H&R Block (HRB) 10-Q 2006 Q2 Quarterly report

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended October 31, 2005

OR

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

For the transition period from                    to                    

Commission file number 1-6089

H&R Block, Inc.

(Exact name of registrant as specified in its charter)

MISSOURI
(State or other jurisdiction of
incorporation or organization) 44-0607856
(I.R.S. Employer
Identification No.)

4400 Main Street
Kansas City, Missouri 64111
(Address of principal executive offices, including zip code)

(816) 753-6900
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of 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 an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yesþ Noo

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

Yeso Noþ

The number of shares outstanding of the registrant’s Common Stock, without par value, at the close of business on November 30, 2005 was 327,638,203 shares.

Form 10-Q for the Period Ended October 31, 2005

Table of Contents

	Page
PART I Financial Information
Item 1. Condensed Consolidated Balance Sheets October 31, 2005 and April 30, 2005		1
Condensed Consolidated Statements of Income and Comprehensive Income Three and Six Months Ended October 31, 2005 and 2004 (Restated)		2
Condensed Consolidated Statements of Cash Flows Six Months Ended October 31, 2005 and 2004 (Restated)		3
Notes to Condensed Consolidated Financial Statements		4
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		19
Item 3. Quantitative and Qualitative Disclosures about Market Risk		41
Item 4. Controls and Procedures		41
PART II Other Information
Item 1. Legal Proceedings		43
Item 2. Unregistered Sales of Equity Securities		45
Item 4. Submission of Matters to a Vote of Security Holders		45
Item 6. Exhibits		46
SIGNATURES		48
Amended and Restated Sale and Servicing Agreement
Amended and Restated Note Purchase Agreement
Amended and Restated Five-Year Credit and Guarantee Agreement
Five-Year Credit and Guarantee Agreement
Sale and Servicing Agreement
Note Purchase Agreement
Indenture
Omnibus Amendment No. 1
Other Income License Agreement
Employment Agreement - Jeff Nachbor
Amendment No. Six to Amended/Restated Note Purchase Agreement
Amendment No. Two to Amended/Restated Sale & Servicing Agreement
Amendment No. Three to Amended/Restated Sale & Servicing Agreement
HSBC Retail Settlement Products Distribution Agreement
HSBC Digital Settlement Products Distribution Agreement
HSBC Refund Anticipation Loan Participation Agreement
HSBC Settlement Products Servicing Agreement
Appendix of Defined Terms and Rules of Construction
Sale and Servicing Agreement
Note Purchase Agreement
Indenture
Fourth Amended/Restated Loan Purchase & Contribution Agreement
Second Amendment to 2nd Amended/Restated Refund Anticipation Loan Operations Agreement
Certification by CEO Pursuant to Section 302
Certification by CFO Pursuant to Section 302
Certification by CEO Furnished Pursuant to 18 U.S.C. 1350
Certification by CFO Furnished Pursuant to 18 U.S.C. 1350

CONDENSED CONSOLIDATED BALANCE SHEETS

(amounts in 000s, except share amounts)
	October 31, 2005			April 30, 2005
	(Unaudited)
ASSETS
Cash and cash equivalents	$	392,490		$	1,100,213
Cash and cash equivalents — restricted		464,480			516,909
Marketable securities — trading		114,136			11,790
Receivables from customers, brokers, dealers and clearing organizations, net		577,506			590,226
Receivables, less allowance for doubtful accounts of $59,332 and $38,879		693,302			418,788
Prepaid expenses and other current assets		464,005			432,708
Total current assets		2,705,919			3,070,634
Residual interests in securitizations — available-for-sale		142,782			205,936
Beneficial interest in Trusts — trading		169,378			215,367
Mortgage servicing rights		245,928			166,614
Property and equipment, at cost less accumulated depreciation and amortization of $714,971 and $658,425		362,041			330,150
Intangible assets, net		247,849			247,092
Goodwill, net		1,087,587			1,015,947
Other assets		335,695			287,543
Total assets	$	5,297,179		$	5,539,283
LIABILITIES AND STOCKHOLDERS’ EQUITY
Liabilities:
Commercial paper	$	498,175		$	—
Current portion of long-term debt		16,946			25,545
Accounts payable to customers, brokers and dealers		846,913			950,684
Accounts payable, accrued expenses and other current liabilities		639,812			564,749
Accrued salaries, wages and payroll taxes		170,056			318,644
Accrued income taxes		204,725			349,298
Total current liabilities		2,376,627			2,208,920
Long-term debt		917,884			923,073
Other noncurrent liabilites		428,395			430,919
Total liabilities		3,722,906			3,562,912
Stockholders’ equity:
Common stock, no par, stated value $.01 per share, 800,000,000 shares authorized, 435,890,796 shares issued at October 31, 2005 and April 30, 2005		4,359			4,359
Additional paid-in capital		612,207			598,388
Accumulated other comprehensive income		44,463			68,718
Retained earnings		2,996,805			3,188,785
Less cost of 110,565,669 and 104,649,850 shares of common stock in treasury		(2,083,561	)		(1,883,879	)
Total stockholders’ equity		1,574,273			1,976,371
Total liabilities and stockholders’ equity	$	5,297,179		$	5,539,283

See Notes to Condensed Consolidated Financial Statements

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CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

(Unaudited, amounts in 000s,
except per share amounts)
	Three months ended October 31,						Six months ended October 31,
				Restated						Restated
	2005			2004			2005			2004
Revenues:
Service revenues	$	384,263		$	290,232		$	699,391		$	538,820
Other revenues:
Gains on sales of mortgage assets, net		147,267			184,148			383,698			367,508
Interest income		55,010			48,552			104,263			88,272
Product and other revenues		18,503			19,021			32,684			33,904
		605,043			541,953			1,220,036			1,028,504
Operating expenses:
Cost of services		387,217			324,084			730,435			615,059
Cost of other revenues		134,864			96,249			258,221			174,644
Selling, general and administrative		206,549			184,867			395,801			345,063
		728,630			605,200			1,384,457			1,134,766
Operating loss		(123,587	)		(63,247	)		(164,421	)		(106,262	)
Interest expense		12,385			18,081			24,820			35,874
Other income, net		2,843			1,510			10,243			3,518
Loss before taxes		(133,129	)		(79,818	)		(178,998	)		(138,618	)
Income tax benefit		(46,854	)		(29,946	)		(64,399	)		(52,004	)
Net loss	$	(86,275	)	$	(49,872	)	$	(114,599	)	$	(86,614	)
Basic and diluted loss per share	$	(0.26	)	$	(0.15	)	$	(0.35	)	$	(0.26	)
Basic and diluted shares		326,047			329,372			328,381			333,442
Dividends per share	$	.13		$	.11		$	.24		$	.21
Comprehensive income (loss):
Net loss	$	(86,275	)	$	(49,872	)	$	(114,599	)	$	(86,614	)
Change in unrealized gain on available-for-sale securities, net		(23,653	)		8,084			(29,464	)		29,554
Change in foreign currency translation adjustments		4,385			8,371			5,209			8,041
Comprehensive income (loss)	$	(105,543	)	$	(33,417	)	$	(138,854	)	$	(49,019	)

See Notes to Condensed Consolidated Financial Statements

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CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, amounts in 000s)
				Restated
Six months ended October 31,	2005			2004
Cash flows from operating activities:
Net loss	$	(114,599	)	$	(86,614	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		90,173			80,267
Accretion of residual interests in securitizations		(64,341	)		(63,514	)
Impairments of available-for-sale residual interests		20,613			2,609
Additions to trading securities — residual interests in securitizations, net		(185,645	)		(68,618	)
Proceeds from net interest margin transactions, net		85,472			53,348
Realized gain on sale of available-for-sale residual interests		(28,675	)		—
Additions to mortgage servicing rights		(136,294	)		(58,894	)
Amortization and impairment of mortgage servicing rights		56,980			38,653
Net change in beneficial interest in Trusts		45,989			25,524
Other, net of acquisitions		(474,532	)		(590,035	)
Net cash used in operating activities		(704,859	)		(667,274	)
Cash flows from investing activities:
Cash received from available-for-sale residual interests		64,377			73,477
Cash received from sale of available-for-sale residual interests		30,497			—
Purchases of property and equipment, net		(77,635	)		(60,598	)
Payments made for business acquisitions, net of cash acquired		(200,309	)		(5,472	)
Other, net		13,151			12,138
Net cash provided by (used in) investing activities		(169,919	)		19,545
Cash flows from financing activities:
Repayments of commercial paper		(1,101,729	)		(1,376,877	)
Proceeds from issuance of commercial paper		1,599,904			1,692,933
Proceeds from issuance of long-term debt, net		—			395,221
Dividends paid		(77,381	)		(69,997	)
Acquisition of treasury shares		(259,745	)		(529,558	)
Proceeds from issuance of common stock		48,001			53,933
Other, net		(41,995	)		(24,600	)
Net cash provided by financing activities		167,055			141,055
Net decrease in cash and cash equivalents		(707,723	)		(506,674	)
Cash and cash equivalents at beginning of the period		1,100,213			1,072,745
Cash and cash equivalents at end of the period	$	392,490		$	566,071

See Notes to Condensed Consolidated Financial Statements

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS(Unaudited)

1.

Basis of Presentation

The condensed consolidated balance sheet as of October 31, 2005, the condensed consolidated statements of income and comprehensive income for the three and six months ended October 31, 2005 and 2004, and the condensed consolidated statements of cash flows for the six months ended October 31, 2005 and 2004 have been prepared by the Company, without audit. In the opinion of management, all adjustments (which include only normal recurring adjustments) necessary to present fairly the financial position, results of operations and cash flows at October 31, 2005 and for all periods presented have been made.

     “H&R Block,” “the Company,” “we,” “our” and “us” are used interchangeably to refer to H&R Block, Inc. or to H&R Block, Inc. and its subsidiaries, as appropriate to the context.

     Certain reclassifications have been made to prior year amounts to conform to the current year presentation. These reclassifications had no effect on our results of operations or stockholders’ equity as previously reported. Adjustments related to the restatement of previously issued financial statements are detailed in note 2.

     On June 8, 2005, our Board of Directors declared a two-for-one stock split of the Company’s Common Stock in the form of a 100% stock distribution, effective August 22, 2005, to shareholders of record as of the close of business on August 1, 2005. All share and per share amounts in this document have been adjusted to reflect the effect of the stock split.

     Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted. These condensed consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in our April 30, 2005 Annual Report to Shareholders on Form 10-K/A.

     Operating revenues of the Tax Services and Business Services segments are seasonal in nature with peak revenues occurring in the months of January through April. Therefore, results for interim periods are not indicative of results to be expected for the full year.

2.	Restatement of Previously Issued Financial Statements
	On June 7, 2005, management and the Audit Committee of the Board of Directors determined that restatement of our previously issued consolidated financial statements, including financial statements for the three and six months ended October 31, 2004, was appropriate as a result of the errors noted below. All amounts listed are pretax, unless otherwise noted.

§	An error in calculating the gain on sale of residual interests in fiscal year 2003. This error was corrected by deferring a portion of the gain on sale of residual interests as of the transaction date in fiscal year 2003 and recognizing revenue from the sale as interest income from accretion of residual interests in subsequent periods. Interest income from accretion increased $2.7 million and $5.7 million for the three and six months ended October 31, 2004, respectively. This correction also decreased impairments of residual interests $0.9 million for the six months ended October 31, 2004 and decreased comprehensive income $1.7 million and $4.0 million for the three and six months ended October 31, 2004, respectively.
§	An error in the calculation of an incentive compensation accrual at our Mortgage Services segment as of April 30, 2004. This error resulted in an overstatement of compensation expense for the six months ended October 31, 2004 of $12.1 million.
§	An error in accounting for leased properties related to rent holidays and mandatory rent escalation in our Tax Services, Mortgage Services and Investment Services segments. Rent expense was understated for the three and six months ended October 31, 2004 by $0.4 million and $0.6 million, respectively.
§	An error from the capitalization of certain branch office costs at our Investment Services segment, which should have been expensed as incurred. This error resulted in an understatement of

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occupancy expenses and an overstatement of depreciation expense and capital expenditures, resulting in a net overstatement of operating expenses of $5.7 million and $5.5 million for the three and six months ended October 31, 2004, respectively.

§

Errors related to accounting for acquisitions at our Business Services and Investment Services segments, the largest of which was the acquisition of OLDE in fiscal year 2000. Amortization of customer relationships was understated by $1.8 million and $3.7 million for the three and six months ended October 31, 2004, respectively, and the provision for income taxes was overstated by approximately $3.7 million and $7.5 million, respectively.

     Notes 5, 6, 8, 12, and 14 have been restated to reflect the above described adjustments.

     The following is a summary of the impact of the restatement on our condensed consolidated statement of income and comprehensive income for the three and six months ended October 31, 2004:

(in 000s, except per share amounts)
	Three months ended October 31, 2004									Six months ended October 31, 2004
	As Previously									As Previously
	Reported(1)			Adjustments			Restated			Reported(1)			Adjustments			Restated
Gain on sale of mortgage assets, net	$	184,114		$	34		$	184,148		$	366,648		$	860		$	367,508
Interest income		45,888			2,664			48,552			82,594			5,678			88,272
Total revenues		539,255			2,698			541,953			1,021,966			6,538			1,028,504
Total operating expenses		608,608			(3,408	)		605,200			1,148,098			(13,332	)		1,134,766
Operating loss		(69,353	)		6,106			(63,247	)		(126,132	)		19,870			(106,262	)
Loss before taxes		(85,924	)		6,106			(79,818	)		(158,488	)		19,870			(138,618	)
Income tax benefit		(33,725	)		3,779			(29,946	)		(62,206	)		10,202			(52,004	)
Net loss		(52,199	)		2,327			(49,872	)		(96,282	)		9,668			(86,614	)
Basic and diluted loss per share	$	(0.16	)	$	.01		$	(0.15	)	$	(0.29	)	$	.03		$	(0.26	)
Change in unrealized gain on available-for-sale securities, net	$	9,752		$	(1,668	)	$	8,084		$	33,595		$	(4,041	)	$	29,554
Comprehensive income		(34,076	)		659			(33,417	)		(54,646	)		5,627			(49,019	)

⁽¹⁾ Amounts presented “as previously reported” have been reclassified to conform to current year presentation. See discussion of reclassifications in note 1.

     The following is a summary of the impact of the restatement on our condensed consolidated statement of cash flows for the six months ended October 31, 2004:

(in 000s)
	As Previously
Six months ended October 31, 2004	Reported(1)			Adjustments			Restated
Net loss	$	(96,282	)	$	9,668		$	(86,614	)
Depreciation and amortization		76,768			3,499			80,267
Accretion of residual interests in securitizations		(57,835	)		(5,679	)		(63,514	)
Impairment of available-for-sale residual interests		3,469			(860	)		2,609
Other, net of acquisitions		(588,756	)		(1,279	)		(590,035	)
Net cash used in operating activities		(672,623	)		5,349			(667,274	)
Purchases of property and equipment, net		(55,249	)		(5,349	)		(60,598	)
Net cash provided by (used in) investing activities		24,894			(5,349	)		19,545

⁽¹⁾ Amounts presented “as previously reported” have been reclassified to conform to current year presentation. See discussion of reclassifications in note 1.

     The restatement had no impact on our cash flows from financing activities as previously reported.

3.

Business Combinations

Effective October 1, 2005, we acquired all outstanding common stock of American Express Tax and Business Services, Inc. for cash payments totaling $191.4 million. The initial purchase price is subject to a post-closing adjustment based upon determination of the final September 30, 2005 net asset value. Results related to American Express Tax and Business Services, Inc. have been included in our condensed consolidated financial statements since October 1, 2005. Pro forma results of operations have not been presented because the effects of this acquisition were not material to our results. The accompanying balance sheet reflects a preliminary allocation of the purchase price to assets acquired and liabilities assumed as follows:

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	(in 000s)
Property and equipment	$	18,590
Other assets		136,169
Liabilities		(57,420	)
Amortizing intangible assets		28,100
Goodwill		65,987
Total cash paid	$	191,426

     Goodwill recognized in these transactions is included in the Business Services segment and is not deductible for tax purposes. The preliminary purchase price allocations are subject to change and will be adjusted based upon resolution of several matters including, but not limited to, the following:

§	Determination of the post-closing adjustment and final purchase price;
§	Completion of our valuation of intangible assets and determination of useful lives;
§	Determination of final liabilities relating to planned exit activities; and
§	Determination of the tax basis of acquired assets and liabilities, and deferred tax balances of the acquired business.

4.

Earnings (Loss) Per Share

Basic earnings (loss) per share is computed using the weighted average shares outstanding during each period. The dilutive effect of potential common shares is included in diluted earnings (loss) per share except in those periods with a loss. Diluted earnings per share excludes the impact of shares of common stock issuable upon the lapse of certain restrictions or the exercise of options to purchase 32.6 million shares of stock for the three and six months ended October 31, 2005 and 35.2 million shares for the three and six months ended October 31, 2004, as the effect would be antidilutive due to the net loss recorded during the periods.

     The weighted average shares outstanding for the three and six months ended October 31, 2005 decreased to 326.0 million and 328.4 million, respectively, from 329.4 million and 333.4 million last year, primarily due to our purchases of treasury shares. The effect of these purchases was partially offset by the issuance of treasury shares related to our stock-based compensation plans.

     During each of the six month periods ended October 31, 2005 and 2004, we issued 3.3 million shares of common stock pursuant to the exercise of stock options, employee stock purchases and awards of restricted shares, in accordance with our stock-based compensation plans.

