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 and projections and statements about our deposit base and operations, our liquidity, credit facilities and covenant compliance, our intention to sell assets and monetize the value of our healthcare net lease business, the commercial real estate participation interest ("the "A" Participation Interest"), economic and market conditions for our business, securitization markets, the performance of our loans, loan yields, the impact of accounting pronouncements, our share repurchase plan, taxes and tax audits and examinations, our unfunded commitments, our intention to originate loans at CapitalSource Bank, our Parent Company and CapitalSource Bank portfolios and activities, our business plan to grow CapitalSource Bank as an industrial bank, and risk management. All statements contained in this Form 10-Q that are not clearly historical in nature are forward-looking, and the words "anticipate," "assume," "intend," "believe," "expect," "estimate," "plan," "will," "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 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 may result in increased credit losses and delinquencies in our portfolio; continued or worsening disruptions in economic and credit markets may continue to make it very difficult for us to obtain financing on attractive terms or at all, could prevent us from optimizing the amount of leverage we employ and could adversely affect our liquidity position; movements in interest rates and lending spreads may adversely affect our borrowing strategy; operating CapitalSource Bank under the California and FDIC regulatory regime could be more costly than expected; we may not be successful in operating CapitalSource Bank or maintaining or growing CapitalSource Bank's deposits or deploying its capital in favorable lending transactions or originating or acquiring assets in accordance with our strategic plan; competitive and other market pressures could adversely affect loan pricing; the nature, extent, and timing of any governmental actions and reforms; the success and timing of other business strategies and asset sales; hedging activities may result in reported losses not offset by gains reported in our consolidated financial statements; we may not be able to successfully monetize our healthcare net lease business; and other risk factors described in our Annual Report on Form 10-K for the year ended December 31, 2008 as filed with the SEC on March 2, 2009 ("Form 10-K") and documents filed by us with the SEC. All forward-looking statements included in this Form 10-Q are based on information 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 financial statements and related notes and the information contained elsewhere in this Form 10-Q and in our Form 10-K.

Overview and Highlights

We are a commercial lender that, through our wholly owned subsidiary, CapitalSource Bank, provides financial products to middle market businesses and provides depository products and services in southern and central California. Prior to the formation of CapitalSource Bank, CapitalSource Inc. ("CapitalSource," and together with its subsidiaries other than CapitalSource Bank, the "Parent Company") conducted its commercial lending business through our other subsidiaries, whereas subsequent to CapitalSource Bank's formation, new loans have been originated at CapitalSource Bank and we expect this will continue to be the case for the foreseeable future. Our commercial lending activities in the Parent Company consist primarily of satisfying existing commitments made prior to CapitalSource Bank's formation. Consequently, we expect that our loans in the Parent Company will gradually runoff while CapitalSource Bank's loan portfolio will continue to grow.

We currently operate as three reportable segments: 1) CapitalSource Bank,
2) Other Commercial Finance, and 3) Healthcare Net Lease. Our CapitalSource Bank segment comprises our commercial lending and banking business activities; our Other Commercial Finance segment comprises our loan portfolio and residential mortgage business activities in the Parent Company; and our Healthcare Net Lease segment comprises our direct real estate investment business activities.

For the three months ended March 31, 2008, we presented financial results through three reportable segments: 1) Commercial Finance, 2) Healthcare Net Lease, and 3) Residential Mortgage Investment. Beginning in the third quarter of 2008, we changed the name of our Commercial Finance segment to Commercial Banking to incorporate depository products and services of CapitalSource Bank. Beginning in the first quarter of 2009, changes were made in the way management organizes financial information to make operating decisions, resulting in the activities previously reported in the Commercial Banking segment being disaggregated into the CapitalSource Bank and Other Commercial Finance segments and the results of our Residential Mortgage Investment segment being combined into the Other Commercial Finance segment. We have reclassified all comparative prior period segment information to reflect our new three reportable segments. For financial information about our segments, see Note 21, Segment Data, in our accompanying consolidated financial statements for the three months ended March 31, 2009.

