572
    
    
    
    207,355Unearned incomeDomestic
    
    
    (98,347
    )
    
    
    (78,875
    )Canadian
    
    
    (31,985
    )
    
    
    (29,038
    )Total loans and leases, net of unearned income
    
    $
    3,401,643
    
    
    $
    3,161,054
 25




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##### Table of Contents



Allowance for Loan and Lease Losses Changes in the allowance for loan and lease losses are summarized below: As of and For the
    
    As of and For theNine Months Ended
    
    Year EndedSeptember 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Balance at beginning of period
    
    $
    64,285
    
    
    $
    50,936Provision for loan and lease losses
    
    
    11,838
    
    
    
    47,583Charge-offs
    
    
    (21,040
    )
    
    
    (37,312
    )Recoveries
    
    
    3,951
    
    
    
    3,420Reduction due to reclassification of loans to loans held for sale
    
    
    (10,808
    )
    
    
    (690
    )Other
    
    
    (430
    )
    
    
    348Balance at end of period
    
    $
    47,796
    
    
    $
    64,285
 The 2004 provision and allowance for loan and lease losses reflects
transactions related to the transfer and sale or pending sale of portfolio
loans associated with two portfolio sales at our home equity lending line of
business. We transferred $355 million in loans to loans held for sale when the
decisions were made to sell these portfolio loans. These loans had an
associated allowance of $20.6 million. The loans were transferred with an
allowance of $10.8 million to reduce their carrying value to fair market value.
After the transfers, the remaining $9.8 million of excess allowance was
reversed through the provision for loan and lease losses. Investment Securities The following table shows the composition of our investment securities at
the dates indicated: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)U.S. Treasury and government obligations
    
    $
    25,166
    
    
    $
    20,994Obligations of states and political subdivisions
    
    
    5,859
    
    
    
    3,960Mortgage-backed securities
    
    
    9,821
    
    
    
    2,039Federal Reserve stock, Federal Home Loan Bank stock and other
    
    
    66,822
    
    
    
    65,532Total
    
    $
    107,668
    
    
    $
    92,525
 Deposits Total deposits as of September 30, 2004 averaged $3.3 billion compared to
deposits at December 31, 2003 that averaged $3.1 billion for the year. Demand
deposits averaged $1.0 billion during both periods. A significant portion of
demand deposits is related to deposits at Irwin Union Bank and Trust Company,
which are associated with escrow accounts held on loans in the servicing
portfolio at the mortgage banking line of business. Year to date 2004, these
escrow accounts averaged $739.9 million compared to an average of $826.2
million for the year 2003. The decrease in average escrow balances in 2004
relates to the decline in production and refinancing activity at the mortgage
banking line of business. More than offsetting this decrease was an increase in
core deposits. Core deposits, which exclude jumbo and brokered CDs and public
funds, increased to $2.2 billion at September 30, 2004 compared to $1.8 billion
at December 31, 2003. Irwin Union Bank and Trust utilizes institutional broker-sourced deposits
as funding to supplement deposits solicited through branches and other
wholesale funding sources. At September 30, 2004, institutional broker-sourced
deposits totaled $338.0 million,
relatively unchanged compared to a balance of $339.4 million at December 31,
2003. 26




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##### Table of Contents



Short-Term Borrowings Short-term borrowings decreased to $132.7 million at September 30, 2004,
compared to $429.8 million at December 31, 2003. The decrease in short-term
borrowings at the end of the third quarter relative to year-end relates
primarily to a secured financing transaction completed during the third quarter
at the home equity lending line of business totaling $0.4 billion. The debt
related to the loans is now classified as collateralized debt versus short-term
borrowings. Federal Home Loan Bank borrowings averaged $198.8 million during the nine
months ended September 30, 2004, with an average rate of 1.48%. The ending
balance was $1.4 million at an interest rate of 1.85%. The maximum outstanding
during any month end during 2004 was $536.3 million. At December 31, 2003,
Federal Home Loan Bank borrowings averaged $317.2 million, with an average rate
of 1.46%. The ending balance was $286.0 million at an interest rate of 1.34%.
The maximum outstanding at any month end during 2003 was $977.0 million. Collateralized and Other Long-Term Debt Collateralized borrowings totaled $667.8 million at September 30, 2004,
compared to $590.1 million at December 31, 2003. The bulk of these borrowings
have resulted from securitization structures that result in loans remaining as
assets and debt being recorded on the balance sheet. The securitization debt
represents match-term funding for these loans and leases. The increased debt
relates to a $0.4 billion new secured financing transaction completed during
the third quarter. This was partially offset by the sale of portfolio loans at
the home equity lending line of business during the second quarter and on-going
run-off of the underlying loan portfolio. These transactions are discussed in
more detail in the Home Equity Lending section of this document. Other long-term debt totaled $270.2 million at September 30, 2004,
unchanged from December 31, 2003. We had obligations represented by
subordinated debentures at September 30, 2004 totaling $240.1 million with our
wholly owned trusts that were created for the purpose of issuing trust
preferred securities. The subordinated debentures were the sole assets of the
trusts at September 30, 2004. In accordance with FIN 46, at the end of 2003 we
began deconsolidating the wholly owned trusts that issued the trust preferred
securities. As a result, these securities no longer are consolidated on our
balance sheet. Instead, the subordinated debentures held by the trusts are
disclosed on the balance sheet as other long-term debt. Capital Shareholders equity averaged $466.1 million year to date during 2004, up
18% compared to the average for the year 2003. Shareholders equity balance of
$486.3 million at September 30, 2004 represented $17.16 per common share,
compared to $15.36 per common share at December 31, 2003. We paid $2.3 million
and $6.8 million in dividends for the three and nine months ended September 30,
2004, respectively, reflecting an increase of $0.01 per share compared to a
year ago. The following table sets forth our regulatory capital and capital ratios
at the dates indicated: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Tier 1 capital
    
    $
    621,127
    
    
    $
    556,793Tier 2 capital
    
    
    150,802
    
    
    
    183,738Total risk-based capital
    
    $
    771,929
    
    
    $
    740,531Risk-weighted assets
    
    $
    5,286,719
    
    
    $
    4,917,622Risk-based ratios:Tier 1 capital
    
    
    11.8
    %
    
    
    11.4
    %Total capital
    
    
    14.6
    
    
    
    15.1Tier 1 leverage ratio
    
    
    11.2
    
    
    
    11.2Ending shareholders equity to assets
    
    
    9.0
    
    
    
    8.7Average shareholders equity to assets
    
    
    9.0
    
    
    
    7.6
 At September 30, 2004, our total risk-adjusted capital ratio was 14.6%
exceeding the 10.0% required to be considered well-capitalized by our state
and federal banking regulators and our internal minimum target of 11.0%. At
December 31, 2003, our total risk-adjusted capital ratio was 15.1%. Our ending
equity to assets ratio at September 30, 2004 was 9.0% up from December 31, 2003
ratio of 8.7%. Our Tier 1 capital totaled $621.1 million as of September 30,
2004, or 11.8% of risk-weighted assets. 27




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##### Table of Contents



Cash Flow Analysis Our cash and cash equivalents increased $77.2 million year to date during
2004, compared to $5.5 million during the same period in 2003. Cash flows from
operating activities resulted in a use of $30.3 million in cash and cash
equivalents in the nine months ended September 30, 2004 compared to the same
period in 2003 when our operations generated $461.7 million in cash and cash
equivalents. Changes in loans held for sale impact cash flows from operations.
In a period in which loan production exceeds sales such as we had year to date
in 2004, operating cash flows will decrease reflecting our investment in cash
generating assets. During this same period in 2003, our loans held for sale
increased $87.5 million, thus increasing the cash used by operating activities. Earnings Outlook We do not provide quantitative earnings guidance as we do not believe it
to be in the best interest of our stakeholders. However, as discussed before,
our strategy is to seek opportunities for credit-worthy, profitable growth by
serving niche markets and balancing the impact of changes in interest rates and
economic conditions on our mortgage banking production with investments in
mortgage servicing and in our credit retained portfolios. These investments
will typically respond in an opposite and complementary manner. We continue to
expect a higher proportion of 2004 and 2005 earnings to come from our
commercial banking, home equity lending and commercial finance lines of
business than was the case in 2003. We expect segment growth and earnings to be
more in line with the long-term trends we have seen at Irwin Financial, rather
than the disproportionate contribution provided by mortgage originations during
2002 and 2003. Currently, market conditions for our mortgage banking segment
are very difficult. Origination margins are significantly below our long-term
expectations and we are not seeing increases in the value of our servicing
portfolio as we would typically expect when mortgage origination revenues are
declining. In addition, we are subject to basis risk in the management of our
servicing portfolio as discussed below. Currently, the basis risk is moving in
a manner opposite to historic patterns, negatively affecting fourth quarter
management of these assets. As a result, we expect our revenues and thus net
income, will be lower in the fourth quarter of 2004 than in the third and our
net income for the year to be below the results we produced in 2003. However,
we believe we are in a transitory period for mortgage banking and, in light of
the good growth we have had in our credit portfolios in 2004, we expect net
income in 2005 to return to levels commensurate with our historic performance.
These estimates are based on various factors and current assumptions management
believes are reasonable, including current industry forecasts of a variety of
economic and competitive factors. However, projections are inherently
uncertain, and our actual earnings may differ significantly from this estimate
due to uncertainties and risks related to our business such as fluctuations in
interest rates and other factors mentioned above in the About Forward-Looking
Statements section. Over periods of normal economic cycles we strive to meet
or exceed our long-term targets of double-digit growth in earnings per share
and a return on equity above our cost of capital. A meaningful amount of our earnings comes from activities and
mark-to-market accounting requirements tied directly or indirectly to capital
market activities. For example, the valuation of our mortgage servicing
portfolio is impacted by movements in the bond market. The impact of
short-term movements in interest rates on the valuation of our mortgage
servicing rights is mitigated by a combination of financial derivatives and
changes in income from production of new mortgages likely to be driven by those
same movements in interest rates. However, the correlation within short
periods of time (such as a single quarter) between interest rate movements that
impact the reported value of our mortgage servicing rights at quarter end and
the production effects of those interest rate movements  which may not be
reflected until subsequent quarters  can be low. In addition, accounting
principles generally accepted in the U.S. (GAAP) impose a
lower-of-cost-or-market valuation cap on the value of our servicing asset,
while we know of no financial derivatives available in the secondary market
with similarly asymmetric value change characteristics. This anomaly in
accounting for mortgage servicing assets makes it difficult at times to
construct hedges with the desired GAAP accounting outcome, although the
economic balance may still exist. Finally, while basis risk exhibits stability
over time, over short periods of time there can be separation in the relative
spreads of interest rates and indices used to value mortgage servicing rights
and the financial derivatives we use to hedge the change in value in mortgage
servicing rights. At times this basis risk benefits us and other times, it
does not. It is generally not possible to eliminate this basis risk. It is
possible, therefore, that our balanced revenue strategy may be successful as
measured over several quarters or years, but may have market-based variances if
measured over short periods. We also have a large amount of income that is
subject to assumptions and pricing for credit risks. We use a variety of
methods for estimating the effects of and accounting for credit losses and
interest rate changes, but ultimately, we need to make estimates based on
imperfect knowledge of future events, which may cause actual results to differ
materially from our expectations. For example, if the pace of
economic recovery in the U.S. is slower in 2004 and 2005 than currently
anticipated by consensus estimates, our credit related costs may increase
beyond our current estimates. 28




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##### Table of Contents



Earnings by Line of Business Irwin Financial Corporation is composed of five principal lines of
business:  
    
    Mortgage Banking
    
    Commercial Banking
    
    Home Equity Lending
    
    Commercial Finance
    
    Venture Capital The following table summarizes our net income (loss) by line of business
for the periods indicated. Details for each line of business follows. Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Net income (loss):Mortgage Banking
    
    $
    4,051
    
    
    $
    25,035
    
    
    $
    19,298
    
    
    $
    67,916Commercial Banking
    
    
    5,517
    
    
    
    5,973
    
    
    
    16,704
    
    
    
    17,064Home Equity Lending
    
    
    8,259
    
    
    
    2,617
    
    
    
    23,790
    
    
    
    (21,311
    )Commercial Finance
    
    
    1,111
    
    
    
    46
    
    
    
    2,135
    
    
    
    (215
    )Venture Capital
    
    
    29
    
    
    
    65
    
    
    
    (132
    )
    
    
    (1,399
    )Other (including consolidating entries)
    
    
    (1,773
    )
    
    
    (2,618
    )
    
    
    (6,316
    )
    
    
    (5,933
    )$
    17,194
    
    
    $
    31,118
    
    
    $
    55,479
    
    
    $
    56,122
 29




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##### Table of Contents



Mortgage Banking The following table shows selected financial information for our mortgage
banking line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Selected Income Statement Data:Net interest income
    
    $
    10,202
    
    
    $
    24,326
    
    
    $
    30,646
    
    
    $
    61,294Recovery of (provision for) loan loss
    
    
    67
    
    
    
    (191
    )
    
    
    457
    
    
    
    (221
    )Other income
    
    
    49,653
    
    
    
    90,758
    
    
    
    163,366
    
    
    
    260,566Total net revenue
    
    
    59,922
    
    
    
    114,893
    
    
    
    194,469
    
    
    
    321,639Operating expense
    
    
    (52,908
    )
    
    
    (74,210
    )
    
    
    (162,094
    )
    
    
    (211,296
    )Income before taxes
    
    
    7,014
    
    
    
    40,683
    
    
    
    32,375
    
    
    
    110,343Income taxes
    
    
    (2,963
    )
    
    
    (15,648
    )
    
    
    (13,077
    )
    
    
    (42,427
    )Net income
    
    $
    4,051
    
    
    $
    25,035
    
    
    $
    19,298
    
    
    $
    67,916Selected Operating Data:Mortgage loan originations
    
    $
    2,973,889
    
    
    $
    7,049,363
    
    
    $
    9,632,196
    
    
    $
    19,764,326Servicing sold as a % of originations
    
    
    57.6
    %
    
    
    6.5
    %
    
    
    58.2
    %
    
    
    5.2
    %
 September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Selected Balance Sheet Data at End of Period:Total assets
    
    $
    1,275,251
    
    
    $
    1,258,641Mortgage loans held for sale
    
    
    670,361
    
    
    
    679,360Mortgage servicing assets
    
    
    345,185
    
    
    
    348,174Short-term borrowing
    
    
    104,350
    
    
    
    214,877Shareholders equity
    
    
    128,288
    
    
    
    122,671Selected Operating Data:Servicing portfolioBalance at end of period
    
    $
    28,531,292
    
    
    $
    29,640,122Weighted average coupon rate
    
    
    5.70
    %
    
    
    5.83
    %Weighted average servicing fee
    
    
    0.34
    
    
    
    0.33
 Overview In our mortgage banking line of business, we originate, purchase, sell and
service conventional and government agency-backed residential mortgage loans
throughout the United States. We also engage in the business of mortgage
reinsurance. Because most of our mortgage originations either are insured by
an agency of the federal government, such as the Federal Housing Administration
(FHA) or the Veterans Administration (VA), or, in the case of conventional
mortgages, meet requirements for sale to the Federal National Mortgage
Association (FNMA), the Federal Home Loan Mortgage Corporation (FHLMC) or the
Federal Home Loan Bank (FHLB), we are able to remove substantially all of the
credit risk associated with these loans from our balance sheet. While we
securitize and sell mortgage loans to institutional and private investors, we
may choose to retain the servicing rights. Loan origination demand and
servicing values normally react in opposite directions to changes in interest
rates, as explained below. We believe this balance between mortgage loan
originations and mortgage loan servicing values assists in managing the risk
from interest rate changes, which has helped stabilize our revenue stream. Our channels for originating loans consist primarily of retail, wholesale,
and correspondent lending. The retail channel originates loans through retail
branches and identifies potential borrowers mainly through relationships
maintained with housing intermediaries, such as realtors, homebuilders and
brokers. Our wholesale and correspondent divisions purchase loans from third
party sources. The wholesale division purchases primarily from mortgage loan
brokers and issues loan proceeds directly to the borrower. The correspondent
lending division purchases closed mortgage loans primarily from small mortgage
banks and retail banks. We fund our mortgage loan originations using internal
funding sources and through credit facilities provided by third parties.
Generally within a 30-day period after funding, we sell our mortgage loan
originations into the secondary mortgage market either by direct loan sales or
by securitization. Our secondary market sources include government-sponsored
mortgage entities, nationally sponsored mortgage conduits, and institutional
and private investors. 30




