Onesav. Fix Sub Regulatory News (1SBA)

RIS Announcement

Date: 28 March 2012

On behalf of: OneSavings Bank Plc ("the Bank")



OneSavings Bank Plc

Final results for the 11 months period ended 31 December 2011

OneSavings Bank Plc, the mutual Bank, announces its results for the 11 months period to 31 December 2011. The summary of the results for the period is:

Transfer of all the assets and liabilities of Kent Reliance Building Society to OneSavings Bank Plc, in conjunction with an injection of £50m capital from OSB Holdco Limited, on 1 February 2011

Total assets £2,356m (prior period £1,967m) *

Management expense ratio of 0.72% (prior period 0.71%) *

Post tax loss of £11.1m (prior period post tax loss £38.5m) *

Loss driven by the back book of savings and mortgages acquired from Kent Reliance Building Society that does not generate sufficient net interest income in the current low interest environment

Strategy in place to originate and acquire profitable mortgage assets to improve net interest position: mortgage asset purchases made in November 2011 and January 2012

Further capital injection of £15m by OSB Holdco Limited on 31 August 2011

Bank's equity as at 31 December 2011 was £89.5m (prior period £35.1m) *

Post period end

Appointment of Andy Golding as permanent Chief Executive from 3 January

Appointment of Stephan Wilcke as Chairman from 28 February

* where comparatives appear these relate to the Kent Reliance Building Society prior reporting period ended 31 January 2011 (16 months)

Commenting on the results and outlook, Andy Golding, new CEO of OneSavings Bank Plc, said:

"While the Bank is currently loss-making, the position is much improved over 2010. A lot has been achieved during the year to manage the Group's risk and provide a solid platform for growth. Many financial services organisations are having to simply wait out the economic storm or dramatically constrain new business, whereas OneSavings Bank plc has the capital backing to grow significantly.

"There is a real opportunity to create a connected banking business with mutual roots, all aimed at providing value for money for our members and customers through the Kent Reliance brand plus existing and potential new group companies."

Stephan Wilcke, the recently appointed Chairman of OneSavings, added:

"As indicated at the time of our interim results in August 2011 these losses are in line with expectations. However, the underlying performance of the Bank is significantly improved and a number of the steps taken during the year are only now starting to make an impact. Andy Golding's appointment as permanent CEO has helped to focus our work and identify many opportunities for the future growth and success of OneSavings Bank."

ENDS

Enquiries:

About OneSavings Bank plc

Kent Reliance, krbs.com, Reliance Property Loans, Jersey Home Loans and Guernsey Home Loans are all trading names of OneSavings Bank plc. The Bank originates from mutual roots and has operated for over 150 years. Today it operates as a hybrid modern mutual bank, with core values in terms of treating its customers fairly and offering long term sustainable value for money, but with the capital advantages of a bank.

OneSavings Bank plc is registered at Reliance House, Sun Pier, Chatham, Kent (registered number 7312896) and is authorised and regulated by the Financial Services Authority (registered number 530504).

OneSavings Bank plc is a member of the Financial Services Compensation Scheme.

OneSavings Bank plc was formed as Sevco 5067 Limited on 13 July 2010; it changed its name to OneSavings Limited on 3 August 2010 and was converted to OneSavings plc on 8 October 2010 and became OneSavings Bank plc on 1 February 2011 and, following confirmation by the members of Kent Reliance Building Society (KRBS) and the Financial Services Authority (FSA), began trading as a bank on this date when the trade and assets of KRBS were transferred into the business.

Chief Executive summary

I joined OneSavings Bank plc ("The Bank") on 3 January 2012 as permanent Chief Executive, to replace J Wood who had been carrying out the role on an interim basis.

In my report I will comment on the current economic environment and its impact on the Bank's results in 2011 and I will also describe the opportunities for future growth and the strategic journey back to long-term profitability that the Board is committed to delivering.

The Bank's results are driven principally by the back book of savings and mortgages of Kent Reliance which, in a low Bank of England Base Rate environment, do not generate positive net interest income. The Board has consciously continued to offer value for money savings products rather than seek to claw back income through savings rate reductions. This is the key driver of the losses seen in 2011; however, the position is much improved over 2010.

A lot has been done during 2011 to manage the Bank's risks, including significant de-risking of the volatility to further negative interest and market rate movements on the balance sheet and the creation of a strategy to acquire profitable mortgage assets which will over time improve the net interest position, as well as a further capital injection from JC Flowers of £15 million. Additionally, the cost base has been managed to benchmark well against comparable peers, with a management expenses ratio of 0.72%.

The Directors' report focuses in more detail on the individual components of the accounts.

Whilst currently loss making, there is a real opportunity to create a connected banking business with mutual roots, all aimed at providing value for money for our members and customers through the Kent Reliance brand plus existing and potential new Group companies.

While many financial services organisations have to simply wait out the economic storm or dramatically constrain new business, OneSavings Bank plc has the capital backing from its shareholders to grow significantly. In November 2011 and January 2012 two significant mortgage asset purchases were made and there are plans to do more during 2012 and beyond. The Board will also seek to acquire profitable businesses, where commonality of culture aligns with the addition of returns on capital to the Bank at an appropriately mitigated level of risk.

We will work hard on the provision of customer services through the Kent Reliance brand. We have already re-branded our outlets back to Kent Reliance away from krbs, as well as making improvements to a number of premises and we are seeking planning permission (which at the time of writing is pending) to open a new branch in Canterbury town centre. We will strengthen our IT systems during 2012 with a view to delivering much improved online capability for both new and existing customers.

The brand of Kent Reliance is strong and well regarded and it is my intention to build on this in actions as well as words. I have already instructed our product teams to move away from "new customer only" offers and introductory bonuses where product rates fall after an initial period and instead focus on long-term value for money products. I am keen to introduce member loyalty products, periodically offering existing savers and borrowers something better than that which is available externally.

We will also increase our mortgage lending through Kent Reliance. As a regional mutual I believe part of our role is to do our bit to support the housing market. We have received excellent feedback so far on our affordable housing products and mortgages aimed at helping self employed borrowers as well as various other niche markets. We will seek to build and grow this commitment throughout 2012.

We will continue to benefit from access to efficient and cost effective core processing through our Indian subsidiaries, however this will not be at the expense of continuously improving our customer service and satisfaction.

Finally, I am currently working on strengthening my senior management team and looking to move away from interims to permanent senior staff who are all committed to a simple three part strategic journey:

Growth - through profitable acquisition and organic mortgage lending.

Strength - through a strong risk management culture and framework.

Proposition - the development of our service, product and channel offerings to new and existing customers and members.

A Golding

Chief Executive

Directors' report

The Directors present their report and the financial statements for the period ended 31 December 2011.

This is the first reporting period for OneSavings Bank plc ("The Bank"). The Bank was formed as Sevco 5067 Limited on 13 July 2010 domiciled and incorporated in United Kingdom. Sevco 5067 Limited changed its name to OneSavings Limited on 3 August 2011, was converted to OneSavings plc on 8 October 2010, and became OneSavings Bank plc on 1 February 2011.

