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U.S. SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended June 30, 2004.

OR

For the transition period from              to             

Commission file number: 000-29995

EDUCATION LENDING GROUP, INC.

(Exact name of registrant as specified in its charter)

12760 High Bluff Drive,

Suite 210, San Diego, California 92130

(Address of principal executive offices)

(858) 617-6080

(Registrant’s telephone number, including area code)

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 whether the registrant is an accelerated filer (as defined by Rule 12b-2 of the Exchange Act).    YES  x    NO  ¨

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the last practicable date: Shares of Common Stock, $0.001 par value, outstanding at June 30, 2004: 16,619,629, including treasury shares.

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

EDUCATION LENDING GROUP, INC.

CONSOLIDATED BALANCE SHEETS

See accompanying notes to consolidated financial statements

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EDUCATION LENDING GROUP, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

For the Three and Six Months Ended June 30, 2004 and 2003

(Unaudited)

See accompanying notes to consolidated financial statements

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EDUCATION LENDING GROUP, INC.

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY/(DEFICIT)

For the Six Months Ended June 30, 2004

(Unaudited)

See accompanying notes to consolidated financial statements

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EDUCATION LENDING GROUP, INC

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the Six Months Ended June 30, 2004 and 2003

(Unaudited)

See accompanying notes to consolidated financial statements

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Education Lending Group, Inc.

Notes to Consolidated Financial Statements

June 30, 2004

(Unaudited)

Note 1—Summary of Organization

Organization—Education Lending Group, Inc., (“Education Lending Group,” “we,” “our Company,” “our” and “us”) was incorporated in Delaware on March 26, 1999. Our Company was formed to identify and acquire enterprises in the student loan business. Without consummating any acquisitions, in September 2001, through Education Lending Services, Inc. and Education Funding Resources, LLC, we began operations related to marketing, originating, and purchasing student loans. Through these subsidiaries, we originate or purchase Federal Family Education Loan Program (FFELP) student loans that are eligible for guarantee from the Department of Education (DOE), federally sponsored consolidation loans and other eligible student loans. We have in place two warehouse loan facilities with financial institutions which we use to facilitate originating and purchasing student loans. On a periodic basis, we complete student loan securitizations to pay down the warehouse facility and finance our loans on a permanent basis.

Education Lending Services, Inc., a wholly-owned subsidiary of our Company, was incorporated in Delaware on October 3, 2000. Currently, Education Lending Services, Inc.’s business is focused on the origination of consolidation loans and Parent Loans to Undergraduate Students (PLUS).

Education Funding Resources, LLC was formed in Delaware on July 19, 2001. Education Lending Services, Inc. is the sole equity member of Education Funding Resources, LLC. Education Funding Resources, LLC is a special purpose bankruptcy remote entity that was formed in order to facilitate the student loan origination and funding process and the secondary market acquisitions of student loans.

Student Loan Xpress, Inc., a wholly-owned subsidiary of our Company, was incorporated in Delaware on November 1, 2000 and began operations in November, 2001. Student Loan Xpress, Inc.’s business is primarily focused on development of the traditional school preferred lender-list channel for loan originations. Currently we sell the majority of the loans we generate through this channel.

Education Funding Capital I, LLC was formed in Delaware on April 22, 2002. Education Lending Services, Inc. is the sole equity member of Education Funding Capital I, LLC. Additionally, we have formed Education Funding Capital Trust I, Education Funding Capital Trust II, Education Funding Capital Trust III and Education Funding Capital Trust IV, all of which are Delaware statutory trusts and wholly-owned subsidiaries of Education Funding Capital I. These entities participate in the permanent financing securitizations of our student loan assets.

Education Loan Servicing Corporation was incorporated in Delaware on October 15, 2003 and is expected to begin servicing a portion of our loan portfolio during 2004.

Note 2—Summary of Significant Accounting Policies

Principles of Consolidation—The financial results included in this report are stated in conformity with accounting principles generally accepted in the United States of America and all normal recurring adjustments that we consider necessary for a fair presentation of the results for such periods.