     During the six months ended October 31, 2005, we acquired 9.2 million shares of our common stock, of which 9.0 million shares were purchased from third parties with the remaining shares swapped or surrendered to us, at an aggregate cost of $259.7 million. During the six months ended October 31, 2004, we acquired 22.5 million shares of our common stock, nearly all of which were purchased from third parties, at an aggregate cost of $529.6 million.

5. Mortgage Banking Activities

Activity related to available-for-sale residual interests in securitizations consists of the following:

(in 000s)
				Restated
Six months ended October 31,	2005			2004
Balance, beginning of period	$	205,936		$	210,973
Additions from net interest margin (NIM) transactions		8,724			15,270
Cash received		(64,377	)		(73,477	)
Cash received on sale of residual interests		(30,497	)		—
Accretion		61,925			63,514
Impairments of fair value		(20,613	)		(2,609	)
Other		366			—
Changes in unrealized holding gains, net		(18,682	)		47,832
Balance, end of period	$	142,782		$	261,503

     We sold $23.3 billion and $13.3 billion of mortgage loans in loan sales to warehouse trusts (Trusts) or other buyers during the six months ended October 31, 2005 and 2004, respectively, with gains totaling $288.8 million and $372.0 million, respectively, recorded on these sales.

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     Net additions to trading residual interests recorded in connection with the securitization of mortgage loans totaled $185.6 million and $68.6 million during the six months ended October 31, 2005 and 2004, respectively. Trading residuals valued at $94.2 million were securitized in net interest margin (NIM) transactions during the current year, with net cash proceeds of $85.5 million received in connection with NIM transactions. In the prior year, all trading residuals, which totaled $68.6 million, were securitized with net cash proceeds of $53.3 million received on the transactions. Total net additions to residual interests from NIM transactions for the six months ended October 31, 2005 and 2004 were $8.7 million and $15.3 million, respectively.

     During the six months ended October 31, 2005, we completed the sale of $40.5 million of previously securitized residual interests and recorded a gain of $28.7 million. We received cash proceeds of $30.5 million and retained a $10.0 million residual interest in the sale. This sale accelerates cash flows from the residual interests and recognition of unrealized gains included in other comprehensive income.

     At October 31, 2005, we had $93.9 million in residual interests classified as trading securities. These residual interests are the result of the initial securitization of mortgage loans and are expected to be securitized in a NIM transaction during our third quarter. Trading residuals are included in marketable securities — trading on the condensed consolidated balance sheet with mark-to-market adjustments included in gains on sales of mortgage assets on the condensed consolidated income statement. Such adjustments resulted in a net loss of $1.4 million and a net gain of $2.1 million for the three and six months ended October 31, 2005, respectively. Similar adjustments resulted in a net gain of $4.9 million for the three and six months ended October 31, 2004. Cash flows from trading residuals of $7.9 million were received for the six months ended October 31, 2005 and are included in operating activities in the accompanying condensed consolidated statement of cash flows. There were no such trading securities recorded as of April 30, 2005.

     Cash flows from available-for-sale residual interests of $64.4 million and $73.5 million were received from the securitization trusts for the six months ended October 31, 2005 and 2004, respectively. Cash received on available-for-sale residual interests is included in investing activities in the condensed consolidated statements of cash flows.

     Aggregate net unrealized gains on residual interests not yet accreted into income totaled $67.9 million at October 31, 2005 and $115.4 million at April 30, 2005. These unrealized gains are recorded net of deferred taxes in other comprehensive income, and may be recognized in income in future periods either through accretion or upon further securitization or sale of the related residual interest.

     Activity related to mortgage servicing rights (MSRs) consists of the following:

(in 000s)
Six months ended October 31,	2005			2004
Balance, beginning of period	$	166,614		$	113,821
Additions		136,294			58,894
Amortization		(56,660	)		(38,653	)
Impairment		(320	)		—
Balance, end of period	$	245,928		$	134,062

     Estimated amortization of MSRs for fiscal years 2006 through 2010 is $69.9 million, $100.9 million, $48.0 million, $18.9 million and $8.2 million, respectively.

     During the current quarter, we completed an evaluation of assumptions used to value our MSRs. The changes in our assumptions as a result of this evaluation resulted in an increase to MSRs recorded in conjunction with loans originated during the second quarter. This change in assumptions increased our weighted average value of MSRs by approximately 14 basis points, primarily as a result of lower servicing costs, in particular interest paid to bondholders on monthly loan prepayments. As a result, additions to MSRs and gains on sales of mortgage loans during our second quarter were approximately $16.8 million higher than would have been recorded under our previous assumptions.

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     The key weighted average assumptions we used to estimate the cash flows and values of the residual interests initially recorded during the six months ended October 31, 2005 are as follows:

Six months ended October 31,	2005			2004
Estimated credit losses		2.82	%		3.08	%
Discount rate		20.02	%		25.00	%
Variable returns to third-party beneficial interest holders	LIBOR forward curve at closing

     The key weighted average assumptions we used to estimate the cash flows and values of the residual interests and MSRs at October 31, 2005 and April 30, 2005 are as follows:

	October 31, 2005			April 30, 2005
Estimated credit losses		2.96	%		3.03	%
Discount rate — residual interests		19.24	%		21.01	%
Discount rate — MSRs		15.00	%		12.80	%
Variable returns to third-party beneficial interest holders	LIBOR forward curve at valuation date

     We originate both adjustable and fixed rate mortgage loans. A key assumption used to estimate the cash flows and values of the residual interests is average annualized prepayment speeds. Prepayment speeds include voluntary prepayments, involuntary prepayments and scheduled principal payments. Prepayment rate assumptions are as follows:

	Prior to			Months Outstanding After
	Initial Rate			Initial Rate Reset Date
	Reset Date			Zero - 3			Remaining Life
Adjustable rate mortgage loans:
With prepayment penalties		31	%		70	%		43	%
Without prepayment penalties		37	%		53	%		41	%
Fixed rate mortgage loans:
With prepayment penalties		30	%		50	%		41	%

     For fixed rate mortgages without prepayment penalties, we use an average prepayment rate of 34% over the life of the loans. Prepayment rate is projected based on actual paydown including voluntary, involuntary and scheduled principal payments.

     Expected static pool credit losses are as follows:

Mortgage Loans Securitized in Fiscal Year
	Prior to 2002			2002			2003			2004			2005			2006
As of:
October 31, 2005		4.52	%		2.49	%		2.05	%		2.16	%		2.93	%		2.84	%
July 31, 2005		4.53	%		2.53	%		2.03	%		2.20	%		2.86	%		2.70	%
April 30, 2005		4.52	%		2.53	%		2.08	%		2.30	%		2.83	%		—
April 30, 2004		4.46	%		3.58	%		4.35	%		3.92	%		—			—

     Static pool credit losses are calculated by summing the actual and projected future credit losses and dividing them by the original balance of each pool of assets.

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     At October 31, 2005, the sensitivities of the current fair value of the residual interests and MSRs to 10% and 20% adverse changes in the above key assumptions are as follows:

(dollars in 000s)
	Residential Mortgage Loans
	NIM			Beneficial Interest			Trading			Servicing
	Residuals			in Trusts			Residual			Assets
Carrying amount/fair value	$	142,782		$	169,378		$	93,865		$	245,928
Weighted average remaining life (in years)		1.4			2.1			1.9			1.3
Prepayments (including defaults):
Adverse 10% — $ impact on fair value	$	4,200		$	(3,523	)	$	(1,303	)	$	(32,334	)
Adverse 20% — $ impact on fair value		11,888			(2,511	)		(2,112	)		(53,876	)
Credit losses:
Adverse 10% — $ impact on fair value	$	(34,306	)	$	(8,044	)	$	(3,060	)	Not applicable
Adverse 20% — $ impact on fair value		(59,982	)		(15,179	)		(6,101	)	Not applicable
Discount rate:
Adverse 10% — $ impact on fair value	$	(3,572	)	$	(3,441	)	$	(2,485	)	$	(3,732	)
Adverse 20% — $ impact on fair value		(6,924	)		(6,786	)		(4,849	)		(7,364	)
Variable interest rates (LIBOR forward curve):
Adverse 10% — $ impact on fair value	$	(10,099	)	$	(59,826	)	$	3,270		Not applicable
Adverse 20% — $ impact on fair value		(19,190	)		(93,728	)		6,264		Not applicable

     These sensitivities are hypothetical and should be used with caution. Changes in fair value based on a 10% variation in assumptions generally cannot be extrapolated because the relationship of the change in assumption to the change in fair value may not be linear. Also in this table, the effect of a variation of a particular assumption on the fair value is calculated without changing any other assumptions. It is likely that changes in one factor may result in changes in another, which might magnify or counteract the sensitivities.

     Mortgage loans that have been securitized at October 31, 2005 and April 30, 2005, past due sixty days or more and the related credit losses incurred are presented below:

(in 000s)
	Total Principal				Principal Amount of
	Amount of Loans				Loans 60 Days or				Credit Losses
	Outstanding				More Past Due				(net of recoveries)
	October 31,		April 30,		October 31,		April 30,		Three months ended
	2005		2005		2005		2005		October 31, 2005		April 30, 2005
Securitized mortgage loans	$	11,716,390	$	10,300,805	$	992,040	$	1,128,376	$	29,153	$	21,641
Mortgage loans in warehouse Trusts		9,566,572		6,742,387		—		—		—		—
Total loans	$	21,282,962	$	17,043,192	$	992,040	$	1,128,376	$	29,153	$	21,641

6. Goodwill and Intangible Assets

Changes in the carrying amount of goodwill for the six months ended October 31, 2005 consist of the following:

(in 000s)
	April 30, 2005		Additions		Other			October 31, 2005
Tax Services	$	360,781	$	5,648	$	289		$	366,718
Mortgage Services		152,467		—		—			152,467
Business Services		328,745		66,428		(725	)		394,448
Investment Services		173,954		—		—			173,954
Total goodwill	$	1,015,947	$	72,076	$	(436	)	$	1,087,587

     We test goodwill for impairment annually at the beginning of our fourth quarter, or more frequently if events occur indicating it is more likely than not the fair value of a reporting unit’s net assets has been reduced below its carrying value. No such impairment or events indicating impairment were identified within any of our segments during the six months ended October 31, 2005. Our evaluation of

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impairment is dependent upon various assumptions, including assumptions regarding projected operating results and cash flows of reporting units. Actual results could differ materially from our projections and those differences could alter our conclusions regarding the fair value of a reporting unit and its goodwill.

     Intangible assets consist of the following:

(in 000s)
	October 31, 2005							April 30, 2005
	Gross							Gross
	Carrying		Accumulated					Carrying		Accumulated
	Amount		Amortization			Net		Amount		Amortization			Net
Tax Services:
Customer relationships	$	24,327	$	(8,868	)	$	15,459	$	23,717	$	(7,207	)	$	16,510
Noncompete agreements		18,501		(14,607	)		3,894		17,677		(11,608	)		6,069
Business Services:
Customer relationships		153,186		(74,193	)		78,993		130,585		(68,433	)		62,152
Noncompete agreements		31,470		(12,558	)		18,912		27,796		(11,274	)		16,522
Trade name — amortizing		4,550		(1,030	)		3,520		1,450		(995	)		455
Trade name — non-amortizing		55,637		(4,868	)		50,769		55,637		(4,868	)		50,769
Investment Services:
Customer relationships		293,000		(216,698	)		76,302		293,000		(198,385	)		94,615
Total intangible assets	$	580,671	$	(332,822	)	$	247,849	$	549,862	$	(302,770	)	$	247,092

     Amortization of intangible assets for the three and six months ended October 31, 2005 was $15.3 million and $30.6 million, respectively. Amortization of intangible assets for the three and six months ended October 31, 2004 was $15.3 million and $30.4 million, respectively. Estimated amortization of intangible assets for fiscal years 2006 through 2010 is $64.1 million, $54.5 million, $37.4 million, $14.7 million and $12.6 million, respectively.

     The goodwill and intangible assets added in the Business Services segment relate primarily to the acquisition of American Express Tax and Business Services, Inc. and are preliminary, as discussed in note 3. Additionally, due to the preliminary nature of these assets and their associated useful lives, amounts included above in estimated future amortization are subject to change.

7.

Derivative Instruments

We enter into derivative instruments to reduce risks relating to mortgage loans we originate and sell, and therefore all gains or losses are included in gains on sales of mortgage assets, net in the condensed consolidated income statements. A summary of our derivative instruments as of October 31, 2005 and April 30, 2005, and gains or losses incurred during the three and six months ended October 31, 2005 and 2004 is as follows:

(in 000s)
	Asset (Liability) Balance at					Gain (Loss) for the Three					Gain (Loss) for the Six
	October 31,		April 30,			Months Ended October 31,					Months Ended October 31,
	2005		2005			2005		2004			2005			2004
Interest rate swaps	$	27,118	$	(1,325	)	$	59,742	$	(2,104	)	$	85,285		$	(2,104	)
Interest rate caps		69		12,458			162		—			802			—
Rate-lock equivalents		62		801			354		215			(738	)		1,699
Prime short sales		1,329		(805	)		492		(717	)		1,487			(1,525	)
	$	28,578	$	11,129		$	60,750	$	(2,606	)	$	86,836		$	(1,930	)

     We generally use interest rate swaps and forward loan sale commitments to reduce interest rate risk associated with non-prime loans. We generally enter into interest rate swap arrangements related to existing loan applications with rate-lock commitments and for rate-lock commitments we expect to make in the next 30 days. Interest rate swaps represent an agreement to exchange interest rate payments. These contracts increase in value as rates rise and decrease in value as rates fall. The notional amount of interest rate swaps to which we were a party at October 31, 2005 was $10.0 billion, with a weighted average duration of 1.77 years.

     We generally enter into interest rate caps or swaps to mitigate interest rate risk associated with mortgage loans that will be securitized and residual interests that are classified as trading securities because they will be sold in a subsequent NIM transaction. These instruments enhance the marketability of the securitization and NIM transactions. An interest rate cap represents a right to receive cash if

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interest rates rise above a contractual strike rate, its value therefore increases as interest rates rise. The interest rate used in our interest rate caps is based on LIBOR.

     We enter into forward loan commitments to sell our non-prime mortgage loans to manage interest rate risk. Forward loan sale commitments for non-prime loans are not considered derivative instruments and therefore cannot be recorded in our financial statements. The notional value and the contract value of the forward commitments at October 31, 2005 were $3.5 billion and $3.6 billion, respectively. Most of our forward commitments give us the option to under- or over-deliver by five to ten percent.

     In the normal course of business, we enter into commitments with our customers to fund both non-prime and prime mortgage loans for specified periods of time at “locked-in” interest rates. These derivative instruments represent commitments to fund loans (“rate-lock equivalents”). The fair value of non-prime loan commitments is calculated using a binomial option model, although we do not initially record an asset for non-prime commitments to fund loans. The fair value of prime loan commitments is calculated based on the current market pricing of short sales of FNMA, FHLMC and GNMA mortgage-backed securities and the coupon rates of the eligible loans.

     We sell short FNMA, FHLMC and GNMA mortgage-backed securities to reduce our risk related to our commitments to fund fixed-rate prime loans. The position on certain or all of the fixed-rate mortgage loans is closed approximately 10-15 days prior to standard Public Securities Association (PSA) settlement dates.

     None of our derivative instruments qualify for hedge accounting treatment as of October 31, 2005 or April 30, 2005.

8.

Stock-Based Compensation

Effective May 1, 2003, we adopted the fair value recognition provisions of Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (SFAS 123), under the prospective transition method as described in Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure.” Had compensation cost for all stock-based compensation plan grants been determined in accordance with the fair value accounting method prescribed under SFAS 123, our net loss and loss per share would have been as follows:

(in 000s, except per share amounts)
	Three months ended October 31,						Six months ended October 31,
				Restated						Restated
	2005			2004			2005			2004
Net loss as reported	$	(86,275	)	$	(49,872	)	$	(114,599	)	$	(86,614	)
Add: Stock-based compensation expense included in reported net loss, net of related tax effects		6,246			5,242			12,011			8,342
Deduct: Total stock-based compensation expense determined under fair value method for all awards, net of related tax effects		(8,790	)		(7,923	)		(17,098	)		(13,705	)
Pro forma net loss	$	(88,819	)	$	(52,553	)	$	(119,686	)	$	(91,977	)
Basic and diluted loss per share:
As reported	$	(0.26	)	$	(0.15	)	$	(0.35	)	$	(0.26	)
Pro forma		(0.27	)		(0.16	)		(0.36	)		(0.28	)

9.

Supplemental Cash Flow Information

During the six months ended October 31, 2005, we paid $169.2 million and $50.1 million for income taxes and interest, respectively. During the six months ended October 31, 2004, we paid $316.8 million and $37.3 million for income taxes and interest, respectively. See note 3 for discussion of cash payments made, assets acquired and liabilities assumed related to our acquisition of American Express Tax and Business Services, Inc.

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     The following transactions were treated as non-cash investing activities in the condensed consolidated statement of cash flows:

(in 000s)
Six months ended October 31,	2005		2004
Residual interest mark-to-market	$	25,791	$	88,867
Additions to residual interests		8,724		15,270

10.	Commitments and Contingencies
	We maintain two unsecured committed lines of credit (CLOCs) for working capital, support of our commercial paper program and general corporate purposes. The two CLOCs are from a consortium of thirty-one banks and expire in August 2010. These lines are subject to various affirmative and negative covenants, including a minimum net worth covenant. These CLOCs were undrawn at October 31, 2005.