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##### Table of Contents



As mentioned, we believe there is a balance between mortgage loan
originations and mortgage loan servicing that assists in managing the risk from
interest rate changes and the impact of rate changes on each part of the
business. In rising interest rate environments, originations typically
decline, while the value of our mortgage servicing portfolio generally
increases as prepayment expectations decline. In declining interest rate
environments, servicing values typically decrease as prepayment expectations
increase, while the economic value of our mortgage production franchise
generally increases due to the potential for greater mortgage loan
originations. However, the offsetting impact of changes in production income
and servicing values may not always be recognized in the same quarter under
generally accepted accounting principles  due to the application of
lower-of-cost-or-market treatment under generally accepted accounting
principles to the mortgage servicing asset, with no accounting equivalent for
the production franchise  causing greater volatility in short-term results
than is apparent in longer-term measurements such as annual income. We sell
servicing rights periodically for many reasons, including income recognition,
cash flow, capital management and servicing portfolio management. Servicing
rights sales occur at the time the underlying loans are sold to an investor (in
flow sales) or in pools from our seasoned servicing portfolio (in bulk sales).
As interest rates have fluctuated in 2004, we have chosen to sell the servicing
asset associated with a relatively higher percentage of our current
originations due to the changed interest rate risk and expected total return
profile of owning servicing on loans with current interest rates as well as to
mitigate the growth of servicing assets as a percentage of our consolidated
balance sheet, as opposed to our actions over the past several years to add to
the portfolio as rates reached historic lows. Net Income Net income from mortgage banking for the three months ended September 30,
2004 was $4.1 million, compared to $25.0 million for the same period in 2003, a
decrease of 84%. This net income decrease in 2004 primarily relates to a
decline in mortgage originations and compressed margins as a result of an
increasing interest rate environment that began in the latter half of 2003. The following table shows the composition of our originations by loan
categories for the periods indicated: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Total originations
    
    $
    2,973,889
    
    
    $
    7,049,363
    
    
    $
    9,632,196
    
    
    $
    19,764,326Percent retail loans
    
    
    20
    %
    
    
    25
    %
    
    
    21
    %
    
    
    26
    %Percent wholesale loans
    
    
    31
    
    
    
    38
    
    
    
    35
    
    
    
    43Percent correspondent
    
    
    36
    
    
    
    34
    
    
    
    33
    
    
    
    28Percent brokered (1)
    
    
    13
    
    
    
    3
    
    
    
    11
    
    
    
    3Percent refinances
    
    
    40
    
    
    
    73
    
    
    
    52
    
    
    
    73
   (1)
    
    Brokered loans are loans we originate for which we receive loan
origination fees, but which are funded, closed and owned by unrelated third
parties. Mortgage loan originations for the three months ended September 30, 2004
totaled $3.0 billion, down 58% from the same period in 2003. For the year,
originations totaled $9.6 billion, down 51% from 2003. Refinanced loans
accounted for 40% of loan production
for the third quarter of 2004 and 52% year to date compared to 73% for both
periods in 2003. The decreased originations and refinances as a percent of
production in 2004 are a result of the change in the interest rate environment. 31




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##### Table of Contents



Net Revenue Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Selected Income Statement Data:Net interest income
    
    $
    10,202
    
    
    $
    24,326
    
    
    $
    30,646
    
    
    $
    61,294Recovery of (provision for) loan losses
    
    
    67
    
    
    
    (191
    )
    
    
    457
    
    
    
    (221
    )Gain on sales of loans
    
    
    39,351
    
    
    
    80,775
    
    
    
    117,003
    
    
    
    283,514Servicing fees
    
    
    26,356
    
    
    
    22,008
    
    
    
    77,937
    
    
    
    57,921Amortization expense
    
    
    (22,773
    )
    
    
    (29,291
    )
    
    
    (74,281
    )
    
    
    (89,760
    )Recovery (impairment) of servicing assets
    
    
    (17,662
    )
    
    
    41,838
    
    
    
    5,474
    
    
    
    (779
    )Gain (loss) on derivatives
    
    
    22,520
    
    
    
    (27,613
    )
    
    
    23,064
    
    
    
    1,635Gain on sales of servicing assets
    
    
    440
    
    
    
    7
    
    
    
    8,857
    
    
    
    7Other income
    
    
    1,421
    
    
    
    3,034
    
    
    
    5,312
    
    
    
    8,028Total net revenue
    
    $
    59,922
    
    
    $
    114,893
    
    
    $
    194,469
    
    
    $
    321,639
 Net interest income is generated from the interest earned on mortgage
loans before they are sold to investors, less the interest expense incurred on
borrowings to fund the loans. Net interest income for the third quarter in
2004 totaled $10.2 million compared to $24.3 million for the third quarter in
2003. Net interest income year to date decreased 50% to $30.6 million. The
decrease in net interest income in 2004 is a result of decreased production
resulting in a lower average balance of mortgage loans held for sale on our
balance sheet during the quarter and for the year. Gain on sale of loans includes net revenues from three principal sources:  
    
    the valuation of newly-created mortgage servicing rights;
    
    net loan origination fees, both of which are recognized when loans
are pooled and sold into the secondary mortgage market; and,
    
    changes in fair value of forward contracts and interest rate lock
commitments. Gain on sale of loans for the three months ended September 30, 2004 totaled
$39.4 million, compared to $80.8 million for the same period in 2003, a decline
of 51%. Gain on sale of loans for the nine months ended September 30, 2004
totaled $117.0 million,
compared to $283.5 million for the same period in 2003, a decrease of 59%.
This decrease is attributable to decreased originations and reduced secondary
market margins as a result of the increasing interest rate environment that
began in the latter half of 2003. Servicing fee income is recognized by collecting fees, which normally
range between 25 and 44 basis points annually on the principal amount of the
underlying mortgages. Servicing fee income totaled $26.4 million and $77.9
million for the three and nine months ended September 30, 2004, an increase of
20% and 35% from the same periods in 2003, primarily reflecting the growth in
the servicing portfolio. Amortization expense relates to mortgage servicing rights and is based on
the proportion of current net servicing income to the total expected for the
estimated lives of the underlying loans. Amortization expense totaled $22.8
million for the three months ended September 30, 2004, compared to $29.3
million during the third quarter of 2003. Year-to-date amortization expense
totaled $74.3 million and $89.8 million for 2004 and 2003, respectively. The
decrease in amortization expense in 2004 relates in part to an
other-than-temporary impairment adjustment of $7.0 million taken in the first
quarter of 2004 and $38.5 million taken in the fourth quarter of 2003 to
reflect our view that the originally recorded value of certain servicing
rights, net of amortization, and subsequent impairment associated with those
rights is unlikely to be recovered in market value. There was no related direct
impact on net income as this other than temporary impairment affected only
balance sheet accounts. However, the adjustment has resulted in a reduction of
amortization expense. Amortization expense year to date in 2004 has also
decreased as a result of an increase in the expected servicing life and cash
flows caused by higher interest rates. Impairment expense is recorded when the book value of the mortgage
servicing rights exceeds the fair value on a strata by strata basis. We
determined fair value at September 30, 2004, through the use of independent
valuations, valuation comparisons to actual servicing sale proceeds, and
internal models. Impairment expense totaled $17.7 million and recovery totaled
$5.5 million for three and 32




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##### Table of Contents



nine months ended September 30, 2004, compared to a recovery of $41.8 million
and expense of $0.8 million during the same periods of 2003. The impairment
expense in the third quarter of 2004 was a result of higher actual and expected
prepayments due to decreasing interest rates during the quarter. To mitigate
against the income effect of impairment of the portfolio, we purchase financial
instruments designed to change in value in a manner opposite from the servicing
asset. These instruments produced a gain of $22.5 million and $23.1 million
for us in the third quarter and year to date 2004 compared to a loss of $27.6
million and a gain of $1.6 million in the same periods in 2003. As a result,
impairment, net of derivative gains/losses, was a positive $4.9 million and
$28.5 million during the three- and nine-month periods ended September 30,
2004, compared to $14.2 million and $0.9 million during the same periods in
2003. The third quarter 2004 net gain of $4.9 million was achieved despite
interest rates declining during the quarter, meaning that derivatives gains
outpaced impairment losses. A key factor was the basis risk that exists
between the mortgage servicing assets and the related derivatives contracts.
This basis risk affected earnings positively this quarter, but has been a
negative factor in other quarters. At September 30, 2004, the mortgage line of business held $5.0 billion
notional amount of interest rate swaptions to manage the risk associated with
our servicing assets. Notional amounts do not represent the amount at risk.
The current risk management activities of the mortgage bank related to
servicing assets do not satisfy the criteria for hedge accounting under SFAS
133. As a result, these derivatives are accounted for as other assets and
other liabilities, and changes in fair value are adjusted through earnings as
derivative gains (losses), while the underlying servicing asset is accounted
for on a strata-by-strata basis at the lower of cost or market. Our mortgage banking business maintains the flexibility either to sell
servicing for current cash flow through bulk sales or to retain servicing for
future cash flow through the retention of ongoing servicing fees. Total
servicing sales represented 58% of loan originations during the three and nine
months ended September 30, 2004, compared to 6% and 5% for the three and nine
months ended September 30, 2003. The decision to sell or retain servicing is
based on current market conditions for servicing assets, loan origination
levels and production expenses, servicing portfolio management considerations,
consolidated capital constraints and the general level of risk tolerance of the
mortgage banking line of business and the Corporation. We sold $37 million of
bulk servicing during the third quarter and $2.0 billion year to date in 2004,
generating a $0.4 million and $8.9 million pre-tax gain, respectively. There
were no bulk sales during these periods in 2003. Over the past few years, we
have built our servicing portfolio in anticipation of rising interest rates
that would result in lower mortgage loan production. We sold servicing this
year to manage the size and composition of our investment in mortgage servicing
assets. Operating Expenses The following table sets forth operating expenses for our mortgage banking
line of business for the periods indicated: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Salaries and employee benefits
    
    $
    19,848
    
    
    $
    21,445
    
    
    $
    59,847
    
    
    $
    60,176Incentive
and commission pay
    
    
    11,110
    
    
    
    23,794
    
    
    
    32,293
    
    
    
    70,882Other expenses
    
    
    21,950
    
    
    
    28,971
    
    
    
    69,954
    
    
    
    80,238Total operating expenses
    
    $
    52,908
    
    
    $
    74,210
    
    
    $
    162,094
    
    
    $
    211,296Number of employees at period end (1)
    
    
    
    
    
    
    
    
    
    
    1,871
    
    
    
    2,307
   (1)
    
    On a full time equivalent basis Operating expenses for the three and nine months ended September 30, 2004
totaled $52.9 million and $162.1 million, a 29% and 23% decrease over the same
periods in 2003. These decreases in operating expenses reflect significant
decreases in production activities in 2004 versus 2003. However, the relative
decreases in operating expenses is less than the relative decreases in
production due to the fixed and semi-variable nature of certain operating
expenses and the impact of investments in various process improvement
initiatives. 33




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##### Table of Contents



Mortgage Servicing The following table shows information about our managed mortgage servicing
portfolio, including mortgage loans held for sale, for the periods indicated: Nine MonthsEnded
    
    Year EndedSeptember 30,
    
    December 31,2004
    
    2003(Portfolio in billions)Beginning servicing portfolio
    
    $
    29.6
    
    
    $
    16.8Mortgage loan closings
    
    
    8.6
    
    
    
    21.9Sales of servicing rights
    
    
    (4.5
    )
    
    
    (0.6
    )Run-off(1)
    
    
    (5.2
    )
    
    
    (8.5
    )Ending servicing portfolio
    
    $
    28.5
    
    
    $
    29.6Number of loans (end of period)
    
    
    222,261
    
    
    
    229,983Average loan size
    
    $
    128,368
    
    
    $
    128,880Weighted average coupon rate
    
    
    5.70
    %
    
    
    5.83
    %Percent Government National Mortgage Association
(GNMA) and state housing programs
    
    
    27
    
    
    
    26Percent conventional and other
    
    
    73
    
    
    
    74Delinquency ratio
    
    
    4.0
    
    
    
    4.6Mortgage servicing assets to related servicing portfolio(2)
    
    
    1.20
    
    
    
    1.19
   (1)
 (2)  For this calculation, deferred service release premiums on
warehouse loans are excluded from mortgage servicing assets, and
loans held for sale (i.e. warehouse loans) are excluded from the
servicing portfolio. We record originated mortgage servicing assets at allocated cost basis
when the loans are sold and record purchased servicing assets at fair value.
Thereafter, servicing rights are accounted for at the lower of their cost or
fair value. We record a valuation allowance for any impairment on a
disaggregated basis. We determine fair value on a monthly basis based on a
discounted cash flow analysis. These cash flows are projected over the life of
the servicing using prepayment, default, discount rate and cost to service
assumptions that we believe market participants would use to value similar
assets. We then assess these modeled assumptions for reasonableness through
independent third-party valuations, periodic servicing asset sales and through
the use of industry surveys. At September 30, 2004, we estimated the fair value
of these assets to be $352.3 million in the aggregate, or $7.1 million greater
than the carrying value on the balance sheet. The difference between carrying
value and market value is the result of a cap under generally accepted
accounting principles at the lower of cost or market for these assets. At
December 31, 2003, we estimated the fair value of these assets to be $358.9
million in the aggregate, or $10.7 million greater than the carrying value on
the balance sheet. 34




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##### Table of Contents



Commercial Banking The following table shows selected financial information for our
commercial banking line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Selected Income Statement Data:Interest income
    
    $
    33,245
    
    
    $
    28,359
    
    
    $
    91,237
    
    
    $
    84,146Interest expense
    
    
    (9,878
    )
    
    
    (8,243
    )
    
    
    (26,133
    )
    
    
    (25,564
    )Net interest income
    
    
    23,367
    
    
    
    20,116
    
    
    
    65,104
    
    
    
    58,582Provision for loan and lease losses
    
    
    (607
    )
    
    
    (1,500
    )
    
    
    (2,557
    )
    
    
    (4,413
    )Other income
    
    
    3,889
    
    
    
    5,744
    
    
    
    13,726
    
    
    
    16,517Total net revenue
    
    
    26,649
    
    
    
    24,360
    
    
    
    76,273
    
    
    
    70,686Operating expense
    
    
    (17,413
    )
    
    
    (14,316
    )
    
    
    (48,361
    )
    
    
    (42,187
    )Income before taxes
    
    
    9,236
    
    
    
    10,044
    
    
    
    27,912
    
    
    
    28,499Income taxes
    
    
    (3,719
    )
    
    
    (4,071
    )
    
    
    (11,208
    )
    
    
    (11,435
    )Net income
    
    $
    5,517
    
    
    $
    5,973
    
    
    $
    16,704
    
    
    $
    17,064
 September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Selected Balance Sheet Data at End of Period:Assets
    
    $
    2,611,473
    
    
    $
    2,203,965Securities and short-term investments1
    
    
    358,109
    
    
    
    107,668Loans and leases
    
    
    2,159,976
    
    
    
    1,988,633Allowance for loan and lease losses
    
    
    (22,045
    )
    
    
    (22,055
    )Deposits
    
    
    2,410,275
    
    
    
    1,964,274Shareholders equity
    
    
    139,436
    
    
    
    162,050Year to Date Daily AveragesAssets
    
    $
    2,416,025
    
    
    $
    2,119,944Securities and short-term investments
    
    
    276,411
    
    
    
    131,137Loans and leases
    
    
    2,056,997
    
    
    
    1,914,608Allowance for loan and lease losses
    
    
    (22,319
    )
    
    
    (21,895
    )Deposits
    
    
    2,193,693
    
    
    
    1,894,406Shareholders equity
    
    
    150,259
    
    
    
