R&G FINANCIAL CORP - 10-K Annual Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the fiscal year ended: December 31, 1998

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

Commission File No.: 0-21137

R&G FINANCIAL CORPORATION
- --------------------------------------------------------------------------------

(Exact name of registrant as specified in its charter)

Puerto Rico 66-0532217
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(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)

280 Jesus T. Pinero Avenue
Hato Rey, San Juan, Puerto Rico 00918
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(Address of Principal (Zip Code)
Executive Offices)

Registrant's telephone number, including area code: (787) 758-2424

Securities registered pursuant to Section 12(b) of the Act:
Not Applicable

Securities registered pursuant to Section 12(g) of the Act:

Class B Common Stock (par value $.01 per share)
(Title of Class)

Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.

As of March 19, 1999, the aggregate value of the 9,747,017 shares of Class B
Common Stock of the Registrant issued and outstanding on such date, which
excludes 399,074 shares held by all directors and officers of the Registrant as
a group, was approximately $184.6 million. This figure is based on the last
known trade price of $18.9375 per share of the Registrant's Class B Common Stock
on March 19, 1999.

Number of shares of Class B Common Stock outstanding as of March 19, 1999:
10,146,091

DOCUMENTS INCORPORATED BY REFERENCE

List hereunder the following documents incorporated by reference and
the Part of the Form 10-K into which the document is incorporated:

(1) Portions of the Annual Report to Stockholders for the fiscal year ended
December 31, 1998 are incorporated into Parts II and IV.

(2) Portions of the definitive proxy statement for the Annual Meeting of
Stockholders are incorporated into Part III.

PART I

Item 1. Business

General

R&G Financial Corporation (the "Company" or "R&G Financial") is the
holding company for R&G Mortgage Corp., a Puerto Rico mortgage banking company
("R&G Mortgage") and R-G Premier Bank of Puerto Rico, a Puerto Rico-chartered
commercial bank (the "Bank"). The Company was organized under Puerto Rico law in
March 1996. In July 1996, the Company acquired the 88.1% ownership interest in
the common stock of the Bank and the 100% ownership interest in the common stock
of R&G Mortgage held by the Company's Chairman of the Board and Chief Executive
Officer, Mr. Victor J. Galan, in exchange for shares of Class A common stock of
the Company. In August 1996, the Company conducted an underwritten public
offering of Class B common stock. In December 1996, the Company acquired the
remaining 11.9% ownership interest in the common stock of the Bank. At December
31 1998, the Company had total consolidated assets of $2.0 billion, total
consolidated borrowings of $784.2 million, total consolidated deposits of $1.0
billion, and total consolidated stockholders' equity of $221.2 million. As of
December 31, 1998, the Company had 18,440,556 Class A shares of common stock
outstanding, all of which were owned by Mr. Galan, and 10,146,091 publicly held
Class B shares of common stock outstanding.

Mr. Victor J. Galan, the Chairman of the Board, Chief Executive Officer
and controlling shareholder of R&G Financial, originally organized R&G Mortgage
in 1972. In February 1990, R&G Mortgage acquired a 74.7% interest in a two
branch federal savings and loan association with total assets of $52.9 million,
which was re-named R&G Federal Savings Bank. Recognizing the complementary
operational aspects and cross selling opportunities that are inherent in
operating both a mortgage bank and banking institution, during 1990 Mr. Galan
successfully integrated both the Bank's and R&G Mortgage's operations, which
structure has since been emulated in Puerto Rico. Embarking on a retail branch
expansion strategy, the Bank in 1993 acquired a two branch savings and loan
association with total assets of $78.6 million, in June 1995, acquired from a
commercial bank $77.2 million in deposits and, after consolidation, six branch
offices and, in 1998, acquired a one branch federal savings bank. In November
1994, the Bank converted to a Puerto Rico-chartered commercial bank and took its
present name.

R&G Financial competes for business in Puerto Rico by providing a wide
range of financial services to residents of all of Puerto Rico's major cities
through branch offices and mortgage banking facilities at 23 locations. The
operations of both R&G Mortgage and the Bank have expanded substantially during
the 1990's, due in large part to R&G Mortgage's emergence as the second largest
originator of loans secured by single-family residential properties in Puerto
Rico. During the year ended December 31, 1998, R&G Mortgage originated
approximately 27.9% of all single-family residential loans originated in Puerto
Rico, which has resulted in significant growth in its servicing portfolio as
well as facilitated rapid expansion of the Bank's franchise and operations. R&G
Mortgage's servicing portfolio has increased 307.8% since December 31, 1991 and,
at December 31, 1998, R&G Mortgage serviced approximately 95,946 accounts with
an aggregate loan

1

balance of $4.8 billion. The Bank's asset size, which amounted to $1.4 billion
at December 31, 1998, has increased by $1.36 billion since R&G Mortgage became
affiliated with the Bank in February 1990, while the branch office network had
increased from two to 20 offices.

R&G Financial has generally sought to achieve long-term financial
strength and profitability by increasing the amount and stability of its net
interest income and non-interest income. R&G Financial has sought to implement
this strategy by (i) establishing and emphasizing the growth of its mortgage
banking activities, including growing its loan servicing operation; (ii)
expanding its retail banking franchise in order to achieve increased market
presence and to increase core deposits; (iii) enhancing R&G Financial's net
interest income by increasing R&G Financial's loans held for investment,
particularly single-family residential loans; (iv) developing new business
relationships through an increased emphasis on commercial real estate and
commercial business lending; (v) diversifying R&G Financial's retail products
and services, including an increase in consumer loan originations (such as
credit cards); (vi) meeting the banking needs of its customers through, among
other things, the offering of trust and investment services; and (vii)
controlled growth and the pursuit of a variety of acquisition opportunities when
appropriate.

The Company is subject to regulation and supervision by the Board of
Governors of the Federal Reserve System ("Federal Reserve Board") and is subject
to various reporting and other requirements of the Securities and Exchange
Commission ("SEC").

R&G Mortgage. R&G Mortgage was originally organized in 1972. R&G
Mortgage is engaged primarily in the business of originating first and second
mortgage loans on single family residential properties secured by real estate
which are either insured by the Federal Housing Administration ("FHA") or
guaranteed by the Veterans Administration ("VA"). To a lesser extent, R&G
Mortgage is also engaged in the origination of subprime--credit
quality--residential mortgage loans through a wholly owned subsidiary ("Champion
Mortgage Corporation") which commenced operations in October 1997. Approximately
20% of loan originations made by Champion Mortgage consist of subprime
residential mortgage loans. Pursuant to agreements entered into between R&G
Mortgage and the Bank, non-conforming conventional single-family residential
loans and consumer loans secured by real estate are also originated by R&G
Mortgage for portfolio retention by the Bank. The Bank retains the
non-conforming conventional single-family residential loans because these loans
generally do not satisfy resale guidelines of purchasers in the secondary
mortgage market, primarily because of size or other underwriting technicalities
at the time of origination. Jumbo loans may be packaged into collateralized
mortgage obligations ("CMOs") and sold while loans with underwriting
technicalities may be cured through payment experience and subsequently sold.
During the years ended December 31, 1998, 1997 and 1996, R&G Mortgage originated
a total of $914.1 million, $598.2 million and $448.1 million of loans,
respectively. These aggregate originations include loans originated by R&G
Mortgage directly for the Bank of $450.6 million, $285.8 million and $211.3
million during such respective periods, or 49.3%, 47.8% and 47.2%, respectively,
of total originations.

R&G Mortgage pools FHA/VA loans into mortgage-backed securities which
are guaranteed by the Government National Mortgage Association ("GNMA"), which
securities are sold to

2

securities broker dealers and other investors. Conventional loans may either be
sold directly to agencies such as the Federal National Mortgage Association
("FNMA") and the Federal Home Loan Mortgage Corporation ("FHLMC") or to private
investors, or which may be pooled into FNMA- or FHLMC-backed mortgage-backed
securities which are generally sold to investors. During the years ended
December 31, 1998, 1997 and 1996, R&G Mortgage sold $493.0 million, $246.1
million and $244.8 million of loans respectively, which includes loans
securitized and sold but does not include loans originated for the Bank. R&G
Mortgage generally retains the servicing function with respect to the loans
which have been securitized and sold. R&G Mortgage is subject to regulation and
examination by the FHA, FNMA, FHLMC, GNMA, VA, the Department of Housing and
Urban Development ("HUD") and the Office of the Commissioner of Financial
Institutions ("OCFI") of Puerto Rico.

R-G Premier Bank. The Bank's principal business consists of attracting
deposits from the general public and tax-advantaged funds from eligible Puerto
Rico corporations and using such deposits, together with funds obtained from
other sources, to originate (through R&G Mortgage) and purchase loans secured
primarily by residential real estate in Puerto Rico, and to purchase
mortgage-backed and other securities. To a lesser extent but with increasing
emphasis over the past few years, the Bank also originates consumer loans,
commercial business loans and loans secured by commercial real estate. Such
loans offer higher yields, are generally for shorter terms and facilitate the
Bank's provision of a full range of financial services to its customers. The
Bank also offers trust services through its Trust Department. Total loan
originations by the Bank during the years ended December 31, 1998, 1997 and 1996
amounted to $129.1 million, $89.0 million and $122.8 million, respectively. The
Bank's deposits are insured by the Federal Deposit Insurance Corporation
("FDIC") and it is regulated and examined by the FDIC as its primary federal
regulatory agency as well as by the OCFI.

Affiliated Transactions. As an integral part of R&G Mortgage's
acquisition of a controlling interest in the Bank in February 1990, R&G Mortgage
and the Bank entered into various agreements which address how the parties would
conduct themselves in specifically delineated affiliated transactions (the
"Affiliated Transaction Agreements"). Under federal law and regulations, certain
transactions between a federally insured financial institution and an affiliate,
such as the Bank and R&G Mortgage, are regulated. Generally, these provisions
regulate extensions of credit to directors, officers and principal shareholders
of the Bank, and establish standards for the terms of, limit the amount of, and
establish collateral requirements with respect to, various transactions between
federally insured financial institutions and its affiliates. See generally
"Regulation - R&G Financial - Limitations on Transactions with Affiliates."

The Affiliated Transaction Agreements include a Master Purchase,
Servicing and Collections Agreement (the "Master Purchase Agreement"), a Master
Custodian Agreement, a Master Production Agreement, a Securitization Agreement
and a Data Processing Computer Service Agreement. In accordance with applicable
regulations, the terms of these agreements were negotiated at arm's length on
the basis that they are substantially the same, or at least as favorable to the
Bank, as those prevailing for comparable transactions with, or involving, other
nonaffiliated

3

companies.

Pursuant to the Master Production Agreement, the Bank, on a monthly
basis, determines its loan production targets and goals (the "Loan Production
Goals") and R&G Mortgage assists the Bank to reach its Loan Production Goals by,
among other things: (i) advertising, promoting and marketing to the general
public; (ii) interviewing prospective borrowers and initial processing of loan
applications, consistent with the Bank's underwriting guidelines and Loan
Production Goals previously established; and (iii) providing personnel and
facilities with respect to the execution of any loan agreement approved by the
Bank. In exchange for these services, the Bank remits to R&G Mortgage a
percentage of the processing or originating fees charged to the borrowers under
loan agreements, as set forth in the agreements. See "-Lending Activities of the
Bank - Originations, Purchases and Sales of Loans."

The Master Purchase Agreement provides for the sale by the Bank to R&G
Mortgage of the servicing rights to all first and second mortgage loans secured
by residential properties which become part of the Bank's loan portfolio. The
Master Purchase Agreement further provides that R&G Mortgage will service all
other loans held in the Bank's loan portfolio (including single-family
residential loans retained by the Bank and certain commercial real estate
loans), although R&G Mortgage does not actually acquire such servicing rights.
The Master Purchase Agreement further provides that R&G Mortgage exclusively
will service such loans and that the Bank will process payments of such loans,
all according to a fee schedule. See " - Mortgage Banking Activities - Loan
Originations, Purchases and Sales of Loans."

Under the Securitization Agreement, R&G Mortgage renders securitization
services with respect to the pooling of some of the Bank's mortgage loans into
mortgage-backed securities. With respect to securitization services rendered,
the Bank pays a securitization fee of 25 basis points. The Master Custodian
Agreement provides that the Bank shall be the custodial agent for R&G Mortgage
of certain documentation related to the issuance by R&G Mortgage of GNMA, FNMA
or FHLMC mortgage-backed certificates. In consideration of these services, the
Bank receives a fee for each mortgage note included in a mortgage-backed
certificate per year for which it acts as custodian, as set forth in the
agreement. See "- Mortgage Banking Activities - Loan Originations, Purchases and
Sales of Loans."

Mortgage Banking Activities

Loan Originations, Purchases and Sales. During the years ended December
31, 1998, 1997 and 1996, R&G Mortgage originated a total of $914.1 million,
$598.2 million and $448.1 million of loans, respectively. These aggregate
originations include loans originated by R&G Mortgage directly for the Bank of
$450.6 million, $285.8 million and $211.3 million during the years ended
December 31, 1998, 1997 and 1996, respectively, or 49%, 48% and 47%,
respectively, of total originations. The loans originated by R&G Mortgage for
the Bank are comprised primarily of conventional residential loans and, to a
lesser extent, consumer loans secured by real estate.

4

R&G Mortgage is engaged to a significant extent in the origination of
FHA-insured and VA-guaranteed single-family residential loans which are
primarily securitized into GNMA mortgage-backed securities and sold to
institutional and/or private investors in the secondary market. During the years
ended December 31, 1998, 1997 and 1996, R&G Mortgage originated $255.6 million,
$280.1 million and $222.0 million, respectively, of FHA/VA loans, which
represented 28.0%, 46.8% and 49.5%, respectively, of total loans originated
during such respective periods.

R&G Mortgage also originates conventional single-family residential
loans which are either insured by private mortgage insurers or do not exceed 80%
of the appraised value of the mortgaged property. During the years ended
December 31, 1998, 1997 and 1996, R&G Mortgage originated $610.4 million, $265.9
million and $204.9 million, respectively, of conventional single-family
residential mortgage loans. Substantially all conforming conventional
single-family residential loans are securitized and sold in the secondary
market, while substantially all non-conforming conventional single-family
residential loans are originated by R&G Mortgage on behalf of the Bank and
either held by the Bank in its portfolio or subsequently securitized by R&G
Mortgage and sold in the secondary market. All non-conforming conventional loans
originated by R&G Mortgage through Champion Mortgage are held by Champion
Mortgage in its portfolio or subsequently sold in the secondary market.

Non-conforming loans generally consist of loans which, primarily
because of size or other underwriting technicalities which may be cured through
seasoning, do not satisfy the guidelines for resale of FNMA, FHLMC, GNMA and
other private secondary market investors at the time of origination. Management
believes that these loans are essentially of the same credit quality as
conforming loans. During the years ended December 31, 1998, 1997 and 1996,
non-conforming conventional loans represented approximately 44%, 39% and 42%,
respectively, of R&G Mortgage's total volume of mortgage loans originated,
substantially all of which were originated by R&G Mortgage on behalf of the
Bank. During the years ended December 31, 1998, 1997 and 1996, 85.5%, 77.5% and
88.9% of loans originated by R&G Mortgage on behalf of the Bank consisted of
single-family residential loans during such respective periods. R&G Mortgage
originates single-family residential, construction and commercial real estate
loans on behalf of the Bank pursuant to the terms of a Master Production
Agreement between R&G Mortgage and the Bank. See "- Lending Activities of the
Bank - Origination, Purchase and Sale of Loans."

While R&G Mortgage makes available a wide variety of mortgage products
designed to respond to consumer needs and competitive conditions, it currently
emphasizes 15-year and 30-year conventional first mortgages and 15-year and
30-year FHA loans and VA loans. Substantially all of such loans consist of
fixed-rate mortgages. The average loan size for FHA/VA mortgage loans and
conventional mortgage loans is approximately $78,000 and $70,000,
respectively.

R&G Mortgage also offers second mortgage loans up to $125,000 with a
maximum term of 15 years. The maximum loan-to-appraised value ratio on second
mortgage loans permitted by R&G Mortgage is 75% (including the amount of any
first mortgage). In addition, R&G Mortgage also offers real estate secured
consumer loans up to $40,000 with a maximum term of 10 years. The maximum
loan-to-appraised value ratio on real estate secured consumer loans permitted by
R&G Mortgage is 80%. R&G Mortgage will secure such loans with either a first or
second mortgage

5

on the property.

R&G Mortgage's loan origination activities are conducted out of its
offices and mortgage banking centers. Residential mortgage loan applications are
attributable to walk-in customers, existing customers and advertising and
promotion, referrals from real estate brokers and builders, loan solicitors and
mortgage brokers. At December 31, 1998, R&G Mortgage employed 65 loan
originators who are compensated in part on a commission basis.

Loan origination activities performed by R&G Mortgage include
soliciting, completing and processing mortgage loan applications and preparing
and organizing the necessary loan documentation. Loan applications are examined
for compliance with underwriting criteria and, if all requirements are met, R&G
Mortgage issues a commitment to the prospective borrower specifying the amount
of the loan and the loan origination fees, points and closing costs to be paid
by the borrower or seller and the date on which the commitment expires.

R&G Mortgage also purchases FHA loans and VA loans from other mortgage
bankers for resale to institutional investors and other investors in the form of
GNMA mortgage-backed securities. R&G Mortgage's strategy is to increase its
servicing portfolio primarily though internal originations through its branch
network and, to a lesser extent, purchases from third parties. Purchases of
loans from other mortgage bankers in the wholesale loan market is generally
limited to FHA loans and VA loans and such purchases provide R&G Mortgage with a
source of low cost production that allows R&G Mortgage to continue to increase
the size of its servicing portfolio. R&G Mortgage purchased $207.1 million,
$158.5 million and $45.6 million of loans from third parties during the years
ended December 31, 1998, 1997 and 1996, respectively.

6

The following table sets forth loan originations, purchases and sales
by R&G Mortgage for the periods indicated.