     We offer guarantees under our Peace of Mind (POM) program to tax clients whereby we will assume the cost of additional taxes attributable to tax return preparation errors for which we are responsible. We defer all revenues and direct costs associated with these guarantees, recognizing these amounts over the term of the guarantee based upon historic and actual payment of claims. Changes in the deferred revenue liability are as follows:

(in 000s)
Six months ended October 31,	2005			2004
Balance, beginning of period	$	130,762		$	123,048
Amounts deferred for new guarantees issued		1,107			798
Revenue recognized on previous deferrals		(44,476	)		(41,627	)
Balance, end of period	$	87,393		$	82,219

     We have commitments to fund mortgage loans to customers as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses. The commitments to fund loans amounted to $4.1 billion and $3.9 billion at October 31, 2005 and April 30, 2005, respectively. External market forces impact the probability of commitments being exercised, and therefore, total commitments outstanding do not necessarily represent future cash requirements.

     We have entered into loan sale agreements with investors in the normal course of business, which include standard representations and warranties customary to the mortgage banking industry. Violations of these representations and warranties may require us to repurchase loans previously sold. A liability has been established related to the potential loss on repurchase of loans previously sold of $54.9 million and $41.2 million at October 31, 2005 and April 30, 2005, respectively, based on historical experience. Repurchased loans are normally sold in subsequent sale transactions.

     Option One Mortgage Corporation provides a guarantee up to a maximum amount equal to approximately 10% of the aggregate principal balance of mortgage loans held by the Trusts before ultimate disposition of the loans. This guarantee would be called upon in the event adequate proceeds were not available from the sale of the mortgage loans to satisfy the payment obligations of the Trusts. No losses have been sustained on this commitment since its inception. The total principal amount of Trust obligations outstanding as of October 31, 2005 and April 30, 2005 was $9.5 billion and $6.7 billion, respectively. The fair value of mortgage loans held by the Trusts as of October 31, 2005 and April 30, 2005 was $9.6 billion and $6.8 billion, respectively.

     We have various contingent purchase price obligations in connection with prior acquisitions. In many cases, contingent payments to be made in connection with these acquisitions are not subject to a stated limit. We estimate the potential payments (undiscounted) total approximately $8.8 million and $5.1 million as of October 31, 2005 and April 30, 2005, respectively. Our estimate is based on current financial conditions. Should actual results differ materially from our assumptions, the potential payments will differ from the above estimate. Such payments, if and when paid, would be recorded as additional cost of the acquired business, generally goodwill.

     We have contractual commitments to fund certain franchises requesting draws on Franchise Equity Lines of Credit (FELCs). Our commitment to fund FELCs as of October 31, 2005 and April 30, 2005 totaled $72.1 million and $68.9 million, respectively. We have a receivable of $47.9 million and $39.0

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million, which represents the amounts drawn on the FELCs, as of October 31, 2005 and April 30, 2005, respectively.

     We routinely enter into contracts that include embedded indemnifications that have characteristics similar to guarantees, including obligations to protect counterparties from losses arising from the following: (a) tax, legal and other risks related to the purchase or disposition of businesses; (b) penalties and interest assessed by Federal and state taxing authorities in connection with tax returns prepared for clients; (c) indemnification of our directors and officers; and (d) third-party claims relating to various arrangements in the normal course of business. Typically, there is no stated maximum payment related to these indemnifications, and the term of indemnities may vary and in many cases is limited only by the applicable statute of limitations. The likelihood of any claims being asserted against us and the ultimate liability related to any such claims, if any, is difficult to predict. While we cannot provide assurance that such claims will not be successfully asserted, we believe the fair value of these guarantees and indemnifications is not material as of October 31, 2005.

11.

Litigation Commitments and Contingencies

We have been involved in a number of class actions and putative class action cases since 1990 regarding our RAL programs. These cases are based on a variety of legal theories and allegations. These theories and allegations include, among others, that (i) we improperly did not disclose license fees we received from RAL lending banks for RALs they make to our clients, (ii) we owe and breached a fiduciary duty to our clients and (iii) the RAL program violates laws such as state credit service organization laws and the federal Racketeer Influenced and Corrupt Organizations (RICO) Act. Although we have successfully defended many RAL cases, we incurred a pretax expense of $43.5 million in fiscal year 2003 in connection with settling one RAL case. Several of the RAL cases are still pending and the amounts claimed in some of them are very substantial. The ultimate cost of this litigation could be substantial. We intend to continue defending the RAL cases vigorously, although there are no assurances as to their outcome.

     We are also parties to claims and lawsuits pertaining to our electronic tax return filing services and our POM guarantee program associated with income tax preparation services. These claims and lawsuits include actions by individual plaintiffs, as well as cases in which plaintiffs seek to represent a class of similarly situated customers. The amounts claimed in these claims and lawsuits are substantial in some instances, and the ultimate liability with respect to such litigation and claims is difficult to predict. We intend to continue defending these cases vigorously, although there are no assurances as to their outcome.

     In addition to the aforementioned types of cases, we are parties to claims and lawsuits that we consider to be ordinary, routine disputes incidental to our business (Other Claims and Lawsuits), including claims and lawsuits concerning the preparation of customers’ income tax returns, the fees charged customers for various services, investment products, relationships with franchisees, contract disputes, employment matters and civil actions, arbitrations, regulatory inquiries and class actions arising out of our business as a broker-dealer and as a servicer of mortgage loans. We believe we have meritorious defenses to each of the Other Claims and Lawsuits and are defending them vigorously. Although we cannot provide assurance we will ultimately prevail in each instance, we believe that amounts, if any, required to be paid in the discharge of liabilities or settlements pertaining to Other Claims and Lawsuits will not have a material adverse effect on our consolidated financial statements. Regardless of outcome, claims and litigation can adversely affect us due to defense costs, diversion of management attention and time, and publicity related to such matters.

     It is our policy to accrue for amounts related to legal matters if it is probable that a liability has been incurred and the amount of the liability can be reasonably estimated. Many of the various legal proceedings are covered in whole or in part by insurance. Any receivable for insurance recoveries is recorded separately from the corresponding litigation reserve, and only if recovery is determined to be probable. Receivables for insurance recoveries at October 31, 2005 were immaterial.

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12.	Segment Information
	Information concerning our operations by reportable operating segment is as follows:

(in 000s)
	Three months ended October 31,						Six months ended October 31,
				Restated						Restated
	2005			2004			2005			2004
Revenues:
Tax Services	$	80,813		$	74,106		$	138,004		$	124,553
Mortgage Services		286,151			284,332			646,589			556,305
Business Services		166,805			129,047			293,651			238,149
Investment Services		70,018			53,761			138,001			107,342
Corporate		1,256			707			3,791			2,155
	$	605,043		$	541,953		$	1,220,036		$	1,028,504
Pretax income (loss):
Tax Services	$	(142,864	)	$	(133,932	)	$	(287,370	)	$	(246,578	)
Mortgage Services		46,239			108,472			180,707			217,497
Business Services		(2,143	)		(4,892	)		(8,908	)		(14,937	)
Investment Services		(7,906	)		(20,764	)		(15,458	)		(41,107	)
Corporate		(26,455	)		(28,702	)		(47,969	)		(53,493	)
Loss before taxes	$	(133,129	)	$	(79,818	)	$	(178,998	)	$	(138,618	)

13.	New Accounting Pronouncements
	Exposure Drafts — Amendments of SFAS 140
	In August 2005, the Financial Accounting Standards Board (FASB) issued three exposure drafts which amend Statement of Financial Accounting Standards No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities.”

     The first exposure draft seeks to clarify the derecognition requirements for financial assets and the initial measurement of interests related to transferred financial assets that are held by a transferor. Our current off-balance sheet warehouse facilities (the Trusts) in our Mortgage Services segment would be required to be consolidated in our financial statements based on the provisions of the exposure draft. We will continue to monitor the status of the exposure draft and consider what changes, if any, could be made to the structure of the Trusts to continue to derecognize mortgage loans transferred to the Trusts. At October 31, 2005, the Trusts held loans totaling $9.5 billion, which we would be required to consolidate into our financial statements under the provisions of this exposure draft.

     The second exposure draft would require mortgage servicing rights to be initially valued at fair value. This provision would not have a material impact to our financial statements. In addition, this exposure draft would permit us to choose to continue to amortize mortgage servicing rights in proportion to and over the period of estimated net servicing income, as currently required under SFAS 140, or report mortgage servicing rights at fair value at each reporting date and report changes in fair value in earnings in the period in which the changes occur. We have not yet determined how we would elect to account for mortgage servicing rights under this provision or the potential impact to the financial statements.

     The third exposure draft, among other things, would establish a requirement to evaluate beneficial interests in securitized financial assets to identify interests that are free-standing derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation. Alternatively, this exposure draft would permit fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation. Our residual interests in securitizations typically have interests in derivative instruments embedded within the securitization trusts. We have not yet determined if these embedded derivatives meet the criteria for bifurcation as outlined in the exposure draft.

     The final standard for the first exposure draft is scheduled to be issued in the second quarter of calendar year 2006, and the final standards for the second and third exposure drafts are scheduled for the first quarter of calendar year 2006.

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American Jobs Creation Act

In October 2004, the American Jobs Creation Act (the Act) was signed into law. The Act introduces a one-time deduction for dividends received from the repatriation of certain foreign earnings, provided certain criteria are met. During the three months ended October 31, 2005, we completed our evaluation of the effects of the Act, and have elected not to repatriate foreign earnings. Because we intend to indefinitely reinvest foreign earnings outside the United States, we have not provided deferred taxes on such earnings.

14.

Condensed Consolidating Financial Statements

Block Financial Corporation (BFC) is an indirect, wholly owned consolidated subsidiary of the Company. BFC is the Issuer and the Company is the Guarantor of the Senior Notes issued on April 13, 2000 and October 26, 2004. These condensed consolidating financial statements have been prepared using the equity method of accounting. Earnings of subsidiaries are, therefore, reflected in the Company’s investment in subsidiaries account. The elimination entries eliminate investments in subsidiaries, related stockholder’s equity and other intercompany balances and transactions.

Condensed Consolidating Income Statements	(in 000s)
Three months ended	H&R Block, Inc.			BFC		Other						Consolidated
October 31, 2005	(Guarantor)			(Issuer)		Subsidiaries			Elims			H&R Block
Total revenues	$	—		$	395,825	$	213,175		$	(3,957	)	$	605,043
Cost of services		—			115,818		271,356			43			387,217
Cost of other revenues		—			129,316		5,548			—			134,864
Selling, general and administrative		—			96,960		113,589			(4,000	)		206,549
Total expenses		—			342,094		390,493			(3,957	)		728,630
Operating income (loss)		—			53,731		(177,318	)		—			(123,587	)
Interest expense		—			11,811		574			—			12,385
Other income, net		(133,129	)		—		2,843			133,129			2,843
Income (loss) before taxes		(133,129	)		41,920		(175,049	)		133,129			(133,129	)
Income taxes (benefit)		(46,854	)		15,955		(62,809	)		46,854			(46,854	)
Net income (loss)	$	(86,275	)	$	25,965	$	(112,240	)	$	86,275		$	(86,275	)

Three months ended	H&R Block, Inc.			BFC		Other						Consolidated
October 31, 2004 (Restated)	(Guarantor)			(Issuer)		Subsidiaries			Elims			H&R Block
Total revenues	$	—		$	340,865	$	204,440		$	(3,352	)	$	541,953
Cost of services		—			93,705		230,316			63			324,084
Cost of other revenues		—			90,764		5,485			—			96,249
Selling, general and administrative		—			71,454		116,828			(3,415	)		184,867
Total expenses		—			255,923		352,629			(3,352	)		605,200
Operating income (loss)		—			84,942		(148,189	)		—			(63,247	)
Interest expense		—			17,348		733			—			18,081
Other income, net		(79,818	)		—		1,510			79,818			1,510
Income (loss) before taxes		(79,818	)		67,594		(147,412	)		79,818			(79,818	)
Income taxes (benefit)		(29,946	)		24,879		(54,825	)		29,946			(29,946	)
Net income (loss)	$	(49,872	)	$	42,715	$	(92,587	)	$	49,872		$	(49,872	)

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Six months ended	H&R Block, Inc.			BFC		Other						Consolidated
October 31, 2005	(Guarantor)			(Issuer)		Subsidiaries			Elims			H&R Block
Total revenues	$	—		$	856,465	$	370,840		$	(7,269	)	$	1,220,036
Cost of service revenues		—			225,171		505,132			132			730,435
Cost of other revenues		—			250,216		8,005			—			258,221
Selling, general and administrative		—			188,148		215,054			(7,401	)		395,801
Total expenses		—			663,535		728,191			(7,269	)		1,384,457
Operating income (loss)		—			192,930		(357,351	)		—			(164,421	)
Interest expense		—			23,621		1,199			—			24,820
Other income, net		(178,998	)		—		10,243			178,998			10,243
Income (loss) before taxes		(178,998	)		169,309		(348,307	)		178,998			(178,998	)
Income taxes (benefit)		(64,399	)		64,341		(128,740	)		64,399			(64,399	)
Net income (loss)	$	(114,599	)	$	104,968	$	(219,567	)	$	114,599		$	(114,599	)

Six months ended	H&R Block, Inc.			BFC		Other						Consolidated
October 31, 2004 (Restated)	(Guarantor)			(Issuer)		Subsidiaries			Elims			H&R Block
Total revenues	$	—		$	669,468	$	365,655		$	(6,619	)	$	1,028,504
Cost of services		—			186,970		427,980			109			615,059
Cost of other revenues		—			167,745		6,899			—			174,644
Selling, general and administrative		—			143,642		208,149			(6,728	)		345,063
Total expenses		—			498,357		643,028			(6,619	)		1,134,766
Operating income (loss)		—			171,111		(277,373	)		—			(106,262	)
Interest expense		—			34,150		1,724			—			35,874
Other income, net		(138,618	)		—		3,518			138,618			3,518
Income (loss) before taxes		(138,618	)		136,961		(275,579	)		138,618			(138,618	)
Income taxes (benefit)		(52,004	)		50,448		(102,452	)		52,004			(52,004	)
Net income (loss)	$	(86,614	)	$	86,513	$	(173,127	)	$	86,614		$	(86,614	)

Condensed Consolidating Balance Sheets	(in 000s)
	H&R Block, Inc.		BFC			Other						Consolidated
October 31, 2005	(Guarantor)		(Issuer)			Subsidiaries			Elims			H&R Block
Cash & cash equivalents	$	—	$	184,945		$	207,545		$	—		$	392,490
Cash & cash equivalents — restricted		—		405,743			58,737			—			464,480
Receivables from customers, brokers and dealers, net		—		577,506			—			—			577,506
Receivables, net		1,724		376,076			315,502			—			693,302
Intangible assets and goodwill, net		—		405,600			929,836			—			1,335,436
Investments in subsidiaries		4,741,203		215			539			(4,741,203	)		754
Other assets		—		1,476,631			356,197			383			1,833,211
Total assets	$	4,742,927	$	3,426,716		$	1,868,356		$	(4,740,820	)	$	5,297,179
Commercial paper	$	—	$	498,175		$	—		$	—		$	498,175
Accts. payable to customers, brokers and dealers		—		846,913			—			—			846,913
Long-term debt		—		897,008			20,876			—			917,884
Other liabilities		2		554,760			905,172			—			1,459,934
Net intercompany advances		3,168,652		(990,193	)		(2,178,842	)		383			—
Stockholders’ equity		1,574,273		1,620,053			3,121,150			(4,741,203	)		1,574,273
Total liabilities and stockholders’ equity	$	4,742,927	$	3,426,716		$	1,868,356		$	(4,740,820	)	$	5,297,179

- 16 -

	H&R Block, Inc.		BFC			Other						Consolidated
April 30, 2005	(Guarantor)		(Issuer)			Subsidiaries			Elims			H&R Block
Cash & cash equivalents	$	—	$	162,983		$	937,230		$	—		$	1,100,213
Cash & cash equivalents — restricted		—		488,761			28,148			—			516,909
Receivables from customers, brokers and dealers, net		—		590,226			—			—			590,226
Receivables, net		101		199,990			218,697			—			418,788
Intangible assets and goodwill, net		—		421,036			842,003			—			1,263,039
Investments in subsidiaries		4,878,783		210			449			(4,878,783	)		659
Other assets		—		1,407,082			243,007			(640	)		1,649,449
Total assets	$	4,878,884	$	3,270,288		$	2,269,534		$	(4,879,423	)	$	5,539,283
Accts. payable to customers, brokers and dealers	$	—	$	950,684		$	—		$	—		$	950,684
Long-term debt		—		896,591			26,482			—			923,073
Other liabilities		2		532,562			1,156,583			8			1,689,155
Net intercompany advances		2,902,511		(653,908	)		(2,250,521	)		1,918			—
Stockholders’ equity		1,976,371		1,544,359			3,336,990			(4,881,349	)		1,976,371
Total liabilities and stockholders’ equity	$	4,878,884	$	3,270,288		$	2,269,534		$	(4,879,423	)	$	5,539,283

