Document:

<PAGE>

                                 EXHIBIT 10.1

                        Pooling and Servicing Agreement
                               November 1, 2000
<PAGE>

                      FIRST HORIZON ASSET SECURITIES INC.

                                   Depositor

                      FIRST HORIZON HOME LOAN CORPORATION

                          Seller and Master Servicer

                                      and

                             THE BANK OF NEW YORK,

                                    Trustee

             _____________________________________________________

                        POOLING AND SERVICING AGREEMENT

                         Dated as of November 1, 2000

             _____________________________________________________

               FIRST HORIZON MORTGAGE PASS-THROUGH TRUST 2000-5

               MORTGAGE PASS-THROUGH CERTIFICATES, SERIES 2000-5
<PAGE>

                               TABLE OF CONTENTS
<TABLE>
<CAPTION>
                                                                                                               Page
                                                                                                               ----
<S>                                                                                                            <C>
ARTICLE I - DEFINITIONS......................................................................................     5

ARTICLE II - CONVEYANCE OF MORTGAGE LOANS;
             REPRESENTATIONS AND WARRANTIES..................................................................    33
         SECTION 2.1    Conveyance of Mortgage Loans.........................................................    33
         SECTION 2.2    Acceptance by Trustee of the Mortgage Loans. ........................................    37
         SECTION 2.3    Representations, Warranties and Covenants of the Seller
                        and Master Servicer..................................................................    38
         SECTION 2.4    Representations and Warranties of the Depositor as to
                        the Mortgage Loans...................................................................    40
         SECTION 2.5    Delivery of Opinion of Counsel in Connection with Substitutions......................    41
         SECTION 2.6    Execution and Delivery of Certificates. .............................................    41
         SECTION 2.7    REMIC Matters........................................................................    41
         SECTION 2.8    Covenants of the Master Servicer.....................................................    41

ARTICLE III - ADMINISTRATION AND SERVICING OF MORTGAGE LOANS.................................................    42
         SECTION 3.1    Master Servicer to Service Mortgage Loans. ..........................................    42
         SECTION 3.2    Subservicing; Enforcement of the Obligations of Servicers............................    43
         SECTION 3.3    Rights of the Depositor and the Trustee in Respect of the
                        Master Servicer......................................................................    43
         SECTION 3.4    Trustee to Act as Master Servicer....................................................    44
         SECTION 3.5    Collection of Mortgage Loan Payments; Certificate Account;
                        Distribution Account.................................................................    44
         SECTION 3.6    Collection of Taxes, Assessments and Similar Items; Escrow
                        Accounts.............................................................................    47
         SECTION 3.7    Access to Certain Documentation and Information
                        Regarding the Mortgage Loans.........................................................    47
         SECTION 3.8    Permitted Withdrawals from the Certificate Account and
                        Distribution Account.................................................................    48
         SECTION 3.9    Maintenance of Hazard Insurance; Maintenance of Primary
                        Insurance Policies...................................................................    49
         SECTION 3.10   Enforcement of Due-on-Sale Clauses; Assumption Agreements............................    51
         SECTION 3.11   Realization Upon Defaulted Mortgage Loans; Repurchase of
                        Certain Mortgage Loans...............................................................    52
         SECTION 3.12   Trustee to Cooperate; Release of Mortgage Files......................................    54
         SECTION 3.13   Documents Records and Funds in Possession of Master
                        Servicer to be Held for the Trustee..................................................    55
         SECTION 3.14   Master Servicing Compensation........................................................    55
         SECTION 3.15   Access to Certain Documentation......................................................    56
         SECTION 3.16   Annual Statement as to Compliance....................................................    56
         SECTION 3.17   Annual Independent Public Accountants' Servicing Statement;
                        Financial Statements.................................................................    56
         SECTION 3.18   Errors and Omissions Insurance; Fidelity Bonds. .....................................    57
</TABLE>

                                       i
<PAGE>

<TABLE>
<S>                                                                                                            <C>
ARTICLE IV - DISTRIBUTIONS AND ADVANCES BY THE MASTER SERVICER...............................................    57
         SECTION 4.1    Advances.............................................................................    57
         SECTION 4.2    Priorities of Distribution...........................................................    58
         SECTION 4.3    Method of Distribution.  ............................................................    61
         SECTION 4.4    Allocation of Losses.................................................................    61
         SECTION 4.5    [Reserved]...........................................................................    63
         SECTION 4.6    Monthly Statements to Certificateholders. ...........................................    63

ARTICLE V - THE CERTIFICATES.................................................................................    65
         SECTION 5.1    The Certificates.....................................................................    65
         SECTION 5.2    Certificate Register; Registration of Transfer and
                        Exchange of Certificates.............................................................    66
         SECTION 5.3    Mutilated, Destroyed, Lost or Stolen Certificates. ..................................    70
         SECTION 5.4    Persons Deemed Owners................................................................    70
         SECTION 5.5    Access to List of Certificateholders' Names and Addresses............................    70
         SECTION 5.6    Maintenance of Office or Agency......................................................    71

ARTICLE VI - THE DEPOSITOR AND THE MASTER SERVICER...........................................................    71
         SECTION 6.1    Respective Liabilities of the Depositor and the Master Servicer......................    71
         SECTION 6.2    Merger or Consolidation of the Depositor or the Master Servicer......................    71
         SECTION 6.3    Limitation on Liability of the Depositor, the Seller, the
                        Master Servicer and Others...........................................................    71
         SECTION 6.4    Limitation on Resignation of Master Servicer.........................................    72

ARTICLE VII - DEFAULT........................................................................................    72
         SECTION 7.1    Events of Default. ..................................................................    73
         SECTION 7.2    Trustee to Act; Appointment of Successor.............................................    74
         SECTION 7.3    Notification to Certificateholders...................................................    75

ARTICLE VIII - CONCERNING THE TRUSTEE........................................................................    75
         SECTION 8.1    Duties of Trustee....................................................................    75
         SECTION 8.2    Certain Matters Affecting the Trustee................................................    77
         SECTION 8.3    Trustee Not Liable for Certificates or Mortgage Loans. ..............................    78
         SECTION 8.4    Trustee May Own Certificates.........................................................    78
         SECTION 8.5    Trustee's Fees and Expenses..........................................................    78
         SECTION 8.6    Eligibility Requirements for Trustee. ...............................................    79
         SECTION 8.7    Resignation and Removal of Trustee...................................................    79
         SECTION 8.8    Successor Trustee....................................................................    80
         SECTION 8.9    Merger or Consolidation of Trustee...................................................    81
         SECTION 8.10   Appointment of Co-Trustee or Separate Trustee. ......................................    81
         SECTION 8.11   Tax Matters..........................................................................    82
         SECTION 8.12   Periodic Filings.....................................................................    84

ARTICLE IX - TERMINATION.....................................................................................    84
         SECTION 9.1    Termination upon Liquidation or Purchase of all Mortgage Loans.......................    84
         SECTION 9.2    Final Distribution on the Certificates. .............................................    85
         SECTION 9.3    Additional Termination Requirements. ................................................    86
</TABLE>

                                      ii
<PAGE>

<TABLE>
<S>                                                                                                           <C>
ARTICLE X - [RESERVED]....................................................................................       87

ARTICLE XI - MISCELLANEOUS PROVISIONS.....................................................................       87
         SECTION 11.1    Amendment........................................................................       87
         SECTION 11.2    Recordation of Agreement; Counterparts. .........................................       88
         SECTION 11.3    Governing Law....................................................................       88
         SECTION 11.4    Intention of Parties.............................................................       89
         SECTION 11.5    Notices..........................................................................       90
         SECTION 11.6    Severability of Provisions.......................................................       90
         SECTION 11.7    Assignment.......................................................................       90
         SECTION 11.8    Limitation on Rights of Certificateholders. .....................................       91
         SECTION 11.9    Inspection and Audit Rights......................................................       91
         SECTION 11.10   Certificates Nonassessable and Fully Paid. ......................................       92

                                                     SCHEDULES

   Schedule I-A:      Mortgage Loan Schedule..............................................................    S-I-1
   Schedule I-B       Mortgage Loan Schedule..............................................................    S-I-1
   Schedule II:       Representations and Warranties of the Seller/Master Servicer........................   S-II-1
   Schedule III:      Representations and Warranties as to the Mortgage Loans.............................  S-III-1
   Schedule IV:       Form of Monthly Master Servicer Report..............................................    S-V-1

                                                      EXHIBITS

   Exhibit A:         Form of Senior Certificate..........................................................     A-1
   Exhibit B:         Form of Subordinated Certificate....................................................     B-1
   Exhibit C:         Form of Residual Certificate........................................................     C-1
   Exhibit D:         Form of Reverse of Certificates.....................................................     D-1
   Exhibit E:         Form of Initial Certification.......................................................     E-1
   Exhibit F:         Form of Delay Delivery Certification................................................     F-1
   Exhibit G:         Form of Final Certification of Custodian............................................     G-1
   Exhibit H:         Transfer Affidavit..................................................................     H-1
   Exhibit I:         Form of Transferor Certificate......................................................     I-1
   Exhibit J:         Form of Investment Letter [Non-Rule 144A]...........................................     J-1
   Exhibit K:         Form of Rule 144A Letter............................................................     K-1
   Exhibit L:         Request for Release (for Trustee)...................................................     L-1
   Exhibit M:         Request for Release (Mortgage Loan).................................................     M-1
</TABLE>

                                      iii
<PAGE>

                                                                    EXHIBIT 10.1

     THIS POOLING AND SERVICING AGREEMENT, dated as of November 1, 2000, among
FIRST HORIZON ASSET SECURITIES INC., a Delaware corporation, as depositor (the
"Depositor"), FIRST HORIZON HOME LOAN CORPORATION, a Kansas corporation, as
seller (in such capacity, the "Seller") and as master servicer (in such
capacity, the "Master Servicer"), and THE BANK OF NEW YORK, a banking
corporation organized under the laws of the State of New York, as trustee (the
"Trustee").

                                WITNESSETH THAT

     In consideration of the mutual agreements herein contained, the parties
hereto agree as follows:

                             PRELIMINARY STATEMENT

     The Depositor is the owner of the Trust Fund that is hereby conveyed to the
Trustee in return for the Certificates. The Trust Fund for federal income tax
purposes will consist of a single REMIC. The Certificates will represent the
entire beneficial ownership interest in the Trust Fund. The Regular Certificates
will represent "regular interests" in the REMIC and the Residual Certificates
will represent the sole class of residual interests in the REMIC. The "latest
possible maturity date" for federal income tax purposes of all interests created
hereby will be the Latest Possible Maturity Date.

     The following table sets forth characteristics of the Certificates,
together with the minimum denominations and integral multiples in excess thereof
in which such Classes shall be issuable (except that one Certificate of each
Class of Certificates may be issued in a different amount and, in addition, one
Residual Certificate representing the Tax Matters Person Certificate may be
issued in a different amount):

                 [Remainder of Page Intentionally Left Blank]
<PAGE>

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------
         Class                 Initial Class           Pass-Through           Minimum           Integral Multiples in
      Designation          Certificate Balance             Rate             Denomination          in Excess Minimum
------------------------------------------------------------------------------------------------------------------------
<S>                        <C>                         <C>                  <C>                 <C>
       Class A-1              $132,597,000                7.50%               $  25,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class A-2              $  6,850,000                7.50%               $  25,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class A-3              $ 17,950,000                7.50%               $   1,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class A-4              $ 18,355,000                7.50%               $  25,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class A-R              $        100                7.50%               $     100                   N/A
------------------------------------------------------------------------------------------------------------------------
       Class B-1              $  3,213,000                7.50%               $ 100,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class B-2              $  1,928,000                7.50%               $ 100,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class B-3              $    826,000                7.50%               $ 100,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class B-4              $    826,000                7.50%               $ 100,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class B-5              $    459,000                7.50%               $ 100,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
       Class B-6              $ 551,314.16                7.50%               $ 100,000                 $ 1,000
------------------------------------------------------------------------------------------------------------------------
</TABLE>

_______________________

Accretion Directed
Certificates                 The Class A-1 Certificates.

Accrual Certificates         The Class A-2 Certificates.

Accrual Components           None.

Book-Entry Certificates      All Classes of Certificates other than the Physical
                             Certificates.

Component Certificates       None.

Components                   For purposes of calculating distributions, the
                             Component Certificates will be comprised of
                             multiple payment components having the
                             designations, Initial Component Balances and Pass-
                             Through Rates set forth below:

<TABLE>
<CAPTION>
                                            Initial
                                           Component
                           Designation       Balance         Pass-Through Rate
                           -----------    -------------      -----------------
                           <S>            <C>                <C>
                               N/A                  N/A                    N/A
</TABLE>

Delay Certificates           All interest-bearing Classes of Certificates other
                             than the Non-Delay Certificates, if any.

                                      -2-
<PAGE>

ERISA-Restricted
Certificates                     The Residual Certificates.

Floating Rate Certificates       None.

Insured Retail Certificates      None.

Interest Only Certificates       None.

Inverse Floating Rate
Certificates                     None.

COFI Certificates                None.

LIBOR Certificates               None.

Non-Delay Certificates           None.

Notional Amount
Certificates                     None.

Offered Certificates             All Classes of Certificates other than the
                                 Private Certificates.

Physical Certificates            The Private Certificates and the Residual
                                 Certificates.

Planned Principal Classes        None.

Primary Planned Principal
Classes                          None.

Principal Only
Certificates                     None.

Private Certificates             Class B-4, Class B-5 and Class B-6
                                 Certificates.

Rating Agencies                  S&P and Fitch.

Regular Certificates             All Classes of Certificates, other than the
                                 Residual Certificates.

Residual Certificates            Class A-R Certificates.

Scheduled Principal
Classes                          None.

Secondary Planned Principal
Class                            None.

                                      -3-
<PAGE>

Senior Certificates                 Class A-1, Class A-2, Class A-3, Class A-4
                                    and Class A-R Certificates.

Subordinated Certificates           Class B-1, Class B-2, Class B-3, Class B-4,
Certificates.                       Class B-5 and Class B-6

Support Classes                     None.

Targeted Principal
Classes                             None.

     With respect to any of the foregoing designations as to which the
corresponding reference is "None," all defined terms and provisions herein
relating solely to such designations shall be of no force or effect, and any
calculations herein incorporating references to such designations shall be
interpreted without reference to such designations and amounts. Defined terms
and provisions herein relating to statistical rating agencies not designated
above as Rating Agencies shall be of no force or effect.

                                      -4-
<PAGE>

                                   ARTICLE I
                                  DEFINITIONS

         Whenever used in this Agreement, the following words and phrases,
unless the context otherwise requires, shall have the following meanings:

         Accretion Directed Certificates: As described in the Preliminary
Statement.

         Accrual Certificates: As described in the Preliminary Statement.

         Accretion Termination Date: The earlier of (a) the Cross-Over Date, and
(b) the Distribution Date on which the Class Certificate Balance of the Class
A-1 Certificates has been reduced to zero.

         Accrual Amount: For the Class of Accrual Certificates and each
Distribution Date through the Accretion Termination Date, an amount equal to the
sum of (a) the Accrued Certificate Interest distributable in respect of such
Class of Accrual Certificates in accordance with Section 4.2(a)(i), and (b) any
available amounts allocable to such Class in accordance with Section 4.2(a)(ii).

         Accrual Termination Date: Not applicable.

         Accrued Certificate Interest: For any Class of Certificates entitled to
distributions of interest for any Distribution Date, the interest accrued during
the related Interest Accrual Period at the applicable Pass-Through Rate on the
Certificate Principal Balance of such Class of Certificates immediately prior to
such Distribution Date, less such Class' share of any Net Interest Shortfall,
the interest portion of any Excess Losses through the Cross-Over Date and, after
the Cross-Over Date, the interest portion of Realized Losses, including Excess
Losses.

         Adjusted Mortgage Rate: As to each Mortgage Loan, and at any time, the
per annum rate equal to the Mortgage Rate less the Master Servicing Fee Rate.

         Adjusted Net Mortgage Rate: As to each Mortgage Loan, and at any time,
the per annum rate equal to the Mortgage Rate less the related Expense Rate.

         Advance: The payment required to be made by the Master Servicer with
respect to any Distribution Date pursuant to Section 4.1, the amount of any such
payment being equal to the aggregate of payments of principal and interest (net
of the Master Servicing Fee and net of any net income in the case of any REO
Property) on the Mortgage Loans that were due on the related Due Date and not
received as of the close of business on the related Determination Date, less the
aggregate amount of any such delinquent payments that the Master Servicer has
determined would constitute a Nonrecoverable Advance if advanced.

         Agreement: This Pooling and Servicing Agreement and all amendments or
supplements hereto.

         Allocable Share: With respect to any Class of Subordinated Certificates
on any Distribution Date, such Class's pro rata share (based on the Class
Certificate Balance of each Class entitled

                                      -5-
<PAGE>

thereto) of each of the components of the Subordinated Optimal Principal Amount
described below; provided, that, except as provided in this Agreement, no Class
B Certificates (other than the Class B-1 Certificates) shall be entitled on any
Distribution Date to receive distributions pursuant to clauses (2), (3) and (5)
of the definition of Subordinated Optimal Principal Amount unless the Class
Prepayment Distribution Trigger for the related Class is satisfied for such
Distribution Date.

         Amount Held for Future Distribution: As to any Distribution Date, the
aggregate amount held in the Certificate Account at the close of business on the
related Determination Date on account of (i) Principal Prepayments received
after the related Prepayment Period and Liquidation Proceeds received in the
month of such Distribution Date and (ii) all Scheduled Payments due after the
related Due Date.

         Appraised Value: With respect to any Mortgage Loan, the Appraised Value
of the related Mortgaged Property shall be: (i) with respect to a Mortgage Loan
other than a Refinancing Mortgage Loan, the lesser of (a) the value of the
Mortgaged Property based upon the appraisal made at the time of the origination
of such Mortgage Loan and (b) the sales price of the Mortgaged Property at the
time of the origination of such Mortgage Loan; (ii) with respect to a
Refinancing Mortgage Loan other than a Streamlined Documentation Mortgage Loan,
the value of the Mortgaged Property based upon the appraisal made at the time of
the origination of such Refinancing Mortgage Loan; and (iii) with respect to a
Streamlined Documentation Mortgage Loan, (a) if the loan-to-value ratio with
respect to the Original Mortgage Loan at the time of the origination thereof was
90% or less, the value of the Mortgaged Property based upon the appraisal made
at the time of the origination of the Original Mortgage Loan and (b) if the
loan-to-value ratio with respect to the Original Mortgage Loan at the time of
the origination thereof was greater than 90%, the value of the Mortgaged
Property based upon the appraisal (which may be a drive-by appraisal) made at
the time of the origination of such Streamlined Documentation Mortgage Loan.

         Available Funds: With respect to any Distribution Date, an amount equal
to the sum of:

         .     all scheduled installments of interest, net of the Master
               Servicing Fee, the Trustee Fee and any amounts due to First
               Horizon in respect of the Retained Yield on such Distribution
               Date, and all scheduled installments of principal due on the Due
               Date in the month in which the Distribution Date occurs and
               received before the related Determination Date, together with any
               Advances in respect thereof;

         .     all Insurance Proceeds and all Liquidation Proceeds during the
               calendar month before the Distribution Date, which in each case
               is net of unreimbursed expenses incurred in connection with a
               liquidation or foreclosure and unreimbursed Advances, if any;

        .      all Principal Prepayments received during the related Prepayment
               Period, plus interest received thereon, net of any Prepayment
               Interest Excess;

        .      any Compensating Interest in respect of Principal Prepayments in
               Full received during the related Prepayment Period; and

        .      any Substitution Adjustment Amount or the Purchase Price for any
               Deleted Mortgage Loan or a Mortgage Loan repurchased by the
               Seller or the Master Servicer as of such

                                      -6-
<PAGE>

               Distribution Date, reduced by amounts in reimbursement for
               Advances previously made and other amounts that the Master
               Servicer is entitled to be reimbursed for out of the Certificate
               Account pursuant to this Agreement.

         Bankruptcy Code: The United States Bankruptcy Reform Act of 1978, as
amended.

         Bankruptcy Coverage Termination Date: The point in time at which the
Bankruptcy Loss Coverage Amount is reduced to zero.

         Bankruptcy Loss: With respect to any Mortgage Loan, a Deficient
Valuation or Debt Service Reduction; provided, however, that a Bankruptcy Loss
shall not be deemed a Bankruptcy Loss hereunder so long as the Master Servicer
has notified the Trustee in writing that the Master Servicer is diligently
pursuing any remedies that may exist in connection with the related Mortgage
Loan and either (A) the related Mortgage Loan is not in default with regard to
payments due thereunder or (B) delinquent payments of principal and interest
under the related Mortgage Loan and any related escrow payments in respect of
such Mortgage Loan are being advanced on a current basis by the Master Servicer,
in either case without giving effect to any Debt Service Reduction or Deficient
Valuation.

         Bankruptcy Loss Coverage Amount: As of any Determination Date, the
Bankruptcy Loss Coverage Amount shall equal the Initial Bankruptcy Coverage
Amount as reduced by (i) the aggregate amount of Bankruptcy Losses allocated to
the Certificates since the Cut-off Date and (ii) any permissible reductions in
the Bankruptcy Loss Coverage Amount as evidenced by a letter of each Rating
Agency to the Trustee to the effect that any such reduction will not result in a
downgrading of the then current ratings assigned to the Classes of Certificates
rated by it.

         Blanket Mortgage: The mortgage or mortgages encumbering the Cooperative
Property.

         Book-Entry Certificates: As specified in the Preliminary Statement.

         Business Day: Any day other than (i) a Saturday or a Sunday, or (ii) a
day on which banking institutions in the City of Dallas, or the State of Texas
or the city in which the Corporate Trust Office of the Trustee is located are
authorized or obligated by law or executive order to be closed.

         Certificate: Any one of the Certificates executed by the Trustee in
substantially the forms attached hereto as exhibits.

         Certificate Account: The separate Eligible Account or Accounts created
and maintained by the Master Servicer pursuant to Section 3.5 with a depository
institution in the name of the Master Servicer for the benefit of the Trustee on
behalf of Certificateholders and designated "First Horizon Home Loan Corporation
in trust for the registered holders of First Horizon Asset Securities Inc.
Mortgage Pass-Through Certificates, Series 2000-5."

         Certificate Principal Balance: With respect to any Certificate and as
of any Distribution Date, the Certificate Principal Balance on the date of the
initial issuance of such Certificate,
         (1)   as reduced by:

                                      -7-
<PAGE>

        .    all amounts distributed on previous Distribution Dates on such
             Certificate on account of principal;

        .    the principal portion of all Realized Losses previously allocated
             to such Certificate;

        .    in the case of a Subordinated Certificate, such Certificate's pro
             rata share, if any, of the Subordinated Certificate Writedown
             Amount for previous Distribution Dates; and

        (2)  in the case of the Accrual Certificates, as increased by all
             Accrued Certificate Interest added to the Certificate Principal
             Balance thereof on previous Distribution Dates.

        Certificate Owner: With respect to a Book-Entry Certificate, the Person
who is the beneficial owner of such Book-Entry Certificate.

        Certificate Register: The register maintained pursuant to Section 5.2
hereof.

        Certificateholder or Holder: The person in whose name a Certificate is
registered in the Certificate Register, except that, solely for the purpose of
giving any consent pursuant to this Agreement, any Certificate registered in the
name of the Depositor or any affiliate of the Depositor shall be deemed not to
be Outstanding and the Percentage Interest evidenced thereby shall not be taken
into account in determining whether the requisite amount of Percentage Interests
necessary to effect such consent has been obtained; provided, however, that if
any such Person (including the Depositor) owns 100% of the Percentage Interests
evidenced by a Class of Certificates, such Certificates shall be deemed to be
Outstanding for purposes of any provision hereof that requires the consent of
the Holders of Certificates of a particular Class as a condition to the taking
of any action hereunder. The Trustee is entitled to rely conclusively on a
certification of the Depositor or any affiliate of the Depositor in determining
which Certificates are registered in the name of an affiliate of the Depositor.

        Class: All Certificates bearing the same class designation as set forth
in the Preliminary Statement.

        Class A-4 Percentage: For any Distribution Date, the percentage (carried
to six places rounded up) obtained by dividing (1) the aggregate Class
Certificate Balance of the Class A-4 Certificates immediately preceding such
Distribution Date by (2) the aggregate Class Certificate Balance of all
Certificates immediately preceding such Distribution Date.

        Class A-4 Prepayment Distribution Percentage: 0% through the
Distribution Date in November 2005; 30% thereafter through the Distribution Date
in November 2006; 40% thereafter through the Distribution Date in November 2007;
60% thereafter through the Distribution Date in November 2008; 80% thereafter
through the Distribution Date in November 2009; and 100% thereafter.

        Class A-4 Principal Distribution Amount: For any Distribution Date, the
sum of:

           (a) the total of the amounts described in clauses (1) and (4) of the
        definition of Senior Optimal Principal Amount (determined without
        application of the Senior Percentage

                                      -8-
<PAGE>

         or the Senior Prepayment Percentage) for such date multiplied by the
         Class A-4 Scheduled Distribution Percentage for such date; and

                  (b) the total of the amounts described in clauses (2), (3) and
         (5) of the definition of Senior Optimal Principal Amount (determined
         without application of the Senior Prepayment Percentage) for such date
         multiplied by the product of (x) the Class A-4 Prepayment Distribution
         Percentage for such date and (y) the Class A-4 Percentage for such
         date.

         Notwithstanding the foregoing, (1) on the Group I Final Distribution
Date, the Class A-4 Principal Distribution Amount will be increased by any
Senior Optimal Principal Amount remaining after distributions of principal have
been made on the Group I Senior Certificates, and (2) following the Group I
Final Distribution Date, the Class A-4 Principal Distribution Amount will equal
the Senior Optimal Principal Amount.

         Class A-4 Scheduled Distribution Percentage: As to any Distribution
Date, 0% through the Distribution Date in November 2005 and, thereafter, the
Class A-4 Percentage for such date.

         Class B Certificates: The Class B-1, Class B-2, Class B-3, Class B-4,
Class B-5 and Class B-6 Certificates, collectively.

         Class Certificate Balance: With respect to any Class of Certificates
and as of any Distribution Date, the aggregate of the Certificate Principal
Balances of all Certificates of such Class as of such date.

         Class Prepayment Distribution Trigger: For a Class of Class B
Certificates (other than the Class B-1 Certificates), a trigger that is
satisfied on any Distribution Date on which a fraction (expressed as a
percentage), the numerator of which is the aggregate Class Certificate Balance
of such Class and each Class subordinate thereto, if any, and the denominator of
which is the Pool Principal Balance with respect to such Distribution Date,
equals or exceeds such percentage calculated as of the date of issuance of the
Certificates.

         Closing Date: November 30, 2000.

         Code: The Internal Revenue Code of 1986, including any successor or
amendatory provisions.

         COFI: Not applicable.

         COFI Certificates: Not applicable.

         Compensating Interest: As to any Distribution Date and any Principal
Prepayment in respect of a Mortgage Loan that is received during the period from
the sixteenth day of the month prior to the month of such Distribution Date
through the last day of such month, an additional payment made by the Master
Servicer, to the extent funds are available from the Master Servicing Fee, equal
to the amount of interest at the Adjusted Net Mortgage Rate for that Mortgage
Loan from the date of the prepayment to the related Due Date; provided that the
aggregate of all such payments shall not

                                      -9-
<PAGE>

exceed 0.0083% of the Pool Principal Balance as of the related Determination
Date, and provided further that if a partial Principal Prepayment is applied as
of the first of the month following the month of receipt, no additional payment
is required for such Principal Prepayment.

         Component: Not applicable.

         Component Balance: Not applicable.

         Component Certificates: Not applicable.

         Cooperative Corporation: The entity that holds title (fee or an
acceptable leasehold estate) to the real property and improvements constituting
the Cooperative Property and which governs the Cooperative Property, which
Cooperative Corporation must qualify as a Cooperative Housing Corporation under
Section 216 of the Code.

         Coop Shares: Shares issued by a Cooperative Corporation.

         Cooperative Loan: Any Mortgage Loan secured by Coop Shares and a
Proprietary Lease.

         Cooperative Property: The real property and improvements owned by the
Cooperative Corporation, including the allocation of individual dwelling units
to the holders of the Coop Shares of the Cooperative Corporation.

         Cooperative Unit: A single family dwelling located in a Cooperative
Property.

         Corporate Trust Office: The designated office of the Trustee in the
State of New York at which at any particular time its corporate trust business
with respect to this Agreement shall be administered, which office at the date
of the execution of this Agreement is located at The Bank of New York, 101
Barclay Street, 12E New York, New York 10286 (Attn: Corporate Trust Mortgage-
Backed Securities Group, First Horizon Asset Securities Inc. Series 2000-5),
facsimile no. (212) 815- 4135, and which is the address to which notices to and
correspondence with the Trustee should be directed.

         Corresponding Classes of Certificates: Not applicable.

         Cross-Over Date: The Distribution Date on which the respective Class
Certificate Balances of the Subordinated Certificates have been reduced to zero.

         Custodial Agreement: The Custodial Agreement dated as of November 30,
2000 by and among the Trustee, the Master Servicer and the Custodian.

         Custodian: LaSalle Bank National Association, a national banking
association, and its successors and assigns, as custodian under the Custodial
Agreement.

         Cut-off Date: November 1, 2000.

         Cut-off Date Pool Principal Balance: $183,555,414.

                                      -10-
<PAGE>

     Cut-off Date Principal Balance: As to any Mortgage Loan, the Stated
Principal Balance thereof as of the close of business on the Cut-off Date.

     Debt Service Reduction: With respect to any Mortgage Loan, a reduction by a
court of competent jurisdiction in a proceeding under the Bankruptcy Code in the
Scheduled Payment for such Mortgage Loan which became final and non-appealable,
except such a reduction resulting from a Deficient Valuation or any reduction
that results in a permanent forgiveness of principal.

     Deceased Holder: Not applicable.

     Defective Mortgage Loan: Any Mortgage Loan which is required to be
repurchased pursuant to Section 2.2 or 2.3.

     Deficient Valuation: With respect to any Mortgage Loan, a valuation by a
court of competent jurisdiction of the Mortgaged Property in an amount less than
the then-outstanding indebtedness under the Mortgage Loan, or any reduction in
the amount of principal to be paid in connection with any Scheduled Payment that
results in a permanent forgiveness of principal, which valuation or reduction
results from an order of such court which is final and non-appealable in a
proceeding under the Bankruptcy Code.

     Definitive Certificates: Any Certificate evidenced by a Physical
Certificate and any Certificate issued in lieu of a Book-Entry Certificate
pursuant to Section 5.2(e).

     Delay Certificates: As specified in the Preliminary Statement.

     Delay Delivery Mortgage Loans: The Mortgage Loans for which all or a
portion of a related Mortgage File is not delivered to Trustee on the Closing
Date. The number of Delay Delivery Mortgage Loans shall not exceed 25% of the
aggregate number of Mortgage Loans as of the Closing Date.

     Deleted Mortgage Loan: As defined in Section 2.3(c) hereof.

     Denomination: With respect to each Certificate, the amount set forth on the
face thereof as the "Initial Certificate Balance of this Certificate" or the
Percentage Interest appearing on the face thereof.

     Depositor: First Horizon Asset Securities Inc., a Delaware corporation, or
its successor in interest.

     Depository: The initial Depository shall be The Depository Trust Company,
the nominee of which is CEDE & Co., as the registered Holder of the Book-Entry
Certificates. The Depository shall at all times be a "clearing corporation" as
defined in Section 8-102(a)(5) of the Uniform Commercial Code of the State of
New York.

     Depository Participant: A broker, dealer, bank or other financial
institution or other Person for whom from time to time a Depository effects
book-entry transfers and pledges of securities deposited with the Depository.

                                      -11-
<PAGE>

     Determination Date: As to any Distribution Date, the earlier of (i) the
third Business Day after the 15th day of each month, and (ii) the second
Business Day prior to the related Distribution Date.

     Distribution Account: The separate Eligible Account created and maintained
by the Trustee pursuant to Section 3.5 in the name of the Trustee for the
benefit of the Certificateholders and designated "The Bank of New York, in trust
for registered Holders of First Horizon Asset Securities Inc. Mortgage Pass-
Through Certificates, Series 2000-5." Funds in the Distribution Account shall be
held in trust for the Certificateholders for the uses and purposes set forth in
this Agreement.

     Distribution Account Deposit Date: As to any Distribution Date, 1:30 p.m.
Central time on the Business Day immediately preceding such Distribution Date.

     Distribution Date: The 25th day of each calendar month after the initial
issuance of the Certificates, or if such 25th day is not a Business Day, the
next succeeding Business Day, commencing in December 2000.

     Due Date: With respect to any Distribution Date, the first day of the month
in which the related Distribution Date occurs.

     Eligible Account: Any of (i) an account or accounts maintained with a
federal or state chartered depository institution or trust company the short-
term unsecured debt obligations of which (or, in the case of a depository
institution or trust company that is the principal subsidiary of a holding
company, the debt obligations of such holding company) have the highest short-
term ratings of each Rating Agency at the time any amounts are held on deposit
therein, or (ii) an account or accounts in a depository institution or trust
company in which such accounts are insured by the FDIC or the SAIF (to the
limits established by the FDIC or the SAIF, as applicable) and the uninsured
deposits in which accounts are otherwise secured such that, as evidenced by an
Opinion of Counsel delivered to the Trustee and to each Rating Agency, the
Certificateholders have a claim with respect to the funds in such account or a
perfected first priority security interest against any collateral (which shall
be limited to Permitted Investments) securing such funds that is superior to
claims of any other depositors or creditors of the depository institution or
trust company in which such account is maintained, or (iii) a trust account or
accounts maintained with (a) the trust department of a federal or state
chartered depository institution or (b) a trust company, acting in its fiduciary
capacity or (iv) any other account acceptable to each Rating Agency. Eligible
Accounts may bear interest, and may include, if otherwise qualified under this
definition, accounts maintained with the Trustee.

     ERISA: The Employee Retirement Income Security Act of 1974, as amended.

     ERISA Qualifying Underwriting: With respect to any ERISA-Restricted
Certificate that is not a Residual Certificate, a best efforts or firm
commitment underwriting or private placement that meets the requirements of
Prohibited Transaction Exemption 93-31 (58 Fed. Reg. 28620, May 14, 1993), as
amended by Prohibited Transaction Exemption 2000-58 (65 Fed. Reg. 67765,
November 13, 2000) (or any successor thereto), or any substantially similar
administrative exemption granted by the U.S. Department of Labor (an
"Underwriter's Exemption").

     ERISA-Restricted Certificate: As specified in the Preliminary Statement.

                                      -12-
<PAGE>

     Escrow Account: The Eligible Account or Accounts established and maintained
pursuant to Section 3.6(a) hereof.

     Event of Default: As defined in Section 7.1 hereof.

     Excess Loss: The amount of any (i) Fraud Loss realized after the Fraud Loss
Coverage Termination Date, (ii) Special Hazard Loss realized after the Special
Hazard Coverage Termination Date or (iii) Deficient Valuation realized after the
Bankruptcy Coverage Termination Date.

     Excess Proceeds: With respect to any Liquidated Mortgage Loan, the amount,
if any, by which the sum of any Liquidation Proceeds of such Mortgage Loan
received in the calendar month in which such Mortgage Loan became a Liquidated
Mortgage Loan, net of any amounts previously reimbursed to the Master Servicer
as Nonrecoverable Advance(s) with respect to such Mortgage Loan pursuant to
Section 3.8(a)(iii), exceeds (i) the unpaid principal balance of such Liquidated
Mortgage Loan as of the Due Date in the month in which such Mortgage Loan became
a Liquidated Mortgage Loan plus (ii) accrued interest at the Mortgage Rate from
the Due Date as to which interest was last paid or advanced (and not reimbursed)
to Certificateholders up to the Due Date applicable to the Distribution Date
immediately following the calendar month during which such liquidation occurred.

     Expense Rate: As to each Mortgage Loan, the sum of the related Master
Servicing Fee Rate and the Trustee Fee Rate.

     FDIC: The Federal Deposit Insurance Corporation, or any successor thereto.

     FHLMC: The Federal Home Loan Mortgage Corporation, a corporate
instrumentality of the United States created and existing under Title III of the
Emergency Home Finance Act of 1970, as amended, or any successor thereto.

     FIRREA: The Financial Institutions Reform, Recovery, and Enforcement Act of
1989.

     First Horizon: First Horizon Home Loan Corporation, a Kansas corporation
and an indirect wholly owned subsidiary of First Tennessee National Corporation,
a Tennessee corporation.

     Fitch: Fitch, Inc., or any successor thereto. If Fitch is designated as a
Rating Agency in the Preliminary Statement, for purposes of Section 10.05(b) the
address for notices to Fitch shall be Fitch, Inc., One State Street Plaza, New
York, New York 10004, Attention: Residential Mortgage Surveillance Group, or
such other address as Fitch may hereafter furnish to the Depositor and the
Master Servicer.

     FNMA: The Federal National Mortgage Association, a federally chartered and
privately owned corporation organized and existing under the Federal National
Mortgage Association Charter Act, or any successor thereto.

     Fraud Loan: A Liquidated Mortgage Loan as to which a Fraud Loss has
occurred.

                                      -13-
<PAGE>

     Fraud Losses: Realized Losses on Mortgage Loans as to which a loss is
sustained by reason of a default arising from fraud, dishonesty or
misrepresentation in connection with the related Mortgage Loan, including a loss
by reason of the denial of coverage under any related Primary Insurance Policy
because of such fraud, dishonesty or misrepresentation.

     Fraud Loss Coverage Amount: As of the Closing Date, $1,835,554. As of any
Distribution Date prior to the third anniversary of the Cut-off Date, the Fraud
Loss Coverage Amount will equal approximately $1,835,554 minus the aggregate
amount of Fraud Losses that would have been allocated to the Subordinated
Certificates in the absence of the Loss Allocation Limitation since the Cut-off
Date. As of any Distribution Date from the third to the fifth anniversaries of
the Cut-off Date, the Fraud Loss Coverage Amount will equal (1) the lesser of
(a) the Fraud Loss Coverage Amount as of the most recent anniversary of the Cut-
off Date and (b) 0.5% of the aggregate outstanding principal balance of all of
the mortgage loans as of the most recent anniversary of the Cut-off Date minus
(2) the Fraud Losses that would have been allocated to the Subordinated
Certificates in the absence of the Loss Allocation Limitation since the most
recent anniversary of the Cut-off Date. As of any Distribution Date on or after
the earlier of the Cross-Over Date or the fifth anniversary of the Cut-off Date,
the Fraud Loss Coverage Amount shall be zero.

     Fraud Loss Coverage Termination Date: The point in time at which the Fraud
Loss Coverage Amount is reduced to zero.

     Group I Final Distribution Date: The Distribution Date on which the Class
Certificate Balance of each of the Group I Senior Certificates has been reduced
to zero.

     Group I Senior Certificates: The Class A-1, Class A-2, Class A-3 and Class
A-R Certificates, collectively.

     Index: Not applicable.

     Indirect Participant: A broker, dealer, bank or other financial institution
or other Person that clears through or maintains a custodial relationship with a
Depository Participant.

     Initial Bankruptcy Coverage Amount: $100,000.

     Initial Component Balance: Not applicable.

     Insurance Policy: With respect to any Mortgage Loan included in the Trust
Fund, any insurance policy, including all riders and endorsements thereto in
effect, including any replacement policy or policies for any Insurance Policies.

     Insurance Proceeds: Proceeds paid by an insurer pursuant to any Insurance
Policy, in each case other than any amount included in such Insurance Proceeds
in respect of Insured Expenses.

     Insured Expenses: Expenses covered by an Insurance Policy or any other
insurance policy with respect to the Mortgage Loans.

                                      -14-
<PAGE>

     Interest Accrual Period: With respect to each Class of Delay Certificates
and any Distribution Date, the calendar month prior to the month of such
Distribution Date. With respect to any Non- Delay Certificates and any
Distribution Date, the one month period commencing on the 25th day of the month
preceding the month in which such Distribution Date occurs and ending on the
24th day of the month in which such Distribution Date occurs.

     Interest Determination Date: Not applicable.

     Last Scheduled Distribution Date: For each Class of Offered Certificates is
the Distribution Date occurring in December 2030.

     Latest Possible Maturity Date: The Distribution Date following the third
anniversary of the scheduled maturity date of the Mortgage Loan having the
latest scheduled maturity date as of the Cut-off Date.

     Lender PMI Mortgage Loan: Not applicable.

     LIBOR: Not applicable.

     LIBOR Certificates: Not applicable.

     Liquidated Mortgage Loan: With respect to any Distribution Date, a
defaulted Mortgage Loan (including any REO Property) which was liquidated in the
calendar month preceding the month of such Distribution Date and as to which the
Master Servicer has determined (in accordance with this Agreement) that it has
received all amounts it expects to receive in connection with the liquidation of
such Mortgage Loan, including the final disposition of an REO Property.

     Liquidation Proceeds: Amounts, including Insurance Proceeds, received in
connection with the partial or complete liquidation of defaulted Mortgage Loans,
whether through trustee's sale, foreclosure sale or otherwise or amounts
received in connection with any condemnation or partial release of a Mortgaged
Property and any other proceeds received in connection with an REO Property,
less the sum of related unreimbursed Master Servicing Fees, Servicing Advances
and Advances.

     Living Holder:   Not applicable.

     Loan-to-Value Ratio: With respect to any Mortgage Loan and as to any date
of determination, the fraction (expressed as a percentage) the numerator of
which is the principal balance of the related Mortgage Loan at such date of
determination and the denominator of which is the Appraised Value of the related
Mortgaged Property.

     Loss Allocation Limitation: As defined in Section 4.4(g).

     Lost Mortgage Note: Any Mortgage Note the original of which was permanently
lost or destroyed and has not been replaced.

                                      -15-
<PAGE>

     Maintenance: With respect to any Cooperative Unit, the rent paid by the
Mortgagor to the Cooperative Corporation pursuant to the Proprietary Lease.

     Majority in Interest: As to any Class of Regular Certificates, the Holders
of Certificates of such Class evidencing, in the aggregate, at least 51% of the
Percentage Interests evidenced by all Certificates of such Class.

     Master Servicer: First Horizon Home Loan Corporation, a Kansas corporation,
and its successors and assigns, in its capacity as master servicer hereunder.

     Master Servicer Advance Date: As to any Distribution Date, 1:30 p.m.
Central time on the Business Day immediately preceding such Distribution Date.

