SECURITIES AND EXCHANGE COMMISSION

FORM 10-K

FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004

OR

FOR THE TRANSITION PERIOD FROM TO

COMMISSION FILE NO. 000-27377

W HOLDING COMPANY, INC.

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE: (787) 834-8000

SECURITIES REGISTERED PURSUANT TO SECTION 12 (B) OF THE ACT:

COMMON STOCK ($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

SECURITIES REGISTERED PURSUANT TO SECTION 12 (G) OF THE ACT:

7.125% NONCUMULATIVE, CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 1998 SERIES A
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

7.25% NONCUMULATIVE, NON-CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 1999 SERIES B
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

7.60% NONCUMULATIVE, NON-CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 2001 SERIES C
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

7.40% NONCUMULATIVE, NON-CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 2001 SERIES D
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

6.875% NONCUMULATIVE, NON-CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 2002 SERIES E
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

6.70% NONCUMULATIVE, NON-CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 2003 SERIES F
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

6.90% NONCUMULATIVE, NON-CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 2003 SERIES G
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

6.70% NONCUMULATIVE, NON-CONVERTIBLE MONTHLY INCOME PREFERRED STOCK, 2004 SERIES H
($1.00 PAR VALUE PER SHARE)
(TITLE OF CLASS)

Indicate by check mark whether the registrant (1) has filed all reports required 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 þ No o

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. o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12-b-2 of the Exchange Act).
YES  þ  NO  o

The aggregate market value of the voting and non-voting stock held by nonaffiliates of the registrant as of June 30, 2004 was $1,832,382,780 based upon the reported closing sales price of $11.22 (as adjusted) on the New York Stock Exchange as of June 30, 2004.

Number of shares of Common Stock outstanding as of February 28, 2005: 163,954,777.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive Proxy Statement for the Registrant’s Annual Meeting of Shareholders to be held on May 27, 2005 are incorporated by reference into Part III, Items 10, 11, 12, 13 and 14 of this Form 10-K.

Table of Contents

FORWARD-LOOKING STATEMENTS

     Certain statements in this Form 10-K, especially within Management’s Discussion and Analysis of Financial Condition and Results of Operations, will include forward-looking statements within the meaning of the Securities Exchange Act of 1934, as amended. In general, the word or phrases “will likely result”, “are expected to”, “will continue”, “is anticipated”, “estimate”, “project”, “believe” or similar expressions are intended to identify “forward-looking statements”. In addition, certain disclosures and information customarily provided by financial institutions, such as analysis of the adequacy of the allowance for loan losses or an analysis of the interest rate sensitivity of the Company’s assets and liabilities, are inherently based upon predictions of future events and circumstances. Although the Company makes such statements based on assumptions which it believes to be reasonable, there can be no assurance that actual results will not differ materially from the Company’s expectations. Some of the important factors which could cause its results to differ from any results which might be projected, forecasted or estimated, based on such forward-looking statements include: (i) general economic and competitive conditions in the markets in which the Company operates, and the risks inherent in its operations; (ii) the Company’s ability to manage its credit risk and control its operating expense, increase earning assets and non-interest income, and maintain its net interest margin; and (iii) the level of demand for new and existing products. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those described in the forward-looking statements. Except as required by applicable law, the Company does not intend, and specifically disclaims any obligation, to update forward-looking statements.

PART I

ITEM 1. BUSINESS

GENERAL

     W Holding Company, Inc. (the “Company”) is a financial holding company offering a full range of financial services. The business of the Company is conducted primarily through its wholly owned commercial bank subsidiary, Westernbank Puerto Rico (“Westernbank” or the “Bank”). The Company’s other direct subsidiary is Westernbank Insurance Corp. The Company was organized under the laws of the Commonwealth of Puerto Rico in February 1999 to become the bank holding company of Westernbank. Westernbank was founded as a savings institution in 1958 operating in the western and southwestern regions of Puerto Rico, focusing on retail banking and emphasizing long-term fixed-rate residential mortgage loans on one-to-four family residential properties. In 1994, Westernbank changed its charter to become a full-service commercial bank. Westernbank offers a full range of business and consumer financial services, including banking, trust and brokerage services. Westernbank Insurance Corp. is a general insurance agent placing property, casualty, life and disability insurance. The assets, liabilities, revenues and expenses of Westernbank Insurance Corp. at December 31, 2004 and 2003, and for each of the three years in the period ended December 31, 2004, were not significant.

     In July 2000, the Company became a financial holding company under the Bank Holding Company Act. As a financial holding company, the Company is permitted to engage in financial related activities, including insurance and securities activities, provided that the Company and its banking subsidiary meet certain regulatory standards.

     At December 31, 2004, the Company had total assets of $14.34 billion, a loan portfolio-net of $5.94 billion, an investment portfolio of $6.93 billion, excluding money market instruments of $1.1 billion, deposits of $6.23 billion, borrowings of $6.93 billion and stockholders’ equity of $1.08 billion. The Company has improved its efficiency ratio from 47.14% in 2000, to 30.51% for the year ended December 31, 2004.

     Westernbank is the second largest commercial bank in Puerto Rico, based on total assets at December 31, 2004. Westernbank operates through a network of 52 bank branches, including 19 Expresso of Westernbank branches, located throughout Puerto Rico, primarily in the western and southwestern regions of the island, and a website on the Internet. Westernbank traditional banking operations include retail operations, such as its branches, including the branches of the Expresso division, together with consumer loans, mortgage loans, commercial loans (excluding the asset-based lending operations), investments (treasury) and deposit products. Besides the traditional banking operations, Westernbank operates other four divisions: Westernbank International Division, which is an International Banking Entity (“IBE”) under the Puerto Rico Act No. 52 of August 11, 1989, as amended, known as the International Banking Regulatory Act, which activities consist of commercial and related services, and treasury and investment activities outside of Puerto Rico; Westernbank Business Credit, which specializes in commercial business loans secured principally by real estate, accounts receivable, inventory and equipment; Westernbank Trust Division, which offers a full array of trust services; and Expresso of Westernbank, a division which specializes in small, unsecured consumer loans up to $15,000 and real estate collateralized consumer loans up to $150,000. Westernbank owns 100% of the voting shares of Westernbank World Plaza, Inc. (“WWPI”), which owns and operates Westernbank World Plaza; a 23-story office building, including its related parking facility, located in Hato Rey, Puerto Rico, the main Puerto Rican business district. Westernbank also owns 100% of the voting shares of SRG Net, Inc., a Puerto Rico corporation that operates an electronic funds transfer network. The assets, liabilities, revenues and expenses of SRG Net, Inc. at December 31, 2004 and 2003, and for each of the three years in the period ended December 31, 2004, were not significant.