    147,886Shareholders equity to assets
    
    
    6.22
    %
    
    
    6.98
    %
   (1)
 35




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##### Table of Contents



Overview Our commercial banking line of business focuses on providing credit, cash
management and personal banking products to small businesses and business
owners. We offer commercial banking services through our banking subsidiaries,
Irwin Union Bank and Trust Company, an Indiana state-chartered commercial bank,
and Irwin Union Bank, F.S.B., a federal savings bank. Earlier in the year,
Irwin Union Bank, F.S.B. sold two of its branches  Las Vegas, Nevada, and Salt
Lake City, Utah  to Irwin Union Bank and Trust. On June 3, 2004, we
established a new branch of Irwin Union Bank, F.S.B. in Brookfield, Wisconsin
(near Milwaukee). In October 2004, we submitted an application to the Office
of Thrift Supervision to establish a branch of Irwin Union Bank, F.S.B. in
Sacramento, California. Net Income Commercial banking net income of $5.5 million during the third quarter of
2004 was slightly less than $6.0 million for the same period in 2003.
Year-to-date net income totaled $16.7 million in 2004 compared to net income of
$17.1 million in 2003. Net Interest Income The following table shows information about net interest income for our
commercial banking line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Net interest income
    
    $
    23,367
    
    
    $
    20,116
    
    
    $
    65,104
    
    
    $
    58,582Average interest earning assets
    
    
    2,482,449
    
    
    
    2,086,725
    
    
    
    2,334,660
    
    
    
    2,006,601Net interest margin
    
    
    3.74
    %
    
    
    3.82
    %
    
    
    3.72
    %
    
    
    3.90
    %
 Net interest income was $23.4 million for the third quarter of 2004, an
increase of 16% over third quarter of 2003. Net interest income year to date
in 2004 also improved 11% over the same period in 2003. The 2004 improvement
in net interest income resulted primarily from an increase in our commercial
banking loan portfolio as a result of growth and expansion efforts. Net
interest margin, the ratio of net interest income divided by average interest
earning assets, for the three months ended September 30, 2004 was 3.74%,
compared to 3.82% for the same period in 2003. Year-to-date net interest
margin for 2004 was 3.72%, compared to 3.90% for 2003. The reduction in 2004
margin is due to slower than anticipated loan growth, which has led to greater
than planned excess liquidity invested in lower yielding assets. Provision for Loan and Lease Losses Year to date provision for loan and lease losses declined to $2.6 million
during 2004, compared to a provision of $4.4 million during the same period in
2003. The declining provision relates to a combination of improved overall
credit quality, improving economic conditions and slower loan growth. See
further discussion in the Credit Quality section below. 36




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##### Table of Contents



Noninterest Income The following table shows the components of noninterest income for our
commercial banking line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Trust fees
    
    $
    438
    
    
    $
    463
    
    
    $
    1,433
    
    
    $
    1,349Service charges on deposit accounts
    
    
    1,215
    
    
    
    1,299
    
    
    
    3,964
    
    
    
    3,804Insurance commissions, fees and
premiums
    
    
    482
    
    
    
    446
    
    
    
    1,568
    
    
    
    1,589Gain from sales of loans
    
    
    616
    
    
    
    2,454
    
    
    
    2,323
    
    
    
    7,127Loan servicing fees
    
    
    353
    
    
    
    321
    
    
    
    1,020
    
    
    
    903Amortization of servicing assets
    
    
    (323
    )
    
    
    (964
    )
    
    
    (1,204
    )
    
    
    (2,340
    )Recovery (impairment) of servicing
assets
    
    
    (247
    )
    
    
    326
    
    
    
    341
    
    
    
    394Brokerage fees
    
    
    299
    
    
    
    336
    
    
    
    1,148
    
    
    
    883Other
    
    
    1,056
    
    
    
    1,063
    
    
    
    3,133
    
    
    
    2,808Total noninterest income
    
    $
    3,889
    
    
    $
    5,744
    
    
    $
    13,726
    
    
    $
    16,517
 Noninterest income during the three and nine months ended September 30,
2004 decreased 32% and 17% over the same periods in 2003, respectively. This
decrease was due primarily to lower gains from sales of loans related to
decreased mortgage production, partially offset by lower servicing asset
amortization. The commercial banking line of business has a first mortgage
servicing portfolio totaling $444.5 million at September 30, 2004, principally
a result of mortgage loan production in its south-central Indiana markets.
Servicing rights related to this portfolio are carried on the balance sheet at
the lower of cost or market, estimated at September 30, 2004 to be $3.6
million. Operating Expenses The following table shows the components of operating expenses for our
commercial banking line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Salaries and employee benefits
    
    $
    11,124
    
    
    $
    8,498
    
    
    $
    30,111
    
    
    $
    26,139Other expenses
    
    
    6,289
    
    
    
    5,818
    
    
    
    18,250
    
    
    
    16,048Total operating expenses
    
    $
    17,413
    
    
    $
    14,316
    
    
    $
    48,361
    
    
    $
    42,187Efficiency ratio
    
    
    63.9
    %
    
    
    55.4
    %
    
    
    61.4
    %
    
    
    56.2
    %Number of employees at period end(1)
    
    
    
    
    
    
    
    
    
    
    444
    
    
    
    450
   (1)
    
    On a full time equivalent basis. Operating expenses for the three and nine months ended September 30, 2004
totaled $17.4 million and $48.4 million, an increase of 22% and 14% over the
same periods in 2003, respectively. The increase in salaries and benefits is
primarily attributable to higher incentive compensation driven by a higher
return on equity at this line of business in 2004 and increased personnel costs
related to new market expansion and support staff. Balance Sheet Total assets year to date through September 30, 2004 averaged $2.4 billion
compared to $2.1 billion for the year ended December 31, 2003. Year to date
earning assets as of September 30, 2004 averaged $2.3 billion compared to $2.0
billion for the year 2003. The 2004 increase included commercial loans as a
result of the commercial banks continued growth and expansion efforts into new
markets. Average core deposits (deposits less jumbo and brokered certificates
of deposits and public funds) for the third quarter of
2004 totaled $2.1 billion, an annualized increase of 8% over average core
deposits in the second quarter 2004. 37




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##### Table of Contents



Credit Quality Nonperforming assets to total assets and the allowance for loan losses to
total loans both decreased at September 30, 2004, compared to December 31,
2003. The decline in nonperformings in 2004 was primarily the result of
satisfactory management of delinquent loans and collections made to
nonperforming relationships during the past nine months. Nonperforming loans
are not significantly concentrated in any industry category. The following
table shows information about our nonperforming assets in this line of business
and our allowance for loan losses: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Nonperforming loans
    
    $
    19,691
    
    
    $
    25,614Other real estate owned
    
    
    1,324
    
    
    
    995Total nonperforming assets
    
    $
    21,015
    
    
    $
    26,609Nonperforming assets to total assets
    
    
    0.80
    %
    
    
    1.21
    %Allowance for loan losses
    
    $
    22,045
    
    
    $
    22,055Allowance for loan losses to total loans
    
    
    1.02
    %
    
    
    1.11
    %
 Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Provision for loan losses
    
    $
    607
    
    
    $
    1,500
    
    
    $
    2,557
    
    
    $
    4,413Net charge-offs
    
    
    611
    
    
    
    994
    
    
    
    2,567
    
    
    
    3,107Annualized net charge-offs to average loans
    
    
    0.11
    %
    
    
    0.20
    %
    
    
    0.17
    %
    
    
    0.22
    %
 38




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##### Table of Contents



Home Equity Lending The following table shows selected financial information for the home
equity lending line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Selected Income Statement Data:Net interest income
    
    $
    26,367
    
    
    $
    26,655
    
    
    $
    77,221
    
    
    $
    81,289Recovery (provision) for loan and lease losses
    
    
    232
    
    
    
    (10,728
    )
    
    
    (4,961
    )
    
    
    (23,578
    )Other income
    
    
    16,291
    
    
    
    8,091
    
    
    
    48,781
    
    
    
    (29,383
    )Total net revenue
    
    
    42,890
    
    
    
    24,018
    
    
    
    121,041
    
    
    
    28,328Operating expense
    
    
    (29,050
    )
    
    
    (19,656
    )
    
    
    (81,291
    )
    
    
    (63,846
    )Income (loss) before taxes
    
    
    13,840
    
    
    
    4,362
    
    
    
    39,750
    
    
    
    (35,518
    )Income taxes
    
    
    (5,581
    )
    
    
    (1,745
    )
    
    
    (15,960
    )
    
    
    14,207Net income (loss)
    
    $
    8,259
    
    
    $
    2,617
    
    
    $
    23,790
    
    
    $
    (21,311
    )Selected Operating Data:Loan volume:Lines of credit
    
    $
    172,724
    
    
    $
    72,400
    
    
    $
    402,361
    
    
    $
    236,278Loans
    
    
    224,052
    
    
    
    195,215
    
    
    
    705,115
    
    
    
    608,842Net home equity charge-offs to average
managed portfolio
    
    
    1.42
    
    
    
    4.22
    
    
    
    2.56
    
    
    
    4.13
 September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Selected Balance Sheet Data at End of Period:Home equity loans and lines of credit
    
    $
    668,633
    
    
    $
    692,637Allowance for loan and lease losses
    
    
    (13,179
    )
    
    
    (29,251
    )Home equity loans held for sale
    
    
    300,171
    
    
    
    202,627Residual interests
    
    
    68,584
    
    
    
    70,519Mortgage servicing assets
    
    
    40,356
    
    
    
    28,425Short-term borrowings
    
    
    343,188
    
    
    
    368,640Collateralized debt
    
    
    530,722
    
    
    
    460,535Shareholders equity
    
    
    148,203
    
    
    
    128,555Selected Operating Data at End of PeriodTotal managed portfolio balance
    
    $
    1,395,721
    
    
    $
    1,513,289Delinquency ratio
    
    
    4.6
    %
    
    
    5.9
    %Weighted average coupon rate:Lines of credit
    
    
    8.77
    %
    
    
    10.21
    %Loans
    
    
    12.15
    
    
    
    12.89
 Overview Our home equity lending line of business originates, purchases, sells and
services a variety of home equity lines of credit and fixed-rate home equity
loan products nationwide to certain qualified borrowers. We market our home
equity products (generally using second mortgage liens) through a combination
of direct mail, brokers, the Internet, and correspondent channels. We target
creditworthy homeowners who are active credit users. Customers are
underwritten using proprietary models based on several criteria, including the
customers previous use of credit. We offer home equity loans with combined loan-to-value (CLTV) ratios of up
to 125% of their collateral value. Home equity loans are priced taking into
account, among other factors, the credit history of our customer, the
disposable income of the borrower, and the relative loan-to-value (LTV) ratio
of the loan at origination. For example, all else being equal, those loans
with loan-to-value ratios greater than 100% (high LTV, or HLTVs) are priced
with higher coupons than home equity loans with loan-to-value ratios less than
100% to compensate for increased expected losses through default. For the
nine-month period ended September 30, 2004, HLTV home equity loans constituted
46% of our loan originations versus 51% during the same period in 2003. HLTVs
constituted 48% of our managed portfolio at September 30, 2004 compared to 64% at December 31,
2003. In an effort to manage portfolio concentration 39




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##### Table of Contents



risk and to comply with
existing banking regulations, we have policies in place governing the size of
our investment in loans secured by real estate where the LTV is greater than
90%. In accordance with regulatory guidance set forth in Supervision and
Regulation Letter 01-4 and in consultation with our banking regulators, we made
a risk-weighting adjustment in our regulatory Consolidated Report of Condition
and Income, beginning with the third quarter of 2003. This adjustment reflects
a risk weighting of 200 percent for certain HLTV assets (approximately $112
million at September 30, 2004 compared with $184 million at June 30) that are
described in the guidance as subprime. The designation of certain loans as
subprime and the additional capital requirement for those loans was a
principal driver in our decision to respond to secondary market demand for
seasoned home equity product and sell a portion of our portfolio (approximately
$205 million) in the second quarter. This is also the principal reason we plan
to sell existing loans (approximately $150 million) in the fourth quarter
rather than selling exclusively from current production. For most of our home equity product offerings, we offer customers the
choice to accept an early repayment fee in exchange for a lower interest rate.
A typical early repayment option provides for a fee equal to up to six months
interest that is payable if the borrower chooses to repay the loan during the
first three to five years of its term. Approximately 80%, or $1.1 billion, of
our home equity managed portfolio at September 30, 2004 have early repayment
provisions, reflecting such customer choice. The following table provides a breakdown of our home equity lending
managed portfolio by product type, outstanding principal balance and weighted
average coupon as of September 30, 2004: WeightedAverageAmount
    
    % of Total
    
    Coupon(In thousands)Home equity loans < = 100% CLTV
    
    $
    157,902
    
    
    
    11.31
    %
    
    
    10.43
    %Home equity lines of credit < = 100% CLTV
    
    
    521,944
    
    
    
    37.40
    
    
    
    7.26Total <= 100% CLTV
    
    
    679,846
    
    
    
    48.71
    
    
    
    8.00Home equity loans > 100% CLTV
    
    
    402,836
    
    
    
    28.86
    
    
    
    13.34Home equity lines of credit > 100% CLTV
    
    
    249,372
    
    
    
    17.87
    
    
    
    11.49Total > 100% CLTV
    
    
    652,208
    
    
    
    46.73
    
    
    
    12.63First mortgages
    
    
    42,756
    
    
    
    3.06
    
    
    
    7.40Other
    
    
    20,911
    
    
    
    1.50
    
    
    
    13.91Total
    
    $
    1,395,721
    
    
    
    100.00
    %
    
    
    10.23
    %
 Net Income Our home equity lending business recorded net income of $8.3 million
during the three months ended September 30, 2004, compared to net income for
the same period in 2003 of $2.6 million. Year to date income of $23.8 million
was recorded through September 30, 2004, compared to a net loss of $21.3
million during the same period a year earlier. The most significant factor in
the increased earnings during 2004 was improving credit quality that drove
modest increases in the fair value of our residual interests recorded through
trading gains/losses, instead of the significant write downs of these assets
suffered in the first half of 2003. Net Revenue Net revenue for the three and nine months ended September 30, 2004 totaled
$42.9 million and $121.0 million, respectively, compared to net revenue for the
same periods in 2003 of $24.0 million and $28.3 million, respectively. The
increase in revenues is primarily a result of the change from trading losses to
trading gains related to adjustments made in marking the residual interests to
fair value in the respective periods, reflecting improved credit quality trends
in the underlying loan portfolios represented by these residuals, and of the
recognition of incentive servicing fees. Trading gains during the three and
nine months ended September 30, 2004 totaled $4.3 million and $15.6 million,
compared to trading losses of $1.4 million and $52.3 million during the same
periods in 2003. Incentive servicing fee gains during the three and nine
months ended September 30, 2004 totaled $2.3 million and $3.8 million,
respectively, compared with no incentive servicing fee income during 2003. During the third quarter of 2004, our home equity lending business
produced $396.8 million of home equity loans, compared to $267.6 million during
the same period in 2003. Our home equity lending business had $969 million of
net loans and loans held for sale at September 30, 2004, compared to $895
million at December 31, 2003. Included in the loan and loan held for sale
balances at September 30, 2004 were $0.5 billion of collateralized loans as
part of secured financings. 40




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##### Table of Contents



The following table sets forth certain information regarding net revenue
for the periods indicated: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Net interest income
    
    $
    26,367
    
    
    $
    26,655
    
    
    $
    77,221
    
    
    $
    81,289Recovery of (provision for) loan losses
    
    
    232
    
    
    
    (10,728
    )
    
    
    (4,961
    )
    
    
    (23,578
    )Gain on sales of loans
    
    
    8,438
    
    
    
    8,108
    
    
    
    20,163
    
    
    
    18,358Loan servicing fees
    
    
    7,482
    
    
    
    6,001
    
    
    
    20,968
    
    
    
    15,832Amortization of servicing assets
    
    
    (4,975
    )
    
    
    (3,808
    )
    
    
    (13,927
    )
    
    
    (10,013
    )Recovery (impairment) of servicing
assets
    
    
    (449
    )
    
