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

First BanCorp.

(Exact name of registrant as specified in its charter)

Puerto Rico		66-0561882
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)
1519 Ponce de León Avenue, Stop 23
Santurce, Puerto Rico		00908
(Address of principal office)		(Zip Code)

Registrant’s telephone number, including area code:

Securities registered under Section 12(b) of the Act:

Securities registered under Section 12(g) of the Act:

     Indicate by check mark if the registrant is a well known seasoned issuer, as defined in Rule 405 of the Securities Act. Yesþ Noo

     Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15 (d) of the Act. Yeso Noþ

     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. Yeso Noþ

     Indicate by check mark if disclosure of delinquent filer pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definite 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, or a non-accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Large Accelerated Filerþ            Accelerated Filero            Non-Accelerated Filero

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yeso Noþ

     The aggregate market value of the voting common stock held by nonaffiliates of the registrant as of June 30, 2006 (the last day of the registrant’s most recently completed second quarter) was $766,412,000 based on the closing price of $9.30 per share of common stock on the New York Stock Exchange on June 30, 2006 (see Note 1 below).

     The number of shares outstanding of the registrant’s common stock, as of December 31, 2006 was:

Common stock, par value $1.00 – 83,254,056

     Note 1-The registrant had no nonvoting common equity outstanding as of June 30, 2006. In calculating the aggregate market value of the common stock held by nonaffiliates of the registrant, registrant has treated as common stock held by affiliates only common stock of the registrant held by its principal executive officer and voting stock held by the registrant’s employee benefit plans. The registrant’s response to this item is not intended to be an admission that any person is an affiliate of the registrant for any purposes other than this response.

 

 

FIRST BANCORP
2006 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS

EXPLANATORY NOTE
PART I
Item 1. Business	5
Item 1A. Risk Factors	25
Item 1B. Unresolved Staff Comments	29
Item 2. Properties	29
Item 3. Legal Proceedings	29
Item 4. Submission of Matters to a Vote of Security Holders	29
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	29
Item 6. Selected Financial Data	32
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations	33
Item 7A. Quantitative and Qualitative Disclosures About Market Risk	86
Item 8. Financial Statements and Supplementary Data	86
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	86
Item 9A. Controls and Procedures	87
PART III
Item 10. Directors and Executive Officers of the Registrant	92
Item 11. Executive Compensation	100
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	113
Item 13. Certain Relationships and Related Transactions	117
Item 14. Principal Accountant Fees and Services	117
PART IV
Item 15. Exhibits and Financial Statement Schedules	119
SIGNATURES
EX-14.4 INDEPENDENCE PRINCIPLES FOR DIRECTORS OF FIRST BANCORP
EX-31.1 SECTION 302, CERTIFICATION OF THE CEO
EX-31.2 SECTION 302, CERTIFICATION OF THE CFO
EX-32.1 SECTION 906, CERTIFICATION OF THE CEO
EX-32.2 SECTION 906, CERTIFICATION OF THE CFO

EXPLANATORY NOTE

     As a result of the delay in completing First BanCorp’s (or the “Corporation”) amended Annual Report on Form 10-K for the year ended December 31, 2004, which included the restatement of the Corporation’s audited financial statements for the years ended December 31, 2004, 2003 and 2002, and the unaudited selected quarterly financial data for each of the quarters of 2004 and 2003, First BanCorp was unable to timely file with the Securities and Exchange Commission (“SEC”) this Annual Report on Form 10-K and the Quarterly Reports on Form 10-Q for the fiscal quarters ended March 31, 2007, September 30, 2006, June 30, 2006, March 31, 2006, September 30, 2005 and June 30, 2005. For information regarding the restatement of First BanCorp’s previously issued financial statements, see the Corporation’s Amendment No. 1 to Annual Report on Form 10-K/A (“Amended 2004 Form 10-K”) for the year ended December 31, 2004, which was filed with the SEC on September 26, 2006. The Annual Report on Form 10-K for the year ended December 31, 2005 (the “2005 Form 10-K), was filed with the SEC on February 9, 2007.

Forward Looking Statements

          This Form 10-K contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. When used in this Form 10-K or future filings by First BanCorp with the Securities and Exchange Commission, in the Corporation’s press releases or in other public or shareholder communications, or in oral statements made with the approval of an authorized executive officer, the word or phrases “would be,” “will allow,” “intends to,” “will likely result,” “are expected to,” “should,” “anticipate” and similar expressions are meant to identify “forward-looking statements.”

          First BanCorp wishes to caution readers not to place undue reliance on any such “forward-looking statements,” which speak only as of the date made, and represent First BanCorp’s expectations of future conditions or results and are not guarantees of future performance. First BanCorp advises readers that various factors could cause actual results to differ materially from those contained in any “forward-looking statement.” Such factors include, but are not limited to, the following:

	•		risks associated with the Corporation’s inability to prepare and timely submit regulatory filings;
	•		the Corporation’s ability to attract new clients and retain existing ones;
	•		general economic conditions, including prevailing interest rates and the performance of the financial markets, which may affect demand for the Corporation’s products and services and the value of the Corporation’s assets, including the value of the interest rate swaps that hedge the interest rate risk mainly relating to brokered certificates of deposit and medium-term notes;
	•		risks arising from worsening economic conditions in Puerto Rico;
	•		risks arising from credit and other risks of lending and investment activities;
	•		changes in the Corporation’s expenses associated with acquisitions and dispositions;
	•		developments in technology;
	•		risks associated with changing the Corporation’s business strategy to no longer acquire mortgage loans in bulk;
	•		risks associated with the ongoing SEC investigation;
	•		the completion of the sale of shares of common stock to Bank of Nova Scotia, which is conditioned on, among other things, regulatory approvals;
	•		the ability to finalize the settlement of the shareholder litigation;
	•		the impact of Doral’s financial condition on its repayment of its outstanding secured loan to FirstBank;
	•		risks associated with being subject to the cease and desist order;
	•		potential further downgrades in the credit ratings of the Corporation’s securities;
	•		general competitive factors and industry consolidation; and
	•		risks associated with regulatory and legislative changes for financial services companies in Puerto Rico, the United States, and the U.S. and British Virgin Islands.

          The Corporation does not undertake, and specifically disclaims any obligation, to update any “forward-looking statements” to reflect occurrences or unanticipated events or circumstances after the date of such statements except as required by the federal securities laws.

          Investors should carefully consider these factors and the risk factors outlined under Item 1A. Risk Factors, in this Annual Report on Form 10-K.

PART I

Item 1. Business

GENERAL

     First BanCorp (the “Corporation”) is a publicly-owned financial holding corporation that is subject to regulation, supervision and examination by the Federal Reserve Board. The Corporation was incorporated under the laws of the Commonwealth of Puerto Rico to serve as the bank holding company for FirstBank Puerto Rico (“FirstBank”). The Corporation is a full service provider of financial services and products with operations in Puerto Rico, the United States and the US and British Virgin Islands.

     The Corporation provides a wide range of financial services for retail, commercial and institutional clients. As of December 31, 2006, the Corporation controlled four wholly-owned subsidiaries: FirstBank Puerto Rico (“FirstBank” or the “Bank”), FirstBank Insurance Agency, Inc., Grupo Empresas de Servicios Financieros (d/b/a “PR Finance Group”) and Ponce General Corporation, Inc. (“Ponce General”). FirstBank is a Puerto Rico-chartered commercial bank, FirstBank Insurance Agency is a Puerto Rico-chartered insurance agency, PR Finance Group is a domestic corporation and Ponce General is the holding company of a federally chartered stock savings association, FirstBank Florida. FirstBank is subject to the supervision, examination and regulation of both the Office of the Commissioner of Financial Institutions of the Commonwealth of Puerto Rico (“OCIF”) and the Federal Deposit Insurance Corporation (the “FDIC”). Deposits are insured through the FDIC Deposit Insurance Fund. Within FirstBank, there are two separately regulated businesses: (1) the Virgin Islands operations; and (2) the Miami loan agency. The U.S. Virgin Islands operations of FirstBank are subject to regulation and examination by the United States Virgin Islands Banking Board, and the British Virgin Islands operations are subject to regulation by the British Virgin Islands Financial Services Commission. FirstBank’s loan agency in the State of Florida is regulated by the Office of Financial Regulation of the State of Florida, the Federal Reserve Bank of Atlanta and the Federal Reserve Bank of New York. As of December 31, 2006, the Corporation had total assets of $17.4 billion, total deposits of $11.0 billion and total stockholders’ equity of $1.2 billion.

     FirstBank Insurance Agency is subject to the supervision, examination and regulation of the Office of the Insurance Commissioner of the Commonwealth of Puerto Rico. PR Finance Group is subject to the supervision, examination and regulation of the Office of the Commissioner of Financial Institutions of the Commonwealth of Puerto Rico. FirstBank Florida is subject to the supervision, examination and regulation of the Office of Thrift Supervision (the “OTS”).

     As of December 31, 2006, FirstBank conducted its business through its main office located in San Juan, Puerto Rico, forty-eight full service banking branches in Puerto Rico, fourteen branches in the United States Virgin Islands (USVI) and British Virgin Islands (BVI) and a loan agency in Coral Gables, Florida (USA). FirstBank had four wholly-owned subsidiaries with operations in Puerto Rico: First Leasing and Rental Corporation, a vehicle leasing and daily rental company with eight offices in Puerto Rico; First Federal Finance Corp. (d/b/a Money Express La Financiera), a finance company with thirty-nine offices in Puerto Rico; First Mortgage, Inc., a residential mortgage loan origination company with thirty five offices in FirstBank branches and at stand alone sites; and FirstBank Overseas Corporation, an international banking entity organized under the International Banking Entity Act of Puerto Rico. FirstBank had two subsidiaries with operations outside of Puerto Rico; First Insurance Agency VI, Inc., an insurance agency with four offices that sells insurance products in the USVI and First Express, a finance company specializing in the origination of small loans with four offices in the USVI.

Business combinations

     On March 31, 2005, the Corporation completed the acquisition of 100% of the outstanding common shares of Ponce General Corporation, the holding company of FirstBank Florida (formerly known as Unibank) and Ponce Realty. The purpose of the acquisition was to build a platform in Florida from which to initiate further expansion into the United States. As of the acquisition date, excluding the effect of purchase accounting entries, Ponce General had approximately $546.2 million in assets, $476.0 million in loans composed mainly of residential and commercial mortgage loans amounting to approximately $425.8 million, commercial and construction loans amounting to approximately $28.2 million, consumer loans amounting to approximately $22.1 million and $439.1 million in deposits. The consideration consisted mainly of payments made to principal and minority shareholders of Ponce General’s outstanding common stock at acquisition date. This consideration along with other direct acquisition costs and liabilities incurred led to a total acquisition cost of approximately $101.9 million. The purchase price resulted in a premium of approximately $36 million that was mainly allocated to core deposit intangibles and goodwill.

     FirstBank Florida is a federally chartered stock savings association which is headquartered in Miami, Florida (USA) and currently is the only operating subsidiary of Ponce General. FirstBank Florida provides a wide range of banking services to

individual and corporate customers through its eight branches in Florida (USA).

BUSINESS SEGMENTS

     Based upon the Corporation’s organizational structure and the information provided to the Chief Operating Decision Maker and to a lesser extent the Board of Directors, the operating segments are driven primarily by the legal entities. The Corporation has four reportable segments: Commercial and Corporate Banking, Mortgage Banking, Consumer (Retail) Banking and Treasury and Investments. These segments are described below:

Commercial and Corporate Banking

     The Commercial and Corporate Banking segment consists of the Corporation’s lending and other services for large customers represented by the public sector and specialized and middle-market clients. The Commercial and Corporate Banking segment offers commercial loans, including commercial real estate and construction loans, and other products such as cash management and business management services. A substantial portion of this portfolio is secured by commercial real estate. Although commercial loans involve greater credit risk because they are larger in size and more risk is concentrated in a single borrower, the Corporation has and maintains an effective credit risk management infrastructure designed to mitigate potential losses associated with commercial lending, including strong underwriting and loan review functions, sales of loan participations and continuous monitoring of concentrations within portfolios.

Mortgage Banking

     The Mortgage Banking segment conducts its operations mainly through FirstBank and its mortgage origination subsidiary, FirstMortgage. These operations consist of the origination, sale and servicing of a variety of residential mortgage loans products. Originations are sourced through different channels such as branches and mortgage and real estate brokers, and in association with new project developers. FirstMortgage focuses on originating residential real estate loans, some of which conform to Federal Housing Administration (“FHA”), Veterans Administration (“VA”) and Rural Development (“RD”) standards. Loans originated that meet FHA standards qualify for the federal agency’s insurance program whereas loans that meet VA and RD standards are guaranteed by their respective federal agencies. Mortgage loans that do not qualify under these programs are commonly referred to as conventional loans. Conventional real estate loans could be conforming and non-conforming. Conforming loans are residential real estate loans that meet the standards for sale under the Fannie Mae and Freddie Mac programs whereas loans that do not meet the standards are referred to as non-conforming residential real estate loans. The Corporation’s strategy is to penetrate markets by providing customers with a variety of high quality mortgage products to serve their financial needs faster, simpler and at competitive prices. The Mortgage Banking segment also acquires and sells mortgages in the secondary markets. From time to time, residential real estate conforming loans are sold to secondary buyers like Fannie Mae and Freddie Mac.

Consumer

     The Consumer (Retail) segment consists of the Corporation’s consumer lending and deposit-taking activities conducted mainly through its branch network and loan centers. Loans to consumers include auto, credit card and personal loans. Deposit products include checking and savings accounts, Individual Retirement Accounts (IRA) and retail certificates of deposit. Retail deposits gathered through each branch of FirstBank’s retail network serve as one of the funding sources for the lending and investment activities.

     Consumer lending growth has been mainly driven by auto loan originations. The growth of this portfolio has been achieved through a strategy of providing outstanding service to selected auto dealers who provide the channel for the bulk of the Corporation’s auto loan originations. This strategy is directly linked to the Corporation’s commercial lending activities as the Corporation maintains strong and stable auto floor plan relationships, which is the foundation of a successful auto loan generation operation. The Corporation continues to strengthen the commercial relations with floor plan dealers, which directly benefit the Corporation’s consumer lending operation and are managed as part of the consumer banking activities.

     Personal loans and, to a lesser extent, marine financing and a small credit card portfolio also contribute to interest income generated on consumer lending. Management plans to continue to be active in the consumer loans market, applying the Corporation’s strict underwriting standards.

Treasury and Investments

     The Treasury and Investments segment is responsible for the Corporation’s investment portfolio and treasury functions designed to manage and enhance liquidity. This segment sells funds to the Commercial and Corporate Banking, Mortgage Banking, and Consumer Lending segments to finance their lending activities and purchases funds gathered by those segments.

The interest rates charged or credited by Treasury and Investments are based on market rates.

     For information regarding First BanCorp’s reportable segments, please refer to note 31 “Segment Information” to the Corporation’s financial statements for the year ended December 31, 2006 included in Item 8 of this Form 10-K.

Employees

     As of December 31, 2006, the Corporation and its subsidiaries employed 3,037 persons. None of its employees are represented by a collective bargaining group. The Corporation considers its employee relations to be good.

SIGNIFICANT EVENTS

Audit Committee Review

     As previously announced on August 1, 2005, the Audit Committee (the “Committee”) of the Corporation determined that it should review the background and accounting for certain mortgage-related transactions that FirstBank had entered into between 1999 and 2005. The Committee retained the law firms of Clifford Chance U.S. LLP and Martínez Odell & Calabria and forensic accountants FTI Consulting Inc. to assist the Committee in its review. Subsequent to the announcement of the review, a number of significant events occurred, including the announcement of the restatement and other events described below. In August 2006, the Committee completed its review and the Corporation filed the Amended 2004 Form 10-K with the SEC on September 26, 2006 and the 2005 Form 10-K on February 9, 2007.

Governmental Action

     SEC

	•		On August 23, 2005, the Corporation received a letter from the SEC in which the SEC indicated that it was conducting an informal inquiry into the Corporation. The inquiry pertains to, among other things, the accounting for mortgage-related transactions with Doral and R&G during the calendar years 1999 through 2005.
	•		On October 21, 2005, the Corporation announced that the SEC issued a formal order of investigation in its ongoing inquiry of the Corporation. The Corporation cooperated with the SEC in connection with the investigation.
	•		On September 26, 2006, the Corporation filed with the SEC the Amended 2004 Form 10-K which included restated financial information for the fiscal years 2000 through 2004.
	•		First BanCorp has been engaged in discussions with the staff of the SEC regarding a possible resolution to its investigation of the Corporation’s restatement, and has accrued $8.5 million in its consolidated financial statements for the year ended December 31, 2005 in connection with a potential settlement of the SEC’s investigation of the Corporation. Any settlement is subject to the approval of the Commissioners of the SEC. There can be no assurance that the Corporation’s efforts to resolve the SEC’s investigation with respect to the Corporation will be successful, or that the amount accrued will be sufficient, and the Corporation cannot predict at this time the timing or final terms of any settlement.
	•		On February 9, 2007, the Corporation filed with the SEC the 2005 Form 10-K.

     Banking Regulators

	•		Beginning in the Fall of 2005, the Corporation received inquiries from federal banking regulators regarding the status and impact of the restatement and related safety and soundness concerns.
	•		On December 6, 2005, the Commonwealth of Puerto Rico Commissioner of Financial Institutions (“the Commissioner”) determined that the Corporation had exceeded the lending limit requirements of Section 17(a) of the Puerto Rico Banking Law which governs the amount a bank may lend to a single person, group or related entity. The Puerto Rico Banking Law authorizes the Commissioner to determine other components which may be considered for purposes of establishing its lending limit, which components may lay outside the traditional elements mentioned in Section 17. After consideration of other components, the Commissioner authorized the Corporation to retain the secured loans to Doral and R&G as it believed that these loans were secured by sufficient collateral to diversify, disperse and significantly diffuse the risks connected to such loans thereby satisfying the safety and soundness considerations mandated by Section 28 of the Puerto Rico Banking Law.

	•		On December 7, 2005, the Corporation was advised by the FDIC that the revised classification of the mortgage-related transactions for accounting purposes resulted in such transactions being viewed for regulatory capital purposes as commercial loans to mortgage companies rather than mortgage loans secured by one-to-four family residential properties. As such, these loans must be classified for capital purposes at the 100% level rather than at the 50% level that the Corporation had used. The change in risk weight for these loans, coupled with the losses generated from the inability to use the short-cut method of accounting for the interest rate swaps that hedged the interest rate risk on brokered certificates of deposit and medium-term notes, caused FirstBank to become less than well-capitalized. FirstBank then advised the FDIC that pursuant to regulatory requirements, the revised classification of the mortgage transactions and the correction of the accounting for the interest rate swaps would cause FirstBank to be slightly below the well-capitalized level, within the meaning established by the FDIC. On March 17, 2006, the Corporation announced that FirstBank had returned to the well-capitalized level. The Corporation made a cash contribution to FirstBank in the amount of $110 million which along with the partial payment made by R&G (described below under Business Developments) contributed to the return to a well-capitalized level.
	•		In reaction to these earlier events, in February 2006, the Office of Thrift Supervision (“OTS”) imposed restrictions on FirstBank Florida. Under these restrictions, FirstBank Florida cannot make any payments to the Corporation or its affiliates pursuant to a tax-sharing agreement nor can FirstBank Florida employ or receive consultative services from an executive officer of the Corporation or its affiliates without the prior written approval of OTS’ Regional Director. Additionally, FirstBank Florida cannot enter into any agreement to sell loans or any portions of any loans to the Corporation or its affiliates nor can FirstBank Florida make any payment to the Corporation or its affiliates via an intercompany account or arrangement unless pursuant to a pre-existing contractual agreement for services rendered in the normal course of business. Also, FirstBank Florida cannot pay dividends to its parent, Ponce General, a wholly owned subsidiary of First BanCorp, without prior approval from the OTS.
	•		On March 17, 2006, the Corporation announced that it had agreed with the Board of Governors of the Federal Reserve System to a cease and desist order issued with the consent of the Corporation (the “Consent Order”). The Consent Order addresses certain concerns of banking regulators relating to the incorrect accounting for and documentation of mortgage-related transactions with Doral and R&G. The Corporation had initially reported those transactions as purchases of mortgage loans when they should have been accounted for as secured loans to the financial institutions because, as a legal matter, they did not constitute “true sales” but rather financing arrangements. The Corporation also announced that FirstBank had entered into a similar agreement with the FDIC and the Commissioner (referred to together with the Consent Orders as the “Consent Orders”). The agreements, signed by all parties involved, did not impose any restrictions on the Corporation’s or FirstBank’s day-to-day banking and lending activities.
			The Consent Orders with banking regulators imposed certain restrictions and reporting requirements on the Corporation and FirstBank. Under the Consent Orders, FirstBank may not directly or indirectly enter into, participate in, or in any other manner engage in certain transactions with any affiliate without the prior written approval of the FDIC. The Consent Orders require the Corporation and FirstBank to take various affirmative actions, including engaging an independent consultant to review the mortgage portfolios and prepare a report including findings and recommendations, submitting capital and liquidity contingency plans, providing notice prior to the incurring of additional debt or the restructuring or repurchasing of debt, obtaining approval prior to purchasing or redeeming stock, filing amended regulatory reports upon completion of the restatement of financial statements, and obtaining regulatory approval prior to paying dividends after those payable in March 2006. The requirements of the Consent Orders have been substantially completed and reported to the regulators as required by the Consent Orders.
	•		FirstBank received a letter dated May 24, 2006 from the FDIC regarding FirstBank’s failure to file with the FDIC its Part 363 annual report for the fiscal year ended December 31, 2005. On June 12, 2006, FirstBank notified the FDIC that it intended to file an amended 2004 Part 363 annual report and its 2005 Part 363 annual report after the Corporation filed the 2005 Form 10-K with the SEC. On March 31, 2007, the Corporation notified the FDIC that the amended 2004 Part 363 annual report and the 2005 Part 363 annual report were available on the Corporation’s website.
	•		On May 31, 2006, the Corporation announced that its subsidiary, FirstBank, received a cash payment from Doral Financial Corporation (“Doral”) of approximately $2.4 billion, substantially reducing the balance in secured commercial loans resulting from the Corporation’s previously-announced revised classification of numerous mortgage-related transactions with Doral. In addition, FirstBank and Doral entered into a sharing agreement with respect to certain profits or losses that Doral incurs as part of the sales of the mortgages that previously collateralized the commercial loans, subject to a maximum reimbursement of $9.5 million, which will be reduced proportionately to the extent that Doral does not sell the mortgages. Given the difficulties that the Corporation’s largest borrowers have had, the Corporation can give no assurance that Doral will continue to repay their secured loans on a timely basis or that the Corporation will continue to be able to accurately assess any risk of loss from the loans to these financial institutions.
	•		Subsequent to the effectiveness of the Consent Orders, the Corporation and FirstBank have requested and obtained written approval from the Federal Reserve Board and the FDIC for the payment of dividends by FirstBank to its holding company, and for the payment of dividends by the Corporation to the holders of its preferred stock, common stock and trust preferred stock. The written approvals have been obtained in accordance with requirements of the Consent Orders.

	•		On August 29, 2006, the Corporation announced that its subsidiary, FirstBank, consented and agreed to the issuance of a cease and desist order by the FDIC relating to the Bank’s compliance with certain provisions of the Bank Secrecy Act (the “BSA Consent Order”). The BSA Consent Order requires FirstBank to take various affirmative actions, including that FirstBank operate with adequate management supervision and Board of Directors’ oversight to prevent any future unsafe or unsound banking practices or violations of law or regulation on BSA related matters; implement systems of internal controls, independent testing and training programs to ensure full compliance with BSA and laws and regulations enforced by the Office of Foreign Assets Control (“OFAC”); designate a BSA and OFAC Officer, and amend existing policies, procedures and processes relating to internal and external audits to review compliance with BSA and OFAC provisions as part of routine auditing; engage independent consultants to review account and transaction activity from June 1, 2005 to the effective date of the Order and to conduct a comprehensive review of FirstBank’s actions to implement the BSA Consent Order in order to assess the effectiveness of the policies, procedures and processes adopted by FirstBank; and appoint a compliance committee of the Board of Directors. Since the beginning of 2006, FirstBank has been refining core areas of its risk management and compliance systems, and beginning prior to this BSA Order, has instituted a significant number of measures required by the BSA Consent Order.
	•		On February 15, 2007, the Corporation entered into a mortgage payment agreement with R&G Financial Corporation (“R&G”) under which R&G paid down $50 million of the outstanding commercial loan with FirstBank resulting in a remaining balance of $271 million which the parties agreed to re-document as a secured loan. The agreement will enable the Corporation and FirstBank to fulfill the remaining requirement of the previously announced Consent Orders with banking regulators relating to the mortgage-related transactions that the Corporation recharacterized for accounting and legal purposes as commercial loans secured by the mortgage loans and pass-through trust certificates. In addition, various agreements that were executed for approximately $218 million of commercial loans secured by trust certificates were amended to allow both FirstBank and R&G Crown to treat these transactions as “true sale” for accounting and legal purposes, as such, these commercial loans secured by trust certificates were transferred to available-for-sale securities.