Condensed Consolidating Statements of Cash Flows													(in 000s)
Six months ended	H&R Block, Inc.			BFC			Other			Consolidated
October 31, 2005	(Guarantor)			(Issuer)			Subsidiaries			Elims			H&R Block
Net cash provided by (used in) operating activities:	$	24,257		$	(215,016	)	$	(514,100	)	$	—		$	(704,859	)
Cash flows from investing:
Cash received on residuals		—			64,377			—			—			64,377
Cash received on sale of residuals		—			30,497			—			—			30,497
Purchase property & equipment		—			(20,228	)		(57,407	)		—			(77,635	)
Payments for business acquisitions		—			(2,948	)		(197,361	)		—			(200,309	)
Net intercompany advances		264,868			—			—			(264,868	)		—
Other, net		—			—			13,151			—			13,151
Net cash provided by (used in) investing activities		264,868			71,698			(241,617	)		(264,868	)		(169,919	)
Cash flows from financing:
Repayments of commercial paper		—			(1,101,729	)		—			—			(1,101,729	)
Proceeds from commercial paper		—			1,599,904			—			—			1,599,904
Dividends paid		(77,381	)		—			—			—			(77,381	)
Acquisition of treasury shares		(259,745	)		—			—			—			(259,745	)
Proceeds from common stock		48,001			—			—			—			48,001
Net intercompany advances		—			(336,285	)		71,417			264,868			—
Other, net		—			3,390			(45,385	)		—			(41,995	)
Net cash provided by (used in) financing activities		(289,125	)		165,280			26,032			264,868			167,055
Net increase (decrease) in cash		—			21,962			(729,685	)		—			(707,723	)
Cash — beginning of period		—			162,983			937,230			—			1,100,213
Cash — end of period	$	—		$	184,945		$	207,545		$	—		$	392,490

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Six months ended	H&R Block, Inc.			BFC			Other						Consolidated
October 31, 2004 (Restated)	(Guarantor)			(Issuer)			Subsidiaries			Elims			H&R Block
Net cash provided by (used in) operating activities:	$	810		$	40,187		$	(708,271	)	$	—		$	(667,274	)
Cash flows from investing:
Cash received on residuals		—			73,477			—			—			73,477
Purchase property & equipment		—			(18,135	)		(42,463	)		—			(60,598	)
Payments for business acquisitions		—			—			(5,472	)		—			(5,742	)
Net intercompany advances		544,812			—			—			(544,812	)		—
Other, net		—			(96	)		12,234			—			12,138
Net cash provided by (used in) investing activities		544,812			55,246			(35,701	)		(544,812	)		19,545
Cash flows from financing:
Repayments of commercial paper		—			(1,376,877	)		—			—			(1,376,877	)
Proceeds from commercial paper		—			1,692,933			—			—			1,692,933
Proceeds from long-term debt		—			395,221			—			—			395,221
Dividends paid		(69,997	)		—			—			—			(69,997	)
Acquisition of treasury shares		(529,558	)		—			—			—			(529,558	)
Proceeds from common stock		53,933			—			—			—			53,933
Net intercompany advances		—			(773,781	)		228,969			544,812			—
Other, net		—			—			(24,600	)		—			(24,600	)
Net cash provided by (used in) financing activities		(545,622	)		(62,504	)		204,369			544,812			141,055
Net increase (decrease) in cash		—			32,929			(539,603	)		—			(506,674	)
Cash – beginning of period		—			133,188			939,557			—			1,072,745
Cash – end of period	$	—		$	166,117		$	399,954		$	—		$	566,071

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

RESULTS OF OPERATIONS

H&R Block is a diversified company delivering tax services and financial advice, investment and mortgage services, and business and consulting services. For 50 years, we have been developing relationships with millions of tax clients and our strategy is to expand on these relationships. Our Tax Services segment provides income tax return preparation services, electronic filing services and other services and products related to income tax return preparation to the general public in the United States, Canada, Australia and the United Kingdom. We also offer investment services through H&R Block Financial Advisors, Inc. (HRBFA). Our Mortgage Services segment offers a full range of home mortgage services through Option One Mortgage Corporation (OOMC) and H&R Block Mortgage Corporation (HRBMC). RSM McGladrey Business Services, Inc. (RSM), together with its attest-firm affiliations, is the fifth largest national accounting, tax and consulting firm primarily serving mid-sized businesses.

Our Mission
To help our clients achieve their financial objectives
by serving as their tax and financial partner.

     Key to achieving our mission is the enhancement of client experiences through consistent delivery of valuable services and advice. Operating through multiple lines of business allows us to better meet the changing financial needs of our clients.

     The accompanying Management’s Discussion and Analysis of Financial Condition and Results of Operations reflects the restatement of previously issued financial statements, as discussed in note 2 to our condensed consolidated financial statements. The analysis that follows should be read in conjunction with the tables below and the condensed consolidated income statements found on page 2.

Consolidated H&R Block, Inc. — Operating Results

							(in 000s, except per share amounts)
	Three months ended October 31,						Six months ended October 31,
				Restated						Restated
	2005			2004			2005			2004
Revenues:
Tax Services	$	80,813		$	74,106		$	138,004		$	124,553
Mortgage Services		286,151			284,332			646,589			556,305
Business Services		166,805			129,047			293,651			238,149
Investment Services		70,018			53,761			138,001			107,342
Corporate		1,256			707			3,791			2,155
	$	605,043		$	541,953		$	1,220,036		$	1,028,504
Pretax income (loss):
Tax Services	$	(142,864	)	$	(133,932	)	$	(287,370	)	$	(246,578	)
Mortgage Services		46,239			108,472			180,707			217,497
Business Services		(2,143	)		(4,892	)		(8,908	)		(14,937	)
Investment Services		(7,906	)		(20,764	)		(15,458	)		(41,107	)
Corporate		(26,455	)		(28,702	)		(47,969	)		(53,493	)
		(133,129	)		(79,818	)		(178,998	)		(138,618	)
Income tax benefit		(46,854	)		(29,946	)		(64,399	)		(52,004	)
Net loss	$	(86,275	)	$	(49,872	)	$	(114,599	)	$	(86,614	)
Basic and diluted loss per share	$	(0.26	)	$	(0.15	)	$	(0.35	)	$	(0.26	)

OVERVIEW

A summary of our results compared to the prior year is as follows:

§	Basic and diluted loss per share for the three months ended October 31, 2005 and 2004 was $0.26 and $0.15 per share, and $0.35 and $0.26 per share in the respective six month periods.
§	Tax Services’ revenues increased $6.7 million and $13.5 million for the three and six months ended October 31, 2005, respectively. Tax Services’ pretax loss increased $8.9 million to $142.9 million for the quarter, while the pretax loss increased $40.8 million to $287.4 million for the six months compared to the prior year. The higher losses were primarily due to off-season costs related to

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	offices added during fiscal year 2005 and costs incurred for new offices to be opened in the coming tax season.
§	Mortgage Services’ revenues increased $1.8 million and $90.3 million for the three and six months ended October 31, 2005, respectively, while pretax income decreased $62.2 million and $36.8 million, respectively. Higher revenues are due to increased gains on derivatives, higher loan servicing revenue and a gain on sales of residual interests, partially offset by lower margins on mortgage loans sold. Declining profits reflect lower origination margins due to increases in funding costs outpacing our increases in coupon rates.
§	Business Services’ revenues increased $37.8 million and $55.5 million for the three and six months ended October 31, 2005, respectively, primarily due to a higher billed rate per hour in our accounting, tax and consulting business, coupled with acquisition-related growth in our payroll processing and financial process outsourcing businesses. The acquisition of American Express Tax and Business Services, Inc., effective as of October 1, 2005, contributed $20.6 million in revenues and $3.3 million in losses since acquisition. The pretax loss for the segment improved $2.7 million and $6.0 million for the three and six month periods, primarily due to revenue growth.
§	Investment Services’ revenues increased $16.3 million and $30.7 million for the three and six months, respectively. The pretax loss for the three and six months ended October 31, 2005 improved $12.9 million and $25.6 million, respectively. This improvement is primarily due to higher production and interest revenues, and actions implemented to reduce costs and enhance advisor performance.
§	Our effective tax rate was 35.2% and 36.0% for the three and six months ended October 31, 2005, respectively, compared to 37.5% in the prior year periods. This decline is a result of additional discrete state income tax liabilities totaling $4.4 million we recorded during the three months ended October 31, 2005, and reduced the reported tax benefit on pretax losses in the period. We currently expect our annual effective tax rate for the fiscal year ended April 30, 2006 to be approximately 39%, increasing by 150 basis points over the prior year primarily due to higher state tax reserves in the current period and benefits from utilization of state net operating losses in the prior year.

TAX SERVICES

This segment primarily consists of our income tax preparation businesses — retail, online and software.

Tax Services — Operating Results

							(in 000s)
	Three months ended October 31,						Six months ended October 31,
					Restated						Restated
	2005			2004			2005			2004
Service revenues:
Tax preparation and related fees	$	40,185		$	33,933		$	63,822		$	52,977
Online tax services		620			609			1,253			1,309
Other services		31,644			28,722			59,978			53,059
		72,449			63,264			125,053			107,345
Royalties		4,161			3,739			6,557			5,351
Software sales		1,016			1,324			2,209			2,707
Other		3,187			5,779			4,185			9,150
Total revenues		80,813			74,106			138,004			124,553
Cost of services:
Compensation and benefits		49,255			43,239			90,152			73,923
Occupancy		62,283			52,799			121,596			103,127
Depreciation		10,328			9,636			20,497			18,614
Other		35,743			38,121			72,935			69,349
		157,609			143,795			305,180			265,013
Cost of software sales		3,852			3,985			6,737			7,152
Selling, general and administrative		62,216			60,258			113,457			98,966
Total expenses		223,677			208,038			425,374			371,131
Pretax loss	$	(142,864	)	$	(133,932	)	$	(287,370	)	$	(246,578	)

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Three months ended October 31, 2005 compared to October 31, 2004

Tax Services’ revenues increased $6.7 million, or 9.1%, for the three months ended October 31, 2005 compared to the prior year.

     Tax preparation and related fees increased $6.3 million, or 18.4%, for the current quarter. This increase is primarily due to an increase in the average fee per U.S. client served, coupled with an increase in U.S. clients served in company-owned offices. The average fee per U.S. client served increased 12.6% over last year, and U.S. clients served in company-owned offices increased 7.4%. Improved performance during the Australian tax season also contributed $2.5 million of additional tax preparation revenues in the current quarter.

     Other service revenues increased $2.9 million primarily as a result of additional revenues associated with POM guarantees and Express IRAs.

     Other revenues declined $2.6 million primarily due to lower supply sales to franchises during the current quarter.

     Total expenses increased $15.6 million, or 7.5%. Cost of services for the three months ended October 31, 2005 increased $13.8 million, or 9.6%, from the prior year. Our real estate expansion efforts have contributed to a total increase of $9.1 million across all cost of services categories. Compensation and benefits increased $6.0 million primarily due to the addition of costs related to our small business initiatives in the current year, an increase in the number of off-season support staff needed for our new offices and related payroll taxes. Occupancy expenses increased $9.5 million, or 18.0%, primarily as a result of higher rent expenses, due to a 7.6% increase in company-owned offices under lease and an 8.9% increase in the average rent. Utilities and real estate taxes related to these new offices also contributed to the increase.

     The pretax loss was $142.9 million for the three months ended October 31, 2005 compared to a prior year loss of $133.9 million.

     Due to the seasonal nature of this segment’s business, operating results for the three months ended October 31, 2005 are not comparable to the three months ended July 31, 2005 and are not indicative of the expected results for the entire fiscal year.

Six months ended October 31, 2005 compared to October 31, 2004

Tax Services’ revenues increased $13.5 million, or 10.8%, for the six months ended October 31, 2005 compared to the prior year.

     Tax preparation and related fees increased $10.8 million, or 20.5%, primarily due to an increase in the average fee per U.S. client served, coupled with an increase in U.S. clients served in company-owned offices. The average fee per U.S. client served increased 11.0% over last year, and U.S. clients served in company-owned offices increased 6.6%. Additionally, the extension of the Canadian tax season into the month of May resulted in a $1.7 million increase to our current year revenues. Improved performance during the Australian tax season also contributed $2.6 million of additional tax preparation revenues in the current year.

     Other service revenues increased $6.9 million primarily as a result of additional revenues associated with POM guarantees, Express IRAs and our small business initiatives.

     Other revenues declined $5.0 million primarily due to lower supply sales to franchises.

     Total expenses increased $54.2 million, or 14.6%. Cost of services for the six months ended October 31, 2005 increased $40.2 million, or 15.2%, from the prior year. Our real estate expansion efforts have contributed to a total increase of $16.6 million across all cost of services categories. Compensation and benefits increased $16.2 million primarily due to the addition of costs related to our small business initiatives and an increase in the number of off-season support staff needed for our new offices. Occupancy expenses increased $18.5 million, or 17.9%, primarily as a result of higher rent expenses, due to a 6.8% increase in company-owned offices under lease and a 9.7% increase in the average rent. Utilities and real estate taxes related to these new offices also contributed to the increase. Other cost of service expenses increased $3.6 million primarily due to additional expenses associated with our POM program.

     Selling, general and administrative expenses increased $14.5 million over the prior year primarily due to a $7.2 million increase in legal expenses, $3.5 million in additional national office wages, $3.4 million in additional costs from corporate shared services and a $1.2 million increase in consulting expenses.

-21-

     The pretax loss was $287.4 million for the six months ended October 31, 2005 compared to a prior year loss of $246.6 million.

Fiscal 2006 outlook

Our fiscal year 2006 outlook for the Tax Services segment has not changed materially from the discussion in our April 30, 2005 Form 10-K/A. We currently believe we will meet or exceed the high-end of our goal to open between 500 and 700 company-owned and franchise offices this year.

RAL Litigation

We have been named as a defendant in a number of lawsuits alleging that we engaged in wrongdoing with respect to the RAL program. We believe we have strong defenses to the various RAL cases and will vigorously defend our position. Nevertheless, the amounts claimed by the plaintiffs are, in some instances, very substantial, and there can be no assurances as to the ultimate outcome of the pending RAL cases, or as to the impact of the RAL cases on our financial statements. See additional discussion of RAL Litigation in note 11 to the condensed consolidated financial statements and in Part II, Item 1, “Legal Proceedings.”

MORTGAGE SERVICES

This segment is primarily engaged in the origination of non-prime mortgage loans through an independent broker network, the origination of prime and non-prime mortgage loans through a retail office network, the sale and securitization of mortgage loans and residual interests, and the servicing of non-prime loans.

-22-

Mortgage Services — Operating Statistics

							(dollars in 000s)
				Restated
Three months ended	October 31, 2005			October 31, 2004			July 31, 2005
Volume of loans originated:
Wholesale (non-prime)	$	11,078,960		$	5,528,361		$	9,537,227
Retail: Non-prime		1,111,924			800,975			950,806
Prime		429,924			183,647			399,596
	$	12,620,808		$	6,512,983		$	10,887,629
Loan characteristics:
Weighted average FICO score(1)		629			609			623
Weighted average interest rate for borrowers(1)		7.48	%		7.46	%		7.52	%
Weighted average loan-to-value(1)		80.6	%		78.3	%		81.1	%
Origination margin (% of origination volume):(2)
Loan sale premium		0.55	%		2.95	%		2.32	%
Residual cash flows from beneficial interest in Trusts		0.41	%		0.80	%		0.47	%
Gain (loss) on derivative instruments		0.48	%		(0.04	%)		0.24	%
Loan sale repurchase reserves		(0.16	%)		(0.13	%)		(0.15	%)
Retained mortgage servicing rights		0.69	%		0.47	%		0.45	%
		1.97	%		4.05	%		3.33	%
Cost of acquisition		(0.40	%)		(0.47	%)		(0.48	%)
Direct origination expenses		(0.56	%)		(0.75	%)		(0.57	%)
Net gain on sale — gross margin(3)		1.01	%		2.83	%		2.28	%
Other revenues		0.02	%		0.03	%		0.01	%
Other cost of origination		(1.23	%)		(1.72	%)		(1.37	%)
Net margin		(0.20	%)		1.14	%		0.92	%
Total cost of origination		1.79	%		2.47	%		1.94	%
Total cost of origination and acquisition		2.19	%		2.94	%		2.42	%
Loan delivery:
Loan sales	$	12,497,526		$	6,560,780		$	10,843,006
Execution price(4)		1.63	%		2.94	%		2.50	%

(1)	Represents non-prime production.
(2)	See “Reconciliation of Non-GAAP Financial Information” on page 41.
(3)	Defined as gain on sale of mortgage loans (including gain or loss on derivatives, mortgage servicing rights and net of direct origination and acquisition expenses) divided by origination volume.
(4)	Defined as total premium received divided by total balance of loans delivered to third-party investors or securitization vehicles (excluding mortgage servicing rights and the effect of loan origination expenses).

-23-

Mortgage Services — Operating Results

							(in 000s)
				Restated
Three months ended	October 31, 2005			October 31, 2004			July 31, 2005
Components of gains on sales:
Gain on mortgage loans	$	66,580		$	186,754		$	222,220
Gain (loss) on derivatives		60,750			(2,606	)		26,086
Gain on sales of residual interests		28,675			—			—
Impairment of residual interests		(8,738	)		—			(11,875	)
		147,267			184,148			236,431
Interest income:
Accretion — residual interests		33,564			34,837			30,777
Other interest income		4,605			2,444			2,768
		38,169			37,281			33,545
Loan servicing revenue		100,386			62,596			90,269
Other		329			307			193
Total revenues		286,151			284,332			360,438
Cost of services		67,811			52,931			64,392
Cost of other revenues:
Compensation and benefits		84,151			55,214			80,283
Occupancy		10,531			8,913			12,629
Other		28,737			21,062			22,878
		123,419			85,189			115,790
Selling, general and administrative		48,682			37,740			45,788
Total expenses		239,912			175,860			225,970
Pretax income	$	46,239		$	108,472		$	134,468

Three months ended October 31, 2005 compared to October 31, 2004

Mortgage Services’ revenues increased $1.8 million, or 0.6%, for the three months ended October 31, 2005 compared to the prior year. Revenues increased as a result of higher gains on derivatives, higher loan servicing revenue and a gain on sales of residual interests, offset by lower margins on mortgage loans sold.