    
    (499
    )
    
    
    394
    
    
    
    (1,581
    )Trading gains (losses)
    
    
    4,310
    
    
    
    (1,376
    )
    
    
    15,640
    
    
    
    (52,296
    )Other income
    
    
    1,485
    
    
    
    (335
    )
    
    
    5,543
    
    
    
    317Total net revenue
    
    $
    42,890
    
    
    $
    24,018
    
    
    $
    121,041
    
    
    $
    28,328
 Net interest income decreased to $26.4 million for the three months ended
September 30, 2004, compared to $26.7 million for the same period in 2003.
Year-to-date net interest income for 2004 was $77.2 million, compared to $81.3
million for 2003. This line of business earns interest income on loans held on
the balance sheet and the accretion of the discount applied to its residual
interests. Accretion totaled $3.3 million and $9.9 million during the three and
nine months ended September 30, 2004, versus $4.1 million and $17.1 million for
the same periods in 2003. The reduced accretion relates to the reduction in
our residual interests in 2004 compared to the prior year. The year to date
increase in the non-accretion interest income from $64.2 million in 2003 to
$67.3 million in 2004 is a result of the buildup of our on-balance sheet loan
portfolio, which grew from $0.8 billion at September 30, 2003 to $1.0 billion
at September 30, 2004. Year to date, the provision for loan losses decreased to $5.0 million in
2004, compared to $23.6 million in 2003. The decreased provision relates to
improvements in the credit quality of the loan portfolio. In addition, we
transferred $355 million in loans to loans held for sale when the decisions
were made to sell these portfolio loans. These loans had an associated
allowance of $20.6 million. The loans were transferred with an allowance of
$10.8 million to reduce their carrying value to fair market value. After the
transfers, the remaining $9.8 million of excess allowance was reversed through
the provision for loan and lease losses. Gains on sales of loans for the three months ended September 30, 2004
totaled $8.4 million, compared to $8.1 million during the same period in 2003.
The gain relative to the amount of loans sold was lower than we have seen in
recent quarters due to product mix sold and the related loan yields. Gains on
sales of loans for the nine months ended September 30, 2004 totaled $20.2
million, compared to $18.4 million during the same period in 2003. We do not record a residual interest as a result of whole loan sales as we
do not retain a credit loss interest after the sale. These are cash sales for
which we receive a premium, generally record a servicing asset, and recognize
any points and fees at the time of sale. For certain sales, we have the right
to an incentive servicing fee that will provide cash payments to us if a
pre-established return for the certificate holders and certain
structure-specific loan credit and servicing performance metrics are met.
These incentive servicing fee contracts are treated as derivatives and
classified in other assets. At September 30, 2004, we recorded incentive fees
for two transactions that had already met or were projected to meet these
performance metrics within the next twelve months. Included in other income
during nine months of 2004 was $3.8 million related to these
incentive-servicing fees based upon actual and projected performance of the
underlying pools of loans. Loan servicing fees totaled $7.5 million during the third quarter of 2004,
compared to $6.0 million during the same period in 2003. Year to date, loan
servicing fees totaled $21.0 million, compared to $15.8 million during the same
period in 2003. The servicing portfolio underlying the mortgage servicing asset
at our home equity lending line of business totaled $2.2 billion and $1.7
billion at September 30, 2004 and 2003, respectively. The increase in loan
servicing fees in 2004 relates to increased early repayment fees which totaled
$10.1 million during the nine months ended September 30, 2004, compared to $5.8
million during the same period in 2003. Amortization and impairment of servicing assets includes amortization
expenses and valuation adjustments relating to the carrying value of servicing
assets. Our home equity lending business determines fair value of its
servicing asset using discounted cash flows and assumptions as to estimated future servicing income and cost that we
believe market participants would use to value similar assets. In addition, we
periodically assess these modeled assumptions for reasonableness through
independent third-party valuations. At September 30, 2004, net servicing assets
totaled $40.4 million, compared to a balance of $28.4 million at December 31,
2003. 41




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##### Table of Contents



Servicing asset amortization and impairment expense totaled $13.5
million year to date during 2004, compared to $11.6 million for the same period
in 2003. The increased expense relates to the increased size of the underlying
servicing asset. Trading gains (losses) represent unrealized gains (losses) as a result of
adjustments to the carrying values of our residual interests. Trading gains
totaled $4.3 million in the third quarter of 2004, compared to losses of $1.4
million for the same period in 2003. Year-to-date trading gains totaled $15.6
million for 2004, compared to losses of $52.3 million for the same period in
2003. Losses on the loans underlying the residual assets occurred at an
annualized rate of 3.19% during the third quarter of 2004, as compared to our
June 30, 2004 projection for the third quarter of 7.62%. As a result, cash
flow received from the residual assets during the third quarter totaled $12.3
million compared to our previously modeled estimate of $8.0 million. Residual
interests had a balance of $68.6 million at September 30, 2004 and $70.5
million at December 31, 2003. The decrease reflects a combination of runoff,
performance-based valuation adjustments and the second quarter repurchase of
$5.3 million of residuals we had sold between 1999 and 2001. Included in the
valuation are assumptions for estimated prepayments, expected losses, and
discount rates that we believe market participants would use to value similar
assets. To the extent our expectations of future loss rates, prepayment speeds
and other factors change as we gather additional data over time, these residual
valuations may be subject to additional adjustments in the future. These
adjustments could have a material effect on our reported earnings. The
increased unrealized trading gains in 2004 principally reflect lower actual
loss rates than those previously modeled. These lower loss rates reflect lower
credit losses and higher recoveries. Our forward loss assumptions are
reevaluated monthly and, as such, our residual asset valuations are adjusted
monthly to reflect changes in actual and expected loss rates in our portfolio. Operating Expenses The following table shows operating expenses for our home equity lending
line of business for the periods indicated: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Salaries and employee benefits
    
    $
    18,627
    
    
    $
    12,593
    
    
    $
    52,618
    
    
    $
    38,318Other
    
    
    10,423
    
    
    
    7,063
    
    
    
    28,673
    
    
    
    25,528Total operating expenses
    
    $
    29,050
    
    
    $
    19,656
    
    
    $
    81,291
    
    
    $
    63,846Number of employees at period end (1)
    
    
    
    
    
    
    
    
    
    
    681
    
    
    
    663
   (1)
    
    On a full time equivalent basis. Operating expenses were $29.1 million and $81.3 million for the three and
nine months ended September 30, 2004, compared to $19.7 million and $63.8
million for the same periods in 2003. Year to date, operating expenses in 2004
included $6.9 million of compensation expense related to minority ownership
interests at the home equity lending line of business which are accounted for
on a mark-to-market basis. During the same period in 2003, we had a reversal
of approximately $37 thousand due to the decline in the value of the minority
ownership interest during that period. Home Equity Servicing Our home equity lending business continues to service a majority of the
loans it has securitized and sold. We earn a servicing fee of approximately 50
to 100 basis points of the outstanding principal balance of the loans treated
as sales under generally accepted accounting principles. The total servicing
portfolio was $2.8 billion at September 30, 2004 and $2.6 billion at December
31, 2003. For whole loans sold with servicing retained totaling $1.2 billion
at September 30, 2004 and $1.0 billion at December 31, 2003, we capitalize
servicing fees including rights to future early repayment fees. The servicing
asset at September 30, 2004 was $40.4 million up from $28.4 million at December
31, 2004 reflecting additional secondary market sales and financings. Our Managed Portfolio, representing that portion of the servicing
portfolio on which we have retained credit risk, is separated into two
categories: $1.0 billion of loans originated, generally since 2002, and held on
balance sheet either as loans held for investment or
loans held for sale, and $0.4 billion of loans and lines of credit securitized
for which we retained a residual interest. Generally, these loans categorized
as Owned Residual were originated prior to 2002 and treated as sold under
SFAS 140 and have a reserve methodology that reflects life of account loss
expectations; whereas our policy for on-balance sheet loans requires that we
hold at a 42




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##### Table of Contents



minimum, sufficient reserves for potential losses inherent in the
portfolio at the balance sheet date. Such losses for on-balance sheet loans
manifest themselves over a period which management believes approximates twelve
months. In addition, where applicable, we have the opportunity to earn additional
future servicing incentive fees. Included below in the category Credit Risk
Sold, Potential Incentive Servicing Fee Retained Portfolio are $1.1 billion of
loans at September 30, 2004 and $0.8 billion at December 31, 2003 for which we
have the opportunity to earn an incentive servicing fee. The following table
sets forth certain information for each of these portfolios. September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Managed PortfolioTotal Loans
    
    $
    1,395,721
    
    
    $
    1,513,28930 days past due
    
    
    4.59
    %
    
    
    5.87
    %90 days past due
    
    
    1.78
    
    
    
    2.43Annualized QTD Net Chargeoff Rate
    
    
    1.42
    
    
    
    4.79Unsold LoansTotal Loans (1)
    
    $
    970,271
    
    
    $
    897,22730 days past due
    
    
    1.87
    %
    
    
    2.91
    %90 days past due
    
    
    0.72
    
    
    
    1.25Annualized QTD Net Chargeoff Rate
    
    
    0.68
    
    
    
    3.03Loan Loss Reserve
    
    $
    13,179
    
    
    $
    29,251Owned ResidualTotal Loans
    
    $
    425,450
    
    
    $
    616,06230 days past due
    
    
    10.78
    %
    
    
    10.18
    %90 days past due
    
    
    4.20
    
    
    
    4.15Annualized QTD Net Chargeoff Rate
    
    
    3.19
    
    
    
    7.13Residual Undiscounted Losses
    
    $
    25,447
    
    
    $
    64,598Credit Risk Sold, Potential Incentive Servicing Fee Retained PortfolioTotal Loans
    
    $
    1,131,250
    
    
    $
    849,26430 days past due
    
    
    2.38
    %
    
    
    2.44
    %90 days past due
    
    
    0.91
    
    
    
    0.72
   (1)
    
    Excludes deferred fees and costs. The managed portfolio amounts listed above include those loans we service
with credit risk retained. Delinquency rates and losses on our managed
portfolio result from a variety of factors, including loan seasoning, portfolio
mix, our servicing practices, and general economic conditions. The 30-day and
greater delinquency ratio on our managed portfolio was 4.6% at September 30,
2004, and 5.9% at December 31, 2003. 43




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##### Table of Contents



Commercial Finance The following table shows selected financial information for our
commercial finance line of business for the periods indicated: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Selected Income Statement Data:Net interest income
    
    $
    7,058
    
    
    $
    5,685
    
    
    $
    20,692
    
    
    $
    15,890Provision for loan and lease losses
    
    
    (1,589
    )
    
    
    (2,388
    )
    
    
    (4,777
    )
    
    
    (9,321
    )Noninterest income
    
    
    1,366
    
    
    
    1,181
    
    
    
    4,437
    
    
    
    4,678Total net revenue
    
    
    6,835
    
    
    
    4,478
    
    
    
    20,352
    
    
    
    11,247Operating expense
    
    
    (4,914
    )
    
    
    (3,829
    )
    
    
    (14,177
    )
    
    
    (11,211
    )Income before taxes
    
    
    1,921
    
    
    
    649
    
    
    
    6,175
    
    
    
    36Income taxes
    
    
    (810
    )
    
    
    (603
    )
    
    
    (4,040
    )
    
    
    (251
    )Net income (loss)
    
    $
    1,111
    
    
    $
    46
    
    
    $
    2,135
    
    
    $
    (215
    )Selected Operating Data:Net charge-offs
    
    $
    1,958
    
    
    $
    2,034
    
    
    $
    4,303
    
    
    $
    6,505Net interest margin
    
    
    5.25
    %
    
    
    5.44
    %
    
    
    5.53
    %
    
    
    5.45
    %Total funding of loans and leases
    
    $
    90,966
    
    
    $
    61,679
    
    
    $
    251,204
    
    
    $
    185,588
 September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Selected Balance Sheet Data at End of Period:Total assets
    
    $
    569,419
    
    
    $
    474,915Loans and leases
    
    
    559,801
    
    
    
    463,423Allowance for loan and lease losses
    
    
    (11,488
    )
    
    
    (11,445
    )Shareholders equity
    
    
    50,123
    
    
    
    44,255
 Overview In our commercial finance line of business, we originate small-ticket
equipment leases through established U.S. and Canadian relationships with
vendors, manufacturers and third-party originators, and provide financing for
U.S. franchisees of selected quick service and casual dining restaurant
concepts. The majority of our leases are full payout (no residual),
small-ticket assets secured by commercial equipment. We finance a variety of
commercial, light industrial and office equipment types and try to limit the
concentrations in our loan and lease portfolios. Within the franchise channel,
the majority of our contracts are full payout loans with higher transaction
sizes than in our small-ticket channel. The franchise channel may also finance
real estate for select franchise systems. Net Income During the three months ended September 30, 2004, the commercial finance
line of business recorded net income of $1.1 million, compared to approximately
break even for the same period in the prior year. Year to date, the commercial
finance line of business earned $2.1 million compared to a loss of $0.2 for the
same period in the prior year. Year to date, pre-tax earnings increased to $6.2
million at September 30, 2004, compared to approximately break even on a
pre-tax basis during the same period in 2003. The 2004 pre-tax improvement in
earnings is attributable to portfolio growth, improvements in credit quality,
and gains from the sale leases and whole loans without credit recourse. Year to
date net income was negatively affected by a one-time income tax charge of $1.7
million during the first quarter reflecting the cumulative impact of tax
liabilities acquired, but not recorded on the books of the company at the time
of our purchase of our Canadian operations from a now bankrupt seller. 44




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##### Table of Contents



Net Interest Income The following table shows information about net interest income for our
commercial finance line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Net interest income
    
    $
    7,058
    
    
    $
    5,685
    
    
    $
    20,692
    
    
    $
    15,890Average interest earning assets
    
    
    536,882
    
    
    
    414,882
    
    
    
    504,290
    
    
    
    389,849Net interest margin
    
    
    5.23
    %
    
    
    5.44
    %
    
    
    5.48
    %
    
    
    5.45
    %
 Net interest income was $7.1 million for the quarter ended September 30,
2004, an increase of 24% over 2003. Year to date net interest income was $20.7
million, compared to $15.9 million in 2003. The improvement in net interest
income resulted primarily from an increase in our commercial finance portfolio.
The total loan and lease portfolio has increased to $559.8 million at September
30, 2004, an increase of 21% over year-end 2003 and an increase of 32% over
September 30, 2003. This line of business originated $91.0 million in loans
and leases during the third quarter of 2004, compared to $61.7 million during
the same period of 2003. Net interest margin for the third quarter of 2004 was 5.23%, compared to
5.44% in 2003 for the same period. The decrease in 2004 margin is due primarily
to changes in yields and product mix. Provision for Loan and Lease Losses The provision for loan and lease losses decreased to $1.6 million during
the third quarter of 2004 down from $2.4 million during the same period in
2003. The provision for loan and lease losses decreased to $4.8 million year to
date during 2004 compared to $9.3 million for the same period in 2003. The
decreased provisioning levels relate primarily to improvements in credit
quality in our lease portfolio. We did add $1.7 million in specific reserves
to the allowance during 2004 related to a potential loss on lease receivables
on product manufactured and supplied to customers by a single vendor. Noninterest Income Noninterest income during the three months ended September 30, 2004
increased 16% over the same period in 2003. Year to date, noninterest income
was $4.4 million, compared to $4.7 million during the same period of 2003.
This year-to-date decrease was due primarily to interest rate derivative losses
in our Canadian operation related to asset-liability mismatches in our funding
of that operation. We had no derivative losses for this line of business
during the same period in 2003. Operating Expenses The following table shows the components of operating expenses for our
commercial finance line of business: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Salaries and employee benefits
    
    $
    3,646
    
    
    $
    2,808
    
    
    $
    10,486
    
    
    $
    8,266Other
    
    
    1,268
    
    
    
    1,021
    
    
    
    3,691
    
    
    
    2,945Total operating expenses
    
    $
    4,914
    
    
    $
    3,829
    
    
    $
    14,177
    
    
    $
    11,211Number of employees at period end (1)
    
    
    
    
    
    
    
    
    