Year Ended December 31,
------------------------------------------
1998 1997 1996
---------- ---------- ----------
(Dollars in Thousands)

Loans Originated For the Bank:
Conventional loans(1):
Number of loans 4,918 3,390 2,756
Volume of loans $ 402,447 $ 233,488 $ 190,072
FHA/VA loans:
Number of loans -- -- --
Volume of loans -- -- --
Consumer loans(2):
Number of loans 2,268 2,318 1,004
Volume of loans $ 48,155 $ 52,287 $ 21,208
Total loans:
Number of loans 7,186 5,708 3,760
Volume of loans $ 450,602 $ 285,775 $ 211,280
Percent of total volume 40% 35% 43%
For Third Parties:
Conventional loans(1):
Number of loans 2,989 444 214
Volume of loans $ 207,937 $ 32,419 $ 14,835
FHA/VA loans:
Number of loans 3,298 4,107 3,117
Volume of loans $ 255,601 $ 280,053 $ 221,967
Total loans:
Number of loans 6,287 4,551 3,331
Volume of loans $ 463,538 $ 312,472 $ 236,802
Percent of total volume 41% 39% 48%
---------- ---------- ----------
Total loan originations $ 914,140 $ 598,247 $ 448,082
========== ========== ==========
Loans Purchased For R&G Mortgage:
Number of loans 2,506 2,052 583
Volume of loans (3) $ 207,070 $ 158,456 $ 45,604
Percent of total volume 19% 20% 9%
GNMA Pools Purchased for R&G Mortgage:
Volume of loans $ -- $ 51,537 $ --
Percent of total volume -- 6% --
---------- ---------- ----------
Total loan originations and purchases $1,121,210 $ 808,240 $ 493,686
========== ========== ==========

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Year Ended December 31,
------------------------------------------------
1998 1997 1996
----------- -------- --------
(Dollars in Thousands)

Loans Sold To Third Parties(3):
Conventional loans(1):
Number of loans.................................. 2,513 429 178
Volume of loans.................................. $194,909 $39,495 $ 12,560
FHA/VA loans:
Number of loans.................................. 4,413 2,775 3,564
Volume of loans ................................. $298,108 $206,643 $232,254
Total loans:
Number of loans.................................. 6,926 3,204 3,742
Volume of loans.................................. $493,017 $246,138 $244,814
Percent of total volume.......................... 44% 30% 50%
----------- -------- --------
Adjustments:
Loans originated for the Bank...................... ($450,602) $(285,775) $(211,280)
Loans amortization................................. (1,479) (5,086) (7,224)
----------- -------- --------
Increase in loans held for sale...................... $ 176,112 $271,241 $ 30,368
======== ======= ========
Average Initial Loan Origination Balance:
The Bank:
Conventional loans(1)............................ $ 82 $ 69 $ 69
FHA/VA loans..................................... -- -- --
Third Parties:
Conventional loans(1)............................ $ 70 $ 73 $ 69
FHA/VA loans..................................... 78 68 71
Total Average Initial Balance:
Conventional loans(1)............................ $ 77 $ 69 $ 69
FHA/VA loans..................................... 78 68 71
Refinancings(5):
The Bank........................................... 74% 70% 67%
Third Parties...................................... 44% 31% 24%

(1) Includes non-conforming loans.
(2) All such loans were secured by real estate except for $1.6 million in 1996.
(3) Includes loans converted into mortgage-backed securities.
(4) As a percent of the total dollar volume of mortgage loans originated by R&G
Mortgage for the Bank (excluding consumer loans) or third parties, as the
case may be. In the case of the Bank, refinancings do not necessarily
represent refinancings of loans previously held by the Bank.

8

All loan originations, regardless of whether originated through R&G
Mortgage or purchased from third parties, must be underwritten in accordance
with R&G Mortgage's underwriting criteria, including loan-to-appraised value
ratios, borrower income qualifications, debt ratios and credit history, investor
requirements, necessary insurance and property appraisal requirements. R&G
Financial's underwriting standards also comply with the relevant guidelines set
forth by HUD, VA, FNMA, FHLMC, bank regulatory authorities, private mortgage
investment conduits and private mortgage insurers, as applicable. R&G Mortgage's
underwriting personnel, while operating out of its loan offices, make
underwriting decisions independent of R&G Mortgage's mortgage loan origination
personnel.

Typically, when a mortgage loan is originated, the borrower pays an
origination fee. These fees are generally in the range of 0% to 7% of the
principal amount of the mortgage loan, and are payable at the closing of such
loan. R&G Mortgage receives these fees on mortgage loans originated through its
retail branches. R&G Mortgage may charge additional fees depending upon market
conditions and regulatory considerations as well as R&G Mortgage's objectives
concerning mortgage loan origination volume and pricing. R&G Mortgage incurs
certain costs in originating mortgage loans, including overhead, out-of-pocket
costs and, in some cases, where the mortgage loans are subject to a purchase
commitment from private investors, related commitment fees. The volume and type
of mortgage loans and of commitments made by investors vary with competitive and
economic conditions (such as the level of interest rates and the status of the
economy in general), resulting in fluctuations in revenues from mortgage loan
originations. Generally accepted accounting principles ("GAAP") require that
general operating expenses incurred in originating mortgage loans be charged to
current expense. Direct origination costs and origination income must be
deferred and amortized using the interest method, until the repayment or sale of
the related mortgage loans. Historically, the value of servicing rights which
result from R&G Mortgage's origination activities has exceeded the net costs
attributable to such activities.

R&G Mortgage customarily sells most of the loans that it originates,
except for those originated on behalf of the Bank pursuant to the Master
Production Agreement. See "-Lending Activities of the Bank - Origination,
Purchases and Sales of Loans." The loans originated by R&G Mortgage (including
FHA loans, VA loans and conventional loans) are secured by real property located
in Puerto Rico and constitute "eligible investments" which results in favorable
tax treatment under U.S. and Puerto Rico tax laws. See "- Puerto Rico Secondary
Mortgage Market and Favorable Tax Treatment." During the years ended December
31, 1998, 1997 and 1996, R&G Mortgage sold $493.0 million, $246.1 million and
$244.8 million of loans, respectively, which includes loans securitized and sold
but does not include loans originated by R&G Mortgage on behalf of the Bank.
With respect to such loan sales, $298.1 million or 60.5%, $206.6 million or
83.9% and $232.3 million or 94.9% consisted of GNMA-guaranteed mortgage-backed
securities of FHA loans or VA loans packaged into pools of $1 million or more
($2.5 million to $5 million for serial notes as described below). These
securities were sold primarily to securities broker-dealers and other investors
in Puerto Rico.

Certain GNMA-guaranteed mortgage-backed securities sold by R&G Mortgage
are in the

9

form of GNMA serial notes which permit the investor to receive interest monthly
and to select among several expected maturity dates of the notes included in an
issue, with each maturity having a specific yield. GNMA serial notes are sold in
pools of $2.5 million to $5 million. GNMA serial notes are sold to securities
broker-dealers in packages consisting of notes of different yields and
maturities, which range from one to 30 years and have an average maturity of 12
years, taking into account historical experience with prepayments of the
underlying mortgages. The rates on the serial notes or GNMA pools must be 1/2 of
1% less than the rates on the mortgages comprising the pool. Upon completion of
the necessary processing, the GNMA-guaranteed mortgage-backed securities are
either offered to the public directly through the Bank's Trust Department or
indirectly through securities broker-dealers. During the years ended December
31, 1998, 1997 and 1996, R&G Mortgage issued GNMA mortgage-backed securities
totaling approximately $371.1 million, $397.2 million and $236.4 million,
respectively, including $160.0 million, $335.5 million and $235.5 million GNMA
serial notes, respectively.

Conforming conventional loans originated or purchased by R&G Mortgage
are generally sold directly to FNMA, FHLMC or private investors for cash or are
grouped into pools of $1 million or more in aggregate principal balance and
exchanged for FNMA or FHLMC-issued mortgage-backed securities, which R&G
Mortgage sells to securities broker-dealers. In connection with any such
exchanges, R&G Mortgage pays guarantee fees to FNMA and FHLMC. The issuance of
mortgage-backed securities provides R&G with flexibility in selling the
mortgages which it originates or purchases and also provides income by
increasing the value and marketability of the loans.

Mortgage loans that do not conform to GNMA, FNMA or FHLMC requirements
(so-called "non-conforming loans") are generally originated on behalf of the
Bank and either retained in the Bank's portfolio, sold to financial institutions
or other private investors or securitized into "private label" CMOs through
grantor trusts or other mortgage conduits and sold through securities
broker-dealers. Non-conforming loans consist of jumbo loans or loans that do not
satisfy all requirements of FNMA, FHLMC and GNMA at the time of origination of
the loan (such as missing tax returns, slightly higher loan-to-value ratios,
etc.).

Each CMO normally consists of several classes of senior, subordinate
and residual certificates. The residual certificates evidence a right to receive
payments on the mortgage loans after payment of all required amounts on the
senior and subordinate certificates then due. Some form of credit enhancement,
such as an insurance policy, letter of credit or subordination, will generally
be used to increase the credit rating of the senior certificates and thereby
improve their marketability. R&G Mortgage and the Bank have made no sales of
CMOs in securitization transactions during 1996 through 1998. When such
transactions are made, either the Bank or R&G Mortgage generally retains the
residual certificates issued by the respective trusts as well as the subordinate
certificates issued in such transactions. As of December 31, 1998, R&G Mortgage
held residual certificates issued in CMO transactions involving R&G Mortgage and
the Bank with a fair value of $7.1 million. In addition, the Bank held CMO
subordinated certificates and residual certificates from one of its issues with
a fair value of $9.7 million at December 31, 1998. See "-

10

Investment Activities." Currently a liquid secondary market for subordinate or
residual certificates does not exist in Puerto Rico. The value of residual
certificates is subject to substantial fluctuations as a result of changes in
prevailing interest rates. However, such residuals often exhibit elasticity and
convexity characteristics which R&G Financial can utilize to hedge other
components of its portfolio. See "Management's Discussion and Analysis of
Financial Condition and Results of Operation" incorporated by reference in Item
7 hereof.

While R&G Mortgage's exchanges of mortgage loans into agency securities
and sales of mortgage loans are generally made on a non-recourse basis, R&G
Mortgage also engages in the sale or exchange of mortgage loans on a recourse
basis. In the past, recourse sales often involved the sale of non-conforming
loans to FNMA, FHLMC and local financial institutions. R&G Financial estimates
the fair value of the retained recourse obligation at the time mortgage loans
are sold. Normally, the fair value of any retained recourse is immaterial
because R&G Mortgage is able to resell repurchased loans for at least their
carrying costs. Accordingly, as of December 31, 1998, R&G Financial did not deem
it necessary to establish reserves for possible losses related to its recourse
obligations. At December 31, 1998, R&G Mortgage had loans in its servicing
portfolio with provisions for recourse in the principal amount of approximately
$507.4 million, as compared to $374.4 million and $290.9 million as of December
31, 1997 and 1996, respectively. Of the recourse loans existing at December 31,
1998, approximately $416.1 million in principal amount consisted of loans sold
to FNMA and FHLMC and converted into mortgage-backed securities of such
agencies, and approximately $91.3 million in principal amount consisted of
non-conforming loans sold to other private investors.

Pursuant to the terms of the Master Purchase Agreement, R&G Mortgage
renders securitization services with respect to the pooling of some of the
Bank's mortgage loans into mortgage-backed securities. With respect to the
securitization services rendered, the Bank pays a securitization fee of 25 basis
points. In addition, pursuant to the terms of a Master Custodian Agreement
entered into by R&G Mortgage and the Bank, the Bank acts as the custodial agent
for R&G Mortgage of certain documentation related to the issuance by R&G
Mortgage of GNMA or FHLMC mortgage-backed certificates. In consideration of
these services, the Bank receives an annual fee of $5.0 for each mortgage note
included in a mortgage-backed certificate for which it acts as custodian. See
also "- General - Affiliated Transactions" and "Regulation - R&G Financial
Limitations on Transactions with Affiliates."

Loan Servicing. R&G Mortgage acquires servicing rights through its
mortgage loan originations (including originations on behalf of the Bank) and
purchases from third parties. When R&G Mortgage sells the mortgage loans it has
originated or purchased, it generally retains the rights to service such loans
and receives the related servicing fees. Loan servicing includes collecting
principal and interest and remitting the same to the holders of the mortgage
loans or mortgage-backed securities to which such mortgage loan relates, holding
escrow funds for the payment of real estate taxes and insurance premiums,
contacting delinquent borrowers, supervising foreclosures in the event of
unremedied defaults and generally administering the loans. R&G Mortgage receives
annual loan servicing fees ranging from 0.25% to 0.50% of the declining

11

outstanding principal balance of the loans serviced plus any late charges. In
general, R&G Mortgage's servicing agreements are terminable by the investor for
cause without penalty or after payment of a termination fee ranging from 0.5% to
1.0% of the outstanding principal balance of the loans being serviced.

R&G Mortgage's servicing portfolio has grown significantly over the past several
years. At December 31, 1998, R&G Mortgage's servicing portfolio totaled $4.8
billion and consisted of a total of 95,946 loans. These amounts include a $1.1
billion servicing portfolio acquired from another financial institution in
November 1998 comprised of approximately 32,400 loans. At December 31, 1998, R&G
Mortgage's servicing portfolio included $754.6 million of loans serviced for the
Bank or 15.6% of the total servicing portfolio. Substantially all of the
mortgage loans in R&G Mortgage's servicing portfolio are secured by single
(one-to-four) family residences. All of R&G Mortgage's mortgage servicing
portfolio is comprised of mortgages secured by real estate located in Puerto
Rico.

Pursuant to the terms of a Master Purchase Agreement, the Bank sells to
R&G Mortgage the servicing rights to all first and second mortgage loans secured
by residential properties which become part of the Bank's loan portfolio. The
Master Purchase Agreement further provides that R&G Mortgage will service all
other loans held in the Bank's loan portfolio (including single-family
residential loans retained by the Bank and certain commercial real estate
loans), although R&G Mortgage does not actually acquire such servicing rights.
The Bank pays R&G Mortgage servicing fees with respect to the loans serviced by
R&G Mortgage on behalf of the Bank. In addition, pursuant to the Master Purchase
Agreement, the Bank processes payments of all loans originated by R&G Mortgage
on behalf of the Bank. In connection therewith, R&G Mortgage pays the Bank a fee
equal to between $0.50 and $1.00 per loan. See also "- General - Affiliated
Transactions" and "Regulation - R&G Financial - Limitations on Transactions with
Affiliates."

R&G Mortgage's mortgage loan servicing portfolio is subject to
reduction by reason of normal amortization, prepayments and foreclosure of
outstanding mortgage loans. Additionally, R&G Mortgage may sell mortgage loan
servicing rights from time to time.

12

The following table sets forth certain information regarding the total
loan servicing portfolio of R&G Mortgage for the periods indicated.

Year Ended December 31,
------------------------------------------
1998 1997 1996
---------- ---------- -----------
(Dollars in Thousands)

Composition of Servicing Portfolio at End of Period:
Conventional and other mortgage loans(1) $2,105,290 $1,148,739 $ 971,327
FHA/VA loans 2,722,508 1,852,149 1,578,842
---------- ---------- ----------
Total servicing portfolio(2) $4,827,798 $3,000,888 $2,550,169
========== ========== ==========
Activity in the Servicing Portfolio:
Beginning servicing portfolio $3,000,888 $2,550,169 $2,298,200
Add: Loan originations and purchases 1,285,570 778,126 506,696
Servicing of portfolio loans acquired (3) 1,109,825 5,301 36,478
Less: Sale of servicing rights -- -- 42,080
Run-offs(4) 568,485 332,708 249,125
---------- ---------- ----------
Ending servicing portfolio $4,827,798 $3,000,888 $2,550,169
========== ========== ==========
Number of loans serviced(5) 95,946 56,442 50,979
Average loan size(5) $ 50 $ 53 $ 50
Average servicing fee rate(5) 0.526% 0.532% 0.532%

- --------------

(1) Includes non-conforming loans.

(2) At the dates shown, included $754.6 million, $448.9 million and $323.8
million of loans serviced for the Bank, respectively, which constituted
15.6%, 15.0% and 12.70% of the total servicing portfolio, respectively.

(3) Includes a $1.1 billion servicing portfolio acquired from another
financial institution in Puerto Rico in November 1998 comprised of
approximately 32,400 loans.

(4) Run-off refers to regular amortization of loans, prepayments and
foreclosures. Includes transfers in 1998 and 1997 of $67.7 million and
$49.0 million, respectively, of mortgage loans to financial
institutions who acquired certain commercial banks whose loans were
being serviced by R&G Mortgage.

(5) At December 31, 1998, R&G Mortgage was servicing 10,285 loans for the
Bank with an average loan size of approximately $73,000 and at an
average servicing rate of 0.263%. Amounts include late and other
miscellaneous charges.

13

The following table sets forth certain information at December 31, 1998
regarding the number of, and aggregate principal balance of, the mortgage loans
serviced by R&G Mortgage for the Bank and for third parties at various mortgage
interest rates.

At December 31, 1998
-------------------------------------------------------------------------------------------------
Loans Serviced Loans Serviced Total Loans
for the Bank for Third Parties Serviced
-------------------------------- ------------------------------ -----------------------
Number of Aggregate Number of Aggregate Number of Aggregate
Mortgage Interest Rate Loans Principal Balance Loans Principal Balance Loans Principal Balance
----- ----------------- ----- ----------------- ----- ---------------
(Dollars in Thousands) (Dollars in Thousands) (Dollars in Thousands)

Less than 7.00%............ 182 $ 19,476 5,756 $ 401,867 5,938 $ 421,343
7.00% - 7.49%.............. 3,077 260,333 18,223 969,935 21,300 1,230,268
7.50% - 7.99%.............. 4,219 310,808 22,091 1,205,890 26,310 1,516,698
8.00% - 8.49%.............. 1,183 89,362 13,455 667,753 14,638 757,115
8.50% - 8.99%.............. 777 45,544 13,319 484,507 14,096 530,051
9.00% - 9.49%.............. 293 12,798 4,578 131,498 4,871 144,296
9.50% - 9.99%.............. 169 6,572 3,781 95,970 3,950 102,542
10.00% - 10.49%............ 116 3,151 1,520 41,498 1,636 44,649
10.50% - 10.99%............ 141 3,442 929 24,198 1,070 27,640
11.00% or more............. 128 3,137 2,009 50,059 2,137 53,196
------ --------- ------- ----------- ------ -----------
10,285 $ 754,623 85,661 $ 4,073,175 95,946 $4,827,798
====== ========= ====== =========== ====== ==========

The amount of principal prepayments on mortgage loans serviced by R&G
Mortgage was $96.5 million, $87.2 million and $72.5 million for the years ended
December 31, 1998, 1997 and 1996, respectively. This represented approximately
2.6%, 2.9% and 2.8% of the aggregate principal amount of mortgage loans serviced
during such periods. The primary means used by R&G Mortgage to reduce the
sensitivity of its servicing fee income to changes in interest and prepayment
rates is the development of a strong internal origination capability that has
allowed R&G Mortgage to continue to increase the size of its servicing portfolio
even in times of high prepayments.

Servicing agreements relating to the mortgage-backed securities
programs of FNMA, FHLMC and GNMA, and certain other investors, require R&G
Mortgage to advance funds to make scheduled payments of principal, interest,
taxes and insurance, if such payments have not been received from the borrowers.
During the years ended December 31, 1998, 1997 and 1996, the monthly average
amount of funds advanced by R&G Mortgage under such servicing agreements was
$2.1 million, $1.4 million and $1.3 million, respectively. Funds advanced by R&G
Mortgage pursuant to these arrangements are generally recovered by R&G Mortgage
within 30 days.

In connection with its loan servicing activities, R&G Mortgage holds
escrow funds for the payment of real estate taxes and insurance premiums with
respect to the mortgage loans it services. At December 31, 1998, R&G Mortgage
held $116.6 million of such escrow funds, $109.9 million of which were deposited
in the Bank and $6.7 million of which were deposited with other financial
institutions. The escrow funds deposited with the Bank lower its overall cost of
funds and is a means of compensating it for processing mortgages checks received
by R&G Mortgage, while the escrow funds deposited with other financial
institutions serve as part of R&G Mortgage's compensating

14

balances which permit R&G Mortgage to borrow funds from such institutions
(pursuant to certain warehouse lines of credit) at rates that are lower than
would otherwise apply. See "- Sources of Funds - Borrowings."

The degree of risk associated with a mortgage loan servicing portfolio
is largely dependent on the extent to which the servicing portfolio is
non-recourse or recourse. In non-recourse servicing, the principal credit risk
to the servicer is the cost of temporary advances of funds. In recourse
servicing, the servicer agrees to share credit risk with the owner of the
mortgage loans such as FNMA or FHLMC or with an insurer or guarantor. Losses on
recourse servicing occur primarily when foreclosure sale proceeds of the
property underlying a defaulted mortgage are less than the then outstanding
principal balance and accrued interest of such mortgage loan and the cost of
holding and disposing of such underlying property. At December 31, 1998, R&G
Mortgage was servicing mortgage loans with an aggregate principal amount of
$507.4 million on a recourse basis. During the last three years, losses incurred
due to recourse servicing have not been significant.