The following table summarizes the key drivers of gains on sales of mortgage loans:

				(dollars in 000s)
Three months ended October 31,	2005			2004
Application process:
Total number of applications		105,444			72,699
Number of sales associates(1)		3,910			3,369
Closing ratio(2)		63.8	%		57.0	%
Originations:
Total number of originations		67,264			41,422
Weighted average interest rate for borrowers (WAC)		7.48	%		7.46	%
Average loan size	$	188		$	157
Total originations	$	12,620,808		$	6,512,983
Direct origination and acquisition expenses, net	$	120,981		$	79,850
Revenue (loan value):
Net gain on sale — gross margin(3)		1.01	%		2.83	%

(1)	Includes all direct sales and back office sales support associates.
(2)	Percentage of loans funded divided by total applications in the period.
(3)	Defined as gain on sale of mortgage loans (including gain or loss on derivatives, mortgage servicing rights and net of direct origination and acquisition expenses) divided by origination volume.

     Despite substantial increases in loan origination volume, gains on sales of mortgage loans decreased $120.2 million, primarily as a result of rapidly rising two-year swap rates, additional credit enhancement requirements by rating agencies and moderating demand by loan buyers. Market interest rates, based on the two-year swap, increased from an average of 2.88% last year to 4.46% in the current quarter. However, our WAC increased only 2 basis points, up to 7.48% from 7.46% in the prior year. Because our WAC was not more aligned with market rates, and because of increases in our

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funding costs offset by derivative gains, our gross margin declined 182 basis points, to 1.01% from 2.83% last year. Origination volumes increased 93.8% over the prior year, due to increased productivity of our account executives and support staff, new product introductions, increased applications and a higher closing ratio.

     In the current quarter, we completed our evaluation of the assumptions used to value our MSRs. Based on the changes in our assumptions as a result of this evaluation, the gain on sale for our retained MSRs increased by approximately 14 basis points, or approximately $16.8 million, from the prior year, primarily as a result of lower servicing costs, in particular interest paid to bondholders on monthly loan prepayments. In addition, the increase in average loan size from $157,000 in the prior year to $188,000 in the current year resulted in an approximate 8 basis point increase in the value of the MSRs recorded in the quarter. Overall, the value of MSRs we recorded in the quarter increased to 69 basis points from 47 basis points in the prior year, which coupled with an increase in origination volume from $6.5 billion in the prior year quarter to $12.6 billion in the current year, resulted in an increase of $56.6 million in gains on sales of mortgage loans.

     To mitigate the risk of short-term changes in market interest rates related to our loan originations, we use interest rate swaps and forward loan sale commitments. We generally enter into interest rate swap arrangements related to existing loan applications with rate-lock commitments and for rate-lock commitments we expect to make in the next 30 days. During the current quarter, we recorded a net $60.8 million in gains, compared to a net loss of $2.6 million in the prior year, related to our various derivative instruments. The higher gains in the current quarter are primarily a result of rising interest rates and an increase in the notional amounts of interest rate swaps in place as a result of increased origination volumes. See note 7 to the condensed consolidated financial statements.

     During the current quarter, we recorded a $28.7 million gain on the sale of available-for-sale residual interests. This gain accelerated cash flows from residual interests, and resulted in realization of previously recorded unrealized gains included in other comprehensive income. We had no similar transaction in the prior year. During the current quarter, we recorded $1.4 million in net unfavorable mark-to-market adjustments to our trading residuals, compared to $4.9 million in net favorable adjustments in the prior year.

     During the current quarter, our available-for-sale residual interests performed better than expected in our internal valuation models, with lower credit losses than originally modeled, partially offset by higher interest rates. We recorded favorable pretax mark-to-market adjustments, which increased the fair value of our residual interests $15.0 million during the quarter. These adjustments were recorded, net of write-downs of $2.1 million and deferred taxes of $4.9 million, in other comprehensive income and will be accreted into income throughout the remaining life of those residual interests. Offsetting this increase were impairments of $8.7 million, which were recorded in gains on sales of mortgage assets. Future changes in interest rates or other assumptions, based on market conditions or actual loan pool performance, could cause additional adjustments to the fair value of the residual interests and could cause changes to the accretion of these residual interests in future periods.

     During the current quarter, Gulf Coast hurricanes caused severe damage to property, including property securing mortgage loans underlying our beneficial and residual interests. As of November 30, 2005, we have exposure to losses related to approximately $424 million of loans in the affected areas, including $378 million related to loans underlying securitizations in which we hold a residual interest and $46 million related to loans that are in the Trusts or have been repurchased from the Trusts. At November 30, 2005, total 31+ days delinquencies in the affected areas were approximately $106 million, compared to approximately $50 million that were 31+ days delinquent prior to the hurricanes. We recorded a specific provision for estimated losses arising from hurricane damage totaling $6.0 million during the three months ended October 31, 2005, based on an analysis of delinquent loans within the federally declared disaster areas. Of the total provision, $3.1 million was recorded as a reserve for losses on loans that we have or may be required to repurchase pursuant to existing standard representations and warranties, and $2.9 million was recorded as an impairment of our residual interests. In addition to the residual impairments recorded this quarter, future write-downs of residual interests may be incurred and recorded in other comprehensive income. We are continuing to analyze our exposure to potential losses and the amount of losses ultimately realized may differ from amounts recorded in this quarter.

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     The following table summarizes the key drivers of loan servicing revenues:

					(dollars in 000s)
Three months ended October 31,	2005			2004
Average servicing portfolio:
With related MSRs	$	55,150,897		$	39,407,600
Without related MSRs		22,065,265			11,917,124
	$	77,216,162		$	51,324,724
Number of loans serviced		500,935			362,430
Average delinquency rate		4.37	%		5.19	%
Weighted average FICO score		622			615
Weighted average interest rate (WAC) of portfolio		7.47	%		7.46	%
Value of MSRs	$	245,928		$	134,062

     Loan servicing revenues increased $37.8 million, or 60.4%, compared to the prior year. The increase reflects a higher loan servicing portfolio resulting from our continued origination growth. The average servicing portfolio for the three months ended October 31, 2005 increased $25.9 billion, or 50.4%, to $77.2 billion.

     Total expenses for the three months ended October 31, 2005, increased $64.1 million, or 36.4%, over the prior year. Cost of services increased $14.9 million as a result of a higher average servicing portfolio during the current quarter. Cost of other revenues increased $38.2 million, primarily due to $28.9 million in increased compensation and benefits as a result of a 16.1% increase in sales associates, coupled with related increases in payroll taxes and origination-based incentives. Other expenses increased $7.7 million primarily as a result of $4.7 million in additional interest expense, coupled with increases in depreciation and supplies.

     Selling, general and administrative expenses increased $10.9 million due to $8.1 million in additional retail marketing costs.

     Pretax income decreased $62.2 million to $46.2 million for the three months ended October 31, 2005.

Three months ended October 31, 2005 compared to July 31, 2005

     Mortgage Services’ revenues decreased $74.3 million, or 20.6%, for the three months ended October 31, 2005, compared to the first quarter of fiscal year 2006. Revenues decreased primarily due to declining margins, partially offset by increased gains on derivatives, higher loan servicing revenue and a gain on sale of residual interests.

     The following table summarizes the key drivers of gains on sales of mortgage loans:

				(dollars in 000s)
Three months ended	October 31, 2005			July 31, 2005
Application process:
Total number of applications		105,444			109,929
Number of sales associates(1)		3,910			3,692
Closing ratio(2)		63.8	%		60.1	%
Originations:
Total number of originations		67,264			66,041
Weighted average interest rate for borrowers (WAC)		7.48	%		7.52	%
Average loan size	$	188		$	165
Total originations	$	12,620,808		$	10,887,629
Direct origination and acquisition expenses, net	$	120,981		$	114,224
Revenue (loan value):
Net gain on sale — gross margin(3)		1.01	%		2.28	%

(1)	Includes all direct sales and back office sales support associates.
(2)	Percentage of loans funded divided by total applications in the period.
(3)	Defined as gain on sale of mortgage loans (including gain or loss on derivatives, mortgage servicing rights and net of direct origination and acquisition expenses) divided by origination volume.

     Gains on sales of mortgage loans decreased $155.6 million primarily as a result of rapidly rising two-year swap rates, additional credit enhancement requirements by rating agencies and moderating demand by loan buyers. Market interest rates increased to an average of 4.46% from 4.06% in the preceding quarter. In response to rising rates, we implemented a 40 basis point increase in our coupon

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rate effective September 1, 2005, followed by a 25 basis point increase on October 1 and another 22 basis point increase on October 23, 2005. However, there is generally a 30 to 45 day lag from the time we increase rates to when those rates effect funded loans, and as a result, our WAC decreased 4 basis points, from 7.52% to 7.48%. These rate changes, coupled with increases in funding costs offset by derivative gains, caused our net gain on sale — gross margin to decrease 127 basis points. Loan origination volumes increased 15.9% from the first quarter primarily due to increased productivity of our account executives and support staff.

     As a result of the changes in our MSR assumptions, the gain on sale for our retained MSRs increased by approximately 14 basis points, or approximately $16.8 million, from the first quarter, primarily as a result of lower servicing costs, in particular interest paid to bondholders on monthly loan prepayments. In addition, the increase in average loan size from $165,000 in the first quarter to $188,000 in the current quarter resulted in an approximate 8 basis point increase in the value of MSRs recorded in the quarter. Overall, the value of MSRs we recorded in the quarter increased to 69 basis points from 45 basis points in the first quarter, which coupled with an increase in origination volume from $10.9 billion in the first quarter to $12.6 billion in the second quarter, resulted in an increase of $37.7 million in gains on sales of mortgage loans.

     To mitigate the risk of short-term changes in market interest rates, we use interest rate swaps and forward loan sale commitments. We recorded a net $60.8 million in gains during the second quarter, compared to $26.1 million in the first quarter, related to our various derivative instruments. These higher gains resulted primarily from rising interest rates and an increase in the notional amounts of interest rate swaps in place as a result of increased origination volumes during the current quarter. See note 7 to the condensed consolidated financial statements.

     We also recorded a gain of $28.7 million during the current quarter on the sale of residual interests, with no similar transaction during the first quarter. During the current quarter, we recorded $1.4 million in net unfavorable mark-to-market adjustments to our trading residuals, compared to $3.5 million in net favorable adjustments in the first quarter.

     The following table summarizes the key drivers of loan servicing revenues:

				(dollars in 000s)
Three months ended	October 31, 2005			July 31, 2005
Average servicing portfolio:
With related MSRs	$	55,150,897		$	49,635,474
Without related MSRs		22,065,265			20,070,745
	$	77,216,162		$	69,706,219
Number of loans serviced		500,935			451,310
Average delinquency rate		4.37	%		4.28	%
Weighted average FICO score		622			619
Weighted average interest rate (WAC) of portfolio		7.47	%		7.38	%
Value of MSRs	$	245,928		$	188,708

     Loan servicing revenues increased $10.1 million, or 11.2%, compared to the first quarter. The increase reflects a higher loan servicing portfolio. The average servicing portfolio for the three months ended October 31, 2005 increased $7.5 billion, or 10.8%.

     Total expenses increased $13.9 million compared to the first quarter. Cost of services increased $3.4 million as a result of a higher average servicing portfolio during the current quarter. Cost of other revenues increased $7.6 million, primarily due to $3.9 million in increased compensation and benefits as a result of a 5.9% increase in sales associates, coupled with related increases in payroll taxes and origination-based incentives. Other expenses increased $5.9 million for the current quarter, primarily due to $2.0 million in additional interest expense coupled with higher allocated shared services and depreciation expenses.

     Pretax income decreased $88.2 million, or 65.6%, for the three months ended October 31, 2005 compared to the preceding quarter.

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Mortgage Services — Operating Statistics

				(dollars in 000s)
				Restated
Six months ended	October 31, 2005			October 31, 2004
Volume of loans originated:
Wholesale (non-prime)	$	20,616,187		$	11,509,465
Retail: Non-prime		2,062,730			1,421,101
Prime		829,520			398,934
	$	23,508,437		$	13,329,500
Loan characteristics:
Weighted average FICO score(1)		626			609
Weighted average interest rate for borrowers(1)		7.50	%		7.33	%
Weighted average loan-to-value(1)		80.8	%		78.1	%
Origination margin (% of origination volume):(2)
Loan sale premium		1.38	%		3.06	%
Residual cash flows from beneficial interest in Trusts		0.43	%		0.73	%
Gain (loss) on derivative instruments		0.37	%		(0.01	%)
Loan sale repurchase reserves		(0.16	%)		(0.15	%)
Retained mortgage servicing rights		0.58	%		0.44	%
		2.60	%		4.07	%
Cost of acquisition		(0.44	%)		(0.54	%)
Direct origination expenses		(0.56	%)		(0.75	%)
Net gain on sale — gross margin(3)		1.60	%		2.78	%
Other revenues		0.02	%		0.02	%
Other cost of origination		(1.30	%)		(1.66	%)
Net margin		0.92	%		1.14	%
Total cost of origination		1.86	%		2.41	%
Total cost of origination and acquisition		2.30	%		2.95	%
Loan delivery:
Loan sales	$	23,340,532		$	13,304,836
Execution price(4)		2.09	%		3.43	%

(1)	Represents non-prime production.
(2)	See “Reconciliation of Non-GAAP Financial Information” on page 41.
(3)	Defined as gain on sale of mortgage loans (including gain or loss on derivatives, mortgage servicing rights and net of direct origination and acquisition expenses) divided by origination volume.
(4)	Defined as total premium received divided by total balance of loans delivered to third-party investors or securitization vehicles (excluding mortgage servicing rights and the effect of loan origination expenses).

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Mortgage Services — Operating Results

				(in 000s)
				Restated
Six months ended	October 31, 2005			October 31, 2004
Components of gains on sales:
Gain on mortgage loans	$	288,800		$	372,047
Gain (loss) on derivatives		86,836			(1,930	)
Gain on sales of residual interests		28,675			—
Impairment of residual interests		(20,613	)		(2,609	)
		383,698			367,508
Interest income:
Accretion — residual interests		64,341			63,514
Other interest income		7,373			3,884
		71,714			67,398
Loan servicing revenue		190,655			120,762
Other		522			637
Total revenues		646,589			556,305
Cost of services		132,203			102,792
Cost of other revenues:
Compensation and benefits		164,434			101,120
Occupancy		23,160			16,922
Other		51,615			39,342
		239,209			157,384
Selling, general and administrative		94,470			78,632
Total expenses		465,882			338,808
Pretax income	$	180,707		$	217,497

Six months ended October 31, 2005 compared to October 31, 2004

Mortgage Services’ revenues increased $90.3 million, or 16.2%, for the six months ended October 31, 2005 compared to the prior year. Revenues increased as a result of increased gains on derivatives, higher loan servicing revenues and a gain on sale of residual interests, partially offset by lower margins on mortgage loans sold.

     The following table summarizes the key drivers of gains on sales of mortgage loans:

				(dollars in 000s)
Six months ended October 31,	2005			2004
Application process:
Total number of applications		215,373			147,191
Number of sales associates(1)		3,910			3,369
Closing ratio(2)		61.9	%		58.0	%
Originations:
Total number of originations		133,305			85,348
Weighted average interest rate for borrowers (WAC)		7.50	%		7.33	%
Average loan size	$	176		$	156
Total originations	$	23,508,437		$	13,329,500
Direct origination and acquisition expenses, net	$	235,205		$	172,339
Revenue (loan value):
Net gain on sale — gross margin(3)		1.60	%		2.78	%

(1)	Includes all direct sales and back office sales support associates.
(2)	Percentage of loans funded divided by total applications in the period.
(3)	Defined as gain on sale of mortgage loans (including gain or loss on derivatives, mortgage servicing rights and net of direct origination and acquisition expenses) divided by origination volume.

     Gains on sales of mortgage loans decreased $83.2 million, primarily as a result of rapidly rising two-year swap rates, additional credit enhancement requirements by rating agencies and moderating demand by loan buyers, partially offset by increased origination volume. Market interest rates, based on the two-year swap, increased from an average of 2.96% last year to 4.26% in the current year. However, our WAC increased only 17 basis points, up to 7.50% from 7.33% in the prior year. Because our WAC was not more aligned with market rates and because of increased funding costs offset by derivative gains, our gross

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margin declined 118 basis points, to 1.60% from 2.78% last year. Origination volumes increased 76.4% over the prior year, due to increased productivity of our account executives and support staff, new product introductions, increased applications and a higher closing ratio.

     As a result of the changes in our MSR assumptions and an increase in the average loan size from $156,000 in the prior year to $176,000 in the current year, the gain on sale for our retained MSRs increased to 58 basis points from 44 basis points in the prior year, which coupled with an increase in origination volume from $13.3 billion in the prior year to $23.5 billion in the current year, resulted in an increase of $77.4 million in gains on sales of mortgage loans.

     As a result of rising interest rates and an increase in the notional amounts of interest rate swaps in place as a result of increased origination volumes during the current year, we recorded a net $86.8 million in gains, compared to a net loss of $1.9 million in the prior year, related to our various derivative instruments. See note 7 to the condensed consolidated financial statements.