These consolidated financial statements include the accounts of Education Lending Group, Inc., Student Loan Xpress, Inc. (SLX), Education Loan Servicing Corporation (ELSC) and Education Lending Services, Inc. (ELS). SLX, ELSC and ELS are our wholly-owned subsidiaries. ELS consists of Education Funding Resources, LLC (EFR) and Education Funding Capital I, LLC (EFC I). (ELS is the sole member of EFR and EFC I). Additionally, we have formed Education Funding Capital Trust I, Education Funding Capital Trust II, Education Funding Capital Trust III and Education Funding Capital Trust IV, all of which are Delaware statutory trusts and wholly-owned subsidiaries of EFC I. All significant intercompany accounts and transactions have been eliminated in consolidation.

Student Loans—Student loans, consisting of student loans which are 98% guaranteed by the government and alternative supplemental loans (guaranteed by other third parties) are carried at their purchase price, including unamortized premiums and unamortized origination costs. Loan set-up fees and certain direct loan origination costs are deferred. Net deferred loan origination costs related to securitized loans are amortized into interest expense over the estimated life of the student loan using the effective interest method. Net deferred loan origination costs related to loans which have not been securitized are amortized into interest expense over the estimated life of the student loan using the straight-line method. The overall effect of this treatment is approximation of the effective interest method. The unamortized portion of deferred fees and costs associated with loans that have been repaid or sold are expensed in the income statement in the period of repayment.

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Student Loans Held for Resale—The majority of the student loans originated through the traditional school preferred lender-list channel are subsequently sold. Loans may be sold after initial or final disbursement. Deferred costs related to the origination of loans sold after initial disbursement are netted against gain on sale when the loans are sold rather than capitalized and amortized as discussed above. Interest on loans sold after final disbursement is earned for the period during which they are held on our balance sheet. Once the loan is sold, the gain on the sale is recorded as discussed in “Gain on Sale of Student Loans” below. Costs related to the origination of these loans are capitalized and netted against gain on sale once the loan is sold. Loans held for resale are reflected on our balance sheet at the lower of cost or market.

Student Loan Income and Net Interest Income—We recognize student loan income as earned, net of amortization of premiums. We amortize the premiums and deferred origination fees over the estimated life of the student loan. With the guarantee on the student loans applicable to both principal and interest, we recognize interest on student loans as earned regardless of delinquency status. If a student loan should lose its guaranteed status, interest would be recognized as received. To date, there are no student loans in our portfolio which have lost their guaranteed status. Net interest income is derived largely from our portfolio of student loans that remain on our balance sheet and is the spread between interest earned on student loans and our cost of generating that interest income. These costs include interest expense on the warehouse facility and permanent financings, amortization of deferred financing costs, fees paid to third-party servicers to service the loans, mark-to-market adjustments related to interest rate swaps that have not been designated as cash flow hedges, fees paid to the DOE, and amortization of premiums paid to acquire student loans. At June 30, 2004 all of our student loans were being serviced by third party servicers to whom we pay a fee.

Gain on Sale of Student Loans—We currently sell the majority of the Stafford and PLUS loans we originate. Additionally, from time to time, we may elect to sell consolidation loans. We book the sale in the period the loan is sold and record the transaction on the income statement as a gain on the sale of student loans. Sales of student loans are accounted for under Statement of Financial Accounting Standard (SFAS) 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,” (SFAS 140). Student loans are sold with the servicing rights released and without recourse. Gains or losses on sales of student loans are recognized based on the difference between the selling prices and the carrying values of the related student loans sold. Unamortized deferred origination fees and expenses are netted against gain on sale when the loans are sold. Loans may be sold subsequent to either the initial or final disbursement.

Allowance for Student Loan Losses—We have established an allowance for potential losses on our existing portfolio of student loans, both securitized and unsecuritized. These student loan assets are presented net of the respective allowances on our balance sheet. In evaluating the adequacy of the allowance for losses, we consider several factors, including trends in student loan claims rejected for payments by guarantors, default rates on alternative supplemental student loans, overall industry norms and experience related to defaults and the amount of FFELP loans held subject to two percent risk-sharing. The allowance is based on periodic evaluations of our loan portfolio, changes to federal student loan programs, current economic conditions and other relevant factors. We utilize these factors to estimate a projected default rate for our student loan portfolio. This estimate, along with the applicable risk-sharing percentage, is used to calculate the allowance for student loan losses. The allowance is maintained at a level that management believes is adequate to provide for probable credit losses. Currently, approximately 98% of our student loan portfolio is guaranteed. The allowance for student loan losses is calculated by multiplying the principal balance of the student loans we carry on our balance sheet by 2% (the uninsured portion of the federally sponsored student loans on our balance sheet) and then multiplying that amount by the projected default rate. This evaluation is inherently subjective as it requires estimates that may be susceptible to significant changes.