R&G Mortgage's general strategy is to retain the servicing rights
related to the mortgage loans it originates and purchases. Nevertheless, there
is a market in Puerto Rico for servicing rights, which are generally valued in
relation to the present value of the expected income stream generated by the
servicing rights. Among the factors which influence the value of a servicing
portfolio are servicing fee rates, loan balances, loan types, loan interest
rates, the expected average life of the underlying loans (which may be reduced
through foreclosure or prepayment), the value of escrow balances, delinquency
and foreclosure experience, servicing costs, servicing termination rights of
permanent investors and any recourse provisions. Although R&G Mortgage may on
occasion consider future sales of a portion of its servicing portfolio,
management does not anticipate sales of servicing rights to become a significant
part of its operations.

The market value of, and earnings from, R&G Mortgage's mortgage loan
servicing portfolio may be adversely affected if mortgage interest rates decline
and mortgage loan prepayments increase. In a period of declining interest rates
and accelerated prepayments, income generated from R&G Mortgage's mortgage loan
servicing portfolio may also decline. Conversely, as mortgage interest rates
increase, the market value of R&G Mortgage's mortgage loan servicing portfolio
may be positively affected. See Note 1 to R&G Financial's Notes to Consolidated
Financial Statements for a discussion of SFAS No. 125 and the treatment of
servicing rights, incorporated by reference into Item 8 hereof.

15

Mortgage Loan Delinquencies and Foreclosures. The following table shows
the delinquency statistics for R&G Mortgage's servicing portfolio at the dates
indicated.

Year Ended December 31,
-------------------------------------------------------------------------------------
1998 1997 1996
-------------------------- -------------------------- --------------------------
Percent of Percent of Percent of
Number of Servicing Number of Servicing Number of Servicing
Loans Portfolio Loans Portfolio Loans Portfolio
----- --------- ----- --------- ----- ---------

Loans delinquent for:
30-59 days.......................... 6,276 6.54% 2,531 4.48% 2,775 5.44%
60-89 days.......................... 1,545 1.61 572 1.01 533 1.05
90 days or more..................... 1,696 1.77 778 1.38 646 1.27
----- ---- ----- ---- ----- ----
Total delinquencies(1)............ 9,517 9.92% 3,881 6.87% 3,954 7.76%
===== ---- ===== ==== ===== ====
Foreclosures pending(2)............... 993 1.03% 681 1.21% 693 1.36%
====== ---- ===== ==== ===== ====

- -----------------

(1) Includes at December 31, 1998, an aggregate of $66.4 million of
delinquent loans serviced for the Bank, or 1.38% of the total servicing
portfolio and $9.7 million of delinquent loans held in R&G Mortgage's
own portfolio.

(2) At December 31, 1998, the Bank had foreclosures pending on $11.4
million of loans being serviced by R&G Mortgage, which constituted
0.24% of the servicing portfolio. R&G Mortgage had foreclosures pending
on $2.7 million of loans it is servicing for its own portfolio at
December 31, 1998.

While delinquency rates in Puerto Rico are generally higher than in the
mainland United States, these rates are not necessarily indicative of future
foreclosure rates or losses on foreclosures. Real estate owned as a result of
foreclosures ("REO") related to R&G Mortgage's mortgage banking business arise
primarily through foreclosure on mortgage loans repurchased from investors
either because of breach of representations or warranties or pursuant to
recourse arrangements. As of December 31, 1998, 1997 and 1996, R&G Mortgage held
REO with a book value of approximately $128,000, $165,000 and $0, respectively.
Sales of REO resulted in gains to R&G Mortgage of $26,000 and $145,000 for the
years ended December 31, 1998 and 1997, respectively, and a net loss to R&G
Mortgage of $57,000 for the year ended December 31, 1996. There is no liquid
secondary market for the sale of R&G Mortgage's REO.

With respect to mortgage loans securitized through GNMA programs, R&G
Mortgage is fully insured as to principal by the FHA and VA against foreclosure
loans. As a result of these programs, foreclosure on these loans had generated
no loss of principal as of December 31, 1998. R&G Mortgage, however, incurs
about $3,000 per loan foreclosed in interest and legal charges during the time
between payment by R&G Mortgage and FHA or VA reimbursement. For the years ended
December 31, 1998, 1997 and 1996, total expenses related to FHA or VA loans
foreclosed amounted to $286,000, $189,000 and $323,000, respectively. Although
FNMA and FHLMC are

16

obligated to reimburse R&G Mortgage for principal and interest payments advanced
by R&G Mortgage as a servicer (except for recourse servicing), the funding of
delinquent payments or the exercise of foreclosure rights involves costs to R&G
Mortgage which may not be recouped. Such nonrecouped expenses have to date been
immaterial.

Any significant adverse economic developments in Puerto Rico could
result in an increase in defaults or delinquencies on mortgage loans that are
serviced by R&G Mortgage or held by R&G Mortgage pending sale in the secondary
mortgage market, thereby reducing the resale value of such mortgage loans.

Puerto Rico Secondary Mortgage Market and Favorable Tax Treatment. In
general, the Puerto Rico market for mortgage-backed securities is an extension
of the United States market with respect to pricing, rating of the investment
instruments, and other matters. However, United States and Puerto Rico tax laws
provide an economic incentive for Puerto Rico residents and Section 936
Corporations (defined below) to invest in certain mortgage loans and
mortgage-backed securities originated in Puerto Rico, including FHA and VA loans
and GNMA certificates, thereby tending to increase the secondary market demand
for, and the resale value of, such mortgage loans and mortgage-backed
securities. These tax advantages also favorably affect R&G Financial's net
interest income by helping create a pool of lower-cost funds that R&G Financial
can access through financial intermediaries such as banks and broker-dealers and
use to fund mortgage loans and mortgage-backed securities pending sale.

Under various Puerto Rico industrial incentives acts (the "Industrial
Incentives Acts"), certain investment income earned by qualified manufacturing
entities or service enterprises that have grants of tax exemption issued
thereunder ("Exempt Companies"), is exempt from Puerto Rico income tax.
Investment income that qualifies for this exemption includes interest on certain
mortgage loans and interest on funds of Exempt Companies ("936 Funds") placed
with eligible institutions in Puerto Rico (primarily savings and loan
associations, commercial banks and registered broker-dealers), provided such
funds are invested in certain "eligible activities" in accordance with
regulations promulgated by the OCFI, including certain mortgage loans and
mortgage-backed securities. The Industrial Incentives Acts encourage investment
in Puerto Rico by allowing Exempt Companies to reduce the otherwise applicable
dividend withholding tax of 10% (the "Tollgate Tax") on distributions to
shareholders by investing their exempt industrial development income ("IDI") in
Puerto Rico for fixed periods of time, generally from five years to ten years.

A new Industrial Incentive Act was approved by the Government of Puerto
Rico effective January 1, 1998: the Tax Incentive Act of 1998 (the "1998 TIA").
Grants issued under the 1998 TIA will provide for a flat rate of tax on the
operating income of Exempt Companies. The same types of investment income that
qualified for exemption under the Industrial Incentive Acts will continue to be
exempt under the 1998 TIA. Because grantees of tax exemption under the 1998 TIA
will not be subject to Tollgate Taxes, they will not have an incentive to invest
their IDI in qualifying investments in Puerto Rico, as grantees under the
Industrial Incentive Acts presently do in order to reduce their Tollgate Taxes.
It should be noted, however, that Exempt Companies currently operating pursuant
to grants issued under the Industrial Incentives Acts generally will not be
affected by the provisions of the 1998 TIA. Although such Exempt Companies may
renegotiate

17

their grants under the 1998 TIA, an amount of IDI equal to the IDI derived in
the taxable year preceding the change to the 1998 TIA (or, if greater, the
average annual IDI by taking the three years, out of the previous five years,
where the highest amount of IDI is derived) will continue to be subject to the
tax treatment, including Tollgate Taxes, provided in the Industrial Incentive
Act under which their grant was originally issued.

Most Exempt Companies are United States corporations which operate in
Puerto Rico under Section 936 of the Code. Corporations that meet certain
requirements and elect the benefits of Section 936 ("Section 936 Corporations")
are entitled to credit against their United States corporate income tax a
portion of such tax attributable to income derived from sources outside the
United States from the active conduct of a trade or business within Puerto Rico
or from the sale or exchange of substantially all assets used in the active
conduct of such trade or business ("Active Business Income").

The tax credit available under Section 936 (the "936 Credit") is
limited by the amount of credit allowed with respect to Active Business Income
under one of two alternatives to be selected at the option of the taxpayer.
Under the first alternative, the limit is equal to a fixed percentage of the
amount of tax credit allowable under prior law (the "Fixed Percentage Method").
This fixed percentage commenced at 60% for taxable years beginning in 1994 and
was reduced by 5% per year until 1998. For taxable years beginning on or after
January 1, 1998, such percentage is 40%. Under the second alternative (the
"Economic Activity Method"), which is based on the amount of economic activity
conducted by the taxpayer in Puerto Rico, the credit may not exceed the sum of
the following three components: (i) 60% of the qualified possession wages and
the allocable fringe benefits paid by the taxpayer, (ii) applicable percentages
of certain depreciation deductions claimed for regular tax purposes by the
taxpayer with respect to qualified tangible property and (iii) a portion of the
possession income taxes paid by the taxpayer except where the taxpayer uses the
profit-split method for determining its income.

The SBJPA repealed Section 936, but provided grandfather rules under
which a Section 936 Corporation that had elected the benefits of the Section 936
Credit and which was engaged in active trade or business within Puerto Rico on
October 13, 1995 (an "Existing Claimant") would be eligible to claim the 936
Credit attributable to Active Business Income during a transition period. A
corporation may also qualify as an Existing Claimant if it acquires all the
assets of a trade or business of a corporation that meets the active trade or
business requirement and the election requirement is satisfied.

The amount and computation method of the 936 Credit during the
transition period depends upon whether a Section 936 Corporation is using the
Economic Activity Method or the Fixed Percentage Method. A Section 936
Corporation that is an Existing Claimant and uses the Economic Activity Method
may continue to determine its 936 Credit attributable to Active Business Income
as under present law for taxable years beginning after December 31, 1995 and
before January 1, 2002. For taxable years beginning after December 31, 2001 and
before January 1, 2006, a Section 936 Corporation's Active Business Income
eligible for the 936 Credit is subject to a cap, described below. A Section 936
Corporation that is an Existing Claimant and is using the Fixed Percentage
Method may continue to determine its 936 Credit attributable to Active Business
Income under the existing rules for taxable years beginning after December 31,
1995 and before January 1, 1998. For

18

taxable years beginning after December 31, 1997 and before January 1, 2006, the
Section 936 Corporation's Active Business Income that is eligible for the 936
Credit is also subject to a cap. For taxable years beginning after December 31,
2005, the 936 Credit attributable to Active Business Income is terminated. Under
the cap rules for both the Economic Activity Method and the Fixed Percentage
Method, the income eligible for the 936 Credit is limited to the "adjusted base
period income" of the Section 936 Corporation. Computation of the "adjusted base
period income" involves three steps: (i) the Section 936 Corporation base period
years are determined (which are, generally, three of the Section 936
Corporation's five most recent years ending before October 14, 1995, determined
by disregarding the taxable years in which the Section 936 Corporation's Active
Business Income was the highest and the lowest); (ii) Active Business Income of
the Section 936 Corporation in each of the base period years is adjusted for
inflation; and (iii) the income in the base period years, as adjusted for
inflation, is averaged.

In response to certain proposals put forth by the Government of Puerto
Rico (the "Puerto Rico Government Proposals"), the SBJPA added Section 30A to
the Code ("Section 30A"). The Puerto Rico Government Proposals included a
ten-year grandfather period for the existing 936 Credit and the creation of a
new tax credit for qualifying corporations that invest in "economically
developing jurisdictions." Section 30A incorporates in part the Puerto Rico
Government Proposals and provides for an income tax credit to domestic
corporations operating in Puerto Rico. This new credit is determined under
guidelines similar to the Economic Activity Method.

The modification of Section 936 as enacted into law could have an
adverse effect on the general economic condition of Puerto Rico, R&G Financial's
service area, by reducing incentives for investment in Puerto Rico. Any such
adverse effect on the general economy of Puerto Rico could lead to an increase
in mortgage delinquencies and a reduction in the level of residential
construction and demand for mortgage loans. The elimination of the credit for
QPSII by the SBJPA could also lead to a decrease in the amount of 936 Funds
invested in Puerto Rico financial assets by 936 Corporations, thereby increasing
funding costs and decreasing liquidity in the Puerto Rico financial market. The
magnitude of the impact of any such changes on R&G Financial's profitability or
financial condition cannot be determined at this time. R&G Financial has taken
steps to attempt to reduce the impact of any such adverse changes by
diversifying its sources of funding and identifying additional investors for its
mortgage products. During recent periods, the disparity between the cost of 936
Funds and other sources of funding such as the Eurodollar market has decreased,
thereby reducing the adverse effect that the loss of such funding could have on
the profitability of R&G Financial.

In the absence of the 936 Credit and as a means of continuing to defer
U.S. income taxation, subsidiaries of multi-national companies operating under
Section 936 of the Code may transfer their operations to a corporation organized
under Puerto Rico law, or under the laws of foreign countries. Generally, a
non-U.S. corporation is not subject to United States income taxes to the extent
it does not derive U.S. source income and may be entitled to defer U.S. income
taxation until dividends are repatriated to the United States. Under Section 954
of the Code, foreign subsidiaries of multi-national companies whose parent
corporation is incorporated in the U.S. are not subject to federal income tax on
profits on products which they manufacture. Though a Puerto Rico corporation, or
a foreign corporation operating in Puerto Rico, is subject to local Puerto Rico
taxes, the benefits under the Industrial Incentives Acts and the 1998 TIA for
companies that manufacture

19

or provide services in Puerto Rico, would continue to be available. In addition,
under Section 901 and 902 of the Code and subject to certain limitations and
exceptions, U.S. shareholders of a Puerto Rico or other non-U.S. corporation
would be allowed to claim a foreign tax credit with respect to income tax paid
in Puerto Rico. United States shareholders are also not required to recognize
income attributable to manufacturing operations of a Puerto Rico or other
non-U.S. corporation as a general rule under Subpart F of the Code. However,
under Section 367 of the Code, multi-national corporations may be required to
recognize income upon the transfer of operations to a Puerto Rico or other
non-U.S. corporation, depending upon the nature and value of the property
transferred. Several multi-national 936 Corporations have taken such steps since
the legislation with respect to Section 936 was first introduced in the U.S.
Congress.

In July 1997, the Government of Puerto Rico amended the tax law that
provided Puerto Rico income tax exemption on interest income generated by FHA
and VA loans secured by real estate property located in Puerto Rico and
mortgage-backed securities secured by such mortgage loans ("GNMAs"). Under the
amended law, FHA and VA loans closed prior to August 1, 1997 will continue to be
exempt. The interest income on FHA and VA mortgage loans originated on or after
August 1, 1997 for purposes other than to finance the acquisition of new
housing, and GNMAs secured by such loans, are no longer exempt, and are taxable
at a preferential 17% tax rate to individuals and certain taxpayers other than
corporations. FHA and VA loans to finance the purchase of new housing, and GNMAs
secured by such loans, continue to be exempt. Individuals who are bona fide
residents of Puerto Rico are also not subject to United States federal income
tax on income from Puerto Rico sources, including interest income derived from
mortgage loans originated in Puerto Rico whose mortgagors are residents of
Puerto Rico. The exemption for interest earned on qualifying FHA loans, VA loans
and GNMA certificates tends to increase the demand for these products and the
price R&G Financial may obtain upon their sale. There can be no assurance that
the tax exempt treatment of interest on FHA and VA loans will not be further
reviewed or modified in the future.

Any change in Puerto Rico's political status could result in the
elimination or modification of these tax benefits described above.

Lending Activities of the Bank

General. At December 31, 1998, R&G Financial's loans receivable, net
totaled $1.1 billion, which represented 52.5% of R&G Financial's $2.0 billion of
total assets. At December 31, 1998, $1.1 billion or 99.9% of R&G Financial's
loans receivable, net were held by the Bank. The principal category of loans in
R&G Financial's portfolio are conventional loans which are secured by first
liens on single-family residences. Conventional residential real estate loans
are loans which are neither insured by the FHA nor partially guaranteed by the
VA. At December 31, 1998, $734.8 million or 99.9% of R&G Financial's first
mortgage single-family residential loans consisted of conventional loans. The
other principal categories of loans in R&G Financial's loans receivable, net
portfolio are second mortgage residential real estate loans, construction loans,
commercial real estate loans, commercial business loans and consumer loans.

20

Loan Portfolio Composition. The following table sets forth the
composition of R&G Financial's loan portfolio by type of loan at the dates
indicated. Except as noted in the footnotes to the table, all of the loans are
held in the Bank's loan portfolio.

December 31,
---------------------------------------------------------------------------
1998 1997 1996
---------------------- ---------------------- -----------------------

Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in Thousands)

Residential real estate - first
mortgage(1)............................
Residential real estate - second $ 735,795 66.87% $476,729 61.25% $370,876 60.75%
mortgage...............................
Residential construction................. 18,634 1.69 17,831 2.29 15,757 2.58
Commercial construction and land 23,280 2.12 13,367 1.72 5,351 .88
acquisition............................
Commercial real estate................... 15,353 1.39 5,785 .74 5,700 .93
Commercial business...................... 117,151 10.65 81,722 10.50 69,514 11.39
Consumer loans: 46,532 4.23 39,128 5.03 31,063 5.09
Loans secured by deposits..............
Real estate secured consumer loans..... 17,225 1.56 12,472 1.60 9,409 1.54
Unsecured consumer loans............... 85,055 7.73 81,252 10.44 42,893 7.03
41,381 3.76 50,103 6.43 59,864 9.81
--------- ------ ------- ------ ------- ------
Total loans receivable............... 1,100,406 100.00% 778,389 100.00% 610,427 100.00%
--------- ------ ------- ------ ------- ------

Less:
Allowance for loan losses.............. (8,055) (6,772) (3,332)
Loans in process....................... (18,170) (6,218) (2,430)
Deferred loan fees..................... (166) 172 41
Unearned interest...................... (347) (512) (955)
---------- -------- --------
(26,738) (13,330) (6,676)
---------- -------- --------

Loans receivable, net(2)............... $1,073,668 $765,059 $603,751
========== ======== ========

December 31,
-------------------------------------------------
1995 1994
---------------------- ----------------------
Amount Percent Amount Percent
------ ------- ------ -------

Residential real estate - first
mortgage(1)............................ $282,498 58.23% $194,707 62.14%
Residential real estate - second
mortgage............................... 14,372 2.96 13,298 4.24
Residential construction................. 15,046 3.10 12,039 3.84
Commercial construction and land
acquisition............................ 5,523 1.14 1,062 0.34
Commercial real estate................... 61,862 12.74 43,029 13.73
Commercial business...................... 27,816 5.74 14,102 4.51
Consumer loans:
Loans secured by deposits.............. 7,497 1.55 5,829 1.86
Real estate secured consumer loans..... 33,381 6.88 29,279* 9.34*
Unsecured consumer loans............... 37,180 7.66 * *
------- ------ -------- --------
Total loans receivable............... 485,175 100.00% 313,345 100.00%
------- ------ -------- --------
Less:
Allowance for loan losses.............. (3,510) (2,887)
Loans in process....................... (5,727) (5,945)
Deferred loan fees..................... (266) (424)
Unearned interest...................... (1,831) (2,475)
------- --------
(11,334) (11,731)
------- --------
Loans receivable, net(2)............... $473,841 $301,614
======= ========

(1) Includes $33.9 million and $49.7 million of residential real estate
- - first mortgage loans which are held by R&G Mortgage at December 31, 1997 and
1996, respectively.