     Westernbank seeks to differentiate itself from other banks by focusing on customer relationships and personalized service, offering customers direct access to senior management. As part of this strategy, Westernbank strives to make fast and effective decisions locally. Westernbank’s branches offer modern facilities with advanced technology and remain open to customers for longer hours compared to many other local banks, with a number of branches offering both Saturday and Sunday hours. In addition, Westernbank trains its employees to promote an effective and customer-focused sales culture. Westernbank is one of the fastest-growing commercial banks in Puerto Rico, increasing both total assets and loans at an average annual growth rate of over 26.07% for the last five fiscal years. The Company has achieved this growth while maintaining a ratio of non-performing loans to total loans well below 1.00%.

     The Company continues to emphasize on growing Westernbank’s commercial loan portfolio through commercial real estate, asset-based, unsecured business and construction lending, as well as its consumer loan and investment securities portfolios. As a result, the Company has shifted its asset composition from primarily traditional long-term fixed-rate residential mortgage loans to assets with shorter maturities and greater repricing flexibility. As of December 31, 2004, commercial loans were $3.92 billion or 66.03% (80.41% collateralized by real estate) and consumer loans were $866.9 million or 14.59% (67.50% collateralized by real estate) of the $5.94 billion loan portfolio-net. Investment securities, excluding money market instruments of $1.1 billion, totaled $6.93 billion at December 31, 2004. These loans and securities tend to have shorter maturities and reprice faster than traditional residential mortgage loans. The Company also continues to diversify and grow Westernbank’s sources of revenue, while maintaining its status as a secured lender, with approximately 83% of its loans collateralized by real estate as of December 31, 2004.

     The Company is focused on the expansion of Westernbank in the San Juan metropolitan area. We have opened 12 branches in the San Juan metropolitan area since 1998, including seven Expresso of Westernbank branches in July 2002. In the first quarter of 2002, Westernbank acquired Westernbank World Plaza; a 23-story office building that is the tallest in Puerto Rico’s main business district and now serves as the Company’s San Juan metropolitan area headquarters, our regional commercial lending office and the headquarters for the Westernbank Business Credit and Expresso of Westernbank divisions. In addition, the Company continues to build upon its existing platform and further expand its fee-based businesses, including insurance brokerage, trust services and securities brokerage. On October 22, 2004, Westernbank opened its most advanced banking branch in the historic city of Old San Juan, Puerto Rico.

     Commercial lending, including commercial real estate and asset-based lending, unsecured business lending and construction lending, generally carry a greater risk than residential lending because such loans are typically larger in size and more risk is concentrated in a single borrower. In addition, the borrower’s ability to repay a commercial loan or a construction loan depends, in the case of a commercial loan, on the successful operation of the business or the property securing the loan and, in the case of a construction loan, on the successful completion and sale or operation of the project. Substantially all of the Company’s borrowers and properties and other collateral securing the commercial, real estate mortgage and consumer loans are located in Puerto Rico. These loans may be subject to a greater risk of default if the Puerto Rico economy suffers adverse economic, political or business developments, or if natural disasters affect Puerto Rico.

     The Company’s financial performance is reported in two primary business segments, the traditional banking operations of Westernbank Puerto Rico and the activities of Westernbank’s division known as Westernbank International. Other operations of the Company, not reportable in either segment, include Westernbank Business Credit Division; Westernbank Trust Division; SRG Net, Inc.; Westernbank Insurance Corp.; Westernbank World Plaza, Inc.; and the transactions of the parent company only, which mainly consist of other income related to the equity in the net income of its two wholly owned subsidiaries. Separate condensed financial information of the Parent Company only is provided in Note 24 (page 120) to the audited consolidated financial statements, included in Part II, Item 8.

     The traditional banking operations of Westernbank Puerto Rico include retail operations, such as its branches, including the branches of the Expresso division, together with consumer loans, mortgage loans, commercial loans (excluding the asset-based lending operations), investments (treasury) and deposits products. Consumer loans include loans such as personal, collateralized personal loans, credit cards, and small loans. Commercial products consist of commercial loans including commercial real estate, unsecured commercial and construction loans.

     Westernbank International’s business activities consist of commercial banking and related services, and treasury and investment activities outside of Puerto Rico. As of December 31, 2004, 2003, and 2002, and for the periods then ended, substantially all of Westernbank International’s business activities consisted of investment in securities and loans.

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     Established in 2001, Westernbank Insurance Corp. is a general insurance agent placing property, casualty, life and disability insurance on which it earns commission income. Currently, most of the agency’s volume is derived from two areas — mortgage insurance on residential mortgage loans and credit life insurance for borrowers of personal loans.

     The Company and its wholly owned subsidiaries’ executive offices are located at 19 West McKinley Street, Mayagüez, Puerto Rico 00681, and the telephone number is (787) 834-8000. The Company also maintains a website, which can be accessed at http://www.wholding.com.

     The information required by Item 101 (b) of Regulation S-K appears in the Company’s Consolidated Financial Statements, and is included in Part II, Item 8.

     For information about the geographic areas in which we operate, see “Economic Conditions, Market Area and Competition” and is incorporated herein. See Note 23 (page 117) to the audited consolidated financial statements, included in Part II, Item 8, for further information about the Company’s business segments.

LENDING ACTIVITIES

     GENERAL. At December 31, 2004, Westernbank’s net loans amounted to $5.94 billion or 41.44% of total assets.

     The following table sets forth the composition of the Westernbank’s loans portfolio at the dates indicated.

     Residential real estate mortgage loans are mainly comprised of loans secured by first mortgages on one-to-four family residential properties. At December 31, 2004, residential mortgage loans included $11.6 million of mortgages insured or guaranteed by government agencies of the United States or Puerto Rico.

