CapitalSource Investor Relations Package · New Funded Loans of $627 Million at CapitalSource Bank CapitalSource Bank Net Interest Margin Increased to 5.43% Stable Credit Profile

CapitalSource Investor Relations PackageLast updated 05/10/11

CapitalSource Investor Relations Package

CapitalSource Investor FAQs1Q'11 Earnings Release1Q'11 Investor Presentation1Q'11 10Q

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Frequently Asked Questions Q: What is the main business of CapitalSource (CSE)? A: CapitalSource Inc. (NYSE: CSE) is a commercial lender that provides financial products to middle market

businesses and depository products and services in southern and central California through its wholly owned subsidiary CapitalSource Bank. Click here for more detailed information.

Q: When did CSE begin doing business? A: CSE was co-founded in 2000 by John Delaney who currently serves as Executive Chairman and Chairman of the

Board of CapitalSource Inc. and CapitalSource Bank. Prior to CapitalSource, Mr. Delaney founded Healthcare Financial Partners (HFP) which was similar to CSE, but solely focused on Healthcare lending. HFP was sold to Heller Financial in 1999 and later sold to GE Capital.

Q: When did CSE go public? A: The CSE IPO (Initial Public Offering) was August 6, 2003. 21,300,000 shares were sold at $14.50 per share. Q: What is CSE’s current corporate structure? A: Today CSE operates as a C-Corp, as it did prior to 2006. From January 2006 through December 2008 the

Company operated as a Real Estate Investment Trust (REIT). Q: Where are CSE offices located? A: CSE has offices located across the U.S. For a listing please visit the office section of our website. Q: How many employees does the Company have? A: As of September 30, 2010, CSE had a total of 641 employees. Q: When does the CSE fiscal year end? A: CSE operates on a calendar year basis, so the fiscal year end is December 31st. Q: What is CapitalSource Bank (CSB)? How does it fit into CSE? A: CapitalSource formed CapitalSource Bank (CSB) in late July 2008. Access to deposit funding diversified CSE’s

funding sources. After forming a de novo California industrial bank, CapitalSource purchased $5.2 billion of deposits and certain assets, including 22 retail branches, from Fremont Investment & Loan. The operations of CapitalSource Bank commenced on July 28, 2008. At September 30, 2010, CSB had $3.7 billion in commercial loans and $4.6 billion of deposits. All new CSE loans are now being made in the Bank. For more information on CSB, please visit the website: www.capitalsourcebank.com.

Q: What makes CSE stand out as a lender? A: CSE has a national origination team with extensive industry experience in twelve specialized lending areas such as

healthcare, security, technology and lender finance. CSE manages the loan process from beginning to end and a large part of the Company’s success is built upon a demonstrated ability to understand borrower needs and to structure loans appropriately. The ability to generate high-quality information upon which to base credit decisions, utilizing an in-house accounting group, is also a key asset. In addition, customized credit and underwriting tools are crucial components of the CapitalSource underwriting process.

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Q: How large is the CSE lending portfolio? A: $6.6 billion as of September 30, 2010. Q: Who is your target client? A: Our target client for most of our business segments is a company seeking a loan in the range of $5-$50 million, with

our average loan under $8 million. Borrowers are usually seeking to finance acquisition, major equipment purchase or corporate growth. In addition, we make small business loans which are generally less than $2 million and multifamily loans which are typically less than $5 million.

Q: What sectors does CSE lend in? A: Healthcare (real estate, credit and asset-based), security finance (security alarm and homeland security), lender

finance (asset backed lending to finance companies), commercial real estate, timeshare and resort finance, corporate asset finance, including equipment finance, corporate finance (leveraged buyouts), multifamily real estate, small business (“SBA”) and professional practice lending.

Q: How many loans does CSE have outstanding? A: As of September 30, 2010 CSE had 1,340 loans outstanding. Q: What is the typical duration of a CSE loan? A: Our commercial loans have stated maturities at origination that generally range from three to five years. Q: How does CapitalSource monitor its loans? A: CSE closely and proactively monitors the financial performance of its borrowers, utilizing in-house personnel, on a

quarterly or more frequent basis. Q: How does CapitalSource measure the performance of its portfolio? A: CSE reports several credit metrics (e.g. delinquencies, charge offs, non-accruals and impaired loans) that indicate

the quarterly credit performance of all loans on its books. Please visit the Financial and Credit Quality Data section of the website to view CSE’s credit history.

Q: What is the definition of a loan on non-accrual? A: We place loans on non-accrual status when we expect, based on judgment, that our borrower will not be able to

fully meet its debt obligations. Q: What is the definition of an impaired loan? A: We consider a loan to be impaired when, based on current information, we determine that it is probable that we will

be unable to collect all amounts due according to the contractual terms of the original loan agreement. Q: What is the credit performance of CapitalSource over time? A: Please visit the Financial and Credit Quality Data page in order to see the historical credit metrics. Q: How does CapitalSource fund its business? A: Since the formation of CapitalSource Bank, CSE uses deposits to fund its new business. The majority of loans in the

legacy loan book (pre-CapitalSource Bank) are match-funded in securitizations, though some are in secured warehouse facilities.

Q: Does CSE pay a dividend? A: Yes. CSE began paying dividends in 2006 following its REIT election. Please visit the dividend page of the

Company’s website for information on the most recent dividend paid and historical dividend information. Q: Why did CSE pay a special dividend of $2.50 in January 2006? A: The January 2006 Earnings & Profits (E&P) special dividend of $2.50 per share was issued to meet one of the

requirements for REIT qualification. Specifically, earnings and profits attributable to tax years ending prior to January 1, 2006 had to be distributed to shareholders as a special dividend.

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Q: Who should I call if I have not received my dividend or I received incorrect funds? A: If you hold your shares in record name, meaning you have the stock certificate, please contact our transfer agent,

American Stock Transfer & Trust at 800.937.5449. If you hold your shares at a brokerage firm or use an online trading broker you will need to contact them directly.

Q: What stock exchange is CSE stock listed on? A: CSE trades on the New York Stock Exchange (NYSE) under the ticker symbol CSE. Q: What is the CUSIP number for CSE? A: 14055X102 Q: How do I replace a lost CSE share certificate? A: You must contact our transfer agent, American Stock Transfer and Trust Company, at 800.937.5449 or consult their

website at www.amstock.com. Q: Does CSE have a DRIP? A: No. As of March 1st, 2010 CSE no longer offers a Dividend Reinvestment and Direct Stock Purchase Plan. Q: Who is the transfer agent for CSE stock? A: American Stock Transfer and Trust Company 59 Maiden Lane Plaza Level New York, NY 10038 800.937.5449 718.921.8124 www.amstock.com Q: How do I obtain recent financial publications for CSE, such as the Annual Report? A: Recent publications can be viewed on the CSE website, or printed from the downloadable IR package. Hard copies

can be requested by filling out the form on the information request page. Q: How do I change my address for dividend payments, transfer ownership of a stock certificate or to obtain a

dividend check? A: You must contact the transfer agent, American Stock Transfer and Trust Company, at the following address and

phone number or consult their website. American Stock Transfer and Trust Company 59 Maiden Lane Plaza Level New York, NY 10038 800.937.5449 718.921.8124 www.amstock.com

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News CapitalSource Inc.

5404 Wisconsin Avenue

Second Floor

Chevy Chase, MD 20815

FOR IMMEDIATE RELEASE For information contact:

Investor Relations: Media Relations:

Dennis Oakes Michael Weiss

Senior Vice President, Investor Relations Director of Communications

(212) 321-7212 (301) 841-2918

[email protected] [email protected]

CAPITALSOURCE REPORTS FIRST QUARTER 2011 RESULTS

Net Income of $3 Million or $0.01 Per Share

New Funded Loans of $627 Million at CapitalSource Bank

CapitalSource Bank Net Interest Margin Increased to 5.43%

Stable Credit Profile / Non-Accrual Loans Decline by 21%

Parent Company Unrestricted Cash Tops $1 Billion after Quarter Close

Chevy Chase, MD., April 29, 2011 –CapitalSource Inc. (NYSE: CSE) today announced financial results

for the first quarter 2011. Net income for the quarter was $3 million or $0.01 per diluted share, compared

to net income in the prior quarter of $6 million or $0.02 per diluted share and a net loss of $212 million or

$0.66 per diluted share in the first quarter 2010.

“Our financial results for the first quarter demonstrate growing profitability at CapitalSource Bank, on-

going progress on liquidation of the Parent Company legacy loan portfolio and a sustained pattern of

stable credit performance,” said John K. Delaney, CapitalSource Executive Chairman. “Significant

progress in each of these areas over the past four quarters has allowed us to reorient our short-term

strategic focus from a defensive stance to an intensive, proactive and forward looking effort to both fund

new loans at CapitalSource Bank and improve its profitability.”

“New loans funded in the first quarter of $627 million represented the highest quarterly production since

the formation of CapitalSource Bank in July 2008. The largest concentration of new loans in the quarter

was multifamily, although our equipment finance and timeshare receivables businesses were also

significant contributors,” said James J. Pieczynski, CapitalSource Co-CEO. “With such a solid start, we

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now see a reasonable chance for full year originations to exceed our previous guidance of $1.8-1.9

billion.”

“The first quarter was a strong beginning to the new year for CapitalSource Bank. We had net loan

growth of 4% despite a high level of pre-payments, deposit growth of 2%, margin expansion of 39 basis

points to 5.43%, and improving credit performance,” said Tad Lowrey, CapitalSource Bank President and

CEO. “Our capital levels remain above industry norms, with risk-based capital at 18.80% and a Tier 1

leverage ratio of 13.47%.”

“Converting CapitalSource Bank from a California industrial charter to a commercial charter and

deploying excess capital at the Parent Company remain top strategic priorities.” said Steven A. Museles,

CapitalSource Co-CEO. “We are continuing to work on the optimal next steps for both of these

objectives, while growing assets and profitability at CapitalSource Bank with the deposit franchise we

operate today.”

“Unrestricted cash at the Parent Company grew to $723 million at March 31, 2011 and increased to over

$1 billion on April 1st when we received the Genesis loan pay-off,” said Donald F. Cole, CapitalSource

CFO. “At the Parent Company, we expect the loan portfolio will continue to generate cash throughout

2011, as we have fully repaid our secured credit facilities and the only recourse debt maturing during 2011

will be the mandatory redemption of $281 million of convertible debentures in July.”

Revised Metrics and Earnings Presentation – We have made certain revisions to the format of our

earnings press release in order to provide a presentation which is more consistent with our banking peers.

This quarterly results release highlights the key drivers of our financial performance utilizing new roll

forward tables and quarterly comparisons which are designed to enhance transparency and provide helpful

analysis of the major factors impacting the quarter.

CAPITALSOURCE BANK SEGMENT This segment includes our commercial lending and banking business activities in CapitalSource Bank.

First Quarter 2011 Highlights

Net Income was $32 million, an increase of $16 million from the prior quarter primarily due to higher

interest income and lower tax expense.

Loan Production increased to $627 million during the quarter from $536 million in the prior quarter,

driving a 4% increase in the loan portfolio balance. The three new origination platforms added in

2010 - equipment finance, small business and professional practice lending - accounted for 20% of the

new production volume in the quarter.

Liquidity - Cash and investments was $2.0 billion, or nearly 32% of total assets, at quarter end, which

we forecast will be sufficient liquidity to support projected net loan growth for the balance of 2011.

Net Interest Margin for the quarter was 5.43%, an increase of 39 basis points from the prior quarter

primarily due to accelerated accretion of loan discounts and deferred loan fees from increased

prepayment levels and a decrease in non-accrual loans.

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Capital – Capital ratios increased with risk-based capital and Tier 1 leverage ratios of 18.80% and

13.47%, respectively, at quarter end, compared to 18.13% and 13.15%, respectively, at the end of the

prior quarter.

Credit Quality - Loan loss provision was $11 million for the quarter, compared to $10 million in the

prior quarter. Net charge-offs, including an $11 million recovery on a previously charged off real

estate loan, were $3 million in the quarter, a decrease of $13 million from the prior quarter. Non-

accrual loans decreased to $175 million, or 4.35% of loans, at quarter end, compared to $248 million,

or 6.45% of loans, in the prior quarter. The allowance for loan losses increased to $133 million, or

3.31% of loans, as of March 31, 2011, compared to $125 million, or 3.25% of loans, at the end of the

prior quarter.

First Quarter 2011 Details

Quarter Ended

3/31/11 vs. 12/31/10 3/31/11 vs. 3/31/10

Net Income (Loss) 3/31/11 12/31/10 3/31/10 $ % $ %

($ in thousands)

Interest income $ 91,804 $ 87,033 $ 81,454 $ 4,771 5 % $ 10,350 13 %

Interest expense 15,210 15,511 17,301 301 2 2,091 12

Provision for loan losses 11,242 9,755 87,704 (1,487) (15) 76,462 87

Operating expenses 32,941 31,516 24,335 (1,425) (5) (8,606) (35)

Other income 2,965 5,312 8,159 (2,347) (44) (5,194) (64)

Income tax expense (benefit) 3,095 18,854 (56) 15,759 84 (3,151) (5,627)

Net income (loss) 32,281 16,709 (39,671) 15,572 93 71,952 181

Interest Income was $92 million, an increase of $5 million, or 5%, from the prior quarter due to loan

portfolio growth, accelerated accretion of loan discounts and deferred loan fees from increased

prepayment levels and a decrease in non-accrual loans.

Quarter Ended

03/31/2011 12/31/2010

Net Interest Margin Average

Balance

Interest

Income

Average

Yield/Cost

Average

Balance

Interest

Income

Average

Yield/Cost

($ in thousands)

Total loans $ 3,792,412 $ 76,845 8.22 % $ 3,650,091 $ 71,951 7.82 %

Investment securities 1,596,615 14,723 3.74 1,684,987 14,769 3.48

Cash and other interest earning assets 334,278 236 0.29 298,221 313 0.42

Total interest-earning assets 5,723,305 91,804 6.51 5,633,299 87,033 6.13

Deposits 4,673,752 13,383 1.16 4,613,309 13,925 1.20

Borrowings 373,278 1,827 1.98 317,337 1,586 1.98

Total interest-bearing liabilities $ 5,047,030 15,210 1.22 $ 4,930,646 15,511 1.25

Net interest spread $ 76,594 5.29 % $ 71,522 4.88 %

Net interest margin 5.43 % 5.04 %

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Cash and Investments declined by $103 million from the prior quarter as lower yielding cash and

investments were redeployed to fund net loan growth. The portfolio yield at quarter end increased by 25

basis points and the overall duration increased to 2.6 years from 2.4 years.

Cash and Investments 03/31/2011 12/31/2010

($ in thousands) Book Value Yield Duration Book Value Yield Duration

Cash and cash equivalents $ 440,928 0.28% - $ 377,054 0.20% -

Agency discount notes - - - 164,917 0.30% 0.3

Agency callable notes 164,223 1.79% 4.2 164,219 1.84% 4.3

Agency debt 76,843 1.73% 1.0 102,263 1.46% 1.0

Agency MBS 944,968 2.83% 3.9 860,441 3.04% 3.9

Non-agency MBS 97,062 4.45% 2.7 112,917 4.57% 2.8

CMBS 179,077 13.17% 1.0 184,473 12.71% 1.2

Corporate debt 4,998 3.04% 0.7 4,998 3.04% 0.9

Asset-back securities 21,398 10.73% 2.0 - - -

U.S. Treasury and agency securities 29,795 2.13% 4.2 90,587 0.95% 1.7

$ 1,959,292 3.23% 2.6 2,061,869 2.98% 2.4

Total Loans Held for Investment and Loans Held for Sale increased $164 million from the prior

quarter as detailed below:

Quarter Ended

Loan Roll Forward 3/31/2011 12/31/2010 3/31/2010

($ in thousands)

Beginning balance $ 3,848,511 $ 3,705,992 $ 3,061,426

New fundings 627,470 536,163 243,031

Loans

Principal repayments (428,426) (321,793) (92,312)

Sales (17,373) (19,376) -

Transfers to REO (2,013) (36,594) -

Charge-offs (15,350) (15,881) (17,894)

Ending balance $ 4,012,819 $ 3,848,511 $ 3,194,251

Quarter Ended

Loan Portfolio Mix 3/31/2011 12/31/2010 3/31/2010

($ in thousands)

General asset-based $ 756,851 $ 682,733 $ 670,468

Cash flow 835,030 917,960 812,017

General commercial real estate 794,345 853,442 953,821

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Multifamily 587,011 318,236 127,647

Healthcare real estate 428,322 500,033 438,071

Healthcare asset-based 181,988 201,524 192,227

Equipment finance 274,669 234,546 -

Small business 154,603 140,037 -

Total $ 4,012,819 $ 3,848,511 $ 3,194,251

Deposits were $4.7 billion at quarter end, an increase of $87 million from the end of the prior quarter. The

weighted average interest rate on deposits was 1.15% at the end of the quarter, a decline of 3 basis points

from the end of the prior quarter.

FHLB Borrowings were $400 million, compared to $412 million at the end of the prior quarter. These

borrowings are used primarily for interest rate risk management and short-term funding purposes. As of

March 31, 2011, the weighted average rate and remaining maturities of FHLB borrowings were 2.01%

and 2.9 years, respectively, compared to 1.67% and 2.3 years, respectively, at the end of the prior quarter.

Allowance for Loan Losses was $133 million, or 3.31% of the loan portfolio, an increase of $8 million


Quarter Ended

Allowance for Loan Losses 3/31/2011

($ in thousands) General Specific Total % Loans

Beginning balance $ 122,997 $ 1,881 $ 124,878 3.25%

Provision for loan losses 7,217 4,025 11,242

Charge-offs, net - (3,150) (3,150) 0.33%

Ending balance $ 130,214 $ 2,756 $ 132,970 3.31%

Quarter Ended

12/31/2010

General Specific Total % Loans


Provision for loan losses 8,057 1,698 9,755

Charge-offs, net - (15,882) (15,882) 1.70%

Ending balance $ 122,997 $ 1,881 $ 124,878 3.25%

Non-Performing Assets were $308 million, a decline of $23 million, or 7%, from the prior quarter

primarily due to decreases in non-accrual loans and REO assets, partially offset by an increase in troubled

debt restructured loans due primarily to a $67 million real estate loan that was restructured.

Non-performing Assets 3/31/2011 12/31/2010

Loan Balance

% of Total

Assets Loan Balance

% of Total

Assets

($ in thousands)

Non-accrual loans - current $ 116,568 1.89 % $ 174,559 2.85 %

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Non-accrual loans - delinquent 30-89 days 1,688 0.03 3,945 0.06

Non-accrual loans - delinquent 90+ days 56,338 0.91 69,793 1.14

Total non-accrual loans 174,594 2.83 % 248,297 4.06 %

Accruing loans - delinquent 90+ days 186 - 272 -

Accruing loans - restructured 102,343 1.66 35,689 0.58

Total non-performing loans 277,123 4.48 % 284,258 4.65 %

REO 30,416 0.49 46,750 0.76

Total non-performing assets $ 307,539 4.98 % $ 331,008 5.41 %

Operating Expenses were $33 million, which includes $2 million of additional costs related to the

transfer of certain Parent Company support personnel to CapitalSource Bank in the quarter. Those costs

were largely offset by reimbursements from the Parent Company which are reported in Other Income.

Operating expenses also include $11 million in loan referral fees paid to the Parent Company, which was

$1 million higher than the previous quarter due to increased loan production.

Other income was $3 million, a 44% decrease from the prior quarter primarily due to losses from the sale

of assets offset by fees from the Parent Company for shared services provided by CapitalSource Bank.

Income Tax Expense was $3 million for the quarter, reflecting a $14 million tax expense related to pre-

tax income, offset by a benefit of $11 million for the release of a valuation allowance that CapitalSource

Bank maintained with respect to its state net deferred tax assets.

OTHER COMMERCIAL FINANCE SEGMENT This segment includes the CapitalSource Inc. loan portfolio and other business activities at the Parent Company.

Net Loss was $35 million, or $0.11 per share, compared to a net loss of $8 million, or $0.02 per share in

the prior quarter.

Interest Income was $48 million, a decrease of $19 million or 28% from the prior quarter primarily due

to the continuing run-off of the Parent Company loan portfolio.

Unrestricted Cash was $723 million, an increase of $256 million from the prior quarter primarily due to

loan sales of $133 million related to the European portfolio, loan pay-offs and the disposition of non-

performing loans.

Total Loans Held for Investment and Loans Held for Sale were $2.1 billion, a decrease of $437

million from the prior quarter primarily due to loan payoffs and sales of $361 million and loans charged

off of $89 million.

Quarter Ended


($ in thousands)


New fundings 12,925 21,852 44,195

Loans

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Sales (176,285) (49,857) (4,137)

Transfers to REO - (9,823) (51,887)

Charge-offs (88,720) (73,099) (101,549)

Ending balance $ 2,072,904 $ 2,509,699 $ 4,766,913

Allowance for Loan Losses was $150 million, or 7.25% of the loan portfolio, a decline of $54 million


Net Charge-Offs were $88 million in the quarter an increase of $15 million from the prior quarter. Net

charge-offs as a percentage of average loans for the twelve months ended March 31, 2011 were 8.20%, as

compared to 7.17% for the twelve months ended December 31, 2010.

Quarter Ended




Provision for loan losses (35,283) 68,850 33,567

Charge-offs, net - (87,507) (87,507) 14.97%

Ending balance $ 91,873 $ 58,431 $ 150,304 7.25%

Quarter Ended

12/31/2010




Charge-offs, net - (72,745) (72,745) 10.08%

Ending balance $ 127,156 $ 77,088 $ 204,244 8.14%


primarily due to a $76 million decrease in non-accrual loans. 46 loans totaling $164 million are considered

impaired and on non-accrual, but are current as to payment status. All collections on these loans are

applied to the outstanding principal balance.


Loan Balance

% of Total

Assets Loan Balance

% of Total

Assets

($ in thousands)





Accruing loans - delinquent 90+ days 46,885 1.50 49,016 1.43


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REO 41,053 1.31 46,934 1.37


Operating Expenses were $41 million, a decline of $1 million from prior quarter.

Other income was $32 million for the quarter, compared to other expenses of $5 million for the prior

quarter, primarily due to increased gains on sales of investments, lower expenses of real estate owned and

other foreclosed assets, and the net loss on the European portfolio that we recognized in the prior quarter.

CONSOLIDATED METRICS

Net Income was $3 million, compared to $6 million from the prior quarter, as detailed below:

Quarter Ended

3/31/11 vs. 12/31/10 3/31/11 vs. 3/31/10

3/31/11 12/31/10 3/31/10 $ % $ %

($ in thousands)

Interest income $ 142,152 $ 150,377 $ 171,414 $ (8,225) (6) % $ (29,262) (17) %

Interest expense 46,752 48,430 65,001 1,678 3 18,249 28

Provision for loan losses 44,809 24,107 218,940 (20,702) (86) 174,131 80

Operating expenses 54,261 56,991 63,205 2,730 5 8,944 14

Other income (expense) 17,991 (16,904) (22,275) 34,895 206 40,266 181

Income tax expense (benefit) 11,162 (1,966) 21,006 (13,128) (668) 9,844 47

Net income (loss) 3,159 5,911 (211,690) 2,752 47 214,849 101

Interest Income was $142 million, a decrease of $8 million, or 6%, from the prior quarter primarily due

to loan portfolio run-off.

Total Loans Held for Investment and Loans Held for Sale decreased $272 million from the prior

quarter as detailed below:


($ in thousands)


New fundings 640,395 558,015 287,226

Loans


Sales (193,658) (69,233) (4,137)

Transfers to REO (2,013) (46,417) (51,887)

Charge-offs (104,070) (88,980) (119,443)

Ending balance $ 6,085,723 $ 6,358,210 $ 7,961,164

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Allowance for Loan Losses was $283 million, or 4.65% of the loan portfolio, compared to $329 million

or 5.17% at the end of the prior quarter.

Net Charge-Offs were $91 million in the quarter, an increase of $2 million from the prior quarter. Net

charge-offs as a percentage of average loans for the twelve months ended March 31, 2011 were 5.78%,

which was consistent with the twelve months ended December 31, 2010.

Quarter Ended





Charge-offs, net - (90,657) (90,657) 5.90%

Ending balance $ 222,087 $ 61,187 $ 283,274 4.65%

Quarter Ended

12/31/2010




Charge-offs, net - (88,627) (88,627) 5.36%

Ending balance $ 250,153 $ 78,969 329,122 5.17%


primarily due to a $149 million decrease in non-accrual loans. 56 loans totaling $281 million were

considered impaired and on non-accrual at the end of the quarter, but were current as to payment status.

All collections on those loans are applied to the outstanding principal balance.


Loan Balance

% of Total

Assets Loan Balance

% of Total

Assets

($ in thousands)





Accruing loans - delinquent 90+ days 47,071 0.51 49,288 0.52

10



REO 71,469 0.77 93,684 0.99


Operating Expenses were $54 million, a decrease of $3 million from the prior quarter, primarily due to a

decrease in professional fees at the Parent Company.

Quarter Ended

Operating Expenses 3/31/2011 12/31/2010

($ in thousands)

Compensation and benefits $ 30,379 $ 29,906

Professional fees 7,188 8,807

Other operating expenses 16,694 18,278

Total operating expenses $ 54,261 $ 56,991

Income Tax Expense was $11 million for the quarter, primarily related to the re-establishment of a

valuation allowance at the consolidated group level with respect to CapitalSource Bank‟s net deferred tax

assets. The valuation allowance was recorded in connection with our plan to reconsolidate our corporate

entities for federal tax purposes in 2011.

Valuation Allowance related to the Company‟s deferred tax assets at quarter end was $457 million, an

increase of $43 million from the end of the prior quarter. The net deferred tax asset at quarter end, after

subtracting the valuation allowance, was $63 million. The valuation allowance is a non-cash accounting

charge that will exist until there is sufficient positive evidence to support its reduction or reversal.

Book Value Per Share was $6.41 at the end of the quarter, an increase of $0.06 from the end of the prior

quarter. Total shareholders‟ equity was $2.1 billion at the end of the quarter, an increase of $17 million

from the prior quarter primarily due to increases in accumulated other comprehensive income due to

foreign currency translation and mark-to-market gains on available-for-sale securities.

Average Diluted Shares Outstanding were 327.0 million shares for the quarter, compared to 326.7

million shares for the prior quarter. Total outstanding shares at March 31, 2011 were 323.3 million.

Quarterly Cash Dividend of $0.01 per common share was paid on March 31, 2011 to common shareholders

of record on March 16, 2011.

Conference Call Details

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A conference call to discuss the results will be hosted on Friday, April 29, 2011 at 8:30 a.m. EST.

Interested parties may access the call via webcast on the Investor Relations section of the CapitalSource

web site at http://www.capitalsource.com/investor_relations. An audio replay will also be available on the

website from approximately 12 Noon EDT April 29, 2011 through July 29, 2011.

CapitalSource Bank will file its Consolidated Reports of Condition and Income for A Bank With

Domestic Offices Only FFIEC 041, for the quarter ended March 31, 2011 (the Call Report) with the

Federal Deposit Insurance Corporation (FDIC) on April 29, 2011. The Call Report may be found on the

FDIC‟s website at http://cdr.ffiec.gov/Public/ following CapitalSource Bank's filing with the FDIC.

About CapitalSource

CapitalSource Inc. (NYSE: CSE) is a commercial lender that provides financial products to middle market

businesses and offers depository products and services in southern and central California through its

wholly owned subsidiary CapitalSource Bank. As of March 31, 2011, CapitalSource had total assets of

$9.3 billion and $4.7 billion in deposits. Visit www.capitalsource.com for more information.

Forward Looking Statements

This release contains "forward-looking statements" within the meaning of the Private Securities Litigation

Reform Act of 1995, including certain plans, expectations, strategies, goals, and projections and including

statements about projected loan originations, our expectations regarding our application to become a bank

holding company and convert CapitalSource Bank‟s charter to a commercial charter, liquidity position at

the Parent Company, growing our business and assets, projected loan production levels, deployment of

excess capital at the Parent Company, profitability, the maturities of our recourse debt, all which are

subject to numerous assumptions, risks, and uncertainties. All statements contained in this release that are

not clearly historical in nature are forward-looking, and the words „anticipate,‟ „assume,‟ „intend,‟

„believe,‟ „expect,‟ „estimate,‟ „forecast,‟ „plan,‟ „position,‟ „project,‟ „will,‟ „should,‟ „would,‟ „seek,‟

„continue,‟ „outlook,‟ „look forward,‟ and similar expressions are generally intended to identify forward-

looking statements. All forward-looking statements (including statements regarding preliminary and

future financial and operating results and future transactions and their results) involve risks, uncertainties

and contingencies, many of which are beyond our control which may cause actual results, performance, or

achievements to differ materially from anticipated results, performance or achievements. Actual results

could differ materially from those contained or implied by such statements for a variety of factors,

including without limitation: changes in economic or market conditions or investment or lending

opportunities; regulatory restrictions, restrictions imposed by our debt agreements; continued or

worsening disruptions in credit and other markets; increase in interest rates and lending spreads;

competitive and other market pressures on product pricing and services; reduced demand for our services;

success and timing of other business strategies; and other factors described in CapitalSource's 2010

Annual Report on Form 10-K and documents subsequently filed by CapitalSource with the Securities and

Exchange Commission. All forward-looking statements included in this release are based on information

available at the time of the release. We are under no obligation to (and expressly disclaim any such

obligation to) update or alter our forward-looking statements, whether as a result of new information,

future events or otherwise except as required by applicable law.

http://www.capitalsource.com/investor_relations

http://cdr.ffiec.gov/Public/

blocked::http://www.capitalsource.com/

CapitalSource First Quarter 2011 – Financial Supplement

12

Table of Contents

Consolidated Balance Sheets.…………………………………...………………………………...……...13

Consolidated Statements of Income…..…………………………...……………………………….......…14

Segment Statements of Income……………………………………………………………………..….....15

Segment Balance Sheets………………………………………………………………………………….16

Selected Financial Data.………………………………………………...……………………………......17

Credit Quality Data.……………………………………………………...……………………..……...…18


CapitalSource Inc.

Consolidated Balance Sheets

($ in thousands)

13

March 31, December 31,

2011 2010

(Unaudited)

ASSETS

Cash and cash equivalents ............................................................................................................................................................................................................................ $ 1,151,495 $ 820,450

Restricted cash .............................................................................................................................................................................................................................................. 76,577 128,586

Investment securities:

Available-for-sale, at fair value ..................................................................................................................................................................................................................... 1,370,353 1,522,911

Held-to-maturity, at amortized cost ............................................................................................................................................................................................................... 179,077 184,473

Total investment securities ............................................................................................................................................................................................................................ 1,549,430 1,707,384

Loans:

Loans held for sale ........................................................................................................................................................................................................................................ 17,997 205,334

Loans held for investment ............................................................................................................................................................................................................................. 6,067,726 6,152,876

Less deferred loan fees and discounts ........................................................................................................................................................................................................... (93,513) (106,438)

Less allowance for loan losses ...................................................................................................................................................................................................................... (283,274) (329,122)

Loans held for investment, net ...................................................................................................................................................................................................................... 5,690,939 5,717,316

Total loans ..................................................................................................................................................................................................................................................... 5,708,936 5,922,650

Interest receivable ......................................................................................................................................................................................................................................... 57,922 57,393

Other investments ......................................................................................................................................................................................................................................... 67,906 71,889

Goodwill ....................................................................................................................................................................................................................................................... 173,135 173,135

Other assets................................................................................................................................................................................................................................................... 487,937 563,920

Total assets ................................................................................................................................................................................................................................................... $ 9,273,338 $ 9,445,407

LIABILITIES AND SHAREHOLDERS’ EQUITY Liabilities:

Deposits ......................................................................................................................................................................................................................................................... $ 4,708,349 $ 4,621,273

Credit facilities .............................................................................................................................................................................................................................................. - 67,508

Term debt ...................................................................................................................................................................................................................................................... 863,799 979,254

Other borrowings .......................................................................................................................................................................................................................................... 1,368,462 1,375,884

Other liabilities .............................................................................................................................................................................................................................................. 261,292 347,546

Total liabilities .............................................................................................................................................................................................................................................. 7,201,902 7,391,465

Shareholders’ equity:

Preferred stock (50,000,000 shares authorized; no shares outstanding) ........................................................................................................................................................ - -

Common stock ($0.01 par value, 1,200,000,000 shares

authorized; 323,345,312 and 323,225,355 shares issued

and shares outstanding, respectively) ............................................................................................................................................................................................................ 3,233 3,232

Additional paid-in capital .............................................................................................................................................................................................................................. 3,914,500 3,911,341

Accumulated deficit ...................................................................................................................................................................................................................................... (1,870,663) (1,870,572)

Accumulated other comprehensive income, net ............................................................................................................................................................................................ 24,366 9,941

Total shareholders‟ equity ............................................................................................................................................................................................................................. 2,071,436 2,053,942

Total liabilities and shareholders‟ equity ....................................................................................................................................................................................................... $ 9,273,338 $ 9,445,407


CapitalSource Inc.

Consolidated Statements of Income

(Unaudited)

($ in thousands, except per share data)

14

Three Months Ended

March 31, December 31, March 31,

2011 2010 2010

Net interest income: (Unaudited)

Interest income:

Loans .............................................................................................................................................................................................................................................................................................................. $ 123,500 $ 133,259 $ 156,250

Investment securities ...................................................................................................................................................................................................................................................................................... 18,352 16,830 14,591

Other .............................................................................................................................................................................................................................................................................................................. 300 288 573

Total interest income ...................................................................................................................................................................................................................................................................................... 142,152 150,377 171,414

Interest expense:

Deposits .......................................................................................................................................................................................................................................................................................................... 13,383 13,925 16,358

Borrowings ..................................................................................................................................................................................................................................................................................................... 33,369 34,505 48,643

Total interest expense ..................................................................................................................................................................................................................................................................................... 46,752 48,430 65,001

Net interest income ......................................................................................................................................................................................................................................................................................... 95,400 101,947 106,413

Provision for loan losses.................................................................................................................................................................................................................................................................................. 44,809 24,107 218,940

Net interest income (loss) after provision for loan losses ................................................................................................................................................................................................................................ 50,591 77,840 (112,527)

Operating expenses:

Compensation and benefits.............................................................................................................................................................................................................................................................................. 30,379 29,906 34,183

Professional fees ............................................................................................................................................................................................................................................................................................. 7,188 8,807 10,370

Other administrative expenses ......................................................................................................................................................................................................................................................................... 16,694 18,278 18,652

Total operating expenses ................................................................................................................................................................................................................................................................................. 54,261 56,991 63,205

Other income (expense):

Gain on investments, net ................................................................................................................................................................................................................................................................................. 23,515 7,780 6,079

(Loss) gain on derivatives ............................................................................................................................................................................................................................................................................... (1,878) 1,275 (4,337)

Net expense of real estate owned and other foreclosed assets .......................................................................................................................................................................................................................... (10,173) (19,775) (40,492)

Other income (expense), net ............................................................................................................................................................................................................................................................................ 6,527 (6,184) 16,475

Total other income (expense) .......................................................................................................................................................................................................................................................................... 17,991 (16,904) (22,275)

Net income (loss) from continuing operations before income taxes ........................................................................................................................................................................................................... 14,321 3,945 (198,007)

Income tax expense (benefit) ........................................................................................................................................................................................................................................................................... 11,162 (1,966) 21,006

Net income (loss) from continuing operations ............................................................................................................................................................................................................................................. 3,159 5,911 (219,013)

Net income from discontinued operations, net of taxes .............................................................................................................................................................................................................................. - - 7,323

Net income (loss) ........................................................................................................................................................................................................................................................................................... $ 3,159 $ 5,911 $ (211,690)

Basic income (loss) per share:

From continuing operations ............................................................................................................................................................................................................................................................................. $ 0.01 $ 0.02 $ (0.68)

From discontinued operations ......................................................................................................................................................................................................................................................................... $ - $ - $ 0.02

Net income (loss) per share ............................................................................................................................................................................................................................................................................. $ 0.01 $ 0.02 $ (0.66)

Diluted income (loss) per share:

From continuing operations ............................................................................................................................................................................................................................................................................. $ 0.01 $ 0.02 $ (0.68)

From discontinued operations ......................................................................................................................................................................................................................................................................... $ - $ - $ 0.02

Net income (loss) per share ............................................................................................................................................................................................................................................................................. $ 0.01 $ 0.02 $ (0.66)

Average shares outstanding:

Basic ............................................................................................................................................................................................................................................................................................................... 320,196,690 321,173,379 320,294,724

Diluted ............................................................................................................................................................................................................................................................................................................ 326,963,738 326,657,654 320,294,724

Dividends declared per share ....................................................................................................................................................................................................................................................................... $ 0.01 $ 0.01 $ 0.01

CapitalSource Inc.

Segment Statements of Income

(Unaudited)

($ in thousands)

15

Three Months Ended March 31, 2011

Net interest income:

CAPITALSOURCE

BANK

OTHER

COMMERCIAL

FINANCE

INTERCOMPANY

ELIMINATIONS CONSOLIDATED

Interest income ............................................................................................................................................................................................................................................................................................................................................ $ 91,804 $ 47,614 $ 2,734 $ 142,152

Interest expense ........................................................................................................................................................................................................................................................................................................................................... 15,210 31,542 - 46,752

Net interest income ...................................................................................................................................................................................................................................................................................................................................... 76,594 16,072 2,734 95,400

Provision for loan losses .............................................................................................................................................................................................................................................................................................................................. 11,242 33,567 - 44,809

Net interest income (loss) after provision for loan losses ............................................................................................................................................................................................................................................................................. 65,352 (17,495) 2,734 50,591

Compensation and benefits .......................................................................................................................................................................................................................................................................................................................... 11,708 19,502 (831) 30,379

Professional fees .......................................................................................................................................................................................................................................................................................................................................... 364 6,824 - 7,188

Other operating expenses ............................................................................................................................................................................................................................................................................................................................. 20,869 15,000 (19,175) 16,694

Total operating expenses ............................................................................................................................................................................................................................................................................................................................. 32,941 41,326 (20,006) 54,261

Total other income ....................................................................................................................................................................................................................................................................................................................................... 2,965 32,354 (17,328) 17,991

Net income (loss) before income taxes ...................................................................................................................................................................................................................................................................................................... 35,376 (26,467) 5,412 14,321

Income tax expense ..................................................................................................................................................................................................................................................................................................................................... 3,095 8,067 - 11,162

Net income (loss) ......................................................................................................................................................................................................................................................................................................................................... $ 32,281 $ (34,534) $ 5,412 $ 3,159

Three Months Ended December 31, 2010


CAPITALSOURCE

BANK

OTHER

COMMERCIAL

FINANCE

INTERCOMPANY


Interest income ............................................................................................................................................................................................................................................................................................................................................ $ 87,033 $ 66,523 $ (3,179) $ 150,377


Net interest income ...................................................................................................................................................................................................................................................................................................................................... 71,522 33,604 (3,179) 101,947


Net interest income after provision for loan losses ....................................................................................................................................................................................................................................................................................... 61,767 19,252 (3,179) 77,840

Compensation and benefits .......................................................................................................................................................................................................................................................................................................................... 10,773 19,133 - 29,906




Total other income (expense) ....................................................................................................................................................................................................................................................................................................................... 5,312 (5,226) (16,990) (16,904)

Net income (loss) before income taxes ...................................................................................................................................................................................................................................................................................................... 35,563 (28,706) (2,912) 3,945

Income tax expense (benefit) ....................................................................................................................................................................................................................................................................................................................... 18,854 (20,820) - (1,966)

Net income (loss) ......................................................................................................................................................................................................................................................................................................................................... $ 16,709 $ (7,886) $ (2,912) $ 5,911



CAPITALSOURCE

BANK

OTHER

COMMERCIAL

FINANCE

INTERCOMPANY


Interest income ............................................................................................................................................................................................................................................................................................................................................ $ 81,454 $ 92,333 $ (2,373) $ 171,414


Net interest income ...................................................................................................................................................................................................................................................................................................................................... 64,153 44,633 (2,373) 106,413


Net interest loss after provision for loan losses ............................................................................................................................................................................................................................................................................................ (23,551) (86,603) (2,373) (112,527)

Compensation and benefits .......................................................................................................................................................................................................................................................................................................................... 11,120 23,063 - 34,183




Total other income (expense) ....................................................................................................................................................................................................................................................................................................................... 8,159 (18,978) (11,456) (22,275)

Net loss from continuing operations before income taxes ........................................................................................................................................................................................................................................................................ (39,727) (156,088) (2,192) (198,007)

Income tax (benefit) expense ...................................................................................................................................................................................................................................................................................................................... (56) 21,062 - 21,006

Net loss from continuing operations ............................................................................................................................................................................................................................................................................................................ $ (39,671) $ (177,150) $ (2,192) $ (219,013)

CapitalSource Inc.