    
    156
    
    
    
    131
   (1)
    
    On a full time equivalent basis. 45




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##### Table of Contents



Operating expenses for the three and nine months ended September 30, 2004
totaled $4.9 million and $14.2 million, respectively, an increase of 28% and
26% over the same periods in 2003. The increased operating expenses relate to
the continued growth in this business since its inception in 1999, including
compensation costs related to higher originations and the achievement of
pre-tax profitability. Credit Quality The commercial finance line of business had nonperforming loans and leases
at September 30, 2004 of $6.2 million compared to $4.1 million as of December
31, 2003. The bulk of this increase relates to a credit relationship with a
single vendor as noted above in the discussion on provision for loan and leases
losses. Net charge-offs recorded by this line of business totaled $1.9 million
for the third quarter of 2004, compared to $2.0 million for the third quarter
of 2003. Included in the third quarter amount was a $0.9 million charge-off
related to a $4.3 million impaired loan that was sold during the quarter. Net
charge-offs year to date were $4.3 million, improving from the $6.5 million net
charge-offs recorded in the same period of 2003. Our allowance for loan and
lease losses at September 30, 2004 totaled $11.5 million, representing 2.1% of
loans and leases, compared to a balance at December 31, 2003 of $11.4 million,
representing 2.5% of loans and leases. The following table shows information about our nonperforming loans and
leases in this line of business and our allowance for loan and lease losses: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Nonperforming loans
    
    $
    6,208
    
    
    $
    4,083Allowance for loan losses
    
    
    11,488
    
    
    
    11,445Allowance for loan losses to total loans
    
    
    2.05
    %
    
    
    2.47
    %
 Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,For the Period Ended:
    
    2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Provision for loan losses
    
    $
    1,589
    
    
    $
    2,388
    
    
    $
    4,777
    
    
    $
    9,321Net charge-offs
    
    
    1,958
    
    
    
    2,034
    
    
    
    4,303
    
    
    
    6,505Annualized net charge-offs to average
loans
    
    
    1.47
    %
    
    
    1.97
    %
    
    
    1.16
    %
    
    
    2.25
    %
 The following table provides certain information about the loan and lease
portfolio of our commercial finance line of business at the dates shown: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Domestic franchise loans
    
    $
    211,447
    
    
    $
    150,505Weighted average yield
    
    
    8.15
    %
    
    
    8.45
    %Delinquency ratio
    
    
    0.46
    
    
    
    0.45Domestic leases
    
    $
    137,766
    
    
    $
    134,602Weighted average yield
    
    
    9.28
    %
    
    
    9.54
    %Delinquency ratio
    
    
    1.15
    
    
    
    1.32Canadian leases (1)
    
    $
    210,588
    
    
    $
    178,316Weighted average yield
    
    
    9.63
    %
    
    
    10.12
    %Delinquency ratio
    
    
    1.31
    
    
    
    0.89
   (1)
    
    In U.S. dollars. 46




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##### Table of Contents



Venture Capital The following table shows selected financial information for our venture
capital line of business for the periods indicated: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Dollars in thousands)Selected Income Statement Data:Net interest income
    
    $
    (3
    )
    
    $
    (2
    )
    
    $
    (6
    )
    
    $
    7Mark-to-market adjustment on
investments
    
    
    
    
    
    
    
    
    
    
    (341
    )
    
    
    (2,421
    )Noninterest income
    
    
    149
    
    
    
    444
    
    
    
    477
    
    
    
    523Total net revenues
    
    
    146
    
    
    
    442
    
    
    
    130
    
    
    
    (1,891
    )Operating expense
    
    
    (99
    )
    
    
    (329
    )
    
    
    (345
    )
    
    
    (440
    )Income (loss) before taxes
    
    
    47
    
    
    
    113
    
    
    
    (215
    )
    
    
    (2,331
    )Income tax
(expense) benefit
    
    
    (18
    )
    
    
    (48
    )
    
    
    83
    
    
    
    932Net income
(loss)
    
    $
    29
    
    
    $
    65
    
    
    $
    (132
    )
    
    $
    (1,399
    )
 September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Selected Balance Sheet Data at End of Period:Investment in portfolio companies (cost)
    
    $
    14,717
    
    
    $
    14,601Mark-to-market adjustment
    
    
    (11,418
    )
    
    
    (11,077
    )Carrying value of portfolio companies
    
    $
    3,299
    
    
    $
    3,524
 Overview In our venture capital line of business, we have made minority investments
in early stage companies in the financial services industry and related fields
that intend to use technology as a key component of their competitive strategy.
We provide Irwin Ventures portfolio companies the benefit of our management
experience in the financial services industry. In addition, we expect that
contacts made through venture activities may benefit management of our other
lines of business through the sharing of technologies and market opportunities.
Our venture capital line of business had investments in seven private
companies as of September 30, 2004, with an aggregate investment cost of $14.7
million and a carrying value of $3.3 million representing our interest in three
companies. We have reduced the scope of our venture investment activities over
the past two years. In the future, if we do make additional investments, we
anticipate it will be this reduced pace. During the three and nine months ended September 30, 2004, the venture
capital line of business broke even and recorded a net loss of $0.1 million,
respectively, compared to income of $0.1 million and a loss of $1.4 million for
the same periods in 2003. The losses relate to valuation adjustments to
reflect the companys portfolio investments at market value. Parent and Other Results at the parent company and other businesses totaled a loss of $1.8
million and $6.3 million for the three and nine months ended September 30,
2004, compared to a loss of $2.6 million and $5.9 million during the same
periods in 2003. The losses at the parent company primarily relate to
operating expenses in excess of management fees and direct cost allocations
charged to the lines of business and interest income earned on intercompany
loans. Included in parent and other expense were compensation charges related
to key employee retention initiatives at the home equity lending line of
business totaling $2.9 million year to date during 2004. We recognized a $1.7
million benefit with respect to this initiative during this period of 2003.
Also included in parent company operating results are allocations to our
subsidiaries of interest expense related to our interest-bearing capital
obligations. During the nine month period ended September 30, 2004, we
allocated $7.6 million of these expenses to our subsidiaries, compared to $10.4
million during the same period in 2003, reflecting reduced use of parent
company-sourced capital funding for the subsidiaries. Each subsidiary pays taxes to us at the statutory rate, with the exception
of our Canadian subsidiary that pays taxes in Canada. Subsidiaries also pay
fees to us to cover direct and indirect services. In addition, certain services
are provided from one subsidiary to another. Intercompany income and expenses
are calculated on an arms-length, external market basis and are eliminated in
consolidation. 47




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##### Table of Contents



Risk Management We are engaged in businesses that involve the assumption of financial
risks including:  
    
    Credit risk
    
    Liquidity risk
    
    Interest rate risk
    
    Operational risk Each line of business that assumes financial risk uses a formal process to
manage this risk. In all cases, the objectives are to ensure that risk is
contained within prudent levels and that we are adequately compensated for the
level of risk assumed. Our Chairman, Executive Vice President, Senior Vice Presidents (including
the Chief Financial Officer), and Chief Risk Officer meet on a
regularly-scheduled basis (or more frequently as appropriate) as an
Enterprise-wide Risk Management Committee (ERMC), reporting to the Board of
Directors Audit and Risk Management Committee. The ERMC and its subcommittees
oversee all aspects of our financial, credit, and operational risks. The ERMC
provides senior-level review and enhancement of line manager risk processes and
oversight of our risk reporting, surveillance and model parameter changes. Credit Risk The assumption of credit risk is a key source of earnings for the home
equity lending, commercial banking and commercial finance lines of business.
The mortgage banking line of business assumes limited credit risk as its
mortgages typically are insured and are sold within a short period of time
after origination. The credit risk in the loan portfolios of the home equity lending,
commercial finance and commercial banking lines of business has the most
potential for a significant effect on our consolidated financial performance.
These lines of business each have a Chief Credit Officer specific to the
product line and manage credit risk through various combinations of the use of
lending policies, credit analysis and approval procedures, periodic loan
reviews, servicing activities, and/or personal contact with borrowers.
Commercial loans over a certain size, depending on the loan type and structure,
are reviewed by a loan committee prior to approval. We perform independent loan
review across the Corporation through a function that reports directly to the
Audit and Risk Management Committee. The allowance for loan and lease losses is an estimate based on our
judgment applying the principles of SFAS 5, Accounting for Contingencies,
SFAS 114, Accounting by Creditors for Impairment of a Loan, and SFAS 118,
Accounting by Creditors for Impairment of a Loan  Income Recognition and
Disclosures. The allowance is maintained at a level we believe is adequate to
absorb probable losses inherent in the loan and lease portfolio. We perform an
assessment of the adequacy of the allowance no less frequently than on a
quarterly basis. Within the allowance, there are specific and expected loss components. The
specific loss component is based on a regular analysis of all loans over a
fixed-dollar amount where the internal credit rating is at or below a
predetermined classification. From this analysis we determine the loans that we
believe to be impaired in accordance with SFAS 114. Management has defined
impaired as nonaccrual loans. An allowance is established when the collateral
value, observable market price or discounted cash flows of an impaired loan is
lower than the carrying value of that loan. In addition to establishing
allowance levels for specifically identified higher risk graded loans,
management determines an allowance for all other loans in the portfolio for
which historical or projected experience indicates that certain losses exist.
These loans are segregated by major product type, and in some instances, by
aging, with an estimated loss ratio or migration pattern applied against each
product type and aging category. For portfolios that are too new to have
adequate historical experience on which to base a loss estimate, we use estimates
derived from industry experience and managements judgment. The loss ratio or
migration patterns are generally based upon historic loss experience or
historic rate migration behaviors, respectively, for each loan type adjusted
for certain environmental factors management believes to be relevant. 48




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##### Table of Contents



Net charge-offs for the three months ended September 30, 2004 were $4.5
million, or 0.5% of average loans, compared to $8.5 million, or 1.0% of average
loans during the same period in 2003. Year-to-date net charge-offs were $17.1
million, compared to $24.3 million during the same period in 2003. The
decrease in charge-offs is a result of improvements in credit quality
associated with the steadily improving economy. At September 30, 2004, the
allowance for loan and lease losses was 1.4% of outstanding loans and leases,
down from 2.0% at December 31, 2003, reflecting improvements in the credit
quality of our portfolios as described in more detail below. Total nonperforming loans and leases at September 30, 2004, were $35.1
million, compared to $44.4 million at December 31, 2003. Nonperforming loans
and leases as a percent of total loans and leases at September 30, 2004 were
1.0%, compared to 1.4% at December 31, 2003. The 2004 decrease occurred
primarily at the home equity lending line of business where nonperforming loans
decreased from $11.2 million at December 31, 2003 to $6.9 million at September
30, 2004. Nonperforming loans at the commercial banking line of business
decreased to $19.7 million at September 30, 2004, compared to $26.6 million at
the end of 2003. Nonperforming loan and leases at the commercial finance line
of business increased from $4.1 million at December 31, 2003 to $6.2 million at
September 30, 2004. Other real estate we owned totaled $6.1 million at September 30, 2004,
down from $6.4 million at December 31, 2003. Total nonperforming assets at
September 30, 2004 were $42.9 million, or 0.79% of total assets compared to
nonperforming assets at December 31, 2003, of $52.5 million, or 1.1% of total
assets. The following table shows information about our nonperforming assets at
the dates shown: September 30,
    
    December 31,2004
    
    2003(Dollars in thousands)Accruing loans past due 90 days or more:Commercial, financial and agricultural loans
    
    $
    32
    
    
    $
    4,172Real estate mortgages
    
    
    193
    
    
    
    Consumer loans
    
    
    88
    
    
    
    226Lease financing:Domestic
    
    
    65
    
    
    
    159Canadian
    
    
    5
    
    
    
    70383
    
    
    
    4,627Nonaccrual loans and leases:Commercial, financial and agricultural loans
    
    
    18,792
    
    
    
    20,447Real estate mortgages
    
    
    9,571
    
    
    
    14,663Consumer loans
    
    
    170
    
    
    
    769Lease financing:Domestic
    
    
    4,723
    
    
    
    1,916Canadian
    
    
    1,415
    
    
    
    1,94334,671
    
    
    
    39,738Total nonperforming loans and leases
    
    
    35,054
    
    
    
    44,365Other real estate owned:Nonperforming loans held for sale not guaranteed
    
    
    1,677
    
    
    
    1,695Other real estate owned
    
    
    6,138
    
    
    
    6,431Total nonperforming assets
    
    $
    42,869
    
    
    $
    52,491Nonperforming loans and leases to total loans and leases
    
    
    1.0
    %
    
    
    1.4
    %Nonperforming assets to total assets
    
    
    0.8
    %
    
    
    1.1
    %
 For the periods presented, the balances of any restructured loans are
reflected in the table above either in the amounts shown for accruing loans
past due 90 days or more or in the amounts shown for nonaccrual loans and
leases. 49




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##### Table of Contents



Loans that are past due 90 days or more are placed on nonaccrual status
unless, in managements opinion, there is sufficient collateral value to offset
both principal and accrued interest. The nonperforming assets at September 30,
2004 and December 31, 2003 were held at our lines of business as follows: September 30,
    
    December 31,2004
    
    2003(In millions) Mortgage banking
    
    $
    7.3
    
    
    $
    6.8 Commercial banking
    
    
    21.0
    
    
    
    26.6 Home equity
lending
    
    
    8.3
    
    
    
    15.0 Commercial finance
    
    
    6.2
    
    
    
    4.1
 Generally, the accrual of income is discontinued when the full collection
of principal or interest is in doubt, or when the payment of principal or
interest has become contractually 90 days past due unless the obligation is
both well secured and in the process of collection. Liquidity Risk Liquidity is the availability of funds to meet the daily requirements of
our business. For financial institutions, demand for funds results principally
from extensions of credit and withdrawal of deposits. Liquidity is provided
through deposits and short-term and long-term borrowings, by asset maturities
or sales, and through equity capital. The objectives of liquidity management are to ensure that funds will be
available to meet current and future demands and that funds are available at a
reasonable cost. We manage liquidity centrally via daily interaction with the
lines of business and periodic liquidity planning sessions. Since loans are
less marketable than securities, the ratio of total loans to total deposits is
a traditional measure of liquidity for banks and bank holding companies. At
September 30, 2004, the ratio of loans and loans held for sale to total
deposits was 125%. We are comfortable with this relatively high level due to
our position in mortgage loans held for sale ($1.0 billion) and second mortgage
loans and leases financed through matched-term secured financing ($0.7
billion). The mortgage loans carry an interest rate at or near current market
rates and are generally sold within a short period after origination.
Excluding these items, our loans to deposit ratio at September 30, 2004 was
77%. Deposits consist of three primary types: non-maturity transaction account
deposits, certificates of deposit (CDs), and escrow account deposits. Core
deposits exclude jumbo CDs, brokered CDs and public funds. Core deposits
totaled $2.2 billion at September 30, 2004 compared to $1.8 billion at December
31, 2003. Non-maturity transaction account deposits are generated by our commercial
banking line of business and include deposits placed into checking, savings,
money market and other types of deposit accounts by our customers. These types
of deposits have no contractual maturity date and may be withdrawn at any time.
While these balances fluctuate daily, a large percentage typically remains for
much longer. At September 30, 2004, these deposit types totaled $1.9 billion,
an increase of $0.6 billion from December 31, 2003. We monitor overall deposit
balances daily with particular attention given to larger accounts that have the
potential for larger daily fluctuations and which are at greater risk to be
withdrawn should there be an industry-wide or bank-specific event that might
cause uninsured depositors to be concerned about the safety of their deposits.
On a monthly basis we model and share with our Asset Liability Committee the expected impact on liquidity from moderate and
severe liquidity stress scenarios as one of our tools to ensure that our
liquidity is sufficient. CDs differ from non-contractual maturity accounts in that they do have
contractual maturity dates. We issue CDs both directly to customers and through
brokers. As of September 30, 2004, CDs issued directly to customers totaled
$0.6 billion, unchanged from December 31, 2003. Brokered CDs are typically
considered to have higher liquidity (renewal) risk than CDs issued directly to
customers, since brokered CDs are often done in large blocks and since a direct
relationship does not exist with the depositor. In recognition of this, we
manage the size and maturity structure of brokered CDs closely. For example,
the maturities of brokered CDs are laddered to mitigate liquidity risk. CDs
issued through brokers totaled $0.3 billion at September 30, 2004, and had an
average remaining life of 14 months, as compared to $0.3 billion outstanding
with an 18 month average remaining life at December 31, 2003. Escrow account deposits are related to the servicing of our originated
first mortgage loans. When a first mortgage borrower makes a monthly mortgage
payment, consisting of interest and principal due on the loan and often a real
estate tax and insurance portion, we hold the payment on a non-interest earning basis, except where otherwise
required by law, until the payment is remitted to the current owner of the loan
or the proper tax authority and insurance carrier. Escrow deposits may also
include proceeds from the payoff of loans in our servicing portfolio prior to
the transmission of those proceeds to investors. At September 30, 2004, these
escrow balances totaled $0.7 billion, which was up $0.1 billion from December
31, 2003. 50




