Santander Bancorp 10-Q 2006 Q2 Quarterly report

UNITED STATES OF AMERICA SECURITIES AND EXCHANGE COMMISSION

Washington, D.C., 20549

FORM 10-Q

þ QUARTERLY REPORT PURSUANT TO SECTION 13 OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period ended June 30, 2006

Commission File: 001-15849

SANTANDER BANCORP

(Exact name of Corporation as specified in its charter)

Commonwealth of Puerto Rico	66-0573723
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
207 Ponce de Leon Avenue, Hato Rey, Puerto Rico	00917
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code:
(787) 777-4100

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yesþ Noo

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

Large accelerated filero           Accelerated filerþ          Non-accelerated filero

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

Indicate the number of shares outstanding of each of the Registrant’s classes of common stock as of the last practicable date.

Securities registered pursuant to Section 12(b) of the Securities Exchange Act of 1934:

Title of each class	Outstanding as of June 30, 2006
Common Stock, $2.50 par value	46,639,104

SANTANDER BANCORP

CONTENTS

	Page No.
Part I: Financial Information
Item 1. Financial Statements
Condensed Consolidated Balance Sheets	1
Condensed Consolidated Statements of Income	2
Condensed Consolidated Statements of Changes in Stockholders’ Equity	3
Condensed Consolidated Statements of Comprehensive Income	4
Condensed Consolidated Statements of Cash Flows	5
Notes to Condensed Consolidated Financial Statements	7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	26
Item 3. Quantitative and Qualitative Disclosures about Market Risk	52
Item 4. Controls and Procedures	56
Part II: Other Information
Item 1. Legal Proceedings	57
Item 1A. Risk Factors	57
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	58
Item 3. Defaults upon Senior Securities	58
Item 4. Submission of Matters to a Vote of Security Holders	58
Item 5. Other Information	58
Item 6. Exhibits	59
Signatures	61
EX-31.1 SECTION 302, CERTIFICATION OF THE CEO
EX-31.2 SECTION 302, CERTIFICATION OF THE COO
EX-31.3 SECTION 302, CERTIFICATION OF THE CAO
EX-32.1 SECTION 906, CERTIFICATION OF THE COO AND CAO

Forward-Looking Statements. When used in this Form 10-Q or future filings by Santander BanCorp (the “Corporation”) with the Securities and Exchange Commission, in the Corporation’s press releases or other public or shareholder communications, or in oral statements made with the approval of an authorized executive officer, the word or phrases “would be”, “will allow”, “intends to”, “will likely result”, “are expected to”, “will continue”, “is anticipated”, “estimate”, “project”, “believe”, or similar expressions are intended to identify “forward looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995.

     The future results of the Corporation could be affected by subsequent events and could differ materially from those expressed in forward-looking statements. If future events and actual performance differ from the Corporation’s assumptions, the actual results could vary significantly from the performance projected in the forward-looking statements.

     The Corporation wishes to caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made, and to advise readers that various factors, including regional and national conditions, substantial changes in levels of market interest rates, credit and other risks of lending and investment activities, competitive and regulatory factors and legislative changes, could affect the Corporation’s financial performance and could cause the Corporation’s actual results for future periods to differ materially from those anticipated or projected. The Corporation does not undertake, and specifically disclaims any obligation, to update any forward-looking statements to reflect occurrences or unanticipated events or circumstances after the date of such statements.

PART I

ITEM 1

FINANCIAL STATEMENTS

SANTANDER BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
AS OF JUNE 30, 2006 AND DECEMBER 31, 2005
(Dollars in thousands, except share data)

	June 30,			December 31,
	2006			2005
ASSETS
CASH AND CASH EQUIVALENTS:
Cash and due from banks	$	188,544		$	136,731
Interest-bearing deposits		583			8,833
Federal funds sold and securities purchased under agreements to resell		72,542			92,429
Total cash and cash equivalents		261,669			237,993
INTEREST-BEARING DEPOSITS		51,702			101,034
TRADING SECURITIES		46,682			37,679
INVESTMENT SECURITIES AVAILABLE FOR SALE, at fair value:
Securities pledged that can be repledged		1,007,095			995,032
Other investment securities available for sale		543,207			564,649
Total investment securities available for sale		1,550,302			1,559,681
OTHER INVESTMENT SECURITIES, at amortized cost		42,835			41,862
LOANS HELD FOR SALE, net		302,496			213,102
LOANS, net		6,109,822			5,741,788
ACCRUED INTEREST RECEIVABLE		92,330			77,962
PREMISES AND EQUIPMENT, net		57,243			55,867
GOODWILL		144,715			34,791
INTANGIBLE ASSETS		47,861			10,092
OTHER ASSETS		221,804			160,097
	$	8,929,461		$	8,271,948
LIABILITIES AND STOCKHOLDERS’ EQUITY
DEPOSITS:
Non interest-bearing	$	674,664		$	672,225
Interest-bearing		4,295,278			4,552,425
Total deposits		4,969,942			5,224,650
FEDERAL FUNDS PURCHASED AND OTHER BORROWINGS		1,375,000			768,846
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE		973,032			947,767
COMMERCIAL PAPER ISSUED		437,132			334,319
TERM NOTES		40,877			40,215
SUBORDINATED CAPITAL NOTES		239,810			121,098
ACCRUED INTEREST PAYABLE		74,302			65,160
OTHER LIABILITIES		263,088			201,366
Total liabilities		8,373,183			7,703,421
Contingencies and Commitments (Notes 7, 9 and 10)
STOCKHOLDERS’ EQUITY:
Series A preferred stock, $25 par value; 10,000,000 shares authorized, none outstanding		—			—
Common stock, $2.50 par value; 200,000,000 shares authorized; 50,650,364 shares issued; 46,639,104 shares outstanding		126,626			126,626
Capital paid in excess of par value		304,171			304,171
Treasury stock at cost, 4,011,260 shares		(67,552	)		(67,552	)
Accumulated other comprehensive loss, net of taxes		(63,296	)		(41,591	)
Retained earnings:
Reserve fund		133,759			133,759
Undivided profits		122,570			113,114
Total stockholders’ equity		556,278			568,527
	$	8,929,461		$	8,271,948

The accompanying notes are an integral part of these financial statements

1

SANTANDER BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
FOR THE SIX AND THREE MONTHS ENDED JUNE 30, 2006 AND 2005
(Dollars in thousands, except per share data)

	For the six months ended						For the three months ended
	June 30,			June 30,			June 30,			June 30,
	2006			2005			2006			2005
INTEREST INCOME:
Loans	$	250,437		$	162,809		$	138,359		$	85,436
Investment securities		37,052			38,414			18,784			15,958
Interest-bearing deposits		1,921			1,547			962			1,336
Federal funds sold and securities purchased under agreements to resell		2,413			2,668			1,082			1,320
Total interest income		291,823			205,438			159,187			104,050
INTEREST EXPENSE:
Deposits		81,085			52,500			42,449			30,219
Securities sold under agreements to repurchase and other borrowings		65,623			41,269			37,376			18,871
Subordinated capital notes		3,267			1,299			853			698
Total interest expense		149,975			95,068			80,678			49,788
Net interest income		141,848			110,370			78,509			54,262
PROVISION FOR LOAN LOSSES		23,513			10,750			15,975			4,050
Net interest income after provision for loan losses		118,335			99,620			62,534			50,212
OTHER INCOME (LOSS):
Bank service charges, fees and other		22,156			20,627			11,038			10,432
Broker-dealer, asset management and insurance fees		29,476			26,339			14,431			13,766
Gain on sale of securities		60			17,376			56			415
Loss on extinguishment of debt		—			(6,744	)		—			(17	)
Gain on sale of mortgage servicing rights		18			55			15			12
Gain (loss) on sale of loans		(3	)		7,207			(1	)		6,127
Other income (loss)		(812	)		6,712			(506	)		1,749
Total other income		50,895			71,572			25,033			32,484
OTHER OPERATING EXPENSES:
Salaries and employee benefits		56,115			48,289			29,559			24,121
Occupancy costs		10,734			8,388			6,085			4,364
Equipment expenses		2,334			1,800			1,294			884
EDP servicing, amortization and technical assistance		17,860			15,389			9,806			7,596
Communication expenses		4,985			4,196			2,667			2,180
Business promotion		5,743			5,042			3,162			2,680
Other taxes		5,079			4,188			2,703			2,086
Other operating expenses		26,047			22,754			13,908			10,769
Total other operating expenses		128,897			110,046			69,184			54,680
Income before provision for income tax		40,333			61,146			18,383			28,016
PROVISION FOR INCOME TAX		15,950			15,599			7,355			8,383
NET INCOME	$	24,383		$	45,547		$	11,028		$	19,633
BASIC AND DILUTED EARNINGS PER COMMON SHARE	$	0.52		$	0.98		$	0.24		$	0.42

The accompanying notes are an integral part of these financial statements

2

SANTANDER BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND THE YEAR ENDED DECEMBER 31, 2005
(Dollars in thousands)

	Six months Ended			Year Ended
	June 30, 2006			December 31, 2005
Common Stock:
Balance at beginning of year	$	126,626		$	126,626
Balance at end of period		126,626			126,626
Capital Paid in Excess of Par Value:
Balance at beginning of year		304,171			304,171
Balance at end of period		304,171			304,171
Treasury Stock at cost:
Balance at beginning of year		(67,552	)		(67,552	)
Balance at end of period		(67,552	)		(67,552	)
Accumulated Other Comprehensive Income, net of taxes:
Balance at beginning of year		(41,591	)		(6,818	)
Unrealized net loss on investment securities available for sale, net of tax		(21,741	)		(34,031	)
Unrealized net gain on cash flow hedges, net of tax		36			1,333
Minimum pension benefit, net of tax		—			(2,075	)
Balance at end of period		(63,296	)		(41,591	)
Reserve Fund:
Balance at beginning of year		133,759			126,820
Transfer from undivided profits		—			6,939
Balance at end of period		133,759			133,759
Undivided Profits:
Balance at beginning of year		113,114			70,099
Net income		24,383			79,806
Transfer to reserve fund		—			(6,939	)
Deferred tax benefit amortization		(2	)		(3	)
Common stock cash dividends		(14,925	)		(29,849	)
Balance at end of period		122,570			113,114
Total stockholders’ equity	$	556,278		$	568,527

The accompanying notes are an integral part of these financial statements

3

SANTANDER BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
FOR THE SIX AND THREE MONTHS ENDED JUNE 30, 2006 AND 2005
(Dollars in thousands)

	For the six months ended						For the three months ended
	June 30,			June 30,			June 30,			June 30,
	2006			2005			2006			2005
Comprehensive Income
Net income	$	24,383		$	45,547		$	11,028		$	19,633
Other comprehensive income (loss), net of tax:
Unrealized (losses) gains on investments securities available for sale, net of tax		(22,104	)		200			(10,109	)		15,194
Reclassification adjustment for gains and losses on investment securities available for sale included in net income, net of tax		363			(15,707	)		253			(897	)
Unrealized (losses) gains on investment securities available for sale, net of tax		(21,741	)		(15,507	)		(9,856	)		14,297
Unrealized gains on derivative used for cash flow hedges, net of tax		36			975			—			274
Other comprehensive (losses) income, net of tax		(21,705	)		(14,532	)		(9,856	)		14,571
Comprehensive income	$	2,678		$	31,015		$	1,172		$	34,204

The accompanying notes are an integral part of these financial statements

4

SANTANDER BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005
(Dollars in thousands)

	For the six months ended
	June 30, 2006			June 30, 2005
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income	$	24,383		$	45,547
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization		8,120			6,052
Deferred tax provision		482			3,250
Provision for loan losses		23,513			10,750
Gain on sale of securities		(60	)		(17,376	)
Gain on equity securities		(497	)		—
(Gain) loss on sale of loans		3			(7,207	)
Gain on sale of mortgage-servicing rights		(18	)		(55	)
(Gain) loss on derivatives		1,311			(2,723	)
(Gain) loss on sale of trading securities		601			(106	)
Net (discount accretion) premium amortization on securities		(1,431	)		2,294
Net (discount accretion) premium amortization on loans		(1,636	)		185
Purchases and originations of loans held for sale		(428,152	)		(377,394	)
Proceeds from sales of loans held for sale		564			162,289
Repayments of loans held for sale		6,590			7,936
Proceeds from sales of trading securities		6,818,935			540,280
Purchases of trading securities		(6,828,539	)		(555,990	)
Net change in:
Increase in accrued interest receivable		(14,368	)		(6,115	)
Increase in other assets		(36,680	)		(5,192	)
Increase in accrued interest payable		9,142			14,718
Increase in other liabilities		17,481			25,632
Total adjustments		(424,639	)		(198,772	)
Net cash used in operating activities		(400,256	)		(153,225	)
CASH FLOWS FROM INVESTING ACTIVITIES:
Decrease (increase) in interest-bearing deposits		49,332			(50,000	)
Proceeds from sales of investment securities available for sale		—			851,388
Proceeds from maturities of investment securities available for sale		14,746,559			4,599,749
Purchases of investment securities available for sale		(14,833,975	)		(4,999,352	)
Proceeds from equity securities		497			—
Purchases of other investments		(972	)		—
Repayment of securities and securities called		67,800			73,223
Proceeds from derivative transactions		—			2,303
Purchases of mortgage loans		—			(89,746	)
Net decrease (increase) in loans		523,561			(171,803	)
Proceeds from sales of mortgage-servicing rights		18			55
Payment for the acquisition of net assets of consumer finance company, net of cash and cash equivalent acquired		(740,761	)		—
Purchases of premises and equipment		(2,638	)		(4,255	)
Net cash (used in) provided by investing activities		(190,579	)		211,562

(Continued)

The accompanying notes are an integral part of these financial statements

5

SANTANDER BANCORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005
(Dollars in thousands)

	For the six months ended
	June 30,			June 30,
	2006			2005
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in deposits	$	(237,819	)	$	802,817
Net increase in federal funds purchased and other borrowings		606,154			146,168
Net increase (decrease) in securities sold under agreements to repurchase		25,265			(472,912	)
Net increase (decrease) in commercial paper issued		102,813			(364,952	)
Net increase in term notes		662			7,825
Issuance of subordinated capital notes		124,898			5
Dividends paid		(7,462	)		(7,462	)
Net cash provided by financing activities		614,511			111,489
NET CHANGE IN CASH AND CASH EQUIVALENTS		23,676			169,826
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD		237,993			479,410
CASH AND CASH EQUIVALENTS, END OF PERIOD	$	261,669		$	649,236

(Concluded)     

The accompanying notes are an integral part of these financial statements

6

SANTANDER BANCORP AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
AS OF AND FOR THE THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2006 AND 2005

1. Summary of Significant Accounting Policies:

     The accounting and reporting policies of Santander BanCorp (the “Corporation”), a 91% owned subsidiary of Banco Santander Central Hispano, S.A. (“BSCH”) conform with accounting principles generally accepted in the United States of America (hereinafter referred to as “generally accepted accounting principles” or “GAAP”) and with general practices within the financial services industry. The unaudited consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in the financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such SEC rules and regulations. The results of operations and cash flows for the three and six month periods ended June 30, 2006 and 2005 are not necessarily indicative of the results to be expected for the full year.

     These statements should be read in conjunction with the consolidated financial statements and footnotes included in the Corporation’s Form 10-K for the year ended December 31, 2005. The accounting policies used in preparing these consolidated financial statements are the same as those described in Note 1 to the consolidated financial statements in the Corporation’s Form 10-K.

Following is a summary of the Corporation’s most significant policies:

Nature of Operations and Use of Estimates

     Santander BanCorp is a financial holding company offering a full range of financial services through its wholly owned banking subsidiary Banco Santander Puerto Rico and subsidiaries (the “Bank”). The Corporation also engages in broker-dealer, asset management, mortgage banking, consumer finance, international banking and insurance agency services through its subsidiaries, Santander Securities Corporation, Santander Asset Management Corporation, Santander Mortgage Corporation, Santander Financial Services, Inc., Santander International Bank of Puerto Rico, Inc. and Santander Insurance Agency, Inc., respectively.

     Santander BanCorp is subject to the Federal Bank Holding Company Act and to the regulations, supervision, and examination of the Federal Reserve Board.

     In preparing the consolidated financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, income taxes, the valuation of foreclosed real estate, deferred tax assets and financial instruments.

Principles of Consolidation

     The accompanying condensed consolidated financial statements include the accounts of the Corporation, the Bank and the Bank’s wholly owned subsidiaries, Santander Mortgage Corporation and Santander International Bank of Puerto Rico, Inc.; Santander Securities Corporation and its wholly owned subsidiary, Santander Asset Management Corporation; Santander Financial Services, Inc. and Santander Insurance Agency, Inc. All significant intercompany balances and transactions have been eliminated in consolidation.

On February 28, 2006 the Corporation acquired substantially all the assets and business operations in Puerto Rico of Island Finance for $742 million. The Island Finance operation was acquired by Santander Financial Services, Inc. (“Santander Financial”) a 100% owned subsidiary of the Corporation. In connection with this transaction the Corporation entered into a $725 million loan agreement ($600 million for the acquisition and $125 million to refinance other debt of the Corporation unrelated to this acquisition) with Santusa Holding, S.L., a subsidiary of its parent company. On June 19, 2006, Santander BanCorp entered into a novation agreement and an amended and restated loan agreement with Lloyds TBS Bank to refinance the terms of the $725 million loan agreement with Santusa Holding, S.L. The Corporation also completed the private placement of $125 million Trust Preferred Securities (“Preferred Securities”) and issued Junior Subordinated Debentures in the aggregate principal amount of $129 million in connection with the issuance of the Preferred Securities.

7

The Preferred Securities are classified as subordinated capital notes and the dividends as interest expense in the accompanying condensed consolidated financial statements.

     As a result of this transaction the Corporation recognized goodwill of $109.9 million and other intangible assets of $38.6 million (refer to Note 5 for additional information).

     In July 2006, the Corporation acquired at book value Island Insurance Corporation from Wells Fargo for $5.7 million. Island Insurance Corporation is a Puerto Rico life insurance company, duly licensed by the Puerto Rico Commissioner of Insurance. The insurance company has not begun operations.

Securities Purchased/Sold under Agreements to
Resell/Repurchase

     Repurchase and resell agreements are treated as collateralized financing transactions and are carried at the amounts at which the assets will be subsequently reacquired or resold.

     The counterparties to securities purchased under resell agreements maintain effective control over such securities and accordingly those are not reflected in the Corporation’s consolidated balance sheets. The Corporation monitors the market value of the underlying securities as compared to the related receivable, including accrued interest, and requests additional collateral where deemed appropriate.

     The Corporation maintains effective control over assets sold under agreements to repurchase; accordingly, such securities continue to be carried on the consolidated balance sheets.

Investment Securities

     Investment securities are classified in four categories and accounted for as follows:

• Debt securities that the Corporation has the intent and ability to hold to maturity are classified as securities held-to-maturity and reported at cost adjusted for premium amortization and discount accretion. The Corporation may not sell or transfer held-to-maturity securities without calling into question its intent to hold other securities to maturity, unless a nonrecurring or unusual event that could not have been reasonably anticipated has occurred.

• Debt and equity securities that are bought and held principally for the purpose of selling them in the near term are classified as trading securities and reported at fair value, with unrealized gains and losses included in earnings. Financial instruments including, to a limited extent, derivatives, such as option contracts, are used by the Corporation in dealing and other trading activities and are carried at fair value. Interest revenue and expense arising from trading instruments are included in the consolidated statement of income as part of net interest income.

• Debt and equity securities not classified as either securities held-to-maturity or trading securities, and which have a readily available fair value, are classified as securities available for sale and reported at fair value, with unrealized gains and losses reported, net of taxes, in accumulated other comprehensive income (loss). The specific identification method is used to determine realized gains and losses on securities available for sale, which are included in gain (loss) on sale of investment securities in the consolidated statements of income.

• Investments in debt, equity or other securities that do not have readily determinable fair value, are classified as other investment securities in the consolidated balance sheets. These securities are stated at cost. Stock that is owned by the Corporation to comply with regulatory requirements, such as Federal Home Loan Bank (FHLB) stock, is included in this category.

     The amortization of premiums is deducted and the accretion of discounts is added to net interest income based on a method which approximates the interest method over the outstanding period of the related securities. The cost of securities sold is determined by specific identification. For securities available for sale, held to maturity and other

8

investment securities, the Corporation reports separately in the consolidated statements income, net realized gains or losses on sales of investment securities and unrealized loss valuation adjustments considered other than temporary, if any.

Derivative Financial Instruments

     The Corporation uses derivative financial instruments mostly as hedges of interest rate risk, changes in fair value of assets and liabilities and to secure future cash flows.