Principal activities

The Bank's principal purpose is to provide mortgage finance to its borrowers and to provide long-term good value savings products to our investors.

The Bank has a number of subsidiaries including Jersey Home Loans Limited and Guernsey Home Loans Limited in the Channel Islands (which provide mortgages in Jersey and Guernsey respectively), and Easioption BPO Services Pvt Limited and Easiprocess Pvt Limited in India (which provide back office processing services to the Bank). Together with the Bank, and the Bank's other subsidiaries, these form the OneSavings Bank Group ("The Group").

Business review and future developments

The Bank was established to take on the assets and liabilities of Kent Reliance Building Society ('KRBS'), and is jointly owned by Kent Reliance Provident Society ('KRPS') and OneSavings Bank Holdco Limited ('OSB Holdco'), a wholly-owned subsidiary of funds advised by J.C Flowers & Co LLC ('JCF').

KRPS is a new industrial and provident society that was established to take on the membership of KRBS upon the transfer of the assets and liabilities to the Bank. An industrial and provident society is a form of mutual organisation that exists to benefits its members.

On 1 February 2011 all the assets and liabilities, including Members' Investment Accounts and Mortgage Accounts, of KRBS were transferred to OneSavings Bank plc. Following this transfer, and receipt of permission from the Financial Services Authority ('FSA') to use the sensitive business name "Bank", OneSavings plc changed its name to OneSavings Bank plc with effect from 1 February 2011.

In return for the £50m of new capital injected, 17,426 B ordinary shares and 32,574 convertible preference shares in the Bank were received by OSB Holdco. KRPS received 26,000 A ordinary shares in return for the trade and net assets its members transferred from KRBS.

OSB Holdco injected a further £15m of capital on 31 August 2011 and received 2,541 B ordinary shares and 282,240 convertible preference shares in the Bank.

As at 31 December 2011, OSB Holdco holds 43.47% of the ordinary share capital of the Bank and KRPS holds 26,000 A ordinary shares representing 56.53% of the ordinary share capital of the Bank.

The effect of the above is that OSB Holdco is a co-owner of the Bank and KRPS has a majority of the ordinary shares and, therefore, voting control of the Bank.

This report covers the period from inception on 13 July 2010 until 31 December 2011, although OneSavings Bank plc only started trading as a bank from 1 February 2011 at the point the trade and assets of KRBS were transferred into the business.

During the period, the Group operated at a loss as a result of sustained pressure on net interest income affected by the low prevailing interest rate environment, intense competition for retail funds and significant costs incurred to up-skill the business and enhance the existing control framework.

Some of the items such as negative interest margin, increased expenditure, impairment provisions impacting on the OneSavings Bank plc statutory loss in the period do not necessarily reflect the long-term underlying performance of the Group and the financial position should improve over time as a result of new lending at more attractive margins, further profitable mortgage book acquisitions and the redemption and reversion of negative and low margin back book mortgage accounts.

Financial Results

The Group loss before taxation for the period to 31 December 2011 was £13.2m. The loss after taxation for the period was £11.1m. The Group's equity as at 31 December 2011 was £89.4m.

Key Performance Indicators

The Key Performance Indicators (KPIs) used by management in determining the Group's performance are shown in the following table:

Net interest income

Net interest was an overall expense of £1.4m for the period to 31 December 2011. The net interest margin was adversely affected by the low prevailing interest rate environment; with the Bank of England base rate remaining throughout the period at its lowest ever level of 0.5% and LIBOR also remaining low. The Group inherited a position from the transfer of business of KRBS, where a significant proportion of its long-term fixed rate mortgages had been hedged to LIBOR and thus is earning low rates of interest on these assets.

Furthermore, competition for retail funds has been intense, meaning retail deposit rates are currently at record levels compared to Bank of England base rate and this imposes a significant strain on the Bank's net interest margin.

Management expense ratio

The Group's annualised management expense ratio, excluding depreciation, was 0.72%. Significant costs were incurred in the period to improve skill sets in the business, enhance its control framework and investigate potential acquisition opportunities.

Total assets

Total assets were £2,356m at 31 December 2011. These assets are predominantly those which were purchased from KRBS, as well as organic mortgage growth during 2011. The 2011 period-end numbers also include a mortgage book acquisition which took place on 1 November 2011 (gross value of mortgage assets acquired £195m).

Loans and advances

The mortgage book at the period end amounted to £1,640m. The acquisition of the new mortgage book on 1 November 2011 increased the carrying value of the mortgage book by £139m.

Retail deposits

Retail deposits at the period end amounted to £2,082m. This compares favourably to the £1,705m acquired upon acquisition from KRBS, reflecting the focus of the business in driving asset growth through competitive retail funding.

Liquidity

The liquidity ratio at 31 December 2011 was 28.35%. The Group operates under the FSA's Individual Liquidity Adequacy Assessment (ILAA) regime and liquidity has been maintained in excess of the FSA minimum requirement.

Capital

The Group's capital adequacy and capital resources were managed and monitored in accordance with the regulatory capital requirements of the FSA, the UK regulator. Refer to Note 31 on Capital Management for details.

Financial risk management objectives and policies

Over the period to 31 December 2011 the Group offered mortgage and savings accounts together with wholesale money market investment and borrowing. There are formal structures in place to monitor, report upon, and manage the risks associated with these activities. The financial instruments used by the Group to manage the structure of the balance sheet and to mitigate risks are disclosed in Note 28 to the financial statements.

Creditor payment policy

The Group's policy concerning the payment of its trade creditors is to pay within the agreed terms of credit, usually 30 days from invoice, once the supplier has discharged its contractual obligations. These terms of payment were settled with suppliers when agreeing the terms of each transaction.

Charitable donations

Charitable donations made during the period amounted to £5,000. The Group has made donations to various Kent Charities. No political donations were made during the period. In addition to this the Bank paid £32k directly to a charity: Multiple Sclerosis Resource Centre Limited, on behalf of S Wilcke.

Directors

The full list of Directors serving on the Board during the period to 31 December 2011 was as follows:

M McCaig (Chairman, appointed 2 August 2010)

Dr D Morgan (appointed 1 February 2011)

D Mills (Senior Independent Director, appointed 23 February 2011)

A Newell (Chairman of the Audit Committee appointed 20 August 2010)

Sir C McCarthy (appointed 1 February 2011)

P Williams (appointed 7 October 2010)

T Hanford (appointed 1 February 2011)

S Wilcke (Independent Director, appointed 1 February 2011)

J Wood (Interim Chief Executive, appointed 21 June 2011, resigned 10 January 2012)

M Lazenby (Chief Executive, appointed 2 August 2010, resigned 28 February 2011)

R Scruton (Finance Director, appointed 2 August 2010, resigned 30 June 2011)

N Thompsell (appointed 13 July 2010, resigned 11 August 2010)

R Finch (appointed 13 July 2010, resigned 11 August 2010)

A Golding (appointed 30 December 2011)

As at 31 December 2011, no Director held, or had held during the period, any beneficial interest in the shares of any connected undertaking of the Group. On 3 January 2012 A Golding was appointed as Chief Executive. On 28 February 2012 S Wilcke replaced M McCaig as Chairman of the Board of Directors.