Segment Balance Sheets

(Unaudited)

($ in thousands)

16

March 31, 2011 December 31, 2010

CAPITALSOURCE

BANK

OTHER

COMMERCIAL

FINANCE

INTERCOMPANY


CAPITALSOURCE

BANK

OTHER

COMMERCIAL

FINANCE

INTERCOMPANY


ASSETS

Cash and cash equivalents and restricted cash ................................................................................................................................................................................................................................................. $ 440,928 $ 787,144 $ - $ 1,228,072 $ 377,054 $ 571,982 $ - $ 949,036

Investment securities:

Available-for-sale ........................................................................................................................................................................................................................................................................................... 1,348,771 21,582 - 1,370,353 1,510,384 12,527 - 1,522,911

Held-to-maturity ............................................................................................................................................................................................................................................................................................. 179,077 - - 179,077 184,473 - - 184,473

Loans .............................................................................................................................................................................................................................................................................................................. 3,947,080 2,037,692 7,438 5,992,210 3,777,975 2,471,506 2,291 6,251,772

Allowance for loan losses ............................................................................................................................................................................................................................................................................... (132,970) (150,304) - (283,274) (124,878) (204,244) - (329,122)

Loans, net of allowance for loan losses ........................................................................................................................................................................................................................................................... 3,814,110 1,887,388 7,438 5,708,936 3,653,097 2,267,262 2,291 5,922,650

Receivables due from affiliates ....................................................................................................................................................................................................................................................................... 2,547 40,811 (43,358) - 1,265 87,972 (89,237) -

Other assets ..................................................................................................................................................................................................................................................................................................... 394,648 396,042 (3,790) 786,900 391,095 479,154 (3,912) 866,337

Total assets ..................................................................................................................................................................................................................................................................................................... $ 6,180,081 $ 3,132,967 $ (39,710) $ 9,273,338 $ 6,117,368 $ 3,418,897 $ (90,858) $ 9,445,407

LIABILITIES AND SHAREHOLDERS' EQUITY

Liabilities:

Deposits .......................................................................................................................................................................................................................................................................................................... $ 4,708,349 $ - $ - $ 4,708,349 $ 4,621,273 $ - $ - $ 4,621,273

Borrowings ..................................................................................................................................................................................................................................................................................................... 400,000 1,832,261 - 2,232,261 412,000 2,010,646 - 2,422,646

Balance due to affiliates .................................................................................................................................................................................................................................................................................. 40,811 2,547 (43,358) - 87,972 1,265 (89,237) -

Other liabilities ............................................................................................................................................................................................................................................................................................... 73,464 193,638 (5,810) 261,292 71,480 281,733 (5,667) 347,546

Total liabilities ................................................................................................................................................................................................................................................................................................ 5,222,624 2,028,446 (49,168) 7,201,902 5,192,725 2,293,644 (94,904) 7,391,465

Shareholders' equity:

Common stock ................................................................................................................................................................................................................................................................................................ 921,000 3,233 (921,000) 3,233 921,000 3,232 (921,000) 3,232

Additional paid-in capital/retained earnings/deficit ......................................................................................................................................................................................................................................... 30,767 1,076,922 936,148 2,043,837 (2,381) 1,112,080 931,070 2,040,769

Accumulated other comprehensive income, net .............................................................................................................................................................................................................................................. 5,690 24,366 (5,690) 24,366 6,024 9,941 (6,024) 9,941

Total shareholders' equity ............................................................................................................................................................................................................................................................................... 957,457 1,104,521 9,458 2,071,436 924,643 1,125,253 4,046 2,053,942

Total liabilities and shareholders' equity ......................................................................................................................................................................................................................................................... $ 6,180,081 $ 3,132,967 $ (39,710) $ 9,273,338 $ 6,117,368 $ 3,418,897 $ (90,858) $ 9,445,407

Book value per outstanding share ................................................................................................................................................................................................................................................................... $ 2.96 $ 3.42 $ 0.03 $ 6.41 $ 2.86 $ 3.48 $ 0.01 $ 6.35


CapitalSource Inc.

Selected Financial Data

(Unaudited)

(1) Applicable ratios have been calculated on a continuing operations basis.

17

Three Months Ended

March 31, December 31, March 31,

2011 2010 2010

CapitalSource Bank Segment:

Performance ratios:

Return on average assets ..................................................................................................................................................................................................................................................................................................... 2.17% 1.12% (2.78%)

Return on average equity ..................................................................................................................................................................................................................................................................................................... 13.98% 7.17% (18.38%)

Yield on average interest earning assets .............................................................................................................................................................................................................................................................................. 6.51% 6.13% 5.98%

Cost of interest bearing liabilities ........................................................................................................................................................................................................................................................................................ 1.22% 1.25% 1.47%

Deposits ...................................................................................................................................................................................................................................................................................................................... 1.16% 1.20% 1.45%

Borrowings .................................................................................................................................................................................................................................................................................................................. 1.98% 1.98% 1.84%

Borrowing spread ................................................................................................................................................................................................................................................................................................................ 0.96% 0.99% 1.24%

Net interest margin ............................................................................................................................................................................................................................................................................................................. 5.43% 5.04% 4.71%

Operating expenses as a percentage of average total assets ................................................................................................................................................................................................................................................. 2.21% 2.10% 1.71%

Core lending spread ............................................................................................................................................................................................................................................................................................................. 7.96% 7.56% 7.61%

Loan yield ........................................................................................................................................................................................................................................................................................................................... 8.22% 7.82% 7.84%

Capital ratios:

Tier 1 leverage .................................................................................................................................................................................................................................................................................................................... 13.47% 13.15% 11.78%

Total risk-based capital ....................................................................................................................................................................................................................................................................................................... 18.80% 18.13% 17.35%

Tangible common equity to tangible assets ......................................................................................................................................................................................................................................................................... 13.06% 12.61% 11.94%

Average balances ($ in thousands):

Average loans ..................................................................................................................................................................................................................................................................................................................... $ 3,792,412 $ 3,650,091 $ 3,041,549

Average assets .................................................................................................................................................................................................................................................................................................................... 6,046,033 5,942,619 5,780,554

Average interest earning assets ............................................................................................................................................................................................................................................................................................ 5,723,305 5,633,299 5,524,348

Average deposits ............................................................................................................................................................................................................................................................................................................... 4,673,752 4,613,309 4,564,010

Average borrowings ............................................................................................................................................................................................................................................................................................................ 373,278 317,337 208,289

Average equity .................................................................................................................................................................................................................................................................................................................... 936,476 923,969 875,198

Other Commercial Finance Segment:

Performance ratios:

Return on average assets ..................................................................................................................................................................................................................................................................................................... (4.21%) (0.86%) (12.42%)

Return on average equity ..................................................................................................................................................................................................................................................................................................... (12.40%) (2.64%) (62.45%)






Core lending spread ............................................................................................................................................................................................................................................................................................................. 7.38% 8.71% 7.14%

Loan yield ........................................................................................................................................................................................................................................................................................................................... 7.64% 8.97% 7.37%

Leverage ratios:

Total debt to equity (as of period end) ................................................................................................................................................................................................................................................................................. 1.66x 1.79x 3.90x

Equity to total assets (as of period end) ............................................................................................................................................................................................................................................................................... 35.25% 32.91% 19.49%


Average loans ..................................................................................................................................................................................................................................................................................................................... $ 2,331,652 $ 2,850,705 $ 5,060,833

Average assets .................................................................................................................................................................................................................................................................................................................... 3,327,142 3,617,207 5,783,958


Average borrowings ............................................................................................................................................................................................................................................................................................................ 1,901,770 2,104,012 4,315,838

Average equity .................................................................................................................................................................................................................................................................................................................... 1,129,542 1,183,331 1,150,372

Consolidated CapitalSource Inc.: (1)

Performance ratios:

Return on average assets ..................................................................................................................................................................................................................................................................................................... 0.14% 0.25% (7.74%)

Return on average equity ..................................................................................................................................................................................................................................................................................................... 0.62% 1.13% (44.29%)






Leverage ratios:

Total debt to equity (as of period end) ................................................................................................................................................................................................................................................................................. 3.35x 3.43x 4.77x

Equity to total assets (as of period end) ............................................................................................................................................................................................................................................................................... 22.34% 21.75% 16.90%

Tangible common equity to tangible assets ......................................................................................................................................................................................................................................................................... 20.84% 20.27% 15.52%


Average loans ..................................................................................................................................................................................................................................................................................................................... 6,126,161 6,473,048 8,081,642

Average assets .................................................................................................................................................................................................................................................................................................................... 9,319,796 9,475,846 11,481,309


Average borrowings ............................................................................................................................................................................................................................................................................................................ 2,275,048 2,421,349 4,503,139

Average deposits ................................................................................................................................................................................................................................................................................................................. 4,673,752 4,613,309 4,564,010

Average equity .................................................................................................................................................................................................................................................................................................................... 2,069,960 2,081,134 2,005,639

CapitalSource Inc.

Credit Quality Data

(Unaudited)

(1) Includes loans held for investment and loans held for sale. Excludes deferred loan fees and discounts and the allowance for loan losses.

(2) Includes loans with an aggregate principal balance of $235.3 million, $270.5 million, $354.3 million, $371.9 million, and $402.1 million as of March 31, 2011, December 31, 2010, September 30, 2010,

June 30, 2010, and March 31, 2010, respectively, that were also classified as loans 90 or more days contractually delinquent. Also includes non-performing loans held for sale that had an aggregate

principal balance of $11.5 million, $14.7 million, $37.5 million, $51.4 million, and $15.6 million as of March 31, 2011, December 31, 2010, September 30, 2010, June 30, 2010, and March 31, 2010,

respectively.

(3) Includes loans with an aggregate principal balance of $243.8 million, $265.3 million, $340.0 million, $423.2 million, and $416.4 million as of March 31, 2011, December 31, 2010, September 30, 2010,

June 30, 2010, and March 31, 2010, respectively, that were also classified as loans 90 or more days contractually delinquent, and loans with an aggregate principal balance of $549.4 million, $684.1

million, $787.9 million, $1,075.0 million, and $1,124.6 million as of March 31, 2011, December 31, 2010, September 30, 2010, June 30, 2010, and March 31, 2010, respectively, that were also classified as

loans on non-accrual status.

18

March 31, 2011 December 31, 2010 September 30, 2010 June 30, 2009 March 31, 2010

Loans 30-89 days contractually delinquent:

As a % of total loans(1) .................................................................................................................................................................................................................................. 0.77 % 0.44 % 0.86 % 1.43 % 3.27 %

Loans 30-89 days contractually delinquent .................................................................................................................................................................................................. $ 46.6 $ 27.8 $ 56.8 $ 109.7 $ 261.3

Loans 90 or more days contractually delinquent:

As a % of total loans ..................................................................................................................................................................................................................................... 4.64 % 5.03 % 5.47 % 5.98 % 5.46 %

Loans 90 or more days contractually delinquent .......................................................................................................................................................................................... $ 282.4 $ 319.7 $ 362.6 $ 459.2 $ 436.8

Loans on non-accrual:(2)


Loans on non-accrual .................................................................................................................................................................................................................................... $ 549.4 $ 698.7 $ 787.9 $ 1,126.4 $ 1,140.1

Impaired loans:(3)


Impaired loans .............................................................................................................................................................................................................................................. $ 740.6 $ 931.2 $ 977.5 $ 1,469.0 $ 1,390.6

Allowance for loan losses:


Allowance for loan losses ............................................................................................................................................................................................................................ $ 283.3 $ 329.1 $ 393.6 $ 578.6 $ 686.2

Net charge offs (last twelve months):

As a % of total average loans ........................................................................................................................................................................................................................ 5.78 % 5.78 % 6.78 % 7.43 % 7.50 %

Net charge offs (last twelve months) ............................................................................................................................................................................................................ $ 397.6 $ 426.5 $ 535.6 $ 623.3 $ 654.8

1Q 2011 Investor Presentation

April 29, 2011

1Q 2011 Investor Presentation | April 29, 2011 | p. 2

Forward Looking Statements

This presentation contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, including certain plans, expectations, strategies, goals, and projections and including statements about growing ourbusiness and our assets, quarterly loan production levels, deployment of excess capital at the Parent Company, our expectations regarding our application to become a bank holding company and convert CapitalSource Bank’s charter to a commercial charter, the timing of our ability to file a consolidated tax return; the maturities of our recourse debt, all which are subject to numerous assumptions, risks, and uncertainties. All statements contained in this presentation that are not clearly historical in nature are forward-looking, and the words "anticipate," "assume," "intend," "believe," "expect," "estimate," "plan," “position,” “project,” "will,“ “should,” “would,” “seek,” “continue,” “outlook,” "look forward," and similar expressions are generally intended to identify forward-looking statements. All forward-looking statements (including statements regarding preliminary and future financial and operating results and future transactions and their results) involve risks, uncertainties and contingencies, many of which are beyond our control which may cause actual results, performance, or achievements to differ materially from anticipated results, performance or achievements. Actual results could differ materially from those contained or implied by such statements for a variety of factors, including without limitation: changesin economic or market conditions or investment or lending opportunities; continued or worsening disruptions in credit and other markets; increase in interest rates and lending spreads; our ability to successfully grow CapitalSource Bank's depositsand commercial loan assets or deploy its capital in favorable lending transactions; competitive and other market pressures on product pricing and services; reduced demand for our services; significant decline in market interest rate spreads; regulatory restrictions, restrictions imposed by our debt agreements; success and timing of other business strategies including deployment of excess capital at the Parent Company and conversion of the CapitalSource Bank charter to a commercial charter; changes in tax laws or regulations affecting our business; and other factors described in CapitalSource's2010 Annual Report on Form 10-K and documents subsequently filed by CapitalSource with the Securities and Exchange Commission. All forward-looking statements included in this presentation are based on information available at the time of the presentation. We are under no obligation to (and expressly disclaim any such obligation to) update or alter our forward-looking statements, whether as a result of new information, future events or otherwise except as required by applicable law.


Presentation Outline

Section Page(s)

First Quarter 2011 Key Messages 4

CapitalSource Bank – 1Q’11 Highlights and Key Metrics 5-17

Parent Company - Funding and Liabilities / Balance Sheet Strengthening 18-25

Consolidated Credit 26-36


New funded loans in 1Q were $627 million with expected

quarterly run rate production in the $400 – $500 million range

for the balance of the year

4.3% net loan growth at CapitalSource Bank in 1Q

First Quarter 2011 Key Messages

$723 million of unrestricted cash at the Parent Company at 3/31/11

Over $1 billion in unrestricted cash with Genesis loan payoff after quarter

end

Balance Sheet Strengthening

Continued

Data as of March 31, 2011

Balancing Plans for Commercial Bank

Charter and Deployment of Excess

Parent Capital

Total loans on non-accrual declined by $149.3 million (21%) to $549.4

million

New non-accruals of $24 million compared to $111 million in the prior

quarter

Ongoing Credit Improvement

Loan Growth Tops Expected Range

Discussions with the Federal Reserve staff result in a clear

understanding of the actions required for consideration for

bank holding company status

Balancing priorities may result in course of action taking longer than

originally planned for charter conversion and capital deployment


CapitalSource Bank

1Q ‘11 Highlights and Key Metrics


CapitalSource Bank

First Quarter 2011 Highlights

Quarterly funded new loan production of $627million in 1Q – 17% higher than the previous quarter, expanding the loan portfolio by 4.3% net of payoffs

The percentage of CapitalSource assets at the Bank increased to 66% at quarter end, compared to 49% one year earlier

Multifamily, timeshare receivables and equipment finance were three largest contributors in the quarter

NIM at 5.43% in 1Q was 39 bps higher than 4Q ‘10

Average cost of interest bearing liabilities, including FHLB borrowing, was 1.22% for 1Q – 25 bps lower than 1Q‘10

Net interest income increased from $64 million to $77 million (+19%) compared to 1Q‘10

ImprovingGrowing Expanding

Total non-performing assets declined by $23 million or 7% to $308 million

Loans on non-accrual decreased by $74 million or 30%. Net charge-offs declined from $16 million to $3 million from the prior quarter

New non-accruals were related to two loans and totaled only $0.2 million



$243

$122

$228$213

$243

$441

$405

$536

$627

1Q '09 2Q '09 3Q '09 4Q '09 1Q '10 2Q '10 3Q '10 4Q '10 1Q '11

CapitalSource Bank

Increasing Loan Production – 17% Higher Than Prior Quarter

1Q ’11 Production Was Highest Since Formation of CapitalSource Bank

($ in millions)


CapitalSource Bank

Strong Loan Production Drives Portfolio Growth

Loan portfolio grew 26% from one year ago

($ in billions)

Data as of quarter end

$0.7 $0.7 $0.9 $1.0 $1.2 $1.7

$2.0 $2.4

$2.8 $2.2 $2.2 $2.1 $2.0 $2.0

$1.8 $1.7

$1.5 $1.2

$2.9 $2.9 $3.0 $3.1 $3.2 $3.5

$3.7 $3.8 $4.0

Q1 2009 Q2 2009 Q3 2009 Q4 2009 Q1 2010 Q2 2010 Q3 2010 Q4 2010 Q1 2011

CSB Legacy

Note: Chart excludes “A” Participation Interest which fully paid off in 4Q’10


Data as of March 31, 2011(1)Includes security, lender finance and other ABL(2) Includes healthcare, technology, professional practice and other cash flow lending(3) Includes hospitality, resort/club and other commercial real estate(4) All small business loans were secured by real estate, including $57 million of loans guaranteed

by the SBA(5) Legacy loans were made at CapitalSource Inc. prior to formation of CapitalSource Bank and

sold to the Bank after its formation (6) CS Bank loans are loans underwritten and funded after formation of CapitalSource Bank

CapitalSource Bank

A Diversified Loan Portfolio

($ in millions) Legacy(5) CS Bank(6) Total %Asset-Based:

General 345$ 412$ 757$ 18%

Equipment Finance - 275 275 7%

Healthcare Asset-Based 32 150 182 5%

Total Asset-Based(1) 377 837 1,214 30%

Cash Flow(2) 257 578 835 21%

General Commercial Real Estate(3) 442 352 794 19%

Multifamily - 587 587 15%

Healthcare Real Estate 172 256 428 11%

Small Business(4) - 155 155 4%

Total 1,248$ 2,765$ 4,013$ 100%

General Asset-Based, 18%

Equipment Finance, 7%

Healthcare Asset-Based, 5%

Cash Flow, 21%

General Commercial Real

Estate, 19%

Multifamily, 15%Healthcare Real

Estate, 11%

Small Business, 4%


CapitalSource Bank

Margin Expansion from Yield Improvement and Funding Cost Reduction

1Q’11 Net Interest Margin of 5.43%

2.19%

2.59%

3.64%

4.49%

4.51%4.30%

4.80% 4.88%

5.32%

5.35%5.17%

5.65%

6.15% 5.98%5.66%

6.10% 6.13%6.51%

3.16%

2.58%

2.01%1.66%

1.47% 1.36% 1.30% 1.25% 1.22%

2.66%

2.98%

3.94%

4.74% 4.71% 4.48%4.97% 5.04%

5.43%

Q1 2009 Q2 2009 Q3 2009 Q4 2009 1Q 2010 2Q 2010 3Q 2010 4Q 2010 1Q 2011

Spread Yield on Interest Earning Assets Cost of Funds Net Interest Margin


$ 3,792,412 $ 76,845 8.22 % $ 3,650,091 $ 71,951 7.82 %

1,596,615 14,723 3.74 1,684,987 14,769 3.48

334,278 236 0.29 298,221 313 0.42

5,723,305 91,804 6.51 5,633,299 87,033 6.13

4,673,752 13,383 1.16 4,613,309 13,925 1.20

373,278 1,827 1.98 317,337 1,586 1.98

$ 5,047,030 15,210 1.22 $ 4,930,646 15,511 1.25

$ 76,594 5.29 % $ 71,522 4.88 %

5.43 % 5.04 %

1Q '11 4Q '10

Average

Balance

Interest

Income

Average

Yield/Cost

Average

Balance

Interest

Income

Average

Yield/Cost

Total loans

Commercial real estate "A" Participation

Investment securities

Cash and other interest earning assets

Total interest-earning assets

Deposits

Borrowings

Total interest-bearing liabilities

Net interest spread

Net interest margin

($ in thousands)

CapitalSource Bank

Net Interest Margin – Improved to 5.43% in 1Q



$743.1

$695.4 $682.0 $699.3

$661.6

$700.7

$739.2 $756.8

$791.3

17.24% 16.77% 16.75%17.47% 17.35% 17.69%

18.26% 18.13%18.80%

12.87%12.46% 12.52% 12.80%

11.78%12.54%

13.03% 13.15% 13.47%

Q1 2009 Q2 2009 Q3 2009 Q4 2009 1Q 2010 2Q 2010 3Q 2010 4Q 2010 1Q 2011

Tier 1 Capital Risk-Based Capital Ratio Tier 1 Leverage Ratio

CapitalSource Bank

High Tier 1 Capital Level = Well Positioned for Growth

Data as of quarter end(1) Ratio of total risk-based capital to total risk-weighted assets. Minimum 15% risk-based capital is required by FDIC(2) Ratio of Tier 1 capital to average total assets for leverage capital purposes

(1) (2)

$ in millions


(1) The percentages compared are based on reported GAAP numbers(2) The percentages compared are based on reported regulatory numbers(3) Most recent quarter available as of April 26, 2011 in SNL Financial for banks traded on the NYSE or NASDAQ. There

were 150 banks with $1-5B in assets, 31 banks with $5-10B in assets and 53 banks with>$10B in assets (4) Data as of March 31, 2011.

14.61%

15.98% 16.04%

18.80%

Banks $1-5B Assets Banks $5-10B Assets Banks >$10B Assets CapitalSource Bank

6.93%

8.36%

7.50%

13.08%

Banks $1-5B Assets Banks $5-10B Assets Banks >$10B Assets CapitalSource Bank

10% is generally considered

the regulatory well capitalized

level

Total Risk-Based Capital Ratio(2)Tangible Common Equity/ Tangible Assets(1)

6% is generally considered

the well capitalized level

CapitalSource Bank

High Capital Ratios are Above Most Other Banks

(3)

(3)

(3)

(3)

(3) (3)

(4)(4)


CapitalSource Bank

Deposits Growing Despite Declining CD Costs

Data as of month end

CD Pricing Trend – Deposit Flows($ in millions)

WAIR for Deposits was 1.15% at March 31, 2011

0.0%

0.5%

1.0%

1.5%

($50)

($25)

$0

$25

$50

$75

Apr-10 May-10 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Jan-11 Feb-11 Mar-11

Retail Deposit Flow New & Renewed CD Rate Deposit COF


(1) Efficiency Ratio is equal to Non-interest Expense divided by Total Revenue (net interest and non-interest income)(2) Expense Ratio is equal to Non-interest Expense divided by Average Total Assets

CapitalSource Bank

Low Cost Operating Model

51.8%

40.5%

33.5% 33.7%

42.0%

37.0%

41.0% 41.4%

1.83% 1.79% 1.77% 1.71%

2.04%1.94%

2.10%2.21%

Q2 2009 Q3 2009 Q4 2009 Q1 2010 Q2 2010 Q3 2010 Q4 2010 Q1 2011

Efficiency Ratio (1) Expense Ratio (2)


1Q’11 4Q’10

Non-Accrual Loans $175 million 4.35% of total loans(51% were current)

$248 million 6.45% of total loans(68% were current)

Loan loss provision $11 million $10 million

Total Loan Loss Allowance $133 million 3.31% of total loans $125 million 3.25% of total loans

Charge-offs, net $3 million(1) $16 million

30-89 days delinquent $5 million 0.13% of total loans $9 million 0.24% of total loans

90+ days delinquent $56 million 1.40% of total loans $70 million 1.82% of total loans

Data as of quarter end(1) Includes an $11 million recovery on a previously charged off real estate loan

CapitalSource Bank Loan Portfolio: $4.0 billion

CapitalSource Bank

Credit Trends Improved

$ in millions


CapitalSource Bank

Credit Performance Trend

2.41%

3.17%

4.22%

4.96%

6.92%

4.74%

3.53%3.25% 3.31%

0.0%

2.0%

4.0%

6.0%

8.0%

-

1.0

2.0

3.0

4.0

5.0

1Q '09 2Q '09 3Q '09 4Q '09 1Q '10 2Q '10 3Q '10 4Q '10 1Q '11

ALL

L R

atio

%

Loa

ns

($B

)

Loans ALLL Ratio



Parent Company

• Funding and Liabilities

• Balance Sheet Strengthening


$4,141 $3,906 $3,642$3,279

$2,969$2,658

$2,161

$942 $764 $577

$2,141$1,925

$1,828

$1,759

$1,534$1,417

$1,387

$1,257$1,247

$1,252

12/31/08 3/31/09 6/30/09 9/30/09 12/31/09 3/31/10 6/30/10 9/30/10 12/31/10 3/31/11

Total Recourse Debt Total Non-Recourse Debt

$6,282

$5,831$5,471

$5,037

$4,503$4,075

$3,547

$2,199$2,011

$1,829

Total Parent Company debt reduced by 71% from $6.3 billion at 12/31/08 to $1.8 billion at 3/31/11

Data as of quarter endNote: Numbers exclude the RMIP portfolio and the discontinued Healthcare Net

Lease segment

Parent Company Funding & Liabilities

Substantial Debt Reduction Over The Past Two Years

$ in millions


$281$250

$300

$439

$-

$50

$100

$150

$200

$250

$300

$350

$400

$450

$500

2011 2012 2013 2014 >2034

($ in

mill

ion

s)Parent Company Funding & Liabilities

Recourse Debt Maturities Are Easily Manageable

Data as of March 31, 2011Balances are stated as gross principal balances before discounts(1)There was no outstanding balance on the syndicated bank facility as of 3/31/11. The facility was

terminated on April 12, 2011.

//

3.5% & 4.0% Convertible Debentures

7.25% Convertible Debentures

Senior Secured Notes

Trust Preferred

(1)



Only 34% of Total Loans Now Held at the Parent Company


Loan Balances by Category and Funding Source

$ in millions

Collateral Distribution

General Asset-Based $538 26.0% $757 18.9% $1,295 21.3%

Cash Flow 857 41.3% 835 20.8% 1,692 27.8%

General Commercial Real Estate 219 10.5% 794 19.8% 1,012 16.6%

Multifamily 9 0.4% 587 14.6% 596 9.8%

Healthcare Real Estate 386 18.6% 428 10.7% 815 13.4%

Healthcare Asset-Based 64 3.1% 182 4.5% 246 4.0%

Equipment Finance - 0.0% 275 6.9% 275 4.5%

Small Business - 0.0% 155 3.9% 155 2.5%

Total $2,073 100.0% $4,013 100.0% $6,086 100.0%

Other Commercial

Finance Bank Total


3/31/2011

Balance% of Total 12/31/2010 % of Total

Change from

4Q'103/31/2010 (1) % of Total

Change from

1Q'10- -

Non-Recourse Debt

Structured Facilities -$ 0.0% 68$ 3.4% (68)$ 258$ 6.3% (258)$

Securitizations 577 31.5% 694 34.5% (117) 2,397 58.8% (1,820)

Other - 0.0% 2 0.1% (2) 3 0.1% (3) -

Total Non-Recourse Debt 577$ 31.5% 764$ 38.0% (187)$ 2,658$ 65.2% (2,081)$ - -

Recourse Debt

Syndicated Bank Credit Facility (2) -$ 0.0% -$ 0.0% -$ 150$ 3.7% (150)$

Convertible Debt (3) 526 28.8% 524 26.1% 2 545 13.4% (19)

Trust Preferred Securities 439 24.0% 437 21.7% 2 438 10.7% 1

Senior Secured Notes (3) 287 15.6% 286 14.2% 1 284 7.0% 3 -

Total Recourse Debt 1,252$ 68.5% 1,247$ 62.0% 5$ 1,417$ 34.8% (165)$ -

Total Parent Company Debt 1,829$ 100.0% 2,011$ 100.0% (182)$ 4,075$ 100.0% (2,246)$

Data as of quarter end(1) March 31, 2010 excludes the discontinued Healthcare Net Lease Segment mortgage debt(2) There was no outstanding balance on the Syndicated Bank Facility as of 3/31/2011. Balance excludes $11

million and $21 million of outstanding Letters of Credit as of 3/31/2011 and 12/31/2010 , respectively(3) Balance net of discounts


Total Debt Continued to Decline During 1Q

$ in millions


2006-1 2006-2 2007-1 2007-2 Total

Change

from 4Q

Loan Collateral $70.9 $530.2 $152.2 $142.3 $895.6 $(80.6)

Other Assets 4.4 22.9 1.4 3.6 32.3 (22.3)

Debt Outstanding - Third Party Held 40.3 368.5 130.3 38.2 577.3 (116.3)

Debt Outstanding - CSE Held - 9.3 - - 9.3 -

CSE Junior Equity Before Reserves 35.0 175.3 23.3 107.7 341.3 13.4

Reserves 1.8 21.5 12.5 9.7 45.5 (36.9)

CSE Net Equity $33.2 $153.8 $10.8 $98.0 $295.8 $50.3

Number of Loans 15 103 21 50


Cash Flow (1) $17.6 $292.0 $95.0 $107.5 $512.1 $(50.6)

Health-care Asset-Based 2.1 21.7 - 1.0 24.8 (12.0)

Asset-Based (2) 51.2 216.5 57.2 33.8 358.7 (18.0)

Total $70.9 $530.2 $152.2 $142.3 $895.6 $(80.6)

Number of States 11 30 15 19

Lien Position

Senior (3) $70.8 $453.6 $120.4 $95.7 $740.5 $(77.7)

Subordinate 0.1 76.6 31.8 46.6 155.1 (2.9)

Total $70.9 $530.2 $152.2 $142.3 $895.6 $(80.6)

WA Remaining Term 0.9 1.7 1.2 1.9 1.6

Pool Yield 10.23% 8.20% 8.43% 7.53%

WA Debt Spread 1.00% 0.91% 0.63% 1.75%

Data as of March 31, 2011(1) Represents loan principal balance net of GAAP charge-offs, but excludes foreclosed-upon collateral(2) Represents cash, foreclosed assets, deferred financing fees, and other assets net of deferred loan fees(3) Represents CSE equity less ownership of outstanding debt balances


Parent Securitizations Detail – $116 Million Debt Reduction in 1Q$ in millions



Non-Securitized Loan Detail

Data as of March 31, 2011(1) Includes Senior B Loans(2) Committed capacity for the Syndicated Bank Facility which was terminated after the quarter close(3) Includes the $325 million Genesis loan which paid off on 4/1/11.

(2)

(3)

$ in Millions Non-securitized Loans Change from 4Q

Loan Collateral $1,177.2 ($356.7)

Committed Capacity 40.0 (130.7)

Debt Outstanding - (70.7)

Number of Loans 211


Commercial Real Estate 218.5 (23.7)

Cash Flow 344.8 (263.4)

Health Care Asset Based 39.4 (25.9)

Healthcare Real Estate 386.3 (0.8)

Asset Based 179.5 (42.7)

Multifamily 8.7 (0.2)

Lien Position

Senior (1)710.0 (151.8)

Subordinate 467.2 (204.9)

Total $1,177.2 ($356.7)

WA Remaining Term 2.3


Unrestricted cash of $723 million at 3/31/11, compared to $467 million at 12/31/10

$325 million Genesis loan pay-off received on April 1st

With aggregate principal balances paid off and bank credit facilities terminated in 1Q, all interest and principal payments collected on approximately $850 million of Parent Company loans (excludes the $325 million loan pay-off from Genesis on April 1st) will add to liquidity

Redemption of $281 million of convertible debentures puttable in July is the only scheduled cash use over and above normal operating expenses during 2011

Parent Company Balance Sheet Strengthening

Strong and Growing Liquidity At The Parent Company


Consolidated Credit

Continued Improvement in 1Q


REO assets and troubled loans resolved in the quarter resulted in total

proceeds of $101 million or 116% of our 12/31/10 book value

Consolidated Credit

Highlights of 1Q’11 Credit Performance

Total allowance declined to $283 million or 4.65% of loans, compared to

$329 million or 5.17% of loans in 4Q’10. Quarterly provision increased

from $24 million in 4Q to $45 million

Net charge-offs were $91 million, compared to $89 million in 4Q‘10

Total loans on non-accrual decreased by $149 million, a decline of 21%

51% of non-accrual loans ($281 million) were current at quarter end

New non-accruals declined to $24 million from $111 million in 4Q‘10

Non-Accrual Loans

Net Charge-Offs


Allowance for Loan Losses

Non-performing assets declined by 11% to $886 million, compared to

$996 million in 4Q’10Non-Performing

Assets

Troubled Loans and REO


9.83%

11.45%

12.89%14.25% 14.68%

11.89%10.99%

9.03%

2Q'09 3Q'09 4Q'09 1Q'10 2Q'10 3Q'10 4Q'10 1Q'11

4.97%

5.96%

7.09%

8.58%

7.54%

5.94%5.17%

4.65%

2Q'09 3Q'09 4Q'09 1Q'10 2Q'10 3Q'10 4Q'10 1Q'11Non-accrual Loans

% of Loans

Quarterly Provision for Commercial Loan Losses

Total Allowance % of Loans

Allowance for Loan Losses % of Non-accrual Loans


50.6% 52.1% 55.0%60.2%

51.4% 50.0% 47.1%51.6%

2Q'09 3Q'09 4Q'09 1Q'10 2Q'10 3Q'10 4Q'10 1Q'11

$204$221

$265

$219

$25$39

$24$45

2Q'09 3Q'09 4Q'09 1Q'10 2Q'10 3Q'10 4Q'10 1Q'11

Consolidated Credit

Most Portfolio Credit Trends Are Improving


$82

$181

$119

$167

$135

$191

$119 $133

$86 $89 $91

3Q'08 4Q'08 1Q'09 2Q'09 3Q'09 4Q'09 1Q'10 2Q'10 3Q'10 4Q'10 1Q'11

Consolidated Credit

Charge-offs were Consistent with the Prior Quarter


($ in millions)

Trailing Twelve Month Charge-offs Declined by 7%


Consolidated Credit

Reserves Lower as Legacy Loans Declined By $493 Million

Data as of quarter end(1) Includes the impact of deconsolidation of the 2006-A securitization trust which reduced specific

reserves by $46 million and general reserves by $92 million(2) Includes multifamily and small business

($ in millions)

Change From

Prior Quarter

General -11.2%

Specific -22.5%

Total -13.9%

Loan Category $ % $ % $ % $ % $ %

Asset-Based $4.0 2.1% $3.2 2.1% $5.5 7.0% $10.0 12.7% $6.9 11.3%

Cash Flow 38.4 20.0% 41.3 27.2% 40.7 51.5% 45.5 57.6% 40.9 66.8%

Commercial Real Estate 149.3 77.9% 107.6 70.7% 28.7 36.2% 23.4 29.6% 13.2 21.6%

Other (2) 0.0 0.0% - 0.0% 4.2 5.3% 0.1 0.1% 0.2 0.3%

Total $191.7 100.0% $152.1 100.0% $79.1 100.0% $79.0 100.0% $61.2 100.0%

$314.5

79.1

$393.6

$494.5

191.7

$686.2

$426.5

152.1

$578.6

61.2

$283.3

$250.1

79.0

$329.1

3Q'10 (1)1Q'10 2Q'10 4Q'10 1Q'11

1Q'10 2Q'10 3Q'10 (1) 4Q'10 1Q'11

$222.1


Consolidated Credit

1Q’11 Analysis– Charge-offs Concentrated in Cash Flow

Data as of March 31, 2011(1) Includes multifamily and small business

Only 16% of 1Q’11 Charge-offs were Legacy Commercial Real Estate

% of % of % of % of % of % of

($ in millions) Loans Balance Loans Balance Port. Loans Balance Port. Loans Balance Port. Spec. Genl. Total Port. Non-Acc. Delq. Amount Total

Asset-Based 308 1,815.9$ 25 83.9$ 4.6% 10 32.1$ 1.8% 34 114.8$ 6.3% 6.9$ 32.8$ 39.7$ 2.2% 47.3% 123.7% 22.9$ 25.3%

Cash Flow 480 1,692.0 46 185.6 11.0% 14 65.8 3.9% 57 272.4 16.1% 40.9 81.8 122.7$ 7.3% 66.1% 186.5% 50.7 56.0%

CRE 130 1,850.2 31 258.1 13.9% 25 166.3 9.0% 33 331.6 17.9% 13.2 92.3 105.5$ 5.7% 40.9% 63.4% 16.4 18.1%

Other (1) 646 727.6 27 21.8 3.0% 21 18.2 2.5% 27 21.8 3.0% 0.2 15.2 15.4$ 2.1% 70.6% 84.6% 0.6 0.7%

Total 1,564 6,085.7$ 129 549.4$ 9.0% 70 282.4$ 4.6% 151 740.6$ 12.2% 61.2$ 222.1$ 283.3$ 4.7% 51.6% 100.3% 90.6$ 100.0%

1Q Charge-OffsPortfolio Non-Accrual Delinquency Impaired Reserves


Data as of quarter end(1) Includes multifamily and small business

Consolidated Credit

Quarterly Charge-off Trend by Category

($ in millions) $ % $ % $ % $ % $ % $ %

Asset-Based 7.3$ 6.2% 3$ 2.27% -$ 0.0% 15$ 16.9% 23$ 25.3% 48$ 9.4%

Cash Flow 28.8$ 24.1% 20 15.10% 24 28.2% 50 56.2% 51 56.0% 173 33.6%

Commercial Real Estate 83.1$ 69.7% 109 82.6% 61 71.8% 22 24.7% 16 17.7% 291 56.4%

Other (1) -$ 0.0% - 0.0% - 0.0% 2 2.2% 1 1.1% 3 0.6%

Total 119.2$ 100.0% 132$ 100.0% 85$ 100.0% 89$ 100.0% 91$ 100.0% 516$ 100.0%

Total4Q'10 1Q'111Q'10 2Q'10 3Q'10


CapitalSource Loans ($ in millions) (1) 3Q'09 4Q'09 1Q'10 2Q'10 3Q'10 (2) 4Q'10 1Q'11 4Q'10 ∆ 1Q'11

30 - 89 Days Delinquent $132 $276 $261 $110 $57 $28 $47 $19

% of Loans 1.40% 3.33% 3.27% 1.43% 0.86% 0.44% 0.77% 0.33%

90+ Days Delinquent $396 $455 $437 $459 $363 $320 $282 ($38)

% of Loans 4.21% 5.15% 5.46% 5.98% 5.47% 5.03% 4.64% -0.39%

Loans on Non-accrual Status $994 $1,068 $1,140 $1,126 $788 $699 $549 ($150)

% of Loans 10.58% 12.89% 14.25% 14.68% 11.89% 10.99% 9.03% -1.96%

Impaired Loans $1,307 $1,250 $1,391 $1,469 $977 $931 $741 ($190)

% of Loans 15.07% 15.10% 17.38% 19.15% 14.75% 14.65% 12.17% -2.48%

Total Ending Allowance $517 $587 $686 $579 $394 $329 $283 ($46)

% of Loans 5.97% 7.09% 8.58% 7.54% 5.94% 5.17% 4.65% -0.52%

Trailing 12month Charge-offs $645 $659 $655 $623 $536 $426 $398 ($28)

% of Loans 6.17% 6.78% 7.50% 7.43% 6.78% 5.78% 5.78% 0.00%

Loan Balances ($ millions) 3Q'09 4Q'09 1Q'10 2Q'10 3Q'10 4Q'10 1Q'11 4Q'10 ∆ 1Q'11

Ending Loans $8,674 $8,282 $7,961 $7,673 $6,628 $6,358 $6,086 ($272)

Quarterly Loan Charge-offs $135 $191 $119 $133 $86 $89 $91 $2

Quarterly Provision for Loan Loss $204 $264 $219 $25 $39 $24 $45 $21

Data as of quarter end(1) Loans includes loans held for sale and loans held for investment(2) Includes the impact of deconsolidation of the 2006-A securitization trust which reduced 30-89 day delinquencies by

$59 million , 90+ day delinquencies by $173 million, non-accrual loans by $262 million, impaired loans by $389 million and total ending allowance by $138 million

(3) Includes the impact of deconsolidation of the 2006-A securitization trust which reduced loans by $887 million

(3)

Consolidated Credit

Credit Performance Trends Show Steady Improvement


Consolidated Credit

Non-Performing Assets Declined

Non-Performing Assets

($ in millions) 1Q’11 4Q’10

Non-accrual Loans 30-89 Days Delinquent $33.5 $22.4

Non-accrual Loans 90+ Days Delinquent 235.3 270.5

Non-accrual Loans Current 280.5 405.9

Total Non-accrual Loans $549.3 $698.8

Accruing Loans 90+ Days Delinquent 47.1 49.3

Accruing Loans - Restructured 217.8 154.7

Total Non-performing Loans $814.2 $902.8

REO 71.5 93.7

Total Non-performing Assets $885.7 $996.4



Loans are Current $405.9M 56 Loans Loans are Current

$280.6M 56 Loans

Loans are 90+ Days Delinquent

$270.4M

73 LoansLoans are 90+

Days Delinquent$235.3M

66 Loans

Loans are 30-89 Days Delinquent

$22.4 M

5 LoansLoans are 30-89 Days Delinquent

$33.5M

7 Loans

1Q 2011 4Q 2010

Consolidated Credit

Non-Accrual Loans Declined

129 loans – $549.4 million

21.4% decline from 4Q

New non-accruals were $24 million, compared to $111 million in 4Q ‘10

7 of the 9 loans added to non-accruals were current as of 3/31/11

39 loans have specific reserves of $58.3M

We place loans on non-accrual status when we expect, based on judgment, that our borrower will not be able to fully meet its debt obligations

Non-Accrual Loans

What is a Non-Accrual Loan?