     All of the Corporation’s derivative instruments are recognized as assets and liabilities at fair value. If certain conditions are met, the derivative may qualify for hedge accounting treatment and be designated as one of the following types of hedges: (a) hedge of the exposure to changes in the fair value of a recognized asset or liability or an unrecognized firm commitment (“fair value hedge”); (b) a hedge of the exposure to variability of cash flows of a recognized asset, liability of forecasted transaction (“cash flow hedge”) or (c) a hedge of foreign currency exposure (“foreign currency hedge”).

     In the case of a qualifying fair value hedge, changes in the value of the derivative instruments that have been highly effective are recognized in current period earnings along with the change in value of the designated hedged item. If the hedge relationship is terminated, hedge accounting is discontinued and any balance related to the derivative is recognized in current operations, and the fair value adjustment to the hedged item continues to be reported as part of the basis of the item and is amortized to earnings as a yield adjustment. In the case of a qualifying cash flow hedge, changes in the value of the derivative instruments that have been highly effective are recognized in other comprehensive income, until such time as those earnings are affected by the variability of the cash flows of the underlying hedged item. If the hedge relationship is terminated, the net derivative gain or loss related to the discontinued cash flow hedge continues to be reported in accumulated other comprehensive income and is reclassified into earnings when the cash flows that were hedged occur, or when the forecasted transaction affects earnings or is no longer expected to occur. In either a fair value hedge or a cash flow hedge, net earnings may be impacted to the extent the changes in the value of the derivative instruments do not perfectly offset changes in the value of the hedged items. If the derivative is not designated as a hedging instrument, the changes in fair value of the derivative are recorded in earnings. Currently, the Corporation does not have foreign currency hedges.

     Certain contracts contain embedded derivatives. When the embedded derivative possesses economic characteristics that are not clearly and closely related to the economic characteristic of the host contract, it is bifurcated, carried at fair value, and designated as a trading or non-hedging derivative instrument.

Loans Held for Sale

     Loans held for sale are recorded at the lower of cost or market computed on the aggregated portfolio basis. The amounts by which cost exceeds market value, if any, is accounted for as a valuation allowance with changes included in the determination of net income for the period in which the change occurs.

Loans

     Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are reported at their outstanding unpaid principal balances adjusted for the allowance for loan losses, unearned finance charges and any deferred fees or costs on originated loans.

     Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and amortized using methods that approximate the interest method over the term of the loans as an adjustment to interest yield. Discounts and premiums on purchased loans are amortized to income over the expected lives of the loans using methods that approximate the interest method.

     The accrual of interest on loans is discontinued when, in management’s opinion, the borrower may be unable to meet payments as they become due, but in no event is it recognized after 90 days in arrears on payments of principal or interest, except for credit cards and mortgage loans for which interest is not recognized after four months. When interest accrual is discontinued, all unpaid interest is reversed. Interest income is subsequently recognized only to the extent that it is received. The non accrual status is discontinued when loans are made current by the borrower.

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     The Corporation leases vehicles and equipment to individual and corporate customers. The finance method of accounting is used to recognize revenue on lease contracts that meet the criteria specified in Statement of Financial Accounting Standards (“SFAS’) No. 13, “Accounting for Leases”, as amended. Aggregate rentals due over the term of the leases less unearned income are included in lease receivable, which is part of “Loans, net” in the consolidated balance sheets. Unearned income is amortized to income over the lease term so as to yield a constant rate of return on the principal amounts outstanding. Lease origination fees and costs are deferred and amortized over the average life of the portfolio as an adjustment to yield.

Off-Balance Sheet Instruments

     In the ordinary course of business, the Corporation enters into off-balance sheet instruments consisting of commitments to extend credit, stand by letters of credit and financial guarantees. Such financial instruments are recorded in the financial statements when they are funded or when the related fees are incurred or received. The Corporation periodically evaluates the credit risks inherent in these commitments, and establishes loss allowances for such risks if and when these are deemed necessary.

     Fees received for providing loan commitments and letters of credit that result in loans are typically deferred and amortized to interest income over the life of the related loan, beginning with the initial borrowing. Fees on commitments and letters of credit are amortized to non-interest income as banking fees and commissions over the commitment period when funding is not expected.

Allowance for Loan Losses

     The allowance for loan losses is a current estimate of the losses inherent in the present portfolio based on management’s ongoing quarterly evaluations of the loan portfolio. Estimates of losses inherent in the loan portfolio involve the exercise of judgment and the use of assumptions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. The allowance is increased by a provision for loan losses, which is charged to expense and reduced by charge-offs, net of recoveries. Changes in the allowance relating to impaired loans are charged or credited to the provision for loan losses. Because of uncertainties inherent in the estimation process, management’s estimate of credit losses in the loan portfolio and the related allowance may change in the near term.

     The Corporation follows a systematic methodology to establish and evaluate the adequacy of the allowance for loan losses. This methodology consists of several key elements.

     Larger commercial and construction loans that exhibit potential or observed credit weaknesses are subject to individual review. Where appropriate, allowances are allocated to individual loans based on management’s estimate of the borrower’s ability to repay the loan given the availability of collateral, other sources of cash flow and legal options available to the Corporation.

     Included in the review of individual loans are those that are impaired as defined by GAAP. Any allowances for loans deemed impaired are measured based on the present value of expected future cash flows discounted at the loans’ effective interest rate or on the fair value of the underlying collateral if the loan is collateral dependent. Commercial business, commercial real estate and construction loans exceeding a predetermined monetary threshold are individually evaluated for impairment. Other loans are evaluated in homogeneous groups and collectively evaluated for impairment. Loans that are recorded at fair value or at the lower of cost or fair value are not evaluated for impairment. Impaired loans for which the discounted cash flows, collateral value or market price exceeds its carrying value do not require an allowance. The Corporation evaluates the collectibility of both principal and interest when assessing the need for loss accrual.

     Historical loss rates are applied to other commercial loans not subject to individual review. The loss rates are derived from historical loss trends.

     Homogeneous loans, such as consumer installments, credit cards and residential mortgage loans are not individually risk graded. Allowances are established for each pool of loans based on the expected net charge-offs for one year. Loss rates are based on the average net charge-off history by loan category, market loss trends and other relevant economic factors.

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     An unallocated allowance is maintained to recognize the imprecision in estimating and measuring loss when evaluating allowances for individual loans or pools of loans.

     Historical loss rates for commercial and consumer loans may also be adjusted for significant factors that, in management’s judgment, reflect the impact of any current condition on loss recognition. Factors which management considers in the analysis include the effect of the national and local economies, trends in the nature and volume of loans (delinquencies, charge-offs, non-accrual and problem loans), changes in the internal lending policies and credit standards, collection practices, and examination results from bank regulatory agencies and the Corporation’s internal credit examiners.

     Allowances on individual loans and historical loss rates are reviewed quarterly and adjusted as necessary based on changing borrower and/or collateral conditions and actual collection and charge-off experience.

Transfers and Servicing of Financial Assets and Extinguishments of Liabilities

     Transfers of financial assets are accounted for as sales, when control over the transferred assets is deemed to be surrendered: (1) the assets have been isolated from the Corporation, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Corporation does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. The Corporation recognizes the financial assets and servicing assets it controls and the liabilities it has incurred. At the same time, it ceases to recognize financial assets when control has been surrendered and liabilities when they are extinguished.

Goodwill and Intangible Assets

     Goodwill and other intangible assets that have indefinite useful lives are not amortized but rather are tested at least annually for impairment. Intangible assets with finite useful lives continue to be amortized over the period the Corporation expects to benefit from such assets. These intangible assets are periodically reviewed for other than temporary impairment by determining whether the unamortized balances can be recovered through undiscounted future net cash flows of the related assets.

     Based on management’s assessment of the value of the Corporation’s goodwill at October 1, 2005, which included an independent valuation, among others, management determined that the Corporation’s goodwill was not impaired.

Mortgage-Servicing Rights

     The Corporation’s mortgage-servicing rights (“MSRs”) are stated at the lower of carrying value or market at each balance sheet date. On a quarterly basis the Corporation evaluates its MSRs for impairment and charges any such impairment to current period earnings. In order to evaluate its MSRs the Corporation stratifies the related mortgage loans on the basis of their risk characteristics which have been determined to be type of loan (government-guaranteed, conventional, conforming and non-conforming), interest rates and maturities. Impairment of MSRs is determined by estimating the fair value of each stratum and comparing it to its carrying value. An impairment loss amounting to $51,000 and $214,000 was recognized for the six months ended and year ended June 30, 2006 and December 31, 2005, respectively.

     MSRs are also subject to periodic amortization. The amortization of MSRs is based on the amount and timing of estimated cash flows to be recovered with respect to the MSRs over their expected lives. Amortization may be accelerated or decelerated to the extent that changes in interest rates or prepayment rates warrant.

Mortgage Banking

     Mortgage loan servicing includes collecting monthly mortgagor payments, forwarding payments and related accounting reports to investors, collecting escrow deposits for the payment of mortgagor property taxes and insurance, and paying taxes and insurance from escrow funds when due. No asset or liability is recorded by the Corporation for mortgages serviced, except for mortgage-servicing rights arising from the sale of mortgages, advances to investors and escrow balances.

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     The Corporation recognizes as a separate asset the right to service mortgage loans for others whenever those servicing rights are acquired. The Corporation acquires MSRs by purchasing or originating loans and selling or securitizing those loans (with the servicing rights retained) and allocates the total cost of the mortgage loans sold to the MSRs (included in intangible assets in the accompanying consolidated balance sheets) and the loans based on their relative fair values. Further, MSRs are assessed for impairment based on the fair value of those rights. MSRs are amortized over the estimated life of the related servicing income. Mortgage loan-servicing fees, which are based on a percentage of the principal balances of the mortgages serviced, are credited to income as mortgage payments are collected.

Broker-dealer and Asset Management Commissions

     Commissions of the Corporation’s broker-dealer operations are composed of brokerage commission income and expenses recorded on a trade date basis and proprietary securities transactions recorded on a trade date basis. Investment banking revenues include gains, losses and fees net of syndicate expenses, arising from securities offerings in which the Corporation acts as an underwriter or agent. Investment banking management fees are recorded on offering date, sales concessions on trade date, and underwriting fees at the time the underwriting is completed and the income is reasonably determinable. Revenues from portfolio and other management and advisory fees include fees and advisory charges resulting from the asset management of certain funds and are recognized over the period when services are rendered.

Insurance Commissions

     The Corporation’s insurance agency operation earns commissions on the sale of insurance policies issued by unaffiliated insurance companies. Commission revenue is reported net of the provision for commission returns on insurance policy cancellations, which are based on management’s estimate of future insurance policy cancellations as a result of historical turnover rates by types of credit facilities subject to insurance.

Income Taxes

     The Corporation uses the asset and liability balance sheet method for the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in the Corporation’s financial statements or tax returns. Deferred income tax assets and liabilities are determined for differences between financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future. The computation is based on enacted tax laws and rates applicable to periods in which the temporary differences are expected to be recovered or settled. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount that is more likely than not to be realized. The Corporation also accounts for income tax contingencies.

Earnings Per Common Share

     Basic and diluted earnings per common share are computed by dividing net income available to common stockholders, by the weighted average number of common shares outstanding during the period. The Corporation’s average number of common shares outstanding, used in the computation of earnings per common share were 46,639,104 for each of the quarters ended June 30, 2006 and 2005, respectively. Basic and diluted earnings per common share are the same since no stock options or other stock equivalents were outstanding during the periods ended June 30, 2006 and 2005.

Recent Accounting Pronouncements which Affect the Corporation

     The adoption of the following accounting pronouncements did not have a material impact on the Corporation’s results of operations and financial condition:

• FIN No. 47, “Accounting for Conditional Asset Retirement Obligations” — an interpretation of FASB Statement No. 143.In March 2005, the Financial Accounting Standards Board (“FASB”) issued Interpretation (“FIN”) No. 47, “Accounting for Conditional Asset Retirement Obligations”—an interpretation of FASB Statement No. 143. This Interpretation clarifies the term conditional asset retirement obligation as used in SFAS No. 143 and requires a liability to be recorded if the fair value of the obligation can be reasonably estimated. The types of asset retirement obligations that are covered by this Interpretation are those for which an entity has a legal obligation to perform an asset retirement activity, but for which the timing and (or) method of settling the obligation are conditional on a future event that may or may not be within the control of the entity. FIN No. 47 also clarifies

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when an entity would have sufficient information to reasonably estimate the fair value of an asset retirement obligation. This Interpretation was effective no later than the end of fiscal years ending after December 15, 2005. The adoption of this statement did not have a material impact on the Corporation’s financial condition, results of operations, or cash flows.

•

SFAS No. 154, “Accounting Changes and Error Corrections”.In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections”, a replacement of APB Opinion No. 20 and FASB Statement No. 3. The statement applies to all voluntary changes in accounting principle, and changes the requirements for accounting and reporting of a change in accounting principle. SFAS No. 154 requires retrospective application to prior periods’ financial statements of a voluntary change in accounting principle unless it is impracticable. SFAS No. 154 is the result of a broader effort by the FASB to improve the comparability of cross-border financial reporting by working with the International Accounting Standards Board toward development of a single set of high-quality accounting standards. SFAS No. 154 requires that a change in method of depreciation, amortization, or depletion for long-lived, non-financial assets be accounted for as a change in accounting estimate that is effected by a change in accounting principle. APB Opinion No. 20 previously required that such a change be reported as a change in accounting principle. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The Statement does not change the transition provisions of any existing accounting pronouncements, including those that are in a transition phase as of the effective date of this statement. The adoption of this statement did not have a material impact on the Corporation’s financial condition, results of operations or cash flows.

     The Corporation is evaluating the impact that the following recently issued accounting pronouncements may have on its financial condition and results of operations.

• SFAS No. 156, “Accounting for Servicing of Financial Assets, an amendment to SFAS No. 140.”In March 2006, the FASB issued SFAS No. 156, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities to (1) require the recognition of a servicing asset or servicing liability under specified circumstances, (2) require that, if practicable, all separately recognized servicing assets and liabilities be initially measured at fair value, (3) create a choice for subsequent measurement of each class of servicing assets or liabilities by applying either the amortization method or the fair value method, and (4) permit the one-time reclassification of securities identified as offsetting exposure to changes in fair value of servicing assets or liabilities from available-for-sale securities to trading securities under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities. In addition, SFAS No. 156 amends SFAS No. 140 to require significantly greater disclosure concerning recognized servicing assets and liabilities. SFAS No. 156 is effective for all separately recognized servicing assets and liabilities acquired or issued after the beginning of an entity’s fiscal year that begins after September 15, 2006, with early adoption permitted. The adoption of SFAS No. 156 is not expected to have a material effect on the Corporation’s consolidated financial position or results of operations.

• FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). In July 2006, the FASB issued FIN 48,Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109, which clarifies the accounting for uncertainty in tax positions. This Interpretation requires that the Corporation recognize in the financial statements, the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 are effective for fiscal years beginning after December 15, 2006, with the cumulative effect of the change in accounting principle recorded as an adjustment to opening retained earnings. The adoption of FIN 48 is not expected to have a material effect on the Corporation’s consolidated financial position or results of operations.

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2. Investment Securities Available for Sale:

     The amortized cost, gross unrealized gains and losses, fair value and weighted average yield of investment securities available for sale by contractual maturity are as follows:

	June 30, 2006
			Gross		Gross				Weighted
	Amortized		Unrealized		Unrealized		Fair		Average
	Cost		Gains		Losses		Value		Yield
	(Dollars in thousands)
Treasury and agencies of the United States Government:
Within one year	$	358,744	$	3	$	416	$	358,331		4.90	%
After one year to five years		486,862		—		26,254		460,608		3.89	%
		845,606		3		26,670		818,939		4.32	%
Commonwealth of Puerto Rico and its subdivisions:
Within one year		11,540		—		4		11,536		5.09	%
After one year to five years		3,805		—		63		3,742		4.07	%
After five years to ten years		31,346		—		1,027		30,319		4.85	%
Over ten years		13,636		—		198		13,438		5.84	%
		60,327		—		1,292		59,035		5.07	%
Mortgage-backed securities:
Over ten years		712,457		—		40,204		672,253		5.00	%
Foreign securities
After one year to five years		75		—		—		75		5.60	%
	$	1,618,465	$	3	$	68,166	$	1,550,302		4.64	%

	December 31, 2005
			Gross		Gross				Weighted
	Amortized		Unrealized		Unrealized		Fair		Average
	Cost		Gains		Losses		Value		Yield
	(Dollars in thousands)
Treasury and agencies of the United States Government:
Within one year	$	279,780	$	4	$	598	$	279,186		3.04	%
After one year to five years		268,511		—		9,359		259,152		3.68	%
After five years to ten years		219,920		—		6,483		213,437		4.15	%
		768,211		4		16,440		751,775		3.58	%
Commonwealth of Puerto Rico and its subdivisions:
Within one year		12,750		43		3		12,790		4.93	%
After one year to five years		9,920		11		54		9,877		4.07	%
After five years to ten years		27,604		34		423		27,215		4.83	%
Over ten years		3,786		10		78		3,718		6.35	%
		54,060		98		558		53,600		4.82	%
Mortgage-backed securities:
Over ten years		775,073		—		20,842		754,231		5.00	%
Foreign Securities
After one year to five years		75		—		—		75		5.60	%
	$	1,597,419	$	102	$	37,840	$	1,559,681		4.42	%

     The number of positions, fair value and unrealized losses at June 30, 2006, of investment securities available for sale that have been in a continuous unrealized loss position for less than twelve months and for twelve months or more, are as follows:

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	Less than 12 months						12 months or more						Total
	Number						Number						Number
	of		Fair		Unrealized		of		Fair		Unrealized		of		Fair		Unrealized
	Positions		Value		Losses		Positions		Value		Losses		Positions		Value		Losses
	(Dollars in thousands)
Treasury and agencies of the United States Government		10	$	680,011	$	23,022		2	$	72,139	$	3,648		12	$	752,150	$	26,670
Commonwealth of Puerto Rico and its subdivisions		14		41,592		509		13		17,443		783		27		59,035		1,292
Mortgage-backed securities		13		242,299		12,562		18		429,954		27,642		31		672,253		40,204
		37	$	963,902	$	36,093		33	$	519,536	$	32,073		70	$	1,483,438	$	68,166

     The Corporation evaluates its investment securities for other-than-temporary impairment on a quarterly basis or earlier if other factors indicative of potential impairment exist. An impairment charge in the consolidated statements of income is recognized when the decline in the fair value of the securities below their cost basis is judged to be other-than-temporary. The Corporation considers various factors in determining whether it should recognize an impairment charge including, but not limited to the length of time and extent to which the fair value has been less than its cost basis, expectation of recoverability of its original investment in the securities and the Corporation’s intent and ability to hold the securities for a period of time sufficient to allow for any forecasted recovery of fair value up to (or beyond) the cost of the investment.

     The unrealized losses in the Corporation’s investments in U.S. and P.R. Government agencies and subdivisions were caused by interest rate increases. Substantially all of these securities are rated the equivalent of AAA by major rating agencies. For investment securities in the P.R. Government portfolio, which have experienced lower ratings due to credit quality concerns, no other-than-temporary impairment is expected because the Corporation anticipates to recover the amortized cost of these securities at maturity. Since the Corporation has the ability and intent to hold these investments until a recovery of fair value, which may be maturity, and the contractual term of these investments do not permit the issuer to settle the securities at a price less than the amortized cost, the Corporation does not consider these investments to be other-than-temporarily impaired at June 30, 2006.

     The unrealized losses in the Corporation’s investment in mortgage-backed securities were also caused by interest rate increases. The Corporation purchased these investments at a discount relative to their face amount, and the contractual cash flows of these investments are guaranteed by an agency of the U.S. government or by other government-sponsored corporations. Accordingly, it is expected that the securities will not be settled at a price less than the amortized cost of the Corporation’s investment. The decline in market value is attributable to changes in interest rates and not credit quality and since the Corporation has the ability and intent to hold these investments until a recovery of fair value, which may be maturity, the Corporation does not consider these investments to be other-than-temporarily impaired at June 30, 2006.

     Contractual maturities on certain securities, including mortgage-backed securities, could differ from actual maturities since certain issuers have the right to call or prepay these securities.

     The weighted average yield on investment securities available for sale is based on amortized cost, therefore it does not give effect to changes in fair value.