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##### Table of Contents



Short-term borrowings consist of borrowings from several sources. Our
largest borrowing source is the Federal Home Loan Bank of Indianapolis (FHLBI).
We utilize their collateralized borrowing programs to help fund qualifying
first mortgage, home equity and commercial real estate loans. As of September
30, 2004, there was only $1.0 million in outstanding FHLBI borrowings, a $0.3
billion decrease from December 31, 2003. We had sufficient collateral pledged
to FHLBI at September 30, 2004 to borrow an additional $0.7 billion, if needed. In addition to borrowings from the FHLBI, we use other lines of credit as
needed. At September 30, 2004, the amount of short-term borrowings outstanding
on our major credit lines and the total amount of the borrowing lines were as
follows:  
    
    Warehouse lines of credit to fund first mortgages and home equity
loans: none outstanding on a $300 million borrowing facility, of which
$150 million is committed
    
    Warehouse borrowing facilities to fund first mortgage loans: none
outstanding on a $150 million committed borrowing facility
    
    Lines of credit with correspondent banks, including fed funds lines:
none outstanding out of $165 million available but not committed
    
    Line of credit with a correspondent bank collateralized by mortgage
servicing rights: none outstanding out of $75 million committed
borrowing facility
    
    Warehouse line of credit to fund Canadian sourced small ticket
leases: $49 million outstanding on a $50 million borrowing facility In addition to short-term borrowings from the aforementioned credit lines,
sale facilities are used to effect sale of Government Sponsored Enterprise
(GSE) conforming first mortgage loans before scheduled GSE settlement dates.
The first two of these sale facilities listed below have specific dollar limits
as noted. The size of the third facility is limited only by the amount of
mortgage-backed securities we can package for purchase by the facility
provider. At September 30, 2004, the amount unsettled by the GSE on these
facilities and the total facility amount were as follows:  
    
    Committed warehouse sale facility: $322 million unsettled on a $600 million facility
    
    Uncommitted warehouse sale facility: none unsettled on a $150 million facility
    
    Investor warehouse sale facility: none unsettled Interest Rate Risk Because all of our assets are not perfectly match funded with like-term
liabilities, our earnings are affected by interest rate changes. Interest rate
risk is measured by the sensitivity of both net interest income and fair market
value of net interest sensitive assets to changes in interest rates. An asset/liability management committee (ALMC) at each of our lines of
business that has interest rate risk monitors the repricing structure of
assets, liabilities and off-balance sheet items and uses a financial simulation
model to measure interest rate risk over multiple interest rate scenarios. Our
parent company ALMC oversees the interest rate risk profile of all of our lines
of business as a whole and is represented on each of the line of business
ALMCs. We incorporate many factors into the financial model, including
prepayment speeds, deposit rate forecasts for non-maturity transaction
accounts, fee income and a comprehensive mark-to-market valuation process. We
reevaluate risk measures and assumptions regularly and enhance modeling tools
as needed. Our commercial banking, home equity lending, and commercial finance lines
of business assume interest rate risk in the form of repricing structure
mismatches between their loans and leases and funding sources. We manage this
risk by adjusting the duration of their interest sensitive liabilities and
through the use of hedging via financial derivatives. 51




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Our mortgage banking line of business assumes interest rate risk by
entering into commitments to extend loans to borrowers at a fixed rate for a
limited period of time. We hold closed loans only temporarily until a pool is
formed and sold in a securitization or under a flow sale arrangement. To
mitigate the risk that interest rates will rise between loan origination and
sale, the mortgage bank buys commitments to deliver loans at a fixed price.
Interest rate risk also exists for the mortgage pipeline period, which is the
period starting when a rate lock commitment is made and ending at the time a
loan originates or the rate lock expires. To mitigate this risk, the mortgage
bank also buys commitments to deliver loans at a fixed rate for a portion of
our pipeline. Our mortgage, commercial banking and home equity lending lines of business
also are exposed to the risk that interest rates will decline, increasing
prepayment speeds on loans and decreasing the value of servicing assets and
residual interests. Some offsets to these exposures exist in the form of
strong production operations, selective sales of servicing rights, match-funded
asset-backed securities sales and the use of financial instruments to manage
the economic performance of the assets. Since there are accounting timing
differences between the recognition of gains or losses on financial derivatives
and the realization of economic gains or losses on certain offsetting exposures
(e.g., strong production operations), our decisions on the degree to which we
manage risk with derivative instruments to insulate against short-term price
volatility depends on a variety of factors, including:  
    
    the type of risk we are trying to mitigate;
    
    offsetting factors elsewhere in the Corporation;
    
    the level of current capital above our target minimums;
    
    time remaining in the quarter (i.e., days until quarter end);
    
    current level of derivative gain or loss relative to accounting and economic basis;
    
    basis risk: the degree to which the interest rates underlying our
derivative instruments might not move parallel to the interest rate
driving our asset valuation; and
    
    convexity: the degree to which asset values, or risk management
derivative instrument values, do not change in a linear fashion as
interest rates change. This strategy may, at times, result in variability in quarterly results
that are not reflective of underlying trends for the Corporation. The following tables reflect our estimate of the present value of interest
sensitive assets, liabilities, and off-balance sheet items at September 30,
2004. In addition to showing the estimated fair market value at current rates,
they also provide estimates of the fair market values of interest sensitive
items based upon a hypothetical instantaneous move both up and down 100 and 200
basis points in the entire yield curve. The first table is an economic analysis showing the present value impact
of changes in interest rates, assuming a comprehensive mark-to-market
environment. The second table is an accounting analysis showing the same net
present value impact, adjusted for expected GAAP treatment. Neither analysis
takes into account the book values of the noninterest sensitive assets and
liabilities (such as cash, accounts receivable, and fixed assets), the values
of which are not directly determined by interest rates. The analyses are based on discounted cash flows over the remaining
estimated lives of the financial instruments. The interest rate sensitivities
apply only to transactions booked as of September 30, 2004, although certain
accounts are normalized whereby the three- or six-month average balance is
included rather than the quarter-end balance in order to avoid having the
analysis skewed by a significant increase or decrease to an account balance at
quarter end. The net asset value sensitivities do not necessarily represent the changes
in the lines of business net asset value that would actually occur under the
given interest rate scenarios, as sensitivities do not reflect changes in value
of the companies as a going concern, nor consider potential rebalancing or
other hedging actions that might be taken in the future under asset/liability
management as interest rates change. Specifically, the volume of derivative contracts entered into to manage
the risk of mortgage servicing rights (MSRs) fluctuates from quarter to quarter and within a given quarter, depending upon market
conditions, the size of our MSR portfolio and various additional factors. We
monitor derivative positions frequently and rebalance them as needed.
Therefore, our derivative positions, shown in the table below as of September
30, 2004, may or may not be representative of our risk position during the
succeeding quarter. Additionally, it is unlikely that the volume of derivative
positions would remain constant over large fluctuations in interest 52




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rates,
although the tables below assume they do. MSR risk management derivative
contracts appear under the category Interest Sensitive Financial Derivatives
in the tables below. Economic Value Change Method Present Value at September 30, 2004Change in Interest Rates of:-2%
    
    -1%
    
    Current
    
    +1%
    
    +2%(In Thousands)Interest Sensitive AssetsLoans and other assets
    
    $
    3,710,679
    
    
    $
    3,672,049
    
    
    $
    3,634,052
    
    
    $
    3,596,728
    
    
    $
    3,562,703Loans held for sale
    
    
    984,586
    
    
    
    980,254
    
    
    
    973,226
    
    
    
    965,319
    
    
    
    957,293Mortgage servicing rights
    
    
    196,056
    
    
    
    251,839
    
    
    
    400,843
    
    
    
    539,330
    
    
    
    605,300Residual interests
    
    
    78,951
    
    
    
    75,729
    
    
    
    70,968
    
    
    
    66,492
    
    
    
    62,348Interest sensitive financial derivatives
    
    
    23,679
    
    
    
    35,230
    
    
    
    19,528
    
    
    
    2,801
    
    
    
    5,598Total interest sensitive assets
    
    
    4,993,951
    
    
    
    5,015,101
    
    
    
    5,098,617
    
    
    
    5,170,670
    
    
    
    5,193,242Interest Sensitive LiabilitiesDeposits
    
    
    (3,498,598
    )
    
    
    (3,474,033
    )
    
    
    (3,456,540
    )
    
    
    (3,440,734
    )
    
    
    (3,426,494
    )Short-term borrowings (1)
    
    
    (261,816
    )
    
    
    (261,652
    )
    
    
    (261,480
    )
    
    
    (261,311
    )
    
    
    (261,142
    )Long-term debt
    
    
    (812,874
    )
    
    
    (805,525
    )
    
    
    (791,479
    )
    
    
    (776,006
    )
    
    
    (760,790
    )Total interest sensitive liabilities
    
    
    (4,573,288
    )
    
    
    (4,541,210
    )
    
    
    (4,509,499
    )
    
    
    (4,478,051
    )
    
    
    (4,448,426
    )Net market value as of September 30, 2004
    
    $
    420,663
    
    
    $
    473,891
    
    
    $
    589,118
    
    
    $
    692,619
    
    
    $
    744,816Change from current
    
    $
    (168,455
    )
    
    $
    (115,227
    )
    
    $
    
    
    
    $
    103,501
    
    
    $
    155,698Net market value as of June 30, 2004
    
    $
    502,435
    
    
    $
    512,973
    
    
    $
    610,428
    
    
    $
    696,300
    
    
    $
    729,752Potential change
    
    $
    (107,993
    )
    
    $
    (97,455
    )
    
    $
    
    
    
    $
    85,872
    
    
    $
    119,324
   (1)
    
    Includes certain debt which is categorized as collateralized borrowings in other sections of this document GAAP-Based Value Change Method Present Value at September 30, 2004Change in Interest Rates of:-2%
    
    -1%
    
    Current
    
    +1%
    
    +2%(In Thousands)Interest Sensitive AssetsLoans and other assets (1)
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    Loans held for sale
    
    
    971,357
    
    
    
    971,357
    
    
    
    971,357
    
    
    
    963,450
    
    
    
    955,424Mortgage servicing rights
    
    
    191,560
    
    
    
    246,579
    
    
    
    389,171
    
    
    
    418,482
    
    
    
    426,902Residual interests
    
    
    78,951
    
    
    
    75,729
    
    
    
    70,968
    
    
    
    66,492
    
    
    
    62,348Interest sensitive financial derivatives
    
    
    23,679
    
    
    
    35,230
    
    
    
    19,528
    
    
    
    2,801
    
    
    
    5,598Total interest sensitive assets
    
    
    1,265,547
    
    
    
    1,328,895
    
    
    
    1,451,024
    
    
    
    1,451,225
    
    
    
    1,450,272Interest Sensitive LiabilitiesDeposits (1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Short-term borrowings (1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Long-term debt (1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total interest sensitive liabilities (1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net market value as of September 30, 2004
    
    $
    1,265,547
    
    
    $
    1,328,895
    
    
    $
    1,451,024
    
    
    $
    1,451,225
    
    
    $
    1,450,272Potential change
    
    $
    (185,477
    )
    
    $
    (122,129
    )
    
    $
    
    
    
    $
    201
    
    
    $
    (752
    )Net market value as of June 30, 2004
    
    $
    1,551,649
    
    
    $
    1,564,401
    
    
    $
    1,619,926
    
    
    $
    1,614,726
    
    
    $
    1,602,217Potential change
    
    $
    (68,277
    )
    
    $
    (55,525
    )
    
    $
    
    
    
    $
    (5,200
    )
    
    $
    (17,709
    )
   (1)
    
    Value does not change in GAAP presentation 53




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Operational Risk Operational risk is the risk of loss resulting from inadequate or failed
internal processes, people and systems or from external events. Irwin
Financial, like other financial services organizations, is exposed to a variety
of operational risks. These risks include regulatory, reputational and legal
risks, as well as the potential for processing errors, internal or external
fraud, failure of computer systems, and external events that are beyond the
control of the Corporation, such as natural disasters. Our Board of Directors has ultimate accountability for the level of
operational risk assumed by us. The Board guides management by approving our
business strategy and significant policies. Our management and Board have also
established and continue to improve a control environment that encourages a
high degree of awareness and proactivity in alerting senior management and the
Board to potential control issues on a timely basis. The Board has directed that primary responsibility for the management of
operational risk rests with the managers of our business units, who are
responsible for establishing and maintaining internal control procedures that
are appropriate for their operations. In 2002, we started implementing a
multi-year program to provide a more integrated firm-wide approach for the
identification, measurement, monitoring and mitigation of operational risk. As
of May 2004, the enterprise-wide operational risk oversight function reports to
the Chief Risk Officer, who in turn reports to the Audit and Risk Management
Committee of our Board of Directors and chairs our Enterprise-Wide Risk
Management Committee. We recently established an enterprise-wide compliance
oversight function to devote increased attention and resources to banking
regulatory compliance as we have grown more complex and as our home equity,
commercial finance and mortgage banking businesses are now all being conducted
under Irwin Union Bank and Trust Company. The compliance oversight function
also reports to our Chief Risk Officer. We have developed Risk and Control
Summaries (RACS) for our key business processes. Line of business and parent
company managers use the RACS to assist in identifying operational and other
risks for the purpose of monitoring and strengthening internal and disclosure
controls. Our Chief Executive Officer, Chief Financial Officer and Board of
Directors, as well as the Boards of our subsidiaries, use the RACS to assist in
overseeing and assessing the adequacy of our internal and disclosure controls. The financial services business is highly regulated. Failure to comply
with these regulations could result in substantial monetary or other damages
that could be material to our financial position. Statutes and regulations may
change in the future. We cannot predict what effect these changes, if made,
will have on our operations. It should be noted that the supervision,
regulation and examination of banks, thrifts and mortgage companies by
regulatory agencies are intended primarily for the protection of depositors and
other customers rather than shareholders of these institutions. We are registered as a bank holding company with the Board of Governors of
the Federal Reserve System under the Bank Holding Company Act of 1956, as
amended, and the related regulations. We are subject to regulation, supervision
and examination by the Federal Reserve, and as part of this process we must
file reports and additional information with the Federal Reserve. The
regulation, supervision and examinations occur at the local, state and federal
levels and involve, but are not limited to minimum capital requirements,
consumer protection, community reinvestment, and deposit insurance. Off-Balance Sheet Instruments In the normal course of our business as a provider of financial services,
we are party to certain financial instruments with off-balance sheet risk to
meet the financial needs of our customers. These financial instruments include
loan commitments and standby letters of credit. Those instruments involve, to
varying degrees, elements of credit and interest rate risk in excess of the
amounts recognized on the consolidated balance sheet. Our exposure to credit loss, in the form of nonperformance by the
counterparty on commitments to extend credit and standby letters of credit, is
represented by the contractual amount of those instruments. Collateral pledged
for standby letters of credit and commitments varies but may include accounts
receivable; inventory; property, plant, and equipment; and residential real
estate. Total outstanding commitments to extend credit at September 30, 2004
and December 31, 2003, respectively, were $587.5 million and $546.5 million. We
had $32.0 million and $30.8 million in irrevocable standby letters of credit
outstanding at September 30, 2004 and December 31, 2003, respectively. 54