$549.4M129 Loans

$698.8M134 Loans


Consolidated Credit

Understanding the Deferred Tax Asset (DTA) Valuation Allowance

What is the valuation allowance related to the DTA?

A valuation allowance was recorded for CapitalSource taxable entities with a recent history of 3-year cumulative GAAP losses

The allowance totaled $457 million at 3/31/11

The net deferred tax asset at 3/31/11, after subtracting the valuation allowance, was $63 million

CapitalSource plans to consolidate tax entities for 2011, so current year taxable income in one entity (e.g. CapitalSource Bank) can be offset against losses in other entities

Reversal of the valuation allowance will require a sustained period of consolidated pre-tax income for most of our deferred tax assets and an expectation of generating future capital gains to match the character of another portion of our deferred tax assets

Reversal of the valuation allowance is not expected before the end of 2011


UNITED STATES SECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549

Form 10-Q

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

For the quarterly period ended March 31, 2011

Commission File No. 1-31753

CapitalSource Inc.(Exact name of registrant as specified in its charter)

Delaware(State of Incorporation)

35-2206895(I.R.S. Employer Identification No.)

5404 Wisconsin Avenue, 2nd FloorChevy Chase, MD 20815

(Address of Principal Executive Offices, Including Zip Code)

(301) 841-2700(Registrant’s telephone number, including area code)

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

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

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

Large accelerated filer ¥ Accelerated filer n Non-accelerated filer n Smaller reporting company n

(Do not check if a smaller reporting company)

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

As of April 29, 2011, the number of shares of the registrant’s Common Stock, par value $0.01 per share, outstandingwas 323,195,591.

TABLE OF CONTENTS

Page

PART I. FINANCIAL INFORMATIONItem 1. Financial Statements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Consolidated Balance Sheets as of March 31, 2011 (unaudited) and December 31, 2010. . . . . . 3

Consolidated Statements of Operations (unaudited) for the three months ended March 31, 2011and 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4

Consolidated Statement of Shareholders’ Equity (unaudited) for the three months endedMarch 31, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5

Consolidated Statements of Cash Flows (unaudited) for the three months ended March 31,2011 and 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6

Notes to the Unaudited Consolidated Financial Statements. . . . . . . . . . . . . . . . . . . . . . . . . . . . 7

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations . . . . 49

Item 3. Quantitative and Qualitative Disclosures about Market Risk . . . . . . . . . . . . . . . . . . . . . . . . . . . 82

Item 4. Controls and Procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 82

PART II. OTHER INFORMATIONItem 2. Unregistered Sales of Equity Securities and Use of Proceeds . . . . . . . . . . . . . . . . . . . . . . . . . . 83

Item 5. Other Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83Item 6. Exhibits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83

Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 84

Index to Exhibits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85

2

CapitalSource Inc.

Consolidated Balance Sheets

March 31,2011

December 31,2010

(Unaudited)($ in thousands)

ASSETSCash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,151,495 $ 820,450Restricted cash (including $24.2 million and $46.5 million, respectively, of cash that

can only be used to settle obligations of consolidated VIEs) . . . . . . . . . . . . . . . . . . 76,577 128,586Investment securities:

Available-for-sale, at fair value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,370,353 1,522,911Held-to-maturity, at amortized cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 179,077 184,473

Total investment securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,549,430 1,707,384Loans:

Loans held for sale . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17,997 205,334Loans held for investment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,067,726 6,152,876Less deferred loan fees and discounts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (93,513) (106,438)Less allowance for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (283,274) (329,122)

Loans held for investment, net (including $856.7 million and $889.7 million,respectively, of loans that can only be used to settle obligations of consolidatedVIEs) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,690,939 5,717,316

Total loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,708,936 5,922,650Interest receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57,922 57,393Other investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67,906 71,889Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 173,135 173,135Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 487,937 563,920

Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 9,273,338 $ 9,445,407

LIABILITIES AND SHAREHOLDERS’ EQUITYLiabilities:

Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 4,708,349 $ 4,621,273Credit facilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 67,508Term debt (including $577.3 million and $693.5 million, respectively, in obligations

of consolidated VIEs for which there is no recourse to the general credit ofCapitalSource Inc.) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 863,799 979,254

Other borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,368,462 1,375,884Other liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 261,292 347,546

Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7,201,902 7,391,465Shareholders’ equity:

Preferred stock (50,000,000 shares authorized; no shares outstanding) . . . . . . . . . . . — —Common stock ($0.01 par value, 1,200,000,000 shares authorized; 323,345,312 and

323,225,355 shares issued and outstanding, respectively) . . . . . . . . . . . . . . . . . . . 3,233 3,232Additional paid-in capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,914,500 3,911,341Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,870,663) (1,870,572)Accumulated other comprehensive income, net . . . . . . . . . . . . . . . . . . . . . . . . . . . 24,366 9,941

Total shareholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,071,436 2,053,942

Total liabilities and shareholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 9,273,338 $ 9,445,407

See accompanying notes.

3

CapitalSource Inc.

Consolidated Statements of Operations

2011 2010

Three Months EndedMarch 31,

(Unaudited)($ in thousands, except per share

data)

Net interest income:Interest income:

Loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 123,500 $ 156,250Investment securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18,352 14,591Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 300 573

Total interest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 142,152 171,414Interest expense:

Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13,383 16,358Borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33,369 48,643

Total interest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46,752 65,001

Net interest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 95,400 106,413Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44,809 218,940

Net interest income (loss) after provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . 50,591 (112,527)Operating expenses:

Compensation and benefits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30,379 34,183Professional fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7,188 10,370Other administrative expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16,694 18,652

Total operating expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54,261 63,205Other income (expense):

Gain on investments, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23,515 6,079Loss on derivatives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,878) (4,337)Net expense of real estate owned and other foreclosed assets . . . . . . . . . . . . . . . . . . . (10,173) (40,492)Other income, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,527 16,475

Total other income (expense). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17,991 (22,275)

Net income (loss) from continuing operations before income taxes . . . . . . . . . . . . . . . 14,321 (198,007)Income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,162 21,006

Net income (loss) from continuing operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,159 (219,013)Net income from discontinued operations, net of taxes. . . . . . . . . . . . . . . . . . . . . . . . — 7,323

Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,159 $ (211,690)

Basic income (loss) per share:From continuing operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.68)From discontinued operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ — $ 0.02Net income (loss) per share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.66)

Diluted income (loss) per share:From continuing operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.68)From discontinued operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ — $ 0.02Net income (loss) per share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.66)

Average shares outstanding:Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 320,196,690 320,294,724Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 326,963,738 320,294,724

Dividends declared per share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ 0.01


4

CapitalSource Inc.

Consolidated Statement of Shareholders’ Equity

CommonStock

AdditionalPaid-inCapital

AccumulatedDeficit

AccumulatedOther

ComprehensiveIncome, net

TotalShareholders’

Equity(Unaudited)

($ in thousands)

Total shareholders’ equity as of December 31, 2010. . . . . $3,232 $3,911,341 $(1,870,572) $ 9,941 $2,053,942

Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — — 3,159 — 3,159

Other comprehensive income:

Unrealized gain, net of tax . . . . . . . . . . . . . . . . . . . — — — 14,425 14,425

Total comprehensive income . . . . . . . . . . . . . . . . . — — — — 17,584

Dividends paid . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 28 (3,250) — (3,222)

Stock option expense . . . . . . . . . . . . . . . . . . . . . . . . — 1,372 — — 1,372

Exercise of options . . . . . . . . . . . . . . . . . . . . . . . . . . 1 353 — — 354

Restricted stock activity . . . . . . . . . . . . . . . . . . . . . . — 1,406 — — 1,406

Total shareholders’ equity as of March 31, 2011 . . . . . . . $3,233 $3,914,500 $(1,870,663) $24,366 $2,071,436


5

CapitalSource Inc.

Consolidated Statements of Cash Flows

2011 2010


(Unaudited)($ in thousands)

Operating activities:Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,159 $ (211,690)Adjustments to reconcile net income (loss) to net cash provided by (used in) operating

activities:Stock option expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,372 1,349Restricted stock expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,563 4,050Gain on extinguishment of debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — (698)Amortization of deferred loan fees and discounts . . . . . . . . . . . . . . . . . . . . . . . . . . . (19,744) (18,685)Paid-in-kind interest on loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23,736 (945)Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44,809 218,940Amortization of deferred financing fees and discounts . . . . . . . . . . . . . . . . . . . . . . . 7,818 12,633Depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,774) 1,725Provision for deferred income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31,483 33,515Non-cash (gain) loss on investments, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (26,660) 212Non-cash loss on foreclosed assets and other property and equipment disposals . . . . . . 9,546 35,741Unrealized loss (gain) on derivatives and foreign currencies, net . . . . . . . . . . . . . . . . 2,384 (5,173)Accretion of discount on commercial real estate “A” participation interest . . . . . . . . . — (5,853)Increase in interest receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (529) (42,647)Decrease (increase) in loans held for sale, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 204,050 (67)Decrease (increase) in other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24,303 (4,258)Decrease in other liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (84,328) (65,803)

Cash provided by (used in) operating activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 221,188 (47,654)Investing activities:

Decrease in restricted cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52,009 36,109Decrease in commercial real estate “A” participation interest, net . . . . . . . . . . . . . . . . . — 208,421(Increase) decrease in loans, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (33,729) 178,515Reduction (acquisition) of marketable securities, available for sale, net . . . . . . . . . . . . . 180,038 (580,027)Reduction of marketable securities, held to maturity, net . . . . . . . . . . . . . . . . . . . . . . . 10,253 27,591Reduction of other investments, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14,641 2,942Acquisition of property and equipment, net. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (493) (467)

Cash provided by (used in) investing activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 222,719 (126,916)Financing activities:

Payment of deferred financing fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — (2,215)Deposits accepted, net of repayments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 87,076 99,067Repayments on credit facilities, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (68,792) (124,650)Borrowings of term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 14,395Repayments and extinguishment of term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (116,257) (290,507)(Repayments of) borrowings under other borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . (12,021) 5,137Proceeds from exercise of options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 354 —Payment of dividends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,222) (3,228)

Cash used in financing activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (112,862) (302,001)

Increase (decrease) in cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 331,045 (476,571)Cash and cash equivalents as of beginning of period . . . . . . . . . . . . . . . . . . . . . . . . . . 820,450 1,177,020

Cash and cash equivalents as of end of period. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,151,495 $ 700,449

Supplemental information:Noncash transactions from investing and financing activities:

Assets acquired through foreclosure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,070 $ 51,887See accompanying notes.

6

NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Organization

References to we, us, the Company or CapitalSource refer to CapitalSource Inc., a Delaware corporation,together with its subsidiaries. References to CapitalSource Bank include its subsidiaries, and references to ParentCompany refer to CapitalSource Inc. and its subsidiaries other than CapitalSource Bank. We are a commerciallender that, primarily through our wholly owned subsidiary, CapitalSource Bank, provides financial products tosmall and middle market businesses nationwide and provides depository products and services in southern andcentral California.

For the three months ended March 31, 2011, we operated as two reportable segments: 1) CapitalSource Bankand 2) Other Commercial Finance. For the three months ended March 31, 2010, we operated as three reportablesegments: 1) CapitalSource Bank, 2) Other Commercial Finance, and 3) Healthcare Net Lease. Our CapitalSourceBank segment comprises our commercial lending and banking business activities, and our Other CommercialFinance segment comprises our loan portfolio and other business activities in the Parent Company. Our HealthcareNet Lease segment comprised our direct real estate investment business activities, which we exited completely withthe sale of all of the assets related to this segment during 2010, and consequently, we have presented the financialcondition and results of operations within our Healthcare Net Lease segment as discontinued operations for allperiods presented. We have reclassified all comparative period results to reflect our two current reportablesegments. For additional information, see Note 19, Segment Data.

Note 2. Summary of Significant Accounting Policies

Interim Consolidated Financial Statements Basis of Presentation

Our interim consolidated financial statements are prepared in accordance with U.S. generally acceptedaccounting principles (“GAAP”) for interim financial information and pursuant to the requirements for reporting onForm 10-Q and Article 10 of Regulation S-X of the Securities Exchange Act of 1934. Accordingly, certaindisclosures accompanying annual consolidated financial statements prepared in accordance with GAAP areomitted. In the opinion of management, all adjustments and eliminations, consisting solely of normal recurringaccruals, considered necessary for the fair presentation of financial statements for the interim periods, have beenincluded. The current period’s results of operations are not necessarily indicative of the results that ultimately maybe achieved for the year. The interim consolidated financial statements and notes thereto should be read inconjunction with the audited consolidated financial statements and notes thereto included in our Annual Report onForm 10-K for the year ended December 31, 2010, as filed with the Securities and Exchange Commission onFebruary 28, 2011 (“Form 10-K”).

The accompanying financial statements reflect our consolidated accounts and those of other entities in whichwe have a controlling financial interest including our majority-owned subsidiaries and variable interest entities(“VIEs”) where we determined that we are the primary beneficiary. All significant intercompany accounts andtransactions have been eliminated.

Reclassifications

Certain amounts in prior period consolidated financial statements have been reclassified to conform to thecurrent period presentation, including the reclassification of fee income to interest income or other income, net andthe reclassification of letter of credit fee expense from interest expense to other income, net in our auditedconsolidated statements of operations. Accordingly, the reclassifications have been appropriately reflectedthroughout our consolidated financial statements.

Except as discussed below, our accounting policies are described in Note 2, Summary of SignificantAccounting Policies, of our audited consolidated financial statements as of December 31, 2010, included inour Form 10-K.

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New Accounting Pronouncements

In January 2010, the Financial Accounting Standards Board (“FASB”) amended its guidance on fair valuemeasurements and disclosure, which was intended to improve transparency in financial reporting by requiringenhanced disclosures related to fair value measurements. These new disclosures provided for disclosure of transfersbetween Level 1 and Level 2 of the fair value hierarchy, of fair value measurements for each class of assets andliabilities presented, of separate information for acquisitions, sales, issuances, and settlements in the rollforward ofactivity of Level 3 fair value measurements, and of valuation techniques used in recurring and nonrecurring fairvalue measurements for both Level 2 and Level 3 measurements. We adopted this guidance on January 1, 2010,except for the guidance related to acquisitions, sales, issuances, and settlements in the rollforward of activity ofLevel 3 fair value measurements, which is effective for annual reporting periods ending after December 15, 2010,and for interim periods within those annual reporting periods. We adopted the guidance related to the rollforward ofactivity of Level 3 fair value measurements on January 1, 2011, and it did not have a material impact on our auditedconsolidated financial statements.

In July 2010, the FASB amended its guidance on financing receivables to improve the disclosures that an entityprovides about the credit quality of its financing receivables and the related allowance for credit losses. As a resultof these amendments, an entity is required to disaggregate by portfolio segment and class certain existingdisclosures and provide certain new disclosures about its financing receivables and related allowance for creditlosses. This guidance was effective for interim and annual periods ending on or after December 15, 2010 fordisclosures as of the end of a period and for interim and annual periods beginning after December 15, 2010 fordisclosures related to activity during a period. We adopted the guidance for disclosures as of the end of a period onOctober 1, 2010 and for disclosures related to activity during a period on January 1, 2011. For further information,see Note 5, Loans and Credit Quality.

In April 2011, the FASB amended its guidance on loans to clarify which loan modifications constitute troubleddebt restructurings. It is intended to assist creditors in determining whether a modification of the terms of areceivable meets the criteria to be considered a troubled debt restructuring, both for purposes of recording animpairment loss and for disclosure of troubled debt restructurings. In evaluating whether a restructuring constitutesa troubled debt restructuring, a creditor must separately conclude that both of the following exist: (a) therestructuring constitutes a concession; and (b) the debtor is experiencing financial difficulties. This guidance iseffective for interim and annual periods beginning on or after June 15, 2011, and applies retrospectively torestructurings occurring on or after the beginning of the fiscal year of adoption. We plan to adopt this guidance as ofJuly 1, 2011. We have not completed our assessment of the impact of this amended guidance.

Note 3. Discontinued Operations

In 2010, we completed the sale of our remaining long-term healthcare facilities to Omega HealthcareInvestors, Inc., and as a result, we exited the skilled nursing home ownership business. Consequently, we havepresented the results of operations for this business as discontinued operations for all periods presented. Addi-tionally, the results of the discontinued operations include the activities of other healthcare facilities that have beensold since the inception of the business.

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NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The condensed statements of operations for the three months ended March 31, 2011 and 2010 for ourdiscontinued operations were as follows:

2011 2010


($ in thousands)

Revenue:Operating lease income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ — $15,266

Expenses:Interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 4,513

Depreciation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 2,540

General and administrative . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 823

Other expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 67

Total expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 7,943

Net income from discontinued operations . . . . . . . . . . . . . . . . . . . . . . . . . . $ — $ 7,323

Note 4. Cash and Cash Equivalents and Restricted Cash

As of March 31, 2011 and December 31, 2010, our cash and cash equivalents and restricted cash balances wereas follows:

Unrestricted Restricted Unrestricted RestrictedMarch 31, 2011 December 31, 2010

($ in thousands)

Cash and cash equivalents and restricted cash:

Cash and due from banks(1) . . . . . . . . . . . . . . . . . . . . . . $ 397,362 $51,605 $576,276 $ 58,814

Interest-bearing deposits in other banks(2) . . . . . . . . . . . . 176,483 361 70,383 10,213

Other short-term investments(3) . . . . . . . . . . . . . . . . . . . . 577,650 24,611 173,791 59,559

Total cash and cash equivalents and restricted cash . . . . . . $1,151,495 $76,577 $820,450 $128,586

(1) Represents principal and interest collections, including those related to loans held by securitization trusts orpledged to financing sources.

(2) Represents principal and interest collections on loan assets pledged to financing sources. Included in thesebalances for CapitalSource Bank were $120.6 million and $63.6 million in deposits at the Federal Reserve Bank(“FRB”) as of March 31, 2011 and December 31, 2010, respectively.

(3) Represents principal and interest collections, including those related to loans held by securitization trusts orpledged to financing sources and also includes short-term investments held by CapitalSource Bank. Cash isinvested in short term investment grade commercial paper which is rated by at least two of the three major ratingagencies (S&P, Moody’s or Fitch) and has a rating of A1 (S&P) P1 (Moody’s) or F1 (Fitch) and in a short-termmoney market fund which has a rating of AAAm (S&P) and Aaa (Moody’s).

Note 5. Loans and Credit Quality

As of March 31, 2011 and December 31, 2010, our outstanding loan balance was $6.1 billion and $6.4 billion,respectively. Included in these amounts were loans held for sale and loans held for investment. As of March 31, 2011and December 31, 2010, interest and fee receivables totaled $53.6 million and $52.7 million, respectively.

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Loans Held for Sale

Loans held for sale are recorded at the lower of cost or fair value in our consolidated balance sheets.

Our analysis to determine when to sell a loan is performed on a loan-by-loan basis and considers severalfactors, including the credit quality of the loan, any financing secured by the loan and any requirements related tothe release of liens and use of sales proceeds, the potential sale price relative to our loan valuation, our liquidityneeds, and the resources necessary to ensure an adequate recovery if we continued to hold the loan. When ouranalysis indicates that the proper strategy is to sell a loan, we initiate the sale process and designate the loan as heldfor sale.

During the three months ended March 31, 2011 and 2010, we transferred impaired loans with a carrying valueof $30.3 million and $29.0 million, respectively, from held for investment to held for sale. These transfers werebased on our decision to sell these loans as part of overall portfolio management and workout strategies. We did notincur any losses due to valuation adjustments at the time of transfer for the three months ended March 31, 2011 and2010, respectively. We reclassified $28.6 million and $10.5 million of loans from held for sale to held for investmentduring the three months ended March 31, 2011 and 2010, respectively, based upon our intent to retain these loans forinvestment.

During the three months ended March 31, 2011 and 2010, we recognized net pre-tax gains of $1.3 million and$0.1 million, respectively, on the sale of loans.

As of March 31, 2011 and December 31, 2010, loans held for sale with an outstanding balance of $11.5 millionand $14.7 million, respectively, were classified as non-accrual loans. We did not record any fair value write-downson non-accrual loans held for sale during the three months ended March 31, 2011 and 2010, respectively.

Loans Held for Investment

Loans held for investment are recorded at the principal amount outstanding, net of deferred loan costs or feesand any discounts received or premiums paid on purchased loans. We maintain an allowance for loan and leaselosses for loans held for investment, which is calculated based on management’s estimate of incurred loan lossesinherent in our loan portfolio as of the balance sheet date. This methodology is used consistently to develop ourallowance for loan losses for all loans in our loan portfolio, and, as such, we maintain a single portfolio segment.The loans in our portfolio are grouped into seven loan classes, based on the level that we use to assess and monitorthe risk and performance of the portfolio, including the nature of the borrower, collateral and lending arrangement.

As of March 31, 2011 and December 31, 2010, CapitalSource Bank pledged loans held for investment with anunpaid principal balance of $170.8 million and $166.1 million, respectively, to the Federal Home Loan Bank ofSan Francisco (“FHLB SF”) as collateral for its financing facility.

Non-performing loans are loans accounted for on a non-accrual basis, accruing loans which are contractuallypast due 90 days or more as to principal or interest payments and other loans identified as troubled debtrestructurings (“TDRs”) as defined by GAAP.

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During the three months ended March 31, 2011, we purchased loans held for investment with an unpaidprincipal balance of $315.3 million. As of March 31, 2011 and December 31, 2010, the carrying value of each classof loans held for investment, separated by performing and non-performing categories, was as follows:

Class Performing Non-Performing Total Performing Non-Performing TotalMarch 31, 2011 December 31, 2010

($ in thousands)

Asset-based . . . . . . . . . . $1,446,200 $111,769 $1,557,969 $1,352,039 $194,625 $1,546,664

Cash flow . . . . . . . . . . . 1,376,622 266,963 1,643,585 1,558,783 264,786 1,823,569

Healthcare asset-based . . 240,025 2,345 242,370 269,339 2,925 272,264

Healthcare real estate . . . 768,644 32,249 800,893 841,774 28,866 870,640

Multi-family . . . . . . . . . 582,928 10,693 593,621 328,300 11,010 339,310

Real estate . . . . . . . . . . . 650,646 356,382 1,007,028 725,972 356,087 1,082,059

Small business . . . . . . . . 118,236 10,511 128,747 101,761 10,171 111,932

Total(1) . . . . . . . . . . . . . $5,183,301 $790,912 $5,974,213 $5,177,968 $868,470 $6,046,438

(1) Excludes loans held for sale. Balances are net of deferred loan fees and discounts.

Credit risk within our loan portfolio is the risk of loss arising from adverse changes in a client’s orcounterparty’s ability to meet its financial obligations under agreed-upon terms. The degree of credit risk willvary based on many factors including the size of the asset or transaction, the credit characteristics of the client, thecontractual terms of the agreement and the availability and quality of collateral.

We use a variety of tools to continuously monitor a client’s ability to perform under its obligations.Additionally, we syndicate loan exposure to other lenders, sell loans and use other risk mitigation techniquesto manage the size and risk profile of our loan portfolio.

Credit risk management for the loan portfolio begins with an assessment of the credit risk profile of a clientbased on an analysis of the client’s payment performance, cash flow and financial position. As part of the overallcredit risk assessment of a client, each commercial credit exposure is assigned an internal risk rating that is subjectto approval based on defined credit approval standards. While rating criteria vary by product, each loan ratingfocuses on the same two factors: financial performance and collateral. Subsequent to loan origination, risk ratingsare monitored on an ongoing basis. If necessary, risk ratings are adjusted to reflect changes in the client’s financialcondition, cash flow or financial position. We use risk rating aggregations to measure and evaluate concentrationswithin the loan portfolio. In making decisions regarding credit, we consider risk rating, collateral and industryconcentration limits.

We believe that the likelihood of not being paid according to the contractual terms of a loan is, in large part,dependent upon the assessed level of risk associated with the loan. The internal rating that is assigned to a loanprovides a view as to the relative risk of each loan. We employ an internal risk rating scale to establish a view of thecredit quality of each loan. This scale is based on the credit classifications of assets as prescribed by governmentregulations and industry standards and is separated into the following groups:

• Pass — Loans with standard, acceptable levels of credit risk;

• Special mention — Loans that have potential weaknesses that deserve close attention, and which, if leftuncorrected, may result in a loss or deterioration of our credit position;

• Substandard — Loans that are inadequately protected by the current sound worth and paying capacity of theobligor or of the collateral pledged, if any. Loans so classified must have a well-defined weakness orweaknesses and are characterized by the distinct possibility that we will sustain some loss if the deficienciesare not corrected; and

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• Doubtful — Loans that have all the weaknesses inherent in one classified as Substandard with the addedcharacteristic that the weaknesses make collection or liquidation in full, on the basis of currently existingfacts, conditions, and values, highly questionable and improbable.

As of March 31, 2011 and December 31, 2010, the carrying value of each class of loans held for investment, byinternal risk rating, was as follows:

Class Pass Special Mention Substandard Doubtful TotalInternal Risk Rating

($ in thousands)

As of March 31, 2011:Asset-based . . . . . . . . . . . . . . . . . . . . $1,187,296 $151,677 $ 146,129 $ 72,867 $1,557,969

Cash flow . . . . . . . . . . . . . . . . . . . . . 950,691 190,193 378,663 124,038 1,643,585

Healthcare asset-based . . . . . . . . . . . . 193,683 31,085 15,257 2,345 242,370

Healthcare real estate . . . . . . . . . . . . . 702,875 43,949 38,821 15,248 800,893

Multi-family . . . . . . . . . . . . . . . . . . . 549,146 33,782 8,735 1,958 593,621

Real estate . . . . . . . . . . . . . . . . . . . . 367,595 111,892 453,607 73,934 1,007,028

Small business. . . . . . . . . . . . . . . . . . 113,146 6,248 5,227 4,126 128,747

Total(1) . . . . . . . . . . . . . . . . . . . . . . . $4,064,432 $568,826 $1,046,439 $294,516 $5,974,213

As of December 31, 2010:Asset-based . . . . . . . . . . . . . . . . . . . . $1,207,990 $ 39,612 $ 169,986 $129,076 $1,546,664

Cash flow . . . . . . . . . . . . . . . . . . . . . 1,110,779 216,399 350,287 146,104 1,823,569

Healthcare asset-based . . . . . . . . . . . . 245,486 9,243 15,509 2,026 272,264

Healthcare real estate . . . . . . . . . . . . . 773,955 37,730 47,090 11,865 870,640

Multi-family . . . . . . . . . . . . . . . . . . . 330,017 — 8,919 374 339,310Real estate . . . . . . . . . . . . . . . . . . . . 396,044 98,401 470,034 117,580 1,082,059

Small business. . . . . . . . . . . . . . . . . . 97,444 6,278 5,514 2,696 111,932

Total(1) . . . . . . . . . . . . . . . . . . . . . . . $4,161,715 $407,663 $1,067,339 $409,721 $6,046,438

(1) Excludes loans held for sale. Balances are net of deferred loan fees and discounts.

Non-Accrual and Past Due Loans

We will place a loan on non-accrual status if there is substantial doubt about the borrower’s ability to service itsdebt and other obligations or if the loan is 90 or more days past due and is not well-secured and in the process ofcollection. When a loan is placed on non-accrual status, accrued and unpaid interest is reversed and the recognitionof interest and fee income on that loan will stop until factors indicating doubtful collection no longer exist and theloan has been brought current. Payments received on non-accrual loans are generally first applied to principal. Aloan may be returned to accrual status when its interest or principal is current, repayment of the remainingcontractual principal and interest is expected or when the loan otherwise becomes well-secured and is in the processof collection. Cash payments received from the borrower and applied to the principal balance of the loan while theloan was on non-accrual status are not reversed if a loan is returned to accrual status.

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As of March 31, 2011 and December 31, 2010, the carrying value of non-accrual loans was as follows:

March 31, 2011 December 31, 2010($ in thousands)

Asset-based . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 71,870 $142,847Cash flow . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 180,276 183,606

Healthcare asset-based . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,345 2,925

Healthcare real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32,249 28,866

Multi-family . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10,693 11,010

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 205,044 265,615

Small business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,086 4,980

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $507,563 $639,849

(1) Excludes loans held for sale and purchased credit impaired loans. Balances are net of deferred loan fees anddiscounts.

As of March 31, 2011 and December 31, 2010, the delinquency status of loans in our loan portfolio was asfollows:

30-89 DaysPast Due

Greater than 90Days Past Due Total Past Due Current Total Loans

Greater than 90Days Past Due and

Accruing

($ in thousands)

As of March 31, 2011:Asset-based . . . . . . . . . . . . . . . . . . $38,000 $ 22,792 $ 60,792 $1,488,017 $1,548,809 $ 2,264Cash flow . . . . . . . . . . . . . . . . . . . 3,587 64,587 68,174 1,575,411 1,643,585 —Healthcare asset-based . . . . . . . . . . — — — 242,370 242,370 —Healthcare real estate . . . . . . . . . . . — 21,681 21,681 772,317 793,998 —Multi-family . . . . . . . . . . . . . . . . . 564 9,096 9,660 583,961 593,621 —Real estate . . . . . . . . . . . . . . . . . . 10 132,783 132,793 869,400 1,002,193 44,596Small business . . . . . . . . . . . . . . . . 3,683 4,113 7,796 115,527 123,323 —

Total(1) . . . . . . . . . . . . . . . . . . . . $45,844 $255,052 $300,896 $5,647,003 $5,947,899 $46,860

As of December 31, 2010:Asset-based . . . . . . . . . . . . . . . . . . $ 8,074 $ 27,130 $ 35,204 $1,500,537 $1,535,741 $ 3,244Cash flow . . . . . . . . . . . . . . . . . . . 10,573 60,644 71,217 1,752,352 1,823,569 —Healthcare asset-based . . . . . . . . . . — — — 272,264 272,264 —Healthcare real estate . . . . . . . . . . . — 25,887 25,887 840,527 866,414 —Multi-family . . . . . . . . . . . . . . . . . 2,324 9,293 11,617 327,692 339,309 —Real estate . . . . . . . . . . . . . . . . . . 54 148,197 148,251 924,590 1,072,841 45,783Small business . . . . . . . . . . . . . . . . 4,317 4,981 9,298 97,444 106,742 —

Total(1) . . . . . . . . . . . . . . . . . . . . $25,342 $276,132 $301,474 $5,715,406 $6,016,880 $49,027

(1) Excludes loans held for sale and purchased credit impaired loans. Balances are net of deferred loan fees anddiscounts.

Impaired Loans

We consider a loan to be impaired when, based on current information, we determine that it is probable that wewill be unable to collect all amounts due in accordance with the contractual terms of the original loan agreement. Inthis regard, impaired loans include loans where we expect to encounter a significant delay in the collection of,and/or a shortfall in the amount of contractual payments due to us.

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Assessing the likelihood that a loan will not be paid according to its contractual terms involves theconsideration of all relevant facts and circumstances and requires a significant amount of judgment. For suchpurposes, factors that are considered include:

• The current performance of the borrower;

• The current economic environment and financial capacity of the borrower to preclude a default;

• The willingness of the borrower to provide the support necessary to preclude a default (including thepotential for successful resolution of a potential problem through modification of terms); and

• The borrower’s equity position in the underlying collateral, if applicable, based on our best estimate of thefair value of the collateral.

In assessing the adequacy of available evidence, we consider whether the receipt of payments is dependent onthe fiscal health of the borrower or the sale, refinancing or foreclosure of the loan.

We continue to recognize interest income on loans that have been identified as impaired, but that have not beenplaced on non-accrual status. If the loan is placed on non-accrual status, accrued and unpaid interest is reversed andthe recognition of interest and fee income on that loan will stop until factors indicating doubtful collection no longerexist, and the loan has been brought current.

As of and for the three months ended March 31, 2011, information pertaining to our impaired loans was as follows:

CarryingValue(1)

Legal PrincipalBalance(2)

RelatedAllowance

AverageBalance

Interest IncomeRecognized

($ in thousands)

With no related allowance recorded:Asset-based . . . . . . . . . . . . . . . . . . . . . . . . . $ 68,180 $ 119,958 $ — $ 79,808 $ 770Cash flow . . . . . . . . . . . . . . . . . . . . . . . . . . 129,366 192,915 — 131,014 1,220Healthcare asset-based . . . . . . . . . . . . . . . . . 1,945 2,004 — 819 —Healthcare real estate . . . . . . . . . . . . . . . . . . 19,460 21,597 — 19,026 —Multi-family . . . . . . . . . . . . . . . . . . . . . . . . . 9,096 13,396 — 10,498 —Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . 260,634 361,886 — 308,633 1,676Small business . . . . . . . . . . . . . . . . . . . . . . . 10,387 17,889 — 10,338 —

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 499,068 729,645 — 560,136 3,666With allowance recorded:Asset-based . . . . . . . . . . . . . . . . . . . . . . . . . 43,589 54,043 (5,906) 77,586 —Cash flow . . . . . . . . . . . . . . . . . . . . . . . . . . 137,597 208,356 (40,875) 148,574 832Healthcare asset-based . . . . . . . . . . . . . . . . . 400 11,260 (964) 1,790 —Healthcare real estate . . . . . . . . . . . . . . . . . . 12,789 14,430 (2,688) 10,663 —Multi-family . . . . . . . . . . . . . . . . . . . . . . . . . 1,597 2,288 (147) 399 —Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . 34,004 46,274 (10,549) 57,319 —Small business . . . . . . . . . . . . . . . . . . . . . . . 124 132 (58) 141 —

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 230,100 336,783 (61,187) 296,472 832

Total impaired loans . . . . . . . . . . . . . . . . . . $729,168 $1,066,428 $(61,187) $856,608 $4,498

(1) Carrying value of impaired loans before applying specific reserves. Excludes loans held for sale. Balances arenet of deferred loan fees and discounts.

(2) Represents the contractual amounts owed to us by borrowers.