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3. Loans

     The Corporation’s loan portfolio at June 30, 2006 and December 31, 2005 consists of the following:

	June 30, 2006			December 31, 2005
	(in thousands)
Commercial and industrial	$	2,394,063		$	2,968,178
Consumer		1,368,077			564,198
Leasing		150,767			137,855
Construction		300,480			217,304
Mortgage		2,164,870			1,929,203
		6,378,257			5,816,738
Unearned income and deferred fees/costs		(180,740	)		(8,108	)
Allowance for loan losses		(87,695	)		(66,842	)
	$	6,109,822		$	5,741,788

4. Allowance for Loan Losses:

     Changes in the allowance for loan losses are summarized as follows:

	For the six months ended				For the three months ended
	June 30, 2006		June 30, 2005		June 30, 2006		June 30, 2005
	(in thousands)
Balance at beginning of period	$	66,842	$	69,177	$	87,717	$	69,205
Provision for loan losses		23,513		10,750		15,975		4,050
Reserve balance acquired		17,830		—		—		—
		108,185		79,927		103,692		73,255
Losses charged to the allowance:
Commercial		7,223		5,394		6,439		1,355
Construction		—		1,438		—		1,438
Consumer		14,981		10,072		10,235		5,690
Leasing		986		566		794		231
		23,190		17,470		17,468		8,714
Recoveries:
Commercial		1,220		949		565		483
Consumer		1,036		2,020		646		492
Leasing		444		197		260		107
		2,700		3,166		1,471		1,082
Net loans charged off		20,490		14,304		15,997		7,632
Balance at end of period	$	87,695	$	65,623	$	87,695	$	65,623

5. Goodwill and Intangible Assets:

     Goodwill represents the excess of an acquired company’s acquisition cost over the fair value of its net tangible and intangible assets. Goodwill is not amortized but rather is tested at least annually for impairment using a two step process at each reporting unit. The first step of the goodwill impairment test is used to identify potential impairment by comparing the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value of the reporting unit exceeds its carrying amount, the goodwill of the reporting unit is not considered impaired and the second step of the impairment test is not performed. If the carrying value of the reporting unit exceeds its fair value, the second step in the impairment test consists of comparing the implied fair value of the reporting unit goodwill with the carrying amount of that goodwill. The

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Corporation uses the market multiple, the discounted cash flows and comparable transaction approaches to determine the fair value of each reporting unit.

     Intangible assets, with an indefinite life, are not amortized and are tested for impairment at least annually comparing the fair value with the carrying amount of those assets. In determining the indefinite life for those assets, the Corporation considers the expected cash flows and several factors such as legal, regulatory, economic, contractual, competition and others, which could limit the useful life.

     Tangible and intangible assets with finite useful lives are amortized over their estimated useful lives.

     The Corporation has assigned goodwill to reporting units at the time of acquisition. Goodwill is allocated to the Commercial Banking segment, the Wealth Management segment and the Consumer Finance segment as follows:

	June 30, 2006		December 31, 2005
	(In thousands)
Commercial Banking	$	10,537	$	10,537
Wealth Management		24,254		24,254
Consumer Finance		109,924		—
	$	144,715	$	34,791

     Goodwill assigned to the Commercial Banking segment is related to the acquisition of Banco Central Hispano Puerto Rico (“BCHPR”) in 1996, the goodwill assigned to the Wealth Management segment is related to the acquisition of Merril Lynch’s retail brokerage business in Puerto Rico by Santander Securities Corporation in 2000 and goodwill assigned to the Consumer Finance segment is related to the acquisition of Island Finance in 2006. There has been no impairment in goodwill for each of the periods reported.

Other Intangible Assets

     Other intangible assets at June 30, 2006 and December 31, 2005, were as follows:

	June 30, 2006		December 31, 2005
	(In thousands)
Mortgage-servicing rights	$	7,226	$	7,974
Advisory-servicing rights		1,200		1,300
Intangible pension asset		818		818
Trade name		23,700		—
Customer relationships		10,251		—
Non-compete agreements		4,666		—
	$	47,861	$	10,092

     Mortgage-servicing rights have an estimated useful life of eight years. The advisory-servicing rights are related to the Corporation’s subsidiary acquisition of the right to serve as the investment advisor for the First Puerto Rico Tax-Exempt Fund, Inc. This intangible asset is being amortized over a 10-year estimated useful life. Trade name is related to the acquisition of Island Finance and has an indefinite useful life and is therefore not being amortized but is tested for impairment annually. Customer relationships and non-compete agreements are intangible assets related to the acquisition of Island Finance and are being amortized over their estimated useful lives of 10 years and 3 years, respectively.

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6. Other Assets

     Other assets at June 30, 2006 and December 31, 2005 consist of the following:

	June 30, 2006		December 31, 2005
	(In thousands)
Deferred tax assets, net	$	27,272	$	19,635
Accounts receivable		82,334		65,728
Securities sold not delivered, net		2,303		72
Other real estate		2,964		2,249
Software, net		9,688		11,095
Prepaid expenses		17,438		8,468
Customers’ liabilities on acceptances		2,564		3,669
Derivative assets		61,087		47,436
Other		16,154		1,745
	$	221,804	$	160,097

7. Other Borrowings:

     Following are summaries of borrowings as of and for the periods indicated:

	June 30, 2006
	Federal Funds			Securities Sold			Commercial
	Purchased and			Under Agreements			Paper
	Other Borrowings			to Repurchase			Issued
	(Dollars in thousands)
Amount outstanding at period end	$	1,375,000		$	973,032		$	437,132
Average indebtedness outstanding during the period	$	1,196,930		$	932,691		$	376,938
Maximum amount outstanding during the period	$	1,521,098		$	986,759		$	750,000
Average interest rate for the period		5.45	%		5.11	%		4.77	%
Average interest rate at period end		5.39	%		5.33	%		5.30	%

	December 31, 2005
	Federal Funds			Securities Sold			Commercial
	Purchased and			Under Agreements			Paper
	Other Borrowings			to Repurchase			Issued
	(Dollars in thousands)
Amount outstanding at period end	$	768,846		$	947,767		$	334,319
Average indebtedness outstanding during the period	$	821,251		$	1,051,350		$	423,331
Maximum amount outstanding during the period	$	975,155		$	1,565,269		$	830,000
Average interest rate for the period		3.37	%		4.24	%		3.20	%
Average interest rate at period end		4.26	%		4.71	%		4.35	%

     Federal funds purchased and other borrowings, securities sold under agreements to repurchase and commercial paper issued mature as follows:

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	June 30, 2006		December 31, 2005
	(In thousands)
Federal funds purchased and other borrowings:
After thirty to ninety days	$	—	$	118,846
Over ninety days		1,375,000		650,000
Total	$	1,375,000	$	768,846
Securities sold under agreements to repurchase:
Within thirty days	$	623,026	$	597,761
Over ninety days		350,006		350,006
Total	$	973,032	$	947,767
Commercial paper issued:
Within thirty days	$	99,943	$	334,319
After thirty to ninety days		238,589		—
Over ninety days		98,600		—
Total	$	437,132	$	334,319

     As of June 30, 2006 and December 31, 2005, the weighted average maturity of Federal funds purchased and other borrowings over ninety days was 10.90 months and 18.92 months, respectively.

     As of June 30, 2006, securities sold under agreements to repurchase (classified by counterparty) were as follows:

					Weighted
			Fair Value of		Average
	Balance of		Underlying		Maturity
	Borrowings		Securities		in Months
	(Dollars in thousands)
Credit Suisse First Boston LLC	$	188,279	$	192,095		0.37
Federal Home Loan Bank New York		100,000		103,237		21.57
Barclays Capital		173,065		177,517		0.33
Lehman Brothers RS		331,161		347,334		51.72
UBS Financial Services, Inc.		180,527		186,912		0.36
	$	973,032	$	1,007,095		20.02

     There may be a penalty on early termination of these securities sold under agreements to repurchase.

19

The following investment securities were sold under agreements to repurchase:

	June 30, 2006
	Carrying				Fair		Weighted-
	Value of				Value of		Average
	Underlying		Balance of		Underlying		Interest
Underlying Securities	Securities		Borrowings		Securities		Rate
	(Dollars in thousands)
U.S. Government agencies and corporations	$	381,951	$	365,607	$	381,951		5.57	%
Mortgage-backed securities		625,144		607,425		625,144		5.16	%
Total	$	1,007,095	$	973,032	$	1,007,095		5.32	%

	December 31, 2005
	Carrying				Fair		Weighted-
	Value of				Value of		Average
	Underlying		Balance of		Underlying		Interest
Underlying Securities	Securities		Borrowings		Securities		Rate
	(Dollars in thousands)
U.S. Government agencies and corporations	$	296,848	$	268,285	$	296,848		5.43	%
Mortgage-backed securities		698,184		679,482		698,184		4.41	%
Total	$	995,032	$	947,767	$	995,032		4.72	%

8. Derivative Financial Instruments:

As of June 30, 2006, the Corporation had the following derivative financial instruments outstanding:

										Other
							Gain (Loss) for			Comprehensive Income*
							the six month			for the six
	Notional						period ended			months ended
	Value			Fair Value			June 30, 2006			June 30, 2006
	(In thousands)
CASH FLOW HEDGES
Foreign currency swaps	$	—		$	—		$	—		$	36
FAIR VALUE HEDGES
Interest rate swaps		1,363,772			(47,149	)		(892	)		—
OTHER DERIVATIVES
Options		139,909			24,232			(827	)		—
Embedded options on stock-indexed deposits and notes		(139,909	)		(24,232	)		827			—
Interest rate caps		44,668			135			58			—
Customer interest rate caps		(41,546	)		(127	)		(52	)		—
Customer interest rate swaps		(1,469,943	)		(8,079	)		(5,006	)		—
Interest rate swaps		1,486,943			8,465			4,769			—
Interest rate swaps-freestanding derivatives		387,000			(702	)		(251	)		—
Loan commitments		2,286			23			63			—
							$	(1,311	)	$	36

* Net of tax

20

     As of December 31, 2005, the Corporation had the following derivative financial instruments outstanding:

										Other
							Gain (Loss) for			Comprehensive
							the year			Income* for the
	Notional						ended			year ended
	Value			Fair Value			Dec. 31, 2005			Dec. 31, 2005
				(Dollars in thousands)
CASH FLOW HEDGES
Interest rate swaps	$	—		$	—		$	—		$	1,369
Foreign currency swaps		117,725			2,182			—			(36	)
FAIR VALUE HEDGES
Interest rate swaps		1,408,772			(26,880	)		28			—
OTHER DERIVATIVES
Options		135,150			23,833			11,711			—
Embedded options on stock-indexed deposits		(134,767	)		(23,833	)		(9,401	)		—
Interest rate caps		37,571			77			131			—
Customer interest rate caps		(35,851	)		(75	)		(118	)		—
Customer interest rate swaps		(901,760	)		(3,073	)		(2,136	)		—
Interest rate swaps		920,761			3,695			2,243			—
Interest rate swaps-free standing derivatives		354,000			(451	)		(451	)		—
Loan commitments		7,270			(40	)		(43	)		—
							$	1,964		$	1,333

* Net of tax

     The Corporation’s principal objective in holding interest rate swap agreements is the management of interest rate risk and changes in the fair value of assets and liabilities. The Corporation’s policy is that each swap contract be specifically tied to assets or liabilities with the objective of transforming the interest rate characteristic of the hedged instrument. During July 2000, the Corporation swapped $100 million of term funds at a fixed spread over U.S. Treasury securities. These swaps were designated as cash flow hedges and matured in 2005.

     The Corporation’s principal objective in entering into foreign currency derivative agreements is for the management of currency risk and changes in the fair value of assets and liabilities arising from fluctuations in foreign currencies. The Corporation’s policy is that each foreign currency contract be specifically tied to assets or liabilities with the objective of transforming the currency exposure of the hedged instrument to U.S. Dollars (“USD”). On December 15, 2005, the Corporation entered into a loan agreement with Banco Santander Central Hispano in which the Corporation borrowed 14,000,000,000 Japanese Yen (“JPY”) for a three month term at a per annum rate of 0.1629%. The purpose of this loan was to fund activity at the holding company level. Given that the Corporation’s business activity is primarily in USD, management decided to hedge the foreign currency exposure arising from this transaction. The Corporation entered into a foreign currency swap (“FX Swap”), of approximately $117.7 million, with an unrelated third party in which the Corporation sold JPY spot to buy USD, and bought JPY forward and sold USD, thus eliminating exposure to changes USD/JPY. The implicit economic cost of this transaction is 4.64%. This rate is equivalent to the three-month LIBOR (as of the date of the transaction) plus 15 basis points. Management classified this transaction as a foreign currency cash flow hedge because the FX swap is hedging the principal and interest to be paid at the maturity of the loan contract. The notional value of the FX swap was $117.7 million and it matured on March 15, 2006.

     As of June 30, 2006, the Corporation also had outstanding interest rate swap agreements, with a notional amount of approximately $1.4 billion, maturing through the year 2032. The weighted average rate paid and received on these contracts is 5.23% and 4.64%, respectively. As of June 30, 2006, the Corporation had retail fixed rate certificates of deposit amounting to approximately $1.2 billion and a subordinated note amounting to approximately $125 million swapped to create a floating rate source of funds. These swaps were designated as fair value hedges. For the six months ended June 30, 2006, the Corporation recognized a loss of approximately $0.9 million on fair value hedges due to hedge ineffectiveness, which is included in other income in the consolidated statements of income.

     As of December 31, 2005, the Corporation had outstanding interest rate swap agreements, with a notional amount of approximately $1.4 billion, maturing through the year 2032. The weighted average rate paid and received on these contracts is 4.34% and 4.33%, respectively. As of December 31, 2005, the Corporation had retail fixed rate certificates of deposit amounting to approximately $1.3 billion and a subordinated note amounting to approximately $125 million swapped to create a floating rate source of funds. For the year ended December 31, 2005, the Corporation recognized a gain of

21

approximately $28,000 on fair value hedges due to hedge ineffectiveness, which is included in other income in the consolidated statements of income.

     The Corporation issues certificates of deposit, individual retirement accounts and notes with returns linked to the different indexes, which constitute embedded derivative instruments that are bifurcated from the host deposit and recognized on the consolidated balance sheets. The Corporation enters into option agreements in order to manage the interest rate risk on these deposits and notes; however, these options have not been designated for hedge accounting, therefore gains and losses on the market value of both the embedded derivative instruments and the option contracts are marked to market through earnings and recorded in other gains and losses in the consolidated statements of income. For the six months ended June 30, 2006, a gain of approximately $0.8 million was recorded on embedded options on stock-indexed deposits and notes and a loss of approximately $0.8 million was recorded on the option contracts. For the year ended December 31, 2005, a loss of approximately $9.4 million was recorded on embedded options on stock-indexed deposits and notes and a gain of approximately $11.7 million was recorded on the option contracts. Included in the option gain is the maturity of $1.0 billion in swaptions that resulted in a gain of approximately $2.3 million.

     The Corporation enters into certain derivative transactions to provide derivative products to customers, which includes interest rate caps, collars and swaps, and simultaneously cover the Corporation’s position with related and unrelated third parties under substantially the same terms and conditions. These derivatives are not linked to specific assets and liabilities on the consolidated balance sheets or the forecasted transaction in an accounting hedge relationship and, therefore, do not qualify for hedge accounting. These derivatives are carried at fair value with changes in fair value recorded as part of other income. For the six months ended June 30, 2006 and the year ended December 31, 2005, the Corporation recognized a loss on these transactions of $231,000 and $120,000 respectively, on these transactions.

     To a lesser extent, the Corporation enters into freestanding derivative contracts as a proprietary position taker, based on market expectations or to benefit from price differentials between financial instruments and markets. These derivatives are not linked to specific assets and liabilities on the balance sheets or to forecasted transactions in an accounting hedge relationship and, therefore, do not qualify for hedge accounting. These derivatives are carried at fair value and changes in fair value are recorded in earnings. For the six months ended June 30, 2006 and the year ended December 31, 2005, the Corporation recognized a loss of $251,000 and $451,000, respectively, on these transactions.

     The Corporation enters into loan commitments with customers to extend mortgage loans at a specified rate. These loan commitments are written options and are measured at fair value pursuant to SFAS 133. As of June 30, 2006 the Corporation had loan commitments outstanding for approximately $2.3 million and recognized a gain of $63,000 on these commitments. At December 31, 2005, the Corporation had loan commitments outstanding for approximately $7.3 million and recognized a loss of $43,000 on these commitments.

9. Contingencies and Commitments:

     The Corporation is involved as plaintiff or defendant in a variety of routine litigation incidental to the normal course of business. Management believes, based on the opinion of legal counsel, that it has adequate defense with respect of such litigation and that any losses therefrom would not have a material adverse effect on the consolidated results of operations or consolidated financial position of the Corporation.

     On December 8, 2005 the Corporation received a subpoena from the Securities and Exchange Commission for the production of documents concerning its mortgage loan transactions with an unrelated local financial institution. The Corporation has commenced providing documents and information to the SEC in response to the subpoena and concerning the transactions. The Corporation is cooperating fully with the SEC in connection with these inquiries. The Corporation is unable to predict what adverse consequences, if any, or other effects this investigation could have on its financial condition or results of operations.

22

10. Pension Plans:

     The Corporation maintains a qualified noncontributory defined benefit pension plan (the “Plan”), which covers substantially all active employees of the Corporation, and a frozen qualified noncontributory defined benefit plan acquired in connection with the 1996 acquisition of Banco Central Hispano de Puerto Rico (the “Central Hispano Plan”).

     The components of net periodic benefit cost for the Plan for the six and three month periods ended June 30, 2006 and 2005 were as follows:

	For the six months ended						For the three months ended
	June 30,						June 30,
	2006			2005			2006			2005
	(In thousands)
Service cost	$	886		$	694		$	443		$	347
Interest cost		1,132			1,016			566			508
Expected return on plan assets		(1,116	)		(1,068	)		(558	)		(534	)
Net amortization		338			228			169			114
Net periodic benefit cost	$	1,240		$	870		$	620		$	435

The Plan’s required minimum contribution to be paid during 2006 is approximately $3,213,000.

     The components of net periodic benefit cost for the Central Hispano Plan for the six and three month periods ended June 30, 2006 and 2005 were as follows:

	For the six months ended						For the three months ended
	June 30,						June 30,
	2006			2005			2006			2005
	(In thousands)
Interest cost	$	970		$	952		$	485		$	476
Expected return on plan assets		(1,086	)		(1,000	)		(543	)		(500	)
Net amortization		242			210			121			105
Net periodic benefit cost	$	126		$	162		$	63		$	81

     For the Central Hispano Plan the required minimum contribution to be paid during 2006 is approximately $3,119,000.

11. Guarantees:

     The Corporation issues financial standby letters of credit to guarantee the performance of its customers to third parties. If the customer fails to meet its financial performance obligation to the third party, then the Corporation would be obligated to make the payment to the guaranteed party. In accordance with the provisions of FIN 45,“Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others — An Interpretation of FASB Statement No. 5, 57, and 107 and Rescission of FASB Interpretation No. 34”, the Corporation recorded a liability of $1,082,000 at June 30, 2006, which represents the fair value of the obligations undertaken in issuing the guarantees under the standby letters of credit issued or modified after December 31, 2002, net of the related amortization at inception. The fair value approximates the fee received from the customer for issuing the standby letter of credit. The fees are deferred and recognized on a straight-line basis over the commitment period. Standby letters of credit outstanding at June 30, 2006 had terms ranging from one month to seven years. The contract amounts of the standby letters of credit of approximately $217,679,000 at June 30, 2006, represent the maximum potential amount of future payments the Corporation could be required to make under the guarantees in the event of non-performance by its customers. These

23

standby letters of credit typically expire without being drawn upon. Management does not anticipate any material losses related to these guarantees.

12. Segment Information:

Types of Products and Services

     The Corporation has five (four in 2005) reportable segments: Commercial Banking, Mortgage Banking, Consumer Finance, Treasury and Investments and Wealth Management. Insurance operations and International Banking are other lines of business in which the Corporation commenced its involvement during 2000 and 2001, respectively. However, no separate disclosures are being provided for these operations, since they did not meet the quantitative thresholds for disclosure of segment information.

Measurement of Segment Profit or Loss and Segment Assets

     The Corporation’s reportable business segments are strategic business units that offer distinctive products and services that are marketed through different channels. These are managed separately because of their unique technology, marketing and distribution requirements.

     The following presents financial information of reportable segments as of and for the six-month periods ended June 30, 2006 and 2005. General corporate expenses and income taxes have not been added or deducted in the determination of operating segment profits. The “Other” column includes the items necessary to reconcile the identified segments to the reported consolidated amounts. Included in the “Other” column are expenses of the internal audit, investors’ relations, strategic planning, administrative services, mail, marketing, public relations, electronic data processing departments and comptroller’s departments. The “Eliminations” column includes all intercompany eliminations for consolidation.