     We recorded a $2.1 million net favorable mark-to-market adjustment for our trading residuals during the current period, and a gain of $28.7 million on the sale of residual interests. During the prior year, we recorded $4.9 million in net favorable mark-to-market adjustments for our trading residuals in the prior year.

     During the first half of fiscal year 2006, our available-for-sale residual interests performed better than expected in our internal valuation models, with lower credit losses than originally modeled, partially offset by higher interest rates. We recorded favorable pretax mark-to-market adjustments, which increased the fair value of our residual interests $30.9 million during the period. These adjustments were recorded, net of write-downs of $5.2 million and deferred taxes of $9.9 million, in other comprehensive income and will be accreted into income throughout the remaining life of those residual interests. Offsetting this increase were impairments of available-for-sale residual interests totaling $20.6 million, which were recorded in gains on sales of mortgage assets. Impairments increased $18.0 million over the prior year due to interest rates increasing greater than originally modeled and a decline in the value of older residuals based on loan performance.

     The following table summarizes the key drivers of loan servicing revenues:

				(dollars in 000s)
Six months ended October 31,	2005			2004
Average servicing portfolio:
With related MSRs	$	52,515,036		$	38,436,169
Without related MSRs		21,363,081			10,998,659
	$	73,878,117		$	49,434,828
Number of loans serviced		500,935			362,430
Average delinquency rate		4.69	%		5.10	%
Weighted average FICO score		621			613
Weighted average interest rate (WAC) of portfolio		7.41	%		7.43	%
Value of MSRs	$	245,928		$	134,062

     Loan servicing revenues increased $69.9 million, or 57.9%, compared to the prior year. The increase reflects a higher loan servicing portfolio. The average servicing portfolio for the six months ended October 31, 2005 increased $24.4 billion, or 49.4%, to $73.9 billion.

     Total expenses for the six months ended October 31, 2005, increased $127.1 million, or 37.5%, over the prior year. Cost of services increased $29.4 million as a result of a higher average servicing portfolio during the current period and increased amortization of higher MSR balances. Cost of other revenues increased $81.8 million, primarily due to $63.3 million in increased compensation and benefits as a result of a 16.1% increase in sales associates, coupled with related increases in payroll taxes and origination-based incentives. Occupancy expenses increased $6.2 million, or 36.9%, primarily as a result of an increase in branch offices and related equipment and utilities costs. Other expenses increased $12.3 million primarily as a result of $7.2 million in additional interest expense, coupled with increases in depreciation and supplies.

     Selling, general and administrative expenses increased $15.8 million primarily due to $15.9 million in additional retail marketing costs.

     Pretax income decreased $36.8 million to $180.7 million for the six months ended October 31, 2005.

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Fiscal 2006 outlook

For the third and fourth quarters of fiscal year 2006, we believe we can achieve funding volumes consistent with first-quarter levels of $10 billion to $11 billion per quarter resulting in full year origination growth of approximately 40%. We implemented two rate increases in November, and during that time our funded WAC was approaching 8%. With our rate increases during the second half of the year, a stable external rate environment and cost-saving measures, we believe we will see origination margins of 40 to 50 basis points in the third quarter and 90 to 100 basis points in the fourth quarter, resulting in an origination margin of 50 to 55 basis points for the full fiscal year. We believe that for the remainder of fiscal year 2006 our cost of origination will remain close to our second quarter level — approximately 175 basis points.

BUSINESS SERVICES

This segment offers middle-market companies accounting, tax and consulting services, wealth management, retirement resources, payroll and benefits services, corporate finance and financial process outsourcing.

Business Services — Operating Statistics

	Three months ended October 31,				Six months ended October 31,
	2005		2004		2005		2004
Accounting, tax and consulting:
Chargeable hours		768,740		674,302		1,316,731		1,211,337
Chargeable hours per person		310		322		580		601
Net billed rate per hour	$	139	$	129	$	137	$	126
Average margin per person	$	22,913	$	22,706	$	40,327	$	39,134

Business Services — Operating Results

										(in 000s)
	Three months ended October 31,						Six months ended October 31,
				Restated						Restated
	2005			2004			2005			2004
Service revenues:
Accounting, tax and consulting	$	121,790		$	93,380		$	205,618		$	167,931
Capital markets		15,355			14,898			30,827			30,678
Payroll, benefits and retirement services		8,617			3,828			16,894			8,499
Other services		11,113			8,347			20,995			14,106
		156,875			120,453			274,334			221,214
Other		9,930			8,594			19,317			16,935
Total revenues		166,805			129,047			293,651			238,149
Cost of services:
Compensation and benefits		94,894			73,886			166,541			137,989
Occupancy		11,012			5,873			19,175			10,404
Other		12,487			11,216			23,297			23,022
		118,393			90,975			209,013			171,415
Selling, general and administrative		50,555			42,964			93,546			81,671
Total expenses		168,948			133,939			302,559			253,086
Pretax loss	$	(2,143	)	$	(4,892	)	$	(8,908	)	$	(14,937	)

Three months ended October 31, 2005 compared to October 31, 2004

Business Services’ revenues for the three months ended October 31, 2005 increased $37.8 million, or 29.3%, from the prior year. This increase was primarily due to a $28.4 million increase in accounting, tax and consulting revenues resulting primarily from the acquisition of American Express Tax and Business Services, Inc., which increased revenues $20.6 million. We also benefited from a 7.8% increase in the net billed rate per hour. These increases were partially offset by a 3.7% decline in chargeable hours per person.

     Payroll, benefits and retirement services revenues increased $4.8 million, or 125.1%, primarily due to acquisitions completed during the third and fourth quarters of fiscal year 2005. Other service revenues

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increased $2.8 million as a result of growth in wealth management services and acquisitions completed in the fourth quarter of fiscal year 2005 in our financial process outsourcing business.

     Total expenses increased $35.0 million, or 26.1%, for the three months ended October 31, 2005 compared to the prior year. Cost of services increased $27.4 million, primarily due to a $21.0 million increase in compensation and benefits. Compensation and benefits increased $14.1 million due to the American Express Tax and Business Services, Inc. acquisition. Baseline increases in the number of personnel and the average wage per employee, driven by marketplace competition for professional staff, also contributed to the increase. Occupancy expenses increased $5.1 million, or 87.5%, due primarily to acquisitions.

     Selling, general and administrative expenses increased $7.6 million primarily due to acquisitions and additional costs associated with our business development initiatives.

     The pretax loss for the three months ended October 31, 2005 of $2.1 million, which includes losses of $3.3 million from American Express Tax and Business Services, Inc., compared to a loss of $4.9 million in the prior year.

     Due to the seasonal nature of this segment’s business, operating results for the three months ended October 31, 2005 are not comparable to the three months ended July 31, 2005 and are not indicative of the expected results for the entire fiscal year.

Six months ended October 31, 2005 compared to October 31, 2004

Business Services’ revenues for the six months ended October 31, 2005 increased $55.5 million, or 23.3%, from the prior year. This increase was primarily due to a $37.7 million increase in accounting, tax and consulting revenues resulting primarily from the acquisition of American Express Tax and Business Services, Inc., which increased revenues $20.6 million. We also benefited from an 8.7% increase in the net billed rate per hour. These increases were partially offset by a 3.5% decline in chargeable hours per person.

     Payroll, benefits and retirement services revenues increased $8.4 million, or 98.8%, primarily due to acquisitions completed during the third and fourth quarters of fiscal year 2005. Other service revenues increased $6.9 million as a result of growth in wealth management services and acquisitions completed in the fourth quarter of fiscal year 2005 in our financial process outsourcing business.

     Total expenses increased $49.5 million, or 19.5%, for the six months ended October 31, 2005 compared to the prior year. Cost of services increased $37.6 million, primarily due to a $28.6 million increase in compensation and benefits. Compensation and benefits increased $14.1 million due to the American Express Tax and Business Services, Inc. acquisition. Baseline increases in the number of personnel and the average wage per employee, driven by marketplace competition for professional staff and other acquisitions completed in the third and fourth quarters of fiscal year 2005, also contributed to this increase. Occupancy expenses increased $8.8 million, or 84.3%, due primarily to acquisitions.

     Selling, general and administrative expenses increased $11.9 million primarily due to acquisitions and additional costs associated with our business development initiatives.

     The pretax loss for the six months ended October 31, 2005 was $8.9 million compared to $14.9 million in the prior year.

Fiscal 2006 outlook

Our fiscal year 2006 outlook for our Business Services segment is consistent with the discussion in our April 30, 2005 Form 10-K/A, except for the previously announced acquisition of American Express Tax and Business Services, Inc. effective October 1, 2005. We expect organic growth for this segment’s pretax income of approximately 30%, and expect the acquisition of American Express Tax and Business Services, Inc. will be accretive by two cents per diluted share for fiscal year 2006, after expected integration costs. We expect Business Services’ pretax income for fiscal year 2006 to increase nearly 75% over the prior year.

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INVESTMENT SERVICES

This segment is primarily engaged in offering advice-based brokerage services and investment planning. Our integration of investment advice and new service offerings are allowing us to shift our emphasis from a transaction-based client relationship to a more advice-based focus.

Investment Services — Operating Statistics

Three months ended	October 31, 2005		October 31, 2004		July 31, 2005
Customer trades(1)		233,262		192,909		226,378
Customer daily average trades		3,589		3,014		3,593
Average revenue per trade(2)	$	123.16	$	125.13	$	126.71
Customer accounts:(3)
Traditional brokerage		428,543		444,770		431,046
Express IRAs		378,200		334,928		379,432
		806,743		779,698		810,478
Ending balance of assets under administration (billions)	$	29.8	$	27.2	$	30.0
Average assets per traditional brokerage account	$	68,837	$	60,225	$	68,870
Average margin balances (millions)	$	560	$	590	$	573
Average customer payable balances (millions)	$	794	$	962	$	841
Number of advisors		995		982		985
Included in the numbers above are the following relating to fee-based accounts:
Customer household accounts		8,547		7,046		7,985
Average revenue per account	$	2,164	$	2,044	$	2,235
Ending balance of assets under administration (millions)	$	2,217	$	1,755	$	2,126
Average assets per active account	$	259,355	$	249,068	$	266,222

(1)	Includes only trades on which revenues are earned (“revenue trades”). Revenues are earned on both transactional and annuitized trades.
(2)	Calculated as total trade revenues divided by revenue trades.
(3)	Includes only accounts with a positive balance.

Investment Services — Operating Results

							(in 000s)
				Restated
Three months ended	October 31, 2005			October 31, 2004			July 31, 2005
Service revenue:
Transactional revenue	$	23,332		$	19,988		$	22,835
Annuitized revenue		23,062			17,199			22,271
Production revenue		46,394			37,187			45,106
Other service revenue		8,064			6,527			8,207
		54,458			43,714			53,313
Margin interest revenue		14,826			10,038			14,093
Less: interest expense		(1,363	)		(541	)		(1,254	)
Net interest revenue		13,463			9,497			12,839
Other		734			9			577
Total revenues(1)		68,655			53,220			66,729
Cost of services:
Compensation and benefits		32,676			27,074			30,535
Occupancy		5,187			4,773			5,165
Depreciation		909			1,089			1,034
Other		4,632			3,447			3,901
		43,404			36,383			40,635
Selling, general and administrative		33,157			37,601			33,646
Total expenses		76,561			73,984			74,281
Pretax loss	$	(7,906	)	$	(20,764	)	$	(7,552	)

⁽¹⁾ Total revenues, less interest expense.

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Three months ended October 31, 2005 compared to October 31, 2004

Investment Services’ revenues, net of interest expense, for the three months ended October 31, 2005 increased $15.4 million, or 29.0%, over the prior year.

     Production revenue increased $9.2 million, or 24.8%, over the prior year. Transactional revenue (which is based on sales of individual securities) increased $3.3 million, or 16.7%, from the prior year due primarily to a 17.8% increase in transactional trading volume, partially offset by a 1.2% decrease in average revenue per transactional trade. Annuitized revenue (which is based on sales of various fee based products) increased $5.9 million, or 34.1%, due to increased sales of annuities, insurance, mutual funds, wealth management accounts and UITs.

     Annualized productivity averaged approximately $180,000 per advisor during the current quarter compared to $148,000 in the prior year. Increased productivity was due, in part, to minimum production standards put into place during the fourth quarter of fiscal year 2005, which caused an increase in the productivity of our lowest producing advisors. These standards resulted in 116 low-producing advisors leaving the company to date. We expect average advisor productivity to continue increasing throughout the remainder of the fiscal year.

     Margin interest revenue increased $4.8 million, or 47.7%, from the prior year, as a result of higher interest rates earned, partially offset by a decline in average margin balances.

     Total expenses increased $2.6 million, or 3.5%. Cost of services increased $7.0 million, or 19.3%, primarily as a result of $5.6 million of additional compensation and benefits resulting from higher production revenues.

     Selling, general and administrative expenses decreased $4.4 million, or 11.8%, primarily due to a decline in legal expenses, gains on the disposition of certain assets during the quarter and reduced back-office headcount relating to cost containment efforts. These decreases were partially offset by increased bonus accruals associated with improved performance.

     The pretax loss for Investment Services for the three months ended October 31, 2005 was $7.9 million compared to the prior year loss of $20.8 million.

Three months ended October 31, 2005 compared to July 31, 2005

Investment Services’ revenues, net of interest expense, for the three months ended October 31, 2005 increased $1.9 million, or 2.9% compared to the preceding quarter.

     Production revenue increased $1.3 million, or 2.9%, over the preceding quarter, primarily due to increased sales of annuities and insurance.

     Total expenses increased $2.3 million, or 3.1%. Compensation and benefits increased $2.1 million, primarily resulting from higher production revenues.

     The pretax loss for the Investment Services segment was $7.9 million, compared to a loss of $7.6 million in the first quarter of fiscal year 2006.

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Investment Services — Operating Statistics

Six months ended	October 31, 2005		October 31, 2004
Customer trades(1)		459,640		398,857
Customer daily average trades		3,591		3,166
Average revenue per trade(2)	$	124.90	$	122.33
Customer accounts:(3)
Traditional brokerage		428,543		444,770
Express IRAs		378,200		334,928
		806,743		779,698
Ending balance of assets under administration (billions)	$	29.8	$	27.2
Average assets per traditional brokerage account	$	68,837	$	60,225
Average margin balances (millions)	$	567	$	594
Average customer payable balances (millions)	$	817	$	987
Number of advisors		995		982
Included in the numbers above are the following relating to fee-based accounts:
Customer household accounts		8,547		7,046
Average revenue per account	$	2,199	$	2,030
Ending balance of assets under administration (millions)	$	2,217	$	1,755
Average assets per active account	$	259,355	$	249,068

(1)	Includes only trades on which revenues are earned (“revenue trades”). Revenues are earned on both transactional and annuitized trades.
(2)	Calculated as total trade revenues divided by revenue trades.
(3)	Includes only accounts with a positive balance.

Investment Services — Operating Results

				(in 000s)
				Restated
Six months ended	October 31, 2005			October 31, 2004
Service revenue:
Transactional revenue	$	46,167		$	39,940
Annuitized revenue		45,333			35,732
Production revenue		91,500			75,672
Other service revenue		16,271			12,789
		107,771			88,461
Margin interest revenue		28,919			18,798
Less: interest expense		(2,617	)		(840	)
Net interest revenue		26,302			17,958
Other		1,311			83
Total revenues(1)		135,384			106,502
Cost of services:
Compensation and benefits		63,211			55,922
Occupancy		10,352			10,562
Depreciation		1,943			2,153
Other		8,533			7,202
		84,039			75,839
Selling, general and administrative		66,803			71,770
Total expenses		150,842			147,609
Pretax loss	$	(15,458	)	$	(41,107	)

⁽¹⁾ Total revenues, less interest expense.

Six months ended October 31, 2005 compared to October 31, 2004

Investment Services’ revenues, net of interest expense, for the six months ended October 31, 2005 increased $28.9 million, or 27.1%, over the prior year.

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     Production revenue increased $15.8 million, or 20.9%, over the prior year. Transactional revenue increased $6.2 million, or 15.6%, from the prior year due primarily to an 11.0% increase in transactional trading volume and a 5.8% increase in average revenue per transactional trade. Annuitized revenue increased $9.6 million, or 26.9%, due to increased sales of annuities, insurance, mutual funds, wealth management accounts and UITs.

     Annualized productivity averaged approximately $180,000 per advisor during the current year compared to $151,000 in the prior year. Increased productivity was due, in part, to minimum production standards we put into place during the fourth quarter of fiscal year 2005 which caused an increase in production per advisor, with 151 advisors increasing their production to date. These standards also resulted in 116 low-producing advisors leaving the company to date. We expect this trend to continue throughout the remainder of the fiscal year.

     Other service revenue increased $3.5 million due to increased underwriting fees.

     Margin interest revenue increased $10.1 million, or 53.8%, from the prior year, as a result of higher interest rates earned, partially offset by lower average margin balances.

     Total expenses increased $3.2 million, or 2.2%. Cost of services increased $8.2 million, or 10.8%, primarily as a result of $7.3 million of additional compensation and benefits. This increase is primarily due to higher production revenues, partially offset by cost containment measures implemented in the fourth quarter of fiscal year 2005.

     Selling, general and administrative expenses decreased $5.0 million, or 6.9%, primarily due to reduced back-office headcount relating to cost containment efforts, a decline in legal expenses and gains on the disposition of certain assets during the year. These decreases were partially offset by increased bonuses associated with improved performance.

     The pretax loss for Investment Services for the first half of fiscal year 2006 was $15.5 million compared to the prior year loss of $41.1 million.