New York Stock Exchange Listing

•

On March 19, 2007, the Corporation received a letter from the New York Stock Exchange (“NYSE”) advising that the procedures in Section 802.01E of the Listed Company Manual are applicable to the Corporation as a result of the fact that it did not file with the Securities and Exchange Commission (the “SEC”) the Corporation’s Annual Report on Form 10-K for the fiscal year ended December 31, 2006 (the “2006 10-K”) by March 1, 2007, the date on which it was required to have been filed under Section 13 of the Securities Exchange Act of 1934. Among other things, the NYSE advised the Corporation that it will post the Corporation’s 2006 10-K to the annual late filers list on the Listing Standards Filing Status page on the NYSE’s website on March 22, 2007. The NYSE also advised the Corporation that, pursuant to Section 802.01E of the Listed Company Manual, the NYSE is closely monitoring the status of the Corporation’s late filing and, if the Corporation does not file the 2006 10-K within six months of the March 1, 2007 due date, the NYSE will determine whether to allow the Corporation’s securities to trade for up to an additional six months or to commence suspension and delisting procedures. With the filing of this 2006 10-K, the Corporation has complied with the six-month period provided for by Section 802.01E.

Recent Puerto Rico Legislation

	•		Act 41 of August 1, 2005 imposed a temporary additional tax of 2.5% on taxable income of all corporations operating in Puerto Rico. This temporary tax effectively increased the statutory tax rate from 39% to 41.5%. Act 41 is effective for taxable years commencing after December 31, 2004 and ended on or before December 31, 2006, and therefore is effective for the 2005 and 2006 taxable years with a retroactive effect to January 1, 2005. As of January 1, 2007 the statutory tax rate decreased to 39%.
	•		Act 89 of May 13, 2006 imposed a 2% additional income tax on income subject to regular taxes for all Puerto Rico corporations operating pursuant to Act 55 of 1933. Act 89 was effective for the taxable year commencing after December 31, 2005 and on or before December 31, 2006 and, therefore, increased the statutory tax for the 2006 taxable year to 43.5%. The statutory tax reverted to 39% for taxable years commencing after December 31, 2006.
	•		On December 22, 2006, Law No. 283 was approved, amending Section 27 of Law No. 55 of May 12, 1933, as amended. This law clarifies the process for the determination of loan losses by financial institutions in the Commonwealth of Puerto Rico, stipulating that accrued interest on loans past due 90 days or more should be excluded from income, except on loans collateralized by mortgages, where interest past due not exceeding one year could be included as part of income given proper disclosure of the fact that they have not been collected. It also requires that loans past due 365 days for which no interest was collected during the periods be charged to losses, except for collateralized loans and loans under legal collection efforts, which will be charged to losses up to their net realizable value.

Private Litigation

	•		Following the announcement of the Audit Committee’s review, the Corporation and certain of its current and former officers and directors were named as defendants in five (5) separate securities class actions filed between October 31, 2005 and December 5, 2005, alleging violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. At present, all securities class actions have been consolidated into one case named “In Re: First BanCorp Securities Litigations”. Based on available evidence and discussions with the lead plaintiff, the Corporation accrued $74.25 million in the 2005 financial statements for a possible settlement of the class action. Subsequently, in 2007, the Corporation reached an agreement in principle and signed a memorandum of understanding with the lead plaintiff. The agreement specified a payment of $74.25 million by the Corporation and is subject to approval by the United States District Court for the District of Puerto Rico.
	•		Between November 8, 2005 and March 7, 2006, several shareholders of the Corporation commenced five separate derivative actions against certain current and former executive officers and directors of the Corporation. In these actions, the Corporation was included as a nominal defendant. These actions were filed pursuant to Section 304 of the Sarbanes-Oxley Act of 2002 and alleged, among other things, a breach of fiduciary duty on behalf of the defendants. All shareholder derivative actions were consolidated into one case named “In Re: First BanCorp Derivative Litigation”, which was dismissed on November 30, 2006 before the U.S. District Court for the District of Puerto Rico.

Restatement

	•		On October 21, 2005, December 13, 2005, and March 17, 2006, the Corporation announced that it had concluded that the mortgage-related transactions that FirstBank entered into with Doral and R&G since 1999 did not qualify as “true sales” for accounting purposes. As a consequence, the Corporation announced on December 13, 2005 that management, with the concurrence of the Board of Directors, determined to restate its previously reported financial statements to correct its accounting for the mortgage-related transactions. In addition, the Corporation announced that it would also restate its financial statements to correct the accounting treatment used for certain interest rate swaps it accounted for as hedges using the short-cut method.
	•		On September 26, 2006, the Corporation filed with the SEC the Amended 2004 Form 10-K for the fiscal year ended December 31, 2004, which includes restated financial information for the fiscal years 2000 through 2004.
	•		On February 9, 2007, the Corporation filed with the SEC the 2005 Form 10-K for the fiscal year ended December 31, 2005, which reported certain restated financial information for the quarter ended March 31, 2005 and corrected financial information previously announced for the quarter ended June 30, 2005.

Corporate Governance Changes

     Changes in Senior Management

	•		In September 2005, following the announcement of the Audit Committee’s review, the Corporation implemented changes to its senior management. Specifically, the Board of Directors asked for the resignation of Angel Alvarez-Pérez, then President, Chief Executive Officer and Chairman of the Board (the “Former CEO”), Annie Astor-Carbonell, then Chief Financial Officer and a Director on the Board (the “Former CFO”), and Carmen Szendrey-Ramos, then General Counsel and Secretary of the Board (the “Former GC”). On September 30, 2005, the Corporation announced that the Former CEO had resigned from his management positions and that the Former CFO had resigned from her position as CFO. In October 2005, the Corporation terminated the Former GC.
	•		On September 30, 2005, the Board of Directors made the following appointments: Luis M. Beauchamp to serve as President and CEO of the Corporation; Aurelio Alemán to serve as Chief Operating Officer (“COO”) and Senior Executive Vice President; and Luis Cabrera-Marín to serve, on an interim basis, as CFO of the Corporation.
	•		On February 22, 2006, the Corporation announced the retention of Lawrence Odell as Executive Vice President and General Counsel of the Corporation and its subsidiary, FirstBank.
	•		On July 18, 2006, the Corporation’s Board of Directors appointed Fernando Scherrer as Executive Vice President and Chief Financial Officer of the Corporation, effective July 24, 2006. Mr. Scherrer had been working with the Corporation since October 2005 as a consultant in its reassessment of accounting issues and preparation of restated financial statements and on other consulting matters.

     Changes in Board Structure

	•		On September 30, 2005, the Corporation announced that the Former CEO would retire from his positions as Chairman of the Board of Directors and as a Director of the Corporation effective December 31, 2005. Additionally, effective September 30, 2005, the Former CFO resigned from her position as a Director of the Corporation.
	•		On September 30, 2005, the Board of Directors of the Corporation elected Luis Beauchamp and Aurelio Alemán as Directors.
	•		On November 28, 2005, the Corporation announced that the Board of Directors elected Fernando Rodríguez-Amaro as a Director and as an additional financial expert to serve on the Audit Committee. Thereafter, he was appointed Chairman of the Audit Committee effective January 1, 2006. In addition, the Board of Directors appointed José Menéndez-Cortada as Independent Lead Director effective February 15, 2006.
	•		On March 28, 2006, José Julián Alvarez, 72, informed the Corporation that he would resign from his position as director of the Corporation, effective March 31, 2006. Mr. Alvarez’s term as a director would have expired at the 2006 Annual Meeting of Stockholders and, given the Corporation’s retirement policy for the Board of Directors, Mr. Alvarez would not have been eligible for reelection.

     Change in By-Laws

•

On March 14, 2006, the Board of Directors of the Corporation approved an amendment to the Corporation’s By-Laws. As amended, Section 2 of Article I of the By-Laws provides that the Board of Directors will set a date and time for the annual meeting of stockholders in circumstances that do not permit the meeting to occur within 120 days after the Corporation’s fiscal year end due to the Corporation’s inability to issue its annual report with audited financial statements. In such event, the Board will set such date and time within a reasonable period after the Corporation submits an annual report with audited financial statements to stockholders. Prior to adoption of this amendment, Section 2 of Article I did not provide that the Board of Directors could set the date and time of the annual meeting. The amendment was effective upon approval by the Board.

Business Developments

	•		On March 13, 2005, the Corporation announced the closing of its acquisition of Ponce General Corporation, a Delaware corporation, and its subsidiaries, Unibank, a federal savings and loan association, and Ponce Realty Corporation, a Delaware corporation with real estate holdings in Florida. Unibank, headquartered in Miami, Florida, had 11 financial service facilities located in the Miami/Dade, Broward, Orange and Osceola counties of Florida. The Corporation subsequently changed the name of Unibank to FirstBank Florida.
	•		During 2005, the major rating agencies downgraded the Corporation’s and FirstBank’s ratings in a series of actions. On October 24, 2005 Fitch Ratings, Ltd., a subsidiary of Fimalac, S.A., lowered the Corporation’s long-term senior debt rating from BBB- to BB and placed the rating on Rating Watch Negative. Standard & Poors, a division of the McGraw Hill Companies, Inc., lowered the long-term senior debt and counterparty rating of FirstBank from BBB- to BB+ and placed the rating on Credit Watch Negative on December 13, 2005. On October 2005, Moody’s Investor Service lowered FirstBank’s long-term senior debt rating from Baa3 to Ba1 and placed the rating on negative outlook.
	•		On March 17, 2006, the Corporation announced that, in the fourth quarter of 2005, R&G made a partial payment on its secured loan of $137 million, which released capital allocated to the loans secured by the mortgage loans to R&G, and that First BanCorp made a capital contribution to FirstBank of $110 million at the end of 2005.
	•		On May 31, 2006, the Corporation announced that its subsidiary, FirstBank, received a cash payment from Doral of approximately $2.4 billion, substantially reducing the balance in secured commercial loans resulting from the Corporation’s previously-announced revised classification of numerous mortgage-related transactions with Doral. In addition, FirstBank and Doral entered into a sharing agreement with respect to certain profits or losses that Doral incurs as part of the sales of the mortgages that previously collateralized the commercial loans. In connection with this sharing agreement the Corporation recorded a net loss of $10.6 million in 2006. Given the difficulties that the Corporation’s largest borrowers have had, the Corporation can give no assurance that Doral will continue to repay their secured loans on a timely basis or that the Corporation will continue to be able to accurately assess any risk of loss from the loans to these financial institutions.

	•		On February 15, 2007, the Corporation agreed to issue 10% of its outstanding common stock at a price of $10.25 per share to the Bank of Nova Scotia (“Scotiabank”) in a private placement. Based upon the number of shares outstanding on February 15, 2007, the Corporation would issue approximately 9.250 million shares of its common stock to Scotiabank for a total purchase price of $94.8 million. The valuation reflects a premium of approximately 5% over the volume weighted-average closing share price over the 30-trading day period ending January 30, 2007. The issuance of common stock to Scotiabank is subject to regulatory approval.
	•		On February 15, 2007, the Corporation entered into a mortgage payment agreement with R&G under which R&G paid down $50 million of the outstanding commercial loan with FirstBank resulting in a remaining balance of $271 million which the parties agreed to re-document as a secured loan. The agreement will enable the Corporation and FirstBank to fulfill the remaining requirement of the previously announced Consent Orders with banking regulators relating to the mortgage-related transactions with R&G that the Corporation recharacterized for accounting and legal purposes as commercial loans secured by the mortgage loans and pass-through trust certificates. In addition, various agreements that were executed for approximately $218 million of commercial loans secured by trust certificates were amended to allow both FirstBank and R&G Crown to treat these transactions as “true sale” for accounting and legal purposes, as such, these commercial loans secured by trust certificates were transferred to available-for-sale securities.

Disclosure Controls and Procedures and Internal Control over Financial Reporting

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Over the course of the Corporation’s restatement of its financial statements for periods between January 1, 2000 and December 31, 2004, the Corporation’s management identified a number of material weaknesses in its internal control over financial reporting as of December 31, 2004 and 2005. The Corporation took a number of significant actions to remedy the material weaknesses in its internal controls identified in 2004 and 2005. The Corporation developed and implemented a plan for remedying all of the identified material weaknesses. In addition, as part of this remediation program, the Corporation has added skilled resources to improve controls and increase the reliability of the financial reporting process. As a result, First BanCorp’s management concluded that its internal controls over financial reporting were effective as of December 31, 2006 based on the criteria set forth in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).

     Certain of these and other subsequent events were addressed in the Corporation’s Current Reports on Form 8-K filed with the SEC.

WEBSITE ACCESS TO REPORT

     The Corporation makes available annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports, filed or furnished pursuant to section 13(a) or 15(d) of the Securities Exchange Act of 1934, free of charge on or through our internet website at www.firstbankpr.com, (“Sobre nosotros” section, SEC Filings link), as soon as reasonably practicable after the Corporation electronically files such material with, or furnishes it to, the SEC.

     The Corporation also makes available the Corporation’s corporate governance standards, the charters of the audit, compensation and benefits, corporate governance and nominating committees and the codes mentioned below, free of charge on or through our internet website at www.firstbankpr.com (“Sobre nosotros,” Governance Documents link):

	•		Code of Ethics for Senior Financial Officers
	•		Code of Ethics applicable to all employees
	•		Independence Principles for Directors

     The corporate governance standards, and the aforementioned charters and codes may also be obtained free of charge by request to Mr. Lawrence Odell, Executive Vice President and General Counsel, PO Box 9146, San Juan, Puerto Rico 00908.

     As previously announced on December 13, 2005, First BanCorp determined that previously filed interim unaudited and annual audited financial statements should no longer be relied upon and that it needed to restate previously issued financial statements. The Corporation restated financial information for the periods from January 1, 2000 through December 31, 2004. Other than the Annual Report on Amended 2004 Form 10-K, the Corporation has not amended any of its previously filed reports. The consolidated financial statements and other financial information in First BanCorp’s previously filed reports for the dates and periods referred to above, other than the Amended 2004 Form 10-K, including Form 10-Q for the quarter ended March 31, 2005, should no longer be relied upon.

     The public may read and copy any materials First BanCorp files with the SEC at the SEC’s Public Reference Room at 100 F

Street, NE, Washington, DC 20549. In addition, the public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy, and information statements, and other information regarding issuers that file electronically with the SEC at its website (www.sec.gov ).

MARKET AREA AND COMPETITION

     Puerto Rico, where the banking market is highly competitive, is the main geographic service area of the Corporation. As of December 31, 2006, the Corporation also had a presence through its subsidiaries in the United States and British Virgin Islands and through its loan agency in Coral Gables, Florida. Through the acquisition of Ponce General Corporation, FirstBank has established a presence in Florida with the plan of future expansion into the United States market. Puerto Rico banks are subject to the same federal laws, regulations and supervision that apply to similar institutions in the United States mainland.

     Competitors include other banks, insurance companies, mortgage banking companies, small loan companies, automobile financing companies, leasing companies, vehicle rental companies, brokerage firms with retail operations, and credit unions in Puerto Rico, the Virgin Islands and the state of Florida. The Corporation’s businesses compete with these other firms with respect to the range of products and services offered and the types of clients, customers, and industries served.

     The Corporation’s ability to compete effectively depends on the relative performance of its products, the degree to which the features of its products appeal to customers, and the extent to which the Corporation meets clients’ needs and expectations. The Corporation’s ability to compete also depends on its ability to attract and retain professional and other personnel, and on its reputation.

     The Corporation encounters intense competition in attracting and retaining deposits and in its consumer and commercial lending activities. The Corporation competes for loans with other financial institutions, some of which are larger and have greater resources available than those of the Corporation. Management believes that the Corporation has been able to compete effectively for deposits and loans by offering a variety of transaction account products and loans with competitive features, by pricing its products at competitive interest rates, by offering convenient branch locations, and by emphasizing the quality of its service. The Corporation’s ability to originate loans depends primarily on the rates and fees charged and the service it provides to its borrowers in making prompt credit decisions. There can be no assurance that in the future the Corporation will be able to continue to increase its deposit base or originate loans in the manner or on the terms on which it has done so in the past.

SUPERVISION AND REGULATION

     On March 17, 2006, the Corporation announced that the Corporation and FirstBank consented to cease and desist orders with the Federal Reserve Board and the FDIC. For more information regarding these orders, see “Significant Events – Governmental Action, Banking Regulatory Matters.”

     Bank Holding Company Activities and Other Limitations

     The Corporation is subject to ongoing regulation, supervision, and examination by the Federal Reserve Board, and is required to file with the Federal Reserve Board periodic and annual reports and other information concerning its own business operations and those of its subsidiaries. In addition, under the provisions of the Bank Holding Company Act, a bank holding company must obtain Federal Reserve Board approval before it acquires directly or indirectly ownership or control of more than 5% of the voting shares of another bank, or merges or consolidates with another bank holding company. The Federal Reserve Board also has authority under certain circumstances to issue cease and desist orders against bank holding companies and their non-bank subsidiaries.

     A bank holding company is prohibited under the Bank Holding Company Act, with limited exceptions, from engaging, directly or indirectly, in any business unrelated to the businesses of banking or managing or controlling banks. One of the exceptions to these prohibitions permits ownership by a bank holding company of the shares of any corporation if the Federal Reserve Board, after due notice and opportunity for hearing, by regulation or order has determined that the activities of the corporation in question are so closely related to the businesses of banking or managing or controlling banks as to be a proper incident thereto.

     Under the Federal Reserve Board policy, a bank holding company such as the Corporation is expected to act as a source of financial strength to its banking subsidiaries and to commit support to them. This support may be required at times when, absent such policy, the bank holding company might not otherwise provide such support. In the event of a bank holding company’s bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain capital of a subsidiary bank will be assumed by the bankruptcy trustee and be entitled to a priority of payment. In addition, any capital loans by a bank holding company to any of its subsidiary banks must be subordinated in right of payment to deposits and to

certain other indebtedness of such subsidiary bank. As of December 31, 2006, FirstBank and FirstBank Florida were the only depository institution subsidiaries of the Corporation.

     The Gramm-Leach-Bliley Act revised and expanded the provisions of the Bank Holding Company Act by including a section that permits a bank holding company to elect to become a financial holding company to engage in a full range of financial activities. The Gramm-Leach-Bliley Act requires that a bank holding company that elects to become a financial holding company, to file a written declaration with the appropriate Federal Reserve Bank and comply with the following (and such compliance must continue while the entity is treated as a financial holding company): (i) state that the bank holding company elects to become a financial holding company; (ii) provide the name and head office address of the bank holding company and each depository institution controlled by the bank holding company; (iii) certify that all depository institutions controlled by the bank holding company are well-capitalized as of the date the bank holding company files for the election; (iv) provide the capital ratios for all relevant capital measures as of the close of the previous quarter for each depository institution controlled by the bank holding company; and (v) certify that all depository institutions controlled by the bank holding company are well-managed as of the date the bank holding company files the election. All insured depository institutions controlled by the bank holding company must have also achieved at least a rating of “satisfactory record of meeting community credit needs” under the Community Reinvestment Act during the depository institution’s most recent examination. In April 2000, the Corporation filed an election with the Federal Reserve Board and became a financial holding company.

     Financial holding companies may engage, directly or indirectly, in any activity that is determined to be (i) financial in nature, (ii) incidental to such financial activity, or (iii) complementary to a financial activity and does not pose a substantial risk to the safety and soundness of depository institutions or the financial system generally. The Gramm-Leach-Bliley Act specifically provides that the following activities have been determined to be “financial in nature”: (a) Lending, trust and other banking activities; (b) Insurance activities; (c) Financial or economic advice or services; (d) Pooled investments; (e) Securities underwriting and dealing; (f) Existing bank holding company domestic activities; (g) Existing bank holding company foreign activities; and (h) Merchant banking activities. The Corporation offers insurance agency services through its wholly-owned subsidiary, FirstBank Insurance Agency, Inc. and through First Insurance Agency V. I., Inc., a subsidiary of FirstBank.

     In addition, the Gramm-Leach-Bliley Act specifically gives the Federal Reserve Board the authority, by regulation or order, to expand the list of “financial” or “incidental” activities, but requires consultation with the U.S. Treasury, and gives the Federal Reserve Board authority to allow a financial holding company to engage in any activity that is “complementary” to a financial activity and does not “pose a substantial risk to the safety and soundness of depository institutions or the financial system generally.”

     Under the Gramm-Leach-Bliley Act, if the Corporation fails to meet any of the requirements for being a financial holding company and is unable to resolve such deficiencies within certain prescribed periods of time, the Federal Reserve Board could require the Corporation to divest control of one or more of its depository institution subsidiaries or alternatively cease conducting financial activities that are not permissible for bank holding companies that are not financial holding companies.

     Sarbanes-Oxley Act

     On July 20, 2002, President Bush signed into law the Sarbanes-Oxley Act of 2002 (“SOA”), which implemented legislative reforms intended to address corporate and accounting fraud. SOA contains reforms of various business practices and numerous aspects of corporate governance. Most of these requirements have been implemented by regulations issued by the SEC. The following is a summary of certain key provisions of SOA.

     In addition to the establishment of an accounting oversight board that enforces auditing, quality control and independence standards and is funded by fees from all publicly traded companies, SOA places restrictions on the scope of services that may be provided by accounting firms to their public corporation audit clients. Any non-audit services being provided to a public corporation audit client requires pre-approval by the corporation’s audit committee. In addition, SOA makes certain changes to the requirements for rotation of certain persons involved in the audit after a period of time. SOA requires chief executive officers and chief financial officers, or their equivalent, to certify to the accuracy of periodic reports filed with the SEC, subject to civil and criminal penalties if they knowingly or willingly violate this certification requirement. In addition, counsel is required to report evidence of a material violation of the securities laws or a breach of fiduciary duties to the corporation’s chief executive officer or its chief legal officer, and, if such officer does not appropriately respond, to report such evidence to the audit committee or other similar committee of the board of directors or the board itself.

     Under SOA, longer prison terms may apply to corporate executives who violate federal securities laws; the period during which certain types of suits can be brought against a corporation or its officers is extended; and bonuses issued to top executives prior to restatement of a corporation’s financial statements are now subject to disgorgement if such restatement was due to corporate misconduct. Executives are also prohibited from insider trading during retirement plan “blackout” periods, and loans to corporations’ executives (other than loans by financial institutions permitted by federal rules or regulations) are

prohibited. In addition, the legislation accelerates the time frame for disclosures by public companies, as they must immediately disclose certain material changes in their financial condition or operations. Directors and executive officers required to report changes in ownership in a corporation’s securities must file such reports within two business days of the change.

     SOA increases responsibilities and codifies certain requirements related to audit committees of public companies and how they interact with the corporation’s “registered public accounting firm.” Audit committee members must be independent and are barred from accepting consulting, advisory or other compensatory fees from the issuer. In addition, companies are required to disclose whether at least one member of the committee is a “financial expert” (as such term is defined by the SEC) and if not, the reasons why. A corporation’s registered public accounting firm is prohibited from performing statutorily mandated audit services for a corporation if the corporation’s chief executive officer, chief financial officer, controller, chief accounting officer or any person serving in equivalent positions had been employed by such firm and participated in the audit of such corporation during the one-year period preceding the audit initiation date. SOA also prohibits any officer or director of a corporation or any other person acting under their direction from taking any action to fraudulently influence, coerce, manipulate, or mislead any independent public or certified accountant engaged in the audit of the corporation’s financial statements for the purpose of rendering the financial statements materially misleading.

     SOA also has provisions relating to inclusion of certain internal control reports and assessments by management in the annual report on Form 10-K. The law also requires the corporation’s independent registered public accounting firm that issues the audit report to attest to and report on management’s assessment of the corporation’s internal controls and on the effectiveness of internal controls over financial reporting. Since the 2004 Annual Report on Form 10-K, the Corporation has been required to include management’s assessment regarding the effectiveness of the Corporation’s internal control structure and procedures over financial reporting. The internal control report includes a statement of management’s responsibility for establishing and maintaining adequate internal control over financial reporting for the Corporation; management’s assessment as to the effectiveness of the Corporation’s internal control over financial reporting based on management’s evaluation, as of year-end; and the framework used by management as criteria for evaluating the effectiveness of the Corporation’s internal control over financial reporting. The reports on internal control over financial reporting issued by management and the independent registered public accounting firm were filed as part of the Annual Report on each respective Form 10-K. The Corporation took a number of significant actions to remedy the material weaknesses in its internal controls identified in 2005 and 2004. The Corporation developed and implemented a plan for remedying all of the identified material weaknesses. As part of the remediation program, the Corporation added skilled resources to improve controls and increase the reliability of the financial closing process. As a result, First BanCorp’s management concluded that its internal control over financial reporting was effective as of December 31, 2006 based on the criteria set forth in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).

