UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, ~~2012~~2013

Commission File No. 1-31753

CapitalSource Inc.

(Exact name of registrant as specified in its charter)



Delaware		35-2206895
(State of Incorporation)		(I.R.S. Employer Identification No.)

633 West 5^th Street, 33rd Floor

Los Angeles, CA 90071

(Address of Principal Executive Offices, Including Zip Code)

(213) 443-7700

(Registrant's Telephone Number, Including Area Code)

Securities Registered Pursuant to Section 12(b) of the Act:



(Title of Each Class)		(Name of Exchange on Which Registered)
Common Stock, par value $0.01 per share		New York Stock Exchange

Securities Registered Pursuant to Section 12(g) of the Act:

None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. þ Yes o No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. o Yes þ No

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. þ Yes o No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). þ Yes o No

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):



þ Large accelerated filer		o Accelerated filer

o Non-accelerated filer	(Do not check if a smaller reporting company)	o Smaller reporting company

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). o Yes þ No

The aggregate market value of the Registrant's Common Stock, par value $0.01 per share, held by nonaffiliates of the Registrant, as of June 30, ~~2012~~2013 was $1,~~466~~825,~~123~~859,~~534~~491.

As of February 2026, ~~2013~~2014, the number of shares of the Registrant's Common Stock, par value $0.01 per share, outstanding was ~~207~~196,~~857~~869,~~695~~521.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of CapitalSource Inc.'s Proxy Statement for the ~~2013~~2014 annual meeting of shareholders, a definitive copy of which will be filed with the SEC within 120 days after the end of the year covered by this Form 10-K, are incorporated by reference herein as portions of Part III of this Form 10-K.

		Page
	PART I
Item 1.	Business	4
Item 1A.	Risk Factors	1314
Item 1B.	Unresolved Staff Comments	1923
Item 2.	Properties	2023
Item 3.	Legal Proceedings	2023
Item 4.	Mine Safety Disclosures	2023
	PART II
Item 5.	Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	2024
Item 6.	Selected Financial Data	2327
Item 7.	Management's Discussion and Analysis of Financial Condition and Results of Operations	2630
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk	7278
	Management Report on Internal Controls Over Financial Reporting	7379
	Report of Independent Registered Public Accounting Firm on Internal Controls Over Financial Reporting	7480
Item 8.	Financial Statements and Supplementary Data	7581
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	~~132~~138
Item 9A.	Controls and Procedures	~~132~~138
Item 9B.	Other Information	~~132~~138
	PART III
Item 10.	Directors, Executive Officers and Corporate Governance	~~133~~139
Item 11.	Executive Compensation	~~134~~140
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	~~134~~140
Item 13.	Certain Relationships and Related Transactions, and Director Independence	~~134~~140
Item 14.	Principal Accountant Fees and Services	~~134~~140
	PART IV
Item 15.	Exhibits and Financial Statement Schedules	~~135~~141
	Signatures	~~136~~142
	Index to Exhibits	~~137~~143

PART I

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Form 10-K, including the footnotes to our audited consolidated financial statements included herein, contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, including certain plans, expectations, strategies, goals, and projections and including statements about our expectations regarding ~~Parent~~the ~~Company~~pending ~~asset~~merger ~~run~~between ~~off,~~the ~~including~~Parent ~~accelerated~~Company ~~disposition~~and ofPacWest ~~Parent~~Bancorp ~~Company assets~~(“PacWest”), CapitalSource Bank ~~growth,~~net ~~return~~interest ofmargin ~~capital~~(“NIM”), toloan ~~shareholders~~repayments, ~~including~~credit ~~the timing~~trends, ~~form~~funding ~~and magnitude~~ of ~~any~~unfunded ~~return~~loan ~~of capital~~commitments, ~~Parent~~CapitalSource ~~Company~~Bank and ~~Bank~~Parent Company liquidity, ~~expectations about our deferred tax asset, our expectations regarding converting~~ CapitalSource Bank's ~~charter~~tax payment to athe ~~commercial~~Parent ~~charter~~Company, ~~funding~~realizing ofthe ~~unfunded~~allowed ~~loan~~portion ~~commitments,~~of the ~~timing~~deferred oftax ~~our bank holding company filing and approval~~asset, ~~loan repayments, comprehensive income,~~ and interest rate risk management, all which are subject to numerous assumptions, risks, and uncertainties. All statements contained in this Form 10-K that are not clearly historical in nature are forward-looking, and the words 'anticipate,' 'assume,' 'intend,' 'believe,' 'expect,' 'estimate,' 'forecast,' 'plan,' 'position,' 'project,' 'will,' 'should,' 'would,' 'seek,' 'continue,' 'outlook,' 'look forward,' and similar expressions are generally intended to identify forward-looking statements. All forward-looking statements (including statements regarding preliminary and future financial and operating results and future transactions and their results) involve risks, uncertainties and contingencies, many of which are beyond our control, which may cause actual results, performance, or achievements to differ materially from anticipated results, performance or achievements. Actual results could differ materially from those contained or implied by such statements for a variety of factors, including without limitation: ~~deteriorations~~the orability ~~disruptions~~to incomplete ~~credit~~the ~~and~~pending ~~other~~merger ~~markets;~~between ~~borrowers'~~the ~~lack~~Parent ofCompany ~~financial~~and ~~strength~~PacWest, toincluding ~~repay~~obtaining ~~loans;~~regulatory ~~the~~approvals, ~~Parent~~or ~~Company's~~any ~~decision~~future totransaction, ~~make~~successfully ~~new~~integrating ~~loans~~the orcompanies ~~extend~~following ~~existing~~completion ~~loans,~~of ~~changes~~the inmerger ~~economic~~ or ~~competitive~~achieving ~~market~~expected ~~conditions~~beneficial ~~could~~synergies ~~negatively~~and/or ~~impact~~operating ~~investment~~efficiencies, orin ~~lending~~each ~~opportunities~~case, orwithin ~~product~~expected ~~pricing~~time ~~and~~frames ~~services~~or at all; ~~reduced~~the ~~demand~~possibility ~~for~~that ~~our~~regulatory ~~services;~~approvals ~~our~~may ~~inability~~not tobe ~~grow~~received ~~deposits~~on ~~and~~expected ~~access~~time ~~wholesale~~frames ~~funding~~or ~~sources~~at all; ~~regulatory~~the ~~safety~~possibility ~~and~~that ~~soundness~~personnel ~~considerations~~changes ~~could~~in ~~increase~~connection ~~capital~~with ~~requirements;~~the ~~loan~~merger ~~repayments~~may ~~higher~~not ~~than~~proceed ~~expected~~as planned; the ~~success~~possibility ~~and~~that ~~timing~~the cost of ~~other~~additional ~~business~~capital ~~strategies~~may ~~and~~be ~~asset~~more ~~sales~~than expected; ~~declines~~changes in ~~asset~~the ~~values;~~Company’s ~~lower~~stock ~~than~~price ~~expected~~before ~~Parent~~completion ~~Company's~~of ~~recurring~~the ~~tax~~merger, ~~basis~~including ~~income;~~as ~~lower~~a ~~than~~result ~~expected~~of ~~taxable~~the ~~income~~financial atperformance ~~CapitalSource~~of ~~Bank~~PacWest ~~for~~prior ~~which~~to ~~CapitalSource~~closing; ~~Bank~~the ~~has~~reaction to ~~reimburse~~the merger by each of the ~~Parent~~company’s ~~Company~~customers, ~~for~~employees ~~income~~and ~~tax~~counterparties; ~~expenses~~change in ~~accordance~~interest ~~with~~rates ~~the~~and ~~tax~~lending ~~sharing agreement~~spreads; ~~the~~compression ~~need~~of tospreads ~~retain~~on ~~capital~~newly ~~for~~originated ~~strategic~~loans; orunfavorable ~~regulatory~~changes ~~reasons~~in ~~including~~asset ~~the~~mix; ~~implementation~~higher ofthan ~~Basel~~anticipated ~~III~~payoff ~~standards~~levels; ~~drawdown~~changes ofin ~~Parent~~our ~~Company~~loan ~~unfunded~~product ~~commitments~~could ~~substantially~~further compress NIM; deteriorations in ~~excess~~credit ofand ~~historical~~other ~~drawings~~markets; higher than anticipated ~~capital~~credit ~~needs~~losses; ~~due~~reserves toand ~~strategic~~delinquencies; orloan ~~regulatory~~loss ~~reasons~~provisions; a borrower’s lack of financial strength to repay loans; continued or worsening credit losses,; ~~charge-offs,~~changes ~~reserves~~in ~~and~~economic ~~delinquencies~~or market conditions or investment or lending opportunities; competitive and other market pressures on product pricing and services; ~~higher~~ ~~than~~reduced ~~anticipated~~demand ~~loan~~for ~~losses~~our services; loan repayments higher than ~~anticipated~~expected; ~~loan~~charge-offs; ~~growth~~our orinability ~~credit~~to ~~deterioration;~~grow ~~compression~~deposits ofand ~~spreads;~~access ~~higher~~wholesale ~~than~~funding ~~anticipated~~sources; ~~increases~~regulatory insafety ~~operating~~and ~~expenses~~soundness considerations; ~~significant~~the ~~decline~~success inand ~~market~~timing ~~interest~~of ~~rate~~other ~~spreads;~~business ~~increased~~strategies ~~costs~~and toasset ~~manage~~sales; ~~and~~drawdown ~~sell~~of ~~foreclosed~~Parent ~~assets;~~Company weunfunded ~~may~~commitments ~~not~~substantially ~~receive~~in ~~the~~excess ~~regulatory~~of ~~approvals~~historical ~~needed~~drawings; tolower ~~become~~than aexpected ~~bank~~Parent ~~holding~~Company's ~~company~~recurring ~~within~~tax ~~our~~basis income; lower than expected ~~timeframe~~taxable orincome at ~~all~~CapitalSource ~~and~~Bank ~~alternative~~for ~~approaches~~which CapitalSource Bank has to ~~charter~~reimburse ~~conversion~~the ~~may~~Parent beCompany ~~unavailable~~for orincome ~~may~~tax ~~not~~expenses ~~succeed;~~in weaccordance ~~may~~with ~~experience~~the ~~regulatory~~tax ~~delay~~sharing agreement; ~~unanticipated~~higher ~~regulatory~~than ~~restrictions~~anticipated oncapital ~~our~~needs ~~ability~~due to ~~return~~strategic ~~capital~~or ~~could~~regulatory ~~cause~~reasons; usCapitalSource toBank ~~reassess~~dividend payment to the ~~timing~~Parent ofCompany ~~our~~is ~~application~~less than expected; changes in tax laws or regulations affecting our business; our inability to generate sufficient earnings; tax planning or disallowance of tax benefits by tax authorities; ~~changes~~ ~~in FASB guidance affecting the presentation of comprehensive and non-comprehensive income;~~ changes in the forward yield curve; increases or decreases in market interest rates; changes in the relationship between yields on investments and loans repaid and yields on assets reinvested; and other factors described in this Form 10-K and documents subsequently filed by CapitalSource with the Securities and Exchange Commission (the "SEC"). All forward-looking statements included in this Form 10-K are based on information available at the time of the release.

We are under no obligation to (and expressly disclaim any such obligation to) update or alter our forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.

The information contained in this section should be read in conjunction with our audited consolidated financial statements and related notes and the information contained elsewhere in this Form 10-K, including that set forth under Item 1A, Risk Factors.


ITEM 1.	BUSINESS

Overview

CapitalSource Inc., a Delaware corporation, is a commercial lender that provides financial products to small and middle market businesses nationwide and provides depository products and services to consumers in southern and central California, primarily through our wholly owned subsidiary, CapitalSource Bank. References to we, us, the Company or CapitalSource refer to CapitalSource Inc. together with its subsidiaries. References to CapitalSource Bank include its subsidiaries, and references to the Parent Company refer to CapitalSource Inc. and its subsidiaries other than CapitalSource Bank.

AsWe offer a broad range of ~~December 31~~specialized senior secured, ~~2012~~commercial loan products to small and middle-market businesses, and we ~~had~~offer ~~total~~our ~~assets~~loan ofproducts $8on a nationwide basis.5 ~~billion,~~With ~~total~~a ~~loans~~deposit ofgathering ~~$6.2~~platform ~~billion~~based in southern and central California, ~~total~~we ~~deposits~~believe ofour ~~$5.6~~business ~~billion~~model ~~and~~is ~~stockholders'~~well ~~equity~~positioned to deliver a broad range of ~~$1.6~~customized ~~billion~~financial solutions to borrowers.

~~Our~~As ~~corporate~~of ~~headquarters is located in Los Angeles~~December 31, ~~California~~2013, ~~and~~ we ~~have~~had 21total ~~retail~~assets ~~bank~~of ~~branches located in southern and central California~~$8.9 ~~Our loan origination efforts are conducted nationwide with key offices located in Chevy Chase~~billion, ~~Maryland,~~total ~~Los~~loans ~~Angeles,~~of ~~Denver,~~$6.8 ~~Chicago~~billion, ~~Boston,~~total ~~New~~deposits ~~York~~of ~~and Atlanta~~$6.1 Webillion ~~also~~and ~~maintain~~stockholders' aequity ~~number~~ of ~~smaller lending offices throughout the country~~$1.6 billion.

Our ~~Strategic~~corporate ~~Objectives~~headquarters is located in Los Angeles, California, and we have 21 retail bank branches located in southern and central California. Our loan origination efforts are conducted nationwide with key offices located in Chevy Chase, Maryland, Los Angeles, California, Denver, Colorado, Chicago, Illinois, and New York, New York. We also maintain a number of smaller lending offices throughout the country.

InFor ~~July 2008,~~ the ~~Company~~years ~~diversified~~ended ~~its~~December 31, ~~funding~~2013, ~~sources~~2012 byand ~~first~~2011, ~~receiving~~we aoperated ~~California~~as ~~Industrial~~two ~~Bank~~reportable ~~charter~~segments: ~~from~~CapitalSource ~~the~~Bank ~~Federal Deposit Insurance Corporation (“FDIC”)~~ and ~~the~~Other ~~California~~Commercial ~~Department~~Finance. ofThe ~~Financial Institutions (“DFI”) and launching~~ CapitalSource Bank assegment acomprises deour ~~novo~~commercial ~~bank.~~lending ~~Since~~and ~~then,~~banking webusiness ~~have~~activities, ~~focused on the growth~~ and ~~operations~~our ofOther ~~CapitalSource~~Commercial ~~Bank~~Finance ~~which~~segment ~~funds~~comprises ~~all~~our ~~new~~ loan ~~originations.~~portfolio Weand ~~are~~other ~~simultaneously~~business ~~liquidating~~activities ~~Parent~~in ~~Company~~the ~~assets, reducing~~ Parent Company. ~~debt,~~For ~~returning~~additional ~~capital~~information, tosee ~~shareholders~~Note ~~and~~20, ~~simplifying~~Segment ~~our consolidated operations~~Data.

WeCurrent ~~are~~Developments pursuing our strategy of converting CapitalSource Bank to a commercial bank. Our current strategy for achieving this goal involves the Parent Company becoming a bank holding company under the Bank Holding Company Act of 1956. Subject to ongoing discussions with regulatory authorities, we expect to file an application to convert the existing industrial bank charter of CapitalSource Bank to a commercial charter and to file an application for the Parent Company to become a bank holding company. This process is moving forward and we continue to expect it can be concluded during 2013. There is no assurance that any of the regulatory authorities will approve our applications.

~~Our~~On ~~broader~~July 23, ~~business~~2013, ~~strategy~~the ~~focuses~~Parent onCompany ~~developing~~announced ~~and~~that ~~growing~~it ~~our~~had ~~banking~~entered ~~operations.~~into ~~We offer~~ a ~~broad~~Merger ~~range~~Agreement of(the ~~specialized~~"Merger") ~~senior~~with ~~secured,~~PacWest ~~commercial~~Bancorp ~~loan~~("PacWest") ~~products~~pursuant to ~~small~~which the Parent Company will merge with and ~~middle-market~~into ~~businesses~~PacWest. Under the terms of the Merger, stockholders of the Parent Company will receive $2.47 in cash and we0.2837 ~~offer~~shares ~~our~~of ~~loan~~PacWest ~~products~~common onstock afor ~~nationwide~~each ~~basis~~share of CapitalSource common stock. ~~Since~~The ~~the~~total ~~formation~~value of the ~~Bank~~per share merger consideration, webased ~~have~~on ~~launched~~the orclosing ~~acquired~~price ~~five~~of ~~lending~~PacWest ~~platforms:~~shares ~~equipment~~on ~~finance~~July 19, ~~small~~2013, ~~business~~is $11.64. On January 13, ~~professional~~2014, ~~practice~~the Company's shareholders approved the merger; however, ~~multifamily~~the ~~lending~~transaction continues to be subject to customary conditions, ~~and~~including ~~insurance~~the ~~premium~~approval ~~finance~~of ~~lending~~bank regulatory authorities.

InOur business focus includes operating CapitalSource Bank and liquidating our remaining Parent Company assets. As of December 31, 2013 and 2012, CapitalSource Bank had $8.1 billion and $7.4 billion of assets, respectively. During 2013, CapitalSource Bank's loan portfolio grew by approximately $~~909~~1.1 ~~million~~billion or 19.2%, while the loan portfolio of the Parent Company decreased by $~~445~~0.4 ~~million~~billion or 4683.4%; resulting in net ~~annual~~ loan growth of $~~464~~0.7 ~~million~~billion. ~~The~~During ~~credit~~2012, ~~profile~~CapitalSource ~~improved~~Bank's asloan portfolio grew by approximately $0.9 billion or 18.6%, while the loan portfolio of the Parent Company decreased by $0.4 billion or 45.8%; resulting in net loan growth of $0.5 billion. CapitalSource Bank's non-performing assets as of December 31, ~~2012~~2013 were $~~130~~48.46 million, or 10.526% of total assets, a decrease of $~~181.~~0.3 million from aDecember ~~year~~31, ~~ago~~2012. ~~The~~CapitalSource Bank's allowance for loan losses as of December 31, ~~2012~~2013 was $~~117~~109.35 million or 1.916% of loans compared to $~~153~~98.69 million or 21.708% of loans aas ~~year~~of ~~ago~~December 31, 2012.

InCapitalSource ~~addition~~Bank's tonet ~~growing~~interest ~~assets~~margin ~~and~~for ~~increasing~~the ~~profitability~~three atmonths ~~CapitalSource~~ended ~~Bank~~December 31, ~~our~~2013 ~~current~~decreased ~~strategy is~~ to ~~dispose of our remaining Parent Company assets over time~~4.76% Wefrom ~~intend~~the toprevious ~~regularly~~quarter ~~assess~~as ~~alternatives~~the ~~for~~loan ~~implementing~~portfolio ~~our~~yields ~~strategy~~declined, ~~and may consider accelerated disposition of Parent Company assets and alternative uses of Parent Company capital~~however, ~~including~~the ~~contributions~~margin towas ~~CapitalSource~~partially ~~Bank,~~offset ifby ~~attractive~~loan ~~opportunities~~portfolio ~~become available~~growth. AsWe ~~the~~anticipate ~~Parent~~that ~~Company assets are repaid or sold,~~ the ~~Company~~net ~~intends~~interest tomargin ~~continue~~will toremain ~~return~~relatively aflat ~~substantial~~as ~~portion~~compared ~~of our excess capital~~ to ~~shareholders~~the ~~through~~fourth ~~a combination of share repurchases and dividends~~quarter. ~~The~~Net ~~Company~~interest ~~began~~margin ~~repurchasing~~was ~~shares in December 2010 and through December 2012~~4.86%, ~~we have repurchased approximately 120~~4.~~9 million shares~~79%, ~~or 35~~5.08%, ofand ~~the shares outstanding since December 2010~~4.84% ~~Consistent~~for ~~with~~ the ~~objective~~three ofmonths ~~returning~~ended ~~excess~~September ~~capital~~30, ~~to shareholders~~2013, ~~during~~June ~~the fourth quarter of 2012~~30, ~~the Company's Board of Directors approved a new share repurchase program with authority to purchase up to $250.0 million of outstanding shares through the end of~~ 2013., ~~While~~March ~~share repurchases have been the primary means of returning excess capital to shareholders~~31, ~~in December~~2013, ~~we declared~~ and ~~paid~~December a31, ~~special~~2012, ~~dividend of $0~~respectively.~~50 per share or $104.4 million in the aggregate.~~

During 2012, we repurchased and fully extinguished the 7.25% Convertible Debentures due 2037 (originally issued in July 2007). The remaining Parent Company debt consists of non-recourse securitization debt and low cost, variable rate Trust Preferred Securities with maturity dates beginning in 2035. The non-recourse securitization debt and Trust Preferred Securities had outstanding balances of $177.2 million and $410.7 million, respectively, as of December 31, 2012.

For the years ended December 31, 2012, 2011 and 2010, we operated as two reportable segments: CapitalSource Bank and Other Commercial Finance. Our CapitalSource Bank segment comprises our commercial lending and banking business activities,

and our Other Commercial Finance segment comprises our loan portfolio and other business activities in the Parent Company. For additional information, see Note 21, Segment Data, in our accompanying audited consolidated financial statements for the year ended December 31, 2012.

Loan Products and Service Offerings

Senior Secured Loans

We make senior secured real estate and asset-based loans which have a first priority lien in the collateral securing the loan. We also make cash flow loans which are secured by the enterprise value of the borrowing entity. Asset-based loans are collateralized by specified assets of the ~~client~~borrower, generally its accounts/notes receivable, inventory and/or machinery. Real estate loans are secured by senior mortgages on real property. We make cash flow loans based on our assessment of a client's ability to generate cash flows sufficient to repay the loan and to maintain or increase its enterprise value during the term of the loan. Our cash flow loans are generally secured by a security interest in all or substantially all of a ~~client~~borrower's assets.

Our lending activities are primarily focused on the following sectors:


•	Healthcare: real estate, asset-based and cash flow loans to healthcare providers;


•	Lender finance: loans to commercial finance companies with underlying portfolios of tax liens, loans secured by timeshare receivables, auto receivables, student loans and other consumer receivables;

• ~~Multi-family~~Multifamily real estate: mortgage loans on multifamily properties;


•	Commercial real estate: mortgage loans on a variety of commercial property types;


•	Equipment leasing and finance: equipment loans and leases collateralized by the specific equipment financed;


•	Technology: loans to technology companies that provide critical product or service offerings, including wireless communication tower owner/operators, information technology hosting providers and managed service providers;


•	Security: asset-based and cash flow loans to companies in the physical security, government security, and public safety sectors;

• Small business: loans guaranteed in part by the Small Business Administration (“SBA”) to small businesses; and

• Professional practices: business loans primarily to dentists, physicians, pharmacists and optometrists; and


•	Premium finance: traditional life insurance premium finance loans secured by the cash surrender value of life insurance policies and other liquid assets.

Depository Products and Services

Through CapitalSource Bank's 21 branches in southern and central California, our website and our ~~website~~borrower relationships, we provide savings and money market accounts, individual retirement accounts and certificates of deposit. These products are insured up to the maximum amounts permitted by the FDIC. As an industrial bank, we are not permitted to offer demand deposit accounts.

Financing

We depend on deposits and external financing sources to fund our operations. We employ a variety of financing arrangements, including term debt, subordinated debt and equity. As a member of the Federal Home Loan Bank of San Francisco (“FHLB SF”), one of 12 regional banks in the Federal Home Loan Bank (“FHLB”) system, CapitalSource Bank had financing availability with the FHLB SF as of December 31, ~~2012~~2013 equal to 35% of CapitalSource Bank's total assets, subject to pledging adequate collateral.

We issued term debt securitizations in which we contributed commercial loans to separate Issuers. The Issuers are structured to be legally isolated, bankruptcy remote entities. The Issuers issued notes and certificates that are collateralized by the underlying assets of the Issuers, primarily comprised of contributed loans.

We have issued subordinated debt to statutory trusts (“TP Trusts”) that are formed for the purpose of issuing preferred securities to outside investors, which we refer to as Trust Preferred Securities (“TPS”). We generally retained 100% of the common securities issued by the TP Trusts, representing 3% of their total capitalization. The terms of the subordinated debt issued to the TP Trusts and the TPS issued by the TP Trusts are substantially identical.

Competition

We offer a number of loan and deposit products with many of the loan product offerings focused on niche sectors, such as timeshare lending, security lending, technology and healthcare lending, among others. ~~Our~~Generally, our loan products are ~~generally~~ marketed nationwide while our depository activities occur ~~only~~ in California. The primary competition for each of our loan products varies by product type. Our markets are competitive and characterized by varying competitive factors. We compete with a large number of financial services companies, including:


•	commercial banks and thrifts that operate locally, regionally or nationally;


•	specialty and commercial finance companies;


•	private investment funds;


•	insurance companies; and


•	investment banks.

Competition is based on a number of factors, including: interest rates charged on loans and paid on deposits, the scope and type of banking and financial services offered, customer service and convenience, and regulatory constraints. Many of our competitors are large companies that have substantial capital, technological and marketing resources. Some of our competitors have substantial market positions and have access to a lower cost of capital or a less expensive source of funds. We believe we compete based on:

• in-depth knowledge of our ~~clients~~borrowers' industries and their business needs based upon information received from our ~~clients~~borrowers' key decision-makers, analysis by our experienced professionals and interaction between our ~~clients~~borrowers' decision-makers and our experienced professionals;

• our breadth of loan product offerings and flexible and creative approach to structuring products that meet our ~~clients~~borrowers' business and timing needs; and


•	our superior client service.

Supervision and Regulation

Our bank operations are subject to regulation by federal and state regulatory agencies. This regulation is intended primarily for the protection of depositors and the deposit insurance fund, and secondarily for the stability of the U.S. banking system. It is not intended for the benefit of stockholders of financial institutions. CapitalSource Bank is a California industrial bank and is subject to supervision and regular examination by the Federal Deposit Insurance Corporation ("FDIC") and the ~~DFI~~California Department of Business Oversight ("DBO"). CapitalSource Bank's deposits are insured by the FDIC up to the maximum amounts permitted by law.

Although the Parent Company is not directly regulated or supervised by the ~~DFI~~DBO, the FDIC, the Federal Reserve Board (“FRB”) or any other federal or state bank regulatory authority either as a bank holding company or otherwise, the Parent Company gave the FDIC authority pursuant to a contractual supervisory agreement (the “Parent Company Agreement”) to examine the Parent Company, the relationship and transactions between it and CapitalSource Bank and the effect of such relationship and transactions on CapitalSource Bank. The Parent Company ~~also~~ is subject to regulation by other applicable federal and state agencies, such as the Securities and Exchange Commission ("SEC"). We are required to file periodic reports with these regulators and provide any additional information that they may require.

The following summary describes some of the more significant laws, regulations, and policies that affect our operations; it is not intended to be a complete listing of all laws that apply to us. From time to time, federal, state and foreign legislation is enacted and regulations are adopted which may have the effect of materially increasing the cost of doing business, limiting or expanding permissible activities, or affecting the competitive balance between banks and other financial services providers. We cannot predict whether or when potential legislation will be enacted, and if enacted, the effect that it, or any implementing regulations, would have on our financial condition or results of operations.

General

Like other banks, CapitalSource Bank must file reports in the ordinary course with applicable regulators concerning its activities and financial condition in addition to obtaining regulatory approvals prior to changing its approved business plan or entering into certain transactions such as mergers with, or acquisitions of, other financial institutions.

While CapitalSource Bank completed its initial three-year de novo period in July 2011, certain conditions contained in the FDIC Order remain in place pursuant to the continued existence of the Parent Company Agreement and the Capital Maintenance and Liquidity Agreement (the “CMLA”) until such time as we apply for and are granted relief by the FDIC from the requirements of these agreements. ~~Per~~Under the provisions of the CLMA, the Parent Company has provided, and is required to continue to provide, a $150.0 million unsecured revolving credit facility that CapitalSource Bank may draw on at any time it or the FDIC deems necessary. This revolving credit facility has been in place since the formation of CapitalSource Bank and has not been drawn upon. Other remaining conditions are the requirement that CapitalSource Bank maintain a total risk-based capital ratio of not less than 15% and also maintain all other capital ratios of well-capitalized banks, to be supported by the Parent Company. CapitalSource Bank remains subject to bank safety and soundness requirements as well as to various regulatory capital requirements established by federal and state regulatory agencies, including any new conditions that our regulators may determine. Pursuant to the Parent Company Agreement, the Parent Company has consented to an examination of itself by the FDIC for purposes of monitoring compliance with the laws and regulations applicable to CapitalSource Bank and its affiliates.

In 2011, CapitalSource Bank filed a revised business plan pursuant to guidance issued by the FDIC for de novo institutions, with the plan covering the time period from July 1, 2011 through December 31, 2015. During this time period, CapitalSource Bank is subject to increased supervision that would otherwise not be applicable to a bank that has been in existence longer than three years, including enhanced FDIC supervision for compliance examinations and Community Reinvestment Act evaluations.

The FDIC and ~~DFI~~DBO conduct periodic examinations to evaluate CapitalSource Bank's safety and soundness and compliance with various regulatory requirements. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. Any change in such policies, whether by the regulators or Congress, could have a material adverse impact on our operations.

In addition, the investment, lending and ~~branching~~branch operating authority of CapitalSource Bank is prescribed by state and federal laws, and CapitalSource Bank is prohibited from engaging in any activities not permitted by these laws.

California law provides limits on loans to one borrower. In general, a California bank may not make unsecured loans or extensions of credit to a single or related group of borrowers in excess of 15% of the sum of its shareholders' equity, allowance for loan losses, capital notes and debentures. An additional amount may be lent, equal to 10% of such sum of shareholders' equity and other amounts, if secured by specified readily marketable collateral. As of December 31, ~~2012~~2013, this limit on loans to one borrower was $~~180~~202.0 million if unsecured and $~~300~~337.0 million if secured by readily marketable collateral.

The FDIC and DFI, as well as the other federal banking agencies, have adopted guidelines establishing safety and soundness standards on such matters as loan underwriting and documentation, asset quality, earnings, internal controls and audit systems, interest rate risk exposure and compensation and other employee benefits. Any institution that fails to comply with these standards may be subject to potential enforcement actions by the federal or state banking agencies for unsafe or unsound practices in conducting their businesses or for violations of any law, rule, regulation or any condition imposed in writing by the agency or any written agreement with the agency. Enforcement actions may include the imposition of a conservator or receiver, the issuance of a cease-and-desist order that can be judicially enforced, the termination of insurance for deposits (in the case of a depository institution), the imposition of civil money penalties, the issuance of directives to increase capital, the issuance of formal and informal agreements, or the issuance of removal and prohibition orders against institution-affiliated parties.6

The ~~international~~FDIC ~~Basel~~and ~~Committee~~DBO, onas ~~Banking~~well ~~Supervision~~as ~~published~~ the ~~final~~other ~~text~~federal ofbanking ~~Basel III~~agencies, onhave ~~December 16,~~adopted ~~2010,~~guidelines ~~which~~establishing ~~introduced~~safety ~~new~~and ~~minimum~~soundness ~~capital~~standards ~~requirements~~on such matters as loan underwriting and documentation, ~~two~~asset ~~liquidity~~quality, ~~ratios~~earnings, ainternal ~~charge~~controls ~~for~~and ~~credit~~audit ~~value~~systems, ~~adjustment~~interest ~~and~~rate arisk ~~leverage~~exposure ~~ratio,~~and ~~among~~compensation and other ~~things~~employee benefits. ~~The~~Any ~~Basel~~institution ~~III~~that ~~changes~~fails ~~and~~to ~~regulatory~~comply ~~initiatives~~with inthese ~~the~~standards ~~United~~may ~~States~~be insubject ~~the~~to ~~wake~~potential ofenforcement actions by the ~~financial~~federal ~~crisis,~~or ~~including~~state ~~provisions~~banking agencies for unsafe or unsound practices in conducting their businesses or for violations of ~~the~~any ~~Dodd-Frank~~law, ~~Act~~rule, ~~are~~regulation ~~expected~~or toany ~~result~~condition imposed in ~~higher~~writing ~~regulatory~~by ~~capital~~the ~~standards~~agency ~~and~~or ~~expectations~~any ~~for~~written ~~banking~~agreement ~~organizations~~with the agency. ~~The~~Enforcement ~~time~~actions ~~period~~may include the imposition of a conservator or receiver, the issuance of a cease-and-desist ~~scope~~order that can be judicially enforced, the termination of ~~U.S.~~insurance ~~implementation~~for deposits (in the case of ~~Basel~~a ~~III~~depository ~~and~~institution), ~~other~~the ~~regulatory~~imposition ~~capital~~of ~~initiatives~~civil ~~remain~~money ~~uncertain. We~~penalties, ~~will~~the ~~continue~~issuance of directives to ~~monitor~~increase ~~developments~~capital, ~~relating~~the toissuance ~~Basel III~~of ~~adoption~~formal inand informal agreements, or the ~~U.S. and~~issuance ~~its~~of ~~potential~~removal ~~impact~~and onprohibition ~~our~~orders ~~operations.~~against institution-affiliated parties.