     Westernbank originated $1.70 billion of commercial real estate loans, including asset-based and construction loans, during the year ended December 31, 2004. At December 31, 2004, commercial real estate loans totaled $3.15 billion. In general, commercial real estate loans are considered by management to be of somewhat greater risk of uncollectibility than residential lending because such loans are typically larger in size and more risk is concentrated in a single borrower. In addition, the borrower’s ability to repay a commercial loan or a construction loan depends, in the case of a commercial loan, on the successful operation of the business or the property securing the loan and, in the case of a construction loan, on the successful completion and sale or operation of the project. Substantially all of the Company’s borrowers and properties and other collateral securing the commercial, real estate mortgage and consumer loans are located in Puerto Rico. These loans may be subject to a greater risk of default if the Puerto Rico economy suffers adverse economic, political or business developments, or if natural disasters affect Puerto Rico. Foreign loans amounted to $2.2 million at December 31, 2004. At December 31, 2004, the Company maintained its status as a secured lender, with approximately 83% of its loans collateralized by real estate.

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     The portfolio of Consumer and Other loans at December 31, 2004, consisted of consumer loans of $866.9 million, of which $585.2 million are secured by real estate, $252.1 million are unsecured consumer loans (consisting of $132.0 million of the Expresso of Westernbank division loans portfolio, credit card loans of $53.3 million and other consumer loans of $66.8 million) and loans secured by deposits in Westernbank totaling $29.6 million.

     During 2004, Westernbank securitized $7.5 million and $3.3 million of residential mortgage loans into Government National Mortgage Association and Fannie Mae participation certificates, respectively, and sold loans amounting to $22.0 million to Fannie Mae. Westernbank continues to service outstanding loans which are securitized and those individually sold to Fannie Mae.

     The following table summarizes the contractual maturities of Westernbank’s total loans for the periods indicated at December 31, 2004. Contractual maturities do not necessarily reflect the actual term of a loan, including prepayments.

     ORIGINATION, PURCHASE AND SALE OF LOANS. Westernbank’s loan originations come from a number of sources. The primary sources for residential loan originations are depositors and walk-in customers. Commercial loan originations come from existing customers as well as through direct solicitation and referrals.

     Westernbank originates loans in accordance with written, non-discriminatory underwriting standards and loan origination procedures prescribed in the Board of Directors approved loan policies. Detailed loan applications are obtained to determine the borrower’s repayment ability. Applications are verified through the use of credit reports, financial statements and other confirmation procedures. Property valuations by independent appraisers approved by the Board of Directors are required for mortgage and all real estate loans.

     Westernbank’s Senior Credit Committee approval is required for all loans in excess of $5.0 million ($15.0 million in the case of Westernbank Business Credit Division). The Senior Credit Committee also reviews and ratifies all loans from $1.0 million, to $5.0 million approved by Westernbank’s regional credit committees. The Senior Credit Committee is composed by a majority of the members of the Company’s Board of Directors and senior lending officers. All loans in excess of $5.0 million ($15.0 million for Westernbank Business Credit Division) approved by the Senior Credit Committee are also reviewed and ratified by the Board of Directors. All loans in excess of $50.0 million require the approval of the Board of Directors.

     It is Westernbank’s policy to require borrowers to provide title insurance policies certifying or ensuring that Westernbank has a valid first lien on the mortgaged real estate. Borrowers must also obtain hazard insurance policies prior to closing and, when required by the Department of Housing and Urban Development, flood insurance policies. Borrowers may be required to advance funds on a monthly basis together with each payment of principal and interest to a mortgage escrow account from which Westernbank makes disbursements for items such as real estate taxes, hazard insurance premiums and private mortgage insurance premiums as they fall due.

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     Westernbank originates most of its residential real estate loans as conforming loans, eligible for sale in the secondary market. The loan-to-value ratio at the time of origination on residential mortgages is generally 75%, except that Westernbank may lend up to 90% of the lower of the purchase price or appraised value of residential properties if private mortgage insurance is obtained by the borrower for amounts in excess of 80%.

     Westernbank originates fixed and adjustable rate residential mortgage loans secured by a first mortgage on the borrower’s real property, payable in monthly installments for terms ranging from ten to forty-five years. Adjustable rates are indexed to specified prime or LIBOR rate. All 30 year conforming mortgages are originated with the intent to sell. In addition to its residential loan originations, Westernbank also purchases residential first mortgage loans from other mortgage originators in Puerto Rico. During the year ended December 31, 2004, Westernbank purchased $250.1 million of such loans.

     Westernbank originates primarily variable and adjustable rate commercial business and real estate loans. Westernbank also makes real estate construction loans subject to firm permanent financing commitments. As of December 31, 2004, Westernbank’s commercial loan portfolio had a total delinquency ratio, including the categories of 60 days and over, of 0.55% (less than 1%), compared to 0.84% (less than 1%) at December 31, 2003. For further explanation on the delinquency ratio of the Company’s commercial loan portfolio refer to section “NON-PERFORMING LOANS AND FORECLOSED REAL ESTATE HELD FOR SALE” on next page.

     Westernbank offers different types of consumer loans in order to provide a full range of financial services to its customers. Within the different types of consumer loans offered by Westernbank, there are various types of secured and unsecured consumer loans with varying amortization schedules. In addition, Westernbank makes fixed-rate residential second mortgage consumer loans. In July 2002, Westernbank launched a new banking division focused on offering consumer loans through 19 full-service branches, called “Expresso of Westernbank”, denoting the branches’ emphasis on small, unsecured consumer loans up to $15,000 and collateralized consumer loans up to $150,000.

     Westernbank offers the service of VISA ™ and Master Card ™ credit cards. At December 31, 2004, there were approximately 24,324 outstanding accounts, with an aggregate outstanding balance of $53.3 million and unused credit card lines available of $95.4 million.

     In connection with all consumer loans originated, Westernbank’s underwriting standards include a determination of the applicants’ payment history on other debts and an assessment of the ability to meet existing obligations and payments on the proposed loan. As of December 31, 2004, Westernbank’s consumer loan portfolio, including the Expresso of Westernbank loan portfolio, had a total delinquency ratio, including the categories of 60 days and over, of 1.03%, compared to 0.89% at December 31, 2003. The increase in the delinquency ratio from 2003 to 2004 was mainly due to an increased number of delinquencies in regular consumer loans past due over 90 days which are collateralized by real estate properties.