	June 30, 2006
	Commercial		Mortgage		Consumer		Treasury and		Wealth								Consolidated
	Banking		Banking		Finance		Investments		Management		Other			Eliminations			Total
	(In thousands)
Total external revenue	$	144,064	$	84,189	$	48,098	$	40,396	$	24,965	$	27,643		$	(26,637	)	$	342,718
Intersegment revenue		23,365		—		—		—		—		3,272			(26,637	)		—
Interest income		124,441		82,813		48,071		40,131		1,140		19,305			(24,078	)		291,823
Interest expense		55,712		42,716		13,917		37,381		1,422		20,006			(21,179	)		149,975
Depreciation and amortization		2,736		935		1,421		393		518		2,117			—			8,120
Segment income (loss) before income tax		31,802		34,532		2,307		692		7,284		(33,196	)		(3,088	)		40,333
Segment assets	$	3,605,944	$	2,521,171	$	770,576	$	1,813,308	$	97,091	$	1,118,821		$	(997,450	)	$	8,929,461

	June 30, 2005
	Commercial		Mortgage		Treasury and		Wealth								Consolidated
	Banking		Banking		Investments		Management		Other			Eliminations			Total
	(In thousands)
Total external revenue	$	113,598	$	77,514	$	53,009	$	24,530	$	15,517		$	(7,158	)	$	277,010
Intersegment revenue		5,465		—		—		—		1,693			(7,158	)		—
Interest income		95,049		73,211		40,923		838		1,031			(5,614	)		205,438
Interest expense		22,732		25,137		49,585		871		2,431			(5,688	)		95,068
Depreciation and amortization		2,894		719		75		256		2,108			—			6,052
Segment income (loss) before income tax		34,171		46,977		1,226		6,588		(27,504	)		(312	)		61,146
Segment assets	$	3,514,464	$	2,947,480	$	2,027,408	$	94,462	$	321,826		$	(393,559	)	$	8,512,081

24

Reconciliation of Segment Information to Consolidated Amounts

     Information for the Corporation’s reportable segments in relation to the consolidated totals follows:

	June 30, 2006			June 30, 2005
	(In thousands)
Revenues:
Total revenues for reportable segments	$	341,712		$	268,651
Other revenues		27,643			15,517
Elimination of intersegment revenues		(26,637	)		(7,158	)
Total consolidated revenues	$	342,718		$	277,010
Total income before tax of reportable segments	$	76,617		$	88,962
Income (loss) before tax of other segments		(33,196	)		(27,504	)
Elimination of intersegment income before tax		(3,088	)		(312	)
Consolidated income before tax	$	40,333		$	61,146
Assets:
Total assets for reportable segments	$	8,808,090		$	8,583,814
Assets not attributed to segments		1,118,821			321,826
Elimination of intersegment assets		(997,450	)		(393,559	)
Total consolidated assets	$	8,929,461		$	8,512,081

25

PART I – ITEM 2

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

Santander BanCorp
Selected Financial Data

	Six months ended					Three months ended
	June 30,					June 30,
(Dollars in thousands, except share and per share data)	2006		2005			2006		2005
CONDENSED INCOME STATEMENTS
Interest income	$	291,823	$	205,438		$	159,187	$	104,050
Interest expense		149,975		95,068			80,678		49,788
Net interest income		141,848		110,370			78,509		54,262
Gain on sale of securities		60		17,376			56		415
Loss on extinguishment of debt		—		(6,744	)		—		(17	)
Other income		50,835		60,940			24,977		32,086
Operating expenses		128,897		110,046			69,184		54,680
Provision for loan losses		23,513		10,750			15,975		4,050
Income tax		15,950		15,599			7,355		8,383
Net income	$	24,383	$	45,547		$	11,028	$	19,633
PER COMMON SHARE DATA
Net income	$	0.52	$	0.98		$	0.24	$	0.42
Book value	$	11.93	$	12.21		$	11.93	$	12.21
Outstanding shares:
Average		46,639,104		46,639,104			46,639,104		46,639,104
End of period		46,639,104		46,639,104			46,639,104		46,639,104
Cash Dividend per Share	$	0.32	$	0.32		$	0.16	$	0.16
AVERAGE BALANCES
Loans held for sale and loans, net of allowance for loans losses	$	6,275,696	$	5,649,010		$	6,395,385	$	5,827,021
Allowance for loan losses		81,508		69,753			83,757		70,232
Earning assets		8,151,643		7,788,796			8,209,900		7,698,510
Total assets		8,614,003		8,192,321			8,870,339		8,137,012
Deposits		4,985,142		4,939,532			5,031,478		5,148,346
Borrowings		2,755,037		2,498,732			2,923,128		2,166,111
Common equity		551,520		600,708			564,806		628,041
PERIOD END BALANCES
Loans held for sale and loans, net of allowance for loans losses	$	6,412,318	$	5,955,012		$	6,412,318	$	5,955,012
Allowance for loan losses		87,695		65,623			87,695		65,623
Earning assets		8,366,586		8,235,172			8,366,586		8,235,172
Total assets		8,929,461		8,512,081			8,929,461		8,512,081
Deposits		4,969,942		5,543,184			4,969,942		5,543,184
Borrowings		3,065,851		2,181,482			3,065,851		2,181,482
Common equity		556,278		569,435			556,278		569,435

Continued

26

	Six months ended						Three months ended
	June 30,						June 30,
	2006			2005			2006			2005
SELECTED RATIOS
Performance:
Net interest margin on a tax-equivalent basis (on an annualized basis)		3.61	%		3.05	%		3.94	%		2.97	%
Efficiency ratio (1)		65.47	%		61.56	%		65.45	%		61.25	%
Return on average total assets (on an annualized basis)		0.57	%		1.12	%		0.50	%		0.97	%
Return on average common equity (on an annualized basis)		8.92	%		15.29	%		7.83	%		12.54	%
Dividend payout		61.54	%		32.65	%		66.67	%		38.09	%
Average net loans/average total deposits		125.89	%		114.35	%		127.11	%		113.18	%
Average earning assets/average total assets		94.63	%		95.07	%		92.55	%		94.61	%
Average stockholders’ equity/average assets		6.40	%		7.33	%		6.37	%		7.72	%
Fee income to average assets (annualized)		1.21	%		1.16	%		1.15	%		1.19	%
Capital:
Tier I capital to risk-adjusted assets		8.17	%		8.85	%		8.17	%		8.85	%
Total capital to risk-adjusted assets		11.25	%		11.21	%		11.25	%		11.21	%
Leverage Ratio		5.86	%		6.49	%		5.86	%		6.49	%
Asset quality:
Non-performing loans to total loans		1.69	%		1.27	%		1.69	%		1.27	%
Annualized net charge-offs to average loans		0.65	%		0.50	%		0.99	%		0.52	%
Allowance for loan losses to period-end loans		1.35	%		1.09	%		1.35	%		1.09	%
Allowance for loan losses to non-performing loans		80.09	%		85.64	%		80.09	%		85.64	%
Allowance for loan losses to non-performing loans plus accruing loans past-due 90 days or more		74.15	%		82.08	%		74.15	%		82.08	%
Non-performing assets to total assets		1.27	%		0.98	%		1.27	%		0.98	%
Recoveries to charge-offs		11.64	%		18.12	%		8.42	%		12.42	%
OTHER DATA AT END OF PERIOD
Customer financial assets under management	$	12,572,000		$	13,792,500		$	12,572,000		$	13,792,500
Bank branches		63			65			63			65
Consumer Finance branches		70			—			70			—
Total Branches		133			65			133			65
ATMs		147			150			146			150

(Concluded)

(1) Operating expenses divided by net interest income on a tax equivalent basis, plus other income excluding securities gains and losses and loss on extinguishment of debt.

27

MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     This financial discussion contains an analysis of the consolidated financial position and consolidated results of operations of the Corporation and should be read in conjunction with the consolidated financial statements, notes and tables included elsewhere in this report.

Critical Accounting Policies

     The consolidated financial statements of the Corporation are prepared in accordance with accounting principles generally accepted in the United States of America (hereinafter referred to as “generally accepted accounting principles” or “GAAP”) and with general practices within the financial services industry. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amount of revenues and expenses during the reporting periods. Actual results could differ from those estimates. The Corporation’s critical accounting policies are detailed in the Financial Review and Supplementary Information section of the Corporation’s Form 10-K for the year ended December 31, 2005.

Overview of Results of Operations for the Six-Month and Three-Month Periods Ended June 30, 2006

     Santander BanCorp is the financial holding company for Banco Santander Puerto Rico and subsidiaries (the “Bank”), Santander Securities Corporation and subsidiary, Santander Financial Services, Inc. and Santander Insurance Agency, Inc.

     Santander BanCorp (the “Corporation”) reported net income of $24.4 million for the six-month period ended June 30, 2006, compared with $45.5 million for the same period in 2005. Earnings per common share (EPS) for the six-month periods ended June 30, 2006 and 2005 were $0.52 and $0.98, respectively, based on 46,639,104 average common shares for each period. Return on average total assets (ROA) on an annualized basis and return on average common equity (ROE) on an annualized basis for the six-month period ended June 30, 2006 were 0.57% and 8.92%, respectively, compared with 1.12% and 15.29% reported during the same six-month period of 2005. The Efficiency Ratio¹ for the six months ended June 30, 2006 reflected an increase of 386 basis points, reaching 65.47% compared to 61.61% for the six months ended June 30, 2005.

     For the second quarter of 2006, the Corporation reported net income of $11.0 million, compared with $19.6 million for the same quarter in 2005. Earnings per common share (EPS) for quarters ended June 30, 2006 and 2005 were $0.24 and $0.42, respectively, based on 46,639,104 average common shares for each period. ROA on an annualized basis was 0.50% for the quarter ended June 30, 2006 and 0.97% for the quarter ended in June 30, 2005. ROE on an annualized basis for the quarters ended June 30, 2006 and 2005 was 7.83% and 12.54%, respectively. The Efficiency Ratio¹ for the quarter ended June 30, 2006 reflected an increase of 410 basis points to 65.45% from 61.35% for the same period in 2005.

     On February 28, 2006 the Corporation acquired substantially all the assets and business operations in Puerto Rico of Island Finance for $742 million. The Island Finance operation was acquired by Santander Financial Services, Inc. (“Santander Financial”) a 100% owned subsidiary of the Corporation. In connection with this transaction the Corporation entered into a $725 million loan agreement ($600 million for the acquisition and $125 million to refinance other debt of the Corporation unrelated to this acquisition) with a subsidiary of its parent company. On June 19, 2006, Santander Bancorp entered into a novation agreement and an amended and restated loan agreement with Lloyds TBS Bank to refinance the terms of the $725 million loan agreement with Santusa Holdings S.L. The Corporation also completed the private placement of $125 million Trust Preferred Securities (“Preferred Securities”) and issued Junior Subordinated Debentures in the aggregate principal amount of $129 million in connection with the issuance of the Preferred Securities. The Preferred Securities are fully and unconditionally guaranteed (to the extent described in the guarantee agreement between the Corporation and the guarantee trustee, for the benefit of the holders from time to time of the Preferred Securities) by the Corporation. The Trust Preferred Securities were acquired by an affiliate of the Corporation. In connection with the

¹ On a tax equivalent basis.

28

issuance of the Preferred Securities, the Corporation issued an aggregate principal amount of $129,000,000 of its 7.00% Junior Subordinated Debentures, Series A, due July 1, 2037.

     As a result of this transaction the Corporation recognized goodwill of $109.9 million and other intangible assets of $38.6 million (refer to Note 5 to the condensed consolidated financial statements for additional information).

     The table below includes certain financial information of Santander Financial Services as of and for the six months and quarter ended June 30, 2006.

	June 30, 2006
	(In thousands)
	YTD			QTD
Condensed Statements of Income
Interest income	$	48,071		$	35,685
Interest expense (principally with affiliate)		13,917			10,352
Net interest income		34,154			25,333
Provision for loan losses		13,113			10,075
Net interest income after provision for loan losses		21,041			15,258
Other income (expense)		26			(8	)
Operating expenses		18,760			13,617
Net income before tax expense		2,307			1,633
Provision for income tax		957			603
Net income	$	1,350		$	1,030
Other Selected Information:
Total Assets	$	770,576		$	770,576
Net Loans		607,040			607,040
Allowance for loan losses		23,394			23,394
Non performing loans		33,404			33,404
Paid in capital		137,100			137,100
Net interest margin		17.22	%		17.31	%
Santander Insurance Agency :
Incremental insurance fees associated with the Island Finance operation, net of taxes at 41.5%	$	1,027		$	879

     In July 2006, the Corporation acquired at book value Island Insurance Corporation from Wells Fargo for $5.7 million. Island Insurance Corporation is a Puerto Rico life insurance company, duly licensed by the Puerto Rico Commissioner of Insurance. The insurance company has not begun operations.

     The second quarter and first semester of 2006 reflected a decline in net income when compared to the same periods in 2005 due principally to the effect of the settlement of commercial loans secured by mortgages, absence in 2006 of gains on sale of loans or from other investment portfolio activities, expenses related to personnel reductions and the restatement of financial statements, and a higher effective income tax rate. Although fee income growth was modest due to the economic environment and the Puerto Rico government shutdown experienced in May 2006, loan growth from mortgage and commercial banking activities was 18.1% (excluding the acquisition of the Island Finance loan portfolio and the settlement of the commercial loans secured by mortgages).

29

• The Corporation experienced a net interest margin expansion of 97 basis points including the Island Finance business and five basis points excluding Island Finance for the quarter ended June 30, 2006 versus the prior year, despite the flat yield curve scenario.

• During the first semester 2006 the Corporation experienced the impact on net interest income of the settlement of approximately $910 million in commercial loans secured by mortgages that had a net spread of approximately 1.5%. In May 2006 the Corporation settled $608.2 million in loans to Doral Financial Corporation (“Doral”) that resulted in a charge-off of $5.3 million. In November 2005 the Corporation settled $301.3 million in commercial loans secured by mortgages to R&G Financial Corporation (“R&G”) that resulted in a termination penalty payment of $6.0 million to the Corporation.

• Adverse fluctuations in net interest income resulting from the settlement of the above mentioned commercial loans secured by mortgages were offset by the impact of the acquisition of Island Finance. The second quarter of 2006 was the first full quarter of operations for Island Finance under Santander BanCorp. The Island Finance operation (considering the net contribution to the insurance operation of Santander Insurance Agency) contributed approximately $2.4 million or 9.7%, to the Corporation’s net income for the six months ended June 30, 2006.

• Non-interest income decreased during the first semester of 2006 as a result of the following transactions in 2005: a gain on sale of securities (net of the loss on extinguishment of debt) of $10.6 million, a gain on sale of loans of $7.2 million (composed of a gain on sale of previously charged-off loans of $6.1 million and a gain on sale of mortgage loans to an unrelated third party of $1.6 million). In 2006 there were unfavorable valuations of mortgage loans held for sale amounting to $2.4 million and in Santander Securities’ investment portfolio of $0.6 million.

• The Corporation experienced an increase in operating expenses related to the Island Finance operation, severance payments related to personnel reductions and increases in professional expenses related to the restatement of its financial statements during the previous quarter. Excluding the Island Finance operation and the two previously mentioned items, operating expenses decreased by 2.4% and 1.9%, respectively, for the quarter and semester ended June 30, 2006.

• The Corporation’s income tax expense decreased $1.0 million or 12.3% for the second quarter of 2006 and increased $0.4 million or 2.3% for the six months ended June 30, 2006 despite the decrease in net income before tax. The effective income tax rate was 39.5% for the quarter and 40.0% for the semester ended June 30, 2006 versus 29.9% and 25.5%, respectively, for the prior year as a result of the special income taxes imposed by the Government of Puerto Rico for taxable year 2006, and lower net interest income derived from tax-exempt investments.

     The Corporation grew its loan portfolio by 18.1% year over year, excluding the acquisition of the Island Finance loan portfolio and the settlement of the commercial loans secured by mortgages. Fee income growth from banking, broker/dealer, asset management and insurance was 5.3% for the quarter and 9.9% for the first semester over the previous year. Residential mortgage production for the quarter increased by 20.1% over the previous year to $246 million.

Net Interest Income

     The Corporation’s net interest income for the six months ended June 30, 2006 was $141.8 million, an increase of $31.5 million, or 28.5%, compared with $110.4 million for the six months ended June 30, 2005. This improvement was due to an increase in interest income of $86.4 million that was partially offset by an increase in interest expense of $54.9 million. The improvement in interest income was due to an increase of $87.6 million or 53.8% in interest on loans reaching $250.4 million for the six months ended in June 30, 2006 from $162.8 million for the same period in 2005 primarily as a result of the acquisition of Island Finance. The increase in interest expense was due to an increase in interest on deposits of $28.6 million and an increase in interest on borrowings of $26.3 million.

30

     The Corporation’s net interest income for the second quarter ended in June 30, 2006 was $78.5 million, reflecting an increase of 44.7%, compared with $54.3 reported in the same period in 2005. This improvement was due to an increase in interest income of $55.1 million, or 53.0% that was partially offset by an increase in interest expenses of $30.9 million. The improvement in interest income was principally due to an increase of $52.9 million or 61.9%, in interest on loans primarily as a result of the acquisition of Island Finance. The increase in interest expense was due to an increase in interest on deposits of $12.2 million and an increase in interest on borrowings of $18.7 million.

     To permit the comparison of returns on assets with different tax attributes, the interest income on tax-exempt assets has been adjusted by an amount equal to the income taxes which would have been paid had the income been fully taxable. This tax equivalent adjustment is derived using the applicable statutory tax rate and resulted in adjustments of $4.2 million and $7.3 million for the six months ended June 30, 2006 and 2005, respectively. For the quarters ended June 30, 2006 and 2005 the tax equivalent adjustments were $2.2 million and $2.8 million, respectively.

     The tables on page 35 and 36, Quarter to Date Average Balance Sheet and Summary of Net Interest Income – Tax Equivalent Basis and Year to Date Average Balance Sheet and Summary of Net Interest Income – Tax Equivalent Basis, respectively, present average balance sheets, net interest income on a tax equivalent basis and average interest rates for the second quarter of 2006 and 2005 and the six month periods then ended. The table on Interest Variance Analysis — Tax Equivalent Basis on page 33, allocates changes in the Corporation’s interest income (on a tax equivalent basis) and interest expense between changes in the average volume of interest earning assets and interest bearing liabilities and changes in their respective interest rates for the six months and the second quarter ended June 30, 2006 compared with the same periods of 2005.

     The following table sets forth the principal components of the Corporation’s net interest income (on a tax equivalent basis) for the six-month and three-month periods ended June 30, 2006 and 2005.

	Six Months Ended						Three Months Ended
	June 30, 2006			June 30, 2005			June 30, 2006			June 30, 2005
	(Dollars in thousands)
Interest income — tax equivalent basis	$	296,008		$	212,759		$	161,412		$	106,836
Interest expense		149,975			95,068			80,678			49,788
Net interest income — tax equivalent basis	$	146,033		$	117,691		$	80,734		$	57,048
Net interest margin — tax equivalent basis (1)		3.61	%		3.05	%		3.94	%		2.97	%

(1) Net interest margin (on an annualized basis) for any period equals tax equivalent net interest income divided by average interest-earning assets for the period .

     The acquisition of Island Finance on February 28, 2006 had a favorable impact on the Corporation’s net interest margin on a tax equivalent basis. For the six months ended June 30, 2006 compared to the same period in 2005, the Corporation experienced an expansion of 56 basis points, including the Island Finance business, and a reduction of 8 basis points excluding Island Finance. For the three months ended June 30 2006, the Corporation experienced a net interest margin expansion of 97 basis points including the Island Finance business and 5 basis points excluding Island Finance, despite the flat yield curve scenario.

     During the first six-month period ended June 30, 2006 the Corporation experienced the impact on net interest income of the settlement of approximately $910 million in commercial loans secured by mortgages that had a net spread of approximately 1.5%. In May 2006 the Corporation settled $608.2 million in loans to Doral Financial Corporation (“Doral”) that resulted in a charge-off of $5.3 million. In November 2005 the Corporation settled $301.3 million in commercial loans secured by mortgages to R&G Financial Corporation (“R&G”) that resulted in a termination penalty payment of $6.0 million to the Corporation. The adverse fluctuations in net interest income resulting from the settlement of the Doral and R&G transactions were offset by the impact of the acquisition of Island Finance. The second quarter of 2006 was the first full quarter of operations for Island Finance under Santander BanCorp.

31

     For the six months ended June 30, 2006, net interest marginon a tax equivalent basis was 3.61% compared with 3.05% for the same period in 2005. This increase of 56 basis points in net interest marginon a tax equivalent basis was mainly due to an increase of 181 basis points in the yield on average interest earning assets primarily as a result of the acquisition of the assets of Island Finance. There was an increase of 133 basis points in the average cost of interest bearing liabilities. Excluding the Island Finance operation, net interest margin for the six months ended June 30, 2006 was 2.97%.