The international Basel Committee on Banking Supervision published the final text of Basel III on December 16, 2010, which introduced new minimum capital requirements. On July 9, 2013, the federal banking agencies issued final rules (the “Basel III Capital Rules”), which become effective on January 1, 2015 (subject to phase-in periods for certain provisions), establishing a new comprehensive capital framework for U.S. banking organizations. The Basel III Capital Rules revise the definitions and components of regulatory capital, expand the scope of the deductions from and adjustments to capital, expand the number of risk-weighting categories and assign higher risk weights to certain assets and make other changes that affect the calculation of regulatory capital ratios. The Basel III Capital Rules also implement certain provisions of the Dodd-Frank Act, including the requirements to remove references to credit ratings from the federal agencies’ rules. These changes, and other regulatory initiatives in the United States, in the wake of the financial crisis, including provisions of the Dodd-Frank Act, are expected to result in higher regulatory capital standards and expectations for banking organizations.

The Basel III Capital Rules (i) introduce a new capital measure called “Common Equity Tier 1” (“CET1”) and related regulatory capital ratio of CET1 to risk-weighted assets, (ii) specify that Tier 1 capital consists of CET1 and “Additional Tier 1 capital” instruments meeting certain revised requirements, and (iii) require that most deductions from and adjustments to capital be made to CET1 rather than to the other components of capital.

Under the Basel III Capital Rules, the minimum capital ratios as of January 1, 2015, will be: (1) 4.5% CET1 to risk-weighted assets; (2) 6.0% Tier 1 capital (i.e., CET1 plus Additional Tier 1 capital) to risk-weighted assets; (3) 8.0% total capital (i.e., Tier 1 capital plus Tier 2 capital ) to risk-weighted assets; and (4) 4.0% Tier 1 capital to average consolidated assets as reported on consolidated financial statements (i.e., the “leverage ratio”). The Basel III Capital Rules also limit a banking organization’s ability to pay dividends, repurchase shares or pay discretionary bonus if a banking organization does not have a “capital conservation buffer,” comprised of CET1 capital, in an amount greater than 2.5% CET1 of risk-weighted assets in addition to the amount necessary to meet its minimum risk-based capital requirements. Phase-in of the capital conservation buffer requirements will begin on January 1, 2016 and must be fully phased-in by January 1, 2019.

Federal Home Loan Bank System

CapitalSource Bank is a member of the FHLB ~~San Francisco ("FHLB~~ SF"). Among other benefits, each FHLB serves its members within its assigned region and makes available loans to its members. Each FHLB is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB ~~System~~system. As a member, CapitalSource Bank is required to purchase and maintain stock in the FHLB SF. As of December 31, ~~2012~~2013, CapitalSource Bank owned $2831.23 million in par value of FHLB SF stock, which was in compliance with this requirement.

Dodd-Frank Act

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”), an initiative directed at the financial services industry, represents a comprehensive overhaul of the financial services industry within the United States, establishes the new federal Bureau of Consumer Financial Protection (the “BCFP”), and will require the BCFP and other federal agencies, including the SEC, to undertake assessments and rulemaking. A number of the provisions in the Dodd-Frank Act are aimed at financial institutions that are larger than the Parent Company or CapitalSource Bank. Nonetheless, there are provisions with which we will have to comply both as a public company and a financial institution.

The Dodd-Frank Act ~~also~~imposes ~~established~~a ~~requirements~~number ~~for~~of ~~financial~~significant ~~institutions~~regulatory ~~with~~and ~~consolidated~~compliance ~~assets~~changes in ~~excess~~the ofbanking ~~$1 billion~~and tofinancial ~~establish~~services ~~risk-based incentive compensation programs~~industry. WeMany ~~have~~provisions ~~been~~of ~~monitoring~~ the ~~rulemaking~~Dodd-Frank ~~process~~Act ~~and~~must ~~reviewing~~be ~~current~~implemented ~~incentive~~by ~~compensation~~regulations ~~programs~~yet ~~for~~to ~~compliance~~be ~~with~~adopted ~~and~~by invarious ~~preparation~~government ~~for~~agencies. ~~future~~These ~~implementation~~regulations, ofand ~~joint~~other ~~agency~~changes ~~rules. Based~~in onthe ~~our~~regulatory ~~understanding~~regime, ~~the~~may ~~Dodd-Frank~~include ~~Act~~additional ~~will~~requirements, ~~bring~~conditions, ~~the~~and ~~United~~limitations ~~States~~that ~~closer~~may toimpact ~~convergence~~us. ~~with~~Certain ~~the~~provisions ~~international~~of ~~capital~~the ~~standards~~Dodd-Frank ~~outlined~~Act inand ~~Basel~~implementing ~~III.~~regulations ~~Basel~~that ~~III~~may ~~requirements~~have ~~will~~a ~~likely~~material ~~apply~~effect toon ~~all~~our ~~banks,~~business ~~including~~are ~~CapitalSource~~noted ~~Bank~~below.

~~Insurance~~• The Dodd-Frank Act required a study regarding the continued exemption of ~~Accounts~~industrial ~~and~~banks ~~Regulation~~from the Bank Holding Company Act of 1956, as amended, or BHC Act. As a state-chartered industrial bank, CapitalSource Bank is currently exempt from the definition of “bank” under the BHC Act. The required study, which has been completed by the ~~FDIC~~General Accounting Office, did not state a definitive conclusion on this question but did report that the Treasury Department and the FRB believe that the current exemption poses risks to the financial system. If the current exemption

~~FDIC-insured~~is ~~institutions.~~eliminated, Itin ~~also~~order ~~may~~to ~~prohibit~~continue ~~any~~to ~~FDIC~~own ~~insured~~CapitalSource ~~institution~~Bank, ~~from~~the ~~engaging~~Parent inCompany ~~any~~would ~~activity~~be ~~the~~required ~~FDIC~~to ~~determines~~register byas ~~regulation~~a bank holding company, or ~~order~~BHC. toIf ~~pose~~we awere ~~serious~~unsuccessful ~~risk~~in toregistering ~~the~~as ~~insurance~~a ~~fund.~~BHC ~~The~~or ~~FDIC~~another ~~also~~exception ~~has~~does ~~the~~not ~~authority~~become available to ~~initiate~~us, ~~enforcement~~our ~~actions~~continued ~~against~~ownership ~~insured~~of ~~institutions.~~CapitalSource Bank would not be permissible.

On• ~~October 7,~~The ~~2008,~~Dodd-Frank ~~the~~Act ~~FDIC~~directs ~~established~~the afederal ~~Restoration~~banking ~~Plan~~agencies to ~~return~~issue regulations requiring that the ~~Depositors~~parent ~~Insurance~~company ~~Fund~~of ~~("DIF)~~any tofederally ~~its~~insured ~~statutorily~~depository ~~mandated~~institution ~~minimum~~serve ~~reserve~~as ~~ratio~~a “source of ~~1.15%~~financial ~~within~~strength” ~~five~~to ~~years.~~its Insubsidiary ~~2009,~~depository ~~the~~institution. ~~Restoration~~The ~~Plan~~source ~~was~~of ~~amended~~strength torequirement ~~extend~~had ~~the~~historically ~~restoration~~applied ~~period~~only to ~~seven~~BHCs ~~years~~ and ~~Congress~~their ~~subsequently~~subsidiary ~~amended~~banks. Under the ~~statute~~source toof ~~allow~~strength requirement, the ~~FDIC~~Parent upCompany towill ~~eight~~be ~~years~~required to ~~return~~serve ~~the~~as ~~DIF~~a ~~reserve~~source ~~ratio~~of tofinancial ~~1.15%,~~strength ~~absent~~to ~~extraordinary~~CapitalSource ~~circumstances~~Bank. ToThe ~~meet~~banking ~~this~~regulators ~~reserve~~could ~~ratio~~require by the ~~end~~Parent ofCompany ~~2016,~~to ~~the~~contribute ~~FDIC~~additional ~~amended~~capital ~~its~~to ~~Restoration~~CapitalSource ~~Plan~~Bank ~~and~~or ~~adopted~~to atake, ~~uniform~~or ~~3 basis~~refrain ~~point~~from ~~increase~~taking, inother ~~the~~actions ~~initial~~for ~~assessment~~the ~~rates~~benefit ~~effective~~of ~~January 1,~~CapitalSource ~~2011~~Bank.

• The Dodd-Frank Act ~~establishes~~restricted athe ~~minimum~~acquisition ~~designated reserve ratio (“DRR”)~~ of ~~1.35%~~control of ~~estimated~~an ~~insured~~industrial ~~deposits,~~bank ~~provides~~by ~~discretion to the FDIC to develop~~ a ~~new~~non-financial ~~assessment~~firm. ~~base,~~For ~~mandates the FDIC adopt~~ a ~~restoration~~period ~~plan~~of ~~should~~three ~~the~~years ~~fund~~beginning ~~balance~~on ~~fall~~July ~~below~~21, ~~1.35%~~2010, ~~and authorizes payment of dividends to~~ the ~~industry should the fund balance exceed 1.50%. The~~ Dodd-Frank Act ~~requires~~generally ~~the~~prohibited ~~DRR to be achieved by September 30, 2020. On February 7, 2011,~~ the ~~FDIC~~banking ~~adopted~~regulators afrom ~~final~~approving ~~rule~~any ~~that~~proposed ~~revised~~change ~~the~~in ~~assessment~~control ~~base~~of ~~and~~an ~~assessment~~industrial ~~rate schedule effective April 1~~bank, ~~2011,~~such ~~and,~~as inCapitalSource ~~lieu of dividends~~Bank, ~~provides~~if ~~for reduced assessment rates once~~ the ~~DRR~~proposed ~~exceeds~~acquirer ~~2.00%~~was ~~and~~a ~~again~~“commercial ~~at 2~~firm.~~50%.~~” ~~Assessments~~Although ~~generally~~that ~~will~~three-year bemoratorium ~~calculated~~period ~~using~~has anexpired, ~~insured~~there ~~depository~~is ~~institution's~~no ~~average~~certainty ~~assets~~that ~~minus~~the ~~average~~FDIC ~~tangible~~would ~~equity.~~approve ~~The~~the ~~initial~~direct ~~assessment~~or ~~rates~~indirect ~~range~~acquisition ~~between~~of ~~5 basis~~control ~~points for a low risk institution to 35 basis points for a high risk institution, with further rate adjustments for the level~~ of ~~unsecured~~CapitalSource ~~debt~~Bank ~~and brokered deposits held~~ by ana ~~institution.~~commercial firm.

•

The Dodd-Frank Act requires the FRB to adopt regulations requiring increased capital requirements, minimum liquidity ratios, periodic stress testing and the establishment of board-level risk management committees for the largest banking institutions (those with assets greater than $50 billion or, in some case, greater than $10 billion), some or all of which requirements may become requirements, over time, for smaller institutions and for banking organizations not regulated by the FRB.

•

The Dodd-Frank Act requires the federal financial agencies to adopt rules that prohibit banks and their affiliates from engaging in proprietary trading and investing in and sponsoring certain “unregistered investment companies” (defined as hedge funds and private equity funds). This statutory provision is commonly referred to as the “Volcker Rule.” In December 2013, five financial regulatory agencies, including the FDIC, adopted final rules implementing the Volcker Rule (the “Final Rules"). The Final Rules prohibit banking entities from (i) engaging in short-term proprietary trading for their own accounts, or (ii) having certain ownership interests in and relationships with hedge funds or private equity funds (“covered funds”). The Final Rules are intended to provide greater clarity with respect to the extent of those prohibitions and the related exemptions and exclusions. Each regulated entity, including the Parent Company and CapitalSource Bank, is also required to establish an internal compliance program that is consistent with the extent to which it engages in activities covered by the Volcker Rule. The Final Rules also include certain regulatory reporting requirements. We intend to adopt the Final Rules by the mandated April 1, 2014 date and expect to be fully compliant with the Final Rules by the conformity period on July 21, 2015. We are currently analyzing the effects of the Volcker Rule.

•

Six financial regulatory federal agencies, including the FDIC, have proposed rules to implement the Dodd-Frank Act provisions requiring retention of credit risk by certain securitization participants through holding interests in securitization vehicles. The proposed rules would require a securitizer (or sponsor) to retain an economic interest equal to at least 5 percent of the aggregate credit risk of assets collateralizing an issuance of asset-backed securities, subject to certain exceptions for qualified residential mortgages and qualified commercial real estate mortgages, commercial loans and auto loans, which meet specified underwriting standards. Because these rules are not yet finalized or effective, the ultimate impact of these provisions on the CapitalSource Bank and the Parent Company are not known at this time. We will continue to monitor developments related to the implementation of these risk retention provisions of the Dodd-Frank Act.

Insurance of Accounts and Regulation by the FDIC

CapitalSource Bank's deposits are insured up to the maximum amounts permitted by the FDIC, currently $250,000. As insurer, the FDIC imposes deposit insurance premiums and is authorized to conduct examinations of and to require reporting by FDIC-insured institutions. The FDIC may prohibit any FDIC insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious risk to the insurance fund. The FDIC also has the authority to initiate enforcement actions against insured institutions.

On October 7, 2008, the FDIC established a Restoration Plan to return the Depositors Insurance Fund ("DIF") to its statutorily mandated minimum reserve ratio of 1.15% within five years. In 2009, the Restoration Plan was amended to extend the restoration period to seven years and Congress subsequently amended the statute to allow the FDIC up to eight years to return the DIF reserve ratio to 1.15%, absent extraordinary circumstances. To meet this reserve ratio by the end of 2016, the FDIC amended its Restoration Plan and adopted a uniform 3 basis point increase in the initial assessment rates effective January 1, 2011.

The Dodd-Frank Act establishes a minimum designated reserve ratio (“DRR”) of 1.35% of estimated insured deposits, provides discretion to the FDIC to develop a new assessment base, mandates the FDIC adopt a restoration plan should the fund balance fall below 1.35%, and authorizes payment of dividends to the industry should the fund balance exceed 1.50%. The Dodd-Frank Act requires the DRR to be achieved by September 30, 2020. On February 7, 2011, the FDIC adopted a final rule that revised the assessment base and assessment rate schedule effective April 1, 2011, and, in lieu of dividends, provides for reduced assessment

rates once the DRR exceeds 2.00% and again at 2.50%. Assessments generally will be calculated using an insured depository institution's average assets minus average tangible equity. The initial assessment rates range between 5 basis points for a low risk institution to 35 basis points for a high risk institution, with further rate adjustments for the level of unsecured debt and brokered deposits held by an institution.

A significant increase in FDIC assessment rates would have an adverse effect on the operating expenses and results of operations of CapitalSource Bank. We cannot predict what assessment rates will be in the future. Insurance of deposits may be terminated by the FDIC upon a finding that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC.

Prompt Corrective Action

The FDIC is required to take certain supervisory actions against undercapitalized banks, the severity of which depends upon the institution's degree of undercapitalization. Generally, an institution is considered to be “undercapitalized” if it has a core capital ratio of less than 4.0% (3.0% or less for institutions with the highest examination rating), a ratio of total capital to risk-weighted assets of less than 8.0%, or a ratio of Tier 1 capital to risk-weighted assets of less than 4.0%. An institution that has a core capital ratio that is less than 3.0%, a total risk-based capital ratio less than 6.0%, and a Tier 1 risk-based capital ratio of less than 3.0% is considered to be “significantly undercapitalized” and an institution that has a tangible capital ratio equal to or less than 2.0% of total assets is deemed to be “critically undercapitalized.” Subject to a narrow exception, the FDIC is required to appoint a receiver or conservator for a bank that is “critically undercapitalized.” Regulations also require that a capital restoration plan be filed with the FDIC within 45 days of the date an institution receives notice that it is “undercapitalized,” “significantly undercapitalized” or “critically undercapitalized.” In addition, numerous mandatory supervisory actions become immediately applicable to an undercapitalized institution, including, but not limited to, increased monitoring by regulators and restrictions on growth, capital distributions and expansion. “Significantly undercapitalized” and “critically undercapitalized” institutions are subject to more extensive mandatory regulatory actions. The FDIC also could take any one of a number of discretionary supervisory actions, including the issuance of a capital directive and the replacement of senior executive officers and directors. Inadequate capital is also a basis for action, ultimately including receivership, by the FDIC.

The ~~risk-based~~Basel ~~capital~~III ~~standard~~Capital ~~requires~~Rules ~~banks~~revise tothe ~~maintain~~prompt ~~Tier 1~~corrective ~~and~~action ~~total capital~~ (~~which~~“PCA”) isregulations ~~defined~~pursuant asto ~~core~~section ~~capital~~38 ~~and~~of ~~supplementary~~the ~~capital)~~Federal toDeposit ~~risk-weighted~~Insurance ~~assets~~Act, ofwhich atauthorize ~~least~~and, 4%under ~~and~~certain 8%circumstances, ~~respectively,~~require the federal banking agencies to betake ~~considered~~certain ~~“adequately~~actions ~~capitalized.”~~against Inbanks ~~determining~~that ~~the~~fail ~~amount~~to ofmeet ~~risk-weighted~~their ~~assets~~capital requirements, ~~all~~particularly ~~assets,~~those ~~including~~that ~~certain~~are ~~off-balance~~categorized ~~sheet~~as ~~assets~~less than “adequately capitalized” (i.e., ~~recourse~~categorized ~~obligations~~as “undercapitalized,” ~~residual~~“significantly ~~interests~~undercapitalized” ~~and~~or ~~direct~~“critically ~~credit~~undercapitalized”). The ~~substitutes,~~Basel ~~are~~III ~~assigned~~Capital rules revise the PCA regulations by: a(1) ~~risk-weight~~introducing ~~factor~~a ofCET1 0%ratio torequirement ~~100%, per~~at ~~regulation~~each ~~based~~PCA oncategory ~~the~~(other ~~risks~~than ~~believed~~“critically ~~inherent~~undercapitalized”; in(2) increasing the ~~type~~minimum ofTier ~~asset.~~1 ~~Core~~ capital isratio ~~defined~~requirement asfor ~~common~~each ~~stockholders'~~category; ~~equity~~and (~~including~~3) ~~retained~~eliminating ~~earnings),~~the ~~certain~~current ~~noncumulative~~provision ~~perpetual~~that ~~preferred~~allows ~~stock~~a ~~and~~bank ~~related~~with ~~surplus~~a ~~and~~composite ~~minority~~supervisory ~~interests~~rating inof ~~equity~~1 ~~accounts~~to ofhave ~~consolidated~~a ~~subsidiaries,~~3% ~~less~~leverage ~~intangibles~~ratio ~~other~~and ~~than~~remain ~~certain~~classified ~~mortgage~~as ~~servicing~~“adequately ~~rights~~capitalized.” The ~~and~~total ~~credit~~risk-based ~~card~~capital ~~relationships.~~ratio ~~The~~requirement ~~components~~for ofeach ~~supplementary~~PCA ~~capital~~category ~~currently~~remains ~~include~~unchanged. To ~~cumulative~~qualify ~~preferred~~as ~~stock,~~“well ~~long-term~~capitalized” ~~perpetual~~under ~~preferred~~the ~~stock~~revised PCA regulations, ~~mandatory~~a ~~convertible~~bank ~~securities,~~must ~~subordinated~~meet ~~debt~~the ~~and~~following ~~intermediate~~capital ~~preferred~~ratio ~~stock,~~requirements: (1) ~~the~~6.5% ~~allowance~~CET1 ~~for~~to ~~loan~~risk-weighted ~~and~~assets; ~~lease~~(2) ~~losses~~8.0% ~~limited~~Tier 1 capital to arisk-weighted ~~maximum~~assets; of(3) 110.250% oftotal capital to risk-weighted assets, and up(4) ~~to 45~~5.0% ofleverage ~~unrealized~~ratio. The ~~gains~~FDIC onand ~~available-for-sale~~other ~~equity~~federal ~~securities~~banking ~~with~~agencies ~~readily~~have ~~determinable~~advised ~~fair~~that ~~market~~they ~~values.~~expect ~~Overall,~~banking ~~the~~organizations ~~amount~~to ofmaintain ~~supplementary~~ capital ~~included~~ratios aswell ~~part~~above ofthe ~~total~~minimum ~~capital~~ratios ~~cannot~~necessary ~~exceed~~to ~~100%~~be ofcategorized ~~core~~as ~~capital.~~“well capitalized.”

To remain in compliance with the conditions imposed by the FDIC, CapitalSource Bank is required to maintain a total risk-based capital ratio of not less than 15% and must at all times be “well-capitalized,” which additionally requires CapitalSource Bank to have minimum Tier 1 risk-based capital ratio of 6% and Tier 1 leverage ratio of 5% in accordance with pre-Basel III Capital Rules. As of December 31, ~~2012~~2013, CapitalSource Bank had Tier 1 leverage, Tier 1 risked-based capital and total risk based capital ratios of 13.0688%, 15.2403%, and 16.5029%, respectively, each in excess of the minimum percentage requirements for “well-capitalized” institutions. With regard to the Basel III Capital Rules, we are in the process of determining the impact of the new capital requirements on our capital ratios. For additional information, see Note 1514, Bank Regulatory Capital, in our accompanying audited consolidated financial statements for the year ended December 31, ~~2012~~2013.

Limitations on Capital Distributions

The authority of the board of directors of an insured depository institution to declare a cash dividend or other distribution with respect to capital is subject to statutory and regulatory restrictions which limit the amount available for such distribution depending upon the earnings, financial condition and cash needs of the institution, as well as general business conditions. Additionally, Enhanced Supervisory Procedures for Newly Insured FDIC-Supervised Institutions require the FDIC’s prior non-objection to material changes to a de novo institution’s business plan which includes the payment of dividends in excess of the CapitalSource Bank’s FDIC-approved Four Year Plan. For purposes of this guidance, CapitalSource Bank is still categorized as a de novo institution. The Federal Deposit Insurance Corporation Improvement Act ("FDICIA") prohibits a bank from making capital distributions, including dividends, if, after such transaction, the bank would be undercapitalized.

In addition to the restrictions imposed under federal law, banks chartered under California law generally may only pay cash dividends to the extent such payments do not exceed the lesser of retained earnings of the bank and the bank's net income for its last three fiscal years (less any distributions to shareholders during this period). If a bank desires to pay cash dividends in excess of such amount, the bank may pay a cash dividend with appropriate regulatory approval in an amount not exceeding the greatest of the bank's retained earnings, the bank's net income for its last fiscal year and the bank's net income for its current fiscal year.

The FDIC also have the authority to prohibit a depository institution from engaging in business practices which are considered to be unsafe or unsound, including payment of dividends or other payments under certain circumstances even if such payments are not expressly prohibited by statute. 9

last three fiscal years (less any distributions to shareholders during this period). If a bank desires to pay cash dividends in excess of such amount, the bank may pay a cash dividend with appropriate regulatory approval in an amount not exceeding the greatest of the bank's retained earnings, the bank's net income for its last fiscal year and the bank's net income for its current fiscal year. Simultaneously with the Merger with PacWest, CapitalSource Bank will pay a dividend to the Parent Company in an amount no more than CapitalSource Bank's retained earnings as of December 31, 2013.

The FDIC also has the authority to prohibit a depository institution from engaging in business practices which are considered to be unsafe or unsound, including payment of dividends or other payments under certain circumstances even if such payments are not expressly prohibited by statute.

Transactions with Affiliates

CapitalSource Bank's authority to engage in transactions with “affiliates” is limited by Sections 23A and 23B of the Federal Reserve Act as implemented by the Federal Reserve Board's Regulation W. The term “affiliates” for these purposes generally means any company that controls or is under common control with an institution, and includes the Parent Company as it relates to CapitalSource Bank. In general, transactions with affiliates must be on terms that are as favorable to the institution as comparable transactions with non-affiliates. In addition, specified types of transactions are restricted to an aggregate percentage of the institution's capital stock and surplus as defined by the regulators. Collateral in specified amounts must be provided by affiliates to receive extensions of credit from an institution. Federally insured banks are subject, with certain exceptions, to restrictions on extensions of credit to their parent holding companies or other affiliates, on investments in the stock or other securities of affiliates and on the taking of such stock or securities as collateral from any borrower. In addition, these institutions are prohibited from engaging in specified tying arrangements in connection with any extension of credit or the providing of any property or service.

Community Reinvestment Act

Under the Community Reinvestment Act ("CRA"), every FDIC-insured institution has a continuing and affirmative obligation consistent with safe and sound banking practices to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The ~~Community~~CRA ~~Reinvestment Act~~ does not establish specific lending requirements or programs for financial institutions nor does it limit an institution's discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the ~~Community Reinvestment Act~~CRA. The ~~Community~~CRA ~~Reinvestment Act~~ requires the FDIC, in connection with the examination of CapitalSource Bank, to assess the institution's record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications, such as a merger or the establishment or closure of a branch, by CapitalSource Bank. The FDIC may use an unsatisfactory rating as the basis for the denial of an application. Due to the heightened attention being given to the ~~Community~~CRA ~~Reinvestment Act~~ in the past few years, CapitalSource Bank may be required to devote additional funds for investment and lending in its local community, which comprises southern and central California. CapitalSource Bank received a rating of "Outstanding" from the FDIC on its most recent ~~Community~~CRA ~~Reinvestment Act~~ evaluation.

Regulatory and Criminal Enforcement Provisions

The FDIC and ~~DFI~~DBO have primary enforcement responsibility over CapitalSource Bank and have the authority to bring action against all “institution-affiliated parties,” including stockholders, attorneys, appraisers and accountants who knowingly or recklessly participate in wrongful action likely to have an adverse effect on an insured institution. Formal enforcement action may range from the issuance of a capital directive or cease and desist order to removal of officers or directors, receivership, conservatorship or termination of deposit insurance. The FDIC has the authority to assess civil money penalties for a wide range of violations, which can amount to $25,000 per day, or $1.1 million per day in especially egregious cases. Federal law also establishes criminal penalties for specific violations.

Environmental Issues Associated with Real Estate Lending

The Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”), a federal statute, generally imposes strict liability on all prior and current “owners and operators” of sites containing hazardous waste. However, Congress acted to protect secured creditors by providing that the term “owner and operator” excludes a person whose ownership is limited to protecting its security interest in the site. Since the enactment of the CERCLA, this “secured creditor exemption” has been the subject of judicial interpretations which have left open the possibility that lenders could be liable for clean-up costs on contaminated property that they hold as collateral for a loan. To the extent that legal uncertainty exists in this area, all creditors, including the Parent Company and CapitalSource Bank, that have made loans secured by properties with potential hazardous waste contamination (such as petroleum contamination) could be subject to liability for cleanup costs, which costs often substantially exceed the value of the collateral property.

Parent Company and CapitalSource Bank, that have made loans secured by properties with potential hazardous waste contamination (such as petroleum contamination) could be subject to liability for cleanup costs, which costs often substantially exceed the value of the collateral property.

Privacy Standards

The Gramm-Leach-Bliley Financial Services Modernization Act of 1999 (“GLBA”) modernized the financial services industry by establishing a comprehensive framework to permit affiliations among commercial banks, insurance companies, securities firms and other financial service providers. CapitalSource Bank is subject to regulations implementing the privacy protection provisions of the GLBA. These regulations require CapitalSource Bank to disclose its privacy policy, including identifying with whom it shares “non-public personal information” to consumers at the time of establishing the customer relationship and annually thereafter. The State of California's Financial Information Privacy Act provides greater protection for consumer's rights under California Law to restrict affiliate data sharing.

protection provisions of the GLBA. These regulations require CapitalSource Bank to disclose its privacy policy, including identifying with whom it shares “non-public personal information” to consumers at the time of establishing the customer relationship and annually thereafter. The State of California's Financial Information Privacy Act provides greater protection for consumer's rights under California Law to restrict affiliate data sharing.

Anti-Money Laundering and Customer Identification

As part of the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”), Congress adopted the International Money Laundering Abatement and Financial Anti-Terrorism Act of 2001 (“IMLAFATA”). IMLAFATA amended the Bank Secrecy Act (“BSA”) and adopted additional measures that established or increased existing obligations of financial institutions, including CapitalSource Bank, to identify their customers, monitor and report suspicious transactions, respond to requests for information by federal banking regulatory authorities and law enforcement agencies, and, at the option of CapitalSource Bank, share information with other financial institutions. The U.S. Secretary of the Treasury has adopted several regulations to implement these provisions. Pursuant to these regulations, CapitalSource Bank is required to implement appropriate policies and procedures relating to anti-money laundering matters, including compliance with applicable regulations, suspicious activities, currency transaction reporting and customer due diligence. Our BSA compliance program is subject to federal regulatory review.

Other Laws and Regulations

We are subject to many other federal statutes and regulations, such as the Equal Credit Opportunity Act, the Truth in Savings Act, the Fair Credit Reporting Act, the Fair Housing Act, the National Flood Insurance Act and various federal and state privacy protection laws. These laws, rules and regulations, among other things, impose licensing obligations, limit the interest rates and fees that can be charged, mandate disclosures and notices to customers, mandate the collection and reporting of certain data regarding customers, regulate marketing practices and require the safeguarding of non-public information of customers. Violations of these laws could subject us to lawsuits and could also result in administrative penalties, including, fines and reimbursements. We are also subject to federal and state laws prohibiting unfair or fraudulent business practices, untrue or misleading advertising and unfair competition.

In recent years, examination and enforcement by the state and federal banking agencies for non-compliance with the above-referenced laws and their implementing regulations have become more intense. Due to these heightened regulatory concerns, we may incur additional compliance costs or be required to expend additional funds for investments in our local community.

The federal government continues to evaluate possible new laws and regulations, which if enacted, could have a material impact on us, including among other things increased reporting obligations, restrictions on current lending activities, federal and state supervision and increased expenses to operate as a bank.

Regulation of Other Activities

Some other aspects of our operations are subject to supervision and regulation by governmental authorities and may be subject to various laws and judicial and administrative decisions imposing various requirements and restrictions, which, among other things:


•	regulate credit and lending activities, including establishing licensing requirements in some jurisdictions;

• establish the maximum interest rates, finance charges and other fees we may charge our ~~clients~~borrowers;


•	govern secured transactions;

• require specified information disclosures to our ~~clients~~borrowers;


•	set collection, foreclosure, repossession and claims handling procedures and other trade practices;

• regulate our ~~clients~~borrowers' insurance coverage;


•	prohibit discrimination in the extension of credit and administration of our loans; and

• regulate the use and reporting of certain ~~client~~borrower information.

10In addition, many of our healthcare borrowers receive significant funding from governmental sources and are subject to licensure, certification and other regulation and oversight under the applicable Medicare and Medicaid programs. These regulations and governmental oversight, both on federal and state levels, indirectly affect our business in several ways as discussed below.

In• ~~addition,~~Failure ~~many~~to ofcomply ~~our~~with ~~healthcare~~the ~~clients~~applicable ~~receive~~laws ~~significant funding from governmental sources~~ and ~~are~~regulation ~~subject~~by toour ~~licensure,~~borrowers ~~certification~~could ~~and~~result ~~other~~in ~~regulation~~loss ~~and~~of ~~oversight~~accreditation, ~~under~~denial ~~the~~of ~~applicable~~reimbursement, ~~Medicare~~imposition ~~and~~of ~~Medicaid~~fines ~~programs.~~or ~~These~~corporate ~~regulations~~integrity ~~and~~agreements, ~~governmental~~suspension ~~oversight,~~or ~~both~~decertification onfrom federal and state ~~levels,~~health ~~indirectly~~care ~~affect~~programs, ~~our~~loss ~~business~~of inlicense ~~several~~and ~~ways~~closure asof ~~discussed~~the ~~below~~facility.

• Failure to comply with the applicable laws and regulation by our clients could result in loss of accreditation, denial of reimbursement, imposition of fines or corporate integrity agreements, suspension or decertification from federal and state health care programs, loss of license and closure of the facility.11

•

With limited exceptions, the law prohibits payment of amounts owed to healthcare providers under the Medicare and Medicaid programs to be directed to any entity other than actual providers approved for participation in the applicable programs. Accordingly, while we lend money that is secured by pledges of Medicare and Medicaid receivables, if we were required to invoke our rights to the pledged receivables, we would be unable to collect receivables payable under these programs directly. We would need a court order to force collection directly against these governmental payers.

• Hospitals, nursing facilities and other providers of healthcare services are not always assured of receiving adequate Medicare and Medicaid reimbursements to cover the actual costs of operating the facilities and providing care to patients. In addition, modifications to reimbursement payment mechanisms, statutory and regulatory changes, retroactive rate adjustments, administrative rulings, policy interpretations, payment delays, and government funding restrictions could result in payment delays or alterations in reimbursements affecting providers' cash flows with possible material adverse effect on a ~~facility~~borrower's liquidity.

• Many states are presently considering enacting, or have already enacted, reductions in the amount of funds appropriated to healthcare programs resulting in rate freezes or reductions to their Medicaid payment rates and often curtailments of coverage afforded to Medicaid enrollees. Most of our healthcare ~~clients~~borrowers depend on Medicare and Medicaid reimbursements, and reductions in reimbursements, caused by ~~either~~modifications to reimbursement systems, payment cuts, census declines, staffing shortages, or other operational forces from these programs may have a negative impact on their ability to generate adequate revenues to satisfy their obligations to us. There are no assurances that payments from governmental payors will remain at levels comparable to present levels or will, in the future, be sufficient to cover the costs allocable to patients eligible for coverage under these programs.