Through our CapitalSource Bank segment activities, CapitalSource Bank provides a wide range of financial products to middle market businesses and participates in broadly syndicated debt financing for larger businesses, and also offers depository products and services in southern and central California that are insured by the Federal Deposit Insurance Corporation ("FDIC") to the maximum amounts permitted by regulation. As of March 31, 2009, our CapitalSource Bank segment had 280 loans outstanding with an aggregate principal balance of $2.9 billion and held a $1.1 billion senior participation interest in the "A" Participation Interest.

Through our Other Commercial Finance segment activities, the Parent Company has provided a wide range financial products to middle market businesses and has participated in broadly syndicated debt financings for larger businesses. As of March 31, 2009, our Other Commercial Finance segment had 844 loans outstanding with an aggregate principal balance of $6.7 billion.

Through our Healthcare Net Lease segment activities, we invest in income-producing healthcare facilities - principally long-term care facilities in the United States. We provide lease financing to skilled nursing facilities and, to a lesser extent, assisted living facilities, and long term acute care facilities. As of March 31, 2009, this segment held $1.0 billion in direct real estate investments comprising 184 healthcare facilities leased to 39 tenants through long-term, triple-net operating leases. We are currently evaluating potential transactions to monetize the value of this business, including debt financings, asset sales and corporate transactions.

Although we have made loans as large as $325 million, as of March 31, 2009, our average loan size was $8.9 million and our average loan exposure by client was $14.0 million. Our loans generally have a maturity of one to five years with a weighted average maturity of 2.4 years as of March 31, 2009. Substantially all of our loans require monthly interest payments at variable rates and, in many cases, our loans provide for interest rate floors that help us maintain our yields when interest rates are low or declining. We price our loans based upon the risk profile of our clients. As of March 31, 2009, our geographically diverse client base consisted of 669 clients with headquarters in 46 states, the District of Columbia, Puerto Rico and select international locations, primarily in Canada and Europe.

Bank Holding Company Application

We have obtained approvals from the California Department of Financial Institutions (the "DFI") and FDIC to convert CapitalSource Bank from an industrial bank to a California commercial bank. For the conversion to become effective, our approval by the Federal Reserve as a Bank Holding Company under the Bank Holding Company Act of 1956 is required. In that regard, we filed a bank holding company application with the Board of Governors of the Federal Reserve in October 2008. On May 8, 2009, we withdrew our bank holding company application and, consequently, our applications with the DFI and FDIC to convert to a commercial bank. We believe that our business plan to grow CapitalSource Bank as an industrial bank remains an effective strategy, and believe that our decision to remain an industrial bank at this time will have no adverse effect on our business plans.

Revocation of REIT Status

We revoked our REIT election effective January 1, 2009 and recognized the resulting deferred tax effects in the consolidated financial statements as of December 31, 2008.

Consolidated Results of Operations

Explanation of Reporting Metrics

Interest Income. In our CapitalSource Bank segment, interest income represents interest earned on loans, the "A" Participation Interest, investment and mortgage-backed securities, other investments and cash and cash equivalents. Interest on investments is primarily derived from agency discount notes, agency callable debt obligations, agency mortgage-backed securities, non-agency mortgage-backed securities and commercial mortgage-backed securities. In our Other Commercial Finance segment, interest income represents interest earned on loans, coupon interest and the amortization of purchase discounts and premiums on our mortgage related receivables, which are amortized into income using the interest method, other investments and cash and cash equivalents. Although the majority of our loans charge interest at variable rates that generally adjust daily, we also have loans charging interest at fixed rates. In our Healthcare Net Lease segment, interest income represents interest earned on cash and restricted cash.

Fee Income. In our CapitalSource Bank and Other Commercial Finance segments, fee income represents net fee income earned from our commercial loan operations. Fee income includes the amortization of loan origination fees, net of the direct costs of origination, prepayment-related fees as well as other fees charged to borrowers. We currently do not generate any fee income in our Healthcare Net Lease segment.