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As of and for the year ended December 31, 2010, information pertaining to our impaired loans was as follows:

CarryingValue(1)

Legal PrincipalBalance(2)

RelatedAllowance

AverageBalance

Interest IncomeRecognized

($ in thousands)

With no related allowance recorded:Asset-based . . . . . . . . . . . . . . . . . . . . . . . . $ 96,514 $ 180,659 $ — $ 147,560 $ 5,158Cash flow . . . . . . . . . . . . . . . . . . . . . . . . . 128,658 205,454 — 181,308 6,487

Healthcare asset-based . . . . . . . . . . . . . . . . 463 825 — 1,575 132

Healthcare real estate . . . . . . . . . . . . . . . . . 18,881 19,892 — 20,119 11

Multi-family . . . . . . . . . . . . . . . . . . . . . . . 11,010 15,402 — 2,655 35

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . 323,292 407,423 — 190,510 5,770

Small business . . . . . . . . . . . . . . . . . . . . . . 9,861 17,708 — 4,317 —

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . 588,679 847,363 — 548,044 17,593

With allowance recorded:Asset-based . . . . . . . . . . . . . . . . . . . . . . . . 98,762 112,732 (21,684) 60,580 23

Cash flow . . . . . . . . . . . . . . . . . . . . . . . . . 142,171 191,172 (33,069) 109,825 1,901

Healthcare asset-based . . . . . . . . . . . . . . . . 2,462 11,614 (675) 4,908 —

Healthcare real estate . . . . . . . . . . . . . . . . . 9,984 11,278 (2,323) 9,101 179

Multi-family . . . . . . . . . . . . . . . . . . . . . . . — — — 13,425 —

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . 69,128 92,833 (21,076) 407,720 1,624

Small business . . . . . . . . . . . . . . . . . . . . . . 310 359 (141) 1,096 —

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . 322,817 419,988 (78,968) 606,655 3,727

Total impaired loans . . . . . . . . . . . . . . . . $911,496 $1,267,351 $(78,968) $1,154,699 $21,320

(1) Carrying value of impaired loans before applying specific reserves. Excludes loans held for sale. Balances arenet of deferred loan fees and discounts.

(2) Represents the contractual amounts owed to us by borrowers.

As of March 31, 2011 and December 31, 2010, the carrying value of impaired loans with no related allowancerecorded was $499.1 million and $588.7 million, respectively. Of these amounts, $236.0 million and $222.4 million,respectively, related to loans that were charged off to their carrying values. These charge offs were primarily theresult of collateral dependent loans for which ultimate collection depends solely on the sale of the collateral. Theremaining $263.1 million and $366.3 million related to loans that had no recorded charge offs or specific reserves asof March 31, 2011 and December 31, 2010, respectively, based on our estimates that we ultimately will collect allinterest and principal amounts due.

The average balances of impaired loans during the three months ended March 31, 2011 and 2010 were$856.6 million and $1.1 billion, respectively. The total amounts of interest income that were recognized on impairedloans during the three months ended March 31, 2011 and 2010 were $4.5 million and $5.1 million, respectively. Theamounts of cash basis interest income that were recognized on impaired loans during the three months endedMarch 31, 2011 and 2010 were $0.1 million in both periods. If our non-accrual loans had performed in accordancewith their original terms, interest income would have been increased by $33.0 million and $39.5 million for the threemonths ended March 31, 2011 and 2010, respectively.

Allowance for Loan Losses

Our allowance for loan losses represents management’s estimate of incurred loan losses inherent in our loanand lease portfolio as of the balance sheet date. The estimation of the allowance for loan losses is based on a variety

15


of factors, including past loan loss experience, the current credit profile of our borrowers, adverse situations thathave occurred that may affect the borrowers’ ability to repay, the estimated value of underlying collateral andgeneral economic conditions. Provisions for loan losses are recognized when available information indicates that itis probable that a loss has been incurred and the amount of the loss can be reasonably estimated.

We perform quarterly and systematic detailed reviews of our loan portfolio to identify credit risks and to assessthe overall collectability of the portfolio. The allowance on certain pools of loans with similar characteristics isestimated using reserve factors that are reflective of historical loss rates.

Our portfolio is reviewed regularly, and, on a periodic basis, individual loans are reviewed and assigned a riskrating. Loans subject to individual reviews are analyzed and segregated by risk according to our internal risk ratingscale. These risk ratings, in conjunction with an analysis of historical loss experience, current economic conditions,industry performance trends, and any other pertinent information, including individual valuations on impairedloans, are factored in the estimation of the allowance for loan losses. The historical loss experience is updatedquarterly to incorporate the most recent data reflective of the current economic environment.

If the recorded investment in an impaired loan exceeds the present value of payments expected to be received,the fair value of the collateral or the loan’s observable market price, a specific allowance is established as acomponent of the allowance for loan losses.

When available information confirms that specific loans or portions thereof are uncollectible, these amountsare charged off against the allowance for loan losses. To the extent we later collect amounts previously charged off,we will recognize a recovery by increasing the allowance for loan losses for the amount received.

We also consider whether losses may have been incurred in connection with unfunded commitments to lend. Inmaking this assessment, we exclude from consideration those commitments for which funding is subject to ourapproval based on the adequacy of underlying collateral that is required to be presented by a borrower or other termsand conditions. Reserves for losses related to unfunded commitments are included within other liabilities on ouraudited consolidated balance sheets.

Activity in the allowance for loan losses related to our loans held for investment for the three months endedMarch 31, 2011 and 2010, respectively, was as follows:

2011 2010


($ in thousands)

Balance as of beginning of period. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $329,122 $ 586,696Charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (96,462) (111,262)Recoveries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13,413 6

Net charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (83,049) (111,256)Charge offs upon transfer to held for sale . . . . . . . . . . . . . . . . . . . . . . . . . . (7,608) (8,187)Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44,809 218,940

Balance as of end of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $283,274 $ 686,193

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As of March 31, 2011 and December 31, 2010, the balances of the allowance for loan losses and the carryingvalue of loans held for investment disaggregated by impairment methodology were as follows:

LoansAllowance forLoan Losses Loans

Allowance forLoan Losses


($ in thousands)

Individually evaluated for impairment . . . . $ 721,204 $ 61,187 $ 904,466 $ 78,019Collectively evaluated for impairment . . . . 5,320,203 222,087 5,217,393 249,912Acquired loans with deteriorated credit

quality . . . . . . . . . . . . . . . . . . . . . . . . . 26,319 — 31,017 1,191

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . $6,067,726 $283,274 $6,152,876 $329,122

Troubled Debt Restructurings

During the three months ended March 31, 2011 and 2010, loans with an aggregate carrying value, whichincludes principal, deferred fees and accrued interest, of $154.8 million and $200.8 million, respectively, as of theirrespective restructuring dates, were involved in TDRs. Loans involved in these TDRs are assessed as impaired,generally for a period of at least one year following the restructuring. A loan that has been involved in a TDR mightno longer be assessed as impaired one year subsequent to the restructuring, assuming the loan performs under therestructured terms and the restructured terms were at market. As of March 31, 2011, one loan with an aggregatecarrying value of $23.5 million that had been previously restructured in a TDR was not classified as impaired, as itperformed in accordance with the restructured terms for twelve consecutive months. As of December 31, 2010, allof our loans restructured in TDRs were classified as impaired loans.

The aggregate carrying values of loans that had been restructured in TDRs as of March 31, 2011 andDecember 31, 2010 were as follows:

March 31,2011

December 31,2010

($ in thousands)

Non-accrual . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $309,699 $400,851Accruing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 218,767 154,262

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $528,466 $555,113

We recorded charge offs related to these restructured loans of $70.7 million and $28.2 million for the threemonths ended March 31, 2011 and 2010, respectively. The specific reserves related to these loans were $50.2 millionand $35.5 million as of March 31, 2011 and December 31, 2010, respectively.

For a loan that accrues interest immediately after that loan is restructured in a TDR, we generally do not chargeoff a portion of the loan as part of the restructuring. If a portion of a loan has been charged off, we will not accrueinterest on the remaining portion of the loan if the charged off portion is still contractually due from the borrower.However, if the charged off portion of the loan is legally forgiven through concessions to the borrower, then therestructured loan may be placed on accrual status if the remaining contractual amounts due on the loan arereasonably assured of collection. In addition, for certain TDRs, especially those involving a commercial real estateloan, we may split the loan into an A note and a B note, placing the performing A note on accrual and charging offthe B note. For an amortizing loan with monthly payments, the borrower is required to demonstrate sustainedpayment performance for a minimum of six months to return a non-accrual restructured loan to accrual status.

Our evaluation of whether collection of interest and principal is reasonably assured is based on the facts andcircumstances of each individual borrower and our assessment of the borrower’s ability and intent to repay inaccordance with the revised loan terms. We generally consider such factors as historical operating performance andpayment history of the borrower, indications of support by sponsors and other interest holders, the terms of the

17


modified loan, the value of any collateral securing the loan and projections of future performance of the borrower aspart of this evaluation.

Foreclosed Assets

Real Estate Owned (“REO”)

When we foreclose on a real estate asset that collateralizes a loan, we record the asset at its estimated fair valueless costs to sell at the time of foreclosure if the related REO is classified as held for sale. Upon foreclosure, weevaluate the asset’s fair value as compared to the loan’s carrying amount and record a charge off when the carryingamount of the loan exceeds fair value less costs to sell. For REO determined to be held for sale, subsequent valuationadjustments are recorded as a valuation allowance, which is recorded as a component of net expense of real estateowned and other foreclosed assets in our consolidated statements of operations. REO that does not meet the criteriaof held for sale is classified as held for use and initially recorded at its fair value. The real estate asset is subsequentlydepreciated over its estimated useful life. Fair value adjustments on REO held for use are recorded only if thecarrying amount of an asset is not recoverable and exceeds its fair value.

As of March 31, 2011 and December 31, 2010, we had $70.1 million and $92.3 million, respectively, of REOclassified as held for sale, which was recorded in other assets in our consolidated balance sheets. Activity related toREO held for sale for the three months ended March 31, 2011 and 2010 was as follows:

2011 2010


($ in thousands)

Balance as of beginning of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 92,265 $101,401Transfers from loans held for investment and other assets . . . . . . . . . . . . . . . 4,749 54,566Fair value adjustments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (2,044) (16,048)Transfers from REO held for use . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 2,850Real estate sold . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (24,920) (6,492)

Balance as of end of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 70,050 $136,277

During the three months ended March 31, 2011 and 2010, we recognized a gain of $0.3 million and a loss of$0.3 million, respectively, on the sales of REO held for sale as a component of net expense of real estate owned andother foreclosed assets in our consolidated statements of operations.

As of both March 31, 2011 and December 31, 2010, we had $1.4 million of REO classified as held for use,which was recorded in other assets in our consolidated balance sheets. We did not recognize any impairment lossesduring the three months ended March 31, 2011. During the three months ended March 31, 2010, we recognizedimpairment losses of $4.6 million on REO held for use as a component of net expense of real estate owned and otherforeclosed assets in our consolidated statements of operations.

Other Foreclosed Assets

When we foreclose on a borrower whose underlying collateral consists of loans, we record the acquired loansat the estimated fair value less costs to sell at the time of foreclosure. At the time of foreclosure, we record chargeoffs when the carrying amount of the original loan exceeds the estimated fair value of the acquired loans. As ofMarch 31, 2011 and December 31, 2010, we had $25.3 million and $55.8 million, respectively, of loans acquiredthrough foreclosure, net of valuation allowances of $0.8 million and $3.2 million, respectively, which were recordedin other assets in our consolidated balance sheets. We recorded a provision for losses of $7.8 million and$15.2 million, respectively, related to loans acquired through foreclosure as a component of net expense of realestate owned and other foreclosed assets in our consolidated statements of operations for the three months endedMarch 31, 2011 and 2010. During the three months ended March 31, 2011, we recognized a gain of $1.7 million onthe sales of loans acquired through foreclosure as a component of net expense of real estate owned and other

18


foreclosed assets in our consolidated statements of operations. There were no such sales during the three monthsended March 31, 2010.

Note 6. Investments

Investment Securities, Available-for-Sale

As of March 31, 2011 and December 31, 2010, our investment securities, available-for-sale were as follows:

AmortizedCost

GrossUnrealized

Gains

GrossUnrealized

LossesFair

ValueAmortized

Cost

GrossUnrealized

Gains

GrossUnrealized

LossesFair

Value


($ in thousands)

Agency callable notes . . . . . $ 164,223 $ 268 $(2,168) $ 162,323 $ 164,219 $ 418 $(1,749) $ 162,888Agency debt . . . . . . . . . . . . 76,843 1,060 — 77,903 102,263 1,167 — 103,430Agency discount notes . . . . . — — — — 164,917 57 — 164,974Agency MBS . . . . . . . . . . . 944,968 13,067 (3,497) 954,538 860,441 15,035 (5,321) 870,155Asset-backed securities . . . . 21,398 1,208 — 22,606 — — — —Collateralized loan

obligation . . . . . . . . . . . . 9,595 8,336 — 17,931 12,249 — — 12,249Corporate debt . . . . . . . . . . 5,013 95 (15) 5,093 5,013 122 — 5,135Equity securities . . . . . . . . . 202 214 — 416 202 61 — 263Municipal bond . . . . . . . . . . 3,235 — — 3,235 — — — —Non-agency MBS . . . . . . . . 97,062 889 (964) 96,987 112,917 1,640 (873) 113,684U.S. Treasury and agency

securities . . . . . . . . . . . . 29,795 1 (475) 29,321 90,587 24 (478) 90,133

Total . . . . . . . . . . . . . . . . . $1,352,334 $25,138 $(7,119) $1,370,353 $1,512,808 $18,524 $(8,421) $1,522,911

Included in investment securities, available-for-sale, were callable notes issued by Fannie Mae, Freddie Mac,the FHLB and Federal Farm Credit Bank (“Agency callable notes”), bonds issued by the FHLB (“Agency debt”),discount notes issued by Fannie Mae, Freddie Mac and the FHLB (“Agency discount notes”), commercial andresidential mortgage-backed securities issued and guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae (“AgencyMBS”), asset-backed securities, investments in a collateralized loan obligation, corporate debt, equity securities, amunicipal bond, commercial and residential mortgage-backed securities issued by non-government agencies(“Non-agency MBS”), and U.S. Treasury and agency securities.

The amortized cost and fair value of investment securities, available-for-sale that CapitalSource Bank pledgedas collateral as of March 31, 2011 and December 31, 2010 were as follows:

Source Amortized Cost Fair Value Amortized Cost Fair ValueMarch 31, 2011 December 31, 2010

($ in thousands)

FHLB . . . . . . . . . . . . . . . . . . . . . . . . . . . $810,977 $821,684 $877,766 $889,888

FRB . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29,661 28,923 35,056 34,256

Non-government Correspondent Bank(1) . . 39,991 39,992 37,979 37,989

Government Agency(2) . . . . . . . . . . . . . . . 29,044 29,511 29,069 29,305

$909,673 $920,110 $979,870 $991,438

(1) Represents the amounts CapitalSource Bank pledged as collateral for letters of credit and foreign exchangecontracts.

(2) Represents the amounts CapitalSource Bank pledged as collateral to secure funds deposited by a localgovernment agency.

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Realized gains or losses resulting from the sale of investments are calculated using the specific identificationmethod and are included in gain on investments, net in our consolidated statements of operations. During the threemonths ended March 31, 2011 and 2010, we sold investment securities, available-for-sale for $70.2 million and$20.0 million, respectively, recognizing net pre-tax gains of $14.5 million and $0.7 million, respectively.

During the three months ended March 31, 2011 and 2010, we recognized $4.8 million and $0.8 million,respectively, of net unrealized after-tax gains, related to our available-for-sale investment securities, as a componentof accumulated other comprehensive income, net in our consolidated balance sheets.

During the three months ended March 31, 2011, we recorded other-than-temporary impairments (“OTTI”) of$1.5 million, included as a component of gain on investments, net, in our consolidated statements of operations,related to a decline in the fair value of our municipal bond. We recorded no such OTTI during the three monthsended March 31, 2010. Additionally, during the three months ended March 31, 2010, we recorded OTTI of$0.3 million on equity securities, included as a component of gain on investments, net in our consolidatedstatements of operations. We recorded no such OTTI during the three months ended March 31, 2011.

Investment Securities, Held-to-Maturity

As of March 31, 2011 and December 31, 2010, the amortized cost of investment securities, held-to-maturitywas $179.1 million and $184.5 million, respectively, and consisted of commercial mortgage-backed securities ratedAAA held by CapitalSource Bank. The amortized costs and estimated fair values of the investment securities,held-to-maturity, that CapitalSource Bank pledged as collateral as of March 31, 2011 and December 31, 2010 wereas follows:

Source: Amortized Cost Fair Value Amortized Cost Fair ValueMarch 31, 2011 December 31, 2010

($ in thousands)

FHLB . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 15,381 $ 16,430 $ 21,260 $ 22,431

FRB . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 146,359 152,987 143,927 153,756

$161,740 $169,417 $165,187 $176,187

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Unrealized Losses on Investment Securities

As of March 31, 2011 and December 31, 2010, the gross unrealized losses and fair values of investmentsecurities that were in unrealized loss positions were as follows:

GrossUnrealized

LossesFair

Value

GrossUnrealized

LossesFair

Value

GrossUnrealized

LossesFair

Value

Less Than 12 Months 12 Months or More Total

($ in thousands)

As of March 31, 2011Investment securities, available-for-sale:Agency callable notes . . . . . . . . . . . . . . . . . . . $(2,168) $132,054 $ — $ — $(2,168) $132,054

Agency MBS. . . . . . . . . . . . . . . . . . . . . . . . . . (3,497) 365,637 — — (3,497) 365,637

Corporate debt . . . . . . . . . . . . . . . . . . . . . . . . . (15) — — — (15) —

Non-agency MBS . . . . . . . . . . . . . . . . . . . . . . (831) 29,733 (133) 6,982 (964) 36,715

U.S. Treasury and agency securities . . . . . . . . . (475) 19,321 — — (475) 19,321

Total investment securities,available-for-sale. . . . . . . . . . . . . . . . . . . . . $(6,986) $546,745 $(133) $6,982 $(7,119) $553,727

Total investment securities,held-to-maturity . . . . . . . . . . . . . . . . . . . . . $ — $ — $ — $ — $ — $ —

As of December 31, 2010Investment securities, available-for-sale:Agency callable notes . . . . . . . . . . . . . . . . . . . $(1,749) $ 92,471 $ — $ — $(1,749) $ 92,471

Agency MBS. . . . . . . . . . . . . . . . . . . . . . . . . . (5,321) 252,844 — — (5,321) 252,844Non-agency MBS . . . . . . . . . . . . . . . . . . . . . . (835) 20,905 (38) 8,384 (873) 29,289

U.S. Treasury and agency securities . . . . . . . . . (478) 20,151 — — (478) 20,151

Total investment securities,available-for-sale. . . . . . . . . . . . . . . . . . . . . $(8,383) $386,371 $ (38) $8,384 $(8,421) $394,755

Total investment securities,held-to-maturity(1) . . . . . . . . . . . . . . . . . . . $ (97) $ 13,524 $ — $ — $ (97) $ 13,524

(1) Consists of commercial mortgage-backed securities rated AAA held by CapitalSource Bank.

Securities in unrealized loss positions are analyzed individually as part of our ongoing assessment of OTTI,and we do not believe that any unrealized losses in our portfolio as of March 31, 2011 and December 31, 2010represent an OTTI. The losses are primarily related to four agency callable notes, five Agency MBS, and one SmallBusiness Administration asset-backed security (“SBA ABS”). The unrealized losses are attributable to fluctuationsin their market prices due to current market conditions and interest rate levels. Agency securities have the highestdebt rating and are backed by government-sponsored entities. The SBA ABS also has the highest debt rating and isbacked by the U.S. Government. As such, we expect to recover the entire amortized cost basis of the impairedsecurities. We have the ability and the intention to hold these securities until their fair values recover to cost ormaturity.

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Contractual Maturities

As of March 31, 2011, the contractual maturities of our available-for-sale and held-to-maturity investmentsecurities were as follows:

Amortized CostEstimatedFair Value Amortized Cost

EstimatedFair Value

Investment Securities,Available-for-Sale

Investment Securities,Held-to-Maturity

($ in thousands)

Due in one year or less . . . . . . . . . . . . . . . $ 55,037 $ 55,252 $ — $ —

Due after one year through five years . . . . . 189,281 188,995 26,191 30,403

Due after five years through ten years(1) . . 93,845 97,017 — —

Due after ten years(2)(3) . . . . . . . . . . . . . . 1,014,171 1,029,089 152,886 156,541

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,352,334 $1,370,353 $179,077 $186,944

(1) Includes Agency and Non-agency MBS, with fair values of $33.7 million and $40.7 million, respectively, andweighted-average expected maturities of 2.27 years and 2.98 years, respectively, based on interest rates andexpected prepayment speeds as of March 31, 2011.

(2) Includes Agency and Non-agency MBS, including CMBS, with fair values of $920.8 million and $212.8 mil-lion, respectively, and weighted-average expected maturities of 4.40 years and 1.36 years, respectively, basedon interest rates and expected prepayment speeds as of March 31, 2011.

(3) Includes securities with no stated maturity.

Other Investments

As of March 31, 2011 and December 31, 2010, our other investments were as follows:

March 31,2011

December 31,2010

($ in thousands)

Investments carried at cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $33,310 $33,062

Investments carried at fair value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 218 222

Investments accounted for under the equity method . . . . . . . . . . . . . . . . . . 34,378 38,605

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $67,906 $71,889

During the three months ended March 31, 2011 and 2010, we sold other investments for $10.1 million and$9.4 million, respectively, recognizing net pre-tax gains of $9.8 million and $6.4 million, respectively. During thethree months ended March 31, 2011 and 2010, we recorded OTTI of $0.2 million and $2.0 million, respectively,relating to our investments carried at cost.

Note 7. Guarantor Information

The following represents the supplemental consolidating condensed financial information as of March 31,2011 and December 31, 2010 and for the three months ended March 31, 2011 and 2010 of (i) CapitalSource Inc.,which as discussed in Note 10, Borrowings, is the issuer of our 2014 Senior Secured Notes, as well as our SeniorDebentures and Subordinated Debentures (together, the “Debentures”), (ii) CapitalSource Finance LLC(“CapitalSource Finance”), which is a guarantor of our 2014 Senior Secured Notes and the Debentures, and(iii) our subsidiaries that are not guarantors of the 2014 Senior Secured Notes or the Debentures. CapitalSourceFinance, a wholly owned indirect subsidiary of CapitalSource Inc., has guaranteed our 2014 Senior Secured Notesand the Senior Debentures, fully and unconditionally, on a senior basis and has guaranteed the SubordinatedDebentures, fully and unconditionally, on a senior subordinate basis. Separate consolidated financial statements ofthe guarantor are not presented, as we have determined that they would not be material to investors.

22


Consolidating Balance SheetMarch 31, 2011

(Unaudited)

CapitalSourceInc.

CombinedNon-Guarantor

Subsidiaries

CombinedGuarantor

Subsidiaries

OtherNon-Guarantor

Subsidiaries Eliminations

ConsolidatedCapitalSource

Inc.

CapitalSource Finance LLC

($ in thousands)

AssetsCash and cash equivalents . . . . . . . . . . . . $ 89,085 $ 429,841 $ 520,616 $ 111,953 $ — $ 1,151,495Restricted cash . . . . . . . . . . . . . . . . . . . — 15,050 61,385 142 — 76,577Investment securities:

Available-for-sale, at fair value . . . . . . . — 1,348,771 — 21,582 — 1,370,353Held-to-maturity, at amortized cost . . . . . — 179,077 — — — 179,077

Total investment securities . . . . . . . . . . — 1,527,848 — 21,582 — 1,549,430Loans:

Loans held for sale . . . . . . . . . . . . . . . — 6,021 522 11,454 — 17,997Loans held for investment . . . . . . . . . . — 5,051,593 199,347 816,786 — 6,067,726Less deferred loan fees and discounts . . . — (71,826) (9,706) (19,115) 7,134 (93,513)Less allowance for loan losses. . . . . . . . — (195,106) (23,265) (64,903) — (283,274)

Loans held for investment, net. . . . . . . . — 4,784,661 166,376 732,768 7,134 5,690,939

Total loans . . . . . . . . . . . . . . . . . . . . — 4,790,682 166,898 744,222 7,134 5,708,936Interest receivable . . . . . . . . . . . . . . . . . — 14,158 53,076 (9,312) — 57,922Investment in subsidiaries . . . . . . . . . . . . 2,380,786 1,908 1,466,372 1,589,581 (5,438,647) —Intercompany receivable . . . . . . . . . . . . . 375,000 9 111,327 380,948 (867,284) —Other investments . . . . . . . . . . . . . . . . . — 47,474 13,918 6,514 — 67,906Goodwill . . . . . . . . . . . . . . . . . . . . . . . — 173,135 — — — 173,135Other assets . . . . . . . . . . . . . . . . . . . . . 54,313 240,554 103,496 187,501 (97,927) 487,937

Total assets. . . . . . . . . . . . . . . . . . . . . . $ 2,899,184 $7,240,659 $2,497,088 $3,033,131 $(6,396,724) $ 9,273,338

Liabilities and shareholders’ equityLiabilities:

Deposits . . . . . . . . . . . . . . . . . . . . . . . $ — $4,708,349 $ — $ — $ — $ 4,708,349Term debt . . . . . . . . . . . . . . . . . . . . . . 286,500 577,299 — — — 863,799Other borrowings . . . . . . . . . . . . . . . . . . 526,254 400,000 442,208 — — 1,368,462Other liabilities . . . . . . . . . . . . . . . . . . . 14,964 122,580 93,503 153,226 (122,981) 261,292Intercompany payable . . . . . . . . . . . . . . . — 46,850 380,948 416,420 (844,218) —

Total liabilities . . . . . . . . . . . . . . . . . . . 827,718 5,855,078 916,659 569,646 (967,199) 7,201,902Shareholders’ equity:

Common stock . . . . . . . . . . . . . . . . . . . 3,233 921,000 — — (921,000) 3,233Additional paid-in capital . . . . . . . . . . . . 3,914,502 (80,768) 623,182 2,532,198 (3,074,614) 3,914,500(Accumulated deficit) retained earnings . . . (1,870,635) 530,346 938,039 (87,226) (1,381,187) (1,870,663)Accumulated other comprehensive income,

net . . . . . . . . . . . . . . . . . . . . . . . . . 24,366 15,003 19,208 18,513 (52,724) 24,366

Total shareholders’ equity . . . . . . . . . . . . 2,071,466 1,385,581 1,580,429 2,463,485 (5,429,525) 2,071,436

Total liabilities and shareholders’ equity . . . $ 2,899,184 $7,240,659 $2,497,088 $3,033,131 $(6,396,724) $ 9,273,338

23


Consolidating Balance SheetDecember 31, 2010

CapitalSourceInc.


Subsidiaries

CombinedGuarantor

Subsidiaries

OtherNon-Guarantor



Inc.


($ in thousands)

AssetsCash and cash equivalents . . . . . . . . . . $ 94,614 $ 353,666 $ 252,012 $ 120,158 $ — $ 820,450Restricted cash . . . . . . . . . . . . . . . . . . — 39,335 85,142 4,109 — 128,586Investment securities:

Available-for-sale, at fair value . . . . . . — 1,510,384 — 12,527 — 1,522,911Held-to-maturity, at amortized cost . . . — 184,473 — — — 184,473

Total investment securities . . . . . . . . . — 1,694,857 — 12,527 — 1,707,384Loans:

Loans held for sale . . . . . . . . . . . . . — 171,887 16,202 17,245 — 205,334Loans held for investment . . . . . . . . . — 5,008,287 284,445 860,144 — 6,152,876Less deferred loan fees and

discounts . . . . . . . . . . . . . . . . . . — (79,877) (10,362) (18,429) 2,230 (106,438)Less allowance for loan losses . . . . . . — (223,553) (29,626) (75,943) — (329,122)

Loans held for investment, net . . . . . . — 4,704,857 244,457 765,772 2,230 5,717,316

Total loans . . . . . . . . . . . . . . . . . . . — 4,876,744 260,659 783,017 2,230 5,922,650Interest receivable . . . . . . . . . . . . . . . . — 25,780 18,174 13,439 — 57,393Investment in subsidiaries . . . . . . . . . . . 2,339,200 3,594 1,561,468 1,623,244 (5,527,506) —Intercompany receivable . . . . . . . . . . . . 375,000 9 134,079 301,241 (810,329) —Other investments . . . . . . . . . . . . . . . . — 52,066 13,887 5,936 — 71,889Goodwill . . . . . . . . . . . . . . . . . . . . . — 173,135 — — — 173,135Other assets . . . . . . . . . . . . . . . . . . . . 89,198 249,119 156,557 234,034 (164,988) 563,920

Total assets . . . . . . . . . . . . . . . . . . . . $ 2,898,012 $7,468,305 $2,481,978 $3,097,705 $(6,500,593) $ 9,445,407

Liabilities and shareholders’ equityLiabilities:

Deposits . . . . . . . . . . . . . . . . . . . . . . $ — $4,621,273 $ — $ — $ — $ 4,621,273Credit facilities . . . . . . . . . . . . . . . . . — 65,606 — 1,902 — 67,508Term debt . . . . . . . . . . . . . . . . . . . . . 285,731 693,523 — — — 979,254Other borrowings . . . . . . . . . . . . . . . . 523,650 412,000 440,234 — — 1,375,884Other liabilities . . . . . . . . . . . . . . . . . 34,658 170,408 121,227 208,816 (187,563) 347,546Intercompany payable . . . . . . . . . . . . . — 46,850 301,241 441,372 (789,463) —

Total liabilities . . . . . . . . . . . . . . . . . . 844,039 6,009,660 862,702 652,090 (977,026) 7,391,465Shareholders’ equity:

Common stock . . . . . . . . . . . . . . . . . . 3,232 921,000 — — (921,000) 3,232Additional paid-in capital . . . . . . . . . . . 3,911,344 74,588 679,241 2,556,428 (3,310,260) 3,911,341(Accumulated deficit) retained earnings . . (1,870,544) 457,302 930,076 (114,898) (1,272,508) (1,870,572)Accumulated other comprehensive

income, net . . . . . . . . . . . . . . . . . . 9,941 5,755 9,959 4,087 (19,801) 9,941

Total CapitalSource Inc. shareholders’equity . . . . . . . . . . . . . . . . . . . . . . 2,053,973 1,458,645 1,619,276 2,445,617 (5,523,569) 2,053,942

Noncontrolling interests . . . . . . . . . . . . — — — (2) 2 —

Total shareholders’ equity . . . . . . . . . . . 2,053,973 1,458,645 1,619,276 2,445,615 (5,523,567) 2,053,942

Total liabilities and shareholders’equity . . . . . . . . . . . . . . . . . . . . . . $ 2,898,012 $7,468,305 $2,481,978 $3,097,705 $(6,500,593) $ 9,445,407

24


Consolidating Statement of OperationsThree Months Ended March 31, 2011

(Unaudited)

CapitalSourceInc.


Subsidiaries

CombinedGuarantor

Subsidiaries

OtherNon-Guarantor



Inc.


($ in thousands)


Loans . . . . . . . . . . . . . . . . . . . . . . . . . . $ 10,194 $105,054 $ (1,891) $20,538 $ (10,395) $123,500Investment securities . . . . . . . . . . . . . . . . — 14,723 7 3,622 — 18,352Other . . . . . . . . . . . . . . . . . . . . . . . . . . — 238 55 7 — 300

Total interest income . . . . . . . . . . . . . . . . 10,194 120,015 (1,829) 24,167 (10,395) 142,152Interest expense:

Deposits . . . . . . . . . . . . . . . . . . . . . . . . — 13,383 — — — 13,383Borrowings . . . . . . . . . . . . . . . . . . . . . . 24,425 5,710 4,917 11,253 (12,936) 33,369

Total interest expense . . . . . . . . . . . . . . . . 24,425 19,093 4,917 11,253 (12,936) 46,752

Net interest (loss) income . . . . . . . . . . . . . . . . (14,231) 100,922 (6,746) 12,914 2,541 95,400Provision for loan losses . . . . . . . . . . . . . . . . . — (797) 40,203 5,403 — 44,809

Net interest (loss) income after provision for loanlosses . . . . . . . . . . . . . . . . . . . . . . . . . . . . (14,231) 101,719 (46,949) 7,511 2,541 50,591

Operating expenses:Compensation and benefits . . . . . . . . . . . . . . 235 12,028 18,947 — (831) 30,379Professional fees. . . . . . . . . . . . . . . . . . . . . 964 459 4,834 931 — 7,188Other administrative expenses . . . . . . . . . . . . 1,156 21,819 11,039 4,379 (21,699) 16,694

Total operating expenses . . . . . . . . . . . . . . . 2,355 34,306 34,820 5,310 (22,530) 54,261Other income:

Gain on investments, net . . . . . . . . . . . . . . . — 11,649 22 11,844 — 23,515(Loss) gain on derivatives . . . . . . . . . . . . . . . — (777) (1,122) 21 — (1,878)Net expense of real estate owned and other

foreclosed assets . . . . . . . . . . . . . . . . . . . — (2,343) (189) (7,641) — (10,173)Other (expense) income, net . . . . . . . . . . . . . (317) 4,979 18,726 3,023 (19,884) 6,527Earnings (loss) in subsidiaries . . . . . . . . . . . . 27,245 (1,120) 72,263 13,128 (111,516) —

Total other income . . . . . . . . . . . . . . . . . . . 26,928 12,388 89,700 20,375 (131,400) 17,991

Net income before income taxes . . . . . . . . . . . 10,342 79,801 7,931 22,576 (106,329) 14,321Income tax expense (benefit) . . . . . . . . . . . . . . 7,183 6,780 (10) (2,791) — 11,162

Net income . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,159 $ 73,021 $ 7,941 $25,367 $(106,329) $ 3,159

25


Consolidating Statement of OperationsThree Months Ended March 31, 2010

(Unaudited)

CapitalSourceInc.


Subsidiaries

CombinedGuarantor

Subsidiaries

OtherNon-Guarantor



Inc.


($ in thousands)


Loans . . . . . . . . . . . . . . . . . . . . . . . . . . $ 9,850 $110,361 $ 10,817 $ 40,000 $ (14,778) $ 156,250Investment securities . . . . . . . . . . . . . . . . — 14,305 47 239 — 14,591Other . . . . . . . . . . . . . . . . . . . . . . . . . . — 570 1 2 — 573

Total interest income . . . . . . . . . . . . . . . . 9,850 125,236 10,865 40,241 (14,778) 171,414Interest expense:

Deposits . . . . . . . . . . . . . . . . . . . . . . . . — 16,358 — — — 16,358Borrowings . . . . . . . . . . . . . . . . . . . . . . 29,353 8,189 7,723 15,777 (12,399) 48,643

Total interest expense . . . . . . . . . . . . . . . . 29,353 24,547 7,723 15,777 (12,399) 65,001

Net interest (loss) income . . . . . . . . . . . . . . . . (19,503) 100,689 3,142 24,464 (2,379) 106,413Provision for loan losses . . . . . . . . . . . . . . . . . — 85,548 792 132,600 — 218,940

Net interest (loss) income after provision for loanlosses . . . . . . . . . . . . . . . . . . . . . . . . . . . . (19,503) 15,141 2,350 (108,136) (2,379) (112,527)

Operating expenses:Compensation and benefits . . . . . . . . . . . . . . 222 13,270 20,691 — — 34,183Professional fees. . . . . . . . . . . . . . . . . . . . . 681 602 7,371 1,716 — 10,370Other administrative expenses . . . . . . . . . . . . 1,137 12,892 13,471 13,604 (22,452) 18,652

Total operating expenses . . . . . . . . . . . . . . . 2,040 26,764 41,533 15,320 (22,452) 63,205Other (expense) income:

Gain (loss) on investments, net . . . . . . . . . . . — 5,219 (104) 964 — 6,079(Loss) gain on derivatives . . . . . . . . . . . . . . . — (1,542) 5,231 (8,026) — (4,337)Net expense of real estate owned and other

foreclosed assets . . . . . . . . . . . . . . . . . . . — (4,439) (824) (35,229) (40,492)Other (expense) income, net . . . . . . . . . . . . . (172) 13,477 23,455 1,986 (22,271) 16,475Loss in subsidiaries . . . . . . . . . . . . . . . . . . . (189,975) (514) (8,137) (21,760) 220,386 —

Total other (expense) income . . . . . . . . . . . . (190,147) 12,201 19,621 (62,065) 198,115 (22,275)

Net (loss) income from continuing operationsbefore income taxes . . . . . . . . . . . . . . . . . (211,690) 578 (19,562) (185,521) 218,188 (198,007)

Income tax expense . . . . . . . . . . . . . . . . . . . . — 2,169 — 18,837 — 21,006

Net loss from continuing operations . . . . . . . . (211,690) (1,591) (19,562) (204,358) 218,188 (219,013)Net income from discontinued operations, net

of taxes . . . . . . . . . . . . . . . . . . . . . . . . . . — — — 7,323 — 7,323

Net loss attributable to CapitalSource Inc. . . . $(211,690) $ (1,591) $(19,562) $(197,035) $218,188 $(211,690)

26


Consolidating Statement of Cash FlowsThree Months Ended March 31, 2011

(Unaudited)

CapitalSourceInc.


Subsidiaries

CombinedGuarantor

Subsidiaries

OtherNon-Guarantor



Inc.