     Master Servicing Fee: As to each Mortgage Loan and any Distribution Date,
an amount payable out of each full payment of interest received on such Mortgage
Loan and equal to one- twelfth of the Master Servicing Fee Rate multiplied by
the Stated Principal Balance of such Mortgage Loan as of the Due Date in the
month of such Distribution Date (prior to giving effect to any Scheduled
Payments due on such Mortgage Loan on such Due Date), subject to reduction as
provided in Section 3.14.

     Master Servicing Fee Rate: For each Mortgage Loan, other than the two
Mortgage Loans listed on Schedule I-B, a per annum rate equal to 0.244%. For
each Mortgage Loan listed on Schedule I-B, a per annum rate equal to 0.119%.

     Monthly Statement: The statement delivered to the Certificateholders
pursuant to Section 4.6.

     Moody's: Moody's Investors Service, Inc., or any successor thereto. If
Moody's is designated as a Rating Agency in the Preliminary Statement, for
purposes of Section 10.05(b) the address for notices to Moody's shall be Moody's
Investors Service, Inc., 99 Church Street, New York, New York 10007, Attention:
Residential Pass-Through Monitoring, or such other address as Moody's may
hereafter furnish to the Depositor or the Master Servicer.

     Mortgage: The mortgage, deed of trust or other instrument creating a first
lien on an estate in fee simple or leasehold interest in real property securing
a Mortgage Note.

     Mortgage File: The mortgage documents listed in Section 2.1 hereof
pertaining to a particular Mortgage Loan and any additional documents delivered
to the Trustee to be added to the Mortgage File pursuant to this Agreement.

     Mortgage Loans: Such of the mortgage loans transferred and assigned to the
Trustee pursuant to the provisions hereof as from time to time are held as a
part of the Trust Fund (including any REO Property), the mortgage loans so held
being identified in the Mortgage Loan Schedule, notwithstanding foreclosure or
other acquisition of title of the related Mortgaged Property.

     Mortgage Loan Schedule: The list of Mortgage Loans (as from time to time
amended by the Master Servicer to reflect the addition of Substitute Mortgage
Loans and the deletion of Deleted Mortgage Loans pursuant to the provisions of
this Agreement) transferred to the Trustee as part of

                                      -16-
<PAGE>

the Trust Fund and from time to time subject to this Agreement, attached hereto
as Schedule I, setting forth the following information with respect to each
Mortgage Loan:

     (i)      the loan number;

     (ii)     the Mortgagor's name and the street address of the Mortgaged
Property, including the zip code;

     (iii)    the maturity date;

     (iv)     the original principal balance;

     (v)      the Cut-off Date Principal Balance;

     (vi)     the first payment date of the Mortgage Loan;

     (vii)    the Scheduled Payment in effect as of the Cut-off Date;

     (viii)   the Loan-to-Value Ratio at origination;

     (ix)     a code indicating whether the residential dwelling at the time of
origination was represented to be owner-occupied;

     (x)      a code indicating whether the residential dwelling is either (a) a
detached single family dwelling (b) a dwelling in a de minimis PUD, (c) a
condominium unit or PUD (other than a de minimis PUD), (d) a two- to four-unit
residential property or (e) a Cooperative Unit;

     (xi)     the Mortgage Rate;

     (xii)    the purpose for the Mortgage Loan;

     (xiii)   the type of documentation program pursuant to which the Mortgage
Loan was originated; and

     (xiv)    the Master Servicing Fee for the Mortgage Loan.

     Such schedule shall also set forth the total of the amounts described under
(iv) and (v) above for all of the Mortgage Loans.

     Mortgage Note: The original executed note or other evidence of indebtedness
evidencing the indebtedness of a Mortgagor under a Mortgage Loan.

     Mortgage Rate: The annual rate of interest borne by a Mortgage Note from
time to time, net of any interest premium charged by the mortgagee to obtain or
maintain any Primary Insurance Policy.

                                      -17-
<PAGE>

     Mortgaged Property: The underlying property securing a Mortgage Loan,
which, with respect to a Cooperative Loan, is the related Coop Shares and
Proprietary Lease.

     Mortgagor: The obligor(s) on a Mortgage Note.

     National Cost of Funds Index: The National Monthly Median Cost of Funds
Ratio to SAIF-Insured Institutions published by the Office of Thrift
Supervision.

     Net Interest Shortfall: For any Distribution Date, the sum of (a) the
amount of interest which would otherwise have been received for any Mortgage
Loan that was the subject of (x) a Relief Act Reduction or (y) a Special Hazard
Loss, Fraud Loss, or Deficient Valuation, after the exhaustion of the respective
amounts of coverage provided by the Subordinated Certificates for those types of
losses; and (b) any Net Prepayment Interest Shortfalls. Net Interest Shortfalls
on any Distribution Date will be allocated pro rata among all Classes of
Certificates entitled to receive distributions of interest on that Distribution
Date, based on the amount of interest each of those Classes of Certificates
would otherwise be entitled to receive on that Distribution Date before taking
into account any reduction amounts resulting from Net Interest Shortfalls.

     Net Prepayment Interest Shortfalls: As to any Distribution Date, the amount
by which the aggregate of Prepayment Interest Shortfalls during the related
Prepayment Period exceeds an amount equal to the Compensating Interest, if any,
for such Distribution Date.

     Non-Delay Certificates: None.

     Non-Excess Loss:  Any Realized Loss other than an Excess Loss.

     Nonrecoverable Advance: Any portion of an Advance previously made or
proposed to be made by the Master Servicer that, in the good faith judgment of
the Master Servicer, will not be ultimately recoverable by the Master Servicer
from the related Mortgagor, related Liquidation Proceeds or otherwise.

     Notice of Final Distribution: The notice to be provided pursuant to Section
9.2 to the effect that final distribution on any of the Certificates shall be
made only upon presentation and surrender thereof.

     Notional Amount: Not applicable.

     Notional Amount Certificates: Not applicable.

     Offered Certificates: As specified in the Preliminary Statement.

     Officer's Certificate: A Certificate (i) signed by the Chairman of the
Board, the Vice Chairman of the Board, the President, a Managing Director, a
Vice President (however denominated), an Assistant Vice President, the
Treasurer, the Secretary, or one of the Assistant Treasurers or Assistant
Secretaries of the Depositor or the Master Servicer, or (ii), if provided for in
this Agreement, signed by a Servicing Officer, as the case may be, and delivered
to the Depositor and the Trustee, as the case may be, as required by this
Agreement.

                                      -18-
<PAGE>

     Opinion of Counsel: A written opinion of counsel, who may be counsel for
the Depositor or the Master Servicer, including, in-house counsel, reasonably
acceptable to the Trustee; provided, however, that with respect to the
interpretation or application of the REMIC Provisions, such counsel must (i) in
fact be independent of the Depositor and the Master Servicer, (ii) not have any
direct financial interest in the Depositor or the Master Servicer or in any
affiliate of either, and (iii) not be connected with the Depositor or the Master
Servicer as an officer, employee, promoter, underwriter, trustee, partner,
director or person performing similar functions.

     Optional Termination: The termination of the trust created hereunder in
connection with the purchase of the Mortgage Loans pursuant to Section 9.1
hereof.

     Original Mortgage Loan: The Mortgage Loan refinanced in connection with the
origination of a Refinancing Mortgage Loan.

     Original Subordinated Principal Balance: The aggregate of the Class
Certificate Balances of the Subordinated Certificates as of the Closing Date.

     OTS: The Office of Thrift Supervision.

     Outside Reference Date: Not applicable.

     Outstanding: With respect to the Certificates as of any date of
determination, all Certificates theretofore executed and authenticated under
this Agreement except:

          (i)       Certificates theretofore canceled by the Trustee or
     delivered to the Trustee for cancellation; and

          (ii)      Certificates in exchange for which or in lieu of which other
     Certificates have been executed and delivered by the Trustee pursuant to
     this Agreement.

     Outstanding Mortgage Loan: As of any Due Date, a Mortgage Loan with a
Stated Principal Balance greater than zero which was not the subject of a
Principal Prepayment in Full prior to such Due Date and which did not become a
Liquidated Mortgage Loan prior to such Due Date.

     Ownership Interest: As to any Residual Certificate, any ownership interest
in such Certificate including any interest in such Certificate as the Holder
thereof and any other interest therein, whether direct or indirect, legal or
beneficial.

     Pass-Through Rate: For any interest bearing Class of Certificates or
Component, the per annum rate set forth or calculated in the manner described in
the Preliminary Statement.

     Percentage Interest: As to any Certificate, the percentage interest
evidenced thereby in distributions required to be made on the related Class,
such percentage interest being set forth on the face thereof or equal to the
percentage obtained by dividing the Denomination of such Certificate by the
aggregate of the Denominations of all Certificates of the same Class.

                                      -19-
<PAGE>

     Permitted Investments: At any time, any one or more of the following
obligations and securities:

          (i)       obligations of the United States or any agency thereof,
     provided such obligations are backed by the full faith and credit of the
     United States;

          (ii)      general obligations of or obligations guaranteed by any
     state of the United States or the District of Columbia receiving the
     highest long-term debt rating of each Rating Agency, or such lower rating
     as will not result in the downgrading or withdrawal of the ratings then
     assigned to the Certificates by each Rating Agency;

          (iii)     commercial or finance company paper which is then receiving
     the highest commercial or finance company paper rating of each Rating
     Agency, or such lower rating as will not result in the downgrading or
     withdrawal of the ratings then assigned to the Certificates by each Rating
     Agency;

          (iv)      certificates of deposit, demand or time deposits, or
     bankers' acceptances issued by any depository institution or trust company
     incorporated under the laws of the United States or of any state thereof
     and subject to supervision and examination by federal and/or state banking
     authorities, provided that the commercial paper and/or long term unsecured
     debt obligations of such depository institution or trust company (or in the
     case of the principal depository institution in a holding company system,
     the commercial paper or long-term unsecured debt obligations of such
     holding company, but only if Moody's is not a Rating Agency) are then rated
     one of the two highest long-term and the highest short-term ratings of each
     Rating Agency for such securities, or such lower ratings as will not result
     in the downgrading or withdrawal of the rating then assigned to the
     Certificates by either Rating Agency;

          (v)       demand or time deposits or certificates of deposit issued by
     any bank or trust company or savings institution to the extent that such
     deposits are fully insured by the FDIC;

          (vi)      guaranteed reinvestment agreements issued by any bank,
     insurance company or other corporation containing, at the time of the
     issuance of such agreements, such terms and conditions as will not result
     in the downgrading or withdrawal of the rating then assigned to the
     Certificates by either Rating Agency;

          (vii)     repurchase obligations with respect to any security
     described in clauses (i) and (ii) above, in either case entered into with a
     depository institution or trust company (acting as principal) described in
     clause (iv) above;

          (viii)    securities (other than stripped bonds, stripped coupons or
     instruments sold at a purchase price in excess of 115% of the face amount
     thereof) bearing interest or sold at a discount issued by any corporation
     incorporated under the laws of the United States or any state thereof
     which, at the time of such investment, have one of the two highest ratings
     of each Rating Agency (except if the Rating Agency is Moody's, such rating
     shall be the highest commercial paper rating of Moody's for any such
     securities), or such lower rating as will not

                                      -20-
<PAGE>

         result in the downgrading or withdrawal of the rating then assigned to
         the Certificates by either Rating Agency as evidenced by a signed
         writing delivered by each Rating Agency;

                  (ix)  units of a taxable money-market portfolio having the
         highest rating assigned by each Rating Agency (except if Fitch is a
         Rating Agency and has not rated the portfolio, the highest rating
         assigned by Moody's) and restricted to obligations issued or guaranteed
         by the United States of America or entities whose obligations are
         backed by the full faith and credit of the United States of America and
         repurchase agreements collateralized by such obligations; and

                  (x)   such other investments bearing interest or sold at a
         discount acceptable to each Rating Agency as will not result in the
         downgrading or withdrawal of the rating then assigned to the
         Certificates by either Rating Agency, as evidenced by a signed writing
         delivered by each Rating Agency;

         provided that no such instrument shall be a Permitted Investment if
         such instrument evidences the right to receive interest only payments
         with respect to the obligations underlying such instrument.

         Permitted Transferee: Any person other than (i) the United States, any
State or political subdivision thereof, or any agency or instrumentality of any
of the foregoing, (ii) a foreign government, International Organization or any
agency or instrumentality of either of the foregoing, (iii) an organization
(except certain farmers' cooperatives described in section 521 of the Code)
which is exempt from tax imposed by Chapter 1 of the Code (including the tax
imposed by section 511 of the Code on unrelated business taxable income) on any
excess inclusions (as defined in section 860E(c)(l) of the Code) with respect to
any Residual Certificate, (iv) rural electric and telephone cooperatives
described in section 1381(a)(2)(C) of the Code, (v) an "electing large
partnership" as defined in section 775 of the Code, (vi) a Person that is not
(a) a citizen or resident of the United States, (b) a corporation, partnership,
or other entity created or organized in or under the laws of the United States,
any state thereof or the District of Columbia, (c) an estate whose income from
sources without the United States is includible in gross income for United
States federal income tax purposes regardless of its connection with the conduct
of a trade or business within the United States or (d) a trust if a court within
the United States is able to exercise primary supervision over the
administration of the trust and one or more United States persons have the
authority to control all substantial decisions of the trust, unless such Person
has furnished the transferor and the Trustee with a duly completed Internal
Revenue Service Form 4224 or any applicable successor form, and (vi) any other
Person so designated by the Depositor based upon an Opinion of Counsel that the
Transfer of an Ownership Interest in a Residual Certificate to such Person may
cause the REMIC created hereunder to fail to qualify as a REMIC at any time that
the Certificates are outstanding; provided, however, that if a person is
                                  --------
classified as a partnership under the Code, such person shall only be a
Permitted Transferee if all of its beneficial owners are described in subclauses
(a), (b), (c) or (d) of clause (vi) and the governing documents of such person
prohibits a transfer of any interest in such person to any person described in
clause (vi). The terms "United States," "State" and "International Organization"
shall have the meanings set forth in section 7701 of the Code or successor
provisions. A corporation will not be treated as an instrumentality of the
United States or of any State or political subdivision thereof for these
purposes if all of its

                                      -21-
<PAGE>

activities are subject to tax and, with the exception of the Federal Home Loan
Mortgage Corporation, a majority of its board of directors is not selected by
such government unit.

         Person: Any individual, corporation, partnership, joint venture,
association, joint-stock company, trust, unincorporated organization or
government, or any agency or political subdivision thereof.

         Physical Certificate: As specified in the Preliminary Statement.

         Planned Balance: Not applicable.

         Planned Principal Classes: Not applicable.

         Pool Principal Balance: As to any Distribution Date, the aggregate of
the Stated Principal Balances of the Mortgage Loans which were Outstanding
Mortgage Loans on the Due Date in the month preceding the month of such
Distribution Date.

         Prepayment Interest Excess: As to any Principal Prepayment received by
the Master Servicer from the first day through the fifteenth day of any calendar
month (other than the calendar month in which the Cut-off Date occurs), all
amounts paid by the related Mortgagor in respect of interest on such Principal
Prepayment. All Prepayment Interest Excess shall be paid to the Master Servicer
as additional master servicing compensation.

         Prepayment Interest Shortfall: As to any Distribution Date, Mortgage
Loan and Principal Prepayment received (a) during the period from the sixteenth
day of the month preceding the month of such Distribution Date through the last
day of such month, in the case of a Principal Prepayment in full, or (b) during
the month preceding the month of such Distribution Date, in the case of a
partial Principal Prepayment, the amount, if any, by which one month's interest
at the related Adjusted Mortgage Rate on such Principal Prepayment exceeds the
amount of interest actually paid by the Mortgagor in connection with such
Principal Prepayment.

         Prepayment Period: (a) With respect to any Principal Prepayments in
Full and any Distribution Date, the period from the sixteenth day of the month
preceding the month of such Distribution Date (or, in the case of the first
Distribution Date, from the Cut-off Date) through the fifteenth day of the month
of such Distribution Date, and (b) with respect to any other Principal
Prepayments and any Distribution Date, the month preceding the month of such
Distribution Date.

         Primary Insurance Policy: Each policy of primary mortgage guaranty
insurance or any replacement policy therefor with respect to any Mortgage Loan.

         Primary Planned Principal Classes: Not applicable.

         Principal Prepayment: Any payment of principal by a Mortgagor on a
Mortgage Loan that is received in advance of its scheduled Due Date and is not
accompanied by an amount representing scheduled interest due on any date or
dates in any month or months subsequent to the month of prepayment. Partial
Principal Prepayments shall be applied by the Master Servicer in accordance with
the terms of the related Mortgage Note.

                                      -22-
<PAGE>

         Principal Prepayment in Full: Any Principal Prepayment made by a
Mortgagor of the entire principal balance of a Mortgage Loan.

         Private Certificate: As specified in the Preliminary Statement.

         Proprietary Lease: With respect to any Cooperative Unit, a lease or
occupancy agreement between a Cooperative Corporation and a holder of related
Coop Shares.

         PUD: Planned Unit Development.

         Purchase Price: With respect to any Mortgage Loan required to be
purchased by the Seller pursuant to Section 2.2 or 2.3 hereof or purchased at
the option of the Master Servicer pursuant to Section 3.11, an amount equal to
the sum of (i) 100% of the unpaid principal balance of the Mortgage Loan on the
date of such purchase, and (ii) accrued interest thereon at the applicable
Mortgage Rate (or at the applicable Adjusted Mortgage Rate if (x) the purchaser
is the Master Servicer or (y) if the purchaser is the Seller and the Seller is
the Master Servicer) from the date through which interest was last paid by the
Mortgagor to the Due Date in the month in which the Purchase Price is to be
distributed to Certificateholders.

         Qualified Insurer: A mortgage guaranty insurance company duly qualified
as such under the laws of the state of its principal place of business and each
state having jurisdiction over such insurer in connection with the insurance
policy issued by such insurer, duly authorized and licensed in such states to
transact a mortgage guaranty insurance business in such states and to write the
insurance provided by the insurance policy issued by it, approved as a
FNMA-approved mortgage insurer and having a claims paying ability rating of at
least "AA" or equivalent rating by a nationally recognized statistical rating
organization. Any replacement insurer with respect to a Mortgage Loan must have
at least as high a claims paying ability rating as the insurer it replaces had
on the Closing Date.

         Rating Agency: Each of the Rating Agencies specified in the Preliminary
Statement. If any such organization or a successor is no longer in existence,
"Rating Agency" shall be such nationally recognized statistical rating
organization, or other comparable Person, as is designated by the Depositor,
notice of which designation shall be given to the Trustee. References herein to
a given rating category of a Rating Agency shall mean such rating category
without giving effect to any modifiers.

         Realized Loss: With respect to each Liquidated Mortgage Loan, an amount
(not less than zero or more than the Stated Principal Balance of the Mortgage
Loan) as of the date of such liquidation, equal to (i) the Stated Principal
Balance of the Liquidated Mortgage Loan as of the date of such liquidation, plus
(ii) interest at the Adjusted Net Mortgage Rate from the Due Date as to which
interest was last paid or advanced (and not reimbursed) to Certificateholders up
to the Due Date in the month in which Liquidation Proceeds are required to be
distributed on the Stated Principal Balance of such Liquidated Mortgage Loan
from time to time, minus (iii) the Liquidation Proceeds, if any, received during
the month in which such liquidation occurred, to the extent applied as
recoveries of interest at the Adjusted Net Mortgage Rate and to principal of the
Liquidated Mortgage Loan. With respect to each Mortgage Loan which has become
the subject of a Deficient Valuation, if the principal amount due under the
related Mortgage Note has been reduced, the difference

                                      -23-
<PAGE>

between the principal balance of the Mortgage Loan outstanding immediately prior
to such Deficient Valuation and the principal balance of the Mortgage Loan as
reduced by the Deficient Valuation.

         Recognition Agreement: With respect to any Cooperative Loan, an
agreement between the Cooperative Corporation and the originator of such
Mortgage Loan which establishes the rights of such originator in the Cooperative
Property.

         Record Date: With respect to any Distribution Date, the close of
business on the last Business Day of the month preceding the month in which such
Distribution Date occurs.

         Reference Bank: Not applicable.

         Refinancing Mortgage Loan: Any Mortgage Loan originated in connection
with the refinancing of an existing mortgage loan.

         Regular Certificates: As specified in the Preliminary Statement.

         Relief Act: The Soldiers' and Sailors' Civil Relief Act of 1940, as
amended.

         Relief Act Reductions: With respect to any Distribution Date and any
Mortgage Loan as to which there has been a reduction in the amount of interest
collectible thereon for the most recently ended calendar month as a result of
the application of the Relief Act, the amount, if any, by which interest
collectible on such Mortgage Loan for the most recently ended calendar month is
less than interest accrued thereon for such month pursuant to the Mortgage Note.

         REMIC: A "real estate mortgage investment conduit" within the meaning
of section 860D of the Code.

         REMIC Change of Law: Any proposed, temporary or final regulation,
revenue ruling, revenue procedure or other official announcement or
interpretation relating to REMICs and the REMIC Provisions issued after the
Closing Date.

         REMIC Provisions: Provisions of the federal income tax law relating to
real estate mortgage investment conduits, which appear at sections 860A through
860G of Subchapter M of Chapter 1 of the Code, and related provisions, and
regulations promulgated thereunder, as the foregoing may be in effect from time
to time as well as provisions of applicable state laws.

         REO Property: A Mortgaged Property acquired by the Trust Fund through
foreclosure or deed-in-lieu of foreclosure in connection with a defaulted
Mortgage Loan.

         Request for Release: The Request for Release submitted by the Master
Servicer to the Trustee, substantially in the form of Exhibits L and M, as
appropriate.

         Required Coupon: 7.50% per annum.

         Required Insurance Policy: With respect to any Mortgage Loan, any
insurance policy that is required to be maintained from time to time under this
Agreement.

                                      -24-
<PAGE>

         Required Recordation States: The states of Florida, Maryland,
Mississippi, South Carolina and Tennessee.

         Residual Certificates: As specified in the Preliminary Statement.

         Responsible Officer: When used with respect to the Trustee, any Vice
President, any Assistant Vice President, the Secretary, any Assistant Secretary,
any Trust Officer or any other officer of the Trustee customarily performing
functions similar to those performed by any of the above designated officers and
having direct responsibility for the administration of this Agreement and also
to whom, with respect to a particular matter, such matter is referred because of
such officer's knowledge of and familiarity with the particular subject.

         Retained Yield: As to each Mortgage Loan and any Distribution Date, an
amount payable to First Horizon Home Loan Corporation out of each full payment
of interest received on such Mortgage Loan and equal to one-twelfth of the
Retained Yield Rate multiplied by the Stated Principal Balance of such Mortgage
Loan as of the Due Date in the month of such Distribution Date (prior to giving
effect to any Scheduled Payments due on such Mortgage Loan on such Due Date).

         Retained Yield Rate: For any Mortgage Loan other than the Mortgage
Loans listed on Schedule I-B, a per annum rate equal to the excess of (a) the
applicable Adjusted Net Mortgage Rate over (b) the Required Coupon. For any
Mortgage Loan listed on Schedule I-B, 0%.

         Scheduled Balances: Not applicable.

         Scheduled Classes: Not applicable.

         Scheduled Payment: The scheduled monthly payment on a Mortgage Loan due
on any Due Date allocable to principal and/or interest on such Mortgage Loan
which, unless otherwise specified herein, shall give effect to any related Debt
Service Reduction and any Deficient Valuation that affects the amount of the
monthly payment due on such Mortgage Loan.

         Secondary Planned Principal Clauses: Not applicable.

         Securities Act: The Securities Act of 1933, as amended.

         Seller: First Horizon Home Loan Corporation, a Kansas corporation, and
its successors and assigns, in its capacity as seller of the Mortgage Loans to
the Depositor.

         Senior Certificates: As specified in the Preliminary Statement.

         Senior Final Distribution Date: For any Class of Senior Certificates,
the Distribution Date on which the Class Certificate Balance of such Class of
Senior Certificates has been reduced to zero.

         Senior Optimal Principal Amount: With respect to each Distribution
Date, an amount equal to the sum of:

                                      -25-
<PAGE>

          (1)  the Senior Percentage of all Scheduled Payments of principal due
     on each Mortgage Loan on the first day of the month in which the
     Distribution Date occurs, as specified in the amortization schedule at the
     time applicable thereto after adjustment for previous principal prepayments
     and the principal portion of Debt Service Reductions after the Bankruptcy
     Loss Coverage Amount has been reduced to zero, but before any adjustment to
     such amortization schedule by reason of any other bankruptcy or similar
     proceeding or any moratorium or similar waiver or grace period;

          (2) the Senior Prepayment Percentage of the Stated Principal Balance
     of each Mortgage Loan which was the subject of a prepayment in full
     received by the Master Servicer during the applicable Prepayment Period;

          (3) the Senior Prepayment Percentage of all partial prepayments of
     principal received during the applicable Prepayment Period;

          (4) the lesser of:

                    (a)  the Senior Prepayment Percentage of the sum of
           (x) the net Liquidation Proceeds allocable to principal on each
           Mortgage Loan which became a Liquidated Mortgage Loan during the
           related Prepayment Period, other than Mortgage Loans described in
           clause (y), and (y) the principal balance of each Mortgage Loan that
           was purchased by a private mortgage insurer during the related
           Prepayment Period as an alternative to paying a claim under the
           related Insurance Policy; and

                    (b) (i) the Senior Percentage of the sum of (x) the
           Stated Principal Balance of each Mortgage Loan which became a
           Liquidated Mortgage Loan during the related Prepayment Period, other
           than Mortgage Loans described in clause (y), and (y) the Stated
           Principal Balance of each Mortgage Loan that was purchased by a
           private mortgage insurer during the related Prepayment Period as an
           alternative to paying a claim under the related Insurance Policy
           minus (ii) the Senior Percentage of the principal portion of Excess
           Losses (other than Debt Service Reductions) during the related
           Prepayment Period; and

           (5) the Senior Prepayment Percentage of the sum of (a) the Stated
     Principal Balance of each Mortgage Loan which was repurchased by the seller
     in connection with such Distribution Date and (b) the difference, if any,
     between the Stated Principal Balance of a Mortgage Loan that has been
     replaced by the seller with a Substitute Mortgage Loan pursuant to the
     agreement in connection with such Distribution Date and the Stated
     Principal Balance of such Substitute Mortgage Loan.

     Senior Percentage: On any Distribution Date, the lesser of 100% and the
percentage (carried to six places rounded up) obtained by dividing the aggregate
Class Certificate Balances of all Classes of Senior Certificates immediately
preceding such Distribution Date by the aggregate Class Certificate Balances of
all Classes of the Certificates immediately preceding such Distribution Date.

     Senior Prepayment Percentage: On any Distribution Date occurring during the
periods set forth below, the Senior Prepayment Percentages described below:

                                      -26-
<PAGE>

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------
        Period (Dates Inclusive)                          Senior Prepayment Percentage
------------------------------------------------------------------------------------------------------------------
<S>                                      <C>
December 2000 - November 2005              100%
------------------------------------------------------------------------------------------------------------------
December 2005 - November 2006              Senior Percentage plus 70% of the Subordinated Percentage
------------------------------------------------------------------------------------------------------------------
December 2006 - November 2007              Senior Percentage plus 60% of the Subordinated Percentage
------------------------------------------------------------------------------------------------------------------
December 2007 - November 2008              Senior Percentage plus 40% of the Subordinated Percentage
------------------------------------------------------------------------------------------------------------------
December 2008 - November 2009              Senior Percentage plus 20% of the Subordinated Percentage
------------------------------------------------------------------------------------------------------------------
December 2009 and thereafter               Senior Percentage
------------------------------------------------------------------------------------------------------------------
</TABLE>

     Notwithstanding the foregoing, if the Senior Percentage on any
Distribution Date exceeds the initial Senior Percentage, the Senior Prepayment
Percentage for such Distribution Date will equal 100%.

     In addition, no reduction of the Senior Prepayment Percentage below the
level in effect for the most recent prior period specified in the table above
shall be effective on any Distribution Date unless, as of the last day of the
month preceding such Distribution Date, either:

               (A)(1) the aggregate Stated Principal Balance of Mortgage
         Loans delinquent 60 days or more (including for this purpose any
         Mortgage Loans in foreclosure and Mortgage Loans with respect to which
         the related Mortgaged Property has been acquired by the Trust Fund)
         does not exceed 50% of the aggregate Class Certificate Balance of the
         Subordinated Certificates as of such date; and

                 (2) cumulative Realized Losses do not exceed:

                         (a) 30% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2005 and November 2006;

                         (b) 35% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2006 and November 2007;

                         (c) 40% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2007 and November 2008;

                         (d) 45% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2008 and November 2009; and

                         (e) 50% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs during or after December
                  2009; or

                  (B)(1) the aggregate Stated Principal Balance of Mortgage
                  Loans delinquent 60 days or more (including for this purpose
                  any Mortgage Loans in foreclosure and Mortgage Loans with
                  respect to which the related Mortgaged Property has been
                  acquired by the

                                      -27-
<PAGE>

                  Trust Fund), averaged over the last three months, as a
                  percentage of the aggregate Stated Principal Balance of all
                  Mortgage Loans averaged over the last three months, does not
                  exceed 4%; and

                  (2) cumulative Realized Losses do not exceed:

                         (a) 10% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2005 and November 2006;

                         (b) 15% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2006 and November 2007;

                         (c) 20% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2007 and November 2008;

                         (d) 25% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs between and including
                  December 2008 and November 2009; and

                         (e) 30% of the Original Subordinated Principal Balance
                  if such Distribution Date occurs during or after December
                  2009.

         Servicing Advances: All customary, reasonable and necessary "out of
pocket" costs and expenses incurred in the performance by the Master Servicer of
its servicing obligations, including, but not limited to, the cost of (i) the
preservation, restoration and protection of a Mortgaged Property, (ii) any
expenses reimbursable to the Master Servicer pursuant to Section 3.11 and any
enforcement or judicial proceedings, including foreclosures, (iii) the
management and liquidation of any REO Property and (iv) compliance with the
obligations under Section 3.9.

         Servicing Officer: Any officer of the Master Servicer involved in, or
responsible for, the administration and servicing of the Mortgage Loans whose
name and facsimile signature appear on a list of servicing officers furnished to
the Trustee by the Master Servicer on the Closing Date pursuant to this
Agreement, as such list may from time to time be amended.

         Special Hazard Coverage Termination Date: The point in time at which
the Special Hazard Loss Coverage Amount is reduced to zero.

         Special Hazard Loss: Any Realized Loss suffered by a Mortgaged Property
on account of direct physical loss but not including (i) any loss of a type
covered by a hazard insurance policy or a flood insurance policy required to be
maintained with respect to such Mortgaged Property pursuant to Section 3.9 to
the extent of the amount of such loss covered thereby, or (ii) any loss caused
by or resulting from:

                  (a)   normal wear and tear;

                  (b)   fraud, conversion or other dishonest act on the part of
         the Trustee, the Master Servicer or any of their agents or employees
         (without regard to any portion of the loss not covered by any errors
         and omissions policy);

                                      -28-
<PAGE>

                  (c)    errors in design, faulty workmanship or faulty
         materials, unless the collapse of the property or a part thereof ensues
         and then only for the ensuing loss;

                  (d)    nuclear or chemical reaction or nuclear radiation or
         radioactive or chemical contamination, all whether controlled or
         uncontrolled, and whether such loss be direct or indirect, proximate or
         remote or be in whole or in part caused by, contributed to or
         aggravated by a peril covered by the definition of the term "Special
         Hazard Loss";

                  (e)    hostile or warlike action in time of peace and war,
         including action in hindering, combating or defending against an
         actual, impending or expected attack:

                           1.       by any government or sovereign power, de
                  jure or de facto, or by any authority maintaining or using
                  military, naval or air forces; or

                           2.       by military, naval or air forces; or

                           3.       by an agent of any such government, power,
                  authority or forces;

                  (f)      any weapon of war employing nuclear fission, fusion
         or other radioactive force, whether in time of peace or war; or

                  (g) insurrection, rebellion, revolution, civil war, usurped
         power or action taken by governmental authority in hindering, combating
         or defending against such an occurrence, seizure or destruction under
         quarantine or customs regulations, confiscation by order of any
         government or public authority or risks of contraband or illegal
         transportation or trade.

         Special Hazard Loss Coverage Amount: Upon the initial issuance of the
Certificates, $2,000,000. As of any Distribution Date, the Special Hazard Loss
Coverage Amount will equal the greater of

         .        1% (or if greater than 1%, the highest percentage of Mortgage
                  Loans by principal balance secured by Mortgaged Properties in
                  any single California zip code) of the outstanding principal
                  balance of all the Mortgage Loans as of the related
                  Determination Date; and

         .        twice the outstanding principal balance of the Mortgage Loan
                  which has the largest outstanding principal balance as of the
                  related Determination Date,

less, in each case, the aggregate amount of Special Hazard Losses that would
have been previously allocated to the subordinated certificates in the absence
of the Loss Allocation Limitation. As of any Distribution Date on or after the
Cross-Over Date, the Special Hazard Loss Coverage Amount will be zero.

         Special Hazard Mortgage Loan: A Liquidated Mortgage Loan as to which a
Special Hazard Loss has occurred.

                                      -29-
<PAGE>

          S&P: Standard & Poor's Corporation, a division of The McGraw-Hill
Companies, Inc. If S&P is designated as a Rating Agency in the Preliminary
Statement, for purposes of Section 10.05(b) the address for notices to S&P shall
be Standard & Poor's, 26 Broadway, 15th Floor, New York, New York 10004,
Attention: Mortgage Surveillance Monitoring, or such other address as S&P may
hereafter furnish to the Depositor and the Master Servicer.

          Startup Day: The Closing Date.

          Stated Principal Balance: As to any Mortgage Loan and Due Date, the
unpaid principal balance of such Mortgage Loan as of such Due Date as specified
in the amortization schedule at the time relating thereto (before any adjustment
to such amortization schedule by reason of any moratorium or similar waiver or
grace period) after giving effect to any previous partial Principal Prepayments
and Liquidation Proceeds allocable to principal (other than with respect to any
Liquidated Mortgage Loan) and to the payment of principal due on such Due Date
and irrespective of any delinquency in payment by the related Mortgagor.

         Streamlined Documentation Mortgage Loan: Any Mortgage Loan originated
pursuant to the Seller's Streamlined Loan Documentation Program then in effect.

         Subordinated Certificates: As specified in the Preliminary Statement.

         Subordinated Certificate Writedown Amount: As of any Distribution Date,
the amount by which (a) the sum of the Class Certificate Balances of all of the
Certificates, after giving effect to the distribution of principal and the
allocation of Realized Losses in reduction of the Class Certificate Balances of
all of the Certificates on such Distribution Date, exceeds (b) the Pool
Principal Balance on the first day of the month of such Distribution Date less
any Deficient Valuations occurring before the Bankruptcy Loss Coverage Amount
has been reduced to zero.

         Subordinated Optimal Principal Amount: With respect to each
Distribution Date, an amount equal to the sum of the following (but in no event
greater than the aggregate Class Certificate Balances of the Subordinated
Certificates immediately prior to such Distribution Date):

                  (1) the Subordinated Percentage of all Scheduled Payments of
         principal due on each outstanding Mortgage Loan on the first day of the
         month in which the Distribution Date occurs, as specified in the
         amortization schedule at the time applicable thereto, after adjustment
         for previous principal prepayments and the principal portion of Debt
         Service Reductions after the Bankruptcy Loss Coverage Amount has been
         reduced to zero, but before any adjustment to such amortization
         schedule by reason of any other bankruptcy or similar proceeding or any
         moratorium or similar waiver or grace period;

                  (2) the Subordinated Prepayment Percentage of the Stated
         Principal Balance of each Mortgage Loan which was the subject of a
         prepayment in full received by the Master Servicer during the related
         Prepayment Period;

                  (3) the Subordinated Prepayment Percentage of all partial
         prepayments of principal received during the related Prepayment Period,
         plus, on the Senior Final Distribution Date, 100% of any Senior Optimal
         Principal Amount remaining undistributed on such date;

                                      -30-
<PAGE>

                  (4) the amount, if any, by which the sum of (a) the net
         Liquidation Proceeds allocable to principal received during the related
         Prepayment Period in respect of each Liquidated Mortgage Loan, other
         than Mortgage Loans described in clause (b) and (b) the principal
         balance of each Mortgage Loan that was purchased by a private mortgage
         insurer during the related Prepayment Period as an alternative to
         paying a claim under the related Insurance Policy exceeds (c) the sum
         of the amounts distributable to the Senior Certificateholders under
         clause (4) of the definition of Senior Optimal Principal Amount on such
         Distribution Date; and

                  (5) the Subordinated Prepayment Percentage of the sum of (a)
         the Stated Principal Balance of each Mortgage Loan which was
         repurchased by the seller in connection with such Distribution Date and
         (b) the difference, if any, between the Stated Principal Balance of a
         Mortgage Loan that has been replaced by the seller with a Substitute
         Mortgage Loan pursuant to the Agreement in connection with such
         Distribution Date and the Stated Principal Balance of such Substitute
         Mortgage Loan.

         Subordinated Percentage: For any Distribution Date, 100% minus the
Senior Percentage.

         Subordinated Prepayment Percentage: For any Distribution Date, 100%
minus the Senior Prepayment Percentage, except that on any Senior Final
Distribution Date, the Subordinated Prepayment Percentage will equal 100%.

         Subservicer: Any person to whom the Master Servicer has contracted for
the servicing of all or a portion of the Mortgage Loans pursuant to Section 3.2
hereof.

         Substitute Mortgage Loan: A Mortgage Loan substituted by the Seller for
a Deleted Mortgage Loan which must, on the date of such substitution, as
confirmed in a Request for Release, substantially in the form of Exhibit L, (i)
have a Stated Principal Balance, after deduction of the principal portion of the
Scheduled Payment due in the month of substitution, not in excess of, and not
more than 10% less than the Stated Principal Balance of the Deleted Mortgage
Loan; (ii) be accruing interest at a rate no lower than and not more than 1% per
annum higher than, that of the Deleted Mortgage Loan; (iii) have a Loan-to-Value
Ratio no higher than that of the Deleted Mortgage Loan; (iv) have a remaining
term to maturity no greater than (and not more than one year less than that of)
the Deleted Mortgage Loan; (v) not be a Cooperative Loan unless the Deleted
Mortgage Loan was a Cooperative Loan and (vi) comply with each representation
and warranty set forth in Section 2.3 hereof.

         Substitution Adjustment Amount: The meaning ascribed to such term
pursuant to Section 2.3.

         Support Classes: Not applicable.

         Targeted Balances: Not applicable.

         Targeted Principal Classes: Not applicable.

                                      -31-
<PAGE>

          Tax Matters Person: The person designated as "tax matters person" in
the manner provided under Treasury regulations S.1.860F-4(d) and Treasury
regulations S.301.6231(a)(7)-1. Initially, the Tax Matters Person shall be the
Trustee.

         Tax Matters Person Certificate: The Class A-R Certificate, with a
Denomination of $0.01.

         Transfer: Any direct or indirect transfer or sale of any Ownership
Interest in a Residual Certificate.

         Trustee: The Bank of New York and its successors and, if a successor
trustee is appointed hereunder, such successor.

         Trustee Fee: As to any Distribution Date, an amount equal to one-
twelfth of the Trustee Fee Rate multiplied by the Pool Principal Balance with
respect to such Distribution Date.

         Trustee Fee Rate: With respect to each Mortgage Loan, the per annum
rate agreed upon in writing on or prior to the Closing Date by the Trustee and
the Depositor.

         Trust Fund: The corpus of the trust created hereunder consisting of (i)
the Mortgage Loans and all interest and principal received on or with respect
thereto after the Cut-off Date to the extent not applied in computing the
Cut-off Date Principal Balance thereof; (ii) the Certificate Account and the
Distribution Account and all amounts deposited therein pursuant to the
applicable provisions of this Agreement; (iii) property that secured a Mortgage
Loan and has been acquired by foreclosure, deed-in-lieu of foreclosure or
otherwise; and (iv) all proceeds of the conversion, voluntary or involuntary, of
any of the foregoing; provided that solely for designating the assets included
in the REMIC created hereunder for federal income tax purposes, the Trust Fund
shall exclude the Retained Yield.

         Unanticipated Recovery: As defined in Section 4.2(f).

         Underwriter: Banc of America Securities LLC.

         Voting Rights: The portion of the voting rights of all of the
Certificates which is allocated to any Certificate. As of any date of
determination, (i) 98% of all Voting Rights will be allocated among all Holders
of the Certificates, other than the Class A-R Certificates, and (ii) 2% of all
Voting Rights shall be allocated among the Holders of the Class A-R
Certificates.

                                  ARTICLE II
                         CONVEYANCE OF MORTGAGE LOANS;
                        REPRESENTATIONS AND WARRANTIES

          SECTION 2.1 Conveyance of Mortgage Loans.

          (a)  The Seller, concurrently with the execution and delivery hereof,
hereby sells, transfers, assigns, sets over and otherwise conveys to the
Depositor, without recourse, all the right, title and interest of the Seller in
and to the Mortgage Loans, including all interest and principal

                                      -32-
<PAGE>

received or receivable by the Seller on or with respect to the Mortgage Loans
after the Cut-off Date and all interest and principal payments on the Mortgage
Loans received on or prior to the Cut-off Date in respect of installments of
interest and principal due thereafter, but not including payments of principal
and interest due and payable on the Mortgage Loans on or before the Cut-off
Date. On or prior to the Closing Date, the Seller shall deliver to the Depositor
or, at the Depositor's direction, to the Trustee or other designee of the
Depositor, the Mortgage File for each Mortgage Loan listed the Mortgage Loan
Schedule (except that, in the case of the Delay Delivery Mortgage Loans, such
delivery may take place within thirty (30) days following the Closing Date).
Such delivery of the Mortgage Files shall be made against payment by the
Depositor of the purchase price, previously agreed to by the Seller and
Depositor, for the Mortgage Loans. With respect to any Mortgage Loan that does
not have a first payment date on or before the Due Date in the month of the
first Distribution Date, the Seller shall deposit into the Distribution Account
on or before the Distribution Account Deposit Date relating to the first
Distribution Date, an amount equal to one month's interest at the related
Adjusted Mortgage Rate on the Cut-off Date Principal Balance of such Mortgage
Loan.

          (b)  The Depositor, concurrently with the execution and delivery
hereof, hereby sells, transfers, assigns, sets over and otherwise conveys to the
Trustee for the benefit of the Certificateholders, without recourse, all the
right, title and interest of the Depositor in and to the Trust Fund together
with the Depositor's right to require the Seller to cure any breach of a
representation or warranty made herein by the Seller or to repurchase or
substitute for any affected Mortgage Loan in accordance herewith.