     The increase in net interest margin on a tax equivalent basis during the six months ended June 30, 2006 compared to the same period in 2005 was mainly due to an increment of 181 basis points in the yield on average interest earning assets, while the cost of average interest bearing liabilities increased 133 basis points. For the six-month period ended June 30, 2006 net interest income on a tax equivalent basis amounted $146.0 million, an increase of $28.3 million or 24.1% compared to $117.7 million reported for the same period in 2005. There was an $83.2 million increase in tax equivalent interest income to $296.0 million for the six months ended June 30, 2006 from $212.8 million for the same period in 2005, of which $14.3 million was attributed to an increase in the volume of interest earning assets and $68.9 million is attributed to an increase in the yield on average interest earning assets. Interest expense for the six-month period ended June 30, 2006 reached $150.0 million, from $95.1 million for the six-month period ended June 30, 2005 reflecting an increase of $54.9 million, of which $8.9 million is attributed to an increase in the volume of average interest bearing liabilities and $46.0 million is attributed to an increase in the cost of interest bearing liabilities.

     The increase in net interest margin on a tax equivalent basis during the second quarter of 2006 compared to the same period in 2005 is mainly attributed to an increment of 232 basis points in the yield on average interest earning assets while the cost of interest bearing liabilities increased 136 basis points. Net interest income on a tax equivalent basis, for the quarter ended June 30, 2006 reached $80.7 million, an increment of $23.7 million or 41.5% compared to $57.0 million reported for the same period in 2005. There was a $54.6 million increase in interest income on tax equivalent basis, to $161.4 million for the three-month period ended June 30, 2006 compared to the same period in 2005, of which $8.7 million is attributed to an increase in the volume of average interest earning assets and $45.9 million is attributed to an increase in the yield on average interest earnings assets. The $30.9 million increase in interest expense, from $49.8 million for the quarter ended June 30, 2005 to $80.7 million for the same period in 2006, is attributed to an increase of $7.5 million in the volume of interest bearing liabilities and an increase of $23.4 million in the cost of interest bearing liabilities.

     The following table allocates changes in the Corporation’s interest income, on a tax-equivalent basis, and interest expense for the six months and the quarter ended June 30, 2006 compared to the six months and the quarter ended June 30, 2005, between changes related to the average volume of interest earning assets and interest bearing liabilities, and changes related to interest rates. Volume and rate variances have been calculated based on the activity in average balances over the period and changes in interest rates on average interest earning assets and average interest bearing liabilities. The changes that are not due solely to volume or rate are allocated to volume and rate based on the proportion of change in each category.

32

	Six Months Ended June 30, 2006									Three Months Ended June 30, 2006
	Compared to the Six Months									Compared to the Three Months Ended
	Ended June 30, 2005									June 30, 2005
	Increase (Decrease) Due to Change in:									Increase (Decrease) Due to Change in:
	Volume			Rate			Total			Volume			Rate			Total
	(In thousands)
Interest income, on a tax equivalent basis:
Federal funds sold and securities purchased under agreements to resell	$	(1,637	)	$	846		$	(791	)	$	(854	)	$	616		$	(238	)
Time deposits with other banks		(472	)		1,382			910			(606	)		232			(374	)
Investment securities		(3,372	)		(1,332	)		(4,704	)		1,027			1,470			2,497
Loans		19,737			68,097			87,834			9,094			43,597			52,691
Total interest income, on a tax equivalent basis		14,256			68,993			83,249			8,661			45,915			54,576
Interest expense:
Savings and NOW accounts		(515	)		6,817			6,302			(536	)		2,787			2,251
Other time deposits		5,103			17,180			22,283			902			9,077			9,979
Borrowings		2,021			21,977			23,998			6,199			12,166			18,365
Long-term borrowings		2,291			33			2,324			947			(652	)		295
Total interest expense		8,900			46,007			54,907			7,512			23,378			30,890
Net interest income, on a tax equivalent basis	$	5,356		$	22,986		$	28,342		$	1,149		$	22,537		$	23,686

     The yield on average interest earning assets improved 181 basis points for the six-month period ended June 30, 2006. Average interest earning assets increased 4.7% for the semester ended June 30, 2006 compared with the same period of 2005. The increment in average interest earning assets was driven by an increase in average net loans of $626.7 million from $5.6 billion for the six months ended June 30, 2005 to $6.3 billion in 2006. The increase in average net loans was due to an increase of $623.5 million or 38.0% in average mortgage loans as a result of the Corporation’s continued emphasis of growing this portfolio. There was also an increase of $508.1 million or 106.2% in the average consumer loan portfolio as a result of the acquisition of Island Finance business. These increases were partially offset by a decrease in the commercial loan portfolio of $565.6 million or 17.2% due to the settlement with Doral of $608.2 million of commercial loans secured by mortgages during the second quarter of 2006 and the settlement with R&G of $301.3 million of commercial loans secured by mortgages during the fourth quarter of 2005. The improvement in the loan portfolio was partially offset by decreases in average investment securities and interest bearing deposits of $140.7 million or 7.7% and $123.2 or 39.2%, respectively.

     For the second quarter ended June 30, 2006, the yield on average interest-earning assets grew 232 basis points compared with the second quarter ended June 30, 2005. This increment was primarily the result of the acquisition of the assets of Island Finance during the first quarter of 2006. Average interest-earning assets increased 6.6% for the quarter ended June 30, 2006. The increment in average interest-earning assets compared to the second quarter of 2005 was driven by an increase in average net loans and average investment securities of $568.4 million or 9.75% and $86.5 million or 5.6%, respectively, which were partially offset by a decrease in average interest bearing deposits of $143.5 million or 45.7%. The improvement in average net loans was due to an increase of $635.2 million or 37.0% in average mortgage loans as a result of the Corporation’s continued emphasis of growing this portfolio by strengthening its residential mortgage production capabilities. There was also an increase of $684.0 million or 139.2% in the average consumer loan portfolio as a result of the acquisition of Island Finance. These increases were partially offset by a decrease in the commercial loan portfolio of $831.5 million or 24.6% due to the settlement with Doral of $608.2 million of commercial loans secured by mortgages during the second quarter of 2006 and the settlement with R&G of $301.3 million of commercial loans secured by mortgages during the fourth quarter of 2005.

33

     The Corporation’s interest expense for the six-month period ended June 30, 2006, increased $54.9 million or 57.8% compared to the six-month period ended June 30, 2005. The change in interest expense was primarily due to an increase in average interest-bearing liabilities of $505.6 million or 7.5% for the first semester of 2006 compared with figures reported in 2005. This increase was due to an increase in average broker deposits of $492.5 million or 63.4% partially offset by decreases in average other time deposits of $188.1 million or 12.5% and average savings and NOW accounts of $55.1 or 2.8%. Average borrowings (including term and subordinated notes) reflected increases of $256.3 million or 10.3% to amount $2.5 billion for the six months ended June 30, 2005 to $2.8 billion for the same period in 2006. The increase in average balances in federal funds and other borrowings and capital notes was due to $725 million financing transaction related the Island Finance business acquisition and a $125 million Trust Preferred Securities private placement during the first quarter of 2006.

     The Corporation’s interest expense for the quarter ended June 30, 2006 increased 62.0% to $80.7 million from $49.8 million for the quarter ended June 30, 2005. The change in interest expense was as a result of an increase of 11.5% or $764.5 million in average interest bearing liabilities, as well as an increase of 136 basis points in the average cost of interest bearing liabilities. The increment in interest expense was due to an increase of $757.0 million or 35.0% in average borrowings (including term and subordinated notes) reaching $2.9 billion for the second quarter ended June 30, 2006 from $2.2 billion for the same period in 2005. The increase in average balances in federal funds and other borrowings and capital notes was, principally, due to a several financing transactions related the Island Finance acquisition during the first quarter of 2006. Also, average broker deposits reflected an increase of $307.0 million or 32.9% offset by decreases in average savings and now accounts and average other time deposits of $100.5 million or 5.1% and $199.1 million or 12.9%, respectively.

     The following tables show average balances and, where applicable, interest amounts earned on a tax equivalent basis and average rates for the Corporation’s assets and liabilities and stockholders’ equity for the quarters and semesters ended June 30, 2006 and 2005.

34

SANTANDER BANCORP
QUARTER TO DATE AVERAGE BALANCE SHEET AND SUMMARY OF NET INTEREST INCOME
Tax Equivalent Basis

	June 30, 2006								June 30, 2005
						Annualized								Annualized
	Average					Average			Average					Average
	Balance			Interest		Rate			Balance			Interest		Rate
	(Dollars in thousands)
Assets:
Interest bearing deposits	$	84,375		$	962		4.57	%	$	140,685		$	1,336		3.81	%
Federal funds sold and securities purchased under agreements to resell		85,951			1,082		5.05	%		173,164			1,320		3.06	%
Total interest bearing deposits		170,326			2,044		4.81	%		313,849			2,656		3.39	%
U.S. Treasury securities		62,807			713		4.55	%		437			3		2.75	%
Obligations of other U.S. government agencies and corporations		736,176			9,394		5.12	%		712,772			8,349		4.70	%
Obligations of government of Puerto Rico and political subdivisions		101,442			1,401		5.54	%		81,941			1,183		5.79	%
Collateralized mortgage obligations and mortgage backed securities		697,843			8,332		4.79	%		716,544			8,085		4.53	%
Other		45,829			569		4.98	%		45,946			292		2.55	%
Total investment securities		1,644,097			20,409		4.98	%		1,557,640			17,912		4.61	%
Loans:
Commercial		2,546,838			44,064		6.94	%		3,378,350			43,314		5.14	%
Construction		269,496			5,804		8.64	%		194,827			3,270		6.73	%
Consumer		1,175,299			51,298		17.51	%		491,300			11,829		9.66	%
Mortgage		2,351,504			35,506		6.06	%		1,716,284			25,959		6.07	%
Lease financing		136,005			2,287		6.74	%		116,492			1,896		6.53	%
Gross loans		6,479,142			138,959		8.60	%		5,897,253			86,268		5.87	%
Allowance for loan losses		(83,757	)							(70,232	)
Loans, net		6,395,385			138,959		8.72	%		5,827,021			86,268		5.94	%
Total interest earning assets/ interest income (on a tax equivalent basis)		8,209,808			161,412		7.89	%		7,698,510			106,836		5.57	%
Total non-interest earning assests		660,531								438,502
Total assets	$	8,870,339							$	8,137,012
Liabilities and stockholders’ equity:
Savings and NOW accounts	$	1,871,709		$	12,347		2.65	%	$	1,972,160		$	10,096		2.05	%
Other time deposits		1,344,574			13,991		4.17	%		1,543,624			11,782		3.06	%
Brokered deposits		1,267,239			16,111		5.10	%		960,207			8,341		3.48	%
Total interest bearing deposits		4,483,522			42,449		3.80	%		4,475,991			30,219		2.71	%
Borrowings		2,636,683			37,010		5.63	%		2,059,281			18,645		3.63	%
Term Notes		42,487			366		3.46	%		34,669			226		2.61	%
Subordinated Notes		243,958			853		1.40	%		72,161			698		3.88	%
Total interest bearing liabilities/interest expense		7,406,650			80,678		4.37	%		6,642,102			49,788		3.01	%
Total non-interest bearing liabilities		898,883								866,869
Total liabilities		8,305,533								7,508,971
Stockholders’ Equity		564,806								628,041
Total liabilities and stockholders’ equity	$	8,870,339							$	8,137,012
Net interest income, on a tax equivalent basis				$	80,734							$	57,048
Net interest spread							3.52	%							2.56	%
Cost of funding earning assets							3.94	%							2.59	%
Net interest margin, on a tax equivalent basis							3.94	%							2.97	%

¹ On a tax equivalent basis.

35

SANTANDER BANCORP
YEAR TO DATE AVERAGE BALANCE SHEET AND SUMMARY OF NET INTEREST INCOME
Tax Equivalent Basis

	June 30, 2006								June 30, 2005
						Annualized								Annualized
	Average					Average			Average					Average
	Balance			Interest		Rate			Balance			Interest		Rate
	(Dollars in thousands)
Assets:
Interest bearing deposits	$	90,035		$	1,921		4.30	%	$	121,216		$	1,547		2.57	%
Federal funds sold and securities purchased under agreements to resell		101,069			2,413		4.81	%		193,070			2,668		2.79	%
Total interest bearing deposits		191,104			4,334		4.57	%		314,286			4,215		2.70	%
U.S.Treasury securities		53,800			1,183		4.43	%		5,494			57		2.09	%
Obligations of other U.S.government agencies and corporations		768,735			18,093		4.75	%		998,615			26,750		5.40	%
Obligations of government of Puerto Rico and political subdivisions		96,675			2,624		5.47	%		82,283			2,228		5.46	%
Collateralized mortgage obligations and mortgage backed securities		719,196			17,045		4.78	%		693,672			15,032		4.37	%
Other		46,391			1,077		4.68	%		45,436			659		2.92	%
Total investment securities		1,684,797			40,022		4.79	%		1,825,500			44,726		4.94	%
Loans:
Commercial		2,725,729			90,950		6.73	%		3,291,282			79,475		4.87	%
Construction		248,834			10,572		8.57	%		193,854			6,439		6.70	%
Consumer		986,158			78,063		15.96	%		478,065			23,221		9.80	%
Mortgage		2,265,054			67,653		6.02	%		1,641,575			50,912		6.25	%
Lease financing		131,429			4,414		6.77	%		113,987			3,771		6.67	%
Gross loans		6,357,204			251,652		7.98	%		5,718,763			163,818		5.78	%
Allowance for loan losses		(81,508	)							(69,753	)
Loans, net		6,275,696			251,652		8.09	%		5,649,010			163,818		5.85	%
Total interest earning assets/ interest income (on a tax equivalent basis)		8,151,597			296,008		7.32	%		7,788,796			212,759		5.51	%
Total non-interest earning assests		462,406								403,525
Total assets	$	8,614,003							$	8,192,321
Liabilities and stockholders’ equity:
Savings and NOW accounts	$	1,909,436		$	24,191		2.55	%	$	1,964,573		$	17,889		1.84	%
Other time deposits		1,312,897			26,253		4.03	%		1,501,005			21,504		2.89	%
Brokered deposits		1,268,944			30,641		4.87	%		776,440			13,107		3.40	%
Total interest bearing deposits		4,491,277			81,085		3.64	%		4,242,018			52,500		2.50	%
Borrowings		2,506,558			64,909		5.22	%		2,393,265			40,911		3.45	%
Term Notes		41,438			714		3.47	%		33,096			358		2.18	%
Subordinated Notes		207,041			3,267		3.18	%		72,371			1,299		3.62	%
Total interest bearing liabilities/interest expense		7,246,314			149,975		4.17	%		6,740,750			95,068		2.84	%
Total non-interest bearing liabilities		816,169								850,863
Total liabilities		8,062,483								7,591,613
Stockholders’ Equity		551,520								600,708
Total liabilities and stockholders’ equity	$	8,614,003							$	8,192,321
Net interest income, on a tax equivalent basis				$	146,033							$	117,691
Net interest spread							3.15	%							2.67	%
Cost of funding earning assets							3.71	%							2.46	%
Net interest margin, on a tax equivalent basis							3.61	%							3.05	%

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Provision for Loan Losses

     The provision for loan losses increased $11.9 million or 294.4% from $4.1 million for the quarter ended June 30, 2005 to $16.0 million for the second quarter in 2006 and $12.8 million or 118.7% from $10.8 million for the six months ended June 30, 2005 to $23.5 million for the six months ended June 30, 2006. The increase in the provision for loan losses was due primarily to the Island Finance operation which registered a provision for loan losses of $10.1 million and $13.1 million for the quarter and four months ended June 30, 2006. The increase in the provision for loan losses was due to a 47.9% increase in past-due loans (non-performing loans and accruing loans past-due 90 days or more) which reached $118.3 million as of June 30, 2006, from $79.9 million as of June 30, 2005, and $76.7 million as of December 31, 2005. Non-performing loans reflected an increase of $ 32.9 million or 42.9% from $76.6 million as of June 30, 2005 to $109.5 million as of June 30, 2006. This increase was as consequences of the acquisition of Island Finance assets during the first quarter of 2006. The Island Finance portfolio reflected non-performing loans of $33.4 million as of June 30, 2006.

     Refer to the discussions under “Allowance for Loan Losses” and “Risk Management” for further analysis of the allowance for loan losses and non-performing assets and related ratios.

Other Income

     Other income consists of service charges on the Corporation’s deposit accounts, other service fees, including mortgage servicing fees and fees on credit cards, broker-dealer, asset management and insurance fees, gains and losses on sales of securities, gain on sale of mortgage servicing rights, certain other gains and losses and certain other income.

     The following table sets forth the components of the Corporation’s other income for the periods indicated:

OTHER INCOME

	For the six month periods ended						For the quarters ended
	June 30,			June 30,			June 30,			June 30,
	2006			2005			2006			2005
	(In thousands)
Bank service fees on deposit accounts	$	6,665		$	6,155		$	3,384		$	3,150
Other service fees:
Credit card fees		7,906			7,211			4,024			3,715
Mortgage servicing fees		1,351			1,003			632			563
Trust fees		1,404			1,735			721			985
Other fees		4,830			4,523			2,277			2,019
Total fees income		22,156			20,627			11,038			10,432
Broker/dealer, asset management, and insurance fees		29,476			26,339			14,431			13,766
Gain on sale of securities, net		60			17,376			56			415
Loss on extinguishment of debt		—			(6,744	)		—			(17	)
Gain (loss) on sale of loans		(3	)		7,207			(1	)		6,127
Mortgage servicing rights recognized		18			55			15			12
Trading (losses) gains		(371	)		(604	)		(900	)		(367	)
Gain (loss) on derivatives		(1,311	)		2,723			(520	)		(90	)
Other gains, net		(1,902	)		2,991			(1,032	)		1,389
Other		2,772			1,602			1,946			817
	$	50,895		$	71,572		$	25,033		$	32,484

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     The table below details the breakdown of commissions from broker-dealer, asset management and insurance operations:

	For the six months ended				For the three months ended
	June 30, 2006		June 30, 2005		June 30, 2006		June 30, 2005
	(In thousands)
Broker-dealer	$	14,397	$	12,888	$	6,518	$	6,733
Asset management		9,712		10,311		4,733		5,282
Total Santander Securities		24,109		23,199		11,251		12,015
Insurance		5,367		3,140		3,180		1,751
Total	$	29,476	$	26,339	$	14,431	$	13,766

     The Corporation’s other income for the six months ended June 30, 2006 decreased $20.7 million or 28.9% from $71.6 million reported in the same period in 2005. This decrease was due to the following transactions in 2005 that did not recur in 2006: a gain on sale of securities (net of the loss on extinguishment of debt) of $10.6 million, a gain on sale of loans of $7.2 million composed mainly of a gain on sale previously charged-off loans of $6.1 million and a gain on sale of mortgage loans to an unrelated third party of $1.6 million. There was a loss on derivatives in 2006 of $1.3 million compared to a gain in 2005 of $3.0 million. Also, a loss on valuation of mortgage loans available for sale of $2.4 million in 2006 together with a decrease in the recognition of mortgage servicing rights of $1.9 million on mortgage loans sold to third parties. Broker-dealer, asset management and insurance fees reflected an increase of $3.1 million due primarily to the effect of the Island Finance operation on the insurance operations for the period. Bank service charges, fees and other increased $0.6 million, or 6% and $1.5 million, or 7% for the quarter and six month periods ended June 30, 2006. These increases were primarily in fees on deposit accounts, credit card fees, mortgage fees and account analysis fees.

     The Corporation’s other income reached $25.0 million for the quarter ended June 30, 2006 compared to $32.5 million for the quarter ended June 30, 2005 reflecting a decrease $7.5 million or 23.0%. This decrease in other income was mainly due to a decrease in gain on sale of previously charged-off loans of $6.1 million, and a loss on valuation of mortgage loans available for sale of $1.7 million in 2006, included in other income. Broker-dealer, asset management and insurance fees increased by $0.7 million and bank services fees on deposits accounts and other fees increased by $0.6 million. These increases were partially offset by additional losses in trading transactions and derivatives transactions of $0.5 million and $0.4 million, respectively, for the second quarter ended June 30, 2006 compared with the same period in 2005.

     Broker-dealer, asset management and insurance fees reported increases of $3.1 million and $0.7 million for the semester and the quarter ended June 30, 2006 compared to the figures reported in 2005. Santander Securities business includes securities underwriting and distribution, sales, trading, financial planning, investment advisory services and securities brokerage services. In addition, Santander Securities provides portfolio management services through its wholly owned subsidiary, Santander Asset Management Corporation. The Broker-dealer, asset management and insurance operations contributed 57.9% to the Corporation’s other income for the first six months of 2006 and 36.8% for the same period in 2005. The increase in broker-dealer commissions is due to the increase in underwriting activity and an increase in fixed income activity during the semester ended June 30, 2006 compared to the same semester in 2005. The decrease reflected for the second quarter of 2006 compared to the second quarter of 2005 was due to unfavorable valuations of the investment portfolio of $0.6 million.