UK Corporate Governance Code

The Board remains committed to the achievement of high standards of corporate governance which it considers to be central to the effective management of the Group and to maintaining the confidence of investors. Considerable progress has been made during the reporting period to continue to develop appropriate and adequate corporate governance arrangements.

Indemnity provision

During the period covered by these accounts there were no new or outstanding third party qualifying indemnity provisions in force.

Going concern

In preparing the financial statements the Directors must satisfy themselves that it is reasonable for them to consider whether it is appropriate to adopt the going concern basis.

The Directors have a reasonable expectation that the Group has adequate resources to continue in operational existence for the foreseeable future. Projections for OneSavings Bank plc have been prepared, covering its future performance, capital and liquidity, for a period in

excess of 12 months from the date of approval of these accounts. In all scenarios the projections show that

OneSavings Bank plc is dependent, until after the time at which the return to profitability is foreseen, upon the continued support of the shareholders. The Directors have a reasonable expectation that such support will be forthcoming. Therefore, the going concern basis of accounting has been used to prepare the financial statements.

Auditors

KPMG Audit Plc was appointed as Auditors to the Group in its first period of trading.

On behalf of the Board

S Wilcke

Chairman

27 March 2012

Risk management report

Introduction

The Board is responsible for ensuring that an effective framework is in place to identify and manage risks that the Group faces in the course of delivering its strategic objectives. The Group has a formal structure for managing risk, including established risk limits, reporting lines, mandates, credit risk appetite and other control procedures. The Group's risk committee structure, which was reviewed and strengthened during the period, has been designed to support an integrated approach to the identification and management of risk with two management level risk committees - the asset and liability committee ("ALCO") and the credit committee - reporting to the Board risk committee, whose responsibility it is to take a Group-wide view of the overall exposure to risk. While recognising that the system is designed to manage rather than eliminate risk of failure to achieve business objectives, it can only provide reasonable assurance and not absolute assurance against material mis-statement or loss.

Following the course of its normal business activities, the principal risks to which the Group was exposed are operational, credit, liquidity and market risk. Each of these risks, along with their current management frameworks, is considered below.

Operational risk

Operational risk, which is inherent in all business activities, is the risk of direct or indirect loss resulting from inadequate or failed internal process, people and systems or from external events. It can occur in any of the Group's businesses and includes errors, omissions, natural disasters and deliberate acts such as fraud. The Group manages this risk within an overall governance and control strategy. Within this structure, potential risk exposures are assessed to determine the appropriate type of controls to be applied. It is recognised that such risks can never be entirely eliminated and that the cost of controls in minimising these risks may outweigh the potential benefits. However, where required, the Group continues to invest in risk management and mitigation such as business continuity management and incident management. Independent assessment of the effectiveness of the management of operational risk is undertaken by the Board, Chief Executive Officer, Executive management and the internal audit team.

Credit risk

Credit risk is the risk that unexpected losses may arise as a result of the Group's borrowers or market counterparties failing to meet their obligations to repay. The Group's exposure to retail credit risk was managed by the credit risk committee which reported to the Board risk committee and to the Board.

Credit risk is managed within the Group's underwriting process, which seeks to ensure that borrowers only take on a debt they can afford to repay, safeguarding both themselves and the Group. Where borrowers find themselves in financial difficulty, the Group has established procedures to manage the situation to a satisfactory conclusion. Usually this involves working with the borrower to clear arrears or making other arrangements commensurate with the borrower's circumstances. In rare cases where the situation deteriorates significantly and irreparably the Group would take possession of the underlying security. In situations where the Group determines that it is appropriate in order to meet customer needs, it applies a policy of forbearance and may grant a concession. The Group considers forbearance on a case by case basis in line with industry best practice. This may arise where the Group considers that the financial stress of the customer is both short term and potentially recoverable. Such a concession , which will only be implemented after obtaining the

customer's consent, may involve capitalisation of arrears, a reduced monthly payment, conversion to an interest only repayment basis or a mortgage term extension. By dealing with arrears at an early stage and continuous monitoring, it is anticipated that a lower level of long term arrears will be achieved that also results in a favourable outcome for both the customer and the business. The impact of any such forbearance is recognised within the Group's provisioning policy.

Credit risk within the treasury function arises from the risk that counterparties will be unable to repay loans and other financial instruments that the treasury function holds as part of its liquidity portfolio. This risk is managed by restrictions on the type of assets held, and assessment of the credit worthiness of counterparties and by the maintenance of exposure

limits with each counterparty and sector. The Group has no direct and limited indirect exposure to PIIGS countries, limited exposure to emerging markets and non-investment grade debt, including investments with other building societies and local authorities.

The Group's exposure to wholesale credit risk is managed by the ALCO, which reports to the Board risk committee and to the Board.

Further analysis of the Group's exposure to credit risk is provided in note 28 to the accounts.

Liquidity risk

Liquidity risk is the risk of having insufficient liquid assets to fulfil obligations as they become due, or the cost of raising liquid funds becomes too expensive.

The Group's liquidity policy is to maintain sufficient liquid resources to cover cash flow imbalances and fluctuations in funding in order to retain full public confidence in the solvency of the Group and to enable the Group to meet its financial obligations. This is achieved through maintaining a prudent level of liquid assets, through wholesale funding facilities and through control of the growth of the business.

The liquidity policy is developed, implemented and monitored by the ALCO, which also sets limits over the level and maturity profile of wholesale funding and monitored the composition of the Group balance sheet. A series of liquidity stress tests are performed each month to confirm that the limits remained appropriate. The day-to-day management is delegated to the treasury function as detailed in the Financial Risk Management Policy.

Further analysis of the Group's exposure to liquidity risk is provided in note 28 to the accounts.

Market risk

Market risk is the risk of potential adverse change in Group income or the value of Group's net worth arising from movement in interest rates, exchange rates or other market prices. Market risk exists, to some extent, in all of the Group's businesses. The Group recognises that the effective management of market risk is essential to the maintenance of stable earnings and preservation of customer value.

The primary market risk faced by the Group is interest rate risk. Interest rate risk is the risk that the fair value or future cash flows of a financial instrument will fluctuate because of changes in market interest rates. It is most prevalent in mortgage lending where fixed rate mortgages are not funded by fixed rate deposits of the same duration, or where the fixed rate risk is not hedged by a fully matching interest rate derivative.

The Group is exposed to movements in interest rates reflecting the mismatch between the dates on which interest receivable on assets and interest payable on liabilities are next reset to market rates or, if earlier, the dates on which the instruments mature. The Group manages this exposure on a continuous basis through the use of derivatives within limits set by the ALCO.

The secondary market risk faced by the Group is basis risk. Basis risk arises when the Group finances an asset with a liability which re-prices from a different interest rate index. The Group manages this exposure on an ongoing basis within limits set by ALCO.

Further analysis of the Group's exposure to interest rate risk is provided in note 28 to the accounts.