          (c) In connection with the transfer and assignment set forth in clause
(b) above, the Depositor has delivered or caused to be delivered to the Trustee
or the Custodian on its behalf (or, in the case of the Delay Delivery Mortgage
Loans, will deliver or cause to be delivered to the Trustee or the Custodian on
its behalf within thirty (30) days following the Closing Date) for the benefit
of the Certificateholders the following documents or instruments with respect to
each Mortgage Loan so assigned:

               (i) (A) the original Mortgage Note endorsed by manual or
         facsimile signature in blank in the following form: "Pay to the order
         of ________________, without recourse," with all intervening
         endorsements showing a complete chain of endorsement from the
         originator to the Person endorsing the Mortgage Note (each such
         endorsement being sufficient to transfer all right, title and interest
         of the party so endorsing, as noteholder or assignee thereof, in and to
         that Mortgage Note); or

                     (B) with respect to any Lost Mortgage Note, a lost note
         affidavit from the Seller stating that the original Mortgage Note was
         lost or destroyed, together with a copy of such Mortgage Note;

               (ii)  except as provided below, the original recorded Mortgage or
         a copy of such Mortgage certified by the Seller as being a true and
         complete copy of the Mortgage;

               (iii) a duly executed assignment of the Mortgage in blank
         (which may be included in a blanket assignment or assignments),
         together with, except as provided below, all interim recorded
         assignments of such mortgage (each such assignment, when duly and
         validly completed, to be in recordable form and sufficient to effect
         the assignment of and transfer

                                      -33-
<PAGE>

         to the assignee thereof, under the Mortgage to which the assignment
         relates); provided that, if the related Mortgage has not been returned
         from the applicable public recording office, such assignment of the
         Mortgage may exclude the information to be provided by the recording
         office;

               (iv)  the original or copies of each assumption, modification,
         written assurance or substitution agreement, if any;

               (v)   either the original or duplicate original title policy
         (including all riders thereto) with respect to the related mortgaged
         property, if available, provided that the title policy (including all
         riders thereto) will be delivered as soon as it becomes available, and
         if the title policy is not available, and to the extent required
         pursuant to the second paragraph below or otherwise in connection with
         the rating of the Certificates, a written commitment or interim binder
         or preliminary report of the title issued by the title insurance or
         escrow company with respect to the mortgaged property, and

               (vi) in the case of a Cooperative Loan, the originals of the
         following documents or instruments:

                  (a) The Coop Shares, together with a stock power in blank;
                  (b) The executed Security Agreement;
                  (c) The executed Proprietary Lease;
                  (d) The executed Recognition Agreement;
                  (e) The executed UCC-1 financing statement with evidence of
                      recording thereon which have been filed in all places
                      required to perfect the Seller's interest in the Coop
                      Shares and the Proprietary Lease; and
                  (f) Executed UCC-3 financing statements or other appropriate
                      UCC financing statements required by state law, evidencing
                      a complete and unbroken line from the mortgagee to the
                      Trustee with evidence of recording thereon (or in a form
                      suitable for recordation).

         In the event that in connection with any Mortgage Loan the Depositor
cannot deliver (a) the original recorded Mortgage or (b) all interim recorded
assignments satisfying the requirements of clause (ii) or (iii) above,
respectively, concurrently with the execution and delivery hereof because such
document or documents have not been returned from the applicable public
recording office, the Depositor shall promptly deliver to the Trustee or the
Custodian on its behalf such original Mortgage or such interim assignment, as
the case may be, with evidence of recording indicated thereon upon receipt
thereof from the public recording office, or a copy thereof, certified, if
appropriate, by the relevant recording office, but in no event shall any such
delivery of the original Mortgage and each such interim assignment or a copy
thereof, certified, if appropriate, by the relevant recording office, be made
later than one year following the Closing Date; provided, however, in the event
the Depositor is unable to deliver by such date each Mortgage and each such
interim assignment by reason of the fact that any such documents have not been
returned by the appropriate recording office, or, in the case of each such
interim assignment, because the related Mortgage has not been returned by the
appropriate recording office, the Depositor shall deliver such documents to the
Trustee or the Custodian on its behalf as promptly as possible upon receipt
thereof and, in any event, within 720 days following the Closing Date. The
Depositor shall forward or cause

                                      -34-
<PAGE>

to be forwarded to the Trustee or the Custodian on its behalf (a) from time to
time additional original documents evidencing an assumption or modification of a
Mortgage Loan and (b) any other documents required to be delivered by the
Depositor or the Master Servicer to the Trustee. In the event that the original
Mortgage is not delivered and in connection with the payment in full of the
related Mortgage Loan and the public recording office requires the presentation
of a "lost instruments affidavit and indemnity" or any equivalent document,
because only a copy of the Mortgage can be delivered with the instrument of
satisfaction or reconveyance, the Master Servicer shall execute and deliver or
cause to be executed and delivered such a document to the public recording
office. In the case where a public recording office retains the original
recorded Mortgage or in the case where a Mortgage is lost after recordation in a
public recording office, the Seller shall deliver to the Trustee a copy of such
Mortgage certified by such public recording office to be a true and complete
copy of the original recorded Mortgage.

         In addition, in the event that in connection with any Mortgage Loan the
Depositor cannot deliver the original or duplicate original lender's title
policy (together with all riders thereto), satisfying the requirements of clause
(v) above, concurrently with the execution and delivery hereof because the
related Mortgage has not been returned from the applicable public recording
office, the Depositor shall promptly deliver to the Trustee or the Custodian on
its behalf such original or duplicate original lender's title policy (together
with all riders thereto) upon receipt thereof from the applicable title insurer,
but in no event shall any such delivery of the original or duplicate original
lender's title policy be made later than one year following the Closing Date;
provided, however, in the event the Depositor is unable to deliver by such date
the original or duplicate original lender's title policy (together with all
riders thereto) because the related Mortgage has not been returned by the
appropriate recording office, the Depositor shall deliver such documents to the
Trustee or the Custodian on its behalf as promptly as possible upon receipt
thereof and, in any event, within 720 days following the Closing Date.
Notwithstanding the preceding, in connection with any Mortgage Loan for which
either the original or duplicate original title policy has not been delivered to
the Trust, if at any time during the term of this Agreement the parent company
of the Seller does not have a long term senior debt rating of A- or higher from
S&P and A- or higher from Fitch (if rated by Fitch), then the Depositor shall
within 30 days deliver to the Trustee or the Custodian on its behalf (if it has
not previously done so) a written commitment or interim binder or preliminary
report of the title issued by the title insurance or escrow company with respect
to the mortgaged property.

         Subject to the immediately following sentence, as promptly as
practicable subsequent to such transfer and assignment, and in any event, within
thirty (30) days thereafter, the Master Servicer shall (i) affix the Trustee's
name to each assignment of Mortgage, as the assignee thereof, (ii) cause such
assignment to be in proper form for recording in the appropriate public office
for real property records and (iii) cause to be delivered for recording in the
appropriate public office for real property records the assignments of the
Mortgages to the Trustee, except that, with respect to any assignments of
Mortgage as to which the Master Servicer has not received the information
required to prepare such assignment in recordable form, the Master Servicer's
obligation to do so and to deliver the same for such recording shall be as soon
as practicable after receipt of such information and in any event within thirty
(30) days after receipt thereof. Notwithstanding the foregoing, the Master
Servicer need not cause to be recorded any assignment which relates to a
Mortgage Loan in any state other than the Required Recordation States.

                                      -35-
<PAGE>

          In the case of Mortgage Loans that have been prepaid in full as of the
Closing Date, the Depositor, in lieu of delivering the above documents to the
Trustee or the Custodian on its behalf, will deposit in the Certificate Account
the portion of such payment that is required to be deposited in the Certificate
Account pursuant to Section 3.8 hereof.

          Notwithstanding anything to the contrary in this Agreement, within
thirty days after the Closing Date, the Seller shall either (i) deliver to the
Trustee or the Custodian on its behalf the Mortgage File as required pursuant to
this Section 2.1 for each Delay Delivery Mortgage Loan or (ii) (A) substitute a
Substitute Mortgage Loan for the Delay Delivery Mortgage Loan or (B) repurchase
the Delay Delivery Mortgage Loan, which substitution or repurchase shall be
accomplished in the manner and subject to the conditions set forth in Section
2.3 (treating each Delay Delivery Mortgage Loan as a Deleted Mortgage Loan for
purposes of such Section 2.3), provided, however, that if the Seller fails to
deliver a Mortgage File for any Delay Delivery Mortgage Loan within the thirty-
day period provided in the prior sentence, the Seller shall use its best
reasonable efforts to effect a substitution, rather than a repurchase of, such
Deleted Mortgage Loan and provided further that the cure period provided for in
Section 2.2 or in Section 2.3 shall not apply to the initial delivery of the
Mortgage File for such Delay Delivery Mortgage Loan, but rather the Seller shall
have five (5) Business Days to cure such failure to deliver. At the end of such
thirty- day period, the Trustee or the Custodian, on behalf of the Trustee shall
send a Delay Delivery Certification for the Delay Delivery Mortgage Loans
delivered during such thirty-day period in accordance with the provisions of
Section 2.2. Notwithstanding anything to the contrary contained in this
Agreement, none of the Mortgage Loans in the Trust Fund is or will be Delay
Delivery Mortgage Loans.

          SECTION 2.2 Acceptance by Trustee of the Mortgage Loans.

          The Trustee or the Custodian, on behalf of the Trustee acknowledges
receipt of the documents identified in the Initial Certification in the form
annexed hereto as Exhibit E and declares that it or the Custodian holds and will
hold such documents and the other documents delivered to it constituting the
Mortgage Files, and that it or the Custodian holds or will hold such other
assets as are included in the Trust Fund, in trust for the exclusive use and
benefit of all present and future Certificateholders. The Trustee acknowledges
that the Custodian will maintain possession of the Mortgage Notes in the State
of Illinois, unless otherwise permitted by the Rating Agencies.

          The Trustee agrees to execute and deliver or to cause the Custodian to
execute and deliver on the Closing Date to the Depositor, the Master Servicer
and the Seller an Initial Certification in the form annexed hereto as Exhibit E.
Based on its or the Custodian's review and examination, and only as to the
documents identified in such Initial Certification, the Custodian, on behalf of
the Trustee acknowledges that such documents appear regular on their face and
relate to such Mortgage Loan. Neither the Trustee nor the Custodian shall be
under any duty or obligation to inspect, review or examine said documents,
instruments, certificates or other papers to determine that the same are
genuine, enforceable or appropriate for the represented purpose or that they
have actually been recorded in the real estate records or that they are other
than what they purport to be on their face.

          On or about the thirtieth (30th) day after the Closing Date, the
Trustee shall deliver or shall cause the Custodian to deliver to the Depositor,
the Master Servicer and the Seller a Delay Delivery Certification in the form
annexed hereto as Exhibit F, with any applicable exceptions noted thereon.

                                      -36-
<PAGE>

Notwithstanding anything to the contrary contained in this Agreement, none of
the Mortgage Loans in the Trust Fund is or will be Delay Delivery Mortgage
Loans.

          Not later than 90 days after the Closing Date, the Trustee shall
deliver or shall cause the Custodian to deliver to the Depositor, the Master
Servicer and the Seller a Final Certification in the form annexed hereto as
Exhibit G, with any applicable exceptions noted thereon.

          If, in the course of such review, the Trustee or the Custodian, on
behalf of the Trustee finds any document constituting a part of a Mortgage File
which does not meet the requirements of Section 2.1, the Trustee shall list or
shall cause the Custodian to list such as an exception in the Final
Certification; provided, however that neither the Trustee nor the Custodian
shall make any determination as to whether (i) any endorsement is sufficient to
transfer all right, title and interest of the party so endorsing, as noteholder
or assignee thereof, in and to that Mortgage Note or (ii) any assignment is in
recordable form or is sufficient to effect the assignment of and transfer to the
assignee thereof under the mortgage to which the assignment relates. The Seller
shall promptly correct or cure such defect within 90 days from the date it was
so notified of such defect and, if the Seller does not correct or cure such
defect within such period, the Seller shall either (a) substitute for the
related Mortgage Loan a Substitute Mortgage Loan, which substitution shall be
accomplished in the manner and subject to the conditions set forth in Section
2.3, or (b) purchase such Mortgage Loan from the Trustee within 90 days from the
date the Seller was notified of such defect in writing at the Purchase Price of
such Mortgage Loan; provided, however, that in no event shall such substitution
or purchase occur more than 540 days from the Closing Date, except that if the
substitution or purchase of a Mortgage Loan pursuant to this provision is
required by reason of a delay in delivery of any documents by the appropriate
recording office, and there is a dispute between either the Master Servicer or
the Seller and the Trustee over the location or status of the recorded document,
then such substitution or purchase shall occur within 720 days from the Closing
Date. The Trustee shall deliver written notice to each Rating Agency within 270
days from the Closing Date indicating each Mortgage Loan (a) which has not been
returned by the appropriate recording office or (b) as to which there is a
dispute as to location or status of such Mortgage Loan. Such notice shall be
delivered every 90 days thereafter until the related Mortgage Loan is returned
to the Trustee or the Custodian on its behalf. Any such substitution pursuant to
(a) above or purchase pursuant to (b) above shall not be effected prior to the
delivery to the Trustee of the Opinion of Counsel required by Section 2.5
hereof, if any, and any substitution pursuant to (a) above shall not be effected
prior to the additional delivery to the Trustee of a Request for Release
substantially in the form of Exhibit M. No substitution is permitted to be made
in any calendar month after the Determination Date for such month. The Purchase
Price for any such Mortgage Loan shall be deposited by the Seller in the
Certificate Account on or prior to the Distribution Account Deposit Date for the
Distribution Date in the month following the month of repurchase and, upon
receipt of such deposit and certification with respect thereto in the form of
Exhibit M hereto, the Trustee shall cause the Custodian to release the related
Mortgage File to the Seller and shall execute and deliver at the Seller's
request such instruments of transfer or assignment prepared by the Seller, in
each case without recourse, as shall be necessary to vest in the Seller, or a
designee, the Trustee's interest in any Mortgage Loan released pursuant hereto.

         The Trustee shall retain or shall cause the Custodian to retain
possession and custody of each Mortgage File in accordance with and subject to
the terms and conditions set forth herein. The Master Servicer shall promptly
deliver to the Trustee or the Custodian on its behalf, upon the

                                      -37-
<PAGE>

execution or receipt thereof, the originals of such other documents or
instruments constituting the Mortgage File as come into the possession of the
Master Servicer from time to time.

          It is understood and agreed that the obligation of the Seller to
substitute for or to purchase any Mortgage Loan which does not meet the
requirements of Section 2.1 above shall constitute the sole remedy respecting
such defect available to the Trustee, the Depositor and any Certificateholder
against the Seller.

          SECTION 2.3 Representations, Warranties and Covenants of the Seller
and Master Servicer.

          (a) First Horizon Home Loan Corporation, in its capacities as Seller
and Master Servicer, hereby makes the representations and warranties set forth
in Schedule II hereto, and by this reference incorporated herein, to the
Depositor and the Trustee, as of the Closing Date, or if so specified therein,
as of the Cut-off Date.

          (b) The Seller, in its capacity as Seller, hereby makes the
representations and warranties set forth in Schedule III hereto, and by this
reference incorporated herein, to the Depositor and the Trustee, as of the
Closing Date, or if so specified therein, as of the Cut-off Date.

          (c) Upon discovery by any of the parties hereto of a breach of a
representation or warranty made pursuant to Section 2.3(b) that materially and
adversely affects the interests of the Certificateholders in any Mortgage Loan,
the party discovering such breach shall give prompt notice thereof to the other
parties. The Seller hereby covenants that within 90 days of the earlier of its
discovery or its receipt of written notice from any party of a breach of any
representation or warranty made pursuant to Section 2.3(b) which materially and
adversely affects the interests of the Certificateholders in any Mortgage Loan,
it shall cure such breach in all material respects, and if such breach is not so
cured, shall, (i) if such 90-day period expires prior to the second anniversary
of the Closing Date, remove such Mortgage Loan (a "Deleted Mortgage Loan") from
the Trust Fund and substitute in its place a Substitute Mortgage Loan, in the
manner and subject to the conditions set forth in this Section; or (ii)
repurchase the affected Mortgage Loan or Mortgage Loans from the Trustee at the
Purchase Price in the manner set forth below; provided, however, that any such
substitution pursuant to (i) above shall not be effected prior to the delivery
to the Trustee of the Opinion of Counsel required by Section 2.5 hereof, if any,
and any such substitution pursuant to (i) above shall not be effected prior to
the additional delivery to the Trustee or the Custodian on its behalf of a
Request for Release substantially in the form of Exhibit M and the Mortgage File
for any such Substitute Mortgage Loan. The Seller shall promptly reimburse the
Master Servicer and the Trustee for any expenses reasonably incurred by the
Master Servicer or the Trustee in respect of enforcing the remedies for such
breach. With respect to the representations and warranties described in this
Section which are made to the best of the Seller's knowledge, if it is
discovered by either the Depositor, the Seller or the Trustee that the substance
of such representation and warranty is inaccurate and such inaccuracy materially
and adversely affects the value of the related Mortgage Loan or the interests of
the Certificateholders therein, notwithstanding the Seller's lack of knowledge
with respect to the substance of such representation or warranty, such
inaccuracy shall be deemed a breach of the applicable representation or
warranty.

         With respect to any Substitute Mortgage Loan or Loans, the Seller shall
deliver to the Trustee or the Custodian on its behalf for the benefit of the
Certificateholders the Mortgage Note, the

                                      -38-
<PAGE>

Mortgage, the related assignment of the Mortgage, and such other documents and
agreements as are required by Section 2.1, with the Mortgage Note endorsed and
the Mortgage assigned as required by Section 2.1. No substitution is permitted
to be made in any calendar month after the Determination Date for such month.
Scheduled Payments due with respect to Substitute Mortgage Loans in the month of
substitution shall not be part of the Trust Fund and will be retained by the
Seller on the next succeeding Distribution Date. For the month of substitution,
distributions to Certificateholders will include the monthly payment due on any
Deleted Mortgage Loan for such month and thereafter the Seller shall be entitled
to retain all amounts received in respect of such Deleted Mortgage Loan. The
Master Servicer shall amend the Mortgage Loan Schedule for the benefit of the
Certificateholders to reflect the removal of such Deleted Mortgage Loan and the
substitution of the Substitute Mortgage Loan or Loans and the Master Servicer
shall deliver the amended Mortgage Loan Schedule to the Trustee. Upon such
substitution, the Substitute Mortgage Loan or Loans shall be subject to the
terms of this Agreement in all respects, and the Seller shall be deemed to have
made with respect to such Substitute Mortgage Loan or Loans, as of the date of
substitution, the representations and warranties made pursuant to Section 2.3(b)
with respect to such Mortgage Loan. Upon any such substitution and the deposit
to the Certificate Account of the amount required to be deposited therein in
connection with such substitution as described in the following paragraph, the
Trustee shall release or shall cause the Custodian to release the Mortgage File
held for the benefit of the Certificateholders relating to such Deleted Mortgage
Loan to the Seller and shall execute and deliver at the Seller's direction such
instruments of transfer or assignment prepared by the Seller, in each case
without recourse, as shall be necessary to vest title in the Seller, or its
designee, the Trustee's interest in any Deleted Mortgage Loan substituted for
pursuant to this Section 2.3.

         For any month in which the Seller substitutes one or more Substitute
Mortgage Loans for one or more Deleted Mortgage Loans, the Master Servicer will
determine the amount (if any) by which the aggregate principal balance of all
such Substitute Mortgage Loans as of the date of substitution is less than the
aggregate Stated Principal Balance of all such Deleted Mortgage Loans (after
application of the scheduled principal portion of the monthly payments due in
the month of substitution). The amount of such shortage (the "Substitution
Adjustment Amount") plus an amount equal to the aggregate of any unreimbursed
Advances with respect to such Deleted Mortgage Loans shall be deposited in the
Certificate Account by the Seller on or before the Distribution Account Deposit
Date for the Distribution Date in the month succeeding the calendar month during
which the related Mortgage Loan became required to be purchased or replaced
hereunder.

         In the event that the Seller shall have repurchased a Mortgage Loan,
the Purchase Price therefor shall be deposited in the Certificate Account
pursuant to Section 3.5 on or before the Distribution Account Deposit Date for
the Distribution Date in the month following the month during which the Seller
became obligated hereunder to repurchase or replace such Mortgage Loan and upon
such deposit of the Purchase Price, the delivery of the Opinion of Counsel
required by Section 2.5 and receipt of a Request for Release in the form of
Exhibit M hereto, the Trustee shall release or shall cause the Custodian to
release the related Mortgage File held for the benefit of the Certificateholders
to such Person, and the Trustee shall execute and deliver or shall cause the
Custodian to execute and deliver at such Person's direction such instruments of
transfer or assignment prepared by such Person, in each case without recourse,
as shall be necessary to transfer title from the Trustee. It is understood and
agreed that the obligation under this Agreement of any Person to cure,
repurchase or replace any Mortgage Loan as to which a breach has occurred and is

                                      -39-
<PAGE>

continuing shall constitute the sole remedy against such Persons respecting such
breach available to Certificateholders, the Depositor or the Trustee on their
behalf.

          The representations and warranties made pursuant to this Section 2.3
shall survive delivery of the respective Mortgage Files to the Trustee or the
Custodian for the benefit of the Certificateholders.

          SECTION 2.4 Representations and Warranties of the Depositor as to the
Mortgage Loans.

          The Depositor hereby represents and warrants to the Trustee with
respect to each Mortgage Loan as of the date hereof or such other date set forth
herein that as of the Closing Date, and following the transfer of the Mortgage
Loans to it by the Seller, the Depositor had good title to the Mortgage Loans
and the Mortgage Notes were subject to no offsets, defenses or counterclaims.

         The Depositor hereby assigns, transfers and conveys to the Trustee all
of its rights with respect to the Mortgage Loans including, without limitation,
the representations and warranties of the Seller made pursuant to Section 2.3(b)
hereof, together with all rights of the Depositor to require the Seller to cure
any breach thereof or to repurchase or substitute for any affected Mortgage Loan
in accordance with this Agreement.

         It is understood and agreed that the representations and warranties set
forth in this Section 2.4 shall survive delivery of the Mortgage Files to the
Trustee. Upon discovery by the Depositor or the Trustee of a breach of any of
the foregoing representations and warranties set forth in this Section 2.4
(referred to herein as a "breach"), which breach materially and adversely
affects the interest of the Certificateholders, the party discovering such
breach shall give prompt written notice to the others and to each Rating Agency.

         SECTION 2.5 Delivery of Opinion of Counsel in Connection with
Substitutions.

         (a)   Notwithstanding any contrary provision of this Agreement, no
substitution pursuant to Section 2.2 or Section 2.3 shall be made more than 90
days after the Closing Date unless the Seller delivers to the Trustee an Opinion
of Counsel, which Opinion of Counsel shall not be at the expense of either the
Trustee or the Trust Fund, addressed to the Trustee, to the effect that such
substitution will not (i) result in the imposition of the tax on "prohibited
transactions" on the Trust Fund or contributions after the Startup Date, as
defined in Sections 860F(a)(2) and 860G(d) of the Code, respectively, or (ii)
cause the Trust Fund to fail to qualify as a REMIC at any time that any
Certificates are outstanding.

         (b) Upon discovery by the Depositor, the Seller, the Master Servicer or
the Trustee that any Mortgage Loan does not constitute a "qualified mortgage"
within the meaning of Section 860G(a)(3) of the Code, the party discovering such
fact shall promptly (and in any event within five (5) Business Days of
discovery) give written notice thereof to the other parties. In connection
therewith, the Trustee shall require the Seller, at the Seller's option, to
either (i) substitute, if the conditions in Section 2.3(c) with respect to
substitutions are satisfied, a Substitute Mortgage Loan for the affected
Mortgage Loan, or (ii) repurchase the affected Mortgage Loan within 90 days of
such discovery in the same manner as it would a Mortgage Loan for a breach of
representation or warranty made pursuant to Section 2.3. The Trustee shall
reconvey or shall cause the Custodian to reconvey

                                      -40-
<PAGE>

to the Seller the Mortgage Loan to be released pursuant hereto in the same
manner, and on the same terms and conditions, as it would a Mortgage Loan
repurchased for breach of a representation or warranty contained in Section 2.3.

     SECTION 2.6 Execution and Delivery of Certificates.

     The Trustee acknowledges the transfer and assignment to it of the Trust
Fund and, concurrently with such transfer and assignment, has executed and
delivered to or upon the order of the Depositor, the Certificates in authorized
denominations evidencing directly or indirectly the entire ownership of the
Trust Fund. The Trustee agrees to hold the Trust Fund and exercise the rights
referred to above for the benefit of all present and future Holders of the
Certificates and to perform the duties set forth in this Agreement to the best
of its ability, to the end that the interests of the Holders of the Certificates
may be adequately and effectively protected.

     SECTION 2.7 REMIC Matters.

     The Preliminary Statement sets forth the designations and "latest possible
maturity date" for federal income tax purposes of all interests created hereby.
The "Startup Day" for purposes of the REMIC Provisions shall be the Closing
Date. The "tax matters person" with respect to each REMIC hereunder shall be the
Trustee and the Trustee shall hold the Tax Matters Person Certificate. The
REMIC's fiscal year shall be the calendar year and its accounts shall be
maintained using the accrual method.

     SECTION 2.8 Covenants of the Master Servicer.

     The Master Servicer hereby covenants to the Depositor and the Trustee as
follows:

     (a)  the Master Servicer shall comply in the performance of its obligations
under this Agreement with all reasonable rules and requirements of the insurer
under each Required Insurance Policy; and

     (b)  no written information, certificate of an officer, statement furnished
in writing or written report delivered to the Depositor, any affiliate of the
Depositor or the Trustee and prepared by the Master Servicer pursuant to this
Agreement will contain any untrue statement of a material fact or omit to state
a material fact necessary to make such information, certificate, statement or
report not misleading.

                                  ARTICLE III
                         ADMINISTRATION AND SERVICING
                               OF MORTGAGE LOANS

     SECTION 3.1 Master Servicer to Service Mortgage Loans.

     For and on behalf of the Certificateholders, the Master Servicer shall
service and administer the Mortgage Loans in accordance with the terms of this
Agreement and customary and usual standards of practice of prudent mortgage loan
servicers. In connection with such servicing and

                                      -41-
<PAGE>

administration, the Master Servicer shall have full power and authority, acting
alone and/or through Subservicers as provided in Section 3.2 hereof, to do or
cause to be done any and all things that it may deem necessary or desirable in
connection with such servicing and administration, including but not limited to,
the power and authority, subject to the terms hereof (i) to execute and deliver,
on behalf of the Certificateholders and the Trustee, customary consents or
waivers and other instruments and documents, (ii) to consent to transfers of any
Mortgaged Property and assumptions of the Mortgage Notes and related Mortgages
(but only in the manner provided in this Agreement), (iii) to collect any
Insurance Proceeds and other Liquidation Proceeds, and (iv) to effectuate
foreclosure or other conversion of the ownership of the Mortgaged Property
securing any Mortgage Loan; provided that the Master Servicer shall not take any
action that is inconsistent with or prejudices the interests of the Trust Fund
or the Certificateholders in any Mortgage Loan or the rights and interests of
the Depositor, the Trustee and the Certificateholders under this Agreement. The
Master Servicer shall represent and protect the interests of the Trust Fund in
the same manner as it protects its own interests in mortgage loans in its own
portfolio in any claim, proceeding or litigation regarding a Mortgage Loan, and
shall not make or permit any modification, waiver or amendment of any Mortgage
Loan which would cause the Trust Fund to fail to qualify as a REMIC or result in
the imposition of any tax under Section 860F(a) or Section 860G(d) of the Code.
Without limiting the generality of the foregoing, the Master Servicer, in its
own name or in the name of the Depositor and the Trustee, is hereby authorized
and empowered by the Depositor and the Trustee, when the Master Servicer
believes it appropriate in its reasonable judgment, to execute and deliver, on
behalf of the Trustee, the Depositor, the Certificateholders or any of them, any
and all instruments of satisfaction or cancellation, or of partial or full
release or discharge and all other comparable instruments, with respect to the
Mortgage Loans, and with respect to the Mortgaged Properties held for the
benefit of the Certificateholders. The Master Servicer shall prepare and deliver
to the Depositor and/or the Trustee such documents requiring execution and
delivery by either or both of them as are necessary or appropriate to enable the
Master Servicer to service and administer the Mortgage Loans to the extent that
the Master Servicer is not permitted to execute and deliver such documents
pursuant to the preceding sentence. Upon receipt of such documents, the
Depositor and/or the Trustee shall execute such documents and deliver them to
the Master Servicer.

     In accordance with the standards of the preceding paragraph, the Master
Servicer shall advance or cause to be advanced funds as necessary for the
purpose of effecting the payment of taxes and assessments on the Mortgaged
Properties, which advances shall be reimbursable in the first instance from
related collections from the Mortgagors pursuant to Section 3.6, and further as
provided in Section 3.8. The costs incurred by the Master Servicer, if any, in
effecting the timely payments of taxes and assessments on the Mortgaged
Properties and related insurance premiums shall not, for the purpose of
calculating monthly distributions to the Certificateholders, be added to the
Stated Principal Balances of the related Mortgage Loans, notwithstanding that
the terms of such Mortgage Loans so permit.

     SECTION 3.2 Subservicing; Enforcement of the Obligations of Servicers.

     (a)  The Master Servicer may arrange for the subservicing of any Mortgage
Loan by a Subservicer pursuant to a subservicing agreement; provided, however,
that such subservicing arrangement and the terms of the related subservicing
agreement must provide for the servicing of such Mortgage Loans in a manner
consistent with the servicing arrangements contemplated hereunder. Unless the
context otherwise requires, references in this Agreement to actions taken or

                                      -42-
<PAGE>

to be taken by the Master Servicer in servicing the Mortgage Loans include
actions taken or to be taken by a Subservicer on behalf of the Master Servicer.
Notwithstanding the provisions of any subservicing agreement, any of the
provisions of this Agreement relating to agreements or arrangements between the
Master Servicer and a Subservicer or reference to actions taken through a
Subservicer or otherwise, the Master Servicer shall remain obligated and liable
to the Depositor, the Trustee and the Certificateholders for the servicing and
administration of the Mortgage Loans in accordance with the provisions of this
Agreement without diminution of such obligation or liability by virtue of such
subservicing agreements or arrangements or by virtue of indemnification from the
Subservicer and to the same extent and under the same terms and conditions as if
the Master Servicer alone were servicing and administering the Mortgage Loans.
All actions of each Subservicer performed pursuant to the related subservicing
agreement shall be performed as an agent of the Master Servicer with the same
force and effect as if performed directly by the Master Servicer.

     (b)  For purposes of this Agreement, the Master Servicer shall be deemed to
have received any collections, recoveries or payments with respect to the
Mortgage Loans that are received by a Subservicer regardless of whether such
payments are remitted by the Subservicer to the Master Servicer.

     SECTION 3.3 Rights of the Depositor and the Trustee in Respect of the
Master Servicer.

     The Depositor may, but is not obligated to, enforce the obligations of the
Master Servicer hereunder and may, but is not obligated to, perform, or cause a
designee to perform, any defaulted obligation of the Master Servicer hereunder
and in connection with any such defaulted obligation to exercise the related
rights of the Master Servicer hereunder; provided that the Master Servicer shall
not be relieved of any of its obligations hereunder by virtue of such
performance by the Depositor or its designee. Neither the Trustee nor the
Depositor shall have any responsibility or liability for any action or failure
to act by the Master Servicer nor shall the Trustee or the Depositor be
obligated to supervise the performance of the Master Servicer hereunder or
otherwise.

     SECTION 3.4 Trustee to Act as Master Servicer.

     In the event that the Master Servicer shall for any reason no longer be the
Master Servicer hereunder (including by reason of an Event of Default), the
Trustee or its successor shall thereupon assume all of the rights and
obligations of the Master Servicer hereunder arising thereafter (except that the
Trustee shall not be (i) liable for losses of the Master Servicer pursuant to
Section 3.9 hereof or any acts or omissions of the predecessor Master Servicer
hereunder), (ii) obligated to make Advances if it is prohibited from doing so by
applicable law, (iii) obligated to effectuate repurchases or substitutions of
Mortgage Loans hereunder including, but not limited to, repurchases or
substitutions of Mortgage Loans pursuant to Section 2.2 or 2.3 hereof, (iv)
responsible for expenses of the Master Servicer pursuant to Section 2.3 or (v)
deemed to have made any representations and warranties of the Master Servicer
hereunder). Any such assumption shall be subject to Section 7.2 hereof. If the
Master Servicer shall for any reason no longer be the Master Servicer (including
by reason of any Event of Default), the Trustee or its successor shall succeed
to any rights and obligations of the Master Servicer under each subservicing
agreement.

     The Master Servicer shall, upon request of the Trustee, but at the expense
of the Master Servicer, deliver to the assuming party all documents and records
relating to each subservicing

                                      -43-
<PAGE>

agreement or substitute subservicing agreement and the Mortgage Loans then being
serviced thereunder and an accounting of amounts collected or held by it and
otherwise use its best efforts to effect the orderly and efficient transfer of
the substitute subservicing agreement to the assuming party.

     SECTION 3.5 Collection of Mortgage Loan Payments; Certificate Account;
Distribution Account.

     (a)  The Master Servicer shall make reasonable efforts in accordance with
the customary and usual standards of practice of prudent mortgage servicers to
collect all payments called for under the terms and provisions of the Mortgage
Loans to the extent such procedures shall be consistent with this Agreement and
the terms and provisions of any related Required Insurance Policy. Consistent
with the foregoing, the Master Servicer may in its discretion (i) waive any late
payment charge or any prepayment charge or penalty interest in connection with
the prepayment of a Mortgage Loan and (ii) extend the due dates for payments due
on a Mortgage Note for a period not greater than 180 days; provided, however,
that the Master Servicer cannot extend the maturity of any such Mortgage Loan
past the date on which the final payment is due on the latest maturing Mortgage
Loan as of the Cut-off Date. In the event of any such arrangement, the Master
Servicer shall make Advances on the related Mortgage Loan in accordance with the
provisions of Section 4.1 during the scheduled period in accordance with the
amortization schedule of such Mortgage Loan without modification thereof by
reason of such arrangements. The Master Servicer shall not be required to
institute or join in litigation with respect to collection of any payment
(whether under a Mortgage, Mortgage Note or otherwise or against any public or
governmental authority with respect to a taking or condemnation) if it
reasonably believes that enforcing the provision of the Mortgage or other
instrument pursuant to which such payment is required is prohibited by
applicable law.

     (b)  The Master Servicer shall establish and maintain a Certificate Account
into which the Master Servicer shall deposit or cause to be deposited no later
than two Business Days after receipt, except as otherwise specifically provided
herein, the following payments and collections remitted by Subservicers or
received by it in respect of Mortgage Loans subsequent to the Cut-off Date
(other than in respect of principal and interest due on the Mortgage Loans on or
before the Cut-off Date) and the following amounts required to be deposited
hereunder:

          (i)   all payments on account of principal on the Mortgage Loans,
     including Principal Prepayments;

          (ii)  all payments on account of interest on the Mortgage Loans, net
     of the related Master Servicing Fee, any Prepayment Interest Excess and,
     for so long as First Horizon is the Master Servicer, any Retained Yield;

          (iii) all Insurance Proceeds and Liquidation Proceeds, other than
     proceeds to be applied to the restoration or repair of the Mortgaged
     Property or released to the Mortgagor in accordance with the Master
     Servicer's normal servicing procedures;

          (iv)  any amount required to be deposited by the Master Servicer
     pursuant to Section 3.5(c) in connection with any losses on Permitted
     Investments;

                                      -44-
<PAGE>

          (v)    any amounts required to be deposited by the Master Servicer
     pursuant to Section 3.9(b), 3.9(d), and in respect of net monthly rental
     income from REO Property pursuant to Section 3.11 hereof;

          (vi)   all Substitution Adjustment Amounts;

          (vii)  all Advances made by the Master Servicer pursuant to Section
     4.1; and

          (viii) any other amounts required to be deposited hereunder.

     In addition, with respect to any Mortgage Loan that is subject to a buydown
agreement, on each Due Date for such Mortgage Loan, in addition to the monthly
payment remitted by the Mortgagor, the Master Servicer shall cause funds to be
deposited into the Certificate Account in an amount required to cause an amount
of interest to be paid with respect to such Mortgage Loan equal to the amount of
interest that has accrued on such Mortgage Loan from the preceding Due Date at
the related Adjusted Mortgage Rate on such date.

     The foregoing requirements for remittance by the Master Servicer shall be
exclusive, it being understood and agreed that, without limiting the generality
of the foregoing, payments in the nature of prepayment penalties, late payment
charges, assumption fees or amounts attributable to reimbursements of Advances,
if collected, need not be remitted by the Master Servicer. In the event that the
Master Servicer shall remit any amount not required to be remitted, it may at
any time withdraw or direct the institution maintaining the Certificate Account
to withdraw such amount from the Certificate Account, any provision herein to
the contrary notwithstanding. Such withdrawal or direction may be accomplished
by delivering written notice thereof to the Trustee or such other institution
maintaining the Certificate Account which describes the amounts deposited in
error in the Certificate Account. The Master Servicer shall maintain adequate
records with respect to all withdrawals made pursuant to this Section. All funds
deposited in the Certificate Account shall be held in trust for the
Certificateholders until withdrawn in accordance with Section 3.8.

     (c)  The Trustee shall establish and maintain, on behalf of the
Certificateholders, the Distribution Account. The Trustee shall, promptly upon
receipt, deposit in the Distribution Account and retain therein the following:

          (i)    the aggregate amount remitted by the Master Servicer to the
     Trustee pursuant to Section 3.8(a)(ix);

          (ii)   any amount deposited by the Master Servicer pursuant to this
     Section 3.5(c) in connection with any losses on Permitted Investments; and

          (iii)  any other amounts deposited hereunder which are required to be
     deposited in the Distribution Account.

     In the event that the Master Servicer shall remit any amount not required
to be remitted, it may at any time direct the Trustee to withdraw such amount
from the Distribution Account, any provision herein to the contrary
notwithstanding. Such direction may be accomplished by delivering an Officer's
Certificate to the Trustee which describes the amounts deposited in error in the

                                      -45-
<PAGE>

Distribution Account. All funds deposited in the Distribution Account shall be
held by the Trustee in trust for the Certificateholders until disbursed in
accordance with this Agreement or withdrawn in accordance with Section 3.8. In
no event shall the Trustee incur liability for withdrawals from the Distribution
Account at the direction of the Master Servicer.

          (iv) The institutions at which the Certificate Account and the
     Distribution Account are maintained shall invest funds as directed by the
     Master Servicer in Permitted Investments which in both cases shall mature
     not later than (i) in the case of the Certificate Account, the second
     Business Day next preceding the related Distribution Account Deposit Date
     (except that if such Permitted Investment is an obligation of the
     institution that maintains such account, then such Permitted Investment
     shall mature not later than the Business Day next preceding such
     Distribution Account Deposit Date) and (ii) in the case of the Distribution
     Account, the Business Day next preceding the Distribution Date (except that
     if such Permitted Investment is an obligation of the institution that
     maintains such fund or account, then such Permitted Investment shall mature
     not later than such Distribution Date) and, in each case, shall not be sold
     or disposed of prior to its maturity. All such Permitted Investments shall
     be made in the name of the Trustee, for the benefit of the
     Certificateholders. All income and gain net of any losses realized from any
     such investment of funds on deposit in the Certificate Account shall be for
     the benefit of the Master Servicer as servicing compensation and all income
     and gain net of any losses realized from any such investment of funds on
     deposit in the Distribution Account shall be for the benefit of the
     Trustee. The amount of any Realized Losses in the Certificate Account in
     respect of any such investments shall promptly be deposited by the Master
     Servicer in the Certificate Account and the amount of any Realized Losses
     in the Distribution Account in respect of any such investments shall
     promptly be deposited by the Trustee into the Distribution Account. All
     reinvestment income earned on amounts on deposit in the Distribution
     Account shall be for the benefit of the Trustee. The Trustee in its
     fiduciary capacity shall not be liable for the amount of any loss incurred
     in respect of any investment or lack of investment of funds held in the
     Certificate Account and made in accordance with this Section 3.5.

          (v)  The Master Servicer shall give notice to the Trustee, the Seller,
     each Rating Agency and the Depositor of any proposed change of the location
     of the Certificate Account prior to any change thereof. The Trustee shall
     give notice to the Master Servicer, the Seller, each Rating Agency and the
     Depositor of any proposed change of the location of the Distribution
     Account prior to any change thereof.

     SECTION 3.6 Collection of Taxes, Assessments and Similar Items; Escrow
Accounts.

     (a)  To the extent required by the related Mortgage Note and not violative
of current law, the Master Servicer shall establish and maintain one or more
accounts (each, an "Escrow Account") and deposit and retain therein all
collections from the Mortgagors (or advances by the Master Servicer) for the
payment of taxes, assessments, hazard insurance premiums or comparable items for
the account of the Mortgagors. Nothing herein shall require the Master Servicer
to compel a Mortgagor to establish an Escrow Account in violation of applicable
law.

     (b)  Withdrawals of amounts so collected from the Escrow Accounts may be
made only to effect timely payment of taxes, assessments, hazard insurance
premiums, condominium or PUD

                                      -46-
<PAGE>

association dues, or comparable items, to reimburse the Master Servicer out of
related collections for any payments made pursuant to Sections 3.1 hereof (with
respect to taxes and assessments and insurance premiums) and 3.9 hereof (with
respect to hazard insurance), to refund to any Mortgagors any sums determined to
be overages, to pay interest, if required by law or the terms of the related
Mortgage or Mortgage Note, to Mortgagors on balances in the Escrow Account or to
clear and terminate the Escrow Account at the termination of this Agreement in
accordance with Section 9.1 hereof. The Escrow Accounts shall not be a part of
the Trust Fund.

     (c)  The Master Servicer shall advance any payments referred to in Section
3.6(a) that are not timely paid by the Mortgagors on the date when the tax,
premium or other cost for which such payment is intended is due, but the Master
Servicer shall be required so to advance only to the extent that such advances,
in the good faith judgment of the Master Servicer, will be recoverable by the
Master Servicer out of Insurance Proceeds, Liquidation Proceeds or otherwise.

     SECTION 3.7 Access to Certain Documentation and Information Regarding the
Mortgage Loans.

     The Master Servicer shall afford the Depositor and the Trustee reasonable
access to all records and documentation regarding the Mortgage Loans and all
accounts, insurance information and other matters relating to this Agreement,
such access being afforded without charge, but only upon reasonable request and
during normal business hours at the office designated by the Master Servicer.