     USA Patriot Act

     Under Title III of the USA Patriot Act, also known as the International Money Laundering Abatement and Anti-Terrorism Financing Act of 2001, all financial institutions are required to, among other things, identify their customers, adopt formal and comprehensive anti-money laundering programs, scrutinize or prohibit altogether certain transactions of special concern, and be prepared to respond to inquiries from U.S. law enforcement agencies concerning their customers and their transactions. Presently, only certain types of financial institutions (including banks, savings associations and money services businesses) are subject to final rules implementing the anti-money laundering program requirements of the USA Patriot Act.

     Failure of a financial institution to comply with the USA Patriot Act’s requirements could have serious legal and reputational consequences for the institutions. The Corporation has adopted appropriate policies, procedures and controls to address compliance with the USA Patriot Act and U.S. Treasury Department regulations. See “Significant Events – Governmental Action and Banking Regulators” for information regarding recent issues relating to compliance with the Bank Secrecy Act.

     Privacy Policies

     Under the Gramm-Leach-Bliley Act, all financial institutions are required to adopt privacy policies, restrict the sharing of nonpublic customer data with nonaffiliated parties at the customer’s request and establish policies and procedures to protect customer data from unauthorized access. The Corporation and its subsidiaries have adopted policies and procedures in order to comply with the privacy provisions of the Gramm-Leach-Bliley Act and the regulations issued thereunder.

     State Chartered Non-Member Bank; Federal Savings Bank; Banking Laws and Regulations in General

     FirstBank is subject to extensive regulation and examination by the Commissioner and the FDIC, and is subject to certain requirements established by the Federal Reserve Board. FirstBank Florida is a federally regulated savings bank subject to extensive regulation and examination by the OTS, and subject to certain Federal Reserve regulations. The federal and state laws and regulations which are applicable to banks and savings banks regulate, among other things, the scope of their businesses, their investments, their reserves against deposits, the timing and availability of deposited funds, and the nature and amount of and collateral for certain loans. In addition to the impact of regulations, commercial banks are affected significantly by the actions of the Federal Reserve Board as it attempts to control the money supply and credit availability in order to influence the economy. References herein to applicable statutes or regulations are brief summaries of portions thereof which do not purport to be complete and which are qualified in their entirety by reference to those statutes and regulations. Any change in applicable laws or regulations may have a material adverse effect on the business of commercial banks, thrifts and bank holding companies, including FirstBank, FirstBank Florida and the Corporation. However, management is not aware of any current proposals by any federal or state regulatory authority that, if implemented, would have or would be reasonably likely to have a material effect on the liquidity, capital resources or operations of FirstBank, FirstBank Florida or the Corporation.

     As a creditor and financial institution, FirstBank is subject to certain regulations promulgated by the Federal Reserve Board, including, without limitation, Regulation B (Equal Credit Opportunity Act), Regulation DD (Truth in Savings Act), Regulation E (Electronic Funds Transfer Act), Regulation F (Limits on Exposure to Other Banks), Regulation Z (Truth in Lending Act), Regulation CC (Expedited Funds Availability Act), Regulation X (Real Estate Settlement Procedures Act), Regulation BB (Community Reinvestment Act) and Regulation C (Home Mortgage Disclosure Act).

     There are periodic examinations by the Commissioner and the FDIC of FirstBank and by the OTS of FirstBank Florida to test each bank’s compliance with various statutory and regulatory requirements. This regulation and supervision establishes a comprehensive framework of activities in which an institution can engage and is intended primarily for the protection of the FDIC’s insurance fund and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. This enforcement authority includes, among other things, the ability to assess civil money penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions against banking organizations and institution-affiliated parties. In general, these enforcement actions may be initiated for violations of laws and regulations and for engaging in unsafe or unsound practices. In addition, certain bank actions are required by statute and implementing regulations. Other actions or failure to act may provide the basis for enforcement action, including the filing of misleading or untimely reports with regulatory authorities.

     For a discussion of bank regulatory actions relating to FirstBank and FirstBank Florida, see the discussion under “Significant Events – Governmental Action-Banking Regulators.”

     Dividend Restrictions

     The Corporation is subject to certain restrictions generally imposed on Puerto Rico corporations with respect to the declaration and payment of dividends (i.e., that dividends may be paid out only from the Corporation’s net assets in excess of capital or in the absence of such excess, from the Corporation’s net earnings for such fiscal year and/or the preceding fiscal year). The Federal Reserve Board has also issued a policy statement that provides that bank holding companies should generally pay dividends only out of current operating earnings.

     As of December 31, 2006, the principal source of funds for the Corporation is dividends declared and paid by its subsidiary, FirstBank. The ability of FirstBank to declare and pay dividends on its capital stock is regulated by the Puerto Rico Banking Law, the Federal Deposit Insurance Act (the “FDIA”), and FDIC regulations. In general terms, the Puerto Rico Banking Law provides that when the expenditures of a bank are greater than receipts, the excess of expenditures over receipts shall be charged against undistributed profits of the bank and the balance, if any, shall be charged against the required reserve fund of the bank. If the reserve fund is not sufficient to cover such balance in whole or in part, the outstanding amount must be charged against the bank’s capital account. The Puerto Rico Banking Law provides that, until said capital has been restored to its original amount and the reserve fund to 20% of the original capital, the bank may not declare any dividends.

     In general terms, the FDIA and the FDIC regulations restrict the payment of dividends when a bank is undercapitalized, when a bank has failed to pay insurance assessments, or when there are safety and soundness concerns regarding such bank.

     In addition, the Consent Orders impose certain restrictions on dividend payments. FirstBank, the insured institution, may not declare or pay dividends or any other form of payment representing a reduction in capital without the prior written approval of the FDIC. The FDIC will approve a dividend or any other form of payment representing a reduction in capital provided that the FDIC determines that such dividend or payment will not have an unacceptable impact on FirstBank’s capital position, cash

flow, concentrations of credit, asset quality and allowance for loan and lease loss needs. Also, the Corporation may not pay dividends or other payments without the permission of the Federal Reserve Bank. The FDIC and the Federal Reserve Bank have approved all requests for approval of dividend declarations since the Corporation and FirstBank agreed to the Consent Orders.

     Limitations on Transactions with Affiliates and Insiders

     Certain transactions between financial institutions such as FirstBank and FirstBank Florida and affiliates are governed by Sections 23A and 23B of the Federal Reserve Act and by Regulation W. An affiliate of a financial institution is any corporation or entity, that controls, is controlled by, or is under common control with the financial institution. In a holding company context, the parent bank holding company and any companies which are controlled by such parent bank holding company are affiliates of the financial institution. Generally, Sections 23A and 23B of the Federal Reserve Act (i) limit the extent to which the financial institution or its subsidiaries may engage in “covered transactions” (defined below) with any one affiliate to an amount equal to 10% of such financial institution’s capital stock and surplus, and contain an aggregate limit on all such transactions with all affiliates to an amount equal to 20% of such financial institution’s capital stock and surplus and (ii) require that all “covered transactions” be on terms substantially the same, or at least as favorable to the financial institution or affiliate, as those provided to a non-affiliate. The term “covered transaction” includes the making of loans, purchase of assets, issuance of a guarantee and other similar transactions. In addition, loans or other extensions of credit by the financial institution to the affiliate are required to be collateralized in accordance with the requirements set forth in Section 23A of the Federal Reserve Act.

     The Gramm-Leach-Bliley Act requires that financial subsidiaries of banks be treated as affiliates for purposes of Sections 23A and 23B of the Federal Reserve Act, but (i) the 10% capital limitation on transactions between the bank and such financial subsidiary as an affiliate is not applicable, and (ii) notwithstanding other provisions in Sections 23A and 23B, the investment by the bank in the financial subsidiary does not include retained earnings of the financial subsidiary. The Gramm-Leach-Bliley Act provides that: (1) any purchase of, or investment in, the securities of a financial subsidiary by any affiliate of the parent bank is considered a purchase or investment by the bank; and (2) if the Federal Reserve Board determines that such treatment is necessary, any loan made by an affiliate of the parent bank to the financial subsidiary is to be considered a loan made by the parent bank.

     The Federal Reserve Board has adopted Regulation W which interprets the provisions of Sections 23A and 23B. The regulation unifies and updates staff interpretations issued over the years, incorporates several new interpretations and provisions (such as to clarify when transactions with an unrelated third party will be attributable to an affiliate), and addresses new issues arising as a result of the expanded scope of nonbanking activities engaged in by banks and bank holding companies in recent years and authorized for financial holding companies under the Gramm-Leach-Bliley Act.

     In addition, Sections 22(h) and (g) of the Federal Reserve Act, implemented through Regulation O, place restrictions on loans to executive officers, directors, and principal stockholders. Under Section 22(h) of the Federal Reserve Act, loans to a director, an executive officer, a greater than 10% stockholder of a financial institution, and certain related interests of these, may not exceed, together with all other outstanding loans to such persons and affiliated interests, the financial institution’s loans to one borrower limit, generally equal to 15% of the institution’s unimpaired capital and surplus. Section 22(h) of the Federal Reserve Act also requires that loans to directors, executive officers, and principal stockholders be made on terms substantially the same as offered in comparable transactions to other persons and also requires prior board approval for certain loans. In addition, the aggregate amount of extensions of credit by a financial institution to insiders cannot exceed the institution’s unimpaired capital and surplus. Furthermore, Section 22(g) of the Federal Reserve Act places additional restrictions on loans to executive officers. On December 6, 2006, the Federal Reserve Board announced the approval of, and invited public consent on, an interim rule amending Regulation O that will eliminate several statutory reporting and disclosure requirements relating to insider lending. The interim rule does not alter the substantial restrictions on loans by insured depository institutions to their insiders.

     The Consent Orders with the banking regulators imposed some additional restrictions and reporting requirements on the Corporation and FirstBank. Under its Consent Order with the FDIC, FirstBank must not, directly or indirectly, enter into, or participate, or in any other manner engage in any of the following transactions with any affiliate without the prior written approval of the FDIC: (i) a loan or extension of credit to the affiliate; (ii) a purchase of or an investment in securities issued by the affiliate; (iii) a purchase of assets, including assets subject to an agreement to repurchase, from the affiliate; (iv) the acceptance of securities issued by the affiliate as collateral security for a loan or extension of credit to any person or company; (v) the issuance of a guarantee, acceptance, or letter of credit, including an endorsement or standby letter of credit, on behalf of an affiliate; (vi) the sale of securities or other assets to an affiliate, including assets subject to an agreement to repurchase; (vii) the payment of money or furnishing of services to an affiliate under contract, lease or otherwise; (viii) any transaction in which an affiliate acts as agent or broker or receives a fee for its services to FirstBank; and (ix) any transaction or series of transactions with a third party if an affiliate has a financial interest in the third party, or an affiliate is a participant in such

transaction or series of transactions. Under its Consent Order with the Federal Reserve Board, the Corporation must report all covered transactions and not engage in insider transactions without the prior written approval of the Federal Reserve Board.

     In February 2006, the OTS imposed restrictions on FirstBank Florida, formerly Unibank, a subsidiary acquired by First BanCorp in March 2005. Under these restrictions, FirstBank Florida cannot make any payments to the Corporation or its affiliates pursuant to a tax-sharing agreement nor can the bank employ or receive consultative services from an executive officer of the Corporation or its affiliates without the prior written approval of the OTS Regional Director. Additionally, FirstBank Florida cannot enter into any agreement to sell loans or any portions of any loans to the Corporation or its affiliates nor can the bank make any payment to the Corporation or its affiliates via an intercompany account or arrangement unless pursuant to a pre-existing contractual agreement for services rendered in the normal course of business.

     Federal Reserve Board Capital Requirements

     The Federal Reserve Board has adopted capital adequacy guidelines pursuant to which it assesses the adequacy of capital in examining and supervising a bank holding company and in analyzing applications to it under the Bank Holding Company Act. The Federal Reserve Board capital adequacy guidelines generally require bank holding companies to maintain total capital equal to 8% of total risk-adjusted assets, with at least one-half of that amount consisting of Tier I or core capital and up to one-half of that amount consisting of Tier II or supplementary capital. Tier I capital for bank holding companies generally consists of the sum of common stockholders’ equity and perpetual preferred stock, subject in the case of the latter to limitations on the kind and amount of such perpetual preferred stock that may be included as Tier I capital, less goodwill and, with certain exceptions, other intangibles. Tier II capital generally consists of hybrid capital instruments, perpetual preferred stock that is not eligible to be included as Tier I capital term subordinated debt and intermediate-term preferred stock and, subject to limitations, allowances for loan losses. Assets are adjusted under the risk-based guidelines to take into account different risk characteristics, with the categories ranging from 0% (requiring no additional capital) for assets such as cash to 100% for the bulk of assets, which are typically held by a bank holding company, including multi-family residential and commercial real estate loans, commercial business loans and commercial loans. Off-balance sheet items also are adjusted to take into account certain risk characteristics.

     In addition to the risk-based capital requirements, the Federal Reserve Board requires bank holding companies to maintain a minimum leverage capital ratio of Tier I capital to total assets of 3.0%. Total assets for purposes of this calculation do not include goodwill and any other intangible assets and investments that the Federal Reserve Board determines should be deducted. The Federal Reserve Board has announced that the 3.0% Tier I leverage capital ratio requirement is the minimum for the top-rated bank holding companies without supervisory, financial or operational weaknesses or deficiencies or those which are not experiencing or anticipating significant growth. Other bank holding companies will be expected to maintain Tier I leverage capital ratios of at least 4.0% or more, depending on their overall condition. As of December 31, 2006, the Corporation exceeded each of its capital requirements and was a well-capitalized institution as defined in the Federal Reserve Board regulations.

     The federal banking agencies are currently analyzing regulatory capital requirements as part of an effort to implement the Basel Committee on Banking Supervision new capital adequacy framework for large, internationally active banking organizations (Basel II), as well as to update their risk-based capital standards to enhance the risk-sensitivity of the capital charges, to reflect changes in accounting standards and financial markets, and to address competitive equity questions that may be raised by U.S. implementation of the Basel II framework. Accordingly, the federal agencies, including the Federal Reserve Board and the FDIC, are considering several revisions to regulations issued in response to an earlier set of standards published by the Basel Committee in 1988 (Basel I). On September 25, 2006, the banking agencies proposed in a notice of proposal a new risk-based capital adequacy framework under Basel II. The framework is intended to produce risk-based capital requirements that are more risk-sensitive than the existing risk-based capital rules. On February 15, 2007, U.S. banking agencies released proposed supervisory guidance to accompany the September Basel II notice of proposed rulemaking. The guidance includes standards to promote safety and soundness and to encourage the comparability of regulatory capital measures across banks.

     FDIC Risk-Based Assessment System

     Under a new rule adopted by the FDIC in November 2006, beginning in 2007, the FDIC will place each institution that it insures in one of four risk categories using a two-step process based first on capital ratios and then on other relevant information (the supervisory group assignment). Beginning in 2007, FDIC insurance premium rates will range between 5 and 43 cents per $100 in accessible deposits. The Corporation has available an FDIC credit to offset future assessments. Once the credit is fully utilized, significant increases in the insurance assessments of the bank subsidiaries will increase our costs.

     FDIC Capital Requirements

     The FDIC has promulgated regulations and a statement of policy regarding the capital adequacy of state-chartered non-member banks like FirstBank. These requirements are substantially similar to those adopted by the Federal Reserve Board regarding bank holding companies, as described above. In addition, FirstBank Florida must comply with similar capital requirements adopted by the OTS.

     The regulators require that banks meet a risk-based capital standard. The risk-based capital standard for banks requires the maintenance of total capital (which is defined as Tier I capital and supplementary (Tier 2) capital) to risk-weighted assets of 8%. In determining the amount of risk-weighted assets, weights used (ranging from 0% to 100%) are based on the risks inherent in the type of asset or item. The components of Tier I capital are equivalent to those discussed below under the 3.0% leverage capital standard. The components of supplementary capital include certain perpetual preferred stock, mandatory convertible securities, subordinated debt and intermediate preferred stock and, generally, allowances for loan and lease losses. Allowance for loan and lease losses includable in supplementary capital is limited to a maximum of 1.25% of risk-weighted assets. Overall, the amount of capital counted toward supplementary capital cannot exceed 100% of core capital.

     The FDIC’s and OTS’ capital regulations establish a minimum 3.0% Tier I capital to total assets requirement for the most highly-rated state-chartered, non-member banks, with an additional cushion of at least 100 to 200 basis points for all other state-chartered, non-member banks, which effectively will increase the minimum Tier I leverage ratio for such other banks from 4.0% to 5.0% or more. Under these regulations, the highest-rated banks are those that are not anticipating or experiencing significant growth and have well-diversified risk, including no undue interest rate risk exposure, excellent asset quality, high liquidity and good earnings and, in general, are considered a strong banking organization and are rated composite I under the Uniform Financial Institutions Rating System. Leverage or core capital is defined as the sum of common stockholders’ equity including retained earnings, non-cumulative perpetual preferred stock and related surplus, and minority interests in consolidated subsidiaries, minus all intangible assets other than certain qualifying supervisory goodwill and certain purchased mortgage servicing rights.

     In August 1995, the FDIC and OTS published a final rule modifying their existing risk-based capital standards to provide for consideration of interest rate risk when assessing the capital adequacy of a bank. Under the final rule, the FDIC must explicitly include a bank’s exposure to declines in the economic value of its capital due to changes in interest rates as a factor in evaluating a bank’s capital adequacy. In June 1996, the FDIC and OTS adopted a joint policy statement on interest rate risk. Because market conditions, bank structure, and bank activities vary, the agencies concluded that each bank needs to develop its own interest rate risk management program tailored to its needs and circumstances. The policy statement describes prudent principles and practices that are fundamental to sound interest rate risk management, including appropriate board and senior management oversight and a comprehensive risk management process that effectively identifies, measures, monitors and controls such interest rate risk.

     Failure to meet capital guidelines could subject an insured bank to a variety of prompt corrective actions and enforcement remedies under the FDIA (as amended by Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) and the Riegle Community Development and Regulatory Improvement Act of 1994), including, with respect to an insured bank, the termination of deposit insurance by the FDIC, and certain restrictions on its business. In general terms, undercapitalized depository institutions are prohibited from making any capital distributions (including dividends), are subject to restrictions on borrowing from the Federal Reserve System, are subject to growth limitations and are required to submit capital restoration plans.

     As of December 31, 2006, FirstBank and FirstBank Florida were well-capitalized. A bank’s capital category, as determined by applying the prompt corrective action provisions of law, however, may not constitute an accurate representation of the overall financial condition or prospects of the Bank, and should be considered in conjunction with other available information regarding financial condition and results of operations.

     Set forth below are the Corporation’s, FirstBank’s and FirstBank Florida’s capital ratios as of December 31, 2006, based on Federal Reserve and FDIC guidelines.

		First BanCorp Banking Subsidiary
														Well-
										FirstBank				Capitalized
		First BanCorp				FirstBank				Florida				Minimum
Total capital (Total capital to risk-weighted assets)			12.46	%			12.25	%			11.35	%			10.00	%
Tier 1 capital ratio (Tier 1 capital to risk-weighted assets)			11.27	%			11.02	%			10.96	%			6.00	%
Leverage ratio			7.97	%			7.76	%			8.10	%			5.00	%

     The Consent Orders entered into with banking regulators required the Corporation and FirstBank Puerto Rico to submit a capital plan to ensure that an adequate capital position is maintained by both FirstBank and the Corporation in light of the reclassification of the mortgage-related transactions as secured loans. The capital plan was submitted to regulators in May 2005.

     Activities and Investments

     The activities as “principal” and equity investments of FDIC-insured, state-chartered banks such as FirstBank are generally limited to those that are permissible for national banks. Under regulations dealing with equity investments, an insured state-chartered bank generally may not directly or indirectly acquire or retain any equity investments of a type, or in an amount, that is not permissible for a national bank.

     Federal Home Loan Bank System

     FirstBank is a member of the Federal Home Loan Bank (FHLB) system. The FHLB system consists of twelve regional Federal Home Loan Banks governed and regulated by the Federal Housing Finance Board (FHFB). The Federal Home Loan Banks serve as reserve or credit facilities for member institutions within their assigned regions. They are funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB system, and they make loans (advances) to members in accordance with policies and procedures established by the FHLB system and the board of directors of each regional FHLB.

     FirstBank is a member of the FHLB of New York (FHLB-NY) and as such is required to acquire and hold shares of capital stock in that FHLB for a certain amount, which is calculated in accordance with the requirements set forth in applicable laws and regulations. FirstBank is in compliance with the stock ownership requirements of the FHLB-NY. All loans, advances and other extensions of credit made by the FHLB-NY to FirstBank are secured by a portion of FirstBank’s mortgage loan portfolio, certain other investments and the capital stock of the FHLB-NY held by FirstBank.

     FirstBank Florida is a member of the FHLB of Atlanta and is subject to similar requirements as those of FirstBank.

     Ownership and Control

     Because of FirstBank’s status as an FDIC-insured bank, as defined in the Bank Holding Company Act, First Bancorp, as the owner of FirstBank’s common stock, is subject to certain restrictions and disclosure obligations under various federal laws, including the Bank Holding Company Act and the Change in Bank Control Act (the “CBCA”). Regulations pursuant to the Bank Holding Company Act generally require prior Federal Reserve Board approval for an acquisition of control of an insured institution (as defined in the Act) or holding company thereof by any person (or persons acting in concert). Control is deemed to exist if, among other things, a person (or persons acting in concert) acquires more than 25% of any class of voting stock of an insured institution or holding company thereof. Under the CBCA, control is presumed to exist subject to rebuttal if a person (or persons acting in concert) acquires more than 10% of any class of voting stock and either (i) the corporation has registered securities under Section 12 of the Securities Exchange Act of 1934, or (ii) no person will own, control or hold the power to vote a greater percentage of that class of voting securities immediately after the transaction. The concept of acting in concert is very broad and also is subject to certain rebuttable presumptions, including among others, that relatives, business partners, management officials, affiliates and others are presumed to be acting in concert with each other and their businesses. The FDIC’s and OTS’ regulations implementing the CBCA are generally similar to those described above.

     The Puerto Rico Banking Law requires the approval of the Commissioner for changes in control of a Puerto Rico bank. See “Puerto Rico Banking Law.”

     Cross-Guarantees

     Under the FDIA, a depository institution (which term includes both banks and savings associations), the deposits of which are insured by the FDIC, can be held liable for any loss incurred by, or reasonably expected to be incurred by, the FDIC in

connection with (i) the default of a commonly controlled FDIC-insured depository institution or (ii) any assistance provided by the FDIC to any commonly controlled FDIC-insured depository institution “in danger of default.” “Default” is defined generally as the appointment of a conservator or a receiver and “in danger of default” is defined generally as the existence of certain conditions indicating that a default is likely to occur in the absence of regulatory assistance. In some circumstances (depending upon the amount of the loss or anticipated loss suffered by the FDIC), cross-guarantee liability may result in the ultimate failure or insolvency of one or more insured depository institutions liable to the FDIC, and any obligations of that bank to its parent corporation are subordinated to the subsidiary bank’s cross-guarantee liability with respect to commonly controlled insured depository institutions. FirstBank and FirstBank Florida are currently the only FDIC-insured depository institutions controlled by the Corporation and therefore subject to this guaranty provision.

     Standards for Safety and Soundness

     The FDIA, as amended by FDICIA and the Riegle Community Development and Regulatory Improvement Act of 1994, requires the FDIC and the other federal bank regulatory agencies to prescribe standards of safety and soundness, by regulations or guidelines, relating generally to operations and management, asset growth, asset quality, earnings, stock valuation, and compensation. The FDIC and the other federal bank regulatory agencies adopted, effective August 9, 1995, a set of guidelines prescribing safety and soundness standards pursuant to FDIA, as amended. The guidelines establish general standards relating to internal controls and information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, fees and benefits. In general, the guidelines require, among other things, appropriate systems and practices to identify and manage the risks and exposures specified in the guidelines. The guidelines prohibit excessive compensation as an unsafe and unsound practice and describe compensation as excessive when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director or principal shareholder. For additional information, see the discussion under “Significant Events – Governmental Action, Banking Regulators.”

     Brokered Deposits

     FDIC regulations adopted under the FDIA govern the receipt of brokered deposits by banks. Well-capitalized institutions are not subject to limitations on brokered deposits, while adequately-capitalized institutions are able to accept, renew or rollover brokered deposits only with a waiver from the FDIC and subject to certain restrictions on the interest paid on such deposits. Undercapitalized institutions are not permitted to accept brokered deposits. As of December 31, 2006, FirstBank was a well-capitalized institution and was therefore not subject to any limitations on brokered deposits.