Marketing Partner Fees—We have established relationships with various third-party marketing partners to market student loans on our behalf. These fees represent a significant cost to us. SFAS 91, “Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases,” (SFAS 91) establishes the accounting for nonrefundable fees and costs associated with lending, committing to lend, or purchasing a loan or group of loans. SFAS 91 specifies that costs incurred to identify and attract potential borrowers should be expensed as incurred. As such, fees we pay to our marketing partners are expensed during the period incurred. These fees are included in sales and marketing operating expenses on the income statement.

Additionally, some of these marketing partners have been awarded performance-based stock options, which vest in relation to certain performance criteria being met by the partner. These options are accounted for under SFAS 123, “Accounting for Stock-Based Compensation,” (SFAS 123), Emerging Issues Task Force (EITF) Issue 96-18, “Accounting for Equity Instruments that Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services” and FASB Interpretation Number (FIN) 28, “Accounting for Stock Appreciation Rights and Other Variable Stock Options or Award Plans” (FIN 28). Under the guidelines established by these pronouncements, in each quarter until performance under the marketing partner agreement is completed, we must record an expense related to the options that are vested as of the end of the quarter. This expense includes a charge equal to the fair

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market value of the options which vested during the quarter, and a mark-to-market adjustment for the options which vested in previous quarters. This non-cash charge is directly related to our stock price and the performance of our marketing partners, and will fluctuate from quarter to quarter based on the performance of our stock and the number of options which vest during the quarter. This expense is a component of marketing partner fees which are a component of the sales and marketing expense line item on our income statement.

Restricted Cash and Investments—We periodically take draws against our warehouse loan facility to fund student loans and any premiums associated with them. The restricted cash and investments shown on the balance sheet reflects draws taken against the warehouse line which have not yet been used to fund student loans. These amounts are restricted and may be used only to fund student loans and any premiums associated with them as outlined in the indentures. Additionally, we are required to maintain certain cash levels in our securitizations. Restricted cash and investments shown on the balance sheet also include these cash balances and are restricted to use as outlined in the indentures. Substantially all these funds are invested in guaranteed investment contracts, which are all triple A rated. At June 30, 2004 there was approximately $22.0 million of restricted cash held in our warehouse line, and $157.3 million held in our securitizations.

Cash, Cash Equivalents and Credit Risk—We consider all unrestricted highly liquid investments purchased with maturities of three months or less to be cash equivalents. We maintain a large balance in an investment fund that is rated triple A by three rating agencies. These funds are invested in domestic corporate money market securities including commercial paper, repurchase agreements, variable rate instruments and bank instruments. We consider the credit risk associated with our cash and cash investments to be minimal.

Interest and Other Receivables—Interest and other receivables consists of interest receivable on student loans, borrower payments received by third-party servicers not yet sent to us, DOE fees reimbursable on loans sold, and premiums due to us on loans we have sold.

Software and Web-Site Development Costs—We capitalize the costs of software developed for internal use in compliance with Statement of Position, (SOP), 98-1 “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use” and EITF Issue 00-2 “Accounting for Web-Site Development Costs.” Capitalization of software developed for internal use and web-site development costs begins at the application development phase of the project. Amortization of software developed for internal use and web-site development costs begins when the software is placed in productive use, and is computed on a straight-line basis over the estimated useful life of the software, which typically ranges from one to three years.

Property and Equipment, net—Property and equipment is stated at cost. Depreciation is recorded using the straight-line method over the estimated useful lives of the assets, which range from three to seven years.

Deferred Financing Costs—Direct costs associated with obtaining financing are capitalized and amortized into interest expense over the term of the respective Education Loan Backed Notes or warehouse loan facility. The majority of the costs are related to our Education Loan Backed Notes, and are amortized, using the effective interest method, over the term of the securitization, typically 40 years. The costs related to the warehouse loan facility are amortized, using the straight-line method, over three years. The overall effect of this treatment is approximation of the effective interest method.