Operating Lease Income. In our Healthcare Net Lease segment, operating lease income represents lease income earned in connection with direct real estate investments. Our operating leases typically include fixed rental payments, subject to escalation over the life of the lease. We generally project a minimum escalation rate for the leases and recognize operating lease income on a straight-line basis over the life of the lease. We currently do not generate any operating lease income in our CapitalSource Bank and Other Commercial Finance segments.

Interest Expense. Interest expense is the amount paid on deposits and borrowings, including the amortization of deferred financing fees and debt discounts. In our CapitalSource Bank segment, interest expense includes interest paid to depositors and interest paid on Federal Home Loan Bank ("FHLB") advances. In our Other Commercial Finance segment, interest expense includes borrowing costs associated with repurchase agreements, secured credit facilities, term debt, convertible debt and subordinated debt. In our Healthcare Net Lease segment, interest expense includes borrowing costs associated with mortgage debt and allocated intercompany debt. The majority of our borrowings charge interest at variable rates based primarily on one-month LIBOR or Commercial Paper ("CP") rates plus a margin. Our convertible debt, three series of our subordinated debt, our term debt recorded in connection with our investments in mortgage-related receivables and the intercompany debt within our Healthcare Net Lease segment bear a fixed rate of interest. Deferred financing fees, debt discounts and the costs of issuing debt, such as commitment fees and legal fees, are amortized over the estimated life of the borrowing. Loan prepayments may materially affect interest expense on our term debt since in the period of prepayment the amortization of deferred financing fees and debt acquisition costs is accelerated.

Provision for Loan Losses. We record a provision for loan losses in our CapitalSource Bank and Other Commercial Finance segments. The provision for loan losses is the periodic cost of maintaining an appropriate allowance for loan losses inherent in our commercial lending portfolio and in our portfolio of residential mortgage-related receivables. 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. We do not have any loan receivables in our Healthcare Net Lease segment.

Other Income. In our CapitalSource Bank and Other Commercial Finance segments, other (expense) income consists of gains (losses) on the sale of loans, gains (losses) on the sale of debt and equity investments, unrealized appreciation (depreciation) on certain investments, gains (losses) on derivatives, due diligence deposits forfeited, unrealized appreciation (depreciation) of our equity interests in certain non-consolidated entities, third-party servicing income, income from our management of various loans held by third parties and other miscellaneous fees

and expenses not attributable to our commercial lending and banking operations. In our Healthcare Net Lease segment, other expense consists of gain (loss) on the sale of assets.

Operating Expenses. In our CapitalSource Bank and Other Commercial Finance segments, operating expenses include compensation and benefits, professional fees, travel, rent, insurance, depreciation and amortization, marketing and other general and administrative expenses. In our Healthcare Net Lease segment, operating expenses include depreciation of direct real estate investments, professional fees, an allocation of overhead expenses (including compensation and benefits) and other direct expenses.

Income Taxes. We revoked our REIT election effective January 1, 2009 and recognized the resulting deferred tax effects in the consolidated financial statements as of December 31, 2008. We provide for income taxes as a "C" corporation on income earned from operations. Certain of our subsidiaries do not join in the filing of a consolidated federal tax return and as a result have taxable income that is not offset by losses of other entities. The group continues to be subject to federal, foreign, state and local taxation in various jurisdictions.

Operating Results for the Three Months Ended March 31, 2009

Our results of operations for the three months ended March 31, 2009 were driven primarily by the global recession, a challenging credit market environment and the impact of revoking our REIT election effective January 1, 2009. As further described below, the most significant factors influencing our consolidated results of operations for the three months ended March 31, 2009, compared to 2008 were:

• CapitalSource Bank operations;

• Increased provision for loan losses;

• Decreased balance of our commercial lending portfolio;

• Gains and losses on our residential mortgage investment portfolio;

• Losses on derivatives and other investments in our Other Commercial Finance segment;

• Increased operating expenses; and

• Changes in lending and borrowing spreads.