     Upon reasonable advance notice in writing, the Master Servicer will provide
to each Certificateholder which is a savings and loan association, bank or
insurance company certain reports and reasonable access to information and
documentation regarding the Mortgage Loans sufficient to permit such
Certificateholder to comply with applicable regulations of the OTS or other
regulatory authorities with respect to investment in the Certificates; provided
that the Master Servicer shall be entitled to be reimbursed by each such
Certificateholder for actual expenses incurred by the Master Servicer in
providing such reports and access.

     SECTION 3.8 Permitted Withdrawals from the Certificate Account and
Distribution Account.

     (a)  The Master Servicer may from time to time make withdrawals from the
Certificate Account for the following purposes:

          (i)  to the extent not previously retained by the Master Servicer, to
     pay to First Horizon the Retained Yield and to pay to the Master Servicer
     the master servicing compensation to which it is entitled pursuant to
     Section 3.14, and earnings on or investment income with respect to funds in
     or credited to the Certificate Account as additional servicing
     compensation;

          (ii) to the extent not previously retained by the Master Servicer, to
     reimburse the Master Servicer for unreimbursed Advances made by it, such
     right of reimbursement pursuant to this subclause (ii) being limited to
     amounts received on the Mortgage Loan(s) in respect of which any such
     Advance was made;

                                      -47-
<PAGE>

          (iii)  to reimburse the Master Servicer for any Nonrecoverable Advance
     previously made;

          (iv)   to reimburse the Master Servicer for Insured Expenses from the
     related Insurance Proceeds;

          (v)    to reimburse the Master Servicer for (a) unreimbursed Servicing
     Advances, the Master Servicer's right to reimbursement pursuant to this
     clause (a) with respect to any Mortgage Loan being limited to amounts
     received on such Mortgage Loan(s) which represent late recoveries of the
     payments for which such advances were made pursuant to Section 3.1 or
     Section 3.6 and (b) for unpaid Master Servicing Fees as provided in Section
     3.11 hereof;

          (vi)   to pay to the purchaser, with respect to each Mortgage Loan or
     property acquired in respect thereof that has been purchased pursuant to
     Section 2.2, 2.3 or 3.11, all amounts received thereon after the date of
     such purchase;

          (vii)  to reimburse the Seller, the Master Servicer or the Depositor
     for expenses incurred by any of them and reimbursable pursuant to Section
     6.3 hereof;

          (viii) to withdraw any amount deposited in the Certificate Account and
     not required to be deposited therein;

          (ix)   on or prior to the Distribution Account Deposit Date, to
     withdraw an amount equal to the related Available Funds and the Trustee Fee
     for such Distribution Date and remit such amount to the Trustee for deposit
     in the Distribution Account; and

          (x)    to clear and terminate the Certificate Account upon termination
     of this Agreement pursuant to Section 9.1 hereof.

     The Master Servicer shall keep and maintain separate accounting, on a
Mortgage Loan by Mortgage Loan basis, for the purpose of justifying any
withdrawal from the Certificate Account pursuant to such subclauses (i), (ii),
(iv), (v) and (vi). Prior to making any withdrawal from the Certificate Account
pursuant to subclause (iii), the Master Servicer shall deliver to the Trustee an
Officer's Certificate of a Servicing Officer indicating the amount of any
previous Advance determined by the Master Servicer to be a Nonrecoverable
Advance and identifying the related Mortgage Loans(s), and their respective
portions of such Nonrecoverable Advance.

     The Master Servicer shall distribute the Retained Yield, if any, to First
Horizon on each Distribution Account Deposit Date during the term of this
Agreement.

     (b)  The Trustee shall withdraw funds from the Distribution Account for
distributions to Certificateholders in the manner specified in this Agreement
(and to withhold from the amounts so withdrawn, the amount of any taxes that it
is authorized to withhold pursuant to the last paragraph of Section 8.11). In
addition, the Trustee may prior to making the distribution pursuant to Section
4.2 from time to time make withdrawals from the Distribution Account for the
following purposes:

                                      -48-
<PAGE>

          (i)   to pay to itself the Trustee Fee for the related Distribution
     Date;

          (ii)  to pay to itself earnings on or investment income with respect
     to funds in the Distribution Account;

          (iii) to withdraw and return to the Master Servicer any amount
     deposited in the Distribution Account and not required to be deposited
     therein; and

          (iv)  to clear and terminate the Distribution Account upon termination
     of the Agreement pursuant to Section 9.1 hereof.

     SECTION 3.9 Maintenance of Hazard Insurance; Maintenance of Primary
Insurance Policies.

     (a)  The Master Servicer shall cause to be maintained, for each Mortgage
Loan, hazard insurance with extended coverage in an amount that is at least
equal to the lesser of (i) the maximum insurable value of the improvements
securing such Mortgage Loan or (ii) the greater of (y) the outstanding principal
balance of the Mortgage Loan and (z) an amount such that the proceeds of such
policy shall be sufficient to prevent the Mortgagor and/or the mortgagee from
becoming a co-insurer. Each such policy of standard hazard insurance shall
contain, or have an accompanying endorsement that contains, a standard mortgagee
clause. Any amounts collected by the Master Servicer under any such policies
(other than the amounts to be applied to the restoration or repair of the
related Mortgaged Property or amounts released to the Mortgagor in accordance
with the Master Servicer's normal servicing procedures) shall be deposited in
the Certificate Account. Any cost incurred by the Master Servicer in maintaining
any such insurance shall not, for the purpose of calculating monthly
distributions to the Certificateholders or remittances to the Trustee for their
benefit, be added to the principal balance of the Mortgage Loan, notwithstanding
that the terms of the Mortgage Loan so permit. Such costs shall be recoverable
by the Master Servicer out of late payments by the related Mortgagor or out of
Liquidation Proceeds to the extent permitted by Section 3.8 hereof. It is
understood and agreed that no earthquake or other additional insurance is to be
required of any Mortgagor or maintained on property acquired in respect of a
Mortgage other than pursuant to such applicable laws and regulations as shall at
any time be in force and as shall require such additional insurance. If the
Mortgaged Property is located at the time of origination of the Mortgage Loan in
a federally designated special flood hazard area and such area is participating
in the national flood insurance program, the Master Servicer shall cause flood
insurance to be maintained with respect to such Mortgage Loan. Such flood
insurance shall be in an amount equal to the least of (i) the original principal
balance of the related Mortgage Loan, (ii) the replacement value of the
improvements which are part of such Mortgaged Property, and (iii) the maximum
amount of such insurance available for the related Mortgaged Property under the
national flood insurance program.

     (b)  In the event that the Master Servicer shall obtain and maintain a
blanket policy insuring against hazard losses on all of the Mortgage Loans, it
shall conclusively be deemed to have satisfied its obligations as set forth in
the first sentence of this Section, it being understood and agreed that such
policy may contain a deductible clause on terms substantially equivalent to
those commercially available and maintained by comparable servicers. If such
policy contains a deductible clause, the Master Servicer shall, in the event
that there shall not have been maintained on the related Mortgaged Property a
policy complying with the first sentence of this Section, and there shall have

                                      -49-
<PAGE>

been a loss that would have been covered by such policy, deposit in the
Certificate Account the amount not otherwise payable under the blanket policy
because of such deductible clause. In connection with its activities as Master
Servicer of the Mortgage Loans, the Master Servicer agrees to present, on behalf
of itself, the Depositor, and the Trustee for the benefit of the
Certificateholders, claims under any such blanket policy.

     (c)  The Master Servicer shall not take any action which would result in
non-coverage under any applicable Primary Insurance Policy of any loss which,
but for the actions of the Master Servicer, would have been covered thereunder.
The Master Servicer shall not cancel or refuse to renew any such Primary
Insurance Policy that is in effect at the date of the initial issuance of the
Certificates and is required to be kept in force hereunder unless the
replacement Primary Insurance Policy for such canceled or non-renewed policy is
maintained with a Qualified Insurer.

     The Master Servicer shall not be required to maintain any Primary Insurance
Policy (i) with respect to any Mortgage Loan with a Loan-to-Value Ratio less
than or equal to 80% as of any date of determination or, based on a new
appraisal, the principal balance of such Mortgage Loan represents 80% or less of
the new appraised value or (ii) if maintaining such Primary Insurance Policy is
prohibited by applicable law.

     The Master Servicer agrees to effect the timely payment of the premiums on
each Primary Insurance Policy, and such costs not otherwise recoverable shall be
recoverable by the Master Servicer from the related liquidation proceeds.

     (d)  In connection with its activities as Master Servicer of the Mortgage
Loans, the Master Servicer agrees to present on behalf of itself, the Trustee
and Certificateholders, claims to the insurer under any Primary Insurance
Policies and, in this regard, to take such reasonable action as shall be
necessary to permit recovery under any Primary Insurance Policies respecting
defaulted Mortgage Loans. Any amounts collected by the Master Servicer under any
Primary Insurance Policies shall be deposited in the Certificate Account.

     SECTION 3.10 Enforcement of Due-on-Sale Clauses; Assumption Agreements.

     (a)  Except as otherwise provided in this Section, when any property
subject to a Mortgage has been conveyed by the Mortgagor, the Master Servicer
shall to the extent that it has knowledge of such conveyance, enforce
any due-on-sale clause contained in any Mortgage Note or Mortgage, to the extent
permitted under applicable law and governmental regulations, but only to the
extent that such enforcement will not adversely affect or jeopardize coverage
under any Required Insurance Policy. Notwithstanding the foregoing, the Master
Servicer is not required to exercise such rights with respect to a Mortgage Loan
if the Person to whom the related Mortgaged Property has been conveyed or is
proposed to be conveyed satisfies the terms and conditions contained in the
Mortgage Note and Mortgage related thereto and the consent of the mortgagee
under such Mortgage Note or Mortgage is not otherwise so required under such
Mortgage Note or Mortgage as a condition to such transfer. In the event that the
Master Servicer is prohibited by law from enforcing any such due-on-sale clause,
or if coverage under any Required Insurance Policy would be adversely affected,
or if nonenforcement is otherwise permitted hereunder, the Master Servicer is
authorized, subject to Section 3.10(b), to take or enter into an assumption and
modification agreement from or with the person to whom such property has been or
is about to be conveyed, pursuant to which such person

                                      -50-
<PAGE>

becomes liable under the Mortgage Note and, unless prohibited by applicable
state law, the Mortgagor remains liable thereon, provided that the Mortgage Loan
shall continue to be covered (if so covered before the Master Servicer enters
such agreement) by the applicable Required Insurance Policies. The Master
Servicer, subject to Section 3.10(b), is also authorized with the prior approval
of the insurers under any Required Insurance Policies to enter into a
substitution of liability agreement with such Person, pursuant to which the
original Mortgagor is released from liability and such Person is substituted as
Mortgagor and becomes liable under the Mortgage Note. Notwithstanding the
foregoing, the Master Servicer shall not be deemed to be in default under this
Section by reason of any transfer or assumption which the Master Servicer
reasonably believes it is restricted by law from preventing, for any reason
whatsoever.

     (b)  Subject to the Master Servicer's duty to enforce any due-on-sale
clause to the extent set forth in Section 3.10(a) hereof, in any case in which a
Mortgaged Property has been conveyed to a Person by a Mortgagor, and such Person
is to enter into an assumption agreement or modification agreement or supplement
to the Mortgage Note or Mortgage that requires the signature of the Trustee, or
if an instrument of release signed by the Trustee is required releasing the
Mortgagor from liability on the Mortgage Loan, the Master Servicer shall prepare
and deliver or cause to be prepared and delivered to the Trustee for signature
and shall direct, in writing, the Trustee to execute the assumption agreement
with the Person to whom the Mortgaged Property is to be conveyed and such
modification agreement or supplement to the Mortgage Note or Mortgage or other
instruments as are reasonable or necessary to carry out the terms of the
Mortgage Note or Mortgage or otherwise to comply with any applicable laws
regarding assumptions or the transfer of the Mortgaged Property to such Person.
In connection with any such assumption, no material term of the Mortgage Note
may be changed. In addition, the substitute Mortgagor and the Mortgaged Property
must be acceptable to the Master Servicer in accordance with its underwriting
standards as then in effect. Together with each such substitution, assumption or
other agreement or instrument delivered to the Trustee for execution by it, the
Master Servicer shall deliver an Officer's Certificate signed by a Servicing
Officer stating that the requirements of this subsection have been met in
connection therewith. The Master Servicer shall notify the Trustee that any such
substitution or assumption agreement has been completed by forwarding to the
Trustee the original of such substitution or assumption agreement, which in the
case of the original shall be added to the related Mortgage File and shall, for
all purposes, be considered a part of such Mortgage File to the same extent as
all other documents and instruments constituting a part thereof. Any fee
collected by the Master Servicer for entering into an assumption or substitution
of liability agreement will be retained by the Master Servicer as additional
servicing compensation.

     SECTION 3.11 Realization Upon Defaulted Mortgage Loans; Repurchase of
Certain Mortgage Loans.

     The Master Servicer shall use reasonable efforts to foreclose upon or
otherwise comparably convert the ownership of properties securing such of the
Mortgage Loans as come into and continue in default and as to which no
satisfactory arrangements can be made for collection of delinquent payments. In
connection with such foreclosure or other conversion, the Master Servicer shall
follow such practices and procedures as it shall deem necessary or advisable and
as shall be normal and usual in its general mortgage servicing activities and
meet the requirements of the insurer under any Required Insurance Policy;
provided, however, that the Master Servicer shall not be required to expend its
own funds in connection with any foreclosure or towards the restoration of any
property

                                      -51-
<PAGE>

unless it shall determine (i) that such restoration and/or foreclosure will
increase the proceeds of liquidation of the Mortgage Loan after reimbursement to
itself of such expenses and (ii) that such expenses will be recoverable to it
through Liquidation Proceeds (respecting which it shall have priority for
purposes of withdrawals from the Certificate Account). The Master Servicer shall
be responsible for all other costs and expenses incurred by it in any such
proceedings; provided, however, that it shall be entitled to reimbursement
thereof from the liquidation proceeds with respect to the related Mortgaged
Property, as provided in the definition of Liquidation Proceeds. If the Master
Servicer has knowledge that a Mortgaged Property which the Master Servicer is
contemplating acquiring in foreclosure or by deed in lieu of foreclosure is
located within a 1 mile radius of any site listed in the Expenditure Plan for
the Hazardous Substance Clean Up Bond Act of 1984 or other site with
environmental or hazardous waste risks known to the Master Servicer, the Master
Servicer will, prior to acquiring the Mortgaged Property, consider such risks
and only take action in accordance with its established environmental review
procedures.

     With respect to any REO Property, the deed or certificate of sale shall be
taken in the name of the Trustee for the benefit of the Certificateholders, or
its nominee, on behalf of the Certificateholders. The Trustee's name shall be
placed on the title to such REO Property solely as the Trustee hereunder and not
in its individual capacity. The Master Servicer shall ensure that the title to
such REO Property references the Pooling and Servicing Agreement and the
Trustee's capacity thereunder. Pursuant to its efforts to sell such REO
Property, the Master Servicer shall either itself or through an agent selected
by the Master Servicer protect and conserve such REO Property in the same manner
and to such extent as is customary in the locality where such REO Property is
located and may, incident to its conservation and protection of the interests of
the Certificateholders, rent the same, or any part thereof, as the Master
Servicer deems to be in the best interest of the Certificateholders for the
period prior to the sale of such REO Property. The Master Servicer shall prepare
for and deliver to the Trustee a statement with respect to each REO Property
that has been rented showing the aggregate rental income received and all
expenses incurred in connection with the management and maintenance of such REO
Property at such times as is necessary to enable the Trustee to comply with the
reporting requirements of the REMIC Provisions. The net monthly rental income,
if any, from such REO Property shall be deposited in the Certificate Account no
later than the close of business on each Determination Date. The Master Servicer
shall perform the tax reporting and withholding required by Sections 1445 and
6050J of the Code with respect to foreclosures and abandonments, the tax
reporting required by Section 6050H of the Code with respect to the receipt of
mortgage interest from individuals and any tax reporting required by Section
6050P of the Code with respect to the cancellation of indebtedness by certain
financial entities, by preparing such tax and information returns as may be
required, in the form required, and delivering the same to the Trustee for
filing.

     In the event that the Trust Fund acquires any Mortgaged Property as
aforesaid or otherwise in connection with a default or imminent default on a
Mortgage Loan, the Master Servicer shall dispose of such Mortgaged Property
prior to three years after its acquisition by the Trust Fund unless the Trustee
shall have been supplied with an Opinion of Counsel to the effect that the
holding by the Trust Fund of such Mortgaged Property subsequent to such three-
year period will not result in the imposition of taxes on "prohibited
transactions" of the REMIC as defined in section 860F of the Code or cause the
REMIC created hereunder to fail to qualify as a REMIC at any time that any
Certificates are outstanding, in which case the Trust Fund may continue to hold
such Mortgaged Property (subject to any conditions contained in such Opinion of
Counsel). Notwithstanding any

                                      -52-
<PAGE>

other provision of this Agreement, no Mortgaged Property acquired by the Trust
Fund shall be rented (or allowed to continue to be rented) or otherwise used for
the production of income by or on behalf of the Trust Fund in such a manner or
pursuant to any terms that would (i) cause such Mortgaged Property to fail to
qualify as "foreclosure property" within the meaning of section 860G(a)(8) of
the Code or (ii) subject any REMIC hereunder to the imposition of any federal,
state or local income taxes on the income earned from such Mortgaged Property
under Section 860G(c) of the Code or otherwise, unless the Master Servicer has
agreed to indemnify and hold harmless the Trust Fund with respect to the
imposition of any such taxes.

     In the event of a default on a Mortgage Loan one or more of whose obligor
is not a United States Person, as that term is defined in Section 7701(a)(30) of
the Code, in connection with any foreclosure or acquisition of a deed in lieu of
foreclosure (together, "foreclosure") in respect of such Mortgage Loan, the
Master Servicer will cause compliance with the provisions of Treasury Regulation
Section 1.1445-2(d)(3) (or any successor thereto) necessary to assure that no
withholding tax obligation arises with respect to the proceeds of such
foreclosure except to the extent, if any, that proceeds of such foreclosure are
required to be remitted to the obligors on such Mortgage Loan.

     The decision of the Master Servicer to foreclose on a defaulted Mortgage
Loan shall be subject to a determination by the Master Servicer that the
proceeds of such foreclosure would exceed the costs and expenses of bringing
such a proceeding. The income earned from the management of any REO Properties,
net of reimbursement to the Master Servicer for expenses incurred (including any
property or other taxes) in connection with such management and net of
unreimbursed Master Servicing Fees, Advances and Servicing Advances, shall be
applied to the payment of principal of and interest on the related defaulted
Mortgage Loans (with interest accruing as though such Mortgage Loans were still
current) and all such income shall be deemed, for all purposes in this
Agreement, to be payments on account of principal and interest on the related
Mortgage Notes and shall be deposited into the Certificate Account. To the
extent the net income received during any calendar month is in excess of the
amount attributable to amortizing principal and accrued interest at the related
Mortgage Rate on the related Mortgage Loan for such calendar month, such excess
shall be considered to be a partial prepayment of principal of the related
Mortgage Loan.

     The proceeds from any liquidation of a Mortgage Loan, as well as any income
from an REO Property, will be applied in the following order of priority: first,
to reimburse the Master Servicer for any related unreimbursed Servicing Advances
and Master Servicing Fees; second, to reimburse the Master Servicer for any
unreimbursed Advances; third, to reimburse the Certificate Account for any
Nonrecoverable Advances (or portions thereof) that were previously withdrawn by
the Master Servicer pursuant to Section 3.8(a)(iii) that related to such
Mortgage Loan; fourth, to accrued and unpaid interest (to the extent no Advance
has been made for such amount or any such Advance has been reimbursed) on the
Mortgage Loan or related REO Property, at the Adjusted Net Mortgage Rate to the
Due Date occurring in the month in which such amounts are required to be
distributed; and fifth, as a recovery of principal of the Mortgage Loan. Excess
Proceeds, if any, from the liquidation of a Liquidated Mortgage Loan will be
retained by the Master Servicer as additional servicing compensation pursuant to
Section 3.14.

     The Master Servicer, in its sole discretion, shall have the right to
purchase for its own account from the Trust Fund any Mortgage Loan which is 91
days or more delinquent at a price equal to the Purchase Price. The Purchase
Price for any Mortgage Loan purchased hereunder shall

                                      -53-
<PAGE>

be deposited in the Certificate Account and the Trustee, upon receipt of a
certificate from the Master Servicer in the form of Exhibit M hereto, shall
release or cause to be released to the purchaser of such Mortgage Loan the
related Mortgage File and shall execute and deliver such instruments of transfer
or assignment prepared by the purchaser of such Mortgage Loan, in each case
without recourse, as shall be necessary to vest in the purchaser of such
Mortgage Loan any Mortgage Loan released pursuant hereto and the purchaser of
such Mortgage Loan shall succeed to all the Trustee's right, title and interest
in and to such Mortgage Loan and all security and documents related thereto.
Such assignment shall be an assignment outright and not for security. The
purchaser of such Mortgage Loan shall thereupon own such Mortgage Loan, and all
security and documents, free of any further obligation to the Trustee or the
Certificateholders with respect thereto.

     SECTION 3.12  Trustee to Cooperate; Release of Mortgage Files.

     Upon the payment in full of any Mortgage Loan, or the receipt by the Master
Servicer of a notification that payment in full will be escrowed in a manner
customary for such purposes, the Master Servicer will immediately notify the
Trustee by delivering, or causing to be delivered a "Request for Release"
substantially in the form of Exhibit M. Upon receipt of such request, the
Trustee shall or shall cause the Custodian to promptly release the related
Mortgage File to the Master Servicer, and the Trustee shall at the Master
Servicer's direction execute and deliver to the Master Servicer the request for
reconveyance, deed of reconveyance or release or satisfaction of mortgage or
such instrument releasing the lien of the Mortgage in each case provided by the
Master Servicer, together with the Mortgage Note with written evidence of
cancellation thereon. Expenses incurred in connection with any instrument of
satisfaction or deed of reconveyance shall be chargeable to the related
Mortgagor. From time to time and as shall be appropriate for the servicing or
foreclosure of any Mortgage Loan, including for such purpose, collection under
any policy of flood insurance, any fidelity bond or errors or omissions policy,
or for the purposes of effecting a partial release of any Mortgaged Property
from the lien of the Mortgage or the making of any corrections to the Mortgage
Note or the Mortgage or any of the other documents included in the Mortgage
File, the Trustee shall, upon delivery to the Trustee of a Request for Release
in the form of Exhibit L signed by a Servicing Officer, release the Mortgage
File to the Master Servicer. Subject to the further limitations set forth below,
the Master Servicer shall cause the Mortgage File or documents so released to be
returned to the Trustee or its Custodian when the need therefor by the Master
Servicer no longer exists, unless the Mortgage Loan is liquidated and the
proceeds thereof are deposited in the Certificate Account, in which case the
Master Servicer shall deliver to the Trustee a Request for Release in the form
of Exhibit M, signed by a Servicing Officer.

     If the Master Servicer at any time seeks to initiate a foreclosure
proceeding in respect of any Mortgaged Property as authorized by this Agreement,
the Master Servicer shall deliver or cause to be delivered to the Trustee, for
signature, as appropriate, any court pleadings, requests for trustee's sale or
other documents necessary to effectuate such foreclosure or any legal action
brought to obtain judgment against the Mortgagor on the Mortgage Note or the
Mortgage or to obtain a deficiency judgment or to enforce any other remedies or
rights provided by the Mortgage Note or the Mortgage or otherwise available at
law or in equity.

                                      -54-
<PAGE>

     SECTION 3.13  Documents Records and Funds in Possession of Master Servicer
to be Held for the Trustee.

     Notwithstanding any other provisions of this Agreement, the Master Servicer
shall transmit to the Trustee as required by this Agreement all documents and
instruments in respect of a Mortgage Loan coming into the possession of the
Master Servicer from time to time and shall account fully to the Trustee for any
funds received by the Master Servicer or which otherwise are collected by the
Master Servicer as Liquidation Proceeds or Insurance Proceeds in respect of any
Mortgage Loan. All Mortgage Files and funds collected or held by, or under the
control of, the Master Servicer in respect of any Mortgage Loans, whether from
the collection of principal and interest payments or from Liquidation Proceeds,
including but not limited to, any funds on deposit in the Certificate Account,
shall be held by the Master Servicer for and on behalf of the Trustee and shall
be and remain the sole and exclusive property of the Trustee, subject to the
applicable provisions of this Agreement. The Master Servicer also agrees that it
shall not create, incur or subject any Mortgage File or any funds that are
deposited in the Certificate Account, Distribution Account or any Escrow
Account, or any funds that otherwise are or may become due or payable to the
Trustee for the benefit of the Certificateholders, to any claim, lien, security
interest, judgment, levy, writ of attachment or other encumbrance, or assert by
legal action or otherwise any claim or right of setoff against any Mortgage File
or any funds collected on, or in connection with, a Mortgage Loan, except,
however, that the Master Servicer shall be entitled to set off against and
deduct from any such funds any amounts that are properly due and payable to the
Master Servicer under this Agreement.

     SECTION 3.14  Master Servicing Compensation.

     As compensation for its activities hereunder, the Master Servicer shall be
entitled to retain or withdraw from the Certificate Account an amount equal to
the Master Servicing Fee for each Mortgage Loan, provided that the aggregate
Master Servicing Fee with respect to any Distribution Date shall be reduced (i)
by the amount of any Compensating Interest paid by the Master Servicer with
respect to such Distribution Date, and (ii) with respect to the first
Distribution Date, an amount equal to any amount to be deposited into the
Distribution Account by the Depositor pursuant to Section 2.1(a) and not so
deposited.

     Additional servicing compensation in the form of Retained Yield, Excess
Proceeds, Prepayment Interest Excess, prepayment penalties, assumption fees,
late payment charges and all income and gain net of any losses realized from
Permitted Investments shall be retained by the Master Servicer to the extent not
required to be deposited in the Certificate Account pursuant to Section 3.5
hereof; provided that in the event the Master Servicer is terminated pursuant to
Section 7.1, the Retained Yield shall be payable to First Horizon Home Loan
Corporation in its individual capacity and shall not be payable to the Trustee
or any successor to the Master Servicer. The Master Servicer shall be required
to pay all expenses incurred by it in connection with its master servicing
activities hereunder (including payment of any premiums for hazard insurance and
any Primary Insurance Policy and maintenance of the other forms of insurance
coverage required by this Agreement) and shall not be entitled to reimbursement
therefor except as specifically provided in this Agreement.

                                      -55-
<PAGE>

     SECTION 3.15  Access to Certain Documentation.

     The Master Servicer shall provide to the OTS and the FDIC and to comparable
regulatory authorities supervising Holders of Subordinated Certificates and the
examiners and supervisory agents of the OTS, the FDIC and such other
authorities, access to the documentation regarding the Mortgage Loans required
by applicable regulations of the OTS and the FDIC. Such access shall be afforded
without charge, but only upon reasonable and prior written request and during
normal business hours at the offices designated by the Master Servicer. Nothing
in this Section shall limit the obligation of the Master Servicer to observe any
applicable law prohibiting disclosure of information regarding the Mortgagors
and the failure of the Master Servicer to provide access as provided in this
Section as a result of such obligation shall not constitute a breach of this
Section.

     SECTION 3.16  Annual Statement as to Compliance.

     The Master Servicer shall deliver to the Depositor and the Trustee on or
before 120 days after the end of the Master Servicer's fiscal year, commencing
with its 2000 fiscal year, an Officer's Certificate stating, as to the signer
thereof, that (i) a review of the activities of the Master Servicer during the
preceding calendar year and of the performance of the Master Servicer under this
Agreement has been made under such officer's supervision and (ii) to the best of
such officer's knowledge, based on such review, the Master Servicer has
fulfilled all its obligations under this Agreement throughout such year, or, if
there has been a default in the fulfillment of any such obligation, specifying
each such default known to such officer and the nature and status thereof. The
Trustee shall forward a copy of each such statement to each Rating Agency.

     SECTION 3.17  Annual Independent Public Accountants' Servicing Statement;
Financial Statements.

     On or before 120 days after the end of the Master Servicer's fiscal year,
commencing with its 2000 fiscal year, the Master Servicer at its expense shall
cause a nationally or regionally recognized firm of independent public
accountants (who may also render other services to the Master Servicer, the
Seller or any affiliate thereof) which is a member of the American Institute of
Certified Public Accountants to furnish a statement to the Trustee and the
Depositor to the effect that-such firm has examined certain documents and
records relating to the servicing of the Mortgage Loans under this Agreement or
of mortgage loans under pooling and servicing agreements substantially similar
to this Agreement (such statement to have attached thereto a schedule setting
forth the pooling and servicing agreements covered thereby) and that, on the
basis of such examination, conducted substantially in compliance with the
Uniform Single Attestation Program for Mortgage Bankers or the Audit Program for
Mortgages serviced for FNMA and FHLMC, such servicing has been conducted in
compliance with such pooling and servicing agreements except for such
significant exceptions or errors in records that, in the opinion of such firm,
the Uniform Single Attestation Program for Mortgage Bankers or the Audit Program
for Mortgages serviced for FNMA and FHLMC requires it to report. In rendering
such statement, such firm may rely, as to matters relating to direct servicing
of mortgage loans by Subservicers, upon comparable statements for examinations
conducted substantially in compliance with the Uniform Single Attestation
Program for Mortgage Bankers or the Audit Program for Mortgages serviced for
FNMA and FHLMC (rendered within one year of such statement) of independent
public accountants with respect to the

                                      -56-
<PAGE>

related Subservicer. Copies of such statement shall be provided by the Trustee
to any Certificateholder upon request at the Master Servicer's expense, provided
such statement is delivered by the Master Servicer to the Trustee.

     SECTION 3.18  Errors and Omissions Insurance; Fidelity Bonds.

     The Master Servicer shall for so long as it acts as master servicer under
this Agreement, obtain and maintain in force (a) a policy or policies of
insurance covering errors and omissions in the performance of its obligations as
Master Servicer hereunder and (b) a fidelity bond in respect of its officers,
employees and agents. Each such policy or policies and bond shall, together,
comply with the requirements from time to time of FNMA or FHLMC for persons
performing servicing for mortgage loans purchased by FNMA or FHLMC. In the event
that any such policy or bond ceases to be in effect, the Master Servicer shall
obtain a comparable replacement policy or bond from an insurer or issuer,
meeting the requirements set forth above as of the date of such replacement.

                                  ARTICLE IV
                               DISTRIBUTIONS AND
                        ADVANCES BY THE MASTER SERVICER

     SECTION 4.1   Advances.

     The Master Servicer shall determine on or before each Master Servicer
Advance Date whether it is required to make an Advance pursuant to the
definition thereof. If the Master Servicer determines it is required to make an
Advance, it shall, on or before the Master Servicer Advance Date, either (i)
deposit into the Certificate Account an amount equal to the Advance or (ii) make
an appropriate entry in its records relating to the Certificate Account that any
Amount Held for Future Distribution has been used by the Master Servicer in
discharge of its obligation to make any such Advance. Any funds so applied shall
be replaced by the Master Servicer by deposit in the Certificate Account no
later than the close of business on the next Master Servicer Advance Date. The
Master Servicer shall be entitled to be reimbursed from the Certificate Account
for all Advances of its own funds made pursuant to this Section as provided in
Section 3.08. The obligation to make Advances with respect to any Mortgage Loan
shall continue if such Mortgage Loan has been foreclosed or otherwise terminated
and the related Mortgaged Property has not been liquidated.

     The Master Servicer shall deliver to the Trustee on the related Master
Servicer Advance Date an Officer's Certificate of a Servicing Officer indicating
the amount of any proposed Advance determined by the Master Servicer to be a
Nonrecoverable Advance.

     SECTION 4.2   Priorities of Distribution.

     (a)  On each Distribution Date, the Trustee shall withdraw the Available
Funds from the Distribution Account and apply such funds to distributions on the
Certificates in the following order and priority and, in each case, to the
extent of Available Funds remaining:

          (i)  to the Classes of Senior Certificates entitled to distributions
     of interest, the Accrued Certificate Interest on each such class for such
     Distribution Date, any shortfall in

                                      -57-
<PAGE>

     available amounts being allocated among such Classes in proportion to the
     amount of Accrued Certificate Interest otherwise distributable thereon;
     provided, however, that on each Distribution Date through the related
     Accretion Termination Date, such amounts with respect to the Accrual
     Certificates will not be distributed on such Certificates under this
     Section 4.2(a)(i) but will instead be added to the Class Certificate
     Balance thereof and distributed in accordance with Section 4.2(b) below;

          (ii)   to the Classes of Senior Certificates entitled to distributions
     of interest, any Accrued Certificate Interest thereon remaining
     undistributed from previous Distribution Dates, to the extent of remaining
     Available Funds, any shortfall in available amounts being allocated among
     such Classes in proportion to the amount of such Accrued Certificate
     Interest remaining undistributed for each such Class for such Distribution
     Date; provided, however, that on each Distribution Date through the related
     Accretion Termination Date, such amounts with respect to the Accrual
     Certificates will not be distributed on such Certificates under this
     Section 4.2(a)(ii) but will instead be added to the Class Certificate
     Balance thereof and distributed in accordance with Section 4.2(b) below
     unless such amounts have already been added to the Class Certificate
     Balance of the Accrual Certificates and distributed in accordance with
     Section 4.2(b) below, as provided in Section 4.2(a)(i) above;

          (iii)  to the Classes of Senior Certificates entitled to principal
     distributions, in reduction of the Class Certificate Balances thereof, to
     the extent of remaining Available Funds, the Senior Optimal Principal
     Amount for such Distribution Date, in the order of priority set forth
     below;

          (iv)   to the Class B-1 Certificates, to the extent of remaining
     Available Funds, in the following order: (1) the Accrued Certificate
     Interest thereon for such Distribution Date, (2) any Accrued Certificate
     Interest thereon remaining undistributed from previous Distribution Dates
     and (3) such Class's Allocable Share for such Distribution Date;

          (v)    to the Class B-2 Certificates, to the extent of remaining
     Available Funds, in the following order: (1) the Accrued Certificate
     Interest thereon for such Distribution Date, (2) any Accrued Certificate
     Interest thereon remaining undistributed from previous Distribution Dates
     and (3) such Class's Allocable Share for such Distribution Date;

          (vi)   to the Class B-3 Certificates, to the extent of remaining
     Available Funds, in the following order: (1) the Accrued Certificate
     Interest thereon for such Distribution Date, (2) any Accrued Certificate
     Interest thereon remaining undistributed from previous Distribution Dates
     and (3) such Class's Allocable Share for such Distribution Date; and

          (vii)  to the Class B-4, Class B-5 and Class B-6 Certificates, to the
     extent of remaining Available Funds: (1) the Accrued Certificate Interest
     thereon for such Distribution Date, (2) any Accrued Certificate Interest
     thereon remaining undistributed from previous Distribution Dates and (3)
     such Class's Allocable Share for such Distribution Date.

     (b)  On each Distribution Date, before distributions are made pursuant to
the following paragraph, an amount equal to the Accrual Amount for the Class A-2
Certificates will be distributed

                                      -58-
<PAGE>

in the following order of priority to the following Classes in reduction of
their Class Certificate Balances:

          (i)   to the Class A-1 Certificates, until the Class Certificate
     Balance thereof has been reduced to zero; and

          (ii)  to the Class A-2 Certificates, until the Class Certificate
     Balance thereof has been reduced to zero.

     Amounts allocated to the Senior Certificates pursuant to Section
4.2(a)(iii) above will be distributed sequentially as follows:

                (1)   to the Class A-R Certificates, until the Class Certificate
                      Balance thereof has been reduced to zero;

                (2)   to the Class A-4 Certificates, in an amount equal to the
                Class A-4 Principal Distribution Amount for such Distribution
                Date, until the Class Certificate Balance thereof has been
                reduced to zero; and

                (3)   the remaining amount, sequentially, to the Class A-1,
                Class A-2 and Class A-3 Certificates, in that order, until the
                respective Class Certificate Balances thereof have been reduced
                to zero.

     On each Distribution Date prior to the related Accretion Termination Date,
the Accrual Amount for the Class A-2 Certificates will be added to the Class
Certificate Balance of the Class A-2 Certificates.

     (c)  On each Distribution Date, the Trustee shall distribute to the Holders
of the Class A-R Certificates any Available Funds remaining in the REMIC for
such Distribution Date after application of all amounts described in clauses (a)
and (b) of this Section 4.2 on such Distribution Date. Any distributions
pursuant to this subsection (c) shall not reduce the Class Certificate Balance
of the Class A-R Certificates.

     (d)  If on any Distribution Date the Class Certificate Balances of the
Subordinated Certificates have each been reduced to zero, the amount
distributable to the Senior Certificates pursuant to Section 4.2(a)(iii) for
such Distribution Date and each succeeding Distribution Date shall be allocated
among such Classes of Senior Certificates, pro rata, on the basis of their
respective Class Certificate Balances immediately prior to such Distribution
Date, regardless of the priorities and amounts set forth in Section 4.2(a)(iii).

     (e)  If on any Distribution Date (i) the Class Certificate Balance of any
Class of Class B Certificates (other than the Class B-1 Certificates, to which
the Class Prepayment Distribution Trigger shall not apply) for which the related
Class Prepayment Distribution Trigger was satisfied on such Distribution Date is
reduced to zero and (ii) amounts distributable to such Class of Class B
Certificates pursuant to clauses (2), (3) and (5) of the Subordinated Optimal
Principal Amount remain undistributed on such Distribution Date after all
amounts otherwise distributable on such date pursuant to clauses (vi) through
(viii) of Section 4.2(a) have been distributed, such amounts shall be

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<PAGE>

distributed on such Distribution Date to the remaining Classes of Subordinated
Certificates in order of priority, such that no such distribution shall be made
to any Class of Certificates while a prior such Class is outstanding.

     (f)  In the event that in any calendar month the Master Servicer recovers
an amount (an "Unanticipated Recovery") in respect of principal of a Mortgage
Loan which had previously been allocated as a Realized Loss to any Class of
Certificates pursuant to Section 4.4, on the Distribution Date in the next
succeeding calendar month the Trustee shall withdraw from the Distribution
Account and distribute to the Holders of each outstanding Class to which such
Realized Loss had previously been allocated its share (determined as described
in the succeeding paragraph) of such Unanticipated Recovery in an amount not to
exceed the amount of such Realized Loss previously allocated to such Class. When
the Class Certificate Balance of a Class of Certificates has been reduced to
zero, the Holders of such Class shall not be entitled to any share of an
Unanticipated Recovery, and such Unanticipated Recovery shall be allocated among
all outstanding Classes of Certificates entitled thereto in accordance with the
preceding sentence, subject to the remainder of this subsection (f). In the
event that (i) any Unanticipated Recovery remains undistributed in accordance
with the preceding sentence or (ii) the amount of an Unanticipated Recovery
exceeds the amount of the Realized Loss previously allocated to any outstanding
Classes with respect to the related Mortgage Loan, on the applicable
Distribution Date the Trustee shall distribute to the Holders of all outstanding
Classes of the related Certificates to which Realized Losses had previously been
allocated and not reimbursed their pro rata share (determined as described
below) of such excess in an amount not to exceed the aggregate amount of any
Realized Loss previously allocated to such Class with respect to any other
Mortgage Loan that has not been recovered in accordance with this subsection
(f). Any distributions made pursuant to this subsection (f) shall not reduce the
Class Certificate Balance of the related Certificate.

     For purposes of the preceding paragraph, the share of an Unanticipated
Recovery allocable to any Class of Certificates with respect to a Mortgage Loan
shall be based on its pro rata share (in proportion to the Class Certificate
Balances thereof with respect to such Distribution Date) of the principal
portion of any such Realized Loss previously allocated with respect to such
Mortgage Loan (or Loans).

     SECTION 4.3   Method of Distribution.

     (a)  All distributions with respect to each Class of Certificates on each
Distribution Date shall be made pro rata among the outstanding Certificates of
such Class, based on the Percentage Interest in such Class represented by each
Certificate. Payments to the Certificateholders on each Distribution Date will
be made by the Trustee to the Certificateholders of record on the related Record
Date by check or money order mailed to a Certificateholder at the address
appearing in the Certificate Register, or upon written request by such
Certificateholder to the Trustee made not later than the applicable Record Date,
by wire transfer to a U.S. depository institution acceptable to the Trustee, or
by such other means of payment as such Certificateholder and the Trustee shall
agree.

     (b)  Each distribution with respect to a Book-Entry Certificate shall be
paid to the Depository, which shall credit the amount of such distribution to
the accounts of its Depository Participants in accordance with its normal
procedures. Each Depository Participant shall be responsible for disbursing such
distribution to the Certificate Owners that it represents and to each

                                      -60-
<PAGE>

financial intermediary for which it acts as agent. Each such financial
intermediary shall be responsible for disbursing funds to the Certificate Owners
that it represents. All such credits and disbursements with respect to a Book-
Entry Certificate are to be made by the Depository and the Depository
Participants in accordance with the provisions of the applicable Certificates.
Neither the Trustee nor the Master Servicer shall have any responsibility
therefor except as otherwise provided by applicable law.

     (c)  The Trustee shall withhold or cause to be withheld such amounts as it
reasonably determines are required by the Code (giving full effect to any
exemptions from withholding and related certifications required to be furnished
by Certificateholders or Certificate Owners and any reductions to withholding by
virtue of any bilateral tax treaties and any applicable certification required
to be furnished by Certificateholders or Certificate Owners with respect
thereto) from distributions to be made to Non-U.S. Persons. If the Trustee
reasonably determines that a more accurate determination of the amount required
to be withheld for a distribution can be made within a reasonable period after
the scheduled date for such distribution, it may hold such distribution in trust
for a Holder of a Residual Certificate until such determination can be made. For
the purposes of this paragraph, a "Non-U.S. Person" is (i) an individual other
than a citizen or resident of the United States, (ii) a partnership, corporation
or entity treated as a partnership or corporation for U.S. federal income tax
purposes not formed under the laws of the United States, any state thereof or
the District of Columbia (unless, in the case of a partnership, Treasury
regulations provide otherwise), (iii) any estate, the income of which is not
subject to U.S. federal income taxation, regardless of source, and (iv) any
trust, other than a trust that a court within the United States is able to
exercise primary supervision over the administration of the trust and one or
more U.S. Persons have the authority to control all substantial decisions of the
trust.

     SECTION 4.4 Allocation of Losses.

     (a)  On or prior to each Determination Date, the Master Servicer shall
determine the amount of any Realized Loss in respect of each Mortgage Loan that
occurred during the immediately preceding calendar month.