     Westernbank has 83% of its loan portfolio as of December 31, 2004, secured by real estate. Our combined delinquency on all portfolios for the categories of 60 days and over continues to be below our benchmark of 1% for both periods, being 0.57% at December 31, 2004, and 0.74% at December 31, 2003.

     INCOME FROM LENDING ACTIVITIES. Westernbank realizes interest income and fee income from its lending activities. For the most part, interest rates charged by Westernbank on loans depend upon the general interest rate environment, the demand for loans and the availability of funds. Westernbank also receives fees for originating and committing to originate or purchase loans and also charges service fees for the assumption of loans, late payments, inspection of properties, appraisals and other miscellaneous services.

     Loan origination and commitment fees vary with the volume and type of loans and commitments made and sold and with competitive conditions in the residential and commercial mortgage markets. Loan origination fees net of related direct loan origination costs are deferred and amortized over the life of the related loans as a yield adjustment using the interest method. Commitment fees are also deferred and amortized over the life of the related loans as a yield adjustment. If the commitment expires unexercised, the fee is taken into income.

     Westernbank recognizes as separate assets the rights to service mortgage loans for others, regardless of how those servicing rights are acquired and assesses the capitalized mortgage servicing rights for impairment based on the fair value of those rights. Servicing assets are evaluated for impairment based upon the fair value of the rights as compared to amortized cost. Fair value is determined using prices for similar assets with similar characteristics. Impairment is recognized through a valuation allowance for an individual

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servicing right, to the extent that fair value is less than the carrying amount for that right. The total cost of mortgage loans to be sold with servicing rights retained is allocated to the mortgage servicing rights and the loans (without the mortgage servicing rights), based on their relative fair values. Mortgage servicing rights are amortized in proportion to, and over the period of, estimated servicing income.

     NON-PERFORMING LOANS AND FORECLOSED REAL ESTATE. When a borrower fails to make a required payment on a loan, Westernbank attempts to cure the deficiency by contacting the borrower. In most cases, deficiencies are cured promptly. If the delinquency exceeds 90 days and is not cured through normal collection procedures, Westernbank will generally institute measures to remedy the default. If a foreclosure action is instituted and the loan is not cured, paid in full or refinanced, the property is sold at a judicial sale at which Westernbank may acquire the property. In the event that the property is sold at a price insufficient to cover the balance of the loan, the debtor remains liable for the deficiency. Thereafter, if Westernbank acquires the property, such acquired property is appraised and included in the foreclosed real estate held for sale account at the fair value at the date of acquisition. Then, this asset is carried at the lower of fair value less estimated costs to sell or cost until the property is sold.

     The accrual of interest on loans is discontinued when there is a clear indication the borrower’s cash flow may not be sufficient to meet payments as they become due, but in no event is it recognized after 90 days in arrears on payments of principal or interest. When a loan is placed on nonaccrual status, all previously accrued and unpaid interest is charged against income and the loan is accounted for on the cash method thereafter, until qualifying for return to accrual status. Generally, a loan is returned to accrual status when all delinquent interest and principal payments become current in accordance with the terms of the loan agreement or when the loan is both well secured and in the process of collection and collectibility is no longer doubtful.

     The following table sets forth information regarding non-performing loans and foreclosed real estate held for sale by Westernbank at the dates indicated:

     The increase in non-performing loans from year end 2003, to year end 2004 was mostly attributed to one commercial loan with a principal balance of $1.5 million, collateralized by real estate. At December 31, 2004, this loan did not require a valuation allowance. At December 31, 2004, the allowance for possible loan losses was 233.64% of total non-performing loans (reserve coverage).

     The increase in non-performing loans from year end 2002, to year end 2003 was mostly attributed to eight commercial loans with principal balances of $1.6 million, $1.5 million, $1.1 million, $1.0 million, and four other loans with outstanding principal balances below $1.0 million, all of which are collateralized by real estate. At December 31, 2003, two of these loans with outstanding balances of $1.1 million and $695,000, had a specific valuation allowance of $277,000 and $201,000, respectively. At December 31, 2003, the allowance for possible loan losses was 197.17% of total non-performing loans (reserve coverage).

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     ALLOWANCE FOR LOAN LOSSES. Westernbank maintains an allowance for loan losses to absorb probable losses inherent in the loan portfolio. The allowance is based on ongoing, quarterly assessments of the probable estimated losses inherent in the loan portfolio, based on evaluations of the collectibility and historical loss experience of loans. The Company follows a systematic methodology to establish and evaluate the adequacy of the allowance for loan losses. This methodology consists of several key elements, which include:

     The Formula Allowance. The formula allowance is calculated by applying loss factors to outstanding loans not otherwise covered by specific allowances. Loss factors are based on historical loss experience and may be adjusted for significant factors that, in management’s judgment, reflect the impact of any current condition on loss recognition. Factors that management considers in the analysis include the effect of the national and local economies, trends in the nature and volume of loans (delinquencies, charge-offs, non-accrual and problem loans), asset quality trends, changes in the internal lending policies and credit standards, collection practices, and examination results from bank regulatory agencies and the Company’s internal credit examiners. Loss factors are described as follows:

	•	Loan loss factors for commercial loans, including construction and land acquisition loans, are based on historical loss trends for three to five years, as adjusted for management’s expected increase in the loss factors given the significant increase in such loan portfolios over the last few years.
	•	Pooled loan loss factors are also based on historical loss trends for one to three years. Pooled loans are loans that are homogeneous in nature, such as consumer installment, residential mortgage loans and credit cards.

     Specific Allowances for Identified Problem Loans and Portfolio Segments. Specific allowances are established and maintained where management has identified significant adverse conditions or circumstances related to a credit or portfolio segment that management believes indicate the probability that a loss has been incurred in excess of the amount determined by the application of the formula allowance. Larger commercial and construction loans that exhibit probable or observed credit weaknesses are subject to individual review. Where appropriate, allowances are allocated to individual loans based on management’s estimate of the borrower’s ability to repay the loan given the availability of collateral, other sources of cash flow and legal options available to Westernbank.