Regulatory risk

Regulatory risk is the risk arising from regulatory changes and enforcement with the potential for fines and/or restrictions in business activities. Over recent years, the financial services industry has seen increased regulatory scrutiny and supervision around governance, capital,

liquidity and remuneration. There has also been focus on conduct and treating customers fairly. The Group regularly engages with the FSA to proactively manage this risk.

Taxation risk

Taxation risk is the risk associated with changes in taxation law or in the interpretation of taxation law. It also includes the risk of changes in taxation rates and the risk of failure to comply with procedures required by taxation authorities. Failure to manage taxation risks could lead to an additional taxation charge.

Internal Control

The internal control processes and effectiveness are reviewed by the Board, Executive management and the Bank's internal audit team from Ernst & Young LLP.

Capital management under Basel II

The Basel Committee on Banking Supervision introduced the Basel II framework for calculating minimum capital requirements. The EU Capital Requirements Directive ("the CRD") is the means by which Basel II was implemented in the EU. In the UK this was overseen by our regulator, the FSA. Basel II encourages a risk-based approach to determining capital adequacy. By adopting more sophisticated analytical approaches, financial institutions may be able to carry less regulatory capital for credit and operational risk.

The Group adopts the provisions relating to the calculation of minimum capital requirements and has calculated its capital requirement on a standardised basis.

The CRD requires the Group to conduct an assessment of its capital and financial resources, known as its Internal Capital Adequacy Assessment Process (ICAAP). An analysis of the components of the Group's capital is provided in note 31 to the accounts.

Corporate governance report

Introduction

On 1 February 2011, the trade, assets and liabilities of KRBS were transferred to the Bank.

The Board is committed to ensuring that best practice in corporate governance is applied throughout the Bank in a proportionate manner. As such, while the Bank is not bound by the UK Code on Corporate Governance issued by the Financial Reporting Council in May 2010 ("The Code"), the Board aims to comply with the provisions of the Code.

The Board of Directors

During 2011, the Board was chaired by M McCaig and constituted three non executive directors appointed by OSB Holdco (B Directors), three non executive directors (including the Chairman) appointed by KRPS (A Directors), two independent non-executive directors and two Executive Directors, being the Chief Executive Officer and the Finance Director (until the resignation of R Scruton). A representative from each of the A and B Shareholder also attend board meetings as observers to ensure that the views of both shareholders can be taken into account during Board discussions and also to ensure that the shareholders are kept informed on a timely basis. The structure of the Board and the presence of the observers ensure that the Board as a whole has a deep understanding of the views of its shareholders.

The Board meets formally monthly (with the exception of December in 2011), with adhoc meetings called as and when circumstances require.

The Board is responsible for setting the strategy for the Bank along with establishing the Bank's risk appetite and balance sheet strategy. The Board is also responsible for ensuring that there are appropriate financial and business systems and controls in place to safeguard the interests of the Bank's stakeholders. The Board is also responsible for ensuring the Bank's continuing commitment to carrying out it's business fairly, honestly and openly, with a commitment to zero tolerance towards bribery.

At least once each year the Board undertakes a full strategic review of the business, usually over the course of two days.

There is a formal schedule of Matters Reserved for the Board which has formally delegated authority to a number of Committees, which are constituted under Board approved terms of reference. Day to day management of the business has been delegated to the Chief Executive Officer through the Executive Committee.

The Board has oversight of how management implement the strategy and retains control through challenge at the Board and committee meetings. All Board members receive accurate, timely and clear information to enable them to make an effective contribution to Board discussions. The scope and nature of such information is reviewed on an ongoing basis to ensure that it remains relevant and concise.

Directors have access to the advice and services of the Company Secretary, whose appointment is a matter for the Board and who is responsible for ensuring Board procedures are followed and for advising the Board, through the Chairman, on matters relating to governance.

Board and Board Committee attendance record

A table showing attendance at scheduled meetings is shown on the next page. Against each director's name is shown the number of meetings he or she attended in the period to 31 December 2011. The number of meetings each director was eligible to attend is shown in brackets. The number in brackets is the maximum number of scheduled meetings that the Director was eligible to attend.

Board balance and independence

The Board consists of one executive director and eight non-executive directors, two of which were considered by the Board to be independent in accordance with the criteria of the Code during the period, D Mills and S Wilcke. The size and composition of the Board is kept under review to ensure an appropriate balance of skills and experience is represented on the Board. Non-executive directors play a vital role in challenging and helping develop strategy, while providing independent judgement, experience and knowledge.

The Board appointed D Mills to fulfil the role of Senior Independent Director.

Chairman and Chief Executive

The roles of Chairman and Chief Executive are held by different persons and their respective purposes are clear and distinct. The role of each is set out in their Letter of Appointment and Contract respectively and further detailed in the Board Manual. The Chairman is responsible for leading the Board and ensuring it acts effectively and communication with shareholders; the Chief Executive has overall responsibility for managing the Group and for implementing the strategies and policies agreed by the Board. The Chairman is elected by the Board and the Board is satisfied that during the period the Chairman was able to commit sufficient time to the Bank and there were no changes to any other significant commitments of the Chairman.

Appointments to the Board

Appointments to and resignations from the Board are detailed on page 8 of the Directors' report.

The Board has a Nominations Committee to lead the process for Board appointments and succession planning. At least annually the Committee reviews the structure, size and composition of the Board to ensure that it contains the required balance of skills, knowledge and experience relevant to the business. The Nominations Committee is also responsible for assessing potential executive candidates identified by the CEO.

When searching for suitable Board candidates, the Nominations Committee will have regard to the existing skills matrix of the Board and look for candidates whose skills complement and enhance those already in place. The Nominations Committee will also have regard to the benefits of having a diverse board, both in terms of ethnicity and gender. All Directors must meet the FSA's fitness and proprietary standards and be registered with the FSA as an approved person to carry out the Controlled Function of a Director.

Candidates for Board positions are identified in a number of ways, including the use of external search consultants and where appropriate, open advertising.

Re-election

Directors are required to submit themselves for re-election at the first Annual General Meeting after their appointment and at least once in every three years thereafter. Succession planning for both executive and non-executive members is reviewed and updated annually.

Performance evaluation

The Board undertakes a formal annual evaluation of its own performance and that of its Committees and individual Directors. Individual Non Executive Directors are assessed on a one to one basis by the Chairman. The Chairman evaluates the Chief Executive's performance and the Senior Independent Director evaluates the Chairman's performance. The Board will undertake an external Board evaluation at least every three years.

Board committees

The Board has established a number of committees with their own terms of reference, which are reviewed at least annually. During the period the governance framework of the Group was strengthened by a review of the arrangements for dealing with the assessment, monitoring and management of risk including the establishment of a Board risk committee supported by management level redefined asset and liability and credit committees. A summary of the principal Board committees is set out below.

The audit committee chaired by A Newell met quarterly to consider all Group audit matters, the system of internal control, financial reporting and whistle blowing.