Our consolidated operating results for the three months ended March 31, 2009 compared to the three months ended March 31, 2008 were as follows:

                                                    Three Months Ended
                                                         March 31,
                                                    2009           2008          $ Change       % Change
                                                                     ($ in thousands)

Interest income                                  $  221,687      $ 308,325      $  (86,638 )          (28 )%
Fee income                                           31,396         33,641          (2,245 )           (7 )
Operating lease income                               27,880         27,690             190              1
Interest expense                                    131,035        190,472         (59,437 )          (31 )
Provision for loan losses                           155,267          5,659         149,608          2,644
Depreciation of direct real estate investments        8,964          8,916              48              1
Other operating expenses                             69,315         58,593          10,722             18
Other expense                                       (74,127 )      (96,399 )        22,272             23
Income tax (benefit) expense                        (53,425 )        3,076         (56,501 )       (1,837 )
Net (loss) income                                  (104,320 )        6,541        (110,861 )       (1,695 )
Net (loss) income attributable to
noncontrolling interests                                (16 )        1,297          (1,313 )         (101 )
Net (loss) income attributable to
CapitalSource Inc.                                 (104,304 )        5,244        (109,548 )       (2,089 )

Our consolidated yields on income earning assets and the costs of interest bearing liabilities for the three months ended March 31, 2009 and 2008 were as follows:

                                                                      Three Months Ended March 31,
                                                           2009                                           2008
                                          Weighted           Net          Average        Weighted           Net          Average
                                          Average         Investment       Yield/        Average         Investment       Yield/
                                          Balance           Income          Cost         Balance           Income          Cost
                                                                            ($ in thousands)

Interest earning assets:
Interest income                                          $    221,687         6.17 %                    $    308,325         7.59 %
Fee income                                                     31,396         0.87                            33,641         0.83

Total interest earning assets(1)        $ 14,579,500          253,083         7.04     $ 16,302,258          341,966         8.42
Total direct real estate investments       1,068,949           27,880        10.58        1,067,296           27,690        10.41

Total income earning assets               15,648,449          280,963         7.28       17,369,554          369,656         8.54
Total interest bearing liabilities(2)     13,568,772          131,035         3.92       14,753,537          190,472         5.18

Net finance spread                                       $    149,928         3.36 %                    $    179,184         3.36 %

Net finance margin                                                            3.89 %                                         4.14 %

(1) Interest earning assets include cash and cash equivalents, restricted cash, investment and mortgage-backed securities, mortgage-related receivables, RMBS, loans, the "A" Participation Interest and investments in debt securities.

(2) Interest bearing liabilities include deposits, FHLB advances, repurchase agreements, secured and unsecured credit facilities, term debt, convertible debt and subordinated debt.

Operating Expenses

The increase in consolidated operating expenses was primarily due to a $3.2 million increase in compensation and benefits primarily resulting from the addition of CapitalSource Bank employees, a $4.5 million increase in professional fees and an increase of $1.5 million in depreciation and amortization expense primarily resulting from increases in CapitalSource Bank's fixed assets over the previous year. The increase in professional fees is primarily due to consulting fees. These increases were partially offset by a $1.5 million decrease in travel and entertainment expense. The remaining increase in operating expenses for the three months ended March 31, 2009 was primarily attributable to a $2.4 million increase in administrative expenses primarily due to FDIC premiums related to CapitalSource Bank.

Income Taxes

During the three months ended March 31, 2009 and 2008, we recorded ($53.4) million and $3.1 million of income tax (benefit) expense, respectively. The effective income tax rate on our consolidated net income was 33.9% and 32.0% for the three months ended March 31, 2009 and 2008, respectively. The increase in the effective tax rate for the three months ended March 31, 2009, compared to the three months ended March 31, 2008, is primarily due to the revocation of our REIT status at the beginning of 2009, the non deductibility for tax purposes of a portion of the interest expense incurred on our convertible debentures, and higher state tax rates caused in part by the establishment of our banking operations in California in the third quarter of 2008. The increase in the effective tax rate was offset in part by the tax impacts of the convertible debt exchange and our equity compensation plans, and taxes on foreign exchange gains incurred with respect to our European operations.