     In addition, the specific allowance incorporates the results of measuring impaired loans as provided in SFAS No. 114, Accounting by Creditors for Impairment of a Loan, as amended. This accounting standard prescribes the measurement methods, income recognition and disclosures concerning impaired loans.

     The Unallocated Allowance. An unallocated allowance is established recognizing the estimation risk associated with the formula and specific allowances. It is based upon management’s evaluation of various conditions, the effects of which are not directly measured in determining the formula and specific allowances. These conditions include then-existing general economic and business conditions affecting our key lending areas; credit quality trends, including trends in nonperforming loans expected to result from existing conditions, collateral values, loan volumes and concentrations, seasoning of the loan portfolio, recent loss experience in particular segments of the portfolio, regulatory examination results, and findings of our internal credit examiners. The evaluation of the inherent loss regarding these conditions involves a higher degree of uncertainty because they are not identified with specific problem credits or portfolio segments.

     Management assesses these conditions quarterly. If any of these conditions is evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management’s estimate of the effect of this condition may be reflected as a specific allowance applicable to this credit or portfolio segment. Where any of these conditions is not evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management’s evaluation of the probable loss concerning this condition is reflected in the unallocated allowance.

     The allowance for loan losses is based upon estimates of probable losses inherent in the loan portfolio. The amount actually observed for these losses can vary significantly from the estimated amounts. Our methodology includes several features that are intended to reduce the differences between estimated and actual losses. Historical loss factors for commercial and consumer loans may be adjusted for significant factors that, in management’s judgment, reflect the impact of any current condition on loss recognition. Factors which management considers in the analysis include the effect of the national and local economies, trends in the nature and volume of loans (delinquencies, charge-offs, non-accrual and problem loans), changes in the internal lending policies and credit standards, collection practices, and examination results from bank regulatory agencies and the Bank’s internal credit examiners. Loan loss factors are adjusted quarterly based upon the level of net charge-offs expected by management in the next twelve months, after taking into account historical loss ratios adjusted for current trends. By assessing the probable estimated losses inherent in the loan portfolio on a quarterly basis, we are able to adjust specific and inherent loss estimates based upon any more recent information that has become available.

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     At December 31, 2004, the allowance for loan losses was $80.1 million, consisting of $71.2 million general allowance (including the unallocated allowance) and $8.9 million of specific allowances. As of December 31, 2004, the allowance for loan losses equals 1.33% of total loans and 233.64% of total non-performing loans, compared with an allowance for loan losses at December 31, 2003 of $61.6 million, or 1.30% of total loans, and 197.17% of total non-performing loans.

     As of December 31, 2004, there have been no significant changes in estimation methods or assumptions that affected our methodology for assessing the appropriateness of the allowance for loan losses.

     The table below presents a reconciliation of changes in the allowance for loan losses for the periods indicated:

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     The following table presents the allocation of the allowance for credit losses, the loan portfolio composition percentage and the allowance coverage ratio in each loan category to total loans, as set forth in the “Loans” table on page 4, at the end of each year.

     Loans are classified as impaired or not impaired in accordance with SFAS No. 114. A loan is impaired when, based on current information and events, it is probable that Westernbank will be unable to collect the scheduled payments of principal or interest when due, according to the contractual terms of the agreement.

     Westernbank measures the impairment of a loan based on the present value of expected future cash flows discounted at the loan’s effective interest rate, or as a practical expedient, at the observable market price of the loan or the fair value of the collateral, if the loan is collateral dependent. Significant loans (those exceeding $500,000 in 2004 and 2003, and $250,000 in 2000 to 2002) are individually evaluated for impairment. Large groups of small balance, homogeneous loans are collectively evaluated for impairment; loans that are recorded at fair value or at the lower of cost or market are not evaluated for impairment. The portfolios of mortgage and consumer loans are considered homogeneous and are evaluated collectively for impairment.

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     Impaired loans for which the discounted cash flows, collateral value or market price exceeds its carrying value do not require an allowance. The allowance for impaired loans is part of the Company’s overall allowance for loan losses.

     The following table sets forth information regarding the investment in impaired loans:

     At December 31, 2004, Westernbank’s investment in impaired loans increased by $3.9 million or 7.14%, from $50.3 million as of December 31, 2003. The increase was mainly attributed to a newly classified loan with an aggregate outstanding principal balance of $10.9 million for which an allowance of $500,000 was established at December 31, 2004.

     At December 31, 2003, Westernbank’s investment in impaired loans remained relatively stable when compared to year 2002, although the loans comprising the balance may have changed. At December 31, 2002, Westernbank’s investment in impaired loans increased $8.1 million or 19.09%, from $42.5 million as of December 31, 2001, to $50.6 million as of December 31, 2002. This increase was principally attributed to four newly classified loans with an aggregate outstanding principal balance of approximately $13.0 million as of December 31, 2002. All loans are collateralized by real estate and required a combined valuation allowance of $823,000.

INVESTMENT ACTIVITIES

     The Company’s investments are managed by the Investment Department. Purchases and sales are required to be reported monthly to the Investment Committee (composed of members of the Board of Directors, as well as the President and Chief Executive Officer and the Chief Financial Officer).

     The Investment Department is authorized to purchase and sell federal funds, interest bearing deposits in banks, banker’s acceptances of commercial banks insured by the FDIC, mortgage and asset-backed securities, Puerto Rico and U.S. Government and agency obligations, municipal securities rated A or better by any of the nationally recognized rating agencies, commercial paper and corporate notes rated P-1 by Moody’s Investors Service, Inc or A-1 by Standard and Poor’s, a Division of the McGraw-Hill Companies, Inc. In addition, the Investment Department is responsible for the pricing and sale of deposits and repurchase agreements.

     At the date of purchase, the Company classifies debt and equity securities into one of three categories: held to maturity; trading; or available for sale. At each reporting date, the appropriateness of the classification is reassessed. Investments in debt securities for which management has the intent and ability to hold to maturity are classified as held to maturity and stated at cost increased by accretion of discounts and reduced by amortization of premiums, both computed by the interest method. Securities that are bought and held principally for the purpose of selling them in the near term are classified as trading and measured at fair value in the financial statements with unrealized gains and losses included in earnings. Securities not classified as either held to maturity or trading are classified as available for sale and measured at fair value in the financial statements with unrealized gains and losses reported, net of income tax, as a component of accumulated other comprehensive income (loss) until realized. Gains and losses on sales of securities are determined using the specific-identification method.