The risk committee chaired by S Wilcke met regularly as required to monitor the Group's overall exposure to risk. It oversaw the identification and management of risks across the Group and the monitoring of operational, credit, liquidity, and market risks.

The remuneration committee chaired by T Hanford considered the terms and conditions, and fees of executive and non-executive directors and executive staff salaries.

The nominations committee chaired by D Mills was responsible for keeping under review the size, structure and composition of the Board; nominating candidates to fill Board and executive vacancies, taking into account the balance of skills, knowledge and experience on the Board; and for making appropriate recommendations to the Board.

The merger and acquisition committee reviews all acquisition opportunities, provides appropriate recommendations to the Board and has delegated authority to oversee the due diligence and contractual documentation process of transactions approved by the Board and Shareholders.

System of internal controls

The Board is responsible for determining the Bank's strategy for managing risk and overseeing its systems of internal control, and is committed to embed internal control and risk management into the operation of the Bank. The Board has delegated oversight of internal control to the Audit Committee. The Chief Executive Officer and the executive management are responsible for designing, operating and monitoring risk management and internal controls.

The Board formally approves the Bank's risk appetite and management policy framework. The systems are designed to manage the risk within the Bank's risk appetite, rather than eliminate the risk that that Bank does not meet its business objectives. The key risks facing the Bank, and the systems it has in place to manage that risk are set out in the Risk Management Report on page 10.

The Bank has a Chief Risk Officer who heads up the Bank's Risk Function. The Chief Risk Officer provides monthly reports to the Board on key risks within the business and the effectiveness of controls in place to mitigate such risk.

Ernst & Young provide an internal audit function to the Group. The internal audit function is responsible for independently reviewing and reporting on the adequacy and effectiveness of internal controls put in place by management. The internal audit function agrees an internal audit plan annually with the Audit Committee. The internal audit reports assist management to evaluate and improve the effectiveness of risk management, regulatory compliance, control and governance processes and assist the Audit Committee to oversee the effectiveness of internal controls.

The Board is satisfied that during the period the Group maintained an adequate and appropriate system of internal control.

Audit committee and auditors

The role of the audit committee includes a review of the Group's accounting policies at least annually, a review of the financial statements including any significant financial reporting judgements on which they are based and monitoring the systems of internal control.

The Group has a policy on the use of the external auditors for non-audit work, which has been approved by the audit committee. The purpose of this policy, which requires the formal prior approval of the audit committee for any ancillary services, is to ensure the continued independence and objectivity of the external auditors. The audit committee reviews annually the relationship with external and internal auditors and approves their terms of engagement and remuneration.

Financial reporting

The responsibilities of the directors in preparing the Group's accounts are set out on page 19.

Directors' remuneration report

Introduction

The purpose of this report is to outline the Board's policy for the remuneration of the Group's executive team and its non-executive Directors and explains the process for setting Directors' remuneration and how it applies the principles of the Combined Code. The Combined Code was developed by the Committee on Corporate Governance for listed companies: details can be downloaded from the Financial Reporting Council website which is www.frc.org.uk.

Remuneration of Group's executive management team

The remuneration committee is chaired by T Hanford and the remuneration of each executive director is set out in note 7 to the report and accounts.

Executive management remuneration comprises a number of elements: basic salary, annual and medium term incentive scheme and contributions to the Group pension scheme:

Basic salary is determined by levels of responsibility, external market competitiveness and individual performance in the role. The Group's policy is to position salaries so that on average, they are in line with salary packages for comparable positions in similarly performing financial institutions, taking account of the fact that no benefits in kind - such as company cars and private medical insurance - are enjoyed by the Group's employees;

Annual and medium term bonuses are paid at the discretion of the Board and incentives, when determined appropriate according to success in the delivery of corporate and individual objectives;

All of the executive management team, excluding J Wood (interim CEO), are members of a contributory defined contribution pension scheme;

Standard contractual terms for executive level appointments include notice periods of between 6 and 12 months.

Specific remuneration and terms and conditions of employment of members of the executive management team are determined annually by the Board on the basis of recommendations by the remuneration committee. The committee ensures that the Group's policy remains appropriate to attract, motivate and retain high calibre executives with the skills and experience needed to lead a business of this nature and complexity, and develop it for the long-term benefit of members.

The remuneration committee comprises three non-executive Directors, as set out in the Directors' report, with attendance by the Chief Executive as appropriate. The Chief Executive withdraws from the meeting when his own remuneration is considered. The committee is provided with executive remuneration and benefits data from comparative organisations across the financial services industry and banking sector and procures such other relevant data from independent expert sources as appropriate.

Non-executive Directors' fees

Fees for each non-executive director are set out in note 7 to the report and accounts. Non-Executive Directors are remunerated solely by fees. They do not receive any salary, bonus incentives, pension contribution or other taxable benefit.

The Group's policy is to position fees so that they are in line with fees paid by similarly performing financial services organisations. Enhanced fees are paid to the chairmen of the

Board and Board committees commensurate with the additional responsibilities inherent in these roles.

Fees are determined annually by the Board on the basis of recommendations by the remuneration committee. The committee is provided with fee data from comparative organisations across the financial services industry and banking sector and procures such other relevant data from independent expert sources as appropriate.

Summary

This report, together with the disclosures in note 7 to the report and accounts, is provided to give members a full explanation of the policy and application of Directors' remuneration.

Statement of Directors' responsibilities

The following statement, which should be read in conjunction with the independent auditor's responsibilities set out in their audit report, is made by the Directors to explain their responsibilities in relation to the preparation of the accounts, annual business statement and Directors' report.

The Directors are responsible for preparing the Annual Report and the Group and the Bank financial statements in accordance with applicable law and regulations.

Company law requires the Directors to prepare Group and parent company financial statements for each financial year. Under that law they are required to prepare the Group financial statements in accordance with IFRSs as adopted by the EU and applicable law and have elected to prepare the parent company financial statements on the same basis.

Under company law the Directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Group and parent company and of their profit or loss for that period. In preparing each of the Group and the Bank financial statements, the Directors are required to:

select suitable accounting policies and then apply them consistently;

make judgements and estimates that are reasonable and prudent;

state whether they have been prepared in accordance with IFRSs as adopted by the EU; and

prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Group and the parent company will continue in business.

The Directors are responsible for keeping adequate accounting records that are sufficient to show and explain the parent company's transactions and disclose with reasonable accuracy at any time the financial position of the Bank and enable them to ensure that its financial statements comply with the Companies Act 2006. They have general responsibility for taking such steps as are reasonably open to them to safeguard the assets of the Group and to prevent and detect fraud and other irregularities.

Under applicable law and regulations, the Directors are also responsible for preparing a Directors' Report, Directors' Remuneration Report and Corporate Governance Statement that complies with that law and those regulations.

The Directors are responsible for the maintenance and integrity of the corporate and financial information included on the company's website. Legislation in the UK governing the

preparation and dissemination of financial statements may differ from legislation in other jurisdictions.