• The impacts of Congressional healthcare reform, federal fiscal cliff impacts and related budget deficit initiatives, impacts of medicaid expansion participation by individual states where we conduct business, as well as individual state budgetary shortfalls may initiate significant reforms and alterations to the United States healthcare system, including potential material changes to the delivery of healthcare services including anticipated shifts to a higher utilization of managed care coverage, and the level of reimbursements paid to providers and the mechanisms for such payments by the government and other third party payors.

• For our ~~clients~~borrowers to remain eligible to receive reimbursements under the Medicare and Medicaid programs, the ~~clients~~borrowers must comply with a number of conditions of participation and other regulations imposed by these programs, and are subject to periodic federal and state surveys to ensure compliance with various clinical, life safety and operational covenants. A ~~client~~borrower's failure to comply with these covenants and regulations may cause the ~~client~~borrower to incur penalties and fines and other sanctions, or lose its eligibility to continue to receive reimbursements under the programs, which could result in the ~~client~~borrower's inability to make scheduled payments to us.

Employees

As of December 31, ~~2012~~2013, we employed ~~543~~495 people. We believe that our relations with our employees are good.

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Executive Officers

Our executive officers and their ages and positions are as follows:

Name	Age	Position
James J. Pieczynski	5051	Chief Executive Officer
Douglas H. (Tad) Lowrey	6061	Chief Executive Officer - CapitalSource Bank
Laird M. Boulden	5556	President
John A. Bogler	4748	Chief Financial Officer
Mike A. Smith	4647	Senior Vice President and Chief Accounting Officer
Bryan M. Corsini	5152	Executive Vice President and Chief Administrative Officer - CapitalSource Bank
Christopher A. Scardelletti	4344	Executive Vice President and Chief Credit Officer - CapitalSource Bank

_________________________

Biographies for our executive officers are as follows:

James J. Pieczynski, 5051, has served as a director since January 2010 and as Chief Executive Officer since January 2012. Mr. Pieczynski has also served as President of CapitalSource Bank since January 2012 and as a member of the board of directors of CapitalSource Bank since January 2013. Mr. Pieczynski previously served as Co-Chief Executive Officer from January 2010 through December 2011, our President - Healthcare Real Estate Business from November 2008 until January 2010, and our Co-President - Healthcare and Specialty Finance from January 2006 until November 2008. Mr. Pieczynski received his undergraduate degree from the University of Illinois, Urbana-Champaign in 1984.

Douglas H. (Tad) Lowrey, 6061, has served as Chairman of the Board of CapitalSource Bank since July 2012, and as the Chief Executive Officer of CapitalSource Bank since its formation on July 25, 2008 and served as President of CapitalSource Bank from his appointment through December 2011. Prior to his appointment, Mr. Lowrey served as Executive Vice President of Wedbush, Inc., a private investment firm and holding company, from January 2006 until June 2008. Mr. Lowrey is an elected director of the Federal Home Loan Bank of San Francisco and the California Bankers Association. He received his undergraduate degree from Arkansas Tech University and was licensed in 1977 in the state of Arkansas as a certified public accountant.

Laird M. Boulden, 5556, has served as President since October 2011 and as the Chief Lending Officer of CapitalSource Bank since January 1, 2012. Mr. Boulden previously served as the President of the Company's Corporate Finance Group from May 2011 to October 2011 and President of the Company's Corporate Asset Finance Group from February 2010 to May 2011. Before joining the Company, Mr. Boulden was co-founder of Tygris Commercial Finance where he served as President of Tygris Asset Finance from March 2008 to December 2010 and was the founder and President of RBS Asset Finance (f/k/a RBS Lombard) from October 2001 until March 2008. Mr. Boulden received his undergraduate degree from the University of South Florida in 1979.

John A. Bogler, 4748, has served as Chief Financial Officer since January 2012 and as Chief Financial Officer of CapitalSource Bank since its formation on July 25, 2008. Prior to his appointment, Mr. Bogler served as Chief Financial Officer of Affinity Financial Corporation from January 2008 until July 2008. Mr. Bogler served as a financial consultant specializing in bank acquisition and de novo activities from February 2005 until January 2008. Mr. Bogler received his undergraduate degree from Missouri State University in 1988, became a certified public accountant in the state of Missouri in 1991 and became a chartered financial analyst in 1998.

Mike A. Smith, 4647, has served as our Chief Accounting Officer since March 2012 and as Chief Accounting Officer of CapitalSource Bank since October 2009. Previously, Mr. Smith served as Senior Vice President, Finance of CapitalSource Bank since its formation from July 2008 until September 2009. Mr. Smith served as Chief Accounting Officer of Fremont Investment & Loan from May 2004 until July 2008. Mr. Smith received his masters and undergraduate degrees from Brigham Young University in 1992, became a certified public accountant in the state of California in 1996, became a certified management accountant in 1997 and became a chartered global management accountant in 2012.

Bryan M. Corsini, 5152, has served as the Executive Vice President and Chief Administrative Officer of CapitalSource Bank since October 2011. Mr. Corsini previously served as President, Credit Administration of CapitalSource Bank from July 2008 to October 2011 and as our Chief Credit Officer from our inception in 2000 until July 2008. He received his undergraduate degree from Providence College, Rhode Island. Mr. Corsini was licensed in 1986 in the state of Connecticut as a certified public accountant.

Christopher A. Scardelletti, 4344, has served as the Executive Vice President and Chief Credit Officer of CapitalSource Bank since July 2008. Previously, Mr. Scardelletti served as Director of Credit in our Lender Finance Group~~/Rediscount~~ ~~Lending Group~~ from March 2003 to June 2008. Mr. Scardelletti received his undergraduate degree from the University of Maryland, College Park and was licensed in 1993 in the state of Maryland as a certified public accountant.

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Other Information

Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports are available free of charge on our website at www.capitalsource.com as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission or by contacting CapitalSource Investor Relations, at (866) 876-8723 or [email protected].

We also provide access on our website to our Principles of Corporate Governance, Code of Business Conduct and Ethics, the charters of our Audit, Compensation, Asset / Liability Committee, Risk Committee and Nominating and Corporate Governance Committee and other corporate governance documents. Copies of these documents are available to any shareholder upon written request made to our corporate secretary at our Chevy Chase, Maryland address. In addition, we intend to disclose on our website any changes to or waivers for our executive officers or directors from, our Code of Business Conduct and Ethics.


ITEM 1A.	RISK FACTORS

Our business faces many risks. The risks described below may not be the only risks we face. Additional risks that we do not yet know of or that we currently believe are immaterial may also impair our business operations. If any of the events or circumstances described in the following risk factors actually occur, our business, financial condition or results of operations could suffer, and the trading price of our securities could decline. The U.S. economy is still in the process of recovering from an economic recession, and a slow recovery may adversely impact on our business and operations, including, without limitation, the credit quality of our loan portfolio, our liquidity and our earnings. You should know that many of the risks described may apply to more than just the subsection in which we grouped them for the purpose of this presentation. As a result, you should consider all of the following risks, together with all of the other information in this Annual Report on Form 10-K, before deciding to invest in our securities.

Risks Related to the Pending Merger

Regulatory approvals may not be received, may take longer than expected or may impose conditions that are not presently anticipated or that could have an adverse effect on the combined company following the merger.

Before the merger and the other transactions contemplated by the Merger Agreement may be completed, the Company and PacWest must obtain approvals from the FRB, the FDIC, and the California Department of Business Oversight. Other approvals, waivers or consents from regulators may also be required. These regulators may impose conditions on the completion of the merger or the other transactions contemplated by the Merger Agreement or require changes to the terms of the merger or the other transactions contemplated by the Merger Agreement. Such conditions or changes could have the effect of delaying or preventing completion of the merger or the other transactions contemplated by the Merger Agreement or imposing additional costs on or limiting the revenues of the combined company following the merger, any of which might have an adverse effect on the combined company following the merger.

Combining the two companies may be more difficult, costly or time consuming than expected and the anticipated benefits and cost savings of the merger may not be realized.

PacWest and the Company have operated and, until the completion of the merger, will continue to operate, independently. The success of the merger, including anticipated benefits and cost savings, will depend, in part, on PacWest's ability to successfully combine the businesses of PacWest and the Company. To realize these anticipated benefits and cost savings, after the completion of the merger, PacWest expects to integrate the Company's business into its own. It is possible that the integration process could result in the loss of key employees, the disruption of each company's ongoing businesses or inconsistencies in standards, controls, procedures and policies that adversely affect the combined company's ability to maintain relationships with clients, customers, depositors and employees or to achieve the anticipated benefits and cost savings of the merger. The loss of key employees could have an adverse effect on PacWest's financial results and the value of its common stock, and therefore on the value of the merger consideration to be received by the Company's stockholders in the merger. If PacWest experiences difficulties with the integration process, the anticipated benefits of the merger may not be realized fully or at all, or may take longer to realize than expected. As with any merger of financial institutions, there also may be business disruptions that cause PacWest and/or the Company to lose customers or cause customers to remove their accounts from PacWest and/or the Company and move their business to competing financial institutions. Integration efforts between the two companies will also divert management attention and resources. These integration matters could have an adverse effect on each of PacWest and the Company during this transition period and for an undetermined period after completion of the merger on the combined company. In addition, the actual cost savings of the merger could be less than anticipated.

Termination of the Merger Agreement could negatively impact us.

If the Merger Agreement is terminated, there may be various consequences. For example, our businesses may have been impacted adversely by the failure to pursue other beneficial opportunities due to the focus of management on the merger, without realizing any of the anticipated benefits of completing the merger. Additionally, if the merger agreement is terminated, the market price of the Company's common stock could decline to the extent that the current market price reflects a market assumption that the merger will be completed. In addition, we have incurred and will incur substantial expenses in connection with the negotiation and completion of the transactions contemplated by the Merger Agreement. If the merger is not completed, we would have to recognize these expenses without realizing the expected benefits of the transaction.

The Company and PacWest will be subject to business uncertainties and contractual restrictions while the merger is pending.

Uncertainty about the effect of the merger on employees and customers may have an adverse effect on PacWest or the Company as well as the combined organization. These uncertainties may impair the Company's or PacWest's ability to attract, retain and motivate key personnel until the merger is completed, and could cause customers and others that deal with the Company or PacWest to seek to change existing business relationships with the Company or PacWest. If key employees depart because of issues relating to the uncertainty and difficulty of integration or a desire not to remain with the Company or PacWest, the Company's business or PacWest's business could be harmed. Subject to certain exceptions, each of PacWest and the Company has agreed to operate its business in the ordinary and usual course prior to closing.

The Merger Agreement limits PacWest's and the Company's ability to pursue acquisition proposals.

The Merger Agreement prohibits the Company from initiating, soliciting, encouraging or facilitating certain third party acquisition proposals. In addition, the Merger Agreement provides that the Company must pay to PacWest a termination fee in the amount of $91 million under certain limited circumstances relating to third party acquisition transactions involving the Company. This provision might discourage a potential competing acquirer that might have an interest in acquiring all or a significant part of the Company from considering or proposing such an acquisition.

Risks Related to Our Lending Activities

Our results of operations and financial condition would be adversely affected if our allowance for loan and lease losses is not sufficient to absorb actual losses.

Experience in the financial services industry indicates that a portion of our loans in all categories of our lending business will become delinquent or impaired, and some may only be partially repaid or may never be repaid at all. Our methodology for establishing the adequacy of the allowance for loan and lease losses depends in part on subjective determinations and judgments about our borrowers' ability to repay. Despite management's efforts to estimate future losses, ultimate resolutions of individual loans may result in actual losses that are greater than our allowance. Deterioration in general economic conditions and unforeseen risks affecting customers may have an adverse effect on our borrowers' capacity to repay their obligations, whether our risk ratings or valuation analyses reflect those changing conditions. Changes in economic and market conditions may increase the risk that our allowance for loan and lease losses would become inadequate if borrowers experience economic and other conditions adverse to their businesses. Maintaining the adequacy of our allowance for loan and lease losses may require that we make significant and unanticipated increases in our provisions for loan and lease losses, which would materially affect our results of operations and capital adequacy. Recognizing that many of our loans individually represent a significant percentage of our total allowance for loan and lease losses, adverse collection experience in a relatively small number of loans could require an increase in our allowance. Federal and State regulators, as an integral part of their respective supervisory functions, periodically review a portion of our loan portfolio. The regulatory agencies may require changes to our risk ratings on loans, which could lead to an increase in the allowance for loan and lease losses, increased provisions for loan and lease losses and as appropriate, recognition of further loan charge-offs based upon their judgments, which may be different from ours. Increases in the allowance for loan and lease losses required by these regulatory agencies could have a negative effect on our results of operations and financial condition.

We may not recover all amounts that are contractually owed to us by our borrowers.

The Parent Company is dependent primarily on loan collections and the proceeds of loan sales to fund its operations. A shortfall in loan proceeds may impair our ability to fund our operations or to repay our existing debt.

When we loan money, commit to loan money or enter into a letter of credit or other contract with a counterparty, we incur credit risk. The credit quality of our portfolio can have a significant impact on our earnings. We expect to experience charge-offs and delinquencies on our loans in the future. Our clients may experience operational or financial problems or may perform below that which we expected when we originated a loan that, if not timely addressed, could result in a substantial impairment or loss of the value of our loan to the client. We may fail to identify problems because our client did not report them in a timely manner or, even if the client did report the problem, we may fail to address it quickly enough or at all. Even if clients provide us with full and accurate disclosure of all material information concerning their businesses, we may misinterpret or incorrectly analyze this information. Mistakes may cause us to make loans that we otherwise would not have made or, to fund advances that we otherwise would not have funded, or result in losses on one or more of our loans. As a result, we could suffer loan losses, which could have a material adverse effect on our revenues, net income and results of operations and financial condition, to the extent the losses exceed our allowance for loan and lease losses.

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that which we expected when we originated a loan that, if not timely addressed, could result in a substantial impairment or loss of the value of our loan to the client. We may fail to identify problems because our client did not report them in a timely manner or, even if the client did report the problem, we may fail to address it quickly enough or at all. Even if clients provide us with full and accurate disclosure of all material information concerning their businesses, we may misinterpret or incorrectly analyze this information. Mistakes may cause us to make loans that we otherwise would not have made or, to fund advances that we otherwise would not have funded, or result in losses on one or more of our loans. As a result, we could suffer loan losses, which could have a material adverse effect on our revenues, net income and results of operations and financial condition, to the extent the losses exceed our allowance for loan and lease losses.

The collateral securing a loan may not be sufficient to protect us if we have not properly obtained or perfected a lien on such collateral or if the collateral value does not cover the loan.

Most of our loans are secured by a lien on specified collateral of the client and we may not obtain or properly perfect our liens or the value of the collateral securing any particular loan may not protect us from suffering a partial or complete loss if the loan becomes non-performing and we move to foreclose on the collateral. In such event, we could suffer loan losses, which could have a material adverse effect on our revenue, net income, financial condition and results of operations.

In particular, leveraged lending involves lending money to a client based primarily on the expected cash flow, profitability and enterprise value of a client rather than on the value of its assets. As of December 31, ~~2012~~2013, approximately 2928% of the aggregate outstanding loan balance of our portfolio comprised leveraged loans. The value of the assets which we hold as collateral for these loans is typically substantially less than the amount of money we advance to a client under these loans. When a leveraged loan becomes non-performing, our primary recourse to recover some or all of the principal of our loan is to force the sale of the entire company as a going concern or restructure the company in a way we believe would enable it to generate sufficient cash flow over time to repay our loan. Neither of these alternatives may be an available or viable option or generate enough proceeds to repay the loan. Additionally, given recent and current economic conditions, many of our leveraged loan clients have and may continue to suffer decreases in revenues and net income, making them more likely to underperform and default on our loans and making it less likely that we could obtain sufficient proceeds from a restructuring or sale of the company.

Our concentration of loans to privately owned small and medium-sized companies and to a limited number of clients within particular industry or region could expose us to greater lending risk if the market sector, industry or region were to experience economic difficulties or changes in the regulatory environment.

Our portfolio consists primarily of commercial loans to small and medium-sized, privately owned businesses in a limited number of industries and regions primarily throughout the United States. In our normal course of business, we engage in lending activities with clients primarily throughout the United States. As of December 31, ~~2012~~2013, the single largest industry concentration in our outstanding loan balance was health care and social assistance, which represented approximately 2322.02% of the outstanding loan portfolio. As of December 31, ~~2012~~2013, taken in the aggregate, lender finance (primarily timeshare) loans were our largest loan concentration by sector and represented approximately 1516% of our loan portfolio. As of December 31, ~~2012~~2013, the largest loan to one borrower amounted to $~~110~~83.07 million, or 1.82%, of our portfolio ~~was~~and ~~comprised~~the oflargest ~~loans~~relationship towith one ~~client~~borrower ~~with~~amounted ~~aggregate~~to ~~loan~~$104.1 ~~balances~~million, ~~greater~~or ~~than $100~~1.05%, ~~million~~of our portfolio which was comprised of multiple loans.

Apart from the borrower industry concentrations, loans secured by real estate represented approximately 4243% of our outstanding loan portfolio as of December 31, ~~2012~~2013. Within this area, the largest property type concentration was the multifamily category, comprising approximately 1323% of total loans and 3010% of loans secured by real estate. The largest geographical concentration was in California, comprising approximately 1121% of total loans and 269% of loans secured by real estate.

If any particular industry or geographic region were to experience economic difficulties, the overall timing and amount of collections on our loans to clients operating in those industries or geographic regions may differ from what we expected, which could have a material adverse impact on our financial condition or results of operations.

Additionally, compared to larger, publicly owned firms, privately owned small and medium-sized companies generally have limited access to capital and higher funding costs, may be in a weaker financial position and may need more capital to expand or compete. These financial challenges may make it difficult for our clients to make scheduled payments of interest or principal on our loans. Accordingly, loans made to these types of clients entail higher risks than loans made to companies that are able to access a broader array of credit sources. The concentration of our portfolio in loans to these types of clients could amplify these risks.

Further, there is generally no publicly available information about the small and medium-sized privately owned companies to which we lend. Therefore, we underwrite our loans based on detailed financial information and projections provided to us by our clients and we must rely on our clients and the due diligence efforts of our employees to obtain the information relevant to making our credit decisions. We rely upon the management of these companies to provide full and accurate disclosure of material information concerning their business, financial condition and prospects. We may not have access to all of the material information about a particular client's business, financial condition and prospects, or a client's accounting records may be poorly maintained or organized. The client's business, financial condition and prospects may also change rapidly in the current economic environment. In such instances, we may not make a fully informed credit decision which may lead, ultimately, to a failure or inability to recover our loan in its entirety.

making our credit decisions. We rely upon the management of these companies to provide full and accurate disclosure of material information concerning their business, financial condition and prospects. We may not have access to all of the material information about a particular client's business, financial condition and prospects, or a client's accounting records may be poorly maintained or organized. The client's business, financial condition and prospects may also change rapidly in the current economic environment. In such instances, we may not make a fully informed credit decision which may lead, ultimately, to a failure or inability to recover our loan in its entirety.

We are in a competitive business and may not be able to take advantage of attractive opportunities.

Our markets are competitive and characterized by varying competitive factors. We compete with a large number of companies, including:


•	commercial banks and thrifts;


•	specialty and commercial finance companies;


•	private investment funds;


•	insurance companies; and


•	investment banks.

Some of our competitors have greater financial, technical, marketing and other resources and market positions than we do. They also have greater access to capital than we do and at a lower cost than is available to us. Furthermore, we would expect to face increased price competition on deposits if banks or other competitors seek to expand within or enter our target markets. Increased competition could cause us to reduce our pricing and lend greater amounts as a percentage of a client's eligible collateral or cash flows. Even with these changes, in an increasingly competitive market, we may not be able to attract and retain depositors or clients or maintain or grow our business and our market share and future revenues may decline. If our existing clients choose to use competing sources of credit to refinance their loans, the rate at which loans are repaid may increase, which could change the characteristics of our loan portfolio as well as cause our anticipated return on our existing loans to vary.

Risks Impacting Funding our Operations

Our ability to operate our business depends on our ability to raise sufficient deposits and in some cases other sources of funding.

CapitalSource Bank's ability to maintain or raise sufficient deposits may be limited by several factors, including:

• competition from a variety of competitors, many of which offer a greater selection of products and services ~~and~~ have greater financial resources;

• as a California state-chartered ~~industrial~~ bank, CapitalSource Bank is permitted to offer only savings, money market, and time deposit products, which limitations may adversely impact its ability to compete effectively; and

• depositors'’ negative views of the Company could cause those depositors to withdraw their deposits or seek higher rates.

While we expect to maintain and continue to raise deposits at a reasonable rate of interest, there is no assurance that we will be able to do so successfully. If the ability of CapitalSource Bank to attract and retain suitable levels of deposits weakens, it would have a negative impact on our business, financial condition, results of operations and the market price of our common stock.

In addition, given the short average maturity of CapitalSource Bank's deposits relative to the maturity of its loans, the inability of CapitalSource Bank to raise or maintain deposits could compromise our ability to operate our business, impair our liquidity and threaten our solvency.

Aside from deposit funding, CapitalSource Bank may obtain back-up liquidity from the Parent Company pursuant to the $150.0 million revolving credit facility it has established with the Parent Company. The Parent Company may not have or maintain sufficient liquidity, in which case CapitalSource Bank may not be able to draw on the $150.0 million revolving credit facility.

CapitalSource Bank has borrowing facilities established with the FHLB SF and the FRB. Our access to borrowing from FHLB SF may be materially impacted should Congress alter or dissolve the Federal Home Loan Bank system. Our access to the FRB primary credit program may be materially impacted should the FRB modify its credit program and limit CapitalSource Bank's access to the program. The ability to borrow from each of the FHLB SF and the FRB is dependent upon the value of collateral pledged to these entities. These lenders could reduce the borrowing capacity of CapitalSource Bank, eliminate certain types of ~~eligible collateral or could otherwise modify or even terminate their respective loan programs. Such changes or termination could have an adverse affect on our liquidity and profitability.~~

eligible collateral or could otherwise modify or even terminate their respective loan programs. Such changes or termination could have an adverse affect on our liquidity and profitability.

Our commitments to lend additional amounts to existing clients exceed our resources available to fund these commitments.

As of December 31, ~~2012~~2013, we had $1.01 billion of unfunded commitments to extend credit to our clients, of which $~~922~~1.40 ~~million~~billion were commitments of CapitalSource Bank and $8828.50 million were commitments of the Parent Company. Due to their nature, we cannot know with certainty the aggregate amounts we will be required to fund under these unfunded commitments. In many cases, our obligation to fund unfunded commitments is subject to our clients' ability to provide collateral to secure the requested additional ~~fundings~~funding, the collateral's satisfaction of eligibility requirements, our clients' ability to meet specified preconditions to borrowing, including compliance with the loan agreements, and/or our discretion pursuant to the terms of the loan agreements. In other cases, however, there are no such prerequisites to future ~~fundings~~funding by us, and our clients may draw on these unfunded commitments at any time. Clients may seek to draw on our unfunded commitments to improve their cash positions. We expect that these unfunded commitments will continue to exceed the Parent Company's available funds. Our failure to satisfy our full contractual funding commitment to one or more of our clients could create breach of contract and lender liability for us and irreparably damage our reputation in the marketplace, which would have a material adverse effect on our ability to continue to operate our business.

Fluctuating interest rates could adversely affect our net interest margins.

We raise short-term deposits at prevailing rates in our local retail consumer markets. We generally lend money at variable rates based on either prime or LIBOR indices. Our operating results and cash flow depend on the difference between the interest rates at which we borrow funds and raise deposits and the interest rates at which we lend these funds. Because prevailing interest rates are below many of the rate floors in our loans, upward movements in interest rates will not immediately result in additional interest income, although these movements would increase our cost of funds. Therefore, any upward movement in rates may result in a reduction of our net interest income. For additional information about interest rate risk, see Management's Discussion and Analysis of Financial Condition and Results of Operations - Market Risk Management.

In addition, changes in market interest rates, or in the relationships between short-term and long-term market interest rates, or between different interest rate indices, could affect the interest rates charged on interest earning assets differently than the interest rates paid on interest bearing liabilities, which could result in an increase in interest expense relative to our interest income. Additionally, changes in interest rates could adversely influence the growth rate of loans and deposits and the quality of our loan portfolio.

Risks Related to Our Operations

Regulatory approvals necessary to convert CapitalSource Bank to a commercial bank and to become a bank holding company may not be received, take longer than expected or impose burdensome conditions.

We believe that converting CapitalSource Bank from an industrial bank to a commercial bank would allow CapitalSource Bank to offer a wider variety of products and services to customers. In order to complete this conversion, we must obtain various approvals and consents from both federal and state banking regulators, including approval of the Federal Reserve Board for CapitalSource to become a bank holding company. We may not obtain these approvals and consents or they may not be obtained in a timely manner. In addition, these approvals and consents may contain conditions, such as heightened capital requirements, that would affect the manner in which CapitalSource and CapitalSource Bank conduct their business. If we are unable to obtain the necessary approvals and consents on a timely basis, or they are granted only under burdensome conditions, we may abandon our strategy of converting CapitalSource Bank to a commercial bank.

We are subject to extensive government regulation and supervision, which limit our flexibility and could result in adverse actions by regulatory agencies against us.

We are subject to extensive federal and state regulation and supervision that govern, limit or otherwise affect almost all aspects of our operations. Such regulation and supervision is intended primarily to protect customers, depositors and the FDIC Deposit Insurance Fund - not our shareholders. The laws and regulations to which we are subject, among other matters, establish minimum capital requirements, limit the business activities we can conduct, prohibit various business practices, limit the dividends or distributions CapitalSource Bank can pay, establish reporting requirements, require approvals or consent for many types of transactions or business changes, and establish standards for financial and managerial safety and soundness. Our state and federal regulators periodically conduct examinations of our business, including examination of our compliance with laws and regulations as well as the safety and soundness of our banking operations. Failure to comply with laws, regulations or policies pursuant to which we operate, or any regulatory order to which we are or may become subject, even if unintentional or inadvertent, could result in adverse actions by regulatory agencies against us. Such actions could result in higher capital requirements, higher deposit insurance premiums, additional limitations on our activities, civil monetary penalties and fines or, ultimately, termination of deposit insurance, or appointment of the FDIC as conservator or receiver for CapitalSource Bank. See the Supervision and Regulation section of Item 1, Business, above and, Item 8, Financial Statements and Supplementary Data, including Note 1514, Bank Regulatory Capital, in our accompanying audited consolidated financial statements for the year ended December 31, ~~2012~~2013.

Changes in laws and regulations, including the enactment of the Dodd-Frank Act, may have a material effect on our operations.

We are currently facing increased regulation and supervision of our industry as a result of the financial crisis in the banking and financial markets. In addition, federal and state legislatures and regulatory agencies continually review banking laws, regulations and policies for possible changes for other reasons, including perceived needs for improvements in the provision of financial services or the elimination of inappropriate practices. Changes to banking laws or regulations, including changes in their interpretation or implementation, could materially affect us in substantial and unpredictable ways. Such changes could subject us to additional costs, limit or restrict our ability to use capital for business purposes, limit the types of financial services and products we may offer or increase the ability of companies not subject to banking regulations to offer competing financial services and products, among other things, which may have a material adverse effect on our business, financial condition, results of operations or reputation.

The Dodd-Frank Act, imposes a number of significant regulatory and compliance changes in the banking and financial services industry. Many provisions of the Dodd-Frank Act must be implemented by regulations yet to be adopted by various government agencies. These regulations, and other changes in the regulatory regime, may include additional requirements, 18

16financial services, the elimination of inappropriate practices or a strengthening of risk management practices. Changes to banking laws or regulations, including changes in their interpretation or implementation, could materially affect us in substantial and unpredictable ways. Such changes could subject us to additional costs, limit or restrict our ability to use capital for business purposes, limit the types of financial services and products we may offer or increase the ability of companies not subject to banking regulations to offer competing financial services and products, among other things, which may have a material adverse effect on our business, financial condition, results of operations or reputation.

The Dodd-Frank Act imposes a number of significant regulatory and compliance changes in the banking and financial services industry. Many provisions of the Dodd-Frank Act must be implemented by regulations yet to be adopted by various government agencies. These regulations, and other changes in the regulatory regime, may include additional requirements, conditions, and limitations that may impact us. Certain provisions of the Dodd-Frank Act and implementing regulations that may have a material effect on our business are noted below.

•

The Dodd-Frank Act required a study regarding the continued exemption of industrial banks from the Bank Holding Company Act of 1956, as amended, or BHC Act. As a state-chartered industrial bank, CapitalSource Bank is currently exempt from the definition of “bank” under the BHC Act. The required study, which has been completed by the General Accounting Office, did not state a definitive conclusion on this question but did report that the Treasury Department and the Federal Reserve Board believe that the current exemption poses risks to the financial system. If the current exemption is eliminated, in order to continue to own CapitalSource Bank, the Parent Company would be required to register as a bank holding company, or BHC. If we were unsuccessful in registering as a BHC or another exception does not become available to us, our continued ownership of CapitalSource Bank would not be permissible.

• The Dodd-Frank Act directs the federal banking agencies to issue regulations requiring that the parent company of any federally insured depository institution serve as a “source of financial strength” to its subsidiary depository institution. The source of strength requirement had historically applied only to ~~bank~~BHCs ~~holding companies~~ and their subsidiary banks. Under the source of strength ~~doctrine~~requirement, the Parent Company will be required to ~~support~~serve ~~the~~as ~~safety~~a ~~and~~source ~~soundness~~ of financial strength to CapitalSource Bank. The banking regulators could require the Parent Company to contribute additional capital to CapitalSource Bank or to take, or refrain from taking, other actions for the benefit of CapitalSource Bank.

• The Dodd-Frank Act ~~limits~~restricted the acquisition of control of an industrial bank by a non-financial firm. For a period of three years beginning on July 21, 2010, the Dodd-Frank Act generally ~~requires~~prohibited ~~that~~ the banking regulators ~~must~~from ~~not~~approving ~~approve~~ any proposed change in control of an industrial bank, such as CapitalSource Bank, if the proposed acquirer iswas a “commercial firm.” Although that three-year moratorium period has expired, there is no certainty that the FDIC would approve the direct or indirect acquisition of control of CapitalSource Bank by a commercial firm.

• The Dodd-Frank Act requires the ~~Federal~~FRB ~~Reserve Board~~ to adopt regulations requiring increased capital requirements, minimum liquidity ratios, periodic stress testing and the establishment of board-level risk management committees for the largest banking institutions (those with assets greater than $50 billion or, in some case, greater than $10 billion), some or all of which requirements may become requirements, over time, for smaller institutions and for banking ~~institutions~~organizations not regulated by the ~~Federal Reserve Board~~FRB.

•

The Dodd-Frank Act requires the federal financial agencies to adopt rules that prohibit banks and their affiliates from engaging in proprietary trading and investing in and sponsoring certain “unregistered investment companies” (defined as hedge funds and private equity funds). This statutory provision is commonly referred to as the “Volcker Rule.” In December 2013, five financial regulatory agencies, including the FDIC, adopted final rules implementing the Volcker Rule (the “Final Rules”). The Final Rules prohibit banking entities from (i) engaging in short-term proprietary trading for their own accounts, or (ii) having certain ownership interests in and relationships with hedge funds or private equity funds (“covered funds”). The Final Rules are intended to provide greater clarity with respect to the extent of those prohibitions and the related exemptions and exclusions. Each regulated entity, including the Parent Company and CapitalSource Bank, is also required to establish an internal compliance program that is consistent with the extent to which it engages in activities covered by the Volcker Rule. The Final Rules also include certain regulatory reporting requirements. We intend to adopt the Final Rules by the mandated April 1, 2014 date and expect to be fully compliant with the Final Rules by the conformity period on July 21, 2015. We are currently analyzing the impact of the Final Rule.

Six financial regulatory federal agencies, including the FDIC, have proposed rules to implement the Dodd-Frank Act provisions requiring retention of credit risk by certain securitization participants through holding interests in securitization vehicles. The proposed rules would require a securitizer (or sponsor) to retain an economic interest equal to at least 5 percent of the aggregate credit risk of assets collateralizing an issuance of asset-backed securities, subject to certain exceptions for qualified residential mortgages and qualified commercial real estate mortgages, commercial loans and auto loans, which meet specified underwriting standards. Because these rules are not yet finalized or effective, the ultimate effect of these provisions on the CapitalSource Bank and the Parent Company are not known at this time. We will continue to monitor developments related to the implementation of these risk retention provisions of the Dodd-Frank Act.

These rules and regulations, and other changes in the regulatory regime, may include additional requirements, conditions, and limitations that could increase our compliance costs and materially adversely affect our business, operations, financial results and the price of our common stock.

Federal bank regulators ~~are~~have ~~considering~~adopted increased capital standards for banking organizations, including under the Basel III framework, which may have a material effect on our operations.