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Derivative Financial Instruments Financial derivatives are used as part of the overall asset/liability risk
management process. We use certain derivative instruments that do not qualify
for hedge accounting treatment under SFAS 133. These derivatives are
classified as Other assets and Other liabilities and marked to market on
the income statement. While we do not seek GAAP hedge accounting treatment for
the assets that these instruments are hedging, the economic purpose of these
instruments is to manage the risk inherent in existing exposures to either
interest rate risk or foreign currency risk. We entered into an interest rate swap that has a notional amount (which
does not represent the amount at risk) of $25 million as of September 30, 2004.
Under the terms of the swap agreement, we receive a fixed rate of interest and
pay a floating rate of interest based upon one-month LIBOR. We recognized a
loss of $0.1 million included in derivative gains (losses) during the nine
month period ended September 30, 2004 related to this swap. By receiving a
fixed rate of interest and paying a floating rate on the swap, we are
converting the economics of a $25 million fixed rate funding source into a
floating rate funding source. Additionally, on September 29, 2004, we entered
into an interest rate swap that will meet the criteria for the application of
SFAS 133 hedge treatment accounting. This swap has a notional amount (which
does not represent the amount of risk) of $10 million to hedge a fixed rate
certificate of deposit. Under the terms of the swap agreement, we receive a
fixed rate of interest and pay a floating rate of interest based upon
three-month LIBOR. We enter into forward contracts to protect against interest rate
fluctuations from the date of mortgage loan commitment until the loans are
sold. A portion of the transactions hedging the closed mortgage loans qualifies
for hedge accounting treatment under SFAS 133. The notional amount of our
forward contracts (which does not represent the amount at risk) totaled $1.3
billion at September 30, 2004. The closed mortgage loans hedged by forward
contracts qualify for hedge accounting treatment under SFAS 133. The basis of
the hedged closed loans is adjusted for change in value associated with the
risk being hedged. We value closed loan contracts at period end based upon the
current secondary market value of securities with similar characteristics. The
unrealized gain on our forward contracts at September 30, 2004 was $1.3 million
and the hedge ineffectiveness year to date was a loss of $2.1 million. The
effect of these hedging activities was recorded through earnings as a component
of Gain from sale of loans. We enter into commitments to originate loans whereby the interest rate on
the loan is determined prior to funding (rate lock commitments). Rate lock
commitments on loans intended to be sold are considered to be derivatives. We
record changes in the fair value of these commitments based upon the current
secondary market value of securities with similar characteristics. A year to
date net decrease in fair value of these derivatives totaling $5.1 million was
recorded in Gain from sale of loans. At September 30, 2004, we had a notional
amount of rate lock commitments outstanding totaling $1.3 billion with a fair
value of $2.0 million. Notional amounts do not represent the amount of risk. Our commercial finance line of business delivered fixed rate leases into
conduits that fund them with floating rate commercial paper, which creates an
interest rate risk mismatch.  
    
    In two instances, this funding mismatch is lessened by a combination
of amortizing interest rate caps and Eurodollar futures contracts. The
interest rate caps have a strike price of 5% and provide protection
against a large increase in short-term interest rates. As of September
30, 2004, the notional value and year-to-date loss on the interest rate
caps were $30.7 million and $40
thousand, respectively. As of September 30, 2004, the total notional
amount and year-to-date loss on the Eurodollar futures were $120.0 million
and $47 thousand, respectively.
    
    Beginning in the fourth quarter of 2003, on several occasions we have
delivered fixed rate leases into a second commercial paper conduit.
Although the leases and funding were in Canadian dollars (CAD), the
interest rate mismatch is similar in nature to that described above. To
lessen the repricing mismatch between fixed rate CAD-denominated leases
and floating rate CAD commercial paper, a series of four amortizing CAD
interest rate swaps have been executed, although Irwin is only a
counterparty on three of the swaps. The fourth swap is between the
commercial paper conduit and an outside party, but affects the conduit
funding cost that is charged to Irwin. For the first of the three swaps
on Irwins books, we pay a fixed rate of interest and receive a floating
rate. For the second and third swaps, we pay a floating rate of
interest and receive a fixed rate. The U.S. dollar-equivalents of the
CAD-based notional and year-to-date losses on these swaps at September
30, 2004 were $188.6 million and $0.5 million, respectively. 55




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Certain of our home equity fixed rate residual interests are funded with
floating rate liabilities. Starting in the first quarter of 2004, to manage
such mismatches we began entering into Eurodollar futures contracts. The
original positions taken are typically rebalanced quarterly. The current
notional value outstanding is $636 million with expiration dates ranging from
December 2004 through September 2006. As of September 30, 2004, the fair value
and year-to-date gain recorded on these contracts were $0.2 million and $0.5
million, respectively. Our home equity line of business originates loans that it regularly sells
or securitizes. In the second quarter of 2004, we entered into two swaption
agreements with a combined notional value of $195 million to hedge economically
the value of a portion of our fixed rate home equity loans. The instrument
underlying both swaptions was the 3-year swap. These swaptions were not
exercised and expired in the third quarter of 2004 with a cumulative net loss
of $0.5 million, of which $0.2 million was recognized in the third quarter. In connection with certain of our whole loan servicing retained second
mortgage sales we have the opportunity to earn an additional incentive
servicing fee (ISF) in the future. The whole loan sales have been to firms,
(the buyers) who securitize the loans and contract with us to service the
loans. We recognize a mortgage servicing asset or liability for these
contracts. As a part of the buyers securitizations, the buyers issue an
Incentive Servicing Agreement to us as Master Servicer. Once a pre-established
return for the certificate holders has been met, the ISF provides potential
cash payments to us in the event certain structure-specific loan credit and
servicing performance metrics are met. We have characterized these contracts
as derivative instruments. Included in Derivative gains or losses for the
nine months ended September 30, 2004 was a $3.8 million gain related to these
incentive servicing fees based upon actual and projected performance of the
underlying pools of loans. Of the $3.8 million recognized during the year,
$0.9 million was the result of cash collections and $2.9 million represented
the projected value of future cash payments, present valued using a discount
rate of 30%. The pool of loans which we service underlying the derivative
contract we valued was $115.2 million. In total, we have sold $1.1 billion in
loans for which we hold such derivative contracts. Our accounting policy is to
recognize a derivative asset on a mark-to-market basis at such time that the
credit and prepayment performance models we use for valuing like pools of loans
indicate that we are likely to receive cash payments on the derivatives. We
use assumptions to value the ISFs that we believe market participants would use
to value similar assets. As of September 30, 2004, only two of six whole loan
sales with this derivative have met this expected performance trigger. We manage the interest rate risk associated with our mortgage servicing
rights through the use of Eurodollar futures contracts and interest rate
options. The financial instrument underlying the Eurodollar futures contracts
is based on the three-month LIBOR rate. Year to date, we recorded losses of
$4.4 million on these derivatives. Both the futures contracts and options were
marked-to-market and included in Other assets with changes in value recorded
in the consolidated income statements as Derivative gains or losses. At
September 30, 2004, we held open swaption positions with a notional value
(which does not represent the amount at risk) totaling $5.0 billion, with a
final maturity of October 1, 2004. This position was settled on October 1 at a
loss due to an increase in interest rates that day. Year to date, we recorded
gains on swaptions, including premiums paid, totaling $27.5 million. The size
and mix of these positions change during the year, so period-end positions may
not be indicative of our net risk exposure throughout the year. Notional
amounts do not represent the amount at risk. We own foreign currency forward contracts to protect the U.S. dollar value
of intercompany loans made to Onset Capital Corporation that are denominated in Canadian dollars. We had a notional amount
of $38 million in forward contracts outstanding as of September 30, 2004. Year
to date, we recognized losses on these contracts of $1.4 million. These
contracts are marked-to-market with gains and losses included in Derivative
gains or losses on the consolidated income statements. The foreign currency
transaction gain on the intercompany loans was $0.4 million for the nine months
ended September 30, 2004. 
 Item 3. Quantitative and Qualitative Disclosures about Market Risk. The quantitative and qualitative disclosures about market risk are
reported in the Interest Rate Risk section of Item 2, Managements Discussion
and Analysis of Financial Condition and Results of Operations found on pages 51
through 53. 56




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Item 4. Controls and Procedures. In the ordinary course of internal process and control review by
management and internal and external audit, we will periodically identify
processes and controls that need improvement. When these are identified, we
have procedures in place to bring the matter to the attention of the
appropriate management and Board committees and to put into place project plans
to address the improvement opportunity. As of September 30, 2004, we performed an evaluation under the supervision
and with the participation of our management, including the Chief Executive
Officer and the Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures (as defined in Exchange Act
Rules 13a-15(e)). Based on that evaluation, our management, including the CEO
and CFO, concluded that our disclosure controls and procedures were effective
as of September 30, 2004, to ensure that material information relating to the
Corporation would be made known to them by others within the Corporation. Based on an evaluation by management of our internal control over
financial reporting, performed with the participation of our Chief Executive
Officer and Chief Financial Officer, there have been no changes during the
third quarter of 2004 in our internal control over financial reporting that
have materially affected or are reasonably likely to materially affect the
Corporations internal control over financial reporting. 57




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PART II. Other Information. 
 Item 1. Legal Proceedings Since the time of filing our report on Form 10-Q for the period ended June
30, 2004, we experienced developments as noted in the litigation described
below: United States ex rel. Paranich v. Sorgnard et al. As described in our Quarterly Report on Form 10-Q for the period ended
June 30, 2004, we and Irwin Leasing Corporation (formerly Affiliated Capital
Corp.), our indirect subsidiary, and Irwin Equipment Finance Corporation, our
direct subsidiary (together, the Irwin companies), were served as defendants in
January 2001 in an action in the United States District Court for the Middle
District of Pennsylvania. The suit alleges that a manufacturer/importer of
certain medical devices (Matrix Biokinetics, Inc. and others) made
misrepresentations to health care professionals and to government officials to
improperly obtain Medicare reimbursement for treatments using the devices, and
that the Irwin companies, through Affiliated Capitals financing activities,
aided in making the alleged misrepresentations. On August 10, 2001, the court
dismissed Irwin Financial and Irwin Equipment Finance as defendants in the
suit. The Irwin companies prevailed on a motion for summary judgment in the
district court on October 8, 2003, and the plaintiff appealed. The Court of
Appeals for the Third Circuit heard oral argument on plaintiffs appeal on
September 27, 2004. We cannot predict whether we will prevail on appeal and
have not established any reserves for this case. Stamper v. A Home of Your Own, Inc. As described in our Quarterly Reports on Form 10-Q for the periods ended
March, 31, 2004 and June 30, 2004, on January 25, 2002, a jury in this case
awarded the plaintiffs damages of $1.434 million, jointly and severally,
against defendants, including our indirect subsidiary, Irwin Mortgage
Corporation. The case, which was filed in August 1998 in the Baltimore,
Maryland, City Circuit Court, alleged that a home rehabilitation company and
its principal defrauded the plaintiffs by selling them defective homes at
inflated prices and that Irwin Mortgage, which provided the plaintiff borrowers
with mortgage loans, participated in the fraud. Irwin Mortgage filed an appeal
with the Maryland Court of Special Appeals, and on February 27, 2004, the Court
of Special Appeals ruled against Irwin Mortgage, remanding the case to the
trial court for a partial retrial on whether the plaintiffs are entitled to
punitive damages. The Maryland Court of Appeals accepted Irwin Mortgages
appeal and oral argument is scheduled for November 4, 2004. We have reserved
for this case based upon the advice of our legal counsel. Gutierrez v. Irwin Mortgage Corporation As described in our Quarterly Report on Form 10-Q for the period ending
March 31, 1004, in April 2003, our indirect subsidiary, Irwin Mortgage
Corporation, was named as a defendant in an action filed in the District Court
of Nueces County, Texas. The complaint alleges that Irwin Mortgage improperly
charged borrowers fees for the services of third-party vendors in excess of
Irwin Mortgages costs, and charged certain fees to which plaintiffs did not
agree. The plaintiffs seek to certify a class consisting of similarly situated
borrowers. In August 2004, the plaintiffs amended their complaint to remove
the allegations that Irwin Mortgage charged excess fees. We are unable at this
time to form a reasonable estimate of the amount of potential loss, if any,
that Irwin Mortgage could suffer. We have not established any reserves for
this case. Cohens v. Inland Mortgage Company As described in our Quarterly Report on Form 10-Q for the period ended
June 30, 2004, our indirect subsidiary, Irwin Mortgage Corporation (formerly
Inland Mortgage Corporation), was named as a defendant, along with others, in
an action filed in the Supreme Court of New York, County of Kings in October
2003. The plaintiffs, a mother and two children, allege they were injured from
lead contamination while living in premises allegedly owned by the defendants.
The suit seeks approximately $41,000,000 in damages and alleges negligence,
breach of implied warranty of habitability and fitness for intended use, loss
of services and the cost of medical treatment. Because the case is in the
early stages of litigation, we are unable at this time to form a reasonable
estimate of the amount of potential loss, if any, that Irwin Mortgage could
suffer. The parties agreed to delay the filing of an answer in this case until
December 10, 2004. We are attempting to obtain a voluntary dismissal based on
our belief that there is insufficient nexus between the cause of the alleged
injuries and Irwin Mortgage. We have not established any reserves for this
case. 58




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Litigation in Connection with Loans Purchased from Community Bank of Northern
Virginia Our subsidiary, Irwin Union Bank and Trust Company, is a defendant in
Hobson v. Irwin Union Bank and Trust Company,an action filed on July 30, 2004
in the United States District Court for the Northern District of Alabama in
connection with loans Irwin Union Bank purchased from Community Bank of
Northern Virginia (Community). As amended on August 30, 2004, the complaint,
seeks certification of both a plaintiffs and a defendants class and alleges
that defendants violated the Truth-in-Lending Act (TILA), the Home Ownership
and Equity Protection Act (HOEPA), the Residential Settlement Procedures Act
(RESPA) and the Racketeer Influenced and Corrupt Organizations Act (RICO). The plaintiffs claim that Community was allegedly engaged in a lending
arrangement involving the use of its charter by certain third parties who
charged high fees that were not representative of the services rendered and not
properly disclosed as to the amount or recipient of the fees. The loans in
question are allegedly high cost/high interest loans under Section 32 of HOEPA.
Plaintiffs allege that Irwin was aware of Communitys alleged arrangement when
Irwin purchased the loans. Plaintiffs also allege illegal kickbacks and fee
splitting and Irwins participation in a RICO enterprise and conspiracy related
to the loans. Because Irwin bought the loans from Community, the plaintiffs
are alleging that Irwin has assignee liability under HOEPA. The putative plaintiff class in Hobsonexcludes borrower plaintiffs who
are members of a class certified in another case  In re Community Bank of
Northern Virginia and Guaranty National Bank Second Mortgage Loan Litigation, a
class action in Pennsylvania federal court that is a consolidation of cases
filed against Community, Residential Funding Corporation (a subsidiary of
GMAC), and Guaranty National Bank of Tallahassee, with allegations similar to
those in Hobson. If the Hobsonplaintiffs are successful in establishing a class and
prevailing at trial, possible damages could include TILA remedies, such as
rescission, actual damages, statutory damages not to exceed the lesser of
$500,000 or 1% of the net worth of the creditor, and attorneys fees and costs.
Possible HOEPA remedies include the refunding of all closing costs, finance
charges and fees paid by the borrower. RESPA remedies could include treble
damages for each service for which there was an unearned fee, kickback or
overvalued service. RICO remedies could include treble plaintiffs actually
proved damages. Under TILA, HOEPA, RESPA and RICO, statutory remedies include
recovery of attorneys fees and costs. In addition, plaintiffs are seeking
unspecified punitive damages. Under the loan purchase agreement between Irwin
and Community, Irwin has the right to demand repurchase of the mortgage loans
and indemnification from Community for these claims. On October 12, 2004, we
filed a motion to dismiss the claims as untimely filed and substantively
defective. Irwin Union Bank and Trust Company is also a defendant, along with
Community, in two individual actions filed on June 9, 2004 in the Circuit Court
of Frederick County, Maryland: Chatfield et al. v. Community Bank of Northern
Virginia, et al.,and Ransom et al. v. Community Bank of Northern Virginia, et
al., involving mortgage loans Irwin Union Bank and Trust purchased from
Community. On July 16, 2004, both suits were removed to the United States
District Court for the District of Maryland. The complaints allege that the
plaintiffs did not receive disclosures required under HOEPA and TILA. The
lawsuits also allege violations of Maryland law because the plaintiffs were
allegedly charged or contracted for a prepayment penalty fee. Irwin believes
the plaintiffs received the required disclosures and that Community, a
Virginia-chartered bank, was permitted to charge prepayment fees to Maryland
borrowers. Under the loan purchase agreements between Irwin and Community,
Irwin has the right to seek indemnification from Community for the claims in
these lawsuits. On September 17, 2004, Irwin made demand for indemnification and a defense
as to all three lawsuits. Community denied this request as premature. We have
established a reserve for the Community litigation based upon the advice of
legal counsel. Litigation Related to NorVergence, Inc. Irwin Business Finance, our indirect subsidiary, is involved on a national
basis in equipment leasing finance and maintains a diverse portfolio of leases,
including leases in the telecommunications field. A portion of Irwins
telecommunications portfolio involves leases of equipment acquired from
NorVergence, Inc., a New Jersey-based telecommunications company. After
assigning leases to Irwin and other lenders, NorVergence filed for protection
in the United States Bankruptcy Court and is currently in dissolution. The
sudden failure of NorVergence left many of its customers without
telecommunications services and angry with representations they claim were made
by NorVergence that remain unfulfilled. Complaints by former NorVergence customers have led to investigations by
the Attorneys General of several states and the filing of a number of lawsuits.
Irwin Business Finance has been named as a defendant in several lawsuits
connected with NorVergence. Exquisite Caterers, LLC et al. v. Popular Leasing
et al.is a lawsuit filed in the Superior Court of New Jersey, Monmouth County,
and amended to include Irwin Business Finance and others on September 1, 2004.
The plaintiffs seek certification of a class of persons 59