($ in thousands)

Operating activities:Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,159 $ 73,021 $ 7,941 $ 25,367 $(106,329) $ 3,159Adjustments to reconcile net income to net cash (used in) provided by operating

activities:Stock option expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 368 1,004 — — 1,372Restricted stock expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 790 773 — — 1,563Amortization of deferred loan fees and discounts . . . . . . . . . . . . . . . . . . — (17,406) (806) (1,532) — (19,744)Paid-in-kind interest on loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 24,774 (492) (546) — 23,736Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — (797) 40,203 5,403 — 44,809Amortization of deferred financing fees and discounts . . . . . . . . . . . . . . . 7,257 1,627 88 (1,154) — 7,818Depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . . . . . . . — (2,473) 699 — — (1,774)Provision (benefit) for deferred income taxes . . . . . . . . . . . . . . . . . . . . 19,931 (14,448) — 26,000 — 31,483Non-cash gain on investments, net . . . . . . . . . . . . . . . . . . . . . . . . . — (23,530) (142) (2,988) — (26,660)Non-cash loss on foreclosed assets and other property and equipment disposals . . — 1,662 100 7,784 — 9,546Unrealized loss (gain) on derivatives and foreign currencies, net . . . . . . . . . . — 1,077 1,321 (14) — 2,384Decrease (increase) in interest receivable . . . . . . . . . . . . . . . . . . . . . . — 11,622 (34,902) 22,751 — (529)Decrease in loans held for sale, net . . . . . . . . . . . . . . . . . . . . . . . . . — 171,798 15,815 16,437 — 204,050Decrease (increase) in intercompany receivable . . . . . . . . . . . . . . . . . . . — — 22,752 (79,707) 56,955 —Decrease in other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,070 16,972 50,571 12,751 (67,061) 24,303Decrease in other liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (19,851) (47,702) (26,942) (54,415) 64,582 (84,328)Net transfers with subsidiaries . . . . . . . . . . . . . . . . . . . . . . . . . . . . (24,227) (160,992) 46,197 27,510 111,512 —

Cash (used in) provided by operating activities . . . . . . . . . . . . . . . . . . . (2,661) 36,363 124,180 3,647 59,659 221,188Investing activities:

Decrease in restricted cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 24,285 23,757 3,967 — 52,009(Increase) decrease in loans, net . . . . . . . . . . . . . . . . . . . . . . . . . . . — (81,564) 41,328 11,411 (4,904) (33,729)Reduction of marketable securities, available for sale, net . . . . . . . . . . . . . — 180,038 — — — 180,038Reduction of marketable securities, held to maturity, net . . . . . . . . . . . . . . — 10,253 — — — 10,253Reduction (acquisition) of other investments, net . . . . . . . . . . . . . . . . . . — 14,846 171 (376) — 14,641Disposal (acquisition) of property and equipment, net . . . . . . . . . . . . . . . . — 25 (518) — — (493)

Cash provided by investing activities . . . . . . . . . . . . . . . . . . . . . . . . — 147,883 64,738 15,002 (4,904) 222,719Financing activities:

Deposits accepted, net of repayments . . . . . . . . . . . . . . . . . . . . . . . . — 87,076 — — — 87,076Increase (decrease) in intercompany payable . . . . . . . . . . . . . . . . . . . . — — 79,707 (24,952) (54,755) —Repayments on credit facilities, net . . . . . . . . . . . . . . . . . . . . . . . . . — (66,890) — (1,902) — (68,792)Repayments and extinguishment of term debt . . . . . . . . . . . . . . . . . . . . — (116,257) — — — (116,257)Repayments of other borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . — (12,000) (21) — — (12,021)Proceeds from exercise of options . . . . . . . . . . . . . . . . . . . . . . . . . . 354 — — — — 354Payment of dividends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,222) — — — — (3,222)

Cash (used in) provided by financing activities . . . . . . . . . . . . . . . . . . . (2,868) (108,071) 79,686 (26,854) (54,755) (112,862)

(Decrease) increase in cash and cash equivalents . . . . . . . . . . . . . . . . . . . (5,529) 76,175 268,604 (8,205) — 331,045Cash and cash equivalents as of beginning of period . . . . . . . . . . . . . . . . . 94,614 353,666 252,012 120,158 — 820,450

Cash and cash equivalents as of end of period . . . . . . . . . . . . . . . . . . . . . $ 89,085 $ 429,841 $520,616 $111,953 $ — $1,151,495

27


Consolidating Statement of Cash FlowsThree Months Ended March 31, 2010

(Unaudited)

CapitalSourceInc.

CombinedNon-

GuarantorSubsidiaries

CombinedGuarantor

Subsidiaries

OtherNon-Guarantor



Inc.

CapitalSource FinanceLLC

($ in thousands)Operating activities:

Net loss . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(211,690) $ (1,591) $ (19,562) $(197,035) $ 218,188 $ (211,690)Adjustments to reconcile net loss to net cash provided by (used

in) operating activities:Stock option expense . . . . . . . . . . . . . . . . . . . . . . . — 323 1,026 — — 1,349Restricted stock expense . . . . . . . . . . . . . . . . . . . . . . — 466 3,584 — — 4,050Gain on extinguishment of debt . . . . . . . . . . . . . . . . . . (698) — — — — (698)Amortization of deferred loan fees and discounts . . . . . . . . — (9,840) (5,837) (3,008) — (18,685)Paid-in-kind interest on loans . . . . . . . . . . . . . . . . . . . — (1,683) (1,052) 1,790 — (945)Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . — 85,548 792 132,600 — 218,940Amortization of deferred financing fees and discounts . . . . . . 9,651 1,992 105 885 — 12,633Depreciation and amortization . . . . . . . . . . . . . . . . . . . — (1,865) 908 2,682 — 1,725Provision (benefit) for deferred income taxes. . . . . . . . . . . — 11,596 (182) 22,101 — 33,515Non-cash loss (gain) on investments, net . . . . . . . . . . . . . — 431 56 (275) — 212Non-cash loss on foreclosed assets and other property and

equipment disposals . . . . . . . . . . . . . . . . . . . . . . . — 3,127 293 32,321 — 35,741Unrealized (gain) loss on derivatives and foreign currencies,

net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — (2,522) (10,446) 7,795 — (5,173)Accretion of discount on commercial real estate “A”

participation interest . . . . . . . . . . . . . . . . . . . . . . . — (5,853) — — — (5,853)Decrease (increase) in interest receivable . . . . . . . . . . . . . — 5,958 (77,113) 28,508 — (42,647)Increase in loans held for sale, net . . . . . . . . . . . . . . . . — (67) — — — (67)Increase in intercompany receivable . . . . . . . . . . . . . . . — — (14,084) (4,804) 18,888 —Decrease (increase) in other assets . . . . . . . . . . . . . . . . 10,248 25,272 4,287 (12,406) (31,659) (4,258)(Decrease) increase in other liabilities . . . . . . . . . . . . . . (16,330) (65,631) (23,900) 9,991 30,067 (65,803)Net transfers with subsidiaries . . . . . . . . . . . . . . . . . . . 254,767 (24,037) 43,044 (53,388) (220,386) —

Cash provided by (used in) operating activities . . . . . . . . . 45,948 21,624 (98,081) (32,243) 15,098 (47,654)Investing activities:

Decrease (increase) in restricted cash . . . . . . . . . . . . . . . — 42,125 8,154 (14,170) — 36,109Decrease in commercial real estate “A” participation interest . . — 208,421 — — — 208,421Decrease in loans, net . . . . . . . . . . . . . . . . . . . . . . . — 40,266 10,663 125,206 2,380 178,515Acquisition of marketable securities, available for sale, net . . . — (580,027) — — — (580,027)Reduction of marketable securities, held to maturity, net . . . . — 27,591 — — — 27,591(Acquisition) reduction of other investments, net . . . . . . . . . — (17,950) (208) 21,100 — 2,942(Acquisition) disposal of property and equipment, net . . . . . . — (7,254) (383) 7,170 — (467)

Cash (used in) provided by investing activities . . . . . . . . . . — (286,828) 18,226 139,306 2,380 (126,916)Financing activities:

Payment of deferred financing fees . . . . . . . . . . . . . . . . (833) (171) — (1,211) — (2,215)Deposits accepted, net of repayments . . . . . . . . . . . . . . . — 99,067 — — — 99,067Increase in intercompany payable . . . . . . . . . . . . . . . . . — — 4,804 12,674 (17,478) —Repayments on credit facilities, net . . . . . . . . . . . . . . . . (90,055) (12,875) (6,861) (14,859) — (124,650)Borrowings of term debt . . . . . . . . . . . . . . . . . . . . . . — — — 14,395 — 14,395Repayments and extinguishment of term debt . . . . . . . . . . — (188,125) — (102,382) — (290,507)(Repayments of) borrowings under other borrowings . . . . . . (17,994) 25,000 (20) (1,849) — 5,137Payment of dividends . . . . . . . . . . . . . . . . . . . . . . . (3,228) — — — — (3,228)

Cash used in financing activities . . . . . . . . . . . . . . . . . (112,110) (77,104) (2,077) (93,232) (17,478) (302,001)

(Decrease) increase in cash and cash equivalents . . . . . . . . . . (66,162) (342,308) (81,932) 13,831 — (476,571)Cash and cash equivalents as of beginning of period . . . . . . . . 99,103 760,343 265,977 51,597 1,177,020

Cash and cash equivalents as of end of period . . . . . . . . . . . $ 32,941 $ 418,035 $184,045 $ 65,428 $ — $ 700,449

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Note 8. Deposits

As of March 31, 2011 and December 31, 2010, CapitalSource Bank had $4.7 billion and $4.6 billion,respectively, in deposits insured up to the maximum limit by the Federal Deposit Insurance Corporation (“FDIC”).As of March 31, 2011 and December 31, 2010, CapitalSource Bank had $1.8 billion and $1.7 billion, respectively,of certificates of deposit in the amount of $100,000 or more. As of March 31, 2011 and December 31, 2010,CapitalSource Bank had $283.7 million and $266.7 million, respectively, of certificates of deposit in the amount of$250,000 or more.

As of March 31, 2011 and December 31, 2010, the weighted-average interest rates for savings and moneymarket deposit accounts were 0.84% and 0.83%, respectively, and for certificates of deposit were 1.23% and 1.27%,respectively. The weighted-average interest rates for all deposits as of March 31, 2011 and December 31, 2010 were1.15% and 1.18%, respectively.

As of March 31, 2011 and December 31, 2010, interest-bearing deposits at CapitalSource Bank were asfollows:

March 31,2011

December 31,2010

($ in thousands)

Interest-bearing deposits:

Money market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 236,649 $ 236,811

Savings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 726,481 694,157

Certificates of deposit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,745,219 3,690,305

Total interest-bearing deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $4,708,349 $4,621,273

As of March 31, 2011, certificates of deposit at CapitalSource Bank detailed by maturity were as follows ($ inthousands):

Maturing by:

March 31, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3,079,769

March 31, 2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 564,969

March 31, 2014 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27,683

March 31, 2015 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42,445

March 31, 2016 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30,353

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3,745,219

For the three months ended March 31, 2011 and 2010, interest expense on deposits was as follows:

2011 2010


($ in thousands)

Savings and money market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,944 $ 2,265

Certificates of deposit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,495 14,146

Fees for early withdrawal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (56) (53)

Total interest expense on deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $13,383 $16,358

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Note 9. Variable Interest Entities

Troubled Debt Restructurings

Certain of our loan modifications qualify as events that require reconsideration of our borrowers as variableinterest entities. Through reconsideration, we determined that certain of our borrowers involved in TDRs did nothold sufficient equity at risk to finance their activities without subordinated financial support. As a result, weconcluded that these borrowers were variable interest entities.

We also determined that we should not consolidate these borrowers because we do not have a controllingfinancial interest. The equity investors of these borrowers have the power to direct the activities that will have themost significant impact on the economics of these borrowers. These equity investors’ interests also provide themwith rights to receive benefits in the borrowers that could potentially be significant. As a result, we have determinedthat the equity investors continue to have a controlling financial interest in the borrowers subsequent to therestructuring.

Our interests in borrowers qualifying as variable interest entities were $407.4 million and $493.7 million as ofMarch 31, 2011 and December 31, 2010, respectively, and are included in loans held for investment in ourconsolidated balance sheets. For certain of these borrowers, we may have obligations to fund additional amountsthrough either unfunded commitments or letters of credit issued to or on behalf of these borrowers. Consequently,our maximum exposure to loss as a result of our involvement with these entities was $506.1 million and$610.6 million as of March 31, 2011 and December 31, 2010, respectively.

Term Debt Securitizations

In conjunction with our commercial term debt securitizations, we established and contributed loans to separatesingle purpose entities (collectively, referred to as the “Issuers”). The Issuers are structured to be legally isolated,bankruptcy remote entities. The Issuers issued notes and certificates that are collateralized by their underlyingassets, which primarily comprise loans contributed to the securitizations. We service the underlying loanscontributed to the Issuers and earn periodic servicing fees paid from the cash flows of the underlying loans.The Issuers have all legal obligations to repay the outstanding notes and certificates and we have no legal obligationto contribute additional assets to the Issuers. As of March 31, 2011 and December 31, 2010, the total outstandingbalances of these commercial term debt securitizations were $905.6 million and $1.0 billion, respectively. Theseamounts include $328.2 million of notes and certificates that we held as of both March 31, 2011 and December 31,2010.

We have determined that the Issuers are variable interest entities, subject to applicable consolidation guidanceand have concluded that the entities were designed to pass along risks related to the credit performance of theunderlying loan portfolio. Except as set forth below, as a result of our power to direct the activities that mostsignificantly impact the credit performance of the underlying loan portfolio and our economic interests in theIssuers, we have concluded that we are the primary beneficiary of each of the Issuers. Consequently, except as setforth below, we report the assets and liabilities of the Issuers in our consolidated financial statements, including theunderlying loans and the issued notes and certificates held by third parties. As of March 31, 2011 and December 31,2010, the carrying amounts of the consolidated liabilities related to the Issuers were $581.2 million and$697.5 million, respectively. These amounts include term debt recorded in our consolidated balance sheets andrepresent obligations for which there is only legal recourse to the Issuers. As of March 31, 2011 and December 31,2010, the carrying amounts of the consolidated assets related to the Issuers were $853.5 million and $901.9 million,respectively. These amounts include loans held for investment, net recorded in our consolidated balance sheets andrelate to assets that can only be used to settle obligations of the Issuers.

During the third quarter of 2010, we delegated certain of our collateral management and special servicingrights in the 2006-A term debt securitization trust (the “2006-A” Trust) and sold our equity interest and certain notesissued by the 2006-A trust for $7.0 million. As a result of the transaction, we determined that we no longer had thepower to direct the activities that most significantly impact the economic performance of the 2006-A Trust. In

30


making this determination, we assessed the character and significance of the servicing and collateral managementfees paid to the delegate and concluded that such fees represented an implicit variable interest in the 2006-A Trust.This assessment involved significant judgment surrounding the credit performance and timing of cash flows of theunderlying assets of the 2006-ATrust, including the performance of additional assets to be purchased by the 2006-ATrust, pursuant to the terms of the indenture. In October 2010, we assigned our special servicing rights so that we areno longer the named special servicer of the 2006-A Trust.

As a result of the determination above, we concluded that we were no longer the primary beneficiary anddeconsolidated the 2006-A Trust. We also concluded that the deconsolidation of the 2006-A Trust qualified as afinancial asset transfer and that the transaction resulted in our surrendering control over the financial assets held bythe 2006-A Trust. This resulted in the removal of carrying amounts of $801.9 million of loans, $55.7 million ofrestricted cash and $891.3 million of term debt from our consolidated balance sheet and the recognition of a gain of$16.7 million, recorded in other income, net in our consolidated statement of income for the three months endedSeptember 30, 2010. As of March 31, 2011, the fair value of interests in the 2006-ATrust that we had repurchased inthe market subsequent to the initial securitization and held as of March 31, 2011 was $17.9 million and wereclassified as investment securities, available-for-sale in our consolidated balance sheets. We have no additionalfunding commitments or other obligations related to these interests. Except for a guarantee provided to a swapcounterparty of the 2006-ATrust, we have not provided any additional financial support to the 2006-ATrust duringthe three months ended March 31, 2011. This swap had a fair value to the counterparty of $13.2 million as ofMarch 31, 2011. The interests in the Trust and the swap guarantee comprise our maximum exposure to loss relatedto the 2006-A Trust. During the three months ended March 31, 2011, we recognized a gain of $13.3 million,included in gain on investments in our consolidated statement of income, on the sale of certain of our interests in the2006-A Trust. In addition, we recorded an unrealized gain of $8.3 million, included as a component of othercomprehensive income, on the securities that we still hold in the 2006-A Trust as of March 31, 2011 as a result ofvaluation adjustments.

Note 10. Borrowings

For additional information on our borrowings, see Note 11, Borrowings, in our audited consolidated financialstatements for the year ended December 31, 2010, included in our Form 10-K.

As of March 31, 2011 and December 31, 2010, the composition of our outstanding borrowings was as follows:

March 31,2011

December 31,2010

($ in thousands)

Credit facilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ — $ 67,508

Term debt(1). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 863,799 979,254

Other borrowings:

Convertible debt, net(2) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 526,254 523,650

Subordinated debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 439,281 437,286

FHLB SF borrowings. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 400,000 412,000

Notes payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,927 2,948

Total other borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,368,462 1,375,884

Total borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,232,261 $2,422,646

(1) Amounts presented are net of debt discounts of $13.6 million and $14.4 million as of March 31, 2011 andDecember 31, 2010, respectively.

(2) Amounts presented are net of debt discounts of $4.3 million and $6.9 million as of March 31, 2011 andDecember 31, 2010, respectively.

31


Credit Facilities

As of March 31, 2011 and December 31, 2010, we had access to a secured credit facility to finance ourcommercial loans and for general corporate purposes. We terminated this credit facility on April 12, 2011.Information pertaining to this secured credit facility was as follows:

March 31,2011

December 31,2010

($ in thousands)

Committed capacity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $40,000 $167,508

Outstanding borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 67,508

Undrawn capacity(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $40,000 $100,000

(1) Undrawn capacity on the secured credit facility was limited by issued and outstanding letters of credit totaling$10.7 million and $21.0 million, as of March 31, 2011 and December 31, 2010, respectively.

Term Debt

As of March 31, 2011 and December 31, 2010, the carrying amounts of our term debt related to securitizationswere $577.3 million and $693.5 million, respectively. As of March 31, 2011 and December 31, 2010, our 2014Senior Secured Notes had balances of $286.5 million and $285.7 million, respectively, net of discounts of$13.5 million and $14.3 million, respectively.

Convertible Debt

As of March 31, 2011 and December 31, 2010, the carrying amounts of the liability and equity components ofour convertible debt were as follows:

March 31,2011

December 31,2010

($ in thousands)

Convertible debt principal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $530,523 $530,523

Less: debt discount . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (4,269) (6,873)

Net carrying value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $526,254 $523,650

Equity components recorded in additional paid-in capital . . . . . . . . . . . . . $101,220 $101,220

As of March 31, 2011, the unamortized discounts on our 3.5%, 4.0% and 7.25% Convertible Debentures willbe amortized through the first put dates of July 15, 2011, July 15, 2011, and July 15, 2012, respectively. As ofMarch 31, 2011, the conversion prices and the numbers of shares used to determine the aggregate consideration thatwould be delivered upon conversion of our convertible debentures were as follows:

Conversion Price Number of Shares

3.5% Senior Convertible Debentures due 2034 . . . . . . . . . . . . . . $20.77 406,566

4.0% Senior Subordinated Convertible Debentures due 2034 . . . . 20.77 13,096,998

7.25% Senior Subordinated Convertible Debentures due 2037 . . . 27.09 9,226,975

32


For the three months ended March 31, 2011 and 2010, the interest expense recognized on our ConvertibleDebentures and the effective interest rates on the liability components were as follows:

2011 2010


($ in thousands)

Interest expense recognized on:

Contractual interest coupon . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7,377 $ 7,668

Amortization of deferred financing fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . 300 373

Amortization of debt discount . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,604 2,631

Total interest expense recognized. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $10,281 $10,672

Effective interest rate on the liability component:

3.5% Senior Convertible Debentures due 2034 . . . . . . . . . . . . . . . . . . . . . . . . . 7.16% 7.16%

4.0% Senior Subordinated Convertible Debentures due 2034 . . . . . . . . . . . . . . 7.85% 7.78%

7.25% Senior Subordinated Convertible Debentures due 2037 . . . . . . . . . . . . . 7.79% 7.79%

For information on the contingent interest feature of the 3.5% Debentures, see Note 11, Borrowings, in ouraudited consolidated financial statements for the year ended December 31, 2010, included in our Form 10-K.

FHLB SF Borrowings and FRB Credit Program

CapitalSource Bank is a member of the FHLB SF. As of March 31, 2011 and December 31, 2010,CapitalSource Bank had borrowing capacity with the FHLB SF based on pledged collateral as follows:

March 31,2011

December 31,2010

($ in thousands)

Borrowing capacity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 879,846 $ 885,842

Less: outstanding principal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (400,000) (412,000)

Less: outstanding letters of credit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (600) (600)

Unused borrowing capacity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 479,246 $ 473,242

CapitalSource Bank is an approved depository institution under the primary credit program of the FRB ofSan Francisco’s discount window eligible to borrow from the FRB for short periods, generally overnight. As ofMarch 31, 2011 and December 31, 2010, collateral with amortized costs of $176.0 million and $179.0 million,respectively, and fair values of $181.9 million and $188.0 million, respectively, had been pledged under thisprogram. As of March 31, 2011 and December 31, 2010, there were no borrowings outstanding.

Note 11. Shareholders’ Equity

Common Stock Shares Outstanding

Common stock share activity for the three months ended March 31, 2011 was as follows:

Outstanding as of December 31, 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 323,225,355

Exercise of options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 101,434

Restricted stock and other stock activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18,523

Outstanding as of March 31, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 323,345,312

33


Note 12. Income Taxes

We provide for income taxes as a “C” corporation on income earned from operations. For the tax year endedDecember 31, 2010, our subsidiaries were not able to participate in the filing of a consolidated federal tax return. Weintend to reconsolidate our subsidiaries in 2011 for federal tax purposes. We are subject to federal, foreign, state andlocal taxation in various jurisdictions.

In 2009, we established a valuation allowance against a substantial portion of our net deferred tax assets forsubsidiaries where we determined that there was significant negative evidence with respect to our ability to realizesuch assets. Negative evidence we considered in making this determination included the incurrence of operatinglosses at several of our subsidiaries, and uncertainty regarding the realization of a portion of the deferred tax assetsat future points in time. As of March 31, 2011 and December 31, 2010, the total valuation allowance was$456.5 million and $413.8 million, respectively. Although realization is not assured, we believe it is more likelythan not that the net deferred tax assets of $63.0 million as of March 31, 2011 will be realized. We intend to maintaina valuation allowance with respect to our deferred tax assets until sufficient positive evidence exists to support itsreduction or reversal.

During the three months ended March 31, 2011, we recorded income tax expense of $11.2 million. Theexpense for the three months ended March 31, 2011 was primarily the result of the re-establishment of a valuationallowance at the consolidated group level with respect to CapitalSource Bank’s net deferred tax assets. Thevaluation allowance was recorded in connection with our plan to reconsolidate our corporate entities for federal taxpurposes in 2011. For the three months ended March 31, 2010, we recorded income tax expense of $21.0 million.The effective income tax rate on our consolidated net income and loss from continuing operations was 77.9% and(10.6)% for the three months ended March 31, 2011 and 2010, respectively.

We file income tax returns with the United States and various state, local and foreign jurisdictions andgenerally remain subject to examinations by these tax jurisdictions for tax years 2006 through 2010. We arecurrently under examination by the Internal Revenue Service and certain states for the tax years 2006 to 2008.

Note 13. Comprehensive Income (Loss)

Comprehensive income (loss) for the three months ended March 31, 2011 and 2010 was as follows:

2011 2010


($ in thousands)

Net income (loss) from continuing operations . . . . . . . . . . . . . . . . . . . . . . $ 3,159 $(219,013)

Net income from discontinued operations, net of taxes. . . . . . . . . . . . . . . . — 7,323

Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,159 (211,690)

Unrealized gain on available-for-sale securities, net of taxes . . . . . . . . . . . 4,843 760

Unrealized gain (loss) on foreign currency translation, net of taxes. . . . . . . 9,582 (9,972)

Unrealized loss on cash flow hedges, net of taxes . . . . . . . . . . . . . . . . . . . — (22)

Comprehensive income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $17,584 $(220,924)

Accumulated other comprehensive income, net, as of March 31, 2011 and December 31, 2010 was as follows:

March 31,2011

December 31,2010

($ in thousands)

Unrealized gain on available-for-sale securities, net of taxes . . . . . . . . . . . $10,606 $ 5,763

Unrealized gain on foreign currency translation, net of taxes. . . . . . . . . . . 13,760 4,178

Accumulated other comprehensive income, net . . . . . . . . . . . . . . . . . . . . . $24,366 $ 9,941

34


Note 14. Net Income (Loss) Per Share

The computations of basic and diluted net income (loss) per share for the three months ended March 31, 2011and 2010, respectively, were as follows:

2011 2010


($ in thousands, except per sharedata)

Net income (loss):From continuing operations. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,159 $ (219,013)

From discontinued operations, net of taxes . . . . . . . . . . . . . . . . . . . — 7,323

Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,159 $ (211,690)

Average shares — basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 320,196,690 320,294,724

Effect of dilutive securities:

Option shares . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,519,314 —

Unvested restricted stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,153,497 —

Stock units . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,094,237 —

Average shares — diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 326,963,738 320,294,724

Basic net income (loss) per shareFrom continuing operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.68)

From discontinued operations, net of taxes. . . . . . . . . . . . . . . . . . $ — $ 0.02

Net income (loss) per share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.66)

Diluted net income (loss) per shareFrom continuing operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.68)

From discontinued operations, net of taxes. . . . . . . . . . . . . . . . . . $ — $ 0.02

Net income (loss) per share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 0.01 $ (0.66)

The weighted average shares that have an antidilutive effect in the calculation of diluted net income (loss) pershare attributable to CapitalSource Inc. and have been excluded from the computations above were as follows:

2011 2010


Stock units . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 3,616,480

Stock options. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,820,596 2,563,621

Shares issuable upon conversion of convertible debt . . . . . . . . . . . . . . . . 13,488,710 15,013,163

Unvested restricted stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 251,358 1,080,046

Note 15. Bank Regulatory Capital

CapitalSource Bank is subject to various regulatory capital requirements established by federal and stateregulatory agencies. Failure to meet minimum capital requirements can result in regulatory agencies initiatingcertain mandatory and possibly additional discretionary actions that, if undertaken, could have a direct materialeffect on our consolidated financial statements. Under capital adequacy guidelines and the regulatory frameworkfor prompt corrective action, CapitalSource Bank must meet specific capital guidelines that involve quantitativemeasures of its assets and liabilities as calculated under regulatory accounting practices. CapitalSource Bank’scapital amounts and other requirements are also subject to qualitative judgments by its regulators about riskweightings and other factors. See Item 1, Business — Supervision and Regulation, in our Form 10-K and

35


Supervision and Regulation within Management’s Discussion and Analysis of Financial Condition and Results ofOperations of this Form 10-Q for a further description of CapitalSource Bank’s regulatory requirements.

Under prompt corrective action regulations, a “well-capitalized” bank must have a total risk-based capital ratioof 10%, a Tier 1 risk-based capital ratio of 6%, and a Tier 1 leverage ratio of 5%. Under its approval order from theFDIC, CapitalSource Bank must be “well-capitalized” and at all times have a minimum total risk-based capital ratioof 15%, a minimum Tier-1 risk-based capital ratio of 6% and a minimum Tier 1 leverage ratio of 5%. CapitalSourceBank’s ratios and the minimum requirements as of March 31, 2011 and December 31, 2010 were as follows:

Amount Ratio Amount Ratio Amount Ratio Amount RatioActual Minimum Required Actual Minimum Required


($ in thousands)

Tier-1 Leverage . . . . . . . . . . . . . $791,341 13.47% $293,779 5.00% $756,821 13.15% $287,830 5.00%

Tier-1 Risk-Based Capital . . . . . 791,341 17.52 270,941 6.00 756,821 16.86 269,335 6.00

Total Risk-Based Capital . . . . . . 848,773 18.80 677,351 15.00 813,822 18.13 673,336 15.00

The California Department of Financial Institutions (the “DFI”) approval order requires that CapitalSourceBank, until July 2011, maintain a minimum ratio of tangible shareholder’s equity to total tangible assets of at least10.00%. As of March 31, 2011 and December 31, 2010, CapitalSource Bank satisfied the DFI capital ratiorequirement with ratios of 13.06% and 12.61%, respectively.

Note 16. Commitments and Contingencies

We provide standby letters of credit in conjunction with several of our lending arrangements and property leaseobligations. As of March 31, 2011 and December 31, 2010, we had issued $134.9 million and $143.4 million,respectively, in stand-by letters of credit which expire at various dates over the next nine years. If a borrowerdefaults on its commitment(s) subject to any letter of credit issued under these arrangements, we would be requiredto meet the borrower’s financial obligation and would seek repayment of that financial obligation from theborrower. These arrangements had carrying amounts totaling $3.1 million and $3.8 million, as reported in otherliabilities in our consolidated balance sheets as of March 31, 2011 and December 31, 2010, respectively.

As of March 31, 2011 and December 31, 2010, we had unfunded commitments to extend credit to our clients of$1.7 billion and $1.9 billion, respectively, including unfunded commitments to extend credit by CapitalSource Bankof $936.3 million and $958.7 million, respectively, and by the Parent Company of $810.7 million and $977.7 mil-lion, respectively. Additional information on these contingencies is included in Note 19, Commitments andContingencies, in our audited consolidated financial statements for the year ended December 31, 2010, included inour Form 10-K.

During the years ended December 31, 2010 and 2009, we sold all of our direct real estate investmentproperties. We are responsible for indemnifying the current owners for any remediation, including costs of removaland disposal of asbestos that existed prior to the sales, through the third anniversary date of the sale. We willrecognize any remediation costs if notified by the current owners of their intention to exercise their indemnificationrights, however, no such notification has been received to date. As of March 31, 2011, sufficient information was notavailable to estimate our potential liability for conditional asset retirement obligations as the obligations to removethe asbestos from these properties continue to have indeterminable settlement dates.

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

Note 17. Derivative Instruments

We are exposed to certain risks related to our ongoing business operations. The primary risks managed throughthe use of derivative instruments are interest rate risk and foreign exchange risk. We do not enter into derivative

36


instruments for speculative purposes. As of March 31, 2011, none of our derivatives were designated as hedginginstruments pursuant to GAAP.

We enter into various derivative instruments to manage our exposure to interest rate risk. The objective is tomanage interest rate sensitivity by modifying the characteristics of certain assets and liabilities to reduce the adverseeffect of changes in interest rates. We primarily use interest rate swaps and basis swaps to manage our interest raterisks.

Interest rate swaps are contracts in which a series of interest rate cash flows, based on a specific notionalamount as well as fixed and variable interest rates, are exchanged over a prescribed period. To minimize theeconomic effect of interest rate fluctuations specific to our fixed rate debt and certain fixed rate loans, we enter intointerest rate swap agreements whereby either we pay a fixed interest rate and receive a variable interest rate or wepay a variable interest rate and receive a fixed interest rate over a prescribed period.

We also enter into basis swaps to eliminate risk between our LIBOR-based term debt securitizations and theprime-based loans pledged as collateral for that debt. These basis swaps modify our exposure to interest rate risktypically by converting our prime rate loans to a one-month LIBOR rate. The objective of this swap activity is toprotect us from risk that interest collected under the prime rate loans will not be sufficient to service the interest dueunder the one-month LIBOR-based term debt.

We enter into forward exchange contracts to hedge foreign currency denominated loans we originate againstforeign currency fluctuations. The objective is to manage the uncertainty of future foreign exchange ratefluctuations. These forward exchange contracts provide for a fixed exchange rate which has the effect of reducingor eliminating changes to anticipated cash flows to be received from foreign currency-denominated loan trans-actions as the result of changes to exchange rates.

In March 2011, we entered into a trade agreement to transfer a $49.6 million loan commitment to a third party.As the trade agreement had not settled as of March 31, 2011, it qualified as a forward contract. We did not recognizeany gains or losses on this derivative during the three months ended March 31, 2011.

Derivative instruments expose us to credit risk in the event of nonperformance by counterparties to suchagreements. This risk exposure consists primarily of the termination value of agreements where we are in afavorable position. We manage the credit risk associated with various derivative agreements through counterpartycredit review and monitoring procedures. We obtain collateral from certain counterparties and monitor all exposureand collateral requirements daily. We continually monitor the fair value of collateral received from counterpartiesand may request additional collateral from counterparties or return collateral pledged as deemed appropriate. Wealso posted collateral of $10.0 million related to counterparty requirements for foreign exchange contracts atCapitalSource Bank. Our agreements generally include master netting agreements whereby we are entitled to settleour individual derivative positions with the same counterparty on a net basis upon the occurrence of certain events.As of March 31, 2011, our derivative counterparty exposure was as follows ($ in thousands):

Gross derivative counterparty exposure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 33,442

Master netting agreements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (22,061)

Net derivative counterparty exposure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 11,381

We report our derivatives in our consolidated balance sheets at fair value on a gross basis irrespective of ourmaster netting arrangements. We held $11.5 million of collateral against our derivative instruments that were in anasset position as of March 31, 2011. For derivatives that were in a liability position, we had posted collateral of$48.8 million as of March 31, 2011.

37


As of March 31, 2011, the notional amounts and fair values of our various derivative instruments as well astheir locations in our consolidated balance sheets were as follows:

Notional Amount Other Assets Other Liabilities Notional Amount Other Assets Other Liabilities

Fair Value Fair Value


($ in thousands)

Interest rate contracts . . . . . $1,270,468 $33,442 $69,536 $1,287,399 $41,309 $77,410

Foreign exchangecontracts . . . . . . . . . . . . 35,428 — 1,229 35,557 — 877

Forward contracts . . . . . . . 49,596 — — — — —

Total . . . . . . . . . . . . . . . . . $1,355,492 $33,442 $70,765 $1,322,956 $41,309 $78,287

The gains and losses on our derivative instruments recognized during the three months ended March 31, 2011and 2010 as well as the locations of such gains and losses in our consolidated statements of operations were asfollows:

Location 2011 2010


Loss Recognized in Income

($ in thousands)

Interest rate contracts . . . . . . . . . Loss on derivatives $ (802) $(2,703)

Foreign exchange contracts . . . . . Loss on derivatives (1,076) (1,634)

Total . . . . . . . . . . . . . . . . . . . . . . $(1,878) $(4,337)

Note 18. Fair Value Measurements

We use fair value measurements to record fair value adjustments to certain of our assets and liabilities and todetermine fair value disclosures. Investment securities, available-for-sale, warrants and derivatives are recorded atfair value on a recurring basis. In addition, we may be required, in specific circumstances, to measure certain of ourassets at fair value on a nonrecurring basis, including investment securities, held-to-maturity, loans held for sale,loans held for investment, REO and certain other investments.

Fair Value Determination

Fair value is based on quoted market prices or by using market based inputs where available. Given the natureof some of our assets and liabilities, clearly determinable market based valuation inputs are often not available;therefore, these assets and liabilities are valued using internal estimates. As subjectivity exists with respect to manyof our valuation estimates used, the fair values we have disclosed may not equal prices that we may ultimatelyrealize if the assets are sold or the liabilities settled with third parties.

Below is a description of the valuation methods for our assets and liabilities recorded at fair value on either arecurring or nonrecurring basis. While we believe the valuation methods are appropriate and consistent with othermarket participants, the use of different methodologies or assumptions to determine the fair value of certain assetsand liabilities could result in a different estimate of fair value at the measurement date.

Assets and Liabilities

Cash

Cash and cash equivalents and restricted cash are recorded at historical cost. The carrying amount is areasonable estimate of fair value as these instruments have short-term maturities and interest rates that approximatemarket.

38



Investment securities, available-for-sale, consist of U.S. Treasury bills, Agency discount notes, Agencycallable notes, Agency debt, Agency MBS, Non-agency MBS, and corporate debt securities that are carried at fairvalue on a recurring basis and classified as available-for-sale securities. Fair value adjustments on these investmentsare generally recorded through other comprehensive income. However, if impairment on an investment, availa-ble-for-sale is deemed to be other-than-temporary, all or a portion of the fair value adjustment may be reported inearnings. The securities are valued using quoted prices from external market participants, including pricingservices. If quoted prices are not available, the fair value is determined using quoted prices of securities with similarcharacteristics or independent pricing models, which utilize observable market data such as benchmark yields,reported trades and issuer spreads. These securities are primarily classified within Level 2 of the fair valuehierarchy.

Investment securities, available-for-sale, also consist of a collateralized loan obligation, which include theinterests we hold in the deconsolidated 2006-A Trust, and a municipal bond, whose values are determined usinginternally developed valuation models. These models may utilize discounted cash flow techniques for which keyinputs include the timing and amount of future cash flows and market yields. Market yields are based oncomparisons to other instruments for which market data is available. These models may also utilize industryvaluation benchmarks, such as multiples of EBITDA, to determine a value for the underlying enterprise. Given thelack of active and observable trading in the market, our collateralized loan obligation and municipal bond areclassified in Level 3.

Investment securities, available-for-sale, also consist of equity securities which are valued using the stock priceof the underlying company in which we hold our investment. Our equity securities are classified in Level 1 or 2depending on the level of activity within the market.


Investment securities, held-to-maturity consist of commercial mortgage-backed-securities. These securitiesare generally recorded at amortized cost, but are recorded at fair value on a non-recurring basis to the extent werecord an OTTI on the securities. Fair value measurements are determined using quoted prices from external marketparticipants, including pricing services. If quoted prices are not available, the fair value is determined using quotedprices of securities with similar characteristics or independent pricing models, which utilize observable market datasuch as benchmark yields, reported trades and issuer spreads.

Loans Held for Sale

Loans held for sale are carried at the lower of cost or fair value, with fair value adjustments recorded on anonrecurring basis. The fair value is determined using actual market transactions when available. In situations whenmarket transactions are not available, we use the income approach through internally developed valuation models toestimate the fair value. This requires the use of significant judgment surrounding discount rates and the timing andamounts of future cash flows. Key inputs to these valuations also include costs of completion and unit settlementprices for the underlying collateral of the loans. Fair values determined through actual market transactions areclassified within Level 2 of the fair value hierarchy, while fair values determined through internally developedvaluation models are classified within Level 3 of the fair value hierarchy.

Loans Held for Investment

Loans held for investment are recorded at outstanding principal, net of any deferred fees and unamortizedpurchase discounts or premiums and net of an allowance for loan losses. We may record fair value adjustments on anonrecurring basis when we have determined that it is necessary to record a specific reserve against a loan and wemeasure such specific reserve using the fair value of the loan’s collateral. To determine the fair value of thecollateral, we may employ different approaches depending on the type of collateral.

39


In cases where our collateral is a fixed or other tangible asset, including commercial real estate, ourdetermination of the appropriate method to use to measure fair value depends on several factors including thetype of collateral that we are evaluating, the age of the most recent appraisal performed on the collateral, and thetime required to obtain an updated appraisal. Typically, we obtain an updated third-party appraisal to estimate fairvalue using external valuation specialists.

For impaired collateral dependent commercial real estate loans, we typically obtain an updated appraisal as ofthe date the loan is deemed impaired to measure the amount of impairment. In situations where we are unable toobtain a timely updated appraisal, we perform internal valuations which utilize assumptions and calculationssimilar to those customarily utilized by third party appraisers and consider relevant property specific facts andcircumstances. In certain instances, our internal assessment of value may be based on adjustments to outdatedappraisals by analyzing the changes in local market conditions and asset performance since the appraisals wereperformed. The outdated appraisal values may be discounted by percentages that are determined by analyzingchanges in local market conditions since the dates of the appraisals as well as by consulting databases, comparablemarket sale prices, brokers’ opinions of value and other relevant data. We do not make adjustments that increase thevalues indicated by outdated appraisals by using higher recent sale comparisons.

Impaired collateral dependent commercial real estate loans for which ultimate collection depends solely on thesale of the collateral are charged off to the estimated fair value of the collateral less estimated costs to sell. Forcertain of these loans, we charged off to an amount different than the value indicated by the most recent appraisal.This was primarily the result of both factors causing the appraisal to be outdated as outlined above and other factorssurrounding the loans not considered by appraisals, such as pending loan sales and other transaction specific factors.As of March 31, 2011 and December 31, 2010, we charged off an additional $59.0 million, net, and $58.2 million,net, respectively, in loan balances compared with amounts that would have been charged off based on the appraisedvalues of the collateral. In addition, we have impaired collateral dependent commercial real estate loans with acarrying amount at March 31, 2011 of $6.9 million for which we do not have appraisals. Valuations for the realestate collateral securing these loans are based on observable transactions and industry metrics.