We are required to satisfy minimum regulatory capital standards. On December 16, 2010, the Basel Committee on Banking Supervision announced an international agreement among member country bank regulatory authorities to a heightened set of capital and liquidity standards, referred to as Basel III, for banking organizations around the world. ~~The~~On July 9, 2013, the federal banking agencies issued final rules (the “Basel III ~~changes~~Capital ~~included~~Rules”), ~~new~~which ~~minimum~~will ~~capital~~become ~~requirements,~~effective ~~two~~on ~~liquidity~~January ~~ratios~~1, a2015 ~~charge~~(subject ~~for~~to ~~credit~~phase-in ~~value~~periods ~~adjustment~~for ~~and~~certain provisions), establishing a ~~leverage~~new ~~ratio,~~comprehensive ~~among~~capital ~~other~~framework ~~things~~for U.S. ~~These~~banking ~~changes,~~organizations. ~~and~~The ~~regulatory~~Basel ~~initiatives~~III inCapital ~~the~~Rules ~~United~~revise ~~States,~~the indefinitions ~~the~~and ~~wake~~components of ~~the~~regulatory ~~financial crisis~~capital, ~~including~~expand ~~provisions~~the scope of the ~~Dodd-Frank~~deductions ~~Act,~~from ~~are~~and ~~expected~~adjustments to ~~result~~capital, inexpand ~~higher~~the ~~regulatory~~number ~~capital~~of ~~standards~~risk-weighting categories and ~~expectations~~assign ~~for~~higher ~~banking~~risk ~~organizations.~~weights ~~The~~to ~~time~~certain ~~period~~assets and ~~scope~~make ofother ~~U.S.~~changes ~~implementation~~that ofaffect ~~Basel~~the ~~III~~calculation ~~and~~of ~~other~~ regulatory capital ~~initiatives remain uncertain~~ratios. The Basel III ~~changes~~Capital ~~will~~Rules ~~have~~also aimplement ~~minimal~~certain ~~impact~~provisions onof usthe ~~until~~Dodd-Frank ~~such~~Act, ~~time~~including asthe requirements to remove references to credit ratings from the Ufederal agencies’ rules.~~S. banking~~ These ~~regulators~~changes ~~adopt~~and other regulatory initiatives in the ~~Basel III~~United ~~requirements.~~States Wein ~~will~~the ~~continue~~wake toof ~~monitor~~the ~~developments~~financial ~~relating~~crisis, toincluding ~~Basel III~~provisions ~~adoption~~of the Dodd-Frank Act, are expected to result in ~~the~~higher ~~U.S. and~~regulatory ~~its~~capital ~~potential~~standards ~~impact~~and onexpectations ~~our~~for ~~operations~~banking organizations.

InThe ~~general,~~Basel ~~however,~~III ~~increased~~Capital ~~regulatory~~Rules (i) introduce a new capital measure called “Common Equity Tier 1” (“CET1”) and ~~liquidity~~related ~~standards~~regulatory capital ratio of CET1 to risk-weighted assets, or(ii) ~~changes~~specify inthat ~~the~~Tier ~~manner~~1 incapital ~~which~~consists ~~such~~of ~~standards~~CET1 ~~are~~and ~~implemented~~“Additional Tier 1 capital” instruments meeting certain revised requirements, ~~could~~and ~~adversely~~(iii) ~~affect~~require ~~our~~that ~~financial~~most ~~results.~~deductions from and adjustments to capital be made to CET1 rather than to the other components of capital.

In addition, the Basel III Capital Rules revise the prompt corrective action (“PCA”) regulations pursuant to section 38 of the Federal Deposit Insurance Act, which authorize and, under certain circumstances, require the federal banking agencies to take certain actions against banks that fail to meet their capital requirements, particularly those that are categorized as less than “adequately capitalized” (i.e., categorized as “undercapitalized,” “significantly undercapitalized” or “critically undercapitalized”). The Basel III Capital rules revise the PCA regulations by: (1) introducing a CET1 ratio requirement at each PCA category (other than “critically undercapitalized”; (2) increasing the minimum Tier 1 capital ratio requirement for each category; and (3) eliminating the current provision that allows a bank with a composite supervisory rating of 1 to have a 3% leverage ratio and remain classified as “adequately capitalized.” The total risk-based capital ratio requirement for each PCA category remains unchanged. To qualify as “well capitalized” under the revised PCA regulations, a bank must meet the following capital ratio requirements: (1) 6.5% CET1 to risk-weighted assets; (2) 8.0% Tier 1 capital to risk-weighted assets; (3) 10.0% total capital to risk-weighted assets, and (4) 5.0% leverage ratio. The FDIC and other federal banking agencies have advised that they expect banking organizations to maintain capital ratios well above the minimum ratios necessary to be categorized as “well capitalized.”

We are in the process of determining the impact of the new capital requirements on our capital ratios.

In general, however, increased regulatory capital and liquidity standards, or changes in the manner in which such standards are implemented, could adversely affect our financial results. We will continue to monitor developments relating to the implementation of the Basel III Capital Rules, the issuance of any additional capital and liquidity requirements and their potential impact on our operations.

We face risks in connection with our strategic undertakings and new businesses, products or services.

If appropriate opportunities present themselves, we may engage in strategic activities, which could include acquisitions, joint ventures, or other business growth initiatives or undertakings. There can be no assurance that we will successfully identify appropriate opportunities, that we will be able to negotiate or finance such activities or that such activities, if undertaken, will be successful.

In order to finance future strategic undertakings, we might obtain additional equity or debt financing. Such financing might not be available on terms favorable to us, or at all. If obtained, equity financing could be dilutive and the incurrence of debt and contingent liabilities could have material adverse effect on our business, results of operations and financial condition.

Our ability to execute strategic activities successfully will depend on a variety of factors. These factors likely will vary on the nature of the activity but may include our success in integrating the operations, services, products, personnel and systems of an acquired company into our business, operating effectively with any partner with whom we elect to do business, retaining key employees, achieving anticipated synergies, meeting expectations and otherwise realizing the undertaking's anticipated benefits. Our ability to address these matters successfully cannot be assured. In addition, our strategic efforts may divert resources or management's attention from ongoing business operations and may subject us to additional regulatory scrutiny. If we do not successfully execute a strategic undertaking, it could adversely affect our business, financial condition, results of operations, reputation and growth prospects. In addition, if we were able to conclude that the value of an acquired business had decreased and that the related goodwill had been impaired, that conclusion would result in an impairment of goodwill charge to us, which would adversely affect our results of operations.

employees, achieving anticipated synergies, meeting expectations and otherwise realizing the undertaking's anticipated benefits. Our ability to address these matters successfully cannot be assured. In addition, our strategic efforts may divert resources or management's attention from ongoing business operations and may subject us to additional regulatory scrutiny. If we do not successfully execute a strategic undertaking, it could adversely affect our business, financial condition, results of operations, reputation and growth prospects. In addition, if we were able to conclude that the value of an acquired business had decreased and that the related goodwill had been impaired, that conclusion would result in an impairment of goodwill charge to us, which would adversely affect our results of operations.

In addition, from time to time, we may develop and grow new lines of business or offer new products and services, within existing lines of business. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In developing and marketing new lines of business and/or new products and services we may invest significant time and resources. Initial timetables for the introduction and development of new lines of business and/or new products or services may not be achieved and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives and shifting market preferences, may also impact the successful implementation of a new line of business or a new product or service. Furthermore, any new line of business and/or new product or service could have a significant impact on the effectiveness of our system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business or new products or services could have a material adverse effect on our business, results of operations and financial condition.

Our risk management framework may not be effective in mitigating risks and/or losses to us.

We have implemented a risk management framework to manage our risk exposure. This framework is comprised of various processes, systems and strategies, and is designed to manage the types of risk to which we are subject, including, among others, credit, market, liquidity, operational, financial, interest rate, legal and regulatory, compliance, strategic, reputation, fiduciary, and general economic risks. Our framework also includes financial or other modeling methodologies, which involves management assumptions and judgment. There is no assurance that our risk management framework will be effective under all circumstances or that it will adequately mitigate any risk or loss to us. If our framework is not effective, we could suffer unexpected losses and our business, financial condition, results of operations or prospects could be materially adversely affected. We may also be subject to potentially adverse regulatory consequences.

The change of control rules under Section 382 of the Internal Revenue Code may limit our ability to use net operating loss carryovers and other tax attributes to reduce future tax payments or our willingness to issue equity.

We have net operating loss carryforwards for federal and state income tax purposes that can be utilized to offset future taxable income. If we were to undergo a change in ownership of more than 50% of our capital stock over a three-year period as measured under Section 382 of the Internal Revenue Code, our ability to utilize our net operating loss carryforwards, certain built-in losses and other tax attributes recognized in years after the ownership change generally would be limited. The annual limit would equal the product of the applicable long term tax exempt rate and the value of the relevant taxable entity's capital stock immediately before the ownership change. These change of ownership rules generally focus on ownership changes involving stockholders owning directly or indirectly 5% or more (the "5-Percent Shareholders") of a company's outstanding stock, including certain public groups of stockholders as set forth under Section 382, and those arising from new stock issuances and other equity transactions, which may limit our willingness and ability to issue new equity. The determination of whether an ownership change occurs is complex and not entirely within our control. No assurance can be given as to whether we have undergone, or in the future will undergo, an ownership change under Section 382 of the Internal Revenue Code.

In July 2013, the Board of Directors adopted a tax benefit preservation plan which was designed to preserve the net operating loss carryforwards and other tax attributes of the Company. The plan is intended to discourage persons from becoming 5-Percent Shareholders and existing 5-Percent Shareholders from increasing their beneficial ownership of shares.

We are subject to claims and litigation which could adversely affect our cash flows, financial condition and results of operations, or cause significant reputational harm to us.

We may be involved, from time to time, in litigation pertaining to our lending activities. If such claims and legal actions, whether founded or unfounded, are not resolved in a manner favorable to us they may result in significant financial liability. Although we establish accruals for legal matters according to accounting requirements, the amount of loss ultimately incurred in relation to those matters may be substantially higher than the amounts accrued. Substantial legal liability could adversely affect our business, financial condition or results of operations or cause significant reputational harm, which could seriously harm our business.

Our systems may experience an interruption or breach in security which could subject us to increased operating costs as well as litigation and other liabilities.

We rely on the computer and telephone systems and network infrastructure that we use to conduct our business. These systems and infrastructure could be vulnerable to unforeseen problems. Our operations are dependent upon our ability to protect our computer and telephone equipment against damage from fire, power loss, telecommunications failure or a similar catastrophic event. Any damage or failure that causes an interruption in our operations could have an adverse effect on our clients. In addition, we must be able to protect the computer systems and network infrastructure utilized by us against physical damage, security breaches and service disruption caused by the internet or other users. Such break-ins and other disruptions would jeopardize the security of information stored in and transmitted through our systems and network infrastructure, which may result in significant liability to us and deter potential clients. While we have systems, policies and procedures designed to prevent or limit the effect of the failure, interruption or security breach of our systems and infrastructure, there can be no assurance that these measures will be successful and that any such failures, interruptions or security breaches will not occur or, if they do occur, that they will be adequately addressed. In addition, the failure of our clients to maintain appropriate security for their systems also may increase our risk of loss in connection with business transactions with them. The occurrence of any failures, interruptions or security breaches of systems and infrastructure could damage our reputation, result in a loss of business and/or clients, result in losses to us or our clients, subject us to additional regulatory scrutiny, cause us to incur additional expenses, or expose us to civil litigation and possible financial liability, any of which could have a material adverse effect on our business, financial condition and results of operations.

and possible financial liability, any of which could have a material adverse effect on our business, financial condition and results of operations.

Our controls and procedures may fail or be circumvented.

We review and update our internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Any failure or circumvention of our controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on our business, results of operations and financial condition. In addition, if we identify material weaknesses in our internal control over financial reporting or are otherwise required to restate our financial statements, we could be required to implement expensive and time-consuming remedial measures and could lose investor confidence in the accuracy and completeness of our financial reports. This could have an adverse effect on our business, financial condition, results of operations and common stock price, and could potentially subject us to litigation.

WeRisks ~~are~~Related ~~under audit for our 2006 through 2008 taxable years and, if the Internal Revenue Service determined that we violated REIT requirements and failed~~ to ~~qualify~~Income ~~as a REIT or otherwise under reported tax liabilities during those years that we operated as a REIT, it could adversely impact our results of operations.~~ Taxes

WeThe ~~operated~~Company ~~as a REIT from January 1, 2006 through December 31, 2008. Our senior management had limited experience in managing a portfolio of assets under the highly complex tax rules governing REITs~~ and weits ~~cannot~~subsidiaries assure you that we operated our business within the REIT requirements. Given the highly complex nature of the rules governing REITs and the importance of factual determinations, the Internal Revenue Service, or IRS, could contend that we violated REIT requirements in one or more of these years. We are ~~currently~~subject ~~under audit by the IRS for our 2006, 2007 and 2008 tax returns. To the extent it were~~ to beexaminations determined that we did not comply with REIT requirements for one or more of our REIT years or otherwise underreported tax liabilities, we could be required to pay additional corporate federal income tax and ~~certain~~challenges ~~state~~by ~~and~~taxing ~~local income taxes for the relevant years which would have a negative impact on our liquidity~~authorities. Also, we could be required to pay taxes (which could be significant in amount) that would be due if we were to avail ourselves of certain savings provisions, if they are available, to preserve our REIT status for the relevant years, either of which could have significant adverse effects on our financial results, liquidity and the price of our common stock.

~~Risks~~In ~~Related~~the normal course of business, the Company and its subsidiaries are routinely subjected to ~~our~~examinations ~~Common~~and ~~Stock~~challenges from federal and state taxing authorities regarding tax positions taken by the Company and the determination of the amount of tax due. These examinations may relate to income, franchise, gross receipts, payroll, property, sales and use, or other tax returns filed, or not filed, by the Company. The challenges made by taxing authorities may result in adjustments to the amount of taxes due, and may result in the imposition of penalties and interest. If any such challenges are not resolved in the Company's favor, they could have a material adverse effect on the Company's financial condition, results of operations, and liquidity.

The Company and its subsidiaries are subject to changes in federal and state tax laws and changes in interpretation of existing laws.

The Company's financial performance is impacted by federal and state tax laws. Given the current economic and political environment, and ongoing budgetary pressures, the enactment of new federal or state tax legislation may occur. The enactment of such legislation, or changes in the interpretation of existing law, including provisions impacting income tax rates, apportionment, consolidation or combination, income, expenses, and credits, may have a material adverse effect on the Company's financial condition, results of operations, and liquidity.

Risks Related to Our Common Stock

We may not pay dividends on our common stock.

Our board of directors, in its sole discretion, will determine the amount and frequency of dividends to our shareholders based on a number of factors including, but not limited to, our results of operations, cash flow and capital requirements, regulatory stress tests, economic conditions, tax considerations, ~~borrowing capacity~~ and other factors. If we change our dividend policy, our common stock price could be adversely affected.

Some provisions of Delaware law and our certificate of incorporation and bylaws as well as certain banking laws may deter third parties from acquiring us.

Our certificate of incorporation and bylaws provide for, among other things:


•	a classified board of directors;


•	restrictions on the ability of our shareholders to fill a vacancy on the board of directors;


•	the authorization of undesignated preferred stock, the terms of which may be established and shares of which may be issued without shareholder approval; and


•	advance notice requirements for shareholder proposals.

We also are subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which restricts the ability of any shareholder that at any time holds more than 15% of our voting shares to acquire us without the approval of shareholders holding at least 66 2/3% of the shares held by all other shareholders that are eligible to vote on the matter.

Federal banking laws, including regulatory approval requirements, could make it more difficult for a third party to acquire us, which could inhibit a business combination and adversely affect the market price of our common stock.

These laws and anti-takeover defenses could discourage, delay or prevent a transaction involving a change in control of our company. These provisions could also discourage proxy contests and make it more difficult for you and other shareholders to elect directors of your choosing and cause us to take other corporate actions than you desire.


ITEM 1B.	UNRESOLVED STAFF COMMENTS

None.


ITEM 2.	PROPERTIES

We lease office space in Los Angeles, California and Chevy Chase, Maryland, a suburb of Washington, D.C., under long-term operating leases. We also maintain smaller offices under operating leases in Arizona, California, Colorado, Connecticut, Georgia, Florida, Illinois, Massachusetts, Missouri, New York, North Carolina, Pennsylvania, Tennessee, Texas, ~~Utah~~ and ~~Wisconsin~~Utah. We believe our leased facilities are adequate for us to conduct our business.

In June 2010, we completed the sale of our long-term healthcare facilities to Omega Healthcare Investors, Inc. (“Omega”) and as a result, we exited the skilled nursing home ownership business. Consequently, we have presented the financial condition and results of operations for this business as discontinued operations for all periods presented. Additionally, the results of the discontinued operations include the activities of other healthcare facilities that have been sold since the inception of the business. For additional information, see Note 3, Discontinued Operations, in our accompanying audited consolidated financial statements for the year ended December 31, 2012.


ITEM 3.	LEGAL PROCEEDINGS

From time to time, we are party to legal proceedings. We do not believe that any currently pending or threatened proceeding, if determined adversely to us, would have a material adverse effect on our business, financial condition or results of operations, including our cash flows.


ITEM 4.	MINE SAFETY DISCLOSURES

~~None~~Not applicable.

PART II


ITEM 5.	MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Price Range of Common Stock

Our common stock is traded on the New York Stock Exchange (“NYSE”) under the symbol “CSE.” The high and low sales prices for our common stock as reported by the NYSE for the quarterly periods during ~~2012~~2013 and ~~2011~~2012 were as follows:

	High		Low
2013:
Fourth Quarter	$	14.72	$	12.98
Third Quarter	13.23		11.37
Second Quarter	12.26		8.85
First Quarter	9.86		8.03
2012:
Fourth Quarter	$	8.15	$	7.26
Third Quarter	7.93		6.56
Second Quarter	6.99		5.96
First Quarter	7.26		6.30
2011:
Fourth Quarter	$	6.85	$	5.54
Third Quarter	6.98		5.08
Second Quarter	7.31		5.95
First Quarter	8.21		6.97

On February 2026, ~~2013~~2014, the last reported sale price of our common stock on the NYSE was $814.6141 per share.

Holders

As of February 2026, ~~2013~~2014, there were ~~687~~384 holders of record of our common stock. The number of holders does not include individuals or entities who beneficially own shares, but whose shares are held of record by a broker or clearing agency, and each such broker or clearing agency is included as one record holder. American Stock Transfer & Trust Company serves as transfer agent for our shares of common stock.

Dividend Policy

For the years ended December 31, ~~2012~~2013 and ~~2011~~2012, we declared and paid dividends as follows:

	Dividends Declared and Paid per Share
	2012		2011
	2013		2012
Fourth Quarter	$	0.5101	$	0.0151
Third Quarter	0.01		0.01
Second Quarter	0.01		0.01
First Quarter	0.01		0.01
Total dividends declared and paid	$	0.5404	$	0.0454

For shareholders who held our shares for the entire year, the dividends declared and paid in 2013 and 2012 were classified for tax reporting purposes as dividend income. ~~For shareholders who held our shares for the entire year, the dividends declared and paid in 2011 were classified for tax reporting purposes as return of capital.~~

Our Board of Directors (the "Board"), in its sole discretion, will determine the amount and frequency of dividends to be provided to our shareholders based on a number of factors including, but not limited to, our results of operations, cash flow and capital requirements, economic conditions, tax considerations, ~~borrowing capacity~~ and other factors. Per the Merger Agreement, our dividend is limited to $0.01 per share per quarter.

Purchases of Equity Securities by the Issuer and Affiliated Purchasers

A summary of our ~~repurchases of shares of our~~ common stock share repurchases for the three months ended December 31, ~~2012~~2013, was as follows:

	Total Number of Shares Purchased(1)	Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs(2)	Maximum Number of Shares (or Approximate Dollar Value) that May Yet be Purchased Under the Plans(2)
October 1 - October 31, 2012	4,913,343	$	7.70	4,913,060
October 1 - October 31, 2013	22,206	$	12.89	—
November 1 - November 30, 2012	13,532	7.57		—
November 1 - November 30, 2013	33,588	13.45		—
December 1 - December 31, 2012	2,383,857	7.49		2,341,600
December 1 - December 31, 2013	102,741	14.16		—
Total	7158,~~310,732~~535	$	713.6383	~~7,254,660~~—	$	~~230,205,127~~—

_________________________

(1) ~~Includes~~Represents the number of shares acquired as payment by employees of applicable statutory minimum withholding taxes owed upon vesting of restricted stock granted under our Third Amended and Restated Equity Incentive Plan.

(2) In December 2010, our Board ~~of Directors~~ authorized the repurchase of $150.0 million of our common stock over a period of up to ~~two~~2 years. Subsequently, an additional $635.0 million was also authorized during the same period. In October 2012, the Board extended the program to include the period through December 31, 2013 and reset the authorization at $250.0 million. Collectively, we refer to these authorizations as the “Stock Repurchase Program.” InAll ~~December,~~shares we repurchased ~~3.1 million shares of our common stock~~ under the Stock Repurchase Program atwere anretired ~~average~~upon ~~price of $7~~settlement.49 ~~per~~As ~~share for~~ a ~~total~~result ~~purchase price~~ of ~~$23.5~~entering ~~million.~~into Ofthe ~~these~~Merger ~~purchases~~Agreement, ~~purchases~~the ofStock ~~801,800~~Repurchase ~~shares~~Program atwas ansuspended ~~average~~as ~~price~~ of ~~$7.52~~July ~~per share were settled in January 2013 which~~23, ~~for accounting purposes, were recorded in December 2012~~2013. ~~Any~~The ~~share repurchases made under the~~ Stock Repurchase Program ~~will~~was beterminated ~~made~~as ~~through open market purchases or privately negotiated transactions. The amount and timing~~ of ~~any~~December ~~repurchases~~31, ~~will depend on market conditions and other factors and repurchases may be suspended or discontinued at any time~~2013. ~~All shares repurchased under the Stock Repurchase Program were retired upon settlement.~~

Performance Graph

The following graph compares the performance of our common stock during the five-year period beginning on December 31, ~~2007~~2008 to December 31, ~~2012~~2013, with the S&P 500 Index and the S&P 500 Financials Index. The graph depicts the results of investing $100 in our common stock, the S&P 500 Index, and the S&P 500 Financials Index at closing prices on December 31, ~~2007~~2008, assuming all dividends were reinvested. Historical stock performance during this period may not be indicative of future stock performance.

2125

Comparison of Cumulative Total Return

Source : SNL Financial LC, Charlottesville, VA

Company/Index	Base Period 12/31/0708		Year Ended December 31,
			2008		2009		2010		2011		2012
			2009		2010		2011		2012		2013
CapitalSource Inc.	$	100	$	2987.21	$	25156.49	$	45149.80	$	43180.58	$	52344.81
S&P 500 Index	100		63126.05		79145.75		91148.76		93172.64		~~108~~228.62
S&P 500 Financials Index	100		44117.72		52131.4		58109.70		48140.74		62190.85

2226


ITEM 6.	SELECTED FINANCIAL DATA

You should read the data set forth below in conjunction with our audited consolidated financial statements and related notes, Management's Discussion and Analysis of Financial Condition and Results of Operations and other financial information appearing elsewhere in this report. The following tables show selected portions of historical consolidated financial data as of and for the five years ended December 31, ~~2012~~2013. We derived our selected consolidated financial data as of and for the five years ended December 31, ~~2012~~2013, from our audited consolidated financial statements, which have been audited by Ernst & Young LLP, an independent registered public accounting firm.

	Year Ended December 31,
	2012			2011			2010			2009			2008
	2013			2012			2011			2010			2009
	($ in thousands, except per share and share data)
Results of operations:
Interest income	$	~~468~~447,~~214~~476		$	~~510~~468,~~390~~214		$	~~639~~510,~~641~~390		$	~~871~~639,~~946~~641		$	1871,~~209,469~~946
Interest expense	7974,~~407~~088			~~150~~79,~~010~~407			~~232~~150,~~096~~010			~~427~~232,~~312~~096			~~677~~427,~~707~~312
Net interest income	~~388~~373,~~807~~388			~~360~~388,~~380~~807			~~407~~360,~~545~~380			~~444~~407,~~634~~545			~~531~~444,~~762~~634
Provision for loan and lease losses	3920,~~442~~531			9239,~~985~~442			~~307~~92,~~080~~985			~~845~~307,~~986~~080			~~593~~845,~~046~~986
Net interest income (loss) after provision for loan and lease losses	~~349~~352,~~365~~857			~~267~~349,~~395~~365			~~100~~267,~~465~~395			~~(401~~100,~~352~~465		)	(61401,~~284~~352		)
Non-interest income	4982,~~846~~550			9249,~~694~~846			7192,~~662~~694			(871,~~667~~662		)	(~~181~~8,~~936~~667		)
Non-interest expense	~~193~~189,~~682~~078			~~375~~193,~~170~~682			~~333~~375,~~451~~170			~~364~~333,~~511~~451			~~215~~364,~~494~~511
Net income (loss) from continuing operations before income taxes	~~205~~246,~~529~~329			~~(15~~205,~~081~~529		)	(~~161~~15,~~324~~081		)	(~~774~~161,~~530~~324		)	(~~458~~774,~~714~~530		)
Income tax (benefit) expense(1)	(285,081		)	36,942			(20,802		)	136,314			(190,583		)
Income tax expense (benefit) (1)	82,037			(285,081		)	36,942			(20,802		)	136,314
Net income (loss) from continuing operations	~~490~~164,~~610~~292			~~(52~~490,~~023~~610		)	(~~140~~52,~~522~~023		)	(~~910~~140,~~844~~522		)	(~~268~~910,~~131~~844		)
Net income from discontinued operations, net of taxes	—			—			~~9,489~~—			499,~~868~~489			49,~~350~~868
Gain (loss) from sale of discontinued operations, net of taxes	—			—			~~21,696~~—			(821,~~071~~696		)	~~104~~(8,071		)
Net income (loss)	~~490~~164,~~610~~292			~~(52~~490,~~023~~610		)	(~~109~~52,~~337~~023		)	(~~869~~109,~~047~~337		)	(~~218~~869,~~677~~047		)
Net (loss) income attributable to noncontrolling interests	—			—			(83		)	(28		)	1,426
Net loss attributable to noncontrolling interests	—			—			—			(83		)	(28		)
Net income (loss) attributable to CapitalSource Inc.	$	~~490~~164,~~610~~292		$	~~(52~~490,~~023~~610	)	$	(~~109~~52,~~254~~023	)	$	(~~869~~109,~~019~~254	)	$	(~~220~~869,~~103~~019	)
Basic income (loss) per share:
From continuing operations	$	20.1984		$	(02.1719	)	$	(0.4417	)	$	(20.9744	)	$	(12.0797	)
From discontinued operations	—			—			~~0.10~~—			0.1410			0.2014
Attributable to CapitalSource Inc.	$	20.1984		$	(02.1719	)	$	(0.3417	)	$	(20.8434	)	$	(02.8884	)
Diluted income (loss) per share:
From continuing operations	$	20.1382		$	(02.1713	)	$	(0.4417	)	$	(20.9744	)	$	(12.0797	)
From discontinued operations	—			—			~~0.10~~—			0.1410			0.2014
Attributable to CapitalSource Inc.	$	20.1382		$	(02.1713	)	$	(0.3417	)	$	(20.8434	)	$	(02.8884	)
Average shares outstanding:
Basic	~~223~~195,~~928~~189,~~583~~983			~~302~~223,~~998~~928,~~615~~583			~~320~~302,~~836~~998,~~867~~615			~~306~~320,~~417~~836,~~394~~867			~~251~~306,~~213~~417,~~699~~394
Diluted	~~230~~200,~~154~~451,~~989~~899			~~302~~230,~~998~~154,~~615~~989			~~320~~302,~~836~~998,~~867~~615			~~306~~320,~~417~~836,~~394~~867			~~251~~306,~~213~~417,~~699~~394
Cash dividends declared per share	$	0.5404		$	0.0454		$	0.04		$	0.04		$	10.3004
Dividend payout ratio attributable to CapitalSource Inc.	0.2505			(0.2425		)	(0.1224		)	(0.0112		)	(10.4801		)

________________________

(1) AsWe ~~a result of being a REIT in 2008, we~~ provided for income ~~taxes for the year ended December 31, 2008, based on effective~~ tax ~~rates~~expense ~~of 36.5%, for the income earned by our taxable REIT subsidiaries~~ (“TRSs”). We did not provide for any income taxes for the income earned by our qualified REIT subsidiaries for the year ended December 31, 2008. Effective January 1, 2009, we revoked our REIT election. We provided for income tax (benefit) ~~expense~~ on the consolidated income earned or loss incurred based on effective tax rates of 33.3%, (138.7)%, (245.0)%, 12.9%, and (17.6)%, ~~and 41.5%~~ in 2013, 2012, 2011, 2010, ~~2009~~ and ~~2008~~2009, respectively.

2327

	Year Ended December 31,
	2012		2011		2010		2009		2008
	2013		2012		2011		2010		2009
	($ in thousands)
Balance sheet data:
Investment securities, available-for-sale	$	1870,~~079,025~~482	$	1,~~188~~079,~~002~~025	$	1,~~522~~188,~~911~~002	$	~~960~~1,~~591~~522,911	$	~~679~~960,~~551~~591
Investment securities, held-to-maturity	~~108~~74,~~233~~369		~~111~~108,~~706~~233		~~184~~111,~~473~~706		~~242~~184,~~078~~473		14242,~~389~~078
Mortgage-related receivables, net	—		—		—		—		1,801,535
Commercial real estate “A” Participation Interest, net	—		—		—		—		530,560
Mortgage-backed securities pledged, trading	—		—		—		—		1,489,291
Total loans(1)	6,663,969		6,044,676		5,729,537		5,922,650		7,549,215
Commercial real estate “A” Participation Interest, net	—		—		—		530,560		1,396,611
Assets of discontinued operations, held for sale	—		—		—		—		624,650
Total loans(1)	6,044,676		5,729,537		5,922,650		7,549,215		8,857,631
Total assets	8,905,490		8,549,005		8,300,068		9,445,407		12,261,050
Assets of discontinued operations, held for sale	—		—		—		624,650		1,062,992
Deposits	6,127,690		5,579,270		5,124,995		4,621,273		4,483,879
Total assets	8,549,005		8,300,068		9,445,407		12,261,050		18,419,632
Credit facilities	—		—		—		67,508		542,781
Deposits	5,579,270		5,124,995		4,621,273		4,483,879		5,043,695
Term debt	—		177,188		309,394		979,254		2,956,536
Repurchase agreements	—		—		—		—		1,595,750
Other borrowings	1,037,156		1,005,738		1,015,099		1,375,884		1,204,074
Credit facilities	—		—		67,508		542,781		1,445,062
Total borrowings	1,037,156		1,182,926		1,324,493		2,422,646		4,703,391
Term debt	177,188		309,394		979,254		2,956,536		5,338,456
Liabilities of discontinued operations	—		—		—		—		363,293
Other borrowings	1,005,738		1,015,099		1,375,884		1,204,074		1,223,502
Total shareholders' equity	1,636,627		1,625,172		1,575,146		2,053,942		2,183,259
Total borrowings	1,182,926		1,324,493		2,422,646		4,703,391		9,602,770
Total loan commitments	8,028,407		7,448,235		7,558,327		8,592,968		11,600,297
Liabilities of discontinued operations	—		—		—		363,293		420,505
Average outstanding loan size	3,511		3,643		3,779		4,538		7,720
Total shareholders' equity	1,625,172		1,575,146		2,053,942		2,183,259		2,830,720
Average balance of loans(2)	6,369,520		6,013,799		5,816,760		7,375,775		9,028,580
Total loan commitments	7,448,235		7,558,327		8,592,968		11,600,297		13,296,755
Employees as of year end	495		543		564		625		665
Average outstanding loan size	3,643		3,779		4,538		7,720		8,857
Average balance of loans(2)	6,013,799		5,816,760		7,375,775		9,028,580		9,655,117
Employees as of year end	543		564		625		665		716

________________________


(1)	Includes loans held for sale and loans held for investment, net of deferred loan fees and discounts and the allowance for loan and lease losses.


(2)	Excludes the impact of deferred loan fees and discounts and the allowance for loan and lease losses. Includes lower of cost or fair value adjustments on loans held for sale.

2428

	Year Ended December 31,
	2012		2011		2010		2009		2008
	2013		2012		2011		2010		2009
Performance ratios:
Return on average assets:
Income (loss) from continuing operations	51.8090	%	(05.5880	)%	(10.3658	)%	(61.4136	)%	(16.6241	)%
Net income (loss)	51.8090	%	(05.5880	)%	(10.0658	)%	(51.6906	)%	(15.2569	)%
Return on average equity:
Income (loss) from continuing operations	3010.2541	%	(230.6425	)%	(62.9764	)%	(436.8697	)%	(1143.7386	)%
Net income (loss)	3010.2541	%	(230.6425	)%	(52.4264	)%	(315.9642	)%	(731.5396	)%
Yield on average interest-earning assets(1)	65.1679	%	6.2816	%	6.6528	%	6.4265	%	76.8442	%
Cost of funds(1)	1.1907	%	21.2319	%	2.9023	%	32.6090	%	43.8860	%
Net interest margin(1)	54.1283	%	45.4312	%	4.2443	%	34.2724	%	3.4527	%
Operating expenses as a percentage of average total assets(2)	21.2196	%	2.3721	%	2.1537	%	12.9115	%	1.4891	%
Core lending spread(1)	6.7733	%	76.6777	%	7.5167	%	7.4151	%	67.8041	%
Efficiency ratio(3)	4338.5044	%	4743.1850	%	4647.4118	%	6246.3941	%	7262.7839	%
Credit quality ratios(4):
Loans 30-89 days contractually delinquent as a percentage of average loans (as of year end)	0.3903	%	0.2139	%	0.4421	%	30.3344	%	3.1733	%
Loans 90 or more days delinquent as a percentage of average loans (as of year end)	0.6641	%	10.6166	%	51.0361	%	5.5003	%	15.4950	%
Loans on non-accrual status as a percentage of average loans (as of year end)	1.9849	%	41.7298	%	104.9972	%	1210.8999	%	412.6589	%
Impaired loans as a percentage of average loans (as of year end)	31.3249	%	73.1532	%	147.6515	%	1514.1065	%	715.3210	%
Net charge offs (as a percentage of average loans)	10.27	%	41.6227	%	54.7862	%	75.3078	%	37.1030	%
Allowance for loan and lease losses as a percentage of loans receivable (as of year end)	1.9178	%	21.6791	%	52.3567	%	75.0835	%	47.4908	%
Capital and leverage ratios:
Average equity to average assets(1)	~~19.~~18.25	%	2219.0118	%	1922.4901	%	1419.6149	%	1314.8561	%
Equity to total assets (as of year end)(1)	1918.0138	%	1819.9801	%	2118.7598	%	1721.9375	%	1517.8193	%

________________________


(1)	Ratios calculated based on continuing operations.