Derivatives and Hedging Activities—SFAS 133, “Accounting for Derivative Instruments and Hedging Activities,” (SFAS 133) requires companies to recognize all derivative contracts as either assets or liabilities on the balance sheet and to measure them at fair value. If certain conditions are met, a derivative may be specifically designated as a hedge under the provisions of SFAS 133, as amended by SFAS 137, “Accounting for Derivative Instruments and Hedging Activities, Deferral of the Effective Date of SFAS 133,” SFAS 138, “Accounting for Certain Derivative Instruments and Certain Hedging Activities” and SFAS 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” During the fourth quarter of 2002, we entered into an interest rate swap that was not specifically designated as a hedge. As required by SFAS 133, the fair market value of the interest rate swap contract (mark-to-market) was recognized during the period as an additional liability and treated as additional expense/(income) on our income statement. During the second and fourth quarters of 2003 and during the second quarter of 2004 we entered into additional interest rate swap agreements, all of which were designated as and are effective as cash flow hedges. These swaps are also recorded in the accrued expenses and other liabilities section of our balance sheet. As these agreements qualify as cash flow hedges and are currently effective as such, changes in the agreements’ fair values (mark-to-market) are recorded in the other comprehensive loss section of the balance sheet rather than as an expense on the income statement. Accrued interest receivable or payable related to the interest rate swap agreements is recorded in interest expense.

Employee Stock Options—Employee stock options are accounted for under Accounting Principals Board (APB) Opinion 25, “Accounting for Stock Issued to Employees” (APB 25), using the intrinsic value method. Generally, as options granted to employees are fixed in nature, and the awards are made at fair market value on the date of grant, no expense is required to be recognized. However, in January 2003 certain employees were awarded performance-based options, which would vest over three years (with the

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first tranche vesting December 31, 2003, assuming the performance conditions were met). These criteria were met on December 31, 2003. Since performance-based options require variable plan accounting under the terms of APB 25, during 2003 these options were marked-to-market quarterly, until the performance criteria had or had not been met. Accordingly, we recorded this expense as a component of operating expenses on our income statement. As of December 31, 2003, we determined which performance criteria had been met, and correspondingly, which options would remain outstanding and continue vesting. The final mark-to-market adjustment was made as of December 31, 2003. As required by APB 25, and in accordance with the accelerated vesting schedule described in FIN 28 we will continue to expense these options throughout 2004 and 2005, until they are fully vested, at which time all related expense will have been recognized.

Education Loan Backed Notes—Our Education Loan Backed Notes, consisting of Series 2004 Notes, Series 2003 (October) Notes, Series 2003 (April) Notes and Series 2002 Notes, or securitized borrowings, are accounted for under SFAS 140. Under SFAS 140, securitizations that do not qualify for sales treatment are accounted for as secured borrowings. As we retain a call on redeeming any series of the notes under our securitized borrowings, the requirements of SFAS 140 have not been met. Therefore these transactions are accounted for as secured borrowings in accordance with the provisions of SFAS 140.

Government Payables—We are required to pay the DOE a one-time 50 basis point origination fee on consolidation, Stafford and PLUS loans and an annual 105 basis point consolidation loan rebate fee on all consolidation loans originated and held after October 1, 1993. Each fee is payable to the DOE. Fees due the DOE but not yet paid are shown as government payables.

Income Taxes—We account for income taxes in accordance with SFAS 109, “Accounting for Income Taxes,” using the asset and liability method. Under the asset and liability method, deferred tax assets and liabilities are determined for temporary differences between the carrying amounts of assets or liabilities for book purposes versus tax purposes, based on the enacted tax rates which are expected to be in effect when the underlying items of income and expense are expected to be realized. We file a consolidated U.S. federal income tax return that includes our eligible subsidiaries.

Income/(Loss) Per Common Share—Basic income/(loss) per share is computed by dividing the income/(loss) available to common stockholders by the weighted average number of common shares outstanding for the period. In periods during which we record a net profit, diluted earnings per share reflect the potential dilutive effect of additional common shares that are issuable on exercise of outstanding stock options and warrants, as determined by application of the treasury stock method. During the periods we reported a net loss, diluted loss per share in the periods presented is equal to basic loss per share since any potential additional dilutive common shares are considered antidilutive and are therefore not included in the computation.

The following table shows a reconciliation of our basic earnings per share to our diluted earnings per share for the quarter and six months ended June 30, 2004. It excludes 63,100 and 164,350 shares that were not included in the calculations for the quarter and six months ended June 30, 2004, respectively, as they would have been antidilutive. (There was no difference between our basic and diluted loss per share in the quarter and six months ended June 30, 2003.)