     The Company’s investment strategy is affected by both the rates and terms available on competing investments and tax and other legal considerations.

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     Federal funds sold and resell agreements amounted to $341.9 million and $675.4 million, respectively, at December 31, 2004. Federal funds sold mature the next business day, while resell agreements mature as follows: $125.4 million the next business day, $200.0 million in 2009, and $350.0 million in 2010. The Company monitors the fair value of the underlying securities as compared to the related receivable, including accrued interest, and requests additional collateral when the fair value of the underlying collateral falls below the collateral requirement. At December 31, 2004, the fair value of the underlying collateral amounted to $692.1 million.

     The following table presents the carrying value of investments as of year end for each of the years indicated:

     Mortgage and asset-backed securities at December 31, 2004, 2003 and 2002, consists of:

     At December 31, 2004, no investment of a single issuer (in aggregate balance) exceeded 10% of the consolidated stockholders’ equity.

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     The carrying amount of investment securities at December 31, 2004, by contractual maturity (excluding mortgage and asset-backed securities), are shown below:

     The Company’s investment portfolio at December 31, 2004 had an average contractual maturity of 53 months, when compared to an average maturity of 63 months at December 31, 2003. The Company’s interest rate risk model takes into consideration the callable feature of certain investment securities. Assuming that all call features are exercised, the Company’s investment portfolio as of December 31, 2004, had a remaining average contractual maturity of 10 months. However, no assurance can be given that such levels will be maintained in future periods.

     The Company evaluates for impairment its investment securities on a quarterly basis or earlier if other factors indicative of potential impairment exist. An impairment charge in the consolidated statements of income is recognized when the decline in the fair value of the securities below their cost basis is judged to be other-than-temporary. The Company considers various factors in determining whether it should recognize an impairment charge, including, but not limited to the length of time and extent to which the fair value has been below its cost basis, the expectations for that security’s performance, the credit worthiness of the issuer, and the Company’s intention and ability to hold the security to maturity.

     The impairment analysis on the mortgage and asset-backed securities is done placing special emphasis on the analysis of the trustee and collateral manager monthly reports, on sensitivity and expected cash flow analyses made by major brokerage houses and on the credit worthiness of the issuer. The Company also considers its intent and ability to hold these securities. If management believes, based on the analysis, that the principal and interest obligations on any mortgage and asset-backed security will not be received in a timely manner, the security is written down to fair value based on available secondary market prices from broker/dealers.

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     The equity securities and corporate notes impairment analyses are performed and reviewed quarterly based on the latest financial information and any supporting research report made by major brokerage houses. These analyses are subjective and based, among other things, on relevant financial data such as capitalization, cash flows, liquidity, systematic risk, and debt outstanding. Management also considers the industry trends, the historical performance of the stock, as well as the Company’s intent to hold the security. If management believes there is a low probability of achieving book value in a reasonable time frame, then an impairment is recorded by writing down the security to fair value.

     In applying the foregoing analysis, management concluded that at March 31, 2003, its investments in corporate bond and loan obligations (“CBO’s and CLO’s”) were other-than-temporarily impaired. First, two tranches of a CBO with an amortized cost of $13.0 million were downgraded by two different rating agencies on April 3 and April 15, 2003. Second, the available secondary market prices for those two securities and the remaining portfolio of CBO’s and CLO’s with a carrying value of $56.0 million continued to deteriorate. Management concluded, based on these facts and the secondary market prices, that a $15.7 million other-than-temporary impairment write-down adjustment was warranted. The same was recorded effective for the quarterly period ended March 31, 2003. As of March 31, 2003, there were no defaults within the securities portfolio underlying the CBO’s and CLO’s. In connection with the write-down, and in accordance with applicable accounting pronouncements, management also reassessed its intent to hold to maturity and reclassified the securities related to the CBO’s that were downgraded as available for sale as of March 31, 2003.

     During the quarter ended June 30, 2003, the Company, based upon additional information available from trustees, further ratings downgrading, a default on the scheduled interest payment in one of the CBO tranches and further declines in quoted market prices for such investments, reclassified the remaining portfolio of CBO’s and CLO’s to available for sale and subsequently on June 6, 2003 sold its entire portfolio of CBO’s and CLO’s. The sale of the portfolio, with an original total investment of $62.9 million and adjusted to a fair value of $45.4 million as of March 31, 2003, was completed at an additional net loss of $7.0 million which was recorded during the quarter ended June 30, 2003.

     The Company’s investment portfolio as of December 31, 2004 and 2003, consisted principally of U.S. Government and agencies obligations, Puerto Rico Government and agencies obligations, and mortgage-backed securities issued or guaranteed by FHLMC, FNMA or GNMA. There were no investment securities other than those referred to above in unrealized loss position as of December 31, 2004 and 2003. These unrealized losses related to interest rate changes. Investment securities with prepayment provisions did not have significant unamortized premiums at December 31, 2004 and 2003. As the Company has the ability and intent to hold debt securities until maturity, or for the foreseeable future if classified as available for sale, no declines were deemed to be other-than-temporary at December 31, 2004 and 2003.

SOURCES OF FUNDS

     GENERAL. Deposits, repurchase agreements, Federal Home Loan Bank (“FHLB”) advances and lines of credit are the primary sources of Westernbank’s funds for use in lending and for other general business purposes. In addition, Westernbank obtains funds in the form of loan repayments and income from operations and the maturities and repayments of securities. Loan repayments are a relatively stable source of funds, while net increases in deposits and repurchase agreements are significantly influenced by general interest rates and money market conditions. Short-term borrowings from the FHLB of New York are used to compensate for reductions in normal sources of funds such as savings inflows at less than projected levels.

     DEPOSITS. Westernbank offers a diversified choice of deposit accounts. Savings deposits increased from $692.2 million as of December 31, 2003, to $829.4 million as of December 31, 2004, an increase of $137.2 million or 19.82%. Also, other deposits represented mainly by time deposits, brokered deposits and Individual Retirement Account deposits (IRA’s), increased from $4.69 billion as of December 31, 2003, to $5.40 billion as of December 31, 2004, an increase of $708.5 million or 15.09%. Other deposits include brokered deposits amounting to $4.16 billion and $3.51 billion as of December 31, 2004 and 2003, respectively. These accounts have historically been a stable source of funds.