(2)	Operating expenses included compensation and benefits, professional fees, occupancy expense, FDIC fees and assessments, general depreciation and amortization and other administrative expenses.


(3)	Efficiency ratio is defined as operating expense divided by net interest and non-interest income, less leased equipment depreciation.


(4)	Credit ratios calculated based on average gross loans, which excludes deferred loan fees and discounts and the allowance for loan and lease losses.

2529


ITEM 7.	MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

WeCapitalSource ~~are~~Inc., a Delaware corporation, is a commercial lender that provides financial products to small and middle market businesses nationwide and provides depository products and services to consumers in southern and central California, primarily through our wholly owned subsidiary, CapitalSource Bank (the "Bank"). References to we, us, the Company or CapitalSource refer to CapitalSource Inc. together with its subsidiaries. References to CapitalSource Bank include its subsidiaries, and references to the Parent Company refer to CapitalSource Inc. and its subsidiaries other than the Bank.

~~For~~We ~~the~~offer ~~years~~a ~~ended~~broad ~~December 31,~~range ~~2012,~~of ~~2011~~specialized ~~and~~senior ~~2010~~secured, wecommercial ~~operated~~loan asproducts ~~two~~to ~~reportable~~small ~~segments: CapitalSource Bank~~ and ~~Other~~ ~~Commercial~~middle-market ~~Finance.~~businesses, ~~Our CapitalSource Bank segment comprises our commercial lending~~ and ~~banking~~we ~~business~~offer ~~activities, and~~ our ~~Other~~loan ~~Commercial~~products ~~Finance~~on ~~segment~~a ~~comprises~~nationwide ~~our~~basis. ~~loan~~With ~~portfolio~~a ~~and~~deposit ~~other~~gathering ~~business~~platform ~~activities~~based in ~~the~~southern ~~Parent~~and ~~Company. For~~central ~~additional information~~California, ~~see~~we ~~Note~~believe ~~21,~~our ~~Segment~~business ~~Data,~~model inis ~~our~~well ~~accompanying~~positioned ~~audited~~to ~~consolidated~~deliver ~~financial~~a ~~statements~~broad ~~for~~range ~~the~~of ~~year~~customized ~~ended~~financial ~~December 31,~~solutions ~~2012.~~to borrowers.

~~Through~~As ~~our~~of ~~CapitalSource~~December 31, ~~Bank segment activities~~2013, we ~~provide~~had ~~financial~~total ~~products~~assets ~~primarily~~of to$8.9 ~~small and middle market businesses throughout the United States and also offer depository products and services in southern and central California and our website~~billion, ~~which~~total ~~are~~loans ~~insured~~of ~~by the FDIC to the maximum amounts permitted by regulation~~$6.8 ~~As of December 31~~billion, ~~2012, CapitalSource Bank had a~~ total ~~outstanding~~deposits ~~loan principal balance~~ of $56.71 billion and ~~deposits~~stockholders' equity of $51.6 billion.

~~Through~~Our ~~our~~corporate ~~Other~~headquarters ~~Commercial~~is ~~Finance~~located ~~segment~~in ~~activities~~Los Angeles, ~~the~~California, ~~Parent~~and ~~Company~~we ~~satisfies~~have ~~existing~~21 retail bank branches located in southern and central California. Our loan ~~commitments~~origination ~~made~~efforts ~~prior~~are toconducted ~~CapitalSource~~nationwide ~~Bank's~~with ~~formation~~key ~~and~~offices ~~receives~~located ~~payments~~in onChevy ~~its~~Chase, ~~existing~~Maryland, ~~loan~~Los ~~portfolio.~~Angeles, AsCalifornia, ofDenver, ~~December 31~~Colorado, ~~2012~~Chicago, ~~the~~Illinois, ~~Parent~~and ~~Company~~New ~~had~~York, aNew ~~total~~York. ~~outstanding~~We ~~loan~~also ~~principal~~maintain ~~balance~~a number of ~~$549.0~~smaller ~~million~~lending offices throughout the country.

26For the years ended December 31, 2013, 2012 and 2011, we operated as two reportable segments: the Bank and Other Commercial Finance. The Bank segment comprises our commercial lending and banking business activities, and our Other Commercial Finance segment comprises our loan portfolio and other business activities in the Parent Company. For additional information, see Note 20, Segment Data.

~~Consolidated~~ Results of Operations

~~Operating Results for the Years Ended December 31, 2012, 2011 and 2010~~ Consolidated

AsThe ~~further described below, the most~~ significant factors influencing our consolidated results of operations for the year ended December 31, ~~2012~~2013, compared to the year ended December 31, ~~2011~~2012 ~~were:~~include an increase in net income tax expense, a decrease in interest income, offset by an increase in non-interest income and a decrease in loan and lease loss provision. Consolidated income tax expense (benefit) for the year ended December 31, 2013 and 2012 was $82.0 million and $(285.1) million, respectively. The $367.1 million increase in income tax expense was primarily the result of the release of the deferred tax valuation allowance during the year ended December 31, 2012. Interest income decreased from $468.2 million during year ended December 31, 2012 to $447.5 million during the year ended December 31, 2013 due to lower yields on both our loan portfolio and investment securities available-for-sale portfolio. Non-interest income increased during the year ended December 31, 2013 primarily due to gains on investments arising from the sale of investment securities. The loan and lease loss provision decreased from $39.4 million for the year ended December 31, 2012 to $20.5 million for the year ended December 31, 2013 due to an improvement in our overall portfolio credit profile with reserve releases related to loans at the Parent Company.

• Decreased deferred tax asset valuation allowance; • Increased net interest margin; • Increased loan portfolio; • Decreased cash and cash equivalents and investment securities; • Decreased provision for loan and lease losses; • Decreased losses on our investments; • Decreased expense of real estate owned and other foreclosed assets, net; • Significant loss on extinguishment of debt in 2011; and • Decreased operating expenses.30

For the years ended December 31, ~~2012~~2013, ~~2011~~2012 and ~~2010~~2011, our consolidated average balances and the resulting average interest yields and rates were as follows:

	2012						2011						2010
	2013						2012						2011
	Average Balance		Interest Income / (Expense)		Yield / Rate		Average Balance		Interest Income / (Expense)		Yield / Rate		Average Balance		Interest Income / (Expense)		Yield / Rate
	($ in thousands)
Interest-earning assets:
Cash and cash equivalents	$	~~372~~263,~~581~~771	$	~~1,304~~648	0.3525	%	$	~~809~~372,~~946~~581	$	21,~~195~~304	0.2735	%	$	~~512~~809,~~034~~946	$	12,~~399~~195	0.27	%
Investment securities	1,~~247~~067,~~084~~571		3830,~~230~~242		32.0783	%	1,~~562~~247,~~768~~084		5538,~~524~~230		3.5507	%	1,~~645~~562,~~375~~768		6155,~~648~~524		3.7555	%
Loans(2)	5,952,699		428,397		7.20	%	5,732,172		452,607		7.90	%	7,247,342		563,565		7.78	%
Loans(1)	6,369,520		415,375		6.52	%	5,952,699		428,397		7.20	%	5,732,172		452,607		7.90	%
Other assets	2729,~~984~~542		~~283~~1,211		14.0110	%	2325,~~742~~978		64283		01.2701	%	~~208~~23,~~505~~742		~~13,029~~64		60.2527	%
Total interest-earning assets	$	7,~~600~~730,~~348~~404	$	~~468~~447,~~214~~476	65.1679	%	$	87,~~128~~598,~~628~~342	$	~~510~~468,~~390~~214	6.2816	%	$	98,~~613~~128,~~256~~628	$	~~639~~510,~~641~~390	6.6528	%
Interest-bearing liabilities:
Deposits	$	5,~~400~~870,~~247~~561	$	51,~~035~~941	0.9588	%	$	45,~~808~~400,~~141~~247	$	5351,~~609~~035	10.1195	%	$	4,~~588~~808,~~140~~141	$	6053,~~052~~609	1.3111	%
Other borrowings	1,~~253~~051,~~237~~639		2822,~~372~~147		2.2611	%	1,~~911~~253,~~613~~237		9628,~~401~~372		52.0426	%	31,~~421~~911,~~821~~613		~~172~~96,~~044~~401		5.0304	%
Total interest-bearing liabilities	$	6,~~653~~922,~~484~~200	$	7974,~~407~~088	1.1907	%	$	6,~~719~~653,~~754~~484	$	~~150~~79,~~010~~407	21.2319	%	$	86,~~009~~719,~~961~~754	$	~~232~~150,~~096~~010	2.9023	%
Net interest income/spread			$	388,807	4.97	%			$	360,380	4.05	%			$	407,545	3.75	%
Net interest income/spread(2)			$	373,388	4.72	%			$	388,807	4.97	%			$	360,380	4.05	%
Net interest margin					54.1283	%					45.4312	%					4.2443	%

_______________________


(1)	Average loan balances are net of deferred fees and discounts on loans. Non-accrual loans have been included in the average loan balances for the purpose of this analysis.

(2) ~~For~~Net ~~the~~interest ~~years~~income ~~ended~~is ~~December~~defined ~~31,~~as ~~2012~~the ~~and~~difference ~~2011,~~between ~~there~~total ~~was~~interest noincome and total interest expense ~~related~~which tois ~~liabilities~~calculated ofon ~~discontinued~~a continuing operations basis. ~~For~~Net ~~the~~yield ~~year~~on ~~ended~~interest-earning ~~December~~assets ~~31,~~is ~~2010,~~defined ~~there~~as ~~was~~net ~~$15.2 million of~~ interest-earnings ~~expense~~divided ~~related~~by toaverage ~~liabilities~~total ofinterest-earning ~~discontinued operations~~assets.

~~(3)~~For ~~Net~~the ~~interest~~years ~~income~~ended isDecember 31, ~~defined~~2013 asand ~~the~~2012, ~~difference~~changes ~~between~~in ~~total~~ interest income, ~~and total~~ interest expense ~~which~~and isnet ~~calculated~~interest onincome as a ~~continuing~~result ~~operations~~of ~~basis.~~changes ~~Net~~in ~~yield~~volume, onchanges ~~interest-earning~~in ~~assets is defined as net~~ interest~~-earnings~~ ~~divided~~rates byor ~~average~~both ~~total~~were ~~interest-earning~~as ~~assets.~~follows:



	2013 Compared to 2012									2012 Compared to 2011
	Due to Change in:⁽¹⁾						Net Change			Due to Change in:⁽¹⁾						Net Change
	Rate			Volume			Net Change			Rate			Volume			Net Change
	($ in thousands)
(Decrease) increase in interest income:
Cash and cash equivalents	(336		)	(321		)	(657		)	518			(1,409		)	(891		)
Investment securities, available-for-sale	(2,717		)	(5,204		)	(7,921		)	(865		)	(8,553		)	(9,418		)
Investment securities, held-to-maturity	(288		)	220			(68		)	(5,709		)	(2,166		)	(7,875		)
Loans	(41,816		)	28,794			(13,022		)	(41,156		)	16,946			(24,210		)
Other assets	911			17			928			207			13			220
Total (decrease) increase in interest income	(44,246		)	23,506			(20,740		)	(47,005		)	4,831			(42,174		)
(Decrease) increase in interest expense:
Deposits	(3,374		)	4,282			908			(8,726		)	6,153			(2,573		)
Credit facilities	—			—			—			(1,783		)	(1,783		)	(3,566		)
Long-term debt	2,555			(6,172		)	(3,617		)	(18,360		)	(18,154		)	(36,514		)
Other borrowings	(2,495		)	(115		)	(2,610		)	(19,806		)	(8,143		)	(27,949		)
Total decrease in interest expense	$	(3,314	)	$	(2,005	)	$	(5,319	)	$	(48,675	)	$	(21,927	)	$	(70,602	)
Net increase (decrease) in net interest income	$	(40,932	)	$	25,511		$	(15,421	)	$	1,670		$	26,758		$	28,428

For the years ended December 31, 2012 and 2011, changes in interest income, interest expense and net interest income as a result of changes in volume, changes in interest rates or both were as follows: _________________

	2012 Compared to 2011									2011 Compared to 2010
	Due to Change in:(1)						Net Change			Due to Change in:(1)						Net Change
	Rate			Volume						Rate			Volume
	($ in thousands)
Decrease (increase) in interest income:
Cash and cash equivalents	518			(1,409		)	(891		)	(11		)	807			796
Investment securities, available-for-sale	(865		)	(8,553		)	(9,418		)	6,702			(300		)	6,402
Investment securities, held-to-maturity	(5,709		)	(2,166		)	(7,875		)	(5,339		)	(7,187		)	(12,526		)
Commercial real estate “A” Participation Interest, net	—			—			—			(6,481		)	(6,480		)	(12,961		)
Loans	(41,156		)	16,946			(24,210		)	8,554			(119,512		)	(110,958		)
Other assets	207			13			220			(16		)	12			(4		)
Total (decrease) increase in interest income	(47,005		)	4,831			(42,174		)	3,409			(132,660		)	(129,251		)
(Decrease) increase in interest expense:
Deposits	(8,726		)	6,153			(2,573		)	(9,219		)	2,776			(6,443		)
Credit facilities	(1,783		)	(1,783		)	(3,566		)	30,223			(61,792		)	(31,569		)
Long-term debt	(18,360		)	(18,154		)	(36,514		)	33,683			(62,017		)	(28,334		)
Other borrowings	(19,806		)	(8,143		)	(27,949		)	(16,909		)	1,169			(15,740		)
Total decrease in interest expense	$	(48,675	)	$	(21,927	)	$	(70,602	)	$	37,778		$	(119,864	)	$	(82,086	)
Net increase (decrease) in net interest income	$	1,670		$	26,758		$	28,428		$	(34,369	)	$	(12,796	)	$	(47,165	)

_______________________


(1)	The change in interest due to both volume and rates has been allocated in proportion to the relationship of the absolute dollar amounts of the change in each.

~~Our consolidated operating results for the year ended December~~ 31~~, 2012, compared to the year ended December 31, 2011, and for the year ended December 31, 2011, compared to the year ended December 31, 2010, were as follows:~~

	Year Ended December 31,									2012 vs. 2011 % Change		2011 vs. 2010 % Change
	2012			2011			2010
	($ in thousands)
Interest income	$	468,214		$	510,390		$	639,641		(8.26	)%	(20.21	)%
Interest expense	79,407			150,010			232,096			(47.07	)%	(35.37	)%
Provision for loan and lease losses	39,442			92,985			307,080			(57.58	)%	(69.72	)%
Non-interest income	49,846			92,694			71,662			(46.23	)%	29.35	%
Non-interest expense	186,485			375,170			333,451			(50.29	)%	12.51	%
Net income (loss) from continuing operations before income taxes	205,529			(15,081		)	(161,324		)	(3,353.17	)%	(90.65	)%
Income tax (benefit) expense	(285,081		)	36,942			(20,802		)	(871.70	)%	(277.59	)%
Net income (loss) from continuing operations	490,610			(52,023		)	(140,522		)	(1,043.06	)%	(62.98	)%
Net income from discontinued operations, net of taxes	—			—			9,489			—	%	(100.00	)%
Income from sale of discontinued operations, net of taxes	—			—			21,696			—	%	(100.00	)%
Net income (loss)	490,610			(52,023		)	(109,337		)	(1,043.06	)%	(52.42	)%
Net loss attributable to noncontrolling interests	—			—			(83		)	—	%	(100.00	)%
Net income (loss) attributable to CapitalSource Inc.	490,610			(52,023		)	(109,254		)	(1,043.06	)%	(52.38	)%

Our consolidated operating results for the year ended December 31, 2013, compared to the year ended December 31, 2012, and for the year ended December 31, 2012, compared to the year ended December 31, 2011, were as follows:

Discontinued Operations



	Year Ended December 31,								2013 vs. 2012 % Change		2012 vs. 2011 % Change
	2013		2012			2011			2013 vs. 2012 % Change		2012 vs. 2011 % Change
	($ in thousands)
Interest income	$	447,476	$	468,214		$	510,390		(4.4	)%	(8.3	)%
Interest expense	74,088		79,407			150,010			(6.7	)%	(47.1	)%
Provision for loan and lease losses	20,531		39,442			92,985			(47.9	)%	(57.6	)%
Non-interest income	82,550		49,846			92,694			65.6	%	(46.2	)%
Non-interest expense	189,078		193,682			375,170			(2.4	)%	(48.4	)%
Income tax expense (benefit)	82,037		(285,081		)	36,942			128.8	%	(871.7	)%
Net income (loss)	164,292		490,610			(52,023		)	(66.5	)%	1,043.1	%

In June 2010, we completed the sale of our remaining long-term healthcare facilities and exited the skilled nursing home ownership business. As a result, all consolidated comparisons below reflect the continuing results of our operations. Income from discontinued operations was $31.2 million, including a gain on disposal of $21.7 million, for the year ended December 31, 2010. For additional information, see Note 3, Discontinued Operations, in our accompanying audited consolidated financial statements for the year ended December 31, 2012.

Income Taxes

We provide for income taxes as a “C” corporation on income earned from operations. ~~For~~We ~~the~~are ~~tax~~subject ~~year~~to ~~ended December 31~~federal, ~~2010~~foreign, ~~our~~state ~~subsidiaries~~and ~~were~~local ~~not~~taxation ~~able to participate~~ in ~~the~~various ~~filing of a consolidated federal tax return~~jurisdictions. ~~Beginning in 2011, we~~

reconsolidated our subsidiaries for federal tax purposes. We are subject to federal, foreign, state and local taxation in various jurisdictions.

Periodic reviews of the carrying amount of deferred tax assets are made to determine if a valuation allowance is necessary. A valuation allowance is required when it is more likely than not that all or a portion of a deferred tax asset will not be realized. All evidence, both positive and negative, is evaluated when making this determination. Items considered in this analysis include the ability to carry back losses to recoup taxes previously paid, the reversal of temporary differences, tax planning strategies, historical financial performance, expectations of future earnings and the length of statutory carryforward periods. Significant judgment is required in assessing future earnings trends and the timing of reversals of temporary differences.

In 2009, we established a valuation allowance against a substantial portion of our net deferred tax assets where we determined that there was significant negative evidence with respect to our ability to realize such assets. Negative evidence we considered in making this determination included the history of operating losses and uncertainty regarding the realization of a portion of the deferred tax assets at future points in time. As of December 31, ~~2012~~2013 and ~~2011~~2012, the valuation allowance was $~~128~~152.60 million and $~~515~~128.26 million, respectively.

During 2012, we reversed $358.1 million of the valuation allowance, and such reversal was recorded as a benefit in our income tax expenses. Each of the deferred tax assets was evaluated based on our evaluation of the available positive and negative evidence with respect to our ability to realize the deferred tax asset, including considering their associated character and jurisdiction. The decision to reverse a large portion of the valuation allowance was based on our evaluation of all positive and negative evidence. A cumulative loss position, such as we had for the previous three-year period ended December 31, 2011, is generally considered significant negative evidence in assessing the realizability of a deferred tax asset. However, significant positive evidence had developed which overcame this negative evidence such that, during the year ended December 31, 2012, management determined that it is more likely than not that a portion of the deferred tax asset will be realized. This determination was made not based upon a single event or occurrence, but based upon the accumulation of all positive and negative evidence including recent trends in our earnings and taxable income. Other positive evidence included the projection of future taxable income based on a recent history of positive earnings at ~~CapitalSource~~the Bank, improved asset performance trends, substantial decline in the Parent Company's operations and assets, and one-time losses included in the three-year cumulative pre-tax loss (i.e., debt extinguishment loss). Additionally, we are no longer in a cumulative pre-tax loss position atsince the end of 2012.

A valuation allowance of $~~128~~152.60 million remains in effect as of December 31, ~~2012~~2013 with respect to deferred tax assets where we believe sufficient evidence does not exist at this time to support a reduction in the allowance. It is more likely than not that these deferred tax assets subject to a valuation allowance will not be realized primarily due to their character and/or the expiration of the carryforward periods.

~~2012~~2013 vs. ~~2011~~2012. Consolidated income tax ~~benefit~~expense for the year ended December 31, ~~2012~~2013 was $~~285~~82.10 million, compared to an income tax ~~expense~~benefit of $36(285.91) million for the year ended December 31, ~~2011~~2012. The income tax expense of $82.0 million for the year ended December 31, ~~due~~2013 towas ~~adjustments~~primarily due to ~~our~~the ~~deferred~~tax on pre-tax ~~asset~~book income offset by the resolution of the 2006-2008 audit and the sale of capital assets. The income tax benefit of $(285.1) million for the year ended December 31, 2012 was primarily due to the release of valuation allowance ~~in June 2012~~.

~~2011~~2012 vs. ~~2010~~2011. Consolidated income tax ~~expense~~benefit for the year ended December 31, ~~2011~~2012 was $36(285.91) million, compared to income tax ~~benefit~~expense of $2036.89 million for the year ended December 31, ~~2010~~2011. The income tax ~~expense~~benefit ~~for the year ended December 31, 2011 was primarily due to the decrease in the net deferred tax assets~~ of ~~one of our corporate entities~~$(285.1) ~~The~~million ~~tax benefit~~ for the ~~year ended December 31, 2010 resulted primarily from the carryback of the 2010 net operating loss of one of our corporate entities.~~

~~Comparison of the Years Ended December 31, 2012, 2011 and 2010~~ 32

~~Certain amounts in the prior~~ year's ~~audited~~ended ~~consolidated~~December 31, ~~financial~~2012 ~~statements~~was ~~have~~primarily ~~been~~due ~~reclassified~~ to ~~conform to~~ the ~~current~~release ~~year presentation, including modifying the presentation~~ of ~~our audited consolidated statements of operations to include~~ the ~~caption~~valuation ofallowance. ~~total~~The ~~operating~~tax ~~expenses~~expense ~~and the new line item~~ of ~~other administrative expenses being split apart from other non-interest expense~~$36.9 ~~Accordingly,~~million for the ~~reclassifications~~year ~~have~~ended ~~been appropriately reflected throughout our audited consolidated financial statements. In addition~~December 31, we2011 ~~have~~was ~~reclassified~~primarily ~~all~~due ~~comparative prior period segment information~~ to ~~reflect~~the ~~our~~decrease ~~two~~in ~~current~~the ~~reportable~~net ~~segments.~~deferred ~~The~~tax ~~discussion~~assets ~~that~~of ~~follows~~one ~~differentiates our results~~ of ~~operations between~~ our ~~segments.~~corporate entities.

29Comparison of the Years Ended December 31, 2013, 2012 and 2011

Certain amounts in the prior year's audited consolidated financial statements have been reclassified to conform to the current year presentation, including modifying the presentation of our audited consolidated statements of operations to include the caption of total operating expenses and the new line item of other administrative expenses being split apart from other non-interest expense. Accordingly, the reclassifications have been appropriately reflected throughout our audited consolidated financial statements. The discussion that follows differentiates our results of operations between our segments.

CapitalSource Bank Segment

Our CapitalSource Bank operating results for the year ended December 31, ~~2012~~2013, compared to December 31, ~~2011~~2012, and for the year ended December 31, ~~2011~~2012, compared to December 31, ~~2010~~2011, were as follows:

	Year Ended December 31,						~~2012~~2013 vs. ~~2011~~2012 % Change		~~2011~~2012 vs. ~~2010~~2011 % Change
	2012		2011		2010
	2013		2012		2011
	($ in thousands)
Interest income	$	~~393~~418,~~083~~885	$	~~368~~393,~~964~~083	$	~~333~~368,~~625~~964	6.56	%	~~10.~~6.5	%
Interest expense	62,~~096~~685		62,~~802~~096		6562,~~267~~802		(10.19	)%	(31.81	)%
Provision for loan and lease losses	16,~~192~~866		2716,~~539~~192		~~117~~27,~~105~~539		~~(41~~4.2	)%	(7641.52	)%
Non-interest income	6066,~~495~~184		4160,~~697~~495		3041,~~270~~697		459.14	%	3745.81	%
Non-interest expense	168,~~569~~249		~~149~~168,~~710~~569		~~116~~149,~~280~~710		12(0.62	)%	2812.76	%
Income tax expense	8496,~~054~~593		5784,~~996~~054		1357,~~628~~996		4414.9	%	~~325~~44.69	%
Net income	~~122~~140,~~667~~676		~~112~~122,~~614~~667		51112,~~615~~614		814.97	%	~~118~~8.29	%

Interest Income

~~2012~~2013 vs. ~~2011~~2012. Total interest income increased ~~6.5%~~ to $~~393~~418.19 million for the year ended December 31, ~~2012~~2013 from $~~369~~393.01 million for the year ended December 31, ~~2011~~2012, with an average yield on interest-earning assets of 5.9072% ~~for~~and ~~the year ended December 31, 2012 compared to 6~~5.1390% ~~for the year ended December 31~~, ~~2011~~respectively. During the years ended December 31, ~~2012~~2013 and ~~2011~~2012, interest income on loans was $~~359~~390.29 million and $~~319~~359.52 million, respectively, yielding 76.0141% and 7.7101% on average loan balances of $56.1 billion and $45.1 billion, respectively. ~~Total~~The ~~loan~~60 ~~interest~~basis ~~income~~point ~~increased~~decrease ~~due~~in toloan ayield ~~$50.3~~is ~~million~~due ~~increase~~to ona ~~interest~~46 ~~income~~basis ~~generated~~point decrease from ~~loans~~lower ~~held~~loan ~~for~~and ~~investment~~lease yields, ~~offset by~~ a ~~$10.6~~17 ~~million~~basis point decrease indue ~~deferred~~to ~~loan fee expense arising from the accelerated~~ amortization of ~~loan fee~~ premiums ~~and~~on ~~discounts~~purchased ~~due~~loans, toa ~~earlier~~15 ~~pay~~basis ~~downs~~point ondecrease ~~loans~~due ~~held~~to ~~for investment. During~~ the ~~years~~amortization ~~ended~~of ~~December 31,~~deferred ~~2012~~loan ~~and 2011~~fees, ~~$8.4~~offset ~~million~~by ~~and~~a $15.7 ~~million,~~basis ~~respectively,~~point ofincrease ~~interest~~due ~~income~~to ~~was~~changes ~~not~~in ~~recognized~~prepayment ~~for~~speeds ~~loans~~ on ~~non-accrual status, which negatively impacted the yield on~~ loans ~~by 0.16% and 0.38%~~, ~~respectively.~~a ~~During the years ended December 31, 2012 and 2011, $1.~~3 ~~million~~basis ~~and~~point ~~$0.1~~increase ~~million~~due ofto ~~interest~~changes ~~was~~in ~~collected on loans previously on~~ non-accrual ~~status~~interest and ~~recognized~~other ~~in interest income, respectively~~factors.

~~During~~Included in the ~~years~~lower ~~ended~~loan ~~December 31,~~yield ~~2012~~analysis ~~and 2011~~above, interest income ~~from~~of ~~our investments, including available-for-sale and held-to-maturity securities, was~~ $~~32.~~4.7 million and $488.48 million, ~~yielding~~during ~~2.65%~~the ~~and~~years ~~3.14%~~ended onDecember 31, ~~average~~2013 ~~balances of $1.2 billion~~ and ~~$1.5 billion~~2012, respectively., ~~The~~was ~~average~~not ~~balances~~recognized offor ~~investment~~loans ~~securities~~on ~~available~~non-~~for-sale~~accrual ~~and~~status ~~held-to-maturity decreased as a result of principal paydowns and maturities of securities~~ which wenegatively ~~did~~impacted ~~not~~the ~~fully~~yield ~~replace~~on ~~due~~loans toby ~~loan~~0.08% ~~growth~~ and ~~associated liquidity needs~~0. ~~Additionally~~17%, ~~the~~respectively. ~~overall~~During ~~yield of~~ the ~~portfolio~~years ~~decreased~~ended inDecember 31, ~~the~~2013 ~~declining~~and ~~interest rate environment experienced in~~ 2012~~. As a result~~, ~~total interest income on investments decreased~~ $~~16.~~0 ~~million attributed to an $8~~.14 million ~~decrease in interest income from available-for-sale securities~~ and a $71.94 million ~~decrease~~of in interest ~~income~~was ~~from~~collected ~~held-to-maturity~~on ~~securities. The~~loans ~~available-for-sale~~previously ~~securities~~on ~~portfolio~~non-accrual isstatus ~~mostly~~and ~~comprised~~recognized ofin ~~agency~~interest ~~mortgage-backed securities~~income, ~~which have been experiencing an acceleration of premium amortizations due to updated prepayment assumptions~~respectively.

During the ~~year~~years ended December 31, 2013 and 2012, weinterest ~~purchased~~income ~~$287.1~~from ~~million~~our ~~of investment securities~~investments, including available-for-sale and no held-to-maturity securities, ~~while~~was $~~385~~26.34 million and $532.14 million, yielding 2.53% and 2.65% on average balances of ~~principal~~$1.0 ~~repayments~~billion ~~were~~and ~~received~~$1.2 ~~from~~billion, ~~our~~respectively. The average balances of investment securities, available-for-sale and held-to-maturity, ~~respectively.~~decreased ~~During~~as ~~the~~a ~~year~~result ~~ended~~of ~~December 31,~~sales ~~2011,~~and maturities of securities which we ~~purchased~~did ~~$591.9~~not ~~million~~fully ofreplace due to loan growth and associated liquidity needs. The investment yield change is primarily due to a 36 basis point decrease resulting from relatively higher yielding securities paying down, ~~available-for-sale~~purchasing new securities at lower yields and ~~$10.6~~adjustable ~~million~~rate ofbonds' ~~investment~~coupons ~~securities~~resetting lower, offset by an 8 basis point increase resulting from accelerated discount amortization of a held-to-maturity ~~while~~commercial mortgage-backed security ("CMBS") from its prepayment and a 16 basis point increase due to lower premium amortization attributable to slower projected prepayment speeds on our available-for-sale MBS. As a result, total interest income on investments decreased $~~702~~6.0 million attributed to a $5.9 million and $920.61 million, ~~respectively,~~decrease ofin ~~principal~~interest ~~repayments~~income ~~were~~from ~~received.~~available-for-sale securities and held-to-maturity securities, respectively.

During the ~~years~~year ended December 31, ~~2012~~2013, ~~and~~we ~~2011,~~purchased ~~interest~~$117.6 ~~income~~million onof ~~cash~~investment securities, available-for-sale and ~~cash~~$47.9 ~~equivalents~~million ~~was~~of held-to-maturity securities, while $1318.28 million and $135.15 million, ~~respectively,~~of ~~yielding~~principal ~~0.40%~~repayments and ~~0.35%~~sales onwere ~~average~~made ~~balances~~on ofour ~~$294.2~~investment ~~million~~securities, available-for-sale and ~~$306.2 million~~held-to-maturity, respectively. During the year ended December 31, 2012, we

2011 vs. 2010. Total interest income increased 10.6% to $369.0 million for the year ended December 31, 2011 from $333.6 million for the year ended December 31, 2010, with an average yield on interest-earning assets of 6.13% for the year ended December 31, 2011 compared to 5.97% for the year ended December 31, 2010. During the years ended December 31, 2011 and 2010, interest income on loans was $319.5 million and $260.4 million, respectively, yielding 7.71% on average loan balances of $4.1 billion and $3.4 billion, respectively. During the years ended December 31, 2011 and 2010, $15.7 million and $29.4 million of interest income was not recognized for loans on non-accrual status, which negatively impacted the yield on loans by 0.38% and 0.87%, respectively. 33

~~During~~purchased ~~the~~$287.1 ~~years~~million ~~ended~~of ~~December 31,~~investment ~~2011 and 2010~~securities, ~~interest income from our investments, including~~ available-for-sale and no investment securities, held-to-maturity ~~securities,~~while ~~was~~ $48385.43 million and $585.81 million, ~~yielding~~respectively, ~~3.14%~~of ~~and~~principal ~~3.66%~~repayments onwere ~~average balances of $1~~received.5

30During the years ended December 31, 2013 and 2012, interest income on cash and cash equivalents was $0.4 million and $1.2 million, respectively, yielding 0.29% and 0.40% on average balances of $150.1 million and $294.2 million, respectively.