     Insurance commissions grew $2.2 million, or 70.9%, during the six months ended in June 30, 2006 to $5.4 million from $3.1 million for the same period in 2005. For the second quarter ended June 30, 2006, insurance commissions increased $1.5 million to $3.2 million compared with $1.8 million for the same period in 2005. This change was due to the increase in the volume of business generated by the Island Finance operation as well as an increase in the open market business. Commissions earned through Island Finance operations were $1.8 million and $1.5 million for six-month and three-month periods ended June 30, 2006, respectively.

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Operating Expenses

     The following table presents the detail of other operating expenses for the periods indicated:

OPERATING EXPENSES

	Six months ended							Three months ended
	June 30,				June 30,			June 30,			June 30,
	2006				2005			2006			2005
	(In thousands)
Salaries	$	36,213			$	29,429		$	19,636		$	14,912
Pension and other benefits		25,650				25,168			13,130			12,788
Expenses deferred as loan origination costs		(5,748	)			(6,308	)		(3,207	)		(3,579	)
Total personnel costs		56,115				48,289			29,559			24,121
Occupancy costs		10,734				8,388			6,085			4,364
Equipment expenses		2,334				1,800			1,294			884
EDP servicing expense, amortization and technical services		17,859				15,389			9,806			7,596
Communications		4,985				4,196			2,667			2,180
Business promotion		5,743				5,042			3,162			2,680
Other taxes		5,079				4,188			2,703			2,086
Other operating expenses:
Professional fees		6,422				5,200			3,846			2,565
Amortization of intangibles		1,851				680			1,196			360
Printing and supplies		990				854			595			482
Credit card expenses		5,013				4,158			2,676			2,084
Insurance		1,140		��		1,164			479			601
Examinations & FDIC assessment		974				888			477			447
Transportation and travel		1,358				1,036			668			565
Repossessed assets provision and expenses		583				1,119			248			261
Collections and related legal costs		873				968			498			438
All other		6,844				6,687			3,226			2,966
Other operating expenses		26,048				22,754			13,909			10,769
Non personnel expenses		72,782				61,757			39,626			30,559
Total Operating expenses	$	128,897			$	110,046		$	69,185		$	54,680

     The Corporation reported an efficiency ratio on a tax-equivalent basis of 65.47% for the six-month period ended June 30, 2006 compared to 61.61% for the same period in 2005. The increase of 386 basis points in the 2006 ratio was the result of higher operating expenses reported during the first six months of 2006 resulting from the operations of the Island Finance business.

     For the six months ended June 30, 2006, operating expenses increased $18.9 million or 17.1% from $110.0 million for the semester ended June 30, 2005 to $128.9 million for the same period in 2006. This increase was due to operating expenses of Island Finance of $18.8 million in 2006. For the six months ended June 30, 2006 there were increases in salaries and employee benefits of $7.8 million together with an increase in other operating expenses of $11.0 million. Island Finance salaries and employee benefits were $8.9 million for the six months ended June 30, 2006 and other operating expenses were $9.8 million. An increase in salaries due to indemnities paid for personnel reductions of $1.5 million were offset by decreases in accruals for performance compensation of $2.8 million. Excluding Island Finance expenses, operating expenses reflected an increase of $90,000 or 0.1% for the six months ended June 30, 2006 compared to June 30, 2005.

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     Operating expenses, exclusive of Island Finance expenses and the items related to personnel reductions and restatement costs, reflected a decrease of $2.1 million or 1.9% for the six months ended June 30, 2006 compared to June 30, 2005. Throughout 2006, the Corporation continues with its ongoing cost control project and expects to continue reducing operating expenses.

     Other non-personnel expenses grew $11.0 million or 17.9% to $72.8 million for the semester ended June 30, 2006. Island Finance reported non-personnel expenses of $9.8 million which explains the increase in this item. There were increases in other operating expenses such as occupancy cost, EDP servicing expenses, amortization and technical services, professional fees and amortization of intangible of $2.4 million, $2.5 million, $1.2 million and $1.2 million, respectively. Other increases in non-personnel expenses were $0.9 million in municipal patents and real property taxes, $0.7 million in business promotion, $0.8 million in communications and $0.9 million in credit card expenses.

     The Corporation’s efficiency ratio on a tax equivalent basis for the second quarters ended June 30, 2006 and June 30, 2005, was 65.45% and 61.35%, respectively. The increase of 410 basis points in the 2006 ratio was the result of higher operating expenses incurred during the second quarter of 2006, principally, from the operations of the Island Finance business.

     Operating expenses increased $14.5 million or 26.5% from $54.7 million for the quarter ended June 30, 2005 to $69.2 million for the quarter ended June 30, 2006. This increase was due primarily to the Island Finance operation which reflected operating expenses of $13.6 million for the quarter ended June 30, 2006. During the second quarter of 2006 there were increases in salaries and employee benefits of $5.4 million together with an increase in other operating expenses of $9.1 million. Island Finance salaries and employee benefits for the quarter ended June 30, 2006 were $6.3 million and other operating expenses were $7.4 million. An increase in salaries due to indemnities paid for personnel reductions of $0.9 million was offset by decreases in accruals for performance compensation of $1.3 million. Excluding Island Finance expenses, operating expenses for the second quarter of 2006 compared to the same period in 2005, reflected an increase of $0.9 million or 1.6%, with increases in EDP servicing, amortization and technical services of $0.7 million, credit card expenses of $0.6 million and professional services related to the restatement of the financial statements of $0.5 million and were offset by a decrease of $0.8 million in personnel expenses.

     Operating expenses, exclusive of Island Finance expenses and the items related to personnel reductions and restatement costs, reflected a decrease of $1.3 million or 2.4% for the quarter ended June 30, 2006 compared to June 30, 2005.

     Other non-personnel expenses increased $9.1 million or 29.7% to $39.6 million for the second quarter ended June 30, 2006 when compared with figures reported in 2005. Other non-personnel expenses from Island Finance operations were $7.4 million. For the three-month period ended June 30, 2006, there were increases, principally, in EDP servicing expenses, amortization and technical services of $2.2 million, occupancy expenses of $1.7 million professional fees of $1.3 million , amortization of intangible of $0.8 million and other taxes of $0.6 million. Other increases were reported in credit card expenses, communications and business promotion of $0.6 million, $0.5 million and $0.5 million, respectively.

     In June 2006, the Corporation announced an early retirement program which will be available to all employees 55 years of age and older with at least 15 years of service. Employee acceptance is expected to occur during the third quarter of 2006. A preliminary assessment by management, based on previous experience, with a 50% participation rate would result in an estimated cost of the program of approximately $3.6 million.

Provision for Income Tax

     The Corporation and each of its subsidiaries are treated as separate taxable entities and are not entitled to file consolidated tax returns in Puerto Rico. The maximum statutory marginal corporate income tax rate is 39%. However, there is an alternative minimum tax of 22%. The difference between the statutory marginal tax rate and the effective tax rate is primarily due to the interest income earned on certain investments and loans, which is exempt from income tax (net of the disallowance of expenses attributable to the exempt income) and to the disallowance of certain expenses and other items.

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     Additionally, a temporary two-year surtax of 2.5% applicable to corporations was enacted. This surtax is applicable to taxable years beginning after December, 31, 2004 and increases the maximum marginal corporate income tax rate from 39% to 41.5%. An additional 2% surtax was imposed on the Corporation for a period of one year commencing on January 1, 2006 as a result of the Puerto Rico Government’s budgetary pressures. This surtax increases the maximum marginal corporate income tax rate to 43.5%

     The provision for income tax amounted to $16.0 million, or 39.6% of pretax earnings, for the six-month period ended June 30, 2006 compared to $16.0 million, or 25.5% of pretax earnings, for the same period in 2005. For the quarter ended in June 30, 2006, the provision for income tax was $7.4 million or 40.0% of pretax earnings, compared with $8.4 or 29.9% of pretax earnings, for quarter ended in June 30, 2005. The increase in the pretax earnings rate during 2006 was due to a change in the composition of the Corporation’s taxable and tax-exempt assets over those periods, and to the temporary, two-year surtax of 2.5% for corporations and the additional 2.0% surtax imposed in 2006.

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Financial Position – June 30, 2006

Assets

     The Corporation’s assets amounted $8.9 billion as of June 30, 2006, reflecting increases of $0.7 billion or 8.0% when compared to total assets of $8.3 billion at December 31, 2005 and $0.4 billion or 4.9% when compared to total assets of $8.5 billion at June 30, 2005. As of June 30, 2006 there was an increase of $457.4 million and $457.3 million in net loans (including net loans held for sale), compared to December 31, 2005 and June 30, 2005 balances, respectively. There were also increases of $109.9 million, $37.8 million and $61.2 million in goodwill, intangible assets and other assets, respectively, as of June 30, 2006 compared to December 31, 2005. The increases in goodwill and intangible assets were due to the acquisition of the Island Finance business during the first quarter of 2006. The increase in other assets was due to increases in net deferred tax assets, prepaid expenses, derivative assets and accounts receivables.

     The composition of the loan portfolio, including loans held for sale, was as follows:

	June 30,			December 31,			Increase
	2006			2005			(Decrease)
	(In thousands)
Commercial and industrial	$	2,394,009		$	2,968,185		$	(574,176	)
Construction		297,221			213,705			83,516
Mortgage		2,472,509			2,147,479			325,030
Consumer		1,197,876			567,195			630,681
Leasing		138,398			125,168			13,230
Gross Loans		6,500,013			6,021,732			478,281
Allowance for loan losses		(87,695	)		(66,842	)		(20,853	)
Net Loans	$	6,412,318		$	5,954,890		$	457,428

     Net loans, including loans held for sale, at June 30, 2006 were $6.4 billion, reflecting an increment in the loan portfolio of $457.4 million or 7.7% when compared to $6.0 billion at December 31, 2005. The mortgage loan portfolio at June 30, 2006 grew $687.0 million or 38.5% compared to June 30, 2005 and $325.0 million or 15.1% compared to December 31, 2005. Mortgage loans originated during the second quarter of 2006 reached $246.3 million. Mortgage loans originated during the first semester of 2006 reached $429.5 million. The consumer loan portfolio also reflected growth of $686.5 million or 134.2%, as of June 30, 2006, compared to June 30, 2005 due primarily to the acquisition of Island Finance. Compared to December 31, 2005 the consumer loan portfolio reflected an increase of $630.7 million or 111.2%. The commercial loan portfolio decreased $894.1 million or 24.0% compared to June 30, 2005 and $477.4 million or $14.4% compared to December 31, 2005, as a result of the settlement of commercial loans secured by mortgages with Doral and R&G during the second quarter of 2006 and the fourth quarter of 2005, respectively.

     Commercial banking provides financial services and products primarily to middle-market companies. These products and services are sold through a group of relationship managers and officers distributed among six regions throughout the island. The Corporation has established the so-called “Business Focus Meetings” between credit and relationship officers at the middle-market and corporate segments in order to facilitate and expedite business transactions. The Corporate/Institutional segment coordinates all banking and credit related services to customers through a group of corporate relationship officers. The corporate group provides financial services and products basically to corporations with annual revenues over $75 million. The Consumer Lending division provides financing solutions to individuals in the form of unsecured personal loans, credit cards, overdraft lines and auto leasing. These products are offered through our retail branch network, sales representatives, telephone banking, and internet. Growth in the consumer loan portfolio came as a result of the acquisition of Island Finance. Island Finance has a network of 70 branches throughout Puerto Rico offering consumer finance products. Management continues to focus on regaining market share with a strong emphasis on the mortgage and consumer loan portfolios. Due to more effective marketing strategies, streamlining of the loan application

42

and approval process with continued stringent credit policies, and innovative products and massive consumer and credit card campaigns, and the increased branch network, the Corporation has been able to continue growing its loan portfolio.

Allowance for Loan Losses

     The Corporation systematically assesses the overall risks in its loan portfolio and establishes and maintains an allowance for possible losses thereon. The allowance for loan losses is maintained at a level sufficient to provide for estimated loan losses based on the evaluation of known and inherent risks in the loan portfolio. Management evaluates the adequacy of the allowance for loan losses on a monthly basis. This evaluation involves the exercise of judgment and the use of assumptions and estimates that are subject to revision, as more information becomes available. In determining the allowance, management considers the portfolio risk characteristics, prior loss experience and collection practices, prevailing and projected economic conditions, loan impairment measurements and results of internal and regulatory agencies’ loan reviews. Based on current and expected economic conditions, the expected level of net loan losses and the methodology established to evaluate the adequacy of the allowance for loan losses, management considers that the allowance for loan losses is adequate to absorb probable losses in the Corporation’s loan portfolio.

     Commercial and construction loans over a predetermined amount are individually evaluated on a quarterly basis for impairment following the provisions of SFAS No. 114, “Accounting by Creditors of a Loan”. A loan is impaired when based on current information and events; it is probable that the Corporation will be unable to collect all amounts due according to the contractual terms of the loan agreement. The impairment loss, if any, on each individual loan identified as impaired is measured based on the present value of expected cash flows discounted at the loan’s effective interest rate, except as a practical expedient, we may measure impairment based on the loan’s observable market price, or the fair value of the collateral, if the loan is collateral dependent. Substantially all of the Corporation’s impaired loans are measured on the basis of the fair value of the collateral, net of estimated disposition costs. The Corporation maintains a detailed analysis of all loans identified as impaired with their corresponding allowances and the specific component of the allowance is computed on a quarterly basis. Additions, deletions or adjustment to the working paper are tracked and formal justification is documented detailing the rationale for such adjustment.

     For small-homogeneous type loans, a general allowance is computed based on average historical loss experience or ratios for each corresponding type of loans (consumer, credit cards, residential mortgages, auto, etc.) The methodology of accounting for all probable losses is made in accordance with the guidance provided by Statement of Accounting Standards (SFAS) No. 5, “Accounting for Contingencies”. In determining the general allowance, the Corporation applies a loss factor for each type of loan based on the average historical net charge off for the previous two or three years for each portfolio adjusted for other statistical loss estimates, as deemed appropriate. Historical loss rates are reviewed at least quarterly and adjusted based on changes in actual collections and charge off experience as well as significant factors that in management’s judgment reflect the impact of any current conditions on loss recognition. Factors that management considers in the analysis of the general reserve include the effect of the trends in the nature and volume of loans (delinquency, charge-offs and non-accrual loans), changes in the mix or type of collateral, asset quality trends, changes in the internal lending policies and credit standards, collection practices and examination results from bank regulatory agencies.

     The determination of the allowance for loan losses under SFAS No. 5, “Accounting for Contingencies”,for the Corporation is based on historical loss experience by loan type, management judgment of the quantitative factors (historical net charge-offs, statistical loss estimates, etc.), as well as qualitative factors (current economic conditions, portfolio composition, delinquency trends, industry concentrations, etc.) which result in the final determination of the provision for loan losses to maintain a level of allowance for loan losses deemed to be adequate.

     The Corporation’s methodology for allocating the allowance among the different parts of the portfolio or different elements of the allowance is based on the historical loss percentages for each type or pool of loan (consumer, commercial, construction, mortgage and other), after assigning the specific allowances for impaired loans on an individual review process. The sum of specific allowances for impaired loans plus the general allowances for each type of loan not specifically examined and the unallocated allowance constitutes our total allowance for loan losses at the end of any reporting period.

     An unallocated allowance is maintained to absorb changes and unexpected losses that may result from certain significant external factors, such as (a) the Corporation’s moderate concentration in certain industries, specially health care,

43

and agriculture businesses; (b) the slow growth of the Puerto Rico economy as evidenced by high unemployment figures; (c) the broad negative effect on the Puerto Rico economy of the increased price of oil and oil-related products; (d) interest rates forecasts; and (e) the negative collateral economic effect of the war in Iraq or additional terrorist attacks, both which add material risk to the economy and curtail economic recovery. This allowance is based primarily on historical experience, current trends in factors such as bankruptcies and loss trends among others.

     On a quarterly basis, management reviews its determination of the allowance for loan losses which includes the specific allowance computed according to the provisions of SFAS No.114 and the general allowance for small-homogenous type loans, which is based on historical loss percentages for each type or pool of loan. This analysis also considers loans classified by the internal loan review department, the internal auditors, the in-house Watch System Unit, and banking regulators.

     The Corporation has not changed any aspects of its overall approach in the determination of the allowance for loan losses, and there have been no material changes in assumptions or estimation techniques, as compared to prior periods.

ALLOWANCE FOR LOAN LOSSES

	For the six month periods ended						For the quarters ended
	June 30,						June 30,
	2006			2005			2006			2005
	(In thousands)
Balance at beginning of period	$	66,842		$	69,177		$	87,717		$	69,205
Provision for loan losses		23,513			10,750			15,975			4,050
Reserve balance acquired		17,830			—			—			—
		108,185			79,927			103,692			73,255
Losses charged to the allowance:
Commercial and industrial		7,223			5,394			6,439			1,355
Construction		—			1,438			—			1,438
Consumer		14,981			10,072			10,235			5,690
Leasing		986			566			794			231
		23,190			17,470			17,468			8,714
Recoveries:
Commercial and industrial		1,220			949			565			483
Consumer		1,036			2,020			646			492
Leasing		444			197			260			107
		2,700			3,166			1,471			1,082
Net loans charged-off		20,490			14,304			15,997			7,632
Balance at end of period	$	87,695		$	65,623		$	87,695		$	65,623
Ratios:
Allowance for loan losses to period-end loans		1.35	%		1.09	%		1.35	%		1.09	%
Recoveries to charge-offs		11.64	%		18.12	%		8.42	%		12.42	%
Annualized net charge-offs to average loans		0.65	%		0.50	%		0.99	%		0.52	%

     The allowance for loan losses increased $22.1 million and $20.9 million compared with allowance balances of $65.6 million as of June 30, 2005 and $66.8 as of December 31, 2005, respectively. The most significant change in the allowance for loan losses was the addition of $17.8 million of the Santander Financial allowance as a result of the acquisition of the net assets of Island Finance, together with an increase in the provision for loan losses of the Island Finance operation of $13.1 million and $10.1 million for the semester and the quarter ended June 30, 2006.

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     The Corporation’s allowance for loan losses was $87.7 million or 1.35% of period-end loans at June 30, 2006, a 26 basis point increase over 1.09% reported as of June 30, 2005. The increase in this ratio was partially due to an increment in non-performing loans during the period. Non-performing loans increased 42.9% reaching $109.5 million as of June 30, 2006, from $76.6 million as of June 30, 2005, and $73.7 million as of December 31, 2005. The Island Finance portfolio reflected non-performing loans of $33.4 million as of June 30, 2006.

     The ratio of allowance for loan losses to non-performing loans decreased to 80.09% at June 30, 2006, from 85.64% at June 30, 2005. At December 31, 2005, this ratio was 90.72%. This decrease was the result of the increase in non-performing loans related primarily to the Island Finance portfolio. Excluding non-performing mortgage loans (for which the Corporation had historically a minimal loss experience), this ratio was 164.60% compared to 207.95% as of June 30, 2005 and 235.47% as of December 31, 2005.

     The annualized ratio of net charge-offs to average loans for the semester ended June 30, 2006 was 0.65%, an increase of 15 basis points compared with 0.50% reported in 2005.

     At June 30, 2006, impaired loans (loans evaluated individually for impairment) with related allowance amounted to approximately $49.5 million and $2.2 million, respectively. At December 31, 2005 impaired loans with related allowance amounted to $48.8 million and $2.2 million.

     Although the Corporation’s provision and allowance for loan losses will fluctuate from time to time based on economic conditions, net charge-off levels and changes in the level and mix of the loan portfolio, management considers that the allowance for loan losses is adequate to absorb probable losses on its loan portfolio. Management expects to continue the positive trend experienced during the last two years by continuing to improve the quality of its loan portfolio, improving collection efforts and continuing with its stringent lending criteria.

Non-performing Assets and Past Due Loans

     As of June 30, 2006, the Corporation’s total non-performing loans (excluding other real estate owned) reached $109.5 million or 1.68% of total loans from $73.7 million or 1.22% of total loans as of December 31, 2005 and from $76.6 million or 1.27% of the total loans as of June 30, 2005. Non-performing loans at June 30, 2006 were comprised of Island Finance non-performing loans of $33.4 million and $76.1 million of non-performing loans of the Corporation. The Corporation’s non-performing loans reflected a decrease of $0.5 million or 0.7% compared to non-performing loans as of June 30, 2005. Non-performing loans of the Corporation as of June 30, 2006 excluding Island Finance non-performing loans reflected an increase of $2.4 million or 3.3% compared to non-performing loans as of December 31, 2005. Island Finance loans acquired pursuant to the Asset Purchase Agreement on February 28, 2006 are subject to a guarantee by Wells Fargo of up to $21.0 million (maximum reimbursement amount) for net losses in excess of $34.0 million, occurring on or prior to the 15th month anniversary of the acquisition. The Corporation is provided with an additional guarantee of up to $7.0 million for net losses incurred in the acquired loan portfolio in excess of $34.0 million during months 16 to 18 of the anniversary, subject to the maximum aggregate reimbursement amount of $21.0 million.