     At December 31, 2004, Westernbank had total deposits of $6.23 billion, of which $829.4 million or 13.31% consisted of savings deposits, $303.7 million or 4.87% consisted of interest bearing demand deposits, $249.4 million or 4.00% consisted of noninterest bearing deposits and $4.85 billion or 77.82% consisted of time deposits. Westernbank also offers negotiable order of withdrawal (“NOW”) accounts, Super Now accounts, special checking accounts and commercial demand accounts.

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     At December 31, 2004, the scheduled maturities of time deposit in amounts of $100,000 or more are as follows:

     The following table sets forth the average amount and the average rate paid on the following deposit categories for the years ended December 31:

     BORROWINGS. The following table sets forth the borrowings of the Company at the dates indicated:

     Westernbank has made use of institutional federal funds purchased and repurchase agreements in order to obtain funding, primarily through investment banks and brokerage firms. Repurchase agreements are collateralized with investment securities while federal funds purchased do not require collateral. Westernbank had $6.68 billion in federal funds purchased and repurchase agreements outstanding at December 31, 2004, at a weighted average rate of 2.85%. Federal funds purchased and repurchase agreements outstanding as of December 31, 2004, mature as follows: $4.33 billion within 30 days; $704.0 million in 2005; $47.5 million in 2006; $585.3 million in 2007; and $1.02 billion thereafter.

     Westernbank also obtains advances from FHLB of New York. As of December 31, 2004, Westernbank had $211.0 million in outstanding FHLB advances at a weighted average rate of 3.78%. Advances from FHLB mature as follows: $39.0 million within 30 days; $70.0 million in 2006; $60.0 million in 2007; and $42.0 million in 2010.

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     At December 31, 2004, with respect to repurchase agreements amounting to $1.56 billion, the counterparties have the option to terminate the agreements at the first anniversary date and each interest payment date thereafter. Also, with respect to repurchase agreements and advances from FHLB amounting to $1.04 billion at December 31, 2004, at the first anniversary date and each quarter thereafter, the FHLB has the option to convert them into replacement funding for the same or a lesser principal amount based on any funding then offered by FHLB at the then current market rates, unless the interest rate has been predetermined between FHLB and the Company. If the Company chooses not to replace the FHLB’s funding, it will repay the convertible advances and repurchase agreements, including any accrued interest, on such optional conversion date.

     At December 31, 2004, Westernbank World Plaza, Inc., a wholly-owned subsidiary of Westernbank Puerto Rico, had outstanding $36.9 million of a mortgage note, at a fixed interest rate of 8.05% per year up to September 11, 2009. Subsequent to September 11, 2009, the mortgage note will bear interest on the then outstanding principal balance at a rate per year equal to the (1) greater of 13.05% or the Treasury Rate plus five percentage points or (2) 10.05%, depending on the fulfillment of certain conditions on the repricing date. Westernbank World Plaza has a prepayment option on the repricing date, without penalty. The mortgage note is collateralized by a 23-story office building, including its related parking facility, located in Hato Rey, Puerto Rico.

     A summary of short-term borrowings, including federal funds purchased, repurchase agreements and advances from Federal Home Loan Bank, and interest rates at and for the year ended December 31, are indicated below:

FINANCIAL INSTRUMENTS

     DERIVATIVE FINANCIAL INSTRUMENTS. As part of the Company’s asset/liability management, the Company uses interest-rate contracts, which include interest-rate exchange agreements (swaps) and option agreements, to hedge various exposures or to modify interest rate characteristics of various statement of financial condition items.

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     The Company accounts for its derivatives under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended. The Standard requires recognition of all derivatives as either assets or liabilities in the statement of financial condition and requires measurement of those instruments at fair value through adjustments to either accumulated other comprehensive income (loss) or current earnings or both, as appropriate. On the date the Company enters into a derivative contract, the Company designates the derivative instrument as either a fair value hedge, cash flow hedge or as a derivative instrument not designated as a hedge. For a fair value hedge, changes in the fair value of the derivative instrument and changes in the fair value of the hedged asset or liability or of an unrecognized firm commitment attributable to the hedged risk are recorded in current period net income. For a cash flow hedge, changes in the fair value of the derivative instrument, to the extent that it is effective, are recorded in accumulated other comprehensive income (loss) and subsequently reclassified to net income in the same period(s) that the hedged transaction impacts net income. For derivative instruments not designated as a hedge, changes in fair values are reported in current period net income.

     Prior to entering into a hedge transaction, the Company formally documents the relationship between hedging instruments and hedged items, as well as the risk management objective and strategy for undertaking various hedge transactions. This process includes linking all derivative instruments that are designated as fair value or cash flow hedges to specific assets and liabilities on the statement of financial condition or to specific forecasted transactions along with a formal assessment at both inception of the hedge and on an ongoing basis as to the effectiveness of the derivative instrument in offsetting changes in fair values or cash flows of the hedged item. If it is determined that the derivative instrument is not highly effective as a hedge, hedge accounting is discontinued and the adjustment to fair value of the derivative instrument is recorded in net income.

     Certain contracts contain embedded derivatives. When the embedded derivative possesses economic characteristics that are not clearly and closely related to the economic characteristics of the host contract, it should be bifurcated from the host contract and carried at fair value.

     In the case of interest-rate exchange agreements that qualify for hedging accounting treatment, net interest income (expense) resulting from the differential between exchanging floating and fixed-rate interest payment is recorded on a current basis as an adjustment to interest income or expense on the corresponding hedged assets or liabilities.

     The Company maintains an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings and cash flows caused by interest rate volatility. The Company’s interest rate risk management strategy may involve modifying the re-pricing characteristics of certain assets and liabilities so that changes in interest rates do not adversely affect the net interest margin and cash flows. Derivative instruments that the Company may use as part of its interest rate risk management strategy include interest rate swaps and indexed options. These transactions involve both credit and market risk. The notional amounts are amounts on which calculations, payments and the value of the derivative are based. Notional amounts do not represent direct credit exposures. Direct credit exposure is limited to the net difference between the calculated amounts to be received and paid, if any. Such difference, which represents the fair value of the derivative, is reflected on the Company’s statements of financial condition as derivative assets and derivative liabilities.