Fiscal 2006 outlook

Our fiscal year 2006 outlook for our Investment Services segment has improved slightly from the discussion in our April 30, 2005 Form 10-K/A. We now anticipate the loss for Investment Services for fiscal year 2006 will be approximately $30 million to $35 million less than the loss reported in fiscal year 2005, instead of the $25 million to $35 million improvement we previously discussed.

CORPORATE

This segment consists primarily of corporate support departments, which provide services to our operating segments. These support departments consist of marketing, information technology, facilities, human resources, executive, legal, finance, government relations and corporate communications. Support department costs are generally allocated to our operating segments. Our captive insurance and franchise financing subsidiaries are also included within this segment, as was our small business initiatives subsidiary in the first half of fiscal year 2005.

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Corporate — Operating Results

										(in 000s)
	Three months ended October 31,						Six months ended October 31,
				Restated						Restated
	2005			2004			2005			2004
Operating revenues	$	4,403		$	2,432		$	9,409		$	6,865
Eliminations		(3,147	)		(1,725	)		(5,618	)		(4,710	)
Total revenues		1,256			707			3,791			2,155
Corporate expenses:
Interest expense		15,438			18,512			29,232			34,736
Other		14,375			11,939			31,837			23,105
		29,813			30,451			61,069			57,841
Shared services:
Information technology		29,095			27,234			55,547			52,412
Marketing		6,640			7,691			11,081			11,262
Finance		13,271			8,706			25,066			17,513
Other		23,445			26,366			44,334			46,595
		72,451			69,997			136,028			127,782
Allocation of shared services		(72,789	)		(69,995	)		(136,418	)		(127,799	)
Other income, net		1,764			1,044			8,919			2,176
Pretax loss	$	(26,455	)	$	(28,702	)	$	(47,969	)	$	(53,493	)

Three months ended October 31, 2005 compared to October 31, 2004

Corporate expenses decreased $0.6 million primarily due to a decrease of $3.1 million in interest expense, partially offset by an increase of $2.1 million in increased allocated costs from finance shared services.

     Finance department expenses increased $4.6 million, primarily due to $1.9 million of additional consulting expenses and increases in compensation expenses.

     The pretax loss was $26.5 million, compared with last year’s second quarter loss of $28.7 million.

     Due to the nature of this segment, the three months ended October 31, 2005 are not comparable to the three months ended July 31, 2005 and are not indicative of the expected results for the entire fiscal year.

Six months ended October 31, 2005 compared to October 31, 2004

Corporate expenses increased $3.2 million primarily due an increase of $4.2 million in increased allocated costs from finance shared services and $1.5 million in additional consulting, accounting and auditing expenses related to the restatement of our previously issued financial statements.

     Our consolidated interest expense, both operating and non-operating, totaled $42.6 million for the six months ended October 31, 2005, an increase of $2.4 million over the prior year. Of the $42.6 million in total interest, $24.8 million related to interest expense on previous acquisitions, with the remaining $17.8 million related to our operations recorded directly in our operating segments. Intercompany interest expense, which is also recorded directly in our operating segments, is eliminated within the Corporate segment. These eliminations resulted in a decline of $5.5 million in interest expense recorded in our Corporate segment for the current period.

     Finance department expenses increased $7.6 million, primarily due to $4.2 million of additional consulting expenses and an increase of $2.8 million in compensation expenses.

     Other income increased $6.7 million primarily as a result of a $3.4 million gain recognized on the sale of an investment.

     The pretax loss was $48.0 million, compared with last year’s loss of $53.5 million.

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FINANCIAL CONDITION

These comments should be read in conjunction with the condensed consolidated balance sheets and condensed consolidated statements of cash flows found on pages 1 and 3, respectively.

CAPITAL RESOURCES & LIQUIDITY BY SEGMENT

Our sources of capital include cash from operations, issuances of common stock and debt. We use capital primarily to fund working capital requirements, pay dividends, repurchase our shares and acquire businesses.

     Cash From Operations.Cash used in operations totaled $704.9 million and $667.3 million for the six months ended October 31, 2005 and 2004, respectively. The increase in cash used in operating activities is primarily due to increases in mortgage loans held for sale, trading residuals and MSRs during the current year. These items were partially offset by a decline in income tax payments. Income tax payments totaled $169.2 million during the current year, a decrease of $147.5 million from the prior year.

     Issuance of Common Stock.We issue shares of common stock, in accordance with our stock-based compensation plans, out of treasury shares. Proceeds from the issuance of common stock totaled $48.0 million and $53.9 million for the six months ended October 31, 2005 and 2004, respectively.

     Dividends.Dividends paid totaled $77.4 million and $70.0 million for the six months ended October 31, 2005 and 2004, respectively. On June 8, 2005, our Board of Directors declared a two-for-one stock split of the Company’s Common Stock in the form of a 100% stock distribution, effective August 22, 2005, to shareholders of record as of the close of business on August 1, 2005. All share and per share amounts in this document have been adjusted to reflect the retroactive effect of the stock split.

     Share Repurchases.On June 9, 2004, our Board of Directors approved an authorization to repurchase 15 million shares. During the six months ended October 31, 2005, we repurchased 9.0 million shares pursuant to this authorization and a prior authorization at an aggregate price of $254.2 million or an average price of $28.18 per share. There are 10.5 million shares remaining under this authorization at October 31, 2005. We plan to continue to purchase shares on the open market in accordance with this authorization, subject to various factors including the price of the stock, the availability of excess cash, our ability to maintain liquidity and financial flexibility, securities law restrictions, targeted capital levels and other investment opportunities available.

     Restricted Cash.We hold certain cash balances that are restricted as to use. Cash and cash equivalents — restricted totaled $464.5 million at October 31, 2005 compared to $516.9 million at April 30, 2005. Investment Services held $330.0 million of this total segregated in a special reserve account for the exclusive benefit of customers. Restricted cash of $58.7 million at October 31, 2005 held by Business Services is related to funds held to pay payroll taxes on behalf of its customers. Restricted cash held by Mortgage Services totaled $75.7 million and is held primarily for outstanding commitments to fund mortgage loans.

     Segment Cash Flows.A condensed consolidating statement of cash flows by segment for the six months ended October 31, 2005 follows. Generally, interest is not charged on intercompany activities between segments.

																(in 000s)
	Tax			Mortgage			Business			Investment						Consolidated
	Services			Services			Services			Services			Corporate			H&R Block
Cash provided by (used in):
Operations	$	(202,718	)	$	(262,796	)	$	(12,348	)	$	35,947		$	(262,944	)	$	(704,859	)
Investing		(14,816	)		74,654			(209,895	)		5,996			(25,858	)		(169,919	)
Financing		(28,517	)		—			(15,616	)		3,390			207,798			167,055
Net intercompany		243,566			211,640			251,957			(6,538	)		(700,625	)		—

     Net intercompany activities are excluded from investing and financing activities within the segment cash flows. We believe that by excluding intercompany activities, the cash flows by segment more clearly depicts the cash generated and used by each segment. Had intercompany activities been included, those segments in a net lending situation would have been included in investing activities, and those in a net borrowing situation would have been included in financing activities.

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     Tax Services.Tax Services has historically been our largest provider of annual operating cash flows. The seasonal nature of Tax Services generally results in a large positive operating cash flow in the fourth quarter. Tax Services used $202.7 million in its current six-month operations to cover off-season costs and working capital requirements. Cash used for seasonal working capital requirements was partially offset by a signing bonus received from HSBC during the quarter in connection with the execution of a RAL distribution agreement. The signing bonus was recorded as deferred revenue at October 31, 2005. This segment also used $28.5 million in financing activities, primarily related to book overdrafts.

     Mortgage Services.This segment primarily generates cash as a result of the sale and securitization of mortgage loans and residual interests, and as its residual interests begin to cash flow. Mortgage Services used $262.8 million in cash from operating activities primarily due to a $207.6 million increase in mortgage loans held for sale and $93.9 million in trading residuals held at October 31, 2005 that had not yet been securitized in a NIM transaction. Additions to MSRs also increased $77.4 million over the prior year. Cash flows from investing activities consist of $64.4 million in cash receipts on residual interests and $30.5 million in cash received for the sale of residual interests, partially offset by $20.1 million in capital expenditures.

     Gains on sales. Gains on sales of mortgage assets totaled $383.7 million, with the cash received primarily recorded as operating activities. The percentage of cash proceeds we receive from our capital market transactions, which are included within the gains on sales of mortgage assets, is reconciled below. The decline in the percentage of cash proceeds is due to $93.9 million in trading residuals recorded at October 31, 2005, which we expect to securitize in a NIM transaction during our third quarter.

				(in 000s)
				Restated
Six months ended October 31,	2005			2004
Cash proceeds:
Loans sold by the Trusts	$	248,130		$	401,791
Sale of residual interests		30,497			—
Residual cash flows from beneficial interest in Trusts		102,000			103,700
Loans securitized		81,221			21,620
Derivative instruments		79,552			—
		541,400			527,111
Non-cash:
Retained mortgage servicing rights		136,294			58,894
Additions to balance sheet(1)		102,204			15,270
		238,498			74,164
Portion of gain on sale related to capital market transactions		779,898			601,275
Other items included in gain on sale:
Changes in beneficial interest in Trusts		(111,195	)		(36,348	)
Impairments to fair value of residual interests		(20,613	)		(2,609	)
Net change in fair value of derivative instruments		7,284			(1,930	)
Direct origination and acquisition expenses, net		(235,205	)		(172,339	)
Loan sale repurchase reserves		(36,471	)		(20,541	)
		(396,200	)		(233,767	)
Reported gains on sales of mortgage assets	$	383,698		$	367,508
Percent of gain on sale related to capital market transactions received as cash(2)		69	%		88	%

(1)	Includes residual interests and interest rate caps.
(2)	Cash proceeds divided by portion of gain on sale related to capital market transactions.

     Warehouse funding. To finance our prime originations, we utilize an on-balance sheet warehouse facility with capacity up to $25 million. This annual facility bears interest at one-month LIBOR plus 140 to 200 basis points. As of October 31, 2005 and April 30, 2005, the balance outstanding under this facility was $2.0 million and $4.4 million, respectively.

     To fund our non-prime originations, we utilize eight off-balance sheet warehouse Trusts. The facilities used by the Trusts had a total committed capacity of $13.5 billion as of October 31, 2005.

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Amounts drawn on the facilities by the Trusts totaled $9.5 billion at October 31, 2005. See additional discussion below in “Off-Balance Sheet Financing Arrangements.”

     We believe the sources of liquidity available to the Mortgage Services segment are sufficient for its needs.

     Business Services.Business Services funding requirements are largely related to receivables for completed work and “work in process.” We provide funding sufficient to cover their working capital needs. This segment used $12.3 million in operating cash flows during the first six months of the year. Business Services used $209.9 million in investing activities primarily related to the American Express Tax and Business Services, Inc. acquisition and, to a lesser extent, capital expenditures.

     Investment Services.Investment Services, through HRBFA, is subject to regulatory requirements intended to ensure the general financial soundness and liquidity of broker-dealers.

     At October 31, 2005, HRBFA’s net capital of $116.4 million, which was 19.1% of aggregate debit items, exceeded its minimum required net capital of $12.2 million by $104.2 million.

     In the first six months of fiscal year 2005, Investment Services provided $35.9 million in cash from its operating activities primarily due to working capital changes, including the timing of cash deposits that are restricted for the benefit of customers.

     Liquidity needs relating to client trading and margin-borrowing activities are met primarily through cash balances in client brokerage accounts and working capital. We believe these sources of funds will continue to be the primary sources of liquidity for Investment Services. Stock loans have historically been used as a secondary source of funding and could be used in the future, if warranted.

     Pledged securities at October 31, 2005 totaled $47.0 million, an excess of $9.0 million over the margin requirement. Pledged securities at the end of fiscal year 2005 totaled $44.6 million, an excess of $7.9 million over the margin requirement.

     We believe the funding sources for Investment Services are stable. Liquidity risk within this segment is primarily limited to maintaining sufficient capital levels to obtain securities lending liquidity to support margin borrowing by customers.

OFF-BALANCE SHEET FINANCING ARRANGEMENTS

Substantially all non-prime mortgage loans we originate are sold daily to the Trusts. The Trusts purchase the loans from us utilizing eight warehouse facilities that were arranged by us, bear interest at one-month LIBOR plus 45 to 400 basis points and expire on various dates during the year. During the second quarter, the warehouse facilities were increased from $10.0 billion to $13.5 billion. An additional uncommitted facility of $1.0 billion brings total capacity to $14.5 billion.

     In August 2005, the FASB issued three exposure drafts which amend Statement of Financial Accounting Standards No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities.” See discussion in note 13 to the condensed consolidated financial statements.

     There have been no other material changes in our off-balance sheet financing arrangements from those reported at April 30, 2005 in our Annual Report on Form 10-K/A.

COMMERCIAL PAPER ISSUANCE

We maintain two unsecured CLOCs for working capital, support of our commercial paper program and general corporate purposes. In August 2005, the first CLOC expired and was replaced with a new $1.0 billion CLOC, which expires in August 2010. Also in August 2005, the second CLOC was extended, and now expires in August 2010.

     There have been no other material changes in our commercial paper program from those reported at April 30, 2005 in our Annual Report on Form 10-K/A.

CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS

There have been no material changes in our contractual obligations and commercial commitments from those reported at April 30, 2005 in our Annual Report on Form 10-K/A.

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REGULATORY ENVIRONMENT

There have been no material changes in our regulatory environment from those reported at April 30, 2005 in our Annual Report on Form 10-K/A.

FORWARD-LOOKING INFORMATION

In this report, and from time to time throughout the year, we share our expectations for our future performance. These forward-looking statements are based upon current information, expectations, estimates and projections regarding the Company, the industries and markets in which we operate, and our assumptions and beliefs at that time. These statements speak only as of the date on which they are made, are not guarantees of future performance, and involve certain risks, uncertainties and assumptions, which are difficult to predict. Therefore, actual outcomes and results could materially differ from what is expressed, implied or forecast in these forward-looking statements. Words such as “believe,” “will,” “plan,” “expect,” “intend,” “estimate,” “approximate,” and similar expressions may identify such forward-looking statements.

     There have been no material changes in our risk factors from those reported at April 30, 2005 in our Annual Report on Form 10-K/A.

RECONCILIATION OF NON-GAAP FINANCIAL INFORMATION

We report our financial results in accordance with generally accepted accounting principles (GAAP). However, we believe certain non-GAAP performance measures and ratios used in managing the business may provide additional meaningful comparisons between current year results and prior periods, by excluding certain items that do not represent results from our basic operations. Reconciliations to GAAP financial measures are provided below. These non-GAAP financial measures should be viewed in addition to, not as an alternative for, our reported GAAP results.

Origination Margin

													(dollars in 000s)
	Three months ended									Six months ended
				Restated									Restated
	October 31,			October 31,			July 31,			October 31,			October 31,
	2005			2004			2005			2005			2004
Total expenses	$	239,912		$	175,860		$	225,970		$	465,882		$	338,808
Add: Expenses netted against gain on sale revenues		120,981			79,850			114,224			235,205			172,339
Less:
Cost of services		67,811			52,931			64,392			132,203			102,792
Cost of acquisition		50,591			30,410			52,306			102,897			72,110
Allocated support departments		6,793			6,804			5,831			12,624			12,149
Other		10,300			4,400			6,255			16,555			3,500
	$	225,398		$	161,065		$	211,410		$	436,808		$	320,596
Divided by origination volume	$	12,620,808		$	6,512,983		$	10,887,629		$	23,508,437		$	13,329,500
Total cost of origination		1.79	%		2.47	%		1.94	%		1.86	%		2.41	%

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes in our market risks from those reported at April 30, 2005 in our Annual Report on Form 10-K/A.

ITEM 4. CONTROLS AND PROCEDURES

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

We have established disclosure controls and procedures (Disclosure Controls) to ensure that information required to be disclosed in the Company’s reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the U.S. Securities and Exchange Commission’s rules and forms. Disclosure Controls are also designed to ensure that such information is accumulated and communicated to management, including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure. Our

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Disclosure Controls were designed to provide reasonable assurance that the controls and procedures would meet their objectives. Our management, including the Chief Executive Officer and Chief Financial Officer, does not expect that our Disclosure Controls will prevent all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable assurance of achieving the designed control objectives and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusions of two or more people, or by management override of the control. Because of the inherent limitations in a cost-effective, maturing control system, misstatements due to error or fraud may occur and not be detected.

     As of the end of the period covered by this Form 10-Q, we evaluated the effectiveness of the design and operation of our Disclosure Controls. The controls evaluation was done under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, and included consideration of the material weakness initially disclosed in our Annual Report on Form 10-K/A for the year ended April 30, 2005. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our Disclosure Controls and procedures were not effective as of the end of the period covered by this Quarterly Report on Form 10-Q because of the material weakness described below.

     As disclosed initially in our Annual Report on Form 10-K/A for the year ended April 30, 2005, management identified a material weakness in our accounting for income taxes. Specifically, the Company did not maintain sufficient resources in the corporate tax function to accurately identify, evaluate and report, in a timely manner, non-routine and complex transactions. In addition, the Company had not completed the requisite historical analysis and related reconciliations to ensure tax balances were appropriately stated prior to the completion of the Company’s April 30, 2005 internal control activities.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

In order to remediate the aforementioned material weakness, management completed the requisite historical analysis including creation of the necessary tax basis balance sheets and current and deferred reconciliations required and related internal control testing to ensure propriety of all tax related financial statement account balances as of the Form 10-K/A filing date. The Company believes it established appropriate controls and procedures and created appropriate tax account analysis and support subsequent to April 30, 2005.