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who leased network computer equipment from NorVergence, whose leases were
assigned to defendants. The complaint alleges that NorVergence misrepresented
the services and equipment provided, that the lessees were defrauded and the
lease agreements should not be enforced. The action alleges violations of,
among other things, the New Jersey Consumer Fraud Act; the New Jersey
Truth-in-Consumer Contract, Warranty, and Notice Act; the FTC Holder Rule; the
FTC Act; and breach of contract and implied warranties. The plaintiffs seek
compensatory, statutory and punitive damages, and injunctive relief, including
rescission of the leases and cessation of collections. Irwin Business Finance is also a defendant, along with other lenders, in
Delanco Board of Education et al. v. IFC Credit Corporation,a lawsuit filed in
the Superior Court of New Jersey, Essex County, Chancery Division, in October
2004 in connection with leases assigned to the lenders by NorVergence. (IFC
Credit Corp is not affiliated with Irwin Financial Corporation or Irwin
Business Finance). The suit involves more than one thousand plaintiffs and
alleges fraud, misrepresentation and violations of the New Jersey Consumer
Fraud law based on alleged conduct similar to that in Exquisite Caterers, with
the addition of a count under the New Jersey RICO statute. Plaintiffs also
allege unjust enrichment and conversion and seek rescission of the leases plus
punitive and other damages. Irwin Business Finance was also named as a defendant, along with other
lenders, in Sterling Asset & Equity Corp. et al. v. Preferred Capital, Inc. et
al., an action filed in the United States District Court for the Southern
District of Florida in October 2004, seeking class certification on behalf of
Florida persons or entities who leased equipment from NorVergence and whose
agreement was assigned to one of the named lenders. The plaintiffs allege that
NorVergence engaged in false, misleading and deceptive sales and billing
practices. The complaint alleges violations of the FTC Holder Rule and the
Florida Deceptive and Unfair Trade Practices Act, and breach of contract and
warranties. Plaintiffs seek, among other relief, compensatory and punitive
damages, injunctive and/or declaratory relief prohibiting enforcement of the
leases, rescission, return of payments, interest, attorneys fees and costs. In addition, Irwin Business Finance has been named in several individual
lawsuits involving equipment and services leased from NorVergence, where the
lease was assigned to Irwin Business Finance. The suits allege fraud and
nonfunctional equipment and services. The plaintiffs request rescission,
restitution and/or reformation of the leases and/or a declaration of
unenforceability. C&W Services v. Irwin Business Financewas filed in July
2004 in the District Court of Dallas County, Texas. Thompson v. Irwin Business
Financewas filed in August 2004 in the Superior Court of California, County of
San Diego. Palumbo v. Irwin Business Financewas filed in September 2004 in
the Superior Court of Massachusetts. ARC Abatement, Inc. v. Irwin Business
Financewas filed in October 2004 in the District Court of Dallas County,
Texas. In connection with investigations by various state Attorneys General,
Irwin Business Finance and other lenders were asked to produce information
about their relationships with NorVergence and to refrain from enforcing
NorVergence leases. On October 21, 2004, the Attorney General of Florida filed
a complaint against twelve lenders, including Irwin Business Finance, in the
Circuit Court of the Second Judicial Circuit, Leon County, Florida (State of
Florida v. Commerce Commercial Leasing, LLC et al.)The complaint alleges that
the agreements assigned by NorVergence to the lenders are unconscionable under
the Florida Deceptive and Unfair Trade Practices Act. The suit seeks to
prohibit collection activities by the lenders and asks for repayment of
revenues, rescission of the agreements, restitution, recovery of actual
damages, and civil money penalties. We are unable to form a reasonable estimate of potential loss, if any,
that Irwin Business Finance could suffer. We have established reserves we
believe are appropriate in connection with credit risk on NorVergence-related
leases, but have not established additional reserves in connection with
NorVergence-related litigation. We and our subsidiaries are from time to time engaged in various matters
of litigation, including the matters described above, and other assertions of
improper or fraudulent loan practices or lending violations, and other matters,
and we have a number of unresolved claims pending. In addition, as part of the
ordinary course of business, we and our subsidiaries are parties to litigation
involving claims to the ownership of funds in particular accounts, the
collection of delinquent accounts, challenges to security interests in
collateral, and foreclosure interests, that is incidental to our regular
business activities. While the ultimate liability with respect to these other
litigation matters and claims cannot be determined at this time, we believe
that damages, if any, and other amounts relating to pending matters are not
likely to be material to our consolidated financial position or results of
operations, except as described above. Reserves are established for these
various matters of litigation, when appropriate, based upon the advice of legal
counsel. 60




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Item 6. Exhibits. ExhibitNumber
    
    Description of Exhibit3.1
    
    Restated Articles of Incorporation of Irwin Financial Corporation.
(Incorporated by reference to Exhibit 3(a) to Form 10-K Report for
year ended December 31, 2000, File No. 0-06835.)3.2
    
    Articles of Amendment to Restated Articles of Incorporation of
Irwin Financial Corporation dated March 2, 2001. (Incorporated by
reference to Exhibit 3(b) to Form 10-K Report for year ended
December 31, 2000, File No. 0-06835.)3.3
    
    Code of By-laws of Irwin Financial Corporation, as amended, dated
April 30, 2004.(Incorporated by reference to Exhibit 3.3 to Form
10-Q Report for the quarter ended June 30, 2004.)4.1
    
    Specimen Common Stock Certificate. (Incorporated by reference to
Exhibit 4(a) to Form 10-K report for year ended December 31, 1994,
File No. 0-06835.)4.2
    
    Certain instruments defining the rights of the holders of
long-term debt of Irwin Financial Corporation and certain of its
subsidiaries, none of which authorize a total amount of
indebtedness in excess of 10% of the total assets of the
Corporation and its subsidiaries on a consolidated basis, have not
been filed as Exhibits. The Corporation hereby agrees to furnish a
copy of any of these agreements to the Commission upon request.4.3
    
    Rights Agreement, dated as of March 1, 2001, between Irwin
Financial Corporation and Irwin Union Bank and Trust.
(Incorporated by reference to Exhibit 4.1 to Form 8-A filed March
2, 2001, File No. 0-06835.)4.4
    
    Appointment of Successor Rights Agent dated as of May 11, 2001
between Irwin Financial Corporation and National City Bank.
(Incorporated by reference to Exhibit 4.5 to Form S-8 filed on
September 7, 2001, File No. 333-69156.)10.1
    
    *Amended 1986 Stock Option Plan. (Incorporated by reference to
Exhibit 10(b) to Form 10-K Report for year ended December 31,
1991, File No. 0-06835.)10.2
    
    *Irwin Financial Corporation 1992 Stock Option Plan.
(Incorporated by reference to Exhibit 10(h) to Form 10-K Report
for year ended December 31, 1992, File No. 0-06835.)10.3
    
    *Irwin Financial Corporation 1997 Stock Option Plan. (Incorporated
by reference to Exhibit 10 to Form 10-Q Report for period ended
June 30, 1994, File No. 0-06835.)10.4
    
    *Amendment to Irwin Financial Corporation 1997 Stock Option Plan.
(Incorporated by reference to Exhibit 10(i) to Form 10-Q Report for
period ended June 30, 1997, File No. 0-06835.)10.5
    
    *Irwin Financial Corporation Amended and Restated 2001 Stock Plan
(Incorporated by reference to Exhibit 1 to the Corporations proxy
statement for its 2004 Annual Meeting, filed with the Commission
on March 18, 2004.)10.6
    
    *Amended Irwin Financial Corporation Outside Directors Restricted
Stock Compensation Plan. (Incorporated by reference to Exhibit
10(g) to Form 10-K Report for year ended December 31, 1991, File
No. 0-06835.)10.7
    
    *Irwin Financial Corporation Outside Directors Restricted Stock
Compensation Plan. (Incorporated by reference to Exhibit 10(i) to
Form 10-K Report for year ended December 31, 1995, File No.
0-06835.)
 61




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ExhibitNumber
    
    Description of Exhibit10.8
    
    *Irwin Financial Corporation 1999 Outside Director Restricted
Stock Compensation Plan. (Incorporated by reference to Exhibit 2
to the Corporations proxy statement for its 2004 Annual Meeting,
filed with the Commission on March 18, 2004.)10.9
    
    *Irwin Financial Corporation Employees Stock Purchase Plan.
(Incorporated by reference to Exhibit 10(d) to Form 10-K Report
for year ended December 31, 1991, File No. 0-06835.)10.10
    
    *Employee Stock Purchase Plan II. (Incorporated by reference to
Exhibit 10(f) to Form 10-K Report for year ended December 31,
1994, File No. 0-06835.)10.11
    
    *Employee Stock Purchase Plan III. (Incorporated by reference to
Exhibit 10(a) to Form 10-Q Report for period ended June 30, 1999,
File No. 0-06835.)10.12
    
    *Long-Term Management Performance Plan. (Incorporated by reference
to Exhibit 10(a) to Form 10-K Report for year ended December 31,
1986, File No. 0-06835.)10.13
    
    *Long-Term Incentive Plan-Summary of Terms. (Incorporated by
reference to Exhibit 10(a) to Form 10-K Report for year ended
December 31, 1986, File No. 0-06835.)10.14
    
    *Inland Mortgage Corporation Long-Term Incentive Plan.
(Incorporated by reference to Exhibit 10(j) to Form 10-K Report
for year ended December 31, 1995, File No. 0-06835.)10.15
    
    *Amended and Restated Management Bonus Plan. (Incorporated by
reference to Exhibit 10(a) to Form 10-K Report for year ended
December 31, 1986, File No. 0-06835.)10.16
    
    *Limited Liability Company Agreement of Irwin Ventures LLC.
(Incorporated by reference to Exhibit 10(a) to Form 10-Q/A Report
for period ended March 31, 2001, File No. 0-06835.)10.17
    
    *Limited Liability Company Agreement of Irwin Ventures
Co-Investment Fund LLC, effective as of April 20, 2001.
(Incorporated by reference to Exhibit 10.17 to Form S-1/A filed
February 14, 2002, File No. 333-69586.)10.18
    
    *Irwin Home Equity Corporation Shareholder Agreement and
Amendments. (Incorporated by reference to Exhibit 10(b) to Form
10-Q/A Report for period ended March 31, 2001, File No. 0-06835.)10.19
    
    *Promissory Note dated January 30, 2002 from Elena Delgado to
Irwin Financial Corporation. (Incorporated by reference to Exhibit
10.19 to Form S-1/A filed February 14, 2002, File No. 333-69586.)10.20
    
    *Consumer Pledge Agreement dated January 30, 2002 between Elena
Delgado and Irwin Financial Corporation. (Incorporated by
reference to Exhibit 10.20 to Form S-1/A filed February 14, 2002,
File No. 333-69586.)10.21
    
    *Irwin Financial Corporation Amended and Restated Short Term
Incentive Plan (Incorporated by reference to Exhibit 3 to the
Corporations proxy statement for its 2004 Annual Meeting, filed
with the Commission on March 18, 2004.)10.22
    
    *Irwin Union Bank and Trust Company Amended and Restated Short
Term Incentive Plan (Incorporated by reference to Exhibit 7 to the
Corporations proxy statement for its 2004 Annual Meeting, filed
with the Commission on March 18, 2004.)10.24
    
    *Irwin Mortgage Corporation Amended and Restated Short Term
Incentive Plan. (Incorporated by reference to Exhibit 6 to the
Corporations proxy statement for its 2004 Annual Meeting, filed
with the Commission on March 18, 2004.)
 62




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ExhibitNumber
    
    Description of Exhibit10.25
    
    *Irwin Capital Holdings Short Term Incentive Plan effective
January 1, 2002. (Incorporated by reference to Exhibit 10.25 to
Form 10-Q Report for period ended March 31, 2002, File No.
0-06835.)10.26
    
    *Onset Capital Corporation Employment Agreement. (Incorporated by
reference to Exhibit 10.26 to Form 10-Q Report for period ended
June 30, 2002, File No. 0-06835.)10.27
    
    *Irwin Financial Corporation Restated Supplemental Executive
Retirement Plan for Named Executives. (Incorporated by reference
to Exhibit 10.27 to Form 10-Q Report for period ended June 30,
2002, File No. 0-06835.)10.28
    
    *Irwin Financial Corporation Supplemental Executive Retirement
Plan for Named Executives. (Incorporated by reference to Exhibit
10.28 to Form 10-Q Report for period ended June 30, 2002, File No.
0-06835.)10.29
    
    *Onset Capital Corporation Shareholders Agreement (Incorporated by
reference to Exhibit 10.29 to Form 10-K Report for year ended
December 31, 2002, File No. 0-06835.)10.30
    
    *Irwin Commercial Finance Amended and Restated Short Term
Incentive Plan (Incorporated by reference to Exhibit 4 to the
Corporations proxy statement for its 2004 Annual Meeting, filed
with the Commission on March 18, 2004.)10.31
    
    *Irwin Home Equity Amended and Restated Short Term Incentive Plan
(Incorporated by reference to Exhibit 5 to the Corporations proxy
statement for its 2004 Annual Meeting, filed with the Commission
on March 18, 2004.)11.1
    
    Computation of earnings per share is included in the footnotes to
the financial statements.31.1
    
    Certification of the Chief Executive Officer under Section 302 of
the Sarbanes  Oxley Act of 2002.31.2
    
    Certification of the Chief Financial Officer under Section 302 of
the Sarbanes  Oxley Act of 2002.32.1
    
    Certification of the Chief Executive Officer under Section 906 of
the Sarbanes  Oxley Act of 2002.32.2
    
    Certification of the Chief Financial Officer under Section 906 of
the Sarbanes  Oxley Act of 2002.
   *
    
    Indicates management contract or compensatory plan or arrangement. 63




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. IRWIN FINANCIAL CORPORATIONDATE:October 29, 2004
    
    BY:
    
    /s/ Gregory F. EhlingerGREGORY F. EHLINGERCHIEF FINANCIAL OFFICERBY:
    
    /s/ Jody A. LittrellJODY A. LITTRELLCORPORATE CONTROLLER(Chief Accounting Officer)
 64