(2) Does not include mortgage loans held for sale of $117.1 million, $46.9
million, $54.5 million, $21.3 million and $22.0 million at December 31,
1998, 1997, 1996, 1995 and 1994, respectively.

* R&G Financial is unable to distinguish these two sub-categories of consumer
loans during the year ended December 31, 1994.

21

Contractual Principal Repayments and Interest Rates. The following
table sets forth certain information at December 31, 1998 regarding the dollar
amount of loans maturing in R&G Financial's total loan portfolio based on the
contractual terms to maturity. Loans having no stated schedule of repayments and
no stated maturity are reported as due in one year or less.

Due 1-5 years Due 5 or more
after years after
Due 1 year December 31, December 31,
or less 1998 1998 Total(1)
---------- ---------- ---------- ----------
(In Thousands)

Residential real estate $ 197 $ 4,711 $ 749,521 $ 754,429
Residential construction 23,269 11 -- 23,280
Commercial real estate(2) 32,671 60,581 39,252 132,504
Commercial business 17,763 23,327 5,442 46,532
Consumer:
Loans on savings 12,013 4,915 297 17,225
Real estate secured consumer loans 2,309 6,904 75,842 85,055
Unsecured consumer loans 12,318 25,278 3,785 41,381
---------- ---------- ---------- ----------
Total(3) $ 100,540 $ 125,727 $ 874,139 $1,100,406
========== ========== ========== ==========

(1) Amounts have not been reduced for the allowance for loan losses, loans in
process, deferred loan fees or unearned interest.

(2) Includes $15.4 million of commercial construction and land acquisition
loans. (3) Does not include mortgage loans held for sale.

22

The following table sets forth the dollar amount of total loans due
after one year from December 31, 1998, as shown in the preceding table, which
have fixed interest rates or which have floating or adjustable interest rates.

Floating or
Fixed rate adjustable-rate Total
---------- --------------- -----
(In Thousands)

Residential real estate..................... $754,429 $ -- $754,429
Construction................................ 23,280 -- 23,280
Commercial real estate(1)................... 49,119 83,385 132,504
Commercial business......................... 39,091 7,441 46,532
Consumer:
Loans on savings.......................... 17,225 -- 17,225
Real estate secured consumer loans........ 85,055 -- 85,055
Unsecured consumer loans.................. 38,964 2,417 41,381
---------- ------- -----------
Total.................................... $1,007,163 $93,243 $1,100,406
========== ======= = =========

- ---------------

(1) Includes $15.4 million of commercial construction and land acquisition
loans.

Scheduled contractual amortization of loans does not reflect the
expected term of R&G Financial's loan portfolio. The average life of loans is
substantially less than their contractual terms because of prepayments and, with
respect to conventional loans originated for the Bank after February 1994,
due-on-sales clauses, which give R&G Financial the right to declare a
conventional loan immediately due and payable in the event, among other things,
that the borrower sells the real property subject to the mortgage and the loan
is not repaid. The average life of mortgage loans tends to increase when current
mortgage loan rates are higher than rates on existing mortgage loans and,
conversely, decrease when rates on existing mortgage loans are lower than
current mortgage loan rates (due to refinancing of adjustable-rate and
fixed-rate loans at lower rates). Under the latter circumstance, the weighted
average yield on loans decreases as higher-yielding loans are repaid or
refinanced at lower rates.

23

Origination, Purchase and Sales of Loans. The following table sets
forth loan originations, purchases and sales by the Bank for the periods
indicated.

Year Ended December 31,
-------------------------------------------------
1998 1997 1996
--------- -------- --------

(Dollars in Thousands)
Loan originations:
Loans originated by R&G Mortgage:
Residential mortgages................................ $ 385,416 $221,451 $187,845
Commercial mortgages................................. 265 555 --
Residential construction............................. 16,766 11,482 2,227
Consumer loans....................................... 48,155 52,287 21,208
Total loans originated by R&G Mortgage............. 450,602 285,775 211,280
Other loans originated:
Commercial real estate............................... 54,426 37,129 36,140
Commercial business.................................. 26,191 15,393 33,318
Construction and development......................... 11,365 -- --
Consumer loans:
Loans on deposit..................................... 27,172 19,711 13,988
Real estate secured consumer loans................... -- -- 80
Unsecured consumer loans............................. 9,970 16,742 39,312
Total other loans originated....................... 129,124 88,975 122,838
Loans purchased(1)................................... 175,735 60,646 8,047
Total loans originated and purchased............... 755,461 435,396 342,165
Loans sold........................................... (282,005) (118,234) (49,726)
Loan principal reductions............................ (142,560) (134,166) (114,792)
Net increase before other items, net................. 330,896 182,996 177,647
Loans securitized and transferred to
mortgage-backed securities......................... -- -- (43,673)
Net increase in loan portfolio....................... $ 330,896 $182,996 $133,974

- --------------

(1) Comprised of conventional, commercial real estate and secured consumer
loans purchased from other financial institutions aggregating $164.4
million, $8.7 million and $2.6 million, respectively, in the year ended
December 31, 1998, and conventional, commercial real estate and secured
consumer loans purchased from other financial institutions aggregating
$54.0 million, $4.6 million and $2.0 million, respectively, in the year
ended December 31, 1997, and conventional loans of $8.1 million in the
year ended December 31, 1996.

R&G Financial, through the Bank, originates for both investment and
sale mortgage loans secured by residential real estate (secured by both first
and second mortgage liens) as well as construction loans (for residential real
estate), commercial real estate loans, commercial business loans and consumer
loans.

24

Pursuant to the Master Production Agreement, R&G Mortgage will assist
the Bank in meeting its loan production targets and goals by, among other
things, (i) advertising, promoting and marketing to the general public; (ii)
interviewing prospective borrowers and conducting the initial processing of the
requisite loan applications, consistent with the Bank's underwriting guidelines;
and (iii) providing personnel and facilities with respect to the execution of
loan agreements approved by the Bank. R&G Mortgage performs the foregoing loan
origination services on behalf of the Bank with respect to residential mortgage
loans, some commercial real estate loans and construction loans. R&G Mortgage
receives from the Bank 75% of the applicable loan origination fee with respect
to loans originated by R&G Mortgage on behalf of the Bank pursuant to the terms
of the Master Production Agreement. During the years ended December 31, 1998,
1997 and 1996, R&G Mortgage received $7.5 million, $5.2 million and $4.5
million, respectively, of loan origination fees with respect to loans originated
by R&G Mortgage on behalf of the Bank pursuant to the terms of the Master
Production Agreement. These fees are eliminated in consolidation in R&G
Financial's Consolidated Financial Statements. See also "- General - Affiliated
Transactions" and "Regulation - R&G Financial - Limitations on Transactions with
Affiliates."

The Bank originates commercial real estate, commercial business and
consumer loans. Applications for commercial real estate, commercial business and
unsecured consumer loans are taken at all of the Bank's branch offices and may
be approved by various lending officers of the Bank within designated limits,
which are established and modified from time to time to reflect an individual's
expertise and experience. All loans in excess of an individual's designated
limits are referred to an officer with the requisite authority. In addition, the
Management Credit Committee is authorized to approve all loans not exceeding
$2.5 million, and the Executive Committee of the Board of Directors is
authorized to approve all loans exceeding $2.5 million. All loans originated or
purchased by the Bank must be approved by one of the three committees set forth
above. Management of the Bank believes that its relatively centralized approach
to approving loan applications ensures strict adherence to the Bank's
underwriting guidelines while still allowing the Bank to approve loan
applications on a timely basis.

The Bank also purchases conventional loans secured by first liens on
single-family residential real estate from unrelated financial institutions.
Such loan purchases are underwritten by the Bank pursuant to the same guidelines
as direct loan originations. Loans purchased by the Bank are from time to time
securitized by R&G Mortgage and sold by the Bank. During the years ended
December 31, 1998, 1997 and 1996, the Bank purchased $175.7 million, $60.6
million and $8.1 million of loans, respectively.

During the years ended December 31, 1998, 1997 and 1996, the Bank sold
$282.0 million, $118.2 million and $49.7 million of loans. These loans, which
were primarily nonconforming loans at the time of origination, were generally
sold in packages in privately negotiated transactions with FNMA and FHLMC.

Pursuant to the Master Purchase Agreement, the Bank sells to R&G
Mortgage the servicing rights to all first and second mortgage loans secured by
residential properties which are or will

25

become part of the Bank's loan portfolio once the Bank has a commitment to sell
the loans. The Master Purchase Agreement further provides that R&G Mortgage will
service all other loans held in the Bank's portfolio (including single-family
residential loans retained by the Bank, commercial real estate, commercial
business and consumer loans (although R&G Mortgage does not actually acquire
such servicing rights)). In addition, pursuant to the Master Purchase Agreement,
the Bank processes payments on all loans serviced by R&G Mortgage on behalf of
the Bank. Finally, under the Master Purchase Agreement, R&G Mortgage renders
securitization services with respect to the pooling of some of the Bank's
mortgage loans into mortgage-backed securities. See "- Mortgage Banking
Activities."

At December 31,1998, R&G Financial's five largest loans-to-one borrower
and their related entities amounted to $9.4 million, $4.8 million, $3.9 million,
$3.0 million and $2.1 million. The largest loan concentration is a loan with a
maximum amount outstanding of $5.0 million to a developer of 188 low income
residential units in Caguas, with a balance of $3.6 million as of December 31,
1998. The second largest loan concentration consists of a commercial loan
participation with a commercial bank for the financing of an income producing
office building in the San Juan metropolitan area. The third largest loan
concentration is a commercial loan for the purchase of an office building for
the headquarters of a local contractor. The fourth largest loan concentration
represents a refinancing of various income producing properties for fast food
businesses. The fifth largest loan is a loan to a developer of a new shopping
center in Carolina which is in the final stages of completion.

Single-Family Residential Real Estate Loans. The Bank has historically
concentrated its lending activities on the origination of loans secured by first
mortgage liens on existing single-family residences. At December 31, 1998,
$735.8 million or 66.9% of R&G Financial's total loans held for investment
consisted of such loans, $734.8 million or 99.9% of which consisted of
conventional loans. The Bank's first mortgage single-family residential loans
consist exclusively of fixed-rate loans with terms of between 15 and 30 years.
As evidenced by this statistic, the Puerto Rico residential mortgage market has
not been receptive to long-term adjustable rate mortgage loans.

The Bank's first mortgage single-family residential loans typically do
not exceed 80% of the appraised value of the security property. Pursuant to
underwriting guidelines adopted by the Board of Directors, the Bank can lend up
to 95% of the appraised value of the property securing a first mortgage
single-family residential loan provided the Bank obtains private mortgage
insurance with respect to the top 25% of the loan.

The Bank also originates loans secured by second mortgages on
single-family residential properties. At December 31, 1998, $18.6 million or
1.7% of R&G Financial's total loans held for investment consisted of second
mortgage loans on single-family residential properties. The Bank offers such
second mortgage loans in amounts up to $125,000 for a term not to exceed 15
years. The loan-to-value ratio of second mortgage loans generally is limited to
75% of the property's appraised value (including the first mortgage).

26

Construction Loans. In recent years, the Bank has been active in
originating loans to construct single-family residences. These construction
lending activities generally are conducted throughout Puerto Rico, although
loans are concentrated in areas contiguous to Bank branches. At December 31,
1998, residential construction loans amounted to $23.3 million or 2.12% of R&G
Financial's total loans held for investment, while commercial construction and
land acquisition loans amounted to $15.4 million or 1.39% of total loans held
for investment.

The Bank primarily offers construction loans to individual borrowers
for the purpose of constructing single-family residences. Substantially all of
the Bank's construction lending to individuals is originated on a
construction/permanent mortgage loan basis. Construction/permanent loans are
made to individuals who hold a contract with a general contractor acceptable to
the Bank to construct their personal residence. The construction phase of the
loan provides for monthly payments on an interest only basis at a designated
fixed rate for the term of the construction period, which generally does not
exceed nine months. Thereafter, the permanent loan is made at then market rates,
provided that such rate shall not be more than 2% greater than the interim
construction rate. R&G Mortgage's construction loan department approves the
proposed contractors and administers the loan during the construction phase. The
Bank's construction/permanent loan program has been successful due to its
ability to offer borrowers a single closing and, consequently, reduced costs. At
December 31, 1998, the Bank's construction loan portfolio included 242
construction/permanent loans with an aggregate principal balance of $23.3
million.

The Bank also originates construction loans to developers to develop
single family residential properties. During 1998, the Company organized a
Construction Loan Department to work primarily with real estate developers. At
December 31, 1998, the Bank had two residential construction loans outstanding
to develop single-family residences with an aggregate principal balance of $11.1
million. Commitments for future funding approximate $7.4 million. The loans are
performing in accordance with their terms at December 31, 1998.

In addition to the foregoing, at December 31, 1998, the Bank had eight
land acquisition loans with outstanding balances ranging from $190,000 to
$1,236,000, and an aggregate balance of $4.2 million, which were made in
connection with projects to construct single-family residences. The Bank and the
financial institution which made the interim construction loan have entered into
an agreement pursuant to which the Bank is to be paid a percentage of the
proceeds from each home as it is released upon construction and sale. The Bank
expects to make the permanent construction loan on some of these projects. The
Bank does not expect to be active in this business.

The Bank intends to continue to increase its involvement in
single-family residential construction lending. Such loans afford the Bank the
opportunity to increase the interest rate sensitivity of its loan portfolio.
Construction lending is generally considered to involve a higher level of risk
as compared to permanent single-family residential lending, due to the
concentration of principal in a limited number of loans and borrowers and the
effects of general economic conditions on real estate developers and managers.
Moreover, a construction loan can involve additional risks because of the
inherent difficulty in estimating both a property's value at completion

27

of the project and the estimated costs (including interest) of the project. The
nature of these loans is such that they are generally more difficult to evaluate
and monitor. The Bank has taken steps to minimize the foregoing risks by, among
other things, limiting its construction lending primarily to residential
properties. In addition, the Bank has adopted underwriting guidelines which
impose stringent loan-to-value (80% with respect to single-family residential
real estate), debt service and other requirements for loans which are believed
to involve higher elements of credit risk and by working with builders with whom
it has established relationships or knowledge thereof. At December 31, 1998,
$441,000 of the Bank's construction loans were classified as non-performing.

Commercial Real Estate Loans. The Bank also originates mortgage loans
secured by commercial real estate. At December 31, 1998, $117.2 million or
10.65% of R&G Financial's total loans held for investment consisted of such
loans. As of such date, the Bank's commercial real estate loan portfolio
consisted of approximately 942 loans with an average principal balance of
$124,000. At December 31, 1998, $6.5 million of R&G Financial's commercial real
estate loans were classified as nonperforming.

Commercial real estate loans originated by the Bank are primarily
secured by office buildings, retail stores, warehouses and general purpose
industrial space. Although terms vary, commercial real estate loans generally
are amortized over a period of 7-15 years and have maturity dates of five to
seven years. The Bank will originate these loans with interest rates which
adjust monthly in accordance with a designated prime rate plus a margin, which
generally is negotiated at the time of origination. Such loans will have a floor
but no ceiling on the amount by which the rate of interest may adjust over the
loan term. Loan-to-value ratios on the Bank's commercial real estate loans are
currently limited to 80% or lower. As part of the criteria for underwriting
commercial real estate loans, the Bank generally requires a debt coverage ratio
(the ratio of net cash from operations before payment of debt service to debt
service) of 1.30 or more. It is also the Bank's general policy to seek
additional protection to mitigate any weaknesses identified in the underwriting
process. Additional coverage may be provided through mortgage insurance,
secondary collateral and/or personal guarantees from the principals of the
borrower.

Commercial real estate lending entails different and significant risks
when compared to single-family residential lending because such loans typically
involve large loan balances to single borrowers and because the payment
experience on such loans is typically dependent on the successful operation of
the project or the borrower's business. These risks can also be significantly
affected by supply and demand conditions in the local market for apartments,
offices, warehouses or other commercial space. The Bank attempts to minimize its
risk exposure by limiting the extent of its commercial lending generally. In
addition, the Bank imposes stringent loan-to-value ratios, requires conservative
debt coverage ratios, and continually monitors the operation and physical
condition of the collateral. Although the Bank has begun to increase its
emphasis on commercial real estate lending, management does not currently
anticipate that its portfolio of commercial real estate loans will grow
significantly as a percentage of the total loan portfolio.

Commercial Business Loans. Beginning in 1991, the Bank began
emphasizing commercial business loans, including working capital lines of
credit, inventory and accounts receivable loans,

28

equipment financing (including equipment leases), term loans, insurance premiums
loans and loans guaranteed by the Small Business Administration. Depending on
the collateral pledged to secure the extension of credit, maximum loan to value
ratios are 75% or less, with exceptions permitted to a maximum of 80%. Loan
terms may vary from one to 15 years. The interest rates on such loans are
generally variable and are indexed to a designated prime rate, plus a margin.
The Bank also generally obtains personal guarantees from the principals of the
borrowers. At December 31, 1998, commercial business loans amounted to $46.5
million or 4.2% of total loans held for investment. Although the Bank has begun
to increase its emphasis on commercial business lending, management does not
currently anticipate that its portfolio of commercial business loans will grow
significantly as a percentage of the total loan portfolio.

Consumer Loans. The Bank has begun to emphasize the origination of real
estate secured consumer loans in order to provide a full range of financial
services to its customers and because such loans generally have shorter terms
and higher interest rates than other mortgage loans. At December 31, 1998,
$143.7 million or 13.1% of R&G Financial's total loans held for investment
consisted of consumer loans. This amount is comprised mostly of real estate
secured consumer loans (which are originated by R&G Mortgage), but the Bank also
offers loans secured by deposit accounts, credit card loans and other secured
and unsecured consumer loans. Most of the Bank's consumer loans are secured and
have been primarily obtained through newspaper advertising, although loans are
also obtained from existing and walk-in customers. Although the Bank has begun
to increase its emphasis on collateralized consumer lending, management does not
currently anticipate that its portfolio of consumer loans will grow
significantly as a percentage of the total loan portfolio.

The Bank currently offers loans secured by deposit accounts, which
amounted to $17.2 million at December 31, 1998. Such loans are originated
generally for up to 90% of the account balance, with a hold placed on the
account restricting the withdrawal of the account balance. The Bank offers real
estate secured loans in amounts up to 75% of the appraised value of the
property, including the amount of any existing prior liens. Real estate secured
consumer loans have a maximum term of 10 years, which may be extended within the
sole discretion of the Bank, and an interest rate which is set at a fixed rate
based on market conditions. The Bank secures the loan with a first or second
mortgage on the property and will originate the loan even if another institution
holds the first mortgage. At December 31, 1998, real estate secured consumer
loans totaled $85.1 million. In November 1995, the Bank began issuing credit
cards in its own name. At December 31, 1998, credit card receivables totaled
$3.6 million.

Consumer loans generally have shorter terms and higher interest rates
than mortgage loans but generally involve more credit risk than mortgage loans
because of the type and nature of the collateral and, in certain cases, the
absence of collateral. In addition, consumer lending collections are dependent
on the borrower's continuing financial stability, and thus are more likely to be
adversely effected by job loss, divorce, illness and personal bankruptcy. In
many cases, any repossessed collateral for a defaulted consumer loan will not
provide an adequate source of repayment of the outstanding loan balance because
of improper repair and maintenance of the underlying security. The remaining
deficiency may not warrant further substantial collection efforts

29

against the borrower. At December 31, 1998, $6.7 million of consumer loans were
classified as non-performing.