     (b)  With respect to any Distribution Date, the principal portion of each
Realized Loss (other than any Excess Loss) shall be allocated as follows:

          (i)  the principal portion of any such Realized Loss shall be
     allocated in the following order of priority:

               first, to the Class B-6 Certificates until the Class Certificate
          Balance thereof has been reduced to zero;

               second, to the Class B-5 Certificates until the Class Certificate
          Balance thereof has been reduced to zero;

               third, to the Class B-4 Certificates until the Class Certificate
          Balance thereof has been reduced to zero;

                                      -61-
<PAGE>

               fourth, to the Class B-3 Certificates until the Class Certificate
          Balance thereof has been reduced to zero;

               fifth, to the Class B-2 Certificates until the Class Certificate
          Balance thereof has been reduced to zero;

               sixth, to the Class B-1 Certificates until the Class Certificate
          Balance thereof has been reduced to zero;

               seventh, to the Classes of Senior Certificates, pro rata, in
          accordance with their Class Certificate Balances; provided, that any
          such loss allocated to the Accrual Certificates shall be allocated on
          the basis of the lesser of (x) the Class Certificate Balance thereof
          immediately prior to the applicable Distribution Date and (y) the
          Class Certificate Balance thereof on the Closing Date (as reduced by
          any Realized Losses previously allocated thereto).

     (c)  With respect to any Distribution Date, the principal portion of any
Excess Loss (other than Excess Bankruptcy Losses attributable to Debt Service
Reductions) shall be allocated to each Class of Certificates, pro rata, based on
the respective Class Certificate Balances thereof; provided, that any such loss
allocated to the Accrual Certificates shall be allocated on the basis of the
lesser of (x) the Class Certificate Balance thereof immediately prior to the
applicable Distribution Date and (y) the Class Certificate Balance thereof on
the Closing Date (as reduced by any Realized Losses previously allocated
thereto).

     (d)  Any Realized Losses allocated to a Class of Certificates pursuant to
Section 4.4(b) or (c) shall be allocated among the Certificates of such Class in
proportion to their respective Certificate Principal Balances. Any allocation of
Realized Losses pursuant to this paragraph (d) shall be accomplished by reducing
the Certificate Principal Balances of the related Certificates on the related
Distribution Date in accordance with Section 4.4(e).

     (e)  Realized Losses allocated in accordance with this Section 4.4 shall be
allocated on the Distribution Date in the month following the month in which
such loss was incurred and (i) in the case of the principal portion thereof,
after giving effect to distributions made on such Distribution Date, and (ii) in
the case of the interest portion thereof, after giving effect to the calculation
of the Accrual Amount for the Class A-2 Certificates for such Distribution Date.

     (f)  On each Distribution Date, the Master Servicer shall determine the
Subordinated Certificate Writedown Amount, if any. Any such Subordinated
Certificate Writedown Amount shall effect, without duplication of any other
provision in this Section 4.4 that provides for a reduction in the Class
Certificate Balance of the Subordinated Certificates, a corresponding reduction
in the Class Certificate Balance of the Subordinated Certificates, which
reduction shall occur on such Distribution Date after giving effect to
distributions made on such Distribution Date.

     (g)  Notwithstanding the foregoing, no such allocation of any Realized Loss
shall be made on a Distribution Date to a Class of Certificates to the extent
that such allocation would result in the reduction of the aggregate Certificate
Principal Balances of all the Certificates as of such Distribution Date, after
giving effect to all distributions and prior allocations of Realized Losses on

                                      -62-
<PAGE>

such date, to an amount less than the aggregate Scheduled Principal Balance of
the Mortgage Loans as of the first day of the month of such Distribution Date,
less any Deficient Valuations occurring on or prior to the Bankruptcy Coverage
Termination Date (such limitation, the "Loss Allocation Limitation").

     SECTION 4.5  [Reserved.]

     SECTION 4.6  Monthly Statements to Certificateholders.

     (a)  Not later than each Distribution Date, the Trustee shall prepare and
cause to be forwarded by first class mail to each Certificateholder, the Master
Servicer, the Depositor and each Rating Agency a statement setting forth with
respect to the related distribution and may post such statement on its website
located at www.mbsreporting.com:

          (i)     the amount thereof allocable to principal, separately
     identifying the aggregate amount of any Principal Prepayments and
     Liquidation Proceeds included therein;

          (ii)    the amount thereof allocable to interest, the amount of any
     Compensating Interest included in such distribution and any remaining Net
     Interest Shortfalls after giving effect to such distribution;

          (iii)   if the distribution to the Holders of such Class of
     Certificates is less than the full amount that would be distributable to
     such Holders if there were sufficient funds available therefor, the amount
     of the shortfall and the allocation thereof as between principal and
     interest;

          (iv)    the Class Certificate Balance of each Class of Certificates
     after giving effect to the distribution of principal on such Distribution
     Date;

          (v)     the Pool Principal Balance for the following Distribution
     Date;

          (vi)    the Senior Percentage and Subordinated Percentage for the
     following Distribution Date;

          (vii)   the amount of the Master Servicing Fees paid to or retained by
     the Master Servicer with respect to such Distribution Date;

          (viii)  the Pass-Through Rate for each such Class of Certificates with
     respect to such Distribution Date;

          (ix)    the amount of Advances included in the distribution on such
     Distribution Date and the aggregate amount of Advances outstanding as of
     the close of business on such Distribution Date;

          (x)     the number and aggregate principal amounts of Mortgage Loans
     (A) delinquent (exclusive of Mortgage Loans in foreclosure) (1) 1 to 30
     days (2) 31 to 60 days

                                      -63-
<PAGE>

     (3) 61 to 90 days and (4) 91 or more days and (B) in foreclosure and
     delinquent (1) 1 to 30 days (2) 31 to 60 days (3) 61 to 90 days and (4) 91
     or more days, as of the close of business on the last day of the calendar
     month preceding such Distribution Date;

          (xi)    with respect to any Mortgage Loan that became an REO Property
     during the preceding calendar month, the loan number and Stated Principal
     Balance of such Mortgage Loan as of the close of business on the
     Determination Date preceding such Distribution Date and the date of
     acquisition thereof;

          (xii)   the total number and principal balance of any REO Properties
     (and market value, if available) as of the close of business on the
     Determination Date preceding such Distribution Date;

          (xiii)  the Senior Prepayment Percentage for the following
     Distribution Date;

          (xiv)   the aggregate amount of Realized Losses incurred during the
     preceding calendar month;

          (xv)    the cumulative amount of Realized Losses applied in reduction
     of the principal balance of each class of Certificates since the Closing
     Date;

          (xvi)   the Special Hazard Loss Coverage Amount, the Fraud Loss
     Coverage Amount and the Bankruptcy Loss Coverage Amount, in each case as of
     the related Determination Date;

          (xvii)  with respect to the second Distribution Date, the number and
     aggregate balance of any Delay Delivery Mortgage Loans not delivered within
     thirty days after the Closing Date;

     (b)  The Trustee's responsibility for disbursing the above information to
the Certificateholders is limited to the availability, timeliness and accuracy
of the information provided by the Master Servicer.

     (c)  On or before the fifth Business Day following the end of each
Prepayment Period (but in no event later than the third Business Day prior to
the related Distribution Date), the Master Servicer shall deliver to the Trustee
(which delivery may be by electronic data transmission) a report in
substantially the form set forth as Schedule IV hereto.

     (d)  Within a reasonable period of time after the end of each calendar
year, the Trustee shall cause to be furnished to each Person who at any time
during the calendar year was a Certificateholder, a statement containing the
information set forth in clauses (a)(i), (a)(ii) and (a)(vii) of this Section
4.6 aggregated for such calendar year or applicable portion thereof during which
such Person was a Certificateholder. Such obligation of the Trustee shall be
deemed to have been satisfied to the extent that substantially comparable
information shall be provided by the Trustee pursuant to any requirements of the
Code as from time to time in effect.

                                      -64-
<PAGE>

                                   ARTICLE V
                               THE CERTIFICATES

     SECTION 5.1 The Certificates.

     The Certificates shall be substantially in the forms attached hereto as
exhibits. The Certificates shall be issuable in registered form, in the minimum
denominations, integral multiples in excess thereof (except that one Certificate
in each Class may be issued in a different amount which must be in excess of the
applicable minimum denomination) and aggregate denominations per Class set forth
in the Preliminary Statement.

     Subject to Section 9.2 hereof respecting the final distribution on the
Certificates, on each Distribution Date the Trustee shall make distributions to
each Certificateholder of record on the preceding Record Date either (x) by wire
transfer in immediately available funds to the account of such Holder at a bank
or other entity having appropriate facilities therefor, if (i) such Holder has
so notified the Trustee at least five Business Days prior to the related Record
Date and (ii) such Holder shall hold (A) 100% of the Class Certificate Balance
of any Class of Certificates or (B) Certificates of any Class with aggregate
principal Denominations of not less than $1,000,000 or (y) by check mailed by
first class mail to such Certificateholder at the address of such Holder
appearing in the Certificate Register.

     The Certificates shall be executed by manual or facsimile signature on
behalf of the Trustee by an authorized officer. Certificates bearing the manual
or facsimile signatures of individuals who were, at the time when such
signatures were affixed, authorized to sign on behalf of the Trustee shall bind
the Trustee, notwithstanding that such individuals or any of them have ceased to
be so authorized prior to the countersignature and delivery of such Certificates
or did not hold such offices at the date of such Certificate. No Certificate
shall be entitled to any benefit under this Agreement, or be valid for any
purpose, unless countersigned by the Trustee by manual signature, and such
countersignature upon any Certificate shall be conclusive evidence, and the only
evidence, that such Certificate has been duly executed and delivered hereunder.
All Certificates shall be dated the date of their countersignature. On the
Closing Date, the Trustee shall countersign the Certificates to be issued at the
direction of the Depositor, or any affiliate thereof.

     The Depositor shall provide, or cause to be provided, to the Trustee on a
continuous basis, an adequate inventory of Certificates to facilitate transfers.

     SECTION 5.2 Certificate Register; Registration of Transfer and Exchange of
Certificates.

     (a)  The Trustee shall maintain, or cause to be maintained in accordance
with the provisions of Section 5.6 hereof, a Certificate Register for the Trust
Fund in which, subject to the provisions of subsections (b) and (c) below and to
such reasonable regulations as it may prescribe, the Trustee shall provide for
the registration of Certificates and of transfers and exchanges of Certificates
as herein provided. Upon surrender for registration of transfer of any
Certificate, the Trustee shall execute and deliver, in the name of the
designated transferee or transferees, one or more new Certificates of the same
Class and aggregate Percentage Interest.

                                      -65-
<PAGE>

     At the option of a Certificateholder, Certificates may be exchanged for
other Certificates of the same Class in authorized denominations and evidencing
the same aggregate Percentage Interest upon surrender of the Certificates to be
exchanged at the office or agency of the Trustee. Whenever any Certificates are
so surrendered for exchange, the Trustee shall execute, authenticate, and
deliver the Certificates which the Certificateholder making the exchange is
entitled to receive. Every Certificate presented or surrendered for registration
of transfer or exchange shall be accompanied by a written instrument of transfer
in form satisfactory to the Trustee duly executed by the Holder thereof or his
attorney duly authorized in writing.

     No service charge to the Certificateholders shall be made for any
registration of transfer or exchange of Certificates, but payment of a sum
sufficient to cover any tax or governmental charge that may be imposed in
connection with any transfer or exchange of Certificates may be required.

     All Certificates surrendered for registration of transfer or exchange shall
be cancelled and subsequently destroyed by the Trustee in accordance with the
Trustee's customary procedures.

     (b)  No transfer of a Private Certificate shall be made unless such
transfer is made pursuant to an effective registration statement under the
Securities Act and any applicable state securities laws or is exempt from the
registration requirements under said Act and such state securities laws. In the
event that a transfer is to be made in reliance upon an exemption from the
Securities Act and such laws, in order to assure compliance with the Securities
Act and such laws, the Certificateholder desiring to effect such transfer and
such Certificateholder's prospective transferee shall each certify to the
Trustee in writing the facts surrounding the transfer in substantially the forms
set forth in Exhibit I (the "Transferor Certificate") and (i) deliver a letter
in substantially the form of either Exhibit J (the "Investment Letter") or
Exhibit K (the "Rule 144A Letter") or (ii) there shall be delivered to the
Trustee at the expense of the transferor an Opinion of Counsel that such
transfer may be made pursuant to an exemption from the Securities Act. The
Depositor shall provide to any Holder of a Private Certificate and any
prospective transferee designated by any such Holder, information regarding the
related Certificates and the Mortgage Loans and such other information as shall
be necessary to satisfy the condition to eligibility set forth in Rule
144A(d)(4) for transfer of any such Certificate without registration thereof
under the Securities Act pursuant to the registration exemption provided by Rule
144A. The Trustee and the Master Servicer shall cooperate with the Depositor in
providing the Rule 144A information referenced in the preceding sentence,
including providing to the Depositor such information regarding the
Certificates, the Mortgage Loans and other matters regarding the Trust Fund as
the Depositor shall reasonably request to meet its obligation under the
preceding sentence. Each Holder of a Private Certificate desiring to effect such
transfer shall, and does hereby agree to, indemnify the Trustee and the
Depositor, the Seller and the Master Servicer against any liability that may
result if the transfer is not so exempt or is not made in accordance with such
federal and state laws.

     No transfer of an ERISA-Restricted Certificate shall be made unless the
Trustee shall have received either (i) a representation from the transferee of
such Certificate acceptable to and in form and substance satisfactory to the
Trustee (in the event such Certificate is a Private Certificate, such
requirement is satisfied only by the Trustee's receipt of a representation
letter from the transferee substantially in the form of Exhibit J or Exhibit K),
to the effect that such transferee is not an employee benefit plan or
arrangement subject to Section 406 of ERISA or a plan or arrangement subject to
Section 4975 of the Code, nor a person acting on behalf of any such plan or
arrangement,

                                      -66-
<PAGE>

nor using the assets of any such plan or arrangement to effect such transfer,
(ii) in the case of a Subordinated Certificate or a Residual Certificate, if the
purchaser is an insurance company, a representation that the purchaser is an
insurance company which is purchasing such Certificates with funds contained in
an "insurance company general account" (as such term is defined in Section V(e)
of Prohibited Transaction Class Exemption 95-60 ("PTCE 95-60")) and that the
purchase and holding of such Certificates are covered under PTCE 95-60 or (iii)
in the case of any such ERISA- Restricted Certificate presented for registration
in the name of an employee benefit plan subject to ERISA, or a plan or
arrangement subject to Section 4975 of the Code (or comparable provisions of any
subsequent enactments), or a trustee of any such plan or any other person acting
on behalf of any such plan or arrangement, or using such plan's or arrangement's
assets, an Opinion of Counsel satisfactory to the Trustee, which Opinion of
Counsel shall not be an expense of either the Trustee or the Trust Fund,
addressed to the Trustee to the effect that the purchase or holding of such
ERISA- Restricted Certificate will not result in the assets of the Trust Fund
being deemed to be "plan assets" and subject to the prohibited transaction
provisions of ERISA and the Code and will not subject the Trustee to any
obligation in addition to those expressly undertaken in this Agreement or to any
liability. For purposes of the preceding sentence, with respect to an ERISA-
Restricted Certificate that is not a Private Certificate, in the event the
representation letter referred to in the preceding sentence is not so furnished,
such representation shall be deemed to have been made to the Trustee by the
transferee's (including an initial acquirer's) acceptance of the ERISA-
Restricted Certificates. Notwithstanding anything else to the contrary herein,
any purported transfer of an ERISA-Restricted Certificate to or on behalf of an
employee benefit plan subject to ERISA or to the Code without the delivery to
the Trustee of an Opinion of Counsel satisfactory to the Trustee as described
above shall be void and of no effect.

     To the extent permitted under applicable law (including, but not limited
to, ERISA), the Trustee shall be under no liability to any Person for any
registration of transfer of any ERISA- Restricted Certificate that is in fact
not permitted by this Section 5.2(b) or for making any payments due on such
Certificate to the Holder thereof or taking any other action with respect to
such Holder under the provisions of this Agreement so long as the transfer was
registered by the Trustee in accordance with the foregoing requirements.

     (c)  Each Person who has or who acquires any Ownership Interest in a
Residual Certificate shall be deemed by the acceptance or acquisition of such
Ownership Interest to have agreed to be bound by the following provisions, and
the rights of each Person acquiring any Ownership Interest in a Residual
Certificate are expressly subject to the following provisions:

          (i)    Each Person holding or acquiring any Ownership Interest in a
     Residual Certificate shall be a Permitted Transferee and shall promptly
     notify the Trustee of any change or impending change in its status as a
     Permitted Transferee.

          (ii)   No Ownership Interest in a Residual Certificate may be
     registered on the Closing Date or thereafter transferred, and the Trustee
     shall not register the Transfer of any Residual Certificate unless, in
     addition to the certificates required to be delivered to the Trustee under
     subparagraph (b) above, the Trustee shall have been furnished with an
     affidavit (a "Transfer Affidavit") of the initial owner or the proposed
     transferee in the form attached hereto as Exhibit H.

                                      -67-
<PAGE>

          (iii)  Each Person holding or acquiring any Ownership Interest in a
     Residual Certificate shall agree (A) to obtain a Transfer Affidavit from
     any other Person to whom such Person attempts to Transfer its Ownership
     Interest in a Residual Certificate, (B) to obtain a Transfer Affidavit from
     any Person for whom such Person is acting as nominee, trustee or agent in
     connection with any Transfer of a Residual Certificate and (C) not to
     Transfer its Ownership Interest in a Residual Certificate or to cause the
     Transfer of an Ownership Interest in a Residual Certificate to any other
     Person if it has actual knowledge that such Person is not a Permitted
     Transferee.

          (iv)   Any attempted or purported Transfer of any Ownership Interest
     in a Residual Certificate in violation of the provisions of this Section
     5.2(c) shall be absolutely null and void and shall vest no rights in the
     purported Transferee. If any purported transferee shall become a Holder of
     a Residual Certificate in violation of the provisions of this Section
     5.2(c), then the last preceding Permitted Transferee shall be restored to
     all rights as Holder thereof retroactive to the date of registration of
     Transfer of such Residual Certificate. The Trustee shall be under no
     liability to any Person for any registration of Transfer of a Residual
     Certificate that is in fact not permitted by Section 5.2(b) and this
     Section 5.2(c) or for making any payments due on such Certificate to the
     Holder thereof or taking any other action with respect to such Holder under
     the provisions of this Agreement so long as the Transfer was registered
     after receipt of the related Transfer Affidavit, Transferor Certificate and
     either the Rule 144A Letter or the Investment Letter. The Trustee shall be
     entitled but not obligated to recover from any Holder of a Residual
     Certificate that was in fact not a Permitted Transferee at the time it
     became a Holder or, at such subsequent time as it became other than a
     Permitted Transferee, all payments made on such Residual Certificate at and
     after either such time. Any such payments so recovered by the Trustee shall
     be paid and delivered by the Trustee to the last preceding Permitted
     Transferee of such Certificate.

          (v)    The Depositor shall use its best efforts to make available,
     upon receipt of written request from the Trustee, all information necessary
     to compute any tax imposed under Section 860E(e) of the Code as a result of
     a Transfer of an Ownership Interest in a Residual Certificate to any Holder
     who is not a Permitted Transferee.

     The restrictions on Transfers of a Residual Certificate set forth in this
Section 5.2(c) shall cease to apply (and the applicable portions of the legend
on a Residual Certificate may be deleted) with respect to Transfers occurring
after delivery to the Trustee of an Opinion of Counsel, which Opinion of Counsel
shall not be an expense of the Trust Fund, the Trustee, the Seller or the Master
Servicer, to the effect that the elimination of such restrictions will not cause
the Trust Fund to fail to qualify as a REMIC at any time that the Certificates
are outstanding or result in the imposition of any tax on the Trust Fund, a
Certificateholder or another Person. Each Person holding or acquiring any
Ownership Interest in a Residual Certificate hereby consents to any amendment of
this Agreement which, based on an Opinion of Counsel furnished to the Trustee,
is reasonably necessary (a) to ensure that the record ownership of, or any
beneficial interest in, a Residual Certificate is not transferred, directly or
indirectly, to a Person that is not a Permitted Transferee and (b) to provide
for a means to compel the Transfer of a Residual Certificate which is held by a
Person that is not a Permitted Transferee to a Holder that is a Permitted
Transferee.

                                      -68-
<PAGE>

     (d)  The preparation and delivery of all certificates and opinions referred
to above in this Section 5.2 in connection with transfer shall be at the expense
of the parties to such transfers.

     (e)  Except as provided below, the Book-Entry Certificates shall at all
times remain registered in the name of the Depository or its nominee and at all
times: (i) registration of the Certificates may not be transferred by the
Trustee except to another Depository; (ii) the Depository shall maintain book-
entry records with respect to the Certificate Owners and with respect to
ownership and transfers of such Book-Entry Certificates; (iii) ownership and
transfers of registration of the Book-Entry Certificates on the books of the
Depository shall be governed by applicable rules established by the Depository;
(iv) the Depository may collect its usual and customary fees, charges and
expenses from its Depository Participants; (v) the Trustee shall deal with the
Depository, Depository Participants and indirect participating firms as
representatives of the Certificate Owners of the Book-Entry Certificates for
purposes of exercising the rights of holders under this Agreement, and requests
and directions for and votes of such representatives shall not be deemed to be
inconsistent if they are made with respect to different Certificate Owners; and
(vi) the Trustee may rely and shall be fully protected in relying upon
information furnished by the Depository with respect to its Depository
Participants and furnished by the Depository Participants with respect to
indirect participating firms and persons shown on the books of such indirect
participating firms as direct or indirect Certificate Owners.

     All transfers by Certificate Owners of Book-Entry Certificates shall be
made in accordance with the procedures established by the Depository Participant
or brokerage firm representing such Certificate Owner. Each Depository
Participant shall only transfer Book-Entry Certificates of Certificate Owners it
represents or of brokerage firms for which it acts as agent in accordance with
the Depository's normal procedures.

     If (x) (i) the Depository or the Depositor advises the Trustee in writing
that the Depository is no longer willing or able to properly discharge its
responsibilities as Depository, and (ii) the Trustee or the Depositor is unable
to locate a qualified successor, (y) the Depositor at its option advises the
Trustee in writing that it elects to terminate the book-entry system through the
Depository or (z) after the occurrence of an Event of Default, Certificate
Owners representing at least 51% of the Class Certificate Balance of the Book-
Entry Certificates together advise the Trustee and the Depository through the
Depository Participants in writing that the continuation of a book-entry system
through the Depository is no longer in the best interests of the Certificate
Owners, the Trustee shall notify all Certificate Owners, through the Depository,
of the occurrence of any such event and of the availability of definitive,
fully-registered Certificates (the "Definitive Certificates") to Certificate
Owners requesting the same. Upon surrender to the Trustee of the related Class
of Certificates by the Depository, accompanied by the instructions from the
Depository for registration, the Trustee shall issue the Definitive
Certificates. Neither the Master Servicer, the Depositor nor the Trustee shall
be liable for any delay in delivery of such instruction and each may
conclusively rely on, and shall be protected in relying on, such instructions.
The Master Servicer shall provide the Trustee with an adequate inventory of
certificates to facilitate the issuance and transfer of Definitive Certificates.
Upon the issuance of Definitive Certificates all references herein to
obligations imposed upon or to be performed by the Depository shall be deemed to
be imposed upon and performed by the Trustee, to the extent applicable with
respect to such Definitive Certificates and the Trustee shall recognize the
Holders of the Definitive Certificates as Certificateholders hereunder; provided
that

                                      -69-
<PAGE>

the Trustee shall not by virtue of its assumption of such obligations become
liable to any party for any act or failure to act of the Depository.

     SECTION 5.3 Mutilated, Destroyed, Lost or Stolen Certificates.

     If (a) any mutilated Certificate is surrendered to the Trustee, or the
Trustee receives evidence to its satisfaction of the destruction, loss or theft
of any Certificate and (b) there is delivered to the Master Servicer and the
Trustee such security or indemnity as may be required by them to save each of
them harmless, then, in the absence of notice to the Trustee that such
Certificate has been acquired by a bona fide purchaser, the Trustee shall
execute, countersign and deliver, in exchange for or in lieu of any such
mutilated, destroyed, lost or stolen Certificate, a new Certificate of like
Class, tenor and Percentage Interest. In connection with the issuance of any new
Certificate under this Section 5.3, the Trustee may require the payment of a sum
sufficient to cover any tax or other governmental charge that may be imposed in
relation thereto and any other expenses (including the fees and expenses of the
Trustee) connected therewith. Any replacement Certificate issued pursuant to
this Section 5.3 shall constitute complete and indefeasible evidence of
ownership, as if originally issued, whether or not the lost, stolen or destroyed
Certificate shall be found at any time.

     SECTION 5.4 Persons Deemed Owners.

     The Master Servicer, the Trustee and any agent of the Master Servicer or
the Trustee may treat the Person in whose name any Certificate is registered as
the owner of such Certificate for the purpose of receiving distributions as
provided in this Agreement and for all other purposes whatsoever, and neither
the Master Servicer, the Trustee nor any agent of the Master Servicer or the
Trustee shall be affected by any notice to the contrary.

     SECTION 5.5 Access to List of Certificateholders' Names and Addresses.

     If three or more Certificateholders (a) request such information in writing
from the Trustee, (b) state that such Certificateholders desire to communicate
with other Certificateholders with respect to their rights under this Agreement
or under the Certificates, and (c) provide a copy of the communication which
such Certificateholders propose to transmit, or if the Depositor or Master
Servicer shall request such information in writing from the Trustee, then the
Trustee shall, within ten Business Days after the receipt of such request,
provide the Depositor, the Master Servicer or such Certificateholders at such
recipients' expense the most recent list of the Certificateholders of such Trust
Fund held by the Trustee, if any. The Depositor and every Certificateholder, by
receiving and holding a Certificate, agree that the Trustee shall not be held
accountable by reason of the disclosure of any such information as to the list
of the Certificateholders hereunder, regardless of the source from which such
information was derived.

     SECTION 5.6 Maintenance of Office or Agency.

     The Trustee will maintain or cause to be maintained at its expense an
office or offices or agency or agencies in New York City where Certificates may
be surrendered for registration of transfer or exchange. The Trustee initially
designates its Corporate Trust Office for such purposes. The Trustee will give
prompt written notice to the Certificateholders of any change in such location
of any such office or agency.

                                      -70-
<PAGE>

                                  ARTICLE VI
                     THE DEPOSITOR AND THE MASTER SERVICER

     SECTION 6.1 Respective Liabilities of the Depositor and the Master
Servicer.

     The Depositor and the Master Servicer shall each be liable in accordance
herewith only to the extent of the obligations specifically and respectively
imposed upon and undertaken by them herein.

     SECTION 6.2 Merger or Consolidation of the Depositor or the Master
Servicer.

     The Depositor and the Master Servicer will each keep in full effect its
existence, rights and franchises as a corporation under the laws of the United
States or under the laws of one of the states thereof and will each obtain and
preserve its qualification to do business as a foreign corporation in each
jurisdiction in which such qualification is or shall be necessary to protect the
validity and enforceability of this Agreement, or any of the Mortgage Loans and
to perform its respective duties under this Agreement.

     Any Person into which the Depositor or the Master Servicer may be merged or
consolidated, or any Person resulting from any merger or consolidation to which
the Depositor or the Master Servicer shall be a party, or any person succeeding
to the business of the Depositor or the Master Servicer, shall be the successor
of the Depositor or the Master Servicer, as the case may be, hereunder, without
the execution or filing of any paper or any further act on the part of any of
the parties hereto, anything herein to the contrary notwithstanding; provided,
however, that the successor or surviving Person to the Master Servicer shall be
qualified to sell mortgage loans to, and to service mortgage loans on behalf of,
FNMA or FHLMC.

     SECTION 6.3 Limitation on Liability of the Depositor, the Seller, the
Master Servicer and Others.

     None of the Depositor, the Seller, the Master Servicer or any of the
directors, officers, employees or agents of the Depositor, the Seller or the
Master Servicer shall be under any liability to the Certificateholders for any
action taken or for refraining from the taking of any action in good faith
pursuant to this Agreement, or for errors in judgment; provided, however, that
this provision shall not protect the Depositor, the Seller, the Master Servicer
or any such Person against any breach of representations or warranties made by
it herein or protect the Depositor, the Seller, the Master Servicer or any such
Person from any liability which would otherwise be imposed by reasons of willful
misfeasance, bad faith or gross negligence in the performance of duties or by
reason of reckless disregard of obligations and duties hereunder. The Depositor,
the Seller, the Master Servicer and any director, officer, employee or agent of
the Depositor, the Seller or the Master Servicer may rely in good faith on any
document of any kind prima facie properly executed and submitted by any Person
respecting any matters arising hereunder. The Depositor, the Seller, the Master
Servicer and any director, officer, employee or agent of the Depositor, the
Seller or the Master Servicer shall be indemnified by the Trust Fund and held
harmless against any loss, liability or expense incurred in connection with any
audit, controversy or judicial proceeding relating to a governmental taxing
authority or any legal action relating to this Agreement or the Certificates,
other than any loss,

                                      -71-
<PAGE>

liability or expense related to any specific Mortgage Loan or Mortgage Loans
(except as any such loss, liability or expense shall be otherwise reimbursable
pursuant to this Agreement) and any loss, liability or expense incurred by
reason of willful misfeasance, bad faith or gross negligence in the performance
of duties hereunder or by reason of reckless disregard of obligations and duties
hereunder. None of the Depositor, the Seller or the Master Servicer shall be
under any obligation to appear in, prosecute or defend any legal action that is
not incidental to its respective duties hereunder and which in its opinion may
involve it in any expense or liability; provided, however, that any of the
Depositor, the Seller or the Master Servicer may in its discretion undertake any
such action that it may deem necessary or desirable in respect of this Agreement
and the rights and duties of the parties hereto and interests of the Trustee and
the Certificateholders hereunder. In such event, the legal expenses and costs of
such action and any liability resulting therefrom shall be expenses, costs and
liabilities of the Trust Fund, and the Depositor, the Seller and the Master
Servicer shall be entitled to be reimbursed therefor out of the Certificate
Account.

     SECTION 6.4 Limitation on Resignation of Master Servicer.

     The Master Servicer shall not resign from the obligations and duties hereby
imposed on it except (a) upon appointment of a successor servicer and receipt by
the Trustee of a letter from each Rating Agency that such a resignation and
appointment will not result in a downgrading of the rating of any of the
Certificates, or (b) upon determination that its duties hereunder are no longer
permissible under applicable law. Any such determination under clause (b)
permitting the resignation of the Master Servicer shall be evidenced by an
Opinion of Counsel to such effect delivered to the Trustee. No such resignation
shall become effective until the Trustee or a successor master servicer shall
have assumed the Master Servicer's responsibilities, duties, liabilities and
obligations hereunder.

                                  ARTICLE VII
                                    DEFAULT

     SECTION 7.1 Events of Default.

     "Event of Default," wherever used herein, means any one of the following
events:

          (i)    any failure by the Master Servicer to deposit in the
     Certificate Account or remit to the Trustee any payment required to be made
     under the terms of this Agreement, which failure shall continue unremedied
     for five days after the date upon which written notice of such failure
     shall have been given to the Master Servicer by the Trustee or the
     Depositor or to the Master Servicer and the Trustee by the Holders of
     Certificates having not less than 25% of the Voting Rights evidenced by the
     Certificates; or

          (ii)   any failure by the Master Servicer to observe or perform in any
     material respect any other of the covenants or agreements on the part of
     the Master Servicer contained in this Agreement, which failure materially
     affects the rights of Certificateholders, which failure continues
     unremedied for a period of 60 days after the date on which written notice
     of such failure shall have been given to the Master Servicer by the Trustee
     or the Depositor, or to the Master Servicer and the Trustee by the Holders
     of Certificates evidencing not less

                                      -72-
<PAGE>

     than 25% of the Voting Rights evidenced by the Certificates; provided,
     however, that the 60- day cure period shall not apply to the initial
     delivery of the Mortgage File for Delay Delivery Mortgage Loans nor the
     failure to substitute or repurchase in lieu thereof; or

          (iii)  a decree or order of a court or agency or supervisory authority
     having jurisdiction in the premises for the appointment of a receiver or
     liquidator in any insolvency, readjustment of debt, marshalling of assets
     and liabilities or similar proceedings, or for the winding-up or
     liquidation of its affairs, shall have been entered against the Master
     Servicer and such decree or order shall have remained in force undischarged
     or unstayed for a period of 60 consecutive days; or

          (iv)   the Master Servicer shall consent to the appointment of a
     receiver or liquidator in any insolvency, readjustment of debt, marshalling
     of assets and liabilities or similar proceedings of or relating to the
     Master Servicer or all or substantially all of the property of the Master
     Servicer; or

          (v)    the Master Servicer shall admit in writing its inability to pay
     its debts generally as they become due, file a petition to take advantage
     of, or commence a voluntary case under, any applicable insolvency or
     reorganization statute, make an assignment for the benefit of its
     creditors, or voluntarily suspend payment of its obligations.

     If an Event of Default described in clauses (i) to (v) of this Section
shall occur, then, and in each and every such case, so long as such Event of
Default shall not have been remedied, the Trustee may, or at the direction of
the Holders of Certificates evidencing not less than 66 2/3% of the Voting
Rights evidenced by the Certificates, the Trustee shall by notice in writing to
the Master Servicer (with a copy to each Rating Agency), terminate all of the
rights and obligations of the Master Servicer under this Agreement and in and to
the Mortgage Loans and the proceeds thereof, other than its rights as a
Certificateholder hereunder. On and after the receipt by the Master Servicer of
such written notice, all authority and power of the Master Servicer hereunder,
whether with respect to the Mortgage Loans or otherwise, shall pass to and be
vested in the Trustee. The Trustee, in its capacity as successor to the Master
Servicer, shall thereupon make any Advance which the Master Servicer failed to
make subject to Section 4.1 hereof. The Trustee is hereby authorized and
empowered to execute and deliver, on behalf of the Master Servicer, as attorney-
in-fact or otherwise, any and all documents and other instruments, and to do or
accomplish all other acts or things necessary or appropriate to effect the
purposes of such notice of termination, whether to complete the transfer and
endorsement or assignment of the Mortgage Loans and related documents, or
otherwise. Unless expressly provided in such written notice, no such termination
shall affect any obligation of the Master Servicer to pay amounts owed pursuant
to Article VIII. The Master Servicer agrees to cooperate with the Trustee in
effecting the termination of the Master Servicer's responsibilities and rights
hereunder, including, without limitation, the transfer to the Trustee of all
cash amounts which shall at the time be credited to the Certificate Account, or
thereafter be received with respect to the Mortgage Loans. All expenses incurred
in the transferring of the servicing duties from the Master Servicer to a
Successor Servicer shall be paid by the Master Servicer, and if not paid by the
Master Servicer, shall be paid from amounts on deposit in the Certificate
Account.

     Notwithstanding any termination of the activities of the Master Servicer
hereunder, the Master Servicer shall be entitled to receive, out of any late
collection of a Scheduled Payment on a

                                      -73-
<PAGE>

Mortgage Loan which was due prior to the notice terminating such Master
Servicer's rights and obligations as Master Servicer hereunder and received
after such notice, that portion thereof to which such Master Servicer would have
been entitled pursuant to Sections 3.8(a)(i) through (viii),and any other
amounts payable to such Master Servicer hereunder the entitlement to which arose
prior to the termination of its activities hereunder.

     SECTION 7.2 Trustee to Act; Appointment of Successor.

     On and after the time the Master Servicer receives a notice of termination
pursuant to Section 7.1 hereof, the Trustee shall, subject to and to the extent
provided in Section 3.4, be the successor to the Master Servicer in its capacity
as master servicer under this Agreement and the transactions set forth or
provided for herein and shall be subject to all the responsibilities, duties and
liabilities relating thereto placed on the Master Servicer by the terms and
provisions hereof and applicable law including the obligation to make Advances
pursuant to Section 4.1. As compensation therefor, the Trustee shall be entitled
to all funds relating to the Mortgage Loans that the Master Servicer would have
been entitled to charge to the Certificate Account or Distribution Account if
the Master Servicer had continued to act hereunder. Notwithstanding the
foregoing, if the Trustee has become the successor to the Master Servicer in
accordance with Section 7.1 hereof, the Trustee may, if it shall be unwilling to
so act, or shall, if it is prohibited by applicable law from making Advances
pursuant to Section 4.1 hereof or if it is otherwise unable to so act, appoint,
or petition a court of competent jurisdiction to appoint, any established
mortgage loan servicing institution the appointment of which does not adversely
affect the then current rating of the Certificates by each Rating Agency as the
successor to the Master Servicer hereunder in the assumption of all or any part
of the responsibilities, duties or liabilities of the Master Servicer hereunder.
Any successor to the Master Servicer shall be an institution which is a FNMA and
FHLMC approved seller/servicer in good standing, which has a net worth of at
least $10,000,000, and which is willing to service the Mortgage Loans and
executes and delivers to the Depositor and the Trustee an agreement accepting
such delegation and assignment, which contains an assumption by such Person of
the rights, powers, duties, responsibilities, obligations and liabilities of the
Master Servicer (other than liabilities of the Master Servicer under Section 6.3
hereof incurred prior to termination of the Master Servicer under Section 7.1),
with like effect as if originally named as a party to this Agreement; and
provided further that each Rating Agency acknowledges that its rating of the
Certificates in effect immediately prior to such assignment and delegation will
not be qualified or reduced, as a result of such assignment and delegation.
Pending appointment of a successor to the Master Servicer hereunder, the
Trustee, unless the Trustee is prohibited by law from so acting, shall, subject
to Section 3.4 hereof, act in such capacity as provided above. In connection
with such appointment and assumption, the Trustee may make such arrangements for
the compensation of such successor out of payments on Mortgage Loans as it and
such successor shall agree; provided, however, that no such compensation shall
be in excess of the Master Servicing Fee permitted the Master Servicer
hereunder. The Trustee and such successor shall take such action, consistent
with this Agreement, as shall be necessary to effectuate any such succession.
Neither the Trustee nor any other successor master servicer shall be deemed to
be in default hereunder by reason of any failure to make, or any delay in
making, any distribution hereunder or any portion thereof or any failure to
perform, or any delay in performing, any duties or responsibilities hereunder,
in either case caused by the failure of the Master Servicer to deliver or
provide, or any delay in delivering or providing, any cash, information,
documents or records to it.

                                      -74-
<PAGE>

     Any successor to the Master Servicer as master servicer shall give notice
to the Mortgagors of such change of servicer and shall, during the term of its
service as master servicer maintain in force the policy or policies that the
Master Servicer is required to maintain pursuant to Section 6.5.

     SECTION 7.3 Notification to Certificateholders.

     (a)  Upon any termination of or appointment of a successor to the Master
Servicer, the Trustee shall give prompt written notice thereof to
Certificateholders and to each Rating Agency.

     (b)  Within 60 days after the occurrence of any Event of Default, the
Trustee shall transmit by mail to all Certificateholders notice of each such
Event of Default hereunder known to the Trustee, unless such Event of Default
shall have been cured or waived.

                                 ARTICLE VIII
                            CONCERNING THE TRUSTEE

     SECTION 8.1 Duties of Trustee.

     The Trustee, prior to the occurrence of an Event of Default of which a
Responsible Officer of the Trustee has actual knowledge and after the curing of
all Events of Default that may have occurred, shall undertake to perform such
duties and only such duties as are specifically set forth in this Agreement. In
case an Event of Default of which a Responsible Officer of the Trustee has
actual knowledge has occurred and remains uncured, the Trustee shall exercise
such of the rights and powers vested in it by this Agreement, and use the same
degree of care and skill in their exercise as a prudent person would exercise or
use under the circumstances in the conduct of such person's own affairs.

     The Trustee, upon receipt of all resolutions, certificates, statements,
opinions, reports, documents, orders or other instruments furnished to the
Trustee that are specifically required to be furnished pursuant to any provision
of this Agreement shall examine them to determine whether they are in the form
required by this Agreement; provided, however, that the Trustee shall not be
responsible for the accuracy or content of any such resolution, certificate,
statement, opinion, report, document, order or other instrument. If any such
instrument is found not to conform in any material respect to the requirements
of this Agreement, the Trustee shall notify the Certificateholders of such
instrument in the event that the Trustee, after so requesting, does not receive
a satisfactorily corrected instrument.

     No provision of this Agreement shall be construed to relieve the Trustee
from liability for its own negligent action, its own negligent failure to act or
its own willful misconduct; provided, however, that:

          (i)    unless an Event of Default of which a Responsible Officer of
     the Trustee has actual knowledge shall have occurred and be continuing, the
     duties and obligations of the Trustee shall be determined solely by the
     express provisions of this Agreement, the Trustee shall not be liable
     except for the performance of such duties and obligations as are
     specifically set forth in this Agreement, no implied covenants or
     obligations shall be read

                                      -75-
<PAGE>

     into this Agreement against the Trustee and the Trustee may conclusively
     rely, as to the truth of the statements and the correctness of the opinions
     expressed therein, upon any certificates or opinions furnished to the
     Trustee and conforming to the requirements of this Agreement which it
     believed in good faith to be genuine and to have been duly executed by the
     proper authorities respecting any matters arising hereunder;

          (ii)   the Trustee shall not be liable for an error of judgment made
     in good faith by a Responsible Officer or Responsible Officers of the
     Trustee, unless it shall be finally proven that the Trustee was negligent
     in ascertaining the pertinent facts;

          (iii)  the Trustee shall not be liable with respect to any action
     taken, suffered or omitted to be taken by it in good faith in accordance
     with the direction of Holders of Certificates evidencing not less than 25%
     of the Voting Rights of Certificates relating to the time, method and place
     of conducting any proceeding for any remedy available to the Trustee, or
     exercising any trust or power conferred upon the Trustee under this
     Agreement;

          (iv)   the Trustee shall not be required to expend or risk its own
     funds or otherwise incur financial liability in the performance of any of
     its duties hereunder or the exercise of any of its rights or powers if
     there is reasonable ground for believing that the repayment of such funds
     or adequate indemnity against such risk or liability is not assured to it,
     and none of the provisions contained in this Agreement shall in any event
     require the Trustee to perform, or be responsible for the manner of
     performance of, any of the obligations of the Master Servicer under this
     Agreement except during such time, if any, as the Trustee shall be the
     successor to, and be vested with the rights, duties, powers and privileges
     of, the Master Servicer; and

          (v)    without limiting the generality of this Section 8.1, the
     Trustee shall have no duty (A) to see to any recording, filing, or
     depositing of this Agreement or any agreement referred to herein or any
     financing statement or continuation statement evidencing a security
     interest, or to see to the maintenance of any such recording or filing or
     deposit or to any rerecording, refiling or redepositing of any thereof, (B)
     to see to any insurance, (C) to see to the payment or discharge of any tax,
     assessment, or other governmental charge or any lien or encumbrance of any
     kind owing with respect to, assessed or levied against, any part of the
     Trust Fund other than from funds available in the Distribution Account (D)
     to confirm or verify the contents of any reports or certificates of the
     Servicer delivered to the Trustee pursuant to this Agreement believed by
     the Trustee to be genuine and to have been signed or presented by the
     proper party or parties.