     The Corporation continuously monitors non-performing assets and has deployed significant resources to manage the non-performing loan portfolio.

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Non-performing Assets and Past Due Loans

	June 30,			December 31,
	2006			2005
	(Dollars in thousands)
Commercial and Industrial	$	14,105		$	14,326
Construction		4,093			3,414
Mortgage		56,216			45,292
Consumer		30,017			4,747
Leasing		2,502			3,340
Restructured Loans		2,560			2,560
Total non-performing loans		109,493			73,679
Repossessed Assets		3,730			2,706
Total non-performing assets	$	113,223		$	76,385
Accruing loans past-due 90 days or more	$	8,772		$	2,999
Non-Performing loans to total loans		1.68	%		1.22	%
Non-Performing loans plus accruing loans past due 90 days or more to total loans		1.82	%		1.27	%
Non-Performing assets to total assets		1.27	%		0.92	%

Liabilities

     As of June 30, 2006, total liabilities reached $8.4 billion, an increase of $669.8 million or 8.7% compared to the December 31, 2005 balances. This increase in total liabilities was principally due to increases in federal funds sold and other borrowings of $606.2 million or 78.8%, capital notes of $118.7 million or 98.0% and commercial paper issued of $102.8 million or 30.8%. These increases were partially offset by a decrease in total deposits of $254.7 million or 4.9% to reach $5.0 billion at June 30, 2006 from $5.2 billion at December 31, 2005.

     Total deposits were $5.0 billion as of June 30, 2006 composed of $1.2 billion in brokered deposits and $3.8 billion of customer deposits. Brokered deposits decreased $62.8 million or 5.0% for the six months ended June 30, 2006 from $1.3 billion at December 31, 2005. There was a decrease in interest bearing deposits of $0.5 billion or 9.6% in June 2006 compared to June 2005, composed of decreases of $0.3 billion in retail deposits, $0.2 billion in wholesale deposits and $0.1 billion in public funds. The decrease in retail deposits is due to higher interest rates paid by competitors and the decrease in public funds was due to the financial situation of the Government of Puerto Rico. The Corporation continues its efforts to increase its core deposit base by maintaining competitive interest rates, maximizing the cross selling of products and services by the segmentation of its client base, introducing innovative products and the extensive use of alternative marketing tools such as telephone and internet banking.

     Total borrowings at June 30, 2006 (comprised of federal funds purchased and other borrowings, securities sold under agreements to repurchase, commercial paper issued, and term and capital notes) increased $884.4 million or 40.5% and $853.6 million or 38.6%, compared to borrowings balances at June 30, 2005 and December 31, 2005, respectively. The increase in borrowings was due to debt of $725 million incurred pursuant to the acquisition of Island Finance, the refinancing of other existing debt of the Corporation and the private placement of $125 million Trust Preferred Securities classified as borrowings in the consolidated financial statements.

     During the first quarter of 2006 the Corporation engaged in several financing transactions in order to fund the acquisition of Island Finance. In connection with this transaction, on February 28, 2006, the Corporation entered into a $725 million loan agreement with Santusa Holdings S.L., a subsidiary of its parent company, to be used in connection with the acquisition of substantially all the assets of Island Finance in Puerto Rico from Wells Fargo. On June 19, 2006, Santander Bancorp entered into a novation agreement and an amended and restated loan agreement with Lloyds TBS Bank

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to refinance the terms of $725 million loan agreement with Santusa Holdings S.L. The loan under the Amended Loan agreement bears interest at an annual rate equal to aggregate of (i) 0.10% per annum, (ii) the applicable LIBOR rate, and (iii) a percentage rate per annum calculated by Lloyds TBS Bank. The interest under the loan is payable in interest periods of one, three or six months, or such, or other period as requested by the Company at the time of drawing.

     The Corporation also completed the private placement of $125 million Trust Preferred Securities (“Preferred Securities”) and issued Junior Subordinated Debentures in the aggregate principal amount of $129 million in connection with the issuance of the Preferred Securities. The Preferred Securities are fully and unconditionally guaranteed (to the extent described in the guarantee agreement between the Corporation and the guarantee trustee, for the benefit of the holders from time to time of the Preferred Securities) by the Corporation. The Trust Preferred Securities were acquired by an affiliate of the Corporation. In connection with the issuance of the Preferred Securities, the Corporation issued an aggregate principal amount of $129,000,000 of its 7.00% Junior Subordinated Debentures, Series A, due July 1, 2037.

Capital and Dividends

     The Corporation expects no favorable or unfavorable trends that could materially affect its capital resources.

     As an investment-grade rated entity by several nationally recognized rating agencies, the Corporation has access to a variety of capital issuance alternatives in the United States and Puerto Rico capital markets. The Corporation continuously monitors its capital issuance alternatives. It may issue capital in the future, as needed, to maintain its “well-capitalized” status.

     Stockholders’ equity was $556.3 million, or 6.2% of total assets at June 30, 2006, compared to $568.5 million or 6.9% of total assets at December 31, 2005. The decrease in stockholders’ equity was mainly due to unrealized losses on investment securities available for sale and dividends declared and were partially offset by net income for the period.

     The Corporation declared cash dividends of $0.32 per common share during the first semester of 2006 and expects to continue to pay quarterly dividends. This has resulted in an annualized dividend yield of 2.60%.

     During the six months ended June 30, 2006 and 2005, the Corporation did not repurchase any shares of common stock. As of June 30, 2006, the Corporation had repurchased 4,011,260 shares of its common stock under these programs at a cost of $67.6 million. The Corporation’s management believes that the repurchase program will not have a significant effect on the Corporation’s liquidity and capital positions.

     The Corporation adopted and implemented various Stock Repurchase Programs in May 2000, December 2000 and June 2001. Under these programs the Corporation acquired 3% of its then outstanding common shares. During November 2002, the Corporation started a fourth Stock Repurchase program under which it plans to acquire 3% of its outstanding common shares. In November 2002, the Corporation’s Board of Directors authorized the Corporation to repurchase up to 928,204 shares, or approximately 3%, of its shares of outstanding common stock, of which 325,100 shares have been purchased. The Board felt that the Corporation’s shares of common stock represented an attractive investment at prevailing market prices at the time of the adoption of the common stock repurchase program and that, given the relatively small amount of the program, the stock repurchases would not have any significant impact on the Corporation’s liquidity and capital positions. The program has no time limitation and management is authorized to effect repurchases at its discretion. The authorization permits the Corporation to repurchase shares from time to time in the open market or in privately negotiated transactions. The timing and amount of any repurchases will depend on many factors, including the Corporation’s capital structure, the market price of the common stock and overall market conditions. All of the repurchased shares will be held by the Corporation as treasury stock and reserved for future issuance for general corporate purposes.

     The Corporation has a Dividend Reinvestment Plan and a Cash Purchase Plan wherein holders of common stock have the opportunity to automatically invest cash dividends to purchase more shares of the Corporation. Shareholders may also make, as frequently as once a month, optional cash payments for investment in additional shares of the Corporation’s common stock.

     As of June 30, 2006, the Corporation’s common stock price per share was $24.62, resulting in a market capitalization of $1.1 billion, including affiliated holdings.

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     The Corporation is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Corporation’s consolidated financial statements. The regulations require the Corporation to meet specific capital guidelines that involve quantitative measures of the Corporation’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Corporation’s capital classification is also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

     As of June 30, 2006, the Corporation was well capitalized under the regulatory framework for prompt corrective action. At June 30, 2006 the Corporation continued to exceed the regulatory risk-based capital requirements for well-capitalized institutions. Tier I capital to risk-adjusted assets and total capital ratios at June 30, 2006 were 8.17% and 11.25%, respectively, and the leverage ratio was 5.86%.

Liquidity

     The Corporation’s general policy is to maintain liquidity adequate to ensure its ability to honor withdrawals of deposits, make repayments at maturity of other liabilities, extend loans and meet its own working capital needs. Liquidity is derived from the Corporation’s capital, reserves, and securities portfolio. The Corporation has established lines of credit with foreign and domestic banks, has access to U.S. markets through its commercial paper program, and also has broadened its relations in the federal funds and repurchase agreement markets to increase the availability of other sources of funds and to augment liquidity as necessary.

     Management monitors liquidity levels each month. The focus is on the liquidity ratio, which presents total liquid assets over net volatile liabilities and core deposits. The Corporation believes it has sufficient liquidity to meet current obligations.

Derivative Financial Instruments:

     The Corporation uses derivative financial instruments mostly as hedges of interest rate risk, changes in fair value of assets and liabilities and to secure future cash flows. Refer to Notes 1 and 8 to the accompanying consolidated financial statements for additional details of the Corporation’s derivative transactions as of June 30, 2006 and December 31, 2005.

     In the normal course of business, the Corporation utilizes derivative instruments to manage exposure to fluctuations in interest rates, currencies and other markets, to meet the needs of customers and for proprietary trading activities. The Corporation uses the same credit risk management procedures to assess and approve potential credit exposures when entering into derivative transactions as those used for traditional lending.

Hedging Activities:

     The following table summarizes the derivative contracts designated as hedges as of June 30, 2006 and December 31, 2005, respectively:

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	June 30, 2006
								Other
								Comprehensive
	Notional					Gain		Income
(In thousands)	Amounts *		Fair Value			(Loss)		(Loss)**
Cash Flow Hedges
Foreign Currency Swaps	$	—	$	—		$	—	$	36
Fair Value Hedges
Interest Rate Swaps		1,363,772		(47,149	)		892		—
Totals	$	1,363,772	$	(47,149	)	$	892	$	36

	December 31, 2005
								Other
								Comprehensive
	Notional					Gain		Income
(In thousands)	Amounts *		Fair Value			(Loss)		(Loss)**
Cash Flow Hedges
Interest Rate Swaps	$	—	$	—		$	—	$	1,369
Foreign Currency Swaps		117,725		2,182			—		(36	)
Fair Value Hedges
Interest Rate Swaps		1,408,772		(26,880	)		28		—
Totals	$	1,526,497	$	(24,698	)	$	28	$	1,333

*	The notional amount represents the gross sum of long and short.
**	Net of tax.

     Cash Flow Hedges:

          The Corporation designates hedges as Cash Flow Hedges when its main purpose is to reduce the exposure associated with the variability of future cash flows related to fluctuations in short term financing rates (such as LIBOR). At the inception of each hedge, management documents the hedging relationship, including its objective and probable effectiveness. To assess ongoing effectiveness of the hedges, the Corporation compares the hedged item’s periodic variable rate with the hedging item’s benchmark rate (LIBOR) at every reporting period to determine the effectiveness of the hedge. Any hedge ineffectiveness is recorded currently as a derivative gain or loss in the income statement.

          As of June 30, 2006, the total amount, net of tax, included in accumulated other comprehensive income pertaining to the cash flow hedges was an unrealized gain of $36,000. As of December 31, 2005, the total amount, net of tax, included in accumulated other comprehensive income pertaining to the cash flow hedges was an unrealized gain of $1.3 million.

     Fair Value Hedges:

          The Corporation designates hedges as Fair Value Hedges when its main purpose is to hedge the changes in market value of an associated asset or liability. The Corporation only designates these types of hedges if at inception it is believed that the relationship in the changes in the market value of the hedged item and hedging item will offset each other in a highly effective manner. At the inception of each hedge, management documents the hedging relationship, including its objective and probable effectiveness. To assess ongoing effectiveness of the hedges, the Corporation marks to market both the hedging item and the hedged item at every reporting period to determine the effectiveness of the hedge. Any hedge ineffectiveness is recorded currently as a derivative gain or loss in the income statement.

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          The fair value hedges have maturities through the year 2032 as of June 30, 2006 and December 31, 2005. The weighted-average rate paid and received on these contracts is 5.23% and 4.64%, and 4.34% and 4.33%, as of June 30, 2006 and December 31, 2005, respectively.

          The $1.4 billion fair value hedges as June 30, 2006 and December 31, 2005 are associated to the swapping of fixed rate debt. The Corporation regularly issues term fixed rate debt, which it in turn swaps to floating rate debt via interest rate swaps. In these cases the Corporation matches all of the relevant economic variables (notional, coupon, payments dates and conventions etc.) of the fixed rate debt it issues to the fixed rate leg of the interest rate swap ( which it receives from the counterparty) and pays the floating rate leg of the interest rate swap. The effectiveness of these transactions is very high since all of the relevant economic variables are matched.

     Derivative instruments not designated as hedging instruments:

          Any derivative not associated to hedging activity is booked as a freestanding derivative. In the normal course of business the Corporation may enter into derivative contracts as either a market maker or proprietary position taker. The Corporation’s mission as a market maker is to meet the clients’ needs by providing them with a wide array of financial products, which include derivative contracts. The Corporation’s major role in this aspect is to serve as a derivative counterparty to these clients. Positions taken with these clients are hedged (although not designated as hedges) in the OTC market with interbank participants or in the organized futures markets. To a lesser extent, the Corporation enters into freestanding derivative contracts as a proprietary position taker, based on market expectations or to benefit from price differentials between financial instruments and markets. These derivatives are not linked to specific assets and liabilities on the balance sheet or to forecasted transactions in an accounting hedge relationship and, therefore, do not qualify for hedge accounting. These derivatives are carried at fair value and changes in fair value are recorded in earnings. The market and credit risk associated with these activities is measured, monitored and controlled by the Corporations Market Risk Group, an independent division from the treasury department. Among other things, this group is responsible for: policy, analysis, methodology and reporting of anything related to market risk and credit risk. The following table summarizes the aggregate notional amounts and the reported derivative assets or liabilities (i.e. the fair value of the derivative contracts) as of June 30, 2006 and December 31, 2005, respectively:

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	June 30, 2006
	Notional					Gain
(In thousands)	Amounts *		Fair Value			(Loss)
Interest Rate Contracts
Interest Rate Swaps	$	3,343,886	$	(316	)	$	(488	)
Interest Rate Caps		86,214		8			6
Other		2,286		23			63
Equity Derivatives		279,818		—			—
Totals	$	3,712,204	$	(285	)	$	(419	)

	December 31, 2005
	Notional					Gain
(In thousands)	Amounts *		Fair Value			(Loss)
Interest Rate Contracts
Interest Rate Swaps	$	2,176,521	$	171		$	(344	)
Interest Rate Caps		73,422		2			13
Other		7,270		(40	)		(43	)
Equity Derivatives		269,917		—			2,310
Totals	$	2,527,130	$	133		$	1,936

* The notional amount represents the gross sum of long and short.

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PART I – ITEM 3

QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK

Asset and Liability Management

     The Corporation’s policy with respect to asset liability management is to maximize its net interest income, return on assets and return on equity while remaining within the established parameters of interest rate and liquidity risks provided by the Board of Directors and the relevant regulatory authorities. Subject to these constraints, the Corporation takes mismatched interest rate positions. The Corporation’s asset and liability management policies are developed and implemented by its Asset and Liability Committee (“ALCO”), which is composed of senior members of the Corporation including the President, Chief Operating Officer, Chief Accounting Officer, Treasurer and other executive officers of the Corporation. The ALCO reports on a monthly basis to the members of the Bank’s Board of Directors.

Market Risk and Interest Rate Sensitivity

     A key component of the Corporation’s asset and liability policy is the management of interest rate sensitivity. Interest rate sensitivity is the relationship between market interest rates and net interest income due to the maturity or repricing characteristics of interest-earning assets and interest-bearing liabilities. For any given period, the pricing structure is matched when an equal amount of such assets and liabilities mature or reprice in that period. Any mismatch of interest-earning assets and interest-bearing liabilities is known as a gap position. A positive gap denotes asset sensitivity, which means that an increase in interest rates would have a positive effect on net interest income, while a decrease in interest rates would have a negative effect on net interest income. A negative gap denotes liability sensitivity, which means that a decrease in interest rates would have a positive effect on net interest income, while an increase in interest rates would have a negative effect on net interest income. Because different types of assets and liabilities with the same or similar maturities may react differently to changes in overall market rates or conditions, changes in interest rates may affect net interest income positively or negatively even if an institution were perfectly matched in each maturity category.

     The Corporation’s one-year cumulative GAP position at June 30, 2006, was negative $2.8 billion or -33.09% of total earning assets. This is a one-day position that is continually changing and is not indicative of the Corporation’s position at any other time. This denotes liability sensitivity, which means that an increase in interest rates would hasve a negative effect on net interest income while a decrease in interest rates would have a positive effect on net interest income. While the GAP position is a useful tool in measuring interest rate risk and contributes toward effective asset and liability management, shortcomings are inherent in GAP analysis since certain assets and liabilities may not move proportionally as interest rates change.

     The Corporation’s interest rate sensitivity strategy takes into account not only rates of return and the underlying degree of risk, but also liquidity requirements, capital costs and additional demand for funds. The Corporation’s maturity mismatches and positions are monitored by the ALCO and managed within limits established by the Board of Directors.

     The following table sets forth the repricing of the Corporation’s interest earning-assets and interest-bearing liabilities at June 30, 2006 and may not be representative of interest rate gap positions at other times. In addition, variations in interest rate sensitivity may exist within the repricing period presented due to the differing repricing dates within the period. In preparing the interest rate gap report, the following assumptions are made, all assets and liabilities are reported according to their repricing characteristics. For example, a commercial loan maturing in five years with monthly variable interest rate payments is stated in the column of “up to 90 days”. The investment portfolio is reported considering the effective duration of the securities. Expected prepayments and remaining terms are considered for the residential mortgage portfolio. Core deposits are reported in accordance with their effective duration. Effective duration of core deposits is based on price and volume elasticity to market rates. The Corporation reviews on a monthly basis the effective duration of core deposits. Assets and liabilities with embedded options are stated based on full valuation of the asset/liability and the option to ascertain their effective duration.

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SANTANDER BANCORP
MATURING GAP ANALYSIS
As of June 30, 2006

	0 to 3			3 months			1 to 3			3 to 5			5 to 10			More than			No Interest
	months			to a Year			Years			Years			Years			10 Years			Rate Risk			Total
	(dollars in thousands)
ASSETS:
Investment Portfolio	$	237,168		$	133,050		$	174,196		$	735,932		$	263,493		$	—		$	96,519		$	1,640,358
Deposits in Other Banks		124,823			—			—			—			—			—			188,548			313,371
Loan Portfolio
Commercial		1,247,518			280,548			294,253			373,628			214,093			67,796			54,571			2,532,407
Construction		277,511			3,196			4,210			5,955			6,290			—			59			297,221
Consumer		267,728			230,539			555,934			114,508			24,704			5,090			(627	)		1,197,876
Mortgage		61,476			185,771			507,203			466,663			881,884			368,478			1,034			2,472,509
Fixed and Other Assets		—			—			—			—			—			—			475,719			475,719
Total Assets	$	2,216,224		$	833,104		$	1,535,796		$	1,696,686		$	1,390,464		$	441,364		$	815,823		$	8,929,461
LIABILITIES AND STOCKHOLDERS’ EQUITY
External Funds Purchased
Commercial Paper	$	337,132		$	100,000		$	—		$	—		$	—		$	—		$	—		$	437,132
Repurchase Agreements		623,026			—			150,006			—			200,000			—			—			973,032
Federal FundsPurchased and Other Borrowings		650,000			725,000			—			—			—			—			—			1,375,000
Deposits
Certificates of Deposit		805,300			536,064			309,111			255,814			450,749			101,151			(43,890	)		2,414,299
Demand Deposits and Savings Accounts		179,311			152,261			25,602			318,513			—			—			(1,023.00	)		674,664
Transactional Accounts		415,352			236,844			504,807			723,921			—			—			55			1,880,979
Term and Subordinated Debt		—			—			—			31,518			248,654			—			515			280,687
Other Liabilities and Capital		—			—			—			—			—			—			893,668			893,668
Total Liabilities and Capital	$	3,010,121		$	1,750,169		$	989,526		$	1,329,766		$	899,403		$	101,151		$	849,325		$	8,929,461
Off-Balance Sheet Financial Information
Interest Rate Swaps (Assets)	$	2,006,659		$	944,148		$	308,663		$	273,955		$	607,820		$	566,413		$	—		$	4,707,658
Interest Rate Swaps (Liabilities)		3,337,231			699,566			105,407			29,384			82,020			454,050			—			4,707,658
Caps		43,107			9,594			31,491			927			1,095			—			—			86,214
Caps Final Maturity		43,107			9,594			31,491			927			1,095			—			—			86,214
GAP	$	(2,124,469	)	$	(672,483	)	$	749,526		$	611,491		$	1,016,861		$	452,576		$	(33,502	)	$	—
Cumulative GAP	$	(2,124,469	)	$	(2,796,952	)	$	(2,047,426	)	$	(1,435,935	)	$	(419,074	)	$	33,502		$	—		$	—
Cumulative interest rate gap to earning assets		-25.13	%		-33.09	%		-24.22	%		-16.99	%		-4.96	%		0.40	%

     Interest rate risk is the primary market risk to which the Corporation is exposed. Nearly all of the Corporation’s interest rate risk arises from instruments, positions and transactions entered into for purposes other than trading. They include loans, investment securities, deposits, short-term borrowings, senior and subordinated debt and derivative financial instruments used for asset and liability management.