     The Company is exposed to credit-related losses in the event of nonperformance by the counterparties to these agreements. The Company controls the credit risk of its financial contracts through credit approvals, limits and monitoring procedures, and does not expect any counterparties to fail their obligations. The Company deals only with primary dealers.

     Derivative instruments are generally negotiated over-the-counter (“OTC”) contracts. Negotiated OTC derivatives are generally entered into between two counterparties that negotiate specific agreement terms, including the underlying instrument, amount, exercise price and maturity.

     The Company enters into interest-rate swap contracts in managing its interest rate exposure. Interest-rate swap contracts generally involve the exchange of fixed and floating-rate interest payment obligations without the exchange of the underlying principal amounts. Entering into interest-rate swap contracts involves not only the risk of dealing with counterparties and their ability to meet the terms of the contracts, but also the interest rate risk associated with unmatched positions. Interest rate swaps are the most common type of derivative contracts that the Company utilizes.

     Indexed options are contracts that the Company enters into in order to receive the average appreciation of the month end value of the Standard & Poor’s 500 Composite Stock Index over a specified period in exchange for the payment of a premium when the contract is initiated. The credit risk inherent in the indexed options is the risk that the exchange party may default.

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     Fair Value Hedging Instruments

     The Company currently utilizes interest rate swaps to convert its fixed-rate certificates of deposit or firm commitments to originate certificates of deposit (liabilities) to a variable rate. By entering into the swap, the principal amount of the hedged item would remain unchanged but the interest payment streams would change. These swaps mature between one to twenty years with a right by the counterparty to call them after the first anniversary. The Company has an identical right to call the certificates of deposit. Decisions to convert fixed-rate certificates of deposits or firm commitments to originate certificates of deposit (liabilities) to variable rate are made primarily by consideration of the asset/liability mix of the Company, the desired asset/liability sensitivity and by interest rate levels.

     The Company purchases fixed rate residential mortgage loans for portfolio. Fixed rate loans expose the Company to variability in their fair value due to changes in the level of interest rates. Management believes that it is prudent to limit the variability in the fair value of a portion of its fixed rate loan portfolio. It is the Company’s objective to hedge the change in fair value of fixed rate mortgage loans at coverage levels that are appropriate, given the anticipated or existing interest rate levels and other market considerations, as well as the relationship of changes in this asset to other assets of the Company. To meet this objective, the Company enters into contracts to purchase fixed rate residential mortgage loans with a third party. The third party agreed to provide the Company a return at a floating rate of interest (three month LIBOR plus a spread) even though the contractual terms of the loans are fixed rate in nature. This provision is effectively an interest rate swap (balance guarantee swap). Since the contracts meet with the sale accounting provisions of SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, SFAS No. 133 and related interpretations, these interest rate swaps are accounted for separately. Since the hedged item and the hedging instrument have identical critical terms, no ineffectiveness is assumed and the fair value changes in the interest rate swaps are recorded as changes in the value of both the interest rate swaps and the mortgage loans.

     Derivative Instruments not Designated as Hedge

     The Company offers its customers certificates of deposit which contain an embedded derivative tied to the performance of the Standard & Poor’s 500 Composite Stock Index that is bifurcated from the host deposit and recognized in the consolidated statements of financial condition in accordance with SFAS No. 133. At the end of five years, the depositor will receive a specified percent of the average increase of the month-end value of the stock index. If such index decreases, the depositor receives the principal without any interest. The Company uses option and interest rate swap agreements with major broker dealer companies to manage its exposure to the stock market. Under the option agreements, the Company will receive the average increase in the month-end value of the index in exchange for the payment of a premium when the contract is initiated. Under the terms of the swap agreements, the Company also will receive the average increase in the month-end value of the index in exchange for a quarterly fixed interest cost. Since the embedded derivative instrument on the certificates of deposit and the option and interest rate swap agreements do not qualify for hedge accounting, these derivative instruments are marked to market through earnings.

     See Note 19 (page 109) to the audited consolidated financial statements for a detail of derivative transactions, included in Part II, Item 8.

     Off-balance sheet credit related financial instruments — In the ordinary course of business, Westernbank has entered into off-balance sheet credit related financial instruments consisting of commitments to extend credit, commitments under credit-card arrangements, commercial letters of credit and commitments to purchase mortgage loans. Such financial instruments are recorded in the financial statements when they are funded or related fees are incurred or received. Westernbank periodically evaluates the credit risks inherent in these commitments, and commercial letters of credit, and establishes loss allowances for such risks if and when these are deemed necessary. For the years ended December 31, 2004 and 2003, Westernbank did not record any loss allowances in connection with risks involved in other off-balance sheet instruments. At December 31, 2004 and 2003, there were no additional off-balance sheet credit related financial instruments other than those mentioned above.

YIELDS EARNED AND RATES PAID

     The net income of the Company depends primarily upon the difference or spread between the interest income received on its interest-earning assets and the interest paid on its interest-bearing liabilities. Net interest income for the year ended December 31, 2004, was $299.5 million, an increase of $60.2 million or 25.17%, from $239.3 million in 2003. The increase in 2004 was the result of increases in interest income from loans and investment securities, mainly in tax-exempt securities, which was partially offset by increases in interest expense on deposits and on federal funds purchased and repurchase agreements. For the year ended December 31, 2003, net interest income reached $239.3 million, compared to $166.3 million reported in 2002, an increase of $73.0 million or 43.88%. The increase in 2003 was the result of increases in interest income from loans, investment securities and money market instruments, which was partially offset by increases in interest expense on deposits and repurchase agreements.

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     The following table presents, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates, as well as in a normal and tax equivalent basis. Average balances are daily average balances. The yield on the securities portfolio is based on average historical cost balances and does not give effect to changes in fair value that are reflected as a component of consolidated shareholders’ equity.

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     The following table presents the dollar amount of changes in interest income and interest expense for the major components of interest-earning assets and interest-bearing liabilities and distinguishes between the increase (decrease) related to higher outstanding balances and the volatility of interest rates.