     Puerto Rico Banking Law

     As a commercial bank organized under the laws of the Commonwealth, FirstBank is subject to supervision, examination and regulation by the Commonwealth of Puerto Rico Commissioner of Financial Institutions (“Commissioner”) pursuant to the Puerto Rico Banking Law of 1933, as amended (the “Banking Law”). The Banking Law contains provisions governing the incorporation and organization, rights and responsibilities of directors, officers and stockholders as well as the corporate powers, lending limitations, capital requirements, investment requirements and other aspects of FirstBank and its affairs. In addition, the Commissioner is given extensive rule-making power and administrative discretion under the Banking Law.

     The Banking Law authorizes Puerto Rico commercial banks to conduct certain financial and related activities directly or through subsidiaries, including the leasing of personal property and the operation of a small loan corporation.

     The Banking Law requires every bank to maintain a legal reserve which shall not be less than twenty percent (20%) of its demand liabilities, except government deposits (federal, state and municipal), that are secured by actual collateral. The reserve is required to be composed of any of the following securities or combination thereof: (1) legal tender of the United States; (2) checks on banks or trust companies located in any part of Puerto Rico that are to be presented for collection during the day following the day on which they are received, (3) money deposited in other banks provided said deposits are authorized by the Commissioner, subject to immediate collection; (4) federal funds sold to any Federal Reserve Bank and securities purchased under agreements to resell executed by the bank with such funds that are subject to be repaid to the bank on or before the close of the next business day; and (5) any other asset that the Commissioner identifies from time to time.

     The Banking Law permits Puerto Rico commercial banks to make loans to any one person, firm, partnership or corporation, up to an aggregate amount of fifteen percent (15%) of the sum of: (i) the bank’s paid-in capital; (ii) the bank’s reserve fund; (iii) 50% of the bank’s retained earnings; and (iv) any other components that the Commissioner may determine from time to time. If such loans are secured by collateral worth at least twenty five percent (25%) more than the amount of the loan, the aggregate maximum amount may reach one third of the sum of the bank’s paid-in capital, reserve fund, 50% of retained earnings and such other components that the Commissioner may determine from time to time. There are no restrictions under the Banking Law on the amount of loans that are wholly secured by bonds, securities and other evidence of indebtedness of the Government of the United States, or of the Commonwealth of Puerto Rico, or by bonds, not in default, of municipalities or

instrumentalities of the Commonwealth of Puerto Rico. The Corporation’s restatement of previously issued financial statements (Form 10-K/A 2004) due to, among other corrections, the revised classification of mortgage-related transactions as secured commercial loans to local financial institutions caused the transactions to be treated as two secured commercial loans, which were in excess of lending limits imposed by the Banking Law. FirstBank received a ruling from the Commissioner that results in FirstBank being considered in continued compliance with the loan to one borrower limitation. The Puerto Rico Banking Law authorizes the Commissioner to determine other components which may be considered for purposes of establishing its lending limit, which components may lay outside the traditional elements mentioned in Section 17. After consideration of other components, the Commissioner authorized the Corporation to retain the secured loans to Doral and R&G as it believed that these loans were secured by sufficient collateral to diversify, disperse and significantly diffuse the risks connected to such loans thereby satisfying the safety and soundness considerations mandated by Section 28 of the Puerto Rico Banking Law.

     The Banking Law prohibits Puerto Rico commercial banks from making loans secured by their own stock, and from purchasing their own stock, unless such purchase is made pursuant to a stock repurchase program approved by the Commissioner or is necessary to prevent losses because of a debt previously contracted in good faith. The stock purchased by the Puerto Rico commercial bank must be sold by the bank in a public or private sale within one year from the date of purchase.

     The Banking Law provides that no officers, directors, agents or employees of a Puerto Rico commercial bank may serve or discharge a position of officer, director, agent or employee of another Puerto Rico commercial bank, financial corporation, savings and loan association, trust corporation, corporation engaged in granting mortgage loans or any other institution engaged in the money lending business in Puerto Rico. This prohibition is not applicable to the affiliates of a Puerto Rico commercial bank.

     The Banking Law requires that Puerto Rico commercial banks prepare each year a balance summary of their operations, and submit such balance summary for approval at a regular meeting of stockholders, together with an explanatory report thereon. The Banking Law also requires that at least ten percent (10%) of the yearly net income of a Puerto Rico commercial bank be credited annually to a reserve fund. This credit is required to be done every year until such reserve fund shall be equal to the total paid-in-capital of the bank.

     The Banking Law also provides that when the expenditures of a Puerto Rico commercial bank are greater than receipts, the excess of the expenditures over receipts shall be charged against the undistributed profits of the bank, and the balance, if any, shall be charged against the reserve fund, as a reduction thereof. If there is no reserve fund sufficient to cover such balance in whole or in part, the outstanding amount shall be charged against the capital account and no dividend shall be declared until said capital has been restored to its original amount and the reserve fund to twenty percent (20%) of the original capital.

     The Banking Law requires the prior approval of the Commissioner with respect to a transfer of capital stock of a bank that results in a change of control of the bank. Under the Banking Law, a change of control is presumed to occur if a person or a group of persons acting in concert, directly or indirectly, acquire more than 5% of the outstanding voting capital stock of the bank. The Commissioner has interpreted the restrictions of the Banking Law as applying to acquisitions of voting securities of entities controlling a bank, such as a bank holding company. Under the Banking Law, the determination of the Commissioner whether to approve a change of control filing is final and non-appealable.

     The Finance Board, which is composed of the Commissioner, the Secretary of the Treasury, the Secretary of Commerce, the Secretary of Consumer Affairs, the President of the Economic Development Bank, the President of the Government Development Bank, and the President of the Planning Board, has the authority to regulate the maximum interest rates and finance charges that may be charged on loans to individuals and unincorporated businesses in Puerto Rico. The current regulations of the Finance Board provide that the applicable interest rate on loans to individuals and unincorporated businesses, including real estate development loans but excluding certain other personal and commercial loans secured by mortgages on real estate properties, is to be determined by free competition. Accordingly, the regulations do not set a maximum rate for charges on retail installment sales contracts and for credit card purchases and set aside previous regulations which regulated these maximum finance charges. Furthermore, there is no maximum rate set for installment sales contracts involving motor vehicles, commercial, agricultural and industrial equipment, commercial electric appliances and insurance premiums.

     International Banking Act of Puerto Rico (“IBE Act”)

     The business and operations of the First BanCorp IBE, FirstBank IBE and FirstBank Overseas Corporation are subject to supervision and regulation by the Commissioner. Under the IBE Act, certain sales, encumbrances, assignments, mergers, exchanges or transfers of shares, interests or participation(s) in the capital of an international banking entity (an “IBE”) may not be initiated without the prior approval of the Commissioner. The IBE Act and the regulations issued thereunder by the Commissioner (the “IBE Regulations”) limit the business activities that may be carried out by an IBE. Such activities are

limited in part to persons and assets located outside of Puerto Rico.

     Pursuant to the IBE Act and the IBE Regulations, each of First BanCorp IBE, FirstBank IBE and FirstBank Overseas Corporation must maintain books and records of all its transactions in the ordinary course of business. First BanCorp IBE, FirstBank IBE and FirstBank Overseas Corporation are also required thereunder to submit to the Commissioner quarterly and annual reports of their financial condition and results of operations, including annual audited financial statements.

     The IBE Act empowers the Commissioner to revoke or suspend, after notice and hearing, a license issued thereunder if, among other things, the IBE fails to comply with the IBE Act, the IBE Regulations or the terms of its license, or if the Commissioner finds that the business or affairs of the IBE are conducted in a manner that is not consistent with the public interest.

     Puerto Rico Income Taxes

     Under the Puerto Rico Internal Revenue Code of 1994 (the “Code”), all companies are treated as separate taxable entities and are not entitled to file consolidated tax returns. The Corporation, and each of its subsidiaries are subject to a maximum statutory corporate income tax rate of 39% or an alternative minimum tax (“AMT”) on income earned from all sources, whichever is higher. The excess of AMT over regular income tax paid in any one year may be used to offset regular income tax in future years, subject to certain limitations. The Code provides for a dividend received deduction of 100% on dividends received from wholly owned subsidiaries subject to income taxation in Puerto Rico and 85% on dividends received from other taxable domestic corporations.

     In computing the interest expense deduction, the Corporation’s interest deduction will be reduced in the same proportion that the average exempt assets bear to the average total assets. Therefore, to the extent that the Corporation holds certain investments and loans which are exempt from Puerto Rico income taxation, part of its interest expense will be disallowed for tax purposes.

     The Corporation has maintained an effective tax rate lower than the maximum statutory tax rate of 43.5% (39% plus a 2.5% temporary tax and a 2% additional tax) as of December 31, 2006, mainly by investing in government obligations and mortgage-backed securities exempt from U.S. and Puerto Rico income tax combined with income from the international banking entity (IBE) units of the Corporation and the Bank and by the Bank’s subsidiary, FirstBank Overseas Corporation. The IBE, and FirstBank Overseas Corporation were created under the IBE Act, which provides for Puerto Rico tax exemption on net income derived by IBEs operating in Puerto Rico. Pursuant to the provisions of Act No. 13 of January 8, 2004, the IBE Act was amended to impose income tax at regular rates on IBEs that operate as units of a bank, to the extent that the IBEs net income exceeds 40% of the bank’s total net taxable income (including net income generated by the IBE unit) for the taxable year that commenced on July 1, 2003, 30% for the taxable year that commenced on July 1, 2004 and 20% for taxable years commencing in July 1, 2005, and thereafter. These amendments apply only to IBEs that operate as units of a bank; they do not impose income tax on an IBE that operates as a subsidiary of a bank.

     Act 41 of August 1, 2005 amended the Puerto Rico Internal Revenue Code by imposing a temporary additional tax of 2.5% on net taxable income for all corporations. This temporary tax effectively increased the statutory tax rate from 39% to 41.5%. The Act became effective for taxable years commencing after December 31, 2004 and ending on or before December 31, 2006 and therefore is effective for the 2005 and 2006 taxable years with a retroactive effect to January 1, 2005.

     Act 89 of May 13, 2006 amended the Puerto Rico Internal Revenue Code by imposing a 2% additional income tax on income subject to regular taxes of all corporations operating pursuant to Act 55 of 1933 (The Puerto Rico Banking Act). Act 89 will be effective for the taxable year commencing after December 31, 2005 and on or before December 31, 2006 and therefore, increased the statutory tax for the 2006 taxable year to 43.5%. The statutory tax will revert to 39% for taxable years commencing after December 31, 2006.

     United States Income Taxes

     The Corporation is also subject to federal income tax on its income from sources within the United States and on any item of income that is, or is considered to be, effectively connected with the active conduct of a trade or business within the United States. The U.S. Internal Revenue Code provides for tax exemption of portfolio interest received by a foreign corporation from sources within the United States, therefore, the Corporation is not subject to federal income tax on certain U.S. investments which qualify under the term “portfolio interest”.

     Insurance Operations Regulation

     FirstBank Insurance Agency, Inc. is registered as an insurance agency with the Insurance Commissioner of Puerto Rico and is subject to regulations issued by the Insurance Commissioner relating to, among other things, licensing of employees, sales, solicitation and advertising practices, and to the FDIC as to certain consumer protection provisions mandated by the Gramm-Leach-Bliley Act and its implementing regulations.

     Community Reinvestment

     Under the Community Reinvestment Act (“CRA”), federally insured banks have a continuing and affirmative obligation to meet the credit needs of their entire community, including low- and moderate-income residents, consistent with their safe and sound operation. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution’s discretion to develop the type of products and services that it believes are best suited to its particular community, consistent with the CRA. The CRA requires the federal supervisory agencies, as part of the general examination of supervised banks, to assess the bank’s record of meeting the credit needs of its community, assign a performance rating, and take such record and rating into account in their evaluation of certain applications by such bank. The CRA also requires all institutions to make public disclosure of their CRA ratings. FirstBank and FirstBank Florida received a “satisfactory” CRA rating in their most recent examinations by the FDIC.

     Mortgage Banking Operations

     FirstBank is subject to the rules and regulations of the Federal Housing Administration (“FHA”), U.S. Department of Veteran Affairs (“VA”), Federal National Mortgage Association (“FNMA”), Federal Home Loan Mortgage Corporation (“FHLMC”), Housing and Urban Development (“HUD”) and Government National Mortgage Association (“GNMA”) with respect to originating, processing, selling and servicing mortgage loans and the issuance and sale of mortgage-backed securities. Those rules and regulations, among other things, prohibit discrimination and establish underwriting guidelines that include provisions for inspections and appraisals, require credit reports on prospective borrowers and fix maximum loan amounts, and with respect to VA loans, fix maximum interest rates. Moreover, lenders such as FirstBank are required annually to submit to FHA, VA, FNMA, FHLMC, GNMA and HUD audited financial statements, and each regulatory entity has its own financial requirements. FirstBank’s affairs are also subject to supervision and examination by FHA, VA, FNMA, FHLMC, GNMA and HUD at all times to assure compliance with the applicable regulations, policies and procedures. Mortgage origination activities are subject to, among others, the Equal Credit Opportunity Act, Federal Truth-in-Lending Act, and the Real Estate Settlement Procedures Act and the regulations promulgated thereunder which, among other things, prohibit discrimination and require the disclosure of certain basic information to mortgagors concerning credit terms and settlement costs. FirstBank is licensed by the Commissioner under the Puerto Rico Mortgage Banking Law, and as such is subject to regulation by the Commissioner, with respect to, among other things, licensing requirements and establishment of maximum origination fees on certain types of mortgage loan products.

     Section 5 of the Puerto Rico Mortgage Banking Law requires the prior approval of the Commissioner for the acquisition of control of any mortgage banking institution licensed under such law. For purposes of the Puerto Rico Mortgage Banking Law, the term “control” means the power to direct or influence decisively, directly or indirectly, the management or policies of a mortgage banking institution. The Puerto Rico Mortgage Banking Law provides that a transaction that results in the holding of less than 10% of the outstanding voting securities of a mortgage banking institution shall not be considered a change in control.

     Recent Legislation

     Act 89 of May 13, 2006 imposed a 2% additional income tax on the net income subject to regular taxes of all corporations operating pursuant to Act 55 of 1933 (The Puerto Rico Banking Act). The Act became effective for the taxable year commencing after December 31, 2005 and on or before December 31, 2006, and therefore, increased the statutory tax for the 2006 taxable year to 43.5%. The statutory tax will revert to 39% for taxable years commencing after December 31, 2006.

     Act 98 of May 16, 2006 imposed an extraordinary 5% tax on the taxable income reported in the corporate tax return of corporations whose gross income exceeded $10 million for the taxable year ended on or before December 31, 2005. Covered taxpayers were required to file a special return and pay the tax no later than July 31, 2006. The extraordinary tax paid will be taken as a credit against the income tax of the entity determined for taxable years commencing after July 31, 2006, subject to certain limitations. Any unused credit may be carried forward to subsequent taxable years, subject to certain limitations.

     On December 22, 2006, Law No. 283 was approved, amending Section 27 of Law No. 55 of May 12, 1933, as amended. This law clarifies the process for the determination of loan losses by financial institutions in the Commonwealth of Puerto Rico, stipulating that accrued interest on loans past due 90 days or more should be excluded from income, except on loans collateralized by mortgages, where interest past due not exceeding one year could be included as part of income given proper disclosure of the fact that they have not been collected. It also requires that loans past due 365 days for which no interest was collected during the periods be charged to losses, except for collateralized loans and loans under legal collection efforts, which will be charged to losses up to their net realizable value.

Item 1A. Risk Factors

     Certain risk factors that may affect the Corporation’s future results of operations are discussed below.

Risks Relating to the 2004 Restatement Process

     First BanCorp is subject to the ongoing regulatory investigation by the SEC

     On August 25, 2005, the Corporation announced the receipt of a letter from the SEC in which the SEC indicated that it was conducting an informal inquiry of, among other things, the Corporation’s accounting for mortgage loans purchased by the Corporation from two other financial institutions during the calendar years 1999 through 2004. On October 21, 2005, the Corporation announced that the SEC had issued a formal order of investigation into the accounting for the mortgage–related transactions with Doral and R&G.

     First BanCorp has been engaged in discussions with the staff of the SEC regarding a possible resolution to its investigation of the Corporation’s restatement, and has accrued $8.5 million in its consolidated financial statements for the year ended December 31, 2005 in connection with a potential settlement of the SEC’s investigation of the Corporation. Any settlement is subject to the approval of the SEC. There can be no assurance that the Corporation’s efforts to resolve the SEC’s investigation with respect to the Corporation will be successful, or that the amount accrued will be sufficient, and the Corporation cannot predict at this time the timing or final terms of any settlement.

     Settlement of pending litigation may not be approved

     As a consequence of the accounting review and restatement, the Corporation is subject to pending class-action proceedings (refer to “Significant Events” above). Following the announcement of the Audit Committee’s review, the Corporation and certain of its officers and directors and former officers and directors were named as defendants in five separate securities class actions filed between October 31, 2005 and December 5, 2005, alleging violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. All securities class actions were consolidated into one case named “In Re: First BanCorp Securities Litigations”. During the first quarter of 2007, the Corporation reached an agreement in principle and signed a memorandum of understanding to settle all claims with the lead plaintiffs in the shareholder class action. Under the terms of the settlement, which is subject to final approval by the United States District Court for the District of Puerto Rico, First BanCorp will pay the plaintiffs $74.25 million. The Corporation accrued $74.25 million in its consolidated financial statements for the year ended December 31, 2005 in connection with a potential settlement. No assurance can be given that the Court will approve the settlement.

     Banking regulators could take adverse action against the Corporation or its banking subsidiaries as a result of the Consent Orders

     The Corporation is subject to supervision and regulation by the Board of Governors of the Federal Reserve System. The Corporation is a bank holding company that qualifies as a financial holding corporation. As such, the Corporation is permitted to engage in a broader spectrum of activities than those permitted to bank holding companies that are not financial holding companies. To continue to qualify as a financial holding corporation, each of the Corporation’s banking subsidiaries must continue to qualify as “well-capitalized” and “well-managed.” As of December 31, 2006, the Corporation and its banking subsidiaries continue to satisfy all applicable capital guidelines. This, however, does not prevent banking regulators from taking adverse actions against the Corporation or its banking subsidiaries as a result of the Consent Orders or related internal control matters. If the Corporation were not to continue to qualify as a financial holding corporation, it might be required to discontinue certain activities and may be prohibited from engaging in new activities without prior regulatory approval.

     Federal banking regulators, in the performance of their supervisory and enforcement duties, have significant discretion and power to initiate enforcement actions for violations of laws and regulations and unsafe or unsound practices. Failure of the Corporation or FirstBank to remain in compliance with the terms of the Consent Orders could result in the imposition of additional cease and desist orders and/or in monetary penalties.

     Downgrades in the Corporation’s credit ratings could potentially increase the cost of borrowing funds

     Following the Corporation’s announcement on October 21, 2005 that the SEC had issued a formal order of investigation, the major rating agencies downgraded the Corporation’s and FirstBank’s ratings in a series of actions. Fitch Ratings, Ltd. lowered the Corporation’s long-term senior debt rating from BBB- to BB and placed the rating on Rating Watch Negative. Standard & Poors lowered the long-term senior debt and counterparty rating of FirstBank from BBB- to BB+ and placed the rating on Credit Watch Negative. Moody’s Investor Service lowered FirstBank’s long-term senior debt rating from Baa3 to

Ba1 and placed the rating on negative outlook. These or further downgrades may adversely affect the Corporation’s and FirstBank’s ability to access capital and will likely result in more stringent covenants and higher interest rates under the terms of any future indebtedness.

     These debt and financial strength ratings are current opinions of the rating agencies. As such, they may be changed, suspended or withdrawn at any time by the rating agencies as a result of changes in, or unavailability of, information or based on other circumstances.

     The Corporation’s liquidity is contingent upon its ability to obtain external sources of funding to finance its operations. Downgrades in credit ratings can hinder the Corporation’s access to external funding and/or cause external funding to be more expensive, which could in turn adversely affect the results of operations.

     There is a lack of public disclosure concerning the Corporation

     The Corporation has not yet filed with the SEC its quarterly reports on Form 10-Q for the fiscal quarters ended June 30, 2005, September 30, 2005, March 31, 2006, June 30, 2006, September 30, 2006 and March 31, 2007 or the interim financial information required by those reports. In addition, it needs to file an Amended quarterly report in Form 10-Q for fiscal quarter ended March 31, 2005 or the restated interim financial information required by that report. The Corporation expects to file these reports or the financial information required by these reports as soon as practicable after the filing of this Form 10-K. Until the Corporation files this financial information, there will be limited public information available concerning the Corporation’s most recent interim results of operations.

     The Corporation’s delay in filing all required financial statements may adversely affect its ability to attract customers, investors and employees

     The Corporation’s ability to attract customers and investors may be adversely affected by its delay in filing all the required financial statements and the risks and uncertainties that delay may suggest. This delay may also have an adverse effect on the Corporation’s ability to attract and retain key employees and management personnel.

Risks Relating to the Corporation’s Business

     Fluctuations in interest rates may impact the Corporation’s results of operations

     Increases in interest rates are the primary market risk affecting the Corporation. Interest rates are highly sensitive to many factors, such as governmental monetary policies and domestic and international economic and political conditions that are beyond the control of the Corporation.

     Since the year 2004, interest rates have been increasing and this may negatively affect the following areas of the Corporation’s business:

	•		The net interest income;
	•		The value of owned securities, including interest rate swaps; and
	•		the volume of loans originated, particularly mortgage loans.

     Increases in interest rates may reduce net interest income

     Increases in short-term interest rates may reduce net interest income, which is the principal component of the Corporation’s earnings. Net interest income is the difference between the amount received by the Corporation on its interest-earning assets and the interest paid by the Corporation on its interest-bearing liabilities. When interest rates rise, the Corporation must pay more in interest on its liabilities while the interest earned on its assets does not rise as quickly. This may cause the Corporation’s profits to decrease.

     Increases in interest rates may reduce the value of holdings of securities

     Fixed-rate securities entered into by the Corporation are generally subject to decreases in market value when interest rates rise, which would require recognition of a loss, thereby potentially affecting adversely the results of operations.

     Increases in interest rates may reduce demand for mortgage and other loans

     Higher interest rates increase the cost of mortgage and other loans to consumers and businesses and may reduce demand for such loans, which may negatively impact the Corporation’s profits by reducing the amount of loan origination income.

     The Corporation is subject to default risk on loans, which may adversely affect its results

     The Corporation is subject to the risk of loss from loan defaults and foreclosures with respect to the loans it originates. The Corporation establishes a provision for loan losses, which leads to reductions in its income from operations, in order to maintain its allowance for inherent loan losses at a level which its management deems to be appropriate based upon an assessment of the quality of its loan portfolio. Although the Corporation’s management utilizes its best judgment in providing for loan losses, there can be no assurance that management has accurately estimated the level of inherent loan losses or that the Corporation will not have to increase its provision for loan losses in the future as a result of future increases in non performing loans or for other reasons beyond its control. Any such increases in the Corporation’s provision for loan losses or any loan losses in excess of its provision for loan losses would have an adverse effect on the Corporation’s future financial condition and results of operations. Given the difficulties that the Corporation’s largest borrowers have had, the Corporation can give no assurance that these borrowers, Doral and R&G Financial, will continue to repay their secured loans on a timely basis or that the Corporation will continue to be able to accurately assess any risk of loss from the loans to these financial institutions.

     The Corporation’s business concentration in Puerto Rico imposes risks

     The Corporation conducts its operations in a geographically concentrated area, as its main market is Puerto Rico. This imposes risks from lack of diversification in the geographical portfolio. The Corporation’s financial condition and results of operations are highly dependent on the economic conditions of Puerto Rico, where adverse political or economic developments, natural disasters, etc. could affect the volume of loan originations, increase the level of nonperforming assets, increase the rate of foreclosure losses on loans, and reduce the value of the Corporation’s loans and loan servicing portfolio.

     These factors could materially and adversely affect the Corporation’s financial condition and results of operations. As a result of the reclassification of purchases of mortgage loans, the Corporation had substantial secured loans to local financial institutions in the amount of $932.0 million and $3.7 billion as of December 31, 2006 and 2005, respectively.

     First BanCorp is subject to risks associated with the Commonwealth of Puerto Rico’s temporary budget crisis

     Due to a budget impasse, the Commonwealth of Puerto Rico (the “Commonwealth”) closed all public agencies on May 1, 2006, except those related to safety, health and other essential services. All agencies were subsequently opened two weeks later and a budget approval by the Legislature was signed into law by the Governor, Aníbal Acevedo Vilá. Subsequently, Moody’s Investors Service downgraded the Commonwealth’s general obligation bond rating to Baa3 from Baa2, and kept the rating on Watchlist for possible further downgrade.