        Estimates—The process of preparing financial statements in conformity with accounting principles generally accepted in the United States of America requires the use of estimates and assumptions regarding certain types of assets, liabilities, revenues, and expenses. Such estimates primarily relate to unsettled transactions and events as of the date of the financial statements. Accordingly, upon settlement, actual results may differ from estimated amounts.

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Reclassifications—Certain accounts in the prior year consolidated financial statements have been reclassified for comparative purposes to conform to presentation in the current-year consolidated financial statements.

Disclosure of pro forma earnings in accordance with SFAS 148, “Accounting for Stock-Based Compensation—Transition and Disclosure—an amendment of SFAS 123”—In December 2002, the Financial Accounting Standards Board (FASB) issued SFAS 148, “Accounting for Stock-Based Compensation—Transition and Disclosure—an amendment of SFAS 123” (SFAS 148). SFAS 148 addresses transition provisions for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, SFAS 148 amends the disclosure requirements of SFAS 123. As we continue to account for our incentive-based compensation using the intrinsic value method under APB 25, SFAS 148 does not have an impact on our consolidated financial statements. Had compensation costs for our stock options been recognized based upon the estimated fair value on the grant date under the fair value methodology prescribed by SFAS 123 as amended by SFAS 148, our net earnings and earnings per share for the quarter and six months ended June 30, 2004 and 2003 would have been as follows:

Proposed Accounting Pronouncements

Proposed FAS, Share-Based Payment-an amendment of FAS 123 and FAS 95, “Statement of Cash Flows”

The FASB is currently considering amending SFAS 123, APB Opinion No. 25 and FAS 95, “Statement of Cash Flows.” The proposed standard will require us to record compensation expense for all share-based compensation plans. If adopted, this proposed standard would have a negative impact on our earnings in future periods as we would be required to record an expense on our income statement for all options granted.

Statement of Position (SOP) 03-3, “Accounting for Certain Loans or Debt Securities Acquired in a Transfer”

In December 2003 the Accounting Standards Executive Committee issued SOP 03-3, “Accounting for Certain Loans or Debt Securities Acquired in a Transfer.” This SOP addresses accounting for differences between contractual cash flows and cash flows expected to be collected from an investor’s initial investment in loans or debt securities (loans) acquired in a transfer if those differences are attributable, at least in part, to credit quality. This SOP is effective for loans acquired in fiscal years beginning after December 15, 2004. We have determined that SOP 03-3 will not have an impact on our financial statements.

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Note 3—Student Loans

We originate student loans on our own behalf and we purchase student loans from originating lenders. Our portfolio consists principally of loans originated under FFELP, a federally sponsored program. We also purchase alternative supplemental education loans. There are three principal categories of FFELP loans: consolidation loans, Stafford loans and PLUS loans. The composition of the student loans held at June 30, 2004 was as follows:

The composition of the student loans held at December 31, 2003 was as follows:

The FFELP is subject to comprehensive reauthorization every five years and to frequent statutory and regulatory changes. The Higher Education Act is scheduled to expire on September 30, 2004, and reauthorization is currently under consideration by the United States Congress. Changes in the Higher Education Act made in the two most recent reauthorizations have included reductions in student loan yields paid to lenders, increased fees paid by lenders and a decreased level of guarantee.

Generally, Stafford and PLUS loans have repayment periods of between five and ten years. Consolidation loans have repayment periods of twelve to thirty years. FFELP loans obligate the borrower to pay interest at a stated fixed rate or an annually reset variable rate that has a cap. The interest rates are either fixed to term or reset annually on July 1st of each year depending on when the loan was originated. We earn interest at the greater of the borrower’s rate or a floating rate. If the floating rate exceeds the borrower rate, the DOE makes a payment directly to us based upon the Special Allowance Payment (SAP) formula. SAP is generally paid whenever the average of the applicable floating rate (91-day Treasury bill, commercial paper, 52-week Treasury bill, or the constant maturity Treasury rate) for a calendar quarter, plus a spread of between 1.74 and 3.50 percentage points depending on the loan status and origination date, exceeds the rate of interest which the borrower is obligated to pay. If the floating rate determined by the SAP

formula is less than the rate the borrower is obligated to pay, we simply earn interest at the borrower rate.