     As part of its interest rate risk management process, the Corporation analyzes on an ongoing basis the profitability of the balance sheet structure, and how this structure will react under different market scenarios. In order to carry out this task, management prepares three standardized reports with detailed information on the sources of interest income and expense: the

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“Financial Profitability Report”, the “Net Interest Income Shock Report” and the “Market Value Shock Report”. The former deals with historical data while the latter two deal with expected future earnings.

     The Financial Profitability Report identifies individual components of the Corporation’s non-trading portfolio independently with their corresponding interest income or expense. It uses the historical information at the end of each month to track the yield of such components and to calculate net interest income for such time period.

     The Net Interest Income Shock Report uses a simulation analysis to measure the amount of net interest income the Corporation would have from its operations throughout the next twelve months and the sensitivity of these earnings to assumed shifts in market interest rates throughout the same period. The important assumptions of this analysis are: ( i ) rate shifts are parallel and immediate throughout the yield curve; (ii) rate changes affect all assets and liabilities equally; (iii) interest-bearing demand accounts and savings passbooks will run off in a period of one year; and (iv) demand deposit accounts will run off in a period of one to three years. Cash flows from assets and liabilities are assumed to be reinvested at market rates in similar instruments. The object is to simulate a dynamic gap analysis enabling a more accurate interest rate risk assessment.

     The ALCO has decided to maintain its negative interest rate gap in the current flat yield curve environment. However it is not yet prepared to increase the duration of its investment portfolio with new acquisitions of securities until some steepening in the yield curve is observed. Any increase in the duration of its equity will only be achieved by an increase in the commercial activity of the Bank.

     The ALCO monitors interest rate gaps in combination with net interest margin (NIM) sensitivity and duration of market value equity (MVE).

     NIM sensitivity analysis captures the maximum acceptable net interest margin loss for a one percent parallel change of all interest rates across the curve. Duration of market value equity analysis entails a valuation of all interest bearing assets and liabilities under parallel movements in interest rates. The ALCO has established limits of $30 million of maximum NIM loss for a 1% parallel shock and $135 million maximum MVE loss for a 1% parallel shock.

     As of June 30, 2006, it was determined for purposes of the Net Interest Income Shock Report that the Corporation had a potential loss in net interest income of approximately $26.1 million if market rates were to increase 100 basis points immediately parallel across the yield curve, less than the $30.0 million limit. For purposes of the Market Value Shock Report it was determined that the Corporation had a potential loss of approximately $118.7 million if market rates were to increase 100 basis points immediately parallel across the yield curve, less than the $135.0 million limit.

     As of June 30, 2006 the Corporation had a liability sensitive profile as explained by the negative gap, the NIM shock report and the MVE shock report. Any decision to reposition the balance sheet is taken by the ALCO committee, and is subject to compliance with the established risk limits. Some factors that could lead to shifts in policy could be, but are not limited to, changes in views on interest rate markets, monetary policy, and macroeconomic factors as well as legal, fiscal and other factors which could lead to shifts in the asset liability mix.

Liquidity Risk

     Liquidity risk is the risk that not enough cash will be generated from either assets or liabilities to meet deposit withdrawals or contractual loan funding. The Corporation’s general policy is to maintain liquidity adequate to ensure its ability to honor withdrawals of deposits, make repayments at maturity of other liabilities, extend loans and meet its own working capital needs. The Corporation’s principal sources of liquidity are capital, core deposits from retail and commercial clients, and wholesale deposits raised in the inter-bank and commercial markets. The Corporation manages liquidity risk by maintaining diversified short-term and long-term sources through the Federal funds market, commercial paper program, repurchase agreements and retail certificate of deposit programs. As of June 30, 2006, the Corporation had $3.0 billion in unsecured lines of credit ($2.9 billion available) and $7.0 billion in collateralized lines of credit with banks and financial entities ($5.4 billion available). All securities in portfolio are highly rated and very liquid enabling the Corporation to treat them as a secondary source of liquidity.

     The Corporation does not have significant usage or limitations on the ability to upstream or downstream funds as a method of liquidity. However, the Corporation faces certain tax constraints when borrowing funds (excluding the placement

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of deposits) from BSCH or affiliates because Puerto Rico’s tax code requires local corporations to withhold 29% of the interest income paid to non-resident affiliates. The current intra-group credit line provided by BSCH and affiliates to the Corporation is $1.1 billion.

     Liquidity is derived from the Corporation’s capital, reserves and securities portfolio. The Corporation has established lines of credit with foreign and domestic banks, has access to U.S. markets through its commercial paper program and also has broadened its relations in the federal funds and repurchase agreement markets to increase the availability of other sources of funds and to augment liquidity as necessary.

     During the first quarter of 2006 the Corporation engaged in several financing transactions in order to fund the acquisition of Island Finance. In connection with this transaction, on February 28, 2006, the Corporation entered into a $725 million loan agreement with Santusa Holding, S.L., a subsidiary of its parent company, to be used in connection with the acquisition of substantially all the assets of Island Finance in Puerto Rico from Wells Fargo. The loan bears interest at an annual rate of 4.965%, payable semiannually. The Corporation did not pay any commitment fee of commission in connection with the loan. On June 19, 2006, Santander Bancorp entered into a novation agreement and an amended and restated loan agreement with Lloyds TBS Bank to refinance the terms of $725 million loan agreement with Santusa Holdings S.L. The loan under the Amended Loan agreement bears interest at an annual rate equal to aggregate of (i) 0.10% per annum, (ii) the applicable LIBOR rate, and (iii) a percentage rate per annum calculated by Lloyds TBS Bank. The interest under the loan is payable in interest periods of one, three or six months, or such, or other period as requested by the Company at the time of drawing.

     The Corporation also completed the private placement of $125 million Trust Preferred Securities (“Preferred Securities”) and issued Junior Subordinated Debentures in the aggregate principal amount of $129 million in connection with the issuance of the Preferred Securities. The Preferred Securities are fully and unconditionally guaranteed (to the extent described in the guarantee agreement between the Corporation and the guarantee trustee, for the benefit of the holders from time to time of the Preferred Securities) by the Corporation. The Trust Preferred Securities were acquired by an affiliate of the Corporation. In connection with the issuance of the Preferred Securities, the Corporation issued an aggregate principal amount of $129,000,000 of its 7.00% Junior Subordinated Debentures, Series A, due July 1, 2037 to the Trust.

     In June 2006, the Corporation announced an early retirement program which will be available to all employees 55 years of age and older with at least 15 years of service. Employee acceptance is expected to occur during the third quarter of 2006. A preliminary assessment by management, based on previous experience, with a 50% participation rate would result in an estimated cost of the program of approximately $3.6 million.

     On July 2006, the Corporation acquired at book value Island Insurance Corporation from Wells Fargo for $5.7 million. Island Insurance Corporation is a Puerto Rico life insurance company, duly licensed by the Puerto Rico Commissioner of Insurance. The insurance company has not begun operations.

     Management monitors liquidity levels each month. The focus is on the liquidity ratio, which compares net liquid assets (all liquid assets not subject to collateral or repurchase agreements) against total liabilities plus contingent liabilities. As of June 30, 2006, the Corporation had a liquidity ratio of 10.18%. At June 30, 2006, the Corporation had total available liquid assets of $1.1 billion. The Corporation believes it has sufficient liquidity to meet current obligations.

     The Corporation does not contemplate material uncertainties in the rolling over of deposits, both retail and wholesale, and is not engaged in capital expenditures that would materially affect the capital and liquidity positions. Should any deficiency arise for seasonal or more critical reasons, the Bank would make recourse to alternative sources of funding such as the commercial paper program, its lines of credit with domestic and national banks, unused collateralized lines with Federal Home Loan Banks and others.

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PART I. ITEM 4

CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

     As of the end of the period covered by this Quarterly Report on Form 10-Q, the Corporation’s management, including the Chief Executive Officer, the Chief Operating Officer and the Chief Accounting Officer (as the Corporation’s principal financial officer), conducted an evaluation of the effectiveness of the design and operation of the Corporation’s disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934). Based upon that evaluation, the Chief Executive Officer, the Chief Operating Officer and the Chief Accounting Officer (as the Corporation’s principal financial officer) concluded that the design and operation of these disclosure controls and procedures were effective.

     The acquisition of Island Finance on February 28, 2006, is material to the Corporation’s consolidated financial statements, and as such represents a material change in internal control over financial reporting. Changes to certain processes, information technology systems and other components of internal control over financial reporting (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934) resulting from the acquisition of Island Finance may occur and are in the process of being evaluated by management as integration activities are implemented. Management intends to complete its assessment of the effectiveness of internal controls over financial reporting for the acquired business within one year of the date of acquisition.

Changes in Internal Controls

     With the exception of the Island Finance acquisition as noted above, there have been no changes in the Corporation’s internal controls over financial reporting during the fiscal quarter covered by this Quarterly Report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal controls over financial reporting.

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PART II – OTHER INFORMATION

ITEM I – LEGAL PROCEEDINGS

     The Corporation is involved as plaintiff or defendant in a variety of routine litigation incidental to the normal course of business. Management believes, based on the opinion of legal counsel, that it has adequate defense with respect to such litigation and that any losses therefrom would not have a material adverse effect on the consolidated results of operations or consolidated financial condition of the Corporation.

     On December 8, 2005, the Corporation received a subpoena from the SEC for the production of documents concerning its mortgage loan transactions with an unrelated local financial institution. The Corporation has commenced providing documents and information to the SEC in response to the subpoena and other mortgage loan portfolio transactions. The Corporation is cooperating fully with the SEC in connection with these inquiries.

     Other than this matter, there are no material pending legal proceedings, other than ordinary routine litigation incidental to the business, to which the Corporation or its subsidiary is a party or of which any of their property is subject.

ITEM 1A. RISK FACTORS

     Except as noted below, there have been no material changes to the risk factors as previously disclosed under Item 1A. in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2005.

     Fiscal Reform and the Current Economic Condition of the Commonwealth of Puerto Rico.The legislative and executive branches of the Commonwealth of Puerto Rico reached an agreement on the government budget and tax and fiscal reform. Notwithstanding the resolution of the crisis that led to the Government shutdown last quarter, there are open issues being discussed between the legislative and executive branches of the Government relating to fiscal and tax reform that have not been resolved and are relevant to the budgetary and cash flow issues still facing the Government.

     The current economic uncertainty that exists in Puerto Rico tax and fiscal reform, coupled with increases in the price of petroleum and other consumer goods, are aggravating the concerns over the economic situation of the Island. The partial shutdown of the government, the increase in petroleum prices, along with rising interest rates and uncertainties relating to tax reform may adversely impact employment and economic growth in Puerto Rico. These factors may also have an adverse effect on the credit quality of the Corporation’s loan portfolios, as delinquency rates are expected to increase in the short-term, until the economy stabilizes.

     Downgrades of Commonwealth of Puerto Rico debt obligations.Although Puerto Rico’s economy is closely integrated to that of the U.S., and many of its instrumentalities are investment-grade rated borrowers in the U.S. capital markets, the current fiscal situation of the Government of Puerto Rico has led to a downgrade of its debt obligations.

     On May 8, 2006, Moody’s Investors Service downgraded the Government’s general obligation bond rating to Baa3 from Baa2, and kept the rating on “watch list” for possible further downgrade. In addition to the Commonwealth’s general obligation bonds, the downgrade affects certain Commonwealth-guaranteed bonds, Commonwealth appropriation bonds, and government bond programs directly or indirectly linked to the general creditworthiness of the Commonwealth. All have been downgraded by one notch. The Commonwealth’s appropriation bonds, and some of the subordinated revenue bonds of the Highway and Transportation Authority, are now rated just below investment grade at Ba1. As of June 30, 2006, the Corporation had $54.1 million in Puerto Rico Government and agencies available for sale with gross unrealized losses of $0.6 million.

     According to Moody’s, this action reflects the Government’s strained financial condition, the ongoing political conflict and lack of agreement regarding the measures necessary to end the government’s multi-year trend of financial deterioration. Even assuming the enactment of significant measures, Moody’s believes that budget deficits and fiscal

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imbalance could continue in the coming years. Standard & Poor’s, the other nationally recognized rating agency that has outstanding ratings of the Government’s debt is also cautiously monitoring the situation.

     It is uncertain how the financial markets may react to any potential future ratings downgrade in Puerto Rico’s debt obligations. A substantial portion of the Corporation’s credit exposure to the Government of Puerto Rico has an identified repayment stream, which includes in some cases the good faith, credit and unlimited taxation of certain municipalities, an assignment of basic property taxes and other revenues. The Corporation’s business activities and credit exposure are concentrated in Puerto Rico. Accordingly, the Corporation’s financial condition and results of operations are dependent to a significant extent upon the economic conditions prevailing in Puerto Rico. Any significant adverse political or economic developments in Puerto Rico resulting from the fiscal and economic crisis could have a negative impact on the Corporation’s future financial condition and results of operations.

ITEM 2 – UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

     None

ITEM 3 – DEFAULTS UPON SENIOR SECURITIES

     None

ITEM 4 – SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Santander BanCorp’s Annual Meeting of Stockholders was held on June 15, 2006. A quorum was obtained with 45,064,970 shares represented in person or by proxy, which represents 96.62% of all votes eligible to be cast at the meeting. The following results were obtained for the proposals voted at the meeting:

• The following two directors were elected for a three-year term, ending in April 2009:

	For		Withheld
Gonzalo de las Heras		44,179,982		884,988
Jesús Zabalza		44,180,088		884,882

• A resolution to ratify the appointment of Deloitte & Touche LLP as the Corporation’s independent accountants for fiscal year 2006 was approved with the following results:

For	44,938,052
Against	94,693
Abstained	32,225

ITEM 5 – OTHER INFORMATION

     None

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ITEM 6 – EXHIBITS

A. Exhibit No.	Exhibit Description	Reference
(2.0)	Agreement and Plan of Merger-Banco Santander Puerto Rico and Santander Bancorp	Exhibit 3.3 8-A12B
(2.1)	Stock Purchase Agreement Santander BanCorp and Banco Santander Central Hispano, S.A.	Exhibit 2.1 10K-12/31/00
(2.2)	Stock Purchase Agreement dated as of November 28, 2003 by and among Santander BanCorp, Administración de Bancos Latinoamericanos Santander, S.L. and Santander Securities Corporation	Exhibit 2.2 10Q-06/30/04
(2.3)	Settlement Agreement between Santander BanCorp and Administración de Bancos Latinoamericanos Santander, S.L.	Exhibit 2.3 10Q-06/30/04
(3.1)	Articles of Incorporation	Exhibit 3.1 8-A12B
(3.2)	Bylaws	Exhibit 3.1 8-A12B
(4.1)	Authoring and Enabling Resolutions 7% Noncumulative Perpetual Monthly Income Preferred Stock, Series A	Exhibit 4.1 10Q-06/30/04
(4.2)	Offering Circular for $30,000,000 Banco Santander PR Stock Market Growth Notes Linked to the S&P 500 Index	Exhibit 4.610Q-03/31/04
(4.3)	Private Placement Memorandum Santander BanCorp $75,000,000 6.30% Subordinated Notes	Exhibit 4.3 10KA-12/31/04
(4.4)	Private Placement Memorandum Santander BanCorp $50,000,000 6.10% Subordinated Notes	Exhibit 4.4 10K-12/31/05
(4.5)	Indenture,dated as of February 28, 2006, between the Santander BanCorp and Banco Popular de Puerto Rico	Exhibit 4.6 10Q-03/31/06
(4.6)	First Supplemental Indenture, dated as of February 28, 2006, between Santander BanCorp and Banco Popular de Puerto Rico	Exhibit 4.7 10Q-03/31/06
(4.7)	Amended and Restated Declaration of Trust and Trust Agreement, dated as of February 28, 2006, among Santander BanCorp, Banco Popular de Puerto Rico Wilmington Trust Company, the Administrative Trustees named therein and The holders from time to time, of the undivided beneficial ownership interests in The assets of the Trust.	Exhibit 4.8 10Q-03/31/06
(4.8)	Guarantee Agreement, dated as of February 28, 2006, between Santander BanCorp And Banco Popular de Puerto Rico	Exhibit 4.9 10Q-03/31/06
(4.9)	Global Capital Securities Certificate	Exhibit 4.10 10Q-03/31/06
(4.10)	Certificate of Junior Subordinated Debenture	Exhibit 4.11 10Q-03/31/06
(10.1)	Contract for Systems Maintenance between ALTEC and Banco Santander Puerto Rico	Exhibit 10A10K-12/31/02
(10.2)	Employment Contract – José Ramón González	Exhibit 10.1 10Q-03/31/05
(10.3)	Employment Contract – Carlos M. García	Exhibit 10.2 10Q-03/31/05
(10.4)	Information Processing Services Agreement between America Latina Tecnologia de Mexico SA and Banco Santander Puerto Rico, Santander International Bank of Puerto Rico, Inc. and Santander Investment International Bank, Inc.	Exhibit 10A10Q-06/30/03
(10.5)	Employment Contract – Roberto Córdova	Exhibit 10.3 10Q-03/31/05
(10.6)	Employment Contract – Bartolomé Vélez	Exhibit 10.4 10Q-03/31/05
(10.7)	Employment Contract – Lillian Díaz	Exhibit 10.5 10Q-03/31/05
(10.8)	Technology Assignment Agreement between CREFISA, Inc. and Banco Santander Puerto Rico	Exhibit 10.1210KA-12/31/04
(10.9)	Altair System License Agreement between CREFISA, Inc. and Banco Santander Puerto Rico	Exhibit 10.1310KA-12/31/04
(10.10)	Employment Contract-Anthony Boon	Exhibit 10.1410Q-03/31/04
(10.11)	Deferred Compensation Contract – Anthony Boon	Exhibit 10.1510Q-03/31/04
(10.12)	2005 Employee Stock Option Plan	Exhibit B Def14A-03/26/05

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A. Exhibit No.	Exhibit Description	Reference
(10.13)	Asset Purchase Agreement by and among Wells Fargo & Company, Island Finance Puerto Rico, Inc., Island Finance Sales Finance Corporation and Santander BanCorp and Santander Financial Services, Inc. for the purchase And sale of certain assets of Island Finance Puerto Rico, Inc. and Island Finance Sales Finance Corporation dated as of January 22, 2006	Exhibit 10.1 8K-01/25/06
(10.14)	Novation Agreement among Santander BanCorp, Santusa Holdings S.L. and Lloyds TBS Bank plc.	Exhibit 10.1 8K-06/19/06
(10.15)	Amended and Restated USD 725,000,000 Loan Facility between Santander Bancorp and Lloyds TBS Bank plc. and Lloyds TBS Bank pcl.	Exhibit 10.1 8K-06/19/06
(14)	Code of Ethics	Exhibit 14 10KA-12/31/04
(22)	Registrant’s Proxy Statement for the April 28, 2005 Annual Meeting of Stockholders	Def14A-05/12/06
(31.1)	Certification from the Chief Executive Officer pursuant to Section 302 of The Sarbanes-Oxley Act of 2002	Exhibit 31.1
(31.2)	Certification from the Chief Operating Officer pursuant to Section 302 of The Sarbanes-Oxley Act of 2002	Exhibit 31.2
(31.3)	Certification from the Chief Accounting Officer pursuant to Section 302 of The Sarbanes-Oxley Act of 2002	Exhibit 31.3
(32.1)	Certification from the Chief Executive Officer, Chief Operating Officer and Chief Accounting Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002	Exhibit 32.1

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SIGNATURES

     Pursuant to the requirements of Section 13 of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

SANTANDER BANCORP
Name of Registrant

Dated: August 8, 2006	By: /s/	José Ramón González
		President and Chief Executive Officer
Dated: August 8, 2006	By: /s/	Carlos M. García
		Senior Executive Vice President and Chief Operating Officer
Dated: August 8, 2006	By: /s/	María Calero
		Executive Vice President and Chief Accounting Officer

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