     According to Moody’s, this action reflects the Commonwealth’s strained financial condition, and ongoing political conflict and lack of agreement regarding the measures necessary to end the government’s multi-year trend of financial deterioration. A fiscal reform has been recently approved, where the House and Senate approved a tax reform authorizing a 5.5% state sales tax and a 1.5% optional municipal tax, with the option, if expected revenues do not materialize, to raise it an additional 1% after December 2006. Nevertheless, significant budget deficits and fiscal imbalance could continue in the coming years. Any significant adverse political or economic developments in Puerto Rico resulting from the budget impasse could have a negative impact on the Corporation’s future financial condition and results of operations.

     Rating downgrades on the Government of Puerto Rico’s debt obligations may affect the Corporation’s credit exposure

     Even though Puerto Rico’s economy is closely integrated to that of the U.S. mainland and its government and many of its instrumentalities are investment-grade rated borrowers in the U.S. capital markets, the current fiscal situation of the Government of Puerto Rico has led nationally recognized rating agencies to downgrade its debt obligations.

     In May 2006, Moody’s Investors Service downgraded the Government’s general obligation bond rating to Baa3 from Baa2, and put the credit on “watchlist” for possible further downgrades. The Commonwealth’s appropriation bonds and some of the subordinated revenue bonds were also downgraded by one notch and are now rated just below investment grade at Ba1. Moody’s commented that this action reflects the Government’s strained financial condition, the ongoing political conflict and lack of agreement regarding the measures necessary to end the government’s multi-year trend of financial deterioration. Standard & Poor’s Rating Services (“S&P”) still rates the Government’s general obligations two notches above junk at BBB, and the Commonwealth’s appropriation bonds and some of the subordinated revenue bonds BBB-, a category that continues to

be investment-grade rated.

     In July 2006, S&P and Moody’s affirmed their credit ratings on the Commonwealth debt, and removed the debt from their respective watch lists, thus reducing the possibility of an immediate additional downgrade. These actions resulted after the Government approved the budget for the 2007 fiscal year, which runs from July 2006 through June 2007 and included the adoption of a new sales tax. Revenues from the sales tax are to be dedicated primarily to fund the government’s operating expenses, and to a lesser extent, to repay government debt and fund local municipal governments.

     Both rating agencies maintained the negative outlook for the Puerto Rico obligation bonds. Factors such as the government’s ability to implement meaningful steps to curb operating expenditures, improve managerial and budgetary controls, and eliminate the government’s reliance on operating budget loans from the Government Development Bank of Puerto Rico will be key determinants of future rating stability and restoration of a stable long-term outlook. Also, the inability to agree on future fiscal year Commonwealth budgets could result in ratings pressure from the rating agencies.

     It is uncertain how the financial markets may react to any potential future ratings downgrade in Puerto Rico’s debt obligations. However, the fallout from the recent budgetary crisis and a possible ratings downgrade could adversely affect the value of Puerto Rico’s Government obligations.

     First Bancorp’s credit quality may be adversely affected by Puerto Rico’s current economic condition

     The slowdown in the island’s growth rate, which appears to have started in 2005 according to the Puerto Rico Planning Board statistics, has continued in 2006. In addition, manufacturing has declined in 2006, for the first time since 2002.

     Construction remained relatively weak during 2006, as the combination of rising interest rates, the Commonwealth’s fiscal situation and decreasing public investment in construction projects affected the sector. The value of construction permits during the fiscal year ending June 2006 declined 4.3%, with most of the drop coming from the public sector. Retail sales during the six months ending June 2006 also reflected the uncertainty prevalent at the time related to the Commonwealth’s fiscal situation, as well as increased oil and utility prices. Sales registered a decline of 1.9% as compared to the same period in 2005, as the months surrounding the temporary government shutdown were particularly affected. The unemployment rate was 10.2% as of December 2006.

     In general, it is apparent that in 2006 the Puerto Rican economy continued its trend of decreasing growth and ended the first half of the year with minimal momentum, primarily due to weaker manufacturing, softer consumption and decreased government investment in construction.

     The above economic concerns and uncertainty in the private and public sectors may also have an adverse effect on the credit quality of the Corporation’s loan portfolios, as delinquency rates are expected to increase in the short-term, until the economy stabilizes. Also, a potential reduction in consumer spending may also impact growth in other interest and non-interest revenue sources of the Corporation.

     A prolonged economic slowdown or a decline in the real estate market in the U.S mainland could harm the results of operations of FirstMortgage

     The residential mortgage loan origination business has historically been cyclical, enjoying periods of strong growth and profitability followed by periods of shrinking volumes and industry-wide losses. Any decline in residential mortgage loan originations in the market could also reduce the level of mortgage loans the Corporation may produce in the future and adversely impact our business. During periods of rising interest rates, refinancing originations for many mortgage products tend to decrease as the economic incentives for borrowers to refinance their existing mortgage loans are reduced. In addition, the residential mortgage loan origination business is impacted by home values. Over the past year, residential real estate values in some areas of the U.S. mainland have decreased greatly, which has led to lower volumes and higher losses across the industry, adversely impacting our mortgage business.

     The actual rates of delinquencies, foreclosures and losses on loans could be higher during economic slowdowns. Rising unemployment, higher interest rates or declines in housing prices tend to have a greater negative effect on the ability of borrowers to repay their mortgage loans. Any sustained period of increased delinquencies, foreclosures or losses could harm the Corporation’s ability to sell loans, the prices the Corporation receives for loans, the values of mortgage loans held-for-sale or residual interests in securitizations, which could harm the Corporation’s financial condition and results of operations. In addition, any material decline in real estate values would weaken the collateral loan-to-value ratios and increase the possibility of loss if a borrower defaults. In such event, the Corporation will be subject to the risk of loss on such mortgage asset arising from borrower defaults to the extent not covered by third-party credit enhancement.

     Changes in regulations and legislation could have a financial impact on First BanCorp

     As a financial institution, the Corporation is subject to the scrutiny of various regulatory and legislative bodies. Any change in regulations and/or legislation, whether in the United States or Puerto Rico, could have a financial impact on the results of operations of the Corporation.

Item 1B. Unresolved Staff Comments

     None.

Item 2. Properties

     As of December 31, 2006, First BanCorp owned the following three main offices located in Puerto Rico:

     Main offices:

1.		Headquarter Offices – Located at First Federal Building, 1519 Ponce de León Avenue, Santurce, Puerto Rico, a 16 story office building. Approximately 60% of the building, an underground three level parking lot and an adjacent parking lot are owned by the Corporation.
2.		EDP & Operations Center – A five-story structure located at 1506 Ponce de León Avenue, Santurce, Puerto Rico. These facilities are fully occupied by the Corporation.
3.		Consumer Lending Center – A three-story building with a three-level parking lot located at 876 Muñoz Rivera Avenue, corner Jesús T. Piñero Avenue, Hato Rey, Puerto Rico. These facilities are fully occupied by the Corporation. In addition, during 2006, First BanCorp purchased the following office located in Puerto Rico:

1130

Muñoz Rivera – a building located on 1130 Muñoz Rivera Avenue, Hato Rey, Puerto Rico. These facilities will be remodeled and expanded to accommodate branch operations, data processing, administrative and headquarter offices. FirstBank expects to commence occupancy as soon as practicable.

     In addition, the Corporation owned 28 branch and office premises and an auto lot and leased 107 branch premises, loan and office centers and other facilities. All of these premises are located in Puerto Rico and in the U.S. and British Virgin Islands and Florida. Management believes that the Corporation’s properties are well maintained and are suitable for the Corporation’s business as presently conducted.

Item 3. Legal Proceedings

     During 2006, the Corporation became subject to various legal proceedings, including regulatory investigations and civil litigation, as a result of the restatement of the 2004 financial information. For information on these proceedings, see “Significant Events — Governmental Action” and “Significant Events – Private Litigation”, above.

     Additionally, the Corporation and its subsidiaries are defendants in various lawsuits arising in the ordinary course of business. In the opinion of the Corporation’s management, except as described in the Significant Events section above, the pending and threatened legal proceedings of which management is aware will not have a material adverse effect on the financial condition or results of operations of the Corporation.

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

     None.

PART II

Item 5. Market for Registrant’s Common Equity and Related Stockholder Matters and Issuer Purchases of Equity Securities

     Market and Holders Information

     The Corporation’s common stock is traded on the New York Stock Exchange under the symbol FBP. On December 31, 2006, there were 566 holders of record of the Corporation’s common stock.

     The following table sets forth the high and low prices of the Corporation’s common stock for the periods indicated as reported by the NYSE. This table reflects the effect of the June 2005 two-for-one stock split on the Corporation’s outstanding shares of common stock as of June 15, 2005.

Quarter ended		High				Low				Last
2006:
December		$	10.79			$	9.39			$	9.53
September			11.15				8.66				11.06
June			12.22				8.90				9.30
March			13.15				12.20				12.36
2005:
December		$	15.56			$	10.61			$	12.41
September			26.07				16.50				16.92
June			21.31				17.31				20.08
March			32.26				20.78				21.13
2004:
December		$	32.43			$	23.65			$	31.76
September			24.93				19.81				24.15
June			21.34				17.57				20.38
March			21.66				19.50				20.80

     First BanCorp has five outstanding series of non convertible preferred stock: 7.125% non-cumulative perpetual monthly income preferred stock, Series A (liquidation preference $25 per share), 8.35% non-cumulative perpetual monthly income preferred stock, Series B (liquidation preference $25 per share), 7.40% non-cumulative perpetual monthly income preferred stock, Series C (liquidation preference $25 per share), 7.25% non-cumulative perpetual monthly income preferred stock, Series D (liquidation preference $25 per share,) and 7.00% non-cumulative perpetual monthly income preferred stock, Series E (liquidation preference $25 per share) (collectively “Preferred Stock”), which trade on the NYSE.

     On March 19, 2007, the Corporation received a letter from the NYSE advising that the procedures in Section 802.01E of the Listed Company Manual are applicable to the Corporation as a result of the fact that it did not file with the SEC the Corporation’s Annual Report on Form 10-K for the fiscal year ended December 31, 2006 (the “2006 10-K”) by March 1, 2007, the date on which it was required to have been filed under Section 13 of the Securities Exchange Act of 1934. Among other things, the NYSE advised the Corporation that it will post the Corporation’s 2006 10-K to the annual late filers list on the Listing Standards Filing Status page on the NYSE’s website on March 22, 2007. The NYSE also advised the Corporation that, pursuant to Section 802.01E of the Listed Company Manual, the NYSE is closely monitoring the status of the Corporation’s late filing and, if the Corporation does not file the 2006 10-K within six months of the March 1, 2007 due date, the NYSE will determine whether to allow the Corporation’s securities to trade for up to an additional six months or to commence suspension and delisting procedures. With the filing of this 2006 10-K, the Corporation complies with the six-month filing requirement

     Dividends

     The Corporation has a policy of paying quarterly cash dividends on its outstanding shares of common stock. Accordingly, the Corporation declared a cash dividend of $0.07 per share for each quarter of 2006, $0.07 per share for each quarter of 2005 and $0.06 per share for each quarter of 2004. See the discussion under “Dividend Restrictions” under Item 1 for additional information concerning restrictions on the payment of dividends that apply to the Corporation and FirstBank.

     The Puerto Rico Internal Revenue Code requires the withholding of income tax from dividend income derived by resident U.S. citizens, special partnerships, trusts and estates and non-resident U.S. citizens, custodians, partnerships, and corporations from sources within Puerto Rico.

     Resident U.S. Citizens

     A special tax of 10% is imposed on eligible dividends paid to individuals, special partnerships, trusts, and estates to be applied to all distributions unless the taxpayer specifically elects otherwise. Once this election is made it is irrevocable. However, the taxpayer can elect to include in gross income the eligible distributions received and take a credit for the amount of tax withheld. If the taxpayer does not make this election on the tax return, then he can exclude from gross income the

distributions received and reported without claiming the credit for the tax withheld.

     Nonresident U.S. Citizens

     Nonresident U.S. citizens have the right to certain exemptions when a Withholding Tax Exemption Certificate (Form 2732) is properly completed and filed with the Corporation. The Corporation, as withholding agent, is authorized to withhold a tax of 10% only from the excess of the income paid over the applicable tax-exempt amount.

     U.S. Corporations and Partnerships

     Corporations and partnerships not organized under Puerto Rico laws that have not engaged in trade or business in Puerto Rico during the taxable year in which the dividend is paid are subject to the 10% dividend tax withholding. Corporations or partnerships not organized under the laws of Puerto Rico that have engaged in trade or business in Puerto Rico are not subject to the 10% withholding, but they must declare the dividend as gross income on their Puerto Rico income tax return.

Equity Compensation Plan Disclosure

     The following summarizes equity compensation plans approved by security holders as of December 31, 2006.

(A)

(B)

(C)

Number of Securities

Remaining Available for

Number of Securities

Future Issuance Under

to be Issued Upon

Weighted-Average

Equity Compensation

Exercise of Outstanding

Exercise Price of

Plans (Excluding Securities

Plan category

Options

Outstanding Options

Reflected in Column (A))

Equity compensation plans approved by stockholders:

Stock option plans

3,024,410

$

13.95

1,856,267

Sub-total

3,024,410

$

13.95

1,856,267

Equity compensation plans not approved by stockholders

N/A

N/A

N/A

Total

3,024,410

$

13.95

1,856,267

     The stock option plan expired January 21, 2007.

Item 6. Selected Financial Data

     The following table presents consolidated financial and operating information for the Corporation as of the dates indicated. This information should be read in conjunction with the audited financial statements and the notes thereto.

SELECTED FINANCIAL DATA

(Dollars in thousands except for per share and financial ratios results)

		2006				2005				2004				2003				2002
Condensed Income Statements: Year ended
Total interest income		$	1,288,813			$	1,067,590			$	690,334			$	549,466			$	550,107
Total interest expense (1)			845,119				635,271				292,853				297,528				235,575
Net interest income			443,694				432,319				397,481				251,938				314,532
Provision for loan and lease losses			74,991				50,644				52,800				55,915				62,302
Non-interest income			31,336				63,077				59,624				106,798				48,785
Non-interest expenses			287,963				315,132				180,480				164,630				132,811
Income before income tax provision			112,076				129,620				223,825				138,191				168,204
Income tax provision			27,442				15,016				46,500				18,297				35,342
Net income			84,634				114,604				177,325				119,894				132,862
Per Common Share Results (2): Year ended
Net income per common share diluted		$	0.53			$	0.90			$	1.65			$	1.09			$	1.32
Net income per common share basic		$	0.54			$	0.92			$	1.70			$	1.12			$	1.34
Cash dividends declared		$	0.28			$	0.28			$	0.24			$	0.22			$	0.20
Average shares outstanding			82,835				80,847				80,419				79,988				79,802
Average shares outstanding diluted			83,138				82,771				83,010				81,966				81,106
Balance Sheet Data: End of year
Loans and loans held for sale		$	11,263,980			$	12,685,929			$	9,697,994			$	7,041,055			$	5,635,023
Allowance for loan and lease losses			158,296				147,999				141,036				126,378				111,911
Investments			5,544,183				6,653,924				5,699,201				5,368,123				3,728,669
Total assets			17,390,256				19,917,651				15,637,045				12,679,042				9,625,110
Deposits			11,004,287				12,463,752				7,912,322				6,771,869				5,445,714
Borrowings			4,662,271				5,750,197				6,300,573				4,634,237				3,238,369
Total common equity			679,453				647,741				654,233				523,722				455,522
Total equity			1,229,553				1,197,841				1,204,333				1,073,822				816,022
Book value per common share			8.16				8.01				8.10				6.54				5.70
Selected Financial Ratios (In Percent): Year ended
Net income to average total assets			0.44				0.64				1.30				1.15				1.51
Net income to average total equity			7.06				8.98				15.73				13.31				18.63
Net income to average common equity			6.85				10.23				23.75				18.21				29.49
Average total equity to average total assets			6.25				7.09				8.28				8.64				8.11
Dividend payout ratio			52.50				30.46				14.10				19.66				15.00
Efficiency ratio (3)			60.62				63.61				39.48				45.89				36.56
Common Stock Price: End of year		$	9.53			$	12.41			$	31.76			$	19.78			$	11.30
Offices:
Number of full service branches			71				68				57				54				54

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

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     The following Management’s Discussion and Analysis of Financial Condition and Results of Operations relates to the accompanying consolidated audited financial statements of First BanCorp. (“the Corporation” or “First BanCorp”) and should be read in conjunction with the audited financial statements and the notes thereto.

Description of Business

     First BanCorp and subsidiaries (“the Corporation”) is a diversified financial holding company headquartered in San Juan, Puerto Rico offering a full range of financial products to consumers and commercial customers through various subsidiaries. First BanCorp is the holding company of FirstBank Puerto Rico (“FirstBank” or the “Bank”), Ponce General Corporation (the holding company of FirstBank Florida) and FirstBank Insurance Agency. Through its wholly-owned subsidiaries, the Corporation operates offices in Puerto Rico, the United States and British Virgin Islands and the State of Florida (USA) specializing in commercial banking, residential mortgage loan originations, finance leases, personal loans, small loans, vehicle rental, insurance agency services and international banking.

     On March 31, 2005, the Corporation completed the acquisition of 100% of the outstanding common shares of Ponce General Corporation, the holding company of Unibank a thrift subsidiary, and Ponce Realty, with a total of eleven financial service facilities in the State of Florida. The purpose of the acquisition was for First BanCorp to build a platform in Florida to consider further expansion into the United States. The Corporation subsequently changed the name of Unibank to FirstBank Florida.

     The Corporation’s results of operations are sensitive to fluctuations in interest rates. Changes in interest rates can materially affect key earnings drivers such as the volume of loan originations, net interest income earned, and gains/losses on investment security holdings. The Corporation manages interest rate risk on an ongoing basis through asset/liability management strategies, which have included the use of various derivative instruments. The Corporation also manages credit risk inherent in its loan portfolios through its underwriting, loan review and collection functions. The Corporation’s business activities and credit exposures are mainly concentrated in Puerto Rico. Consequently, its financial condition and results of operations are dependent on the economic conditions as well as changes in legislation on the Island.

Forward Looking Statements

     This Form 10-K contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. When used in this Form 10-K or future filings by First BanCorp with the Securities and Exchange Commission, in the Corporation’s press releases or in other public or shareholder communications, or in oral statements made with the approval of an authorized executive officer, the word or phrases “would be,” “will allow,” “intends to,” “will likely result,” “are expected to,” “should,” “anticipate” and similar expressions are meant to identify “forward-looking statements.”

     First BanCorp wishes to caution readers not to place undue reliance on any such “forward-looking statements,” which speak only as of the date made, and represent First BanCorp’s expectations of future conditions or results and are not guarantees of future performance. First BanCorp advises readers that various factors could cause actual results to differ materially from those contained in any “forward-looking statement.” Such factors include, but are not limited to, the following:

	•		risks associated with the Corporation’s inability to prepare and timely submit regulatory filings;
	•		the Corporation’s ability to attract new clients and retain existing ones;
	•		general economic conditions, including prevailing interest rates and the performance of the financial markets, which may affect demand for the Corporation’s products and services and the value of the Corporation’s assets, including the value of the interest rate swaps that hedge the interest rate risk mainly relating to brokered certificates of deposit (“brokered CDs”) and medium-term notes;
	•		risks arising from worsening economic conditions in Puerto Rico;
	•		risks arising from credit and other risks of lending and investment activities;
	•		changes in the Corporation’s expenses associated with acquisitions and dispositions;
	•		developments in technology;
	•		risks associated with changing the Corporation’s business strategy to no longer acquire mortgage loans in bulk;

•

risks associated with the ongoing SEC investigation;

	•		the completion of the sale of shares of common stock to Bank of Nova Scotia, which is conditioned on, among other things, regulatory approvals;
	•		the ability to finalize the settlement of the shareholder litigation;
	•		the impact of Doral’s financial condition on its repayment of its outstanding secured loan to FirstBank;
	•		risks associated with being subject to the cease and desist order;
	•		potential further downgrades in the credit ratings of the Corporation’s securities;
	•		general competitive factors and industry consolidation; and
	•		risks associated with regulatory and legislative changes for financial services companies in Puerto Rico, the United States, and the U.S. and British Virgin Islands.

     The Corporation does not undertake, and specifically disclaims any obligation, to update any “forward-looking statements” to reflect occurrences or unanticipated events or circumstances after the date of such statements except as required by the federal securities laws.

     Investors should carefully consider these factors and the risk factors outlined under Item 1A. Risk Factors, in this Annual Report on Form 10-K.

Internal Control over Financial Reporting

     Over the course of the Corporation’s restatement of its financial statements for periods between January 1, 2000 and December 31, 2004, the Corporation’s management identified a number of material weaknesses in its internal control over financial reporting as of December 31, 2004 and 2005. The Corporation took a number of significant actions to remedy the material weaknesses in its internal controls identified in 2004 and 2005. The Corporation developed and implemented a plan for remedying all of the identified material weaknesses. In addition, as part of this remediation program, the Corporation has added skilled resources to improve controls and increase the reliability of the financial reporting process. As a result, First BanCorp’s management concluded that its internal controls over financial reporting were effective as of December 31, 2006 based on the criteria set forth in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).

Overview of Management’s Discussion and Analysis of Financial Condition and Results of Operations

     First BanCorp’s results of operations depend primarily upon its net interest income, which is the difference between the interest income earned on its interest-earning assets, including investment securities and loans, and the interest expense on its interest-bearing liabilities, including deposits and borrowings. Net interest income is affected by various factors including the interest rate scenario, the volumes, mix and composition of interest-earning assets and interest-bearing liabilities and the re-pricing and/or maturity mismatch of these assets and liabilities. The Corporation’s results of operations also depend on the provision for loan and lease losses, non-interest expenses (such as personnel, occupancy and other costs), non-interest income (mainly service charges and fees on loans and deposit accounts), the result of derivative activities, gains (losses) on investments and gains (losses) on sale of loans, and income taxes.

     Net income for the year ended December 31, 2006 amounted to $84.6 million or $0.53 per common share (diluted), compared to $114.6 million or $0.90 per common share (diluted) for 2005 and $177.3 million or $1.65 per common share (diluted) for 2004.