Responsibility statement of the Directors in respect of the annual financial report

We confirm that to the best of our knowledge:

the financial statements, prepared in accordance with the applicable set of accounting standards, give a true and fair view of the assets, liabilities, financial position and profit or loss of the company and the undertakings included in the consolidation taken as a whole; and

The Directors'report includes a fair review of the development and performance of the business and the position of the issuer and the undertakings included in the consolidation taken as a whole, together with a description of the principal risks and uncertainties that they face.

Disclosure of information to Auditors

The Directors who held office at the date of approval of this Directors' report confirm that:

so far as they are aware, there is no relevant audit information of which the Company's Auditors are unaware, and

each director has taken all the steps that they ought to have taken as a director to make themselves aware of any relevant audit information and to establish that the Company's Auditors are aware of that information.

This confirmation is given and should be interpreted in accordance with the provisions of Section 418 of the Companies Act 2006.

S Wilcke

Chairman

OneSavings Bank plc

Independent Auditor's report

We have audited the financial statements of OneSavings Bank plc for the period ended 31 December 2011 set out on pages 23 to 52. The financial reporting framework that has been applied in their preparation is applicable law and International Financial Reporting Standards (IFRSs) as adopted by the EU and, as regards the parent company financial statements, as applied in accordance with the provisions of the Companies Act 2006.

This report is made solely to the company's members, as a body, in accordance with Chapter 3 of Part 16 of the Companies Act 2006. Our audit work has been undertaken so that we might state to the company's members those matters we are required to state to them in an auditor's report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company's members, as a body, for our audit work, for this report, or for the opinions we have formed.

Respective responsibilities of Directors and auditor

As explained more fully in the Statement of Directors' responsibilities set out on page 19 and 20, the Directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit, and express an opinion on, the financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards require us to comply with the Auditing Practices Board's (APB's) Ethical Standards for Auditors.

Scope of the audit of the financial statements

A description of the scope of an audit of financial statements is provided on the APB's website at www.frc.org.uk/apb/scope/private.cfm.

Opinion on financial statements

In our opinion:

the financial statements give a true and fair view of the state of the Group's and of the parent company's affairs as at 31 December 2011 and of the Group's -loss for the period then ended;

the Group financial statements have been properly prepared in accordance with IFRSs as adopted by the EU; and

the parent company financial statements have been properly prepared in accordance with IFRSs as adopted by the EU and as applied in accordance with the provisions of the Companies Act 2006; and

the financial statements have been prepared in accordance with the requirements of the Companies Act 2006 and, as regards the Group financial statements, Article 4 of the IAS Regulation.

Opinion on other matters prescribed by the Companies Act 2006

In our opinion:

the information given in the Directors' Report for the financial period for which the financial statements are prepared is consistent with the financial statements; and

information given in the Corporate Governance Statement set out on pages 13 to 16 with respect to internal control and risk management systems in relation to financial reporting processes and about share capital structures is consistent with the financial statements.

Matters on which we are required to report by exception

We have nothing to report in respect of the following:

Under the Companies Act 2006 we are required to report to you if, in our opinion:

adequate accounting records have not been kept by the parent company, or returns adequate for our audit have not been received from branches not visited by us; or

certain disclosures of Directors' remuneration specified by law are not made; or

we have not received all the information and explanations we require for our audit or:

a Corporate Governance Statement has not been prepared by the company.

Richard Gabbertas (Senior Statutory Auditor) for and on behalf of KPMG Audit Plc,

Statutory Auditor

Chartered Accountants

1 The Embankment

Neville Street,

Leeds

LS1 4DW

27 March 2012

Income statements

For the period ended 31 December 2011

Statements of comprehensive income

For the period ended 31 December 2011

Consolidated statements of financial position

For the period ended 31 December 2011

Statement of Changes in Equity

For the period ended 31 December 2011

Statements of cashflows

For the period ended 31 December 2011

1. Accounting Policies

The principal accounting policies applied in the preparation of the accounts for the Group and the Bank are set out below.

 Basis of preparation

The financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as adopted by the European Union (EU); and interpretations issued by the International Financial Reporting Interpretations Committee (IFRIC).

The financial statements have been prepared on an historical cost basis, as modified by the revaluation of available for sale financial assets, derivative contracts and financial assets held at fair value through the income statement.

On 1 February 2011, the business of KRBS was transferred in to the Bank. Further information about this is provided in Note 33.

As permitted by section 408 of the Company Act 2006, no income statement is presented for the Bank. No comparatives are provided as this is the first reporting period for the Group.

b) Going Concern

The Board undertakes regular rigorous assessments of whether the Bank is a going concern in the light of current economic conditions and all available information about future risks and uncertainties.

Projections for OneSavings Bank plc have been prepared, covering its future performance, capital and liquidity, for a period in excess of 12 months from the date of approval of these accounts. In all scenarios the projections show that OneSavings Bank plc is dependent, until after the time at which the return to profitability is foreseen upon the continued support of the shareholders. The Directors have a reasonable expectation that such support will be forthcoming.

The Board has therefore concluded that the Bank has sufficient resources to continue in operational existence for the foreseeable future, and as a result it is appropriate to prepare these financial statements on a going concern basis.

c) Basis of consolidation

The Group accounts include the results of the Bank and its subsidiary undertakings. Subsidiaries are fully consolidated from the date on which control is transferred to the Group and are de-consolidated from the date that control ceases. Upon consolidation inter-company transactions, balances and unrealised gains on transactions are eliminated.

In the Bank accounts investments in subsidiary undertakings are stated at cost less provision for any impairment. All subsidiaries are wholly owned. Inter-company transactions, balances and unrealised gains on transactions between Group companies are eliminated in the Group accounts. Unrealised losses are also eliminated unless the transaction provides evidence of impairment of the asset transferred. Accounting policies of subsidiaries have been changed where necessary to ensure consistency with the policies adopted by the Group

d) Foreign currency translation

The consolidated financial statements are presented in sterling which is the functional currency of the Group. Foreign currency transactions are translated into sterling using the exchange rates prevailing at the date of the transactions. Monetary items denominated in foreign currencies are re-translated at the rate prevailing at the period end. Foreign exchange gains and losses resulting from the re-translation and settlement of these items are recognised in the income statement.

e) Segmental reporting

IFRS 8 requires operating segments to be identified on the basis of internal reports and components of the Group regularly reviewed by the chief operating decision maker to allocate resources to segments and to assess their performance. For this purpose, the chief operating decision maker of the Group is the Board of Directors.

The Group operates solely within the retail financial service sector and within the UK and Channel Islands. The chief operating decision maker assesses the performance of the Group as a whole and as such no detailed segmental analysis is required.

f) Taxation including deferred taxation

The charge for taxation is based on the result for the period and takes into account current and deferred taxation. Where items are recognised directly in equity the associated taxation charge or credit is also recognised in equity.

Current taxation is the expected taxation payable on the taxable income and gains in the period.

Deferred taxation is provided in full, using the balance sheet liability method, on temporary differences arising between the taxation bases of assets and liabilities and their carrying amounts in the financial statements. Deferred taxation is determined using the taxation rates and laws that have been enacted or substantively enacted by the balance sheet date and are expected to apply when the related deferred taxation asset is realised or the deferred taxation liability is settled.