     SECTION 8.2 Certain Matters Affecting the Trustee.

     Except as otherwise provided in Section 8.1:

          (i)    the Trustee may request and rely upon and shall be protected in
     acting or refraining from acting upon any resolution, Officers'
     Certificate, certificate of auditors or any other certificate, statement,
     instrument, opinion, report, notice, request, consent, order, appraisal,
     bond or other paper or document believed by it to be genuine and to have
     been

                                      -76-
<PAGE>

     signed or presented by the proper party or parties and the Trustee shall
     have no responsibility to ascertain or confirm the genuineness of any
     signature of any such party or parties;

          (ii)   the Trustee may consult with counsel, financial advisers or
     accountants and the advice of any such counsel, financial advisers or
     accountants and any Opinion of Counsel shall be full and complete
     authorization and protection in respect of any action taken or suffered or
     omitted by it hereunder in good faith and in accordance with such Opinion
     of Counsel;

          (iii)  the Trustee shall not be liable for any action taken, suffered
     or omitted by it in good faith and believed by it to be authorized or
     within the discretion or rights or powers conferred upon it by this
     Agreement;

          (iv)   the Trustee shall not be bound to make any investigation into
     the facts or matters stated in any resolution, certificate, statement,
     instrument, opinion, report, notice, request, consent, order, approval,
     bond or other paper or document, unless requested in writing so to do by
     Holders of Certificates evidencing not less than 25% of the Voting Rights
     allocated to each Class of Certificates; provided, however, that if the
     payment within a reasonable time to the Trustee of the costs, expenses or
     liabilities likely to be incurred by it in the making of such investigation
     is, in the opinion of the Trustee, not assured to the Trustee by the
     security afforded to it by the terms of this Agreement, the Trustee may
     require indemnity satisfactory to the Trustee against such cost, expense or
     liability as a condition to taking any such action. The reasonable expense
     of every such examination shall be paid by the Master Servicer or, if paid
     by the Trustee, shall be repaid by the Master Servicer upon demand from the
     Servicer's own funds.

          (v)    the Trustee may execute any of the trusts or powers hereunder
     or perform any duties hereunder either directly or by or through agents,
     accountants or attorneys and the Trustee shall not be responsible for any
     misconduct or negligence on the part of such agent, accountant or attorney
     appointed by the Trustee with due care;

          (vi)   the Trustee shall not be required to risk or expend its own
     funds or otherwise incur any financial liability in the performance of any
     of its duties or in the exercise of any of its rights or powers hereunder
     if it shall have reasonable grounds for believing that repayment of such
     funds or adequate indemnity against such risk or liability is not assured
     to it;

          (vii)  the Trustee shall not be liable for any loss on any investment
     of funds pursuant to this Agreement (other than as issuer of the investment
     security);

          (viii) the Trustee shall not be deemed to have knowledge of an Event
     of Default until a Responsible Officer of the Trustee shall have received
     written notice thereof and in the absence of such notice, the Trustee may
     conclusively assume that there is no Event of Default;

                                      -77-
<PAGE>

          (ix)   the Trustee shall be under no obligation to exercise any of the
     trusts, rights or powers vested in it by this Agreement or to institute,
     conduct or defend any litigation hereunder or in relation hereto at the
     request, order or direction of any of the Certificateholders, pursuant to
     the provisions of this Agreement, unless such Certificateholders shall have
     offered to the Trustee reasonable security or indemnity satisfactory to the
     Trustee against the costs, expenses and liabilities which may be incurred
     therein or thereby;

          (x)    the right of the Trustee to perform any discretionary act
     enumerated in this Agreement shall not be construed as a duty, and the
     Trustee shall not be answerable for other than its negligence or willful
     misconduct in the performance of such act; and

          (xi)   the Trustee shall not be required to give any bond or surety in
     respect of the execution of the Trust Fund created hereby or the powers
     granted hereunder.

     SECTION 8.3 Trustee Not Liable for Certificates or Mortgage Loans.

     The recitals contained herein and in the Certificates shall be taken as the
statements of the Depositor or the Seller, as the case may be, and the Trustee
assumes no responsibility for their correctness. The Trustee makes no
representations as to the validity or sufficiency of this Agreement or of the
Certificates or of any Mortgage Loan or related document other than with respect
to the Trustee's execution and counter-signature of the Certificates. The
Trustee shall not be accountable for the use or application by the Depositor or
the Master Servicer of any funds paid to the Depositor or the Master Servicer in
respect of the Mortgage Loans or deposited in or withdrawn from the Certificate
Account by the Depositor or the Master Servicer.

     SECTION 8.4 Trustee May Own Certificates.

     The Trustee in its individual or any other capacity may become the owner or
pledgee of Certificates with the same rights as it would have if it were not the
Trustee.

     SECTION 8.5 Trustee's Fees and Expenses.

     The Trustee, as compensation for its activities prior to making the
distributions pursuant to Section 4.2 hereunder, shall be entitled to withdraw
from the Distribution Account on each Distribution Date an amount equal to the
Trustee Fee for such Distribution Date. The Trustee and any director, officer,
employee or agent of the Trustee shall be indemnified by the Master Servicer and
held harmless against any loss, liability or expense (including reasonable
attorney's fees) (i) incurred in connection with any claim or legal action
relating to (a) this Agreement, (b) the Certificates or (c) in connection with
the performance of any of the Trustee's duties hereunder, other than any loss,
liability or expense incurred by reason of willful misfeasance, bad faith or
negligence in the performance of any of the Trustee's duties hereunder or
incurred by reason of any action of the Trustee taken at the direction of the
Certificateholders and (ii) resulting from any error in any tax or information
return prepared by the Master Servicer. Such indemnity shall survive the
termination of this Agreement or the resignation or removal of the Trustee
hereunder. Without limiting the foregoing, the Master Servicer covenants and
agrees, except as otherwise agreed upon in writing by the Depositor and the
Trustee, and except for any such expense, disbursement or advance as may

                                      -78-
<PAGE>

arise from the Trustee's negligence, bad faith or willful misconduct, to pay or
reimburse the Trustee, for all reasonable expenses, disbursements and advances
incurred or made by the Trustee in accordance with any of the provisions of this
Agreement with respect to: (A) the reasonable compensation and the expenses and
disbursements of its counsel not associated with the closing of the issuance of
the Certificates, (B) the reasonable compensation, expenses and disbursements of
any accountant, engineer or appraiser that is not regularly employed by the
Trustee, to the extent that the Trustee must engage such persons to perform acts
or services hereunder and (C) printing and engraving expenses in connection with
preparing any Definitive Certificates. Except as otherwise provided herein, the
Trustee shall not be entitled to payment or reimbursement for any routine
ongoing expenses incurred by the Trustee in the ordinary course of its duties as
Trustee, Registrar, Tax Matters Person or Paying Agent hereunder or for any
other expenses.

     SECTION 8.6 Eligibility Requirements for Trustee.

     The Trustee hereunder shall at all times be a corporation or association
organized and doing business under the laws of a state or the United States of
America, authorized under such laws to exercise corporate trust powers, having a
combined capital and surplus of at least $50,000,000, subject to super-vision or
examination by federal or state authority and with a credit rating which would
not cause either of the Rating Agencies to reduce their respective then current
ratings of the Certificates (or having provided such security from time to time
as is sufficient to avoid such reduction). If such corporation or association
publishes reports of condition at least annually, pursuant to law or to the
requirements of the aforesaid supervising or examining authority, then for the
purposes of this Section 8.6 the combined capital and surplus of such
corporation or association shall be deemed to be its combined capital and
surplus as set forth in its most recent report of condition so published. In
case at any time the Trustee shall cease to be eligible in accordance with the
provisions of this Section 8.6, the Trustee shall resign immediately in the
manner and with the effect specified in Section 8.7 hereof. The entity serving
as Trustee may have normal banking and trust relationships with the Depositor
and its affiliates or the Master Servicer and its affiliates; provided, however,
that such entity cannot be an affiliate of the Master Servicer other than the
Trustee in its role as successor to the Master Servicer.

     SECTION 8.7 Resignation and Removal of Trustee.

     The Trustee may at any time resign and be discharged from the trusts hereby
created by giving written notice of resignation to the Depositor and the Master
Servicer and each Rating Agency not less than 60 days before the date specified
in such notice when, subject to Section 8.8, such resignation is to take effect,
and acceptance by a successor trustee in accordance with Section 8.8 meeting the
qualifications set forth in Section 8.6. If no successor trustee meeting such
qualifications shall have been so appointed and have accepted appointment within
30 days after the giving of such notice or resignation, the resigning Trustee
may petition any court of competent jurisdiction for the appointment of a
successor trustee.

     If at any time the Trustee shall cease to be eligible in accordance with
the provisions of Section 8.6 hereof and shall fail to resign after written
request thereto by the Depositor, or if at any time the Trustee shall become
incapable of acting, or shall be adjudged as bankrupt or insolvent, or a
receiver of the Trustee or of its property shall be appointed, or any public
officer shall take charge or control of the Trustee or of its property or
affairs for the purpose of rehabilitation, conservation

                                      -79-
<PAGE>

or liquidation, or a tax is imposed with respect to the Trust Fund by any state
in which the Trustee or the Trust Fund is located and the imposition of such tax
would be avoided by the appointment of a different trustee, then the Depositor
or the Master Servicer may remove the Trustee and appoint a successor trustee by
written instrument, in triplicate, one copy of which instrument shall be
delivered to the Trustee, one copy of which shall be delivered to the Master
Servicer and one copy to the successor trustee.

     The Holders of Certificates entitled to at least 51% of the Voting Rights
may at any time remove the Trustee and appoint a successor trustee by written
instrument or instruments, in triplicate, signed by such Holders or their
attorneys-in-fact duly authorized, one complete set of which instruments shall
be delivered by the successor Trustee to the Master Servicer, one complete set
to the Trustee so removed and one complete set to the successor so appointed.
Notice of any removal of the Trustee shall be given to each Rating Agency by the
Successor Trustee.

     Any resignation or removal of the Trustee and appointment of a successor
trustee pursuant to any of the provisions of this Section 8.7 shall become
effective upon acceptance of appointment by the successor trustee as provided in
Section 8.8 hereof.

     SECTION 8.8 Successor Trustee.

     Any successor trustee appointed as provided in Section 8.7 hereof shall
execute, acknowledge and deliver to the Depositor and to its predecessor trustee
and the Master Servicer an instrument accepting such appointment hereunder and
thereupon the resignation or removal of the predecessor trustee shall become
effective and such successor trustee, without any further act, deed or
conveyance, shall become fully vested with all the rights, powers, duties and
obligations of its predecessor hereunder, with the like effect as if originally
named as trustee herein. The Depositor, the Master Servicer and the predecessor
trustee shall execute and deliver such instruments and do such other things as
may reasonably be required for more fully and certainly vesting and confirming
in the successor trustee all such rights, powers, duties, and obligations.

     No successor trustee shall accept appointment as provided in this Section
8.8 unless at the time of such acceptance such successor trustee shall be
eligible under the provisions of Section 8.6 hereof and its appointment shall
not adversely affect the then current rating of the Certificates.

     Upon acceptance of appointment by a successor trustee as provided in this
Section 8.8, the Depositor shall mail notice of the succession of such trustee
hereunder to all Holders of Certificates. If the Depositor fails to mail such
notice within 10 days after acceptance of appointment by the successor trustee,
the successor trustee shall cause such notice to be mailed at the expense of the
Depositor.

     SECTION 8.9 Merger or Consolidation of Trustee.

     Any corporation into which the Trustee may be merged or converted or with
which it may be consolidated or any corporation resulting from any merger,
conversion or consolidation to which the Trustee shall be a party, or any
corporation succeeding to the business of the Trustee, shall be the successor of
the Trustee hereunder, provided that such corporation shall be eligible under
the

                                      -80-
<PAGE>

provisions of Section 8.6 hereof without the execution or filing of any paper or
further act on the part of any of the parties hereto, anything herein to the
contrary notwithstanding.

         SECTION 8.10 Appointment of Co-Trustee or Separate Trustee.

         Notwithstanding any other provisions of this Agreement, at any time,
for the purpose of meeting any legal requirements of any jurisdiction in which
any part of the Trust Fund or property securing any Mortgage Note may at the
time be located, the Master Servicer and the Trustee acting jointly shall have
the power and shall execute and deliver all instruments to appoint one or more
Persons approved by the Trustee to act as co-trustee or co-trustees jointly with
the Trustee, or separate trustee or separate trustees, of all or any part of the
Trust Fund, and to vest in such Person or Persons, in such capacity and for the
benefit of the Certificateholders, such title to the Trust Fund or any part
thereof, whichever is applicable, and, subject to the other provisions of this
Section 8.10, such powers, duties, obligations, rights and trusts as the Master
Servicer and the Trustee may consider necessary or desirable. If the Master
Servicer shall not have joined in such appointment within 15 days after the
receipt by it of a request to do so, or in the case an Event of Default shall
have occurred and be continuing, the Trustee alone shall have the power to make
such appointment. No co-trustee or separate trustee hereunder shall be required
to meet the terms of eligibility as a successor trustee under Section 8.6 and no
notice to Certificateholders of the appointment of any co- trustee or separate
trustee shall be required under Section 8.8.

         Every separate trustee and co-trustee shall, to the extent permitted by
law, be appointed and act subject to the following provisions and conditions:

                  (i)   To the extent necessary to effectuate the purposes of
         this Section 8.10, all rights, powers, duties and obligations conferred
         or imposed upon the Trustee shall be conferred or imposed upon and
         exercised or performed by the Trustee and such separate trustee or co-
         trustee jointly (it being understood that such separate trustee or co-
         trustee is not authorized to act separately without the Trustee joining
         in such act), except to the extent that under any law of any
         jurisdiction in which any particular act or acts are to be performed
         (whether as Trustee hereunder or as successor to the Master Servicer
         hereunder), the Trustee shall be incompetent or unqualified to perform
         such act or acts, in which event such rights, powers, duties and
         obligations (including the holding of title to the applicable Trust
         Fund or any portion thereof in any such jurisdiction) shall be
         exercised and performed singly by such separate trustee or co-trustee,
         but solely at the direction of the Trustee;

                  (ii)  No trustee hereunder shall be held personally liable by
         reason of any act or omission of any other trustee hereunder and such
         appointment shall not, and shall not be deemed to, constitute any such
         separate trustee or co-trustee as agent of the Trustee;

                  (iii) The Trustee may at any time accept the resignation of or
         remove any separate trustee or co-trustee; and

                  (iv)  The Master Servicer, and not the Trustee, shall be
         liable for the payment of reasonable compensation, reimbursement and
         indemnification to any such separate trustee or co-trustee.

                                      -81-
<PAGE>

         Any notice, request or other writing given to the Trustee shall be
deemed to have been given to each of the separate trustees and co-trustees, when
and as effectively as if given to each of them. Every instrument appointing any
separate trustee or co-trustee shall refer to this Agreement and the conditions
of this Article VIII. Each separate trustee and co-trustee, upon its acceptance
of the trusts conferred, shall be vested with the estates or property specified
in its instrument of appointment, either jointly with the Trustee or separately,
as may be provided therein, subject to all the provisions of this Agreement,
specifically including every provision of this Agreement relating to the conduct
of, affecting the liability of, or affording protection to, the Trustee. Every
such instrument shall be filed with the Trustee and a copy thereof given to the
Master Servicer and the Depositor.

         Any separate trustee or co-trustee may, at any time, constitute the
Trustee its agent or attorney-in-fact, with full power and authority, to the
extent not prohibited by law, to do any lawful act under or in respect of this
Agreement on its behalf and in its name. If any separate trustee or co- trustee
shall die, become incapable of acting, resign or be removed, all of its estates,
properties, rights, remedies and trusts shall vest in and be exercised by the
Trustee, to the extent permitted by law, without the appointment of a new or
successor trustee.

         SECTION 8.11 Tax Matters.

         It is intended that the assets with respect to which any REMIC election
is to be made, as set forth in the preliminary statement shall constitute, and
that the conduct of matters relating to such assets shall be such as to qualify
such assets as, a "real estate mortgage investment conduit" as defined in and in
accordance with the REMIC Provisions. In furtherance of such intention, the
Trustee covenants and agrees that it shall act as agent (and the Trustee is
hereby appointed to act as agent) on behalf of any such REMIC and that in such
capacity it shall: (a) prepare and file, or cause to be prepared and filed, in a
timely manner, a U.S. Real Estate Mortgage Investment Conduit Income Tax Return
(Form 1066 or any successor form adopted by the Internal Revenue Service) and
prepare and file or cause to be prepared and filed with the Internal Revenue
Service and applicable state or local tax authorities income tax or information
returns for each taxable year with respect to any such REMIC, containing such
information and at the times and in the manner as may be required by the Code or
state or local tax laws, regulations, or rules, and furnish or cause to be
furnished to Certificateholders the schedules, statements or information at such
times and in such manner as may be required thereby; (b) within thirty days of
the Closing Date, furnish or cause to be furnished to the Internal Revenue
Service, on Forms 8811 or as otherwise may be required by the Code, the name,
title, address, and telephone number of the person that the holders of the
Certificates may contact for tax information relating thereto, together with
such additional information as may be required by such Form, and update such
information at the time or times in the manner required by the Code; (c) make or
cause to be made elections that such assets be treated as a REMIC on the federal
tax return for its first taxable year (and, if necessary, under applicable state
law); (d) prepare and forward, or cause to be prepared and forwarded, to the
Certificateholders and to the Internal Revenue Service and, if necessary, state
tax authorities, all information returns and reports as and when required to be
provided to them in accordance with the REMIC Provisions, including without
limitation, the calculation of any original issue discount using the prepayment
assumption; (e) provide information necessary for the computation of tax imposed
on the transfer of a Residual Certificate to a Person that is not a Permitted
Transferee, or an agent (including a broker, nominee or other middleman) of a
Non-Permitted Transferee, or a pass-through entity in which a Non- Permitted
Transferee is the record holder of an interest (the reasonable cost of computing
and

                                      -82-
<PAGE>

furnishing such information may be charged to the Person liable for such tax);
(f) to the extent that they are under its control conduct matters relating to
such assets at all times that any Certificates are outstanding so as to maintain
the status as a REMIC under the REMIC Provisions; (g) not knowingly or
intentionally take any action or omit to take any action that would cause the
termination of the REMIC status; (h) pay, from the sources specified in the last
paragraph of this Section 8.11, the amount of any federal or state tax,
including prohibited transaction taxes as described below, imposed on any such
REMIC prior to its termination when and as the same shall be due and payable
(but such obligation shall not prevent the Trustee or any other appropriate
Person from contesting any such tax in appropriate proceedings and shall not
prevent the Trustee from withholding payment of such tax, if permitted by law,
pending the outcome of such proceedings); (i) ensure that federal, state or
local income tax or information returns shall be signed by the Trustee or such
other person as may be required to sign such returns by the Code or state or
local laws, regulations or rules; (j) maintain records relating to any such
REMIC, including but not limited to the income, expenses, assets and liabilities
thereof and the fair market value and adjusted basis of the assets determined at
such intervals as may be required by the Code, as may be necessary to prepare
the foregoing returns, schedules, statements or information; and (k) as and when
necessary and appropriate, represent any such REMIC in any administrative or
judicial proceedings relating to an examination or audit by any governmental
taxing authority, request an administrative adjustment as to any taxable year of
any such REMIC, enter into settlement agreements with any governmental taxing
agency, extend any statute of limitations relating to any tax item of any such
REMIC, and otherwise act on behalf of any such REMIC in relation to any tax
matter or controversy involving it.

         In order to enable the Trustee to perform its duties as set forth
herein, the Depositor shall provide, or cause to be provided, to the Trustee
within ten (10) days after the Closing Date all information or data that the
Trustee requests in writing and determines to be relevant for tax purposes to
the valuations and offering prices of the Certificates, including, without
limitation, the price, yield, prepayment assumption and projected cash flows of
the Certificates and the Mortgage Loans. Thereafter, the Depositor shall provide
to the Trustee promptly upon written request therefor, any such additional
information or data that the Trustee may, from time to time, reasonably request
in order to enable the Trustee to perform its duties as set forth herein. The
Depositor hereby indemnifies the Trustee for any losses, liabilities, damages,
claims or expenses of the Trustee arising from any errors or miscalculations of
the Trustee that result from any failure of the Depositor to provide, or to
cause to be provided, accurate information or data to the Trustee on a timely
basis.

         In the event that any tax is imposed on "prohibited transactions" of
the REMIC as defined in Section 860F(a)(2) of the Code, on the "net income from
foreclosure property" of the REMIC as defined in Section 860G(c) of the Code, on
any contribution to the REMIC after the Startup Day pursuant to Section 860G(d)
of the Code, or any other tax is imposed, if not paid as otherwise provided for
herein, such tax shall be paid by (i) the Trustee, if any such other tax arises
out of or results from a breach by the Trustee of any of its obligations under
this Agreement which breach was caused by its negligence or willful misconduct,
(ii) the Master Servicer, in the case of any such minimum tax, or if such tax
arises out of or results from a breach by the Master Servicer or Seller of any
of their obligations under this Agreement, (iii) the Seller, if any such tax
arises out of or results from the Seller's obligation to repurchase a Mortgage
Loan pursuant to Section 2.2 or 2.3 or (iv) in all other cases, or in the event
that the Trustee, the Master Servicer or the Seller fails to honor its
obligations under the preceding clauses (i), (ii) or (iii), any such tax will be
paid with amounts otherwise to be distributed to the Certificateholders, as
provided in Section 3.8(b).

                                      -83-
<PAGE>

         SECTION 8.12 Periodic Filings.

         Pursuant to written instructions from the Depositor, the Trustee shall
prepare, execute and file all periodic reports required under the Securities
Exchange Act of 1934 in conformity with the terms of the "no-action" relief
granted by the SEC to issuers of asset-backed securities such as the
Certificates. In connection with the preparation and filing of such periodic
reports, the Depositor and the Master Servicer shall timely provide to the
Trustee all material information available to them which is required to be
included in such reports and not known to them to be in the possession of the
Trustee and such other information as the Trustee reasonably may request from
either of them and otherwise reasonably shall cooperate with the Trustee. The
Trustee shall have no liability with respect to any failure to properly prepare
or file such periodic reports resulting from or relating to the Trustee's
inability or failure to obtain any information not resulting from its own
negligence or willful misconduct.

                                  ARTICLE IX
                                  TERMINATION

         SECTION 9.1 Termination upon Liquidation or Purchase of all Mortgage
Loans.

         Subject to Section 9.3, the obligations and responsibilities of the
Depositor, the Master Servicer and the Trustee created hereby with respect to
the Trust Fund shall terminate upon the earlier of (a) the purchase by the
Master Servicer of all Mortgage Loans (and REO Properties) remaining in the
Trust Fund at the price equal to the sum of (i) 100% of the Stated Principal
Balance of each Mortgage Loan plus one month's accrued interest thereon at the
applicable Adjusted Mortgage Rate and (ii) the lesser of (x) the appraised value
of any REO Property as determined by the higher of two appraisals completed by
two independent appraisers selected by the Master Servicer at the expense of the
Master Servicer and (y) the Stated Principal Balance of each Mortgage Loan
related to any REO Property, in each case plus accrued and unpaid interest
thereon at the applicable Adjusted Mortgage Rate and (b) the later of (i) the
maturity or other liquidation (or any Advance with respect thereto) of the last
Mortgage Loan remaining in the Trust Fund and the disposition of all REO
Property and (ii) the distribution to Certificateholders of all amounts required
to be distributed to them pursuant to this Agreement. In no event shall the
trusts created hereby continue beyond the earlier of (i) the expiration of 21
years from the death of the survivor of the descendants of Joseph P. Kennedy,
the late Ambassador of the United States to the Court of St. James's, living on
the date hereof, and (ii) the Latest Possible Maturity Date. The right to
purchase all Mortgage Loans and REO Properties pursuant to clause (a) above
shall be conditioned upon the Pool Principal Balance, at the time of any such
repurchase, aggregating less than ten percent of the aggregate Cut-off Date
Principal Balance of the Mortgage Loans.

         SECTION 9.2 Final Distribution on the Certificates.

         If on any Determination Date, the Master Servicer determines that there
are no Outstanding Mortgage Loans and no other funds or assets in the Trust Fund
other than the funds in the Certificate Account, the Master Servicer shall
direct the Trustee promptly to send a final distribution notice to each
Certificateholder. If the Master Servicer elects to terminate the Trust Fund
pursuant to clause (a) of Section 9.1, at least 20 days prior to the date notice
is to be mailed to the affected

                                      -84-
<PAGE>

Certificateholders, the Master Servicer shall notify the Depositor and the
Trustee of the date the Master Servicer intends to terminate the Trust Fund and
of the applicable repurchase price of the Mortgage Loans and REO Properties.

         Notice of any termination of the Trust Fund, specifying the
Distribution Date on which Certificateholders may surrender their Certificates
for payment of the final distribution and cancellation, shall be given promptly
by the Trustee by letter to Certificateholders mailed not earlier than the 10th
day and no later than the 15th day of the month next preceding the month of such
final distribution. Any such notice shall specify (a) the Distribution Date upon
which final distribution on the Certificates will be made upon presentation and
surrender of Certificates at the office therein designated, (b) the amount of
such final distribution, (c) the location of the office or agency at which such
presentation and surrender must be made, and (d) that the Record Date otherwise
applicable to such Distribution Date is not applicable, distributions being made
only upon presentation and surrender of the Certificates at the office therein
specified. The Master Servicer will give such notice to each Rating Agency at
the time such notice is given to Certificateholders.

         In the event such notice is given, the Master Servicer shall cause all
funds in the Certificate Account to be remitted to the Trustee for deposit in
the Distribution Account on the Business Day prior to the applicable
Distribution Date in an amount equal to the final distribution in respect of the
Certificates. Upon such final deposit with respect to the Trust Fund and the
receipt by the Trustee of a Request for Release therefor, the Trustee shall
promptly release to the Master Servicer the Mortgage Files for the Mortgage
Loans.

         Upon presentation and surrender of the Certificates, the Trustee shall
cause to be distributed to the Certificateholders of each Class, in the order
set forth in Section 4.2 hereof, on the final Distribution Date, in the case of
the Certificateholders, in proportion to their respective Percentage Interests,
with respect to Certificateholders of the same Class, an amount equal to (i) as
to each Class of Regular Certificates, the Class Certificate Balance thereof
plus accrued interest thereon, and (ii) as to the Residual Certificates, the
amount, if any, which remains on deposit in the Distribution Account (other than
the amounts retained to meet claims) after application pursuant to clause (i)
above.

         In the event that any affected Certificateholders shall not surrender
Certificates for cancellation within six months after the date specified in the
above mentioned written notice, the Trustee shall give a second written notice
to the remaining Certificateholders to surrender their Certificates for
cancellation and receive the final distribution with respect thereto. If within
six months after the second notice all the applicable Certificates shall not
have been surrendered for cancellation, the Trustee may take appropriate steps,
or may appoint an agent to take appropriate steps, to contact the remaining
Certificateholders concerning surrender of their Certificates, and the cost
thereof shall be paid out of the funds and other assets which remain a part of
the Trust Fund. If within one year after the second notice all Certificates
shall not have been surrendered for cancellation, the Holders of the Class A-R
Certificates shall be entitled to all unclaimed funds and other assets of the
Trust Fund, which remain subject hereto.

                                      -85-
<PAGE>

         SECTION 9.3 Additional Termination Requirements.

         (a)   In the event the Master Servicer exercises its purchase option as
provided in Section 9.1, the Trust Fund shall be terminated in accordance with
the following additional requirements, unless the Trustee has been supplied with
an Opinion of Counsel, at the expense of the Master Servicer, to the effect that
the failure to comply with the requirements of this Section 9.3 will not (i)
result in the imposition of taxes on "prohibited transactions" on any REMIC as
defined in section 860F of the Code, or (ii) cause any REMIC to fail to qualify
as a REMIC at any time that any Certificates are outstanding:

               (1)  Within 90 days prior to the final Distribution Date set
         forth in the notice given by the Master Servicer under Section 9.2, the
         Master Servicer shall prepare and the Trustee, at the expense of the
         "tax matters person," shall adopt a plan of complete liquidation within
         the meaning of section 860F(a)(4) of the Code which, as evidenced by an
         Opinion of Counsel addressed to the Trustee (which opinion shall not be
         an expense of the Trustee or the Tax Matters Person), meets the
         requirements of a qualified liquidation; and

               (2)  Within 90 days after the time of adoption of such a plan of
         complete liquidation, the Trustee shall sell all of the assets of the
         Trust Fund to the Master Servicer for cash in accordance with Section
         9.1.

         (b)   The Trustee as agent for any REMIC established hereunder hereby
agrees to adopt and sign such a plan of complete liquidation upon the written
request of the Master Servicer, and the receipt of the Opinion of Counsel
referred to in Section 9.3(a)(1) and to take such other action in connection
therewith as may be reasonably requested by the Master Servicer.

         (c)   By their acceptance of the Certificates, the Holders thereof
hereby authorize the Master Servicer to prepare and the Trustee to adopt and
sign a plan of complete liquidation.

                                   ARTICLE X
                                  [RESERVED]

                                  ARTICLE XI
                           MISCELLANEOUS PROVISIONS

         SECTION 11.1 Amendment.

         This Agreement may be amended from time to time by the Depositor, the
Master Servicer and the Trustee without the consent of any of the
Certificateholders (i) to cure any ambiguity or mistake, (ii) to correct any
defective provision herein or to supplement any provision herein which may be
inconsistent with any other provision herein, (iii) to add to the duties of the
Depositor, the Seller or the Master Servicer, (iv) to add any other provisions
with respect to matters or questions arising hereunder or (v) to modify, alter,
amend, add to or rescind any of the terms or provisions contained in this
Agreement; provided that any action pursuant to clauses (iv) or (v) above shall
not, as evidenced by an Opinion of Counsel delivered to the Trustee (which
Opinion of Counsel shall not

                                      -86-
<PAGE>

be an expense of the Trustee or the Trust Fund), adversely affect in any
material respect the interests of any Certificateholder; provided, however, that
the amendment shall not be deemed to adversely affect in any material respect
the interests of the Certificateholders if the Person requesting the amendment
obtains a letter from each Rating Agency stating that the amendment would not
result in the downgrading or withdrawal of the respective ratings then assigned
to the Certificates; it being understood and agreed that any such letter in and
of itself will not represent a determination as to the materiality of any such
amendment and will represent a determination only as to the credit issues
affecting any such rating. The Trustee, the Depositor and the Master Servicer
also may at any time and from time to time amend this Agreement without the
consent of the Certificateholders to modify, eliminate or add to any of its
provisions to such extent as shall be necessary or helpful to (i) maintain the
qualification of any REMIC as a REMIC under the Code, (ii) avoid or minimize the
risk of the imposition of any tax on any REMIC pursuant to the Code that would
be a claim at any time prior to the final redemption of the Certificates or
(iii) comply with any other requirements of the Code, provided that the Trustee
have been provided an Opinion of Counsel, which opinion shall be an expense of
the party requesting such opinion but in any case shall not be an expense of the
Trustee or the Trust Fund, to the effect that such action is necessary or
helpful to, as applicable, (i) maintain such qualification, (ii) avoid or
minimize the risk of the imposition of such a tax or (iii) comply with any such
requirements of the Code.

         This Agreement may also be amended from time to time by the Depositor,
the Master Servicer and the Trustee with the consent of the Holders of a
Majority in Interest of each Class of Certificates affected thereby for the
purpose of adding any provisions to or changing in any manner or eliminating any
of the provisions of this Agreement or of modifying in any manner the rights of
the Holders of Certificates; provided, however, that no such amendment shall (i)
reduce in any manner the amount of, or delay the timing of, payments required to
be distributed on any Certificate without the consent of the Holder of such
Certificate, (ii) adversely affect in any material respect the interests of the
Holders of any Class of Certificates in a manner other than as described in (i),
without the consent of the Holders of Certificates of such Class evidencing, as
to such Class, Percentage Interests aggregating 66%, or (iii) reduce the
aforesaid percentages of Certificates the Holders of which are required to
consent to any such amendment, without the consent of the Holders of all such
Certificates then outstanding.

         Notwithstanding any contrary provision of this Agreement, the Trustee
shall not consent to any amendment to this Agreement unless it shall have first
received an Opinion of Counsel, which opinion shall not be an expense of the
Trustee or the Trust Fund, to the effect that such amendment will not cause the
imposition of any tax on the REMIC or the Certificateholders or cause the REMIC
to fail to qualify as a REMIC at any time that any Certificates are outstanding.

         Promptly after the execution of any amendment to this Agreement
requiring the consent of Certificateholders, the Trustee shall furnish written
notification of the substance or a copy of such amendment to each
Certificateholder and each Rating Agency.

         It shall not be necessary for the consent of Certificateholders under
this Section to approve the particular form of any proposed amendment, but it
shall be sufficient if such consent shall approve the substance thereof. The
manner of obtaining such consents and of evidencing the authorization of the
execution thereof by Certificateholders shall be subject to such reasonable
regulations as the Trustee may prescribe.

                                      -87-
<PAGE>

         Nothing in this Agreement shall require the Trustee to enter into an
amendment without receiving an Opinion of Counsel (which Opinion shall not be an
expense of the Trustee or the Trust Fund), satisfactory to the Trustee that (i)
such amendment is permitted and is not prohibited by this Agreement and that all
requirements for amending this Agreement have been complied with; and (ii)
either (A) the amendment does not adversely affect in any material respect the
interests of any Certificateholder or (B) the conclusion set forth in the
immediately preceding clause (A) is not required to be reached pursuant to this
Section 11.1.

         SECTION 11.2 Recordation of Agreement; Counterparts.

         This Agreement is subject to recordation in all appropriate public
offices for real property records in all the counties or other comparable
jurisdictions in which any or all of the properties subject to the Mortgages are
situated, and in any other appropriate public recording office or elsewhere,
such recordation to be effected by the Master Servicer at its expense, but only
upon direction a majority of the Certificateholders to the effect that such
recordation materially and beneficially affects the interests of the
Certificateholders.

         For the purpose of facilitating the recordation of this Agreement as
herein provided and for other purposes, this Agreement may be executed
simultaneously in any number of counterparts, each of which counterparts shall
be deemed to be an original, and such counterparts shall constitute but one and
the same instrument.

         SECTION 11.3 Governing Law.

         THIS AGREEMENT SHALL BE CONSTRUED IN ACCORDANCE WITH AND GOVERNED BY
THE SUBSTANTIVE LAWS OF THE STATE OF NEW YORK APPLICABLE TO AGREEMENTS MADE AND
TO BE PERFORMED IN THE STATE OF NEW YORK AND THE OBLIGATIONS, RIGHTS AND
REMEDIES OF THE PARTIES HERETO AND THE CERTIFICATEHOLDERS SHALL BE DETERMINED IN
ACCORDANCE WITH SUCH LAWS.

         SECTION 11.4 Intention of Parties.

         (a)   It is the express intent of the parties hereto that the
conveyance of the Mortgage Loans by the Seller to the Depositor be, and be
construed as, absolute sales thereof to the Trustee. It is, further, not the
intention of the parties that such conveyances be deemed a pledge thereof by the
Seller to the Depositor. However, in the event that, notwithstanding the intent
of the parties, such assets are held to be the property of the Seller, or if for
any other reason this Agreement is held or deemed to create a security interest
in such assets, then (i) this Agreement shall be deemed to be a security
agreement within the meaning of the Uniform Commercial Code of the State of New
York and (ii) the conveyance of the Mortgage Loans provided for in this
Agreement shall be deemed to be an assignment and a grant by the Seller to the
Depositor, for the benefit of the Certificateholders, of a security interest in
all of the Mortgage Loans, whether now owned or hereafter acquired.

         The Seller, for the benefit of the Certificateholders, shall, to the
extent consistent with this Agreement, take such actions as may be necessary to
ensure that, if this Agreement were deemed to create a security interest in the
Mortgage Loans, such security interest would be deemed to be a perfected
security interest of first priority under applicable law and will be maintained
as such

                                      -88-
<PAGE>

throughout the term of the Agreement. The Seller shall arrange for filing any
Uniform Commercial Code continuation statements in connection with any security
interest granted or assigned to the Depositor for the benefit of the
Certificateholders.

         (b)   It is the express intent of the parties hereto that the
conveyance of the Trust Fund by the Depositor to the Trustee be, and be
construed as, absolute sales thereof to the Trustee. It is, further, not the
intention of the parties that such conveyances be deemed a pledge thereof by the
Depositor to the Trustee. However, in the event that, notwithstanding the intent
of the parties, such assets are held to be the property of the Depositor, or if
for any other reason this Agreement is held or deemed to create a security
interest in such assets, then (i) this Agreement shall be deemed to be a
security agreement within the meaning of the Uniform Commercial Code of the
State of New York and (ii) the conveyance provided for in this Agreement shall
be deemed to be an assignment and a grant by the Depositor to the Trustee, for
the benefit of the Certificateholders, of a security interest in all of the
assets that constitute the Trust Fund, whether now owned or hereafter acquired.

         The Depositor, for the benefit of the Certificateholders, shall, to the
extent consistent with this Agreement, take such actions as may be necessary to
ensure that, if this Agreement were deemed to create a security interest in the
Trust Fund, such security interest would be deemed to be a perfected security
interest of first priority under applicable law and will be maintained as such
throughout the term of the Agreement. The Depositor shall arrange for filing any
Uniform Commercial Code continuation statements in connection with any security
interest granted or assigned to the Trustee for the benefit of the
Certificateholders.

         SECTION 11.5  Notices.

         (a)   The Trustee shall use its best efforts to promptly provide notice
to each Rating Agency with respect to each of the following of which it has
actual knowledge:

         1.       Any material change or amendment to this Agreement;
         2.       The occurrence of any Event of Default that has not been
                  cured;
         3.       The resignation or termination of the Master Servicer or the
                  Trustee and the appointment of any successor;
         4.       The repurchase or substitution of Mortgage Loans pursuant to
                  Section 2.3; and
         5.       The final payment to Certificateholders.
         6.       Any rating action involving the long-term credit rating of the
                  Master Servicer, which notice shall be made by first-class
                  mail within two Business Days after the Trustee gains actual
                  knowledge thereof.

         In addition, the Trustee shall promptly furnish to each Rating Agency
copies of the following:

         1.       Each report to Certificateholders described in Section 4.6;
         2.       Each annual statement as to compliance described in Section
                  3.16;
         3.       Each annual independent public accountants' servicing report
                  described in Section 3.17; and
         4.       Any notice of a purchase of a Mortgage Loan pursuant to
                  Section 2.2, 2.3 or 3.11.

                                      -89-
<PAGE>

         (b) All directions, demands, authorizations, consents, waivers,
communications and notices hereunder shall be in writing and shall be deemed to
have been duly given when delivered by first class mail, facsimile or courier to
(a) in the case of the Depositor, First Horizon Asset Securities Inc., 4000
Horizon Way, Irving, Texas 75063, Attention: Wade Walker; (b) in the case of the
Master Servicer, First Horizon Home Loan Corporation, 4000 Horizon Way, Irving,
Texas 75063, Attention: Wade Walker or such other address as may be hereafter
furnished to the Depositor and the Trustee by the Master Servicer in writing;
(c) in the case of the Trustee, The Bank of New York, 101 Barclay Street 12E,
New York, New York 10286, Attention: Diane Pickett, or such other address as the
Trustee may hereafter furnish to the Depositor or Master Servicer; (d) in the
case of the Rating Agencies, the address specified therefor in the definition
corresponding to the name of such Rating Agency. Notices to Certificateholders
shall be deemed given when mailed, first class postage prepaid, to their
respective addresses appearing in the Certificate Register.

         SECTION 11.6 Severability of Provisions.

         If any one or more of the covenants, agreements, provisions or terms of
this Agreement shall be for any reason whatsoever held invalid, then such
covenants, agreements, provisions or terms shall be deemed severable from the
remaining covenants, agreements, provisions or terms of this Agreement and shall
in no way affect the validity or enforceability of the other provisions of this
Agreement or of the Certificates or the rights of the Holders thereof.

         SECTION 11.7 Assignment.

         Notwithstanding anything to the contrary contained herein, except as
provided in Section 6.02, this Agreement may not be assigned by the Master
Servicer without the prior written consent of the Trustee and Depositor.

         SECTION 11.8 Limitation on Rights of Certificateholders.

         The death or incapacity of any Certificateholder shall not operate to
terminate this Agreement or the trust created hereby, nor entitle such
Certificateholder's legal representative or heirs to claim an accounting or to
take any action or commence any proceeding in any court for a petition or
winding up of the trust created hereby, or otherwise affect the rights,
obligations and liabilities of the parties hereto or any of them.

         No Certificateholder shall have any right to vote (except as provided
herein) or in any manner otherwise control the operation and management of the
Trust Fund, or the obligations of the parties hereto, nor shall anything herein
set forth or contained in the terms of the Certificates be construed so as to
constitute the Certificateholders from time to time as partners or members of an
association; nor shall any Certificateholder be under any liability to any third
party by reason of any action taken by the parties to this Agreement pursuant to
any provision hereof.

         No Certificateholder shall have any right by virtue or by availing
itself of any provisions of this Agreement to institute any suit, action or
proceeding in equity or at law upon or under or with respect to this Agreement,
unless such Holder previously shall have given to the Trustee a written notice
of an Event of Default and of the continuance thereof, as herein provided, and
unless the Holders of Certificates evidencing not less than 25% of the Voting
Rights evidenced by the

                                      -90-
<PAGE>

Certificates shall also have made written request to the Trustee to institute
such action, suit or proceeding in its own name as Trustee hereunder and shall
have offered to the Trustee such reasonable indemnity as it may require against
the costs, expenses, and liabilities to be incurred therein or thereby, and the
Trustee, for 60 days after its receipt of such notice, request and offer of
indemnity shall have neglected or refused to institute any such action, suit or
proceeding; it being understood and intended, and being expressly covenanted by
each Certificateholder with every other Certificateholder and the Trustee, that
no one or more Holders of Certificates shall have any right in any manner
whatever by virtue or by availing itself or themselves of any provisions of this
Agreement to affect, disturb or prejudice the rights of the Holders of any other
of the Certificates, or to obtain or seek to obtain priority over or preference
to any other such Holder or to enforce any right under this Agreement, except in
the manner herein provided and for the common benefit of all Certificateholders.
For the protection and enforcement of the provisions of this Section 11.8, each
and every Certificateholder and the Trustee shall be entitled to such relief as
can be given either at law or in equity.