~~billion~~2012 ~~and~~vs. 2011. Total interest income increased to $393.1 million for the year ended December 31, 2012 from $369.0 million for the year ended December 31, 2011, with an average yield on interest-earning assets of 5.90% for the year ended December 31, 2012 compared to 6.13% ~~billion~~for the year ended December 31, ~~respectively~~2011. ~~Total~~During the years ended December 31, 2012 and 2011, interest income on ~~investments~~loans ~~decreased~~was $10359.42 million ~~which~~and ~~included a~~ $36319.45 million, ~~decrease~~respectively, inyielding ~~interest~~7.01% ~~income~~on ~~from~~average ~~held-to-maturity~~loan ~~securities~~balances of $5.1 billion and $4.1 billion, ~~partially~~respectively. ~~offset~~Interest ~~with~~income aof $2615.07 million ~~increase~~was innot ~~interest~~recognized ~~income~~for ~~from~~loans ~~available~~on non-~~for-sale~~accrual ~~securities. The~~status ~~decrease~~which ~~was~~negatively ~~due~~impacted tothe ayield ~~reduction~~on inloans ~~average~~by ~~balances~~0.38% ~~coupled~~during ~~with~~the ayear ~~reduction~~ended inDecember 31, ~~higher~~2011. ~~yielding~~In ~~investments~~addition, in$0.1 amillion ~~lower~~of interest ~~rate~~income ~~environment~~was not recognized for loans on non-accrual status during the year ended December 31, 2011.

~~For~~During the ~~year~~years ended December 31, ~~2010,~~2012 weand ~~purchased~~2011, ~~$1.5~~interest ~~billion~~income offrom ~~investment~~our ~~securities~~investments, including available-for-sale and held-to-maturity securities, was $32.4 million and $948.74 million, yielding 2.65% and 3.14% on average balances of $1.2 billion and $1.5 billion, respectively. The average balances of investment securities, available-for-sale and held-to-maturity decreased as a result of principal paydowns and maturities of securities which we did not fully replace due to loan growth and associated liquidity needs. Additionally, ~~while~~the overall yield of the portfolio decreased in the declining interest rate environment experienced in 2012. As a result, during the year ended December 31, 2012, total interest income on investments decreased $~~946~~16.0 million attributed to an $8.1 million decrease in interest income from available-for-sale securities and a $857.49 million ofdecrease ~~principal~~in ~~repayments~~interest ~~were~~income ~~received,~~from ~~respectively~~held-to-maturity securities.

During the ~~years~~year ended December 31, 2011 ~~and 2010~~, ~~interest~~we ~~income~~purchased on$591.9 ~~cash~~million ~~and~~of ~~cash~~investment ~~equivalents~~securities, ~~was~~available-for-sale, ~~$1.1 million~~ and $110.46 million, ~~yielding~~of ~~0.35%~~investment onsecurities, ~~average~~held-to-maturity, ~~balances~~while of $~~306~~702.29 million and $~~391~~92.16 million of principal repayments were received, respectively.

~~The~~During ~~“A”~~the ~~Participation~~years ~~Interest~~ended December 31, ~~representing~~2012 ~~our share of a pool of commercial real estate loans~~ and ~~related assets~~2011, ~~was~~interest ~~fully repaid during the fourth quarter of 2010. Interest~~ income on ~~the~~cash ~~“A”~~and ~~Participation~~cash ~~Interest~~equivalents was $131.0 2 million ~~during~~and ~~the~~$1.1 ~~year ended December 31~~million, ~~2010,~~ yielding 60.8640% onand an0.35% on average ~~balance~~balances of $~~188~~294.82 million. ~~The~~and ~~“A” Participation Interest was purchased at a discount, which was accreted into income using the interest method~~$306.2 ~~During the year ended December 31~~million, ~~2010, we accreted $9~~respectively.~~5 million~~ ~~of discount into interest income on loans.~~

Interest Expense

~~2012~~2013 vs. ~~2011~~2012. Total interest expense ~~decreased~~increased ~~1.1%~~ to $62.17 million for the year ended December 31, ~~2012~~2013 from $62.81 million for the year ended December 31, ~~2011~~2012. ~~The~~However, ~~decrease~~the ~~was~~cost ~~primarily~~of ~~due~~interest-bearing toliabilities adecreased ~~decrease~~from in1.04% for the ~~average~~year ~~cost~~ended ofDecember 31, 2012 to 0.97% the year ended December 31, 2013. Average balances of interest-bearing liabilities ofwere 1$6.~~04%~~5 billion and 1$6.~~19%~~0 ~~for~~billion ~~the~~as ~~years~~of ~~ended~~ December 31, ~~2012~~2013 and ~~2011~~2012, respectively, which consisted of deposits and borrowings. The lower cost of interest-bearing liabilities was the result of a lower interest rate environment as higher interest bearing rate liabilities were replaced at lower interest rates. Interest expense decreased despite an increase in average balances of interest-bearing liabilities of $6.0 billion and $5.3 billion as of December 31, 2012 and 2011, respectively, which consisted of deposits and borrowings.

Our interest expense on deposits for the years ended December 31, ~~2012~~2013 and ~~2011~~2012 was $51.09 million and $5351.60 million with an average cost of deposits of 0.9588% and 10.1195% on average balances of $5.49 billion and $45.84 billion, respectively. During the year ended December 31, ~~2012~~2013, $54.18 billion of our time deposits matured with a weighted average interest rate of 0.9985% and $5.84 billion of new and renewed time deposits were issued at a weighted average interest rate of 0.8690%. During the year ended December 31, ~~2011~~2012, $35.81 billion of our time deposits matured with a weighted average interest rate of 10.0499%, and $45.28 billion of new and renewed time deposits were issued at a weighted average interest rate of 0.9486%. Additionally, for the year ended December 31, ~~2012~~2013, our weighted average interest rate of our liquid account deposits, which include savings and money market accounts, declined from 0.7551% at the beginning of the year to 0.5146% at the end of the year.

During the year ended December 31, ~~2012~~2013, our interest expense on borrowings, consisting of FHLB SF borrowings, was $1110.17 million with an average cost of 1.8877% on an average balance of $~~587~~606.31 million. The primary reason for using FHLB SF borrowings as a funding source is to manage interest rate risk and the secondary is to provide a source of liquidity. For the year ended December 31, ~~2012~~2013, there were $9823.0 million interm advances taken with a weighted average rate of 10.0287% and $5343.0 million ofterm maturities with a weighted average rate of 21.0235%. We maintained an average overnight advances balance of $12.1 million with a weighted average rate of 0.12%. For the year ended December 31, ~~2012~~2013, the weighted average rates for FHLB SF borrowings maturing within one year, one to five years, and greater than five years were 1.3612%, 1.7981% and 21.2162%, respectively. Overall, the FHLB SF borrowing balance had a weighted-average-life of 3.2.3 years. For the year ended December 31, ~~2011~~2012, our interest expense on FHLB SF borrowings was $911.21 million with an average cost of 21.0288% on an average balance of $~~455~~587.13 million. For the year ended December 31, ~~2011~~2012, there were term advances of $198.90 ~~billion~~million inwith ~~advances~~related ~~taken~~maturities ~~and~~of $153.80 ~~billion~~million ofand no overnight advances and maturities.

~~2011~~2012 vs. ~~2010~~2011. Total interest expense decreased ~~3.8%~~ to $62.81 million for the year ended December 31, ~~2011~~2012 from $6562.38 million for the year ended December 31, ~~2010~~2011. The decrease was primarily due to a decrease in the average cost of interest-bearing liabilities which was 1.1904% and 1.3419% for the years ended December 31, ~~2011~~2012 and ~~2010~~2011, respectively. The lower cost of ~~interest-bearing~~ ~~liabilities was the result of a lower~~ interest ~~rate environment as higher interest bearing rate liabilities were replaced at lower interest rates. Interest expense decreased despite an increase in average balances of interest~~-bearing ~~liabilities of $5.3 billion and $4.9 billion as of December 31, 2011 and 2010, respectively which consisted of deposits and borrowings.~~

Our interest expense on deposits for the years ended December 31, 2011 and 2010 was $53.6 million and $60.1 million with an average cost of deposits of 1.11% and 1.31% on average balances of $4.8 billion and $4.6 billion, respectively. During the year ended December 31, 2011, $3.8 billion of our time deposits matured with a weighted average interest rate of 1.04%, and $4.2 billion of new and renewed time deposits were issued at a weighted average interest rate of 0.94%. During the year ended December 31, 2010, $4.7 billion of our time deposits matured with a weighted average interest rate of 1.44%, and $4.8 billion of new and renewed time deposits were issued at a weighted average interest rate of 1.11%. During December 31, 2011, our weighted average interest rate of our liquid account deposits, which include savings and money market accounts, declined from 0.83% at the beginning of the year to 0.75% at the end of the year. 34

~~For~~liabilities was the ~~year~~result ~~ended~~of ~~December 31,~~a ~~2011,~~lower ~~our~~ interest ~~expense~~rate onenvironment ~~borrowings,~~as ~~consisting~~higher ofinterest ~~FHLB~~bearing SFrate ~~borrowings,~~liabilities ~~was~~were ~~$9.2~~replaced ~~million~~at ~~with~~lower aninterest ~~average~~rates. ~~cost~~Interest ofexpense ~~2.02%~~decreased ondespite an increase in average ~~balance~~balances of interest-bearing liabilities of $~~455~~6.10 ~~million.~~billion ~~For~~and ~~the~~$5.3 ~~year~~billion ~~ended~~as of December 31, 2012 and 2011, ~~there~~respectively ~~were~~which consisted of deposits and borrowings.

Our interest expense on deposits for the years ended December 31, 2012 and 2011 was $51.0 million and $53.6 million with an average cost of deposits of 0.95% and 1.11% on average balances of $5.4 billion and $4.8 billion, respectively. During the year ended December 31, 2012, $5.1 billion of our time deposits matured with a weighted average interest rate of 0.99%, and $5.8 billion of new and renewed time deposits were issued at a weighted average interest rate of 0.86%. During the year ended December 31, 2011, $3.8 billion of our time deposits matured with a weighted average interest rate of 1.04%, and $4.2 billion of new and renewed time deposits were issued at a weighted average interest rate of 0.94%. During the year ended December 31, 2012, our weighted average interest rate of our liquid account deposits, which include savings and money market accounts, declined from 0.75% at the beginning of the year to 0.51% at the end of the year.

~~$1.9~~For ~~billion~~the inyear ~~advances~~ended ~~taken~~December 31, ~~with~~2012, aour ~~weighted~~interest ~~average~~expense ~~rate~~on borrowings, consisting of ~~0.4%~~FHLB ~~and~~SF borrowings, was $111.81 ~~billion~~million ofwith ~~maturities~~an ~~with~~average acost ~~weighted~~of 1.88% on an average ~~rate~~balance of 0$587.2%3 million. During December 31, ~~2010~~2011, our interest expense on FHLB SF borrowings was $59.2 million with an average cost of 12.9202% on an average balance of $~~271~~455.71 million.

Net Interest Margin

The yields of income earning assets and the costs of interest-bearing liabilities in this segment for the years ended December 31, ~~2012~~2013, ~~2011~~2012 and ~~2010~~2011 were as follows:

	Year Ended December 31,
	2012						2011						2010
	2013						2012						2011
	Weighted Average Balance		Net Interest Income		Average Yield/Cost		Weighted Average Balance		Net Interest Income		Average Yield/Cost		Weighted Average Balance		Net Interest Income		Average Yield/Cost
	($ in thousands)
Interest-earning assets:
Cash and cash equivalents	$	~~294~~150,~~242~~105	$	~~1,174~~430	0.4029	%	$	~~306~~294,~~229~~242	$	1,~~058~~174	0.3540	%	$	~~391~~306,~~114~~229	$	1,~~384~~058	0.35	%
Investment securities	1,~~220~~041,~~212~~187		3226,~~396~~389		2.6553	%	1,~~541~~220,~~511~~212		4832,~~359~~396		32.1465	%	1,~~608~~541,~~910~~511		5848,~~820~~359		3.6614	%
Loans	5,121,261		359,233		7.01	%	4,145,130		319,485		7.71	%	3,379,093		260,392		7.71	%
Loans (1)	6,096,284		390,858		6.41	%	5,121,261		359,233		7.01	%	4,145,130		319,485		7.71	%
Other assets	2729,~~985~~543		~~280~~1,208		14.0009	%	2327,~~741~~985		62280		01.2600	%	~~209~~23,~~695~~741		~~13,029~~62		60.2126	%
Total interest-earning assets(1)	67,~~663~~317,~~700~~119		~~393~~418,~~083~~885		5.9072	%	6,~~016~~663,~~611~~700		~~368~~393,~~964~~083		65.1390	%	56,~~588~~016,~~812~~611		~~333~~368,~~625~~964		56.9713	%
Interest-bearing liabilities:
Deposits	5,~~400~~870,~~247~~561		51,~~035~~941		0.9588	%	45,~~808~~400,~~141~~247		5351,~~609~~035		10.1195	%	4,~~588~~808,~~140~~141		6053,~~052~~609		1.3111	%
Borrowings	587,301		11,061		1.88	%	455,055		9,193		2.02	%	271,707		5,215		1.92	%
Other borrowings	606,110		10,744		1.77	%	587,301		11,061		1.88	%	455,055		9,193		2.02	%
Total interest-bearing liabilities(2)	56,~~987~~476,~~548~~671		62,~~096~~685		10.0497	%	5,~~263~~987,~~196~~548		62,~~802~~096		1.1904	%	45,~~859~~263,~~847~~196		6562,~~267~~802		1.3419	%
Net interest income/spread			$	330,987	4.86	%			$	306,162	4.94	%			$	268,358	4.63	%
Net interest income/spread (2)			$	356,200	4.75	%			$	330,987	4.86	%			$	306,162	4.94	%
Net interest margin					4.9787	%					54.0997	%					45.8009	%

________________________

(1) Interest-earning assets include cash and cash equivalents, investments, ~~the~~loans, ~~“A” Participation Interest~~ and ~~loans~~FHLB stock.


(2)	Interest-bearing liabilities include deposits and borrowings.

Provision for Loan and Lease Losses

Our provision for loan and lease losses is based on our evaluation of the adequacy of the existing allowance for loan and lease losses in relation to total loan portfolio and our periodic assessment of the inherent risks relating to the loan portfolio resulting from our review of selected individual loans.

Non-Interest Income

CapitalSource Bank services loans and other assets, which are owned by the Parent Company and third parties, for which it receives fees based on the number of loans or other assets serviced. Loans serviced by CapitalSource Bank for the benefit of others were $10.49 billion, $21.54 billion, and $42.75 billion as of December 31, ~~2012~~2013, ~~2011~~2012 and ~~2010~~2011, respectively, of which $087.50 ~~billion~~million, $1549.0 ~~billion~~million, and $21.50 billion, respectively, were owned by the Parent Company. CapitalSource Bank also provides tax, credit, treasury and other similar services to the Parent Company for which it receives fees.



	Year Ended December 31,								2013 vs. 2012 % Change		2012 vs. 2011 % Change
	2013		2012			2011			2013 vs. 2012 % Change		2012 vs. 2011 % Change
	($ in thousands)
Loan fees	$	22,772	$	16,089		$	8,678		41.5	%	85.4	%
Leased equipment income	20,590		14,113			3,748			45.9	%	276.5	%
Gain (loss) on investments, net	208		(1		)	4,713			20,900.0	%	(100.0	)%
Gain (loss) on derivatives	1,068		(1,162		)	(312		)	191.9	%	(272.4	)%
Bank fees	187		193			203			(3.1	)%	(4.9	)%
Gain (loss) on sale of assets	2,402		516			(128		)	365.5	%	503.1	%
Loan servicing revenue	5,345		10,362			12,588			(48.4	)%	(17.7	)%
Intercompany shared service revenue	10,366		14,904			6,340			(30.4	)%	135.1	%
Other	3,246		5,481			5,867			(40.8	)%	(6.6	)%
Total	$	66,184	$	60,495		$	41,697		9.4	%	45.1	%

	Year Ended December 31,									2012 vs. 2011 % Change		2011 vs. 2010 % Change
	2012			2011			2010
	($ in thousands)
Loan fees	$	16,089		$	8,678		$	7,760		85.4	%	11.8	%
Leased equipment income	14,113			3,748			—			276.5	%	100.0	%
(Loss) gain on investments, net	(1		)	4,713			—			(100.0	)%	100.0	%
Loss on derivatives	(1,162		)	(312		)	(976		)	272.4	%	(68.0	)%
Bank fees	193			203			220			(4.9	)%	(7.7	)%
Gain (loss) on sale of assets	516			(128		)	—			(503.1	)%	100.0	%
Intercompany loan referral revenue	10,362			12,588			20,951			(17.7	)%	(39.9	)%
Intercompany shared service revenue	14,904			6,340			129			135.1	%	4,814.7	%
Other	5,481			5,867			2,186			(6.6	)%	168.4	%
Total	$	60,495		$	41,697		$	30,270		45.1	%	37.8	%

2013 vs. 2012


•	Loan fees increased $6.7 million, or 41.5%, from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to increased termination fees due to early pay offs on loans and increased miscellaneous loans fees, such as late fees, penalties, unused line fees, and recurring fees.

•

Leased equipment income increased $6.5 million, or 45.9%, from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to an increase in equipment on operating leases of $114.4 million as of December 31, 2012 to $132.1 million as of December 31, 2013. In addition, average balances on our leased equipment increased $39.2 million, or 43.4%, from $90.4 million as of December 31, 2012 to $129.6 million as of December 31, 2013, respectively.


•	Gain on derivatives increased $2.2 million, or 191.9%, from the year ended December 31, 2012 to the year ended December 31, 2013 due to valuation changes in our foreign exchange rate contracts at December 31, 2013.


•	Gain on sale of assets increased $1.9 million, or 365.5%, from the year ended December 31, 2012 to the year ended December 31, 2013 due to loan sales resulting in larger realized gains during the year ended December 31, 2013.


•	Loan servicing revenue decreased $5.0 million, or 48.4%, from the year ended December 31, 2012 to the year ended December 31, 2013 as the number of Parent Company loans serviced by CapitalSource Bank declined with the runoff of the Parent Company loan portfolio.


•	Intercompany shared service revenue decreased $4.5 million, or 30.4%, from the year ended December 31, 2012 to the year ended December 31, 2013 as the general services provided to the Parent Company decreased with the reduction in Parent Company operations and activities.


•	Other income decreased $2.2 million, or 40.8%, from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to foreign currency translation adjustments on our loans denominated in a foreign currencies.

2012 vs. 2011


•	Loan fees increased $7.4 million, or 85.4%, from the year ended December 31, 2011 to the year ended December 31, 2012 primarily due to increased termination fees due to early pay offs on loans and increased miscellaneous loans fees, such as late fees, penalties, unused line fees, and recurring fees.

• Leased equipment income increased $10.4 million, ~~or 276.5%,~~ from the year ended December 31, 2011 to the year ended December 31, 2012 primarily due to an increase in equipment on operating leases of $83.1 million as of December 31, 2011 to $114.4 million as of December 31, 2012. In addition, average balances on our leased equipment increased $65.5 million, or 380.2%, from $17.2 million as of December 31, 2011 to $82.7 million as of December 31, 2012, respectively.


•	Gain on investments, net, decreased $4.7 million from the year ended December 31, 2011 to the year ended December 31, 2012 due to less sale activity of securities during the year ended December 31, 2012.

• ~~Intercompany~~Loan ~~loan~~servicing ~~referral~~ revenue decreased $2.2 million, or 17.7%, from the year ended December 31, 2011 to the year ended December 31, 2012 primarily due to decreases of Parent Company and third party loans serviced by ~~the Bank~~CapitalSourceBank.

• Intercompany shared service revenue increased $8.6 million, or 135.1%, from the year ended December 31, 2011 to the year ended December 31, 2012 as ~~the~~CapitalSource Bank charges the Parent Company for shared services. ~~and~~Nearly ~~nearly~~ all of the Parent Company employees were transferred to ~~the~~CapitalSource Bank beginning January 2012, resulting in ~~increases~~an ~~related~~increase toin ~~compensation~~services ~~expense~~provided atto the ~~Bank~~Parent Company and related shared services revenue.

2011 vs. 2010

• Leased equipment income increased $3.7 million from the year ended December 31, 2010 to the year ended December 31, 2011 as the Bank entered the leasing equipment business in 2011.

• Gain on investments, net, increased $4.7 million from the year ended December 31, 2010 to the year ended December 31, 2011 primarily due to $4.7 million of realized gains on sales of available-for-sale securities during the 2011.

• Intercompany loan referral revenue decreased $8.4 million, or 39.9%, from the year ended December 31, 2010 to the year ended December 31, 2011 primarily due to decreases of Parent Company and third party loans serviced by the Bank.

• Intercompany shared service revenue increased $6.2 million, or 4,814.7%, from the year ended December 31, 2010 to the year ended December 31, 2011 as the Parent began to shift the business and operational resources to the Bank, and subsequently began charging the Parent for shared services.

• Other income increased $3.7 million, or 168.4%, from the year ended December 31, 2010 to the year ended December 31, 2011 primarily due to a $5.8 million increase in gains on loan sales, offset by a $1.1 million decrease on foreign currency exchange gains and a $1.0 million decrease in miscellaneous non-operating income.

Non-Interest Expense

Prior to 2012, CapitalSource Bank relied on the Parent Company to refer loans and to provide loan origination due diligence services. For these services, CapitalSource Bank paid the Parent Company fees based upon the commitment amount of each new loan funded by CapitalSource Bank during the period. CapitalSource Bank also paid the Parent Company to perform certain underwriting and other services. At the start of 2012, the origination function, and all related personnel, were ~~fully~~ transferred ~~into~~to ~~the~~CapitalSource Bank, as a result of which the loan referral fee ceased being paid while other operating expenses of ~~the~~CapitalSource Bank increased. There were no such fees in operating expense for the years ended December 31, 2013 and 2012; and $51.2 million for the year ended December 31, 2011. These fees have been eliminated in consolidation.



	Year Ended December 31,								2013 vs. 2012 % Change		2012 vs. 2011 % Change
	December 31, 2013			December 31, 2012			December 31, 2011		2013 vs. 2012 % Change		2012 vs. 2011 % Change
	($ in thousands)
Compensation and benefits	$	107,619		$	102,417		$	49,941	5.1	%	105.1	%
Professional fees	4,214			5,628			4,054		(25.1	)	38.8
Occupancy expenses	9,568			10,139			7,106		(5.6	)	42.7
FDIC fees and assessments	5,067			5,958			6,091		(15.0	)	(2.2	)
General depreciation and amortization	4,908			3,884			4,198		26.4		(7.5	)
Intercompany loan referral expense	—			—			45,078		—		(100.0	)
Loan servicing expense	1,504			5,903			6,167		(74.5	)	(4.3	)
Other administrative expenses	20,702			22,886			11,308		(9.5	)	102.4
Total operating expenses	153,582			156,815			133,943		(2.1	)	17.1
Leased equipment depreciation	14,427			9,919			2,720		45.4		264.7
Expense of real estate owned and other foreclosed assets, net	1,203			2,169			12,756		(44.5	)	(83.0	)
Other non-operating (gains) expenses	(963		)	(334		)	291		188.3		(214.8	)
Total	$	168,249		$	168,569		$	149,710	(0.2	)	12.6

~~were~~2013 ~~no such fees in operating expense for the year ended December 31, 2012; and $51~~vs.2 ~~million and $37.5 million for the years ended December 31, 2011 and 2010, respectively. These fees have been eliminated in consolidation.~~ 2012

	Year Ended December 31,							2012 vs. 2011 % Change		2011 vs. 2010 % Change
	December 31, 2012			December 31, 2011		December 31, 2010
	($ in thousands)
Compensation and benefits	$	102,417		$	49,941	$	43,578	105.1	%	14.6	%
Professional fees	5,628			4,054		1,588		38.8		155.3
Occupancy expenses	10,139			7,106		7,155		42.7		(0.7	)
FDIC fees and assessments	5,958			6,091		7,823		(2.2	)	(22.1	)
General depreciation and amortization	3,884			4,198		5,093		(7.5	)	(17.6	)
Intercompany loan referral expense	—			45,078		31,458		(100.0	)	43.3
Other administrative expenses	28,789			17,475		17,001		64.7		2.8
Total operating expenses	156,815			133,943		113,696		17.1		17.8
Leased equipment depreciation	9,919			2,720		—		264.7		100.0
Expense of real estate owned and other foreclosed assets, net	2,169			12,756		2,584		(83.0	)	393.7
Other non-operating expenses	(334		)	291		—		(214.8	)	100.0
Total	$	168,569		$	149,710	$	116,280	12.6		28.7


•	Compensation and benefits increased $5.2 million, or 5.1%, from the year ended December 31, 2012 to the year ended December 31, 2013, due to increases in base compensation, bonuses, and stock compensation.


•	Professional fees decreased $1.4 million, or 25.1%, from the year ended December 31, 2012 to the year ended December 31, 2013, primarily due to decreases in other miscellaneous professional service accruals for the year ended December 31, 2013.


•	Loan servicing expense decreased $4.4 million from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to a lower level of problem loans that required third party professional fees or special servicing, and increased reimbursements from borrowers on newly originated loans or performing loans.


•	Other administrative expenses decreased $2.2 million, or 9.5%, from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to decreases in travel and franchise tax expenses.

•

Leased equipment depreciation increased $4.5 million, or 45.4%, from the year ended December 31, 2012 to the year ended December 31, 2013, primarily due to an increase in equipment subject to operating leases issued by CapitalSource Bank. The equipment subject to operating leases increased $39.2 million, or 43.4%, from $90.4 million as of December 31, 2012 to $129.6 million as of December 31, 2013, respectively.


•	Expense of real estate owned and other foreclosed assets, net decreased $1.0 million, or 44.5%, from the year ended December 31, 2012 to the year ended December 31, 2013, primarily due to a $1.6 million reduction in impairment losses offset by greater realized gains of $0.6 million.

2012 vs. 2011


•	Compensation and benefits increased $52.5 million, or 105.1%, from the year ended December 31, 2011 to the year ended December 31, 2012, due to increases in base compensation, bonuses, and stock compensation which resulted from the transfer of Parent Company employees to the Bank on January 1, 2012.

• Professional fees increased $1.6 million, or 38.8%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to increases in audit, ~~and~~ accounting fees and legal fees.

• Occupancy expenses increased $3.0 million, or 42.7%, from the year ended December 31, 2011 to the year ended December 31, 2012, as a result of transferring Parent Company employees to ~~the~~CapitalSource Bank.

• Intercompany loan referral ~~expenses~~fee decreased $45.1 million, or 100.0%, from the year ended December 31, 2011 to the year ended December 31, 2012, as the loan referral fees were no longer paid to the Parent Company as the Parent Company employees transferred to ~~the~~CapitalSource Bank.

• ~~Other~~Leased ~~administrative~~equipment ~~expenses~~depreciation increased $117.32 million, or 64264.7%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to ~~the~~an ~~Parent~~increase ~~Company~~in ~~employees~~equipment ~~being~~subject ~~transferred~~ to operating leases issued by the Bank. ~~which~~The ~~includes~~equipment ~~costs~~subject ~~for~~to ~~various~~operating ~~miscellaneous~~leases ~~operating~~increased ~~expenses~~$31.3 million, ~~such~~or 37.6%, from $83.1 million as ~~telephone~~of December 31, ~~marketing~~2011 to $114.4 million as of December 31, ~~travel~~2012. ~~and~~In ~~automobile~~addition, ~~expenses~~average balances on our leased equipment increased $70.9 million, or 230.4%, from $30.8 million as of December 31, 2011 to $101.7 million as of December 31, 2012, respectively.

• Leased equipment depreciation increased $7.2 million, or 264.7%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to an increase in equipment subject to operating leases issued by the Bank. The equipment subject to operating leases increased $31.2 million, or 37.6%, from $83.1 million as of December 31, 2011 to $114.4 million as of December 31, 2012. In addition, average balances on our leased equipment increased $65.5 million, or 380.2%, from $17.2 million as of December 31, 2011 to $82.7 million as of December 31, 2012, respectively.

•

Expense of real estate owned and other foreclosed assets, net decreased $10.6 million, or 83.0%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to a $6.6 million decrease in realized losses on the sale of real estate owned during 2011, a $1.7 million decrease in unrealized impairment losses, and a $2.3 million overall decrease in related net operating expenses during 2012 as a result of our ongoing efforts to resolve real estate owned and other foreclosed assets.

2011 vs. 2010

• Compensation and benefits increased $6.4 million, or 14.6%, from the year ended December 31, 2010 to the year ended December 31, 2011, due to increases in base compensation, bonuses, and stock compensation.

• Professional fees increased $2.5 million, or 155.3%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due to a $2.2 million increase in legal fees and a $0.3 million increase related to other miscellaneous professional services.

• Intercompany loan referral expenses increased $13.6 million, or 43.3%, from the year ended December 31, 2010 to the year ended December 31, 2011, as the Company originated more loans at the Bank which were sourced by the Parent Company's loan origination staff.

• Leased equipment depreciation increased $2.7 million from a zero balance during the year ended December 31, 2010 as the Bank entered the leasing equipment business during the year-ended December 31, 2011.

• Expense of real estate owned and other foreclosed assets, net increased $10.2 million, or 393.7%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due to a $6.0 million increase in realized losses on the sale of real estate owned during 2011, $2.3 million increase due to larger impairments to record real estate owned to fair value, and a $1.9 million overall increase in related net operating expenses during 2011 as a result of our ongoing efforts to resolve real estate owned and other foreclosed assets.

Other Commercial Finance Segment

Our Other Commercial Finance operating results for the year ended December 31, ~~2012~~2013, compared to December 31, ~~2011~~2012, and for the year ended December 31, ~~2011~~2012, compared to December 31, ~~2010~~2011, were as follows:

	Year Ended December 31,									~~2012~~2013 vs. ~~2011~~2012 % Change		~~2011~~2012 vs. ~~2010~~2011 % Change
	2012			2011			2010
	2013			2012			2011
	($ in thousands)
Interest income	$	7826,~~629~~551		$	~~141~~78,~~056~~629		$	~~315~~141,~~934~~056		(4466.32	)%	(5544.43	)%
Interest expense	1711,~~311~~403			8717,~~208~~311			~~166~~87,~~829~~208			(8034.1	)%	(4780.71	)%
Provision for loan and lease losses	233,~~250~~665			6523,~~446~~250			~~189~~65,~~975~~446			(6484.52	)%	(6564.65	)%
Non-interest income	1433,~~522~~263			~~123~~14,~~951~~522			~~100~~123,~~381~~951			~~(88~~129.31	)%	23(88.53	)%
Non-interest expense	5137,~~344~~470			~~300~~51,~~652~~344			~~276~~300,~~739~~652			(8227.90	)%	8(82.69	)%
Income tax benefit	(~~370~~15,~~209~~237		)	(21370,~~054~~209		)	(3421,~~430~~054		)	~~1,658~~(95.49	)%	~~(38~~1,658.84	)%
Net income (loss) from continuing operations	371,455			(167,245		)	(182,798		)	322.1		(8.5	)
Net income (loss)	22,513			371,455			(167,245		)	(93.9	)%	322.1	%

Interest Income

~~2012~~2013 vs. ~~2011~~2012. Interest income decreased ~~$62.4 million or 44.3%~~ to $7826.6 million for the year ended December 31, ~~2012~~2013 from $~~141~~78.16 million for the year ended December 31, ~~2011~~2012, primarily due to a 55.67% decrease in average total interest-earning assets. During the year ended December 31, ~~2012~~2013, our average balance of interest-earning assets decreased by $10.25 billion, compared to the year ended December 31, ~~2011~~2012, due to the runoff of Parent Company loans. ~~During~~Additionally, since the ~~years~~Merger ~~ended December 31~~announcement, ~~2012~~the ~~and~~Parent ~~2011,~~Company ~~the~~has ~~yield~~been onretaining ~~average~~all ~~interest-earning~~excess ~~assets~~cash ~~was~~generated ~~8.40%~~from operations, and ~~6.69%,~~investing ~~respectively.~~those ~~Fluctuations~~funds in ~~loan~~short-term ~~yields~~investments, ~~are~~thereby ~~driven~~depressing bythe ~~various~~yield ~~factors,~~on ~~such~~the asaverage ~~prevailing~~ interest-earning ~~rates~~assets. ~~which~~During ~~impact lending rates,~~ the ~~coupon~~years onended ~~loans~~December 31, ~~that~~2013 ~~pay~~and ~~down or pay off~~2012, ~~non-accrual~~the ~~loans,~~yield ~~and~~on ~~modifications~~average of interest-earning ~~rates~~assets onwas ~~existing~~6.43% ~~loans~~and 8.42%, respectively.

~~2011~~2012 vs. ~~2010~~2011. Total interest income decreased ~~$174.9 million or 55%~~ to $~~141~~78.16 million for the year ended December 31, ~~2011~~2012 from $~~315~~141.91 million for the year ended December 31, ~~2010~~2011, primarily due to ~~the~~a 55.7% decrease in average total interest-earning assets~~, including the impact of the deconsolidation of the 2006-A Trust during July 2010~~. During the year ended December 31, ~~2011~~2012, the average balance of interest-earning assets decreased by $1.92 billion, orcompared ~~47.9%, primarily due~~ to the ~~continued~~year ~~runoff~~ended ~~of Parent Company loans.~~

December 31, 2011, due to the continued runoff of Parent Company loans. During the years ended December 31, 2012 and 2011, the yield on average interest-earning assets was 8.42% and 6.69%, respectively.