Our policy on updating appraisals related to these originated impaired collateral dependent commercial realestate loans generally is to obtain current appraisals subsequent to the impairment date if there are significantchanges to the underlying assumptions from the most recent appraisal. Some factors that could cause significantchanges include the passage of more than twelve months since the time of the last appraisal; the volatility of thelocal market; the availability of financing; the inventory of competing properties; new improvements to, or lack ofmaintenance of, the subject property or competing surrounding properties; a change in zoning; environmentalcontamination; or failure of the project to meet material assumptions of the original appraisal. This policy forupdating appraisals does not vary by commercial real estate loan type.

We continue to monitor collateral values on partially charged-off impaired collateral dependent commercialreal estate loans and may record additional charge offs upon receiving updated appraisals. We do not return suchpartially charged-off loans to performing status, except in limited circumstances when such loans have beenformally restructured and have met key performance criteria including compliance with restructured paymentterms. We do not return such partially charged-off loans to performing status based solely on the results ofappraisals.

In cases where our collateral is not a fixed or tangible asset, we typically use industry valuation benchmarks todetermine the value of the asset or the underlying enterprise.

When fair value adjustments are recorded on loans held for investment, we typically classify them in Level 3 ofthe fair value hierarchy.

We determine the fair value estimates of loans held for investment for fair value disclosures primarily usingexternal valuation specialists. These valuation specialists group loans based on credit rating and collateral type, andthe fair value is estimated utilizing discounted cash flow techniques. The valuations take into account currentmarket rates of return, contractual interest rates, maturities and assumptions regarding expected future cash flows.

40


Within each respective loan grouping, current market rates of return are determined based on quoted prices forsimilar instruments that are actively traded, adjusted as necessary to reflect the illiquidity of the instrument. Thisapproach requires the use of significant judgment surrounding current market rates of return, liquidity adjustmentsand the timing and amounts of future cash flows.

Other Investments

Other investments accounted for under the cost or equity methods of accounting are carried at fair value on anonrecurring basis to the extent that they are determined to be other-than-temporarily impaired during the period.As there is rarely an observable price or market for such investments, we determine fair value using internallydeveloped models. Our models utilize industry valuation benchmarks, such as multiples of EBITDA, to determine avalue for the underlying enterprise. We reduce this value by the value of debt outstanding to arrive at an estimatedequity value of the enterprise. When an external event such as a purchase transaction, public offering or subsequentequity sale occurs, the pricing indicated by the external event will be used to corroborate our private equityvaluation. Fair value measurements related to these investments are typically classified within Level 3 of the fairvalue hierarchy.

Warrants

Warrants are carried at fair value on a recurring basis and generally relate to privately held companies.Warrants for privately held companies are valued based on the estimated value of the underlying enterprise. This fairvalue is derived principally using a multiple determined either from comparable public company data or from thetransaction where we acquired the warrant and a financial performance indicator based on EBITDA or anotherrevenue measure. Given the nature of the inputs used to value privately held company warrants, they are classified inLevel 3 of the fair value hierarchy.

FHLB SF Stock

Our investment in FHLB stock is recorded at historical cost. FHLB stock does not have a readily determinablefair value, but may be sold back to the FHLB at its par value with stated notice. The investment in FHLB SF stock isperiodically evaluated for impairment based on, among other things, the capital adequacy of the FHLB and itsoverall financial condition. No impairment losses on our investment in FHLB stock have been recorded throughMarch 31, 2011.

Derivative Assets and Liabilities

Derivatives are carried at fair value on a recurring basis and primarily relate to interest rate swaps, caps, floors,basis swaps and forward exchange contracts which we enter into to manage interest rate risk and foreign exchangerisk. Our derivatives are principally traded in over-the-counter markets where quoted market prices are not readilyavailable. Instead, derivatives are measured using market observable inputs such as interest rate yield curves,volatilities and basis spreads. We also consider counterparty credit risk in valuing our derivatives. We typicallyclassify our derivatives in Level 2 of the fair value hierarchy.

Real Estate Owned

REO is initially recorded at its estimated fair value less costs to sell at the time of foreclosure if the related REOis classified as held for sale. REO held for sale is carried at the lower of its carrying amount or fair value subsequentto the date of foreclosure, with fair value adjustments recorded on a nonrecurring basis. REO held for use isrecorded at its carrying amount, net of accumulated depreciation, with fair value adjustments recorded on anonrecurring basis if the carrying amount of the real estate is not recoverable and exceeds its fair value. Whenavailable, the fair value of REO is determined using actual market transactions. When market transactions are notavailable, the fair value of REO is typically determined based upon recent appraisals by third parties. We may ormay not adjust these third party appraisal values based on our own internally developed judgments and estimates. To

41


the extent that market transactions or third party appraisals are not available, we use the income approach throughinternally developed valuation models to estimate the fair value. This requires the use of significant judgmentsurrounding discount rates and the timing and amounts of future cash flows. Fair values determined through actualmarket transactions are classified within Level 2 of the fair value hierarchy while fair values determined throughthird party appraisals and through internally developed valuation models are classified within Level 3 of the fairvalue hierarchy.

Other Foreclosed Assets

When we foreclose on a borrower whose underlying collateral consists of loans, we record the acquired loansat the estimated fair value at the time of foreclosure. Valuation of that collateral, which often is a pool of many smallbalance loans, is typically performed utilizing internally-developed estimates. These estimates rely upon defaultand recovery rates, market discount rates and the underlying value of collateral supporting the loans. Underlyingcollateral values may be supported by appraisals or broker price opinions. When fair value adjustments are recordedon these loans, we typically classify them in Level 3 of the fair value hierarchy.

Deposits

Deposits are carried at historical cost. The carrying amounts of deposits for savings and money marketaccounts and brokered certificates of deposit are deemed to approximate fair value as they either have no statedmaturities or short-term maturities. Certificates of deposit are grouped by maturity date, and the fair value isestimated utilizing discounted cash flow techniques. The interest rates applied are rates currently being offered forsimilar certificates of deposit within the respective maturity groupings.

Credit Facilities

The fair value of credit facilities is estimated based on current market interest rates for similar debt instrumentsadjusted for the remaining time to maturity.

Term Debt

Term debt comprises term debt securitizations and our 2014 Senior Secured Notes. For disclosure purposes,the fair values of our term debt securitizations and 2014 Senior Secured Notes are determined based on actual pricesfrom recent third party purchases of our debt when available and based on indicative price quotes received fromvarious market participants when recent transactions have not occurred.

Other Borrowings

Our other borrowings comprise convertible debt and subordinated debt. For disclosure purposes, the fair valueof our convertible debt is determined from quoted market prices in active markets or, when the market is not active,from quoted market prices for debt with similar maturities. The fair value of our subordinated debt is determinedbased on recent third party purchases of our debt when available and based on indicative price quotes received frommarket participants when recent transactions have not occurred.

Off-Balance Sheet Financial Instruments

Loan Commitments and Letters of Credit

Loan commitments and letters of credit generate ongoing fees at our current pricing levels, which arerecognized over the term of the commitment period. For disclosure purposes, the fair value is estimated using thefees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements,the current creditworthiness of the counterparties and current market conditions. In addition, for loan commitments,the market rates of return utilized in the valuation of the loans held for investment as described above are applied tothis analysis to reflect current market conditions.

42


Assets and Liabilities Carried at Fair Value on a Recurring Basis

Assets and liabilities have been grouped in their entirety within the fair value hierarchy based on the lowestlevel of input that is significant to the fair value measurement. Assets and liabilities carried at fair value on arecurring basis on the balance sheet as of March 31, 2011 were as follows:

Fair ValueMeasurement as of

March 31, 2011

Quoted Prices inActive Markets for

Identical Assets (Level 1)

SignificantOther

ObservableInputs (Level 2)

SignificantUnobservable

Inputs (Level 3)($ in thousands)

AssetsInvestment securities, available-for-sale:

Agency callable notes . . . . . . . . . . . . . $ 162,323 $ — $ 162,323 $ —

Agency debt . . . . . . . . . . . . . . . . . . . . 77,903 — 77,903 —

Agency MBS . . . . . . . . . . . . . . . . . . . 954,538 — 954,538 —

Assets-backed securities . . . . . . . . . . . 22,606 — 22,606 —

Collateralized loan obligation. . . . . . . . 17,931 — — 17,931

Corporate debt . . . . . . . . . . . . . . . . . . 5,093 — 5,093 —

Equity securities . . . . . . . . . . . . . . . . . 416 416 — —

Municipal bond . . . . . . . . . . . . . . . . . . 3,235 — — 3,235

Non-agency MBS . . . . . . . . . . . . . . . . 96,987 — 96,987 —

U.S. Treasury and agency securities . . . 29,321 — 29,321 —

Total investment securities,available-for-sale . . . . . . . . . . . . . . . . . 1,370,353 416 1,348,771 21,166

Investments carried at fair value:

Warrants . . . . . . . . . . . . . . . . . . . . . . . 218 — — 218

Other assets held at fair value:

Derivative assets . . . . . . . . . . . . . . . . . 33,442 — 33,442 —

Total assets . . . . . . . . . . . . . . . . . . . . . . . $1,404,013 $ 416 $1,382,213 $21,384

LiabilitiesOther liabilities held at fair value:

Derivative liabilities. . . . . . . . . . . . . . . $ 70,765 $ — $ 70,765 $ —

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Assets and liabilities carried at fair value on a recurring basis on the balance sheet as of December 31, 2010were as follows:

Fair ValueMeasurement as ofDecember 31, 2010

Quoted Prices inActive Markets for

Identical Assets (Level 1)

SignificantOther

ObservableInputs (Level 2)


Inputs (Level 3)($ in thousands)

AssetsInvestment securities, available-for-sale:

Agency discount notes . . . . . . . . . . . . . $ 164,974 $ — $ 164,974 $ —

Agency callable notes . . . . . . . . . . . . . 162,888 — 162,888 —

Agency debt . . . . . . . . . . . . . . . . . . . . 103,430 — 103,430 —

Agency MBS . . . . . . . . . . . . . . . . . . . 870,155 — 870,155 —

Non-agency MBS . . . . . . . . . . . . . . . . 113,684 — 113,684 —

Equity securities . . . . . . . . . . . . . . . . . 263 263 — —

Corporate debt . . . . . . . . . . . . . . . . . . 5,135 — 5,120 15

Collateralized loan obligation. . . . . . . . 12,249 — — 12,249

U.S. Treasury and agency securities . . . 90,133 — 90,133 —

Total investment securities,available-for-sale . . . . . . . . . . . . . . . . . 1,522,911 263 1,510,384 12,264

Investments carried at fair value:

Warrants . . . . . . . . . . . . . . . . . . . . . . . 222 — — 222

Other assets held at fair value:

Derivative assets . . . . . . . . . . . . . . . . . 41,309 — 41,309 —

Total assets . . . . . . . . . . . . . . . . . . . . . . . $1,564,442 $ 263 $1,551,693 $12,486

LiabilitiesOther liabilities held at fair value:

Derivative liabilities. . . . . . . . . . . . . . . $ 78,287 $ — $ 78,287 $ —

A summary of the changes in the fair values of assets and liabilities carried at fair value for the three monthsended March 31, 2011 that have been classified in Level 3 of the fair value hierarchy was as follows:

Balance as ofJanuary 1,

2011Included in

Income

Included inOther

ComprehensiveIncome, Net

TotalRealized

andUnrealized

Gains(Losses) Acquisitions Sales Settlements

TotalAcquisitions,

Sales, andSettlements In (Out)

Balance as ofMarch 31,

2011

UnrealizedGains

(Losses)As of

March 31,2011

TransfersIn (Out)

of Level 3

Realized and UnrealizedGains (Losses)

($ in thousands)

AssetsInvestment securities,

available-for-sale:Corporate debt . . . $ 15 $ — $ (15) $ (15) $ — $ — $— $ — $— $— $ — $ —Collateralized loan

obligation . . . . . 12,249 16,346 8,336 24,682 — (19,000) — (19,000) — — 17,931 1,662Municipal bonds . . — (1,496) — (1,496) 4,731 — — 4,731 — — 3,235 (1,496)

Total . . . . . . . . . . . 12,264 14,850 8,321 23,171 4,731 (19,000) — (14,269) — — 21,166 166Warrants . . . . . . . . . 222 9 — 9 — (14) — (14) — — 218 (5)Total assets . . . . . . . $12,486 $14,859 $8,321 $23,180 $4,731 $(19,014) $— $(14,283) $— $— $21,384 $ 161

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A summary of the changes in the fair values of assets and liabilities carried at fair value for the three monthsended March 31, 2010 that have been classified in Level 3 of the fair value hierarchy was as follows:

Balance as ofJanuary 1,

2010Included in

Income

Included inOther

ComprehensiveIncome, Net

TotalRealized

andUnrealized

Gains(Losses) Acquisitions Sales Settlements

TotalAcquisitions,

Sales,and

Settlements In (Out)

Balance as ofMarch 31,

2010

UnrealizedGains

(Losses)As of

March 31,2010

TransfersIn (Out)Level 3

Realized and UnrealizedGains (Losses)

($ in thousands)

AssetsInvestment securities,

available-for-sale:Non-agency MBS . . $ 61 $ — $ — $ — $— $ (33) $— $ (33) $— $— $ 28 $ —Corporate debt . . . . 4,457 57 (149) (92) — — — — — — 4,365 57Collateralized loan

obligation . . . . . . 1,326 636 (308) 328 — (1,654) — (1,654) — — — —Total . . . . . . . . . . . . 5,844 693 (457) 236 — (1,687) — (1,687) — — 4,393 57Warrants . . . . . . . . . . 1,392 (148) — (148) — — — — — — 1,244 (148)Total assets . . . . . . . . $7,236 $ 545 $(457) $ 88 $— $(1,687) $— $(1,687) $— $— $5,637 $ (91)

Realized and unrealized gains and losses on assets and liabilities classified in Level 3 of the fair valuehierarchy included in income for the three months ended March 31, 2011 and 2010, reported in interest income andgain on investments, net were as follows:

2011 2010 2011 2010Three Months Ended March 31,

Interest IncomeGain on

Investments, Net

($ in thousands)

Total gains included in earnings for the period . . . . . . . . . . . . . . . . . . . . $3,056 $91 $11,803 $ 454Unrealized gains (losses) relating to assets still held at reporting date . . . 1,657 57 (1,496) (148)

Assets Carried at Fair Value on a Nonrecurring Basis

We may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis. Asdescribed above, these adjustments to fair value usually result from the application of lower of cost or fair valueaccounting or write downs of individual assets. The table below provides the fair values of those assets for whichnonrecurring fair value adjustments were recorded during the three months ended March 31, 2011, classified bytheir position in the fair value hierarchy. The table also provides the gains (losses) related to those assets recordedduring the three months ended March 31, 2011.

Fair ValueMeasurement

as ofMarch 31, 2011

QuotedPrices in

ActiveMarkets

for IdenticalAssets

(Level 1)

SignificantOther

ObservableInputs

(Level 2)


Inputs(Level 3)

TotalNet

Lossesfor theThree

MonthsEnded

March 31,2011

($ in thousands)

AssetsLoans held for sale . . . . . . . . . . . . . . . . $ 10,822 $ — $10,822 $ — $ —Loans held for investment(1) . . . . . . . . . 269,130 — — 269,130 (28,023)Investments carried at cost . . . . . . . . . . 1,274 — — 1,274 (173)Investments accounted for REO(2). . . . . 38,835 — — 38,835 (2,036)Loans acquired through foreclosure,

net . . . . . . . . . . . . . . . . . . . . . . . . . . 20,168 — — 20,168 (7,803)

Total assets . . . . . . . . . . . . . . . . . . . . . . $340,229 $ — $10,822 $329,407 $(38,035)

(1) Represents impaired loans held for investment measured at fair value of the collateral less transaction costs.Transaction costs were not significant during the period.

(2) Represents REO measured at fair value of the collateral less transaction costs. Transaction costs were notsignificant during the period.

45


The table below provides the fair values of those assets for which nonrecurring fair value adjustments wererecorded during the three months ended March 31, 2010, classified by their position in the fair value hierarchy. Thetable also provides the gains (losses) related to those assets recorded during the three months ended March 31, 2010.

Fair ValueMeasurement

as ofMarch 31, 2010

QuotedPrices in

ActiveMarkets

for IdenticalAssets

(Level 1)

SignificantOther

ObservableInputs

(Level 2)


Inputs(Level 3)

TotalNet

Lossesfor theThree

MonthsEnded

March 31,2010

($ in thousands)

AssetsLoans held for sale . . . . . . . . . . . . . . . $ 15,005 $ — $15,005 $ — $ —Loans held for investment(1) . . . . . . . . 412,718 — — 412,718 (141,696)Investments carried at cost. . . . . . . . . . 910 — — 910 (2,014)REO(2) . . . . . . . . . . . . . . . . . . . . . . . . 79,055 — — 79,055 (20,689)Loans acquired through foreclosure,

net . . . . . . . . . . . . . . . . . . . . . . . . . 108,804 — — 108,804 (15,170)

Total assets . . . . . . . . . . . . . . . . . . . . . $616,492 $ — $15,005 $601,487 $(179,569)

(1) Represents impaired loans held for investment measured at fair value of the loan’s collateral less transactioncosts. Transaction costs were not significant during the period.

(2) Represents REO measured at fair value of the collateral less transaction costs. Transaction costs were notsignificant during the period.

Fair Value of Financial Instruments

A financial instrument is defined as cash, evidence of an ownership interest in an entity, or a contract thatcreates a contractual obligation or right to deliver or receive cash or another financial instrument from a secondentity on potentially favorable terms. The methods and assumptions used in estimating the fair values of ourfinancial instruments are described above.

The table below provides fair value estimates for our financial instruments as of March 31, 2011 andDecember 31, 2010, excluding financial assets and liabilities for which carrying value is a reasonable estimate offair value and those which are recorded at fair value on a recurring basis.

Carrying Value Fair Value Carrying Value Fair ValueMarch 31, 2011 December 31, 2010

($ in thousands)

Assets:Loans held for investment, net . . . . . . . . . . . . . . $5,690,939 $5,789,051 $5,717,316 $5,767,160

Investments carried at cost . . . . . . . . . . . . . . . . . 33,310 68,537 33,062 64,735

Investment securities, held-to-maturity . . . . . . . . . 179,077 186,944 184,473 195,438

Liabilities:Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4,708,349 4,715,749 4,621,273 4,628,903

Credit facilities . . . . . . . . . . . . . . . . . . . . . . . . . . — — 67,508 66,464

Term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 863,799 841,507 979,254 921,169

Convertible debt, net. . . . . . . . . . . . . . . . . . . . . . 526,254 541,167 523,650 539,297

Subordinated debt . . . . . . . . . . . . . . . . . . . . . . . . 439,281 254,783 437,286 253,626

Loan commitments and letters of credit . . . . . . . . — 26,008 — 32,972

46


Note 19. Segment Data

For the three months ended March 31, 2011, we operated as two reportable segments: 1) CapitalSource Bankand 2) Other Commercial Finance. For the three months ended March 31, 2010, we operated as three reportablesegments: 1) CapitalSource Bank, 2) Other Commercial Finance, and 3) Healthcare Net Lease. Our CapitalSourceBank segment comprises our commercial lending and banking business activities, and our Other CommercialFinance segment comprises our loan portfolio and other business activities in the Parent Company. Our HealthcareNet Lease segment comprised our direct real estate investment business activities, which we exited completely withthe sale of all of the assets related to this segment during 2010. We have reclassified all comparative period results toreflect our two current reportable segments. In addition, for comparative purposes, overhead and other intercom-pany allocations have been reclassified from the Healthcare Net Lease segment into the Other Commercial Financesegment for the three months ended March 31, 2010.

The financial results of our operating segments as of and for the three months ended March 31, 2011 were asfollows:

CapitalSourceBank

OtherCommercial

FinanceIntercompanyEliminations

ConsolidatedTotal


($ in thousands)

Total interest income . . . . . . . . . . . . . . . . . . . . . . . $ 91,804 $ 47,614 $ 2,734 $ 142,152

Interest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . 15,210 31,542 — 46,752

Provision for loan losses. . . . . . . . . . . . . . . . . . . . . 11,242 33,567 — 44,809Operating expenses . . . . . . . . . . . . . . . . . . . . . . . . 32,941 41,326 (20,006) 54,261

Total other income . . . . . . . . . . . . . . . . . . . . . . . . . 2,965 32,354 (17,328) 17,991

Net income (loss) before income taxes . . . . . . . . . . 35,376 (26,467) 5,412 14,321

Income tax expense . . . . . . . . . . . . . . . . . . . . . . . . 3,095 8,067 — 11,162

Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . $ 32,281 $ (34,534) $ 5,412 $ 3,159

Total assets as of March 31, 2011 . . . . . . . . . . . . . . $6,180,081 $3,132,967 $(39,710) $9,273,338

Total assets as of December 31, 2010 . . . . . . . . . . . 6,117,368 3,418,897 (90,858) 9,445,407

The financial results of our operating segments for the three months ended March 31, 2010 were as follows:

CapitalSourceBank

Other CommercialFinance

IntercompanyEliminations

ConsolidatedTotal


($ in thousands)

Total interest income. . . . . . . . . . . . . . . . . . . . $ 81,454 $ 92,333 $ (2,373) $ 171,414

Interest expense . . . . . . . . . . . . . . . . . . . . . . . 17,301 47,700 — 65,001Provision for loan losses . . . . . . . . . . . . . . . . . 87,704 131,236 — 218,940

Operating expenses . . . . . . . . . . . . . . . . . . . . . 24,335 50,507 (11,637) 63,205

Other income (expense), net . . . . . . . . . . . . . . 8,159 (18,978) (11,456) (22,275)

Net loss from continuing operations beforeincome taxes . . . . . . . . . . . . . . . . . . . . . . . . (39,727) (156,088) (2,192) (198,007)

Income tax (benefit) expense. . . . . . . . . . . . . . (56) 21,062 — 21,006

Net loss from continuing operations . . . . . . . . $(39,671) $(177,150) $ (2,192) $(219,013)

The accounting policies of each of the individual operating segments are the same as those described in Note 2,Summary of Significant Accounting Policies, in our audited consolidated financial statements for the year endedDecember 31, 2010, included in our Form 10-K.

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Intercompany Eliminations

The intercompany eliminations consist of eliminations for intercompany activity among the segments. Suchactivities primarily include services provided by the Parent Company to CapitalSource Bank and by CapitalSourceBank to the Parent Company, loan sales between the Parent Company and CapitalSource Bank, and daily loancollections received at CapitalSource Bank for Parent Company loans and daily loan disbursements paid at theParent Company for CapitalSource Bank loans.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION ANDRESULTS OF OPERATIONS

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Form 10-Q, including the footnotes to our unaudited consolidated financial statements included herein,contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995,which are subject to numerous assumptions, risks, and uncertainties, including certain plans, expectations, goals andprojections and statements about our deposit base, our intention to originate loans at CapitalSource Bank, our portfoliorunoff and growth, adequacy of reserves, our liquidity and capital position, our plans regarding our 3.5% and4.0% Convertible Debentures, CapitalSource Bank’s ability to maintain sufficient liquidity and ratios under variousprojected scenarios, deployment of excess capital at the Parent Company, expectations regarding our application tobecome a bank holding company and converting CapitalSource Bank’s charter to a commercial charter, the performanceof our loans, in particular our high balance loans, loan yields, the impact of accounting pronouncements, taxes and taxaudits and examinations, our unfunded commitments and deposit demands, our delinquent, non-accrual and impairedloans, our SPEs, and our valuation allowance with respect to, and our realization and utilization of, net deferred taxassets. All statements contained in this Form 10-Q that are not clearly historical in nature are forward-looking, and thewords “anticipate,” “assume,” “intend,” “believe,” “forecast,” “expect,” “estimate,” “plan,” “continue,” “will,” “should,”“look forward” and similar expressions are generally intended to identify forward-looking statements. All forward-looking statements (including statements regarding future financial and operating results and future transactions and theirresults) involve risks, uncertainties and contingencies, many of which are beyond our control, which may cause actualresults, performance, or achievements to differ materially from anticipated results, performance or achievements. Actualresults could differ materially from those contained or implied by such statements for a variety of factors, includingwithout limitation: changes in economic or market conditions or investment or lending opportunities may result inincreased credit losses and delinquencies in our portfolio and impair our ability to consummate transactions on favorableterms; disruptions in economic and credit markets could prevent us from optimizing the amount of leverage we employand could adversely affect our liquidity position, our strategy regarding the 3.5% and 4.0% Convertible Debentures couldbe restricted by our other indebtedness; movements in interest rates and lending spreads may adversely affect ourborrowing strategy; we may not be successful in maintaining or growing deposits or deploying capital in favorablelending transactions or originating or acquiring assets in accordance with our strategic plan; competitive and other marketpressures could adversely affect loan pricing; the nature, extent, and timing of any governmental actions and reforms; thesuccess and timing of our business strategies; restrictions imposed on us by our regulators or indebtedness, assumptionswe made in connection with the various projected scenarios for CapitalSource Bank liquidity could be erroneous,continued or worsening charge offs, reserves and delinquencies may adversely affect our earnings and financial results;changes in tax laws or regulations could adversely affect our business; and other risk factors described in our AnnualReport on Form 10-K for the year ended December 31, 2010 as filed with the SEC on February 28, 2011 (“Form 10 -K”),and other documents filed by us with the SEC. All forward-looking statements included in this Form 10-Q are based oninformation available at the time the statement is made.

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

The information contained in this section should be read in conjunction with our consolidated financialstatements and related notes and the information contained elsewhere in this Form 10-Q and in our Form 10-K.

Overview

References to we, us, the Company or CapitalSource refer to CapitalSource Inc., a Delaware corporation,together with its subsidiaries. References to CapitalSource Bank include its subsidiaries, and references to ParentCompany refer to CapitalSource Inc. and its subsidiaries other than CapitalSource Bank. We are a commerciallender which, primarily through our wholly owned subsidiary, CapitalSource Bank, provides financial products tosmall and middle market businesses nationwide and provides depository products and services in southern andcentral California. As of March 31, 2011, we had an outstanding loan principal balance of $6.1 billion.

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For the three months ended March 31, 2011, we operated as two reportable segments: 1) CapitalSource Bankand 2) Other Commercial Finance. For the three months ended March 31, 2010, we operated as three reportablesegments: 1) CapitalSource Bank, 2) Other Commercial Finance, and 3) Healthcare Net Lease. Our CapitalSourceBank segment comprises our commercial lending and banking business activities; our Other Commercial Financesegment comprises our loan portfolio and other business activities in the Parent Company; and our Healthcare NetLease segment comprised our direct real estate investment business activities. Our Healthcare Net Lease segmentcomprised our direct real estate investment business activities, which we exited completely with the sale of all of theassets related to this segment to Omega Healthcare Investors, Inc. during 2010, and consequently, we havepresented the financial condition and results of operations within our Healthcare Net Lease segment as discontinuedoperations for all periods presented. We have reclassified all comparative period results to reflect our two currentreportable segments. For additional information, see Note 19, Segment Data.

Through our CapitalSource Bank segment activities, we provide financial products primarily to small andmiddle market businesses throughout the United States and also offer depository products and services in southernand central California, which are insured by the Federal Deposit Insurance Corporation (“FDIC”) to the maximumamounts permitted by law. As of March 31, 2011, CapitalSource Bank had an outstanding loan principal balance of$4.0 billion and deposits of $4.7 billion.

Through our Other Commercial Finance segment activities, the Parent Company provides financial productsprimarily to small and middle market businesses. Our activities in the Parent Company consist primarily of satisfyingexisting loan commitments made prior to CapitalSource Bank’s formation and receiving payments on our existingloan portfolio. As of March 31, 2011, the Parent Company had an outstanding loan principal balance of $2.1 billion.

Current Developments

In 2011, we have continued to simplify our business and progress in our transformation to a banking model. Weincreased CapitalSource Bank’s profitability, continued to originate new loans in CapitalSource Bank through ourbroad lending platform, and improved Parent Company liquidity by repaying and terminating a significant portionof Parent Company indebtedness. As of April 30, 2011, the Parent Company’s unrestricted cash was approximately$1.1 billion, representing an increase of approximately $600 million from December 31, 2010.

In addition to growing assets and profitability, we also intend to pursue a strategy to prudently utilize excesscapital at the Parent Company and to convert CapitalSource Bank’s charter from an industrial bank charter to acommercial bank charter. Our current strategy for converting CapitalSource Bank to a commercial bank is to pursuebecoming a bank holding company under the Bank Holding Company Act of 1956, and based on our recentdiscussions with the Federal Reserve we believe we understand the actions required for the Parent Company to beconsidered for bank holding company status. We intend to assess and weigh the alternatives for prudently utilizingexcess capital in a manner that is in the best interest of our shareholders — which may include, among other things,repayment of debt, capital contributions to CapitalSource Bank, stock repurchases, increased or special dividends ordistributions — and the alternatives for converting CapitalSource Bank to a commercial bank — which may includeasset sales, spin-offs or other actions. We could pursue any of these alternatives either separately or in combinationwith one another, or we may not pursue any of them. Accordingly, it may take longer than we originally estimated toconvert CapitalSource Bank to a commercial bank and/or to utilize such excess capital. There is no assurance as to theapproach we will employ to achieve these objectives or whether we will be successful.

Explanation of Reporting Metrics

Interest Income. Interest income represents interest earned on loans, investment securities, other invest-ments, cash and cash equivalents, and collateral management fees as well as amortization of loan origination fees,net of the direct costs of origination and the amortization of purchase discounts and premiums, which are amortizedinto income using the interest method. Although the majority of our loans charge interest at variable rates that adjustperiodically, we also have loans charging interest at fixed rates.

Interest Expense. Interest expense is the amount paid on deposits and borrowings, including the amortizationof deferred financing fees and debt discounts. Interest expense includes borrowing costs associated with creditfacilities, term debt, convertible debt, subordinated debt, FHLB SF borrowings and interest paid to depositors. Our

50

2014 Senior Secured Notes, convertible debt and certain series of our subordinated debt bear a fixed rate of interest.Deferred financing fees, debt discounts and the costs of issuing debt, such as commitment fees and legal fees, areamortized over the estimated life of the borrowing. Loan prepayments that trigger mandatory or optional debtrepayments and repurchases may materially affect interest expense on our term debt since in the period ofprepayment the amortization of deferred financing fees and debt acquisition costs is accelerated.

Provision for Loan Losses. The provision for loan losses is the periodic cost of maintaining an appropriateallowance for loan and lease losses inherent in our portfolio. As the size and mix of loans within these portfolios change,or if the credit quality of the portfolios change, we record a provision to appropriately adjust the allowance for loan losses.

Operating Expenses. Operating expenses include compensation and benefits, professional fees, travel, rent,insurance, depreciation and amortization, marketing and other general and administrative expenses, includingdeposit insurance premiums.

Other Income/Expense. Other income (expense) consists of gains (losses) on the sale of loans, gains (losses)on the sale of debt and equity investments, dividends, unrealized appreciation (depreciation) on certain investments,other-than-temporary impairment on investment securities, available for sale, gains (losses) on derivatives, duediligence deposits forfeited, unrealized appreciation (depreciation) of our equity interests in certain non-consol-idated entities, servicing income, income from our management of various loans held by third parties, gains (losses)on debt extinguishment at the Parent Company, net expense of real estate owned and other foreclosed assets, andother miscellaneous fees and expenses.

Income Taxes. We provide for income taxes as a “C” corporation on income earned from operations. For thetax year ended December 31, 2010, our subsidiaries were not able to participate in the filing of a consolidatedfederal tax return. We intend to reconsolidate our subsidiaries beginning in 2011 for federal tax purposes. We aresubject to federal, foreign, state and local taxation in various jurisdictions.

We account for income taxes under the asset and liability method. Under this method, deferred tax assets andliabilities are recognized for future tax consequences attributable to differences between the consolidated financialstatement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets andliabilities are measured using enacted tax rates for the periods in which the differences are expected to reverse. The effecton deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the change.

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

In 2009, we established a valuation allowance against a substantial portion of our net deferred tax assets forsubsidiaries where we determined that there was significant negative evidence with respect to our ability to realize suchassets. Negative evidence we considered in making this determination included the incurrence of operating losses atseveral of our subsidiaries, and uncertainty regarding the realization of a portion of the deferred tax assets at future pointsin time. As of March 31, 2011 and December 31, 2010, the total valuation allowance was $456.5 million and$413.8 million, respectively. Although realization is not assured, we believe it is more likely than not that the net deferredtax assets of $63.0 million as of March 31, 2011 will be realized. We intend to maintain a valuation allowance withrespect to our deferred tax assets until sufficient positive evidence exists to support its reduction or reversal.

Operating Results for the Three Months Ended March 31, 2011

As further described below, the most significant factors influencing our consolidated results of operations forthe three months ended March 31, 2011, compared to the three months ended March 31, 2010 were:

• Decreased provision for loan losses;

• Deconsolidation of the 2006-A term debt securitization (the “2006-A Trust”);

51

• Decreased balance of Parent Company indebtedness;

• Decreased balance of our loan portfolio;

• Gains on our investments;

• Decreased operating expenses;

• Decreased net expense of real estate owned and other foreclosed assets;

• Changes in lending and borrowing spreads;

• Divestiture of our Healthcare Net Lease segment in 2010; and

• Decreased income tax expense.

Our consolidated operating results for the three months ended March 31, 2011 compared to the three monthsended March 31, 2010, were as follows:

2011 2010 % Change


($ in thousands)

Interest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $142,152 $ 171,414 (17)

Interest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46,752 65,001 28

Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44,809 218,940 80

Operating expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54,261 63,205 14

Other income (expense) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17,991 (22,275) 181

Net income (loss) from continuing operations before income taxes . . . . . 14,321 (198,007) 107

Income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,162 21,006 47

Net income (loss) from continuing operations . . . . . . . . . . . . . . . . . . . . . 3,159 (219,013) 101

Net income from discontinued operations, net of taxes . . . . . . . . . . . . . . — 7,323 (100)

Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,159 (211,690) 101

Our consolidated yields on interest-earning assets and the costs of interest-bearing liabilities for the threemonths ended March 31, 2011 and 2010 were as follows:

WeightedAverageBalance

NetInterestIncome

AverageYield/Cost


NetInterestIncome

AverageYield/Cost

2011 2010Three Months Ended March 31,

($ in thousands)

Total interest-earning assets(1) . . . . . . . . $8,290,663 $142,152 6.95% $10,876,004 $171,414 6.39%

Total interest-bearing liabilities(2) . . . . . . 6,948,800 46,752 2.73 9,067,149 65,001 2.91

Net interest spread . . . . . . . . . . . . . . . . . $ 95,400 4.22% $106,413 3.48%

Net interest margin . . . . . . . . . . . . . . . . . 4.67% 3.97%

(1) Interest-earning assets include cash and cash equivalents, restricted cash, marketable securities, mortgage-related receivables, loans, the “A” Participation Interest and investments in debt securities.

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

Operating Expenses

During three months ended March 31, 2011, consolidated operating expenses decreased by $8.9 million fromthe three months ended March 31, 2010. The decrease was primarily due to a $3.8 million decrease in compensation

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and benefits, a $3.2 million decrease in professional fees, and a $2.0 million decrease in other administrativeexpenses.

Income Taxes

Consolidated income tax expense for the three months ended March 31, 2011 was $11.2 million, compared toan income tax expense of $21.0 million for the three months ended March 31, 2010. The change in income taxexpense was primarily the result of a reduction in the amount of valuation allowance recorded in the respectivequarters. The valuation allowance recorded for the three months ended March 31, 2011 was in connection with ourplan to reconsolidate our corporate entities for federal tax purposes in 2011.

Comparison of the Three Months Ended March 31, 2011 and 2010

CapitalSource Bank Segment

Our CapitalSource Bank segment operating results for the three months ended March 31, 2011, compared tothe three months ended March 31, 2010, were as follows:

2011 2010 % Change


($ in thousands)

Interest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $91,804 $ 81,454 13

Interest expense. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15,210 17,301 12

Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,242 87,704 87

Operating expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32,941 24,335 (35)

Other income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,965 8,159 (64)

Income tax expense (benefit) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,095 (56) 5,627

Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32,281 (39,671) 181

Interest Income

Three months ended March 31, 2011 and 2010

Total interest income increased to $91.8 million for the three months ended March 31, 2011 from $81.5 millionfor the three months ended March 31, 2010, with an average yield on interest-earning assets of 6.51% for the threemonths ended March 31, 2011 compared to 5.98% for the three months ended March 31, 2010. During the threemonths ended March 31, 2011 and 2010, interest income on loans was $76.8 million and $58.8 million, respectively,yielding 8.22% and 7.84% on average loan balances of $3.8 billion and $3.0 billion, respectively. During the threemonths ended March 31, 2011 and 2010, $5.1 million and $6.3 million, respectively, of interest income was notrecognized for loans on non-accrual status, which negatively impacted the yield on loans by 0.54% and 0.84%,respectively.

The “A” Participation Interest, representing our share of a pool of commercial real estate loans and relatedassets, was paid off during the fourth quarter of 2010. Interest income on the “A” Participation Interest was$7.8 million during the three months ended March 31, 2010, yielding 7.15% on an average balance of $442.8 mil-lion. The “A” Participation Interest was purchased at a discount and had a stated coupon equal to one-month LIBORplus 1.50%. The unamortized discount was accreted into income using the interest method. During the three monthsended March 31, 2010, we accreted $5.9 million of discount into interest income on loans in our consolidatedstatements of operations.

During the three months ended March 31, 2011 and 2010, interest income from our investments, includingavailable-for-sale and held-to-maturity securities, was $14.7 million and $14.3 million, respectively, yielding3.74% and 4.41% on an average balance of $1.6 billion and $1.3 billion, respectively. During the three monthsended March 31, 2011, we purchased $226.3 million of investment securities, available-for-sale, while $336.1 mil-lion and $10.3 million of principal repayments were received from our investment securities, available-for-sale andheld-to-maturity, respectively. For the three months ended March 31, 2010, we purchased $814.2 million of

53

investment securities, available-for-sale while $213.9 million and $27.6 million of principal repayments werereceived from our investment securities, available-for-sale and held-to-maturity, respectively.

During the three months ended March 31, 2011 and 2010, interest income on cash and cash equivalents was$0.2 million and $0.5 million, respectively, yielding 0.29% and 0.31% on average balances of $314.9 million and$705.3 million, respectively.