Deferred taxation assets are recognised gross on the balance sheet and only recognised to the extent that recovery is probable.

Deferred taxation relating to the fair value re-measurement of available for sale investments, which are charged or credited directly to the available for sale reserve, is also credited or charged directly to the available for sale reserve and is subsequently recognised in the income statement together with the deferred gain or loss.

g) Interest income and expense

Interest income and interest expense for all interest bearing financial instruments measured at amortised cost are recognised in the income statement using the effective interest rate (EIR) method. The effective interest rate is the rate which discounts the expected future cash flows, over the expected life of the financial instrument, to the net carrying value of the financial asset or liability.

In calculating the EIR the Group estimates the cash flows considering all contractual terms but does not consider future credit losses. Potential early repayment charges, origination fees received and paid on mortgage assets, together with premium/discount paid on the acquisition of mortgage books are included within loans and advances to customers and are amortised over the expected life of the mortgage assets using the EIR method.

Interest income on available for sale investments is included in interest receivable and similar income and interest on derivatives is included in interest receivable and similar income or interest expense and similar charges following the underlying instrument it is hedging.

h) Fees and commissions

Fees and commissions which are an integral part of the effective interest rate of a financial instrument are recognised as an adjustment to the effective interest rate and recorded in interest income. Other fees and commissions are recognised on the accruals basis as services are provided or on the performance of a significant act.

i) Cash and cash equivalents

For the purposes of the cash flow statement, cash and cash equivalents comprise balances with less than three months to maturity from the date of acquisition including cash, non-restricted balances with central banks and certificates of deposit.

j) Intangible assets

Purchased software and costs directly associated with the development of computer software are capitalised as intangible assets where the software is a unique and identifiable asset controlled by the Group and will generate future economic benefits.

Costs to establish technological feasibility or to maintain existing levels of performance are recognised as an expense.

Amortisation is charged to the income statement by equal instalments over the estimated useful life of the software, which is

generally five years. These assets are reviewed for impairment on an annual basis.

k) Property, plant and equipment

The directly attributable costs of additions and major alterations to office premises, equipment, fixtures and motor vehicles are capitalised. These assets are reviewed for impairment annually and if they are considered to be impaired are written down immediately to their recoverable amounts.

Gains and losses on disposals are determined by comparing the net disposal proceeds with the carrying amount of the asset and are included in the income statement.

The balance sheet value represents the original cost less cumulative depreciation. The costs less estimated residual values of assets are depreciated by equal instalments over their estimated useful economic lives as follows:

Freehold land and buildings 50 years

Equipment, fixtures and 5 years

vehicles

The cost of repairs and renewals is charged to the income statement in the period in which the expenditure is incurred.

l) Financial assets and liabilities

Purchases and sales of financial assets and liabilities are accounted for at trade date. The Group classifies its financial assets and liabilities in accordance with IAS 39 into the following categories:

(i) Loans and receivables: which are predominantly mortgage loans and advances to customers and money market advances that are not quoted in an active market. They are initially recorded at fair value plus any directly attributable transaction costs and are subsequently measured at amortised cost using the effective interest rate method, less impairment losses. Where exposures are hedged by derivatives designated and qualifying as fair value hedges, the carrying value of the loans and advances so hedged includes a fair value adjustment for the hedged risk only.

(ii) Financial assets at fair value through the income statement: are assets:

which upon initial recognition are designated at fair value through the income statement to eliminate or significantly reduce a measurement recognition inconsistency or;

which are acquired principally for the purpose of selling in then ear term or forms part of the portfolio of financial instruments that are managed together and for which there is evidence of short-term profit taking.

The fair values are quoted market prices (where there is an active market) or are based on valuation techniques (where there is no active market or the securities are unlisted). Valuation techniques include the use of recent arm's length transactions, discounted cash flow analysis and other commonly used valuation techniques. During the period, no financial assets were designated at fair value through the income statement.

(iii) Available for sale financial assets: comprise securities held for liquidity purposes (certificates of deposit, treasury bills and money market instruments in the nature of loans and advances to credit institutions). These assets are non-derivatives that are designated as available for sale and not categorised in any other financial asset categories. These are held at fair value with movements being taken to equity, except for impairment losses which are taken to the income statement. Profit or loss is recognised in the income statement on disposal. Available for sale financial assets are derecognised when the rights to receive the cash flows have expired or the Group has transferred substantially all the risks and rewards of the ownership.

(iv) Held to maturity investments: are non-derivative financial assets with fixed or determinable payments and fixed maturity where the Group intends to hold to maturity (Floating Rate Notes). Assets are held at amortised cost using the effective interest rate method less any impairment.

(v) Financial liabilities: are held at amortised cost. The Group classes the 7.875% perpetual subordinated bond as a financial liability as it was issued with terms that include no discretion over the payment of interest. Interest is recognised on an EIR basis.

m) Derivative financial instruments and hedge accounting

The Group uses derivative financial instruments (interest rate swaps and floors) for the purpose of reducing fair value interest rate risk to hedge its exposure to the interest rate risk arising from financing and investment activities. In accordance with its treasury policy, the Group does not hold or issue derivative financial instruments for trading.

Derivative financial instruments are recognised in the balance sheet at their fair value with changes in their fair value going through the income statement. Fair values are calculated by discounting cash flows at prevailing interest rates.

All derivatives are carried as assets when their fair value is positive and as liabilities when their fair value is negative.

Certain derivatives embedded in financial instruments are treated as separate derivatives when their economic characteristics and risks are not clearly and closely related to those of the host contract and the host contract is not carried at fair value. These embedded derivatives are separately measured at fair value with changes in fair value recognised in the income statement.

The Group designates certain derivatives as a hedge of fair value of a portfolio of recognised asset or liability (macro fair value hedge). Hedge accounting is used for derivatives designated in this way provided the criteria specified in IAS 39 are met.

Where there is an effective hedge relationship for fair value hedges, the changes in fair value of the hedged item arising from the hedged risk are taken to the income statement. The fair value changes of both hedged item and the derivative substantially offset each other to reduce profit volatility. To qualify for hedge accounting at inception, the hedge relationship must be clearly documented and the derivative must be expected to be highly effective in offsetting the hedged risk.

In addition, effectiveness must be tested throughout the life of the hedge relationship.

The Group discontinues hedge accounting when testing demonstrates that a derivative is not or has ceased to be highly effective as a hedge, the derivative ceases through expiry or sale etc or the underlying item matures, is sold or is repaid.

If a derivative no longer meets the criteria for hedge accounting the cumulative fair value hedging adjustment is amortised over a period up to the maturity of the previously designated hedge relationship. If the underlying item is sold or repaid the unamortised fair value adjustment is immediately reflected in the income statement.

n) Impairment of financial assets

The Group assesses at each balance sheet date whether there is evidence that a financial asset or a portfolio of financial assets that is not carried at fair value through profit or loss is impaired. A financial asset or portfolio of financial assets is impaired and impairment losses are incurred if, and only if, there is objective evidence of impairment as a result of one or more loss events that occurred after the initial recognition of the asset and prior to the balance sheet date ('a loss event'), and that loss event or events has had an impact on the estimated future cash flows of the financial asset or the portfolio that can be reliably estimated.