     For the year ended December 31, 2006, the Corporation’s results of operations were mainly impacted by the following factors: (1) net interest income was impacted by negative changes in the fair value of derivative instruments prior to the implementation of the long-haul method of accounting on April 3, 2006 and a lower net interest margin as a result of the flat to inverted yield curve, (2) a higher provision for loan and lease losses, (3) a net loss of $10.6 million on the partial extinguishment of a secured commercial loan to a local financial institution, (4) other-than-temporary impairments to the Corporation’s investment portfolio, (5) higher recurring non-interest expenses, mainly employees’ compensation and benefits, (6) lower nonrecurring non-interest expenses due to accruals in 2005 for the potential settlement of the class action lawsuits and SEC investigation partially offset in 2006 by an increase in professional fees associated with the Audit Committee’s review and the restatement, and (7) a higher provision for income taxes resulting primarily from the change in the deferred tax provision relating to the possible settlements. The following table summarizes the effect that the aforementioned factors had on net income applicable to common stock and earnings per common share for the last three years:

		2006								2005								2004
In thousands, except per common share amounts		Dollars				Per share				Dollars				Per share				Dollars				Per share
Net income applicable to common stock for prior year		$	74,328			$	0.90			$	137,049			$	1.65			$	89,535			$	1.09
Increase (decrease) from changes in:
Net interest income			11,375				0.14				34,838				0.42				145,543				1.78
Provision for loan losses			(24,347	)			(0.29	)			2,156				0.03				3,116				0.04
Loss on partial extinguishment of secured commercial loan to local financial institution			(10,640	)			(0.13	)			—				—				—				—
Net gain (loss) on investments and impairments			(20,533	)			(0.25	)			2,882				0.03				(26,133	)			(0.32	)
Gain on sale of credit card portfolio			500				0.01				(5,533	)			(0.07	)			(26,853	)			(0.33	)
Other non-interest income			(1,068	)			(0.01	)			6,104				0.08				5,810				0.07
Employees’ compensation and benefits			(25,445	)			(0.31	)			(19,638	)			(0.24	)			(7,951	)			(0.10	)
Professional fees			(18,708	)			(0.23	)			(9,222	)			(0.11	)			(1,173	)			(0.01	)
Provision for contingencies			82,750				1.00				(82,750	)			(1.00	)			—				—
All other operating expenses			(11,428	)			(0.14	)			(23,042	)			(0.27	)			(6,725	)			(0.09	)
Income tax provision			(12,426	)			(0.15	)			31,484				0.38				(28,203	)			(0.34	)
Net income before preferred stock dividends and change in average common shares			44,358				0.54				74,328				0.90				146,966				1.79
Increase in preferred stock dividends			—				—				—				—				(9,917	)			(0.12	)
Change in average common shares			—				(0.01	)			—				—				—				(0.02	)
Net income available to common stockholders		$	44,358			$	0.53			$	74,328			$	0.90			$	137,049			$	1.65

	•		Net income for the year ended December 31, 2006 was $84.6 million compared to $114.6 million and $177.3 million for the years ended December 31, 2005 and 2004, respectively.
	•		Diluted earnings per common share for the year ended December 31, 2006 amounted to $0.53 compared to $0.90 and $1.65 for the years ended December 31, 2005 and 2004, respectively.
	•		Net interest income for the year ended December 31, 2006 was $443.7 million compared to $432.3 million and $397.5 million for the years ended December 31, 2005 and 2004, respectively. The increase in net interest income for the year 2006 was mainly driven by the increase in the average volume of interest-earning assets of $1.1 billion attributable primarily to the growth in the Corporation’s loan and investment portfolios, in particular the construction loan and residential real estate loan portfolios as well as short-term investments, partially offset by a reduction in the net interest margin, which on a tax equivalent basis (for definition and reconciliation of this non-GAAP measure, refer to the “Net Interest Income” discussion below) decreased by 39 basis points due to the flattening of the yield curve, and fluctuations in net interest incurred on interest rate swaps. The decrease in the Corporation’s net interest margin on a tax equivalent basis has been particularly significant with respect to the Corporation’s portfolio of investment securities, excluding money market instruments. Assuming a funding cost equal to the weighted-average cost of the Corporation’s other borrowed funds, the interest rate spread on the Corporation’s portfolio of investment securities, excluding money market instruments, was approximately 0.64% for the year ended December 31, 2006 compared to 1.90% and 2.39% for the years ended December 31, 2005 and 2004, respectively. The decrease in net interest margin for 2006 was also attributable to the payment of $2.4 billion received from a local financial institution during the second quarter of 2006 that significantly reduced its secured commercial loan with the Corporation. Proceeds from the repayment were invested temporarily in short-term investments, reducing the Corporation’s average yield on interest-earning assets. During the second half of 2006, the Corporation used a part of the repayment proceeds to repay higher rate outstanding brokered CDs that matured.
			The increase in short-term rates also resulted in a change in net payments on interest rate swaps included as part of interest expense. For the year ended December 31, 2006, the net settlement payments on such interest rate swaps resulted in charges of $8.9 million to interest expense as compared to net interest realized of $71.7 million, or a net increase of $80.6 million in interest expense compared to the previous year, as the rates paid under the variable leg of the swaps exceeded the rates received.
			Net interest income for the years ended December 31, 2006, 2005, and 2004 was also impacted by fluctuations in the valuation of derivative instruments. For the year ended December 31, 2006, the Corporation recorded as part of interest expense $61.9 million in unrealized losses in the fair value of derivative instruments, compared to unrealized losses of $71.0 million in 2005 and unrealized gains of $13.0 million in 2004.
	•		The provision for loan and lease losses for the year 2006 was $75.0 million compared to $50.6 million and $52.8 million for the years 2005 and 2004, respectively. The increase in the provision for 2006 principally reflects growth in the Corporation’s commercial, excluding loans to local financial institutions, and consumer portfolios, and increasing trends in non-performing loans experienced during 2006 as compared to 2005. The Corporation’s net charge-offs and non-performing loans were affected by the fiscal and economic situation of Puerto Rico. According to the Puerto Rico Planning Board, Puerto Rico is in the midst of a recession. The slowdown in activity is the result of, among other things, higher

utility prices, higher taxes, governmental budget imbalances, the upward trend in short-term interest rates and the flattening of the yield curve, and higher levels of oil prices. The decrease in provision during 2005, compared to 2004, was primarily attributable to the seasoning of the corporate commercial loans portfolio and to a decrease in the specific reserve allocated to a commercial loan.

	•		Non-interest income for the year ended December 31, 2006 was $31.3 million compared to $63.1 million and $59.6 million for the years ended December 31, 2005 and 2004, respectively. The decrease in non-interest income in 2006, compared to 2005, was mainly attributable to a net loss of $10.6 million on the partial extinguishment of a secured commercial loan to a local financial institution, an increase in other-than-temporary impairment charges of $6.9 million in the Corporation’s investment portfolio and lower gains on the sale of investments of $13.7 million. These negative variances were partially offset by increases of $1.8 million in commission income from the Corporation’s insurance business and $1.3 million in service charges on deposit accounts and loans. The increase in non-interest income in 2005, compared to 2004, was mainly attributable to increases of $3.0 million in commission income from the Corporation’s insurance businesses, $2.4 million in other service charges on deposit accounts and loans, and $8.6 million in net gains on the sale of investments, partially offset by an increase in other-than-temporary impairment charges of $5.7 million in the Corporation’s investment portfolio and a decrease of $5.5 million in gain on sale of credit card portfolio.
	•		Non-interest expense for 2006 was $288.0 million compared to $315.1 million and $180.5 million for the years 2005 and 2004, respectively. Non-interest expense for 2005 included accruals of $74.25 million and $8.5 million recorded in connection with potential settlements of the class action lawsuits and SEC investigation, respectively, as a result of the Corporation’s restatement. Excluding these accruals, non-interest expense during 2006 increased by $55.6 million compared to 2005 mainly due to increases of $25.4 million in employees’ compensation and benefits, $6.9 million in occupancy and equipment and $14.6 million in professional fees due to legal, accounting and consulting fees associated with the internal review conducted by the Corporation’s Audit Committee as a result of the restatement announcement and other related legal and regulatory matters. The increase in non-interest expense for 2005 compared to 2004 was mainly due to increases of $82.8 million in accruals relating to the class action lawsuits and SEC investigation, $19.6 million in employees’ compensation and benefits, $8.2 million in occupancy and equipment and $6.1 million in professional fees associated with the Audit Committee’s review and the Corporation’s restatement.
	•		Income tax expense for the year ended December 31, 2006 was $27.4 million (or 24% of pre-tax earnings) compared to $15.0 million (or 12% of pre-tax earnings) and $46.5 million (or 21% of pre-tax earnings) for the years ended December 31, 2005 and 2004, respectively. The increase in income tax expense in 2006 as compared to 2005 was primarily due to a decrease in deferred tax benefits of $28.5 million mainly due to deferred tax benefits recorded in 2005 related to the potential class action lawsuit settlement that was partially offset by a decrease in the current income tax provision due to lower taxable income. The decrease in current income tax provision for 2006 compared to 2005 was mainly due to a decrease in taxable income partially offset by a change in the Corporation’s proportion of exempt and taxable income coupled with an increase in non-qualifying IBE income that under current legislation were taxed at regular rates. The decrease in income tax expense in 2005 as compared to 2004 is mainly due to total deferred tax benefits of $60.2 million recognized during the year mainly composed of $30.1 million as a result of higher unrealized losses on derivative instruments, $29.0 million as a result of the accrued amount for the class action lawsuit settlement and $3.7 million as a result of increases in the allowance for loan and lease losses, offset in part by increases in the current tax provision.
	•		Total assets as of December 31, 2006 were $17.4 billion, a reduction of $2.5 billion compared to $19.9 billion as of December 31, 2005. The decline was mainly driven by decreases in the Corporation’s loan and investment portfolios due to the Corporation’s decision to deleverage its balance sheet. The Corporation’s decision to deleverage its balance sheet was influenced, among other things, by the flat to inverted yield curve. As a result, the Corporation decided to repay higher rate maturing liabilities, in particular brokered CDs, rather than investing the proceeds at a negative spread (the yield on available long-term investments being lower than its short-term funding cost). Net loans decreased 11% to $11.1 billion, when compared to the previous year, resulting from a payment received during 2006 which significantly reduced the balance of commercial secured loans to local financial institutions. Total investments decreased by $1.1 billion from 2005, mainly due to reductions in money-market investments and mortgage-backed securities.
	•		Total deposits as of December 31, 2006 were $11.0 billion, a reduction of $1.5 billion compared to $12.5 billion as of December 31, 2005. The decrease is mainly attributable to the Corporation’s decision to pay down higher rate maturing brokered CDs as well as federal funds purchased and securities sold under agreements to repurchase using primarily the funds received from the pay down of the secured commercial loan.
	•		Total loan production for the year ended December 31, 2006 was $4.8 billion compared to $6.1 billion and $5.0 billion for the years ended December 31, 2005 and 2004, respectively. The decrease in loan production was mainly due to decreases in the origination of residential real estate and commercial loans. The decrease in mortgage and commercial loan production for 2006 compared to 2005 was attributable, among other things, to

higher rates, deteriorating economic conditions and stricter underwriting standards.

Critical Accounting Policies and Practices

     The accounting principles of the Corporation and the methods of applying these principles conform with generally accepted accounting principles in the United States and to general practices within the banking industry. The Corporation’s critical accounting policies relate to the 1) allowance for loan and lease losses; 2) other-than-temporary impairments; 3) income taxes; 4) investment securities classification and related values; 5) valuation of financial instruments and 6) derivative financial instruments. These critical accounting policies involve judgments, estimates and assumptions made by management that affect the recorded assets and liabilities and contingent assets and liabilities disclosed as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from estimates, if different assumptions or conditions prevail. Certain determinations inherently have greater reliance on the use of estimates, assumptions, and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported.

          Allowance for Loan and Lease Losses

     The Corporation maintains the allowance for loan and lease losses at a level that management considers adequate to absorb losses inherent in the loans and leases portfolio. The adequacy of the allowance for loan and lease losses is reviewed on a quarterly basis as part of the Corporation’s continuing evaluation of its asset quality. Groups of small balance and homogeneous loans are collectively evaluated for impairment. The portfolios of residential mortgage loans, consumer loans, auto loans and finance leases are individually considered homogeneous and each portfolio is evaluated collectively for impairment. In estimating the allowance for loan and lease losses, management uses historical information about loan and lease losses as well as other factors including the effects on the loan portfolio of current economic indicators and their probable impact on the borrowers, information about trends on charge-offs and non-accrual loans, changes in underwriting policies, risk characteristics relevant to the particular loan category and delinquencies. The Corporation measures impairment individually for those commercial and real estate loans with a principal balance exceeding $1 million. An allowance for impaired loans is established based on the present value of expected future cash flows or the fair value of the collateral, if the loan is collateral dependent. Accordingly, the measurement of impairment for loans evaluated individually involves assumptions by management as to the amount and timing of cash flows to be recovered and of appropriate discount rates. When the loans are collateral dependent, the fair value of the collateral is based on an independent appraisal that may also involve estimates of future cash flows and appropriate discount rates or adjustments to comparable properties.

     The allowance for loan and lease losses requires significant elements of judgments and estimates. The Corporation establishes the allowance for loan and lease losses based on whether it has classified the loans and leases as loss or probable loss. The Corporation establishes an allowance to cover the total amount of any assets classified as a “loss,” the probable loss exposure of other classified assets, and the estimated losses of assets not classified. The adequacy of the allowance for loan and lease losses is based upon a number of factors including historical loan and leases loss experience that may not represent current conditions inherent in the portfolio. For example, factors affecting the Puerto Rico, Florida (USA), US Virgin Islands’ or British Virgin Islands’ economies may contribute to delinquencies and defaults above the Corporation’s historical loan and lease losses. The Corporation addresses this risk by actively monitoring the delinquency and default experience and by considering current economic and market conditions. Based on the assessments of current conditions, the Corporation makes appropriate adjustments to the historically developed assumptions when necessary to adjust historical factors to account for present conditions.

          Other-than-temporary impairments

     The Corporation evaluates its investment securities for impairment on a quarterly basis or earlier if other factors indicative of potential impairment exist. An impairment charge in the consolidated statements of income is recognized when the decline in the fair value of investments below their cost basis is judged to be other-than-temporary. The Corporation considers various factors in determining whether it should recognize an impairment charge, including but not limited to, the length of time and extent to which the fair value has been less than its cost basis and the Corporation’s intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value. For debt securities, the Corporation also considers, among other factors, the obligor’s repayment ability on its bond obligations and its cash and capital generation ability. Any change in the factors evaluated to determine the need for an impairment charge could have an impact on that decision.

          Income Taxes

     The Corporation is required to estimate income taxes in preparing its consolidated financial statements. This involves the estimation of current income tax expense together with an assessment of temporary differences resulting from the differences in the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The determination of current income tax expense involves estimates and assumptions that require the Corporation to assume certain positions based on its interpretation of current tax regulations. Management assesses the relative benefits and risks of the appropriate tax treatment of transactions, taking into account statutory, judicial and regulatory guidance and recognizes tax benefits only when deemed probable. Changes in assumptions affecting estimates may be required in the future and estimated tax liabilities may need to be increased or decreased accordingly. The accrual of tax contingencies is adjusted in light of changing facts and circumstances, such as the progress of tax audits, case law and emerging legislation. The Corporation’s effective tax rate includes the impact of tax contingencies and changes to such accruals, as considered appropriate by management. When particular matters arise, a number of years may elapse before such matters are audited by the taxing authorities and finally resolved. Favorable resolution of such matters or the expiration of the statute of limitations may result in the release of tax contingencies which are recognized as a reduction to the Corporation’s effective rate in the year of resolution. Unfavorable settlement of any particular issue could increase the effective rate and may require the use of cash in the year of resolution. As of December 31, 2006, there were no open income tax investigations. Information regarding income taxes is included in Note 25 to the Corporation’s audited financial statements.

     The determination of deferred tax expense or benefit is based on changes in the carrying amounts of assets and liabilities that generate temporary differences. The carrying value of the Corporation’s net deferred tax assets assumes that the Corporation will be able to generate sufficient future taxable income based on estimates and assumptions. If these estimates and related assumptions change, the Corporation may be required to record valuation allowances against its deferred tax assets resulting in additional income tax expense in the consolidated statements of income. Management evaluates its deferred tax

assets on a quarterly basis and assesses the need for a valuation allowance, if any. A valuation allowance is established when management believes that it is more likely than not that some portion of its deferred tax assets will not be realized. Changes in valuation allowance from period to period are included in the Corporation’s tax provision in the period of change (see Note 25 to the consolidated audited financial statements).

     Statement of Financial Accounting Standards (“SFAS”) No. 109, “Accounting for Income Taxes” (“SFAS 109”), requires companies to make adjustments to their financial statements in the quarter that new tax legislation is enacted. In the third quarter of 2005, the Puerto Rico legislature passed and the governor signed into law a temporary two-year additional surtax of 2.5% applicable to corporations. The surtax is applicable to taxable years after December 31, 2004 and increases the maximum marginal corporate income tax rate from 39% to 41.5% until December 31, 2006. On May 13, 2006, with an effective date of January 1, 2006, the Government of Puerto Rico signed Law No. 89 which imposes an additional 2.0% income tax on all companies covered by the Puerto Rico Banking Act which resulted in an additional tax provision of $1.7 million for the year.

      Act 98 of May 16, 2006, amended the Puerto Rico Internal Revenue Code by imposing a tax of 5% over the 2005 taxable net income applicable to corporations with gross income over $10 million, which was required to be paid July 31, 2006. The Corporation can use the full payment as a tax credit in its income tax return for future year. The prepayment of tax resulted in a disbursement of $7.1 million. No net income tax expense was recorded since the prepayment will be used as a tax credit in future taxable years.

     The Corporation adopted Financial Accounting Standards Board Interpretation No. 48, “Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109” (“FIN 48”) effective January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS 109. This Interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This Interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. The cumulative effect of adoption of FIN 48 resulted in an increase of $2.6 million to tax reserves with offsetting adjustments to retained earnings. Additionally, in connection with the adoption of FIN 48, the Corporation elected to classify interest and penalties related to unrecognized tax portions as components of income tax expense.

     Investment Securities Classification and Related Values

     Management determines the appropriate classification of debt and equity securities at the time of purchase. Debt securities are classified as held-to-maturity when the Corporation has the intent and ability to hold the securities to maturity. Held-to-maturity (“HTM”) securities are stated at amortized cost. Debt and equity securities are classified as trading when the Corporation has the intent to sell the securities in the near term. Debt and equity securities classified as trading securities are reported at fair value, with unrealized gains and losses included in earnings. Debt and equity securities not classified as HTM or trading, except for equity securities which do not have readily available fair values, are classified as available-for-sale (“AFS”). AFS securities are reported at fair value, with unrealized gains and losses excluded from earnings and reported net of deferred taxes in accumulated other comprehensive income (a component of stockholders’ equity). Investments in equity securities that do not have publicly and readily determinable fair values are classified as other equity securities in the statement of financial condition and carried at the lower of cost or realizable value. The assessment of fair value applies to certain of the Corporation’s assets and liabilities, including the investment portfolio. Fair values are volatile and are affected by factors such as market interest rates, prepayment speeds and discount rates.

          Valuation of financial instruments

     The measurement of fair value is fundamental to the Corporation’s presentation of financial condition and results of operations. The Corporation holds fixed income and equity securities, derivatives, investments and other financial instruments at fair value. The Corporation holds its investments and liabilities on the statement of financial condition mainly to manage liquidity needs and interest rate risks. A substantial part of these assets and liabilities are reflected at fair value on the Corporation’s financial statement of condition.

     Under GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. Fair values are determined in the following ways:

	•		externally verified via comparison to quoted market prices, third-party broker quotations or valuation experts;
	•		by using models that are verified by comparison to third-party broker quotations or other third-party sources; or
	•		by using alternative procedures such as comparison to comparable securities and/or subsequent liquidation prices.

     Derivative Financial Instruments

     As part of the Corporation’s overall interest rate risk management, the Corporation utilizes derivatives instruments, including interest rate swaps, interest rate caps and options to manage interest rate risk. In accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS 133”), all derivative instruments are measured and recognized on the Consolidated Statements of Financial Condition at their fair value. On the date the derivative instrument contract is entered into, the Corporation may designate the derivative as (1) a hedge of the fair value of a recognized asset or liability or of an unrecognized firm commitment (“fair value” hedge), (2) a hedge of a forecasted transaction or of the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow” hedge) or (3) as a “standalone” derivative instrument, including economic hedges that the Corporation has not formally documented as a fair value or cash flow hedge. Changes in the fair value of a derivative instrument that is highly effective and that is designated and qualifies as a fair-value hedge, along with change in fair value on the hedged asset or liability that is attributable to the hedged risk (including gains or losses on firm commitments), are recorded in current-period earnings. Changes in the fair value of a derivative instrument that is highly effective and that is designated and qualifies as a cash-flow hedge are recorded in other comprehensive income in the stockholders’ equity section of the Consolidated Statements of Financial Condition until earnings are affected by the variability of cash flows (e.g., when periodic settlements on a variable-rate asset or liability are recorded in earnings). Similarly, the changes in the fair value of standalone derivative instruments or derivatives not qualifying or designated for hedge accounting under SFAS 133 are reported in current-period earnings.

     Prior to entering a hedge transaction or designating a hedge, the Corporation formally documents the relationship between the hedging instrument and the hedged item, as well as the risk management objective and strategy for undertaking the hedge transaction. This process includes linking all derivative instruments that are designated as fair value or cash flow hedges to specific assets and liabilities on the statements of financial condition or to specific firm commitments or forecasted transactions along with a formal assessment at both inception of the hedge and on an ongoing basis as to the effectiveness of the derivative instrument in offsetting changes in fair values or cash flows of the hedged item. The Corporation discontinues hedge accounting prospectively when it determines that the derivative is not effective or will no longer be effective in offsetting changes in the fair value or cash flows of the hedged item, the derivative expires, is sold, or terminated, or management determines that designation of the derivative as a hedging instrument is no longer appropriate. When a fair value hedge is discontinued, the hedged asset or liability is no longer adjusted for changes in fair value and the existing basis adjustment is amortized or accreted over the remaining life of the asset or liability as a yield adjustment.

     The Corporation recognizes unrealized gains and losses arising from any changes in fair value of derivative instruments and hedged items, as applicable, as interest income or interest expense depending upon whether an asset or liability is being hedged.

     The Corporation occasionally purchases or originates financial instruments that contain embedded derivatives. At inception of the financial instrument, the Corporation assesses: (1) if the economic characteristics of the embedded derivative are clearly and closely related to the economic characteristics of the financial instrument (host contract), (2) if the financial instrument that embodies both the embedded derivative and the host contract is measured at fair value with changes in fair value reported in earnings, or (3) if a separate instrument with the same terms as the embedded instrument would meet the definition of a derivative. If the embedded derivative does not meet any of these conditions, it is separated from the host contract and carried at fair value with changes recorded in current period earnings. Information regarding derivative instruments is included in Note 30 to the Corporation’s audited financial statements.

     Effective April 3, 2006, the Corporation adopted the long-haul method of effectiveness testing under SFAS 133, for substantially all of the interest rate swaps that hedge its brokered CDs and medium-term notes. The long-haul method requires periodic assessment of hedge effectiveness and measurement of ineffectiveness. The ineffectiveness results to the extent the changes in the fair value of the derivative do not offset changes in the fair value of the debt due to changes in the hedged risk in the Consolidated Statements of Income (the “ineffective portion”). Prospectively, changes in the value of the Corporation’s brokered CDs and medium-term notes should substantially offset the changes in the value of the interest rate swaps.

     First BanCorp’s implementation of the long-haul method resulted from its previously reported determination that it should not have used the short-cut method to account for interest rate swaps related to brokered CDs and medium-term notes because of technical issues involving the interpretation of the use of the method (refer to First BanCorp audited Consolidated Financial Statements, included in the Corporation’s amended 2004 Annual Report on Form 10-K for additional information). Accordingly, prior to the implementation of the long-haul method First BanCorp has reflected changes in the fair value of those swaps as well as swaps related to certain loans as non-hedging instruments through operations.

     Upon the implementation of the long-haul method with respect to the brokered CDs and medium-term notes (“hedged liabilities”) on April 3, 2006, the Corporation has been accreting or amortizing the difference between the market value and the book value of the hedged liabilities on April 3, 2006 of approximately $200.0 million as a yield adjustment over the remaining term of the hedged liabilities, as the changes in value since the inception of the long-haul method are recorded to the hedged liabilities. For the year ended December 31, 2006, the Corporation recorded an accretion of $3.6 million as a basis adjustment on the hedged liabilities.

     Effective January 1, 2007, the Corporation elected to early adopt Statement of Financial Accounting Standard No. 157, “Fair Value Measurements” (“SFAS 157”) and Statement of Financial Accounting Standard No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”). Following the initial fair value measurement date, ongoing unrealized gains and losses on items for which fair value reporting has been elected are reported in earnings at each subsequent financial reporting date.

     The Corporation decided to early adopt SFAS No. 159 for the callable brokered CDs and a portion of the callable fixed medium-term notes (“Notes”) that were hedged with interest rate swaps. First BanCorp had been following the long-haul method of accounting, which was adopted on April 3, 2006, under SFAS 133 for the portfolio of callable interest rate swaps, callable brokered CDs and callable notes. One of the main considerations in determining to early adopt SFAS 159 for these instruments was to eliminate the operational procedures required by the long-haul method of accounting in terms of documentation, effectiveness assessment, and manual procedures followed by the Corporation to fulfill the requirements specified by SFAS 133.

     Upon adoption of SFAS 159, First BanCorp selected the fair value measurement for approximately $4.4 billion, or 63%, of the brokered CDs portfolio and approximately $29 million, or 16%, of the medium-term notes portfolio (“designated liabilities”). Interest rate risk on the brokered CDs and medium-term notes chosen for the fair value measurement option will continue to be hedged through callable interest rate swaps with the same terms and conditions. The cumulative after-tax effect on the opening balance of retained earnings from adopting these standards is an approximate increase of $92.2 million. Under SFAS 159, this one-time charge was not recognized in current earnings. Regulatory capital increased by the positive adjustment to retained earnings, exceeding by higher margins the capital levels required to be classified as well-capitalized and strengthening the Corporation’s current regulatory capital ratios.

     With the elimination of the use of the long-haul method in connection with the adoption of SFAS 159 as of January 1, 2007, the Corporation will no longer amortize or accrete the basis adjustment. The basis adjustment is the reversal of the change in value of the brokered CDs and medium-term notes recognized since the implementation of the long-haul method based on the expected call date of the instruments. The adoption of SFAS 159 also requires the recognition to retained earnings, as part of the adoption adjustment, of all of the unamortized placement fees that were paid to broker

counterparties upon the issuance of the brokered CDs and medium-term notes. The Corporation previously amortized those fees through earnings based on the expected call date of the instruments. The impact of the derecognition of the basis adjustment and the unamortized placement fees as of January 1, 2007 results in a cumulative after-tax reduction to retained earnings of approximately $23.8 million. This negative charge is included in the total cumulative after-tax increase to retained earnings of $92.2 million that results with the adoption of SFAS 157 and SFAS 159.