Comparison of the Three Months Ended March 31, 2009 and 2008

We have reclassified all comparative prior period segment information to reflect our three reportable segments. The discussion that follows differentiates our results of operations between our segments. All references to loans below include loans, loans held for sale and receivables under reverse-repurchase agreements.

CapitalSource Bank Segment

Our CapitalSource Bank segment operating results for the three months ended
March 31, 2009, were as follows ($ in thousands):


              Interest income                               $ 72,867
              Fee income                                       4,557
              Interest expense                                38,413
              Provision for loan losses                       24,991
              Operating expenses                              23,740
              Other income                                     9,561
              Income tax benefit                                 (65 )
              Net loss attributable to CapitalSource Inc.        (94 )

Interest Income

Total interest income was $72.9 million for the three months ended March 31, 2009, with an average yield on interest earning assets of 5.03%. Interest income on loans receivable was $45.2 million, yielding 6.56% on an average loans receivable balance of $2.8 billion. During the three months ended March 31, 2009, $1.1 million of our accrued interest was reversed on non-accrual loans and negatively impacted the yield by 16 basis points. Interest income on the "A" Participation Interest was $17.2 million, yielding 5.67% on an average balance of $1.2 billion. The "A" Participation Interest was purchased at a discount and has a stated coupon equal to one-month LIBOR plus 1.50%. The unamortized discount is accreted into income using the interest method. During the three months ended March 31, 2009, we accreted $11.0 million discount into interest income on loans in the accompanying consolidated statements of income. Changes from one period to next in actual repayments or expected repayments may have a material impact on our interest income and yield recognized during the period. Interest income from our investment and mortgage-backed securities, including available-for-sale and held-to-maturity securities, was $8.9 million, yielding 4.27% on an average balance of $847.2 million. During the three months ended March 31, 2009, $685.7 million and $76.1 million of our investment and mortgage-backed securities, available-for-sale and held-to-maturity, respectively, were purchased while $319.9 million and $0.2 million, respectively, of principal repayments were received. Interest income on cash and cash equivalents was $1.6 million for an average yield of 0.66% on an average balance of $980.1 million. Our FHLB - San Francisco stock held during the quarter averaged $20.2 million. In the first quarter 2009, FHLB announced that it will pay a dividend for the first quarter of 2009.

Fee Income

Fee income was $4.6 million for the three months ended March 31, 2009, with an average yield on interest earning assets of 31 basis points.

Interest Expense

Total interest expense for the three months ended March 31, 2009 was $38.4 million. During the three months ended March 31, 2009, our average cost on interest-bearing liabilities was 3.16%. Our average balance of interest-bearing liabilities, principally deposits and borrowings, was $4.9 billion during the three months ended March 31, 2009. Our interest expense on deposits for the three months ended March 31, 2009 was $38.4 million with an average cost of deposits of 3.16% on an average balance of $4.9 billion. During the three months ended March 31, 2009, $1.5 billion of our time deposits, including brokered deposits, matured with a weighted average interest rate of 3.53% and $1.1 billion of new time deposits were issued at a weighted average interest rate of 1.89%. Additionally, during the three months ended March 31, 2009, our weighted average interest rate of our liquid account deposits, savings and money market accounts, declined from 2.66% at the beginning of the quarter to 1.57% at end of the quarter. The average balance of time deposits and liquid account deposits was $4.2 billion and $746.6 million, respectively. Our interest expense on borrowings, consisting of FHLB of San Francisco advances, was $26,000 with an average cost of 2.07% on an average balance of $5.0 million. During the three months ended

March 31, 2009, $50.0 million of fixed rate advances, with an original weighted . . .