Interest Expense


Total interest expense decreased to $15.2 million for the three months ended March 31, 2011 from$17.3 million for the three months ended March 31, 2010. The decrease was primarily due to a decline in theaverage cost of interest-bearing liabilities which was 1.22% and 1.47% during the three months ended March 31,2011 and 2010, respectively. Our average balances of interest-bearing liabilities, consisting of deposits andborrowings, were $5.0 billion and $4.8 billion during the three months ended March 31, 2011 and 2010,respectively. Our interest expense on deposits for the three months ended March 31, 2011 and 2010 was$13.4 million and $16.4 million, respectively, with an average cost of deposits of 1.16% and 1.45%, respectively,on average balances of $4.7 billion and $4.6 billion, respectively. During the three months ended March 31, 2011,$1.0 billion of our time deposits matured with a weighted average interest rate of 1.09% and $1.2 million of new andrenewed time deposits were issued at a weighted average interest rate of 0.97%. During the three months endedMarch 31, 2010, $1.4 billion of our time deposits matured with a weighted average interest rate of 1.69% and$1.3 billion of new and renewed time deposits were issued at a weighted average interest rate of 1.28%.Additionally, during the three months ended March 31, 2011, our weighted average interest rate of our liquidaccount deposits, savings and money market accounts, increased from 0.83% at the beginning of the quarter to0.84% at the end of the quarter. During the three months ended March 31, 2011, our interest expense on borrowings,consisting of FHLB SF borrowings, was $1.8 million with an average cost of 1.98% on an average balance of$373.3 million. During the three months ended March 31, 2011, there were $59.0 million in advances taken and$71.0 million of maturities, including $62.0 million of short-term advances. During the three months endedMarch 31, 2010, our interest expense on borrowings was $0.9 million with an average cost of 1.84% on an averagebalance of $208.3 million. During the three months ended March 31, 2010, there were $35.0 million of advancestaken and $10.0 million of maturities.

Net Interest Margin


The yields of income earning assets and the costs of interest-bearing liabilities in this segment for the threemonths ended March 31, 2011 and 2010 were as follows:


NetInterestIncome

AverageYield/Cost


NetInterestIncome

AverageYield/Cost


($ in thousands)

Total interest-earning assets(1) . . . . . . . . . . . $5,723,305 $91,804 6.51% $5,524,348 $81,454 5.98%

Total interest-bearing liabilities(2) . . . . . . . . 5,047,030 15,210 1.22 4,772,299 17,301 1.47

Net interest spread . . . . . . . . . . . . . . . . . . . . $76,594 5.29% $64,153 4.51%

Net interest margin . . . . . . . . . . . . . . . . . . . 5.43% 4.71%

(1) Interest-earning assets include cash and cash equivalents, investments, the commercial real estate “A”Participation Interest and loans.

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

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Provision for Loan Losses

Our provision for loan losses is based on our evaluation of the adequacy of the existing allowance for loanlosses in relation to total loan portfolio and our periodic assessment of the inherent risks relating to the loan portfolioresulting from our review of selected individual loans. For details of activity in our provision for loan losses, see theCredit Quality and Allowance for Loan Losses section.

Operating Expenses


Operating expenses increased to $32.9 million for the three months ended March 31, 2011 from $24.3 millionfor the three months ended March 31, 2010. The increase was primarily due to an increase in loan referral feesdriven by an increase in new loans funded by CapitalSource Bank.

CapitalSource Bank relies on the Parent Company to refer loans, provide loan origination due diligenceservices and perform certain underwriting services. For these services, CapitalSource Bank pays the ParentCompany fees based upon the commitment amount of each new loan funded by CapitalSource Bank during theperiod. These fees are eliminated in consolidation. The fees are included in other operating expenses and were$13.5 million and $4.9 million for the three months ended March 31, 2011 and 2010, respectively.

CapitalSource Bank subleases from the Parent Company office space in several locations and also leases spaceto the Parent Company in other facilities in which CapitalSource Bank is the primary lessee.

Other Income

CapitalSource Bank services loans and other assets which are owned by the Parent Company and third parties,for which it receives fees based on the number of loans or other assets serviced. Loans being serviced byCapitalSource Bank for the benefit of others were $4.2 billion and $4.7 billion as of March 31, 2011 andDecember 31, 2010, respectively, of which $2.1 billion and $2.5 billion were owned by the Parent Company.


Other income decreased to $3.0 million for the three months ended March 31, 2011 from $8.2 million for thethree months ended March 31, 2010 primarily due to a $4.5 million loss on the sale of unfunded commitmentsduring the three months ended March 31, 2011 compared to no such loss recorded in the three months endedMarch 31, 2010. In addition, we recorded $2.9 million in net expense of real estate owned and other foreclosedassets during the three months ended March 31, 2011 compared to no such expenses recorded during the threemonths ended March 31, 2010. Loan servicing fees paid by the Parent Company to CapitalSource Bank decreasedby $1.1 million as a result of the sale of our direct real estate investments during 2010 and a decrease in the ParentCompany’s loan portfolio. These factors were partially offset by realized gains on sales of investments of$1.2 million and an increase in borrower loan fees of $1.1 million.

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Other Commercial Finance Segment

Our Other Commercial Finance segment operating results for the three months ended March 31, 2011,compared to the three months ended March 31, 2010, were as follows:

2011 2010 % Change


($ in thousands)

Interest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 47,614 $ 92,333 (48)%

Interest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31,542 47,700 34

Provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33,567 131,236 74

Operating expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41,326 50,507 18

Other income (expense) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32,354 (18,978) 270

Income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8,067 21,062 62

Net loss from continuing operations . . . . . . . . . . . . . . . . . . . . . (34,534) (177,150) 81

Interest Income


Interest income decreased to $47.6 million for the three months ended March 31, 2011 from $92.3 million forthe three months ended March 31, 2010, primarily due to a decrease in average total interest-earning assets. Duringthe three months ended March 31, 2011, our average balance of interest-earning assets decreased by $2.8 billion, or52.3%, compared to the three months ended March 31, 2010, due to the deconsolidation of the 2006-ATrust in 2010and the runoff of Parent Company loans. During the three months ended March 31, 2011, yield on average interest-earning assets increased to 7.53% from 6.97% for the three months ended March 31, 2010. During the three monthsended March 31, 2011, our lending spread to average one-month LIBOR was 7.38% compared to 7.14% for thethree months ended March 31, 2010. Fluctuations in yields are driven by a number of factors, including changes inshort-term interest rates such as changes in the prime rate or one-month LIBOR, the coupon on loans that pay downor pay off, non-accrual loans and modifications of interest rates on existing loans.

Interest Expense


Interest expense decreased to $31.5 million for the three months ended March 31, 2011 from $47.7 million forthe three months ended March 31, 2010 primarily due to a decrease in average interest-bearing liabilities of$2.4 billion, or 55.9%, primarily due to the impact of the deconsolidation of the 2006-A Trust in July 2010 and thereduction of the outstanding balances on our credit facilities and other term debt. Our cost of borrowings increasedto 6.73% for the three months ended March 31, 2011 from 4.48% for the three months ended March 31, 2010, as aresult of the reduction and termination of certain of our credit facilities, the deconsolidation of the 2006-ATrust anddecreases in our remaining securitization balances, all of which generally had lower borrowing costs than theremainder of our borrowings.

Net Interest Margin


Net interest margin was 2.54% for the three months ended March 31, 2011, a decrease of 0.83% from 3.37%for the three months ended March 31, 2010. Net interest spread was 0.80% for the three months ended March 31,2011, a decrease of 1.69% from 2.49% for the three months ended March 31, 2010. The decreases in net interestmargin and net interest spread were primarily due to the increase in our cost of borrowings.

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The yields of income earning assets and the costs of interest-bearing liabilities in this segment for the threemonths ended March 31, 2011 and 2010 were as follows:


NetInterestIncome

AverageYield/Cost


NetInterestIncome

AverageYield/Cost


($ in thousands)

Total interest-earning assets(1) . . . . . . . . . . . $2,565,261 $47,614 7.53% $5,372,395 $92,333 6.97%

Total interest-bearing liabilities(2) . . . . . . . . 1,901,770 31,542 6.73 4,315,838 47,700 4.48

Net interest spread . . . . . . . . . . . . . . . . . . . . $16,072 0.80% $44,633 2.49%

Net interest margin . . . . . . . . . . . . . . . . . . . 2.54% 3.37%

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

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

Provision for Loan Losses

Our provision for loan losses is based on our evaluation of the adequacy of the existing allowance for loanlosses in relation to total loan portfolio and our periodic assessment of the inherent risks relating to the loan portfolioresulting from our review of selected individual loans. For details of activity in our provision for loan losses, seeCredit Quality and Allowance for Loan Losses section.

Operating Expenses


Operating expenses decreased to $41.3 million for the three months ended March 31, 2011 from $50.5 millionfor the three months ended March 31, 2010, primarily due to a $3.6 million decrease in compensation and benefits, a$3.0 million decrease in professional fees and a $1.7 million decrease in administrative expenses. Operatingexpenses as a percentage of average total assets increased to 5.04% for the three months ended March 31, 2011 from3.54% for the three months ended March 31, 2010 due to the decrease in total assets as a result of thedeconsolidation of the 2006-A Trust and the runoff of Parent Company loans.

Other Income (Expense)


Other income was $32.4 million for the three months ended March 31, 2011 compared to $19.0 million of otherexpense for the three months ended March 31, 2010. This change was primarily due to gains on investments,decreases in losses on derivatives, and a decrease in net expense of real estate owned and other foreclosed assets,partially offset by increases in foreign currency exchange losses. Further explanation of the increase is describedbelow.

Gains on investments, net increased to $22.3 million for the three months ended March 31, 2011 from$6.1 million for the three months ended March 31, 2010. The increase was primarily due to a $16.9 million increasein realized gains on the sales of available-for-sale securities and cost basis investments and a $1.8 million decreasein unrealized losses on equity investments, partially offset by a $1.3 million decrease in dividends received and a$1.2 million increase in impairments of available-for-sale securities.

Loss on derivatives decreased to $1.4 million for the three months ended March 31, 2011 from $3.6 million forthe three months ended March 31, 2010 primarily due to a decrease in interest expense on interest rate swaps.

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Net expense of real estate owned and other foreclosed assets decreased to $7.3 million for the three monthsended March 31, 2011 from $40.5 million for the three months ended March 31, 2010. The decrease was primarilydue to a $15.5 million decrease in unrealized losses on real estate owned, a $7.4 million decrease in the provision forloans acquired through foreclosure, a $3.6 million decrease in operating expenses related to real estate owned, and$2.9 million in realized gains on the sales of real estate owned. In addition, we did not recognize any impairmentlosses on real estate owned during the three months ended March 31, 2011 compared to $4.6 million of suchimpairment losses recognized during the three months ended March 31, 2010.

Other income, net decreased to $18.7 million for the three months ended March 31, 2011 from $19.0 millionfor the three months ended March 31, 2010. The decrease was primarily due to $1.8 million in foreign currencyexchange losses for the three months ended March 31, 2011, compared to $7.6 million in foreign currency exchangegains for the three months ended March 31, 2010, and a $1.2 million decrease in earnings in equity of subsidiaries.These factors were partially offset by an increase of $9.4 million in servicing and referral fees.

Financial Condition


As of March 31, 2011 and December 31, 2010, the CapitalSource Bank segment included:

March 31,2011

December 31,2010

($ in thousands)

Assets:Cash and cash equivalents(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 440,928 $ 377,054

Investment securities, available-for-sale . . . . . . . . . . . . . . . . . . . . . . . . . 1,348,771 1,510,384

Investment securities, held-to-maturity . . . . . . . . . . . . . . . . . . . . . . . . . . 179,077 184,473

Loans(2) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4,012,819 3,848,511

FHLB SF stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19,370 19,370

Total. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $6,000,965 $5,939,792

Liabilities:Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $4,708,349 $4,621,273

FHLB SF borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 400,000 412,000

Total. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $5,108,349 $5,033,273

(1) As of March 31, 2011 and December 31, 2010, the amounts include restricted cash of $12.8 million and$23.5 million, respectively.

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

Cash and Cash Equivalents

Cash and cash equivalents consist of amounts due from banks, U.S. Treasury securities, short-term investmentsand commercial paper with an initial maturity of three months or less. For additional information, see Note 4, Cashand Cash Equivalents and Restricted Cash, in our consolidated financial statements for the three months endedMarch 31, 2011.


Investment securities, available-for-sale, consists of discount notes issued by Fannie Mae, Freddie Mac and theFHLB (“Agency discount notes”), callable notes issued by Fannie Mae, Freddie Mac, the FHLB and Federal FarmCredit Bank (“Agency callable notes”), bonds issued by the FHLB (“Agency debt”), residential mortgage-backedsecurities issued and guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae (“Agency MBS”), asset-backed

58

securities, residential mortgage-backed securities rated AAA issued by non-government-agencies (“Non-agencyMBS”), corporate debt securities and U.S. Treasury and agency securities. CapitalSource Bank pledged asignificant portion of its investment securities, available-for-sale, to the Federal Home Loan Bank of San Francisco(“FHLB SF”) and the Federal Reserve Bank (“FRB”) as a source of borrowing capacity as of March 31, 2011. Foradditional information, see Note 6, Investments, in our consolidated financial statements for the three months endedMarch 31, 2011.


Investment securities, held-to-maturity, consists of AAA-rated commercial mortgage-backed securities. Foradditional information on our investment securities, held-to-maturity, see Note 6, Investments, in our accompanyingconsolidated financial statements for the three months ended March 31, 2011.

Loan Portfolio Composition

The CapitalSource Bank loan balances reflected in the portfolio statistics below include loans held for sale of$14.2 million as of December 31, 2010. There were no loans held for sale by CapitalSource Bank as of March 31,2011.

As of March 31, 2011 and December 31, 2010, the composition of the CapitalSource Bank loan portfolio byloan type was as follows:


Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,041,356 51% $2,029,407 53%

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,807,997 45 1,634,062 42

Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . 163,466 4 185,042 5

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $4,012,819 100% $3,848,511 100%


As of March 31, 2011, the scheduled maturities of the CapitalSource Bank loan portfolio by loan type were asfollows:

Due inOne Yearor Less

Due inOne to

Five YearsDue AfterFive Years Total

($ in thousands)

Commercial . . . . . . . . . . . . . . . . . . . . . . . . . $168,951 $1,618,701 $ 253,704 $2,041,356

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . 224,222 843,045 740,730 1,807,997

Real estate — construction . . . . . . . . . . . . . . 131,348 26,127 5,991 163,466

Total loans(1) . . . . . . . . . . . . . . . . . . . . . . . . $524,521 $2,487,873 $1,000,425 $4,012,819


As of March 31, 2011, approximately 75% of the CapitalSource Bank adjustable rate portfolio is subject to aninterest rate floor and is accruing interest. Due to low market interest rates as of March 31, 2011, substantially allloans with interest rate floors were bearing interest at such floors. The weighted average spread between the floorrate and the fully indexed rate on the loans was 1.87% as of March 31, 2011. To the extent the underlying indicessubsequently increase, CapitalSource Bank’s interest yield on this portfolio will not rise as quickly due to the effectof the interest rate floors.

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As of March 31, 2011, the composition of CapitalSource Bank loan balances by adjustable rate index and byloan type was as follows:

Commercial Real EstateReal Estate —Construction Total Percentage

Loan Type

($ in thousands)

1-Month LIBOR . . . . . . . . . . . . . . . . . $ 577,715 $ 900,613 $ 46,151 $1,524,479 38%

2-Month LIBOR . . . . . . . . . . . . . . . . . 21,971 — — 21,971 1

3-Month LIBOR . . . . . . . . . . . . . . . . . 484,827 27,654 470 512,951 13

6-Month LIBOR . . . . . . . . . . . . . . . . . 46,091 87,616 — 133,707 3

Prime . . . . . . . . . . . . . . . . . . . . . . . . . 497,542 94,597 5,991 598,130 15

Other . . . . . . . . . . . . . . . . . . . . . . . . . . 67,096 54,935 — 122,031 3

Total adjustable rate loans . . . . . . . . . . 1,695,242 1,165,415 52,612 2,913,269 73

Fixed rate loans . . . . . . . . . . . . . . . . . . 325,911 599,045 — 924,956 23

Loans on non-accrual status . . . . . . . . . 20,203 43,537 110,854 174,594 4

Total loans(1) . . . . . . . . . . . . . . . . . . . $2,041,356 $1,807,997 $163,466 $4,012,819 100%


FHLB SF Stock

Investments in FHLB SF stock are recorded at historical cost. FHLB SF stock does not have a readilydeterminable fair value, but can generally be sold back to the FHLB SF at par value upon stated notice. Theinvestment in FHLB SF stock is periodically evaluated for impairment based on, among other things, the capitaladequacy of the FHLB and its overall financial condition. No impairment losses have been recorded throughMarch 31, 2011.

Deposits

As of March 31, 2011 and December 31, 2010, a summary of CapitalSource Bank’s deposits by product typeand the maturities of the certificates of deposit were as follows:

Balance

WeightedAverage

Rate Balance

WeightedAverage

Rate


($ in thousands)

Interest-bearing deposits:

Money market . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 236,649 0.79% $ 236,811 0.78%

Savings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 726,481 0.85 694,157 0.84

Certificates of deposit . . . . . . . . . . . . . . . . . . . . . 3,745,219 1.23 3,690,305 1.27

Total interest-bearing deposits . . . . . . . . . . . . . . . $4,708,349 1.15 $4,621,273 1.18

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Balance

WeightedAverage

Rate

March 31, 2011

($ in thousands)

Remaining maturity of certificates of deposit:

0 to 3 months . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,004,477 1.05%

4 to 6 months . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 737,448 1.05

7 to 9 months . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 632,683 1.23

10 to 12 months . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 705,161 1.35

Greater than 12 months . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 665,450 1.59

Total certificates of deposit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3,745,219 1.23

FHLB SF Borrowings

FHLB SF borrowings decreased to $400.0 million as of March 31, 2011 from $412.0 million as ofDecember 31, 2010. These borrowings were used primarily for interest rate risk management and short-termfunding purposes. The weighted-average remaining maturities of the borrowings were approximately 2.9 years and2.3 years as of March 31, 2011 and December 31, 2010, respectively.

As of March 31, 2011, the remaining maturity and the weighted average interest rate of FHLB SF borrowingswere as follows:

Balance

WeightedAverage

Rate($ in thousands)

Less than 1 year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 88,000 1.63%

After 1 year through 2 years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63,000 1.98

After 2 years through 3 years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45,000 1.77



After 5 years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15,000 2.88

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $400,000 2.01%


As of March 31, 2011 and December 31, 2010, the Other Commercial Finance segment included:


Assets:Investment securities, available-for-sale . . . . . . . . . . . . . . . . . . . . $ 21,582 $ 12,527

Loans(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,072,904 2,509,699

Other investments(2) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67,906 71,877

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,162,392 $2,594,103


(2) Includes investments carried at cost, investments carried at fair value and investments accounted for under theequity method.

61


Investment securities, available-for-sale consist of corporate debt, equity securities, a municipal bond and ourinterests in the 2006-A Trust.

Other Investments

The Parent Company has made investments in some of our borrowers in connection with the loans provided tothem. These investments usually include equity interests such as common stock, preferred stock, limited liabilitycompany interests, limited partnership interests and warrants.

Loan Portfolio Composition

The Other Commercial Finance loan balances reflected in the portfolio statistics below include loans held forsale of $18.0 million and $191.1 million as of March 31, 2011 and December 31, 2010, respectively.

As of March 31, 2011 and December 31, 2010, the composition of the Other Commercial Finance loanportfolio by loan type was as follows:


Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,785,882 86% $2,209,064 88%Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 181,969 9 192,096 8

Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . 105,053 5 108,539 4

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,072,904 100% $2,509,699 100%


As of March 31, 2011, the scheduled maturities of the Other Commercial Finance loan portfolio by loan typewere as follows:

Due inOne Yearor Less

Due inOne to

Five YearsDue AfterFive Years Total

($ in thousands)

Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . $517,252 $1,210,234 $58,396 $1,785,882

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74,612 98,312 9,045 181,969

Real estate — construction . . . . . . . . . . . . . . . . 65,002 40,051 — 105,053

Total(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $656,866 $1,348,597 $67,441 $2,072,904


As of March 31, 2011, approximately 54% of the adjustable rate loan portfolio comprised loans that are subjectto an interest rate floor and were accruing interest. Due to low market interest rates as of March 31, 2011,substantially all loans with interest rate floors were bearing interest at such floors. The weighted average spreadbetween the floor rate and the fully indexed rate on the loans was 2.10% as of March 31, 2011. To the extent theunderlying indices subsequently increase, the interest yield on these adjustable rate loans will not rise as quickly dueto the effect of the interest rate floors.

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As of March 31, 2011, the composition of Other Commercial Finance loan balances by adjustable rate indexand by loan type was as follows:

Commercial Real EstateReal Estate—Construction Total Percentage

Loan Type

($ in thousands)

1-Month LIBOR . . . . . . . . . . . . . . . . . . . $ 756,931 $ 91,983 $ — $ 848,914 41%

2-Month LIBOR . . . . . . . . . . . . . . . . . . . 46,827 — — 46,827 2

3-Month LIBOR . . . . . . . . . . . . . . . . . . . 215,758 — — 215,758 10

6-Month LIBOR . . . . . . . . . . . . . . . . . . . 34,631 — — 34,631 2

1-Month EURIBOR . . . . . . . . . . . . . . . . 33,787 — — 33,787 2

Prime . . . . . . . . . . . . . . . . . . . . . . . . . . . 395,162 8,097 38,570 441,829 21

Total adjustable rate loans . . . . . . . . . . . . 1,483,096 100,080 38,570 1,621,746 78

Fixed rate loans . . . . . . . . . . . . . . . . . . . 50,699 25,687 — 76,386 4

Loans on non-accrual status . . . . . . . . . . 252,087 56,202 66,483 374,772 18

Total loans(1) . . . . . . . . . . . . . . . . . . . . . $1,785,882 $181,969 $105,053 $2,072,904 100%


On April 1, 2011, our largest commercial loan, with an outstanding balance of $325 million, was fully paid off.As of March 31, 2011, this loan was earning interest based on a rate of 1-month LIBOR and was due in 3.5 years.The balance of this loan is included in the outstanding balance of loans as of March 31, 2011 detailed above.

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Credit Quality and Allowance for Loan Losses

Consolidated

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

March 31,2011

December 31,2010

($ in thousands)

Non-accrual loansCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $272,291 $366,417

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 99,739 131,758

Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 177,337 200,611

Total loans on non-accrual . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $549,367 $698,786

Accruing loans contractually past-due 90 days or moreCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,264 $ 3,244

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,238 6,238


Total accruing loans contractually past-due 90 days or more . . . . . . . . . . . $ 47,071 $ 49,288

Troubled debt restructurings(1)Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $115,427 $118,988

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 102,343 35,689

Total troubled debt restructurings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $217,770 $154,677

Total non-performing loansCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $389,982 $488,649

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 208,320 173,685


Total non-performing loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $814,208 $902,751

(1) Excludes non-accrual loans and accruing loans contractually past-due 90 days or more.

Potential problem loans are loans that are not considered non-performing loans, as disclosed above, but loanswhere management is aware of information regarding potential credit problems of a borrower that leads to seriousdoubts as to the ability of such borrowers to comply with the loan repayment terms. Such defaults could eventuallyresult in the loans being reclassified as non-performing loans. We had $83.0 million in potential problem loans as ofDecember 31, 2010, primarily related to an impaired loan that was restructured during the first quarter of 2011. Wehad no such potential problem loans as of March 31, 2011.

Of our non-accrual loans, $33.6 million were 30-89 days delinquent and $235.3 million were over 90 daysdelinquent as of March 31, 2011, and $22.4 million were 30-89 days delinquent and $270.5 million were over90 days delinquent as of December 31, 2010. Accruing loans 30-89 days delinquent were $13.0 million and$5.4 million as of March 31, 2011 and December 31, 2010, respectively.

Many of our real estate construction loans include an interest reserve that is established upon origination of theloan. We recognize interest income from the reserve during the construction period as long as the interest is deemedcollectible. As part of our ongoing credit review process, we monitor the construction of the underlying real estate todetermine whether the project is progressing as originally planned. If we determine that adverse changes haveoccurred such that full payment of principal and interest is no longer expected, we will place the loan on non-accrualstatus and establish a specific reserve or charge off a portion of the principal balance, as appropriate.

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

Our underwriting guidelines outline specific underwriting standards and minimum specific risk acceptancecriteria for each lending product offered, including the use of interest reserves. For additional information, seeCredit Risk Management section included in our Form 10-K for the year ended December 31, 2010.

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

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

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

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

Additionally, our risk rating policies require that the assignment of a risk rating should consider whether thecapitalization of interest may be masking other performance related issues. The adequacy of the interest reservegenerally is evaluated each time a risk rating conclusion is required or rendered with particular attention paid to theunderlying value of the collateral and its ongoing support of the transaction. Obtaining updated third-partyvaluations is considered when significant negative variances to expected performance exist. Generally, our policyon updating appraisals is to obtain current appraisals subsequent to the impairment date if there are significantchanges to the underlying assumptions from the most recent appraisal. Some factors that could cause significantchanges include the passage of more than twelve months since the time of the last appraisal; the volatility of thelocal market; the availability of financing; the inventory of competing properties; new improvements to, or lack ofmaintenance of, the subject property or competing surrounding properties; a change in zoning; environmentalcontamination; or failure of the project to meet material assumptions of the original appraisal. We generallyconsider appraisals to be current if they are dated within the past twelve months. However, we may obtain anupdated appraisal on a more frequent basis if in our determination there are significant changes to the underlyingassumptions from the most recent appraisal. As of March 31, 2011, $92.7 million of our collateral dependent loanshad an appraisal older than twelve months. The fair value of the collateral for these loans was determined throughinputs outside of appraisals, including actual and comparable sales transactions, broker price opinions and otherrelevant data.

Five of the 25 loans that comprise our real estate construction portfolio as of March 31, 2011 have beenextended, renewed or restructured since origination. These modifications have occurred for various reasonsincluding, but not limited to, changes in business plans, work-out efforts that were best achieved via a restructuringor discounted payoff.

In considering the performing status of a real estate construction loan, the current payment of interest, whetherin cash or through an interest reserve, is only one of the factors used in our analysis. Our impairment analysisgenerally considers the loan’s maturity, the likelihood of a restructuring of the loan and if that restructuringconstitutes a troubled debt restructuring, whether the borrower is current on interest and principal payments, thecondition of underlying assets and the ability of the borrower to refinance the loan at market terms. Although aninterest reserve may mitigate a delinquency that could cause impairment, other issues with the loan or borrower maylead to an impairment determination. Impairment is then measured based on a fair market or discounted cash flow

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value to assess the current value of the loan relative to the principal balance. If the valuation analysis indicates thatrepayment in full is doubtful, the loan will be placed on non-accrual status and designated as non-performing.

Interest income recognized on the real estate construction loan portfolio was $1.8 million and $9.6 million forthe three months ended March 31, 2011 and March 31, 2010, respectively. Cumulative capitalized interest on realestate construction loans in our portfolio as of March 31, 2011 and December 31, 2010 was $83.9 million and$86.4 million, respectively. As of March 31, 2011 and December 31, 2010, $215.9 million, or 80.4%, and$240.4 million, or 81.9%, respectively, of the total real estate construction loan portfolio was non-performing.

The decrease in the non-performing loan balance from December 31, 2010 to March 31, 2011 is primarily dueto payoffs, charge offs, sales, and foreclosures on those loans, and a decrease in the number of loans that becamenon-performing during 2010.

The activity in the allowance for loan losses for the three months ended March 31, 2011 and March 31, 2010was as follows:

2011 2010


($ in thousands)

Balance as of beginning of period. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $329,122 $ 586,696

Charge offs:

Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (80,730) (35,147)

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,843) (36,923)

Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (11,889) (39,192)

Total charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (96,462) (111,262)

Recoveries:

Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,105 —

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,391 —

Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 917 6

Total recoveries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13,413 6

Net charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (83,049) (111,256)

Charge offs upon transfer to held for sale . . . . . . . . . . . . . . . . . . . . . . . . . . (7,608) (8,187)

Provision for loan losses:

General . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (28,066) 24,281

Specific . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 72,875 194,659

Total provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44,809 218,940

Balance as of end of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $283,274 $ 686,193

Allowance for loan losses ratio . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.65% 8.58%

Provision for loan losses ratio (annualized) . . . . . . . . . . . . . . . . . . . . . . . . . 2.99% 11.10%

Net charge offs as a percentage of average loans outstanding (annualized) . . 5.90% 5.87%

Our allowance for loan losses decreased by $45.8 million to $283.3 million as of March 31, 2011 from$329.1 million as of December 31, 2010. This decrease comprised a $28.1 million decrease in general reserves and a$17.7 million decrease in specific reserves on impaired loans as further described below.

The decrease in the general reserves was primarily due to a shift in the loan mix reflecting a decrease in non-impaired loans in categories with the greatest historical loss experience, lowered estimated losses to reflect that anincreased percentage of our non-impaired loan portfolio has been originated in recent years where the credit outcomeis expected to be more favorable, and a reduction in the amount of unpaid principal balance of non-impaired loans due

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to loan payoffs, principal payments and loan sales. As of March 31, 2011, the unpaid principal balance of non-impaired loans had decreased to $5.3 billion and the general reserves allocated to that portfolio had decreased to$222.1 million, representing an effective reserve percentage of 4.2%. As of December 31, 2010, the unpaid principalbalance of non-impaired loans was $5.4 billion and the general reserves allocated to that portfolio were $250.2 million,representing an effective reserve percentage of 4.6%. The lower effective reserve percentage reflects the lowerhistorical losses generally experienced by the non-impaired loans remaining in our portfolio as of March 31, 2011.

The decrease in specific reserves for the three months ended March 31, 2011 was related to new specific reservesof $86.4 million, which were offset by recoveries of $13.4 million and net charge-offs of $90.7 million taken duringthe period. The carrying values of our impaired loans reflect incurred losses that are inherent in our loan portfolio.

We employ a formal quarterly process to both identify impaired loans and record appropriate specific reservesbased on available collateral and other borrower-specific information. As of March 31, 2011, the unpaid principalbalance of impaired loans was $752.1 million with a specific allowance attributable to that portfolio of $61.2 million.Additionally, as of March 31, 2011, $267.3 million of the original legal balance of that portfolio had been previouslycharged off as collection was deemed remote for portions of these loans. The total prior charge offs and specificreserves as of March 31, 2011 of $328.4 million represented an expected total loss of 32% of the legal balance of$1.0 billion (the March 31, 2011 balance plus amounts previously charged off). As of December 31, 2010, the unpaidprincipal balance of impaired loans was $931.2 million with a specific allowance attributable to that portfolio of$79.0 million. Additionally, as of December 31, 2010, $463.1 million of the original legal balance of that portfolio hadbeen previously charged off as collection was deemed remote for portions of these loans. The total prior charge offsand specific reserves as of December 31, 2010 of $505.3 million represented an expected total loss of 37.2% of thelegal balance of $1.4 billion (the December 31, 2010 balance plus amounts previously charged off).


The outstanding unpaid principal balances of non-performing loans in the CapitalSource Bank loan portfolioas of March 31, 2011 and December 31, 2010 were as follows:

March 31,2011

December 31,2010

($ in thousands)

Non-accrual loansCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 20,203 $ 45,919Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43,537 70,438Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 110,854 131,940


Accruing loans contractually past-due 90 days or moreCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 186 $ 272

Total accruing loans contractually past-due 90 days or more . . . . . . . . . . . $ 186 $ 272

Troubled debt restructurings(1)Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $102,343 $ 35,689

Total troubled debt restructurings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $102,343 $ 35,689

Total non-performing loansCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 20,389 $ 46,191Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 145,880 106,127Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 110,854 131,940



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We had one $76.2 million potential problem loan as of December 31, 2010. We had no such potential problemloans as of March 31, 2011.

Of our non-accrual loans, $1.7 million and $3.9 million were 30-89 days delinquent, and $56.3 million and$69.8 million were over 90 days delinquent as of March 31, 2011 and December 31, 2010, respectively. Accruingloans 30-89 days delinquent were $3.6 million and $5.3 million as of March 31, 2011 and December 31, 2010,respectively.

The activity in the allowance for loan losses for the three months ended March 31, 2011 and 2010 was asfollows:

2011 2010


($ in thousands)

Balance as of beginning of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $124,878 $152,508

Charge offs:Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (50) (3,682)

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,727) (13,355)

Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (11,530) (857)

Total charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (15,307) (17,894)

Recoveries:Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — —

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,369 —Real estate — construction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 831 —

Total recoveries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12,200 —

Net charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,107) (17,894)

Charge offs upon transfer to held for sale . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (43) —


General . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7,217 20,568

Specific . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4,025 67,136

Total provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,242 87,704

Balance as of end of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $132,970 $222,318

Allowance for loan losses ratio. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3.31% 6.92%

Provision for loan losses ratio (annualized) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.14% 11.07%

Net charge offs as a percentage of average loans outstanding (annualized) . . . . . . . . . . 0.33% 2.31%

Our allowance for loan losses increased by $8.1 million to $133.0 million as of March 31, 2011 from$124.9 million as of December 31, 2010. This increase was comprised of a $7.2 million increase in general reservesand a $0.9 million increase in specific reserves on impaired loans.

The increase in general reserves was primarily due to an increase in non-impaired loans due to originations. Asof March 31, 2011, the unpaid principal balance of non-impaired loans had increased to $3.8 billion and the generalreserves allocated to that portfolio were $130.2 million, representing an effective reserve percentage of 3.5%. As ofDecember 31, 2010, the unpaid principal balance of non-impaired loans was $3.5 billion and the general reservesallocated to that portfolio were $123.0 million, representing an effective reserve percentage of 3.5%.

The increase in specific reserves for the three months ended March 31, 2011 was related to new specificreserves of $16.2 million, which were offset by recoveries of $12.2 million and net charge-offs of $3.1 million taken

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during the period. The carrying values of our impaired loans reflect incurred losses that are inherent in our loanportfolio.

Given our loss experience, we consider our higher-risk loans within the commercial real estate portfolio to beloans secured by collateral that have not reached stabilization. As of March 31, 2011 and December 31, 2010,commercial real estate loans that have not reached stabilization had an outstanding principal balance of$163.5 million and $178.8 million, respectively. This amount was net of cumulative charge offs taken on theseloans of $19.9 million and $21.0 million, respectively. There was no specific reserve allocated to these loans as ofMarch 31, 2011 and December 31, 2010.

During the three months ended March 31, 2011 and 2010, loans with an aggregate carrying value of$96.2 million and $54.9 million, respectively, as of their respective restructuring dates, were involved in troubleddebt restructurings (“TDRs”). Loans involved in these TDRs are assessed as impaired, generally for a period of atleast one year following the restructuring, assuming the loan performs under the restructured terms and therestructured terms were at market. The specific reserves allocated to loans that were involved in TDRs were$0.1 million as of March 31, 2011. There were no specific reserves allocated to loans that were involved in TDRs asof December 31, 2010.

During 2010, CapitalSource Bank restructured three commercial real estate loans into new loans using an“A note / B note” structure in which the B note component has been fully charged off. The contractual principalbalances of these three loans prior to the restructurings totaled $91.6 million. In connection with the restructurings,$8.8 million of debt was forgiven and charged off, and $4.9 million was collected as principal payments, leaving$59.9 million of A notes and $18.2 million of B notes. In March 2011, one of these A / B note arrangements withan aggregate carrying value of $21.1 million as of December 31, 2010 was repaid in full, including the previouslycharged off B note. As of March 31, 2011, the aggregate carrying value of the remaining two A notes was$35.6 million, and as of December 31, 2010, the aggregate carrying value of the three A notes was $56.5 million.The B notes had no aggregate carrying value as of March 31, 2011 and December 31, 2010. During the three monthsended March 31, 2011, one of the A notes that is a TDR with an aggregate carrying value of $23.5 million was nolonger classified as impaired as it performed in accordance with market-based restructured terms for twelveconsecutive months.

The workout strategy discussed above results in the A note equaling a balance the borrower can service and isunderwritten to a loan to value ratio based on the current collateral valuation. The A note may be assigned aninternal risk rating of pass based on the revised terms and management’s assessment of the borrower’s ability andintent to repay. The A note is structured at a market interest rate, and the A note debt service is typically covered bythe in-place property operations allowing it to be placed on accrual status. The reduced loan amount induces theborrower to continue to support the loan and maintain the collateral despite the observed reduction in the collateralvalue. The B note usually bears no interest or an interest rate significantly below the market rate. The A notecontains amortization provisions, and the B note requires amortization only after the full repayment of the A note.

Accrual status for each loan, including restructured A notes, is considered on a loan by loan basis. The newlyestablished principal balance of the A note is set at a level where the borrower is expected to keep the loan currentand where the underlying collateral value adequately supports the loan. The revised structure is intended to allowthe A loan to be placed on accrual status.

All loans that have undergone this A note / B note restructuring are considered TDRs. The A notes are deemedimpaired and remain so classified for at least one year from the date of the restructuring. After one year, the A notesare evaluated quarterly to determine if the loan performance has complied with the terms of the TDR such that theimpairment classification may be removed.

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The outstanding unpaid principal balances of non-performing loans in Other Commercial Finance loanportfolio as of March 31, 2011 and December 31, 2010 were as follows:

March 31,2011

December 31,2010

($ in thousands)

Non-accrual loansCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $252,088 $320,498

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56,202 61,320



Accruing loans contractually past-due 90 days or moreCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,078 $ 2,972

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,238 6,238


Total accruing loans contractually past-due 90 days or more . . . . . . . . . . . $ 46,885 $ 49,016

Troubled debt restructurings(1)Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $115,427 $118,988

Total troubled debt restructurings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $115,427 $118,988

Total non-performing loansCommercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $369,593 $442,458

Real estate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62,440 67,558




We had $6.8 million in potential problem loans as of December 31, 2010. We had no such potential problemloans as of March 31, 2011.

Of our non-accrual loans, $31.9 million and $18.5 million were 30-89 days delinquent, and $179.0 million and$200.7 million were over 90 days delinquent as of March 31, 2011 and December 31, 2010, respectively. Accruingloans 30-89 days delinquent were $9.4 million and $0.1 million as of March 31, 2011 and December 31, 2010,respectively.

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The activity in the allowance for loan losses for the three months ended March 31, 2011 and 2010 was asfollows:

2011 2010


($ in thousands)

Balance as of beginning of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $204,244 $434,188

Charge offs:Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (80,680) (31,465)

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (116) (23,568)

Real estate — construction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (359) (38,335)

Total charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (81,155) (93,368)

Recoveries:Commercial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,105 —

Real estate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22 —

Real estate — construction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 86 6

Total recoveries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,213 6

Net charge offs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (79,942) (93,362)

Charge offs upon transfer to held for sale. . . . . . . . . . . . . . . . . . . . . . . . . . . (7,565) (8,187)


General . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (35,283) 3,713

Specific . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 68,850 127,523

Total provision for loan losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33,567 131,236

Balance as of end of period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $150,304 $463,875

Allowance for loan losses ratio . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7.25% 9.69%

Provision for loan losses ratio (annualized) . . . . . . . . . . . . . . . . . . . . . . . . . 6.57% 11.12%

Net charge offs as a percentage of average loans outstanding (annualized) . . 14.97% 8.06%

We consider a loan to be impaired when, based on current information, we determine that it is probable that wewill be unable to collect all amounts due according to the contractual terms of the original loan agreement. In thisregard, impaired loans include those loans where we expect to encounter a significant delay in the collection of,and/or shortfall in the amount of contractual payments due to us as well as loans that we have assessed as impaired,but for which we ultimately expect to collect all payments.