Recent Accounting Pronouncements

     The Financial Accounting Standards Board (“FASB”), its Emerging Issues Task Force (“EITF”) and the SEC have issued the following accounting pronouncements and Issue discussions relevant to the Corporation’s operations:

     In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities – Including an Amendment of FASB Statement No. 115”. This Statement allows entities to choose to measure certain financial assets and liabilities at fair value with changes in fair value reflected in earnings. The fair value option may be applied on an instrument-by-instrument basis. This Statement is effective for periods after November 15, 2007, however, early adoption is permitted provided that the entity also elects to apply the provisions of SFAS 157, “Fair Value Measurements”. The Corporation adopted SFAS 159 effective January 1, 2007. For further details and for the effect on the Corporation’s financial condition and results of operations upon adoption of SFAS 159, refer to Critical Accounting Policies and Procedures above.

     In September 2006, the SEC issued Staff Accounting Bulletin No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements” (SAB 108). This interpretation expresses the SEC staff’s views regarding the process of quantifying financial statement misstatements that could result in improper amounts of assets or liabilities. While a misstatement may not be considered material for the period in which it occurred, it may be considered material in a subsequent year if the corporation were to correct the misstatement through current period earnings. SAB 108 requires a materiality evaluation based on all relevant quantitative and qualitative factors and the quantification of the misstatement using both a balance sheet and income statement approach to determine materiality. SAB 108 is effective for periods ending after November 15, 2006. The adoption of this Statement did not have a material effect on the Corporation’s financial condition and results of operations.

     In September 2006, the FASB issued SFAS No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans – an amendment of FASB Statements No. 87, 88, 106 and 132(R)”. This Statement requires corporations to recognize the overfunded or underfunded status of a defined benefit postretirement plan as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through comprehensive income of a business entity or changes in unrestricted net assets of a not-for-profit organization. This Statement is effective for periods ending after December 15, 2006. This Statement is not applicable to the Corporation and therefore has no impact to the Corporation’s financial condition or results of operations.

     In September 2006, the FASB issued SFAS 157, “Fair Value Measurements”. This Statement defines fair value, establishes a framework for measuring fair value in GAAP and expands disclosures about fair value measurements. This Statement is effective for periods beginning after November 15, 2007. Effective January 1, 2007, the Corporation elected to early adopt this Statement. For further details and for the effect on the Corporation’s financial condition and results of operations upon adoption of SFAS 157, refer to Critical Accounting Policies and Procedures above.

     In June 2006, the FASB issued Financial Interpretation No. 48, “Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109”. This interpretation clarifies the accounting for uncertainty in income taxes recognized in accordance with SFAS No. 109. This interpretation provides a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. This interpretation is effective for periods beginning after December 15, 2006. The Corporation adopted FIN 48 effective January 1, 2007. For further details and for the effect on the Corporation’s financial condition and results of operations upon adoption of FIN 48, refer to Critical Accounting Policies and Procedures above.

     In March 2006, the FASB issued SFAS No. 156, “Accounting for Servicing of Financial Assets,” an amendment of SFAS No. 140. This Statement requires that servicing assets and servicing liabilities be initially measured at fair value along with any derivative instruments used to mitigate inherent risks. This Statement is effective for periods beginning after September 15, 2006. The adoption of this Statement in 2007 did not have a material effect on the Corporation’s financial condition and results of operations.

     In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments, an amendment of FASB Statements No. 133 and 140”. This Statement allows fair value measurement for any hybrid financial instrument that contains an embedded derivative requiring bifurcation. It also establishes a requirement to evaluate interests in securitized

financial assets to establish whether the interests are freestanding derivatives or hybrid financial instruments that contain an embedded derivative requiring bifurcation. This Statement is effective for all financial instruments acquired or issued after September 15, 2006. The adoption of this Statement did not have a material effect on the Corporation’s financial condition and results of operations.

     In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections – a replacement of APB Opinion No. 20 and FASB Statement No. 3”. This Statement changes the requirements for the accounting for and reporting of a voluntary change in accounting principle. This Statement requires retrospective application to prior periods’ financial statements of a change in accounting principle unless it is impracticable to do so; in which case the earliest period for which retrospective application is practicable should be applied. If it is impracticable to calculate the cumulative effect of a change in accounting principle, the Statement requires prospective application as of the earliest date practicable. This Statement does not change the guidance in APB Opinion No. 20 with regard to the reporting of the correction of an error, or a change in accounting estimate. The Statement’s purpose is to improve the comparability of financial information among periods. SFAS No. 154 is effective for fiscal years beginning after December 15, 2005. The adoption of this statement did not have a material effect on the Corporation’s financial condition and results of operations.

Results of Operations

     The Corporation’s results of operations depend primarily on net interest income, which is the difference between the interest income earned on interest-earning assets, including investment securities and loans, and the interest expense on interest-bearing liabilities, including deposits and borrowings. Net interest income is affected by various factors including the interest rate scenario, the volumes, mix and composition of interest-earning assets and interest-bearing liabilities and the re-pricing characteristics of these assets and liabilities. Refer to “Risk Management – Interest Rate Risk Management” below for additional information on the Corporation’s exposure to interest rate risk. The Corporation’s results of operations are also affected by the provision for loan and lease losses, non-interest expenses (such as personnel, occupancy and other costs), non-interest income (mainly service charges and fees on loans and deposit accounts), the result of derivative activities, gains (losses) on investments and gains (losses) on sale of loans, and income taxes.

Net Interest Income

     Net interest income increased to $443.7 million for 2006 from $432.3 million in 2005 and $397.5 million in 2004. The increase in net interest income for the year 2006 was mainly driven by the increase in the average volume of interest-earnings assets of $1.1 billion attributable primarily to the growth in the Corporation’s loan and investment portfolios, in particular the construction and residential real estate loan portfolios as well as short-term investments, partially offset by a decrease in net interest margin. The reduction in net interest margin during 2006 as compared to 2005 was due primarily to increases in short-term interest rates coupled with the mismatch between the re-pricing profile of the Corporation’s assets and liabilities. On average, the Corporation’s liabilities re-price and/or mature earlier than its assets. Thus, increases in short-term interest rates reduce net interest income, which is an important part of the Corporation’s earnings. The decrease in the Corporation’s net interest margin has been particularly significant with respect to the Corporation’s portfolio of investment securities, excluding money market instruments. Assuming a funding cost equal to the weighted-average cost of the Corporation’s other borrowed funds, the interest rate spread on the Corporation’s portfolio of investment securities, excluding money market instruments, was approximately 0.64% for the year ended December 31, 2006 compared to 1.90% and 2.39% for the years ended December 31, 2005 and 2004, respectively. For further details on the Corporation’s interest rate risk profile, refer to “Risk Management – Interest Rate Risk Management” section of this discussion. The increase in short-term rates also resulted in a change in net payments on interest rate swaps included as part of interest expense. For the year ended December 31, 2006, the net settlement payments on such interest rate swaps resulted in charges of $8.9 million to interest expense, compared to benefits of $71.7 million and $124.9 million for the years ended December 31, 2005 and 2004, respectively. In addition, net interest income was also affected by the repayment of $2.4 billion received from a local financial institution during the second quarter of 2006. Proceeds from the repayment were invested temporarily in short-term investments, reducing the Corporation’s average yield on interest-earning assets.

     Effective April 3, 2006, the Corporation implemented fair value hedge accounting for the majority of its interest rate swaps that economically hedge brokered certificates of deposit and medium-term notes payable. As part of the implementation, the Corporation formally documented the relationship between the interest rate swaps and hedged liabilities under the long-haul method of effectiveness testing. Prior to the implementation of fair value hedge, the Corporation recorded unrealized losses in the valuation of derivative instruments of $68.0 million for 2006. The basis differential between the market value and the book value of the hedged liabilities at the inception of fair value hedge accounting in the amount of approximately $200.0 million amortizes or accretes as a yield adjustment over the expected remaining term of the hedged liabilities. For 2006, the Corporation recorded an accretion of $3.6 million as a basis adjustment on the hedged liabilities. Effective January 1, 2007, the Corporation decided to early adopt SFAS 157 and SFAS 159. Upon adoption of fair value accounting, the difference between the fair market value and

carrying value of the selected liabilities is recorded through retained earnings and the basis adjustment amortization or accretion for the selected liabilities ceases.

     The following tables include a detailed analysis of net interest income. Part I presents average volumes and rates on a tax equivalent basis and Part II presents, also on a tax equivalent basis, the extent to which changes in interest rates and changes in volume of interest-related assets and liabilities have affected the Corporation’s net interest income. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to changes in volume (changes in volume multiplied by old rates), and changes in rate (changes in rate multiplied by old volumes). Rate-volume variances (changes in rate multiplied by changes in volume) have been allocated to the changes in volume and rate based upon their respective percentage of the combined totals. For periods after the adoption of hedge accounting, the net interest income is computed on a tax equivalent basis by excluding: (1) the change in the value of derivatives for undesignated hedges, (2) the ineffective portion of designated hedges and (3) the basis adjustment amortization or accretion. For periods prior to the adoption of hedge accounting, the net interest income is computed on a tax equivalent basis by excluding the impact of the change in the fair value of derivatives (refer to explanation below regarding changes in the fair value of derivative instruments).

Part I

		Average volume												Interest Income (1) / expense												Average rate (1)
Year ended December 31,		2006				2005				2004				2006				2005				2004				2006				2005				2004
														(Dollars in thousands)
Earning assets:
Money market investments		$	1,444,533			$	636,114			$	308,962			$	72,755			$	22,191			$	3,736				5.04	%			3.49	%			1.21	%
Government obligations (2)			2,827,196				2,493,725				2,061,280				170,088				166,724				132,324				6.02	%			6.69	%			6.42	%
Mortgage-backed securities			2,540,394				2,738,388				2,729,125				128,096				152,813				154,233				5.04	%			5.58	%			5.65	%
Corporate bonds			8,347				48,311				57,462				574				2,487				(425	)			6.88	%			5.15	%			-0.74	%
FHLB stock			26,914				71,588				56,698				2,009				3,286				974				7.46	%			4.59	%			1.72	%
Equity securities			27,155				50,784				43,876				350				1,686				511				1.29	%			3.32	%			1.16	%
Total investments (3)			6,874,539				6,038,910				5,257,403				373,872				349,187				291,353				5.44	%			5.78	%			5.54	%
Residential real estate loans			2,606,664				1,813,506				1,127,525				171,333				121,066				78,889				6.57	%			6.68	%			7.00	%
Construction loans			1,462,239				710,753				379,356				126,592				52,300				19,396				8.66	%			7.36	%			5.11	%
Commercial loans			5,593,018				7,171,366				5,079,832				401,027				395,280				188,330				7.17	%			5.51	%			3.71	%
Finance leases			322,431				243,384				183,924				28,934				22,263				17,822				8.97	%			9.15	%			9.69	%
Consumer loans			1,783,384				1,570,468				1,244,386				214,967				191,071				157,465				12.05	%			12.17	%			12.65	%
Total loans (4)(5)			11,767,736				11,509,477				8,015,023				942,853				781,980				461,902				8.01	%			6.79	%			5.76	%
Total earning assets		$	18,642,275			$	17,548,387			$	13,272,426			$	1,316,725			$	1,131,167			$	753,255				7.06	%			6.45	%			5.68	%
Interest-bearing liabilities:
Interest-bearing checking accounts		$	371,422			$	376,360			$	317,634			$	5,919			$	4,730			$	3,688				1.59	%			1.26	%			1.16	%
Savings accounts			1,022,686				1,092,938				1,020,228				12,970				12,572				10,938				1.27	%			1.15	%			1.07	%
Certificates of deposit			10,479,500				8,386,463				5,065,390				531,188				306,687				118,626				5.07	%			3.66	%			2.34	%
Interest bearing deposits			11,873,608				9,855,761				6,403,252				550,077				323,989				133,252				4.63	%			3.29	%			2.08	%
Other borrowed funds			4,543,262				5,001,384				4,235,215				223,069				207,503				144,924				4.91	%			4.15	%			3.42	%
FHLB advances			273,395				890,680				1,056,325				13,704				32,756				27,668				5.01	%			3.68	%			2.62	%
Total interest-bearing liabilities		$	16,690,265			$	15,747,825			$	11,694,792			$	786,850			$	564,248			$	305,844				4.71	%			3.58	%			2.62	%
Net interest income														$	529,875			$	566,919			$	447,411
Interest rate spread																											2.35	%			2.87	%			3.06	%
Net interest margin																											2.84	%			3.23	%			3.37	%

Part II

		2006 compared to 2005												2005 compared to 2004
		Increase (decrease)												Increase (decrease)
						Due to:												Due to:
		Volume				Rate				Total				Volume				Rate				Total
						(Dollars in thousands)
Interest income on interest-earning assets:
Money market investments		$	37,480			$	13,084			$	50,564			$	6,638			$	11,817			$	18,455
Government obligations			21,179				(17,815	)			3,364				28,722				5,678				34,400
Mortgage-backed securities			(10,593	)			(14,124	)			(24,717	)			521				(1,941	)			(1,420	)
Corporate bonds			(2,403	)			490				(1,913	)			(400	)			3,312				2,912
FHLB stock			(2,693	)			1,416				(1,277	)			314				1,998				2,312
Equity Securities			(578	)			(758	)			(1,336	)			93				1,082				1,175
Total investments			42,392				(17,707	)			24,685				35,888				21,946				57,834
Residential real estate loans			52,540				(2,273	)			50,267				46,896				(4,719	)			42,177
Construction loans			63,662				10,630				74,292				21,896				11,008				32,904
Commercial loans			(100,083	)			105,830				5,747				94,838				112,112				206,950
Finance leases			7,162				(491	)			6,671				5,601				(1,160	)			4,441
Consumer loans			25,785				(1,889	)			23,896				40,468				(6,862	)			33,606
Total loans			49,066				111,807				160,873				209,699				110,379				320,078
Total interest income			91,458				94,100				185,558				245,587				132,325				377,912
Interest expense on interest-bearing liabilities:
Deposits			75,385				150,703				226,088				91,917				98,820				190,737
Other borrowed funds			(20,751	)			36,317				15,566				28,779				33,800				62,579
FHLB advances			(26,822	)			7,770				(19,052	)			(5,215	)			10,303				5,088
Total interest expense			27,812				194,790				222,602				115,481				142,923				258,404
Change in net interest income		$	63,646			$	(100,690	)		$	(37,044	)		$	130,106			$	(10,598	)		$	119,508

     A portion of the Corporation’s interest-earning assets, mostly investments in obligations of some U.S. Government agencies and sponsored entities, generate interest which is exempt from income tax, principally in Puerto Rico. Also interest and gains on sale of investments held by the Corporation’s international banking entities are tax-exempt under Puerto Rico tax law. To facilitate the comparison of all interest data related to these assets, the interest income has been converted to a taxable equivalent basis. The tax equivalent yield was estimated by dividing the interest rate spread on exempt assets by (1 less the Puerto Rico statutory tax rate (43.5% for the Corporation’s Puerto Rico banking subsidiary in 2006, 41.5% for all other subsidiaries in 2006, 41.5% for all subsidiaries in 2005 and 39% for all subsidiaries in 2004)) and adding to it the average cost of interest-bearing liabilities. The computation considers the interest expense disallowance required by Puerto Rico tax law. Total interest income, excluding changes in the fair value of derivatives, basis adjustment and hedge ineffectiveness, includes tax equivalent adjustments of $28.0 million, $61.2 million, and $64.3 million for 2006, 2005, and 2004, respectively. The decrease in tax equivalent adjustments for 2006 was mainly due to a lower interest rate spread on tax exempt assets.

     On a tax equivalent basis, net interest income, excluding changes in the fair value of derivative instruments and the ineffective portion and basis adjustments on fair value hedges amounted to $529.9 million, compared to $566.9 million for 2005 and $447.4 million for 2004. The decrease in 2006 was mainly due to decreases in tax equivalent adjustments and lower net interest margin. The interest rate spread and net interest margin, on a tax equivalent basis, amounted to 2.35% and 2.84%, respectively, for 2006, as compared to 2.87% and 3.23%, respectively, for 2005, and to 3.06% and 3.37%, respectively, for 2004. The decrease in net interest margin was mainly due to a lower interest rate spread on tax exempt assets and a change in net payments on interest rate swaps included as part of interest expense. In prior years, the Corporation entered into interest rate swaps that have the effect of converting its fixed-rate brokered CDs as well as its fixed-rate and step rate notes payable to LIBOR-based variable-rate liabilities.

     The exclusion of unrealized changes in the fair value of the derivative instruments, including the ineffective portion after the adoption of fair value accounting and basis adjustment amortization or accretion on fair value hedges from the detailed analysis of net interest income provides additional information about the Corporation’s net interest income and facilitates comparability and analysis. The changes in the fair value of the derivative instruments, including the ineffective portion after the adoption of fair value accounting and the basis adjustment amortization or accretion on fair value hedges have no effect on interest due or interest earned on interest-bearing assets or interest-bearing liabilities, respectively, or on interest payments exchanged with swap counterparties.

     The following table reconciles the interest income on a tax equivalent basis set forth in Table I above to interest income set forth in the Consolidated Statements of Income:

The following table summarizes the components of interest income:

		Year ended December 31,
		2006				2005				2004
		(Dollars in thousands)
Interest income on a tax equivalent basis		$	1,316,725			$	1,131,167			$	753,255
Less: tax equivalent adjustments			(27,987	)			(61,166	)			(64,258	)
Plus: net unrealized (loss) gain on derivatives (economic undesignated hedges)			75				(2,411	)			1,337
Total interest income		$	1,288,813			$	1,067,590			$	690,334

The following table summarizes the components of the changes in fair values of interest rate swaps and interest rate caps, which are included in interest income.

		2006				2005				2004
		(Dollars in thousands)
Unrealized gain (loss) on derivatives (economic undesignated hedges):
Interest rate caps		$	(472	)		$	(4,039	)		$	16
Interest rate swaps on corporate bonds			27				823				2,858
Interest rate swaps on loans			520				805				(1,537	)
Net unrealized (loss) gain on derivatives (economic undesignated hedges)		$	75			$	(2,411	)		$	1,337

     The following table summarizes the components of interest expense for the years ended December 31, 2006, 2005 and 2004. As mentioned before, the net interest margin analysis excludes the changes in the fair value of interest rate swaps, the ineffective portion on designated hedges and the basis adjustment.

		Year ended December 31,
		2006				2005				2004
		(Dollars in thousands)
Interest expense on interest-bearing liabilities		$	757,969			$	620,774			$	416,852
Net interest incurred (realized) on interest rate swaps			8,926				(71,650	)			(124,883	)
Amortization of broker placement fees			19,896				15,096				12,942
Amortization of medium-term notes placement fees			59				28				933
Interest expense excluding unrealized loss (gain) on derivatives (designated and economic undesignated hedges) and amortization (accretion) of basis adjustments on fair value hedges			786,850				564,248				305,844
Net unrealized loss (gain) on derivatives (designated and economic undesignated hedges)			61,895				71,023				(12,991	)
(Accretion) amortization of basis adjustments on fair value hedges			(3,626	)			—				—
Total interest expense		$	845,119			$	635,271			$	292,853

The following table summarizes the components of the unrealized loss (gain) on derivatives (designated and economic undesignated hedges) which are included in interest expense:

		Year ended December 31,
		2006				2005				2004
		(Dollars in thousands)
Unrealized loss (gain) on derivatives (designated and economic undesignated hedges):
Unrealized (gain) loss on derivatives (designated hedges – ineffective portion):
Interest rate swaps on brokered certificates of deposit		$	(3,989	)		$	—			$	—
Interest rate swaps on medium-term notes			(720	)			—				—
Net unrealized (gain) loss on derivatives (designated hedges – ineffective portion)			(4,709	)			—				—
Unrealized loss (gain) on derivatives (economic undesignated hedges):
Interest rate swaps on brokered certificates of deposit		$	62,521			$	69,163			$	(13,408	)
Interest rate swaps on medium-term notes			4,083				1,860				417
Net unrealized loss (gain) on derivatives (economic undesignated hedges)			66,604				71,023				(12,991	)
Net unrealized loss (gain) on derivatives (designated and economic undesignated hedges)		$	61,895			$	71,023			$	(12,991	)

The following table summarizes the components of the amortization or accretion of basis adjustments on fair value hedges which are included in interest expense:

		Year ended December 31,
		2006				2005				2004
		(Dollars in thousands)
(Accretion) amortization of basis adjustments on fair value hedges:
Interest rate swaps on brokered certificates of deposit		$	(3,576	)		$	—			$	—
Interest rate swaps on medium-term notes			(50	)			—				—
(Accretion) amortization of basis adjustments on fair value hedges		$	(3,626	)		$	—			$	—

     Interest income on interest-earning assets primarily represents interest earned on loan receivables and investment securities.

     Interest expense on interest-bearing liabilities primarily represents interest due on brokered CDs, branch-based deposits, repurchase agreements and notes payable.

     Net interest incurred or realized on interest rate swaps primarily represents net interest exchanged on pay-float swaps that hedge brokered CDs and medium-term notes.

     The amortization of broker placement fees represents the amortization of fees paid upon issuance to brokers selling the related financial instruments (i.e., brokered CDs).

     Unrealized gains or losses on derivatives (designated and economic undesignated hedges) mainly represent changes in the fair value of interest rate swaps that hedge economically or under fair value designation assets (i.e., loans and corporate bonds) or liabilities (i.e., brokered CDs and medium-term notes).

     The basis adjustments on fair value hedges represent the amortization or accretion of the basis differential between the market value and the book value of the hedged liabilities at the inception of fair value hedge accounting that amortizes or accretes to interest expense based on the expected maturity of the hedged liabilities as changes in value since the inception of the long-haul method are recorded to these hedged items.

     As shown on the tables above, the results of operations for 2006, 2005, and 2004 were significantly impacted by changes in the valuation of interest rate swaps that hedge economically or under fair value designation the Corporation’s brokered CDs and medium-term notes. The change in the valuation of interest rate swaps recorded as part of interest expense during 2006 resulted in an unrealized loss of $61.9 million (2005- an unrealized loss of $71.0 million, 2004 – an unrealized gain of $13.0 million). Effective April 3, 2006, the Corporation implemented fair value hedge accounting for the majority of its interest rate swaps (98% of the interest rate swap portfolio outstanding) that economically hedge brokered certificates of deposit and medium-term notes payable which substantially eliminated the impact of fluctuation in the valuation of the interest rate swaps after April 3, 2006. As part of the implementation, the Corporation formally documented the relationship between the interest rate swaps and hedged liabilities under the long-haul method of effectiveness testing.

     Derivative instruments, such as interest rate swaps, are subject to market risk. While the Corporation does have certain trading derivatives to facilitate customer transactions, the Corporation does not utilize derivative instruments for speculative purposes. The Corporation’s derivatives are mainly composed of interest rate swaps that are used to convert the fixed interest payment on its brokered certificates of deposit and medium-term notes to a variable payment (receive fixed/pay floating). Refer to the “Risk Management — Derivative” section of this discussion for disclosure of the notional amounts of derivative instruments and other information. As is the case with investment securities, the market value of derivative instruments is largely a function of the financial market’s expectations regarding the future direction of interest rates. Accordingly, current market values are not necessarily indicative of the future impact of derivative instruments on net interest income. This will depend, for the most part, on the shape of the yield curve as well as the level of interest rates.

2006 compared to 2005

     On a tax equivalent basis, net interest income excluding the changes in the fair value of derivative instruments and the ineffective portion and basis adjustment amortization or accretion on fair value hedges, decreased by $37.0 million for 2006 compared to 2005. The decrease in the net interest income for 2006 excluding the changes in the fair value of derivatives, the ineffective portion and basis adjustments on fair value hedges, was primarily due to a reduction in the Corporation’s net interest margin offset in part by increases in the Corporation’s average balance of interest-earning assets. The decrease in net interest rate margin during 2006 was due primarily to the upward trend of short-term interest rates, the flattening of the yield curve, and the re-pricing mismatch of the Corporation’s assets and liabilities. On average, the Corporation’s liabilities re-price and/or mature earlier than its assets. Thus, increases in short-term interest rates reduce net interest income, which is an important part of the Corporation’s earnings. The average rate paid by the Corporation on its interest-bearing liabilities increased by 113 basis points during 2006, from 3.58% to 4.71%, mainly due to re-pricing of the Corporation’s interest-bearing deposits, mainly from the issuance of brokered CDs at higher rates and from net interest incurred on the interest rate swaps that hedge these instruments, and increases in rates paid on FHLB advances, and other borrowed funds tied to 3-month LIBOR. The average yield earned on the Corporation’s interest-earning assets increased by 61 basis points during 2006, from 6.45% to 7.06%, mainly due to the re-pricing of variable rate commercial loans and the origination of new commercial loans at higher rates.