We purchase alternative supplemental loans. These loans are made to students whose loan eligibility under the FFELP program does not meet their total borrowing needs. Unlike FFELP loans, alternative supplemental loans are credit-based. Depending on the loan program, the credit requirements may be met by a co-borrower. Interest rates are reset quarterly and may be tied to prime or to commercial paper (CP) rates. Alternative supplemental loans may be guaranteed by a third-party guarantor. At June 30, 2004, all our alternative supplemental loans were 100% guaranteed by third-party guarantors.

Our portfolio of FFELP student loans generally earns interest at the higher of a floating rate based on the SAP formula set by the DOE or the borrower rate, which is fixed over a period of time. We generally finance our student loan portfolio with floating rate debt over all interest rate levels. In low interest rate environments, when student loans are earning at the fixed borrower rate and the interest on our floating rate debt is continuing to decline, we earn additional spread income and refer to it as floor income. Depending on the type of student loan and when it is originated, the borrower rate is either fixed to term (as is the case of consolidation loans) or is reset to a market rate each July 1st (as is the case for Stafford and PLUS loans). As a result, for loans where the borrower rate is fixed to term, we may earn floor income for an extended period of time, and for those loans where the borrower interest rate is reset annually July first, we may earn floor income until the next reset date.

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We are required to pay the DOE a one-time 50 basis point origination fee on Stafford, PLUS, and consolidation loans and an annual 105 basis point consolidation loan rebate fee on all consolidation loans originated and held after October 1, 1993. The unamortized portion of the origination fees are included in our balance sheet in student loans, net of loan loss reserve, student loans, net of loan loss reserve (securitized) and student loans held for resale at the lower of cost or market. Also, all loans acquired after October 1, 1993 are subject to risk-sharing on claim payments under which the loan is guaranteed for 98% of the outstanding balance plus accrued interest.

The activity relating to the student loan balances held during the period from December 31, 2003 through June 30, 2004 is as follows:

Included in the above table is a line labeled “Refunds, cancellations and adjustments.” This line item relates to adjustments and receipts on student loans that are not part of payments directly from borrowers or claim payments from guarantee agencies. The primary components of this line item are cash refunds from schools and lenders related to disbursements on loan originations we have previously made, plus payments related to cancellations of existing loans as consolidation loans are processed on behalf of borrowers. (For example, a borrower has an existing consolidation loan and adds another loan to it. The existing loan is included above as a cancellation.)

Note 4—Student Loans—Loan Loss Reserve

The provision for loan losses represents the periodic expense of maintaining an allowance sufficient to absorb losses, net of recoveries, inherent in our portfolio of student loans. We evaluate the adequacy of the provision for losses on our guaranteed student loan portfolio separately from our alternative supplemental loan portfolio. For our guaranteed student loan portfolio, we primarily consider trends in student loan claims rejected for payment by guarantors due to servicing defects as well as overall default rates on those FFELP student loans subject to the two percent risk-sharing, i.e., those loans that are insured as to 98% of principal and accrued interest. Loans are placed on non-accrual status and charged off at the point that a loan claim is rejected for payment by guarantors.

At June 30, 2004 all alternative supplemental loans were 100% guaranteed by third-party guarantors.

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The following table summarizes changes in the loan loss reserve for the quarter and six months ended June 30, 2004 and June 30, 2003:

The additions to the loan loss reserve are expensed on the income statement during the period incurred. The balance at the end of the period is netted against student loans outstanding and included in “Student Loans, net of loan loss reserve” and “Student Loans, net of loan loss reserve (securitized)” on the balance sheet.

Note 5—Warehouse Loan Facilities and Securitizations

We have a $500 million warehouse loan facility (our Conduit Facility) and a $19 million warehouse loan facility that we use to fund the origination and purchase of student loans. Our $500 million loan facility was established in the fourth quarter of 2002. As of June 30, 2004, the Conduit Facility had been approved for advances of up to $500 million, however from time to time, as the need has arisen, the Conduit Facility has been approved for advances of up to $1.25 billion. Our Conduit Facility capacity allows us to fund and pool student loans until we aggregate sufficient volume to access the securitization markets for more cost-efficient financing. At June 30, 2004, the balance outstanding on the Conduit Facility was approximately $281 million.