     Additionally, in our efforts to remediate the material weakness management has engaged a third-party firm to assist us in performing a comprehensive evaluation of the corporate tax function, including resource requirements. We expect this third-party evaluation to be completed by December 31, 2005. Since August 1, 2005, we have hired an Income Tax Accounting Manager, a Corporate Tax Manager and two additional Tax Analysts. In addition to implementing management’s action plan addressing items from the comprehensive evaluation, we will continue to monitor the improvements in the controls over accounting for income taxes to ensure remediation of the material weakness.

     Other than the changes outlined above, there were no changes that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II — OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

The information below should be read in conjunction with the information included in note 11 to our condensed consolidated financial statements.

RAL LITIGATION

We reported in current reports on Form 8-K, previous quarterly reports on Form 10-Q, and in our annual report on Form 10-K/A for the year ended April 30, 2005, certain events and information regarding lawsuits throughout the country regarding our refund anticipation loan programs (collectively, “RAL Cases”). The RAL Cases have involved a variety of legal theories asserted by plaintiffs. These theories include allegations that, among other things, disclosures in the RAL applications were inadequate, misleading and untimely; the RAL interest rates were usurious and unconscionable; we did not disclose that we would receive part of the finance charges paid by the customer for such loans; breach of state laws on credit service organizations; breach of contract, unjust enrichment, unfair and deceptive acts or practices; violations of the federal Racketeer Influenced and Corrupt Organizations Act; violations of the federal Fair Debt Collection Practices Act; and breach of fiduciary duty to our customers in connection with the RAL program.

     The amounts claimed in the RAL Cases have been very substantial in some instances. We have successfully defended against numerous RAL Cases, although several of the RAL Cases are still pending. Of the RAL Cases that are no longer pending, some were dismissed on our motions for dismissal or summary judgment, and others were dismissed voluntarily by the plaintiffs after denial of class certification. Other cases were settled, with one settlement resulting in a pretax expense of $43.5 million in fiscal year 2003 (the Texas RAL Settlement).

     We believe we have meritorious defenses to the RAL Cases and we intend to defend the remaining RAL Cases vigorously. There can be no assurances, however, as to the outcome of the pending RAL Cases individually or in the aggregate. Likewise, there can be no assurances regarding the impact of the RAL Cases on our financial statements. We have accrued our best estimate of the probable loss related to the RAL Cases. The following is updated information regarding the pending RAL Cases that are class actions or putative class actions in which developments occurred during or after the three months ended October 31, 2005:

     Lynne A. Carnegie, et al. v. Household International, Inc., H&R Block, Inc., et al., (formerly Joel E. Zawikowski, et al. v. Beneficial National Bank, H&R Block, Inc., Block Financial Corporation, et al.) Case No. 98 C 2178, United States District Court for the Northern District of Illinois, Eastern Division, instituted on April 18, 1998. In March 2004, the court either dismissed or decertified all of the plaintiffs’ claims other than part of one count alleging violations of the racketeering and conspiracy provisions of the Racketeer Influenced and Corrupt Organizations Act. On May 9, 2005, the parties agreed to a settlement, subject to court approval. The settlement agreement provided for (i) the defendants to pay $110 million in cash and $250 million face value in freely transferable rebate coupons and (ii) all persons who applied for and obtained a RAL through an H&R Block office or certain lenders from January 1, 1987 through April 29, 2005 (the “Carnegie Settlement Class”) to release all claims against us regarding RALs or certain services provided in connection with RALs. The settlement agreement also specified required business practices, procedures, disclosures and forms for use in making RALs and barred members of the Carnegie Settlement Class from commencing any other claims or actions against us regarding RALs made pursuant to such practices, procedures, disclosures and forms (the “Forward Looking Protections”). In negotiating the settlement, we ascribed significant value to the Forward-Looking Protections and the expanded class of plaintiffs to be covered by the settlement in determining the amount of consideration we were willing to pay in settling the case. On May 26, 2005, the court denied approval of the proposed settlement. This class action case is scheduled to go to trial on March 27, 2006. We intend to continue defending the case vigorously, but there are no assurances as to its outcome.

     Deandra D. Cummins, et al. v. H&R Block, Inc., et al., Case No. 03-C-134 in the Circuit Court of Kanawha County, West Virginia, instituted on January 22, 2003. Summary judgment motions were to be

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heard on September 30, 2005, and the trial was to begin on October 17, 2005 for this class action case. The hearing for summary judgment and the trial have now been postponed. No new dates have been scheduled.

     Joyce Green, et al. v. H&R Block, Inc., Block Financial Corporation, et al., Case No. 97195023, in the Circuit Court for Baltimore City, Maryland, instituted on July 14, 1997. This class action case is scheduled to go to trial on May 8, 2006.

PEACE OF MIND LITIGATION

Lorie J. Marshall, et al. v. H&R Block Tax Services, Inc., et al., Civil Action 2003L000004, in the Circuit Court of Madison County, Illinois, is a class action case filed on January 18, 2002, that was granted class certification on August 27, 2003. Plaintiffs’ claims consist of five counts relating to the Peace of Mind (POM) program under which the applicable tax return preparation subsidiary assumes liability for additional tax assessments attributable to tax return preparation error. The plaintiffs allege that the sale of POM guarantees constitutes (i) statutory fraud by selling insurance without a license, (ii) an unfair trade practice, by omission and by “cramming” (i.e., charging customers for the guarantee even though they did not request it or want it), and (iii) a breach of fiduciary duty. In August 2003, the court certified the plaintiff classes consisting of all persons who from January 1, 1997 to final judgment (i) were charged a separate fee for POM by “H&R Block” or a defendant H&R Block class member; (ii) reside in certain class states and were charged a separate fee for POM by “H&R Block” or a defendant H&R Block class member not licensed to sell insurance; and (iii) had an unsolicited charge for POM posted to their bills by “H&R Block” or a defendant H&R Block class member. Persons who received the POM guarantee through an H&R Block Premium office and persons who reside in Alabama are excluded from the plaintiff class. The court also certified a defendant class consisting of any entity with names that include “H&R Block” or “HRB,” or are otherwise affiliated or associated with H&R Block Tax Services, Inc., and that sold or sells the POM product. The trial court subsequently denied the defendants’ motion to certify class certification issues for interlocutory appeal. Discovery is proceeding. No trial date has been set.

     There is one other putative class action pending against us in Texas that involves the POM guarantee. This case is being tried before the same judge that presided over the Texas RAL Settlement, involves the same plaintiffs’ attorneys that are involved in the Marshall litigation in Illinois, and contains similar allegations. No class has been certified in this case.

     We believe the claims in the POM action are without merit, and we intend to defend them vigorously. The amounts claimed in the POM actions are substantial, however, and there can be no assurances as to the outcome of these pending actions individually or in the aggregate. Likewise, there can be no assurances regarding the impact of these actions on our consolidated financial statements.

OTHER CLAIMS AND LITIGATION

As reported previously, the NASD brought charges against HRBFA regarding the sale by HRBFA of Enron debentures in 2001. A hearing for this matter is scheduled for May 2, 2006. We intend to defend the NASD charges vigorously, although there can be no assurances regarding the outcome and resolution of the matter.

     As part of an industry-wide review, the IRS is investigating tax-planning strategies that certain RSM clients utilized during fiscal years 2000 through 2003. Specifically, the IRS is examining these strategies to determine whether RSM complied with tax shelter registration and listing regulations and whether such strategies were appropriate. If the IRS were to determine that these strategies were inappropriate, clients that utilized the strategies could face penalties and interest for underpayment of taxes. Some of these clients are seeking or may attempt to seek recovery from RSM. While there can be no assurance regarding the outcome of these matters, we do not believe its resolution will have a material adverse effect on our operations or consolidated financial statements.

     We have from time to time been party to claims and lawsuits not discussed herein arising out of our business operations. These claims and lawsuits include actions by individual plaintiffs, as well as cases in which plaintiffs seek to represent a class of similarly situated customers. The amounts claimed in these claims and lawsuits are substantial in some instances, and the ultimate liability with respect to such litigation and claims is difficult to predict. Some of these claims and lawsuits pertain to RALs, the electronic filing of customers’ income tax returns and the POM guarantee program. We believe we have

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meritorious defenses to each of these claims, and we are defending or intend to defend them vigorously, although there is no assurance as to their outcome.

     In addition to the aforementioned types of cases, we are parties to claims and lawsuits that we consider to be ordinary, routine litigation incidental to our business, including claims and lawsuits (“Other Claims”) concerning investment products, the preparation of customers’ income tax returns, the fees charged customers for various products and services, losses incurred by customers with respect to their investment accounts, relationships with franchisees, denials of mortgage loans, contested mortgage foreclosures, other aspects of the mortgage business, intellectual property disputes, employment matters and contract disputes. We believe we have meritorious defenses to each of the Other Claims, and we are defending them vigorously. While we cannot provide assurance that we will ultimately prevail in each instance, we believe the amount, if any, we are required to pay in the discharge of liabilities or settlements in these Other Claims will not have a material adverse effect on our consolidated financial statements.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES

A summary of our purchases of H&R Block common stock during the second quarter of fiscal year 2006 is as follows:

								(shares in 000s)
						Total Number of Shares		Maximum Number
	Total		Average			Purchased as Part of		of Shares that May
	Number of Shares		Price Paid			Publicly Announced		Be Purchased Under
	Purchased(1)		per Share			Plans or Programs(2)		the Plans or Programs(2)
August 1 — August 31		2,388	$	53.62	(3)		2,389		10,494
September 1 — September 30		—	$	—			—		10,494
October 1 — October 31		2	$	23.87			—		10,494

(1)	Of the total number of shares purchased, 1,076 shares were purchased in connection with the funding of employee income tax withholding obligations arising upon the exercise of stock options or the lapse of restrictions on restricted shares.
(2)	On June 9, 2004, our Board of Directors approved the repurchase of 15 million shares, respectively, of H&R Block, Inc. common stock. This authorization has no expiration date.
(3)	On June 8, 2005, our Board of Directors declared a two-for-one stock split of the Company’s Common Stock in the form of a 100% stock distribution, effective August 22, 2005, to shareholders of record as of the close of business on August 1, 2005.

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

Our annual meeting of shareholders was held on September 7, 2005, at which four Class I directors were elected to serve three-year terms and the proposals set forth below were submitted to a vote of shareholders. The number of votes cast for, against or withheld, the number of abstentions, and the number of no votes (if applicable) for the election of directors and each proposal were as follows:

Election of Class I Directors
Nominee	Votes FOR		Votes WITHHELD
Thomas M. Bloch		132,821,668		2,438,561
Mark A. Ernst		132,728,968		2,520,261
David Baker Lewis		133,977,504		1,271,725
Tom D. Seip		114,119,834		21,129,395
Approval of H&R Block Performance Plan, as amended
Votes For		131,338,120
Votes Against		2,648,130
Abstain		1,262,978

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Ratification of the Appointment of KPMG LLP as our Independent Accountants for the fiscal year ended April 30, 2006

Votes For	143,615,698
Votes Against	2,120,943
Abstain	356,947

     At the close of business on July 5, 2005, the record date for the annual meeting of shareholders, there were 167,247,961 shares of our Common Stock outstanding and entitled to vote at the meeting. There were 135,249,230 shares represented at the annual meeting of shareholders.

ITEM 6. EXHIBITS

10.1	Amended and Restated Sale and Servicing Agreement dated August 5, 2005 among Option One Mortgage Corporation, Option One Loan Warehouse Corporation, Option One Owner Trust 2003-4 and Wells Fargo Bank, National Association.
10.2	Amended and Restated Note Purchase Agreement dated August 5, 2005 among Option One Mortgage Corporation, Option One Loan Warehouse Corporation, Option One Owner Trust 2003-4, Falcon Asset Securitization Corporation, Jupiter Securitization Corporation, Preferred Receivables Funding Corporation, financial institutions party thereto and JPMorgan Chase Bank, N.A.
10.3	Amended and Restated Five-Year Credit and Guarantee Agreement dated as of August 10, 2005 among Block Financial Corporation, H&R Block, Inc., the lenders party thereto, Bank of America, N.A., HSBC Bank USA, National Association, Royal Bank of Scotland PLC, JPMorgan Chase Bank, N.A., and J.P. Morgan Securities Inc.
10.4	Five-Year Credit and Guarantee Agreement dated as of August 10, 2005 among Block Financial Corporation, H&R Block, Inc., the lenders party thereto, Bank of America, N.A., HSBC Bank USA, National Association, Royal Bank of Scotland PLC, JPMorgan Chase Bank, N.A. and J.P. Morgan Securities Inc.
10.5	Sale and Servicing Agreement dated as of September 1, 2005 among Option One Mortgage Corporation, Option One Loan Warehouse Corporation, Option One Owner Trust 2005-7 and Wells Fargo Bank, N.A.
10.6	Note Purchase Agreement dated as of September 1, 2005 among Option One Loan Warehouse Corporation, Option One Owner Trust 2005-7, HSBC Securities (USA) Inc., HSBC Bank USA, N.A., Bryant Park Funding LLC and HSBC Securities (USA) Inc.
10.7	Indenture dated as of September 1, 2005 between Option One Owner Trust 2005-7 and Wells Fargo Bank, N.A.
10.8	Omnibus Amendment No. 1 dated as of September 8, 2005 among Option One Mortgage Corporation, Option One Owner Trust 2002-3 and Wells Fargo Bank, N.A.
10.9	Other Income License Agreement (Products and/or Services) dated September 15, 2005 between Wal-Mart Stores, Inc. and H&R Block Services, Inc.
10.10	Employment Agreement dated September 27, 2005 between HRB Management, Inc. and Jeff Nachbor.
10.11	Amendment No. Six to Amended and Restated Note Purchase Agreement dated November 25, 2003 among Option One Loan Warehouse Corporation, Option One Owner Trust 2001-2 and Bank of America, N.A.
10.12	Amendment Number Two to the Second Amended and Restated Sale and Servicing Agreement dated as of March 8, 2005 among Option One Owner Trust 2001-2, Option One Loan Warehouse Corporation, Option One Mortgage Corporation and Wells Fargo Bank N.A.
10.13	Amendment Number Three to the Second Amended and Restated Sale and Servicing Agreement dated as of March 8, 2005 among Option One Owner Trust 2001-2, Option One Loan Warehouse Corporation, Option One Mortgage Corporation and Wells Fargo Bank N.A.
10.14	HSBC Retail Settlement Products Distribution Agreement dated as of September 23, 2005 among HSBC Bank USA, National Association, HSBC Taxpayer Financial Services Inc., Beneficial Franchise Company Inc., Household Tax Masters Acquisition Corporation, H&R Block Services, Inc., H&R Block Tax Services, Inc., H&R Block Enterprises, Inc., H&R Block Eastern Enterprises, Inc., H&R Block Digital Tax Solutions, LLC, H&R Block Associates, L.P., HRB Royalty, Inc. HSBC Finance Corporation and H&R Block, Inc.*

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10.15	HSBC Digital Settlement Products Distribution Agreement dated as of September 23, 2005 among HSBC Bank USA, National Association, HSBC Taxpayer Financial Services Inc., H&R Block Digital Tax Solutions, LLC and H&R Block Services, Inc.*
10.16	HSBC Refund Anticipation Loan Participation Agreement dated as of September 23, 2005 among Household Tax Masters Acquisition Corporation, Block Financial Corporation, HSBC Bank USA, National Association and HSBC Taxpayer Financial Services Inc.*
10.17	HSBC Settlement Products Servicing Agreement dated as of September 23, 2005 among HSBC Bank USA, National Association, HSBC Taxpayer Financial Services Inc., Household Tax Masters Acquisition Corporation and Block Financial Corporation*
10.18	HSBC Program Appendix of Defined Terms and Rules of Construction*
10.19	Sale and Servicing Agreement dated as of October 1, 2005 among Option One Mortgage Corporation, Option One Loan Warehouse Corporation, Option One Owner Trust 2005-8 and Wells Fargo Bank, N.A.
10.20	Note Purchase Agreement dated as of October 1, 2005 among Option One Loan Warehouse Corporation, Option One Owner Trust 2005-8 and Merrill Lynch Bank USA.
10.21	Indenture dated as of October 1, 2005 between Option One Owner Trust 2005-8 and Wells Fargo Bank, N.A.
10.22	Fourth Amended and Restated Loan Purchase and Contribution Agreement dated as of September 1, 2005 between Option One Loan Warehouse Corporation and Option One Mortgage Corporation.
10.23	Second Amendment to Second Amended and Restated Refund Anticipation Loan Operations Agreement dated as of August 31, 2005 among H&R Block Services, Inc., H&R Block Tax Services, Inc., HRB Royalty, Inc., HSBC Taxpayer Financial Services, Inc., HSBC Bank USA, National Association and Beneficial Franchise Company.*
31.1	Certification by Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Certification by Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1	Certification by Chief Executive Officer furnished pursuant to 18 U.S.C. 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002.
32.2	Certification by Chief Financial Officer furnished pursuant to 18 U.S.C. 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002.

* Confidential information has been omitted from this exhibit and filed separately with the Commission pursuant to a confidential treatment request under Rule 24b-2.

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SIGNATURES

Pursuant to the requirements 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.

H&R BLOCK, INC.

Mark A. Ernst

Chairman of the Board, President

and Chief Executive Officer

December 12, 2005

William L. Trubeck

Executive Vice President and

Chief Financial Officer

December 12, 2005

Jeffrey E. Nachbor

Senior Vice President and

Corporate Controller

December 12, 2005

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