     The decrease in net interest margin for 2006 was also attributable to the payment of $2.4 billion received from a local financial institution during the second quarter of 2006 that significantly reduced the Corporation’s outstanding secured commercial loan with a local financial institution. Proceeds from the aforementioned repayment were invested temporarily in short-term investment, reducing the Corporation’s average yield on interest-earning assets. During the second half of 2006, the Corporation used a substantial amount of the proceeds of the loan repayments to repay higher rate outstanding brokered CDs that matured during the third and fourth quarter of 2006.

     The Corporation’s average interest-earning assets increased by $1.1 billion or 6% for 2006 compared to 2005. The increase in average earnings asset was principally due to increases in the Corporation’s loan portfolio, mainly in the construction and residential real estate portfolios, and increases in money market investments. Residential real estate loans and construction loans accounted for the largest growth in the portfolio with average volumes rising by $793.2 million and $751.5 million, respectively, during 2006 compared to 2005. The Corporation’s average volume of the commercial loan portfolio decreased by $1.6 billion in 2006 compared to 2005. The decrease in the Corporation’s commercial loan portfolio was mainly due to the payment from a local financial institution of $2.4 billion to partially pay down its secured commercial loan with the Corporation. The payment significantly reduced the Corporation’s loans-to-one borrower exposure.

     For the loan portfolio, the growth in average volume, mainly driven by loan originations, represented a positive increase of

$49.1 million in interest income on loans. The increases due to rate of $111.8 million are primarily attributable to the origination of new loans at higher rates and to the re-pricing of variable rate loans. The majority of the Corporation’s commercial and construction loans are variable rate loans tied to short-term rates indexes. During 2006, the Federal Reserve Bank increased its targeted federal funds rate by 108 basis points, and correspondingly LIBOR and Prime rates also increased. Both indexes are used by the Corporation to re-price the majority of its floating rate loans including secured loans to local financial institutions (refer to the “Financial Condition-Loans Receivable” section of this discussion), contributing to higher interest income. As of December 31, 2006, 82% of the commercial and 95% of the construction loan portfolios were variable rate loans.

     Average volume increases in the Corporation’s investment portfolio contributed to increases in interest income for 2006. This increase was partially offset by negative rate variances, mainly in government obligations and mortgage-backed portfolios. Average money market investments increased by $808.4 million. After receiving the repayment of $2.4 billion from a local financial institution, the Corporation invested the proceeds in money market investments. During the second half of 2006, the Corporation used a part of the proceeds to repay short-term brokered certificates of deposit, mainly issued in 2006, as these matured. The average yield received on money market investments also increased from 3.49% in 2005 to 5.04% in 2006. The increase in yields was due to increases in short-term rates during 2005 and 2006. Average government obligations increased by $333.5 million, while the average yield decreased by 67 basis points. The increase in average volume and decrease in average yield was due to the re-investment of proceeds from prepayments on securities and larger volume of new investments at lower rates. The average volume and average yield earned on the Corporation’s mortgage-backed securities portfolio decreased by $198.0 million and 54 basis points, respectively, in 2006 compared to 2005. The decrease in the average volume of mortgage-backed securities was due to the Corporation’s decision not to reinvest maturities and prepayments received from mortgage-backed securities. Proceeds from prepayments and maturities of mortgage-backed securities were utilized to fund growth in higher yielding loans. The growth in the average balance of investments represented a positive increase in interest income on investments due to volume of $42.4 million and a negative variance due to rate of $17.7 million.

     On the liabilities side, the Corporation’s interest expense, excluding changes in the fair value of interest rate swaps and the ineffective portion and basis adjustment amortization or accretion on fair value hedges, increased by $222.6 million or 39% in 2006 compared to 2005. The increase in interest expense was due to higher rates paid on liabilities due to the re-pricing of short-term (i.e., deposits and repurchase agreements) and long-term (i.e., long-term repurchase agreements and other advances) liabilities, net interest incurred on interest rate swap instruments, and increases in the average volume of interest-bearing deposits to support the Corporation’s loan and investment portfolio growth. The average volume of deposits increased by $2.0 billion and the average rate increased by 134 basis points during 2006 compared to 2005, while the average volume of other borrowed funds and FHLB advances decreased by $458.1 million and $617.3 million, respectively, and the average rate increased by 76 basis points and 133 basis points, respectively. The increase in the average volume of interest-bearing liabilities coupled with the increase in rates resulted in an increase in interest expense due to volume of $27.8 million and due to rate of $194.8 million. The increase in short-term rates also resulted in a change in net payments on interest rate swaps included as part of interest expense. For the year ended December 31, 2006, the net settlement payments on such interest rate swaps resulted in charges of $8.9 million to interest expense, or a net increase of $80.6 million in interest expense compared to the previous year, as the rates paid under the variable leg of the swaps exceeded the rates received.

     In summary, positive volume variances resulting from an increase in average interest-earning assets were offset by negative rate variances derived from a higher cost of funds, despite higher yields on the loans. The net impact on net interest income and earnings was negative on a rate/volume basis. The Corporation’s net interest income (on a tax equivalent basis and excluding changes in the fair value of derivative instruments, the ineffective portion on designated hedges and basis adjustments) decreased by $37.0 million, the net result of a positive volume variance of $63.6 million and a negative rate variance of $100.7 million. The net interest margin decreased from 3.23% for the year 2005 to 2.84% for 2006. The contraction is primarily due to the flat to inverted yield curve and has been particularly significant with respect to the Corporation’s portfolio of investment securities, excluding money market instruments.

2005 compared to 2004

     On a tax equivalent basis, net interest income, excluding the changes in the fair values of derivative instruments, increased by $119.5 million for 2005 compared to 2004. The increase in net interest income for 2005, excluding the changes in the fair value of derivatives was primarily due to increases in the Corporation’s average balance of interest-earning assets offset in part by a reduction in the Corporation’s net interest margin. The Corporation’s average interest-earning assets increased by $4.3 billion or 32% for 2005 compared to 2004. The increase in average interest-earning assets was principally due to increases in the Corporation’s loan portfolio, mainly in the commercial, construction, and residential real estate portfolios, and increases in money market instruments and government obligation investments. Commercial loans and construction loans accounted for the largest growth in the portfolio with average volumes rising $2.1 billion and $331.4 million, respectively, and residential real estate loans followed with $686.0 million. The increase in the commercial loans portfolio was due to increases in secured

commercial loans to local financial institutions.

     The decrease in the net interest rate margin during 2005 was due primarily to the upward trend of short-term interest rates the flattening of the yield curve, and the re-pricing mismatch of the Corporation’s assets and liabilities. On average, the Corporation’s liabilities re-price and/or mature earlier than its assets. Thus, increases in short-term interest rates reduce net interest income, which is an important part of the Corporation’s earnings. The average rate paid by the Corporation on its interest-bearing liabilities increased by 96 basis points during 2005, from 2.62% to 3.58%, mainly due to re-pricing of the Corporation’s interest-bearing deposits, and increases in rates paid on FHLB advances and other borrowed funds tied to 3-month LIBOR. The average yield earned on the Corporation’s interest-earning assets increased by 77 basis points during 2005, from 5.68% to 6.45% mainly due to the re-pricing of variable rate commercial loans and the origination of new commercial loans at higher rates.

     Significant volume increases in the Corporation’s loan portfolio, mainly in the commercial and residential real estate portfolios, and significant rate increases in the commercial loans portfolio contributed significantly to interest income for 2005. As shown in the table identified as Part I, the Corporation experienced continuous growth in the loan portfolios. Average loans increased by $3.5 billion compared to 2004. For the loan portfolio, the growth in average volume, mainly driven by loan originations and increases in secured commercial loans to local financial institutions, represented a positive increase of $209.7 million in interest income on loans. The increases due to rate of $110.4 million are primarily attributable to the origination of new loans at higher rates and to the re-pricing of variable rate loans. The majority of the Corporation’s commercial and construction loans are variable rate loans tied to short-term rates indexes. During 2005, the Federal Reserve Bank increased the federal funds rate by 200 basis points, and correspondingly, LIBOR and Prime rates also increased. These indexes are used by the Corporation to re-price the majority of its floating rate loans including secured loans to local financial institutions (refer to the “Financial Condition-Loans Receivable” section of this discussion), contributing to higher interest income. As of December 31, 2005, 93% of the commercial and 96% of the construction loan portfolios were variable rate loans.

     Average volume increases in the Corporation’s investment portfolio and positive rate variances, mainly in the money market investments and government obligations portfolio, also contributed to interest income for 2005. Average investment securities increased by $781.5 million. With the increase in long-term rates during 2004 and the continuing trend in 2005, the Corporation re-entered the long-term investment market which contributed to the increase in interest income. These purchases accounted for most of the positive variances in interest income from investments due to volume and due to rate. The growth in the average balance of investments represented a positive increase in interest income on investments due to volume of $35.9 million and due to rate of $21.9 million, mainly attributable to a higher volume of higher yielding government agency securities.

     On the liabilities side, the Corporation’s interest expense, excluding changes in the fair value of interest rate swaps, increased by $258.4 million or 84% in 2005 compared to 2004. The increase in interest expense was mainly due to increases in the average volume of interest-bearing deposits to support the Corporation’s loan and investment portfolio growth, higher rates paid on liabilities due to the re-pricing of short-term (i.e., deposits and repurchase agreements) and long-term (i.e., long-term repurchase agreements and other advances) liabilities, and higher net interest paid on interest rate swap instruments. The average volume of deposits increased by $3.5 billion and the average rate increased by 121 basis points during 2005 compared to 2004, while the average volume of other borrowed funds increased by $766.2 million and the average rate increased by 73 basis points. The increase in the average volume of interest-bearing liabilities coupled with the increase in rates resulted in an increase in interest expense due to volume of $115.5 million and due to rate of $142.9 million. While the LIBOR rate has increased since December 2004 by approximately 197 basis points, the Corporation’s cost of interest-bearing liabilities, excluding the changes in the fair value of interest rate swaps, has increased 96 basis points from 2.62% for 2004 to 3.58% for 2005. The increases in the three-month LIBOR rates resulted in a compression of interest exchanged on received fixed pay-floating interest rate swaps. The net interest realized on these economic hedges of brokered CDs decreased from $125 million in 2004 to $72 million in 2005 negatively impacting interest expense and cost of funds when comparing both periods.

     In summary, positive volume variances resulting from an increase in average interest-earning assets were offset by negative rate variances derived from a higher cost of funds, despite higher yields on the loans and investment portfolios. The net impact on net interest income and earnings was positive on a rate/volume basis. The Corporation’s net interest income (on a tax equivalent basis and excluding changes in the fair value of derivative instruments) increased by $119.5 million, the net result of a positive volume variance of $130.1 million and a negative rate variance of $10.6 million. The net interest margin decreased from 3.37% for the year 2004 to 3.23% for 2005. The contraction is primarily due to the flat to inverted yield curve.

Provision for Loan and Lease Losses

     The provision for loan and lease losses is charged to earnings to maintain the allowance for loan and lease losses at a level that the Corporation considers adequate to absorb probable losses inherent in the portfolio. The adequacy of the

allowance for loan and lease losses is also based upon a number of additional factors including historical loan loss experience, current economic conditions, the fair value of the underlying collateral and the financial condition of the borrowers, and, as such, includes amounts based on judgments and estimates made by the Corporation. Although the Corporation believes that the allowance for loan and lease losses is adequate, factors beyond the Corporation’s control, including factors affecting the Puerto Rico, Florida (USA), US Virgin Islands’ or British Virgin Islands’ economies may contribute to delinquencies and defaults, thus necessitating additional reserves.

     During 2006, the Corporation provided $75.0 million for loan and lease losses, as compared to $50.6 million in 2005 and $52.8 million in 2004.

     Refer to the discussions under “Risk Management – Credit Risk Management – Allowance for Loan and Lease Losses and Non-performing Assets” below for analysis of the allowance for loan and lease losses and non-performing assets and related ratios.

2006 compared to 2005

     The Corporation’s provision for loan and lease losses increased by $24.4 million or 48% during 2006 compared to 2005. The increase in the provision principally reflects growth in the Corporation’s commercial, excluding loans to local financial institutions, consumer portfolios, and increasing trends in non-performing loans experienced during 2006 as compared to 2005. The Corporation’s net charge-offs and non-performing loans were affected by the fiscal and economic situation of Puerto Rico. According to the Puerto Rico Planning Board, Puerto Rico is in a midst of a recession. The slowdown in activity is the result of, among other things, higher utilities prices, higher taxes, government budgetary imbalances, the upward trend in short-term interest rates and the flattening of the yield curve, and higher levels of oil prices.

     Net charge-offs to average loans outstanding during 2006 were 0.55% as compared to 0.39% in 2005. The provision for loan and lease losses totaled 116% of net charge-offs for 2006, compared with 112% of net charge-offs, for 2005. The increase of $19.7 million in net charge-offs in 2006, compared with the previous year, was mainly composed of $24.8 million of higher charge-offs in consumer loans. The increase in net charge-offs in consumer and commercial portfolio was due to the economic situation of the island.

2005 compared to 2004

     The Corporation’s provision for loan and lease losses decreased by $2.2 million during 2005 compared to 2004. The decrease in the provision during 2005 as compared to 2004 was primarily attributable to the seasoning of the corporate commercial loans portfolio and to a decrease in the specific reserve allocated to a commercial loan based on new facts that satisfied the Corporation as to the ultimate recoverability of the loan. The Corporation has not incurred significant losses as a percentage of its commercial loans receivable since it started emphasizing corporate commercial lending activities in the late 1990s; therefore, the provision for inherent losses in this portfolio has decreased. The provision for 2005 is mainly attributable to the consumer loans portfolio and to a lesser extent to the construction loan portfolio which increased significantly in 2005 from loans disbursed by the Corporation’s loan agency in Coral Gables, Florida.

     Net charge-offs to average loans outstanding during the period were 0.39% as compared to 0.48% in 2004. Net charge-offs amounted to $45.0 million for 2005 compared to $38.1 million for 2004. The provision for loan and lease losses totaled 112% of net charge-offs for 2005, compared with 138% of net charge-offs for 2004. The increase of $6.9 million in net charge-offs in the 2005 year, compared with the previous year, was mainly composed of $5.0 million of higher charge-offs in consumer loans primarily auto loans, given higher delinquencies during 2005.

Non-interest Income

      The following table presents the composition of non-interest income:

Year ended December 31,		2006				2005				2004
		(Dollars in thousands)
Other service charges on loans		$	5,945			$	5,431			$	3,910
Service charges on deposit accounts			12,591				11,796				10,938
Mortgage banking activities			2,259				3,798				3,921
Rental income			3,264				3,463				3,071
Insurance income			11,284				9,443				6,439
Other commissions and fees			1,470				911				1,983
Other operating income			12,857				15,896				14,372
Non-interest income before net gain (loss) on investments, impairment of investments, net loss on partial extinguishment of secured commercial loan and gain on sale of credit card portfolio			49,670				50,738				44,634
Net gain on investments			7,057				20,713				12,156
Impairment of investments			(15,251	)			(8,374	)			(2,699	)
Net (loss) gain on investments			(8,194	)			12,339				9,457
Net loss on partial extinguishment of secured commercial loan to local financial institution			(10,640	)			—				—
Gain on sale of credit card portfolio			500				—				5,533
Total		$	31,336			$	63,077			$	59,624

     Non-interest income primarily consists of other service charges on loans; service charges on deposit accounts; commissions derived from various banking, securities and insurance activities; gains on mortgage banking activities; net gains on investment activities; and gains or losses on derivatives that are designated as non-economic hedges (“non-economic derivatives”). Non-interest income for 2006 amounted to approximately $31.3 million as compared to $63.1 million and $59.6 million for the same period in 2005 and 2004, respectively.

     Non-interest income, excluding the net gain (loss) on investments, loss on the partial extinguishment of secured commercial loan, and gain on sale of a credit card portfolio, amounted to $49.7 million in 2006, $50.7 million in 2005, and $44.6 million in 2004.

     Other service charges on loans consist mainly of service charges on credit card related activities.

     Service charges on deposit accounts include monthly and other fees on deposit accounts.

     Mortgage banking activities income includes gains on sale of residential loans and fees earned for administering residential mortgage loans originated by the Corporation and subsequently sold with servicing retained. In addition, lower of cost or market adjustments to the Corporation’s residential mortgage loans held for sale are recorded as part of mortgage banking activities.

     The Corporation’s subsidiary, First Leasing and Rental Corporation, generates income on the rental of various types of motor vehicles.

     Other commissions and fees income is the result of an agreement with a major investment banking firm to participate in bond issues by the Government Development Bank for Puerto Rico and an agreement with an international brokerage firm doing business in Puerto Rico to offer brokerage services in selected branches.

     Insurance income consists of insurance commissions earned by the Corporation’s subsidiary FirstBank Insurance Agency, Inc., and the Bank’s subsidiary in the US Virgin Islands, FirstBank Insurance V.I., Inc. These subsidiaries offer a wide variety of insurance business through cross selling strategies, marketing effort and strategic locations of sale offices.

     The other operating income category is composed of miscellaneous fees such as check fees and rental of safe deposit boxes. Other operating income also includes unrealized gains and losses on derivatives not qualifying or not designated in a hedge accounting relationship.

     The net gain (loss) on investment securities reflects gains or losses as a result of sales that are in consonance with the

Corporation’s investment policies as well as other-than-temporary impairment charges on portfolio securities.

2006 compared to 2005

     For 2006, non-interest income decreased by $31.7 million as compared to 2005. The decrease in non-interest income for 2006, compared to 2005, was mainly attributable to a net loss of $10.6 million on the partial extinguishment of a secured commercial loan to a local financial institution, an increase in other-than-temporary impairment charges of $6.9 million in the Corporation’s investment portfolio and lower gains on investments of $13.7 million. These negative variances were partially offset by increases of $1.8 million in commission income from the Corporation’s insurance business and $1.3 million in service charges on deposit accounts and loans.

     In 2006, the Corporation recorded a net loss of $10.6 million on the partial extinguishment of secured commercial loans to local financial institutions as a result of a series of agreements reached with Doral Financial Corporation (“Doral”). On May 25, 2006, the Corporation entered into a series of credit agreements with Doral to document as secured borrowings the loan transfers between the parties that previously had been accounted for incorrectly as sales. The terms of the credit agreements specified: (1) a floating interest payment based on a spread over 90-day LIBOR subject to a cap; (2) an amortization schedule tied to the scheduled amortization of the underlying mortgage loans subject to a maximum maturity of 10 years; (3) mandatory prepayments as a result of actual prepayments from the underlying mortgages; and (4) an option to Doral to prepay the loan without penalty at any time.

     On May 31, 2006, First BanCorp received a cash payment from Doral, substantially reducing the balance of approximately $2.9 billion in secured commercial loans to approximately $450 million as of that date. In connection with the repayment, the Corporation and Doral entered into a sharing agreement on May 25, 2006 with respect to certain profits or losses that Doral incurs as part of the sales of the mortgages that previously collateralized the commercial loans. First BanCorp agreed to reimburse Doral for 40% of the net losses incurred by Doral as a result of sales of the mortgages, subject to certain conditions and subject to a maximum reimbursement of $9.5 million, which will be reduced proportionately to the extent that Doral does not sell the mortgages. As a result of the loss sharing agreement and the partial extinguishment of the commercial loans by Doral, the Corporation recorded a net loss of $10.6 million composed of losses realized as part of the sharing agreement and the difference between the carrying value of the loans and the net payment received from Doral.

     Mortgage banking activities income decreased by $1.5 million for 2006 compared to 2005. The decrease in 2006 was principally due to a $1.0 million lower-of-cost-or-market negative valuation adjustment to the Corporation’s loans held for sale portfolio as a result of increases in long-term interest rates coupled with a lower volume of mortgage loan sales.

     Insurance income for 2006 increased by $1.8 million or 19% compared to the same period in 2005. The increase for 2006 was due to an increase in the volume of business through cross-selling strategies, marketing efforts and the strategic locations of the Corporation’s insurance offices.

     Service charges on deposit accounts and other service charges on loans increased by $0.8 million and $0.5 million, respectively, during 2006 compared to 2005. The increase for 2006 primarily reflects a larger volume of accounts and transactions during 2006.

     Net loss on investments for 2006 amounted to $8.2 million compared to a net gain of $12.3 million for the same period in 2005. The decrease in 2006 was principally due to a lower volume of sales coupled with a net increase of $6.9 million in other-than-temporary impairments in the Corporation’s investment portfolio related to certain equity securities. Management concluded that the declines in value of the securities were other-than-temporary, as such the cost basis of these securities was written down to the market value as of the date of the analysis. Management evaluates investment securities for impairment on a quarterly basis or earlier if other factors indicative of potential impairment exist.

2005 compared to 2004

     For 2005, non-interest income increased by $3.5 million as compared to 2004. The increase in non-interest income in 2005, compared to 2004, was mainly attributable to increases of $3.0 million in commission income from the Corporation’s insurance business, $2.4 million in other service charges on deposit accounts and loans, and $8.6 million in net gains on investments, partially offset by an increase in other-than-temporary impairment charges of $5.7 million in the Corporation’s investment portfolio and a decrease of $5.5 million in gain on sale of credit card portfolio.

     Insurance income for 2005 increased by $3.0 million or 47% compared to 2004. The increase for 2005 was due to an increased in volume of business through cross-selling strategies, marketing efforts and the strategic locations of the Corporation’s insurance offices.

     Other service charges on loans and service charges on deposit accounts increased by $1.5 million or 39% and $0.9 million or 8%, respectively, during 2005 compared to 2004. The increase was due to a larger volume of accounts and transactions during 2005. The increase was also driven by the acquisition of FirstBank Florida.

     Mortgage banking activities income decreased by $0.1 million for 2005 compared to 2004. The decrease in 2005 was principally due to a $0.4 million lower-of-cost-or-market adjustment to the Corporation’s loans held for sale portfolio as a result of increases in long-term interest rates. Mortgage banking activities income also includes gains on sale of residential mortgage loans. Gain on sale of mortgage loans amounted to $3.6 million in 2005 and 2004. During the first quarter of 2005, the Corporation entered into an arrangement with another unrelated financial institution (the “Counterparty”) in which, in substance, the parties agreed to sell and purchase similar mortgage loan portfolios. Pursuant to this arrangement, the Corporation purchased mortgage loans with an aggregate unpaid principal balance of $87.2 million for $88.9 million in March 2005. In April and May of 2005, the Corporation sold to the Counterparty mortgage loans with aggregate unpaid principal balances of $60.0 million and $29.7 million, for $61.1 million and $30.3 million, respectively, resulting in gains on the sales of $1.3 million and $0.6 million, respectively. Since the Corporation retained the servicing on the mortgage loans sold to the Counterparty, it also recognized a servicing asset of $1.2 million. The Corporation entered into these transactions because, among other reasons, the transactions were consistent with its business objectives of developing a mortgage-banking business that would provide its liquidity as well as new sources for its acquisition of mortgage loans. Notwithstanding that the transactions were in substance the purchase and sale of similar mortgage loan portfolios, generally accepted accounting principles require that the transactions be treated as a separate purchase and a separate sale.

     Other commissions and fees income during 2005 decreased by $1.1 million compared to 2004. The decrease in 2005 was mainly due to a decrease in fees as a result of a decrease in consulting services provided by the Corporation to the Government Development Bank of Puerto Rico for the issuance of local bonds.

     The gain on the sale of credit card portfolio in 2004 results from portfolios sold pursuant to a strategic alliance agreement reached with a US financial institution in 2003.

     Net gains on investments, excluding other-than-temporary impairments, resulted mainly from the sale of a substantial portion of the Corporation’s equity portfolio held at one of the international banking entities at gains of approximately $20.7 million. The proceeds from the sale of equity securities and other funds available at the Corporation’s holding company were used to make a $110.0 million capital contribution to FirstBank Puerto Rico at the end of 2005. During 2005, the Corporation recorded other-than-temporary impairments on three equity securities held in portfolio amounting to $8.4 million. Management concluded that the declines in value of the securities were other-than-temporary; as such the cost basis of these securities was written down to the market value as of the date of the analyses. Management evaluates investment securities for impairment on a quarterly basis or earlier if other factors indicative of potential impairment exist.

Non-Interest Expense

     Non-interest expenses amounted to $288.0 million for 2006 as compared to $315.1 million for 2005 and $180.5 million for 2004. The following table presents the components of non-interest expenses:

Year ended December 31,		2006				2005				2004
		(Dollars in thousands)
Employees’ compensation and benefits		$	127,523			$	102,078			$	82,440
Occupancy and equipment			54,440				47,582				39,430
Deposit insurance premium			1,614				1,248				979
Other taxes, insurance and supervisory fees			17,881				14,071				11,615
Professional fees — recurring			11,455				7,317				4,165
Professional fees — restatement related and other nonrecurring			20,640				6,070				—
Servicing and processing fees			7,297				6,573				2,727
Business promotion			17,672				18,718				16,349
Communications			9,165				8,642				7,274
Provision for contingencies			—				82,750				—
Other			20,276				20,083				15,501
Total		$	287,963			$	315,132			$	180,480