This Conduit Facility is governed by an indenture and other program documents which were entered into as of October 18, 2002, with a financial institution. The term of the financing is three years. However, the financing is backed by a 364-day liquidity facility which must be renewed on an annual basis. Failure to renew the liquidity facility will result in early termination of the financing. The financing is secured by the assets of the indenture which primarily consist of cash, student loans, and their applicable accrued interest. Interest is calculated and paid on a monthly basis. The interest rate is based upon the CP rate (1.16% at June 30, 2004) of the financial institution providing the liquidity facility. In addition to interest charges, we also pay trustee fees as well as a commitment fee on the unused portion of the facility. The Conduit Facility includes a number of covenants and compliance features that we must meet to continue to make additional draws on the facility as well as to maintain the existing loan balances.

In May of 2004, we completed a $1 billion LIBOR/auction rate student loan securitization. This securitization has been accounted for as a securitized borrowing because the assets are merely a pledge of collateral, the secured party does not have the right to sell or repledge the collateral and we have not defaulted under the terms of the securitization. Therefore, the securitization is included as student loans (securitized) and Education Loan Backed Notes related to securitized student loans structured as collateralized borrowings on the balance sheet. The notes were issued pursuant to an indenture of trust and consist of senior (Class A) and subordinate (Class B) notes, the proceeds of which were used to pay down the warehouse loan and pre-fund a portfolio of student loans. The student loans are serviced by third-party servicers. Interest rates for certain notes are tied to three-month LIBOR plus an incremental amount ranging from 0.04% to 0.19%. Other notes bear interest at a rate determined by Dutch Auction. All notes mature no later than June 15, 2043. The notes are subject to mandatory redemption, in whole or in part, on any interest payment date with monies on deposit in the principal fund. Additionally, the notes are subject to optional redemption by us on any regularly scheduled interest payment date. At June 30, 2004 the notes’ principal amounts and interest rates were as follows:

$1,000,000,000 Education Loan Backed Notes Issued in May, 2004

In October of 2003, we completed a $1 billion LIBOR/auction rate student loan securitization. This securitization has been accounted for as a securitized borrowing because the assets are merely a pledge of collateral, the secured party does not have the right to sell or repledge the collateral and we have not defaulted under the terms of the securitization. Therefore, the securitization is

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included as student loans (securitized) and Education Loan Backed Notes related to securitized student loans structured as collateralized borrowings on the balance sheet. The notes were issued pursuant to an indenture of trust and consist of senior (Class A) and subordinate (Class B) notes, the proceeds of which were used to pay down the warehouse loan and pre-fund a portfolio of student loans. The student loans are serviced by third-party servicers. Interest rates for certain notes are tied to three-month LIBOR plus an incremental amount ranging from 0.04% to 0.27%. Other notes bear interest at a rate determined by Dutch Auction. All notes mature no later than December 15, 2042. The notes are subject to mandatory redemption, in whole or in part, on any interest payment date with monies on deposit in the principal fund. Additionally, the notes are subject to optional redemption by us on any regularly scheduled interest payment date. At June 30, 2004 the notes’ principal amounts and interest rates were as follows:

$1,000,000,000 Education Loan Backed Notes Issued in October, 2003

We also completed a $1 billion, LIBOR/auction rate student loan securitization in April 2003. This securitization has also been accounted for as a securitized borrowing because the assets are merely a pledge of collateral, the secured party does not have the right to sell or repledge the collateral and we have not defaulted under the terms of the securitization. Therefore, the securitization is included as student loans (securitized) and Education Loan Backed Notes related to securitized student loans structured as collateralized borrowings on the balance sheet. The notes were issued pursuant to an indenture of trust and consist of senior (Class A) and subordinate (Class B) notes, the proceeds of which were used to pay down the warehouse loan and pre-fund a portfolio of student loans. The student loans are serviced by third-party servicers. Interest rates for certain notes are tied to three-month LIBOR plus an incremental amount ranging from 0.05% to 0.30%. Other notes bear interest at a rate determined by Dutch Auction. All notes mature no later than March 17, 2042. The notes are subject to mandatory redemption, in whole or in part, on any interest payment date with monies on deposit in the principal fund. Additionally, the notes are subject to optional redemption by us on any regularly scheduled interest payment date. At June 30, 2004 the notes’ principal amounts and interest rates were as follows:

$1,000,000,000 Education Loan Backed Notes Issued in April, 2003