Asset Quality

General. When a borrower fails to make a required payment on a loan,
R&G Financial attempts to cure the deficiency by contacting the borrower and
seeking payment. Contacts are generally made between the 10th and 15th day after
a payment is due. In most cases, deficiencies are cured promptly. If a
delinquency extends beyond 15 days, the loan and payment history is reviewed and
efforts are made to collect the loan. While R&G Financial generally prefers to
work with borrowers to resolve such problems, when the account becomes 90 days
delinquent in the case of mortgage loans, R&G Financial does institute
foreclosure or other proceedings, as necessary, to minimize any potential loss.
In the case of consumer loans, the Bank refers the file for collection action
after 60 days.

Loans secured by real estate are placed on non-accrual status when, in
the judgment of management, the probability of collection of interest is deemed
to be insufficient to warrant further accrual. When such a loan is placed on
non-accrual status, previously accrued but unpaid interest is deducted from
interest income. As a matter of policy, the Bank does not accrue interest on
loans past due 90 days or more which are secured by real estate. The Bank
generally takes the same position in the case of consumer loans.

Real estate acquired by the Bank as a result of foreclosure or by
deed-in-lieu of foreclosure are classified as real estate owned until sold.
Pursuant to a statement of position ("SOP 92-3") issued by the American
Institute of Certified Public Accountants in April 1992, which provides guidance
on determining the balance sheet treatment of foreclosed assets in annual
financial statements for periods ending on or after December 15, 1992, there is
a rebuttable presumption that foreclosed assets are held for sale and such
assets are recommended to be carried at the lower of fair value minus estimated
costs to sell the property, or cost (generally the balance of the loan on the
property at the date of acquisition). After the date of acquisition, all costs
incurred in maintaining the property are expensed and costs incurred for the
improvement or development of such property are capitalized up to the extent of
their net realizable value. The Bank's accounting for its real estate owned
complies with the guidance set forth in SOP 92-3.

30

The following table sets forth the amounts and categories of R&G
Financial's non-performing assets at the dates indicated. R&G Financial did not
have any troubled debt restructurings at any of the periods presented. Except as
otherwise indicated in the footnotes to the table, the non-performing assets are
assets of the Bank.

December 31,
-----------------------------------------------------------------------
1998 1997 1996 1995 1994
-------- -------- ------- ------- -------
(Dollars in Thousands)

Non-accruing loans:
Residential real estate(1)............ $32,973 $21,619 $12,991 $7,921 $4,963
Residential construction.............. 441 368 363 -- --
Commercial real estate................ 6,463 6,000 3,141 1,903 789
Commercial business................... 3,224 765 823 -- --
Consumer unsecured.................... 1,358 1,217 686 40 --
Other................................. 67 117 726 -- --
-------- ------- ------- ------ ------
Total............................... 44,526(2) 30,086 18,730 9,864 5,752
-------- ------- ------- ------ ------
Accruing loans greater than 90 days
delinquent:
Residential real estate............... -- -- -- -- --
Residential construction.............. -- -- -- 611 --
Commercial real estate................ -- -- -- -- --
Commercial business................... 61 54 22 8 10
Consumer.............................. 357 172 134 94 --
-------- ------- ------- ------ ------
Total accruing loans greater than
90 days delinquent................ 418 226 156 713 10
-------- ------- ------- ------ ------
Total non-performing loans.......... 44,944 30,312 18,886 10,577 5,762
-------- ------- ------- ------ ------
Real estate owned, net of reserves(3)... 4,041 1,715 834 654 722
Other repossessed assets................ 237 85 31 -- -
-------- ------- ------- ------ ------
4,278 1,800 865 654 722
-------- ------- ------- ------ ------
Total non-performing assets......... $ 49,222 $32,112 $19,751 $11,231 $6,484
======== ======= ======= ======= ======
Total non-performing loans as a
percentage of total loans......... 4.11% 3.89% 3.09% 2.18% 1.84%
==== ==== ==== ==== ====
Total non-performing assets as a
percentage of total assets........ 2.41% 2.12% 1.90% 1.32% 1.04%
==== ==== ==== ==== ====

- -------------
(1) Includes residential real estate loans secured by both first and second
mortgages held by the Bank, except for $4.3 million and $2.8 million
held by R&G Mortgage at December 31, 1998 and 1997, respectively. Also
includes $5.3 million, $2.6 million, $1.1 million, $882,000 and
$918,000 consumer loans held by the Bank secured by first and second
mortgages on residential real estate at December 31, 1998, 1997, 1996,
1995 and 1994, respectively.

(2) As of December 31, 1998, comprised of 652 loans secured by residential
real estate, 67 loans

31

secured by commercial real estate, 7 construction loans, 109 commercial
business loans and 183 consumer loans.

(3) Includes properties held by R&G Mortgage of $128,000, $165,000 and
$43,000 as of December 31, 1998, 1997 and 1994, respectively. As of
December 31, 1998, the Bank had 30 residential properties and 10
commercial properties aggregating $3.9 million.

While the level of total non-performing assets of R&G Financial has
increased on an absolute basis during the periods presented, from $6.5 million
at December 31, 1994 to $49.2 million at December 31, 1998, R&G Financial's net
loans receivable portfolio has increased by 256% during this period, from $301.6
million at December 31, 1994 to $1.1 billion at December 31, 1998. Thus, total
non-performing assets as a percent of total assets increased from 1.04% at
December 31, 1994 to 2.41% at December 31, 1998.

Non-performing residential loans increased by $11.4 million or 52.5%
from December 31, 1997 to December 31, 1998. The average loan balance on
non-performing mortgage loans amounted to $51,000 at December 31, 1998. As of
such date, 270 loans with an aggregate balance of $14.0 million (including 111
consumer loans secured by real estate with an aggregate balance of $2.6 million)
were in the process of foreclosure. The total delinquency ratio on residential
mortgages, including loans past due less than 90 days, slightly increased from
4.93% in 1997 to 5.49% in 1998. The Company's loss experience on such portfolio
has been minimal over the last several years.

Non-performing commercial real estate loans increased by $463,000 or
7.7% from December 31, 1997 to December 31, 1998. The number of loans delinquent
over 90 days amounted to 67 loans at December 31, 1998, with an average balance
of $96,000. The largest non-performing commercial real estate loan as of
December 31, 1998 had a balance of $385,000.

Non-performing commercial business loans consist of 23 loans which are
90% guaranteed by the Small Business Administration with an aggregate balance of
$2.1 million and 86 commercial leases amounting to $1.1 million. These loans
have a combined average loan size of $30,000. The majority of loans in this
portfolio were originated during 1995 and 1996. The largest non-performing
commercial business loan as of December 31, 1998 had a $445,000 balance.

It is the policy of the Bank to maintain an allowance for estimated
losses on loans and to increase such allowance when, based on management's
evaluation, a loss becomes both probable and estimable (i.e., the loss is likely
to occur and can be reasonably estimated). Major loans and major lending areas
are reviewed periodically to determine potential problems at an early date.
Also, management's periodic evaluation considers factors such as loss
experience, current delinquency data, known and inherent risks in the portfolio,
identification of adverse situations which may affect the ability of debtors to
repay the loan, the estimated value of any underlying collateral and assessment
of current economic conditions. Additions to the allowance are charged to
income. Such provisions are based on management's estimated value of any
underlying collateral, as applicable,

32

considering the current and anticipated operating conditions of the borrower.
Any recoveries are credited to the allowance.

The following table sets forth an analysis of R&G Financial's allowance
for loan losses during the periods indicated, which is maintained on the Bank's
loan portfolio.

At and For the Year Ended December 31,
-----------------------------------------------------------------------
1998 1997 1996 1995 1994
-------- ------- ------- ------ ------
(Dollars in Thousands)

Balance at beginning of period......... $6,772 $ 3,332 $3,510 $2,887 $3,029
-------- ------- ------- ------ ------
Charge-offs:
Residential real estate.............. 73 13 45 53 --
Construction......................... -- -- 50 -- --
Commercial real estate............... -- 170 -- -- --
Commercial business.................. 1,485 480 110 91 3
Consumer............................. 4,455 3,953 1,922 365 139
Other ............................... -- 761 2,535(1) -- --
-------- ------- ------- ------ ------
Total charge-offs.................. 6,013 5,377 4,662 509 142
-------- ------- ------- ------ ------
Recoveries:
Residential real estate.............. -- 21 -- 1 --
Commercial real estate............... -- 50 -- -- --
Commercial business.................. 20 32 31 85 --
Consumer............................. 312 344 195 96 --
Other................................ -- 2,000(2) -- -- --
-- -- --
-------- ------ ------ ----- -----
Total recoveries................... 332 2,447 226 182 --
-------- ------ ------ ----- -----
Net charge-offs........................ 5,681 2,930 4,436 327 142
-------- ------ ------ ----- -----
Allowance for loan losses acquired from
Fajardo Federal....................... 364 -- -- -- --
Provision for losses on loans.......... 6,600 6,370 4,258 950(3) --
-------- ------ ------ ----- -----

Balance at end of period............... $ 8,055 $6,772 $3,332 $3,510 $2,887
======== ====== ====== ===== ======
Allowance for loan losses as a percent

of total loans outstanding........... .74% .87% .55% 0.72% 0.92%
======== ====== ====== ====== ======
Allowance for loan losses as a percent
of non-performing loans.............. 17.92% 22.34% 17.64% 33.19% 50.10%
======== ====== ====== ====== ======
Ratio of net charge-offs to average
loans outstanding.................... .55% 0.40% 0.75% 0.08% 0.05%
======== ====== ====== ====== ======

- ------------------

(1) Comprised of $2.5 million of loans from the Bank insurance premiums
financing portfolio. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Results of Operations
-- Provision for Loan Losses" incorporated by reference in Item 7
hereof.

(2) Corresponds to $2.0 million received on January 15, 1998 from the
Company's fidelity insurance carrier accounted for as a recovery of
loans previously charged-off as of December 31, 1997. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Results of Operations -- Provision for Loan Losses"
incorporated by reference in Item 7 hereof.

(3) Includes $500,000 transferred to the provision for loan losses which
R&G Financial determined was excess valuation reserves on mortgage
loans held for sale.

33

The following table sets forth information concerning the allocation
of R&G Financial's allowance for loan losses (which is maintained on the Bank's
loan portfolio) by loan category at the dates indicated.

December 31,
------------------------------------------------------------------------------
1998 1997 1996
------------------------ ----------------------- ---------------------

Percent of Percent of Percent of
Loans in Loans in Loans in
Each Each Each
Category to Category to Category to
Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ -----------
(Dollars in Thousands)

Residential real estate..... $1,272 15.79% $ 593 8.76% $ 810 24.31%
Construction................ 46 0.57 7 0.10 51 1.53
Commercial real estate...... 2,655 32.96 1,386 20.47 489 14.68
Commercial business......... 1,033 12.82 806 11.90 109 3.27
Consumer.................... 3,049 37.86 3,980 58.77 1,873 56.21
----- ----- ------ ------ ----- -----
Total....................... $8,055 100.00% $6,772 100.00% $3,332 100.00%
===== ====== ===== ====== ===== ======

1995 1994
----------------------- ------------------------

Percent of Percent of
Loans in Loans in
Each Each
Category to Category to
Amount Total Loans Amount Total Loans
------ ----------- ------ -----------

Residential real estate..... $2,094 59.66% $1,962 67.95%
Construction................ 32 0.90 -- --
Commercial real estate...... -- -- -- --
Commercial business......... 782 22.28 403 13.96
Consumer.................... 602 17.16 522 18.09
----- ------ ----- ------
Total....................... $3,510 100.00% $2,887 100.00%
===== ====== ===== ======

34

Investment Activities

General. R&G Financial's securities portfolio is managed by investment
officers in accordance with a comprehensive written investment policy which
addresses strategies, types and levels of allowable investments and which is
reviewed and approved annually by the respective Boards of Directors of the Bank
and R&G Mortgage. The management of the securities portfolio is set in
accordance with strategies developed by the Bank's Interest Rate Risk, Budget
and Investments Committee ("IRRBICO").

As discussed under "- Mortgage Banking Activities," R&G Mortgage is
primarily engaged in the origination of mortgage loans and the securitization of
such loans into mortgage-backed and related securities and the subsequent sale
of such securities to securities broker-dealers and other investors in the
secondary market. As a result of R&G Mortgage's securitization activities, R&G
Mortgage maintains a substantial portfolio of GNMA mortgage-backed securities.
At December 31, 1998, R&G Mortgage held GNMA mortgage-backed securities with a
fair value of $443.4 million which are classified as held for trading. Such
securities generally remain in R&G Mortgage's portfolio for between 90 and 180
days. In addition, during 1994 and 1995, R&G Mortgage sold through grantor
trusts $201.4 million and $38.1 million, respectively, of CMOs and retained a
portion of the residual interests related thereto. In addition, in 1995, R&G
Mortgage purchased from the Bank $4.6 million of mortgage-backed residuals
relating to the Bank's 1993 issuance of CMOs. At December 31, 1998, R&G
Mortgage's CMO residuals, which are classified as held for trading, had an
amortized cost and a fair value of $7.1 million.

The Bank's Investment Policy authorizes the Bank to invest in U.S.
Treasury obligations (with a maturity up to five years), U.S. Agency
obligations, FNMA, GNMA and FHLMC mortgage-backed certificates, investment grade
municipal obligations (with a maturity of up to five years), bankers'
acceptances and Federal Home Loan Bank ("FHLB") notes (with a maturity of up to
five years), investment grade commercial paper (with a maturity of up to 9
months), federal funds (with a maturity of six months or less), certificates of
deposit in other financial institutions (including Eurodollar deposits),
repurchase agreements (with a maturity of six months or less), investment grade
corporate bonds (with a maturity of five years or less) and certain
mortgage-backed derivative securities (with a weighted average life of less than
ten years).

At December 31, 1998, the Bank's securities portfolio consisted of
$34.6 million of securities held for investments, consisting of $15.4 million of
tax-free mortgage-backed securities, $12.8 million of other mortgage backed
securities, and $5.9 million of Puerto Rico Government obligations and other
Puerto Rico securities, $195,000 U.S. Treasury securities and $204,000 U.S.
Government obligations. In addition, at December 31, 1998, the Bank had a
securities portfolio classified as available for sale with a fair value of
$154.5 million, consisting of $55.2 million of tax-free mortgage-backed
securities, $30.2 million of other mortgage-backed securities, $11.4 million of
FHLB stock, $9.7 million of CMOs and CMO residuals, $5.0 million U.S. Treasury
securities and $43.1 million of U.S. Government agency securities.

The Bank's Treasury Department from time to time conducts certain
trading activities mainly through investments in U.S. Treasury securities.
However, at December 31, 1998 no securities for trading were held by the Bank.

35

The following table presents certain information regarding the
composition and period to maturity of R&G Financial's securities portfolio held
to maturity as of the dates indicated below. All of such securities are assets
of the Bank.

December 31,
-------------------------------------------------------------------------------------------------
1998 1997 1996
------------------------------- ------------------------------- -----------------------------

Weighted Weighted Weighted
Carrying Market Average Carrying Market Average Carrying Market Average
Value Value Yield Value Value Yield Value Value Yield
----- ----- ----- ----- ----- ----- ----- ----- -----
(Dollars in Thousands)

Mortgage-backed securities:
GMNA
Due within one year..........$ -- $ -- --% $ -- $ -- --% $ -- $ -- --%
Due from one-five years...... 27 29 10.00 49 50 10.00 -- -- --
Due from five-ten years...... 13,025 12,752 6.04 -- -- -- 97 100 10.00
Due over ten years........... 2,360 2,306 6.05 18,321 17,705 6.05 21,591 20,571 6.03
FNMA
Due within one year............ -- -- -- -- -- -- -- -- --
Due from one-five years........ -- -- -- -- -- -- -- -- --
Due from five-ten years........ -- -- -- -- -- -- -- -- --
Due over ten years............. 12,608 12,944 7.13 14,675 15,164 7.17 15,895 16,124 7.18
FHLMC
Due within one year............ -- -- -- -- -- -- -- -- --
Due from one-five years........ -- -- -- -- -- -- -- -- --
Due from five-ten years........ -- -- -- -- -- -- -- -- --
Due over ten years............. 236 230 6.15 281 266 6.00 317 309 5.50
Investment Securities:
Puerto Rico Government
obligations
Due within one year............ -- -- -- 4,433 4,439 6.22 3,351 3,351 5.12
Due from one-five years........ -- -- -- -- -- -- 1,035 1,012 6.25
Due from five-ten years........ 5,945 5,979 5.80 5,920 5,910 5.85 -- -- --
Due over ten years............. -- -- -- 30 30 8.37 574 567 5.11
U.S.Treasury and Government
Agency
Due within one year............ 399 400 5.27 310 311 6.13 -- -- --
Due from one-five years........ -- -- -- -- -- -- 310 311 6.13
Due from five-ten years........ -- -- -- -- -- -- -- -- --
Due over ten years............. -- -- -- -- -- -- -- -- --
Commercial paper:
Due within one year............ -- -- -- -- -- -- 2,982 2,982 5.55
Due from one-five years........ -- -- -- -- -- -- -- -- --
Due from five-ten years........ -- -- -- -- -- -- -- -- --
Due over ten years............. -- -- -- -- -- -- -- -- --
Total Securities held for
investment................. $34,600 $34,640 6.39% $44,019 $43,875 6.18% $46,152 $45,327 6.34%

36

The following table presents certain information regarding the composition and
period to maturity of R&G Financial's held for trading and available for sale
mortgage-backed and investment securities portfolio as of the dates indicated
below.