Interest Expense

~~2012~~2013 vs. ~~2011~~2012. Interest expense decreased ~~$69.9 million or 80.1%~~ to $1711.34 million for the year ended December 31, ~~2012~~2013 from $8717.23 million for the year ended December 31, ~~2011~~2012, primarily due to a decrease of $0220.84 ~~billion~~million, or 5433.31%, in average interest-bearing liabilities from $10.57 billion as of December 31, ~~2011~~2012 to $0.74 billion as of December 31, ~~2012~~2013. The decrease in interest-bearing liabilities was primarily driven by the early retirement of our ~~12.75%~~term ~~Senior~~debt ~~Secured Notes of $298~~securitizations.1 ~~million.~~

~~2011~~2012 vs. ~~2010~~2011. Interest expense decreased ~~$79.6 million or 47.7%~~ to $8717.23 million for the year ended December 31, ~~2011~~2012 from $~~166~~87.82 million for the year ended December 31, ~~2010~~2011, primarily due to a decrease in average interest-bearing liabilities from $31.25 billion as of December 31, ~~2010~~2011 to $10.57 billion as of December 31, ~~2011~~2012. The decrease in interest-bearing liabilities ~~resulted~~was ~~from~~primarily ~~the~~driven ~~reduction~~by ~~and~~the ~~termination~~early ofretirement ~~certain~~ of our ~~credit~~12.75% ~~facilities~~Senior ~~and~~Secured ~~remaining~~Notes ~~securitization balances, all~~ of ~~which~~$298.1 ~~generally had higher borrowing costs than the remainder of our borrowings~~million.

Net Interest Margin

The yields of income earning assets and the costs of interest-bearing liabilities in this segment for the years ended December 31, ~~2012~~2013, ~~2011~~2012 and ~~2010~~2011 were as follows:

	Year Ended December 31,
	2012						2011						2010
	2013						2012						2011
	Weighted Average Balance		Net Interest Income		Average Yield/Cost		Weighted Average Balance		Net Interest Income		Average Yield/Cost		Weighted Average Balance			Net Interest Income		Average Yield/Cost
	($ in thousands)
Interest-earning assets:
Cash and cash equivalents	$	78113,~~339~~666	$	~~133~~221	0.1719	%	$	~~503~~76,~~717~~333	$	72133	0.0117	%	$	~~120~~503,~~920~~717		$	1572	0.01	%
Investment securities	26,~~872~~384		53,~~834~~853		2114.7160	%	2126,~~257~~872		75,~~165~~834		3321.71	%	3621,~~465~~257			27,~~828~~165		733.7671	%
Loans	~~830~~273,~~316~~102		7222,~~662~~477		8.7523	%	1830,~~583,594~~316		~~132~~72,~~752~~662		8.3875	%	31,~~892~~583,~~401~~594			~~313~~132,~~090~~752		8.0438	%
Other assets	—		—		—	%	—		~~1,067~~—		—	%	~~(1,189~~—		)	1,067		—	%
Total interest-earning assets(1)	~~935~~413,~~527~~152		7826,~~629~~551		86.4043	%	2933,~~108,568~~521		~~141~~78,~~056~~629		68.6942	%	42,~~048~~108,~~597~~568			~~315~~141,~~934~~056		76.8069	%
Interest-bearing liabilities:
Borrowings	~~665~~445,~~937~~530		1711,~~311~~403		2.6056	%	1665,~~456,558~~937		8717,~~208~~311		52.9960	%	31,~~150~~456,~~115~~558			~~166~~87,~~829~~208		5.3099	%
Total interest-bearing liabilities(2)	~~665~~445,~~937~~530		1711,~~311~~403		2.6056	%	1665,~~456,558~~937		8717,~~208~~311		52.9960	%	31,~~150~~456,~~115~~558			~~166~~87,~~829~~208		5.3099	%
Net interest income/spread			$	6115,~~318~~148	53.8087	%			$	5361,~~848~~318	05.7082	%				$	~~149~~53,~~105~~848	20.5070	%
Net interest margin					63.5567	%					26.5557	%						32.6855	%

_________________________


(1)	Interest-earning assets include cash and cash equivalents, restricted cash, mortgage-related receivables, loans and investments in debt securities.


(2)	Interest-bearing liabilities include secured and unsecured credit facilities, term debt, convertible debt and subordinated debt.

Non-Interest Income

Prior to 2012, the Parent Company referred loans to CapitalSource Bank and provided loan origination due diligence services to CapitalSource Bank. For these services, CapitalSource Bank paid the Parent Company fees based upon the commitment amount of each new loan funded by CapitalSource Bank during the period. CapitalSource Bank also paid the Parent Company to perform certain underwriting and other services. At the start of 2012, the origination function, and all related personnel, were transferred into ~~the~~CapitalSource Bank, and as a result, the loan fees received by the Parent Company decreased.

	Year Ended December 31,									~~2012~~2013 vs. ~~2011~~2012 % Change		~~2011~~2012 vs. ~~2010~~2011 % Change
	2012			2011			2010
	2013			2012			2011
	($ in thousands)
Loan Fees	$	2,472		$	7,556		$	14,385		(67.3	)%	(47.5	)%
Loan fees	$	774		$	2,472		$	7,556		(68.7	)%	(67.3	)%
Gain on investments, net	728,~~383~~757			537,~~868~~383			5453,~~059~~868			~~(86~~289.35	)	(086.43	)
Gain (loss) on derivatives	338			(6,501		)	(7,668		)	(105.2	)	(15.2	)
(Loss) gain on derivatives	(7		)	338			(6,501		)	102.1		(105.2	)
Bank fees	—			63—			4563			~~(100.0~~—	)	40(100.0	)
Gain (loss) on sale of assets	3,159			12,003			(24,015		)	(73.7	)	(150.0	)
Gain on sale of assets	5,893			3,159			12,003			86.5		(73.7	)
Intercompany loan referral revenue	~~121~~—			~~6,167~~—			649,~~049~~034			~~(98.0~~—	)	—(100.0	)
Other	1,049			50,795			57,526			(97.9	)	(11.7	)
Loan servicing revenue	14			121			6,167			(88.4	)	(98.0	)
Total	$	14,522		$	123,951		$	100,381		(88.3	)	23.5
Other	(2,168		)	1,049			1,761			(306.7	)	(40.4	)
Total	$	33,263		$	14,522		$	123,951		129.1		(88.3	)

2013 vs. 2012


•	Loan fees decreased $1.7 million, or 68.7%, from the year ended December 31, 2012 to the year ended December 31, 2013, due to decreased unused line fees and letter of credit fees with the runoff of the Parent Company loan portfolio.


•	Gains on investments, net increased $21.4 million, or 289.5%, from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to the sale of investment securities during the year ended December 31, 2013 resulting in a $23.0 million realized gain.


•	Gain on sale of assets increased $2.7 million, or 86.5%, from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to gains on intercompany loan sales and third party commercial loan sales.


•	All other non-interest income decreased $3.2 million, or 306.7%, from the year ended December 31, 2012 to the year ended December 31, 2013 primarily due to foreign currency translation losses on debt and decreases in other miscellaneous income.

2012 vs. 2011

• Loan fees decreased $5.1 million, or 67.3%, from the year ended December 31, 2011 to the year ended December 31, 2012, due to a $2.3 million decrease in due diligence fees, $2.0 million decrease in line of credit fees, and a $2.2 million decrease in unused line fees. The overall decrease in loan fees is primarily a result of transferring loan administration functions to ~~the~~CapitalSource Bank in early 2012, which was partially offset by a $1.4 million increase in legal, wire and late fees.

•

Gains on investments, net decreased $46.5 million, or 86.3%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to a $19.6 million decrease in income related to investment securities measured on a cost-basis, a $14.4 million decrease from a combination of dividends and gains on disposal of equity investments, and a $12.5 million decrease related to valuation adjustments on available-for-sale securities.


•	Loss on derivatives decreased $6.8 million, or 105.2%, from a loss of $6.5 million for the year ended December 31, 2011 to a gain of $0.3 million for the year ended December 31, 2012. This decrease is primarily due to a reduction in the total notional balance outstanding as $1.0 billion notional derivatives which were terminated in the first quarter 2012.


•	Gain on sale of assets decreased $8.8 million, or 73.7%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to lower gains on sales of loans offset by valuation adjustments to existing loans held for sale.

• Intercompany loan referral revenue decreased $649.0 million from the year ended December 31, 2011 to the year ended December 31, 2012, ~~primarily~~ due to ~~certain~~ loan origination and other administrative functions moving from the Parent Company to ~~the~~CapitalSource Bank.

• ~~All~~Loan ~~other~~servicing ~~non-interest~~revenue ~~income~~ decreased $496.70 million, or 9798.90%, from the year ended December 31, 2011 to the year ended December 31, 2012, ~~primarily~~as ~~due to a decrease of $49.0 million in intercompany revenue since~~ the Parent Company had previously provided loan ~~referral~~ services to ~~the~~CapitalSource Bank and was compensated for those services.

~~2011 vs. 2010~~40

• Loan fees decreased $6.8 million, or 47.5%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due to a $3.8 million decrease in collateral management fees and a $2.9 million decrease in unused line fees. The fees decreased due to early pay offs and charge-offs on loans held for investment.

• Gains on investments, net decreased $0.2 million, or 0.4%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due to a $13.6 million decrease in dividends received and $7.2 million decrease related to investments securities measured on cost-basis. The decreases were offset by a $11.0 million increased gains on equity investment securities and a $10.0 million increase in valuation adjustments and gains on sales of available-for-sale securities.

• Gain on sale of assets increased $36.0 million, or 150.0%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due to a $32.4 million decrease in losses related to market adjustments of held-for-sale loans, $3.3 million decrease in losses on loan sales, and $0.3 million net gains from the sale of other company assets during 2011.

• All other non-interest income decreased $6.7 million, or 11.7%, from the year ended December 31, 2010 to the year ended December 31, 2011. There was a $17.8 million decrease in gains on transactions from the complete divestiture of the remaining assets in the Bank's former Healthcare Net Lease segment and deconsolidation of the 2006-A term debt securitization. In addition, the Bank experienced a $11.8 million decrease in foreign currency translations losses, a $4.4 million decrease in acquisition gains arising from the purchase of a non-bank SBA license and servicing rights associated with the acquired portfolio, and a $4.4 million decrease due to reduced equity earnings in subsidiaries. These decreases were partially offset by a $27.8 million increase in intercompany loan referral revenue from the Bank and other servicing revenue, and a $3.9 million increase attributed to leasing and subleasing arrangements.

Non-Interest Expense

	Year Ended December 31,									~~2012~~2013 vs. ~~2011~~2012 % Change		~~2011~~2012 vs. ~~2010~~2011 % Change
	2012			2011			2010
	2013			2012			2011
	($ in thousands)
Compensation and benefits	$	~~3,013~~57		$	793,~~680~~013		$	7879,~~499~~680		(9698.21	)%	1(96.52	)%
Professional fees	~~7,186~~610			277,~~128~~186			3427,~~252~~128			(7391.5	)	(2073.85	)
Occupancy expenses	75,~~274~~580			87,~~947~~274			118,~~522~~947			(1823.73	)	(2218.37	)
General depreciation and amortization	21,~~539~~913			32,~~171~~539			43,~~273~~171			(1924.97	)	(2519.89	)
Intercompany loan servicing expense	18,325			12,647			21,081			44.9		(40.0	)
Loan servicing expense	10,205			18,325			12,647			(44.3	)	44.9
Other administrative expenses	1714,~~564~~420			2217,~~156~~564			1822,~~198~~156			(2017.79	)	21(20.7	)
Total operating expenses	5532,~~901~~785			~~153~~55,~~729~~901			~~167~~153,~~825~~729			(6341.64	)	(863.46	)
Expense of real estate owned and other foreclosed assets, net	4,621			26,591			109,839			(82.6	)	(75.8	)
(Gain) expense of real estate owned and other foreclosed assets, net	(382		)	4,621			26,591			108.3		82.6
(Gain) loss on extinguishment of debt	~~(8,059~~—		)	~~119~~(8,~~007~~059		)	~~(925~~119,007		)	(~~106~~100.80	)	~~(12,965~~106.68	)
Other non-operating expenses	(1,119		)	1,325			—			(184.5	)	100.0
Other non-operating expenses (income)	5,067			(1,119		)	1,325			552.8		(184.5	)
Total	$	5137,~~344~~470		$	~~300~~51,~~652~~344		$	~~276~~300,~~739~~652		(8227.90	)	8(82.69	)

2013 vs. 2012


•	Compensation and benefits decreased $3.0 million, or 98.1%, from the year ended December 31, 2012 to the year ended December 31, 2013, primarily due to the transfer of Parent Company employees to CapitalSource Bank on January 1, 2012.


•	Professional fees decreased $6.6 million, or 91.5%, from the year ended December 31, 2012 to the year ended December 31, 2013, primarily due to decreases in audit, accounting and legal fees as a result of the simplification and runoff of the Parent Company loan portfolio.


•	Occupancy expense decreased $1.7 million, or 23.3%, from the year ended December 31, 2012 to the year ended December 31, 2013 due to the reduction in Parent Company operations.


•	Loan servicing expenses decreased $8.1 million, or 44.3%, from the year ended December 31, 2012 to the year ended December 31, 2013, primarily due to a lower level of problem loans that required third party professional fees or special servicing, and increased reimbursements from borrowers on performing loans.


•	Other administrative expenses decreased $3.1 million from the year ended December 31, 2012 to the year ended December 31, 2013, primarily due to certain loan administrative functions moving from the Parent Company to CapitalSource Bank and the runoff of the Parent Company loan portfolio.


•	(Gain) expense of real estate owned and other foreclosed assets, net, increased $5.0 million, or 108.3%, from $(4.6) million for the year ended December 31, 2012 to $0.4 million for the year ended December 31, 2013, primarily due to a $2.0 million increase in realized gains, a $1.8 million reduction in impairment losses, and a $1.2 million reduction in related operating expenses.


•	We had no gains on extinguishment of debt for the year ended December 31, 2013 compared to gains of $8.1 million during December 31, 2012. The gains during 2012 were attributable to the repurchase of debt related to our TP Trusts 2005-1 and 2006-4 which resulted in a $8.2 million gain offset by a $0.1 million loss related to the repurchase of our 7.25% Convertible Debentures.


•	The increase in non-operating expense of $6.2 million, or 552.8% from the year ended December 31, 2012 to the year ended December 31, 2013 was primarily due to merger-related costs.

2012 vs. 2011


•	Compensation and benefits decreased $76.7 million, or 96.2%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to the transfer of Parent Company employees to CapitalSource Bank on January 1, 2012.

37• Professional fees decreased $19.9 million, or 73.5%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to an $11.1 million decrease in cost of services for loans, as a result of the servicing functions being transferred to CapitalSource Bank in early 2012. Audit, accounting, legal fees, and other such administrative fees decreased by approximately $8.8 million as the associated functions were transferred to CapitalSource Bank.

• ~~Professional~~Loan ~~fees~~servicing ~~decreased~~expenses increased $195.97 million, or 7344.59%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to anincreased ~~$11.1~~loan ~~million decrease in cost of services for loans, as a result of the~~ servicing ~~functions~~expenses ~~being~~reimbursable ~~transferred~~ to ~~the~~CapitalSource Bank ~~in early 2012~~. ~~Audit, accounting, legal fees, and other such administrative fees decreased by approximately $8.8 million as the associated functions were transferred to the Bank.~~

• Intercompany loan servicing expenses increased $5.7 million, or 44.9%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to increased loan servicing expenses reimbursable to the Bank.41

• Other administrative expenses decreased $4.6 million, or 20.7%, from the year ended December 31, 2011 to the year ended December 31, 2012, primarily due to certain loan administrative functions moving from the Parent Company to ~~the~~CapitalSource Bank.

• Expense of real estate owned and other foreclosed assets, net, decreased ~~$22.0 million, or 82.6%,~~ from $26.6 million for the year ended December 31, 2011 to $4.6 million for the year ended December 31, 2012, primarily due to a $14.9 million decrease in provision charge-offs and expenses related to foreclosed assets, $10.1 million decreases in unrealized losses and a $3.3 million decrease in operations and administrative expenses related to real estate owned properties. The overall decrease was partially offset by a $6.4 million increase in realized gains from real estate owned sales.

• ~~Gains~~Losses on extinguishment of debt were $8119.10 million for the year ended December 31, ~~2012,~~2011 compared to ~~losses~~gains of $~~119~~8.01 million ~~during~~for the year ended December 31, ~~2011~~2012. The gains during 2012 were attributable to the repurchase of debt related to our TP Trusts 2005-1 and 2006-4 which resulted in a $8.2 million gain offset by a $0.1 million loss related to the repurchase of our 7.25% Convertible Debentures. The losses during 2011 included a $111.8 million loss related to the repurchase of our 12.75% Senior Secured Notes and a $7.2 million loss related to the repurchase of our 7.25% Convertible Debentures.


•	The decrease in non-operating expense of $2.4 million, or 184.5% from the year ended December 31, 2011 to the year ended December 31, 2012 was primarily due to a change in the allowance for unfunded commitments.

~~2011 vs. 2010~~42

• Professional fees decreased $7.1 million, or 20.8%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due a $5.6 million decrease in cost of services for loans and a $1.5 million decrease in audit, accounting, legal fees, and other such administrative fees. The overall decrease was attributed to the Parent Company shifting operations and business towards the Bank.

• Occupancy expenses decreased $2.6 million, or 22.3%, from the year ended December 31, 2010 to the year ended December 31, 2011, as the Parent Company began shifting operations and business towards the Bank while operations in Chevy Chase, Maryland were being reduced.

• Intercompany loan servicing expenses decreased $8.4 million, or 40.0%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due to a decrease in the Parent Company loan portfolio size.

• Other administrative expenses increased $4.0 million, or 21.7%, from the year ended December 31, 2010 to the year ended December 31, 2011, primarily due to a $6.3 million increase in intercompany shared services expense, offset by a $2.3 million decrease in miscellaneous office and supplies related expenses.

• Gains on extinguishment of debt were $0.9 million for the year ended December 31, 2010 compared to losses of $119.0 million for the year ended December 31, 2011. The losses during 2011 included a $111.8 million loss related to the repurchase of our 12.75% Senior Secured Notes and a $7.2 million loss related to the repurchase of our 7.25% Convertible Debentures. The gains during 2010 were primarily attributable to the extinguishment of certain classes of our convertible debt.

• Expense of real estate owned and other foreclosed assets, net, decreased from $109.8 million for the year ended December 31, 2010 to $26.6 million for the year ended December 31, 2011, primarily due to a $32.1 million decrease in provision for losses related to loan assets acquired through foreclosure, a $21.1 million decrease in unrealized losses on real estate owned, a $13.1 million decrease in direct expenses related to real estate owned and other foreclosed assets and a $12.3 million decrease in real estate impairments.

Financial Condition

Consolidated

As of December 31, ~~2012~~2013 and ~~2011~~2012, our consolidated balance sheet included:

	December 31,
	2012			2011
	2013			2012
	($ in thousands)
Assets:
Cash and cash equivalents(1)	$	~~403~~514,~~130~~452		$	~~524~~403,~~032~~130
Investment securities, available-for-sale	1870,~~079,025~~482			1,~~188~~079,~~002~~025
Investment securities, held-to-maturity	~~108~~74,~~233~~369			~~111~~108,~~706~~233
Loans held for sale	~~22,719~~—			~~193~~22,~~021~~719
Loans held for investment, net(2)	6,~~139~~784,~~230~~489			56,~~690~~139,~~147~~230
Allowance for loan and lease losses	(~~117~~120,~~273~~520		)	(~~153~~117,~~631~~273		)
Interest receivable	2926,~~112~~068			3829,~~796~~112
Other investments(3)	6052,~~363~~124			8160,~~245~~363
Goodwill	173,135			173,135
Deferred tax assets, net(4)	362,283			45,445
Deferred tax assets, net	252,268			362,283
Other assets	~~289~~278,~~048~~623			~~408~~289,~~170~~048
Total	$	8,~~549~~905,~~005~~490		$	8,~~300~~549,~~068~~005
Liabilities:
Deposits	$	56,~~579~~127,~~270~~690		$	5,~~124~~579,~~995~~270
Borrowings	1,~~182~~037,~~926~~156			1,~~324~~182,~~493~~926
Other liabilities	~~161~~104,~~637~~017			~~275~~161,~~434~~637
Total	$	67,~~923~~268,~~833~~863		$	6,~~724~~923,~~922~~833

________________________

(1) As of December 31, ~~2012~~2013 and ~~2011~~2012, the amounts include restricted cash of $~~104~~58.07 million and $65104.50 million, respectively.


(2)	Includes deferred loan fees and discounts.


(3)	Includes investments carried at cost, investments carried at fair value and investments accounted for under the equity method.

(4) Includes short-term and long-term deferred income tax assets, net of related valuation allowance.

Cash and Cash Equivalents

Cash and cash equivalents consist of amounts due from banks, ~~U.S. Treasury securities,~~ short-term investments and commercial paper with an initial maturity of three months or less.

Investment Securities, Available-for-Sale and Held-to-Maturity

Included in investment securities, available-for-sale, were agency securities which included ~~Federal~~commercial ~~Home~~and ~~Loan~~residential ~~Bank~~mortgage ~~(“FHLB”)~~pass ~~issued~~through ~~callable~~securities and ~~non-callable~~collateralized ~~notes and commercial and residential~~ mortgage~~-backed~~ ~~securities~~obligations issued and guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae ("Agency MBS"); asset-backed securities; investments in a collateralized loan ~~obligation~~obligations ("CLOs"); ~~commercial and~~ residential mortgage-backed securities issued by non-government agencies (“Non-agency MBS”) and ~~U.S. Treasury and~~ agency asset-backed securities issued by the Small Business Administration (“SBA ABS”). CapitalSource Bank pledges a portion of its investment securities, available-for-sale, toas ~~the~~collateral ~~FHLB~~to ~~SF,~~ the ~~FRB~~Federal ~~and~~Reserve ~~various~~Bank ~~state~~of ~~and~~San ~~local~~Francisco ~~agencies~~Discount asWindow aand ~~source~~to ofthe ~~borrowing~~State ~~capacity as~~ of ~~December 31,~~California ~~2012. For additional information on our investment securities, available-~~for~~-sale,~~ ~~see~~deposits ~~Note 5,~~the ~~Investments,~~state inhas ~~our~~with ~~accompanying~~CapitalSource ~~audited~~Bank ~~consolidated~~as ~~financial~~of ~~statements for the year ended~~ December 31, ~~2012~~2013.

Investment securities, held-to-maturity, consists of non-agency commercial mortgage-backed securities rated BBAA+ or higher. CapitalSource Bank pledges a portion of its investment securities, held-to-maturity, to the FHLB SF and the FRB as collateral for current or future borrowings. ~~For additional information on our investment securities, held-to-maturity, see Note 5, Investments, in our accompanying consolidated financial statements for the year ended December 31, 2012.~~

39During 2013, we transferred certain investment securities, held-to-maturity, which consisted of collateralized loan obligations, to investment securities, available-for-sale. The CLOs were reclassified to available-for-sale due to the provisions of the Volcker Rule which prohibit banking entities from having ownership interests in "covered funds." As such, CapitalSource Bank would not be permitted to hold the CLOs to their contractual maturity.

	December 31,
	2012		2011
	($ in thousands)
Investment securities, available-for-sale:
Agency debt securities	$	983,521	$	1,056,828
Asset-backed securities	9,592		15,607
Collateralized loan obligations	26,250		17,763
Corporate debt	—		700
Equity securities	—		393
Municipal bond	—		3,235
Non-agency MBS	41,347		66,930
U.S. Treasury and agency securities	18,315		26,546
Total investment securities, available-for-sale	$	1,079,025	$	1,188,002
Investment securities, held-to-maturity:
Commercial mortgage-backed securities	$	108,233	$	111,706

For additional information on our investment securities, available-for-sale and held-to-maturity, see Note 4, Investments, in our accompanying consolidated financial statements for the year ended December 31, 2013.



	December 31,
	2013		2012
	($ in thousands)
Investment securities, available-for-sale:
Agency debt securities	$	784,240	$	983,521
Asset-backed securities	3,169		9,592
Collateralized loan obligations	47,337		26,250
Non-agency MBS	20,203		41,347
SBA asset-backed securities	15,533		18,315
Total investment securities, available-for-sale	$	870,482	$	1,079,025
Investment securities, held-to-maturity:
Commercial mortgage-backed securities	$	74,369	$	108,233

Investments by Maturity Dates

As of December 31, ~~2012~~2013, the carrying amounts, contractual maturities and weighted average yields of our investment securities were as follows:

	Due in One Year or Less			Due Between One and Five Years			Due Between Five and Ten Years(1)			Due after Ten Years(2)			Total
	($ in thousands)
Investment securities, available-for-sale:
Agency debt obligations	$	—		$	5,008		$	—		$	—		$	5,008
Agency debt securities	$	—		$	5,009		$	16,860		$	762,371		$	784,240
Agency MBS	—			—			18,561			959,952			978,513
Asset-backed securities	—			—			3,169			—			3,169
Asset-backed securities	—			—			9,592			—			9,592
Collateralized loan obligations	—			—			24,662			22,675			47,337
Collateralized loan obligations	—			—			—			26,250			26,250
Non-agency MBS	—			8,321			193			11,689			20,203
Non-agency MBS	—			—			13,815			27,532			41,347
SBA asset-backed securities	—			—			—			15,533			15,533
U.S. Treasury and agency securities	—			—			—			18,315			18,315
Total investment securities, available-for-sale	$	—		$	13,330		$	44,884		$	812,268		$	870,482
Total investment securities, available-for-sale	$	—		$	5,008		$	41,968		$	1,032,049		$	1,079,025
Weighted average yield	—		%	4.60		%	3.43		%	2.31		%	2.40		%
Weighted average yield(3)	—		%	2.48		%	6.19		%	2.33		%	2.48		%
Investment securities, held-to-maturity:
Commercial mortgage-backed securities	$	—		$	~~27,378~~—		$	5960,~~660~~396		$	2113,~~195~~973		$	~~108~~74,~~233~~369
Weighted average yield(3)	—		%	~~8.28~~—		%	1.6763		%	5.0517		%	42.0130		%

________________________

(1) Includes Agency ~~and~~debt securities, Non-agency MBS, Non-agency ABS, Non-agency CMBS and CLO's with fair values of $1816.9 million, $0.2 million, $3.2 million, $60.6 million and $4324.17 million, respectively, and weighted average expected maturities of approximately 21.2394, ~~years~~1.83, 1.59, 0.41, and 24.8243 years, respectively, based on interest rates and expected prepayment speeds as of December 31, ~~2012~~2013.

(2) Includes Agency debt securities, SBA asset-backed securities, Non-agency MBS, ~~including~~Non-agency CMBS, and ~~collateralized~~CLO's ~~loan obligations~~ with fair values of $~~960~~762.04 million, $5015.5 million, $11.7 million, $14.9 million, and $2622.37 million, respectively, and weighted average expected maturities of approximately 24.906, ~~years~~6.70, 72.2101, ~~years~~2.66, and 27.07 years, respectively, based on interest rates and expected prepayment speeds as of December 31, ~~2012~~2013. ~~Includes securities with no stated maturity.~~

(3) Calculated based on the amortized costs of the individual securities and does not reflect any changes in fair value of our investment securities, available for sale, which were recorded in accumulated other comprehensive income (loss).

Actual maturities of these securities may differ from contractual maturity dates because issuers may have the right to call or prepay obligations.

4044

Loan Portfolio Composition

The outstanding unpaid principal balance of loans in our loan portfolio by category as of December 31, 2013, 2012, 2011, 2010, ~~2009~~ and ~~2008~~2009 was as follows:

	December 31,
	2012		2011		2010		2009		2008
	2013		2012		2011		2010		2009
	($ in thousands)
Commercial	$	3,~~594~~852,~~643~~537	$	3,~~491~~594,~~259~~643	$	43,~~159~~491,~~831~~259	$	4,~~919~~159,~~196~~831	$	54,~~966~~919,~~852~~196
Real estate	2,~~499~~865,~~567~~976		2,~~133~~499,~~210~~567		12,~~804~~133,~~087~~210		21,~~005~~804,~~247~~087		12,~~943~~005,~~970~~247
Real estate - construction	4565,~~020~~976		6545,~~678~~020		~~287~~65,~~854~~678		1287,~~211,468~~854		1,~~370~~211,~~653~~468
Total loans(1)	$	6,~~139~~784,~~230~~489	$	56,~~690~~139,~~147~~230	$	65,~~251~~690,~~772~~147	$	86,~~135~~251,~~911~~772	$	98,~~281~~135,~~475~~911

~~_______________________________________~~ _________________________________


(1)	Includes deferred loan fees and discounts. Excludes loans held for sale at lower of cost or fair value.

~~The~~As of December 31, 2013, the largest loan ~~was~~to one borrower amounted to $9783.37 million, ~~which~~or ~~represented~~ 1.62%, of ~~total~~our ~~loans,~~portfolio and ~~was~~the ~~part~~largest ~~of a total credit~~ relationship with anone ~~outstanding~~borrower ~~balance~~amounted ofto $~~110~~104.01 million, asor 1.5%, of ~~December 31,~~our ~~2012~~portfolio which was comprised of multiple loans.

As of December 31, ~~2012~~2013, we had a concentration of over 10% of our loan balances in two industries (as defined by the North American Industry Classification System, not underlying collateral). These industries and their respective percentage to total loans were as follows:

	Percentage of Total Loans
Health care and social assistance	2322.02%
Real estate and rental and leasing	1921.82%

The loans within these industries are to approximately ~~802~~830 borrowers located throughout the United States (47 states and the District of Columbia).

Loan Balances by Maturities

As of December 31, ~~2012~~2013, the contractual maturities of our loan portfolio were as follows:

Due in One Year or Less

Due After One to Five Years

Due After Five Years

Total

($ in thousands)

Commercial

~~374~~195,~~698~~357

2,~~551~~779,~~288~~565

~~668~~877,~~657~~615

3,~~594~~852,~~643~~537

Real estate

57196,~~057~~855

1,~~288~~722,~~683~~799

1946,~~153,827~~322

2,~~499~~865,~~567~~976

Real estate - construction

10,~~987~~069

1128,~~592~~755

2227,~~441~~152

4565,~~020~~976

Total(1)

~~442~~402,~~742~~281

34,~~851~~531,~~563~~119

1,~~844~~851,~~925~~089

6,~~139~~784,~~230~~489

_________________________


(1)	Includes deferred loan fees and discounts. Excludes loans held for sale at lower of cost or fair value.

Sensitivity in Loans to Changes in Interest Rates

As of December 31, ~~2012~~2013, the total amount of loans due after one year with predetermined interest rates and floating or adjustable interest rates were as follows:

	Loans with Predetermined Rates(1)		Loans with Floating or Adjustable Rates		Total
	($ in thousands)
Commercial	$	~~623~~705,~~629~~346	$	2,~~549~~928,~~325~~614	$	3,~~172~~633,~~954~~960
Real estate	1803,~~045,959~~109		1,~~387~~857,~~310~~184		2,~~433~~660,~~269~~293
Real estate - construction	~~1,723~~—		3255,~~310~~905		3455,~~033~~905
Total loans(2)	$	1,~~671~~508,~~311~~455	$	34,~~968~~841,~~945~~703	$	56,~~640~~350,~~256~~158

________________________

(1) Represents loans for which the interest rate is fixed ~~for the entire term of the loan~~.


(2)	Includes deferred loan fees and discounts. Excludes loans held for sale at lower of cost or fair value and loans on non-accrual status.

41As of December 31, 2013, approximately 78% of our accruing adjustable rate portfolio was subject to an interest rate floor. Due to low market interest rates as of December 31, 2013, substantially all loans with interest rate floors were bearing interest at such floors. The weighted average spread between the floor rate and the fully indexed rate on accruing loans was 0.94% as of December 31, 2013. To the extent the underlying indices subsequently increase, our interest yield on this portfolio will not rise as quickly due to the effect of the interest rate floors.