During the three months ended March 31, 2011 and 2010, loans with an aggregate carrying value of$58.6 million and $145.9 million, respectively, as of their respective restructuring dates, were involved in TDRs.Additionally, loans involved in these TDRs are assessed as impaired, generally for a period of at least one yearfollowing the restructuring, assuming the loan performs under the restructured terms and the restructured termswere at market. The specific reserves allocated to loans that were involved in TDRs were $50.1 million and$35.5 million as of March 31, 2011 and December 31, 2010, respectively.

The decrease in the provision for loan losses for the three months ended March 31, 2011 compared to the threemonths ended March 31, 2010 was primarily driven by a decrease in specific reserve provision related to impairedcommercial and real estate construction loans. Our loans in categories with the greatest historical loss experiencecontinue to pay off. Additionally, the majority of our new originations are in categories with lower historical lossexperience. Due to the large individual credit exposures and characteristics of real estate loans, the level of chargeoffs in this area has been volatile in the past. However, we have few remaining large real estate loans in our portfolioand believe that we have appropriately reserved for all incurred losses. As of March 31, 2011 and December 31,

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2010, the total outstanding principal balance of these higher-risk loans was $73.6 million and $84.5 million,respectively.

Liquidity and Capital Resources

Liquidity is a measure of our sources of funds available to meet our obligations as they arise. We require cash tofund new and existing loan commitments, repay and service indebtedness, make new investments, fund net depositoutflows and pay expenses related to general business operations. Our primary sources of liquidity are cash and cashequivalents, new borrowings and deposits, proceeds from asset sales, servicing fees from securitizations, principaland interest collections, and additional equity and debt financings.

We separately manage the liquidity of CapitalSource Bank and the Parent Company as required by regulation.Our liquidity management is based on our business plans for the Parent Company and CapitalSource Bank andassumptions related to expected cash inflows and outflows that we believe are reasonable. These business plansinclude the assumption that substantially all newly originated loans will be funded by CapitalSource Bank.

As of March 31, 2011, we had $1.7 billion of unfunded commitments to extend credit, of which $936.3 millionwere commitments of CapitalSource Bank and $810.7 million were commitments of the Parent Company. Due totheir nature, we cannot know with certainty the aggregate amounts we will be required to fund under these unfundedcommitments. In many cases, our obligation to fund unfunded commitments is subject to our clients’ ability toprovide collateral to secure the requested additional fundings, the collateral’s satisfaction of eligibility require-ments, our clients’ ability to meet specified preconditions to borrowing, including compliance with the loanagreements, and/or our discretion pursuant to the terms of the loan agreements. In other cases, however, there are nosuch prerequisites or discretion to future fundings by us, and our clients may draw on these unfunded commitmentsat any time. We forecast adequate liquidity to fund the expected borrower draws under these commitments. To theextent there are unfunded commitments with respect to a loan that is owned partially by CapitalSource Bank and theParent Company, unless our client is in default, CapitalSource Bank is obligated in some cases, pursuant tointercompany agreements, to fund its portion of the unfunded commitment before the Parent Company is requiredto fund its portion. Our failure to satisfy our full contractual funding commitment to one or more of our clients couldcreate breach of contract and lender liability for us and irreparably damage our reputation in the marketplace.

Unless otherwise specified, the figures presented in the following paragraphs are based on current forecastsand take into account activity since March 31, 2011. The information contained in this section should be read inconjunction with, and is subject to and qualified by the information set forth in our Risk Factors and the CautionaryNote Regarding Forward Looking Statements in our Form 10-K.

CapitalSource Bank Liquidity

The most significant variable in CapitalSource Bank’s liquidity management is our expectation regarding the netloan and deposit growth. CapitalSource Bank’s primary sources of liquidity include: deposits, payments of principaland interest on loans and securities, cash equivalents, and borrowings from the FHLB SF. Secondary sources ofliquidity may also include: capital contributions and borrowings from the Parent Company, bank borrowings, and theissuance of debt securities. We intend to maintain sufficient liquidity at CapitalSource Bank to meet depositordemands and fund loan commitments and operations as well as to maintain liquidity ratios required by our regulators.

CapitalSource Bank’s primary uses of liquidity include: funding new and existing loans, purchasing invest-ment securities, funding net deposit outflows, and paying operating expenses, including intercompany payments tothe Parent Company for origination and other services performed on CapitalSource Bank’s behalf. CapitalSourceBank operates in accordance with the conditions imposed and contractual agreements entered in connection withregulatory approvals obtained upon its formation, including requirements that CapitalSource Bank maintain a totalrisk-based capital ratio of not less than 15%, capital levels required for a bank to be considered “well-capitalized”under relevant banking regulations, and a ratio of tangible equity to tangible assets of not less than 10%. In addition,we have a policy to maintain 10% of CapitalSource Bank’s assets in unencumbered cash, cash equivalents andinvestments. In accordance with regulatory guidance, we have identified, modeled and planned for the financial,capital and liquidity impact of various events and scenarios that would cause a large outflow of deposits, a reductionin borrowing capacity, a material increase in loan funding obligations, a material increase in credit costs or any

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combination of these events. We anticipate that CapitalSource Bank would be able to maintain sufficient liquidityand ratios in excess of its required minimum ratios in these events and scenarios.

For information on CapitalSource Bank’s primary sources of liquidity, see Note 8, Deposits, and Note 10,Borrowings, in our consolidated financial statements for the three months ended March 31, 2011 and in our auditedconsolidated financial statements in our Form 10-K for the year ended December 31, 2010.

Parent Company Liquidity

The Parent Company’s need for liquidity is based on our expectation that the balance of our existing loanportfolio and other assets held in the Parent Company will run off over time. The Parent Company’s primary sourcesof liquidity include cash and cash equivalents, principal and interest payments, asset sales, and servicing fees fromsecuritizations. A portion of the proceeds from some of these sources is required to be used to make net proceedsoffers on our 2014 Senior Secured Notes. The Parent Company also has access to secondary sources of liquidityincluding bank borrowings and the issuance of debt securities, subject to restrictions under existing indebtedness;and the issuance of additional shares of equity. CapitalSource Bank is prohibited from paying dividends untilJuly 2011 without consent from our regulators. We do not anticipate that dividends from CapitalSource Bank willprovide any liquidity to fund the operations of the Parent Company for the near term future.

The Parent Company’s primary uses of liquidity include interest and principal payments on our existing debt,operating expenses, possible share repurchases, any dividends that we may pay, and the funding of unfundedcommitments. The Parent Company is required to repurchase its 3.5% and 4.0% Convertible Debentures at theoption of the noteholders on July 15, 2011. As of March 31, 2011, outstanding balances on the 3.5% and4.0% Convertible Debentures were $8.4 million and $272.1 million, respectively. We currently intend to repurchasethese Convertible Debentures with cash at or prior to July 15, 2011.

Pursuant to agreements with our regulators, to the extent CapitalSource Bank independently is unable to do so,the Parent Company must maintain CapitalSource Bank’s total risk-based capital ratio at not less than 15% and mustmaintain the capital levels of CapitalSource Bank at all times to meet the levels required for a bank to be considered“well-capitalized” under the relevant banking regulations. Additionally, pursuant to requirements of our regulators,the Parent Company has provided a $150.0 million unsecured revolving credit facility to CapitalSource Bank thatCapitalSource Bank may draw on at any time it or the FDIC deems necessary. As of March 31, 2011, there were noamounts outstanding under this facility.

The Parent Company is subject to financial and non-financial covenants under our indebtedness, including,with respect to restricted payments, leverage, servicing standards, and limitations on incurring or guaranteeingindebtedness, refinancing existing indebtedness, repaying subordinated indebtedness, making investments, divi-dends, distributions, redemptions or repurchases of our capital stock, selling assets, creating liens and engaging in amerger, sale or consolidation. If we were to default under our indebtedness by violating these covenants orotherwise, our investors’ remedies would include the ability to, among other things, transfer servicing to anotherservicer, foreclose on collateral, and/or accelerate payment of all amounts payable under such indebtedness.

In addition, upon the occurrence of specified servicer defaults, the holders of the asset-backed notes issued inour term debt securitizations may elect to terminate us as servicer of the loans and appoint a successor servicer orreplace us as cash manager. If we were terminated as servicer, we would no longer receive our servicing fee. Inaddition, because there can be no assurance that any successor servicer would be able to service the loans accordingto our standards, the performance of our loans could be materially adversely affected and income generated fromthose loans significantly reduced.

In December 2010, our Board of Directors authorized the repurchase of $150.0 million of our common stockover a period of up to two years. In December 2010, we repurchased 1,415,000 shares of our stock in open markettransactions for a total purchase price of $9.9 million. All shares repurchased under this plan were retired uponsettlement. There were no additional repurchases during the three months ended March 31, 2011. For additionalinformation, see Note 12, Shareholders’ Equity, in our audited consolidated financial statements in our Form 10-Kfor the year ended December 31, 2010.

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As of March 31, 2011, the Parent Company had one secured credit facility with an aggregate commitment of$40.0 million. There was no outstanding balance as of March 31, 2011, and we terminated this credit facility onApril 12, 2011.

Commitments, Guarantees & Contingencies

As of March 31, 2011 and December 31, 2010, we had unfunded commitments to extend credit to our clients of$1.7 billion and $1.9 billion, respectively. Additional information on these contingencies is included in Note 19,Commitments and Contingencies, in our audited consolidated financial statements for the year ended December 31,2010, included in our Form 10-K, and Liquidity and Capital Resources — Parent Company Liquidity herein.

We have non-cancelable operating leases for office space and office equipment, which expire over the nextfourteen years and contain provisions for certain annual rental escalations. For additional information, see Note 19,Commitments and Contingencies, in our audited consolidated financial statements in our Form 10-K for the yearended December 31, 2010.

We provide standby letters of credit in conjunction with several of our lending arrangements and under certainof our property leases. For additional information, see Note 16, Commitments and Contingencies, in our accom-panying consolidated financial statements.

In connection with certain securitization transactions, we have made customary representations and warrantiesregarding the characteristics of the underlying transferred assets and collateral. Prior to any securitizationtransaction, we generally performed due diligence with respect to the assets to be included in the securitizationtransaction and the collateral to ensure that they satisfy the representations and warranties. In our capacity asoriginator and servicer in certain securitization transactions, we may be required to repurchase or substitute loanswhich breach a representation and warranty as of their date of transfer to the securitization or financing vehicle.

During the years ended December 31, 2010 and 2009, we sold all of our direct real estate investmentproperties. We are responsible for indemnifying the current owners for any remediation, including costs of removaland disposal of asbestos that existed prior to the sales, through the third anniversary date of the sale. We willrecognize any remediation costs if notified by the current owners of their intention to exercise their indemnificationrights, however, no such notification has been received to date. As of March 31, 2011, sufficient information was notavailable to estimate our potential liability for conditional asset retirement obligations as the obligations to removethe asbestos from these properties continue to have indeterminable settlement dates.

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

Credit Risk Management

Credit risk is the risk of loss arising from adverse changes in a client’s or counterparty’s ability to meet itsfinancial obligations under agreed-upon terms. Credit risk exists primarily in our loan and derivative portfolios andthe portion of our investment portfolio comprised of non-agency MBS, non-agency ABS and CMBS. The degree ofcredit risk will vary based on many factors including the size of the asset or transaction, the credit characteristics ofthe client, the contractual terms of the agreement and the availability and quality of collateral. We manage creditrisk of our derivatives and credit-related arrangements by limiting the total amount of arrangements outstandingwith an individual counterparty, by obtaining collateral based on the nature of the lending arrangement andmanagement’s assessment of the client, and by applying uniform credit standards maintained for all activities withcredit risk.

As appropriate, the Parent Company and CapitalSource Bank credit committees evaluate and approve creditstandards and oversee the credit risk management function related to our loans and other investments. Their primaryresponsibilities include ensuring the adequacy of our credit risk management infrastructure, overseeing credit riskmanagement strategies and methodologies, monitoring economic and market conditions having an impact on ourcredit-related activities, and evaluating and monitoring overall credit risk and monitoring our client’s financialcondition and performance.

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Substantially all new loans have been originated at CapitalSource Bank, and we maintain a comprehensivecredit policy manual for those loans that is supplemented by specific loan product underwriting guidelines. Amongother things, the credit policy manual sets forth requirements that meet the regulations enforced by both the FDICand the state of California’s Department of Financial Institutions. Examples of such requirements include the loanto value limitations for real estate secured loans, standards for real estate appraisals and other third-party reports,and collateral insurance requirements.

Our underwriting guidelines outline specific underwriting standards and minimum specific risk acceptancecriteria for each lending product offered. Loan types defined within these guidelines have three broad categories,within our commercial, real estate, and real estate construction loan portfolios. These categories include asset-basedloans, cash flow loans, and real estate loans, and each of these broad categories has specific subsections that definein detail the following:

• Loan structures, which includes the lien positions, amortization provisions and loan tenors;

• Collateral descriptions and appropriate valuation methods;

• Underwriting considerations which include minimum diligence and verification requirements; and

• Specific risk acceptance criteria which enumerate for each loan type the minimum acceptable creditperformance standards. Examples of these criteria include maximum loan-to-value amounts for real estateloans, maximum advance rate amounts for asset-based loans and minimum historical and projected debtservice coverage amounts for all loans.

We measure and document each loan’s compliance with our specific risk acceptance criteria at underwriting. Ifat underwriting, there is an exception to these criteria, an explanation of the factors that mitigate this additional riskis considered before an approval is granted.

Credit risk management for our loan portfolios begins with an assessment of the credit risk profile of a clientbased on an analysis of the client’s financial position. As part of the overall credit risk assessment of a client, eachcommercial credit exposure or transaction is assigned a risk rating that is subject to approval based on defined creditapproval standards. While rating criteria vary by product, each loan rating focuses on the same two factors: theclient’s ability to repay the loan and the adequacy of collateral. Subsequent to loan origination, risk ratings arereassessed on an ongoing basis. If necessary, risk ratings are adjusted to reflect changes in the client’s financialcondition, cash flow or financial situation. When managing the loan portfolio and making credit decisions, weconsider various portfolio credit statistics and trends. Some examples include the risk ratings trends for loan typesand various credit concentrations (by loan type, by client business, by real estate collateral property type, and by realestate collateral location among other factors).

We use a variety of tools to continuously monitor a client’s ability to perform under its obligations.Additionally, we syndicate loan exposure to other lenders, sell loans and use other risk mitigation techniquesto manage the size and risk profile of our loan portfolio.

Concentrations of Credit Risk

In our normal course of business, we engage in lending activities with clients primarily throughout the UnitedStates. As of March 31, 2011, the single largest industry concentration was healthcare and social assistance, whichmade up approximately 20% of our loan portfolio. As of March 31, 2011, taken in the aggregate, non-healthcare realestate loans, which was our largest loan concentration, made up approximately 29% of our loan portfolio. As ofMarch 31, 2011, the largest geographical concentration was California, which made up approximately 13% of ourloan portfolio.

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Selected information pertaining to our largest credit relationships as of March 31, 2011 was as follows:

LoanBalance

% of TotalPortfolio Loan Type Industry

Amount ofLoan(s) at

OriginationLoan

Commitment Performing

Allowancefor Loan

LossesUnderlying

Collateral(1)

Date of LastCollateralAppraisal

Amount ofLast

Appraisal

($ in thousands)

$371,270(2) 6.1% Commercial andReal Estate

Health Care andSocial Assistance

$607,180 $371,270 Yes $— Stock pledge N/A N/A

227,738 3.7 Commercial andReal Estate -Construction

Accommodationand Food

Services andFinance and

Insurance

173,663 255,957 Partial(3) — Timesharereceivables

N/A N/A(3)

201,310 3.3 Real Estate Accommodationand FoodServices

5,006 205,212 Yes — Portfolio ofvacation

properties

December 2006 -November 2010

$627,851(4)

116,107 1.9 Real Estate -Construction

Accommodationand FoodServices

60,130 141,731 No — Hotel June 2010 $182,000(5)

$ 916,425 15.0% $845,979 $974,170

(1) Represents the primary collateral securing the loan. In certain cases, there may be additional types of collateral.

(2) Our total loan balance of $371.3 million, comprised of a commercial loan with a balance of $325.0 million anda real estate loan with a balance of $46.3 million, was repaid in full on April 1, 2011.

(3) The collateral that secures our loan balance of $227.7 million as of March 31, 2011 primarily consists oftimeshare receivables and timeshare real estate that had a total value of $734.1 million as of March 31, 2011.Total senior debt, including our loan balance, secured by the collateral was $321.3 million as of March 31, 2011.This credit relationship includes multiple loans, one of which, with a balance of $38.6 million, is non-performing.

(4) Total senior debt, including our loan balance, was $277.8 million as of March 31, 2011.

(5) Total senior debt, including our loan balance, was $196.0 million as of March 31, 2011.

Non-performing loans in our portfolio of loans held for investment may include non-accrual loans, accruingloans contractually past due, or TDRs. Our remediation efforts on these loans are based upon the characteristics ofeach specific situation. The various remediation efforts that we may undertake include, among other things, one ofor a combination of the following:

• request that the equity owners of the borrower inject additional capital;

• require the borrower to provide us with additional collateral;

• request additional guaranties or letters of credit;

• request the borrower to improve cash flow by taking actions such as selling non-strategic assets or reducingoperating expenses;

• modify the terms of our debt, including the deferral of principal or interest payments, where we willappropriately classify the modification as a TDR;

• initiate foreclosure proceedings on the collateral; or

• sell the loan in certain cases where there is an interested third-party buyer.

There were 111 credit relationships in the non-performing portfolio as of March 31, 2011, and our largest non-performing credit relationship totaled $116.1 million and comprised 14.3% of our total non-performing loans. Thiscredit relationship comprises real estate construction loans to a borrower in the accommodation and food servicesindustry. The primary collateral supporting these loans is a hotel. These loans were originated in June 2007. Theoutstanding loan balances as of March 31, 2011 for this relationship are inclusive of charge offs taken to reduce theoutstanding loan balances to the estimated fair value of the collateral based upon an appraisal received in 2010.

TDRs are loans that have been restructured as a result of deterioration in the borrower’s financial position andfor which we have granted a concession to the borrower that we would not have otherwise granted if thoseconditions did not exist. Our concession strategies in TDRs are intended to minimize our economic losses as

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borrowers experience financial difficulty and provide an alternative to foreclosure. The success of these strategies ishighly dependent on our borrowers’ ability and willingness to repay under the restructured terms of their loans.Continued adverse changes in the economic environment or in borrower performance could negatively impact theoutcome of these strategies.

A summary of concessions granted by loan type, including the accrual status of the loans as of March 31, 2011and December 31, 2010 is as follows:

Non-accrual Accrual Total Non-accrual Accrual TotalMarch 31, 2011 December 31, 2010

($ in thousands)

CommercialInterest rate and fee

reduction . . . . . . . . . . . . . . $ 3,361 $ — $ 3,361 $ 24,185 $ — $ 24,185Maturity extension . . . . . . . . . 92,279 78,618 170,897 104,872 79,481 184,353Payment deferral . . . . . . . . . . 11,031 12,022 23,053 18,235 4,189 22,424Multiple concessions . . . . . . . 45,833 25,280 71,113 57,912 35,121 93,033

152,504 115,920 268,424 205,204 118,791 323,995Real estate

Interest rate and feereduction . . . . . . . . . . . . . . 2,098 — 2,098 1,880 — 1,880

Maturity extension . . . . . . . . . 5,597 35,601 41,198 25,910 35,471 61,381Payment deferral . . . . . . . . . . — 67,246 67,246 — — —Multiple concessions . . . . . . . 1,379 — 1,379 — — —

9,074 102,847 111,921 27,790 35,471 63,261Real estate — construction

Maturity extension . . . . . . . . . 148,121 — 148,121 153,982 — 153,982Multiple concessions . . . . . . . — — — 13,875 — 13,875

148,121 — 148,121 167,857 — 167,857

Total . . . . . . . . . . . . . . . . . . . $309,699 $218,767 $528,466 $400,851 $154,262 $555,113

We have experienced losses incurred on some TDRs subsequent to their initial restructuring. These lossesinclude both additional specific reserves and charge offs on the restructured loans. The majority of such losses hasbeen incurred on our commercial loans and is primarily due to the borrowers’ failure to consistently meet theirfinancial forecasts that formed the bases for our restructured loans. Examples of circumstances that resulted in theborrowers not being able to meet their forecasts included acquisitions of other businesses that did not have theexpected positive impact on financial results, significant delays in launching products and services, and continueddeterioration in the pricing estimates of businesses and product lines that the borrower expected to sell to generateproceeds to repay the loan. In certain of these cases, the TDRs occurred prior to 2008, and the borrowers performedunder the terms of the restructured loans for a period of time before their operations were negatively impacted byrecent market conditions.

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Losses incurred on TDRs since their initial restructuring by concession and loan type for the three monthsended March 31, 2011 and 2010 were as follows:

2011 2010


($ in thousands)

CommercialInterest rate and fee reduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $18,728 $ 4,723

Maturity extension . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,561 8,628

Payment deferral . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7,443 547

Multiple concessions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27,140 3,061

58,872 16,959

Real estateMaturity extension . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 257

— 257

Real estate — constructionMaturity extension . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,795 12,899

Multiple concessions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 1,993

11,795 14,892

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $70,667 $32,108

Of the additional losses recognized on commercial loan TDRs since their initial restructuring for the threemonths ended March 31, 2011, 0.4% related to loans for which the initial TDR on the borrower occurred prior to2008, 41.1% related to loans that had additional modifications subsequent to their initial TDRs, and all related toloans that were on non-accrual status as of March 31, 2011. We recognized approximately $0.2 million of interestincome for the three months ended March 31, 2011 on the commercial loans that experienced losses during thisperiod.

Of the additional losses recognized on commercial loan TDRs since their initial restructuring for the threemonths ended March 31, 2010, 25.8% related to loans that had additional modifications subsequent to their initialTDRs, and all of the additional losses related to loans that were on non-accrual status as of March 31, 2010. Werecognized approximately $0.2 million of interest income for the three months ended March 31, 2010 on thecommercial loans that experienced losses during this period.

Market Risk Management

Market risk is the risk that values of assets and liabilities or revenues will be adversely affected by changes inmarket conditions such as interest rate fluctuations. This risk is inherent in the financial instruments associated withour operations and/or activities, which result in the recognition of assets and liabilities in our consolidated financialstatements, including loans, securities, short-term borrowings, long-term debt, trading account assets and liabilitiesand derivatives.

The primary market risk to which we are exposed is interest rate risk, which is inherent in the financialinstruments associated with our operations, primarily including our loans and borrowings. Our traditional loanproducts are non-trading positions and are reported at amortized cost. Additionally, debt obligations that we incur tofund our business operations are recorded at historical cost. While U.S. generally accepted accounting principles(“GAAP”) requires a historical cost view of such assets and liabilities, these positions are still subject to changes ineconomic value based on varying market conditions.

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Interest Rate Risk Management

Interest rate risk in our normal course of business refers to the change in earnings that may result from changesin interest rates, primarily various short-term interest rates, including LIBOR-based rates and the prime rate. Weattempt to mitigate exposure to the earnings impact of interest rate changes by conducting the majority of ourlending and borrowing on a variable rate basis. The majority of our loan portfolio bears interest at a spread to theLIBOR rate or a prime-based rate with most of the remainder bearing interest at a fixed rate. Approximately half ofour borrowings bear interest at a spread to LIBOR or CP, with the remainder bearing interest at a fixed rate. Ourdeposits are fixed rate, but at short terms. We are also exposed to changes in interest rates in certain of our fixed rateloans and investments. We attempt to mitigate our exposure to the earnings impact of the interest rate changes inthese assets by engaging in hedging activities as discussed below. For additional information, see Note 17,Derivative Instruments, in our consolidated financial statements for the three months ended March 31, 2011.

The estimated changes in net interest income for a 12-month period based on changes in the interest ratesapplied to the combined portfolios of our segments as of March 31, 2011, were as follows ($ in thousands):

Rate Change(Basis Points)

+ 200. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $16,291

+ 100. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,885

+ 50 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 745

�50. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,597

�100 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,735

�200 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,544

For the purpose of the above analysis, we included loans, investment securities, borrowings, deposits andderivatives. In addition, we assumed that the size of the current portfolio remains the same as the existing portfolioas of March 31, 2011. Loans, investment securities and deposits are assumed to be replaced as they run off. The newloans, investment securities and deposits are assumed to have interest rates that reflect our forecast of prevailingmarket terms. We also assumed that LIBOR does not fall below 0.15% for loans and borrowings, and that the primerate does not fall below 3.0% for loans.

As of March 31, 2011, approximately 50% of the aggregate outstanding principal amount of our loans hadinterest rate floors and were accruing interest. Of the loans with interest rate floors, approximately 93% hadcontractual rates below the interest rate floor and the floor was providing a benefit to us. The loans with contractualinterest rate floors as of March 31, 2011 were as follows:

AmountOutstanding

Percentage ofTotal Portfolio

($ in thousands)

Loans with contractual interest rates:

Below the interest rate floor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,973,756 48%

Exceeding the interest rate floor . . . . . . . . . . . . . . . . . . . . . . . . . . 7,187 1

At the interest rate floor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60,107 1

Loans with interest rate floors on non-accrual . . . . . . . . . . . . . . . . 147,547 2

Loans with no interest rate floor . . . . . . . . . . . . . . . . . . . . . . . . . . 2,897,126 48

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $6,085,723 100%

We enter into interest rate swap agreements to minimize the economic effect of interest rate fluctuationsspecific to our fixed rate debt and certain fixed rate loans. We also enter into additional basis swap agreements tohedge basis risk between our LIBOR-based term debt and the prime-based loans pledged as collateral for that debt.These basis swaps modify our exposure to interest rate risk by synthetically converting fixed rate and prime rateloans to one-month LIBOR. Our interest rate hedging activities partially protect us from the risk that interestcollected under fixed-rate and prime rate loans will not be sufficient to service the interest due under the one-monthLIBOR-based term debt.

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We also use interest rate swaps to hedge the interest rate risk of certain fixed rate debt. These interest rate swapsmodify our exposure to interest rate risk by synthetically converting fixed rate debt to one-month LIBOR.

We have also entered into relatively short-dated forward exchange agreements to minimize exposure to foreigncurrency risk arising from foreign currency denominated loans.

Critical Accounting Estimates

Accounting policies are integral to understanding our Management’s Discussion and Analysis of FinancialCondition and Results of Operations. The preparation of the consolidated financial statements in conformity withGAAP requires management to make certain judgments and assumptions based on information that is available atthe time of the financial statements in determining accounting estimates used in the preparation of such statements.Our significant accounting policies are described in Note 2, Summary of Significant Accounting Policies, in ouraudited consolidated financial statements for the year ended December 31, 2010, included in our Form 10-K.Accounting estimates are considered critical if the estimate requires management to make assumptions andjudgments about matters that were highly uncertain at the time the accounting estimate was made and if differentestimates reasonably could have been used in the reporting period, or if changes in the accounting estimate arereasonably likely to occur from period to period that would have a material impact on our financial condition,results of operations or cash flows. We have established detailed policies and procedures to ensure that theassumptions and judgments surrounding these areas are adequately controlled, independently reviewed andconsistently applied from period to period. Management has discussed the development, selection and disclosureof these critical accounting estimates with the Audit Committee of the Board of Directors and the Audit Committeehas reviewed our disclosure related to these estimates. Our critical accounting estimates are described in CriticalAccounting Estimates within Management’s Discussion and Analysis of Financial Condition and Results ofOperations included in our Form 10-K for the year ended December 31, 2010.

Supervision and Regulation

This is an update to certain sections from our discussion of Supervision and Regulation in our Form 10-K. Forfurther information and discussion of supervision and regulation matters, see Item I. Business — Supervision andRegulation, in our Form 10-K for the year ended December 31, 2010. Together with the discussion of supervisionand regulation matters in our Form 10-K for the year ended December 31, 2010, the following describes some of themore significant laws, regulations, and policies that affect our operations, but is not intended to be a complete listingof all laws that apply to us. From time to time, federal, state and foreign legislation is enacted and regulations areadopted which may have the effect of materially increasing the cost of doing business, limiting or expandingpermissible activities, or affecting the competitive balance between banks and other financial services providers.We cannot predict whether or when potential legislation will be enacted, and if enacted, the effect that it, or anyimplementing regulations, would have on our financial condition or results of operations.

Our bank operations are subject to regulation by federal and state regulatory agencies. This regulation isintended primarily for the protection of depositors and the deposit insurance fund, and secondarily for the stabilityof the U.S. banking system. It is not intended for the benefit of stockholders of financial institutions. CapitalSourceBank is a California industrial bank and is subject to supervision and regular examination by the FDIC and theCalifornia Department of Financial Institutions (“DFI”). CapitalSource Bank’s deposits are insured up to themaximum amounts permitted by law.

Although the Parent Company is not directly regulated or supervised by the DFI, the FDIC, the FederalReserve Board or any other federal or state bank regulatory authority either as a bank holding company orotherwise, the FDIC has authority pursuant to a contractual supervisory agreement with the Parent Company andCapitalSource Bank (the “Parent Company Agreement”) to examine the Parent Company and the relationship andtransactions between it and CapitalSource Bank and the effect of such relationships and transactions on Capital-Source Bank. The Parent Company also is subject to regulation by other applicable federal and state agencies, suchas the Securities and Exchange Commission. We are required to file periodic reports with these regulators andprovide any additional information that they may require.

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General

CapitalSource Bank must file reports with the DFI and the FDIC concerning its activities and financialcondition in addition to obtaining regulatory approvals prior to changing its approved business plan or entering intocertain transactions such as mergers with, or acquisitions of, other financial institutions.

CapitalSource Bank will complete its initial three year de novo period in July 2011. Based on communicationsfrom the FDIC, we expect that the conditions contained in the FDIC Order granting deposit insurance that prohibitthe payment of dividends by CapitalSource Bank, require certain reporting by the Parent Company (some of whichare required under other laws and regulations) and impose limitations on organizational changes and intercompanycontractual arrangements will cease to apply after July 2011. The rest of the conditions contained in such Order willeffectively remain in place after July 2011 pursuant to the continued existence of the contractual agreementsbetween the Parent Company, CapitalSource Bank and the FDIC until such time as we apply for and are grantedrelief by the FDIC from the requirements of these agreements. Among these remaining conditions is therequirement that CapitalSource Bank maintain a total risk-based capital ratio of not less than 15% to be supportedby the Parent Company. Notwithstanding the termination of any of the conditions, CapitalSource Bank will remainsubject to bank safety and soundness requirements as well as to various regulatory capital requirements establishedby federal and state regulatory agencies, including any new conditions that our regulators may determine.

Under current FDIC guidance, CapitalSource Bank is required to file a revised business plan for years four toseven of an expanded de novo period. During this time period, CapitalSource Bank may be subject to increasedsupervision than would otherwise not be applicable to a bank that has been in existence longer than three years,including enhanced FDIC supervision for compliance examinations and Community Reinvestment Act evaluations.

There are periodic examinations by the DFI and the FDIC to evaluate CapitalSource Bank’s safety andsoundness and compliance with various regulatory requirements. The regulatory structure also gives the regulatoryauthorities extensive discretion in connection with their supervisory and enforcement activities and examinationpolicies, including policies with respect to the credit classification of assets and the establishment of adequate loanloss reserves for regulatory purposes. Any change in such policies, whether by the regulators or Congress, couldhave a material adverse impact on our operations.

Pursuant to the Parent Company Agreement, the Parent Company has consented to examination by the FDICfor purposes of monitoring compliance with the laws and regulations applicable to CapitalSource Bank and itsaffiliates. The Parent Company and CapitalSource Bank also are parties to a Capital Maintenance and LiquidityAgreement (the “CMLA”) with the FDIC providing that, to the extent CapitalSource Bank independently is unableto do so, the Parent Company must maintain CapitalSource Bank’s total risk-based capital ratio at not less than 15%and must maintain CapitalSource Bank’s total risk-based capital ratio at all times to meet or exceed the levelsrequired for a bank to be considered “well-capitalized” under the relevant banking regulations. Additionally,pursuant to requirements of the CMLA, the Parent Company has provided, and is required to continue to provide, a$150.0 million unsecured revolving credit facility that CapitalSource Bank may draw on at any time it or the FDICdeems necessary. The Parent Company Agreement also requires the Parent Company to maintain the capital levelsof CapitalSource Bank at the levels required in the CMLA.

Limitations on Dividends and other Distributions

The power of the board of directors of an insured depository institution to declare a cash dividend or otherdistribution with respect to capital is subject to statutory and regulatory restrictions which limit the amount availablefor such distribution depending upon the earnings, financial condition and cash needs of the institution, as well asgeneral business conditions. The Federal Deposit Insurance Corporation Improvement Act prohibits insured depos-itory institutions from paying management fees to any controlling persons or, with certain limited exceptions, makingcapital distributions, including dividends, if, after such transaction, the institution would be undercapitalized.

In addition to the restrictions imposed under federal law, banks chartered under California law generally mayonly pay cash dividends to the extent such payments do not exceed the lesser of retained earnings of the bank or thebank’s net income for its last three fiscal years (less any distributions to shareholders during this period). In the eventa bank desires to pay cash dividends in excess of such amount, the bank may pay a cash dividend with appropriate

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regulatory approval in an amount not exceeding the greatest of the bank’s retained earnings, the bank’s net incomefor its last fiscal year or the bank’s net income for its current fiscal year.

The federal banking agencies also have the authority to prohibit a depository institution from engaging inbusiness practices which are considered to be unsafe or unsound, possibly including payment of dividends or otherpayments under certain circumstances even if such payments are not expressly prohibited by statute.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to certain financial market risks, which are discussed in detail in Management’s Discussionand Analysis of Financial Condition and Results of Operations in the Market Risk Management section of thisForm 10-Q and our Form 10-K. In addition, for additional information on our derivatives, see Note 17, DerivativeInstruments, in our consolidated financial statements for the three months ended March 31, 2011, and Note 22,Credit Risk, in our audited consolidated financial statements for the year ended December 31, 2010 included in ourForm 10-K.

ITEM 4. CONTROLS AND PROCEDURES

We carried out an evaluation, under the supervision and with the participation of our management, includingour Co-Chief Executive Officers and Chief Financial Officer, of the effectiveness of the design and operation of ourdisclosure controls and procedures pursuant to Rule 13a-15 of the Securities Exchange Act of 1934, as amended.Based upon that evaluation, our Co-Chief Executive Officers and Chief Financial Officer concluded that ourdisclosure controls and procedures were effective as of March 31, 2011. There have been no changes in our internalcontrol over financial reporting during the three months ended March 31, 2011, that have materially affected, or arereasonably likely to materially affect, our internal control over financial reporting.

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PART II. OTHER INFORMATION

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

A summary of our repurchases of shares of our common stock for the three months ended March 31, 2011 wasas follows:

Total Numberof Shares

Purchased(1)Average

Price Paid

Total Number ofShares Purchasedas Part of PubliclyAnnounced Plan

or Programs

Maximum Numberof Shares (orApproximateDollar Value)

that MayYet be Purchased

Under the Plans(2)

January 1 — January 31, 2011 . . . . . . . . 325,589 $7.08 325,000 —

February 1 — February 28, 2011 . . . . . . 3,836 7.63 — —

March 1 — March 31, 2011 . . . . . . . . . . 16,655 7.40 — —

Total . . . . . . . . . . . . . . . . . . . . . . . . . . . 346,080 $7.10 325,000 $140,085,757

(1) Includes the number of shares acquired as payment by employees of applicable statutory minimum withholdingtaxes owed upon vesting of restricted stock granted under our Third Amended and Restated Equity IncentivePlan.

(2) In December 2010, our Board of Directors authorized the repurchase of up to $150.0 million of our commonstock over a period of up to two years. Any share repurchases made under the stock repurchase plan will bemade through open market purchases or privately negotiated transactions. The amount and timing of anyrepurchases will depend on market conditions and other factors and repurchases may be suspended ordiscontinued at any time. In December 2010, we repurchased 1,415,000 shares of our common stock underthe share repurchase plan, at an average price of $7.01 per share for a total purchase price of $9.9 million. Ofthese purchases, purchases of 325,000 shares at an average price of $7.08 per share were settled in January2011, which, for accounting purposes, were recorded in December 2010. All shares repurchased under the sharerepurchase plan were retired upon settlement. There were no additional repurchases during the three monthsended March 31, 2011.

ITEM 5. OTHER INFORMATION

On April 29, 2011 CapitalSource Bank filed its Consolidated Reports of Condition and Income for A BankWith Domestic Offices Only — FFIEC 041, for the quarter ended March 31, 2011 (the “Call Report”) with theFederal Deposit Insurance Corporation (“FDIC”).

ITEM 6. EXHIBITS

(a) Exhibits

The Index to Exhibits attached hereto is incorporated herein by reference.

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Signatures

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

CAPITALSOURCE INC.

Date: May 3, 2011 /s/ STEVEN A. MUSELESSteven A. Museles

Director and Co-Chief Executive Officer(Principal Executive Officer)

Date: May 3, 2011 /s/ JAMES J. PIECZYNSKIJames J. Pieczynski

Director and Co-Chief Executive Officer(Principal Executive Officer)

Date: May 3, 2011 /s/ DONALD F. COLEDonald F. Cole

Chief Financial Officer(Principal Financial Officer)

Date: May 3, 2011 /s/ BRYAN D. SMITHBryan D. Smith

Chief Accounting Officer(Principal Accounting Officer)

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INDEX TO EXHIBITS

ExhibitNo Description

3.1 Second Amended and Restated Certificate of Incorporation (composite version; reflects allamendments through May 1, 2008) (incorporated by reference to exhibit 3.1 to the Form 10-Qfiled by CapitalSource on May 12, 2008).

3.2 Amended and Restated Bylaws (composite version; reflects all amendments through February 16,2011)(incorporated by reference to exhibit 3.1 to the Form 8-K filed by CapitalSource on February 18,2011).

10.1* CapitalSource Bank Chief Executive Officer and Chief Financial Officer Compensation program.†

12.1 Ratio of Earnings to Fixed Charges.†

31.1.1 Rule 13a — 14(a) Certification of Chairman of the Board and Co-Chief Executive Officer.†

31.1.2 Rule 13a — 14(a) Certification of Chairman of the Board and Co-Chief Executive Officer.†

32 Rule 13a — 14(a) Certification of Chief Financial Officer.†

99.1 CapitalSource Bank’s Consolidated Reports of Condition and Income For A Bank with DomesticOffice only-FFIEC 041, for the quarter ended March 31, 2011.†

101.INS XBRL Instance Document†

101.SCH XBRL Taxonomy Extension Schema Document†

101.CAL XBRL Taxonomy Calculation Linkbase Document†

101.LAB XBRL Taxonomy Label Linkbase Document†

101.PRE XBRL Taxonomy Presentation Linkbase Document†

101.DEF XBRL Taxonomy Definition Document†

† Filed herewith.

* Management contract or compensatory plan or arrangement.

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Documents

CapitalSource Investor Relations Package · New Funded Loans of $627 Million at CapitalSource Bank CapitalSource Bank Net Interest Margin Increased to 5.43% Stable Credit Profile