December 31,
-----------------------------------------------------------------------------
1998 1997
------------------------------------- -----------------------------------
Weighted Weighted
Amortized Fair Average Amortized Fair Average
Cost Value Yield Cost Value Yield
---- ----- ----- ---- ----- -----
(Dollars in Thousands)

Mortgage-Backed Securities Available for Sale(1):
GNMA
Due within one year........................... $ -- $ -- --% $ -- $ -- --%
Due from one-five years....................... -- -- -- -- -- --
Due from five-ten years....................... -- -- -- -- -- --
Due over ten years............................ 55,159 55,159 6.41 -- -- --
FNMA mortgage-backed securities
Due within one year........................... - -- -- -- -- --
Due from one-five years....................... -- -- -- -- -- --
Due from five-ten years....................... -- -- -- -- -- --
Due over ten years............................ 8,092 8,161 6.96 9,468 9,670 7.00
FHLMC mortgage-backed securities
Due within one year........................... -- -- -- -- -- --
Due from one-five years....................... 89 91 9.00 71 70 9.00
Due from five-ten years....................... 240 244 9.37 360 368 9.38
Due over ten years............................ 21,369 21,724 6.85 27,104 27,513 6.86
CMO residuals and other mortgage-backed
securities (2)
Due within one year........................... -- -- -- -- -- --
Due from one-five years....................... -- -- -- -- -- --
Due from five-ten years....................... -- -- -- -- -- --
Due over ten years............................ 7,845 9,661 8.125 7,007 8,382 8.125
Investment Securities Available for Sale(1)
U.S. Treasury
Due within one year........................... -- -- -- 773 772 5.22
Due from one-five years....................... 4,995 4,991 4.57 30,010 30,100 5.85
Due from five-ten years....................... -- -- -- -- -- --
Due over ten years............................ -- -- -- -- -- --
U.S. Government Agency
Due within one year........................... -- -- -- -- -- --
Due from one-five years....................... 38,100 38,106 5.61 35,145 35,105 6.06
Due from five-ten years....................... 5,010 5,000 6.73 5,023 4,981 6.73
Due over ten years............................ -- -- -- -- -- --
FHLB stock...................................... 11,405 11,405 7.21 4,906 4,906 6.61
------ ------ ---- ------- ------- ----
$152,304 $154,542 6.41% $119,867 $121,867 6.59%
======= ======= ==== ======= ======= ====
Securities held for trading(3):
GNMA certificates............................... $427,915 $443,399 6.69% $367,177 $377,362 6.78%
CMO certificates................................ -- -- -- 16,200 15,228 5.95
CMO residuals(4)................................ 7,134 7,147 8.00 7,630 7,868 8.00
U.S. Treasury Bills............................. -- -- -- 581 581 5.23
------ ------ ---- ------- ------- ----
$ 435,049 $450,546 6.71% $391,588 $401,039 6.77%
======== ======= ==== ======= ======= ====

Weighted
Amortized Fair Average
Cost Value Yield
---- ----- -----

Mortgage-Backed Securities Available for Sale(1):
GNMA
Due within one year $ -- $ -- -- %
Due from one-five years -- -- --
Due from five-ten years -- -- --
Due over ten years -- -- --
FNMA mortgage-backed securities
Due within one year -- -- --
Due from one-five years -- -- --
Due from five-ten years -- -- --
Due over ten years 10,563 10,293 6.99
FHLMC mortgage-backed securities
Due within one year -- -- --
Due from one-five years -- -- --
Due from five-ten years 530 547 9.30
Due over ten years 32,547 31,806 6.87
CMO residuals and other mortgage-backed
securities (2)
Due within one year -- -- --
Due from one-five years -- -- --
Due from five-ten years -- -- --
Due over ten years 7,067 8,195 8.125
Investment Securities Available for Sale(1)
U.S. Treasury
Due within one year -- -- --
Due from one-five years -- -- --
Due from five-ten years -- -- --
Due over ten years -- -- --
U.S. Government Agency
Due within one year 1,500 1,500 6.00
Due from one-five years 25,528 25,226 6.18
Due from five-ten years -- -- --
Due over ten years -- -- --
FHLB stock 4,247 4,247 6.30
-------- -------- ------
$ 81,982 $ 81,814 6.75%
======== ======== ======
Securities held for trading(3):
GNMA certificates $ 83,848 $ 84,460 $ 6.53%
CMO certificates 16,200 15,147 5.95
CMO residuals(4) 8,489 8,539 8.00
U.S. Treasury Bills 1,370 1,316 5.72
-------- -------- ------
$109,907 $109,462 6.55%
======== ======== ======

(Footnotes on following page)

37

- ---------------
(1) All securities are held in the Bank's investment securities portfolio.

(2) Comprised of subordinated tranches and residuals from the Bank's 1992
Grantor Trust.

(3) Except for GNMA certificates with a fair value of $1.7 million and $1.7
million as of December 31, 1997 and 1996, respectively, and U.S.
Treasury Bills with a fair value of $770,000 at December 31, 1996, all
of such securities are held in R&G Mortgage's securities portfolio.

(4) Represents residuals purchased from the Bank in 1995 from its 1993 CMO
Grantor Trust, and from R&G Mortgage's CMO Grantor Trusts.

A substantial portion of R&G Financial's securities are held in
mortgage-backed securities. Mortgage-backed securities (which also are known as
mortgage participation certificates or pass-through certificates) represent a
participation interest in a pool of single-family or multi-family mortgages, the
principal and interest payments on which are passed from the mortgage
originators, through intermediaries (generally U.S. Government agencies and
government sponsored enterprises) that pool and repackage the participation
interests in the form of securities, to investors such as R&G Financial. Such
U.S. Government agencies and government sponsored enterprises, which guarantee
the payment of principal and interest to investors, primarily include the FHLMC,
the FNMA and the GNMA.

The FHLMC is a public corporation chartered by the U.S. Government and
owned by the 12 Federal Home Loan Banks and federally-insured savings
institutions. The FHLMC issues participation certificates backed principally by
conventional mortgage loans. The FHLMC guarantees the timely payment of interest
and the ultimate return of principal within one year. The FNMA is a private
corporation chartered by the U.S. Congress with a mandate to establish a
secondary market for conventional mortgage loans. The FNMA guarantees the timely
payment of principal and interest on FNMA securities. FHLMC and FNMA securities
are not backed by the full faith and credit of the United States, but because
the FHLMC and the FNMA are U.S. Government-sponsored enterprises, these
securities are considered to be among the highest quality investments with
minimal credit risks. The GNMA is a government agency within HUD which is
intended to help finance government-assisted housing programs. GNMA securities
are backed by FHA-insured and VA-guaranteed loans, and the timely payment of
principal and interest on GNMA securities are guaranteed by the GNMA and backed
by the full faith and credit of the U.S. Government. Because the FHLMC, the FNMA
and the GNMA were established to provide support for low- and middle-income
housing, there are limits to the maximum size of loans that qualify for these
programs. For example, the FNMA and the FHLMC currently limit their loans
secured by a single-family, owner-occupied residence to $240,000 To accommodate
larger-sized loans, and loans that, for other reasons, do not conform to the
agency programs, a number of private

38

institutions have established their own home-loan origination and securitization
programs.

Mortgage-backed securities typically are issued with stated principal
amounts, and the securities are backed by pools of mortgages that have loans
with interest rates that are within a range and have varying maturities. The
characteristics of the underlying pool of mortgage, i.e., fixed-rate or
adjustable-rate, as well as prepayment risk, are passed on to the certificate
holder. The life of a mortgage-backed pass-through security thus approximates
the life of the underlying mortgages.

R&G Financial's securities portfolio includes CMOs. CMOs have been
developed in response to investor concerns regarding the uncertainty of cash
flows associated with the prepayment option of the underlying mortgagor and are
typically issued by government agencies, government sponsored enterprises and
special purpose entities, such as trusts, corporations or partnerships,
established by financial institutions or other similar institutions. A CMO can
be collateralized by loans or securities which are insured or guaranteed by the
FNMA, the FHLMC or the GNMA. In contrast to pass-through mortgage-backed
securities, in which cash flow is received pro rata by all security holders, the
cash flow from the mortgages underlying a CMO is segmented and paid in
accordance with a predetermined priority to investors holding various CMO
classes. By allocating the principal and interest cash flows from the underlying
collateral among the separate CMO classes, different classes of bonds are
created, each with its own stated maturity, estimated average life, coupon rate
and prepayment characteristics.

Mortgage-backed securities generally increase the quality of R&G
Financial's assets by virtue of the insurance or guarantees that back them, are
more liquid than individual mortgage loans and may be used to collateralize
borrowings or other obligations of R&G Financial. At December 31, 1998, $42.9
million or 7.7% of R&G Financial's mortgage-backed securities was pledged to
secure various obligations of R&G Financial (excluding repurchase agreements).

The FDIC has issued a statement of policy which states, among other
things, that mortgage derivative products (including CMOs and CMO residuals)
which possess average life or price volatility in excess of a benchmark fixed
rate 30-year mortgage-backed pass-through security are "high-risk mortgage
securities," are not suitable investments for depository institutions, and if
considered "high risk" at purchase must be carried in the institution's trading
account or as assets held for sale, and must be marked to market on a regular
basis. In addition, if a security was not considered "high risk" at purchase but
was later found to be "high risk" based on the tests, it may remain in the
held-to-maturity portfolio as long as the institution has positive intent to
hold the security to maturity and has a documented plan in place to manage the
high risk. At December 31, 1998, the Bank's CMOs and CMO residuals, which had a
fair value of $9.7 million, were designated as "high-risk mortgage securities"
and classified as available for sale.

39

Sources of Funds

General. R&G Financial will consider various sources of funds to fund
its investment and lending activities and evaluates the available sources of
funds in order to reduce R&G Financial's overall funding costs. Deposits,
reverse repurchase agreements, warehouse lines of credit, notes payable, FHLB
advances, subordinated capital notes and sales, maturities and principal
repayments on loans and securities have been the major sources of funds for use
in R&G Financial's lending and investing activities and for other general
business purposes.

Deposits. Deposits are the major sources of the Bank's funds for
lending and other investment purposes. Consumer and commercial deposits are
attracted principally from within the Bank's primary market area through the
offering of a broad selection of deposit instruments, including passbook, NOW
and Super NOW, checking and commercial checking and certificates of deposit
ranging in terms from 7 days to 10 years. Included among these deposit products
are $294.3 million of certificates of deposit with balances of $100,000 or more,
which amounted to 29.1% of the Bank's total deposits at December 31, 1998.
Deposit account terms vary according to the minimum balance required, the time
periods the funds must remain on deposit and the interest rate, among other
factors.

The Bank attempts to price its deposits in order to promote deposit
growth. The Bank regularly evaluates the internal costs of funds, surveys rates
offered by competing institutions, reviews the Bank's cash flow requirements for
lending and liquidity and executes rate changes when deemed appropriate. The
Bank does not currently obtain funds through brokers, although at December 31,
1998 it held $15.1 million of deposits acquired from money desks in the United
States.

The principal methods currently used by the Bank to attract deposit
accounts include offering a wide variety of services and accounts and
competitive interest rates. The Bank utilizes traditional marketing methods to
attract new customers and savings deposits, including advertising.

40

The following table presents the average balance of each deposit type
and the average rate paid one each deposit type of the Bank for the periods
indicated.

December 31,
---------------------------------------------------------------------------
1998 1997 1996
---------------------- --------------------- ----------------------

Average Average Average Average Average Average
Balance Rate Paid Balance Rate Paid Balance Rate Paid
------- --------- ------- --------- ------- ---------
(Dollars in Thousands)

Passbook...................... $88,754 3.75% $ 75,958 3.79% $ 73,216 3.77%
NOW and Super NOW
accounts................... 99,336 3.93 86,843 3.84 78,183 3.85
Checking...................... 39,052 -- 23,859 -- 20,451 --
Commercial checking(1)........ 77,329 -- 46,301 -- 30,173 --
Certificates of deposit....... 522,016 5.98 435,743 6.02 359,525 6.05
------- ---- --------- ---- --------- ----
Total deposits.............. $826,487 4.65% $668,704 4.85% $561,548 4.90%
======= ==== ======= ==== ======= ====

- ----------------

(1) Includes $109.9 million, $50.2 million and $10.6 million of escrow
funds of R&G Mortgage at December 31, 1998, 1997 and 1996,
respectively, maintained with the Bank.

The following table sets forth the maturities of the Bank's
certificates of deposit having principal amounts of $100,000 or more at December
31, 1998.

Amount
---------------
(In Thousands)
Certificates of deposit maturing:

Three months or less..................................... $ 92,656
Over three through six months............................ 51,621
Over six through twelve months........................... 42,534
Over twelve months....................................... 53,705
--------
Total.................................................. $240,516
========

Borrowings. R&G Financial's business requires continuous access to
various funding sources, both short and long-term. R&G Mortgage's primary source
of short-term funds is through sales of securities to investment dealers under
agreements to repurchase ("reverse repurchase agreements"). The Bank also from
time to time utilizes reverse repurchase agreements when they represent a
competitive short-term funding source. In a reverse repurchase agreement
transaction, R&G Financial will generally sell a mortgage-backed security
agreeing to repurchase either the same or a substantially identical security on
a specified later date (generally not more than 90 days) at a price less than
the original sales price. The difference in the sale price and purchase price is
the cost of the use of the proceeds. The mortgage-backed securities underlying
the agreements are delivered to the dealers who arrange the transactions. For
agreements in which R&G Financial has

41

agreed to repurchase substantially identical securities, the dealers may sell,
loan or otherwise dispose of R&G Financial's securities in the normal course of
their operations; however, such dealers or third party custodians safe-keep the
securities which are to be specifically repurchased by R&G Financial. Reverse
repurchase agreements represent a competitive cost funding source for R&G
Financial. Nevertheless, R&G Financial is subject to the risk that the lender
may default at maturity and not return the collateral. The amount at risk is the
value of the collateral which exceeds the balance of the borrowing. In order to
minimize this potential risk, R&G Financial only deals with large, established
investment brokerage firms when entering into these transactions. Reverse
repurchase transactions are accounted for as financing arrangements rather than
as sales of such securities, and the obligations to repurchase such securities
is reflected as a liability in R&G Financial's Consolidated Financial
Statements. As of December 31, 1998, R&G Financial had $471.4 million of reverse
repurchase agreements outstanding, $396.2 million of which represented
borrowings of R&G Mortgage. At December 31, 1998, the weighted average interest
rate on R&G Financial's reverse repurchase agreements amounted to 5.42%.

R&G Mortgage's loan originations are also funded by borrowings under
various warehouse lines of credit provided by two unrelated commercial banks
("Warehouse Lines"). At December 31, 1998, R&G Mortgage was permitted to borrow
under such Warehouse Lines up to $209.0 million, $107.6 million of which was
drawn upon and outstanding as of such date. The Warehouse Lines are used by R&G
Mortgage to fund loan commitments and must generally be repaid within 180 days
after the loan is closed or when R&G Mortgage receives payment from the sale of
the funded loan, whichever occurs first. Until such sale closes, the Warehouse
Lines provide that the funded loan is pledged to secure the outstanding
borrowings. The Warehouse Lines are also collateralized by a general assignment
of mortgage payments receivable and an assignment of certain mortgage servicing
rights. Certain of these warehousing lines of credit impose restrictions on R&G
Mortgage with respect to the maintenance of minimum levels of net worth and
working capital and limitations on the amount of indebtedness and dividends
which may be declared.

The interest rate on funds borrowed pursuant to the Warehouse Lines is
based upon a specified prime rate less a negotiated amount or, if available, a
designated Puerto Rico Section 936 funds rate (which is lower than the prime
rate) plus a negotiated amount. By maintaining compensating balances, R&G
Mortgage is able to borrow funds under the Warehouse Lines at a lower interest
rate than would otherwise apply. These compensating balances are comprised of a
portion of the escrow accounts maintained by R&G Mortgage for principal and
interest payments and related tax and insurance payments on loans its services.
At December 31, 1998, the weighted average interest rate being paid by R&G
Mortgage under its Warehouse Lines amounted to 6.43%.

The Warehouse Lines include various covenants and restrictions on R&G
Mortgage's operations, including maintenance of minimum levels of net worth and
debt service, minimum levels and ratios with respect to outstanding indebtedness
and restrictions on the amount of dividends which can be declared and paid by
R&G Mortgage on its common stock. Management of R&G Financial believes that as
of December 31, 1998, it was in compliance with all of such covenants and
restrictions and does not anticipate that such covenants and restrictions will
limit its operations.

42

Although the Bank's primary source of funds is deposits, the Bank also
borrows funds on both a short and long-term basis. The Bank actively utilizes
936 Notes as a primary borrowing source. The 936 Notes have original terms to
maturity of between five and seven years and are payable semiannually at either
a variable interest rate (84% of the three-month LIBOR rate less .125%, and 96%
of the three month LIBID rate or a fixed interest rate (ranging from 5.60% to
7.15%). The Bank is able to obtain such low cost funds by investing the proceeds
in eligible activities as proscribed under Puerto Rico law, which provide tax
advantages under Puerto Rico tax laws and under U.S. federal tax laws for U.S.
corporations which are operating in Puerto Rico pursuant to Section 936 of the
Code. See " - Mortgage Banking Activities - Puerto Rico Secondary Mortgage
Market and Favorable Tax Treatment." At December 31, 1998, $38.6 million of the
936 Notes were secured by marketable securities, while $45.5 million were
secured by standby letters of credit issued by the FHLB of New York (which are,
in turn, secured by first mortgage loans, securities and cash deposits). The 936
Notes contain certain provisions which indemnify the holders thereof from the
federal tax liability which would be incurred, plus any penalties and interest,
if the Bank did not invest the proceeds as required in eligible activities, and
also provide for a "gross up" provision which permits the Bank to continue the
obligation at an adjusted interest rate based on LIBOR in the event the interest
on the 936 Notes is subject in whole or in part to federal and/or Puerto Rico
income tax. At December 31, 1998, the Bank had $84.1 million of 936 Notes
outstanding, $23.6 million of which matures in 1999, $25.0 million of which
matures in 2000 and $35.5 million of which matures in 2001.

The Bank obtains both fixed-rate and variable-rate short-term and
long-term advances from the FHLB of New York upon the security of certain of its
residential first mortgage loans, securities and cash deposits, provided certain
standards related to the credit-worthiness of the Bank have been met. FHLB of
New York advances are available for general business purposes to expand lending
and investing activities. Advances from the FHLB of New York are made pursuant
to several different credit programs, each of which has its own interest rate
and range of maturities. At December 31, 1998, the Bank had access to $533.5
million in advances from the FHLB of New York, and had 13 FHLB of New York
advances aggregating $121.0 million outstanding as of such date, which mature at
various dates commencing in January 1999 through March 2008 and have a weighted
average interest rate of 5.25%. In addition, at December 31, 1998, the Bank
maintained $51.3 million in standby letters of credit with the FHLB of New York,
which secured $45.5 million of outstanding 936 Notes payable and $4.1 million of
936 certificates of deposit. At December 31, 1998, the Bank had pledged specific
collateral aggregating $217.4 million to the FHLB of New York under its advances
program and to secure the letters of credit. The Bank maintains collateral with
the FHLB of New York in excess of applicable requirements in order to facilitate
any necessary additional borrowings by the Bank in the future.

43

The following table sets forth certain information regarding the
short-term borrowings of R&G Financial at or for the dates indicated.

At or For the Year Ended
December 31,
--------------------------------------------
1998 1997 1996
-------- --------- ---------
(Dollars in Thousands)
R&G Mortgage:
Securities sold under agreements to repurchase:

Average balance outstanding....................... $354,786 $187,682 $ 93,653
Maximum amount outstanding at any month-end
during the period............................... 415,960 385,054 108,240
Balance outstanding at end of period.............. 415,960 385,054 97,444
Average interest rate during the period........... 5.73% 6.03% 5.00%
Average interest rate at end of period............ 5.46% 5.85% 5.67%
Notes Payable:
Average balance outstanding....................... $102,047 $66,405 $40,805
Maximum amount outstanding at any month-end
during the period............................... 161,060 93,523 85,135
Balance outstanding at end of period.............. 107,648 24,353 40,342
Average interest rate during the period........... 7.07% 6.03% 5.32%
Average interest rate at end of period............ 6.43% 5.85% 4.97%
The Bank:
FHLB of New York advances:
Average balance outstanding....................... $94,025 $23,524 $ 6,366
Maximum amount outstanding at any month-end
during the period............................... 160,100 42,200 15,000
Balance outstanding at end of period.............. 121,000 42,200 15,000
Average interest rate during the period........... 5.55% 5.80% 5.84%
Average interest rate at end of period............ 5.25% 6.03% 5.75%
Securities sold under agreements to repurchase:
Average balance outstanding....................... $55,915 $39,090 $ 6,954
Maximum amount outstanding at any month-end
during the period............................... 79,513 63,088 19,000
Balance outstanding at end of period.............. 75,222 48,080 --
Average interest rate during the period........... 5.57% 5.55% 4.74%
Average interest rate at end of period............ 5.35% 5.56% --%
Notes Payable:
Average balance outstanding....................... $84,100 $85,034 $85,365
Maximum amount outstanding at any month-end
during the period............................... 84,100 86,500 111,500
Balance outstanding at end of period.............. 84,100 84,100 86,500
Average interest rate during the period........... 6.45% 6.60% 5.55%
Average interest rate at end of period............ 5.74% 5.97% 5.82%

Trust and Investment Services

R&G Financial also provides trust and investment services through the
Bank's Trust Department. Services offered include custodial services, the
administration of IRA accounts and the sale to investors of mortgage-backed
securities guaranteed by GNMA. As of December 31, 1998, the Bank's Trust
Department administered approximately 6,945 trust accounts, with aggregate
assets of $28.2 million as of such date. In addition, during the year ended
December 31, 1998, the

44

Bank's Trust Department sold $47.9 million of GNMA mortgage-backed securities.
The Bank receives fees dependent upon the level and type of service provided.
The administration of the Bank's Trust Department is performed by the Trust
Committee of the Board of Directors of the Bank.