As of December 31, ~~2012~~2013, ~~approximately~~the ~~82%~~composition of our ~~accruing~~loan ~~adjustable~~balances ~~rate~~by ~~portfolio~~adjustable ~~was subject to an interest~~ rate ~~floor.~~index ~~Due to low market interest rates as of December 31, 2012, substantially all loans with interest rate floors were bearing interest at such floors. The weighted average spread between the floor rate~~ and ~~the~~by ~~fully~~loan ~~indexed~~type ~~rate on accruing loans~~ was ~~1.07%~~ as offollows: ~~December 31, 2012. To the extent the underlying indices subsequently increase, our interest yield on this portfolio will not rise as quickly due to the effect of the interest rate floors.~~

As of December 31, 2012, the composition of our loan balances by adjustable rate index and by loan type was as follows:



	Loan Type						Total		Percentage
	Commercial		Real Estate		Real Estate - Construction		Total		Percentage
	($ in thousands)
1-Month LIBOR	$	1,556,521	$	1,434,731	$	28,754	$	3,020,006	45	%
2-Month LIBOR	32,942		—		—		32,942		—
3-Month LIBOR	1,068,742		167,167		—		1,235,909		19
6-Month LIBOR	50,182		79,786		—		129,968		2
6-Month EURIBOR	—		4,010		—		4,010		—
Prime	325,404		228,337		27,152		580,893		9
Other	49,000		44,679		—		93,679		1
Treasuries	708		20,020		—		20,728		—
Total adjustable rate loans	3,083,499		1,978,730		55,906		5,118,135		76
Fixed rate loans⁽¹⁾	715,832		849,682		—		1,565,514		23
Loans on non-accrual status	53,206		37,564		10,070		100,840		1
Total loans⁽²⁾	$	3,852,537	$	2,865,976	$	65,976	$	6,784,489	100	%

________________________

	Loan Type						Total		Percentage
	Commercial		Real Estate		Real Estate - Construction
	($ in thousands)
1-Month LIBOR	$	1,356,167	$	978,701	$	11,592	$	2,346,460	38	%
2-Month LIBOR	38,389		778		—		39,167		1
3-Month LIBOR	775,026		135,760		—		910,786		15
6-Month LIBOR	118,918		66,165		—		185,083		3
6-Month EURIBOR	—		4,090		—		4,090		—
Prime	574,533		181,931		20,718		777,182		13
Other	28,233		47,706		—		75,939		1
Treasuries	—		10,672		—		10,672		—
Total adjustable rate loans	2,891,266		1,425,803		32,310		4,349,379		71
Fixed rate loans	623,977		1,046,889		1,723		1,672,589		27
Loans on non-accrual status	79,400		26,875		10,987		117,262		2
Total loans(1)	$	3,594,643	$	2,499,567	$	45,020	$	6,139,230	100	%


(1)	Includes $655.9 million of loans that are in their introductory fixed rate period. For the majority of these loans, the fixed interest rate is higher than the fully indexed rate at December 31, 2013.

(12) Includes deferred loan fees and discounts. Excludes loans held for sale at lower of cost or fair value.

Credit Quality and Allowance for Loan and Lease Losses

We maintain a comprehensive credit policy manual that is supplemented by specific loan product underwriting guidelines. Among other things, the credit policy manual sets forth requirements that meet the regulations enforced by both the FDIC and the ~~DFI~~DBO. Several examples of such requirements are the loan-to-value limitations for real estate secured loans, various real estate appraisal and other third-party reports standards, and collateral insurance requirements.

Our underwriting guidelines outline specific underwriting standards and minimum specific risk acceptance criteria for each lending product offered, including the use of interest reserves. For additional information, see Credit Risk Management within this section.

Real estate - construction loans

In prior years, real estate construction loans comprised a greater portion of our loan portfolio. At December 31, ~~2012~~2013, real estate construction loans were $4566.36 million, or 01.70% of total loans. By comparison, at the end of 2010, real estate construction loans were $1.4 billion, or 14.8% of total loans. We ~~have~~Loans ~~reduced~~secured ~~our~~by real estate construction ~~lending~~projects ~~activity~~generally ~~because~~have wea ~~consider~~greater degree of risk than real estate ~~construction~~ loans tosecured beby aimproved ~~higher~~property with in-~~risk~~place ~~loan~~cash ~~type~~flows, and ~~because~~as ofsuch, ~~our~~loans ~~view~~secured ~~that~~by ~~these~~construction ~~loans~~projects ~~are~~require ~~higher~~an ~~risk~~increased level of loan servicing and monitoring. Because of this, we are providing additional disclosure of the policies and procedures related to our real estate construction loan portfolio.

The objective of our servicing procedures for real estate construction loans is to maintain the proper relationship between the loan amount funded and the value of the collateral securing the loan. The primary servicing tasks include, but are not limited to:


•	Monitoring construction of the project to evaluate the work in place, quality of construction (compliance with plans and specifications) and adequacy of the budget to complete the project. We generally use a third party consultant for this evaluation, but also maintain frequent contact with the borrower to obtain updates on the project.


•	Monitoring, where applicable, the leasing or unit sales activity compared to market leasing or market unit sales and compared to the underwritten leasing or unit sales actively.


•	Monitoring compliance with the terms and conditions of the loan agreement, which contains important construction and leasing provisions.


•	Reviewing and approving advance requests per the loan agreement which establishes the frequency, conditions and process for making advances. Typically, each loan advance is conditioned upon funding only for work in place, certification by the construction consultant, and sufficient funds remaining in the loan budget to complete the project.

Most of our of real estate construction loans include an interest reserve that is established upon origination of the loan. We recognize interest income from the reserve during the construction period as long as the interest is deemed collectible. Our risk assessment policies and procedures require that the assignment of a risk rating consider whether the capitalization of interest may be masking other performance related issues. We consider the status of the construction project securing our loan, including its leasing or sales activity (where applicable), relative to our expectations for the status of the project during our initial underwriting. The adequacy of the interest reserve generally is evaluated each time a risk rating conclusion is required or rendered with particular attention paid to the underlying value of the collateral and its ongoing support of the transaction.

In considering the performing status of a real estate construction loan, the current payment of interest, whether in cash or through an interest reserve, is only one of the factors used in our analysis. Our impairment analysis generally considers the loan's maturity, the likelihood of a restructuring of the loan and if that restructuring constitutes a ~~troubled debt restructuring~~TDR, whether the borrower is current on interest and principal payments, the condition of underlying assets and the ability of the borrower to refinance the loan at market terms. Although an interest reserve may mitigate a delinquency that could cause impairment, other issues with the loan or borrower (~~like~~for example, the project's progress compared to underwriting and the market in which the project is located) may lead to an impairment determination. Impairment is then measured based on a fair market or discounted cash flow value to assess the current value of the loan relative to the principal balance. If the valuation analysis indicates that repayment in full is doubtful, the loan will be placed on non-accrual status and designated as non-performing.

Obtaining updated third-party valuations is considered when significant negative variances to expected performance exist. Generally, our policy on updating appraisals is to obtain current appraisals subsequent to the impairment date if there are significant changes to the market conditions for the underlying assumptions from the most recent appraisal. Some factors that could cause significant changes include the passage of more than twelve months since the time of the last appraisal; the volatility of the local market; the availability of financing; the number of competing properties; new improvements to or lack of maintenance of the subject property or competing surrounding properties; a change in zoning; environmental contamination; or failure of the project to meet material assumptions of the original appraisal.

The following table presents the balance of non-performing real estate - construction loans and the cumulative capitalized interest on our real estate - construction loan portfolio as of the date of the balance sheet:

	December 31,
	2012(1)			2011
	2013(1)			2012
	($ in thousands, except percentages)
Total real estate - construction loans(2)	$	45,315		$	66,285
Total real estate - construction loans(2)(3)	$	66,646		$	45,315
Non-performing	1110,~~317~~400			5411,~~960~~317
% of total real estate - construction	2515.06		%	8225.90		%
Cumulative capitalized interest	$	1011,~~890~~086		$	1110,~~565~~890

_______________________________________

(1) As of December 31, ~~2012~~2013, 2three of the 2130 loans that comprise our real estate construction portfolio have been extended, renewed or restructured since origination. These modifications have occurred for various reasons including, but not limited to, changes in business plans and/or work-out efforts that were best achieved via a restructuring.

(2) We recognized interest income on the real estate construction loan portfolio of $12.9 million and $31.79 million for the years ended December 31, ~~2012~~2013 and ~~2011, respectively. Excludes deferred loan fees and discounts of $0.3 million and $0.6 million as of December 31,~~ 2012 ~~and 2011~~, respectively.


(3)	Excludes deferred loan fees and discounts of $0.7 million and $0.3 million as of December 31, 2013 and 2012, respectively.

Non-performing loans

The outstanding unpaid principal balances of non-performing loans in our consolidated loan portfolio as of December 31, 2013, 2012, 2011, 2010, ~~2009~~ and ~~2008~~2009 were as follows:



	December 31,
	2013		2012		2011		2010		2009
	($ in thousands)
Non-accrual loans
Commercial	$	53,206	$	79,400	$	144,651	$	353,673	$	393,774
Real estate	37,564		26,875		101,453		129,700		202,476
Real estate - construction	10,070		10,987		24,087		181,762		446,601
Total loans on non-accrual	$	100,840	$	117,262	$	270,191	$	665,135	$	1,042,851
Accruing loans contractually past-due 90 days or more
Commercial	$	—	$	—	$	—	$	3,244	$	42,968
Real estate	—		—		5,603		6,238		—
Real estate - construction	—		—		—		39,606		23,701
Total accruing loans contractually past-due 90 days or more	$	—	$	—	$	5,603	$	49,088	$	66,669
Total non-performing loans
Commercial	$	53,206	$	79,400	$	144,651	$	356,917	$	436,742
Real estate	37,564		26,875		107,056		135,938		202,476
Real estate - construction	10,070		10,987		24,087		221,368		470,302
Total non-performing loans⁽¹⁾	$	100,840	$	117,262	$	275,794	$	714,223	$	1,109,520

	December 31,
	2012		2011		2010		2009		2008
	($ in thousands)
Non-accrual loans
Commercial	$	79,400	$	144,651	$	353,673	$	393,774	$	269,961
Real estate	26,875		101,453		129,700		202,476		54,116
Real estate - construction	10,987		24,087		181,762		446,601		85,016
Total loans on non-accrual(1)	$	117,262	$	270,191	$	665,135	$	1,042,851	$	409,093
Accruing loans contractually past-due 90 days or more
Commercial	$	—	$	—	$	3,244	$	42,968	$	7,329
Real estate	—		5,603		6,238		—		24,135
Real estate - construction	—		—		39,606		23,701		—
Total accruing loans contractually past-due 90 days or more	$	—	$	5,603	$	49,088	$	66,669	$	31,464
Total non-performing loans
Commercial	$	79,400	$	144,651	$	356,917	$	436,742	$	277,290
Real estate	26,875		107,056		135,938		202,476		78,251
Real estate - construction	10,987		24,087		221,368		470,302		85,016
Total non-performing loans	$	117,262	$	275,794	$	714,223	$	1,109,520	$	440,557

_______________________________________


(1)	Includes deferred loan fees and discounts. Excludes loans held for sale at lower cost or fair value.

The decrease in the non-performing loan balance from December 31, ~~2011~~2012 to December 31, ~~2012~~2013 is primarily due to payoffs, ~~charge~~and ~~offs,~~ sales ~~and~~of ~~foreclosures~~non-performing ~~on those~~ loans.

Additionally, certain loans within our portfolio have been identified as potential problem loans. Potential problem loans are loans that are not considered non-performing loans, as disclosed in the table above, or loans that have been restructured in a TDR, but loans where management is aware of information regarding potential credit problems of a borrower that leads to serious doubts as to the ability of such borrower to comply with the loan repayment terms. Such credit problems could eventually result in the loans being reclassified as non-performing loans. As of December 31, 2012 and 2011, we had $1.9 million and $4.8 million, respectively, in potential problem loans related to six and eleven, loans respectively, for which we have determined that it is probable that we will be unable to collect all principal and interest payments due in accordance with the contractual terms of the loan agreements, but we have concluded that repayment in full of the loans is fully supported by existing collateral or an enterprise valuation of the borrower in accordance with our most recent valuation analysis. 48

Additionally, certain loans within our portfolio have been identified as potential problem loans. Potential problem loans are impaired loans that have not been restructured in a TDR and are currently considered performing loans. Potential problem loans are loans where management is aware of information regarding potential credit problems of a borrower that leads to serious doubts as to the ability of such borrower to comply with the loan repayment terms. Such credit problems could eventually result in the loans being reclassified as non-performing loans. As of December 31, 2013 we had no potential problem loans. As of December 31, 2012, we had $1.9 million in potential problem loans related to six loans for which we have determined that it is probable that we will be unable to collect all principal and interest payments due in accordance with the contractual terms of the loan agreements, but we have concluded that repayment in full of the loans is fully supported by existing collateral or an enterprise valuation of the borrower in accordance with our most recent valuation analysis.

Delinquent loans

The following table presents the balance of the non-accrual and accruing loans that are delinquent as of the date of the balance sheet:

	December 31,
	2012		2011
	2013		2012
	($ in thousands)
Non-accrual loans
30-89 days delinquent	$	201,~~266~~417	$	420,~~317~~313
90+ days delinquent	4127,~~332~~635		9039,~~193~~094
Total delinquent non-accrual loans	$	61,598	$	94,510
Total delinquent non-accrual loans(1)	$	29,052	$	59,407
Accruing loans
30-89 days delinquent	$	~~4,285~~944	$	84,~~396~~153
90+ days delinquent	—		~~5,603~~—
Total delinquent accruing loans	$	4,285	$	13,999
Total delinquent accruing loans(1)	$	944	$	4,153

_______________________________________


(1)	Includes deferred loan fees and discounts.

Allowance for loan and lease losses

The activity in the allowance for loan and lease losses for the years ended December 31, 2013, 2012, 2011, 2010, ~~2009~~ and ~~2008~~2009 was as follows:



	Year Ended December 31,
	2013			2012			2011			2010			2009
	($ in thousands)
Balance as of beginning of year	$	117,273		$	153,631		$	329,122		$	586,696		$	423,844
Charge offs:
Commercial	(5,631		)	(74,827		)	(162,577		)	(145,681		)	(308,554		)
Real estate	(2,576		)	(11,765		)	(50,878		)	(112,504		)	(76,919		)
Real estate - construction	(229		)	(9,784		)	(32,787		)	(126,912		)	(204,381		)
Total charge offs	(8,436		)	(96,376		)	(246,242		)	(385,097		)	(589,854		)
Recoveries
Commercial	5,533			9,145			5,693			827			11,299
Real estate	367			13,075			12,128			97			16
Real estate - construction	—			—			1,105			6			46
Total recoveries	5,900			22,220			18,926			930			11,361
Net charge offs	(2,536		)	(74,156		)	(227,316		)	(384,167		)	(578,493		)
Charge offs upon transfer to held for sale	(14,748		)	(1,644		)	(41,160		)	(42,353		)	(33,907		)
Deconsolidation of 2006-A Trust	—			—			—			(138,134		)	—
Loan and lease loss provision (recovery):
General	5,520			(16,393		)	(122,970		)	(128,164		)	775,252
Specific	15,011			55,835			215,955			435,244			—
Total loan and lease loss provisions	20,531			39,442			92,985			307,080			775,252
Balance as of end of year	$	120,520		$	117,273		$	153,631		$	329,122		$	586,696
Allowance for loan and lease losses ratio	1.8		%	1.9		%	2.7		%	5.3		%	7.2		%
Loan and lease loss provision as a percentage of average loans outstanding	0.3		%	0.7		%	1.6		%	4.2		%	9.4		%
Net charge offs as a percentage of average loans outstanding	0.3		%	1.3		%	4.6		%	5.8		%	7.3		%

	Year Ended December 31,
	2012			2011			2010			2009			2008
	($ in thousands)
Balance as of beginning of year	$	153,631		$	329,122		$	586,696		$	423,844		$	138,930
Charge offs:
Commercial	(74,827		)	(162,577		)	(145,681		)	(308,554		)	(206,822		)
Real estate	(11,765		)	(50,878		)	(112,504		)	(76,919		)	(16,173		)
Real estate - construction	(9,784		)	(32,787		)	(126,912		)	(204,381		)	(49,188		)
Total charge offs	(96,376		)	(246,242		)	(385,097		)	(589,854		)	(272,183		)
Recoveries
Commercial	9,145			5,693			827			11,299			1,122
Real estate	13,075			12,128			97			16			—
Real estate - construction	—			1,105			6			46			161
Total recoveries	22,220			18,926			930			11,361			1,283
Net charge offs	(74,156		)	(227,316		)	(384,167		)	(578,493		)	(270,900		)
Charge offs upon transfer to held for sale	(1,644		)	(41,160		)	(42,353		)	(33,907		)	(20,991		)
Deconsolidation of 2006-A Trust	—			—			(138,134		)	—			—
Provision for loan and lease losses	39,442			92,985			307,080			775,252			576,805
Balance as of end of year	$	117,273		$	153,631		$	329,122		$	586,696		$	423,844
Allowance for loan and lease losses ratio	1.9		%	2.7		%	5.4		%	7.1		%	4.5		%
Provision for loan and lease losses as a percentage of average loans outstanding	0.7		%	1.6		%	4.2		%	9.4		%	6.1		%
Net charge offs as a percentage of average loans outstanding	1.3		%	4.6		%	5.8		%	7.3		%	3.1		%

The allowance for loan and lease losses allocated to each category of loans and the percentage of each category to our total loan portfolio as of December 31, 2013, 2012, 2011, 2010 and 2009 was as follows:

The allowance for loan and lease losses allocated to each category of loans and the percentage of each category to our total loan portfolio as of December 31, 2012, 2011, 2010, 2009 and 2008 was as follows:



	December 31,
	2013			2012			2011			2010			2009
	($ in thousands)
Allocation by Category
Commercial	$	67,438		$	64,494		$	103,327		$	229,144		$	261,392
Real estate	46,852			50,526			50,103			78,572			138,575
Real estate - construction	6,230			2,253			201			21,406			186,729
Total allowance for loan and lease losses	$	120,520		$	117,273		$	153,631		$	329,122		$	586,696
Percentage of ALLL to Total Loan Portfolio by Category
Commercial	1.8		%	1.8		%	3.0		%	5.5		%	5.3		%
Real estate	1.6		%	2.0		%	2.3		%	4.4		%	6.9		%
Real estate - construction	9.4		%	5.0		%	0.3		%	7.4		%	15.4		%
Total	1.8		%	1.9		%	2.7		%	5.3		%	7.2		%

	December 31,
	2012			2011					2010			2009			2008
	($ in thousands)
Allocation by Category
Commercial	$	64,494		$	103,327				$	229,144		$	261,392		$	306,505
Real estate	50,526			50,103					78,572			138,575			67,698
Real estate - construction	2,253			201					21,406			186,729			49,641
Total allowance for loan and lease losses	$	117,273		$	153,631				$	329,122		$	586,696		$	423,844
Percentage of ALLL to Total Loan Portfolio by Category
Commercial	1.8		%	3.0		%			5.5		%	5.3		%	5.1		%
Real estate	2.0		%	2.3		%			4.4		%	6.9		%	3.5		%
Real estate - construction	5.0		%	0.3		%			7.4		%	15.4		%	3.6		%
Total	1.9		%	2.7		%	100.0	%	5.3		%	7.2		%	4.6		%

Our allowance for loan and lease losses ~~decreased~~increased by $~~36.~~3.2 million to $~~117~~120.35 million as of December 31, ~~2012~~2013 from $~~153~~117.63 million as of December 31, ~~2011~~2012. This ~~decrease~~increase consisted of a $165.45 million ~~decrease~~increase in general reserves and a $192.93 million decrease in specific reserves on impaired loans. asThe ~~further~~increase ~~described~~in ~~below~~the general reserve is due to additional provisions relating to net loan growth. The decrease in the specific reserve resulted from charged off specific reserves that were previously in place exceeding new specific provisions for loan losses. The primary factors that influence increases and decreases in general reserves are the net loan portfolio increases or decreases from period to period and qualitative adjustments to the general reserve based on economic circumstances and our loan portfolio performance and composition trends.

As of December 31, 2012, the unpaid principal balance of non-impaired loans was $6.0 billion, and the associated general reserves were $110.8 million, representing an effective general reserve percentage of 1.9%. As of December 31, 2011, the unpaid principal balance of non-impaired loans was $5.3 billion, and the associated general reserves were $127.2 million, representing an effective general reserve percentage of 2.4%. The effective general reserve percentage was lower at December 31, 2012 than the prior year because the loan portfolio had more favorable credit performance attributes such as the following:

• The level at which loans were becoming newly impaired during 2012 was lower than during 2011;

• A greater portion of non-impaired loans were originated within the CapitalSource Bank segment, and CapitalSource Bank loan originations have performed better than those originated in 2007, 2006, and 2005;

• Certain loan types where we had experienced a disproportionately high degree of historical charge offs comprise a substantially lower amount of the non-impaired loans at the end of 2012; and

• The real estate loans in place at December 31, 2012 were predominately originated after 2008 and have performed substantially better than those originated in 2007, 2006, and 2005.

Impaired loans

We employ a quarterly process to both identify impaired loans and record appropriate specific reserves based on available collateral and other borrower-specific information. We consider a loan to be impaired when, based on current information, we determine that it is probable that we will be unable to collect all amounts due according to the contractual terms of the original loan agreement. In this regard, impaired loans include those loans where we expect to encounter a significant delay in the collection of, and/or shortfall in the amount of contractual payments due to us as well as loans that we have assessed as impaired, but for which we ultimately expect to collect all payments. Each quarter, we determine each impaired loan's fair value. The fair value is either i) the present value of payments expected to be received discounted at the loan's effective interest rate, ii) the fair value of the collateral for collateral dependent loans, or iii), the impaired loan's observable market price. Each impaired loan's fair value is compared to the recorded investment in the impaired loan. If a shortfall exists, a specific reserve is established. The specific reserves in place at each period end are directly related to the population of impaired loans in place at each period end.

As of December 31, ~~2012~~2013 and ~~2011~~2012, our non-impaired and impaired loan balances was as follows:

	December 31,
	2012			2011
	2013			2012
	($ in thousands)
Non-impaired loans
Unpaid principal balance	$	56,~~986~~728,~~768~~314		$	5,~~333~~986,~~669~~768
General reserves allocated	~~110~~116,~~790~~309			~~127~~110,~~183~~790
Effective reserve %	1.97		%	21.49		%
Impaired loans
Unpaid principal balance	$	~~206~~102,~~090~~205		$	~~425~~206,~~321~~090
Specific reserves allocated(1)	64,~~483~~211			266,~~448~~483
Original legal balance previously charged off(2)	~~162~~85,~~462~~392			~~191~~162,~~278~~462
Total cumulative charge offs and specific reserves	~~168~~89,~~945~~603			~~217~~168,~~726~~945
Legal balance	~~407~~223,~~147~~226			~~654~~407,~~642~~147
Expected total loss of the legal balance (%)	4140.51		%	3341.35		%

_______________________________________

(1) The decrease in specific reserves from December 31, ~~2011~~2012 to December 31, ~~2012~~2013 stems from the net effect of i) loan resolutions of impaired loans with existing specific reserves of $114.5 million, ii) reversals of specific reserves for loans impaired as of December 31, ~~2011~~2012 net of related ~~reversals or~~ charge offs of $131.90 million, and iii) new specific reserves net of related charge offs for loans new to impairment status during the year ended December 31, ~~2012~~2013 for $53.52 million. The specific reserves in place at December 31, ~~2012~~2013 and at December 31, ~~2011~~2012 reduce the carrying values of our impaired loans to the amounts we expect to collect.


(2)	The original legal balance of that portfolio had been previously charged off as collection was deemed remote for portions of these loans.

Adversely Classified Items Coverage Ratio

The Adversely Classified Items Coverage Ratio is a common regulatory metric used to assess the credit risk profile of a bank. The ratio compares the sum of the loans rated Substandard or Doubtful (plus any associated unfunded commitments, REO, foreclosed assets and investments rated Substandard) to the sum of the Tier 1 regulatory capital plus the allowance for loan and lease losses. As of December 31, ~~2012~~2013 and ~~2011~~2012, the ratio was 3215.17% and 6332.71%, respectively.



	December 31,
	2013			2012
	($ in thousands)

Substandard loans and associated unfunded commitments	$	225,340		$	355,884
REO and foreclosed assets	12,824			11,796
Substandard investment securities	—			39,105
Total classified items	$	238,164		$	406,785

Tier 1 capital	$	1,391,726		$	1,150,770
Allowance for loan and lease losses	120,520			117,273
Total Tier 1 capital plus allowance for loan and lease losses	$	1,512,246		$	1,268,043

Adversely classified items coverage ratio	15.7		%	32.1		%

	December 31,
	2012			2011
	($ in thousands)
Substandard loans and associated unfunded commitments	$	355,884		$	904,507
REO and foreclosed assets	11,796			39,740
Substandard investment securities	39,105			22,693
Total classified items	$	406,785		$	966,940
Tier 1 capital	$	1,150,770		$	1,363,967
Allowance for loan and lease losses	117,273			153,631
Total Tier 1 capital plus allowance for loan and lease losses	$	1,268,043		$	1,517,598
Adversely classified items coverage ratio	32.1		%	63.7		%

CapitalSource Bank Segment

As of December 31, ~~2012~~2013 and ~~2011~~2012, the CapitalSource Bank segment included:

	December 31,
	2012			2011
	2013			2012
	($ in thousands)
Assets:
Cash and cash equivalents(1)	$	~~230~~87,~~305~~312		$	~~317~~230,~~455~~305
Investment securities, available-for-sale	1870,~~052,775~~482			1,~~159~~052,~~119~~775
Investment securities, held-to-maturity	~~108~~74,~~233~~369			~~111~~108,~~706~~233
Loans held for sale	—			129,946
Loans held for investment, net(2)	6,698,093			5,618,810
Loans held for investment, net(2)	5,618,810			4,734,470
Allowance for loan and lease losses	(109,469		)	(98,905		)
Allowance for loan and lease losses	(98,905		)	(94,650		)
Interest receivable	25,787			24,598
Interest receivable	24,598			28,960
Other investments(3)	21,913			22,795
Other investments(3)	22,795			23,774
Goodwill	173,135			173,135
Deferred tax assets, net(4)	3,492			12,586
Deferred tax assets, net	—			3,492
FHLB SF stock	2831,~~200~~255			2728,~~792~~200
Other assets	~~206~~203,~~463~~752			~~168~~206,~~244~~463
Total	$	78,~~369~~076,~~901~~629		$	67,~~792~~369,~~537~~901
Liabilities:
Deposits	$	56,~~579~~127,~~270~~690		$	5,~~124~~579,~~995~~270
FHLB SF borrowings	~~595~~625,000			~~550~~595,000
Other borrowings	8581,~~179~~877			5185,~~548~~179
Total	$	6,~~259~~834,~~449~~567		$	56,~~726~~259,~~543~~449

_______________________________________

(1) As of December 31, ~~2012~~2013 and ~~2011~~2012, the amounts include restricted cash of $4842.26 million and $048.82 million, respectively.


(2)	Includes deferred loan fees and discounts.


(3)	Includes investments carried at cost, investments carried at fair value and investments accounted for under the equity method.

~~(4) Includes short-term and long-term deferred income tax assets, net of related valuation allowance.~~52

Cash and Cash Equivalents

Cash and cash equivalents consist of amounts due from banks, ~~U.S. Treasury securities,~~ short-term investments and commercial paper with an initial maturity of three months or less.

47Investment Securities, Available-for-Sale

Investment ~~Securities~~securities, ~~Available~~available-for-~~Sale~~sale, consists of Agency MBS, Non-agency MBS and ~~Held~~U.S. non-toagency MBS, U.S. agency securities, and collateralized loan obligations. CapitalSource Bank pledges a portion of its investment securities, available-~~Maturity~~for-sale, to the Federal Reserve Bank of San Francisco's Discount Window and to the State of California as collateral for deposits the state has with CapitalSource Bank as of December 31, 2013. For additional information, see Note 4, Investments, in our accompanying consolidated financial statements for the year ended December 31, 2013.

Investment ~~securities~~Securities, ~~available~~Held-for-sale, consists of Agency callable notes, Agency debt, Agency MBS, Non-agency MBS, and U.S. Treasury and agency securities. CapitalSource Bank pledged a portion of its investment securities, available-for-sale, to the FHLB SF, the FRB and various state and local agencies as a source of borrowing capacity as of December 31, 2012. For additional information, see Note 5, Investments, in our accompanying audited consolidated financial statements for the year ended December 31, 2012. -Maturity

Investment securities, held-to-maturity, consists of non-agency commercial mortgage-backed securities rated ~~BBB~~AA+ or higher. CapitalSource Bank pledges a portion of its investment securities, held-to-maturity, to the FHLB SF and the FRB as a source of borrowing capacity. For additional information on our investment securities, held-to-maturity, see Note 5, Investments, in our accompanying audited consolidated financial statements for the year ended December 31, 2012.

During 2013, we transferred certain investment securities, held-to-maturity, which consisted of collateralized loan obligations, to investment securities, available-for-sale. The CLOs were reclassified to available-for-sale due to the provisions of the Volcker Rule which prohibit banking entities from having ownership interests in "covered funds." As such, CapitalSource Bank would not be permitted to hold the CLOs to their contractual maturity.

For additional information on our investment securities, held-to-maturity, see Note 4 Investments, in our accompanying audited consolidated financial statements for the year ended December 31, 2013.

CapitalSource Bank Loan Portfolio Composition

As of December 31, ~~2012~~2013 and ~~2011~~2012, the composition of ~~the~~ CapitalSource Bank loan portfolio by loan type was as follows:

	December 31,
	2012				2011
	2013				2012
	($ in thousands)
Commercial	$	3,~~137~~792,~~863~~844	5657	%	$	23,~~640~~137,~~777~~863	56	%
Real estate	2,~~446~~849,~~914~~344		4342	%	2,~~082~~446,~~130~~914		43	%
Real estate - construction	3455,~~033~~905		1	%	1134,~~563~~033		1	%
Total(1)	$	56,~~618~~698,~~810~~093	100	%	$	45,~~734~~618,~~470~~810	100	%

_______________________________________


(1)	Includes deferred loan fees and discounts. Excludes loans held for sale at lower of cost or fair value.

CapitalSource Bank Loan Balances by Maturities

As of December 31, ~~2012~~2013, the contractual maturities of ~~the~~ CapitalSource Bank loan portfolio by loan type were as follows:

Due in One Year or Less

Due After One to Five Years

Due After Five Years

Total

($ in thousands)

Commercial

~~177~~151,~~569~~919

2,~~291~~763,~~664~~360

~~668~~877,~~630~~565

3,~~137~~792,~~863~~844

Real estate

40181,~~055~~192

1,~~253~~721,~~185~~948

1946,~~153,674~~204

2,~~446~~849,~~914~~344

Real estate - construction

—

1128,~~592~~754

2227,~~441~~151

3455,~~033~~905

Total loans(1)

~~217~~333,~~624~~111

34,~~556~~514,~~441~~062

1,~~844~~850,~~745~~920

56,~~618~~698,~~810~~093

_______________________________________


(1)	Includes deferred loan fees and discounts. Excludes loans held for sale at lower of cost or fair value.

CapitalSource Bank Sensitivity in Loans to Changes in Interest Rates

As of December 31, ~~2012~~2013, approximately 8178% of ~~the~~ CapitalSource Bank's accruing adjustable rate portfolio was subject to an interest rate floor. Due to low market interest rates as of December 31, ~~2012~~2013, substantially all loans with interest rate floors were bearing interest at such floors. The weighted average spread between the floor rate and the fully indexed rate on accruing loans was 1.00% as of December 31, 2012. To the extent the underlying indices subsequently increase, CapitalSource Bank's interest yield on this portfolio will not rise as quickly due to the effect of the interest rate floors.

4853

Asbearing interest at such floors. The weighted average spread between the floor rate and the fully indexed rate on accruing loans was 0.93% as of December 31, ~~2012,~~2013. To the ~~composition~~extent ofthe underlying indices subsequently increase, CapitalSource Bank's ~~loan~~interest ~~balances~~yield byon ~~adjustable~~this ~~rate~~portfolio ~~index~~will ~~and~~not byrise ~~loan~~as ~~type~~quickly ~~was~~due asto ~~follows:~~the effect of the interest rate floors.

	Loan Type						Total		Percentage
	Commercial		Real Estate		Real Estate - Construction
	($ in thousands)
1-Month LIBOR	$	1,218,673	$	978,447	$	11,592	$	2,208,712	39	%
2-Month LIBOR	38,389		778		—		39,167		1	%
3-Month LIBOR	698,847		134,551		—		833,398		15	%
6-Month LIBOR	118,918		66,165		—		185,083		3	%
6-Month EURIBOR	—		4,090		—		4,090		—	%
Prime	376,385		181,919		20,718		579,022		10	%
Other	28,237		47,706		—		75,943		1	%
Treasuries	—		10,672		—		10,672		1	%
Total adjustable rate loans	2,479,449		1,424,328		32,310		3,936,087		70	%
Fixed rate loans	626,227		1,012,772		1,723		1,640,722		29	%
Loans on non-accrual status	32,187		9,814		—		42,001		1	%
Total loans(1)	$	3,137,863	$	2,446,914	$	34,033	$	5,618,810	100	%

As of December 31, 2013, the composition of CapitalSource Bank's loan balances by adjustable rate index and by loan type was as follows:



	Loan Type						Total		Percentage
	Commercial		Real Estate		Real Estate - Construction		Total		Percentage
	($ in thousands)
1-Month LIBOR	$	1,541,550	$	1,434,695	$	28,754	$	3,004,999	45	%
2-Month LIBOR	32,941		—		—		32,941		—	%
3-Month LIBOR	1,068,742		166,319		—		1,235,061		20	%
6-Month LIBOR	50,182		79,767		—		129,949

Filing Compare · CAPITALSOURCE INC