         SECTION 11.9 Inspection and Audit Rights.

         The Master Servicer agrees that, on reasonable prior notice, it will
permit and will cause each Subservicer to permit any representative of the
Depositor or the Trustee during the Master Servicer's normal business hours, to
examine all the books of account, records, reports and other papers of the
Master Servicer relating to the Mortgage Loans, to make copies and extracts
therefrom, to cause such books to be audited by independent certified public
accountants selected by the Depositor or the Trustee and to discuss its affairs,
finances and accounts relating to the Mortgage Loans with its officers,
employees and independent public accountants (and by this provision the Master
Servicer hereby authorizes said accountants to discuss with such representative
such affairs, finances and accounts), all at such reasonable times and as often
as may be reasonably requested. Any out-of- pocket expense incident to the
exercise by the Depositor or the Trustee of any right under this Section 11.9
shall be borne by the party requesting such inspection; all other such expenses
shall be borne by the Master Servicer or the related Subservicer.

         SECTION 11.10 Certificates Nonassessable and Fully Paid.

         It is the intention of the Depositor that Certificateholders shall not
be personally liable for obligations of the Trust Fund, that the interests in
the Trust Fund represented by the Certificates shall be nonassessable for any
reason whatsoever, and that the Certificates, upon due authentication thereof by
the Trustee pursuant to this Agreement, are and shall be deemed fully paid.

                                  * * * * * *

                                      -91-
<PAGE>

         IN WITNESS WHEREOF, the Depositor, the Trustee, the Seller and the
Master Servicer have caused their names to be signed hereto by their respective
officers thereunto duly authorized as of the day and year first above written.

                               FIRST HORIZON ASSET SECURITIES INC.,
                                 as Depositor

                               By: ---------------------------------
                                   Wade Walker
                                   Senior Vice President - Asset Securitization

                               THE BANK OF NEW YORK,
                                 as Trustee

                               By: ----------------------------------
                                   Name: Diane Pickett
                                   Title: Vice President

                               FIRST HORIZON HOME LOAN CORPORATION,
                                 as Seller and Master Servicer

                               By: ------------------------------------
                                   Wade Walker
                                   Senior Vice President - Asset Securitization<PAGE>

                                                                   EXHIBIT 10.27

                             SUBSCRIPTION AGREEMENT

          SUBSCRIPTION AGREEMENT (this "Agreement") made as of the date set
forth on the signature page hereof between Salix Pharmaceuticals, Ltd., a
British Virgin Islands corporation (the "Company"), and the undersigned (the
"Subscriber").

                                  WITNESSETH:

          WHEREAS, the Company is offering in a private placement to accredited
investors (the "Offering") up to 2,250,000 shares of its common stock, no par
value per share (the "Common Stock"), at a price equal to $6.25, and warrants to
purchase shares of Common Stock equal to ten percent (10%) of the total number
of shares sold to the Subscriber in the Offering at an exercise price per share
equal to $9.72 (the "Warrants").  The Warrants are issued for a five (5) year
period and are subject to be called if the last price of the Company's Common
Stock is at a level twice the closing price for any ten (10) consecutive trading
day period during the term of the Warrant.  The shares of Common Stock and
Warrants offered hereby are sometimes referred to as the "Securities;"

          WHEREAS, the Subscriber desires to purchase that number of Securities
set forth on the signature page hereof on the terms and conditions hereinafter
set forth;

          WHEREAS, the Company has engaged Leerink Swann & Company (the
"Placement Agent") as placement agent for the Offering on a "best-efforts"
basis; and

          NOW, THEREFORE, in consideration of the premises and the mutual
representations and covenants hereinafter set forth, the parties hereto agree as
follows:

I.  SUBSCRIPTION FOR SECURITIES AND REPRESENTATIONS BY SUBSCRIBER
    -------------------------------------------------------------

          1.1  Subject to the terms and conditions hereinafter set forth, the
Subscriber hereby irrevocably subscribes for and agrees to purchase from the
Company such Securities as is set forth upon the signature page hereof and the
Company agrees to sell such Securities to the Subscriber for said purchase
price. The purchase price is payable by personal or business check, wire
transfer of immediately available funds or money order made payable to Leerink
Swann & Company, Escrow Agent for Salix Pharmaceuticals, Ltd. contemporaneously
with the execution and delivery of this Agreement by the Subscriber.  All wires
should be sent to:

          BBK:           Citizens Bank
                         1 Citizens Drive
                         Riverside, RI 02915

          ABA:           011500120

          Beneficiary:   Leerink Swann & Company, Escrow Agent for Salix
                         Pharmaceuticals, Ltd.
<PAGE>

          Beneficiary Account:  110953 558 6

          Certificates for the shares of Common Stock and the Warrants will be
delivered by the Company to the Subscriber promptly following the Closing (as
herein defined).

          1.2  The Subscriber recognizes that the purchase of Securities
involves a high degree of risk in that (i) the Company remains an early stage
business with a limited operating history and may require funds in addition to
the proceeds of the Offering; (ii) an investment in the Company is highly
speculative and only investors who can afford the loss of their entire
investment should consider investing in the Company; (iii) the Subscriber may
not be able to liquidate its investment; (iv) transferability of the Securities
is extremely limited; and (v) in the event of a disposition, the Subscriber
could sustain the loss of its entire investment.

          1.3  The Subscriber represents that the Subscriber is an "accredited
investor" as such term is defined in Rule 501 of Regulation D promulgated under
the Securities Act of 1933, as amended (the "Act"), as indicated by the
responses to the questions contained in Section VII hereof, and that the
Subscriber is able to bear the economic risk and illiquidity of an investment in
the Securities.

          1.4  The Subscriber hereby acknowledges and represents that (i) the
Subscriber has prior investment experience, including investment in non-listed
and unregistered securities, or that the Subscriber has employed the services of
an investment advisor, attorney and/or accountant to read all of the documents
furnished or made available by the Company both to the Subscriber and to all
other prospective investors to evaluate the merits and risks of such an
investment on the Subscriber's behalf; (ii) the Subscriber recognizes the highly
speculative nature of an investment in the Securities; and (iii) the Subscriber
is able to bear the economic risk and illiquidity which the Subscriber assumes
by investing in the Securities.

          1.5  The Subscriber (i) hereby acknowledges receipt and careful review
of the Memorandum dated October 30, 2000 (the "Memorandum"), and to the extent
that specific filings of the Company with the SEC (as herein defined) under the
Act or the Exchange Act (as herein defined) and exhibits thereto have not been
specifically included in such package, the Subscriber hereby acknowledges that
it has had a reasonable opportunity to review such filings on the SEC's EDGAR
database or otherwise (the Memorandum and all of the foregoing filings and
exhibits of the Company are referred to herein as the "Offering Package"); (ii)
hereby represents that the Subscriber has been furnished by the Company during
the course of this transaction with all information regarding the Company which
the Subscriber has requested or desired to know; (iii) has been afforded the
opportunity to ask questions of and receive answers from duly authorized
officers or other representatives of the Company concerning the terms and
conditions of the Offering; and (iv) has received any additional information
which the Subscriber has requested.

          1.6  (a)   In making the decision to invest in the Securities, the
Subscriber has relied solely upon the information provided by the Company in the
Offering Package. To the extent necessary, the Subscriber has retained, at its
own expense, and relied upon the advice of appropriate professionals regarding
the investment, tax and legal merits and consequences of this

                                       2
<PAGE>

Agreement and its purchase of the Securities hereunder. The Subscriber
acknowledges and agrees that the Placement Agent has not supplied any
information for inclusion in the Offering Package other than information
furnished in writing to the Company by the Placement Agent specifically for
inclusion in the Offering Package relating to the Placement Agent, that the
Placement Agent has no responsibility for the accuracy or completeness of the
Offering Package and that the Subscriber has not relied upon the independent
investigation or verification, if any, which may have been undertaken by the
Placement Agent.

               (b) The Subscriber covenants that (i) the Subscriber was
contacted regarding the sale of the Securities by the Placement Agent (or an
authorized agent or representative thereof) with whom the Subscriber had a prior
substantial pre-existing relationship and (ii) no Securities were offered or
sold to it by means of any form of general solicitation or general advertising,
and in connection therewith the Subscriber did not (A) receive or review any
advertisement, article, notice or other communication published in a newspaper
or magazine or similar media or broadcast over television or radio, whether
closed circuit or generally available; or (B) attend any seminar, meeting or
industry investor conference whose attendees were invited by any general
solicitation or general advertising.

          1.7  The Subscriber hereby acknowledges that the Offering has not been
reviewed by the United States Securities and Exchange Commission (the "SEC")
because of the Company's representations that this Offering is intended to be
exempt from the registration requirements of Section 5 of the Act pursuant to
Sections 3(b), 4(2) and 4(6) thereof and Regulation D promulgated under the Act.
The Subscriber agrees that the Subscriber will not sell or otherwise transfer
the Securities unless they are registered under the Act or unless an exemption
from such registration is available.

          1.8  The Subscriber understands that none of the Securities have been
registered under the Act by reason of a claimed exemption under the provisions
of the Act which depends, in part, upon the Subscriber's investment intention.
In this connection, the Subscriber hereby represents that the Subscriber is
purchasing the Securities for the Subscriber's own account for investment and
not with a view toward the resale or distribution thereof to others.  The
Subscriber, if an entity, was not formed for the purpose of purchasing the
Securities.  The Subscriber understands that Rule 144 promulgated under the Act
requires, among other conditions, a one-year holding period prior to the resale
(in limited amounts) of securities acquired in a non-public offering without
having to satisfy the registration requirements under the Act.

          1.9  The Subscriber understands and hereby acknowledges that the
Company is under no obligation to register the Securities under the Act or any
state securities or "blue sky" laws other than as set forth in Section V.  The
Subscriber consents that the Company may, if it desires, permit the transfer of
the Securities out of the Subscriber's name only when the Subscriber's request
for transfer is accompanied by an opinion of counsel reasonably satisfactory to
the Company that neither the sale nor the proposed transfer results in a
violation of the Act or any applicable state "blue sky" laws (collectively,
"Securities Laws").

                                       3
<PAGE>

          1.10  The Subscriber consents to the placement of a legend on any
certificate or other document evidencing the Securities indicating that such
Securities have not been registered under the Act or any state securities or
"blue sky" laws and setting forth or referring to the restrictions on
transferability and sale thereof contained in this Agreement. The Subscriber is
aware that the Company will make a notation in its appropriate records and issue
"stop transfer" instructions to its transfer agent with respect to the
restrictions on the transferability of such Securities.

          1.11  The Subscriber understands that the Company will review this
Agreement and, if such Subscriber is an individual, hereby gives authority to
the Company to call Subscriber's bank or place of employment (in a call in which
the Placement Agent participates) or otherwise review the financial standing of
the Subscriber; and it is further agreed that the Company reserves the
unrestricted right, without further documentation or agreement on the part of
the Subscriber, to reject or limit any subscription, to accept subscriptions for
Securities and to close the Offering to the Subscriber at any time.

          1.12  The Subscriber hereby represents that the address of the
Subscriber furnished by the Subscriber on the signature page hereof is the
Subscriber's principal residence if the Subscriber is an individual or its
principal business address if it is a corporation or other entity.

          1.13  The Subscriber represents that the Subscriber has full power and
authority (corporate, statutory and otherwise) to execute and deliver this
Agreement and to purchase the Securities subscribed for hereby.  This Agreement
constitutes the legal, valid and binding obligation of the Subscriber,
enforceable against the Subscriber in accordance with its terms.

          1.14  If the Subscriber is a corporation, partnership, limited
liability company, trust, employee benefit plan, individual retirement account,
Keogh Plan, or other entity, then (a) it is authorized and qualified to become
an investor in the Company and the person signing this Agreement on behalf of
such entity has been duly authorized by such entity to do so, and (b) it is duly
organized, validly existing and in good standing under the laws of the
jurisdiction of its organization.

          1.15  The Subscriber acknowledges that if he or she is a registered
representative of a National Association of Securities Dealers, Inc. ("NASD")
member firm, he or she must give such firm the notice required by the NASD's
Rules of Fair Practice, receipt of which must be acknowledged by such firm in
Section 7.4 below.

          1.16  The Subscriber represents and warrants that it has not engaged,
consented to nor authorized any broker, finder or intermediary to act on its
behalf, directly or indirectly, as a broker, finder or intermediary in
connection with the transactions contemplated by this Agreement.  The Subscriber
shall indemnify and hold harmless the Company from and against all fees,
commissions or other payments owing to any such person or firm acting on behalf
of such Subscriber hereunder.

                                       4
<PAGE>

          1.17  The Subscriber acknowledges that (a) the Company has engaged,
consented to and authorized the Placement Agent in connection with the
transactions contemplated by this Agreement, (b) the Company shall pay the
Placement Agent a commission and reimburse the Placement Agent's expenses in
accordance with the Placement Agency Agreement (as defined in Section 5.1(c)
below), and the Company shall indemnify and hold harmless the Subscriber from
and against all fees, commissions or other payments owing by the Company to the
Placement Agent or any other person or firm acting on behalf of the Company
hereunder and (c) registered representatives of the Placement Agent and/or its
designees (including, without limitation, registered representatives of the
Placement Agent and/or its designees who participate in the Offering and sale of
the securities sold in the Offering) will be paid a portion of the commissions
paid to the Placement Agent including a portion of the Placement Warrants (as
defined in Section 5.1(c) below).

          1.18  The Subscriber, whose name appears on the signature line below,
shall be the beneficial owner of the Securities for which such Subscriber
subscribes.

          1.19   The Subscriber agrees that from the time the Subscriber first
received the Offering Package until a point in time equal to the earlier of (i)
the date that the Registration Statement (as defined in Section 5.2(a)) is
declared effective by the SEC or (ii) four months from the date of the Offering
Package, the Subscriber has not and shall not, directly or indirectly, through
related parties, affiliates or otherwise, (A) sell "short" or "short against the
box" (as those terms are generally understood) any equity security of the
Company or (B) otherwise engage in any transaction that involves hedging of the
Subscriber's position in any equity security of the Company.

II.  REPRESENTATIONS BY THE COMPANY
     ------------------------------

     The Company hereby represents and warrants to the Subscriber that:

          2.1  Organization, Good Standing and Qualification.  The Company is a
               ---------------------------------------------
corporation duly organized, validly existing and in good standing under the laws
of the British Virgin Islands and has full corporate power and lawful authority
to conduct its business as described in the Offering Package.  The Company is
duly qualified to do business as a foreign corporation and is in good standing
in the State of North Carolina and in each jurisdiction in which the nature of
the business conducted, or as proposed to be conducted in the Offering Package,
by it or the properties owned, leased or operated by it, makes such
qualification or licensing necessary and where the failure to be so qualified or
licensed would have a material adverse effect upon the business, prospects or
financial condition of the Company other than North Carolina, where the Company
will be so qualified prior to the Closing (as defined in Section 3.2).

          2.2  Capitalization and Voting Rights.  The authorized, issued and
               --------------------------------
outstanding capital stock of the Company is as set forth in the Offering
Package; all issued and outstanding shares of capital stock of the Company are
validly issued, fully paid and nonassessable.  Except as set forth in the
Offering Package, there are no outstanding options, warrants, agreements,
commitments, convertible securities, preemptive rights or other rights to
subscribe for or to

                                       5
<PAGE>

purchase any shares of capital stock of the Company nor are there any
agreements, promises or commitments to issue any of the foregoing, or
discussions concerning same. Except as set forth in the Offering Package, in
this Agreement and as otherwise required by law, there are no restrictions upon
the voting or transfer of the Securities pursuant to the Company's Memorandum of
Association and Articles of Association or other governing documents or any
agreement or other instruments to which the Company is a party or by which the
Company is bound.

          2.3  Authorization; Enforceability. The Company has all corporate
               -----------------------------
right, power and authority to enter into this Agreement and to consummate the
transactions contemplated hereby. All corporate action on the part of the
Company, its directors and stockholders necessary for the authorization,
execution, delivery and performance of this Agreement by the Company, the
authorization, sale, issuance and delivery of the Securities and the performance
of the Company's obligations hereunder has been taken. This Agreement has been
duly executed and delivered by the Company and constitutes a legal, valid and
binding obligation of the Company, enforceable against the Company in accordance
with its terms, subject to laws of general application relating to bankruptcy,
insolvency and the relief of debtors and rules of law governing specific
performance, injunctive relief or other equitable remedies, and to limitations
of public policy. The Securities have been duly and validly authorized and, upon
the issuance and delivery thereof and payment therefor as contemplated by this
Agreement, will be free and clear of liens, duly and validly authorized and
issued, fully paid and nonassessable. The issuance and sale of the Securities
contemplated hereby will not give rise to any preemptive rights or rights of
first refusal on behalf of any person.

          2.4  No Conflict; Governmental Consents.
               ----------------------------------

          (a)  The execution and delivery by the Company of this Agreement, the
consummation of the transactions contemplated hereby and the offer and sale of
the Securities will not result in the violation of any law, statute, rule,
regulation, order, writ, injunction, judgment or decree of any court or
governmental authority to or by which the Company is bound, or of any provision
of the Memorandum of Association and Articles of Association of the Company, and
will not conflict with, or result in a breach or violation of, any of the terms
or provisions of, or constitute (with due notice or lapse of time or both) a
default under, any lease, loan agreement, mortgage, security agreement, trust
indenture or other agreement or instrument to which the Company is a party or by
which it is bound or to which any of its properties or assets is subject, nor
result in the creation or imposition of any lien upon any of the properties or
assets of the Company.

          (b)  No consent, waiver, approval, authorization or other order of any
governmental authority or other third-party is required to be obtained by the
Company in connection with the authorization, execution and delivery of this
Agreement or with the authorization, issuance and sale of the Securities, except
such filings as may be required to be made, and which shall have been made at or
prior to the required time, with the SEC, the NASD and the Toronto Stock
Exchange and/or the National Association of Securities Dealers Automated
Quotation System SmallCap Market ("Nasdaq"), and with any state or foreign blue
sky or securities regulatory authority.

                                       6
<PAGE>

          2.5   Licenses.  Except as may be set forth in the Offering Package,
                --------
the Company has all licenses, permits and other governmental authorizations
currently required for the conduct of its business or ownership of properties
and is in all material respects complying therewith, except for any licenses,
permits or other governmental authorizations which would not materially
adversely affect the business, property, financial condition, results of
operations or prospects of the Company.

          2.6   Litigation.  The Company knows of no pending or threatened legal
                ----------
or governmental proceedings against the Company which could materially adversely
affect the business, property, financial condition, results of operations or
prospects of the Company.

          2.7   Accuracy of Reports.  All reports required to be filed by the
                -------------------
Company within the three years prior to the date of this Agreement under the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), have been duly
and timely filed with the SEC, complied at the time of filing in all material
respects with the requirements of their respective forms and,  were complete and
correct in all material respects as of the dates at which the information was
furnished, and contained (as of such dates) no untrue statement of a material
fact or omitted to state a material fact necessary in order to make the
statements contained therein, in light of the circumstances under which they
were made, not misleading.

          2.8   Accuracy of Offering Package.  No information set forth in the
                ----------------------------
Offering Package contains any untrue statement of a material fact or omits to
state a material fact necessary in order to make the statements contained
therein, in light of the circumstances under which they were made, not
misleading.

          2.9   Investment Company. The Company is not an "investment company"
                ------------------
within the meaning of such term under the Investment Company Act of 1940, as
amended, and the rules and regulations of the SEC thereunder.

          2.10  Listing. The Company has filed an application for listing with
                -------
the Nasdaq SmallCap Market and the American Stock Exchange and hereby represents
and warrants to the Placement Agent and the Subscriber that it will take any
other necessary action in accordance with the rules of the Nasdaq SmallCap
Market or the American Stock Exchange to enable the Common Stock (and the Common
Stock issuable upon exercise of the Warrants, including the Warrants as defined
in Section 5.1 (c)) to trade on either of such exchanges.

          2.11  No Material Adverse Change.  Since the filing of the Company's
                --------------------------
most recent Quarterly Report on Form 10-Q, (i) there has not been any material
adverse change (financial or otherwise) in the assets, properties, financial
condition, operating results or business of the Company, and (ii) there has been
no event or condition of any character that might have a material adverse effect
(financial or otherwise) in the assets, properties, financial condition,
operating results or business of the Company.

          2.12  Financial Statements.  The financial statements included in the
                --------------------
Company's most recent Annual Report on Form 10-K405/A for the fiscal year ended
December 31, 1999 and all other reports filed by the Company pursuant to the
Exchange Act since the filing of such

                                       7
<PAGE>

Annual Report on Form 10-K405/A and prior to the date hereof (collectively, the
"SEC Filings") present fairly and accurately in all material respects the
financial position of the Company as of the dates shown and its results of
operations and cash flows for the periods shown, and such financial statements
have been prepared in conformity with generally accepted accounting principles
applied on a consistent basis. Except as set forth in the financial statements
of the Company included in the SEC Filings filed prior to the date hereof, to
the Company's knowledge, the Company has no liabilities, contingent or
otherwise, except those which individually or in the aggregate are not material
to the financial condition or operating results of the Company.

          2.13  Compliance with Laws.  Neither the Company nor, to the Company's
                --------------------
knowledge, any Person acting on its behalf has conducted any general
solicitation or general advertising (as those terms are used in Regulation D of
the Act) in connection with the offer or sale of the Securities.  Neither the
Company nor any of its Affiliates, nor, to the Company's knowledge, any Person
acting on its or their behalf has, directly or indirectly, made any offers or
sales of any security or solicited any offers to buy any security, under
circumstances that would adversely affect reliance by the Company on Section
4(2) of the Act for the exemption from registration for the transactions
contemplated hereby or would require registration of the Securities under the
Act.

III.  TERMS OF SUBSCRIPTION
      ---------------------

          3.1   The Offering is for up to 2,250,000 shares of Common Stock and
Warrants. The Securities are offered on a "best efforts" basis.

          3.2   Upon the mutual consent of the Company and the Placement Agent,
this Offering may close (the "Closing") prior to the sale of all 2,250,000
shares of Common Stock and there is no assurance that all 2,250,000 shares of
Common Stock will be sold. The Closing shall occur no later than January 31,
2001, subject to change at the discretion of the Company and the Placement Agent
(the "Closing Date").  The purchase price is payable by personal or business
check, wire transfer of immediately available funds or money order made payable
as provided in Section 1.1.

          3.3   The Subscriber hereby authorizes and directs the Company to
deliver the Securities to be issued to the Subscriber pursuant to this Agreement
directly to the Subscriber's account maintained by the Placement Agent or, if no
such account exists, to the residential or business address indicated on the
signature page hereto.

          3.4   The Subscriber hereby authorizes and directs the Company to
return any funds related to unaccepted subscriptions to the same account from
which the funds were drawn, including any customer account maintained with the
Placement Agent.

IV.  CONDITIONS TO OBLIGATIONS OF THE SUBSCRIBERS AND THE COMPANY
     ------------------------------------------------------------

                                       8
<PAGE>

          4.1  The Subscribers' obligation to purchase the Securities at the
Closing is subject to the fulfillment on or prior to the Closing Date of the
following conditions, which conditions may be waived at the option of each
Subscriber to the extent permitted by law:

          (a)  Representations and Warranties. The representations and
               ------------------------------
warranties made by the Company in Section II hereof shall be true and correct in
all material respects when made, and shall be true and correct in all material
respects on the Closing Date with the same force and effect as if they had been
made on and as of said date.

          (b)  Covenants. All covenants, agreements and conditions contained in
               ---------
this Agreement to be performed by the Company on or prior to such purchase shall
have been performed or complied with in all material respects.

          (c)  No Legal Order Pending. There shall not then be in effect any
               ----------------------
legal or other order enjoining or restraining the transactions contemplated by
this Agreement.

          (d)  No Law Prohibiting or Restricting Such Sale. There shall not be
               -------------------------------------------
in effect any law, rule or regulation prohibiting or restricting such sale or
requiring any consent or approval of any person to issue the Securities which
consent or approval shall not have been obtained (except as may otherwise be
provided in this Agreement).

          (e)  Legal Opinion. Upon the Closing, counsel to the Company shall
               -------------
have delivered to the Placement Agent for the benefit of the Subscribers a legal
opinion with respect to such legal matters relating to this Agreement and the
Offering Package as the Placement Agent may reasonably require.

          4.2  The Company's obligation to sell the Securities at the Closing is
subject to the fulfillment on or prior to the Closing Date of the following
conditions, which conditions may be waived at the option of the Company to the
extent permitted by law:

          (a)  Acknowledgements, Representations and Warranties.  The
               ------------------------------------------------
acknowledgements, representations and warranties made by the Subscriber in
Section I hereof shall be true and correct in all material respects when made,
and shall be true and correct in all material respects on the Closing Date with
the same force and effect as if they had been made on and as of said date.  If
any such representations, warranties or acknowledgements shall not be true and
accurate in any respect prior to the Closing, the undersigned shall give
immediate written notice of such fact to the Company, to the Placement Agent,
and to his representatives, if any, specifying which representations, warranties
or acknowledgements are not true and accurate and the reason therefor.

          (b)  Covenants.  All covenants, agreements and conditions contained in
               ---------
this Agreement to be performed by the Subscriber on or prior to such purchase
shall have been performed or complied with in all material respects.

          (c)  No Legal Order Pending.  There shall not then be in effect any
               ----------------------
legal or other order enjoining or restraining the transactions contemplated by
this Agreement.

                                       9
<PAGE>

          (d) No Law Prohibiting or Restricting Such Sale.  There shall not be
              -------------------------------------------
in effect any law, rule or regulation prohibiting or restricting such sale or
requiring any consent or approval of any person to issue the Securities which
consent or approval shall not have been obtained (except as may otherwise be
provided in this Agreement).

V.  REGISTRATION RIGHTS
    -------------------

          5.1   As used in this Agreement, the following terms shall have the
following meanings:

                (a) "Affiliate" shall mean, with respect to any Person (as
                     ---------
defined below), any other Person controlling, controlled by, or under direct or
indirect common control with, such Person (for the purposes of this definition
"control," when used with respect to any specified Person, shall mean the power
to direct the management and policies of such person, directly or indirectly,
whether through ownership of voting securities, by contract or otherwise; and
the terms "controlling" and "controlled" shall have meanings correlative to the
foregoing).

                (b) "Business Day" shall mean a day, Monday through Friday, on
                     ------------
which banks are generally open for business in each of New York, New York;
Boston, Massachusetts; and Raleigh, North Carolina.

                (c) "Holders" shall mean the Subscriber and any person holding
                     -------
Registrable Securities as defined below (including the Registrable Securities
underlying the warrants to be issued to the Placement Agent (the "Placement
Warrants") to be granted to the Placement Agent and/or their designees pursuant
to the engagement letter between the Company and the Placement Agent (the
"Placement Agency Agreement")), a holder of the Placement Warrants, or any
person to whom the rights under Section V have been transferred in accordance
with Section 5.10 hereof, and who, if known by the Company, shall be
specifically named by the Company as selling stockholders in the Registration
Statement (as defined below).

                (d) "Person" shall mean any person, individual, corporation,
                     ------
limited liability company, partnership, trust or other nongovernmental entity or
any governmental agency, court, authority or other body (whether foreign,
federal, state, local or otherwise).

                (e) The terms "register," "registered" and "registration" refer
                               --------    ----------       ------------
to the registration effected by preparing and filing with the SEC a registration
statement in compliance with the Act, and the declaration or ordering by the SEC
of the effectiveness of such registration statement.

                (f) "Registrable Securities" shall mean (i) the Common Stock
                     ----------------------
(ii) the shares of Common Stock issuable upon the exercise of the Warrants, and
(iii) shares of Common Stock issuable upon the exercise of the Placement
Warrants; provided, however, that securities shall only be treated as
Registrable Securities if and only for so long as they (A) have not been

                                       10
<PAGE>

disposed of pursuant to a registration statement declared effective by the SEC,
(B) and all other otherwise Registrable Securities held by one person have not
been, or are not all eligible to be immediately, sold in a transaction exempt
from the registration and prospectus delivery requirements of the Act so that
all transfer restrictions and restrictive legends with respect thereto are
removed upon the consummation of such sale, and (C) are held by a Holder or a
permitted transferee pursuant to Section 5.10.

                (g) "Registration Expenses" shall mean all expenses incurred by
                     ---------------------
the Company in complying with Section 5.2 hereof, including, without limitation,
all registration, qualification and filing fees, printing expenses, escrow fees,
fees and expenses of counsel for the Company, blue sky fees and expenses and the
expense of any special audits incident to, or required by, any such registration
(but excluding the aggregate fees of legal counsel for all Holders).

                (h) "Registration Statement" shall have the meaning ascribed to
                     ----------------------
such term in Section 5.2 (a).

                (i) "Registration Period" shall have the meaning ascribed to
                     -------------------
such term in Section 5.4 (a).

                (j) "Selling Expenses" shall mean all underwriting discounts and
                     ----------------
selling commissions applicable to the sale of Registrable Securities and the
aggregate fees and expenses of legal counsel for all Holders.

          5.2   (a) The Company shall, as soon as practicable, but not later
than thirty (30) business days after the Closing Date (the "Filing Date"), (i)
use its best efforts to file with the SEC a registration statement (the
"Registration Statement") with respect to the resale of the Registerable
Securities and use its best efforts to have such Registration Statement declared
effective by the SEC as soon thereafter as is practical and (ii) cause such
Registration Statement to remain effective for the Registration Period.

                (b) If, within 30 days from the Closing, the Company has not
filed a Registration Statement for the Shares with the SEC, or, within 120 days
from Closing, the Shares are not freely trading on a U.S. stock market or
exchange, then the Company shall pay to each Subscriber, in cash, as liquidated
damages and not as a penalty, equal to 1% of the aggregate purchase price
previously paid by such Subscriber for Securities for the first 30 day period
thereafter, and 2% for each successive 30 day period thereafter during which
both of the above-stated conditions are not met; provided, however, such
                                                 --------  -------
Subscriber shall not be entitled to such cash payment if and to the extent that
such delays are the result of the failure of such Subscriber to provide the
Company with written information necessary to complete the Registration
Statement by the Filing Date.

          5.3   All Registration Expenses incurred in connection with any
registration, qualification, exemption or compliance pursuant to Section 5.2
shall be borne by the Company. All Selling Expenses relating to the sale of
securities registered by or on behalf of Holders shall be borne by such Holders
pro rata on the basis of the number of securities so registered.

                                       11
<PAGE>

          5.4   In the case of the registration, qualification, exemption or
compliance effected by the Company pursuant to this Agreement, the Company
shall, upon reasonable request, inform each Holder as to the status of such
registration, qualification, exemption and compliance. At its expense the
Company shall:

                (a) use its best efforts to keep such registration, and any
qualification, exemption or compliance under state securities laws which the
Holders reasonably request the Company to obtain, continuously effective as to
all Registrable Securities until the Holders have completed the distribution
described in the registration statement relating thereto. The period of time
during which the Company is required hereunder to keep the Registration
Statement effective is referred to herein as "the Registration Period."
Notwithstanding the foregoing, at the Company's election, the Company may cease
to keep such registration, qualification, exemption or compliance effective with
respect to any Registrable Securities, and the registration rights of a Holder
with respect to such Registrable Securities shall expire, at such time as the
Holder may sell all Registrable Securities then held by such Holder under Rule
144 under the Act in a three-month period, but this sentence shall not relieve
the Company of any obligation to comply with this Section V as to any shares of
Common Stock issuable upon exercise of the Placement Warrants;

                (b) advise the Holders (or in the case of (ii) below, to advise
the Placement Agent):

                    (i)   when the Registration Statement or any amendment
thereto has been filed with the SEC and when the Registration Statement or any
post-effective amendment thereto has become effective;

                    (ii)  of any request by the SEC for amendments or
supplements to the Registration Statement or the prospectus included therein or
for additional information;

                    (iii) of the issuance by the SEC of any stop order
suspending the effectiveness of the Registration Statement or the initiation of
any proceedings for such purpose;

                    (iv)  of the receipt by the Company of any notification with
respect to the suspension of the qualification of the Registrable Securities
included therein for sale in any jurisdiction or the initiation or threatening
of any proceeding for such purpose; and

                    (v)   subject to the limitations set forth in Section
5.7(b)(ii) hereof, of the happening of any event that requires the making of any
changes in the Registration Statement or the prospectus so that, as of such
date, the statements therein are not misleading and do not omit to state a
material fact required to be stated therein or necessary to make the statements
therein (in the case of the prospectus, in the light of the circumstances under
which they were made) not misleading;

                                       12
<PAGE>

                (c) make every reasonable effort to obtain the withdrawal of any
order suspending the effectiveness of any Registration Statement at the earliest
possible time;

                (d) furnish to each Holder, without charge, at least one copy of
such Registration Statement and any post-effective amendment or supplement
thereto, including financial statements and schedules, and, if the Holder so
requests in writing, all exhibits (excluding those incorporated by reference) in
the form filed with the SEC;

                (e) during the Registration Period, deliver to each Holder,
without charge, a reasonable number of copies of the prospectus included in such
Registration Statement and any amendment or supplement thereto as such Holder
may reasonably request; and the Company consents to the use, consistent with the
provisions hereof, of the prospectus and any amendment or supplement thereto by
each of the selling Holders of Registrable Securities in connection with the
offering and sale of the Registrable Securities covered by the prospectus and
any amendment or supplement thereto;

                (f) during the Registration Period, deliver to each Holder,
without charge, (i) as soon as practicable (but in the case of the annual report
of the Company to its stockholders, within 120 days after the end of each fiscal
year of the Company) one copy of: (A) its annual report to its stockholders, if
any (which annual report shall contain financial statements audited in
accordance with generally accepted accounting principles in the United States of
America by a firm of certified public accountants of recognized standing); (B)
if not included in substance in its annual report to stockholders, its annual
report on Form 10-K (or similar form); (C) a copy of the full Registration
Statement (excluding exhibits); (ii) upon reasonable request, all exhibits
excluded by the parenthetical to the immediately preceding clause (C); and (iii)
such other documents as may be reasonably requested.

                (g) prior to any public offering of Registrable Securities
pursuant to any Registration Statement, register or qualify or obtain an
exemption for the offer and sale under the securities or blue sky laws of such
jurisdictions as any such Holders reasonably request in writing, provided that
the Company shall not for any such purpose be required to qualify generally to
transact business as a foreign corporation in any jurisdiction where it is not
so qualified or to consent to general service of process in any such
jurisdiction, and do any and all other acts or things reasonably necessary or
advisable to enable the offer and sale in such jurisdictions of the Registrable
Securities covered by such Registration Statement;

                (h) cooperate with the Holders to facilitate the timely
preparation and delivery of certificates representing Registrable Securities to
be sold pursuant to any Registration Statement free of any restrictive legends
to the extent not required at such time and in such denominations and registered
in such names as Holders may request at least five (5) business days prior to
sales of Registrable Securities pursuant to such Registration Statement;

                (i) upon the occurrence of any event contemplated by Section
5.4(b)(v) above, the Company shall promptly prepare a post-effective amendment
to the Registration Statement or a supplement to the related prospectus, or file
any other required document so that, as thereafter delivered to purchasers of
the Registrable Securities included

                                       13
<PAGE>

therein, the prospectus will not include any untrue statement of a material fact
or omit to state any material fact necessary to make the statements therein, in
the light of the circumstances under which they were made, not misleading; and

                (j) use its best efforts to comply with all applicable rules and
regulations of the SEC, and make generally available to the Holders not later
than 45 days (or 90 days if the fiscal quarter is the fourth fiscal quarter)
after the end of its fiscal quarter in which the first anniversary date of the
effective date of the Registration Statement occurs, an earnings statement
satisfying the provisions of Section 11(a) of the Act.

           5.5  The Holders shall have no right to take any action to restrain,
enjoin or otherwise delay any registration pursuant to Section 5.2 hereof as a
result of any controversy that may arise with respect to the interpretation or
implementation of this Agreement.

           5.6 (a) To the extent permitted by law, the Company shall indemnify
each Holder, each underwriter of the Registrable Securities and each person
controlling such Holder and each such underwriter within the meaning of Section
15 of the Act, with respect to which any registration, qualification or
compliance has been sought pursuant to this Agreement, against all claims,
losses, expenses, costs, damages and liabilities (or action in respect thereof),
including any of the foregoing incurred in settlement of any litigation,
commenced or threatened (subject to Section 5.6(c) below), arising out of or
based on (i) any untrue statement (or alleged untrue statement) of a material
fact contained in any registration statement, prospectus or offering circular,
or any amendment or supplement thereof, incident to any such registration,
qualification or compliance, or based on any omission (or alleged omission) to
state therein a material fact required to be stated therein or necessary to make
the statements therein not misleading in light of the circumstances in which
they were made, or (ii) any violation or alleged violation by the Company of the
Act, the Exchange Act, or any rule or regulation promulgated under the Act or
the Exchange Act, and shall reimburse each Holder, each underwriter of the
Registrable Securities and each person controlling such Holder and each such
underwriter, for reasonable legal and other expenses reasonably incurred in
connection with investigating or defending any such claim, loss, damage,
liability or action as incurred; provided that the Company shall not be liable
in any such case to the extent that any untrue statement or omission or
allegation thereof is made in reliance upon and in conformity with written
information furnished to the Company by or on behalf of such Holder or
underwriter and stated to be specifically for use in preparation of such
registration statement, prospectus or offering circular; provided that the
Company shall not be liable in any such case where the claim, loss, damage or
liability arises out of or is related to the failure of the Holder to comply
with the covenants and agreements contained in Section 5.7 hereof, and except
that the foregoing indemnity agreement is subject to the condition that, insofar
as it relates to any such untrue statement or alleged untrue statement or
omission or alleged omission made in the preliminary prospectus but eliminated
or remedied in the amended prospectus on file with the SEC at the time the
registration statement becomes effective or in the amended prospectus filed with
the SEC pursuant to Rule 424(b) of the Act or in the prospectus subject to
completion under Rule 434 of the Act, which together meet the requirements of
Section 10(a) of the Act (the "Final Prospectus"), such indemnity agreement
shall not inure to the benefit of any such Holder, any such underwriter or any
such controlling person, if a copy of the Final Prospectus furnished by the
Company to the Holder for delivery was not furnished to the

                                       14
<PAGE>

person or entity asserting the loss, liability, claim or damage at or prior to
the time such furnishing is required by the Act and the Final Prospectus would
have cured the defect giving rise to such loss, liability, claim or damage.
Notwithstanding any provision herein to the contrary, the Company shall
reimburse each Holder, upon such Holder's demand, for all reasonably necessary
expenses and costs which are incurred by such Holder as a result of the
indemnification claims described in this Section 5.6(a). Such demand may be made
from time to time prior to resolution of the claim. In no event shall the
Company be liable for the expenses and costs of more than one attorney on behalf
of the Holders unless in the reasonable judgement of a Holder, based upon
written advice of its counsel, a conflict of interest exists between the Holders
with respect to such claims, in which case the Company shall reimburse the
Holders for additional attorneys.

           (b) Each Holder will severally, if Registrable Securities held by
such Holder are included in the securities as to which such registration,
qualification or compliance is being effected, indemnify the Company, each of
its directors and officers, each underwriter of the Registrable Securities and
each person who controls the Company and each underwriter of the Registrable
Securities within the meaning of Section 15 of the Act, against all claims,
losses, expenses, costs, damages and liabilities (or actions in respect
thereof), including any of the foregoing incurred in settlement of any
litigation, commenced or threatened (subject to Section 5.6(c) below), arising
out of or based on any untrue statement (or alleged untrue statement) of a
material fact contained in any registration statement, prospectus or offering
circular, or any amendment or supplement thereof, incident to any such
registration, qualification or compliance or based on any omission (or alleged
omission) to state therein a material fact required to be stated therein or
necessary to make the statements therein not misleading in light of the
circumstances in which they were made, and will reimburse the Company, such
directors and officers, each underwriter of the Registrable Securities and each
person controlling the Company and each underwriter of the Registrable
Securities for reasonable legal and any other expenses or costs reasonably
incurred in connection with investigating or defending any such claim, loss,
damage, liability or action as incurred, in each case to the extent, but only to
the extent, that such untrue statement or omission or allegation thereof is made
in reliance upon, and in conformity with, written information furnished to the
Company by or on behalf of the Holder and stated to be specifically for use in
preparation of such registration statement, prospectus or offering circular;
provided that the indemnity shall not apply to the extent that such claim, loss,
damage or liability results from the fact that a current copy of the prospectus
or offering circular was not made available to the Holder and such current copy
of the prospectus or offering circular would have cured the defect giving rise
to such loss, claim, expense, costs, damage or liability. Notwithstanding the
foregoing, in no event shall a Holder be liable for any such claims, losses,
expenses, costs, damages or liabilities in excess of the proceeds received by
such Holder in that offering, except in the event of fraud by such Holder.

           (c) Each party entitled to indemnification under this Section 5.6
(the "Indemnified Party") shall give notice to the party required to provide
indemnification (the "Indemnifying Party") promptly after such Indemnified Party
has actual knowledge of any claim as to which indemnity may be sought, and shall
permit the Indemnifying Party to assume the defense of any such claim or any
litigation resulting therefrom, provided that counsel for the Indemnifying
Party, who shall conduct the defense of such claim or litigation, shall be
approved

                                       15
<PAGE>

by the Indemnified Party (whose approval shall not unreasonably be withheld),
and the Indemnified Party may participate in such defense with its own counsel
at such Indemnified Party's expense unless the named parties to any proceeding
covered hereby (including any impleaded parties) include both the Company or any
others the Company may designate and one or more Indemnified Persons, and
representation of the Indemnified Persons and such other parties by the same
counsel would be inappropriate due to actual or potential differing interests
between them, and provided further that the failure of any Indemnified Party to
give notice as provided herein shall not relieve the Indemnifying Party of its
obligations under this Agreement, unless such failure is materially prejudicial
to the Indemnifying Party in defending such claim or litigation. An Indemnifying
Party shall not be liable for any settlement of an action or claim effected
without its written consent (which consent will not be unreasonably withheld).