Personnel

As of December 31, 1998, R&G Financial (on a consolidated basis) had
1,054 full-time employees and 39 part-time employees. The employees are not
represented by a collective bargaining agreement and R&G Financial believes that
it has good relations with its employees.

Regulation

Set forth below is a brief description of certain laws and regulations
which, together with the descriptions of laws and regulations contained
elsewhere herein, are deemed material to an investor's understanding of the
extent to which R&G Financial, R&G Mortgage and the Bank are regulated. The
description of these laws and regulations, as well as descriptions of laws and
regulations contained elsewhere herein, does not purport to be complete and is
qualified in its entirety by reference to applicable laws and regulations.

R&G Financial

General. R&G Financial is a registered bank holding company pursuant to
the Bank Holding Company Act of 1956, as amended (the "BHCA"). The Company
became a bank holding company in July 1996 through its acquisition of Mr. Victor
Galan's 88.1% interest in the Bank (which excludes his required qualifying
shares as a director of the Bank) in exchange for R&G Financial's Class A Common
Stock. R&G Financial acquired the remaining interest in the Bank in December
1996. R&G Financial, as a bank holding company, is subject to regulation and
supervision by the Federal Reserve Board and the OCFI. R&G Financial is required
to file annually a report of its operations with, and is subject to examination
by, the Federal Reserve Board and the OCFI.

BHCA Activities and Other Limitations. The BHCA prohibits a bank
holding company from acquiring direct or indirect ownership or control of more
than 5% of the voting shares of any bank, or increasing such ownership or
control of any bank, without prior approval of the Federal Reserve Board. No
approval under the BHCA is required, however, for a bank holding company already
owning or controlling 50% of the voting shares of a bank to acquire additional
shares of such bank.

The BHCA also prohibits a bank holding company, with certain
exceptions, from acquiring more than 5% of the voting shares of any company that
is not a bank and from engaging in any business other than banking or managing
or controlling banks. Under the BHCA, the Federal

45

Reserve Board is authorized to approve the ownership of shares by a bank holding
company in any company, the activities of which the Federal Reserve Board has
determined to be so closely related to banking or to managing or controlling
banks as to be a proper incident thereto. In making such determinations, the
Federal Reserve Board is required to weigh the expected benefit to the public,
such as greater convenience, increased competition or gains in efficiency,
against the possible adverse effects, such as undue concentration of resources,
decreased or unfair competition, conflicts of interest or unsound banking
practices.

The Federal Reserve Board has by regulation determined that certain
activities are closely related to banking within the meaning of the BHCA. These
activities include operating a mortgage company, such a R&G Mortgage, finance
company, credit card company, factoring company, trust company or savings
association; performing certain data processing operations; providing limited
securities brokerage services; acting as an investment or financial advisor;
acting as an insurance agent for certain types of credit-related insurance;
leasing personal property on a full-payout, non-operating basis; providing tax
planning and preparation services; operating a collection agency; and providing
certain courier services. The Federal Reserve Board also has determined that
certain other activities, including real estate brokerage and syndication, land
development, property management and underwriting of life insurance not related
to credit transactions, are not closely related to banking and a proper incident
thereto.

Limitations on Transactions with Affiliates. Transactions between
financial institutions and any affiliate are governed by Sections 23A and 23B of
the Federal Reserve Act. An affiliate of a financial institution is any company
or entity which controls, is controlled by or is under common control with the
financial institution. In a holding company context, the parent holding company
of a financial institution (such as R&G Financial) and any companies which are
controlled by such parent holding company are affiliates of the financial
institution. Generally, Sections 23A and 23B (i) limit the extent to which the
financial institution or its subsidiaries may engage in "covered transactions"
with any one affiliate to an amount equal to 10% of such institution's capital
stock and surplus, and contain an aggregate limit on all such transactions with
all affiliates to an amount equal to 20% of such capital stock and surplus and
(ii) require that all such transactions be on terms substantially the same, or
at least as favorable, to the institution or subsidiary as those provided to a
non-affiliate. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of a guarantee and other similar transactions. In
addition to the restrictions imposed by Sections 23A and 23B, no financial
institution may (i) loan or otherwise extend credit to an affiliate, except for
any affiliate which engages only in activities which are permissible for bank
holding companies, or (ii) purchase or invest in any stocks, bonds, debentures,
notes or similar obligations of any affiliate, except for affiliates which are
subsidiaries of the financial institution. See "General - Affiliated
Transactions" for a discussion of the affiliated transactions conducted by R&G
Mortgage and the Bank.

In addition, Sections 22(h) and (g) of the Federal Reserve Act places
restrictions on loans to executive officers, directors and principal
stockholders. Under Section 22(h), loans to a director, an executive officer and
to a greater than 10% stockholder of a financial institution, and certain
affiliated interests of either, may not exceed, together with all other
outstanding loans to such person

46

and affiliated interests, the financial institution's loans to one borrower
limit (generally equal to 15% of the institution's unimpaired capital and
surplus). Section 22(h) also requires that loans to directors, executive
officers and principal stockholders be made on terms substantially the same as
offered in comparable transactions to other persons unless the loans are made
pursuant to a benefit or compensation program that (i) is widely available to
employees of the institution and (ii) does not give preference to any director,
executive officer or principal stockholder, or certain affiliated interests of
either, over other employees of the savings institutions. Section 22(h) also
requires prior board approval for certain loans. In addition, the aggregate
amount of extensions of credit by a financial institution to all insiders cannot
exceed the institution's unimpaired capital and surplus. Furthermore, Section
22(g) places additional restrictions on loans to executive officers.

Capital Requirements. The Federal Reserve Board has adopted capital
adequacy guidelines pursuant to which it assesses the adequacy of capital in
examining and supervising a bank holding company and in analyzing applications
to it under the BHCA. The Federal Reserve Board capital adequacy guidelines
generally require bank holding companies to maintain total capital equal to 8%
of total risk-adjusted assets, with at least one-half of that amount consisting
of Tier I or core capital and up to one-half of that amount consisting of Tier
II or supplementary capital. Tier I capital for bank holding companies generally
consists of the sum of common stockholders' equity and perpetual preferred stock
(subject in the case of the latter to limitations on the kind and amount of such
stocks which may be included as Tier I capital), less goodwill and, with certain
exceptions, intangibles. Tier II capital generally consists of hybrid capital
instruments; perpetual preferred stock which is not eligible to be included as
Tier I capital; term subordinated debt and intermediate-term preferred stock;
and, subject to limitations, general allowances for loan losses. Assets are
adjusted under the risk-based guidelines to take into account different risk
characteristics, with the categories ranging from 0% (requiring no additional
capital) for assets such as cash to 100% for the bulk of assets which are
typically held by a bank holding company, including multi-family residential and
commercial real estate loans, commercial business loans and consumer loans.
Single-family residential first mortgage loans which are not past-due (90 days
or more) or non-performing and which have been made in accordance with prudent
underwriting standards are assigned a 50% level in the risk-weighing system, as
are certain privately-issued mortgage-backed securities representing indirect
ownership of such loans. Off-balance sheet items also are adjusted to take into
account certain risk characteristics.

In addition to the risk-based capital requirements, the Federal Reserve
Board requires bank holding companies to maintain a minimum leverage capital
ratio of Tier I capital to total assets of 3.0%. Total assets for this purpose
does not include goodwill and any other intangible assets and investments that
the Federal Reserve Board determines should be deducted from Tier I capital. The
Federal Reserve Board has announced that the 3.0% Tier I leverage capital ratio
requirement is the minimum for the top-rated bank holding companies without any
supervisory, financial or operational weaknesses or deficiencies or those which
are not experiencing or anticipating significant growth. Other bank holding
companies are expected to maintain Tier I leverage capital ratios of at least
4.0% to 5.0% or more, depending on their overall condition.

R&G Financial is in compliance with the above-described Federal Reserve
Board regulatory capital requirements.

47

Financial Support of Affiliated Institutions. Under Federal Reserve
Board policy, R&G Financial will be expected to act as a source of financial
strength to the Bank and to commit resources to support the Bank in
circumstances when it might not do so absent such policy. The legality and
precise scope of this policy is unclear, however, in light of recent judicial
precedent. In addition, any capital loans by a bank holding company to a
subsidiary bank is subordinate in right of payment to deposits and to certain
other indebtedness of such subsidiary bank. In the event of a bank holding
company's bankruptcy, any commitment by the bank holding company to a federal
bank regulatory agency to maintain the capital of a subsidiary bank will be
assumed by the bankruptcy trustee and entitled to a priority of payment.

The Bank

General. The Bank is incorporated under the Puerto Rico Banking Act of
1933, as amended (the "Puerto Rico Banking Law") and is subject to extensive
regulation and examination by the OCFI, the FDIC and certain requirements
established by the Federal Reserve Board. The federal and Puerto Rico laws and
regulations which are applicable to banks regulate, among other things, the
scope of their business, their investments, their reserves against deposits, the
timing of the availability of deposited funds and the nature and amount of and
collateral for certain loans. There are periodic examinations by the OCFI and
the FDIC to test the Bank's compliance with various regulatory requirements.
This regulation and supervision establishes a comprehensive framework of
activities in which an institution can engage and is intended primarily for the
protection of the insurance fund and depositors. The regulatory structure also
gives the regulatory authorities extensive discretion in connection with their
supervisory and enforcement activities and examination policies, including
policies with respect to the classification of assets and the establishment of
adequate loan loss reserves for regulatory purposes. Any change in such
regulation, whether by the OCFI, the FDIC or the U.S. Congress or Puerto Rico
legislature could have a material adverse impact on R&G Financial, R&G Mortgage,
the Bank and their operations.

FDIC Insurance Premiums. The Bank currently pays deposit insurance
premiums to the FDIC based on a risk-based assessment system established by the
FDIC for all Savings Association Insurance Fund ("SAIF") and Bank Insurance Fund
("BIF") member institutions. Under applicable regulations, institutions are
assigned to one of three capital groups which is based solely on the level on an
institution's capital - "well capitalized," "adequately capitalized" and
"undercapitalized". These three groups are then divided into three subgroups
which reflect varying levels of supervisory concern, from those which are
considered to be healthy to those which are considered to be of substantial
supervisory concern. The matrix so created results in nine assessment risk
classifications, with rates ranging from .0% for well capitalized, healthy
institutions to .27% for undercapitalized institutions with substantial
supervisory concerns. The Bank was classified as a "well-capitalized"
institution as of December 31, 1998. An additional assessment is added to the
regular SAIF-assessment and the regular BIF-assessment, respectively, until
December 31, 1999 in order to cover Financing Corporation debt service payments.
Such additional assessments amount to 6.3 basis points and 1.3 basis points for
SAIF insured deposits and BIF insured deposits, respectively.

The FDIC may terminate the deposit insurance of any insured depository
institution, including the Bank, if it determines after a hearing that the
institution has engaged or is engaging

49

in unsafe or unsound practices, is in an unsafe or unsound condition to continue
operations, or has violated any applicable law, regulation, order or any
condition imposed by an agreement with the FDIC. It also may suspend deposit
insurance temporarily during the hearing process for the permanent termination
of insurance, if the institution has no tangible capital. If insurance of
accounts is terminated, the accounts at the institution at the time of the
termination, less subsequent withdrawals, shall continue to be insured for a
period of six months to two years, as determined by the FDIC. Management is
aware of no existing circumstances which would result in termination of the
Bank's deposit insurance.

Recapitalization of SAIF. Both the SAIF and the BIF, the federal
deposit insurance fund that covers commercial bank deposits, are required by law
to attain and thereafter maintain a reserve ratio of 1.25% of insured deposits.
Certain of the Bank's deposits were required to continue to be insured by the
SAIF following its 1994 conversion from a federally chartered savings bank to a
Puerto Rico chartered commercial bank. The approximately $77.2 million of
deposits acquired by the Bank in 1995 from a Puerto Rico commercial bank are BIF
insured and subject to deposit insurance assessments at BIF rates.

Both the SAIF and the BIF are required by law to attain and thereafter
maintain a reserve ratio of 1.25% of insured deposits. The BIF has achieved the
required reserve ratio, and as a result, the FDIC reduced the average deposit
insurance premium paid by BIF-insured banks to a level substantially below the
average premium previously paid by savings institutions. Banking legislation was
enacted on September 30, 1996 to eliminate the premium differential between
SAIF-insured institutions and BIF-insured institutions. The legislation provided
that all insured depository institutions with SAIF-assessable deposits as of
March 31, 1995 pay a special one-time assessment to recapitalize the SAIF.
Pursuant to this legislation, the FDIC promulgated a rule that established the
special assessment necessary to recapitalize the SAIF at 65.7 basis points of
SAIF-assessable deposits held by affected institutions as of March 31, 1995. The
Bank's one-time special assessment amounted to $1.6 million net of related tax
benefits. The payment of such special assessment had the effect of immediately
reducing the Bank's capital by such an amount and reducing future assessment
rates for the Bank, effective January 1, 1997, to those previously applicable to
BIF insured institutions.

Capital Requirements. The FDIC has promulgated regulations and adopted
a statement of policy regarding the capital adequacy of state-chartered banks
which, like the Bank, will not be members of the Federal Reserve System. These
requirements are substantially similar to those adopted by the Federal Reserve
Board regarding bank holding companies, as described above.

The FDIC's capital regulations establish a minimum 3.0% Tier I leverage
capital requirement for the most highly-rated state-chartered, non-member banks,
with an additional cushion of at least 100 to 200 basis points for all other
state-chartered, non-member banks, which effectively increases the minimum Tier
I leverage ratio for such other banks to 4.0% to 5.0% or more. Under the FDIC's
regulation, the highest-rated banks are those that the FDIC determines are not
anticipating or experiencing significant growth and have well diversified risk,
including no undue interest rate risk exposure, excellent asset quality, high
liquidity, good earnings and, in general, which are considered a strong banking
organization and are rated composite 1 under the Uniform Financial Institutions

49

Rating System. Leverage or core capital is defined as the sum of common
stockholders' equity (including retained earnings), noncumulative perpetual
preferred stock and related surplus, and minority interests in consolidated
subsidiaries, minus all intangible assets other than certain qualifying
supervisory goodwill and certain purchased mortgage servicing rights.

The FDIC also requires that banks meet a risk-based capital standard.
The risk-based capital standard for banks requires the maintenance of total
capital (which is defined as Tier I capital and supplementary (Tier 2) capital)
to risk weighted assets of 8%. In determining the amount of risk-weighted
assets, all assets, plus certain off balance sheet assets, are multiplied by a
risk-weight of 0% to 100%, based on the risks the FDIC believes are inherent in
the type of asset or item. The components of Tier I capital are equivalent to
those discussed above under the 3% leverage capital standard. The components of
supplementary capital include certain perpetual preferred stock, certain
mandatory convertible securities, certain subordinated debt and intermediate
preferred stock and general allowances for loan and lease losses. Allowance for
loan and lease losses includable in supplementary capital is limited to a
maximum of 1.25% of risk-weighted assets. Overall, the amount of capital counted
toward supplementary capital cannot exceed 100% of core capital. At December 31,
1998, the Bank met each of its capital requirements.

The FDIC and the other federal banking agencies have published a joint
policy statement that describes the process the banking agencies will use to
measure and assess the exposure of a bank's net economic value to changes in
interest rates. The FDIC and other federal banking agencies have also adopted a
joint policy statement on interest rate risk policy. Because market conditions,
bank structure, and bank activities vary, the agencies concluded that each bank
needs to develop its own interest rate risk management program tailored to its
needs and circumstances. The policy statement describes prudent principles and
practices that are fundamental to sound interest rate risk management, including
appropriate board and senior management oversight and a comprehensive risk
management process that effectively identifies, measures, monitors and controls
risks.

Activities and Investments. The activities and equity investments of
FDIC-insured, state-chartered banks (which under the Federal Deposit Insurance
Act includes banking institutions incorporated under the laws of Puerto Rico)
are generally limited to those that are permissible for national banks. Under
regulations dealing with equity investments, an insured state bank generally may
not directly or indirectly acquire or retain any equity investment of a type, or
in an amount, that is not permissible for a national bank. An insured state bank
is not prohibited from, among other things, (i) acquiring or retaining a
majority interest in a subsidiary, (ii) investing as a limited partner in a
partnership the sole purpose of which is direct or indirect investment in the
acquisition, rehabilitation or new construction of a qualified housing project,
provided that such limited partnership investments may not exceed 2% of the
bank's total assets, (iii) acquiring up to 10% of the voting stock of a company
that solely provides or reinsures directors', trustees' and officers' liability
insurance coverage or bankers' blanket bond group insurance coverage for insured

50

depository institutions, and (iv) acquiring or retaining the voting shares of a
depository institution if certain requirements are met. In addition, an insured
state-chartered bank may not, directly, or indirectly through a subsidiary,
engage as "principal" in any activity that is not permissible for a national
bank unless the FDIC has determined that such activities would pose no risk to
the insurance fund of which it is a member and the bank is in compliance with
applicable regulatory capital requirements. Any insured state-chartered bank
directly or indirectly engaged in any activity that is not permitted for a
national bank must cease the impermissible activity.

Puerto Rico Banking Law. As a commercial bank organized under the laws
of the Commonwealth, the Bank is subject to supervision, examination and
regulation by the OCFI pursuant to the Puerto Rico Banking Law.

The Puerto Rico Banking Law requires that at least ten percent (10%) of the
yearly net income of the Bank be credited annually to a reserve fund. This
apportionment shall be done every year until the reserve fund shall be equal to
the sum of the Bank's paid-in common and preferred stock capital. As of December
31, 1998, the Bank had credited $3.5 million to such reserve fund.

The Puerto Rico Banking Law also provides that when the expenditures of
a bank are greater than the receipts, the excess of the former over the latter
shall be charged against the undistributed profits of the bank, and the balance,
if any, shall be charged against the reserve fund, as a reduction thereof. If
there is no reserve fund sufficient to cover such balance in whole or in part,
the outstanding amount shall be charged against the capital account and no
dividend shall be declared until said capital has been restored to its original
amount and the reserve fund to 20% of the original capital. In addition, every
bank is required by the Puerto Rico Banking Law to maintain a legal reserve
which shall not be less than 20% of its demand liabilities, except government
deposits (federal, state and municipal) which are secured by actual collateral.
The reserve is required to be made up of any of the following instruments or any
combination of them: (i) legal tender of the United States; (ii) checks on banks
or trust companies located in any part of Puerto Rico, to be presented for
collection during the day following that on which they are received; (iii) money
deposited in other banks provided said deposits are authorized by the
Commissioner, subject to immediate collection; and (iv) federal funds sold and
securities purchased under agreements to resell, provided such funds are repaid
on or prior to the close of the next business day.