The Group first assesses whether objective evidence of impairment exists individually for financial assets that are individually significant, and individually or collectively for financial assets that are not individually significant. If the Group determines that no objective evidence of impairment exists for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment. Assets that are individually assessed for impairment and for which an impairment loss is or continues to be recognised are not included in a collective assessment of impairment. An individual provision is also made where an account is not in arrears but the Group has exercised forbearance in the conduct of the account. Any provision is based on a management assessment of the propensity for the account to realise a loss had forbearance not been shown taking accounts of the amount recoverable on mortgage indemnity cover and additional security

For loans and receivables and held to maturity investments, the amount of impairment loss is measured as the difference between the asset's carrying amount and the present value of the estimated future cash flows discounted at the asset's original effective interest rate.

The calculation of the present value of the estimated future cash flows of a collateralised financial asset reflects the cash flows that may result from foreclosure and any costs for obtaining and selling the collateral, whether or not foreclosure is probable.

For the purposes of a collective evaluation of impairment, financial assets are grouped on the basis of similar risk characteristics, taking into account asset type, industry, geographical location, collateral type, past-due status and other relevant factors. These characteristics are relevant to the estimation of future cash flows for groups of such assets by being indicative of the counterparty's ability to pay all amounts due according to the contractual terms of the assets being evaluated.

Future cash flows in a group of financial assets that are collectively evaluated for impairment are estimated on the basis of the contractual cash flows of the assets in the group and historical loss experience for assets with credit risk characteristics similar to those in the group. Historical loss experience is adjusted on the basis of current observable data to reflect the effects of current conditions that did not affect the period on which the historical loss experience is based and to remove the effects of conditions in the historical period that do not currently exist. In addition, the Group uses its experienced judgement to estimate the amount of an impairment loss. This incorporates amounts calculated to overcome model deficiencies and systemic risks where appropriate and supported by historic loss experience data. The use of such judgements and reasonable estimates is considered by management to be an essential part of the process and does not impact reliability.

Following impairment, interest income is recognised using the original effective rate of interest which was used to discount the future cash flows for the purpose of measuring the impairment loss.

When a loan is uncollectible, it is written off against the related provision. Such loans are written off after all the necessary procedures have been completed and the amount of the loss has been determined. Subsequent recoveries of amounts previously written off decrease the provision for loan impairment in the balance sheet.

The Bank's objective in restructuring a loan will primarily be to maximise the potential recovery of its outstanding debt. A loan restructuring is the modification or elimination of a loan prior to or at its maturity date by means other than those prescribed under the contractual terms of the loan agreement. This may involve extending the payment arrangements and the agreement of new loan conditions. When the terms of the loan have been renegotiated, the loan is no longer considered past due. The Bank continually reviews renegotiated loans to ensure that all criteria are met and future payments are likely to occur. The loans continue to be subject to an individual or collective impairment assessment, calculated using the loan's original effective interest rate.

o) Provisions and contingent liabilities

A provision is recognised when there is a present obligation as a result of a past event, it is probable that the obligation will be settled and the amount can be estimated reliably. Contingent liabilities have not been recognised.

p) Employee benefits - Defined contribution scheme

Obligations for contributions to defined contribution pension arrangements are recognised as an expense in the income statement as incurred.

q) Judgements in applying accounting policies and critical accounting estimates

The Group makes judgements which affect the amounts recognised in the financial statements. In addition, estimates and assumptions are made which could affect the reported amounts of assets and liabilities within the next financial year. Estimates and judgements are regularly reviewed based on past experience, expectations of future events and other factors. The key areas where estimates and judgements are made are as follows:

(i) Impairment of financial assets: Provisions are calculated using twelve month delinquency roll rates and one year probability of defaults on different segments of the mortgage book. These rates, along with forced sale discounts are applied to calculate the expected losses. Judgement needs to be exercised in deciding how to apply historic experience to current market conditions. The most critical estimate is of the level of house prices where a variance of 10% equates to a change of £2.4m in provision.

(ii) Fair values: The fair values used in the financial statements, including those for derivative financial instruments and available for sale assets, are, where market values are not available, calculated using valuation techniques utilising discounted cash flow models using yield curves based on observable market data.

(iii) Effective interest rate: To calculate the appropriate EIR the Group makes a number of assumptions relating to the expected lives of financial instruments, likely redemption profiles and the anticipated level of early repayment charges. These estimates are reviewed in each reporting period to ensure they reflect current performance.

If the level of early repayment charges is increased by 1%, the carrying value of mortgages would decrease by £0.1m with corresponding charge to the income statement.

(iv) Deferred taxation: Deferred taxation assets are recognised only to the extent that it is probable that future taxable profits will be available to utilise the asset. The recognition of deferred taxation is mainly dependent on the projection of future taxable profits and future reversals of existing taxable temporary differences.

Taxation losses were incurred in the Bank during the period. Management has evaluated the factors contributing to the losses to determine whether the factors leading to the losses are temporary or indicative of a permanent decline in earnings.

Management's projections of future taxable income are based on the Bank's business plan, which includes the income benefit of organic lending growth and the acquisition of further asset books, as well as ongoing taxation planning strategies. These projections also take account of anticipated credit losses, based on the Bank's economic outlook, and changes in regulatory capital requirements. The assumptions regarding asset acquisitions and anticipated credit losses are the most subjective areas of judgement in management's projection of future taxable income. Management's forecast supports the recoverability of the deferred taxation asset, through the generation of sufficient taxable income over a reasonable period.

Notes to the accounts

For the period ended 31 December 2011

2. Interest receivable and similar income

Included within interest receivable is £2,737k in respect of interest accrued on impaired financial assets.

3. Interest payable and similar charges

4. Fair value gains and losses on financial instruments

5. Gain on sales of financial instruments

The Bank routinely buys and sells liquidity assets in order to confirm the ease with which cash can be realised, and the robustness of the valuations assigned to such assets. During the reporting period, the prevailing direction of longer-term interest rates was downwards, leading to significant increases in the carrying value of fixed rate liquidity assets. This led to the realisation of a net gain of £9.0m on the sale of financial instruments.

6. Administrative expenses

7. Directors' emoluments and transactions

The figures above include £692k compensation for loss of office during the period.

Stephan Wilcke's remuneration includes £32k paid directly to a charity: Multiple Sclerosis Resource Centre Ltd.

The Directors' Remuneration Report explains the Board's policy on Directors' Remuneration and describes the process through which remuneration is determined.

At 31 December 2011 there were no outstanding loans granted in the ordinary course of business to Directors and their connected persons.

8. Tax (credit) / expense

9. Loans and advances to credit institutions

10. Investment securities

The directors of the Bank consider that the primary purpose of holding investment securities is prudential. These securities are held as liquid assets with the intention of use on a continuing basis in the Bank's activities and hence are classified as financial assets, held as available for sale or held to maturity as appropriate.