           (d) If the indemnification provided for in this Section 5.6 is held
by a court of competent jurisdiction to be unavailable to an Indemnified Party
with respect to any loss, liability, claim, damage, cost or expense referred to
therein, then the Indemnifying Party, in lieu of indemnifying such Indemnified
Party thereunder, shall contribute to the amount paid or payable by such
Indemnified Party as a result of such loss, liability, claim, damage, cost or
expense in such proportion as is appropriate to reflect the relative fault of
the Indemnifying Party on the one hand and of the Indemnified Party on the other
in connection with the statements or omissions which resulted in such loss,
liability, claim, damage, cost or expense as well as any other relevant
equitable considerations. The relative fault of the Indemnifying Party and of
the Indemnified Party shall be determined by reference to, among other things,
whether the untrue or alleged untrue statement of a material fact or the
omission to state a material fact relates to information supplied or which
should have been supplied by the Indemnifying Party or by the Indemnified Party
and the parties' relative intent, knowledge, access to information and
opportunity to correct or prevent such statement or omission.

       5.7 (a)  Subject to the limitations set forth in Section 5.7(b)(ii)
below, upon receipt of any notice from the Company of the happening of any event
requiring the preparation of a supplement or amendment to a prospectus relating
to Registrable Securities so that, as thereafter delivered to the Holders, such
prospectus will not contain an untrue statement of a material fact or omit to
state any material fact required to be stated therein or necessary to make the
statements therein not misleading, each Holder shall forthwith discontinue
disposition of Registrable Securities pursuant to the registration statement
contemplated by Section 5.2 until its receipt of copies of the supplemented or
amended prospectus from the Company and, if so directed by the Company, each
Holder shall deliver to the Company all copies, other than permanent file copies
then in such Holder's possession, of the prospectus covering such Registrable
Securities current at the time of receipt of such notice.

           (b) Any Holder which owns five percent (5%) or more (and with respect
to 5.7(b)(ii), "any Holder") of the Company's outstanding Common Stock shall
suspend, upon request of the Company, any disposition of Registrable Securities
pursuant to the Registration Statement and prospectus contemplated by Section
5.2 during (i) any period not to exceed one 120-day period within any one 12-
month period the Company requires in connection with a primary underwritten
offering of equity securities and (ii) any period, not to exceed two 45-day
periods within any twelve month period, when the Company determines in good
faith

                                       16
<PAGE>

that offers and sales pursuant thereto should not be made by reason of the
presence of material undisclosed circumstances or developments with respect to
which the disclosure that would be required in such a prospectus is premature,
would have an adverse effect on the Company or is otherwise inadvisable.

           (c) As a condition to the inclusion of its Registrable Securities,
each Holder shall furnish to the Company such information regarding such Holder,
the securities of the Company owned beneficially or of record by such Holder and
the distribution proposed by such Holder as the Company may request in writing
because it is required in connection with any registration, qualification or
compliance referred to in this Section V.

           (d) With respect to any sale of Registrable Securities pursuant to a
Registration Statement filed pursuant to this Section V, each Holder hereby
covenants with the Company not to make any sale of the Registrable Securities
without effectively causing the prospectus delivery requirements under the Act
to be satisfied.

           (e) Each Holder acknowledges and agrees that the Registrable
Securities sold pursuant to the Registration Statement described in this Section
are not transferable on the books of the Company unless the stock certificate
submitted to the transfer agent evidencing such Registrable Securities is
accompanied by a certificate reasonably satisfactory to the Company to the
effect that (i) the Registrable Securities have been sold in accordance with
such Registration Statement and (ii) the requirement of delivering a current
prospectus has been satisfied.

           (f) Each Holder shall not take any action with respect to any
distribution deemed to be made pursuant to such registration statement, which
would constitute a violation of Regulation M under the Exchange Act or any other
applicable rule, regulation or law.

           (g) At the end of the Registration Period, the Holders of Registrable
Securities included in the Registration Statement and the shares underlying the
Placement Warrants shall discontinue sales of shares pursuant to such
Registration Statement upon receipt of notice from the Company of its intention
to remove from registration the shares covered by such Registration Statement
which remain unsold.

       5.8 With a view to making available to the Holders the benefits of
certain rules and regulations of the SEC which at any time permit the sale of
the Registrable Securities to the public without registration, the Company shall
use its reasonable best efforts:

           (a) to make and keep public information available, as those terms are
understood and defined in Rule 144 under the Act, at all times;

           (b) to file with the SEC in a timely manner all reports and other
documents required of the Company under the Exchange Act; and

                                       17
<PAGE>

           (c) so long as a Holder owns any Registrable Securities, to furnish
to such Holder upon any reasonable request a written statement by the Company as
to its compliance with Rule 144 under the Act, and of the Exchange Act, and a
copy of the most recent annual or quarterly report of the Company, and such
other reports and documents of the Company as such Holder may reasonably request
in availing itself of any rule or regulation of the SEC allowing a Holder to
sell any such securities without registration.

       5.9   With the written consent of the Company and the Holders holding at
a majority of the Registerable Securities that are then outstanding, any
provision of this Section V may be waived (either generally or in a particular
instance, either retroactively or prospectively and either for a specified
period of time or indefinitely) or amended. Upon the effectuation of each such
waiver or amendment, the Company shall promptly give written notice thereof to
the Holders, if any, who have not previously received notice thereof or
consented thereto in writing.

       5.10  The rights and obligations of the Holders under this Section V may
not be assigned or transferred to or assumed by any transferee or assignee
except (i) to a transferee that acquires at least 20% of such Holder's
Registerable Securities or (ii) to an Affiliate or limited or general partner of
a Holder; provided that such transfer was not in violation of this Agreement or
the Securities Laws.

VI.  MISCELLANEOUS
     -------------

       6.1  Any notice or other communication given hereunder shall be deemed
sufficient in writing and sent by (a) telecopy or facsimile at the address or
number designated below (if delivered on a business day during normal business
hours where such notice is to be received); or (b) registered or certified mail,
return receipt requested, or delivered by hand against written receipt therefor,
addressed to Salix Pharmaceuticals, Ltd., 3801 Wake Forest Road, Suite 205,
Raleigh, NC 27609, Facsimile: (919) 788-8611, Attention: Robert P. Ruscher, with
a copy to Leerink Swann & Company, 60 State Street, 15th Floor, Boston, MA
02019, Facsimile (617) 918-4724, Attention: Stuart R. Barich.  Notices shall be
deemed to have been given or delivered on the date of mailing, except notices of
change of address, which shall be deemed to have been given or delivered when
received.

       6.2  Except as set forth in Section 5.9, this Agreement shall not be
changed, modified or amended except by a writing signed by the parties to be
charged, and this Agreement may not be discharged except by performance in
accordance with its terms or by a writing signed by the party to be charged.

       6.3  Upon the execution and delivery of this Agreement by the
Subscriber, this Agreement shall become a binding obligation of the Subscriber
with respect to the purchase of Securities as herein provided, subject to
acceptance by the Company and the Placement Agent; subject, however, to the
right hereby reserved to the Company to enter into the same agreements with
other subscribers and to add and/or delete other persons as subscribers.

       6.4  Notwithstanding the place where this Agreement may be executed by
any of the parties hereto, the parties expressly agree that all the terms and
provisions hereof shall be

                                       18
<PAGE>

construed in accordance with and governed by the laws of the State of Delaware
without regard to principles of conflicts of law.

       6.5   The holding of any provision of this Agreement to be invalid or
unenforceable by a court of competent jurisdiction shall not affect any other
provision of this Agreement, which shall remain in full force and effect. If any
provision of this Agreement shall be declared by a court of competent
jurisdiction to be invalid, illegal or incapable of being enforced in whole or
in part, such provision shall be interpreted so as to remain enforceable to the
maximum extent permissible consistent with applicable law and the remaining
conditions and provisions or portions thereof shall nevertheless remain in full
force and effect and enforceable to the extent they are valid, legal and
enforceable, and no provisions shall be deemed dependent upon any other covenant
or provision unless so expressed herein.

       6.6   It is agreed that a waiver by either party of a breach of any
provision of this Agreement shall not operate, or be construed, as a waiver of
any subsequent breach by that same party.

       6.7   The parties agree to execute and deliver all such further
documents, agreements and instruments and take such other and further action as
may be necessary or appropriate to carry out the purposes and intent of this
Agreement.

       6.8   This Agreement may be executed in two or more counterparts each
of which shall be deemed an original, but all of which shall together constitute
one and the same instrument.

       6.9   The Subscriber agrees not to issue any public statement with
respect to the Subscriber's investment or proposed investment in the Company or
the terms of any agreement or covenant between them and the Company without the
Company's prior written consent, except such disclosures as may be required
under applicable law or under any applicable order, rule or regulation.

       6.10  Nothing in this Agreement shall create or be deemed to create
any rights in any person or entity not a party to this Agreement, except for the
holders of Registrable Securities.

       6.11  Any pronoun herein shall include all genders and/or the plural
or singular as appropriate from the context.

                                       19
<PAGE>

VII. CONFIDENTIAL INVESTOR QUESTIONNAIRE
     -----------------------------------

         7.1   The Subscriber represents and warrants that he, she or it comes
within one category marked below, and that for any category marked, he, she or
it has truthfully set forth, where applicable, the factual basis or reason the
Subscriber comes within that category.  ALL INFORMATION IN RESPONSE TO THIS
SECTION VII WILL BE KEPT STRICTLY CONFIDENTIAL.  The undersigned agrees to
furnish any additional information which the Company deems necessary in order to
verify the answers set forth below.

Category A__   The undersigned is an individual (not a partnership, corporation,
               etc.) whose individual net worth, or joint net worth with his or
               her spouse, presently exceeds $1,000,000.

                             Explanation. In calculating net worth you may
                             include equity in personal property and real
                             estate, including your principal residence, cash,
                             short-term investments, stock and securities.
                             Equity in personal property and real estate should
                             be based on the fair market value of such property
                             less debt secured by such property.

Category B__   The undersigned is an individual (not a partnership, corporation,
               etc.) who had an individual income in excess of $200,000 in each
               of the two most recent years, or joint income with his or her
               spouse in excess of $300,000 in each of those years (in each case
               including foreign income, tax exempt income and full amount of
               capital gains and losses but excluding any income of other family
               members and any unrealized capital appreciation) and has a
               reasonable expectation of reaching the same income level in the
               current year.

Category C__   The undersigned is a director or executive officer of the
               Company.

Category D__   The undersigned is a bank; a savings and loan association;
               insurance company; registered investment company; registered
               business development company; licensed small business investment
               company or "SBIC"; or employee benefit plan within the meaning of
               Title 1 of Employee Retirement Income Security Act or "ERISA" and
               (a) the investment decision is made by a plan fiduciary which is
               either a bank, savings and loan association, insurance company or
               registered investment advisor, or (b) the plan has total assets
               in excess of $5,000,000 or is a self-directed plan with
               investment decisions made solely by persons that are accredited
               investors.

                      __________________________________________________

                      __________________________________________________
                                       (describe entity)

                                       20
<PAGE>

Category E__   The undersigned is a private business development company as
               defined in section 202(a)(22) of the Investment Advisors Act of
               1940.

                       __________________________________________________

                       __________________________________________________
                                       (describe entity)

Category F__   The undersigned is either a corporation, partnership,
               Massachusetts business trust, or nonprofit organization within
               the meaning of Section 501(c)(3) of the Internal Revenue Code, in
               each case not formed for the specific purpose of acquiring the
               Securities and with total assets in excess of $5,000,000.

                       __________________________________________________

                       __________________________________________________
                                       (describe entity)

Category G__   The undersigned is a trust with total assets in excess of
               $5,000,000, not formed for the specific purpose of acquiring the
               Securities where the purchase is directed by a "sophisticated
               person" as defined in Regulation 506(b)(2)(ii) under the Act.

Category H__   The undersigned hereby certifies that it is an accredited
               investor because all of its equity owners are accredited
               investors. The Company, in its sole discretion, may request
               information regarding the basis on which such equity owners are
               accredited.

Category I__   The undersigned hereby certifies that it is an accredited
               investor because it has total assets in excess of $5,000,000 and
               was not formed for the specific purpose of acquiring the
               Securities.

Category J__   The undersigned is not within any of the categories above and is
               therefore not an accredited investor.

The Company will notify a prospective Subscriber whether such Subscriber is
eligible to purchase Securities pursuant to this Agreement (and the Company, in
its sole discretion, retains the right to accept or reject all such purchases).
The undersigned agrees that it will notify the Company at any time on or prior
to the Closing Date in the event that the representations and warranties in this
Investor Questionnaire shall cease to be true, accurate and complete.

                                       21
<PAGE>

         7.2   SUITABILITY (please answer each question)
               -----------

(a)  For an individual Subscriber, please describe your current employment,
including the company by which you are employed and its principal business:

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

(b)  For an individual Subscriber, please describe any college or graduate
degrees held by you:

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

(c)  For all Subscribers, please list types of prior investments:

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

_______________________________________________________________________________

(d)  For all Subscribers, please state whether you have participated in other
private placements before:

                         YES_______      NO_______

(e) If your answer to question (d) above was "YES", please indicate frequency of
such prior participation in private placements of:
                            ------------------

                                                             Biotechnology,
                                                             Pharmaceutical and
                               Public           Private      Other Life Science
                               Companies        Companies    Companies *
                               ---------        ---------    -----------

     Frequently                _________        _________    _________
     Occasionally              _________        _________    _________
     Never                     _________        _________    _________

     *indicate how many companies, whether public or private, are in the
      biotechnology, pharmaceutical or other life sciences sectors.

                                       22
<PAGE>

(f) For an individual Subscriber, do you expect your current level of income to
significantly decrease in the foreseeable future?

                         YES_______      NO_______

(g)  For trust, corporate, partnership and other institutional Subscribers, do
you expect your total assets to significantly decrease in the foreseeable
future?

                         YES_______      NO_______

(h)  For all Subscribers, do you have any other investments or contingent
liabilities which you reasonably anticipate could cause you to need sudden cash
requirements in excess of cash readily available to you?

                         YES_______      NO_______

(i)  For all Subscribers, are you familiar with the risk aspects and the non-
liquidity of investments such as the securities for which you seek to subscribe?

                         YES_______      NO_______

(j)  For all Subscribers, do you understand that there is no guarantee of
financial return on this investment and that you run the risk of losing your
entire investment?

                         YES_______      NO_______

         7.3   MANNER IN WHICH TITLE IS TO BE HELD. (circle one)
               -----------------------------------

               (a)  Individual Ownership
               (b)  Community Property
               (c)  Joint Tenant with Right of
                    Survivorship (both parties
                    must sign)
               (d)  Partnership*
               (e)  Tenants in Common
               (f)  Company*
               (g)  Trust*
               (h)  Other

     *If Securities are being subscribed for by an entity, the attached
Certificate of Signatory must also be completed.

                                       23
<PAGE>

         7.4   NASD AFFILIATION.
               ----------------

Are you affiliated or associated with an NASD member firm (please check one)?

                     YES _________    NO __________

If Yes, please describe:**

_____________________________________________________________________________

_____________________________________________________________________________

_____________________________________________________________________________

_____________________________________________________________________________

     **If Subscriber is a Registered Representative with an NASD member firm,
       have the following acknowledgment signed by the appropriate party:

         The undersigned NASD member firm acknowledges receipt of the notice
         required by Article 3, Sections 28(a) and (b) of the Rules of Fair
         Practice.

                   _____________________________________
                   Name of NASD Member Firm

                   By: _________________________________
                         Authorized Officer - Signature

                       _________________________________
                       Authorized Officer - Printed Name

                   Date: ____________________________ , 2000

         7.5   COMPANY RELIANCE ON THIS QUESTIONNAIRE
               --------------------------------------

The undersigned is informed of the significance to the Company of the foregoing
representations and answers contained in this Section VII and such answers have
been provided under the assumption that the Company and its counsel will rely on
them.

                                       24
<PAGE>

SIGNATURE PAGE                         Date Signed: __________ , 2000
--------------

Number of shares:                                _______________________

Multiplied by Offering Price per share:     x   $_______________________

Equals subscription amount:                 =   $_______________________

Warrants (multiply the number of shares by 10%): _______________________

____________________________      ______________________________
Signature                         Second Signature (if purchasing jointly)

____________________________      ______________________________
Printed Name                      Printed Second Name

____________________________      ______________________________
Entity Name                       Entity Name

____________________________      ______________________________
Address                           Address

____________________________      ______________________________
City, State and Zip Code          City, State and Zip Code

____________________________      ______________________________
Telephone-Business                Telephone--Business

____________________________      ______________________________
Facsimile-Business                Facsimile--Business

____________________________      ______________________________
Tax ID # or Social Security #     Tax ID # or Social Security #

Name in which securities should be issued:  _________________________________

Check "YES" if you would like the securities to be delivered to your account
with Leerink Swann & Company or "NO" if you would like the securities to be
delivered to your address as set forth above.

                               YES _____ NO  _____

                                       25
<PAGE>

This Subscription Agreement is agreed to and accepted as of ____________, 2000.

                              SALIX PHARMACEUTICALS, LTD.

                              By:

                              __________________________
                              Name: Robert P. Ruscher
                              Title:  President and Chief Executive Officer

                                       26
<PAGE>

                           CERTIFICATE OF SIGNATORY

     (To be completed if Securities are being subscribed for by an entity)

          I,______________________________, am the____________________________

of _____________________________________________ (the "Entity").

     I certify that I am empowered and duly authorized by the Entity to execute
and carry out the terms of the Subscription Agreement and to purchase and hold
the Securities, and certify further that the Subscription Agreement has been
duly and validly executed on behalf of the Entity and constitutes a legal and
binding obligation of the Entity.

     IN WITNESS WHEREOF, I have set my hand this___ day of ____, 2000.

                              _______________________________________
                                            (Signature)

                                       27
<PAGE>

NEITHER THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE
EXERCISABLE HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION OR
THE SECURITIES COMMISSION OF ANY STATE IN RELIANCE UPON AN EXEMPTION FROM
REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES
                                                                ----------
ACT"), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT PURSUANT TO AN
---
EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR PURSUANT TO AN
AVAILABLE EXEMPTION FROM THE REGISTRATION REQUIREMENTS THEREUNDER AND IN
COMPLIANCE WITH APPLICABLE STATE SECURITIES OR BLUE SKY LAWS.

                           SALIX PHARMACEUTICALS, LTD.

                                     WARRANT
                                     -------

Warrant No.[_]                                         Dated: November  9, 2000

     Salix Pharmaceuticals, Ltd., a British Virgin Islands corporation (the
"Company"), hereby certifies that, for value received, [__________________] or
 -------
its registered assigns ("Holder"), is entitled, subject to the terms set forth
                         ------
below, to purchase from the Company up to a total of ___________ shares of
common stock, no par value per share (the "Common Stock"), of the Company (each
                                           ------------
such share, a "Warrant Share" and all such shares, the "Warrant Shares") at an
               -------------                            --------------
exercise price equal to $9.72 per share (as adjusted from time to time as
provided in Section 7, the "Exercise Price"), at any time and from time to time
from and after the date hereof and through and including November 8, 2005 (the
"Expiration Date"), and subject to the following terms and conditions.
 ---------------

           1.  Registration of Warrant. The Company shall register this
               -----------------------
Warrant, upon records to be maintained by the Company for that purpose (the
"Warrant Register"), in the name of the record Holder hereof from time to time.
 ----------------
The Company may deem and treat the registered Holder of this Warrant as the
absolute owner hereof for the purpose of any exercise hereof or any distribution
to the Holder, and for all other purposes, and the Company shall not be affected
by notice to the contrary.

           2.  Registration of Transfers and Exchanges.
               ---------------------------------------
               (a)  Subject to compliance with applicable  securities  laws, the
Company shall register the transfer of any portion of this Warrant in the
Warrant Register, upon surrender of this Warrant, with the Form of Assignment
attached hereto duly completed and signed, to the Transfer Agent or to the
Company at its address for notice set forth in Section 10. Upon any such
registration or transfer, a new warrant to purchase Common Stock, in
substantially the form of this Warrant (any such new warrant, a "New Warrant"),
                                                                 -----------
evidencing the portion of this Warrant so transferred shall be issued to the
transferee and a New Warrant evidencing the remaining portion of
<PAGE>

this Warrant not so transferred, if any, shall be issued to the transferring
Holder. The acceptance of the New Warrant by the transferee thereof shall be
deemed the acceptance of such transferee of all of the rights and obligations of
a holder of a Warrant.

               (b)  This Warrant is exchangeable,  upon the surrender hereof by
the Holder to the office of the Company at its address for notice set forth in
Section 10, for one or more New Warrants, evidencing in the aggregate the right
to purchase the number of Warrant Shares which may then be purchased hereunder.
Any such New Warrant will be dated the date of such exchange.

           3.  Duration and Exercise of Warrants.
               ---------------------------------
               (a)  This Warrant shall be exercisable  by the  registered
Holder on any business day before 5:00 P.M., New York City time, at any time and
from time to time on or after the date hereof to and including the Expiration
Date. At 5:00 P.M., New York City time on the Expiration Date, the portion of
this Warrant not exercised prior thereto shall be and become void and of no
value.

               (b)  Upon surrender of this Warrant, with the Form of Election
to Purchase attached hereto duly completed and signed, to the Company at its
address for notice set forth in Section 10 and upon payment of the Exercise
Price multiplied by the number of Warrant Shares that the Holder intends to
purchase hereunder, in the manner provided hereunder, all as specified by the
Holder in the Form of Election to Purchase, the Company shall promptly (but in
no event later than five (5) business days after the Date of Exercise (as
defined herein)) issue or cause to be issued and cause to be delivered to or
upon the written order of the Holder and in such name or names as the Holder may
designate, a certificate for the Warrant Shares issuable upon such exercise,
free of restrictive legends except (i) either in the event that a registration
statement covering the resale of the Warrant Shares and naming the Holder as a
selling stockholder thereunder is not then effective or the Warrant Shares are
not freely transferable pursuant to Rule 144(k) promulgated under the Securities
Act of 1933, as amended (the "Securities Act"), or (ii) if this Warrant shall
                              --------------
have been issued pursuant to a written agreement between the original Holder and
the Company, as required by such agreement. Any person so designated by the
Holder to receive Warrant Shares shall be deemed to have become holder of record
of such Warrant Shares as of the Date of Exercise of this Warrant. The Company
shall, upon request of the Holder, if available, use its best efforts to deliver
Warrant Shares hereunder electronically through the Depository Trust Corporation
or another established clearing corporation performing similar functions.

               A "Date of Exercise" means the date on which the Company shall
                  ----------------
have received (i) this Warrant (or any New Warrant, as applicable), with the
Form of Election to Purchase attached hereto (or attached to such New Warrant)
appropriately completed and duly signed, and (ii) payment of the Exercise Price
for the number of Warrant Shares so indicated by the holder hereof to be
purchased.

               (c)  This Warrant shall be exercisable, either in its entirety
or, from time to time, for a portion of the number of Warrant Shares, such
portion to be not less than 100 Warrant Shares and any amount in excess of 100
Warrant Shares shall be in 100 share increments. If less

                                       2
<PAGE>

than all of the Warrant Shares which may be purchased under this Warrant are
exercised at any time, the Company shall issue or cause to be issued, at its
expense, a New Warrant evidencing the right to purchase the remaining number of
Warrant Shares for which no exercise has been evidenced by this Warrant.

           4.  Payment of Taxes. The Company will pay all documentary stamp
               ----------------
taxes attributable to the issuance of Warrant Shares upon the exercise of this
Warrant; provided, however, that the Company shall not be required to pay any
tax which may be payable in respect of any transfer involved in the registration
of any certificates for Warrant Shares or Warrants in a name other than that of
the Holder. The Holder shall be responsible for all other tax liability that may
arise as a result of holding or transferring this Warrant or receiving Warrant
Shares upon exercise hereof.

           5.  Replacement of Warrant. If this Warrant is mutilated, lost,
               ----------------------
stolen or destroyed, the Company shall issue or cause to be issued in exchange
and substitution for and upon cancellation hereof, or in lieu of and
substitution for this Warrant, a New Warrant, but only upon receipt of evidence
reasonably satisfactory to the Company of such loss, theft or destruction and
indemnity, if requested, satisfactory to it. Applicants for a New Warrant under
such circumstances shall also comply with such other reasonable regulations and
procedures and pay such other reasonable charges as the Company may prescribe.

           6.  Reservation of Warrant Shares. The Company covenants that it will
               -----------------------------
at all times reserve and keep available out of the aggregate of its authorized
but unissued Common Stock, solely for the purpose of enabling it to issue
Warrant Shares upon exercise of this Warrant as herein provided, the number of
Warrant Shares which are then issuable and deliverable upon the exercise of this
entire Warrant, free from preemptive rights or any other actual contingent
purchase rights of persons other than the Holder (taking into account the
adjustments and restrictions of Section 7). The Company covenants that all
Warrant Shares that shall be so issuable and deliverable shall, upon issuance
and the payment of the applicable Exercise Price in accordance with the terms
hereof, be duly and validly authorized, issued and fully paid and nonassessable.

           7.  Certain Adjustments. The Exercise Price and number of Warrant
               -------------------
Shares issuable upon exercise of this Warrant are subject to adjustment from
time to time as set forth in this Section 7. Upon each such adjustment of the
Exercise Price pursuant to this Section 7, the Holder shall thereafter prior to
the Expiration Date be entitled to purchase, at the Exercise Price resulting
from such adjustment, the number of Warrant Shares obtained by multiplying the
Exercise Price in effect immediately prior to such adjustment by the number of
Warrant Shares issuable upon exercise of this Warrant immediately prior to such
adjustment and dividing the product thereof by the Exercise Price resulting from
such adjustment.

               (a)  If the Company, at any time while this Warrant is
outstanding, (i) shall pay a stock dividend or otherwise make a distribution or
distributions on shares of its Common Stock or on any other class of capital
stock payable in shares of Common Stock, (ii) subdivide outstanding shares of
Common Stock into a larger number of shares, or (iii) combine outstanding shares
of Common Stock into a smaller number of shares, then the Exercise Price shall
be multiplied by a fraction of which the numerator shall be the number of shares
of Common Stock (excluding treasury shares, if any) outstanding before such
event and of which the denominator shall be the

                                       3
<PAGE>

number of shares of Common Stock (excluding treasury shares, if any) outstanding
after such event. Any adjustment made pursuant to this Section shall become
effective immediately, and shall apply to successive subdivisions and
combinations.

               (b)  In case of any reclassification of the Common Stock or any
compulsory share exchange pursuant to which the Common Stock is converted into
other securities, cash or property, then the Holder shall have the right
thereafter to exercise this Warrant only into the shares of stock and other
securities and property receivable upon or deemed to be held by holders of
Common Stock following such reclassification or share exchange, and the Holder
shall be entitled upon such event to receive such amount of securities or
property equal to the amount of Warrant Shares such Holder would have been
entitled to had such Holder exercised this Warrant immediately prior to such
reclassification or share exchange. The terms of any such reclassification or
share exchange shall include such terms so as to continue to give to the Holder
the right to receive the securities or property set forth in this Section 7(b)
upon any exercise following any such reclassification or share exchange.

               (c)  If the Company, at any time while this Warrant is
outstanding, shall distribute to all holders of Common Stock (and not to holders
of this Warrant) evidences of its indebtedness or assets or rights or warrants
to subscribe for or purchase any security (excluding those referred to in
Sections 7(a), (b) and (d)), then in each such case the Exercise Price shall be
determined by multiplying the Exercise Price in effect immediately prior to the
record date fixed for determination of stockholders entitled to receive such
distribution by a fraction of which the denominator shall be the Exercise Price
determined as of the record date mentioned above, and of which the numerator
shall be such Exercise Price on such record date less the then fair market value
at such record date of the portion of such assets or evidence of indebtedness so
distributed applicable to one outstanding share of Common Stock as determined by
the Company's independent certified public accountants that regularly examines
the financial statements of the Company (an "Appraiser").

               (d)  In case of any (1) merger or consolidation of the Company
with or into another Person where the Company is not the surviving entity, or
(2) sale by the Company of all or substantially all of the assets of the Company
(on a book value basis) in one or a series of related transactions, the Holder
shall have the right thereafter to (A) exercise this Warrant for the shares of
stock and other securities, cash and property receivable upon or deemed to be
held by holders of Common Stock following such merger, consolidation or sale,
and the Holder shall be entitled upon such event or series of related events to
receive such amount of securities, cash and property as the Common Stock for
which this Warrant could have been exercised immediately prior to such merger,
consolidation or sale would have been entitled or (B) in the case of a merger or
consolidation, (x) require the surviving entity to issue common stock purchase
warrants equal to the number Warrant Shares to which this Warrant then permits,
which newly issued warrant shall be identical to this Warrant, and (y)
simultaneously with the issuance of such warrant, shall have the right to
exercise such warrant only into shares of stock and other securities, cash and
property receivable upon or deemed to be held by holders of Common Stock
following such merger or consolidation. In the case of clause (B), the exercise
price for such new warrant shall be based upon the amount of securities, cash
and property that each share of Common Stock would receive in such transaction
and the Exercise Price of this Warrant immediately prior to the effectiveness or
closing

                                       4
<PAGE>

date for such transaction. The terms of any such merger, sale or consolidation
shall include such terms so as continue to give the Holder the right to receive
the securities, cash and property set forth in this Section upon any conversion
or redemption following such event. This provision shall similarly apply to
successive such events.

               (e)  For the purposes of this Section 7, the following clauses
shall also be applicable:

                    (i)    Record  Date.  In case the Company shall take a
                           ------------
record of the holders of its Common Stock for the purpose of entitling them (A)
to receive a dividend or other distribution payable in Common Stock or in
securities convertible or exchangeable into shares of Common Stock, or (B) to
subscribe for or purchase Common Stock or securities convertible or exchangeable
into shares of Common Stock, then such record date shall be deemed to be the
date of the issue or sale of the shares of Common Stock deemed to have been
issued or sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.

                    (ii)   Treasury Shares.  The number of shares of Common
                           ---------------
Stock outstanding at any given time shall not include shares owned or held by or
for the account of the Company, and the disposition of any such shares shall be
considered an issue or sale of Common Stock.

               (f)  All  calculations under this Section 7 shall be made to the
nearest cent or the nearest 1/100th of a share, as the case may be.

               (g)  Whenever the Exercise Price is adjusted pursuant to Section
7(c) above, the Holder, after receipt of the determination by the Appraiser,
shall have the right to select an additional appraiser (which shall be a
nationally recognized accounting firm), in which case the adjustment shall be
equal to the average of the adjustments recommended by each of the Appraiser and
such appraiser. The Holder shall promptly mail or cause to be mailed to the
Company, a notice setting forth the Exercise Price after such adjustment and
setting forth a brief statement of the facts requiring such adjustment. Such
adjustment shall become effective immediately after the record date mentioned
above.

               (h)  If:

                    (i)    the Company shall declare a dividend (or any other
                           distribution) on its Common Stock; or

                    (ii)   the Company shall declare a special nonrecurring
                           cash dividend on or a redemption of its Common Stock;
                           or

                    (iii)  the Company shall authorize the granting to all
                           holders of the Common Stock rights or warrants to
                           subscribe for or purchase any shares of capital
                           stock of any class or of any rights; or

                                       5
<PAGE>

                    (iv)   the approval of any stockholders of the Company shall
                           be required in connection with any reclassification
                           of the Common Stock, any consolidation or merger to
                           which the Company is a party, any sale or transfer
                           of all or substantially all of the assets of the
                           Company, or any compulsory share exchange whereby the
                           Common Stock is converted into other securities, cash
                           or property; or

                    (v)    the Company shall authorize the voluntary
                           dissolution, liquidation or winding up of the affairs
                           of the Company,

then the Company shall cause to be mailed to each Holder at their last addresses
as they shall appear upon the Warrant Register, at least 20 calendar days prior
to the applicable record or effective date hereinafter specified, a notice
stating (x) the date on which a record is to be taken for the purpose of such
dividend, distribution, redemption, rights or warrants, or if a record is not to
be taken, the date as of which the holders of Common Stock of record to be
entitled to such dividend, distributions, redemption, rights or warrants are to
be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer, share exchange, dissolution, liquidation
or winding up; provided, however, that the failure to mail such notice or any
               --------  -------
defect therein or in the mailing thereof shall not affect the validity of the
corporate action required to be specified in such notice.

           8.  Payment of Exercise Price.  The Holder shall pay the Exercise
               -------------------------
Price in one of the following manners:

               (a)  Cash Exercise.  The Holder may deliver immediately available
                    -------------
funds; or

               (b)  Cashless Exercise.  The Holder may surrender this Warrant
                    -----------------
to the Company together with a notice of cashless exercise, in which event the
Company shall issue to the Holder the number of Warrant Shares determined as
follows:

                    X = Y [(A-B)/A]
           where:
                    X = the number of Warrant Shares to be issued to the Holder.

                    Y = the number of Warrant Shares with respect to which this
                        Warrant is being exercised.

                                       6
<PAGE>

                    A = the average of the closing sale prices of the Common
                        Stock for the five (5) trading days immediately prior
                        to (but not including) the Date of Exercise.

                    B = the Exercise Price.

For purposes of Rule 144 promulgated under the Securities Act, it is intended,
understood and acknowledged that the Warrant Shares issued in a cashless
exercise transaction shall be deemed to have been acquired by the Holder, and
the holding period for the Warrant Shares shall be deemed to have been
commenced, on the issue date.

           9.  Fractional Shares. The Company shall not be required to issue or
               -----------------
cause to be issued fractional Warrant Shares on the exercise of this Warrant.
The number of full Warrant Shares which shall be issuable upon the exercise of
this Warrant shall be computed on the basis of the aggregate number of Warrant
Shares purchasable on exercise of this Warrant so presented. If any fraction of
a Warrant Share would, except for the provisions of this Section, be issuable on
the exercise of this Warrant, the Company shall pay an amount in cash equal to
the Exercise Price multiplied by such fraction.

           10. Notices. Any and all notices or other communications or
               -------
deliveries hereunder shall be in writing and shall be deemed given and effective
on the earliest of (i) the date of transmission, if such notice or communication
is delivered via facsimile at the facsimile telephone number specified in this
Section prior to 5:00 p.m. (New York City time) on a business day, (ii) the
business day after the date of transmission, if such notice or communication is
delivered via facsimile at the facsimile telephone number specified in this
Section later than 5:00 p.m. (New York City time) on any date and earlier than
11:59 p.m. (New York City time) on such date, (iii) the business day following
the date of mailing, if sent by nationally recognized overnight courier service,
or (iv) upon actual receipt by the party to whom such notice is required to be
given. The addresses for such communications shall be: (i) if to the Company, to
3801 Wake Forest Road, Suite 205, Raleigh, North Carolina 27609, or (ii) if to
the Holder, to the Holder at the address or facsimile number appearing on the
Warrant Register or such other address or facsimile number as the Holder may
provide to the Company in accordance with this Section.

           11. Warrant Agent. The Company shall serve as warrant agent under
               -------------
this Warrant. Upon thirty (30) days' notice to the Holder, the Company may
appoint a new warrant agent. Any corporation into which the Company or any new
warrant agent may be merged or any corporation resulting from any consolidation
to which the Company or any new warrant agent shall be a party or any
corporation to which the Company or any new warrant agent transfers
substantially all of its corporate trust or shareholders services business shall
be a successor warrant agent under this Warrant without any further act. Any
such successor warrant agent shall promptly cause notice of its succession as
warrant agent to be mailed (by first class mail, postage prepaid) to the Holder
at the Holder's last address as shown on the Warrant Register.

           12. Optional Redemption.
               -------------------
               (a)  This Warrant may be redeemed in whole during the
Effectiveness

                                       7
<PAGE>

Period at the option of the Company, upon 45 days written notice to the Holder,
at a price equal to $0.01 per Warrant Share (the "Redemption Price") if, and
                                                                     -------
only if, at the time notice of such redemption is given by the Company to the
-------
Holder as provided in Section 10 hereof, (i) the average Closing Price for the
Common Stock for the ten (10) consecutive trading days immediately preceding the
date that the redemption notice is given exceeds $16.90, and (ii) a registration
statement covering the re-sale of the Warrant Shares filed under the Securities
Act is effective or the Holder may sell all of the Warrant Shares in the public
market in a three month period pursuant to Rule 144 under the Securities Act.
For the purpose of the foregoing sentence, the term "Closing Price" shall mean,
for any relevant day, the last sale price on that day as reported by the
principal exchange or quotation system on which prices for the Common Stock are
reported. On the redemption date the holders of record of redeemed Warrants
shall be entitled to payment of the Redemption Price upon surrender of such
redeemed Warrants to the Warrant Agent at the principal office of the Warrant
Agent.

               (b)  From and after the redemption date, all rights of the Holder
(except the right to receive the Redemption Price) shall terminate, but only if
(i) on or before the redemption date the Company shall have irrevocably
deposited with the Warrant Agent as paying agent a sufficient amount to pay on
the redemption date the Redemption Price for all Warrants called for redemption,
and (ii) the notice of redemption shall have stated the name and address of the
Warrant Agent and the intention of the Company to deposit such amount with the
Warrant Agent no later than one day prior to the redemption date.

               (c)  If the Company fails to make a sufficient deposit with the
Warrant Agent as provided above, the holder of any Warrants called for
redemption may at the option of the Holder (a) by notice to the Company declare
the notice of redemption a nullity as to such holder, or (b) maintain an action
against the Company for the Redemption Price. If the Holder brings such an
action, the Company will pay reasonable attorneys' fees of the Holder. If the
Holder fails to bring an action against the Company for the Redemption Price
within 60 days after the redemption date, the Holder shall be deemed to have
elected to declare the notice of redemption to be a nullity and such notice
shall be without any force or effect. Except as otherwise specifically provided
in this provision, a notice of redemption, once mailed by the Company as
provided herein, shall be irrevocable.

           13. Miscellaneous.
               -------------

              (a)   This Warrant shall be binding on and inure to the benefit
of the parties hereto and their respective successors and assigns. This Warrant
may be amended only in writing signed by the Company and the Holder and their
successors and assigns.

               (b)  Subject to Section 13(a), above, nothing in this Warrant
shall be construed to give to any person or corporation other than the Company
and the Holder any legal or equitable right, remedy or cause under this Warrant.
This Warrant shall inure to the sole and exclusive benefit of the Company and
the Holder.

               (c)  The corporate laws of the State of Delaware shall govern all
issues concerning the relative rights of the Company and its stockholders. All
other questions concerning

                                       8
<PAGE>

the construction, validity, enforcement and interpretation of this Warrant shall
be governed by and construed and enforced in accordance with the internal laws
of the State of Delaware , without regard to the principles of conflicts of law
thereof. The Company and the Holder hereby irrevocably submit to the exclusive
jurisdiction of the state and federal courts sitting in the City of Wilmington,
Delaware, for the adjudication of any dispute hereunder or in connection
herewith or with any transaction contemplated hereby or discussed herein, and
hereby irrevocably waives, and agrees not to assert in any suit, action or
proceeding, any claim that it is not personally subject to the jurisdiction of
any such court, or that such suit, action or proceeding is improper. Each of the
Company and the Holder hereby irrevocably waives personal service of process and
consents to process being served in any such suit, action or proceeding by
receiving a copy thereof sent to the Company at the address in effect for
notices to it under this instrument and agrees that such service shall
constitute good and sufficient service of process and notice thereof. Nothing
contained herein shall be deemed to limit in any way any right to serve process
in any manner permitted by law.

               (d)  The headings herein are for convenience only, do not
constitute a part of this Warrant and shall not be deemed to limit or affect any
of the provisions hereof.

               (e)  In case any one or more of the provisions of this Warrant
shall be invalid or unenforceable in any respect, the validity and
enforceability of the remaining terms and provisions of this Warrant shall not
in any way be affected or impaired thereby and the parties will attempt in good
faith to agree upon a valid and enforceable provision which shall be a
commercially reasonable substitute therefor, and upon so agreeing, shall
incorporate such substitute provision in this Warrant.

                            [SIGNATURE PAGE FOLLOWS]

                                       9
<PAGE>

     IN WITNESS WHEREOF, the Company has caused this Warrant to be duly executed
by its authorized officer as of the date first indicated above.

                                      SALIX PHARMACEUTICALS, LTD.

                                      By: _________________________________
                                          Name:      Adam C. Derbyshire
                                          Title:     Chief Financial Officer
<PAGE>

FORM OF ELECTION TO PURCHASE

(To be executed by the Holder to exercise the right to purchase shares of Common
Stock under the foregoing Warrant)

To _________________:

     In accordance with the Warrant enclosed with this Form of Election to
Purchase, the undersigned hereby irrevocably elects to purchase _____________
shares of common stock, no par value per share, of Salix Pharmaceuticals, Ltd.
(the "Common Stock") and , if such Holder is not utilizing the cashless exercise
provisions set forth in this Warrant, encloses herewith $________ in cash,
certified or official bank check or checks, which sum represents the aggregate
Exercise Price (as defined in the Warrant) for the number of shares of Common
Stock to which this Form of Election to Purchase relates, together with any
applicable taxes payable by the undersigned pursuant to the Warrant.

     The undersigned requests that certificates for the shares of Common Stock
issuable upon this exercise be issued in the name of

                                            PLEASE INSERT SOCIAL SECURITY OR
                                            TAX IDENTIFICATION NUMBER

                                            _________________________________

_______________________________________________________________________________
                         (Please print name and address)

     If the number of shares of Common Stock issuable upon this exercise shall
not be all of the shares of Common Stock which the undersigned is entitled to
purchase in accordance with the enclosed Warrant, the undersigned requests that
a New Warrant (as defined in the Warrant) evidencing the right to purchase the
shares of Common Stock not issuable pursuant to the exercise evidenced hereby be
issued in the name of and delivered to:

_______________________________________________________________________________
                        (Please print name and address)

_______________________________________________________________________________

_______________________________________________________________________________

Dated: ___________, _________               Name of Holder:

                                            (Print)____________________________

                                            (By:)______________________________
                                            (Name:)
                                            (Title:)
                                            (Signature must conform in all
                                            respects to name of holder as
                                            specified on the face of the
                                            Warrant)
<PAGE>

                               FORM OF ASSIGNMENT

           [To be completed and signed only upon transfer of Warrant]

     FOR VALUE RECEIVED, the undersigned hereby sells, assigns and transfers
unto ________________________________ the right represented by the within
Warrant to purchase ____________ shares of Common Stock of Salix
Pharmaceuticals, Ltd. to which the within Warrant relates and appoints
________________ attorney to transfer said right on the books of Salix
Pharmaceuticals, Ltd. with full power of substitution in the premises.

Dated: __________,__________

                                            ___________________________________
                                            (Signature must conform in all
                                            respects to name of holder as
                                            specified on the face of the
                                            Warrant)

                                            ___________________________________
                                            Address of Transferee

                                            ___________________________________

                                            ___________________________________

In the presence of:

________________________________

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