Under the Puerto Rico Banking Law, the Bank is permitted to make loans
to any one person, firm, partnership or corporation, up to an aggregate amount
of fifteen percent (15%) of the paid-in capital and reserve fund of the Bank,
plus 15% of 50% of undistributed earnings for "well capitalized" institutions.
As of December 31, 1998, the legal lending limit for the Bank under these
provisions was approximately $16.3 million and its maximum extension of credit
to any one borrower was $9.4 million. If such loans are secured by collateral
worth at least twenty-five percent (25%) more than the amount of the loan, the
aggregate maximum amount may reach one-third of the paid-in capital of the Bank,
plus its reserve fund. There are no restrictions on the amount of loans to
subsidiaries of banks, or loans that are secured by mortgages by real estate, or
loans that are wholly secured by bonds, securities and other evidences of
indebtedness of the United States or the Commonwealth, or by current debt bonds,
not in default, of municipalities or instrumentalities of the Commonwealth.
Loans to non-banking affiliates of the Bank are subject however to the lending
limitations set forth in Sections 23A and 23B of the Federal Reserve Act.

51

The Puerto Rico Banking Law also authorizes the Bank to conduct certain
financial and related activities directly or through subsidiaries. The Puerto
Rico Banking Law also prohibits Puerto Rico banks from making loans secured by
their own stock, and from purchasing their own stock, unless such purchase is
necessary to prevent losses because of a debt previously contracted in good
faith. The stock so purchased by the bank must be sold in a private or public
sale within one year from the date of purchase. The Bank may repurchase its own
stock for the purpose of reducing its capital, subject to the approval of the
OCFI.

The rate of interest that the Bank may charge on mortgage and other
types of loans to individuals in Puerto Rico is subject to Puerto Rico's usury
laws. Such laws are administered by the Financing Board, which consists of the
Commissioner of Financial Institutions, the President of the Government
Development Bank, the Chairman of the Planning Board and the Puerto Rico
Secretaries of Commerce, Treasury and Consumer Affairs and three representatives
from the private sector. The Financing Board promulgates regulations which
specify maximum rates on various types of loans to individuals. The Financing
Board eliminated the regulations that set forth the maximum interest rates that
could be charged on consumer loans, mortgage loans and commercial loans. The
origination charges on residential mortgage loans may not exceed 6% of the loan
amount.

Regulatory Enforcement Authority. Applicable banking laws include
substantial enforcement powers available to federal and Puerto Rico banking
regulators. This enforcement authority includes, among other things, the ability
to assess civil money penalties, to issue cease-and-desist or removal orders and
to initiate injunctive actions against banking organizations and
institution-affiliated parties, as defined. In general, these enforcement
actions may be initiated for violations of laws and regulations and unsafe or
unsound practices. Other actions or inactions may provide the basis for
enforcement action, including misleading or untimely reports filed with
regulatory authorities.

R&G Mortgage

The mortgage banking business conducted by R&G Mortgage is subject to
the rules and regulations of FHA, VA, FNMA, FHLMC and GNMA with respect to
originating, processing, selling and servicing mortgage loans and the issuance
and sale of mortgage-backed securities. Those rules and regulations, among other
things, prohibit discrimination and establish underwriting guidelines which
include provisions for inspections and appraisals, require credit reports on
prospective borrowers and fix maximum loan amounts and, with respect to VA
loans, fix maximum interest rates. Moreover, lenders are required annually to
submit to FNMA, FHA, FHLMC, GNMA and VA audited financial statements, and each
regulatory entity has its own financial requirements. R&G Mortgage's affairs are
also subject to supervision and examination by FNMA, FHA, FHLMC, GNMA, HUD and
VA at all times to assure compliance with the applicable regulations, policies
and procedures. Mortgage origination activities are subject to, among others,
the Equal Credit Opportunity Act, Federal Truth-in-Lending Act and the Real
Estate Settlement Procedures Act and the regulations promulgated thereunder.

52

R&G Mortgage's mortgage loan production activities are subject to the Federal
Truth-in-Lending Act and Regulation Z promulgated thereunder. The
Truth-in-Lending Act contains disclosure requirements designed to provide
consumers with uniform, understandable information with respect to the terms and
conditions of loans and credit transactions in order to give them the ability to
compare credit terms. The Truth-in-Lending Act provides consumers a three day
right to cancel certain credit transactions, including any refinance mortgage or
junior mortgage loan on a consumer's primary residence.

R&G Mortgage is required to comply with the Equal Credit Opportunity
Act of 1974, as amended ("ECOA"), and Regulation B promulgated thereunder, which
prohibit creditors from discriminating against applicants on the basis of race,
color, sex, age or marital status, and restrict creditors from obtaining certain
types of information from loan applicants. It also requires certain disclosures
by lenders regarding consumer rights and requires lenders to advise applicants
of the reasons for any credit denial. In instances where the applicant is denied
credit or the rate or charge for loan increases as a result of information
obtained from a consumer credit agency, another statute, The Fair Credit
Reporting Act of 1970, as amended, requires the lenders to supply the applicant
with the name and address of the reporting agency.

The Federal Real Estate Settlement Procedures Act ("RESPA") imposes,
among other things, limits on the amount of funds a borrower can be required to
deposit with R&G Mortgage in any escrow account for the payment of taxes,
insurance premiums or other charges.

R&G Mortgage is also subject to regulation by the OCFI, with respect
to, among other things, licensing requirements and the record-keeping,
examination and reporting requirements of the Puerto Rico Mortgage Banking
Institutions Law (the "Mortgage Banking Law"). R&G Mortgage is licensed by the
OCFI as a mortgage banking institution in Puerto Rico. Such authorization to act
as a mortgage banking institution must be renewed as of January 1 of each year.
In the past, R&G Mortgage has not had any difficulty in renewing its
authorization to act as a mortgage banking institution, and management is
unaware of any existing practices, conditions or violations which would result
in R&G Mortgage being unable to receive such authorization in the future.

The Mortgage Banking Law requires the prior approval of the OCFI for
the acquisition of control of any mortgage banking institution licensed under
the Mortgage Banking Law. For purposes of the Mortgage Banking Law, the term
"control" means the power to direct or influence decisively, directly or
indirectly, the management or policies of a mortgage banking institution. The
Mortgage Banking Law provides that a transaction that results in the holding of
less than 10% of the outstanding voting securities of a mortgage banking
institution shall not be considered a change of control. Pursuant to the
Mortgage Banking Law, upon receipt of notice of a proposed transaction that may
result in change of control, the OCFI is obligated to make such inquires as it
deems necessary to review the transaction. Under the Mortgage Banking Law, the
determination of the OCFI whether or not to authorize a proposed change of
control is final and non-appealable.

53

As is the case with the Bank, the rate of interest that R&G Mortgage may charge
on mortgage loans to individuals is subject to Puerto Rico's usury laws. Such
laws are administered by the Financing Board which promulgates regulations that
specify maximum rates on various types of loans to individuals. Regulation 26-A
promulgated by the Financing Board fixes the maximum rate (which is adjusted on
a weekly basis) which may be charged on residential first mortgage loans.
Effective April 1996, the Financing Board eliminated the regulations that set
forth the maximum interest rates that could be charged on non-federal government
guaranteed loans.

54

Item 2. Properties.

The Company's principal executive office is located at 280 Jesus T.
Pinero Avenue, Hato Ray, San Juan, Puerto Rico 00918. The following table sets
forth the net book value (including leasehold improvements and equipment) and
certain other information with respect to the offices and other properties of
R&G Financial at December 31, 1998, all of which properties are leased.

Net Book Value
Description/Address Lease Term Expiration of Property
------------------- --------------------- -----------
(In Thousands)

The Bank:
Hato Rey Branch(1)(2)(3) December 31, 2003 $1,547
280 Jesus T. Pinero Avenue One (1) five year option
Hato Rey, PR 00919

Los Jardines Branch September 4, 1999 97
Los Jardines de Guaynabo Shopping Center One (1) ten year option
PR Road No. 20
Guaynabo, PR 00969

San Patricio Branch(4) June 30, 2013 257
San Patricio Plaza
Ortegon Street
Guaynabo, PR 00969

Bayamon Branch(2)(3) May 31, 2001 265
42-43 Betances Avenue One (1) ten year option
Urb. Hermanas Davila
Bayamon, PR 00959

Bayamon East Branch(4) January 10, 2001 432
Road #174, Lot 100 Two (2) five year options
Urb. Ind. Minillas
Bayamon, PR 00959

Arecibo Branch(3) December 31, 2001 110
Marginal Vista Azul Two (2) five year options
Corner San Daniel Avenue
Arecibo, PR 00612

Manati Branch(3) August 8, 2009 448
Plaza Puerta del Sol Four (4) five year options
PR Road No. 2, Km. 49.7
Manati, PR 00674

55

Net Book Value
Description/Address Lease Term Expiration of Property
------------------- --------------------- -----------
(In Thousands)

Carolina Branch(4) July 31, 2003 349
65th Infantry Avenue
Corner San Marcos Street
Carolina, PR 00985

Trujillo Alto Branch(4) October 31, 2004 101
Trujillo Alto Shopping Center
Trujillo Alto, PR 00976

Santurce Branch(4) April 30, 1999 323
1077 Ponce de Leon Avenue Three (3) six year options
Santurce, PR 00917

Laguna Gardens Branch(4) April 30, 1999 119
Laguna Gardens Shopping Center One (1) five year option
Isla Verde
Carolina, PR 00979

Plaza Carolina Branch(4) May 31, 2000 163
Plaza Carolina Mall
Carolina, PR 00985

Norte Shopping Branch(4) April 30, 2000 128
Norte Shopping Center Two (2) five year options
Baldorioty de Castro Avenue
San Juan, PR 00907

Vega Baja Branch(4) May 31, 2003 332
Cabo Caribe Development One (1) five year option
PR Road No. 2, Marginal
Vega Baja, PR 00693

Mayaguez Branch(3) April 30, 2002 582
McKinley Street Three (3) five year options
Corner Dr. Vady
Mayaguez, PR 00680

Fajardo I Branch(2)(4) March 15, 2003 381
Garrido Morales Street Two (2) Five Year Options
Corner San Rafael
Fajardo, PR 00738

Martinez Nadal Branch(4) June 14, 2003 627
Paradise Mall Two (2) Five Year Options
Corner Jesus T. Pinero Ave.
Rio Piedras, PR 00925

56

Net Book Value
Description/Address Lease Term Expiration of Property
------------------- --------------------- -----------
(In Thousands)

Ponce Branch(4) March 31, 2000 292
Lifetime Building Lot 5 Three (5) Year Options
Urb. Industrial San Rafael
Ponce, PR 00731

Fajardo II Branch(4) September 30, 1999 41
Celis Aguilera #161 One (1) Seven Year Option
Fajardo, PR 00738

Plaza del Sol Branch(4) November 15, 2010 724
Plaza del Sol Mall Two (2) Four Year Options
725 West Main Ave.
Bayamon, PR 00961

Operations Center(2) January 10, 2001 2,443
Road #174, Lote 100 Two (2) five year options
Urb. Ind. Minillas
Bayamon, PR 00959

Branch locations to be -- 609
---
opened in 1999

10,370
------

Champion Mortgage:

Hato Rey Branch June 30, 2003 53
295 Jesus T. Pinero One (1) five year option
San Juan, PR 00918

Ponce Branch May 1, 2003 26
--
Las Americas Ave
Ext. Buena Vista #25
Ponce, PR 00731 79
----- --

57

Net Book Value
Description/Address Lease Term Expiration of Property
------------------- --------------------- -----------
(In Thousands)

R&G Mortgage:

Caguas Office July 31, 2000 8
D-9 Degetau Street One (1) five year option
Urb. San Alfonso
Caguas, PR 00725

Los Jardines Office(5) August 1, 2006 18
Los Jardines de Guaynabo Shopping Center One (1) five year option
PR Road No. 20
Guaynabo, PR 00969

Hato Rey Office(2)(3) December 31, 2002 2,364
280 Jesus T. Pinero Avenue Two (2) five year options
Hato Rey, PR 00919

Bayamon Office(2)(3) May 30, 2001 78
42-43 Betances Avenue One (1) ten year option
Urb. Hermanas Davila
Bayamon, PR 00959

Arecibo Office(3) January 1, 2002 7
Marginal Vista Azul Two (2) five year options
Corner San Daniel Avenue
Arecibo, PR 00612

Manati Office(3)(6) October 30, 2003 12
Plaza Puerta del Sol One (1) five year option
PR Road No. 2, Km. 49.7
Manati, PR 00674

58

Net Book Value
Description/Address Lease Term Expiration of Property
------------------- --------------------- -----------
(In Thousands)

Mayaguez Office(3)(6) October 30, 2003 26
-----
McKinley Street One (1) five year option
Corner Dr. Vady
Mayaguez, PR 00680
2,513
$12,962

(1) Also serves as the main office of R&G Financial.

(2) Leased from VIG Leasing, S.E., which is owned by the family of Victor
J. Galan, Chairman of the Board and Chief Executive Officer of R&G
Financial.

(3) The Bank and R&G Mortgage each maintain separate offices in the same
building.

(4) Facility includes an R&G Mortgage Banking Center.

(5) The Bank maintains an office at this location in a separate facility.

Item 3. Legal Proceedings.

The Company is not involved in any pending legal proceedings other than
nonmaterial legal proceedings occurring in the ordinary course of business.

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

Not applicable.

59

PART II.

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.

The information required herein is incorporated by reference from page
75 of the Registrant's 1998 Annual Report.

Item 6. Selected Financial Data.

The information required herein is incorporated by reference from pages
25 to 27 of the Registrant's 1998 Annual Report.

Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.

The information required herein is incorporated by reference from pages
28 to 40 of the Registrant's 1998 Annual Report.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk.

The information required herein is incorporated by reference from pages
31 to 32 of the Registrant's 1998 Annual Report.

Item 8. Financial Statements and Supplementary Data.

The information required herein is incorporated by reference from pages
41 to 74 of the Registrant's 1998 Annual Report.

Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure.

Not applicable.

PART III.

Item 10. Directors and Executive Officers of the Registrant.

The information required herein is incorporated by reference from pages
3 to 8 of the Registrant's Proxy Statement dated March 30, 1999 ("Proxy
Statement").

Item 11. Executive Compensation.

The information required herein is incorporated by reference from pages
12 to 15 of the Registrant's Proxy Statement.

60

Item 12. Security Ownership of Certain Beneficial Owners and Management.

The information required herein is incorporated by reference from pages
9 to 11 of the Registrant's Proxy Statement.

Item 13. Certain Relationships and Related Transactions.

The information required herein is incorporated by reference from pages
16 to 18 of the Registrant's Proxy Statement.

PART IV.

Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.

(a) Documents Filed as Part of this Report

(1) The following financial statements are incorporated by reference
from Item 8 hereof (see Exhibit 13):

Independent Auditors' Report.

Consolidated Statements of Financial Condition as of December
31, 1998 and 1997.

Consolidated Statements of Income for the Years Ended December
31, 1998, 1997 and 1996.

Consolidated Statements of Cash Flows for the Years Ended
December 31, 1998, 1997 and 1996.

Consolidated Statements of Changes in Stockholders' Equity for
the Years Ended December 31, 1998, 1997 and 1996.

Notes to Consolidated Financial Statements.

(2) All schedules for which provision is made in the applicable
accounting regulation of the SEC are omitted because of the absence of
conditions under which they are required or because the required information is
included in the consolidated financial statements and related notes thereto.

61

(3) The following exhibits are filed as part of this Form 10-K, and
this list includes the Exhibit Index.

No. Description
- ------------ -------------------------------------------------------------------------------------------------

2.0 Amended and Restated Agreement and Plan of Merger by and between R&G Financial
Corporation, the Bank and R-G Interim Premier Bank, dated as of September 27,
1996.(1)
3.1 Certificate of Incorporation of R&G Financial Corporation.(2)
3.2 Certificate of Amendment to Certificate of Incorporation of R&G Financial
Corporation.(2)
3.3 Bylaws of R&G Financial Corporation.(2)
3.4 Form of Certificate of Resolutions designating the terms of the Series A Preferred Stock
(defined below).(3)
4.0 Specimen of Stock Certificate of R&G Financial Corporation.(2)
4.1 Form of Series A Preferred Stock (defined below) Certificate of R&G Financial
Corporation.(3)
10.1 Master Purchase, Servicing and Collection Agreement between R&G Mortgage and the
Bank dated February 16, 1990, as amended on April 1, 1991, December 1, 1991,
February 1, 1994 and July 1, 1994.(2)
10.2 Master Custodian Agreement between R&G Mortgage and the Bank dated February 16,
1990, as amended on June 27, 1996.(2)
10.3 Master Production Agreement between R&G Mortgage and the
Bank dated February 16, 1990, as amended on August 30,
1991 and March 31, 1995.(2)
10.4 Data Processing Computer Service Agreement between R&G Mortgage and R-G
Premier Bank dated December 1, 1994.(2)
10.5 Securitization Agreement by and between R&G Mortgage and the Bank, dated as of July
1, 1995.(2)
10.6 R&G Financial Corporation Stock Option Plan.(2)(*)
13.0 1998 Annual Report to Stockholders.
21.0 Subsidiaries of the Registrant - Reference is made to "Item 1. Business" for the required
information.
27.0 Financial Data Schedule.
99.1 Valuation Report on Minority Interest of Bank Stockholders, prepared by Friedman,
Billings, Ramsey & Co., Inc., dated June 13, 1996.(2)
99.2 Update to Valuation on Minority Interest of Bank Stockholders, prepared by Friedman,
Billings, Ramsey & Co., Inc., dated September 27, 1996.(1)

(1) Incorporated by reference from the Registration Statement on Form S-4
(Registration No. 333-13199) filed by the Registrant with the
Securities and Exchange Commission ("SEC") on October 1, 1996.

(2) Incorporated by reference from the Registration Statement on Form S-1
(Registration No. 333-06245) filed by the Registrant with the SEC on
June 18, 1996, as amended.

(3) Incorporated by reference from the Registrant's Registration Statement
on Form S-3 (Registration No. 333-60923), as amended, filed with the
SEC on August 7, 1998.

(*) Management contract or compensatory plan or arrangement.

62

(3)(b) Reports on Form 8-K.

None.

63

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

R&G FINANCIAL CORPORATION

March 30, 1999 By: /s/ Victor J. Galan
-------------------
Victor J. Galan
Chairman of the Board, President and
Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.

/s/ Victor J. Galan March 30, 1999
- -------------------
Victor J. Galan
Chairman of the Board, President and
Chief Executive Officer
(principal executive officer)

/s/ Joseph R. Sandoval March 30, 1999
- ----------------------
Joseph R. Sandoval
Senior Vice President and Chief Financial
Officer (principal financial and
accounting officer)

/s/ Ana M. Armendariz March 30, 1999
- ---------------------
Ana M. Armendariz
Director and Treasurer

/s/ Ramon Prats March 30, 1999
Ramon Prats
Executive Vice President and Director

/s/ Enrique Umpierre-Suarez March 30, 1999
Enrique Umpierre-Suarez
Director and Secretary

/s/ Victor L. Galan Fundora March 30, 1999
- ----------------------------
Victor L. Galan Fundora
Director

/s/ Juan J. Diaz March 30, 1999
- ----------------
Juan J. Diaz
Director

/s/ Pedro Ramirez March 30, 1999
- -----------------
Pedro Ramirez
Director

/s/ Laureno Carus Abarca March 30, 1999
- ------------------------
Laureno Carus Abarca
Director

/s/ Eduardo McCormack March 30, 1999
- ---------------------
Eduardo McCormack
Director

/s/ Gilberto Rivera-Arrega March 30, 1999
- --------------------------
Gilberto Rivera-Arreaga
Director

/s/ Benigno R. Fernandez March 30, 1999
- ------------------------
Benigno R. Fernandez
Director

/s/Ileana M. Colon-Carlo March 30, 1999
- ------------------------
Ileana M. Colon-Carlo
Director

/s/Roberto Gorbea March 30, 1999
- -----------------
Roberto Gorbea